A report has raised concerns that stakeholders in the US mortgage market, including lenders, investors and insurers, are sadly unprepared for the acceleration of climate change and the risks it entails.

Not only are lenders and others unprepared to mitigate their risk, but according to The report from the Mortgage Bankers Association’s Research Institute for Housing America, they can’t even properly assess the risk they face.

“They are anxious to know what to do but don’t know where to go to find it out,” said Sean Becketti, author of the report and former economist at Freddie Mac. “They are not prepared but are no longer aware.”

The world of housing finance involves many players, not just the originators and managers of mortgage loans. Consumers, homeowners, home builders, appraisers, insurance companies, mortgage investors, government agencies, and government sponsored businesses Fannie Mae and Freddie Mac all play a vital role.

The report says climate change will put significant strain on a long and complex financial network.

The most important pressure will be the increased risk of default and prepayment, leading to unfavorable selection of the type of loans sold to GSEs. It will also lead to more volatile house prices and significant climate migration, according to the report.

Lenders who securitize their loans with GSEs will face additional fees for representation and collateral insurance that covers breach of contracts or guarantees in large financial transactions. They will also face a higher risk due to the revision by GSEs of their requirements in response to climate change.

For example, GSEs may insist that lenders do additional due diligence to determine if flood insurance is required for a home loan. The delay in updating official flood maps will likely force lenders to use additional sources of information. For this reason, GSEs may not be allowed to purchase loans on homes considered to be at high risk of flooding.

Meanwhile, the ongoing overhaul of the national flood insurance program will lead to price changes for homeowners, affecting both home values ​​and the value of mortgages on those homes.

Becketti said the biggest issue right now for mortgage marketers is the level of uncertainty. “They wonder what to do next more than anything else,” he said. “There have been no rule changes that affect businesses in the mortgage market, but they are being considered. “

One of the reasons for the uncertainty is that the mortgage market relies on outdated models to assess its risk. The majority of these models focus on credit and operational risk, the report points out, which are underwritten and priced by insurance companies or the Federal Emergency Management Agency.

The problem with FEMA and some insurers is that they are already very stressed because of the record number of natural disasters in recent years. If, as expected, FEMA changed its risk models, lenders would find themselves exposed to more losses, according to the report.

Of course, borrowers displaced by natural disasters are also very likely to default on their home loans.

In 2017, after Hurricane Harvey hit Houston, mortgage industry executives warned of a possible climate lockdown crisis. Almost 100,000 homes were flooded, but 80% of these properties did not have flood insurance because the area was not considered flood prone. CoreLogic data shows severe mortgage defaults on damaged homes increased 200% that year.

Banks, lenders, investors, and mortgage services all use the estimated cost of defaults as a key factor in assessing profitability, loan loss reserves, and economic capital.

“If additional defaults due to climate change prove to be significant to one or more of these stakeholders, regulators and investors are likely to ask these stakeholders to quantify the impact of these additional defaults and assess the sensitivity from those estimates to key assumptions, “Becketti wrote.

There is also a danger that investors in mortgage bonds will also withdraw from the mortgage market, leaving it with less liquidity. Many have already started asking lenders for more information on climate risk.

For example, the Securities and Exchange Commission published a letter to state-owned companies last week asking them to provide more information to investors about their climate risk. He is particularly interested in the physical and financial risks that can arise from climate disasters, as well as the risks associated with changes in climate-related regulations and business models. The letter does not name the specific companies it was addressed to, but the banking industry is likely to be one of the recipients.