19 December 2007

Subprime Mortgage History

Janet at Xark! links to a BBC Q&A on the mortgage "crisis."

What we're seeing in the mortgage market is just a piece of the larger credit "crisis" resulting from bad decisions by private lenders and borrowers after deregulation.

The evolution of the subprime mortgage market (pdf, 2006)

Many factors have contributed to the growth of subprime lending. Most fundamentally, it became legal. The ability to charge high rates and fees to borrowers was not possible until the Depository Institutions Deregulation and Monetary Control Act (DIDMCA) was adopted in 1980. It preempted state interest rate caps. The Alternative Mortgage Transaction Parity Act (AMTPA) in 1982 permitted the use of variable interest rates and balloon payments.

These laws opened the door for the development of a subprime market, but subprime lending would not become a viable large-scale lending alternative until the Tax Reform Act of 1986 (TRA). The TRA increased the demand for mortgage debt because it prohibited the deduction of interest on consumer loans, yet allowed interest deductions on mortgages for a primary residence as well as one additional home....

Although the subprime mortgage market emerged in the early 1980s with the adoption of DIDMCA, AMTPA, and TRA, subprime lending rapidly grew only after 1995, when MBS with subprime-loan collateral become more attractive to investors....

During the 1990s, average credit scores tended to decline each year, particularly for ARM borrowers; but since 2000, credit scores have tended to improve each year. Hence, it appears that subprime lenders expanded during the 1990s by extending credit to less-credit-worthy borrowers. Subsequently, the lower credit quality unexpectedly instigated higher delinquency and default rates (see also Temkin, Johnson, and Levy, 2002).
When lower-income families went looking for home equity debt in the past, many may not have been able to find it due to their limited or poor credit history. With the rise of the subprime lending market, however, it has become relatively easier for these borrowers to access credit. As the Treasury-HUD report noted, the volume of subprime mortgage originations has increased nearly five times over in the last five years. As a means for expanding the availability of credit, the development of this market has represented a signal achievement for our economy.

The Crisis of Credit Visualized from Jonathan Jarvis on Vimeo.

This American Life, The Giant Pool of Money


Samantha said...

In the past years, the private sector has dramatically expanded its role in the mortgage bond market, which had previously been dominated by government-sponsored agencies. Especially subprime mortgages that became increasingly popular in recent years are considered higher-risk loans because they typically draw borrowers in with an initial low “teaser” interest rate, which can spike upward after the first few years. Subprime mortgages proliferated in the early part of the 21st Century. About 21 percent of all mort­gage originations from 2004 through 2006 were subprime or bad credit mortgages, up from 9 percent from 1996 through 2004. Subprime mortgages totaled $600 billion in 2006, accounting for about one-fifth of the U.S. home loan market.

W2JIG said...

Thanks, samantha! I've seen that Lonski quote everywhere, but never been able to track it back to an original document (It might be in one of Lonski's articles at moodys.com for $)

From Brookings, Credit Crisis: The Sky is not Falling (Oct 2007) "Yet among all U.S. residential mortgage originations, subprime loans altogether comprised a cumulative total of under 13 percent from 1994 through 2005, though they rose to 19 percent in the year 2004 and 21 percent in 2005, according to the Mortgage Bankers’ Association (MBA). This means at least 87 percent of residential mortgages as of mid-2007 were not subprime loans, according to the MBA’s delinquency studies."

Lonski in 2002, "Interestingly enough, there are important segments of the housing sector that have run into a diminished ability to borrow -- the subprime borrowers. Suppliers of credit have reduced the amount of money available, particularly for manufactured housing or mobile homes."