Based on results from its recent mortgage study, the Center for Responsible Lending (CRL) predicts that one out of five subprime loans issued during 2005 and 2006 will fail, resulting in foreclosure for millions of American homeowners. CRL’s study, the first nationwide review of subprime mortgages issued between 1998 and third quarter 2006, revealed that the subprime market has experienced high foreclosure rates despite low interest rates and a favorable economic environment during recent years.

So who will lose when the expected tsunami of foreclosures washes through the system? Dotzour said it will not be the mortgage companies, who originate the loans, collect a fee and then sell the loans, and he doubts it will be mortgage bond holders, who have ways of hedging both interest rate risk and credit risk. Instead, hedge funds, pension funds and endowment associations that have been chasing yield by accepting more risk, or large commercial banks offering complex derivatives to allow traders to hedge their risk in mortgage bonds are likely to feel the pinch. “It’s safe to say that nobody knows exactly where the ultimate risk really lies in the financial markets,” Dotzour said. “Look at how long it is taking Fannie Mae to get their accounting straightened out to the point that even a financial genius could understand it. There is no way a layperson will ever be able to understand the risk they take when they buy stocks in large financial institutions.” (more…)

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A rise in defaults is prompting some lenders to clamp down on the use of “piggyback” mortgages, a risky type of loan that helped prolong the housing boom by allowing borrowers to finance up to 100% of the purchase price. Lenders are likely at least to cut back on piggybacks this year because of the difficulty in selling them to investors, said Thomas Lawler, a housing economist in Vienna, Va., who refers to such loans as “oinkers” in light of their poor recent performance.

Piggyback second mortgages typically cover as much as the final 20% of the home’s cost, supplementing a first mortgage that covers 80%. Investors have grown increasingly wary of buying such loans from lenders amid a surge in defaults by recent subprime borrowers. The holder of the second-lien mortgage can hope to collect proceeds from the sale of collateral only if the holder of the first mortgage is fully repaid. In many foreclosure cases, second mortgages must be entirely or almost completely written off.

The subprime mortgage market has mushroomed in recent years as lenders found that investors both in the U.S. and abroad were eager to buy securities backed by such loans. Mr. Lawler, the economist, estimates that 17% to 18% of mortgage-financed home purchases in the U.S. last year involved subprime loans. About half of the subprime home-purchase loans included in mortgage securities last year were piggybacks, according to a recent report by Credit Suisse Group in New York. (more…)

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Thanks to relaxed lending standards, in recent years borrowers with bad credit - such as a bankruptcy or a delinquent loan on their record - found it relatively easy to get home mortgages. Such “subprime” borrowers generally have to fork over higher interest payments to compensate the lender for the added risk of default they represent. So lots of subprime borrowers kept their house payments lower by taking out exotic mortgages such as adjustable-rate, interest-only or negative-amortization mortgages.

During the housing boom, borrowers and lenders took comfort in the fact that home prices rose and rose, with no signs of slowing. Even if a borrower had an interest-only loan, the rising value of the home would build equity for the owner. But with home prices falling in many parts of the country, that safety net has been eliminated. And with interest rates rising, borrowers with adjustable-rate mortgages are facing higher monthly payments and, increasingly, foreclosure. (more…)

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As interest rates rise, more homeowners are falling into foreclosure. That is what is prompting the wave of bargain-hunting investors now descending on courthouse auctions across the country. “It’s just crazy. We have 100 houses [at auction] each week, when we used to have 10 or so,” says Elaine Began, a deed clerk in Macomb County, Mich. Three years ago, the Montgomery County (Ohio) Sheriff’s Office was “lucky to get 50 people to an auction,” says Laura Wright, a foreclosure clerk there. Today, 120 often show up. Some may be sorry they did. Novices face a host of risks.

The process usually begins when mortgagees fall three months behind on payments. The lender sends a default notice to the homeowner and to the county. If the homeowner can’t pay up, a foreclosure date is set. County officials handle the auction and use the proceeds to pay off the mortgage and any other debts secured by the house. Leftover money goes to the foreclosed homeowner; leftover debt, in some cases, is the new owner’s responsibility. The mortgage lenders typically bid up to the remaining principal amount plus any foreclosure fees. Their goal is to recoup what they are owed, either from investors bidding more or by buying the home and reselling it. Foreclosed homeowners sometimes join the bidding and win the auction, even though they don’t have the money, effectively delaying their eviction until another auction is held. Investors can get in the game before or after auctions, too. They can try to buy directly from homeowners beforehand or from lenders who win the auction. (more…)

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For some reason, I have received a number of letters recently that criticized some articles I had written back in 1998-99 on lender junk fees. These articles are on my Web site, and since nothing about junk fees has changed since they were written, I have never had occasion to revise them. In response to the criticism, however, I took a fresh look at the articles and realized that something had changed since they were written: me. My take on junk fees is a little different now than it was eight years ago, I hope because I’m smarter but perhaps only because I’m older.

Mortgage junk fees are all upfront lender charges other than points. They include all lender charges expressed in dollars, such as “processing fee,” “lender attorney fee,” “endorsement fee” — the list goes on and on. Junk fees also include one charge expressed as a percent of the loan, called “origination fee.” I don’t like the term “junk fees” and wish it had never been coined. The reason is that borrowers tend to interpret it to mean that the lender is performing no real service and/or that a particular fee is too large. This mindset causes borrowers to look for information about how large a particular fee ought to be, and to bargain with the lender to get one or more fees reduced. (more…)

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Mortgage rates have enjoyed a modest rally, the 10-year T-note’s decline from 4.88 percent to 4.77 percent leading mortgages from 6.375 percent to 6.25 percent. Do not expect more improvement, not with an economy as strong as this, and zero chance of a rate cut from the Fed. On the other hand, don’t expect the blow-up in rates that would normally follow dashed bond-market hopes for a recession, long yields soaring above the Fed’s 5.25 percent cost of money.

This unnaturally “inverted yield curve” is just one of several effects of the recycling of the American trade deficit, now in the previously inconceivable range of $750 billion per year, some 6 percent of GDP. For exporters to us to continue to export, they must keep the dollar strong enough to buy their junk (and oil), and the only way to do that is to re-invest their dollar winnings here. There has never been anything like this before, neither magnitude nor duration, but the effects are coming clear: there is a constant bid in every financial market (commercial real estate, too), which has caused prices to rise, limited downside damage, suppressed volatility in general, compressed spreads for risk in time and credit, held long-term interest rates artificially low, and stimulated the economy. (more…)

search for : Mortgage rates, 10-year T-note, inverted yield curve, commercial real estate, long-term interest rates