Mortgage Defaults Start to Spread
 

Wallstreet Journal This Morning. Here is where the the bottom will fall out of the market.

http://online.wsj.com/article/SB117271866822722900.html?mod=home_whats_news_us

Mortgage Defaults Start to Spread
New Data Show That Nontraditional Loans Are Beginning
To Haunt Borrowers With Midlevel Credit; Prime Still Fine
By RUTH SIMON and JAMES R. HAGERTY
March 1, 2007; Page D1

The mortgage market has been roiled by a sharp increase in bad loans made to borrowers with weak credit. Now there are signs that the pain is spreading upward.

At issue are mortgages made to people who fall in the gray area between "prime" (borrowers considered the best credit risks) and "subprime" (borrowers considered the greatest credit risks). A record $400 billion of these midlevel loans -- which are known in the industry as "Alt-A" mortgages -- were originated last year, up from $85 billion in 2003, according to Inside Mortgage Finance, a trade publication. Alt-A loans accounted for roughly 16% of mortgage originations last year and subprime loans an additional 24%.

The catch-all Alt-A category includes many of the innovative products that helped fuel the housing boom, such as mortgages that carry little, if any, documentation of income or assets, and so-called option adjustable-rate mortgages, which give borrowers multiple payment choices but can lead to a rising loan balance. Loans taken by investors buying homes they don't plan to occupy themselves can also fall into the Alt-A category.

Borrowers who take out Alt-A mortgages are considered less risky than subprime borrowers because of their higher credit scores. But as the housing market cooled and loan volume declined, some lenders lowered their standards for Alt-As. Now a rising number of borrowers who took out these loans are running into trouble.

Data from UBS AG show that the default rate for Alt-A mortgages has doubled in the past 14 months. "The credit deterioration has been almost parallel to what's been happening in the subprime market," says UBS mortgage analyst David Liu. The UBS report contrasts with testimony Federal Reserve Board Chairman Ben Bernanke gave to Congress yesterday. "Our assessment is that there's not much indication that subprime issues have spread into the broader mortgage market," Mr. Bernanke said.

To be sure, defaults have remained very low in the prime market -- and despite the uptick in bad loans, the problems in the Alt-A sector aren't as severe as those that have roiled the subprime market. Some 2.4% of Alt-A loans are at least 60 days past due, according to UBS, which looked at mortgages that were packaged into securities and sold to investors. That is well below the 10.5% delinquency rate for subprime mortgages. (During the housing boom, delinquencies were low for all types of loans because borrowers who wound up in trouble could refinance or sell.)

Some borrowers who took out Alt-A loans in recent years are starting to feel the strain. Johnny and Shirley Johnson, retirees in Cleveland, took out an option ARM when they refinanced their $92,700 mortgage in July 2005. The loan carried a 3.5% introductory rate that began moving upward a few months later. The couple, who live on a fixed income, are currently making the minimum payment on their loan. But they are afraid they won't be able to keep up with their loan and other debts once their monthly mortgage payment adjusts upward later this year.

"We don't want to lose our home," says Ms. Johnson. The couple is working with Acorn Housing Corp., a nonprofit group that provides housing counseling, in an effort to refinance into a 30-year fixed-rate mortgage. Though the monthly payment would be higher, the new loan would protect them against future increases.

Housing counselors and bankruptcy attorneys say they are seeing an increase in troubled borrowers who previously had good credit. "We have clients with 720-plus credit scores, and they are in awful products," says Jennifer Harris, executive director of the Home Loan Counseling Center in Sacramento, Calif. Some of these borrowers took out option ARMs with low introductory rates and are likely to fall behind when their monthly payment resets at a higher level, she says.

Thomas Gorman, a bankruptcy attorney in Alexandria, Va., says he is seeing more financially strapped borrowers who "probably bought more house than they could afford and then took on more credit-card debt" to furnish the house and pay for the move. When the housing market cooled, they were "caught in the middle," unable to sell their home or refinance and make their debt load more manageable.

Lenders are also tightening their standards. At a meeting with investors last week, IndyMac Bancorp Inc., the nation's largest Alt-A lender, said it had raised the minimum credit score at which borrowers could finance 100% of a home's value and took a number of other steps to tighten lending guidelines.

This week Lehman Brothers Holdings Inc.'s Aurora Loan Services unit raised the minimum credit score and reduced the maximum amount homeowners could borrower without documenting their income and assets.

