“When Did Lending Standards Start Changing So Much?”
Readers suggested a topic on when loan standards changed. “Here’s my question for the gang - when did lending standards start changing so much? I was involved in real estate 20 years ago, mostly as a property manager, but also doing some sales in Capitol Hill/DC, a lot of shells and distressed stuff that was being rehabbed by investors.”
“I remember how difficult it was to get ‘investor’ loans back then, and that rental income was really discounted in terms of qualifying, etc.; as a result, we did a lot of seller-financed deals with a baloon in 3 to 5 years (usually paid off in a year or two when the property was rehabbed and sold).”
“When did it start becoming easy for folks to get these low- and no- doc loans and by 3, 5, 10 — whatever — properties to try and flip? I’d love a history of the change in standards if someone has some good insight — who (agencies/companies) started this shift?”
A reply, “read the Community Banking Bill. Then 911 came and then it was the excuse to open ALL flood gates.”
One had more questions, “I want to know who started the low down stated income loans and when did appraisers start coming in on any sale .I also want to know why the lenders didn’t think it would be risky to sell to short term investors on low down loans etc. From what I have seen so far the lenders just stopped underwriting loans based on ‘real estate always goes up.’”
“Just because the money was there from the secondary market ,it didn’t mean the lenders should of been entitled to stop making prudent loans and resort to fraud and liar loans to meet the quota. The money would of gone to a better place and we would not of had this run-up like we did.”
One took a shot, “Not sure when it started, but I believe that there was a great acceleration in lender stupidity after 2003. Summer 2003 was when fixed rate mortgage rates hit their nadir, and the only way for prices to continue to appreciate was either wage inflation or lowered lending standards. Well, we haven’t had double digit wage increases.”
Another went further back, “I think it started (just a little bit) in 2001 or before. By 2003, ANYONE who wanted a mortgage could get one.”
The Denver Post. “Coloradans are rightly concerned that foreclosures are at an all-time high. But as we confront this problem and consider what we can do about it, it is important to provide some context.”
“Colorado’s lenders offer mortgages to people who would never have qualified two decades ago. Two in five Colorado home loans are considered high cost (also known as sub-prime) and we shouldn’t be entirely surprised by the result.”
“Prime, fixed-rate mortgages have a foreclosure rate of about 2.5 percent, fairly consistent with historical trends. But for sub-prime loans, the foreclosure rate is about 8 percent. That’s the cause of our historically high rate of foreclosures.”
“In the aftermath of Sept. 11, interest rates plummeted. Many people got themselves into variable rate mortgages, attracted by the low initial rates, only to see their monthly payments double and sometimes triple in the last few years after rates began to rise again.”
The Napa Valley Register. “Real Estate Broker Chuck Sawday attributed part of the city’s appreciation to interest rate levels. ‘More people were able to buy homes because of low interest rates. That pushed a whole new group of people into buying their own home. Then, the person who just sold moves up,’ adding to more sales, he said.”
“Robin Rose, Coldwell Banker Brokers of the Valley general manager, said new mortgage products and lender competition have also spurred activity. ‘(This) resulted in increased money available for buyers,’ said Rose.”
“Realtor David Barker identified 2001 as a pivotal year for real estate. ‘What really took the market off was after Sept. 11 when the Federal Reserve dropped (interest) rates. That kick-started the housing market. Money was very cheap. It was easier to get a loan.’”
“‘As with any investment there are fluctuations in the market,’ said Rose. ‘So, while sales did decrease, 2006 represented the third-best existing home sale market on record. Remember that 2005 was the record year, so to see a drop off from record levels is not a surprise.’”
‘Among first time home buyers in 2004, according to the NAR, the median down payment was 3 percent, half what it was in 2003.’
‘What is new today is that lenders are allowing for the layering of risks on top of one another. What we don’t know is what if we put all these risks together and put them in a rising interest rate environment, a declining housing market, or a weakening economy.’
‘The shift in lending standards started after the dot-com stock bust in 2000. By 2003, with the refinancing boom coming to a head, banks quickly set about trying to recruit more first-time home buyers, encourage second-home buying and promote home equity lines of credit as an easy and responsible way to fix up the house or finance a vacation.’
‘The amount Americans owed on home equity lines of credit jumped to about $491 billion at the end of 2004, up 42 percent from a year earlier, and more than triple the amount at the end of 2000.’
‘In fourth-quarter 2004, interest-only (IO) loans and traditional ARM loans accounted for more than 55% of the prime jumbo loans securitized. This figure is up sharply from fourth-quarter 2003, when it represented only 12% of the securitized loans.’
‘Standard & Poor’s expects a drop in dollar volume of mortgage originations and loan securitizations by approximately 15% to 20%. We predict the dollar volume of mortgage loan originations and issuance to be off approximately 30% from $225 billion in 2004 to $160 billion in 2005.’
Top subprime originators (temp link).
Mortgage layoffs.
A letter to the editor: ‘EDITOR: You report that home loan default notices in Sonoma County doubled last quarter. Who could possibly be surprised by this development? Your article speculates that interest-only loans and mortgages with minimum payment options might be contributing to this phenomenon.’
‘But why would the average home buyer have agreed to a loan with those kinds of risks? A local banker is quoted as saying, ‘Just because of the higher-priced homes, that is the product that is in demand in order to qualify.’
‘This statement implies that ‘creative financing’ was developed as a consequence of high real estate prices. I believe that just the reverse is true: Creative financing was developed for the express purpose of enabling the finance, insurance and real estate industries to successfully market the higher prices of homes so that they could make the income from increased insurance premiums, interest income and commissions from those sales.’
‘Without creative financing, if no one had been able to qualify for loans at the unrealistic prices real estate was going for four years ago, the current ‘market correction’ would have been unnecessary because prices would have corrected themselves then.’
