When you build a house the key to the solidity of its construction is a well built basement. When you buy a house the key to its market stability is your mortgage. When you are poor and buy a house using a sub-prime mortgage you are buying on a weak foundation as the market is discovering in the U.S. this week.
As housing prices fall and interest rates increase those who bought over-valued homes in the U.S. on a variable mortgage will find themselves paying more for a home of less value.
And what they thought were sub-prime mortgages, that is below prime rates, are actually variable rate mortgages. The were sold as below prime due to being longer to pay back, but if interest rates increase they will increase to be above the prime rate. It is a classic bait and switch scheme. Already the U.S. is experiencing thousands of bankruptcies and foreclosures.
It is yet another example of business as usual which cheats the poor to line the pockets of the rich. In this case folks with bad credit were given credit by companies that had dubious funds themselves, who in effect once they had enough debt were able to be financed by the big banks looking to sink their profits into the market.
Then the market crashes, and the banks withdraw their funds from the sub prime market leaving the dubious credit companies without financial backing, and their creditors in foreclosure to the same banks that lent their creditors the credit in the first place. But only one of these crooked credit lenders is going to jail. And it ain't the big banks.
Instead the U.S. economy could tail spin, especially in light of massive layoffs recently announced by Chrysler and Hershey's, and other companies. The result will be massive foreclosures leaving banks and lenders holding declining valued properties that cannot be sold off fast enough to recoup their loses. And then they will come with their hands out asking for taxpayers to bail them out.
The market correction yesterday on news of the sub-prime crash impacted on global markets world wide even as far away as South Africa; US sub-prime crisis batters JSE
Sub-prime worries echo the S&L crisis
DID those troublemaking sub-prime US home borrowers actually know that their mortgage rates could (and in many cases certainly would) go up one day? Were they properly informed by sub-prime lenders? That's the startlingly mundane question at the core of the sub-prime mortgage meltdown, which threatens global markets and may billow into a financial cataclysm to rival the 1980s US savings and loan (S&L) financial debacle.
Both the question - obvious though the answer might seem to most Australians - and the comparison are worth scrutiny.
There is a reasonable chance some of these poor and usually first time home buyers - with loans Wall Street likes to refer to as "trailer-trash mortgages" - didn't understand they were taking out variable rather than fixed-rate home loans.
After all, most US mortgages historically were flat rate - repayments were constant over their 20 or 30-year term, although the mix of interest costs and capital repayments obviously varied.
Just as Australian mortgages became a more diverse mix of fixed and variable rate loans through the 1990s, a minority of the US market has gradually shifted to variable rate loans. And thanks to the exceptionally low level of near-term interest rates in recent years, which made these loans appear stable and cheap, these were often the very loans that sub-prime lenders pushed hardest to less traditional home buyers, such as those in, yes, you already know where they supposedly live.The S&Ls were pillaged of their best assets by the big Wall Street houses, which quickly figured out that a bunch of dusty Fannie Mae-supported mortgages snapped up at 60 per cent of face value from struggling narrowly based S&Ls in the flyover states could be pooled, securitised and resold as diverse, near federal-quality, mortgage-backed bonds at large profits.Fears of US mortgage crisis as homeowners face 12% interestUS banks face sub-prime note inquiry
· Shares fall on worries for wider economy
· Research predicts 2.2m defaults on homeloans
Larry Elliott and Jill Treanor
Wednesday March 14, 2007
The US central bank was under pressure last night to underpin the country's troubled housing market as figures showed an increasing number of US homeowners falling behind with their mortgage payments and having their properties repossessed.
The problems had a knock-on effect on Wall Street where the Dow Jones Industrial Average fell 242 points to close at 12,075 amid fears the malaise in the housing market would infect the rest of the economy. There were signs of mounting problems for firms that have aggressively sold home loans to people with poor credit ratings - so-called sub-prime mortgages.
The US Mortgage Bankers Association (MBA) yesterday pushed back its forecast of a rebound in the real estate market from the middle of 2007 until the end of the year after reporting an increase in both late payments and foreclosures in the final three months of 2006. It said defaults had risen for all loan types but were particularly marked for those with sub-prime mortgages with adjustable rates.
Borrowers with loans totalling $265bn (£137bn) are scheduled to have the interest rates on their mortgages reset this year and many of the poorest homeowners in the US could face interest rates as high as 12%. The Fed meets next week to set base interest rates but is expected to leave them unchanged at 5.25% despite the latest mortgage default figures.
Research by the Centre for Responsible Lending has predicted that one in five of the sub-prime mortgages made in the past two years will end in foreclosure, resulting in the biggest crisis for the mortgage market in modern times.
The centre said 2.2m sub-prime home loans had already failed or would end in foreclosure and that the losses to homeowners could be as high as $164bn.
The data from the MBA showed total mortgage defaults up from 4.67% to 4.95%, but sub-prime delinquencies rose from 12.56% to 13.33%.
The problems have most clearly been illustrated by New Century Financial, which is on the brink of bankruptcy without enough cash to repay its own lenders. Its shares have been suspended by the New York Stock Exchange and it has admitted receiving a grand jury subpoena as part of a criminal inquiry into trading in its shares as well as accounting errors. State regulators in Massachusetts yesterday ordered New Century to fulfil its promises on loans in process and barred it from making new loans. It was coordinating its order with several other states, including New York, New Jersey and New Hampshire.
Other states, however, were reluctant to take action that could contribute to a lender filing for bankruptcy, leaving borrowers stranded.
The fallout from America’s mortgage implosion continued yesterday when the state of Massachusetts said it is investigating the possibility that Wall Street firms had issued unrealistically upbeat research notes on leading “sub-prime” home loan makers to safeguard lucrative investment banking business.
William Galvin, the state’s commonwealth secretary, has subpoenaed Bear Stearns and UBS Securities for documents about their analysts’ recommendations of New Century Financial and other troubled lenders of high-risk mortgages made to people with the lowest credit ratings.
Mr Galvin said he was concerned that some investment banks may be violating terms of a 2003 global research settlement, reached in the wake of the bursting of the dot-com bubble. Under that agreement, investment banks paid fines and agreed to isolate their analysts from other businesses after regulators accused them of publishing biased research to win investment banking work from companies they covered.
Mr Gavin said: “Recent revelations that research analysts issued positive reports on mortgage lenders to those with less than solid credit ratings even as those companies faced more and more defaults suggests that the commitment of 2003 has not been met.”
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