In December, the first subprime lenders started failing as more borrowers began falling behind on payments, often shortly after they received the loans. And in February, HSBC, the large British bank, set aside $1.76 billion because of problems in its American subprime lending business.
Over the last two weeks, this slowly building wave became a tsunami in the global financial markets.
On Friday, the Federal Reserve was forced into a surprise cut of the discount rate it charges banks to borrow money, a move that steadied shaky stock and credit markets and reassured investors, bankers and traders who were reeling from a month of market turmoil. And for the first time, the Fed bluntly acknowledged that the credit crisis posed a threat to economic growth.
“Until recently, there was a lot of denial, but this is a big deal,” said Byron R. Wien, a 40-year veteran of Wall Street who is now chief investment strategist at Pequot Capital. “Now the big question is: Will this spill over into the broader economy?”
The answer to that question will be revealed over the coming months. But the cast of characters who missed signals like the rise of delinquencies and foreclosures is becoming easier to identify. They include investment banks happy to sell risky but lucrative mortgage debt to hedge funds hungry for high interest payments, bond rating agencies willing to hope for the best in the housing market and provide sterling credit appraisals to debt issuers, and subprime mortgage brokers addicted to high sales volumes.
What is more, some of these players now find themselves in a dual role as both enabler and victim, like the legions of individual borrowers who were convinced that their homes could only keep rising in value and were confident that they could afford to stretch for the biggest mortgage possible.
“All of the old-timers knew that subprime mortgages were what we called neutron loans ”” they killed the people and left the houses,” said Louis S. Barnes, 58, a partner at Boulder West, a mortgage banking firm in Lafayette, Colo. “The deals made in 2005 and 2006 were going to run into trouble because the credit pendulum at the time was stuck at easy.”
While I know that young families are desperate for affordable homes, the absolute WORST thing they can do is to sign an adjustable rate mortgage! Every chance I get, I tell them about the pitfalls of such a mortgage….since my wife and I have seen what such a mortgage can do to a young family’s finances. Our daughter and her husband went through it, but fortunately, they recovered.
I agree completely, Cennydd. A good friend of mine recieved word in the Saturday mail that her ARM was going to increase her payment by about 45% in a few months. She can afford it (just) but it will be a real strain.
Hopefully a side effect of the current mortage troubles will be a deflation of the real estate bubble. Already condos in Atlanta seem to be flat or declining. This will make it eaiser for familes ot purchase homes without resorting to an ARM.
Themedia has analyzed this crisis with it typical sweeping genralizations. While many subptime borrowers face payment increases from the 2/28 or 3/27 loans, those increases pale by comparison to the increases facing some of the “good credi” borrowers who foolishly took Option ARMs. In extreme cases they can be facing new payments triple their current payment.
The subprime loan, properly utilized, served a valuable purpose. It allowed borrowers with credit issues to get interim financing while they cleaned up their credit. If they failed to follow through, they are now paying the price. However, I have many clients who got 30-year fixed “subprime” loans at rates as low as 4.5%.
Subprime loans are no more to blame for the crisis than that saws are to blame for people getting cut.