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Working Papers

The Hazard Rates of First and Second Default

Working paper #301
Brent W. Ambrose and Charles A. Capone

• Borrowers who cure a first default have high, but declining hazards of second default during the ensuing two years. After that, their rates of default are similar to first default rates for other borrowers, but the volatility of the repeater group rates is much higher.
• Since Fannie Mae and Freddie Mac require that servicers repurchase loans from MBS pools after 120 days delinquency, the distinction between first and second default is immaterial for MBS investors. However, cured defaults remain in the agencies retained portfolios, so, for these investors, repeat-default risk is significant.
• Since the mortgage industry is moving toward lender repayment plans, cured default loans will remain in security pools, changing MBS prepayment speeds as well as the ability of current models to capture them.
• The issue of second default hazard is serious for Ginnie Mae investors. FHA and VA loans have higher default rates than do conventional loans, but Ginnie Mae does not require repurchase of 90-day delinquencies from their pools. Defaulted loans are repurchased only at foreclosure. Hence, understanding those factors influencing the probability of second default can have a significant impact on predictions of Ginnie Mae prepayment speeds.

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