OCRenter2, prepayment penalties are all over the map--literally, since they are regulated at the state level, not the federal level. Some states don't allow them at all; some allow them only if the interest rate on the loan meets a certain threshold; some allow no more than x number of years or x% of the loan balance as the penalty amount.
This is a chart by state if you want to look yours up. I make no representations about its accuracy, since that would require me to do more research this afternoon than I feel like doing.
This kind of begs the question: what's to stop the lenders from simply coming up with new "innovations" and "affordability products", which will provide another 2-3 years of easy lending before the regulators react?
I get the feeling that the market will put a lid on these things before the regulators do. Only when banks can't get these loans off their books will they start to take these concerns seriously.
Tanta, thanks for the information. I see California allows them. So what would be a usual prepayment penalty in California for someone refinancing on a third year of 2/28 subprime mortgage?
NOTE. Please make sure your answer is precise up to fourth decimal digit. -grin-
OCRenter2, I honestly don't know what is "average" in the CA subprime market--despite the fact that I look like a bag lady, I have spent my career in the somewhat more respectable end of the credit pool. I do remember seeing statistics that at least 2/3 of CA subprime loans carry ppy penalties, and most of them are designed to last longer than the initial fixed period of the loan. I suggest Google, or seeing if one of our other mortgage regulars will chime in.
Bob, you're right that absolutely nothing is going to stop lenders from "innovating" their way through (or into) the next crisis. That's really why this focus on listing "bad products" rather than bad basic underwriting guidelines is so misguided--if the regulations just list "bad" products, the lenders will simply invent new ones and make a killing until the regulators add them to the list. What we need are regulations that allow reasonable innovation but that prevent the mere substitution of a new "killer app." It's not like we don't know what the risk parameters are, for Dog's sake.
I should say that part of my desire to make sure that reasonable things like a correctly structured and underwritten true hybrid ARM stay around and not get thrown out with the bathwater is my firm belief that we're going to be in for another hideous rate cycle again in the not too distant future, added to some real tightening if not a true credit crunch, and that's just not the time to make everybody take a 30-year fixed. We've all gotten so "used to" this weird cycle we're just getting over where people take ARMs in a low-rate environment that we forget that they're really useful when long fixed rates get back to 8-10% or more.
Tanta, I remember my parents with some thing like a 3.5% fixed when the 70s "happened." Are the banks going to be willing to listen to my present value arguments for my purchasing back my own 4.99% balance in a 12% environment like you suggest? Or are they going to repeat the 70s and pretend they are doing me a favor by offering a free toaster with my early pay off? My parents laughed at all those offers but I'm hoping for a little more sophistication this time.
I am interested in your opinions on Alt A loans as opposed to subprime or prime. And if you feel they will perform as poorly as the subprime paper. Or do you even make a distinction and lump Alt A's with subprime?
Toaster? I'm guessing this time around you might get at least a Fujitsu Electric Rice Cooker. And with rates at 12%, you'll want to eat a lot of rice.
My own view is that there's a whole bunch of bright young things in banking who are going to discover the meaning of the phrase "duration risk" one of these days, and they'll be putting their own heads in the Rice Cooker. I can remember going to bed every night praying that Dog would keep everyone safe and send us world peace and please, please let a mortgage pay off tomorrow before I have to see my reports. And of course I'd go in, and the one that prepaid would be a 12%-er. People with 4% mortgage loans had children who concealed mom and pop's deaths in order to keep from having to pay them off . . .
Oh well, look on the bright side. Assumptions will come back!
Frank, "Alt-A" is some scary sh*t as far as I'm concerned. For one thing, while we love to use the term "Alt-A," at least half if not more of that stuff is "Alt-B." There's enough actual respectable credit in there for it to continue to perform better than subprime, as a class, but given where I think subprime is heading, that's not really saying much.
For starters, Alt-A is where most of the speculator loans have been hiding. There isn't much a 720 FICO, when you have it, can do for a 100% CLTV loan on a Miami highrise condo unit that was priced at about 200% of ludicrous when the loan was made. What has kept Alt-A lookin' decent has been prepayments; take the refi punch bowl away and that party will start to drag. I expect Alt-A to perform the way subprime did 6 years ago. That means that subprime will perform the way New Orleans did a year and a half ago.
Speaking of Alt-A loans, credit risk, and all that, the latest edition of the FDIC's Outlook publication is out. Yes, yes, I know. You were all eagerly awaiting this incredibly exciting document
Seriousl, though, if you want to read some good stuff about all the funky ways banks and lenders are offloading risk, this 25-page PDF doc is worth digging through. One stat I found striking is that of all the originations S&P rated in 2005, 45% of them were "affordability" loans -- interest only, option ARMs, 40-years, etc.
I agree with you. I always thought ALT a loans were wannabee subprime loans with lower yield.
It is also an quick way to make a 720 FICO a 620.
The speculator borrower is more prone to mailing in the keys on a vacant property then the subprime borrower who is living in the house.
The prepayments have a way of obfuscating the net interest margin squeeze. But the negative amortization puts a hurt on the cash flow of the institution when the minimum payment is made and the balance accrued.
In any event it is all more of the same. Told abdication of any underwriting.
IMHO what we will witness is a rerun of what happen in the Junk Bond area with S&L's. Institutions looking at return on investment instead of looking at return OF investment.
i believe countrywide has about 29.5 Bil of these payoption loans that are running neg amortization.
does anyone know if these payoption loans have been able to be refinanced? If so how are they doing it with dropping prices and unaffordability to prolong the final pain?
Tanta, the chocolate espresso bark has clearly augmented your already fine mind. I'm looking for some.
I think you nailed the Alt-A problem.
On the regulation issue, I would like to see HOEPA changed to include as additional triggers loans with a non-amortizing period, scheduled payments below contract interest, or prepayments above the fee trigger.
This would force more accountability for loan generation practices. The federal agencies don't have the authority to regulate non-charters, and the state agencies don't have the political will to regulate them. Congress will have to act to implement a level playing field across the nation. It really does vulnerable borrowers no good to push them into the least-regulated, least-supervised companies.
I think by now we all realize that the market's compassion for the borrower cannot be relied upon. The only entity with the ability to ameliorate the worst abuses is the US Congress. I write my representatives letters about such matters. Naturally, they do not reply. I am hoping the party switch will engender a little more attention to the people's business. It seems to have worked for pork, if they are telling the truth.
Tanta wrote: "if the regulations just list "bad" products, the lenders will simply invent new ones and make a killing until the regulators add them to the list."
Kind of like drug pushers coming up with new, non-listed variations of existing bad things.
You know, Mama, the longer this goes on the more frustrated I'm getting with this desire to write regulations for depositories that can also be used to regulate non-depositories, like one of those old Ronco pocket camp stoves that also slices rutabagas. Of course we need all parties to get regulated, but am I the only one who is getting nervous that we're just willy-nilly "adding stuff" to the Nontraditional Mortgage Guidance because then the states can recycle it for the subprime lenders? My whole point with focussing on underwriting basics and loan classifications is that I think that's the best way to manage safety and soundess issues for a depository. But since a lot of that's meaningless for a nondepository--they don't hold portfolios, they don't have the same issues with capital and loss reserves--we switch focus to making lists of no-no products. I fear we're going to end up with Hybrid Guidelines that don't regulate either party more than half-assed.