Impac Mortgage Holdings Inc., which specializes in Alt-A loans, said recently that it had tightened its lending standards 17 times last year. The company cut back on riskier loans and began relying more on analytical tools to verify a borrower's income and creditworthiness. Other lenders were quick to scoop up many of those loans, but now they are also pulling back, says Impac President Bill Ashmore.

Lou Barnes, a mortgage banker in Boulder, Colo., says a client with a good credit score was turned down this week for a mortgage to buy an investment property with a small down payment and no documentation. That same borrower was approved for a "nearly identical" loan in August and November, he says. Still, Mr. Barnes calls the tightening "modest." Alt-A lenders are "nibbling at the edges," he says.

The UBS study found that the problems are greatest for Alt-A borrowers who took out interest-only adjustable-rate mortgages, which allow borrowers to pay interest and no principal in the loan's early years, with 3.71% of interest-only ARMs originated in 2006 at least 60 days past due. As in the subprime sector, the riskiest loans are those made to home buyers who put little, if any, money down and don't document their income or assets.

As delinquencies rise, some investors who bought lower-rated securities backed by these mortgages are likely to face losses, according to Mr. Liu of UBS. While defaults are expected to be lower than in the subprime sector, so are the reserves set aside to cushion bond investors against such losses.

Defaults are much lower for option ARMs. But the problems with these loans could be "backloaded," says Mr. Liu, because borrowers with these loans are still making the minimum payment.

Glenn Costello, a managing director at Fitch Ratings Inc. in New York, expects the foreclosure rate for Alt-A loans to ultimately be only 10% to 20% of the rate for subprime borrowers.

Yet investor concerns about Alt-A loans are rising, according to Walter N. Schmidt, a mortgage investment strategist at FTN Financial Capital Markets in Chicago. A report from mortgage analysts at Barclays Capital in New York this week pointed to fraud as one reason for early defaults on Alt-A loans. The mortgage industry is battling a rash of cases in which borrowers, loan officers and appraisers collude in providing false information to induce lenders to advance more money than homes are worth.

Write to Ruth Simon at ruth.simon@wsj.com and James R. Hagerty at bob.hagerty@wsj.com

We really haven't seen any REAL damage yet in Alt -A. Wait about 2 more years or so when the Option arm minimum payments start to run out on these deals (Typically 5 years or when the existing balance exceeds the original balance by 15%- THEN YOU ARE FORCED TO REAMORTIZE THE LOAN INTO FULL PAYMENTS FOR THE REMAINING TERM)

Yep, payment shock will really ensue. In most markets where housing is flat or declining more and more borrowers will be forced to upgrade to more traditional 1st + 2nd financing to stop the equity bleeding from these loans. Fortunately, awhile back it was tough to get over 80% on an option arm loan, so some of these borrowers may still have a chance to get out -- however there are a few at 100% CLTV that have been sold recently.

Problem is, going from Option Arm (Neg AM) to a traditional loan or even I/O it's going to increase the average monthly payments 25% + over the existing payments -so if the lack of equity didn't kill you, the payment will. Couple that with some extra car payments and credit cards and you're really screwed when that day comes.

Best scenario are the borrowers in states where the value is still rising, - you MAY still be able to get away with a loan to get out if the new loan is under 80% of your existing value- which means you may still get a reasonable payemnt. However if you're in CA, AZ, NV, or CO for instance, kiss your a$$ goodbye.

rjp

I don't have a lot of sympathy for folks in Option ARM's. Why anyone believes they can get a 2-3% interest rate, when everyone else is getting rates more than twice that high, and thinks there's no catch pretty much deserves it. Option ARM's are excellent for people who understand how they work and arrange their finances accordingly. And unless those retirees are in their early 60's, there's not much point in getting a 30 yr. fixed loan, where the rate will be at least twice what their Option ARM was. They won't live long enough to pay it off. They're much better off taking out an ARM for a few yrs. and then maybe going with a reverse mortgage.

