If Knowledge Is Power, We’re Screwed

by Gina Gardner on May 29, 2008

I have been scouring the web for mortgage statistics and am coming up pretty empty. While anecdotal evidence of the causes of the mortgage debacle abound, hard facts are hard to find. For example, I tried to find data that would show that stated income borrowers were more likely to default than others. I got lots of articles saying that loan officers talked subprime borrowers with nothing down into stating ridiculous incomes and they couldn’t possibly pay their mortgages, ad nauseum, but couldn’t find any stats that support this. In my experience the vast majority of stated income loans require a larger down payment than their full doc counterparts, higher credit scores, and assets to support the income claimed. Yes, I did see subprime 100% stated income loans offered — but then is it the stated income that caused the foreclosure or the subprime credit and lack of assets or equity that caused it?

I did get some hard facts from FHA (yay). The agency did have strong evidence that lack of a down payment is a pretty good predictor of liklihood of a loan going sideways. In this case, statistics showed that community homebuyer and other down payment assistance participants were several times more likely to default on their mortgages than those with even 2 or 3 percent into the property — and HUD claimed that this cut across the board; income / credit rating did not affect the results. When I worked as a systems analyst for Experian Business Credit Services, our business was predicated on the idea that willingness to pay was a far better indicator of a loan’s outcome than ability to pay. And it seems to me that those with no stake in a property have a dimished willingness to pay.

My theory is that the layering of risk caused the foreclosure problems, not the fact that loans were stated income. If one were to run some regression analyses (assuming that the data is out there somewhere) I’d bet that the primary determinant of whether a loan went bad or not was the borrower’s stake in the property — the equity position. This would drive the decision to walk away because the borrower has nothing to lose by doing so. Stated income loans, when not layered on top of substandard credit and minimal down payments would I think be a relatively safe bet. If the borrower has the assets to support the income then he has reserves to make the payments even in a soft economy. And if she has at least 20% down tied up in the property she’ll be far less likely to blow off a mortgage.

Right now investors are operating from the premise that stated income is automatically bad; almost all stated programs have been cut back and NINA loans are pretty much gone — never mind if the borrower is putting 60% down and has 2 years of reserves and great credit (yes this is a real situation and he hasn’t had any luck getting a loan). I think a real close look at the characteristics of loans that went bad would reveal that other factors were far more likely to cause a default. If anyone knows where this info is (from something more recent than 2006) I’d appreciate the tip.

Tagged as: default, mortgage foreclosure, stated income loans, subprime mortgages

  • that information isn't published because you are exactly right (I'm sure there is a SLIGHT correlation) and the investors couldn't bear the embarassment.

    where is that list of private investors that will lend on that situation?
  • DELECIOUS!!!
    Now that’s the kind of post I’m looking for. You just made my week someone who is writing with some real rigor behind what they are saying! I also agree with your theory. There is an old rule that my venture capital buddies go by “no skin in the game no deal!”
  • I think you might be right about have a "stake" in the property. Have you seen any information on the "rising trend" of just walking away as a "smart" financial decision?
  • Gina,

    Nice post.

    If we take a deep look at why foreclosures are climbing, we can see many of the same old factors, divorce, loss of income, etc. Adding to the problem is the increased inflation (South Florida's inflation rate is the highest right now).

    But what other reasons are there? Too many investors in one location, particularly those with little or no experience trying to "flip". I see these in many parts of Florida, and I am sure elsewhere, those where the investor can't afford to hold the property.

    Certainly not the "poor homeowner" story or the "unscrupulous mortgage broker" story. The reality of the foreclosure problem is that the vast majority deserve it, and that the Fed's action caused a lot of it.

    Unaffordable home prices, inability to cash flow properties, etc. Something had to give at some point. Now, home prices have sank to where many homeowners are upside down, and these homeowners are actually being encouraged to "walk away". Sure, their credit gets damaged, but all of the money they save from living in the home payment free can put a nice dent, even pay for, a home elsehwere, so why not?