Lower rates created the higher home prices. Most of the appreciation in home prices came from 03 to 05. Home prices were built on a significant increase in leverage which is all about lower rates. Its one thing to get a 500K loan at 2% and another at 6%. Its a basic fact of economic life that credit drives up prices of goods and services.
To some extant, I think that this is a chicken versus egg question. But IMHO lower loan standards would probably not have led directly to higher prices except that the EXPECTATION of higher prices had been generated by the several years of higher prices enabled by post 9/11 rate cuts.
Ben, you hit it right on the nail . The REIC developed loans to market the higher prices without regards to borrowers really qualifying or that market value was exceeded because you really didn’t have a “able ” borrower . The “hype” got intense after 2002, as well as the developers building for speculators .
It would of been better had the market corrected in about 2002, as it should of ,when true affordability reached it’s limits in many areas .
I actually know when it started. Mel Martinez took over as head of HUD in about 2000-01, somewhere in there and he started the engines by allowing FHA borrowers to come to the table to close and the idiot handed THEM a check to close on HUD foreclosures. Being a foreclosure appraiser for the these trolls I was flabergasted. What the hell do you think got them into foreclosure in the first place numnuts?
I quote.
“From 2001-2004, Martinez served as the Secretary of Housing and Urban Development under President George W. Bush. At HUD, Martinez helped further the goals of an “ownership society” by promoting home-ownership for America’s low-income workers. He worked to offer the opportunity of homeownership to millions of Americans and led the effort to reform the Real Estate Settlement Procedures Act to simplify the process of becoming a homeowner by reducing paperwork and closing costs. ” TADA
He was making a run for Sentor and needed the hispanic vote so free money for everyone. The lenders screamed as to the unfair tactics so to shut them the hell up they loosened the rules for everyone.
Anyone know where Martinez is now Senator?
FLORIDA
Where’s the bubble? Altogether now. FLORIDA!!!!!!!!!
Couldnt find the law, but this all started when they changed the laws for fannie mae and let them repackage these loans in all sorts of crazy ways and resell them. Think it was in or around 2000. It had some lofty title that made it sound like they were gonna tighten up fannie mae LMAO how did that work out boys.
Oh yeah, just the way you wanted.
this is an interesting topic because it seemed like any responsible person left their brain in the back seat. I would say it started in 2002/2003, for sure….
The real question is when did HIGH YIELD stop meaning HIGH RISK — the answer is when Alan Greenworm lowered rates and kept them there. All the pension funds, wealthy, etc had NO WAY to get returns so they started chasing yield and fabricating derivatives and bundled products that made HIGH YIELD, “low risk” according to the quants.
no question that Greensperm threw us all in front of the bus
I believe efforts to contain inflation over the past 25 years have resulted in multiple instabilities. Picture holding a baloon which is filling with water and trying to hold it in such a way it cannot. What will happen is that is will find the weakest point and bulge out, a similar thing seen with the bubbles of the past few years. Inflation seems to be driven by forces more powerful than any government in history has been able to deal with effectively, and go to root behaviours and causes, not interest rates etc. I believe right now the Feds are only attempting to buy time, not fix the mess we are in.
Hahahah, you use government logic.
INFLATION is not the norm, DEFLATION is the norm (more efficient, lower prices).
INFLATION is the gov printing money (or computering up debt).
If you pull out the wars we were in before went off the gold standard there was literally no inflation, EVER.
The inevitability of Inflation is a cruel lie perpetuated by the central bankers.
If they had left us on the gold standard a dollar today would buy you more than it would have in 1970. Because they (Nixon) took us off the gold standard to pay (borrow) for Vietnam a dollar today buys you what a nickel would in 1970, prolly less now.
INFLATION is a hoax, it is a boogyman story they tell to convince the sheeple that the Gov isn’t responsible for impovershing the populace on an ongoing basis.
In the last 10 years the Gov has expanded the money supply by more than 120%!!!!! The pace of expansion is also accelerating in an exponential fashion.
All FIAT currancies eventually become worthless scrap.
There is also the question of should the Fed and the regulators pulled back sooner. But in the fall of 2003, all the Fed could talk about was deflation.
I don’t get the fear of deflation, I would love the prices of the shit I buy to fall!!
Even if my investments fall in face value, the interest/dividends gained will purchase more.
Deflation got a bad rap during the depression. Not because falling prices were bad, but nobody wanted to spend their money. Why spend your money when it is becoming more and more valuable? That lack of spending is what tanked the economy, not the stock mkt crash. Anyone with cash after the crash was afraid the banks would shut their doors so they all made a run on the banks which stopped all credit transaction in the entire country.
LMAO, could you guys imagine if all credit transactions were stopped today!!!
I’m not sure when it became ‘common’ - but I will admit that I bought my first home in 1999 with a no-doc loan.
Although, I *did* have a 25% down payment with some additional savings. The problem was, that I was a recently hired contractor at the time, with no W-2’s to show the lender. So I fit the criteria of whom those loans were intially intended for. (And I quickly re-fi’d the loan when I could document income.)
MM posts “Although, I *did* have a 25% down payment with some additional savings. The problem was, that I was a recently hired contractor at the time, with no W-2’s to show the lender.”
That loan was as good as gold. I am sure they did not see the likes of secure loan app like that again!
MM posts Although, I *did* have a 25% down payment with some additional savings. The problem was, that I was a recently hired contractor at the time, with no W-2’s to show the lender.’
I ment to add to my above post, you did not have any W-2’s to show them….. but when you “showed them the money” that took a load off thier minds!….LOL
Yes but lenders have been making 25% down stated loans for a long time and lenders don’t usually consider those high risk . When the borrower has that much down payment in the game they usually don’t walk . I’m sure the lender made sure the appraisal was solid in those days .
