Local neighborhoods, global markets and foreclosures

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Today, California Mortgage Bankers Assn. president Camerota and Center for Responsible Lending California office director Leonard discuss the scale of the crisis. Monday they focused on proposed solutions to the subprime crisis, and later this week they'll debate the dream of homeownership, bailout proposals and more.

Millions will lose their homes By Paul Leonard
It is a fact that America is in the midst of a subprime mortgage crisis, which is already the worst the modern mortgage market has ever seen. It is likely that in many regions, the defaults and foreclosures will continue well into 2008, when the adjustable-rate "2/28" mortgages (mortgages that start out at a low teaser rate for the first two years and then skyrocket, and that were originated at the end of the sub-prime mortgage peak in 2006) adjust to rates that homeowners simply cannot afford.

It is also a fact that foreclosures and defaults affect far more than just the lender and the borrower. Although the reverse may have been true 30 years ago, these days the mortgage market has a multitude of players who each bear some degree of responsibility for our current sub-prime meltdown: borrowers, lenders, loan originators, loan servicers, GSEs like Fannie Mae and Freddie Mac, and not least of all, Wall Street, which by far benefited the most from the rapid growth of the sub-prime market.

When discussing the devastation in the sub-prime market, we must not lose sight of the effects of foreclosures on the borrowers and neighborhoods most impacted by sub-prime lending. A report from the Woodstock Institute demonstrates that foreclosures have a significant negative ripple effect on the prices of surrounding homes. And because sub-prime loans — the loans most responsible for the rise in foreclosures nationwide — are often concentrated in certain neighborhoods (often African American and Latino) with certain characteristics (low- to moderate-income families), entire communities are at risk.

All that said, our concern is not necessarily with the sub-prime implosion's effect on global financial markets. The sub-prime meltdown will clearly have some negative impacts on national and global markets, as large numbers of once high-flying, sub-prime loan originators are not only grounded but gone from the marketplace. But Wall Street and its investors weren't stupid, just greedy. The risk of all those millions of risky loans was nicely distributed so as not to be too risky for too many investors, and assisted by sophisticated derivatives that mitigate risk for many institutional investors. There will continue to be some economic fallout for the excesses of the sub-prime market, but these markets are large and robust and will absorb the losses without devastating consequences.

So perhaps the question is not what the impact of our own lax underwriting standards and loose regulatory climate will be on the world, but rather what will it be on us as a nation? We estimated in our December 2006 report "Losing Ground: Foreclosures in the Subprime Market and Their Cost to Homeowners" [pdf] that 2.2 million borrowers would lose their homes as a result of foreclosures in the sub-prime market. Unlike Wall Street firms and investors, they have no mechanisms for hedging their risk. For many, the investment they are about to lose will have been their only shot at owning a home and building wealth.

Paul Leonard is the director of the California office of the Center for Responsible Lending.


Lenders are already responding By Robert Camerota
I do agree with you, Paul, that the cooling of the market, and the sub-prime sector in particular, will probably not have significant spillover effects on global markets. To put it in perspective, within the $6 trillion in total mortgage security debt outstanding, $600 billion rests in subprime loans. Of that $600 billion, the vast majority (82%) is rated AAA, indicating lower risk. That leaves only $97 billion, or roughly 1%, which presents a higher risk. However, we know that even that entire 1% isn't headed for default, so as you pointed out, the catastrophic risk to global markets is not the danger bandied about in some quarters. Additionally, statements from the Federal Reserve have predicted low risk for global markets.

This is not to minimize the damage and tragedy that each foreclosure represents. Talk about a lose-lose-lose situation: On top of families losing their homes, lenders lose 20% to 40% of the value of the loan, and the community loses an important participant. That is why lenders have taken real steps, without government mandate, to help protect homeowners across the country. Long before the sub-prime market cooled, our nation watched in horror at the devastation that Hurricanes Katrina and Rita caused in multiple states in the Gulf region. Lenders responded quickly and compassionately, providing foreclosure forbearance to families whose homes were damaged and who had been displaced in the wake of the disaster.

Lenders are also responding to the increase in defaults and foreclosures in the current market with meaningful action. Nationally, mortgage leaders have worked to create consumer resources that can really make a difference in helping homeowners stay in their homes. Lenders have partnered with groups such as NeighborWorks America to promote free counseling through their hot line, 888-995-HOPE, in cooperation with the Homeownership Preservation Foundation. The Mortgage Bankers Assn. has created the user-friendly Home Loan Learning Center, which has many valuable tools for consumers, including a list of direct contact information for borrower assistance for many national lenders. This represents another positive step the mortgage industry is taking to help homeowners.

Possibly the biggest problem that lenders and borrowers face is a lack of communication. Studies have shown that close to 60% of borrowers never contact their lender to let them know they are having difficulty with their mortgage. Lenders are actively working to establish better lines of communication with their borrowers and get the message out to homeowners that if they are having difficulties making their mortgage payments, the first call they make should be to their lender. Many times there are multiple options available, and lenders are more than willing to go the extra mile to help homeowners.

Like you, Paul, I am concerned about the recent rise in defaults and foreclosures, and its potential impact on both our local communities and global markets. The lending community has seen the need for immediate action, and is responding. I think the answer lies in further increasing communication between borrower and lender, and promoting low- and no-cost counseling and assistance programs to help keep homeowners in their homes and keep our neighborhoods strong.

Robert A. Camerota is chairman of the California Mortgage Bankers Assn., and is currently the senior vice president and managing director of the consumer lending operations group for GMAC-ResCap.

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