    I could go on and on, but I do that kind of writing over at my own blog, where I can just let loose. Sorry for the mini rant. And as for stats, they will be available likely later this year or next, maybe sooner.
  • This is something that has bugged me for years. Mortgage lending has gotten so statistics driven that no one really looks at the underlying causes of why mortgages go bad or actually underwrites loans anymore. Stats 101 teaches us that a correlation is not causation.

    I suspect FHA loans with DPA fail because a large number of FHA buyers are already credit challenged. Think about it... if a typical FHA Loan is $200k or less and you can't scrape up a measily $6k, the odds are you are not a good credit risk.

    Until banks get back to actually sitting down with each individual borrower and making RATIONAL lending decisions in the context of the scenario at hand, we will continue to have these problems. Right now, approving loans is about coloring between the lines. Ironically, we got into this mess because even when coloring between the lines per guidelines, some of the loans didn't make sense. But hey, it meets guidelines.

    This leads to situations where verifiable multi-millionaires who want to go stated and can't get a loan with 50% down payments, but a 55% DTI 650 FICO score, with barely 2 mos reserves and a 5% down payment gets a approved all day long without batting an eye.
  • Gina Gardner
    You guys are all correct IMHO. Some people just should not have become homeowners. And flipping has always been a problem -- that's why traditional lenders always required pretty good-sized down payments or hefty fees plus MI to do investor properties, and why my old employer (CTX) wouldn't do construction loans for owner-builders. I think a lot of the "foreclosees" we will see crying for relief are the investors disguised as primary home buyers -- they had no intention of keeping the property long enough to deal with making payments; now they want us to bail them out. Hope they end up with hefty deficiency judgments.
  • I found an investor conference call presentation from Countrywide a couple of month's ago as I was looking for some hard stats myself. Just like you, I suspected that the foreclosures aren't little old ladies, but mostly investors. In the CW presentation less than 2% of the foreclosures were due to an ARM adjusting, the vast majority of foreclosures were for job loss, divorce, or medical reasons. In addition, I found some data from the MBA that said about 30% or so of foreclosures were investors which in my mind really put the number greater than 50% due to occupancy fraud which was so common during the boom.

    I am going to see if I can find the link again.
  • I couldn't find the actual CW presentation, but I found an article on it with the stats. Not surprisingly the MSM, discounted it as it doesn't fit with the evil lenders and mortgage brokers preying on the little old ladies theme.

    http://latimesblogs.latimes.com/laland/2007/09/...

    Bottomline, people go into foreclosure because they lose their income source in most cases. You probably see higher incidences of people with less stable jobs or careers in conjunction with low down payments. However, down payments are just one part of the equation and I don't think by itself it would really indicate whether a loan is more at risk of foreclosure.
  • Stated income, in theory is not a bad thing. It was originally designed to streamline the process for the self-employed borrwer with complex income documenation. The industry took it too far. We began offering this kind of loan to wage earners. Even one pay stub is a good indicator of capacity to repay. The GSEs are making it more difficult for borrowers to walk away without any risk. In the future those borrowers will not be able to get an agency loan for 5 years. They will be forced to rent or look for a portfolio lender that will take on that risk.
  • We speak with people who are having difficulty everyday and they fall into three simple categories.

    1. Speculative investors who are from another state and are now upside-down in their investment
    2. Unsophisticated borrowers who where misled and “sold” a mortgage product they never should have even been presented
    3. People who have had a series of family crisis that has cause a long term financial hardship.

    Unfortunately, the first group is what has caused foreclosures to become such a sensitive issue. Should a few bad apples prevent us from helping those that where wrongfully hurt? That is the trillion dollar question!

    More importantly I have a close friend who is acquainted with the “investment banker” that created these vehicles for all the capital to flow. He built it up then created a hedge fund to short every one to the securities that he had created.

    What a great post!!!
  • Russ great link! It shows how the majority of people are in category 2 and 3. So the question still remains how do we separate the bad apples from our fellow Americans’ who really need help? Or maybe we should just let the markets work it out?

