Bloomberg came out with an interesting article last week discussing the impact of COVID on credit scores. The title of the article “Credit Scores May Lose Some Power After COVID” is a solid Sparknotes of the story. The article itself is behind a paywall, so allow me to paraphrase a majority of it for you.
As stated in the article, “The Federal Reserve Bank of New York warned that credit scores — the all-powerful number that can determine if a consumer is able to qualify for a loan, rent a home or even buy car insurance — might have gotten less reliable during the coronavirus pandemic. Scores for homeowners who took advantage of payment relief on their mortgages actually rose an average of 14 points over the course of the pandemic, according to a new analysis by the New York Fed. That was a bigger jump than the seven-point increase seen among borrowers that didn’t take forbearance on their loans.”
Wait a minute – credit scores rose during the pandemic? There were 40 million people unemployed at one point, how is that possible?
“This is because, although they were not making payments, their credit reports are treated as if they’re making continued payments for credit-scoring purposes and account histories,” researchers for the New York Fed said Wednesday in a blog post. “The concept of the credit score, a device to distinguish good borrowers from bad borrowers, may lose some of its power in signaling creditworthiness to lenders, at least for some time.”
Credit scores have long been a pillar in determining who gets what loan at what rate. So what happens when the score is no longer reliable? Banks, insurers, and other financial institutions need to find additional data sources to make up for the sudden lack of reliable information.
“One thing to keep in mind is, credit scores may be less informative,” Joelle Scally, a financial and economic analyst for the Federal Reserve Bank of New York, said in a press briefing. “They’re a really important tool for lenders to identify creditworthy borrowers, but with the protection of the forbearance programs some of that may be muddled.”
The muddling comes from rules enacted during the shelter in place order to allow borrowers to delay payments for 18 months.
According to the article, “The New York Fed found that roughly 13% of mortgage borrowers were in forbearance for at least one month during the past year and more than a third of those homeowners were still seeking relief as of March. And it’s not just credit scores that are losing some of their power: The New York Fed said about 8% of borrowers were already behind on their mortgages when they entered forbearance. After taking relief, the vast majority were reported as current on their loans.
Bottom line – credit-bureau measures of mortgage delinquency cannot be fully trusted anymore. There is stress in the market that no longer shows up in credit-bureau data. And it doesn’t end there – COVID has made a mess of much of the current rating system. Between stimulus checks, hiked unemployment benefits, extensions for tax filings, forgiveness of certain debts, etc. it’s more difficult than ever to assess customer risk and underwrite accurately.
So where does this leave you if the pillars of the modern credit system are no longer trustworthy? Many companies have found solace in Behavioral Intelligence.
Solutions like ForMotiv’s allow companies to access a new, proprietary behavioral dataset collected at the point of application and analyzed in real-time to determine an applicant’s intent. Predicting delinquency, risk, and even fraud are very common use cases for behavioral intelligence and companies are quickly adopting this technology to reduce the impacts of outdated credit data.
Let us know if you’d like to explore some of the solutions we have in place to mitigate the underwriting damage done by COVID.