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Virtually everyone agrees that they'd rather staff up for workouts that work than start dumping more REO on the open market, further depressing prices. The settlement provides $17 billion nationally for principal reductions for borrowers who are upside down and behind on payments. "At an average reduction of $20,000 per mortgage, this portion of the settlement could impact 850,000 mortgages," says Earl Cummings, CEO of BestAssets, a Texas-based property management and marketing company specializing in REO. "If we go with 850,000 mortgages affected by the settlement, it will impact almost half of the shadow inventory." (Actual numbers of assisted homeowners, he added, would likely be lower because of some banks' big principal reduction plans; more on that below.) The takeaway here, Cummings says, is that "several million loans will undergo review, slowing the rate of foreclosure for a significant portion of the shadow inventory." That's good news, sure, but those reviews will still require more hiring in loss mit and workout departments—a daunting task after years of up-and-down volumes and ever-changing regulations. "Loss mitigation departments are likely to face challenges of increased loss mitigation volumes for loans that will require expedited processing," says Kevin Osuna, VP of default services for Gateway Mortgage Group. If your pipes are frozen for a while, even a new trickle of water can seem like a lot when you unfreeze them. "I do think many of these challenges will be concentrated in the large servicers rather than in smaller servicers, which did not have the same issues and are not directly affected by the settlement provisions," he adds. "There is no question that lenders are exhausted. The best thing a lender can do is make sure that the loan documentation is up to date," says Dahiwadkar. "Lenders need to make sure they have ways to manage pipelines, oversee the list of necessary tasks, and route work to different groups with vendor assistance." Principal of the Matter So one way or another, workloads are going to increase. Virtually everyone agrees that they'd 52 rather staff up for workouts that work than start dumping more REO on the open market, further depressing prices. "When inventory levels increase, the greater concern is the impact on home prices," Cummings says. If inventory levels spike rapidly and move above 50 percent at the end of the peak sale season—late summer— they "could saturate the market, creating a decline in values, increasing hold times and holding costs for clients, and reducing fees for asset managers paid against net sales price." Fortunately, investors and lenders took to self-policing and offering troubled borrowers generous terms to keep houses off the sales lists—terms that seemed unthinkable a few years (or even months) ago. Bank of America (BOA) leads the way with massive plans to reduce mortgage principals and finance short sales. "Building on home-retention and payment-assistance programs already in place, we are meeting our obligation to deliver this additional relief to our customers following the completion of the recent global mortgage settlement," Ron Sturzenegger, a BOA legacy asset servicing executive, said in a statement this spring. The scale of BOA's effort is impressive; in early May, the bank began mailing out principal write-down offers to 200,000 borrowers who could each be eligible for up to $150,000 in reduced principal, effectively hitting reset on the mortgages to bring them closer to real home values. "To the extent principal reduction and other modification tools help us turn mortgages headed for possible foreclosure into long-term performing loans, it will be positive for homeowners, mortgage investors, and communities," Sturzenegger said. Gone are the days when bank executives and conservative politicians moved in lockstep, opposing write-downs as a "moral hazard." There's still some of that talk—what up-to-date homeowner wouldn't envy a broke neighbor who gets 100 grand of grace from the bank? —but lenders and investors see more value in keeping homes occupied and off the selling block. "A year ago, I could count on two hands the number of principal reductions I've seen over the last five years," John Groene, a neighborhood director at Neighborhood Housing Services of Chicago Inc., a nonprofit community revitalization agency, told reporters in May. "Now I've seen that many in the last six months. And that was before the settlement." Going Long on Short Sales Then there's the short-sale solution. Muchdiscussed since the beginning of the housing bust by its champions, the short sale was used only reluctantly by most lenders and investors . . . until now. Wells Fargo and JPMorgan Chase started offering up to $35,000 in cash last year to short sellers. BOA followed suit, pledging up to $30,000 in relocation assistance; in the first two months of 2012, its short sales rose by one-third, and it doled out nearly $20 million in relocation funds to 22,534 homeowners after short sales and deeds in lieu. Why? Because short sale homes go for higher amounts than foreclosures—29 percent higher on average, according to spring stats from Lender Processing Services (LPS). And the Florida-based data provider discovered something even more remarkable; for the first time, short sales overtook foreclosures. Their January numbers showed 23.9 percent of home buys in January were short sales while only 19.7 were REOs. While LPS' number-crunching on the short sale's ousting of the bank-owned bluelight special has not been universally accepted, there's a consensus trend toward the short sale. "Lenders are increasingly recognizing that short sales may be a better alternative for them than foreclosure," RealtyTrac's Daren Blomquist told CNBC in early May. "This trend began in markets with stronger demand and where the distressed inventory tends to be newer homes (Phoenix, Los Angeles, Las Vegas), but the trend appears to be spreading to other markets like Atlanta and Detroit." Taken together, principal reductions and short sales could be a boon for lenders: They'll keep REO volumes from swamping home values, and they'll go a long way toward instilling consumer confidence in the mortgage industry again. Preparing for the Worst But even with all these settlement mandates and self-imposed measures, shadow inventory is huge and getting bigger—2.1 million units currently, according to the National Association of Realtors. And the mortgage market is still taking casualties. In May, Ally/GMAC, one of

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