Inflation floats all boats. If this was not the reality of the housing industry the past decade, it was certainly the perception.
How can you ask consumers to use caution in their home-buying decisions when one respected gauge – the S&P/Case Shiller U.S. National Home Price Index – showed that single-family homes gained 84 percent in value from 2001 through 2006?
This astounding run-up led to over-building, over-lending, over-borrowing and over-selling. All caution flew out the door. The concept of purchasing a house for home and hearth was replaced by purchasing a house to make money and get ahead financially.
The resulting thud – defaults, foreclosures, lower home prices, more expensive mortgage money — was the most talked-about real estate story of 2007.
While most fingers were pointed at lenders, everyone in the process was complicit including the brokers, bankers, securitizers on Wall Street, and real estate agents.
Lenders clearly made loans far too available, bowing to the pressure of Wall Street funds willing to securitize any instrument secured by a home. Yet home buyers, and investors, did not use caution. While genuine buyers determine what they can afford by measuring their borrowing costs against their income, many others were blinded by the dollar signs of potential appreciation and stretched themselves to the maximum.
John Tuccillo, a Virginia-based economist, consultant and former chief economist for the National Association of Realtors, stated in an address at the recent NAR annual convention in Las Vegas that the home-sale process needed to be changed – and that agents absolutely had a role in the current monetary mess.
“The system stinks because on the front-end of the market are people who close the loans and walk away with no responsibility and pocket their checks,” Tuccillo told his Realtor audience. His remarks drew cheers and applause.
“Why are you clapping?” he asked. “I’m including you.”
Tuccillo went on to ask what his audience was doing to help those consumers – even their own customers – who were at risk of losing, or have lost, their homes.
While subprime lenders are getting hammered for the current state of the housing market, let’s remember that most of them are decent people – with creative programs – that filled a needed niche. Of the thousands of subprime loans in this country, about 13 percent are in trouble.
The subprime market’s reputation has been damaged by unscrupulous lenders who have taken advantage of borrowers unfamiliar with the mortgage process. They have not given enough time to explain the “worst case scenario” payments and timeframes. Often, these borrowers have qualified for better rates and fees than they actually received but simply did not understand what they were signing. Bait-and-switch stories often surface and language challenges for immigrants are common.
In other cases, borrowers stretched and took larger loans than they could possibly afford – some agents watched them do it without saying a word.
The traditional subprime borrower does not conform to standard credit, down payment, income or job standards, and some lenders specialized in making those loans with higher rates and fees. There are people who have greater debt than others, and most of the time they will continue living that way. They simply live on the edge yet are committed to making their mortgage payments. Until recently, many conventional banks, savings and loans and credit unions would make non-conforming loans on a case-by-case basis. Subprime loans now will become rare and granted mostly by lenders who keep them in their own portfolio instead of peddling them in the secondary market.
The past 12 months have been filled with accusations and a lot of inaccurate information about subprime mortgages. First and foremost, a subprime loan is not any loan that comes with a balloon payment. Adjustable-rate mortgages (ARMs) with balloons have been around for years and are not new. The same goes for option ARMs, yet they all have been lumped into the subprime category.
Today’s environment can be compared to the era of payment shock brought by the early ARMs. Remember payment shock? That was the term used when consumers received their new loan payment coupons after their adjustable rate mortgage underwent its first adjustment period.
The difference for people who purchased less than two years ago? There’s probably no appreciation to offset the shock. Yet, every economist will tell you housing is cyclical. If the borrowers in default can find a way to counter the present downturn, there’s a great chance they can come out on top.
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