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The homes and people at the heart of the Goldman/Paulson deal

goldmanhomes.JPG

The article I'm about to link to was written by Carrick Mollenkamp, Mark Whitehouse and Anton Troianovski. They were helped by Stephanie Simon, James R. Hagerty, Serena Ng and Cari Tuna. I want to name names because the piece, which reports on some of the specific homes and people included in the pool of loans beneath the Goldman Sachs fraud case, is just that fantastic. It's easy to forget that there were real people and real mortgages at the base of this crisis, and now they're going through real pain. Foreclosure hurts even worse than bad headlines. For instance:

One mortgage in the Abacus pool was held by Ms. Onyeukwu, a 43-year-old nursing-home assistant in Pittsburg, Calif. Ms. Onyeukwu already was under financial strain in 2006, when she applied to Fremont Investment & Loan for a new mortgage on her two-story, six-bedroom house in a subdivision called Highlands Ranch. With pre-tax income of about $9,000 a month from a child-care business, she says she was having a hard time making the $5,000 monthly payments on her existing $688,000 mortgage, which carried an initial interest rate of 9.05%.

Nonetheless, she took out an even bigger loan from Fremont, which lent her $786,250 at an initial interest rate of 7.55% — but that would begin to float as high as 13.55% two years later. She says the monthly payment on the new loan came to a bit more than $5,000.

She defaulted in early 2008 and was evicted from the house in early 2009.

And when you wonder why so many people took out loans they clearly couldn't pay, consider the case of Ghorghea Bledea:

Mr. Bledea, who is suing his lender in Superior Court of California in Sacramento on allegations that he was defrauded, wanted a 30-year fixed-rate loan, according to his complaint. His broker told him the only one available was an adjustable-rate mortgage carrying an 8% interest rate, according his court filing.

Mr. Bledea, who says he has limited English-speaking skills, was told that he'd be able to exit the risky loan in six months and refinance into yet another one carrying a lower 1% rate. Mr. Bledea agreed to take out the $531,000 loan on July 21, 2006.

The new loan never materialized. Within months, Mr. Bledea and his family were struggling under the weight of a $5,800 monthly note, says his son, Joe Bledea.

This is also why Elizabeth Warren and others think a Consumer Financial Protection Agency is important for protecting the financial system: if you hadn't had this insane and reckless lending, you couldn't have had all the financial products that derived their value from how the insane and reckless lending worked out in the long run.

Anyway, If you have a Wall Street Journal subscription, you should really read the whole thing.

Photo credit: By Jacob Kepler/Bloomberg

By Ezra Klein  |  April 22, 2010; 5:10 PM ET
Categories:  Housing Crisis  
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Comments

BTW, no WSJ subscription is needed to read the linked article. And yes, it is excellent!

Posted by: Dannno | April 22, 2010 5:33 PM | Report abuse

In my world, the ARM's and the balloons and all of these exotic mortgages that always get the borrower into trouble would be illegal. Banks always peddle this poisonous junk in super-heated real estate markets and the end of the story is always anecdotes like these.

30 year fixed with 20% down, and make available FHA down payment subsidies of some kind for otherwise well-qualified lower income first time buyers who can make the monthly payments but have no ability to put together the down payment. Outlaw everything else.

Posted by: Patrick_M | April 22, 2010 5:38 PM | Report abuse

I find it interesting that investors can purchase insurance on assets/liabilities with which they have no connection whatsoever.

That is a big no-no for individuals. I can't buy life insurance on someone unless I have an "insurable interest." In other words I can buy life insurance on a family member, but not on my worst enemy / biggest rival. The rational for that should be obvious.

Posted by: nisleib | April 22, 2010 5:42 PM | Report abuse

Sheesh. I'd like a 2 story, 6 bedroom house. But I don't have that kind of money. Thus, I never would have bought one. I don't mean to be hard-hearted. More to the point, I'd never, ever get into any sort of long term debt with a floating interest rate. That's crazy. That's like betting your house on the outcome of that lottery ticket you bought when you felt really, really lucky.

