Following the wildfires that devastated the Los Angeles area at the start of the year, a new study has emerged that suggests banks with physical locations are less likely to extend mortgages to impacted residents, while online lenders are continuing to be active.
First reported by the The Washington Post, the study — published on the Social Science Research Network (SSRN) — suggests that traditional mortgage lenders “assign significantly greater risk to loans for homes in high-risk neighborhoods than do fintech lenders.”
The study has only been released online at this stage and has yet to be peer reviewed.
“As fintech lending grows, so does the potential that lenders will not account for climate risks in their underwriting decisions, which may lead to further clouding of consumer decisionmaking,” the study’s abstract explained.
The study also found that online fintech lenders typically offer better terms for prospective borrowers in high-risk areas than those offered by traditional brick-and-mortar institutions.
And the findings suggest that while lenders are growing increasingly concerned about the effects of climate change on their bottom lines, additional caution could make it more difficult for prospective homebuyers to obtain necessary financing.
Jesse Keenan, director of the Center on Climate Change and Urbanism at Tulane University’s School of Architecture, served as a co-author of the study. Keenan told the Post that the risk management activities of traditional institutions are allowing more fintech firms to take over market share in the impacted areas.
The co-authors — Keenan and Tyler Haupert, an assistant professor of urban studies at New York University (NYU) Shanghai — analyzed data on wildfire risk from the Federal Emergency Management Agency (FEMA). They gauged “how traditional and online mortgage lenders were approaching census tracts in California that had been assigned very high fire-risk scores and compared them with parts of the state that are considered less vulnerable,” according to the Post.
Home loan applications in 2018 and 2020 from the nation’s 650 largest lenders were analyzed to quantify “how wildfire risk was affecting approval rates and interest rate pricing.”
Despite the lack of peer review at this stage, the Post enlisted perspective from Asaf Bernstein, a finance professor at the University of Colorado at Boulder. He told the outlet that the findings appeared “consistent with previous research on flood risk and sea-level rise.”
Haupert added that the findings suggest a disconnect between the approaches of traditional and fintech lenders.
“The fintech lenders seem to treat the areas better and better as they get more risky and the traditional lenders treat the areas worse and worse — they’re more cautious to lend there,” he told the Post.
Fannie Mae and Freddie Mac were contacted for comment but declined the Post’s inquiries, while Rocket Mortgage and Better.com did not respond to similar inquiries, the outlet noted.
Edward Seiler, an economist with the Mortgage Bankers Association (MBA), told the Post that increases in both home insurance premiums and risks posed by disasters like wildfires can be burdensome for borrowers. But he also thinks that the regulatory environment in California may be preventing some from fully acknowledging the reality.
This “may lead to non-optimal decisions by buyers when evaluating to purchase residences in high-risk areas,” Seiler told the Post in an email.
Avoiding the risk can have major consequences, Haupert added. If fintech lenders are more willing to lend in higher-risk areas and a disaster leads to an increase in defaults and foreclosures, the government-sponsored enterprises could suffer losses, he said.
While the disconnect in caution is not immediately clear, the authors suggested that fintech lenders tend to more quickly securitize and sell loans to transfer risk compared to traditional lenders.
A report published last week by First Street addressed part of this dynamic. It found that the rising cost of homeowners insurance coupled with the rising regularity of weather-related natural disasters is serving to erode the longstanding barrier between mortgage lenders and loan losses.
The First Street report was focused more on flood risk than wildfires, but it also found that indirect economic pressures can pose serious risks.
Home prices in the areas impacted by Hurricane Sandy in 2012 show they had dropped 14% during the five years preceding the disaster, eroding equity and options once the hurricane made landfall and devastated the Mid-Atlantic region.
Indirect economic pressure could lead to as much as $1.2 billion in credit losses this year, with these losses estimated to rise to $5.4 billion by 2035, the First Street report found.
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