My representatives don't reply either. Of course, I'm still not convinced they can all read . . .
I can't speak to CA specifically, but prepay penalties of 3 years are the most common for the US in general, and there are a lot of 2 year and 5 year.
Tanta - you speak of ARM credit risk being worse than FRM historically, but all the public stuff I've seen puts ARMs behaving a little better. No one believes that going forward, but the problem with trying to get a handle on ARM risk with historical data is that, until last year, there's been no sustained increase in interest rates, so there hasn't been much payment shock (OK, except for around 1980, but no one seems to have good data back that far). What have you seen, especially public data, that shows ARMs with worse credit performance?
Anonymous, I'll have to look for public data on that, but most of the really good stuff (as I'm sure you know) you have to pay for. My biggest problem with a lot of stuff I've seen out in public on FRM v. ARM is that it not only doesn't take into account the interest rate environment, it doesn't necessarily calibrate the samples in other ways (controlling for credit guidelines, borrower self-selection, maximum LTV, etc.) to compare the two, nor does it take into account the variable prepayment speeds of ARMs in certain environments: ARM borrowers often prepay more frequently than FRM borrowers (they may well have taken an ARM in the first place because they didn't plan to own the home for that long), and any time a cohort of loans prepays faster than the other, you'll see fewer delinquencies. It's like certain drug trials on older patients: you can't tell what the long-term side effects are because they're not necessarily going to live long enough to have any. In order to test for a true "ARM effect," you have to conrol for all that.
This paper is really interesting if you have a high tolerance for technical detail, and has some interesting conclusions specifically for FRM v. ARM as it applies to the subprime market:
public vs private lending should reflect the proper risk standards.
If the gov't has to save the bank or lender since they made a series of bad loans then the underwriting standards should be very high. For home loans 20% down and complete documentation at the 30 year or 15 year rate, period.
If a private corporation or individuals want to loan money out to individuals and use lower standards, I could care less, just don't come to the gov't and ask for a bail out.
People with 4% mortgage loans had children who concealed mom and pop's deaths in order to keep from having to pay them off.
Like Green Bay Packer season tickets - I bet you didn't know that half the folks at Lambeau are really dead... silly cheeseheads.
I remember those 12% days - I posted on that a few days ago when I found a copy of the Minneapolis Tribune newspaper from the day after the 'Miracle On Ice' game my late father had saved... next to the game article is one talking about how banks had just raised the prime rate three quarters of a percent in one day to 16 plus percent... based on inflation news (it was only at 18 plus annual percent - where's the beef?)... ah 1980.
But Tanta - I'll be honest I don't see that happening anytime too soon given the liquidity pouring in out of Asia & from petrodollars. I think we (like our parents - at least mine - who thought the depression would return again at any minute) are guilty of fighting our own 'last war' - the 70s inflation war.
Shits gonna fly but it likely won't be a rehash of the 70s - except for maybe the platform shoes.
At least not until some other macro-economic event burns up, shuts off and sticks a spike in the heart of the post-1997 Asian Crisis CB reserves binge. That source of liquidity will remain the fuel for the kind of innovations Bob_in_MA suggests... when it is gone then the game gets serious.
Just to give you an idea of how the 'last war' mentality can lead us astray... read the latest on the Thai Baht redux the last few days... just like 1997 except not quite...
From Mish: Monetary Shock Therapy - read the part on 'Thailand - EDAA, Every Day Another Adventure'... chronicles the events leading up to & recent currency brouhaha over there.
How this time its the Asian's (in this case the Thai's) not wanting more investment IN their country rather trying to keep money out & find a home OUTSIDE their country for their massive & growing reserve accumulations in places like... our MBS market.
The system is as sick as it's ever been but a different disease. The same as before, only different.
This insanity will likely play a huge role in how our debt/credit markets & future credit cycles play out. That and how hedge funds participate in the 'mediating the risks'.
I can't believe the regulators have a clue what's coming - not that I do either... We are all sort of like dinosaurs looking out across the serene Cretaceous landscape and thinking... my what a large and lovely falling star.
I was a member of the institution that started marketing and selling 2/28s. The 2/28 was not a prime program then and only a few Alt A lenders securitize it now. It's valued as a monthy Libor as 2-year interest rate swaps are used as its "index"
Before that, low score borrowers had only two options; a 6-month adjustable rate mortgage or a 30-year fixed rate. Fixed rates were incredibly high back then, and generally made no sense for most borrowers. The idea was that most lenders were selling borrowers that if they kept their nose clean for a couple of years, the borrower could call the lender back after 2 years and get a FNMA rate on a refinance since A paper generally had a 2-year credit look-back. If this was the way subprime was being sold--who would want a high rate loan for 30 years?--why not develop a program that encapsulated this idea and gave the borrower the best rate possible with some level of rate certainty.
The 2/28 has been hugely successful and has helped transitioned many borrowers from non-prime, whom because of major life events had severe credit issues and were not "bankable", to A paper borrowers.
All this recent interjection by the regulators is once again incoherent and really not relevant to today's mortgage economy.
Anyone who is in the business knows that there have been major changes to credit guidelines over the past year and there are more breaking as the new year begins. The rating agencies, IBs and mortgage bankers are not in the business to lose money. So while not at all altrusitic perhaps at its core, the real policing of the industry is being done by the players not the on-lookers.
The 2/28 has been hugely successful and has helped transitioned many borrowers from non-prime
Do you have any actual evidence for that claim? You know, I hear this a lot, and everyone can always cough up an anecdote, but when I see the actual statistics on the growth of the subprime market, I have to wonder how the subprime industry is managing to add so many loans each year--mostly refinances--while altruistically helping people become prime borrowers. I'd also like to know how that thing about how you can refinance to agency after two years squares with those prepayment penalties. Do they all end at 24 months?
I also have to wonder why, if the point is to help borrowers get a 2-year payment history to qualify them for prime loans, you can still find subprime mortgage servicers who don't report to the credit bureaus.
You know, I don't object to providing credit at the appropriate cost to people who need to start over. I do object to extracting that cost in the form of outrageous fees added to the loan balance each two years as the borrower is turned into a serial subprime refinancer by the effect of the deadly payment shock on a 2/28.
How about a requirement that pre-payment penalties never outlast the fixed/teaser/non-amortizing period of the loan? At least then those who experience shock won't have to pay a penaltly. Although this wouldn't provide much help for the legions of upside-down FBs.
And of course thanks Tanta, I usually learn alot when reading your posts.
Yes I do. The reason why the subprime indistry has grown so much is beciause of the blurring of the line between subprime and Alt A. Sub prme lenders(the wholesalers) have really been Alt A lenders in disguise(from an origination point of view) Do you realize, even today, a mortgage broker can obtain wholesale financing that is about 25 bps lower in price on a subprime 2/28 vs a 5/25 Alt offering? If you look at the industry's average funded fico the last few years, you will note the average has been in the mid to upper 600s. If you look at the segmented population of Fico scores over the past years, you will see little change in the percentage of consumers in the different buckets Fico buckets.
No, Ficos have not dropped. Sub prime lenders have just been better at originating Alt A biz.
