Sub-Prime Lending In An Over Heating Market Is Back. How Worried Should We Be?
It is starting to look a bit familiar. Is the housing bubble heading for a 2008-style crash?
Like a black and white horror movie villain, sub-prime lending has stepped in from the shadows and is about to scare the b’jesus out of us all. The fact that low or no down payment deals are once again on the table is more than a little disconcerting. In the most overheated real estate market since the crash of ’08, banks and economists are uttering that dreaded word that rhymes with trouble and begins with a B.
Related: Real Estate 2016: Boom or Bubble?
Lenders such as Quicken Loans and Caliber Funding are fueling the new frenzy, originating 63 percent of the $10 trillion currently owed on one to four family residences. Known as non-banks, or “shadow banks,” like something out of James Bond film, they have now overtaken commercial banks “to grab a record slice” of government-guaranteed mortgages, Attom Data Solutions reported in its housing report.
So how does a shadow bank differ from a conventional bank like Chase or Bank Of America? Usually they source their funds from Wall St. hedge funds, private lenders or banks themselves. They make loans then sell these mortgages to Fannie Mae and Freddie Mac and other buyers, so they can repay their loans and start the process over again. Freddie and Fanny then package these loans into mortgage-backed securities, and guarantee them to make investors whole if the mortgages default. Sound familiar?
While many features of the last housing crash are indeed present today—like an overheated market and subprime and low or no down payments through shadow banks and government agencies—many are not. For instance, during the last housing crash a credit score of 620 or more was generally required, even with low down payment. Now the lowest score is considerably more. Paper work and underwriting today is significantly more extensive.
Thirdly, new home construction was on fire in 08. There were always more homes to sell so brokers, agents and appraisers kept increasing prices in an unchecked, ever upward spiral. Certainly in some parts of the country new construction is dizzying and in New York it’s hitting record numbers again but it’s not at the staggering rate in Las Vegas and Florida that it was 2008. Also New York buyers are wealthy, often foreign and often all cash. Many of the developers like Miami condo king Jorge Perez have made it a point for buyers to put a 50 percent down payment thus limiting the risk of over leveraging—which was a major factor for the last bubble. With that in mind, lenders, even shadow banks, generally won’t lend to owners of multiple properties which definitely wasn’t the case in ’08. And as for HELOC’s on second homes or investment properties and those crazy Option ARM payment plans, good luck asking for those this time around. We all remember what happened to Countrywide and Washington Mutual.
Bottom line it’s OK to be afraid. But not too afraid.
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