    What do you guys think?
  • jeff pogol
    Great article! I am a loan officer. I deal mostly in the higher end. Most of my clients use stated income loans. They put down large downpayments. They have great credit,but very complicated tax returns and many times are self employed. I have never had one of my loans go bad. Once again great article Gina. There is a need for stated income loans that make sense when people qualify for them.
  • Cliff,actually these stats show that nearly are are in your third category. Very few incidences of people being slammed into loans they didn\'t understand. I am not saying this does not occur, but I believe that the incidents are grossly overstated.
  • Gina Gardner
    I did see these CW stats -- Dan Green actually had them in his blog. But check the date -- that was mostly before the fertilizer hit the fan re: the current wave of foreclosures. If job loss and illness are still the main causes of foreclosure than our leaders are really misplacing their resources and wasting a lot of time on mortgage reform when they should be addressing healthcare and employment. :(
  • What we see is about 35% of homeowners are in some type of adjustable rate mortgage.
  • Gina:

    The politicians are not interested in facts. Just votes. The story that gets the votes is evil lenders foreclosing, not borrowers just being SOL for a variety of reasons. I believe the increase in foreclosures is driven by lack of financing. I have a theory that the foreclosure rate has been artificially low over the past couple of years because we had subprime mortgages. Subprime was centered around refinancing. People were able to refinance themselves out of trouble. Now with those loans gone, they can no longer refinance their woes away hence the rise in foreclosures.

    Cliff:
    Just because a borrower is in an adjustable rate mortgage does not mean that is the cause of the foreclosure. What I typically see is borrowers who are put in 2/28s because that was the only financing available to them. They are counseled to get their credit scores up by making on time payments, so we can get them into a conventional mortgage. Unfortunately, many do not for whatever reason and they wind up stuck with a higher payment after the loan adjusts. However, when you dig into some of the other stats available, most of the 2/28s are actually defaulting BEFORE the rate even adjusts.

    Again,foreclosures are driven by lack of income whether from job loss or medical issues. In fact, when you look at some of the stats, national foreclosure numbers aredriven by CA, AZ, FL and Nevada - speculator central. The other states with high foreclosures are Ohio, MI, Indiana... basically the armpit of the midwest with failing local economies tied to manufacturing. None of this points to evil lenders... just get rich folks getting caught holding the bag and borrowers down on their luck. Sucks, but the reality is there is nothing anyone can do about it.
  • Wow, great discussion.

    Russ - great point about foreclosure stats being led by the "Big 4". Sicne I am in South Florida, I am in the middle of it.

    Gina - I have talked extensively about how the government should stop screwing things up with increased legislation and let the markets correct themselves. Just click my name above to go over and check it out, you can even see Ben Bernanke in a superman suit washing a car.

    All said and done, the foreclosure picture is not as the media has painted it, and the gevernment is just looking for votes as Russ pointed out, even if it means destroying the world (or at least the housing market) in the process.
  • Russ:

    You are to be congratulated for counseling your borrowers it would be nice if everyone used your good practices (I sincerely mean this). In speaking with home owners who are having difficulty we have found that many of them did not understand that their mortgage payments would adjust. You are right this is not a smoking gun to the overall crisis just a simple fact. Many “new” people jumped into the industry during the lending boom and catered to the sub-prime market. Now most of them are out of business but, we are left discussing, debating and paying for what they have done. Historically yes foreclosures have been driven by lack of income; however, more people have lack of income because their mortgage payment is going up when all they could afford was the interest in the first place. If you would have been their broker surely you would have steered them clear of this type of loan; however, you are a sophisticated experienced broker and the “new” people that cam into the industry where not, most of them where in it for the quick buck.

    Clearly, the economic factors in the mid-west are a driving force to the mortgage problems being experienced in that region. The problem has only been exacerbated by sub-prime lending. So when you add it up it takes a bad problem and makes it substantially worse. Basically, it causes the whole area to smell like an armpit! LOL


    Robert and Russ:

    Once again do not get me wrong as an economist who believes in neoclassical price theory I feel that markets should be left alone. However, it is nice to argue the other side for a change.

    Without a doubt at this point it is all about votes because if you do not have a home you have nothing else to do but vote. To that end we can all anticipate some type of $300 billion dollar legislation to be passed by congress and then signed by the president.

    You are right Robert great discussion!
  • Gina:

    I guess I was right about this post being "delicious."

    I can't wait for your next one. You go girl!
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