NYT - 'Prime Loans About to Implode': Where's the Evidence?

by: Matt Stichnoth August 05, 2008    
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Matt Stichnoth

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From what I can tell, the “bigger wave of loan defaults” by prime mortgage borrowers that has Vikas Bajaj so worried consists entirely of two relatively small segments of the market: a) alt-A loans and b) option ARMs.

Say, wait a minute. . . . Credit problems in both areas are well-known by now, aren’t they? Deterioration in alt-As has already led to the third-largest bank failure in the country’s history, while imploding option ARMs caused the collapse of Wachovia’s stock price and the ouster of its CEO. This is new news?

Bajaj seems to be confusing the option ARM market with the prime mortgage market overall. Bad idea! Traditional 30-year prime loans, whether fixed- or adjustable-rate, don’t reset, don’t negative amortize, and can be readily refinanced. Which is to say, they don’t carry the risks that has Bajaj so agitated. His selection of Downey Financial as poster child for ailing prime lenders is nuts: Downey’s book consists almost entirely of option ARM loans, 90% of which are secured by properties in California.

If alt-A and option ARM problems have spread to traditional 30-year fixed- and variable-rate loans, Bajaj fails to mention it. Likely reason why: those loans continue to hold up fine, if the chart accompanying the Times’s story is to be believed:

Moral of story: “contagion” of subprime credit problems to prime, long anticipated by nearly everyone, still has yet to occur. . . .

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This article has 8 comments:

  •  
    Aug 05 03:17 AM
    note to self: buy any and all mortgage securitizations after reading this article...

    NOT!
    Reply | Link to Comment
  •  
    Aug 05 03:32 AM
    Matt - I have been a very successful mortgage broker for over sixteen years in Marin County, California. The problem that Vikas writes about is very real. From my perspective the real mortgage crisis is coming in 2009, and it will dwarf the sub-prime mess. There is a perfect storm coming in the mortgage world. Declining values and the new aversion to risk are causing lenders to be increasingly restrictive; the almost complete disappearance of stated income loans, combined with rising loan-to-values caused by deteriorating prices, is making it impossible for many borrowers to refinance out of the 5 year fixed loans they got in 2003 and 2004. On top of that lenders are freezing equity lines, the only life line that many consumers have. I spend my days telling borrower after borrower that they cannot refinance, cannot buy, cannot take any equity out of their homes - and these are generally people with excellent credit and substantial equity. As these people are forced to sell there will be more pressure on prices, making the problem worse. From my seat, I see unequivocally that the problem is going to get much, much worse before we hit bottom. By far the biggest lender on the Alt-A side was Countrywide, and a large portion of those loans were five year fixed interest only.
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  •  
    Aug 05 09:11 AM
    All the pieces are, and have been, in place for substantial home-price declines, but they don't come. Why?
    Reply | Link to Comment
  •  
    Aug 05 11:00 AM
    Rhett, you said, "All the pieces are, and have been, in place for substantial home-price declines, but they don't come. Why? "

    I don't understand the statement. I do know that the average price of a home in California went down YOY 37% last year. Othere places are better, and others are worse. And this is clearly worldwide.

    So here is my question: Do you not consider a 37% drop in one year to be "substantial"...



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  •  
    Aug 05 01:17 PM
    Well said. There are some problems with prime loans but most commentators need to be more careful in their analysis. You might consider one of the other things prime loans have going for them. A relatively low level of exposure to California. Since the large preponderance of loans originated earlier were jumbos and above Fannie and Freddie's limit, the two have relatively little exposure to California. It's estimated that about 15% of recent vintage in California were sold to the Agencies.
    Reply | Link to Comment
  •  
    Aug 05 02:53 PM
    The broker in California lives in a small and ugly World right now but the fact is the rest of the nation is not in the same condition as California, Florida, Nevada and Arizona. For the reasons pointed out by Tom above the GSE prime exposure to California is low.

    Stated income loans were improperly used and needed to be restricted and they have been.

    Downpayment requirements were too lax and needed to be increased and now they have been.

    Option ARMS should never have been offered to most borrowers but they were offered to everyone and now no one can get them.

    Jumbo loans should require significant liquidity to obtain and now they do. Why should you lend a $500,000 or more to someone who can't even pay the closing costs for the loan.

    Now all we have to do is get rid of all the loan officers, brokers, banks and lenders who would go back to what they were doing in 2006 if allowed. If we do not they will be back as soon as the housing prices stabilize pushing the envelope, creatively stating income, dreaming up assets that don't exist and putting people in loans they should never of signed to begin with.
    Reply | Link to Comment
  •  
    Aug 05 04:48 PM
    The issue with prime is that even though the prime default rates will look tame compared with the lower quality loans they are a much bigger piece of the mortgage pie. And this is coming after many lenders have had their capital decimated.

    These pollyanna's seem to think that housing will work like the hyperactive stock market where the half-life of a "story" is measured in minutes. Yes, everyone's read the same stories -- doesn't follow that it's all priced in.
    Reply | Link to Comment
  •  
    Aug 11 01:32 PM
    The author must not have looked at these graphs:

    calculatedrisk.blogspo...

    www.burbed.com/2008/06.../

    Rearranging the chairs makes the situation opaque:

    online.wsj.com/article...

    Like the energizer bunny the resets keep on going until 20012. The short term

    The real unknown variable is how sloppy and at what times were the credit checks? How many of these loans had no or poor collateral?

    If what the author selling is true, why is the desperate act of a currency intervention going on (see blog.nowandfutures.com... entry on 8/10/08).
    Reply | Link to Comment
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