Frankly, I don't think those sort of loans should be legal. Because they are gateway loans for interest rates that only seem to go up.

"was told that he'd be able to exit the risky loan in six months and refinance into yet another one carrying a lower 1% rate"

Man, that would be a deal. Yes, he should be suing the lender, but come on. When something is way too good to be true, insanely too good to be true, impossibly to good to be true and you just have to make this suck-ass-deal-with-the-devil for just a few months to get that way-to-good-to-be-true deal, then . . . it's too good to be true! It's a scam! Run!

At some level, the entire subprime mess seems to be a function of our collective inability to delay gratification. Sort of like the obesity epidemic.

In other news, nations are going to go bankrupt soon and the world is probably doomed (at least financially):

http://www.forbes.com/forbes/2010/0208/debt-recession-worldwide-finances-global-debt-bomb.html

That's from January, but I just read it, so . . . it's like news.

Posted by: Kevin_Willis | April 22, 2010 5:45 PM | Report abuse

I gotta agree 100% with Patrick_M on this. The ARMs and whatnots should be illegal. They're little more than legalized loan-sharking, and they always end poorly.

And while I have no objection to a Consumer Financial Protection agency, I'm not sure how much that helps Ghorghea Bledea. The bank lied to him to get him into a loan (that he would inevitably default on, so the goal must have been to make a quota or something, otherwise why lie to get loans you know will default, and sooner rather than later?). That is already illegal, as it's fraud and misrepresentation and a couple of other things.

A way to address that might be to obligate financial institutions to hold on to any loans they make for upwards of 7 years (that is, until the point where most bad-credit loans default). There would be no incentive to make doomed loans that end up hurting the people who take them out, as well as collectively torpedoing the economy, if the bank making the loan was obligated to hold on to the loan past the normal default date.

Posted by: Kevin_Willis | April 22, 2010 5:51 PM | Report abuse

at one point I thought ARMs should be illegal but then again when you do that you then make it impossible to get for the investor that has sufficient understanding of the instrument.

Should the end result of all regulation be that we dummy it down to the least of us? Is that really good policy?

Rather I'd require suitability similar as there is to life insurance (ie you can't insure yourself for more than "X" times your annual income.

Strict suitability requirements resolve the issue.

That being said i'm wondering why the administration hasn't yet polarized the issue like they did with the Natoma's of the healthcare debate? Is that still to come or have they decided against politicizing people's when it comes to finances as opposed to their health?

Posted by: visionbrkr | April 22, 2010 6:14 PM | Report abuse

For the love of god, am I the only who reads this and thinks "What the hell was she doing taking out a $700K mortgage when she makes just over $100K/year?!?!" It is amazing to me that someone would read this story and first think to blame the lenders. Ezra reads this and says "this is why we need a CFPA," why not "this is why you shouldn't buy things you can't afford"?

Posted by: ab13 | April 22, 2010 6:15 PM | Report abuse

ab13, while that is pretty insane for the long term, California is a non-recourse state. The aforementioned borrower acquired a put option with her loan, which she has now exercised. The next question is, what was the bank doing underwriting such a loan, with its two embedded options (a put on the property, a call on the loan)? The bank is on the hook, after all.

The answer, to my mind, is the same: the bank knew that it had a put, too. It could always put itself to the FDIC and rely on limited liability to protect employees and shareholders from further repercussions.

In the end, while it is tempting to blame individual borrowers and lenders, I think both acted rationally during the bubble: they both took risks they knew someone else had to bear in the end.

Thus the real question is, what was our regulatory apparatus doing allowing banks to underwrite such loans?

(Parenthetically: what offends me about the Pittsburg transaction is not debt-to-income, but location. If you buy a $700k house in San Francisco, at least you're in San Francisco. Pittsburg is, charitably, a somewhat less desirable location.)

Posted by: wcwhiner | April 22, 2010 6:23 PM | Report abuse

"Thus the real question is, what was our regulatory apparatus doing allowing banks to underwrite such loans?"

Yes, exactly. It is easy to blame the borrower, but since we have all suffered the consequences of the widespread peddling of bad mortgages, it is clear we need much better controls on the industry's lending practices in order to protect the economy.

