Subprime Myths Exposed
Feb 10th, 2008 @ 5:55 PM by Alden Smith
Because of the sub prime mortgage market, over 1 million homes will go into foreclosure over the next few years. To put that in perspective, think of a town, like Dallas, Texas, as a virtual ghost town. With a population of a little over 1 million souls, and if all foreclosures were focused there, the town would be dead.
Not good news. A lot of the news we get on the sub prime debacle, though, is not really what things are about. I read an interesting article today in the Pittsburgh Tribune-Review that put things in a more relevant manner. In a nutshell, I offer them here.
Myth #1 – The sub prime mess was unexpected. It will bring financial ruin to the system.
Not necessarily so. This crisis is nothing compared to the S&L mess in the mid 80′s. It really is more of a situation than a crisis. Some see this as fallout from the S&L mess. In the years of 2005-2006, nearly $625 billion dollars of sub prime mortgages were issued by 3rd party brokers to people with poor credit and a low credit score. What began as deals between dishonest or unknowing buyers and mortgage brokers creating “liar loans” ended up as globally traded complex debt securities that weren’t exposed as shaky until the tide of sub prime defaults began to rise in 2005. Now we see litigation by investors because they have been gypped out of money that they invested in a security that was not exactly what they though it was.
Myth #2 – Buyers facing foreclosure were first time buyers who had no chance of making mortgage payments, or were independent investors looking to flip the house and make some quick cash.
Most of the people facing foreclosure are not first time buyers, to the tune of 90%. Even less than that are speculators flipping houses. Many of these people are living in their homes and struggling to make monthly mortgage payments. A lot of the mess is blamed on people who are called “serial refinancers” and took out equity to live their current lifestyle. When this became a real thing, unethical lenders started using “teaser loans” to sucker these people into a situation that they can’t bail out of. Enter the nasty old ARM and all the fallout from that.
Myth #3 – Banks just love to take people’s homes when they fall behind.
This is to me the biggest myth of them all. A bank wants nothing to do with an asset that isn’t making its shareholders money, and holding a title on a home that has been foreclosed on dries up that monthly payment, along with interest accrued. Simon LeGree lives no more. If you get behind, be sure to call your bank and make arrangements. They will be more than happy to work with you.
Myth #4 – Local banks will suffer even more with sub prime problems elsewhere.
According to the Trib, banks are in pretty good shape, with the exceptions of New York Mellon Corp, which dropped $118 million thus far, and Merrill Lunch ponying up to the tune of $2.2 billion. Not peanuts by anybody’s estimation, but it has little effect on local banks in other regions. There are of course some exceptions, such as National City Bank based in Evansville, which had to sell its First Franklin sub prime mortgage sideline. They lost $526 million in October.
Myth #5 – No one can make any money now in mortgage based securities because of this meltdown.
One man’s junk is another man’s treasure. Money institutions with deep pockets are exploiting the opportunities from this fallout by buying up these securities and sitting on them. They know that in time these securities will rebound, and are willing to take a chance on the fact that they will.
Bankers are smart fellas. They know a lot more about the inner workings of every deal made than any one around. They haven’t been in the business successfully for so many years by being stupid. Although greed has surely driven this mess, the whole system will not tumble. Blame a great deal of this on the knee-jerk mentality of the news media. It is the best place to begin.
Excellent post, Alden!
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