Requiring 25% down on no doc loans would have gone a long way to ensuring the bubble did not get as out of hand as it did. It is a good bet that a person with $50K down is doing “something” right and is responsible and disiplined.
Slightly off topic but I was reading another article which had a gif file on Kiyosaki’s “Rich Dad. Poor Dad”. Oh the irony of this title. Rather prophetic, I think. Just took time to transform one into the other.
Lending standards changes because of competition. Not in a good way, but in increase in money supply to find a return better than very low rate bonds. As competition increased, the lender with lowest standards took the business. With RE prices increasing as demand apparently was increasing, it was a ‘no brainer’ that you could lend out at one $ values but asset would inflate protecting your risk. If loan defaulted, you’d simply dump it still at a profit.
Until. The asset stopped inflating that is. Now the emperor suddenly has no clothes.
Saw him on the local PBS station last night during the fund raiser. To my best recollection, his quote of the day was “if you can’t become rich with RE in Phoenix, you can’t become rich”.
Shameless whore. If real estate is so great why are guys like Trump and Kiyosaki not keeping it all for themselves? They aren’t doing this as a favor to the seminar suckers. They are making big bucks and KNOW that most of the people buying their bull dung will never make a penny. Many will wind up ruined by losing money or quitting jobs.
Couldn’t agree more.
Remembered another one, this is the one that made me switch channels to avoid a repeat of last night’s dinner. “Some people think having no debt is a great thing, and should be a goal in life. These people are 100% wrong.”
Pretty sad. I’ve read “Rich Dad, Poor Dad” and it’s actually quite good. The principles expressed therein have nothing to do with the current madness.
I chalk it up to the use of MBS’s. Once underwriters were separated from the paper they were holding (due to mortgages being sliced up into different pools and grouped that way), then the ability of borrowers to repay loans became difficult, if not impossible, for the underwriters to assess, which then meant that these insane loans now could find a home.
In the past it was real easy - can you make 0.28 PITI to income, and 0.34 with all loans accounted for. If not…find a smaller house. Today, if not, take out “stated-income” loan, or an ARM with a low teaser that you can qualify for - we’ll fit you in that house - you deserve it.
The scary part for us contributors to society is that MBS’s are still considered safe, since the models assume still assume that loans were made to people who could reasonably be expected to be capable of paying them off. MBS’s today are no different than commodities - there is no safety in them, and they should be treated as such.
At least you can get rich by investing in commodities like oil, silver, palladium and gold the past few years. There is a limited upside to investing in MBS. Even corn prices have doubled since November.
You were not supposed to get rich by investing in MBS’s, you were just supposed to park your money and get a reasonable rate of return from the J6Ps, meandering through his middle class life. A few J6Ps will go without insurance and get burned, a few will lose their jobs due to normal economic changes, a few more in a recession. But, overall, these are priced into the MBS’s, as they have always been expected.
What hasn’t been priced in is the new addition to the list: “being attacked by your ARM loan”. In many cases, J6P and wife may be doing just fine, perhaps a bit high in the CC balance, but overall, just fine - making required payments on the loan (although often not even the full interest amount). Then the ARM reset hits - something they were told about and read about in the loan docs, but the broker said “don’t worry, just refinance”. Of course with a sinking market, refi’s don’t work (at least with semi-honest appraisers), so the J6Ps are now being booted out of their houses, in bigger and bigger numbers, without even medical bills or job changes being the culprit - but rather a piece of paper they signed a couple of years ago. As far as I know, that is a first for the US, and it really, really, portends badly for the future.
“I chalk it up to the use of MBS’s. Once underwriters were separated from the paper they were holding”
You’re absolutely right on…. Because of the “layering”, there is a disconnect between the underwriters of the loans and the buyers of the loans. It is absolutely unfathomable that a person of poor credit history could get 100% financing using a stated income application. But, IMO, it has been happening in numbers beyond anyone’s wildest imagination.
The irony is that banks have been major purchasers of MBS.
Sooo, banks sell risky loans to Wall Street, Wall Street repackages them, and then resells them back to the banks as “safe”. Magic!
People are either spenders or savers. It used to be you had to prove you were a saver to qualify for a mortgage and banks wouldn’t lend more than 3x your gross income. I live in the Bay Area, and most of my friends are at 6x or more annual income with little or no downpayment and an IO loan. But since RE only goes up, they should be just fine -);
People are so stressed here as it is, I cannot imagine their stress level when they realize they’re in debt up to their eyeballs for nothing and may have to bring money to the table if they need to sell anytime soon.
Just like that commercial for Lending Tree - Stanley Johnson on his sit upon mower “I am in debt up to my eyeballs, somebody please help me” Help yourself, moron!
Lock accelerator down…
slam into gear…
point towards heating oil tank…
http://www.youtube.com/watch?v=hn5EP9StlVA
Truly the madness of the times. Thanks!
That was great! Thanks.
That’s great — should be Exhibit A in future law suit, except I doubt the company will still exist by the time it would be happening.
I wonder if the FB clowns know that the foreclosure or bankruptcy will likely prevent them from getting a job since most employers are now using credit reports to determine the character, stability and reliability of potential employees.
If this mess continues to play out the way it has, I think a lot of employers will have to rethink their use of credit reports in making hiring decisions. There are going to be way too many people with black marks and they will start overlooking them.
Personally, I don’t think employers should have any right to pull a prospective employee;s credit report any way. The only case where I think it could even be justified is when an employee has access to cash or handles financial transactions as part of their job.
We’ve all seen just how well using credit reports by mortage lenders has turned out. A credit report doesn’t show character, stability and reliability of anybody. It’s just a snapshot of a particular moment in time.
