Housing Market to Weaken Even Further
As Mortgage Industry Takes Cure
By JAMES R. HAGERTY
August 6, 2007
After a binge of lax lending in recent years, the U.S. home-mortgage industry is finally taking the cure, swearing off high-risk loans to people with lousy credit records. The bad news is that this medicine is creating a vicious circle that will make the housing market even weaker, at least in the near term.
As regulators and jittery investors force them to adopt more and more conservative lending standards, lenders are cutting more people out of the housing market. In what would strike most people outside the industry as a return to common sense, lenders now are shunning would-be borrowers who can't make a down payment, prove that they have a reliable income and show a record of reasonably regular bill-paying. They also are turning down refinancing requests from many people trapped by adjustable-rate loans that are proving too expensive after the initial feel-good period of low payments.
"This week is going to be a nightmare," says Melissa Cohn, chief executive of Manhattan Mortgage in New York. Lenders are scaling back so fast that it isn't clear which loans are available or on what terms, and rates are jumping even on large loans, known as jumbos, for prime borrowers.
These stricter lending standards reduce demand for homes and nudge some people who can't refinance toward foreclosure. Higher foreclosures add to a glut of homes on the market in most of the country. And, completing the vicious circle, a weaker housing market comes back to bite the lenders by wiping out owners' equity in their homes and increasing the risk of even more foreclosures down the road.
"The market is in a panic," says Larry Goldstone, president of Thornburg Mortgage Inc., a lender in Santa Fe, N.M. He says he thinks the mortgage-bond market, which supplies most of the money for home mortgages, will calm down within a few months, but the housing market may need at least another year or two to heal.
Earlier this year, lenders had to cut back on subprime mortgages, those for people with the weakest credit records, because a surge in defaults made investors unwilling to buy so many of those loans. In the past few weeks, stung by losses on mortgage securities at some big funds and clampdowns by rating agencies, investors have grown much more nervous. For good reason: A recent Merrill Lynch report estimates that they face $120 billion to $170 billion of default-related losses on U.S. home mortgages currently outstanding. So investors now are shying away from many more types of mortgages, including those known as Alt-A, a category between prime and subprime.
By late last week, panic among mortgage lenders and investors was starting to feed on itself. One midsize lender, American Home Mortgage Investment Corp., shut down its lending operations after creditors cut off funding; the chief executive of another big lender declared that the mortgage-securities market was "not functioning;" and Countrywide Financial Corp., the nation's biggest home lender by loan volume, felt compelled to issue a statement Thursday saying it had plenty of cash on hand. Despite that reassurance, Countrywide's share price dropped 6.6% Friday. Some lenders temporarily stopped taking loan applications Friday because they were unsure about their ability to sell mortgages to investors.
This retreat by investors, who until six months ago seemed to have a boundless appetite for risky mortgages, is forcing lenders to concentrate on more traditional types of loans that they can keep as investments or sell to Fannie Mae and Freddie Mac, the government-sponsored providers of mortgage funding. Fannie and Freddie's share of mortgages packaged into securities rebounded to 49% in the second quarter from a low of 37% a year earlier, according to Inside the GSEs, a trade publication.
Because loan standards are now much tougher, at least 10% to 15% of the people who could have qualified for a home-purchase loan last year can't do so now, says Jan Hatzius, chief U.S. economist at Goldman Sachs. Meanwhile, many of the people who would still qualify for a loan don't want to buy a house now because they think prices will fall further. So the housing market is likely to remain weak for at least another couple of years, Mr. Hatzius figures.
One reason is that it takes time to absorb all the houses and condos waiting for buyers. The National Association of Realtors counts about 4.2 million resale homes for sale, along with more than 500,000 new homes on the market. That is enough to last about 8½ months at the recent sales rate; a supply of five to six months generally is considered balanced.
Foreclosures will add to the supply. Moody's Economy.com has estimated that 2.5 million homeowners will default on their mortgage loans this year and next. Some will be able to keep their homes, through "loan modification" agreements that reduce payments or through various refinance packages offered by lenders and state rescue programs. But about 1.7 million of them will lose their homes to foreclosure, the research firm projects.
The U.S. housing boom over the past decade turned about five million renters into homeowners, says William Wheaton, a professor of economics and real estate at the Massachusetts Institute of Technology. But many of the loans that made that possible have proved unsustainable. Dr. Wheaton expects about two-thirds of those people to go back to renting. Eventually, he says, rents will rise, and more people will see owning as a better alternative, helping to revive the housing market, perhaps in 2009 or 2010.
