cancellation requirements change, the length of time that our policies remain ----------------------------------------------------------------------------- in force could decline and result in declines in our revenue. -------------------------------------------------------------
In each year, most of our premiums are from insurance that has been written in prior years. As a result, the length of time insurance remains in force (which is also generally referred to as persistency) is an important determinant of revenues. The factors affecting the length of time our insurance remains in force include:
-- the level of current mortgage interest rates compared to the mortgage coupon rates on the insurance in force, which affects the vulnerability of the insurance in force to refinancings, and -- mortgage insurance cancellation policies of mortgage investors along with the rate of home price appreciation experienced by the homes underlying the mortgages in the insurance in force.
During the 1990s, our year-end persistency ranged from a high of 87.4% at December 31, 1990 to a low of 68.1% at December 31, 1998. At September 30, 2007 persistency was at 74.0%, compared to the record low of 44.9% at September 30, 2003. Over the past several years, refinancing has become easier to accomplish and less costly for many consumers. Hence, even in an interest rate environment favorable to persistency improvement, we do not expect persistency will approach its December 31, 1990 level.
If the volume of low down payment home mortgage originations declines, the
--------------------------------------------------------------------------
amount of insurance that we write could decline which would reduce our ---------------------------------------------------------------------- revenues. ---------
The factors that affect the volume of low-down-payment mortgage originations include:
-- the level of home mortgage interest rates, -- the health of the domestic economy as well as conditions in regional and local economies, -- housing affordability, -- population trends, including the rate of household formation, -- the rate of home price appreciation, which in times of heavy refinancing can affect whether refinance loans have LTV ratios that require private mortgage insurance, and -- government housing policy encouraging loans to first-time homebuyers.
In general, the majority of the underwriting profit (premium revenue minus losses) that a book of mortgage insurance generates occurs in the early years of the book, with the largest portion of the underwriting profit realized in the first year. Subsequent years of a book generally result in modest underwriting profit or underwriting losses. This pattern of results occurs because relatively few of the claims that a book will ultimately experience occur in the first few years of the book, when premium revenue is highest, while subsequent years are affected by declining premium revenues, as persistency decreases due to loan prepayments, and higher losses.
If all other things were equal, a decline in new insurance written in a year that followed a number of years of higher volume could result in a lower contribution to the mortgage insurer''s overall results. This effect may occur because the older books will be experiencing declines in revenue and increases in losses with a lower amount of underwriting profit on the new book available to offset these results.
Whether such a lower contribution would in fact occur depends in part on the extent of the volume decline. Even with a substantial decline in volume, there may be offsetting factors that could increase the contribution in the current year. These offsetting factors include higher persistency and a mix of business with higher average premiums, which could have the effect of increasing revenues, and improvements in the economy, which could have the effect of reducing losses. In addition, the effect on the insurer''s overall results from such a lower contribution may be offset by decreases in the mortgage insurer''s expenses that are unrelated to claim or default activity, including those related to lower volume.
Changes in the business practices of Fannie Mae and Freddie Mac could
---------------------------------------------------------------------
reduce our revenues or increase our losses. -------------------------------------------
The business practices of the Federal National Mortgage Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation ("Freddie Mac"), each of which is a government sponsored entity ("GSE"), affect the entire relationship between them and mortgage insurers and include:
-- the level of private mortgage insurance coverage, subject to the limitations of Fannie Mae and Freddie Mac''s charters, when private mortgage insurance is used as the required credit enhancement on low down payment mortgages, -- whether Fannie Mae or Freddie Mac influence the mortgage lender''s selection of the mortgage insurer providing coverage and, if so, any transactions that are related to that selection, -- whether Fannie Mae or Freddie Mac will give mortgage lenders an incentive, such as a reduced guaranty fee, to select a mortgage insurer that has a "AAA" claims-paying ability rating to benefit from the lower capital requirements for Fannie Mae and Freddie Mac when a mortgage is insured by a company with that rating, -- the underwriting standards that determine what loans are eligible for purchase by Fannie Mae or Freddie Mac, which thereby affect the quality of the risk insured by the mortgage insurer and the availability of mortgage loans, -- the terms on which mortgage insurance coverage can be canceled before reaching the cancellation thresholds established by law, and -- the circumstances in which mortgage servicers must perform activities intended to avoid or mitigate loss on insured mortgages that are delinquent. The mortgage insurance industry is subject to the risk of private ----------------------------------------------------------------- litigation and regulatory proceedings. --------------------------------------