“Personally, I don’t think employers should have any right to pull a prospective employee;s credit report any way. The only case where I think it could even be justified is when an employee has access to cash or handles financial transactions as part of their job.”
Customs/immigration officers, police and fire fighters are examples of jobs where there is a risk for theft and bribes in their workplace.
My husband who works for DHS and has to have a credit and background check done every five years for his security clearance to make sure he is not a risk to take bribes from terrorists or illegal aliens.
People will do desperate things when the debt collectors are calling day and night and they feel backed into a corner.
SKB
I agree with you. Unless you are handling cash or cash equivalents. I consider it a gross privacy violation and would never consent to it.
Wait till they centralize consumer purchase info via RFID chips and sell that to employers, insurance co. etc. “We see you buy 2 bags of cheetos and a 5th of bourbon a week…. this is a troubling “profile”…..sorry, no job, sorry no insurance, sorry we can’t rent to you, sorry, …sorry,… sorry……….
I disagree TXChick. I.T. is a prime place where background checks are needed. They have access to a lot of databases with consumer information. Do you want your CC# in the hands of some guy that files bankruptcy on a regular basis or has a 500 FICO score? There is a lot of potential for that guy to be lured into selling that information. None of these guys ever come near cash or a cash transaction.
Almost anybody in banking needs to have a credit check performed. Here again, would you want your banking information accessible to people with a 500 FICO score? I wouldn’t.
The right of the average guy to have his information as secure as possible outweighs the right of not having to have a credit check run to get a job. If you don’t want the credit check done, then don’t apply for the job.
In the old days you would have picked up the phone and called the applicant’s previous employer. Now you can’t get any real information from anybody that knows the prospective candidate. You need to get information somewhere. Drop the credit checks and allow past employers to give you an honest view of the applicant. I could live with that.
Corporations regularly run Credit Checks for “all” hires, not just for banking and sensitive information position.
And give me a break… call up a bank or credit card number some time. You will talk to a subcontracted employee in India. Do you really think they have been “credit checked”? There have been instances of companies using cheep contracted “prisoner labor” at US prisons.
The corporations aren’t running the credit checks to protect the “consumer”.
You are right about corporations. I had the smaller guys in mind. Corporations care about nothing but their bottom line. I don’t work for a corporation so I don’t have a corporate mindset. The smaller business needs to be able to get information from some place. They sure can’t ask the previous employer without fear of being sued.
I don’t think outsourced labor should have access to sensitive information. I’m waiting for that to come back to haunt some major corporation. This cozy offshore relationship won’t look so cozy.
In the past 12 months I’ve been informed by 3 different groups (Dept of Defense, Wells Fargo mortgage (from a 6yr old transaction) and old employer) that my personal information (SS#, etc) had been stolen from their “safekeeping” and that I needed to take action to track any suspicious activity on my credit report. I don’t think any safeguards you are talking about make a damn bit of difference. The horse is out of the barn.
Anybody tried “LifeLock”? Intriguing…
“Personally, I don’t think employers should have any right to pull a prospective employee;s credit report any way. The only case where I think it could even be justified is when an employee has access to cash or handles financial transactions as part of their job.”
Actually, I don’t mind. My credit is great (as I suspect is the case with most of you guys), so if it gives me an advantage over the next guy, why not.
For car insurance, I pay roughly half of what an average person with my situation and driving history would pay. The only difference - my credit score.
Now if I had bad credit - then, yes, I might be screaming. If my credit was bad because of a BK that was not in my control (i.e., a slip and fall on my property above my insured amount), I’d be really mad. At the same time, I would explain it prior to interviewing (if given the chance).
“I would explain it prior to interviewing (if given the chance).”
You will not be given the chance, as you will be “weeded out” as “undesirable” long before the talking stage.
What insurance company? I thought it was mostly by driving history and zip code. Thanks in advance! -
In CA they can’t check your credit for insurance. Which is too bad. Studies show the higher the credit score the better the driver. We should be rewarded for being conservative with money and credit.
And I agree checking credit is discrimination. But I would do it anyway. Anyone who is not responsible with money does not belong in my firm. However, I would be careful about punishing people for a one-time mistake or something that happened awhile ago.
What car insurance company, please, inasmuch as my credit is golden, too? Thanks!
If this mess continues to play out the way it has, I think a lot of employers will have to rethink their use of credit reports in making hiring decisions. There are going to be way too many people with black marks and they will start overlooking them.
I agree… way too many FBs out there. OTOH, I expect credit reports to become a huge factor in consumer lending again.
Jerry posts ” I wonder if the FB clowns know that the foreclosure or bankruptcy will likely prevent them from getting a job since most employers are now using credit reports to determine the character, stability and reliability of potential employees.”
You nailed it. Most bank and Ins co robbery are of the “an inside job” type.
When I worked in aerospace, the spouses were often smugly overly interested in information that pointed toward secrets. e.g.: Fred and Barney were both on business trips at the same time - Yup, must be a super secret rocket launch happening.
The worst were the “bank officer” spouses. Of course, if the engineers had asked the bank officers to part with a few access codes or safety words or something harmless like that - Oh No! Can’t talk about that! It’s Confidential. Bank might lose some money. I might lose my career!
Lending, financing “changed” in order that banks could loan out easier their funds [printed money] to more buyers, even with lower credit scores to buy houses, etc. The new bankruptcy law [2005] with banking lobbyist passed and now can go after most of their loans.Banks goal is to make loans from their printed federal reserve money put into circulation. No loans, no demand for money, no need for most banks. It’s that simple. After all this I still don’t think the majority of people, even bloggers, see the whole picture and the “set up”. A sad time. Retired mortgage broker
Jerry:
” After all this I still don’t think the majority of people, even bloggers, see the whole picture and the “set up”.