We can have a philosophical discussion about pre-payment penalities if you like, but the bottom line is that in today's structured finance markets, duration is key driver in value and makes the market for these types of securities. Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership. Abuses do occur, and borrowers still have to perform, but most do and should not be penalized by the actions of others.
"I'd also like to know how that thing about how you can refinance to agency after two years squares with those prepayment penalties. Do they all end at 24 months?"
Of the pools I have seen 95% of the 2/28s have 2-year pps. Interestingly, the Alt A products have generally longer PPs(3 years or more).
Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership.
This idea that J6P MUST be a homeowner to realize financial gain is turning people into speculators that cannot affort to play the game.
Most are just getting by and have moderate credit scores, with significant additional home debt burden these same people will face BK
and higher proverty rates rather then financial gain.
The Mortgage industry, political parties, and gov't underwriting of these higher risk loans comes at a terrible human cost and does the lower income buyer a horrible disservice.
Tanta,Thanks for the post. In 1982 when I was Treasurer of a government affiliated organization we did a very detailed scenario type analysis of borrowing options. A 25 year bond with rate adjustments ever 5 years provided the best risk/return combination in our situation. (our revenues and cash flow increased with inflation) For borrowers whose salaries can be expected to move with inflation the conclusion would often be the same. A hybrid mortgage with rate adjustments every 5 years would be low risk even without rate caps. This assumes the rates on adjustment are set by the same formula as the initial rate.
"So while not at all altrusitic perhaps at its core, the real policing of the industry is being done by the players not the on-lookers."
Producer,
That's exactly what was said in regards to the S&Ls, just get the regulators off their backs and leave it to the market to regulate. Worked like a charm.
Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership.
Oh... absolutely. The Fed/GSE Fount of Easy Credit has definitely HELPED buyers, no doubt about it. Why, the average house in my neck of the woods (LA County) is now well above $half a million --closer to a full million if you don't wish to dodge bullets.
And the ONLY way most families can afford them is to take out stated-income, neg-am, hybrid loans with teaser rates. Yup, this lending environment has definitely HELPED out the working class here... right into bankruptcy and Foreclosure City.
Thanks for setting all the "Gloom-' n-Doomers" here straight, Producer! And remember, the (broker's) definition of "viable" loan: any loan that generates a commission.
"Oh... absolutely. The Fed/GSE Fount of Easy Credit has definitely HELPED buyers, no doubt about it. Why, the average house in my neck of the woods (LA County) is now well above $half a million --closer to a full million if you don't wish to dodge bullets."
I was articulating the benefits of the structure, not debating the qualification standards.
"Thanks for setting all the "Gloom-' n-Doomers" here straight, Producer! And remember, the (broker's) definition of "viable" loan: any loan that generates a commission."
That may be true, but again does not have any relevance to the issue of structure.
That's exactly what was said in regards to the S&Ls, just get the regulators off their backs and leave it to the market to regulate. Worked like a charm.
I agree, and I am all for appropriate regulation, but the S&L debacle and the last 3 years of umprecendented equity appreciation are not the same animal.
"And the ONLY way most families can afford them is to take out stated-income, neg-am, hybrid loans with teaser rates. Yup, this lending environment has definitely HELPED out the working class here... right into bankruptcy and Foreclosure City."
Ok, so they do not have to apply for the loan. They could just say, no, I rather not take that type of loan and instead will continue to rent.I am not sure the lending "environment" is or should be designed to help out the "working class" whom ever that may be.
Regulations aren't there just to make your life complicated. They are there to make sure the foxes don't run of with all the chickens.
The majority of us aren't ever going to 'abuse the system' regardless of whether regulations are required for loans or if there are locks on banks vaults.
But the regulations aren't for the majority of us - they are for the minority of us that can't be trusted out of dishonesty or incompetence.
And without tests & guidelines and then checks & balances & collaterals... the dishonest and the incompetent do exactly that - run off with the chickens (or money).
And it is very hard to differentiate the honest & competent from dishonest & incompetent a priori without some pretty serious scrutiny.
Even then it isn't 100%. But better than nothing.
You know... similar to what a famous socialist once said "Trust but verify."
Many of the current crop of financial innovations - like the 2/28s - ought to require FAR MORE documentation & oversight than a regular 20 down 30 FRM not less.
And greater disclosure & warranties to the downstream buyers of the securitized MBS resulting from this junk.
And no one should be allowed to get no doc liars without serious up front collateral.
To do anything else is the equivalent of removing the locks from bank vaults and replacing the guards with Barney Fife.
But we wouldn't want to wreck it for everyone just because of 'a few abuses by others'. Right?
"The majority of us aren't ever going to 'abuse the system' regardless of whether regulations are required for loans or if there are locks on banks vaults.
But the regulations aren't for the majority of us - they are for the minority of us that can't be trusted out of dishonesty or incompetence."
So if some people cannot pay their bills, stop offering financing?
The reason the 2/28 exists is because some people have not paid their bills but seek a second chance. The capital markets see value in offering a lower coupon for a product that has a two year life...wow, two separate interests finding common ground which results in value for all.
Most of these band-aid borrowers make the payments and move on, some do not. The market makers re-factor the results and now you have a financial vehicle that works.
I agree that the qualification standards must be revisited and modified where needed so the program continues to be viable.
That said, some will perform others not. In fact, regardless of my comment earlier, the performing borrowers do pay for the non-performance of others. It's not socialism, it's imperfect capitalism.
So if some people cannot pay their bills, stop offering financing?
Certainly don't offer more additional debt than they can pay - regardless of how it is structured. Far better to offer less (or even nothing) within a structure they can perform well in over the whole loan horizon - low LTV, sizable down payment and stable certain affordable payment schedule... if that means a smaller total loan package, so be it.
I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?
Secondly - I own some bonds. I expect to get paid back - both P & I. If you're giving my money to people, I want to be damned sure they can pay it back. Give them the second chance with your own money.
Besides there is almost no 'second chance' quality in the 2/28s & many other exotics... more like commissioned indentured servitude... commission for the broker & servitude for the borrower & risk for the lender. Only one winner & guess which of the three is defending the program?
"Secondly - I own some bonds. I expect to get paid back - both P & I. If you're giving my money to people, I want to be damned sure they can pay it back. Give them the second chance with your own money."
Then don't buy asset-backed bonds. Is someone holding a gun to your head?Purchase municipals.
"I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?"
How do you know what they can afford? have you written the book on who pays their mortgages. Many lenders/investors are fine with slow-pays. Everything else being equal, there is nothing wrong with them accessing the financial markets if they are willing to pay the price.
Besides there is almost no 'second chance' quality in the 2/28s & many other exotics... more like commissioned indentured servitude... commission for the broker & servitude for the borrower & risk for the lender. Only one winner & guess which of the three is defending the program?
This is a philosophical rant which exposes less than accurate understanding of how certain financial products work, so it cannot be addressed with logic.
"I agree, and I am all for appropriate regulation, but the S&L debacle and the last 3 years of umprecendented equity appreciation are not the same animal."
Um, so it's different this time? hmmm... where have I heard that before?
But rather than get in a mindless tit for tat, since you are in the business let me ask you this. It seems to me that with the big increase in private-label securitization, and simultaneously, the use of third-party mortgage brokers, there is now a large gulf between those with a first hand knowledge of a borrower's true situation and those holding the risk.