I also agree with Kevin_Willis that banks should not be permitted to sell the loans that they make for a substantial period of time, so that they will shoulder the risk of their own lending until it becomes at least partially clear that the loan is viable over the long term.

Posted by: Patrick_M | April 22, 2010 6:45 PM | Report abuse

visionbrkr,

Your idea about "strict suitability" regulations for exotic mortgages sounds good, except that I can't imagine how you would structure the eligibility criteria for an instrument like an ARM.

The reason that they nearly always go bad is precisely because they contain open-ended variables that can't be predicted with any certainty. So if you can't know how high the interest rate might rise, or how low the value of the property might fall in a declining market, it always seems like these types of instruments are the worst sort of crap shoot.

It is unclear to me that there is any inherent value in these types of loans that offsets the proven track record of failure. Sometimes snake oil financial deals are just snake oil, and banning them is not "dummying down," it is the smarter way to do.

Credit cards are another area where I think society would be better off with a much simpler approach. Go back to how it worked in the 1970's. Cap the allowed interest rate at around 12%, take away all of the extra fees, and then the banks would carefully hand out the cards and set the credit limits based on income and credit history.

It was profitable then and would be profitable now, but the banks are making more money on exorbitant interest rates and fees by getting too many people in way over their heads. It would be better for our society to curtail a lot of the "freedom" and "innovation" in the banking and financial industries in the past 30 years and take a much more conservative approach to what banking is all about.

Posted by: Patrick_M | April 22, 2010 7:17 PM | Report abuse

Patrick,

you could easily require ARM's to have caps at the low and high end. That way it protects the borrower while also protecting the lender.


silly ab13,

you don't expect anyone around here to blame the borrowers do you? Again if suitability was required by law then they never would have given her the first mortgage not to mention the second. Ms. Onyewuku was already under financial strain in 2006 prior to the crash. That's something no one's mentioning here. We also don't have any other detail than the ones that blame the lender here. Don't get me wrong the lender deserves to be held responsible somehow, sued, whatever but the question begs did she over-extend herself in other places/means? Car loans? Business loans? Personal loans? Credit cards?

Posted by: visionbrkr | April 22, 2010 11:17 PM | Report abuse

ab13,

Had the (almost) exact same reaction here. These homes were obviously way out of reach for these people. However, I'll add that the dollar amounts involved definitely reduced my sympathy.

I don't make $9,000/mo pre-tax - heck, a quick review of my W2 tells me I didn't make half that last year! My response to these stories is cry me a river.

The average rent for a 2 bedroom apartment in SanFran - a city that probably has a higher cost of living than Pittsburgh, CA - was $2,500/mo. She could have dropped $3,000/mo and have gotten a great 2bdrm.
http://www.apartmentratings.com/rate/CA-San-Francisco-Pricing.html

But no - she wanted a six bedroom house (heck, she could have bought a 3bd/2ba home for something closer to $3,000/mo I'd imagine), money be damned. Don't people make budgets anymore? "I make $9,000/mo, $6,750/mo after tax, huh, a $5,000/mo mortgage payment blows up my financials, shucks can't do it." Why didn't that thought cross her mind before she ended up as a foreclosure statistic?

That all said, I agree the 2nd guy was defrauded but at the same time, hey buddy you need to pay 8% now but in just a few months you can refi at 1%? SMH.

I hate being paternalistic - I thought requiring 20% down would be enough to prevent a bubble from taking off, and at the same time focus people's minds before they buy, to make sure their investment doesn't go down the tubes, but now I'm not so sure. Maybe lenders need to test you by offering a few stupid mortgages, and if you accept any of the stupid ones you're banned from getting a mortgage until you ace a class in finance? Sheesh.

Posted by: justin84 | April 23, 2010 12:13 AM | Report abuse

"you could easily require ARM's to have caps at the low and high end. That way it protects the borrower while also protecting the lender."

