Sub-Prime Market in the U.S.

¶ … SUB-PRIME MARKET in the U.S. HAVE HAD SIGNIFICANT IMPLICATIONS for LENDERS THROUGHOUT the GLOBAL FINANCIAL COMMUNITY

The word used most often in recent reports relating to the subprime lending market is the word 'meltdown'. A CNN News report entitled: 'New Recession Worry: Bank Failures" states that the FDIC reported last week "the biggest jump in problem institutions it has seen since the savings and loan crisis of the late 1980s..." (2008) which means that banks are in trouble and expectations stated in this report is that "more than 200 troubled banks are likely to be purchased before they reach the point of failure." (Isidore, 2008) the report further relates."..many of these banks are highly dependent on construction lending, and that's the areas of lending that is likely to come under the most stress." (Isidore, 2008)

OVERVIEW of SUBPRIME LENDING

The work of Chomisisengphet and Pennington-Cross entitled: 'The Evolution of the Subprime Mortgage Market' relates the fact that owning a home "...is one of the primary ways that households can build wealth." (2006) it is additionally stated that subprime lending "...is a relatively new and rapidly growing segment of the mortgage market that expands the pool of credit to borrowers who, for a variety of reason, would otherwise be denied credit." (Chomisisengphet and Pennington-Cross, 2006) the benefits associated with subprime lending are "the increased numbers of homeowners and the opportunity for these homeowners to create wealth." (Chomisisengphet and Pennington-Cross, 2006) Subprime lending is defined in the work of Chomisisengphet and Pennington-Cross as "...high-cost lending" and further that subprime lending "is primarily driven by two factors: credit history and down payment requirements." (Chomisisengphet and Pennington-Cross, 2006) Because of the complex nature of subprime lending, this type of lending is typically viewed: "... As having great promise and peril." (Chomisisengphet and Pennington-Cross, 2006)

The work of Nikitra S. Bailey entitled: "Subprime Mortgage Lending and the Failed Promise of Sustainable Homeownership for People of Color" relates that predatory mortgage lending practices include: (1) steering, which places borrowers in higher-priced loans when they actually qualify for mortgages that are more affordable; (2) prepayment penalties, which is a fee incurred by the borrower if they pay the loan off early; (3) flipping, or refinance of a home without the borrower receiving any tangible benefit; (4) yield spread premiums which are kickbacks to the broker for selling higher interest rate loans to the borrower; and (5) ignoring ability of borrower to repay. (Bailey, 2008)

II. KEY FACTOR AFFECTING SUBPRIME LENDERS

Subprime lending is stated to be "...most prevalent in neighborhoods with high concentrations of minorities and weaker economic conditions." (Chomisisengphet and Pennington-Cross, 2006) the paradox appears to be that "...because poor credit history is associated with substantially more delinquent payments and defaulted loans, the interest rates for subprime loans are substantially higher than those for prime loans." (Chomisisengphet and Pennington-Cross, 2006) This is interesting considering that the opportunity to pay the loan is intentionally weakened for those already in weak positions to follow through on their mortgage commitments to begin with. However, it is sure that business exists for realization of profits but it seems a balance is critically needed as these lending practices have led to subprime loan default rats that are: "...at least six times higher than for nonprime loans than prime loans." (Chomisisengphet and Pennington-Cross, 2006) Nonprime loans are further "...less sensitive to interest rate changes, as a result, subprime borrowers have a harder time taking advantage of available cheaper financing." (Chomisisengphet and Pennington-Cross, 2006)

III. RECENT DEVELOPMENTS

It was reported in a February 29th 2008 news report by CNN entitled: "Fed Officials: Housing Crisis Critical" that "Two Federal Reserve officials said Friday that the housing market could damage the economy even more severely than it has already if measures are not taken to correct it." (Goldman, 2008) Goldman goes on to state that as mortgage rates steadily decline it is expected that foreclosures and unemployment should drop and further that borrowers "shy away from risky subprime loans..." (Goldman, 2008)

The housing market problem is the focus of another CNN news report by Les Christie entitled 'Subprime Loans Defaulting Even Before Resets' in which Christie reports that the subprime meltdown is not just due to the much higher interest rates but due to lending practices in which results in "loans...defaulting well before their rates increase." (Christie, 2008) Christie states that the rate of "defaults are spiking well before resets come into play thanks to the lax lending environment of the past few years. Many borrowers were approved for mortgages that had little chance of affording, even at the low-interest teaser rates." (Christie, 2008) These mortgages are stated by Christie to be "...doomed from the start." (2008) in these cases, borrowers started out with either a no- or low-down payment loan and were left with practically no equity whatsoever in their newly purchased home. "During the boom, rapid price appreciation meant borrowers built up home equity quickly. That minimized defaults, since owners could draw from that line of equity to pay their bills- including mortgages- through home equity loans." (Christie, 2008)

There are big worries for some of the subprime lenders and specifically for the lender 'Countrywide' as reported by Reuters News Service on March 4, 2008 stating: "The United States Trustee has filed a new lawsuit against Countrywide Financial Corporation's main lending unit, accusing the largest U.S. mortgage lender of abusing the bankruptcy process, court records show." (Reuters, 2008) in this specific case, that Countrywide had, following a ruling handed down by a judge that a valid lien was not held by Countrywide, that the company had "nevertheless pursued claims for nearly four years, including an attempt to foreclose, causing unnecessary delay and expense." (2008)

The U.S. Trustee, Donald Walton is noted in the report as having stated: "Countrywide's failure to ensure the accuracy of its claims and pleading has resulted in an abuse of the bankruptcy process and has prejudiced and will continue to prejudice, parties in interest in the bankruptcy cases in which Countrywide participates." (Reuters, 2008) Many of the subprime lenders have been noted in reports over recently months to have tacked large sums on the amount that lenders owed in bankruptcy proceedings to pad their deal once again in the process.

The Reuters News report states that Countrywide a "Calabasas, California-based Company agreed in January to be acquired by Bank of America Corp (BAC.N), the second-largest U.S. bank, for about $4 billion." (Reuters, 2008) Many of the lenders knew by 2006 that the housing market was going down due to foreclosures being file din court rising by 43% when compared to only a year pervious. Home prices also dropped during 2006. However, the lenders just kept right on lending and this is stated by Doug Duncan, chief economist of the Mortgage Bankers Association to be because "investors continued to buy the loans." (Christie, 2008) recent report entitled: "Housing Market Tracker - What Will Replace Subprime Lenders?" reports that new in the 'subprime fallout' is "local government officials from New York to Houston, who followed the advice of bankers and issued auction-rate bonds in combination with interest-rate swaps are now getting squeezed by both. States, cities and hospitals across the country expected yields on the debt to move in tandem with benchmark rates when they bought swaps to protect against rising interest costs. Instead the bond's rates are up an average of 3.1 percentage points since September, while the one-month London interbank offered rate - what banks charge each other for funds - has dropped 2.7 points." (Weil, 2008) in a March 3rd report entitled: "Wall Street Gears for Its New Pain" stated is that following a "beating from their exposure to home loans, banks and securities firms are about to take their lumps from office towers, hotels and other commercial real estate. And the losses could last longer than those from the subprime shakeout." (Wei and Smith, 2008)