Jerry,
Could you, please explain what you mean
by “set up” ?
I’m far away from banking, being just plain software eng, but I do believe that there are forces behind exotic lending that need to be explain.
Could you as morgage broker share your view ?
Be happy to. Go to http://www.financialsense.com and schroll down to article “Connect the Dots” and you will see the “set up” that I believe, anyone who takes the time, easy to see. Most won’t do the research as they are in the quick to judgement role of pointing to the secondary culprits of realtors, mortgage brokers, advertising interest etc who all played a part. Banks are part of the federal reserve “private” system whose goal is to create money and loan it out. Fine so far. But they have lowered the standards in recent years to simply due “more loans” to increase their volume. Also, printing/increasing the money supply in circulation has debased our currency and the results we have “inflation” today where it is mostly the middle class that is struggling [two] earners in many homes just trying to stay even. Yes, many fell for the easy, advertising commercials by the lenders and should have know better and with the guidelines changed, many were caught, trapped now into paying back these sub-prime loans for a very long time. It is sad what greed and those who profited did. It was a “set up” from the beginning and many took the bait.
The “set up” can be seen by going to http://www.financialsense.com and schrolling down to “Connect the Dots” . The majority including even bloggers who usually are in the know have missed the big picture by pointing to the secondary culprits like realtors, mortgage brokers, advertising commercials, etc who all played a role. The federal “private reserve”, no more federal than federal express in name did have “permission from our government to print money and increase the money supply, currency into the system with “no” restraints thus debased the currency and caused inflation where the middle class especially struggles to in many cases two wage earners survive in paying back these loans. Yes, of course they should have know better but many were not prepared when facing lenders with open arms and wonderful advertising. Banks need to make loans. Fewer loans, fewer banks. The changing of the bankruptcy law with the power of judgements, the banking lobbyists will fight to maintain and I see little chance of changing. Yes this was a “set up” from the beginning and many got hook for the greed of a few. A sad day.
Jerry , are you saying that the lenders thought the new BK laws would bail them out from making bad loans ?
yes. Most refiance or equity loans gives the lender the right to go to court and file a judgement which includes but is not limited to a garnish of wages, income from debtors. In most cases a judge will work out a payment plan if necessary. Few today realize the power of lenders and what they can do. They have good lobyyists! Many lenders will try to work out a plan or set up a 50 year or more loan. Anything. Just keep as many debtors as possible on paying back. With fees, interest charges, they will do ok. I would’t worry to much about BKS for them. They’ll be fine.
IMO they unwittingly cut their own throats.
Banks already charge usurious rates to cover BK losses, etc.; it’s not like they aren’t profitable. Debt slavery will teach a new generation the true nature of money, and when they finish their payment plans the banks will be poorer for it.
I am struck by the parallels between the loose lending standards in residential today and the loose lending standards in commercial in the 1980’s.
In residential today there is the same belief on the part of lenders that risk has been contained. In the 80’s it was government insurance (FDIC & FSLIC), and today it is private insurance with credit default swaps.
In residential today there is a complete lack of verification of income. In the 80’s it was unrealistic financial proformas, and today it is no doc loans.
In residential today everyone associated with the transaction is making fees, and buyers are putting in no money of their own. In the 1980’s you could go in to an S&L with a proforma and get cash out financing prior to construction.
Given these parallels, would it be surprising to anyone if today’s residential market crashed as hard as the commercial market’s of the 1980’s?
One note I would add: The RTC bailout of the 1980’s had to be done by the government because they were the insurer. A crash in residential real estate today would not require a government bailout, and IMO, a government bailout is unlikely.
‘The RTC bailout of the 1980’s had to be done by the government because they were the insurer. A crash in residential real estate today would not require a government bailout, and IMO, a government bailout is unlikely. ‘
Could you elaborate on your reasoning for this? I worked in the secondary markets until a couple of years ago. Residential loans are now routinely done without PMI through various schemes and pooled and sold to the GSEs. If the GSE portolios stop performing, would the government let them go under or bail them out?
For the purposes of discussion, I believe FNMA has some of the most powerful K Street talent money can buy. Any Senator who suggests some reforms will find himself in a “breakfast meeting” with the lobbyists within 24 hours. Do you honestly think our Congress can stand up to these forces?
Well the dumbest and riskiest of this cr@p (neg am option Arm etc) isn’t bought by the GSEs. And the Government is not obligated to bail out fannie and freddie. But when house prices REALLY start going South, I don’t think that the rot will stop until we’re well into the loans bought and securitized by the GSEs. And I don’t think that the government is likely to allow default by the GSEs, partly because that is liable to spill over to banks that the government IS obligated to bail out. One potential difficulty is that ISTR that OFHELO doesn’t have the authority to close down the GSE for mere insolvency as it can with banks. Heck, they can’t even seem to get a decent set of books out of them. This means that there is a good chance that one of them will be $1trillion or more in the hole before a cashflow crisis shuts them down.
“If the GSE portolios stop performing, would the government let them go under or bail them out?”
I believe the government would let them go under. Not to make this a political discussion, but I believe the Democrats will let them implode. This isn’t their political donor base.
“For the purposes of discussion, I believe FNMA has some of the most powerful K Street talent money can buy. Any Senator who suggests some reforms will find himself in a “breakfast meeting” with the lobbyists within 24 hours. Do you honestly think our Congress can stand up to these forces?”
These guys are lobbied all the time. This kind of lobbying hasn’t helped the auto industry much, and they really need it. Short of a Chrysler-style loan-guarantee bailout, I just don’t see the government coming to the rescue.
The MBS market will start working in reverse. There will be very few buyers for MBS and those who sold the fraudulent loans will be forced to buy them back at huge losses.