I suppose, but if the borrower qualifies (under your "strict suitability" standard) for the worst case scenario upper end cap interest rate, why would that borrower want the ARM (rather than a fixed rate mortgage at the current rate), knowing that he or she could re-finance later if rates drop? I just don't see the value added for anyone of lenders continuing to be allowed to push ARM's.

"Don't get me wrong the lender deserves to be held responsible somehow, sued, whatever but the question begs did she over-extend herself in other places/means? Car loans? Business loans? Personal loans? Credit cards?"

The lender would have this information before offering the loan with an ordinary credit report. The mortgage crisis occurred in large measure because the banks were churning out loans with little scrutiny over the borrower's abilitiy to repay. Classic moral hazard when all the mortgages are immediately sold off and sliced and diced into mysterious securitized junk.

And when a borrower been defrauded and then foreclosed, that person may not have the financial means to mount a lawsuit against a giant bank. That's a big part of the appeal of the Elizabeth Warren model of the Consumer Protection Agency, that ideally could monitor and investigate complaints and engage in early intervention in the face of abusive practices.

"Why didn't that thought cross her mind before she ended up as a foreclosure statistic? ... Maybe lenders need to test you by offering a few stupid mortgages, and if you accept any of the stupid ones you're banned from getting a mortgage until you ace a class in finance?"

The lender presumably almost always understands finance better than the consumer, so why does all the blame fall upon the borrower when a loan makes no sense? Banks should be required to bear the risks of their own bad lending, and certain loans are so bad they should be banned altogether.

Posted by: Patrick_M | April 23, 2010 1:39 AM | Report abuse

Patrick,

with all due respect you're not understanding suitability. Suitability puts all of the onus on the lender not on the purchaser (at least in life insurance it does as nisleib states correctly above). That being said when a perspective homeowner is told NO they need to understand that and realize they must live within their means just as justin states. I'm around where it seems Justin is income wise. Would I love to move into a better neighborhood, better area, absolutely. Will I do it if its at the expense of making me "house poor", no. That where possibly the example of Ms. O went wrong.

Posted by: visionbrkr | April 23, 2010 8:00 AM | Report abuse

Patrick,

There are plenty of scenarios where an ARM makes sense. Say you're starting out in a career with a decent salary but with loans from school. You could rationally choose to get a 5/1 ARM now with a lower rate than the fixed rate, put the extra money over those 5 years to pay off the student loans and then have extra cash flow in yr 6 when you're subject to interest rate risk. Or say you only expect to live in an area for 5 years or so - there's some risk that you'll change your mind before the rate resets, but you could save a lot of money in those 5 years.

There are two details that are important to this discussion - 1) there are transaction costs to refinancing that don't exist when an ARM resets, so it's not a slam dunk to say you can just refinance if the rate falls. 2) the rate differences between ARMs and fixed mortgages aren't that big these days because the base rates are so low, but the spread can get bigger when rates are higher and you could make a lot of people worse off by outlawing ARMs.

Granted, the stories above don't sound like people were making well-reasoned choices among mortgages they could afford, but that's not a reason to restrict choices for the rest of us. Also, I've never been offered an ARM that didn't have clear terms and caps in both directions. There seem to be a lot of stories that suggest that banks were targeting really bad deals to people who didn't understand the details. That's a problem.

Posted by: amr11 | April 23, 2010 9:45 AM | Report abuse

"The lender presumably almost always understands finance better than the consumer, so why does all the blame fall upon the borrower when a loan makes no sense? Banks should be required to bear the risks of their own bad lending, and certain loans are so bad they should be banned altogether."

There are two parties to a transaction, and you don't need to know anything about finance to determine if a monthly payment - especially the initial monthly payment - is completely unaffordable. What do you need to buy? Can you still buy it with this mortgage payment? Can you still buy it if your adjustable rate mortgage 'adjusts' upwards? If you don't know what the payments will be if the rate adjusts, then you should ask either the lender or better yet find a friend who cares more about you than the lender.