Lewis Ranieri, at the recent Office of Thrift Supervision's National Housing Forum, basicly said his firm has stopped buying loans because the data is so scrace and unreliable. Apparently he was in on the development of these products.
And some of the fraud cases that have come to light are more interesting for what they reveal about the process than the instances of fraud themselves. It seems if someone can find a compliant mortgage broker, title company and appraiser, pretty much nothing is too ridiculous to get by lenders. And all three of those businesses are essentially in a recession with incomes dropping, so finding compliant agents is probably easier than ever. The guys in St. Pete were just noticed because the same few people were involved in 10-12 transactions all paying $100,000 or more than the asking prices.
And what's really amazing is they haven't even been charged with a crime. They apparently didn't even need to break the law to make a mockery of the checks and balances supposedly preventing this kind of thing.
"I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?"
Um, the world's a complex place. People default for a large number of reasons, only one of which is that their payment ability is forever lower than their commitment. People get sick, divorced, have unexpected children, lose jobs, have investments go sour, have businesses fail ... the reasons are almost endless. To treat these all as mortal borrower's sin is absurd.
"It seems to me that with the big increase in private-label securitization, and simultaneously, the use of third-party mortgage brokers, there is now a large gulf between those with a first hand knowledge of a borrower's true situation and those holding the risk."
I am trying to find the question in your response, but I will address a couple of your comments.
The mortgage broker has been an industry participant for the last 30 years--long before sub prime loans were being securitized. While you can certainly argue the difference between first-hand knowledge of a borrower and their situation and reviewing loan characteristics on a spreadsheet, I know the raters, securitizers, aggregators and buyers of the bonds are not blind or in the dark as to what they are buying. Fraud aside, the rating agencies, buyers and IB underwriters set the "rules" and the originator follows. That's a very simplistic explanation I know, but I am an impatient writer with little skill with composition and even less with typing.
There has always been this talk of the Street wanting to get closer to the borrower and some have indeed made efforts recently with acquiring direct origination channels, but there is a reason why mortgage brokers have survived through all the talk of their demise--they are the cheapest and most consistent origination channel out there. They exist because Wall Street wants and needs them to exist
And some of the fraud cases that have come to light are more interesting for what they reveal about the process than the instances of fraud themselves. It seems if someone can find a compliant mortgage broker, title company and appraiser, pretty much nothing is too ridiculous to get by lenders. And all three of those businesses are essentially in a recession with incomes dropping, so finding compliant agents is probably easier than ever. The guys in St. Pete were just noticed because the same few people were involved in 10-12 transactions all paying $100,000 or more than the asking prices.
Yes, fraud is a huge problem right now. Really always has been, but now that the appreciation tide is going out, it's exposing a lot of submerged rot that really is troubling. Like wise with shoplifting in retail, if you could get rid of the fraud, transacting a home purchase or refi would be so much easier than it is and much cheaper. Mortgage brokers are source of the problem for sure and the industry is getting better at rooting out the participants, but there is much more to be done.
A lot of lenders just have done a poor job of using quality control and audit measures to filter the stuff out. The tools are out there and more are becoming available everyday. Maybe surprisingly to some, but A and Alt A lenders probably have been the worst offenders. Most buyers will tell
you the the profile of a fraudulent loan right now is a very high credit score, stated doc with stated assets and a high ltv. An average, everyday Alt A program.
Well, it seems the foxes have formed a Chicken Benevolent Society. I suppose that's supposed to be a sun, but it looks more like a large beast bit a hunk out of the roof. From the back:
The Anti-Predatory Lending Mark ("Mark") is not an entity endorsing Solstice Capital Group, Inc. The Mark is owned and created by Solstice Capital Group, Inc. to support policies against unfair lending practices including aggressive sales tactics and deception.
Hmm. There's another meaning to "the mark", and I think Solstice Capital think's I'm it.
You are sounding very naive, "...the rating agencies, buyers and IB underwriters set the "rules" and the originator follows."
Don't you mean, is supposed to follow?
Frankly, your posts here have reinforced my impression that those producing these loans and bonds are actively not noticing what goes on, in the same way the government, until recently, has not noticed that there were boatloads of illegal immigrants working with what were clearly fraudulant documentation.
Would you have us believe you are unaware that 95% of no-doc borrowers exaggerate their income, 60% exaggerated by 50%. And you think the brokers were completely unaware of that? What consequence would the broker suffer if he merely had not noticed? None. He holds no risk. He earns his money based purely on commission, and unless he commits outright fraud, like encouraging a borrower to exaggerate income, and was stupid enough to put it in writing, he stands almost zero chance of facing any consequences.
Likewise with the appraiser, paid a tiny commission and under obvious pressure to get the loan approved if he wants to get called next time. If he exaggerates the cvalue of a house by 10%, who's to say it was fraud and not a mis-judgement?
It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements.
Thank you, I feel a little more secure owning my mortgage lender puts.
"Would you have us believe you are unaware that 95% of no-doc borrowers exaggerate their income, 60% exaggerated by 50%. And you think the brokers were completely unaware of that? What consequence would the broker suffer if he merely had not noticed? None. He holds no risk. He earns his money based purely on commission, and unless he commits outright fraud, like encouraging a borrower to exaggerate income, and was stupid enough to put it in writing, he stands almost zero chance of facing any consequences.
Likewise with the appraiser, paid a tiny commission and under obvious pressure to get the loan approved if he wants to get called next time. If he exaggerates the cvalue of a house by 10%, who's to say it was fraud and not a mis-judgement?
It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements."
And that is the point, the industry is aware of it, just like it has been for 30 years. No one is in the dark.
Not all mortgage brokers or lenders(retail lenders can be and are just as unscupulous as brokers ) cheat, many are responsible professionals. Most transactions are clean. Borrowers by the data I see are as often the conspirator as the industry participants.
Mortgage brokers sign buy-back agreements but generally its useless since they are often less than capable financially, although it does happen from time to time.
Bottom line is that brokers and lenders make their money by originating loans so there is a bias towards getting the deal done. As with real estate brokers and stockbrokers, unless you fundamentally change the compensation structure, it will be what it is...
I think puts on mortgage lenders is generally a good idea right now, but not for the reasons you may think.
"It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements."
And what industry does not involve greed and self-interest?
John Dugan Snap Shots on Mortgage Risks:
Winter (Economic and Market) Watch » John Dugan Snap Shots on Mortgage Risks
Tanta, CR, thanks for great post. How big is the prepayment penalty on subprime 2/28?
2/28 interacts with the 2yr capital gains rule in unpleasant ways.
OCRenter2, prepayment penalties are all over the map--literally, since they are regulated at the state level, not the federal level. Some states don't allow them at all; some allow them only if the interest rate on the loan meets a certain threshold; some allow no more than x number of years or x% of the loan balance as the penalty amount.
This is a chart by state if you want to look yours up. I make no representations about its accuracy, since that would require me to do more research this afternoon than I feel like doing.
Super post. Very clarifying.
Mathew Chapter 26 verses 36ff contains perhaps the most intense and moving passages in the Bible.
Tanta's allusion to these verses throws a searing spotlight on the actions of the mortgage bankers.
Tanta,
This kind of begs the question: what's to stop the lenders from simply coming up with new "innovations" and "affordability products", which will provide another 2-3 years of easy lending before the regulators react?
