(This is Part 2 of a five-part series. Read Part 1, "Lenders wise to beef up default-risk reserves"; Part 3, "Mortgage insurance cheaper under new plan"; and Part 4, "Help from feds not a bailout"; and Part 5, "Struggling borrowers get fresh start under new plan.") The first article in this series pointed to a serious weakness in the way the mortgage system deals with default risk. Interest-rate risk premiums collected from borrowers that are not needed to meet current losses are paid out as income to investors and not reserved to meet future losses. Because major default episodes occur infrequently, perhaps every 12 to 15 years, the system is never adequately prepared for one when it happens. It certainly was not prepared for the one we are now in. The remedy for this systemic vulnerability is to reserve a much larger portion of the risk-based dollars paid by borrowers. This article explains how to do that. Investors in mortgages face t...
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