Well that’s happening right now. So far most of those affected are recently created subprime operations. http://ml-implode.com/ But I don’t think that it will stop there.
Remarks by Chairman Ben S. Bernanke
At the Independent Community Bankers of America National Convention and Techworld, Las Vegas, Nevada
March 8, 2006
Community Banking and Community Bank Supervision in the Twenty-First Century
Good morning. I am pleased to join you today to discuss matters of mutual interest to the Federal Reserve and community banks; to learn more about your business; and, I hope, to meet many of you in person.
Community banks have long played a critical role in the U.S. economy, and this is no less true in the twenty-first century. Today, I will begin by making some observations, based in part on research done at the Federal Reserve and elsewhere, about the health of community banks and their evolving role in our economy. Community banks are generally doing quite well, and I expect that good performance to continue. But community banks also face a changing business environment that presents a number of important long-run challenges. In the second portion of my remarks, I will speak a bit about how the Federal Reserve, as the supervisor of many community banks, is also adjusting to a changing environment, and I will review some of the key financial risks facing community banks.
http://www.federalreserve.gov/BoardDocs/Speeches/2006/20060308/default.htm
The roots of the bubble are deeper than many here suspect. Don’t blame it on GWB… that would be ignoring history.
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Community Reinvestment Act
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The Community Reinvestment Act (or CRA, Pub.L. 95-128, title VIII, 91 Stat. 1147, 12 U.S.C. § 2901 et seq.) is a United States federal law that requires banks and Savings and loan associations to offer credit throughout their entire market area and prohibits them from targeting only wealthier neighborhoods with their services, a practice known as “redlining.” The purpose of the CRA is to provide credit, including home ownership opportunities to underserved populations and commercial loans to small businesses.
The CRA was passed into law by the U.S. Congress in 1977 as a result of national grassroots pressure for affordable housing, and despite considerable opposition from the mainstream banking community. Only one banker, Ron Grzywinski from ShoreBank in Chicago, testified in favor of the act. [[1]]
The CRA mandates that each banking institution be evaluated to determine if it has met the credit needs of its entire community. That record is taken into account when the federal government considers an institution’s application for deposit facilities, including mergers and acquisitions. The CRA is enforced by the financial regulators (FDIC, OCC, OTS, and FRB). In 1995, as a result of interest from President Clinton’s administration, the implementing regulations for the CRA were strengthened by focusing the financial regulators’ attention on institutions’ performance in helping to meet community credit needs. These changes were very controversial and as a result, the regulators agreed to revisit the rule after it had been fully implemented for five years. Thus in 2002, the regulators opened up the regulation for review and potential revision.
The 1995 revisions were credited with helping to substantially increase the amount of loans to small businesses and to low- and moderate-income borrowers for home loans. Part of the increase in the latter type of lending was no doubt due to increased efficiency in the secondary market for mortgage loans.
http://en.wikipedia.org/wiki/Community_Reinvestment_Act
“despite considerable opposition from the mainstream banking community”
The mainstream banking community tried to warn of this folly back in 1977 and were shouted down. The irony is that they will now be the fall guys for the bitter fruit of bad policy.
The government has already paid the toll for this one, see:
http://en.wikipedia.org/wiki/Resolution_Trust_Corporation
And on and on and on we go…
How does the practice of “redlining “,come into play regarding the recent large scale lending practice of no lending standards .
The bankers back in the 70’s were refusing to go into certain areas like Watts for instance . Another example is redlining areas around airports . I mean lenders were just refusing to lend in those areas . It became a issue of discrimination .the Bankers thought they had the right to not make higher risk loans in prior red-lined areas .(Lenders had the prior foreclosures records to prove their point ).
I remember regarding making loans around airports ,the lenders than tried to stop lending based on health and safety violations ,rather than redlining . Course this is when lenders use to hold their loan packages until they became seasoned loans ,(for over 2 years ).Now the loans are just passed off to the secondary market in large scale .
‘How does the practice of “redlining “,come into play regarding the recent large scale lending practice of no lending standards .’
One way to preempt charges of redlining is to make sure that everyone who can breath can qualify for a loan. If everyone qualifies, then by definition there is no discrimination in lending.
OK , maybe that’s what the excuse wil be .
ACORN and other race pimping groups are still screaming that lending standards are discriminating against blacks and Hispanics. For some reason, the banks don’t discriminate against Asians. It must be the same reason that the SAT and IQ tests were rigged to make Asians look smarter. The white man is conspiring to bring Asians up and keep blacks and browns poor.
The funny part is, these race pimping groups are putting more and more blacks and Hispanics deeper into the poorhouse by opening up the subprime Pandora’s Box.
I remember when I was in the business you had to be very careful if you turned down a loan in a prior red-lined area . If you had a borrower in one of those prior red-lined areas you had to go the extra mile to make sure the loan package was seen in the best possible light .
9 times out of 10 the loans were high risk cr-p any way you look at it .
“The funny part is, these race pimping groups are putting more and more blacks and Hispanics deeper into the poorhouse by opening up the subprime Pandora’s Box.”
Not funny in my book, but definitely true, and a political time bomb of epic magnitude ready to blow up at any moment.
Your not doing anyone a favor if you put them on a loan they can’t afford because they will end up in foreclosure with their credit messed up even more .
It does not do wonders for the self-esteem to be booted out of a home by foreclosure either for marginal borrowers .
One of the reasons why lenders started not wanting to make loans around airports is because they were afraid that borrowers would sue them for giving them the loans because of the noise factor .Lenders are damned if they do and damned if they don’t in some cases .
But I agree with you GS ,a political time bomb for sure .
Pensacola, Fl
Back in the 1980’s, I had to get my dad to co-sign when I financed my car; and I worked as a computer operator at the bank where I got the loan. Bankers seemed much more conservative back then.