I get the feeling that the market will put a lid on these things before the regulators do. Only when banks can't get these loans off their books will they start to take these concerns seriously.
Tanta, thanks for the information. I see California allows them. So what would be a usual prepayment penalty in California for someone refinancing on a third year of 2/28 subprime mortgage?
NOTE. Please make sure your answer is precise up to fourth decimal digit. -grin-
OCRenter2, I honestly don't know what is "average" in the CA subprime market--despite the fact that I look like a bag lady, I have spent my career in the somewhat more respectable end of the credit pool. I do remember seeing statistics that at least 2/3 of CA subprime loans carry ppy penalties, and most of them are designed to last longer than the initial fixed period of the loan. I suggest Google, or seeing if one of our other mortgage regulars will chime in.
Bob, you're right that absolutely nothing is going to stop lenders from "innovating" their way through (or into) the next crisis. That's really why this focus on listing "bad products" rather than bad basic underwriting guidelines is so misguided--if the regulations just list "bad" products, the lenders will simply invent new ones and make a killing until the regulators add them to the list. What we need are regulations that allow reasonable innovation but that prevent the mere substitution of a new "killer app." It's not like we don't know what the risk parameters are, for Dog's sake.
I should say that part of my desire to make sure that reasonable things like a correctly structured and underwritten true hybrid ARM stay around and not get thrown out with the bathwater is my firm belief that we're going to be in for another hideous rate cycle again in the not too distant future, added to some real tightening if not a true credit crunch, and that's just not the time to make everybody take a 30-year fixed. We've all gotten so "used to" this weird cycle we're just getting over where people take ARMs in a low-rate environment that we forget that they're really useful when long fixed rates get back to 8-10% or more.
Tanta, I remember my parents with some thing like a 3.5% fixed when the 70s "happened." Are the banks going to be willing to listen to my present value arguments for my purchasing back my own 4.99% balance in a 12% environment like you suggest? Or are they going to repeat the 70s and pretend they are doing me a favor by offering a free toaster with my early pay off? My parents laughed at all those offers but I'm hoping for a little more sophistication this time.
Great information.
"Yes Virginia, there is a Tanta."
Tanta
I am interested in your opinions on Alt A loans as opposed to subprime or prime. And if you feel they will perform as poorly as the subprime paper. Or do you even make a distinction and lump Alt A's with subprime?
Toaster? I'm guessing this time around you might get at least a Fujitsu Electric Rice Cooker. And with rates at 12%, you'll want to eat a lot of rice.
My own view is that there's a whole bunch of bright young things in banking who are going to discover the meaning of the phrase "duration risk" one of these days, and they'll be putting their own heads in the Rice Cooker. I can remember going to bed every night praying that Dog would keep everyone safe and send us world peace and please, please let a mortgage pay off tomorrow before I have to see my reports. And of course I'd go in, and the one that prepaid would be a 12%-er. People with 4% mortgage loans had children who concealed mom and pop's deaths in order to keep from having to pay them off . . .
Oh well, look on the bright side. Assumptions will come back!
Frank, "Alt-A" is some scary sh*t as far as I'm concerned. For one thing, while we love to use the term "Alt-A," at least half if not more of that stuff is "Alt-B." There's enough actual respectable credit in there for it to continue to perform better than subprime, as a class, but given where I think subprime is heading, that's not really saying much.
For starters, Alt-A is where most of the speculator loans have been hiding. There isn't much a 720 FICO, when you have it, can do for a 100% CLTV loan on a Miami highrise condo unit that was priced at about 200% of ludicrous when the loan was made. What has kept Alt-A lookin' decent has been prepayments; take the refi punch bowl away and that party will start to drag. I expect Alt-A to perform the way subprime did 6 years ago. That means that subprime will perform the way New Orleans did a year and a half ago.
Speaking of Alt-A loans, credit risk, and all that, the latest edition of the FDIC's Outlook publication is out. Yes, yes, I know. You were all eagerly awaiting this incredibly exciting document
Seriousl, though, if you want to read some good stuff about all the funky ways banks and lenders are offloading risk, this 25-page PDF doc is worth digging through. One stat I found striking is that of all the originations S&P rated in 2005, 45% of them were "affordability" loans -- interest only, option ARMs, 40-years, etc.
Here's your link (grab some coffee first!) ...
FDIC: FDIC Outlook
Tanta,
I agree with you. I always thought ALT a loans were wannabee subprime loans with lower yield.
It is also an quick way to make a 720 FICO a 620.
The speculator borrower is more prone to mailing in the keys on a vacant property then the subprime borrower who is living in the house.
The prepayments have a way of obfuscating the net interest margin squeeze. But the negative amortization puts a hurt on the cash flow of the institution when the minimum payment is made and the balance accrued.
In any event it is all more of the same. Told abdication of any underwriting.
IMHO what we will witness is a rerun of what happen in the Junk Bond area with S&L's. Institutions looking at return on investment instead of looking at return OF investment.
Tanta, thanks. And thanks for the laughs "... subprime will perform the way New Orleans did a year and a half ago." Classic!
Mike_in_Fl, thanks for the link.
Best to all.
i believe countrywide has about 29.5 Bil of these payoption loans that are running neg amortization.
does anyone know if these payoption loans have been able to be refinanced? If so how are they doing it with dropping prices and unaffordability to prolong the final pain?
Tanta, the chocolate espresso bark has clearly augmented your already fine mind. I'm looking for some.
I think you nailed the Alt-A problem.
On the regulation issue, I would like to see HOEPA changed to include as additional triggers loans with a non-amortizing period, scheduled payments below contract interest, or prepayments above the fee trigger.
This would force more accountability for loan generation practices. The federal agencies don't have the authority to regulate non-charters, and the state agencies don't have the political will to regulate them. Congress will have to act to implement a level playing field across the nation. It really does vulnerable borrowers no good to push them into the least-regulated, least-supervised companies.
I think by now we all realize that the market's compassion for the borrower cannot be relied upon. The only entity with the ability to ameliorate the worst abuses is the US Congress. I write my representatives letters about such matters. Naturally, they do not reply. I am hoping the party switch will engender a little more attention to the people's business. It seems to have worked for pork, if they are telling the truth.
Tanta wrote: "if the regulations just list "bad" products, the lenders will simply invent new ones and make a killing until the regulators add them to the list."
Kind of like drug pushers coming up with new, non-listed variations of existing bad things.
You know, Mama, the longer this goes on the more frustrated I'm getting with this desire to write regulations for depositories that can also be used to regulate non-depositories, like one of those old Ronco pocket camp stoves that also slices rutabagas. Of course we need all parties to get regulated, but am I the only one who is getting nervous that we're just willy-nilly "adding stuff" to the Nontraditional Mortgage Guidance because then the states can recycle it for the subprime lenders? My whole point with focussing on underwriting basics and loan classifications is that I think that's the best way to manage safety and soundess issues for a depository. But since a lot of that's meaningless for a nondepository--they don't hold portfolios, they don't have the same issues with capital and loss reserves--we switch focus to making lists of no-no products. I fear we're going to end up with Hybrid Guidelines that don't regulate either party more than half-assed.
My representatives don't reply either. Of course, I'm still not convinced they can all read . . .
