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The Mortgage Meltdown: A Realtor's Perspective
By: Karen Highland

 If you really want to know what contributed to this mortgage meltdow, I've done the research, this is worth the read; and please, follow my links.  

*Disclaimer*
This content is prepared for those outside the current "sound bite" culture.

The Culprit: The Subprime Mortgage. Before we begin our detective work, let’s define some terms. Subprime means just what it sounds like, less than prime. A subprime loan, given to a subprime borrower, is for the person who does not qualify for a prime loan, either because of bad credit, or not enough credit, or high income to debt ratio. There have always been subprime loans, in all kinds of industries, like credit cards and auto loans, for instance. They are often necessary for people to repair their credit. They are risky loans, but lenders have built-in factors to offset their risks, like higher interest rates, and private mortgage insurance. The problem started when subprime lending began to grow to a very risky level. It is estimated that 21% of current loans are subprime loans, including the infamous ARM’s, and the Stated-Income loans, or “liar loans”.  In 1994, the estimate was 5%.    

The natural question is What would incent banks to overuse these risky loans?  That's the $64K question, I'm glad you asked!  Especially since we now know that in 2006, about 61% of the people who got subprime mortgages had credit scores high enough for conventional loans.

The Accesory to the Crime:  The Political Climate.  The Political Climate of our time repeats the mantra:  "Affordable Housing", the highest and best outcome, even at the cost of common business sense.  Echoing this mantra are several Willing Accomplices.


Willing Accomplice #1: The Real Estate Boom and Bust.  In hindsight, we see many factors that contributed to the Boom, and inevitably caused the ensuing Bust. Low interest rates, easy credit, inflow of foreign investment, all lead to increased demand. As with any market, the higher the demand, the more the price is driven up. Builders increased new home building, to the point of overbuilding. Add to this the growing number of Speculators, those who bought homes to flip, and the growing number of 2nd home- buyers. This number reached 40% of the homes bought in 2005, and 36% of the homes bought in 2006. Eventually affordability went out the window, you can only reduce interest rates so much. ARM's came due, demand ceased, credit tightened, high inventory of new homes, as well as exhisting homes on the market, it all sent prices plummeting. And here we are today.

Willing Accomplice #2:  Securitization. Securitization has been used in different forms since the middle ages. In this country, we've experienced crisis no less than 6 times because of securitzation between the Civil War and WWII.  This time, securitization of mortgages started in 1970.  It is the process of taking money-making assets or financial receivables, bundling them and selling them to thir-party investors.  The process frees up more capital so that banks can make more loans.  The default risk gets spread around to all the investors. The problem came when an increasingly growing number of subprime loans got bundled into those MBS's.  In 2001, 54% of subprime mortgages were securitized, compared to 75% in 2006.  According to Alan Greenspan, securitization of these loans, not necessarily the loans themselves, is what led to the current glogal credit crisis. Keep in mind that the third-party investors are all over the world; they are your mom & dad's pension fund, they are my kids' college fund. Bet I can guess what your next question is...Why would anybody with any business sense do that?!  Good Question!

Willing Accomplice #3:  Credit Rating Agencies.  Credit rating agencies are now under scrutiny for giving investment grade ratings (BBB - AAA paper) to these MBS's with subprime loans (C paper).  These higher ratings brought on more funds from foreign investors, helping to finance the housing boom. The unbelievable fact is that these rating agencies are paid by the companies that bundle and sell the debt to investors. Can you say "conflict of interest"?  The really bad news is that in light of this, many companies have had their investments downgraded, lowering their stock prices, requiring them to come up with tremendous capital to maintain their capital ratios. But this still does't answer your first question: What would incent banks to overuse these risky subprime loans?  We need 3 more accomplices to complete the picture.


Willing Accomplice #4: Fannie Mae and Freddie Mac: Fannie Mae buys loans from mortgage originators, repackages the loans and sells them on the secondary mortgage markets. Freddie Mac was created in 1970 to compete with Fannie Mae. Fannie may also hold some of the loans in its own portfolio.  Fannie provides a guarantee to its MBS’s by setting guidelines for the loans that it will accept, called “conforming” loans. So, I’m sure you’re about to guess what happened…yes, the guidelines were lossened up over the previous years to allow for more subprime loans to be acceptable. Here's the timeline:

