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Nearly a fifth of consumers with bad credit who borrowed money to buy a house in the past two years will default on their mortgages and lose their homes, an industry survey projects.
A study released Tuesday by the Center for Responsible Lending found subprime mortgage loans, or loans to consumers with blemished or limited credit histories, have become riskier due to a cooling housing market and relaxed lending standards.
CRL, a nonprofit research organization that fights predatory lending practices, predicted lenders will foreclose on 19 percent of the subprime mortgage loans issued in 2005 and the first three quarters of 2006.
The Mortgage Banker's Association responded to the study by arguing the Center used the most pessimistic numbers possible.
But the Mortgage Bankers Association, a trade group that represents the lending industry, says the Center for Responsible Lending's numbers offer a worst-case scenario. The association estimates that subprime loans account for 14 percent of the total number of mortgages outstanding.
"They're picking the most pessimistic scenario to draw their conclusions," said Doug Duncan, chief economist for the Washington group. "We don't share that degree of pessimism."
First -- this is only a study. The predictions have not come true yet. However, they shouldn't be surprising. We already have information that these loans are performing far worse than originally thought:
In a conference call titled "How Bad is Subprime Collateral?" Tom Zimmerman, head of ABS research for UBS, and David Liu, head of mortgage credit, discussed how much higher loan delinquencies and foreclosures are for 2006 subprime loans compared with similar subprime loans from earlier years -- the result of deteriorating underwriting quality from lenders combined with a slower housing market.
Still, despite the adverse conditions, "I guess we are a bit surprised at how fast this has unraveled," said Zimmerman. While it's "not a secret that subprime collateral has performed pretty disastrously so far," he said, "I must say we were a bit surprised by the magnitude with which" the loans "deteriorated this year."
The rate of subprime loan delinquencies of 60 days or more -- meaning borrowers are that far behind in their payments -- has climbed to about 8 percent, up from about 4.5 percent a year ago.
So -- the analysts are surprised by how quickly the market has turned bad. That's not an encouraging sign.
And this problem has been growing worse over the last two years:
Comparing loans of similar age, 2006 loans are performing worse than 2005, which are worse than 2004. In fact, given where delinquencies are now, loans from 2006 are on track to be among the worst-performing ever, along with the 2000 to 2001 years, according to UBS research.
And not only have delinquencies risen faster in 2006 than in earlier years, Liu noted in the presentation, but 2006 loans have entered the foreclosure process faster. In October 2006, the foreclosure rate was about 2 percent, while a year earlier it was 1 percent.
Recently, Congress held hearings on the "nontraditional" mortgage industry. The conclusion of all panel members was simple: The Risks of nontraditional loans were not fully disclosed to borrowers and new guidelines were required to increase disclosure.
Homeowners don't fully understand the risks associated with taking on alternative mortgages that allow interest-only payments or that eat into the equity in a home, federal officials told senators Wednesday.
At a hearing on so-called exotic mortgages before the Senate Banking Committee, U.S. banking regulators promised that long-awaited guidance to lenders on "exotic" mortgages would be released in final form in a few weeks.
......
In borrowers' rush to get into a house and lenders' desire to make the sale, "they aren't thinking about how much their payment will be five years down the road," said Kathryn Dick, deputy comptroller of the currency.
"Borrowers may not be well-informed about the risks," said Orice Williams of the Government Accountability Office, which found that lenders are not telling prospective buyers as they shop about the potential for a "payment shock." The disclosures that are made at the closing are "generally written with language too complex for many adults to fully understand," the GAO found.
And, in many cases, the disclosures are literally in the fine print, in a small and unreadable typeface, GAO said.
A Federal Reserve study showed that a significant percentage of borrowers do not understand the terms of their exotic loan, and they severely underestimate how much their payment could go up.
The short version of all this is simple: In a rush to get loans on the books, bankers did not fully disclose the risks associated with exotic mortgages. Now borrowers are defaulting at rates faster than expected.
Update [2006-12-21 12:29:28 by bonddad]:: Rep Brad Miller has joined us in this thread. For those of you who are unfamiliar with him, he is a Representative from North Carolina. He is literally one of the hardest working Representatives on the Hill. Here are two points he brought up in the comments.
According to FreddieMac, which buys mortages on the secondary market, one quarter of subprime borrowers qualified for prime loans but were steered into subprime loans by mortgage brokers or lending officers. Other estimates are that it's more like one in three.
Also, African-Americans pay about a quarter point more in interest than white folks, even after differences in income, credit score, loan to value, and every other objective factor are taken into account. So it costs more to borrow while black.
And there is this news -- which is really good:
One of the first items of business for the Financial Services Committee in the new Congress will be a strong predatory mortgage lending law, modeled after various state laws, including North Carolina, that have provided homeowners effective protection and not diminishned the availability of credit in the subprime market.