As Mortgage Industry Takes Cure
By JAMES R. HAGERTY
August 6, 2007
After a binge of lax lending in recent years, the U.S. home-mortgage industry is finally taking the cure, swearing off high-risk loans to people with lousy credit records. The bad news is that this medicine is creating a vicious circle that will make the housing market even weaker, at least in the near term.
As regulators and jittery investors force them to adopt more and more conservative lending standards, lenders are cutting more people out of the housing market. In what would strike most people outside the industry as a return to common sense, lenders now are shunning would-be borrowers who can't make a down payment, prove that they have a reliable income and show a record of reasonably regular bill-paying. They also are turning down refinancing requests from many people trapped by adjustable-rate loans that are proving too expensive after the initial feel-good period of low payments.
"This week is going to be a nightmare," says Melissa Cohn, chief executive of Manhattan Mortgage in New York. Lenders are scaling back so fast that it isn't clear which loans are available or on what terms, and rates are jumping even on large loans, known as jumbos, for prime borrowers.
These stricter lending standards reduce demand for homes and nudge some people who can't refinance toward foreclosure. Higher foreclosures add to a glut of homes on the market in most of the country. And, completing the vicious circle, a weaker housing market comes back to bite the lenders by wiping out owners' equity in their homes and increasing the risk of even more foreclosures down the road.
"The market is in a panic," says Larry Goldstone, president of Thornburg Mortgage Inc., a lender in Santa Fe, N.M. He says he thinks the mortgage-bond market, which supplies most of the money for home mortgages, will calm down within a few months, but the housing market may need at least another year or two to heal.
Earlier this year, lenders had to cut back on subprime mortgages, those for people with the weakest credit records, because a surge in defaults made investors unwilling to buy so many of those loans. In the past few weeks, stung by losses on mortgage securities at some big funds and clampdowns by rating agencies, investors have grown much more nervous. For good reason: A recent Merrill Lynch report estimates that they face $120 billion to $170 billion of default-related losses on U.S. home mortgages currently outstanding. So investors now are shying away from many more types of mortgages, including those known as Alt-A, a category between prime and subprime.
By late last week, panic among mortgage lenders and investors was starting to feed on itself. One midsize lender, American Home Mortgage Investment Corp., shut down its lending operations after creditors cut off funding; the chief executive of another big lender declared that the mortgage-securities market was "not functioning;" and Countrywide Financial Corp., the nation's biggest home lender by loan volume, felt compelled to issue a statement Thursday saying it had plenty of cash on hand. Despite that reassurance, Countrywide's share price dropped 6.6% Friday. Some lenders temporarily stopped taking loan applications Friday because they were unsure about their ability to sell mortgages to investors.
This retreat by investors, who until six months ago seemed to have a boundless appetite for risky mortgages, is forcing lenders to concentrate on more traditional types of loans that they can keep as investments or sell to Fannie Mae and Freddie Mac, the government-sponsored providers of mortgage funding. Fannie and Freddie's share of mortgages packaged into securities rebounded to 49% in the second quarter from a low of 37% a year earlier, according to Inside the GSEs, a trade publication.
Because loan standards are now much tougher, at least 10% to 15% of the people who could have qualified for a home-purchase loan last year can't do so now, says Jan Hatzius, chief U.S. economist at Goldman Sachs. Meanwhile, many of the people who would still qualify for a loan don't want to buy a house now because they think prices will fall further. So the housing market is likely to remain weak for at least another couple of years, Mr. Hatzius figures.
One reason is that it takes time to absorb all the houses and condos waiting for buyers. The National Association of Realtors counts about 4.2 million resale homes for sale, along with more than 500,000 new homes on the market. That is enough to last about 8½ months at the recent sales rate; a supply of five to six months generally is considered balanced.
Foreclosures will add to the supply. Moody's Economy.com has estimated that 2.5 million homeowners will default on their mortgage loans this year and next. Some will be able to keep their homes, through "loan modification" agreements that reduce payments or through various refinance packages offered by lenders and state rescue programs. But about 1.7 million of them will lose their homes to foreclosure, the research firm projects.
The U.S. housing boom over the past decade turned about five million renters into homeowners, says William Wheaton, a professor of economics and real estate at the Massachusetts Institute of Technology. But many of the loans that made that possible have proved unsustainable. Dr. Wheaton expects about two-thirds of those people to go back to renting. Eventually, he says, rents will rise, and more people will see owning as a better alternative, helping to revive the housing market, perhaps in 2009 or 2010.
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