The only reason I'm concentrating on borrowers is because Ezra's post suggests I'm supposed to feel bad about the suffering of real people. It's hard to feel bad about someone making six figures who makes a display of conspicuous consumption and gets blown up for it. I don't feel bad she lost her house, and as a renter making less than half her income I certainly don't want my tax dollars supporting her 6br house via a mortgage modification program when she could have bought a much smaller house or rent. The second story I'm more sympathetic to, but people can sue for fraud, and many lawyers will work for a cut of the payout at the end.

"you could easily require ARM's to have caps at the low and high end. That way it protects the borrower while also protecting the lender."

As I understand it, many ARMs already have life floors and life caps, although since it isn't mandated I wouldn't be surprised if some don't. Most also have period caps, limiting the rate of increase in the rate over a given time period.

"..why would that borrower want the ARM (rather than a fixed rate mortgage at the current rate), knowing that he or she could re-finance later if rates drop? I just don't see the value added for anyone of lenders continuing to be allowed to push ARM's."

The value add is that ARMs have a lower initial interest rate, and that ARMs are fixed for 1-10 years. A 30yr fixed rate mortgage is 5.07%, and a 5/1 ARM is 4.03%. For the first five years, your interest rate is 1.04% lower with the ARM. If you can afford to pay a mortgage with, say, 7%-8% rates (i.e. can handle the risk of a sharp increase in rates), then the ARM makes sense, especially if you think you'll be moving/able to refi in 5-7 years anyway.

http://www.mortgagenewsdaily.com/

So I don't think we need to get rid of ARMs (option ARMs those might be another story), maybe just require lenders to provide a lifetime cap on rates and show borrowers what the payments would look like at that cap. If they take the house anyway, and its not affordable, well at least they were properly warned.

Posted by: justin84 | April 23, 2010 10:27 AM | Report abuse

"Suitability puts all of the onus on the lender not on the purchaser (at least in life insurance it does as nisleib states correctly above). That being said when a perspective homeowner is told NO they need to understand that and realize they must live within their means just as justin states."

visionbrkr,

I do understand that your suitability regulation puts the onus on the lender. I think that's fine and that might even solve the problem of ARMs gone bad, I just question whether with caps that are reasonable and when buyers are well qualified, whether ARMs then retain much appeal for lenders or borrowers.

I also understand the sales pitches for ARM's ... that if you gamble rates will go down it is cheaper for your ARM to reset, if you think you will move or can pay off student loans it is cheaper to take the lower initial rate, etc. But these scenarios are always a gamble, and lots of people end up trapped in a house when they expected to be moving because of a lull in the market, or the payoff of the student loans is offset by unexpected developments in their income and so they end up squeezed, etc. The appeal of the ARMs always rest on assumptions about the future, which have a tendency not to work out so well. Speaking only from my own experience, I don't hear a lot of people bragging about how their ARM was the smartest thing they ever did, but I do hear many anecdotes about people used an ARM to "get in the door" and then everything went to hell. Of course,people with boring fixed rate mortgages can also get stuck in a bad market or have trouble when their circumstances change, but they tend to manage far better than people whose rates suddenly reset upwards.

Posted by: Patrick_M | April 23, 2010 11:33 AM | Report abuse

"I certainly don't want my tax dollars supporting her 6br house via a mortgage modification program when she could have bought a much smaller house or rent. The second story I'm more sympathetic to, but people can sue for fraud, and many lawyers will work for a cut of the payout at the end."

justin84,

I am not coming at this from any sympathy angle. Like you, I find the second story much more offensive than the first. But I don't think either loan should have been made. I don't like the fact that taxpayers have to all contribute to a pool to subsidize everyone's mortgage interest, let alone on loans that should never have been made, so I would be all for a gradual phase-out of the interest deduction.

2008 showed us how bad things can become for us all when a lot of bad lending is going on, and the solutions to preventing a recurrence don't lie in not feeling sympathy when borrowers who exercise bad decision-making are foreclosed, although you are absolutely free to feel that way. The solutions lie in regulating the industry to prevent lenders from making loans that are not sound. We need to take away the "moral hazard" incentives that caused that to happen on such a massive scale.

If ARMs can be made more safe, then maybe they have a place. I am open-minded about that possibility, but still skeptical.

