Marc's Mortgage Matter's

In the 1990’s it was hard to lose money in the stock market. “Don’t confuse brains with a bull market” was a popular slogan, and in fact was printed on a shirt that we wore on the trading desk at Tuttle & Co. Late in the decade, however, stocks did not look so great. When stocks were running out of steam, and in 2000 when the equity market really fell, people looked around and said, “Hey, how about we invest in real estate? Accounting scandals, like Enron, couldn’t happen in real estate, right?” Suddenly, instead of homes, more and more people began viewing real estate as a way to make a quick buck: “flipping”, “no money down”, etc. gained in popularity. The US government cut taxes, and the Fed cut the discount rate from 6% to less than 1% by late 2002. And although this was not the only cause of some of the mess that we’re find ourselves in, it is a contributing factor.

States have taken the lead in adopting laws to protect consumers from some of the problem loans that helped trigger the home foreclosure crisis, but the federal government is now stepping up its efforts.

On Oct. 1, new rules adopted by the Federal Reserve will go into effect, requiring greater diligence on the part of mortgage lenders and brokers who make so-called high cost loans for borrowers with weak credit. The interest rates on these loans are at least 1.5 percentage points higher than the average prime mortgage rate.

Some consumer advocates applaud the new rules but say they come too late to help many borrowers. Mortgage executives, meanwhile, have expressed concern that the changes could further dry up the mortgage market.

The regulations — finalized in July 2008 but only now being put into effect — bar lenders from making a high-cost mortgage without verifying that a borrower could repay the loan in the conventional way, and not simply through a foreclosure sale.

During the home lending boom from 2003 to 2006, subprime lenders would often offer loans without requiring borrowers to prove that they could make the monthly payments. With stated-income loans — or as some called them, “liar loans” — borrowers could easily fabricate annual income figures and even buy a home without a down payment.

Those lies represented mortgage fraud, but brokers and lenders often overlooked them — and in some cases even encouraged lying — in the interest of generating loan fees.

The new regulations represent one of the most substantial efforts on the part of the federal government to combat such lending practices, at least in the realm of subprime loans.

In recent years, states like New York and Connecticut have enacted legislation that requires greater underwriting diligence from lenders who make subprime loans.

But those laws applied only to state-chartered institutions, like community savings banks, and not the federally chartered banking institutions, like JPMorgan Chase and Wells Fargo, that dominate the mortgage industry.

According to Uriah King, a senior policy associate for the Center for Responsible Lending, a consumer advocacy group based in Durham, N.C., the new federal rules are “important, and they are good.”

But Mr. King says the new regulations are “five years too late.” Had they been in place earlier in the decade, he said, they would have prevented some of the damage done in the foreclosure crisis.

Lenders continued to make stated-income loans into 2007, but by that time, the volume of these loans had tailed off sharply.

Since then, borrowers who cannot fully document their income — like restaurant waiters or others who take cash payments — have largely been turned away by lenders.

Mr. King said another shortcoming in the new regulations is that they do not cover option ARMs, adjustable-rate mortgages on which borrowers can choose from several monthly payments options during the loan’s early years. (Borrowers often chose the minimum-payment option, which usually didn’t even cover the loan’s monthly interest charge.)

JIM PAIR, the president of the National Association of Mortgage Brokers, which is based in McLean, Va., says he is pleased that the new rules do not enact a “suitability standard,” whereby loan officers are legally responsible for offering loans that best suit the borrower’s circumstances.

But Mr. Pair said he was concerned that the rules would greatly curtail loan alternatives, especially for those who might qualify only for subprime mortgages.

“We’re going to have some consumers who are not able to purchase a home because of this, since most lenders don’t want to do high-cost loans,” he said. “There’s too much potential liability for them.”

If your stock portfolio is going up in value, do you save less? Probably. People generally feel wealthier when their stocks are rising, or their house is appreciating: they will spend more and save less. When the reverse happens, they spend less and save more, which is exactly what is happening now, or at least has been until recently. And it happens to companies: when the stock market drops in value, companies decrease their spending on plants and equipment. When the value of homes declines, builders slow down or stop building new homes. In general, people become less confident, and the economy slows. We’re all so…predictable.

Why do people constantly return to the refrigerator with hopes that something new to eat will have materialized? Is that like economists and analysts continuing to go back to the news about the economy hoping something is better? Yesterday’s Beige Book, which summaries the economic activity in the 12 Fed regions here in the US, indicates that economic activity is either stabilizing or improving in most regions. Of course, consumers have to have confidence and start spending money to help push it along – most folks that I know seem more inclined to save their money than to go out and buy a car or a new TV. All but one region (St. Louis) indicated economic activity either was "stable," showed "signs of stabilization" or had "firmed," according to the Fed's survey.