Why Wall Street is worried

[almaty 19]

In normal times, Wall Street's high-rollers pay scant attention to what's happening to Americans at the other end of the income scale.

The poorer suburbs and the trailer parks barely rate a glance as they speed off to their lavish weekend homes.

Events over the past few weeks have changed all that. Suddenly, Wall Street's Masters of the Universe are intensely interested in the looming crisis in the sub-prime mortgage market - home loans extended to those with low incomes and poor credit ratings.

The fear is that loans extended with reckless abandon to those unable to pay them back are now turning sour en masse and that what threatens to be the biggest wave of foreclosures in the modern era could spell serious trouble not just for the US but for the global economy.

Stock markets are already trembling following the collapse of New Century Financial - one of the major players in the sub-prime market - and the release of data yesterday showing the number of loans in default is steadily rising.

One estimate suggests that one-in-five sub-prime loans written in the past two years is likely to end in foreclosure - around two million in all.

Only recently has the scale of the potential problem started to be recognised. Sub-prime mortgages totalled $600bn last year, accounting for about one-fifth of the US home-loan market. An estimated $1.3 trillion in sub-prime mortgages - equivalent in size to the economy of California - are currently outstanding.

This is no longer a niche market: sub-prime mortgages account for one quarter of new US home loans, reflecting the difficulty many Americans have in scrambling on the housing ladder in an era when property prices have been rising and wages have been rising sluggishly.

What happened is that a few years ago, when interest rates were low and the US financial sector was awash with cash, lenders were keen to make loans and allowed people to take out mortgages when they were not earning enough to keep up the payments. Often, lenders did not make even the most basic of checks to see whether borrowers had the financial wherewithal to pay back what they owed.

This was a huge and lucrative market for the US financial sector. Some 40% of Americans are classed as sub-prime - essentially not having high enough Fico ratings to be lent to by a Federal Reserve-backed institution. Fico scores are rankings created by Fair Isaac & Co Credit to determine whether customers will repay loans.

Wall Street encouraged this behaviour by bundling loans into securities that were sold to pension funds and hedge funds looking for higher returns.

While house prices were going up, these securities seemed a solid bet.

In reality, it was always an accident waiting to happen, and the accident has duly happened because borrowers are seeing their period of low interest rates come to an end at a time when the cost of borrowing has gone up and house prices have ceased to rise.

The problem is likely to be amplified by the way loans were structured.

The Center for Responsible Lending in the US said sub-prime mortgages routinely include features that increase the risk of foreclosure such as adjustable interest rates and loans with limited documentation of borrowers' loan qualifications.

"We note that the dominant type of sub-prime loan today is an adjustable-rate mortgage called a 2/28 that features semi-annual interest rate adjustment after a two-year fixed rate period.

The initial fixed rate is often a discounted or "teaser" rate, so the rate adjustment can lead to a significantly higher payment. Because of the resulting payment shock, these loans are sometimes referred to as "exploding ARMs".

It added that the chance of foreclosure on a sub-prime loan doubled between 2002 and 2005.

Sub-prime loans originated in 2002 had a one-in-10 lifetime chance of foreclosing, but for loans originated in 2005 and 2006, the probability rises to one in five.

"Multiple sub-prime loans boost foreclosure risk even higher", the CRL said. "Lenders often portray sub-prime loans as a stepping-stone to a prime loan. In reality, many borrowers in the sub-prime market refinance from one sub-prime loan to another, losing equity each time to cover the cost of getting a new loan.

"When we analyse the likelihood of foreclosure for borrowers who repeatedly refinance, we find that the risk of losing the home climbs to 36%.

"As housing appreciation slows, sub-prime foreclosures will rise even higher in the future. The losses will inevitably have ripple effects throughout the economy and our society as over 2 million families lose their physical shelter, their major source of financial security, and the social benefits of homeownership."

Slower growth in the US will have an impact on the rest of the world in two ways.

Firstly, financial markets will be jittery. Secondly, the US has soaked up the lion's share of the exports from countries in Asia, especially China.

The latest figures show that the former housing hotspots are likely to see the biggest fall out from the sub-prime mortgage crisis, with cities in California, Nevada, New Jersey, New York, Michigan and the greater Washington DC area poised for high rates of sub-prime foreclosures. African-American and Latino homeowners have received a disproportionate share of sub-prime loans.

Politically, this is bad news for George Bush, already suffering poor poll ratings as a result of Iraq. It was the farm foreclosures in the 1930s that gave rise to one of the classics of modern literature - the Grapes of Wrath - and the dust bowl era still has a resonance with ordinary literature.

But politics is not the only way the victims of the sub-prime mortgage crisis can get even. Analysts are braced for a host of class action suits for the misselling of mortgages. The lawyers are licking their lips.

[almaty 19]

reads like a clusterfuck to me

[zyggy 9]

In normal times, Wall Street's high-rollers pay scant attention to what's happening to Americans at the other end of the income scale.

The poorer suburbs and the trailer parks barely rate a glance as they speed off to their lavish weekend homes.

Events over the past few weeks have changed all that. Suddenly, Wall Street's Masters of the Universe are intensely interested in the looming crisis in the sub-prime mortgage market - home loans extended to those with low incomes and poor credit ratings.

The fear is that loans extended with reckless abandon to those unable to pay them back are now turning sour en masse and that what threatens to be the biggest wave of foreclosures in the modern era could spell serious trouble not just for the US but for the global economy.