Thanks for following up on this, Ben and the gang! Illuminating stuff so far.
The problem with mbs is that the models they are using are built on historical data and real time characteristics which are not honest. In essense what they are doing is biasing the data into producing what they want to see. This 25% risk of default is really a 5% risk of default and it only decreases because we just sold derivitives to the other bank which in turn sold us the same risk.
This certainly having the smell of a texbook example of systemic risk. Perhaps 20 years from now it will be.
The difference between even 10 years ago to today are that mortgage companies and banks actually sell 100% of their loans PRIOR to closing. I used to work at Principal Financial and they just had to make sure all documentation was done and accounted for. Then the GSE’s(Freddie Mac & Fannie Mae) bought them. Many they kept and others now flow through to wall street(I mean the public - suckers everyone).
Then let’s add GW himself to the equation and wah-la we now have a world a wash in US Dollars(of course this causes inflation but that’s what government wants to pay off huge deficits) and that money needs someplace to go. Also why commodities are so high(the no more nickel beer syndrome)
Just my opinion of course - just wait you haven’t seen nothing yet when it comes to inflation(or dollar devaluation)
We were told that Fannie and Freddie were created to help the poor get into affordable housing. As usual, the government screwed everything up and now we are waiting for the timebomb to go off
“Then let’s add GW himself to the equation and wah-la we now have a world a wash in US Dollars”
I think the term you intended to use is “voilà”, a french word that roughly translates “look there” or “behold.”
>>> “[W]hen did lending standards start changing so much? I was involved in real estate 20 years ago, mostly as a property manager, but also doing some sales in Capitol Hill/DC, a lot of shells and distressed stuff that was being rehabbed by investors.”
>>> “I remember how difficult it was to get ‘investor’ loans back then, and that rental income was really discounted in terms of qualifying, etc.; as a result, we did a lot of seller-financed deals with a baloon in 3 to 5 years (usually paid off in a year or two when the property was rehabbed and sold).”
>>> “When did it start becoming easy for folks to get these low- and no- doc loans and by 3, 5, 10 — whatever — properties to try and flip? I’d love a history of the change in standards if someone has some good insight — who (agencies/companies) started this shift?”
The answer to your question is that it’s completely generational.
The people who were born before the 1929 crash, and who lived through the 1930s Great Depression and its horrors — homelessness, starvation, bankruptcy — were extremely cautious investors.
That generation of people all disappeared (retired or died) all at once in the early 1990s, and suddenly the senior financial managers and investors were from the Baby Boomer generation, with absolutely no fear of credit, and convinced that “Great Depressions” went out with dinosaurs.
If you go back through history, there are of course many small or regional recessions. But since the 1600s there have been only five major international financial crises: Tulipomania bubble (1637), South Sea Bubble (1721), French Monarchy bankruptcy (1789), Hamburg Crisis of 1857, and 1929 Wall Street crash.
Each of these major international crises occurred roughly 70-80 years after the previous one. What you find is that each new “debt bubble” occurs at exactly the time that the generation of people who grew up during the previous financial crisis all disappear (retire or die), all at once. Thus, the length of time between these “generational” financial crises is approximately equal to the length of a maximum human lifetime.
Today, the GI and Silent generations are gone, and the Boomer generation has been loosening lending standards ever since it took over, starting with loose credit card requirements in the 80s and 90s. It’s this generational change that answers your questions about “when.”
Our 70-80 year interval is pretty much over. The next major 1930s style Great Depression is just around the corner, with 100% certainty. Nothing can be done to stop it. All we can do is prepare for it.
John J. Xenakis
http://GenerationalDynamics.com
Interesting remarks John . Its just that when underwriters look at loans they have these guidelines and statements telling them how to figure the loan . If the underwriters get a loan package that conforms to the list of check marks ,than the loan gets funded .
So you have to look to who gives the underwriter the loan package/papers . That would be the front line loan agent /mortgage shops . The front line loan agent works with the borrower, sometimes realtor on the loan application . Oh, by the way ,these front line loan agents in charge of the paperwork on the loan application are also the clowns that were getting the big commissions .
Now my guess would be that high commissions came into play here somewhere are well as the underwriters and appraisers rubber stamping everything , and don’t forget borrowers willing to commit fraud, ( if you want to know how so many bad loans got by ).
Also the secondary market didn’t have the feedback of foreclosures yet to know that loan packages were dog meat .
Dead on, John. It’s not just generational memory, either.
Authors Arnold, Dent & Brussee have shown a compelling correlation between economic growth and the rise of the boomers. The resulting extraordinary period of expansion has led to the “irrational exuberance” so prevalent today, despite the lessons of history.
A similar demographic bulge peaked just before the Great Depression here in the US, and in Japan in 1990. When will the boomer’s economic influence peak? By their estimates, 2010. It’s all downhill from there for another decade.
“Just because the money was there from the secondary market, it didn’t mean the lenders should of been entitled to stop making prudent loans and resort to fraud and liar loans to meet the quota. The money would of gone to a better place and we would not of had this run-up like we did.”
I would observe that the money has already “gone to a better place”. It’s just that the market has not acknowledged it yet
I agree with David Barker — when the Fed dropped interest rates after 9/11, housing prices took off. I had been looking to buy in the summer of 2001, but felt mortagage rates were already too low, there would be an upward adjustment, and I’d buy later (at higher interest, then refinance in a few years at the down time in the business cycle).
My bad.
A combination of high trade deficit with China meant there was already high pressure to recycle those (worthless?) dollars being held by Chinese exporters; this is probably what drove rates low during summer 2001. A free-market correction would have led to a higher yuan / dollar ratio, and our prices for Chinese goods would’ve gone up. Fewer dollars would have been available, interest would’ve gone up, and US manufacturers would be more competitive. House prices would’ve fallen as interest rose.
