Incurable...

When a loan goes delinquent there are a number of possible outcomes. The good ones (from the bank's perspective this means anything other than foreclosure) are called "cures". The simplest cure is the borrower simply makes up the lost payments (e.g. after a temporary unemployment), but the other common cure is to sell the house (effective only if the price received is more than the balance of the loan). More elaborate "cures" include modifying loan terms, typically by adding missed payments to the principal balance and reamortizing the payments. If a loan doesn't cure it will eventually go into foreclosure. This means that the overall foreclosure rate is a function of the delinquency rate times one minus the cure rate. We are all well aware by now that delinquency rates have reached record territory, but what of cure rates? Well the news there is perhaps even worse than with delinquency rates. From the WSJ:

Fitch found that the cure rate for prime loans dropped to 6.6% as of July from an average of 45% for the years 2000 through 2006. For so-called Alt-A loans -- a category between prime and subprime that typically involves borrowers who don't fully document their income or assets -- the cure rate has fallen to 4.3% from 30.2%. In the subprime category, the rate has declined to 5.3% from 19.4%.

"The cure rates have really collapsed," said Roelof Slump, a managing director at Fitch.

For prime loans we've gone from almost 1 in 2 of delinquent loans curing themselves to about 1 in 16. Think about that from the banks perspective for a second--if you notice a borrowers going delinquent you now just have a tiny chance the loan won't need to be foreclosed on. Should you even keep trying to modify loans? Or should you kick it into high gear and foreclose aggressively? The government is arguing for keeping trying the modification route, but the numbers seem to indicate this is fundamentally fruitless. What's going to happen then? More foreclosures:

Because borrowers are less willing or able to catch up on payments, foreclosures are likely to remain a big problem. Barclays Capital projects the number of foreclosed homes for sale will peak at 1.15 million in mid-2010, up from an estimated 688,000 as of July 1.