Stock markets are already trembling following the collapse of New Century Financial - one of the major players in the sub-prime market - and the release of data yesterday showing the number of loans in default is steadily rising.

One estimate suggests that one-in-five sub-prime loans written in the past two years is likely to end in foreclosure - around two million in all.

Only recently has the scale of the potential problem started to be recognised. Sub-prime mortgages totalled $600bn last year, accounting for about one-fifth of the US home-loan market. An estimated $1.3 trillion in sub-prime mortgages - equivalent in size to the economy of California - are currently outstanding.

This is no longer a niche market: sub-prime mortgages account for one quarter of new US home loans, reflecting the difficulty many Americans have in scrambling on the housing ladder in an era when property prices have been rising and wages have been rising sluggishly.

What happened is that a few years ago, when interest rates were low and the US financial sector was awash with cash, lenders were keen to make loans and allowed people to take out mortgages when they were not earning enough to keep up the payments. Often, lenders did not make even the most basic of checks to see whether borrowers had the financial wherewithal to pay back what they owed.

This was a huge and lucrative market for the US financial sector. Some 40% of Americans are classed as sub-prime - essentially not having high enough Fico ratings to be lent to by a Federal Reserve-backed institution. Fico scores are rankings created by Fair Isaac & Co Credit to determine whether customers will repay loans.

Wall Street encouraged this behaviour by bundling loans into securities that were sold to pension funds and hedge funds looking for higher returns.

While house prices were going up, these securities seemed a solid bet.

In reality, it was always an accident waiting to happen, and the accident has duly happened because borrowers are seeing their period of low interest rates come to an end at a time when the cost of borrowing has gone up and house prices have ceased to rise.

The problem is likely to be amplified by the way loans were structured.

The Center for Responsible Lending in the US said sub-prime mortgages routinely include features that increase the risk of foreclosure such as adjustable interest rates and loans with limited documentation of borrowers' loan qualifications.

"We note that the dominant type of sub-prime loan today is an adjustable-rate mortgage called a 2/28 that features semi-annual interest rate adjustment after a two-year fixed rate period.

The initial fixed rate is often a discounted or "teaser" rate, so the rate adjustment can lead to a significantly higher payment. Because of the resulting payment shock, these loans are sometimes referred to as "exploding ARMs".

It added that the chance of foreclosure on a sub-prime loan doubled between 2002 and 2005.

Sub-prime loans originated in 2002 had a one-in-10 lifetime chance of foreclosing, but for loans originated in 2005 and 2006, the probability rises to one in five.

"Multiple sub-prime loans boost foreclosure risk even higher", the CRL said. "Lenders often portray sub-prime loans as a stepping-stone to a prime loan. In reality, many borrowers in the sub-prime market refinance from one sub-prime loan to another, losing equity each time to cover the cost of getting a new loan.

"When we analyse the likelihood of foreclosure for borrowers who repeatedly refinance, we find that the risk of losing the home climbs to 36%.

"As housing appreciation slows, sub-prime foreclosures will rise even higher in the future. The losses will inevitably have ripple effects throughout the economy and our society as over 2 million families lose their physical shelter, their major source of financial security, and the social benefits of homeownership."

Slower growth in the US will have an impact on the rest of the world in two ways.

Firstly, financial markets will be jittery. Secondly, the US has soaked up the lion's share of the exports from countries in Asia, especially China.

The latest figures show that the former housing hotspots are likely to see the biggest fall out from the sub-prime mortgage crisis, with cities in California, Nevada, New Jersey, New York, Michigan and the greater Washington DC area poised for high rates of sub-prime foreclosures. African-American and Latino homeowners have received a disproportionate share of sub-prime loans.

Politically, this is bad news for George Bush, already suffering poor poll ratings as a result of Iraq. It was the farm foreclosures in the 1930s that gave rise to one of the classics of modern literature - the Grapes of Wrath - and the dust bowl era still has a resonance with ordinary literature.

But politics is not the only way the victims of the sub-prime mortgage crisis can get even. Analysts are braced for a host of class action suits for the misselling of mortgages. The lawyers are licking their lips.

We're seeing a lot of that in the Detroit area where people got 3 or 5 year ARMs and are now coming due with the tripple whammy of loans that bear a higher interest rate that they were when they first got their mortgage, no to little down payment so that have no equity, and being upside down because the real estate market here has totally tanked with housing prices down about 10 to 20% from where they were two years ago...

The newspaper is full of foreclosure auctions and I've seen lots of people who had their houses foreclosed on in the last year... Which just makes it worse for the people who just want to get out of their house..

[Jasman0717 9]

My head is spinning

[almaty 19]

i agree brother zyggy..same here even in a small town of alton, they are taking more and expanding the legal section of the ads.

i had a few clients who jumped in this, telling me it was cheaper than rent and they were homeowners down..now, they are perplexed that the payment has almost doubled...

[dalegg 143]

Hopefully this will translate into fixed interest rates going down to 5% again, and not into a dramatic house price collapse before that. I just need one more refinance and I'll be set!

[JohnK 0]

Sounds like a good time to go house shopping!

[Mr. Big Dog 10,747]

Wall Street is worried? Wall Street should have worried prior to fueling this insanity.

[Hilarious Clinton 452]

Who saw this coming? Oh yeah.... everyone.

[almaty 19]

Who saw this coming? Oh yeah.... everyone.

agreed..

[almaty 19]

Who saw this coming? Oh yeah.... everyone.

agreed..