US mortgage crisis looming

First the New York Times
While real estate prices were rising, the market for home loans operated like a well-oiled machine, providing ready money to borrowers and high returns to investors like pension funds, insurance companies, hedge funds and other institutions. Now this enormous and important machine is sputtering, and the effects are reverberating throughout Main Street, Wall Street and Washington.

Already, more than two dozen mortgage lenders have failed or closed their doors, and shares of big companies in the mortgage industry have declined significantly. Delinquencies on loans made to less creditworthy borrowers — known as subprime mortgages — recently reached 12.6 percent. Some banks have reported rising problems among borrowers that were deemed more creditworthy as well.

Like worms that surface after a torrential rain, revelations that emerge when an asset bubble bursts are often unattractive, involving dubious industry practices and even fraud. In the coming weeks, some mortgage market participants predict, investors will learn not only how lax real estate lending standards became, but also how hard to value these opaque securities are and how easy their values are to prop up.

Mortgages requiring little or no documentation became known colloquially as “liar loans.” An April 2006 report by the Mortgage Asset Research Institute, a consulting concern in Reston, Va., analyzed 100 loans in which the borrowers merely stated their incomes, and then looked at documents those borrowers had filed with the I.R.S. The resulting differences were significant: in 90 percent of loans, borrowers overstated their incomes 5 percent or more. But in almost 60 percent of cases, borrowers inflated their incomes by more than half.

Is Australia insulated against the cracks in the mortgage market that are widening in the US?

No, not whilst Australia's median house prices continues to be increasing. And certainly easy credit like the lo doc loan products keeps fueling the price increases.

crikey.com.au weighs in on the same topic

Glenn Dyer writes:

Some of the biggest names in US finance have been caught up in the spreading collapse of the so-called sub-prime mortgage market.

These include Citigroup, HSBC, Goldman Sachs, GMAC and General Electric's finance arm, GE Money which operates in Australia and aggressively markets similar loans through the Wizard Home Loans operation it bought in late 2004.

The crisis in the US sub-prime mortgage market (that's what we call no doc/low doc housing loans with no deposit) is worsening with the second biggest lender in the area likely to go bankrupt very shortly.

It's just not an isolated event: the sub-prime mortgage market in the US has been responsible for much of the boom in home prices over the past two years as more and more money has been lent. Some US analysts say that it has been the single most important factor in the US housing boom, which peaked last year and then collapsed, threatening the rest of the US economy.

Now billions of dollars of mortgages are going bad as default rates skyrocket, people lose their homes and new lending dries up.

GE Money bought a small sub-prime lender called WMC Mortgage Corp (US) in April 2004, fed it billions of dollars and watched it jump from number 12 to number five among sub-prime lenders.

Last Friday it shut off new loans, closed several offices and laid off at least 20% of its staff, some 450 people, as the realisation grew that it is going to lose a lot of money for GE.

The reason for the problems is that many loans were sold not only as 100% financings with no deposit and no or low documentation, but they contained cheap starter rates where the initial interest rate was held down for six months to more than a year.

Those higher rates are now kicking in and many people can't afford them: as well as the value of their houses being dragged down by the fall in the overall housing market. It's a horrible double whammy that has seen the industry contract and turn off the lending tap in the space of a month.

And why is this important in Australia? The purchase of WMC gave GE Money a taste for similar businesses and six months later it bought Wizard Home Loans and its parent, from a group of investors which included PBL, founder Mark Bouris and ABN Amro.

Last weekend saw Wizard advertising a new offering of a no doc/low doc loan with 100% finance (ie, no deposit), the very product it has stopped offering in the US because the business is imploding. Here's the Wizard website with its 100% finance offered in the banner headline at the top of the page.

There are growing problems with no doc/low doc/no deposit loans here, especially in the suburbs of western and southwestern Sydney where foreclosures are still rising and house prices are falling.

It's not the crisis it is in the US but it makes you wonder how GE can continue to offer this sort of finance here, with our problems, and knowing the problems that it has got itself into in the US.