And lastly, you may argue that a defrauded borrower will have the means to sue using a lawyer who will take on a corporation like JP Morgan Chase on a contingency, but again I think that the consumer protection agency that watches over the system is a good idea. One could sue if one gets botulism from canned food, but I also like the idea of having a food agency that helps make certain that food is safe in the first place. And a lawsuit may be extra-complicated if one was defrauded by an institution like Washington Mutual, that went up in a puff of smoke in the Fall of 2008.

Posted by: Patrick_M | April 23, 2010 11:34 AM | Report abuse

Last point -

One factor that I think it missing from the anecdotes, but really important to understand the bad decisions that were being made, is the psychology that takes hold of everyone within a bubble.

When prices are rising fast, first-time buyers are told that they should get in to the market before they are really ready, because in a year there will be no houses left that they can afford. Owners see their neighbors all moving to better neighborhoods, tapping the windfall of their rising equity and getting into a nicer property. Other owners feel as though they are finally financially secure and tap into their rapidly rising equity. Lenders' profits soar as they write the new paper for all of these people, with little sense of risk, because houses just keep going up, so a low down payment won't matter, as inflation puts substantial equity into the home within a matter of months.

They all know that the superheated market can't go on forever, but they expect that prices will eventually merely level off, and not crash. And largely that is true...although many buyers now owe more than the value of their home if they bought at the very top, many others who bought just a year or two earlier are still in fairly good shape, and the inflation in home prices between 2000-2010 is still unprecedented.

During a bubble, everyone feels like they have to play the game or they are abandoning money, and this is when you see the most ARMs, balloons, and other exotic instruments come out of the shadows. While a bubble is taking place, the arguments to get a mortage (any mortgage) appear sound, and the evidence supporting those arguments is ample. Like a pyramid scheme, the early participants do make big money. There is tremendous self-reinforcing pressure on prospective borrowers and on lenders to keep it all rolling until it inevitably collapses under its own weight, since the inflation in the market is really not driven by conventional supply and demand, but instead by an abnormal market psychology.

A huge national bubble like we just had is not a normal event, but regional bubbles are not uncommon in recent decades, and a good example would be in Southern California in the early 1990's, when Orange County went into bankruptcy after a crash in home prices reulting from a classic bubble.

Overheated markets are destructive, and weird mortgages tend to increase the wreckage that is left behind. We probably can never entirely prevent whatever bubble-brain thought patterns caused Ms. Onyeukwu to feel like she was making smart choices, but for OUR own self-protection, we should certainly be able to craft simple lending rules that would prevent Fremont Investment & Loan from walking her down the aisle to foreclosure with a crazy loan.

Posted by: Patrick_M | April 23, 2010 12:38 PM | Report abuse

Patrick,

I largely agree that psychological factors helps let people get carried away.

Again, the severity of my response against borrowers is from Ezra's line:

"It's easy to forget that there were real people and real mortgages at the base of this crisis, and now they're going through real pain. Foreclosure hurts even worse than bad headlines."

I actually feel a lot worse for the people who got into their (first) $180,000 home and just had no clue that their 9% 1/1 ARM was a really bad deal.

That said, letting people get blown up in a way helps prevent this mentality from setting in again, at least until we're all dead and barely anyone knows the financial history of 2005-2010. I think part of the era of calm finance ending around the early 1980s can be explained by the retirement of those who entered the work force around 1925-1935 as the regulatory environment.

I agree we do need some regulation, and I think 20% down on all mortgages goes a long way towards correcting for the bubble mentality. If people needed nearly 200k down to get their 800k mortgages, instead of maybe 20k or 50k, then that stops a lot of the bubble in its tracks - both from a funds availability perspective and a 'how much risk do I want to take with my 12 years worth of savings' perspective. If we stop printing money and put a lid on leverage, it's hard (if not impossible) for massive bubbles to form.