I can't speak to CA specifically, but prepay penalties of 3 years are the most common for the US in general, and there are a lot of 2 year and 5 year.
Tanta - you speak of ARM credit risk being worse than FRM historically, but all the public stuff I've seen puts ARMs behaving a little better. No one believes that going forward, but the problem with trying to get a handle on ARM risk with historical data is that, until last year, there's been no sustained increase in interest rates, so there hasn't been much payment shock (OK, except for around 1980, but no one seems to have good data back that far). What have you seen, especially public data, that shows ARMs with worse credit performance?
Anonymous, I'll have to look for public data on that, but most of the really good stuff (as I'm sure you know) you have to pay for. My biggest problem with a lot of stuff I've seen out in public on FRM v. ARM is that it not only doesn't take into account the interest rate environment, it doesn't necessarily calibrate the samples in other ways (controlling for credit guidelines, borrower self-selection, maximum LTV, etc.) to compare the two, nor does it take into account the variable prepayment speeds of ARMs in certain environments: ARM borrowers often prepay more frequently than FRM borrowers (they may well have taken an ARM in the first place because they didn't plan to own the home for that long), and any time a cohort of loans prepays faster than the other, you'll see fewer delinquencies. It's like certain drug trials on older patients: you can't tell what the long-term side effects are because they're not necessarily going to live long enough to have any. In order to test for a true "ARM effect," you have to conrol for all that.
This paper is really interesting if you have a high tolerance for technical detail, and has some interesting conclusions specifically for FRM v. ARM as it applies to the subprime market:
http://research.stlouisfed.org/wp/2006/2006-042.pdf
public vs private lending should reflect the proper risk standards.
If the gov't has to save the bank or lender since they made a series of bad loans then the underwriting standards should be very high. For home loans 20% down and complete documentation at the 30 year or 15 year rate, period.
If a private corporation or individuals want to loan money out to individuals and use lower standards, I could care less, just don't come to the gov't and ask for a bail out.
People with 4% mortgage loans had children who concealed mom and pop's deaths in order to keep from having to pay them off.
Like Green Bay Packer season tickets - I bet you didn't know that half the folks at Lambeau are really dead... silly cheeseheads.
I remember those 12% days - I posted on that a few days ago when I found a copy of the Minneapolis Tribune newspaper from the day after the 'Miracle On Ice' game my late father had saved... next to the game article is one talking about how banks had just raised the prime rate three quarters of a percent in one day to 16 plus percent... based on inflation news (it was only at 18 plus annual percent - where's the beef?)... ah 1980.
But Tanta - I'll be honest I don't see that happening anytime too soon given the liquidity pouring in out of Asia & from petrodollars. I think we (like our parents - at least mine - who thought the depression would return again at any minute) are guilty of fighting our own 'last war' - the 70s inflation war.
Shits gonna fly but it likely won't be a rehash of the 70s - except for maybe the platform shoes.
At least not until some other macro-economic event burns up, shuts off and sticks a spike in the heart of the post-1997 Asian Crisis CB reserves binge. That source of liquidity will remain the fuel for the kind of innovations Bob_in_MA suggests... when it is gone then the game gets serious.
Thoughts? Comments?
Just to give you an idea of how the 'last war' mentality can lead us astray... read the latest on the Thai Baht redux the last few days... just like 1997 except not quite...
From Mish: Monetary Shock Therapy - read the part on 'Thailand - EDAA, Every Day Another Adventure'... chronicles the events leading up to & recent currency brouhaha over there.
And of course Setser's Blog: Crises of too much v crises of too little
How this time its the Asian's (in this case the Thai's) not wanting more investment IN their country rather trying to keep money out & find a home OUTSIDE their country for their massive & growing reserve accumulations in places like... our MBS market.
The system is as sick as it's ever been but a different disease. The same as before, only different.
This insanity will likely play a huge role in how our debt/credit markets & future credit cycles play out. That and how hedge funds participate in the 'mediating the risks'.
I can't believe the regulators have a clue what's coming - not that I do either... We are all sort of like dinosaurs looking out across the serene Cretaceous landscape and thinking... my what a large and lovely falling star.
Make a wish.
I was a member of the institution that started marketing and selling 2/28s. The 2/28 was not a prime program then and only a few Alt A lenders securitize it now. It's valued as a monthy Libor as 2-year interest rate swaps are used as its "index"
Before that, low score borrowers had only two options; a 6-month adjustable rate mortgage or a 30-year fixed rate. Fixed rates were incredibly high back then, and generally made no sense for most borrowers. The idea was that most lenders were selling borrowers that if they kept their nose clean for a couple of years, the borrower could call the lender back after 2 years and get a FNMA rate on a refinance since A paper generally had a 2-year credit look-back. If this was the way subprime was being sold--who would want a high rate loan for 30 years?--why not develop a program that encapsulated this idea and gave the borrower the best rate possible with some level of rate certainty.
The 2/28 has been hugely successful and has helped transitioned many borrowers from non-prime, whom because of major life events had severe credit issues and were not "bankable", to A paper borrowers.
All this recent interjection by the regulators is once again incoherent and really not relevant to today's mortgage economy.
Anyone who is in the business knows that there have been major changes to credit guidelines over the past year and there are more breaking as the new year begins. The rating agencies, IBs and mortgage bankers are not in the business to lose money. So while not at all altrusitic perhaps at its core, the real policing of the industry is being done by the players not the on-lookers.
The 2/28 has been hugely successful and has helped transitioned many borrowers from non-prime
Do you have any actual evidence for that claim? You know, I hear this a lot, and everyone can always cough up an anecdote, but when I see the actual statistics on the growth of the subprime market, I have to wonder how the subprime industry is managing to add so many loans each year--mostly refinances--while altruistically helping people become prime borrowers. I'd also like to know how that thing about how you can refinance to agency after two years squares with those prepayment penalties. Do they all end at 24 months?
I also have to wonder why, if the point is to help borrowers get a 2-year payment history to qualify them for prime loans, you can still find subprime mortgage servicers who don't report to the credit bureaus.
You know, I don't object to providing credit at the appropriate cost to people who need to start over. I do object to extracting that cost in the form of outrageous fees added to the loan balance each two years as the borrower is turned into a serial subprime refinancer by the effect of the deadly payment shock on a 2/28.
How about a requirement that pre-payment penalties never outlast the fixed/teaser/non-amortizing period of the loan? At least then those who experience shock won't have to pay a penaltly. Although this wouldn't provide much help for the legions of upside-down FBs.
And of course thanks Tanta, I usually learn alot when reading your posts.
Do you have any actual evidence for that claim?
Yes I do. The reason why the subprime indistry has grown so much is beciause of the blurring of the line between subprime and Alt A. Sub prme lenders(the wholesalers) have really been Alt A lenders in disguise(from an origination point of view) Do you realize, even today, a mortgage broker can obtain wholesale financing that is about 25 bps lower in price on a subprime 2/28 vs a 5/25 Alt offering? If you look at the industry's average funded fico the last few years, you will note the average has been in the mid to upper 600s. If you look at the segmented population of Fico scores over the past years, you will see little change in the percentage of consumers in the different buckets Fico buckets.
No, Ficos have not dropped. Sub prime lenders have just been better at originating Alt A biz.
