Tuesday, October 10, 2006

New Mortgage Regulations said to accelerate home price deflation

An interesting article here that has to do with the "exotic Option Arm Mortgages" we talked about a few days ago... one of the things I didn't mention in that explanation is a feature called the "teaser rate" - most of the mortgage loans in this category offer a "teaser rate" in the range of 1-1.75% for a period of time at the beginning of the loan. (As always, unpaid interest accrues to the end of the loan - onto the principle amount - leading to more negative amortization - owing more than the home is eventually worth.) This is the source of the myriad spam offers you and I get in our email talking about how you can get a $500,000 loan with a payment of $800 per month. This is what they are offering, and the devil is in the details, obviously.

When you apply for a mortgage, your ability to pay is evaluated on a "Qualifying Rate". In the past few years, this qualifying rate has been the TEASER RATE, instead of the actual APR percentage rate. By this alone, it is obvious to see the lending frenzy that has led many people to the place we are now.

If you wanted to buy that $500,000 home, but only had the real financial resources to be able to cough up $800 per month, the lender WOULD STILL LEND YOU THE MONEY FOR THAT HOUSE, regardless of the obvious fact that there was NO WAY ON EARTH that you were going to be able to make the "real" payments six months from now.

Which leads us to the next question: Who really is to blame for all these people who are in trouble with their loans? Is it the lender who lends, or the borrower who borrows?

I often have trouble with that question, because I am a broker. I am the middle man - I connect the lender to the borrower. I do my very best to educate, inform, and disclose all the pertinent information to my clients. Sometimes there are those who are simply utterly insistent in the face of the glaring facts. Some we turn away, and about others we say, "we just met with a foreclosure waiting to happen."

Without ado, the article:

From the LA Times - (Registration Required). Federal regulators are casting a disapproving eye on mortgages that give borrowers low introductory rates but let them pile up more debt over the long run, a loan feature favored by hundreds of thousands of Californians.

Starting this month, federally chartered lenders are being discouraged from qualifying buyers based on the low starter rates, when only the interest or a portion of the interest is due. Instead, they are being urged to evaluate the borrower's ability to pay for the loan at the full rate.

Regulators are trying "to add some discipline to the lending process," said Richard Wohl, president of Pasadena-based Indymac Bank. "Whenever you do that, you're going to have some [borrowers] that won"t have the product available to them."

The regulators say they will "carefully scrutinize" lenders to see whether they are following the new rules. Those who fail to do so, the guidance summary warns, "will be asked to take remedial action."

The guidance applies only to federally chartered lenders, including Indymac, Countrywide Financial Corp., Washington Mutual Inc. and other behemoths. State-chartered banks, which are smaller but more numerous than federal banks, are not affected.

Indymac's option ARM business is shrinking anyway, Wohl said, as interest rates fall and customers move to the certainty of fixed-rate loans. Even so, interest-only and option ARM loans accounted for more than half of first-time mortgages and refinancings in the state in July, according to First American LoanPerformance.

Kathy Dick, deputy U.S. comptroller for credit and market risk, said interest-only loans and option ARMs originally were for a minority of savvy, well-off people whose income was variable, the self-employed and those who worked on commission or were paid intermittently.

"Now they're used to getting someone into a home without a real analysis of their ability to pay," Dick said. "Lenders are qualifying people for homes they can't afford. We felt that wasn't consistent with prudent lending principles."

"Just as the loosening of credit standards made the housing bubble go higher and last longer, the tightening of standards is going to make it deflate further and faster," said Michael Calhoun, president of the Center for Responsible Lending. As borrowers find they qualify only for smaller loans, Calhoun predicted, sellers will have to cut their prices.

"There's some pain coming," he said, noting that California "is at ground zero on this."

"There will be fewer leveraged loans of this kind, and it will depress some home prices," said Allen Fishbein, director of housing and credit policy for the Consumer Federation of America.

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