When the Fed lowered interest rates in response to 9/11, the US money supply grew on top of the large volume of Chinese dollars seeking to be put to use. For sake of argument, a monetarist would say that supply and demand for goods (Sg, Dg) and dollars (Sm, Dm), and prices (P), and interest rates (I) are tied together like:
Dg / Sg = P
Dm / Sm = I
and
P = 1 / I
So if demand dropped post-9/11, and interest rates dropped, manufacturing would drop sharply. Jobs went overseas, and the ratio Dg/Sg went up, leading to higher prices.
What do you do if you’re a US bank flooded with cheap money, but all the manufacturing is shutting down and moving outside the dollar economy? You must make the money move… so you lend to businesses that are tied to the land: home owners, and commodity suppliers such as mines and farms.
This keeps going until the only people taking loans are in high-risk groups, and the failure rate rises to absorb the extra dollars. In effect Chinese exporters played a pyramid game, hoping that more and more people would buy their financial products. Now the scheme is collapsing.
It would be healthier in the long run if the Fed allowed interest rates and the Chinese allowed their currency to rise. We’d hang on to more jobs, we wouldn’t see such wild fluctuations in asset prices. Many of the same people hurt by the loss of jobs are now being hurt by foreclosure.
More to the point, those of us who stayed out of the market have been hurt by not having reasonable housing all these years; those who stayed in are hurt by not being able to move to pursue new jobs, or to downsize as they get older and the kids move out. We can fix things by letting interest rates rise.
Nice explanation. You mentioned lots of folks who were hurt by the bubble. Who won?
The winners were anyone who sold at a price higher than an un-bubbled market would have set. I used to ask myself this about the stock bubble in the 90’s, then realized… the one who win are the ones who walked away with the cash.
But now we are at the point where the only people buying property are the cash-back crooks . The market has come to a stand still and your right that the interest rates need to go up ,and the correction cannot be avoided .
IMHO,the repeal of The Glass-Steagall Act in 1999 had alot to do with this mess.
2002 spring was when I noticed the change. There were people moving into the townhouse development I owned in that clearly could not afford to upkeep the homes. In order to make the mortgage payment there were rooms rented out to multiple day laborers. I don’t think there were I/O no docs yet at that point, I saw the flipping start in earnest a year later in 2003. The flipping combined with the stated I/O stuff was going on in earnest until 8/2005.
That neighborhood has gone down 20+ percent already and I really believe that when all is said and done the price of the house I owned will fall back to what I bought it for in 2001.
I don’t think the results will be uniform over all of Northern Virginia but I do believe all areas will be affected.
This will catch you on the flip side too. In the bust of the 80s, when once higher end neighborhoods crashed…. poorer people who could not afford the maintainence on bigger houses bought into new developments…10 years later — craptacular.
In FL for the last 3 years there has been no such thing as underwriting, they just booked the loans and moved on…….It doesn’t suprise me one bit that the Coast folks didn’t inspect a job site as I have personally seen loans funded for $500K over the last comp sale on luxury condos in Dade……no one needed to look because the $$$$$ was booked regardless of the quality of the paper……..The question is will the powers that be allow the correction so desperately deserved? or try to extend/bail out the moneyed folk/power brokers……I feel it is naive of us to think that “oh well if WAMU, HSBC, or Wells loses 30-40% on all loans issued” that is just what they get for fronting the last four years……..Just look at CFC (this is a GREAT one for the conspiracy crowd)….they run a BofA takeover/coverup to sweep the stench loans under the rug…..Wonder what Paulson gave BofA in return for the gesture????????? Interesting times indeed! Darryl
“In FL for the last 3 years there has been no such thing as underwriting, they just booked the loans and moved on…”
Lending locusts…
“or try to extend/bail out the moneyed folk/power brokers…”
That’s my vote. Systemic risk management, ya know?
It seems the lending standards have been loosening gradually as part of the ongoing economic cycle, as stated by John X, since the last depression. Although you could buy Model T Fords on credit in the twenties, by the late 1950’s/early 60’s when my dad was a banker (in Canada), he says there was no such thing at that time as a car loan. If you wanted a car - you paid for it in cash. No one had credit cards. I recall in the mid 1980’s when I was coming of age, you had to prove your credit worthiness before you were allowed the honour of getting a credit card. Ten years later, university students without jobs were getting them. Finally today total credit insanity has taken over! No doubt after this blows up the lending standards will go back to how they were in the 1930’s and 40’s and it will all stard over again….
Don’t forget that the Fed has not only lowered interest rates and issued Fed Credit by the boatload; they’ve also reduced bank reserve limits to ridiculously low levels. Talk about risk!
Heath care totally out of control,lease cars people can’t really afford, furntiure at no payments or interest for 12 months, very overvalued stock companies,college tution fiance for years and the big one of course, to many houses that the public can’t buy so creative fiancing was born.
The whole country wants to act like rich people and have this i deserve it so why not attitude. They see the rich and famous on TV and want a part of the lifestye, if not the house they can’t afford it is the lease car they can’t afford the whole thing will be crashing down, it has to.
The fedreral gov’t is on borrow time and so is the American consumer the me, me, and more me generation is about to get a very hard lesson of what 1929 was about?
My experience was at a New Year’s Eve party in 2001-02 when a friend of a friend who worked for Ameriquest encouraged me to buy a home even though I didn’t have enough cash nor reserves. He said all I needed was a job. I knew there was a catch because I was just turned down for a loan because of my debt-to-income ratio. I just didn’t believe he could get me into a house so I didn’t even bother trying. But now, looking back at all that has happened since then and learning a bit about Ameriquest on this blog, the catch was mortgage fruad.