In 1992 Fannie Mae and Freddie Mac were required to devote a percentage of their lending to support affordable housing, ie. Subprime loans.
In 1999 the Clinton Administration pressured Fannie Mae to ease its credit requirements for the mortgages it purchased, all in order to promote “affordable housing”, or mortgages to borrowers with low to moderate incomes. Fannie Mae started receiving credits for meeting the new affordable housing goals set by HUD. Shareholders also pressured them to lower its conventional credit standards to maintain its record profits.    
In 2000, HUD did a reassessment and new anti-predatory lending rules were adopted which stopped these loans from being credited to affordable housing goals.   
But in 2004, these rules were abandoned for new rules that allowed high-risk loans to be counted again. Fannie Mae is in the midst of scandal over the "cooking of the books."
And let us not forget the $90 mil. former CEO Franklin Raines was awarded for meeting the bonuses he and his cronies at Fannie Mae had set up for themselves. He took “early retirement” in 2004 while he was under investigation. The settlement ended up costing Fannie Mae $400 mil.  And of course, the campaign contribtions Fannie Mae gave to several Congressman, perhaps those who would do nothing to regulate Fannie Mae?
Willing Accomplice #5: The Community Reinvestment Act: The Community Reinvestment Act, and I encourage you to google it, was passed in 1977, as a follow-up to the Fair Housing Act of 1964, in an effort to address some legitimate discrimination. Those who maintain that it had nothing to do with the current crises site that it has been around since 1977. But it was fairly dormant until the 90’s. The CRA gave ratings to banks based on the amount of loans they gave to create affordable housing. 
In 1989, in response to the savings and loan crisis of the 80’s, Congress passed the FIRREA, and part of the reform of the banking industry was to increase the oversight of the process of issuing CRA ratings to banks.  This gave teeth to the Community Reinvestment Act, which made a huge difference to the dormant 1977 Act. It in essence, gave advocacy groups, like Acorn, power to influence the lending policies of banks. It’s unintended consequences: politicizing the bank’s lending practices.
In 1993 President Clinton asked regulators to reform the CRA, making the process more streamlined. Some of us call this de-regulation.
In 1995, CRA regulations were revised, publicizing the ratings that CRA gave to banks. Community action groups became more and more involved, and politicization of banking grew. Some called for the repeal of this act.
In 1997, First Union Capital Markets and Bear, Stearns & Co. were the first to start securitizing CRA loans, of course with Freddie Mac’s guarantee that they were “AAA”.
In Oct. 2000, Fannie Mae purchased and securitize $2 Bil. Of “My Community Mortgage” loans, to  expand affordable home mortgages and to increase liquidity for CRA-eligible loans. In Nov. of 2000, HUD required Fannie to dedicate 50% of its business to low-and moderate-income families. In each of the revisions to regulation, or lets call it what it is: de-regulation, The goal has been to increase the ability of the CRA to promote the economic development of lower-income communities, in the form of loans, subprime loans to be exact. 
So, besides the fact that CRA pushes a lot of subprime loans, what’s so bad about them? Great question! 
The CRA’s rating of a financial institution directly affected the institutions ability to expand. Many critics have asserted that CRA has encouraged banks to make unsafe loans in the push for affordable housing, even to the point of “forcing banks to lend to people who normally would be rejected as bad credit risks."  (Ron Paul).  The CRA's policies are believed to have encouraged predatory lendingCritics say that CRA is a bad fix for a real problem. It has escaped scrutiny because of the highly charged political issue of affordable housing.
This discussion brings me to my last
Willing Accomplice #6: CongressThe Real Culprits
, who should have done something, could have done something, but wouldn’t. It’s always interesting to me that the general public blames the administration for most things, when it is Congress who actually spends our tax dollars, and Congress who had oversight of Fannie Mae, Freddie Mac, and who imposed the Community Reinvestment Act on us. Congress is the entity that votes on laws to regulate and deregulate. The Bush Administration proposed more regulation of Fannie Mae and Freddie Mac 17 times, (in 2008 alone) but were blocked by democrats in Congress.  Congress only acted when it was too late, the house in 2007 and finally the senate in 2008. My intention is not to make this article partisan, so I encourage you to follow the links and decide for yourself.
Consequences to the American People?  Apart from the $700 bil., er…I mean $850 bil. Bailout, there are other costs, including about $1.2 trillion in loans to financial institutions to keep them afloat. The loss to states and municipalities in property tax revenue due to decreased home values is estimated to come to $1.2 trillion.  The pool of subprime mortgages was bought by investors all over the world. The IMF says the worldwide loss due to the subprime crisis could run $945 billion.
So what now? 
Let the Litigation Begin! In Feb. 2008, there were 278 civil lawsuits in federal courts related to the subprime crisis. The lawsuits in state courts haven’t been numbered. 
FBI Investigations have begun, with a 50% increase in agents assigned to mortgage-related crimes since 2007. There have been hundreds of arrests, including two former Bear Stearns managers, the first Wall Street executives to be arrested. An FBI investigation of Fannie Mae and Freddie Mac, AIG, and Lehman Brothers is on the way. On June 18, 2008 a Congressional ethics panel stared an investigation of Senators Christopher Dodd and Kent Conrad, who have been accused of receiving preferential loans by Countrywide. 
Thankyou to all who made it to the end of the article, I hope you found it informative. I welcome critiques and comments. I also hope that the facts have made you, like they have me, a little angry, and a little more willing to dig for truth.  I believe that the moral of the story doesn't get lost in the rhetoric:  When political agendas and social engineering mess with tried and true common sense business, we the people always get screwed.  Thanks for reading.

www.thehighlandrealestategroup.com            
The Highland Real Estate Group
Real Estate Teams,LLC
301-831-9947: direct
301-695-3020: office
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The Mortgage Meltdown: A Realtor's Perspective
By: Karen Highland
   
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