We can have a philosophical discussion about pre-payment penalities if you like, but the bottom line is that in today's structured finance markets, duration is key driver in value and makes the market for these types of securities. Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership. Abuses do occur, and borrowers still have to perform, but most do and should not be penalized by the actions of others.
"I'd also like to know how that thing about how you can refinance to agency after two years squares with those prepayment penalties. Do they all end at 24 months?"
Of the pools I have seen 95% of the 2/28s have 2-year pps. Interestingly, the Alt A products have generally longer PPs(3 years or more).
Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership.
This idea that J6P MUST be a homeowner to realize financial gain is turning people into speculators that cannot affort to play the game.
Most are just getting by and have moderate credit scores, with significant additional home debt burden these same people will face BK
and higher proverty rates rather then financial gain.
The Mortgage industry, political parties, and gov't underwriting of these higher risk loans comes at a terrible human cost and does the lower income buyer a horrible disservice.
Tanta,Thanks for the post. In 1982 when I was Treasurer of a government affiliated organization we did a very detailed scenario type analysis of borrowing options. A 25 year bond with rate adjustments ever 5 years provided the best risk/return combination in our situation. (our revenues and cash flow increased with inflation) For borrowers whose salaries can be expected to move with inflation the conclusion would often be the same. A hybrid mortgage with rate adjustments every 5 years would be low risk even without rate caps. This assumes the rates on adjustment are set by the same formula as the initial rate.
"So while not at all altrusitic perhaps at its core, the real policing of the industry is being done by the players not the on-lookers."
Producer,
That's exactly what was said in regards to the S&Ls, just get the regulators off their backs and leave it to the market to regulate. Worked like a charm.
Abuses do occur, and borrowers still have to perform, but most do and should not be penalized by the actions of others.
Kinda applies to everyone... so why keep money in vaults? Why have locks on your doors?
Without the 2/28, the sub prime borower would have higher rates and less chance of participating in home ownership.
Oh... absolutely. The Fed/GSE Fount of Easy Credit has definitely HELPED buyers, no doubt about it. Why, the average house in my neck of the woods (LA County) is now well above $half a million --closer to a full million if you don't wish to dodge bullets.
And the ONLY way most families can afford them is to take out stated-income, neg-am, hybrid loans with teaser rates. Yup, this lending environment has definitely HELPED out the working class here... right into bankruptcy and Foreclosure City.
Thanks for setting all the "Gloom-' n-Doomers" here straight, Producer! And remember, the (broker's) definition of "viable" loan: any loan that generates a commission.
"Oh... absolutely. The Fed/GSE Fount of Easy Credit has definitely HELPED buyers, no doubt about it. Why, the average house in my neck of the woods (LA County) is now well above $half a million --closer to a full million if you don't wish to dodge bullets."
I was articulating the benefits of the structure, not debating the qualification standards.
"Thanks for setting all the "Gloom-' n-Doomers" here straight, Producer! And remember, the (broker's) definition of "viable" loan: any loan that generates a commission."
That may be true, but again does not have any relevance to the issue of structure.
Kinda applies to everyone... so why keep money in vaults? Why have locks on your doors?
Not sure I understand your point.
That's exactly what was said in regards to the S&Ls, just get the regulators off their backs and leave it to the market to regulate. Worked like a charm.
I agree, and I am all for appropriate regulation, but the S&L debacle and the last 3 years of umprecendented equity appreciation are not the same animal.
"And the ONLY way most families can afford them is to take out stated-income, neg-am, hybrid loans with teaser rates. Yup, this lending environment has definitely HELPED out the working class here... right into bankruptcy and Foreclosure City."
Ok, so they do not have to apply for the loan. They could just say, no, I rather not take that type of loan and instead will continue to rent.I am not sure the lending "environment" is or should be designed to help out the "working class" whom ever that may be.
Not sure I understand your point.
I'm sure you understand it perfectly.
Regulations aren't there just to make your life complicated. They are there to make sure the foxes don't run of with all the chickens.
The majority of us aren't ever going to 'abuse the system' regardless of whether regulations are required for loans or if there are locks on banks vaults.
But the regulations aren't for the majority of us - they are for the minority of us that can't be trusted out of dishonesty or incompetence.
And without tests & guidelines and then checks & balances & collaterals... the dishonest and the incompetent do exactly that - run off with the chickens (or money).
And it is very hard to differentiate the honest & competent from dishonest & incompetent a priori without some pretty serious scrutiny.
Even then it isn't 100%. But better than nothing.
You know... similar to what a famous socialist once said "Trust but verify."
Many of the current crop of financial innovations - like the 2/28s - ought to require FAR MORE documentation & oversight than a regular 20 down 30 FRM not less.
And greater disclosure & warranties to the downstream buyers of the securitized MBS resulting from this junk.
And no one should be allowed to get no doc liars without serious up front collateral.
To do anything else is the equivalent of removing the locks from bank vaults and replacing the guards with Barney Fife.
But we wouldn't want to wreck it for everyone just because of 'a few abuses by others'. Right?
"The majority of us aren't ever going to 'abuse the system' regardless of whether regulations are required for loans or if there are locks on banks vaults.
But the regulations aren't for the majority of us - they are for the minority of us that can't be trusted out of dishonesty or incompetence."
So if some people cannot pay their bills, stop offering financing?
The reason the 2/28 exists is because some people have not paid their bills but seek a second chance. The capital markets see value in offering a lower coupon for a product that has a two year life...wow, two separate interests finding common ground which results in value for all.
Most of these band-aid borrowers make the payments and move on, some do not. The market makers re-factor the results and now you have a financial vehicle that works.
I agree that the qualification standards must be revisited and modified where needed so the program continues to be viable.
That said, some will perform others not. In fact, regardless of my comment earlier, the performing borrowers do pay for the non-performance of others. It's not socialism, it's imperfect capitalism.
So if some people cannot pay their bills, stop offering financing?
Certainly don't offer more additional debt than they can pay - regardless of how it is structured. Far better to offer less (or even nothing) within a structure they can perform well in over the whole loan horizon - low LTV, sizable down payment and stable certain affordable payment schedule... if that means a smaller total loan package, so be it.
I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?
Secondly - I own some bonds. I expect to get paid back - both P & I. If you're giving my money to people, I want to be damned sure they can pay it back. Give them the second chance with your own money.
Besides there is almost no 'second chance' quality in the 2/28s & many other exotics... more like commissioned indentured servitude... commission for the broker & servitude for the borrower & risk for the lender. Only one winner & guess which of the three is defending the program?
"Secondly - I own some bonds. I expect to get paid back - both P & I. If you're giving my money to people, I want to be damned sure they can pay it back. Give them the second chance with your own money."
Then don't buy asset-backed bonds. Is someone holding a gun to your head?Purchase municipals.
"I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?"
How do you know what they can afford? have you written the book on who pays their mortgages. Many lenders/investors are fine with slow-pays. Everything else being equal, there is nothing wrong with them accessing the financial markets if they are willing to pay the price.
Besides there is almost no 'second chance' quality in the 2/28s & many other exotics... more like commissioned indentured servitude... commission for the broker & servitude for the borrower & risk for the lender. Only one winner & guess which of the three is defending the program?
This is a philosophical rant which exposes less than accurate understanding of how certain financial products work, so it cannot be addressed with logic.
