President Bush sent his Treasury Secretary out with a proposal yesterday to try to stem the tide of subprime mortgage defaults and foreclosure. The America Securitization Forum, which represents mortgage investors and mortgage servicers, recommends mortgage servicers freeze interest rates for borrowers who are without equity AND facing an adjustment in the next two years.
So what will this proposal really do? Will it help Ohioans with bruised credit? Or is it a red herring, designed to trick the public into thinking politicians care about them?
Asking those questions, I analyzed our company’s records of thousands and thousands of past clients in the time range specified in the proposal. Only 0.8% of the homeowners we have made loans to would fall into the category of these subprime ARMs. I think we are a pretty typical lender in Ohio.
Assuming our ratios are representative of the entire state, this proposal has the capacity of helping NOT MORE than 60,000 Ohioans. After applying the other tests of equity, home value, verifiable income and lender generosity, I would expect that you would never hear of someone helped out by this plan.
Here’s the kicker, though. Interventions like this - that only help those with poor credit or a demonstrated inability to pay their mortgage - offer perverse incentives for Americans to alter their circumstances to qualify for the aid. If this happens, more loans will be frozen than is currently estimated - and those families’ financial hardship will be worse.
There is also a lot of complaining about how this plan would actually drive house prices LOWER. That’s because you aren’t allowed to have more than 3% equity in your home. This incentivizes appraisers to bring in low appraisals. But I don’t think this will affect values so much, since these are not sales or public records or industry association data. The other big question is who orders appraisals under this plan?
Of course, the ‘elephant on the dinner table’ is that current prices are still too high. Isn’t that heresy, you ask? No, its common sense. Housing in Ohio continues to fall in real prices (although they may remain flat if you don’t adjust for inflation) because those prices are a direct result of easy financing and rampant real estate speculation that got us into this mess. The revival of prudent lending standards implies the return of common sense to prices. Most people think traditional lending standards are a good idea, but you won’t find many that lobby for rational (lower) prices!
Also, what you might not know is that the Federal government is the biggest subprime borrower in the world and has committed you and I to pay back the biggest adjustable rate mortgage pool ever. Nearly all of the $10 trillion national debt is financed with short-term paper, like 2-year and 5-year Treasury bills. When interest rates rise, as they inevitably must from near-record lows, will Paulson ask holders of US Treasuries to “freeze” their investment yields for five years? Even if they did, it is unlikely pension funds and foreign central banks would accept below market returns for such a period of time.
Bottom line: this policy – even if implemented by every possible mortgage servicer – is going to do little for either borrowers or the President’s approval rating. And while this plan is labeled ‘voluntary’, you can be sure that if lenders don’t renegotiate ALOT of loans, the regulation burden will be all the more crushing and draconian. Government “infrastructure” is not the answer to “struggling borrowers.”