Posted by: justin84 | April 23, 2010 1:57 PM | Report abuse

Another common loan type is an adjustable rate mortgage. In this loan, the buyer receives an interest rate at the outset of the loan. The rate may stay fixed for a period of time, such as three to five years, but after that time it “adjusts” to mirror the national interest rate. In many situations, this means it will go up. Of course, it can go down as well, but these loans almost always end up costing the homeowner more over the life of the loan than a fixed rate mortgage, especially if they are purchased when rates are really low, since the rate is almost guaranteed to go up at some point in the future.

_______________________________________
http://www.homemortgageinformation.org/

Posted by: Dokemion | April 23, 2010 2:40 PM | Report abuse

Dokemion,

adjustable rate mortgage = A. R. M. ARM's. That's precisely what we have been discussing throughout the thread.

justin84,

Americans tend to have short memories. This is likely to happen again long before we are dead and gone, at least at the regional level. I worry that when housing starts to rebound, the mantra will be that "interest rates can only go higher thanks to the huge national debt, so get your low rate while you still can," and we'll be off to the bubble race and all the "creative financing" offers again. With realtors being paid on commission-per-sale, etc., there will always be a big supply of cheerleaders in every locality for housing to heat up excessively, and to promote the high pressure mentality that the financial future of your family will end tomorrow if you don't take out a shiny new loan from Acme Mortgage Brokers.

"I actually feel a lot worse for the people who got into their (first) $180,000 home and just had no clue that their 9% 1/1 ARM was a really bad deal."

Me too. As well as for the folks who had a time-tested sensible 30 year fixed-rate note, but could not keep up the payments because of a job loss brought about by the collapse of the economy, thanks to greed and incompetence in which they themselves had never participated. There is a lot of "collateral damage" taking place out there right now thanks to the sort of lending that was done by firms like Fremont Investment & Loan to borrowers like Ms. Onyeukwu.

Posted by: Patrick_M | April 23, 2010 3:14 PM | Report abuse

Ms Onyeukwu took 100k in cash out of that 2006 refi (that's the only reason for the balance to grow) and almost certainly left the house with very little equity.

When she defaults 2 years later that 100k plus an approx 25k tax credit from the government for mortgage interest in her bracket means she still turned a very nice profit on the home she gave up for foreclosure - even at 24 monthly payments that her cash flow couldn't keep up with.

I figure she makes at least 50k off the transaction. We should all be so lucky.

Two years later her house is underwater and she shifts that negative equity onto the mortgage holder. The lein holder in turn probably sold it to a variety of cdos, who in turn paid a ratings agency a hefty fee in return for a aaa rating and then used that to buy insurance against it from someone like AIG.. who in turn gets bailed out by the treasury.

The buyer comes out way ahead, even though the market tanked. Every other player also did what they were incented to do - drop underwriting quality so they could move more paper and make more fees.

Applying a capital requirement of 20% to get that loan stops the whole merry go round.

Posted by: patrickinmaine | April 23, 2010 3:55 PM | Report abuse

patrickinmaine -

I think there has been general agreement here that 20% for any loan is a good idea, but (quoting you):

"Every other player also did what they were incented to do - drop underwriting quality so they could move more paper and make more fees."

I would argue that the other side of the problem is the incentive to move the paper so much. I still think that Kevin_Willis was correct yesterday in noting that when a bank does not have to keep the loans it makes for a reasonable length of time, you have a recipe for trouble.

"I figure she makes at least 50k off the transaction. We should all be so lucky."

I don't know. If you told me I can have $50k tomorrow if I declare bankruptcy, see my credit destroyed for years to come, have to pay to relocate and start over, etc., I think I would decline the offer. And many facts are not in evidence about this lady's circumstances...maybe she had huge medical bills or some other issue that helped to drive her willingness to grow her indebtedness when she "cashed out" and re-financed. I do know that Fremont Investment & Loan was all too happy to tell her she qualified for the higher amount and send her down the path.

Again, I do agree about the 20%, but I also think we need rules preventing the selling of a mortgage before the ink has dried, and some of the more "creative" types of mortgages are unhelpful altogether, even when a buyer has a resonable equity stake.

Posted by: Patrick_M | April 23, 2010 5:04 PM | Report abuse

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