Will Fair Isaac FICO score get kicked to the curb?

Fair Isaac Corporation (Public, NYSE:FIC), the developer of the FICO score, which is used to calculate the risk factor when lending to consumers, has gotten some heat lately. The FICO score is used by 80% of mortgage brokers to determine the likeliness of default.

Now that the credit markets have gone haywire, big mortgage players like Washington Mutual (WM) and HSBC (HBC) need a scapegoat – and who better to blame than Fair Isaac’s FICO score? The company promised to identify risky consumers and obviously it didn’t quite work out that way.

But Fair Isaac strongly defends its product. "We don't think FICO scores have caused or contributed to the subprime mortgage problem," says CEO Mark N. Greene. Lenders that followed traditional underwriting standards, he says, steered clear of subprime issues."

 So what will happen to Fair Isaac’s FICO score? Amid the increased scrutiny and criticism, they decided to revamp the FICO score this year. FICO 08 will give more credit points to consumers who maintain multiple lines of credit, such as a credit card, auto loan and home loan, while penalizing more heavily those people who use a lot of their available credit, according to the Wall Street Journal.

But the question is, will the big mortgage players still rely on Fair Isaac Corps FICO score? If their scapegoat is the FICO score, will they start using another way of scoring risk – Equifax’s Vantage score for example?

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If you liked this article, Eric Cheshier also contributes to the Master Picks Newsletter and the Quant Method , only available at WallstNewsletters.com.

One FICO skeptic, Golden West Financial, is one of the few mortgage lenders to curtail its use of the FICO in recent years, and it credits that decision for its below-average mortgage losses. Now a subsidiary of Wachovia (WB), Golden West's delinquency rate on traditional mortgages is running at 0.75%, vs. 1.04% for the industry. Richard Atkinson, who oversees part of Golden West's mortgage unit from San Antonio, says the bank calls to verify employment, examines a borrower's stock holdings and other assets, and employs a team of appraisers who are judged not by the volume of loans but by the accuracy of the appraisal over the life of the loan. "The way we do business is a lot more costly, and cost was a big reason many competitors embraced credit scoring," he says. "But some of our best borrowers had low FICO scores and our worst had FICO scores of 750."

 While that’s great, I can’t fathom big players like HSBC and Wamu going through these same processes to approve a mortgage. Cost is a big part of the problem, as Wamu and HSBC, like all public companies, are all about cutting costs and expanding the bottom line.

With that said, I’m going to guess that the FICO score is here to stay - Isaac stock price is only a few points from a 52 week low and with FICO 08 coming out, it could be the catalyst the stock needs to move up to the $30 range again.

FIC 1 year chart: 

Article written by Eric Cheshier

Co-Founder of theStockMasters.com

If you liked this article, Eric Cheshier also contributes to the Master Picks Newsletter and the Quant Method , only available at WallstNewsletters.com.