Producer,
"I agree, and I am all for appropriate regulation, but the S&L debacle and the last 3 years of umprecendented equity appreciation are not the same animal."
Um, so it's different this time? hmmm... where have I heard that before?
But rather than get in a mindless tit for tat, since you are in the business let me ask you this. It seems to me that with the big increase in private-label securitization, and simultaneously, the use of third-party mortgage brokers, there is now a large gulf between those with a first hand knowledge of a borrower's true situation and those holding the risk.
Lewis Ranieri, at the recent Office of Thrift Supervision's National Housing Forum, basicly said his firm has stopped buying loans because the data is so scrace and unreliable. Apparently he was in on the development of these products.
And some of the fraud cases that have come to light are more interesting for what they reveal about the process than the instances of fraud themselves. It seems if someone can find a compliant mortgage broker, title company and appraiser, pretty much nothing is too ridiculous to get by lenders. And all three of those businesses are essentially in a recession with incomes dropping, so finding compliant agents is probably easier than ever. The guys in St. Pete were just noticed because the same few people were involved in 10-12 transactions all paying $100,000 or more than the asking prices.
And what's really amazing is they haven't even been charged with a crime. They apparently didn't even need to break the law to make a mockery of the checks and balances supposedly preventing this kind of thing.
dryfly:
"I mean did it dawn on you that maybe the reason they can't pay their bills now is that some body - in the past - already offered them more financing than they could afford? How does adding to that help them?"
Um, the world's a complex place. People default for a large number of reasons, only one of which is that their payment ability is forever lower than their commitment. People get sick, divorced, have unexpected children, lose jobs, have investments go sour, have businesses fail ... the reasons are almost endless. To treat these all as mortal borrower's sin is absurd.
"It seems to me that with the big increase in private-label securitization, and simultaneously, the use of third-party mortgage brokers, there is now a large gulf between those with a first hand knowledge of a borrower's true situation and those holding the risk."
I am trying to find the question in your response, but I will address a couple of your comments.
The mortgage broker has been an industry participant for the last 30 years--long before sub prime loans were being securitized. While you can certainly argue the difference between first-hand knowledge of a borrower and their situation and reviewing loan characteristics on a spreadsheet, I know the raters, securitizers, aggregators and buyers of the bonds are not blind or in the dark as to what they are buying. Fraud aside, the rating agencies, buyers and IB underwriters set the "rules" and the originator follows. That's a very simplistic explanation I know, but I am an impatient writer with little skill with composition and even less with typing.
There has always been this talk of the Street wanting to get closer to the borrower and some have indeed made efforts recently with acquiring direct origination channels, but there is a reason why mortgage brokers have survived through all the talk of their demise--they are the cheapest and most consistent origination channel out there. They exist because Wall Street wants and needs them to exist
And some of the fraud cases that have come to light are more interesting for what they reveal about the process than the instances of fraud themselves. It seems if someone can find a compliant mortgage broker, title company and appraiser, pretty much nothing is too ridiculous to get by lenders. And all three of those businesses are essentially in a recession with incomes dropping, so finding compliant agents is probably easier than ever. The guys in St. Pete were just noticed because the same few people were involved in 10-12 transactions all paying $100,000 or more than the asking prices.
Yes, fraud is a huge problem right now. Really always has been, but now that the appreciation tide is going out, it's exposing a lot of submerged rot that really is troubling. Like wise with shoplifting in retail, if you could get rid of the fraud, transacting a home purchase or refi would be so much easier than it is and much cheaper. Mortgage brokers are source of the problem for sure and the industry is getting better at rooting out the participants, but there is much more to be done.
A lot of lenders just have done a poor job of using quality control and audit measures to filter the stuff out. The tools are out there and more are becoming available everyday. Maybe surprisingly to some, but A and Alt A lenders probably have been the worst offenders. Most buyers will tell
you the the profile of a fraudulent loan right now is a very high credit score, stated doc with stated assets and a high ltv. An average, everyday Alt A program.
http://thumbsnap.com/v/VHL1wZcW.jpg
Well, it seems the foxes have formed a Chicken Benevolent Society. I suppose that's supposed to be a sun, but it looks more like a large beast bit a hunk out of the roof. From the back:
The Anti-Predatory Lending Mark ("Mark") is not an entity endorsing Solstice Capital Group, Inc. The Mark is owned and created by Solstice Capital Group, Inc. to support policies against unfair lending practices including aggressive sales tactics and deception.
Hmm. There's another meaning to "the mark", and I think Solstice Capital think's I'm it.
Econoclast
Producer,
You are sounding very naive, "...the rating agencies, buyers and IB underwriters set the "rules" and the originator follows."
Don't you mean, is supposed to follow?
Frankly, your posts here have reinforced my impression that those producing these loans and bonds are actively not noticing what goes on, in the same way the government, until recently, has not noticed that there were boatloads of illegal immigrants working with what were clearly fraudulant documentation.
Would you have us believe you are unaware that 95% of no-doc borrowers exaggerate their income, 60% exaggerated by 50%. And you think the brokers were completely unaware of that? What consequence would the broker suffer if he merely had not noticed? None. He holds no risk. He earns his money based purely on commission, and unless he commits outright fraud, like encouraging a borrower to exaggerate income, and was stupid enough to put it in writing, he stands almost zero chance of facing any consequences.
Likewise with the appraiser, paid a tiny commission and under obvious pressure to get the loan approved if he wants to get called next time. If he exaggerates the cvalue of a house by 10%, who's to say it was fraud and not a mis-judgement?
It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements.
Thank you, I feel a little more secure owning my mortgage lender puts.
"Would you have us believe you are unaware that 95% of no-doc borrowers exaggerate their income, 60% exaggerated by 50%. And you think the brokers were completely unaware of that? What consequence would the broker suffer if he merely had not noticed? None. He holds no risk. He earns his money based purely on commission, and unless he commits outright fraud, like encouraging a borrower to exaggerate income, and was stupid enough to put it in writing, he stands almost zero chance of facing any consequences.
Likewise with the appraiser, paid a tiny commission and under obvious pressure to get the loan approved if he wants to get called next time. If he exaggerates the cvalue of a house by 10%, who's to say it was fraud and not a mis-judgement?
It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements."
And that is the point, the industry is aware of it, just like it has been for 30 years. No one is in the dark.
Not all mortgage brokers or lenders(retail lenders can be and are just as unscupulous as brokers ) cheat, many are responsible professionals. Most transactions are clean. Borrowers by the data I see are as often the conspirator as the industry participants.
Mortgage brokers sign buy-back agreements but generally its useless since they are often less than capable financially, although it does happen from time to time.
Bottom line is that brokers and lenders make their money by originating loans so there is a bias towards getting the deal done. As with real estate brokers and stockbrokers, unless you fundamentally change the compensation structure, it will be what it is...
I think puts on mortgage lenders is generally a good idea right now, but not for the reasons you may think.
"It seems a little odd that someone in your business is completely unaware that greed and self-interest might cloud these peoples' judgements."
And what industry does not involve greed and self-interest?
You are sounding very naive, "...the rating agencies, buyers and IB underwriters set the "rules" and the originator follows."
Don't you mean, is supposed to follow?
Yes, and mortage brokers do not underwrite, approve or fund loans, lenders do.