How Toxic Is Your Mortgage?

Banking Editor Mara Der Hovanesian wrote the powerful cover story in the current (Sept. 11) issue of BusinessWeek,

Banking Editor Mara Der Hovanesian wrote the powerful cover story in the current (Sept. 11) issue of BusinessWeek, "How Toxic Is Your Mortgage? Deceptive loans. Phantom profits. And coming soon: A wave of defaults." Several people have mentioned her story in comments on this blog. I invited Mara to write a guest blog entry. Here it is. Feel free to write to Mara by posting your comments below.


I’ve spent the last couple of months talking to a slew of homeowners, real estate attorneys, Realtors, fair-housing pundits, Wall Street bank analysts, mortgage brokers, economists, and bankers. Many are quite sanguine about the health of the American consumer, the long-term outlook for the housing market, and the business of banking.

Not me. I’m worried that while massive job losses have been the prime culprit in former real estate busts, the rising costs of homeownership, along with unprecedented household debt, are enough to tip many Americans and therefore the U.S. economy into the danger zone.

One source of mine, Robert Lacoursiere, who is a specialty finance analyst with Banc of America Securities, tells me that overburdened consumers and overstated real estate prices may be “the tinder for the credit fires that we fear. Never has the U.S. consumer promised so much to support his debts.” Homeowners are expected to extract $170 billion in cash out of the home equity they’ve built up this year. That’s down from last year's record of $244 billion, but it’s still 10 times higher than it was a decade ago. The worst-case scenario is that people are using that money to pay their monthly mortgage bill and stay afloat. States with serious early defaults (eliminating those impacted by Katrina) are not the frothy coastal markets, but include Michigan, Colorado, Alabama, Minnesota and Indiana. People on the front lines dealing with tapped-out consumers are worried. Andy Miofsky, a bankruptcy attorney in Granite, Ill., tells me that more and more of his clients are delinquent in their mortgage payments. “Quite frankly, these people are surviving paycheck to paycheck, credit card to credit card,” he says.

I’m also worried that the Federal Reserve is uncharted waters here. Demand from risk-hungry investors for securities backed by mortgage loans shows no signs of letting up and that means that there’s plenty of cash around to get people into houses they probably can’t afford. The way I see it, the path to equilibrium will require a great deal more pain.

There are those who, like me, believe that an out-of-whack mortgage lending system has contributed to our current ills. Some mortgage bankers have abused standard mortgage products to extend inappropriate levels of debt to tens of thousands of borrowers--from those with pristine credit to those barely scraping by--without regard to their ability to pay. My take on the current housing situation is that we’re dealing with a new style of predatory lending and that it’s impacting middle-class America. (Read our cover story in the Sept. 11 issue to find out who agrees with me, and who doesn’t.)

On some level, the solution is easy: Get back to basics. In the old days, banks held mortgages to maturity. That instilled natural discipline for prudent underwriting, and that made banks beholden to borrowers. Clark Abrahams, strategist of fair banking compliance at SAS, a business intelligence and analytics firm in Cary, N.C., told me recently that “the same old rules of thumb about meeting consumer needs need to be revisited. Banks have to stop thinking short-term profits and think about long-term relationships instead.” Now might be a good time to start.

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