US Mortgage Industry

It is no more news splashing everywhere that the US economy is going through a recessionary period; the sub-prime crisis washed away everything like a tornado. The rallies in the mortgage industry were so swift and quick that the reversal in trends made everything fall apart like the house of cards.

It all started like this – the housing industry was on a boom, the interest rates for mortgages were low and attractive, so more and more people applied for mortgage loans. Earlier the banks had stringent rules for lending. They assessed the customer’s credit worthiness and ensured that the loans would not go bad. There were hardly any delinquencies and defaults. So when the demand for mortgage loans increased the banks took the recourse to the secondary market. They had to off-shed the assets lying idle on their balance sheets, so they packed these assets and made them into bonds and sold it to investors to raise funds – the activity, more popularly known as ‘securitization.’ The banks started lending more and more. They now were negligent of the credit worthiness of the borrower and started lending randomly as they had the recourse to the secondary market to off-load the assets. They were not worried about the credit risks that were attached to these loans. This meant borrowers with high credit risk and bad credit history, who had no access to the loans could very easily avail such loans. This was supported by a favorable and flourishing refinancing market. Household debt in the past 15 years had risen from 65% to 135% post tax income and savings had fallen from 10% to practically nothing because for every practical purpose their was a loan available. This was like filling the balloon with too much of air and it had to burst.

After the bubble busted the scenario was exactly the opposite. There was no money, no loan, no job, house prices falling and no one is talking about the mortgage loans. The unemployment rates rose from 7.2 to 7.6%, coupled with fall in consumer spending, credit availability in the market was bad and the inventory of houses was on an all time. It is what I term ‘the ripple effect’ in an economy.

The new government introduced a lot of stimulus packages to unlock this credit crunch. Several aggressive measures are being taken by the government to off-shed the load of toxic of the burdensome assets of the banks’ balance sheets. Despite the assistance from the government things have not as yet stabilized.

A barometer for interest rates in mortgage loans and other loans happens to be the bond yields. So when there is an increase in the bond yields it was followed by a rise in the rate of mortgage loans. The government has raised the yields on the 10-year Treasury rates to 3.99%, rates of the 30 year home loans jumped to a 5.57%. The interest rates for 30 year and 15 year fixed rate mortgages have increased from 5.25% to 5.57% and from 4.8% to 5.1% respectively in June, 2009. So with the increase in the mortgage interest rates the refinancing activity has slowed down (a fall about 62% since April, 2009), will this slowdown the recovery pace or is it an indication that the investors are ready to enter the market again, we will have to wait and watch.