The pressure builds, you buy a gift
You're hoping that your dread will lift
It glitters on her like a glass
You shudder as it comes to pass
Apologize to Luce and Lil
Converse with Ed, a drive with Jill
Your friends confine you in their worlds
One by one, a string of pearls
Confused you say, this isn't me
You hover in their unity
Ashamed, you slowly lose your grasp
Release the links, undo the clasp
The skin that drips down from the tree
And peels back slowly from your knee
Erupts into your lung and heart
You laugh and laugh and fall apart

Soothing Words and a Stock Market Rebound

If those numbers are in any way correct, I can't believe anything other than the lending market is collapsing. Recent reports placed Alt-A and subprime as high as 55% of the total market. Funny thing is MBA index is still hovering just above fall lows, and housing sales haven't really stalled. However, the major changes in lending won't show up until Feb sales numbers hit later this month.


Basically, if you want to buy low-rated bonds, you cannot get insurance, because the net yields would go negative. Imagine buying a bond paying 6%, but the credit default swap (insurance) costs 20% per year.

A few analysts have stated bids on lower rated securities are falling. Packages with subprime mortgages once got bids around 102. Now, bids are 98 or less. This implies the lenders are selling the loans at LOSS. That isn't a good way to stay in business. :(

I have no sympathy for anyone that has that type of mortgage and gets burned. Unfortunately the more defaults puts more houses on the market and everyone's home values decrease.

Problem is most people will have re-fied those loans by then into something else probably equally craptastic. I suspect a lot of these so-called "homeowners" will simply flip from one schit McMortgage to another over and over and over every few years. They'll never default, but they'll never put anything into equity by paying down principal either.

In the meantime, that keeps properties occupied and keeps prices artificially high, which banks, developers, mortgage brokers and realtors all like to see. Doesn't matter if they can really ever afford it, just put warm bodies in there and extract whatever you can for as long as you can. It's rent, basically. These people are being hooked with the word "homeowner", but they'll never REALLY have any ownership stake in the properties. It's simply a rent payment to a bank.

Kinda' pisses me off really, since this crap keeps other people (like myself) out of the market because I look at a $350,000 property as a $350,000 property - not a $1,600-a-month McMortgage like most of the scholckers out there today do. What they don't realize is they're going to be paying that $1,600 (later $2,200+) per month "mortgage" for the rest of their life in return for maybe a couple of grand worth of "equity" due to appreciation in 10 years that might barely cover closing costs for their next refi.

So much for the American Dream.

Well hasn't the housing market been as overvalued as the stockmarket? Does anyone really believe a 2 bedroom cottage on the water in SoCal is worth 2 million? Or better yet, a big house here in jersey, say 4000sq ft, going for 1 million?

So much for the American dream? I am hoping this stupid, way over priced market tanks so that real people can afford it. Do I feel sorry for people who are in over thier heads? Only to the extent that professionals should be looking out for them, not just trying to make a buck.

Part of the reason I left So-cal was to hand the keys to a sucker who would pay $650K for 1400 sq feet. At least I was by the Ocean. Those idiots who paid $500K for 2200 sq ft, 20-30 miles inland, so they can "claim" they live in San Diego, and meanwhile have temperatures not too far off from what I deal with in Houston.

No. You need to understand the basic economics of the area you are in. If they don't add up, they don't add up. Look at how long Tokyo's real estate has been sliding...

unless you downsize after you sell, and if it's your primary residence, your house is not an investment...

you only gain the privilege of paying higher RE taxes.

Let's say my house doubles in 5 years to $1 million dollars. so what? I can sell it, but where will I go? Unless I downsize to a smaller house, I haven't made any money. I've paid thousands in taxes/insurance/interest/maintenance over those years. And I personally wouldn't want to downsize. downsize is a bad word, means less garage space for my 911s, it means moving to a less desirable neighborhood, etc.

when someone tells you your primary house is a good investment, they are lying to you. A house is only a place you enjoy for all it offers. It's not an ATM machine. and it's certainly not a profit-maker. the financial institutions have brainwashed the general public - motives always drive the advice.

I live in an 800 sq ft cottage. No garage, unfinished DIRT basement. I was offered $250K because of the pond in the back, If I had somewhere else to go I'd be gone!

Actually for tax purposes the land is $200 the house is $50. I bought it for $47:D But since I'm going to die here none of it matters.

The next time I move I'M the only thing going into a box!

I'll give ya' triple the assessed value for it - a whole $750. Whaddya' say? :)

Well put man.

Good, I hope the bottom drops out. I'm looking to buy. Of course it won't be as much of an effect here in Texas because we never hit the ridiculous highs of the coasts...but still would be nice to be the shark in the water when there is blood around.