Subprime Mortgages were 'necessary' to comply with Fannie Mae?

In My Humble Opinion
1

The Leap-of-Logic Loan Scandal?

So, for various reasons, I was researching the roots of the economic recession/depression we’re now starting to leave behind and I stumbled across this analysis from a guy at San Jose State University. In as much of a nutshell as I can stuff it, the argument goes…

President Clinton asks relevant government officials to make sure the real estate industry (agencies, agents, finance people, banks, etcetera) is not violating the extant laws against Red Lining.
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Real Estate companies and banks respond by increasing the number of higher-value properties shown to minorities.
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In order to help those minorities get into those higher-value properties, the real estate agencies and banks to an end-run around Fannie Mae (the US Government’s loan-subsidizing program) and create Freddie Mac which uses its own criteria and standards to evaluate loan applications.
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Freddie Mac bundles loans and puts them on the stock market as mortgage-backed securities so investors can speculate on their value and trade them like they are stocks and bonds.
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The new type of investment instrument becomes popular and speculation prices skyrocket (as fad products will do) on Wall Street.
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The actual value of the fad items starts becoming apparent; prices plummet (as fad products will) and Wall Street suffers.
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As with the world-wide fads of the 70’s, 80’s, 90’s, and late 90’s, so many people had jumped on the new investment bandwagon that practically nobody on the planet was left unaffected by the fall-out from the fad’s nosedive.

Summary: Clinton’s administration said minorities shouldn’t be discriminated-against by the housing industry therefore it’s his fault (or the fault of those who agreed with his orders, if not his intention) that subprime loans were created for people who couldn’t pay them and that those loans had to be bundled and traded as mortgage-backed-securities which were doomed to eventually implode and thereby hurt everyone.

This passage, early in the article, is the most difficult for me to digest

[Quote/]
In the 1990’s under the administration of Franklin Raines, a Clinton Administration appointee, Fannie Mae began to demand that the lending institutions that it dealt with prove that they were not redlining. This meant that the lending institutions would have to fulfill a quota of minority mortgage lending.[FONT=Trebuchet MS](Bolding mine)[/FONT]
[/quote]

Wait, no. I don’t think that’s what it meant. I think it meant that real estate agents would have to keep records that included standard minority-tracking check-boxes and detailed information on the specific houses that were shown to the prospective buyers. If a Creole woman comes in with a 3-year-old and says, “I’m movin’ here from Galliano, Louisiana. Show me what you got in Bel Aire, California.” then you show her the properties available in Bel Aire. Maybe she’s a trillionaire heiress who wants a fifth summer home for when the humidity gets all nasty in the summers around the Gulf of Mexico. Or maybe she’s an average person who will realize, on her own (or after being shown the math), that she can’t afford what the owner is asking for the property. When the FHMA says “Show us you’re not red lining” then hers will be one of those many minority prospects that were clearly given an equal opportunity to find property wherever they could afford it (and not just where they wouldn’t damage the local property values).

[Yeah, I know…“Geez, Grestarian! You call that a nutshell? It’s bigger than an ostrich egg!”]

So what I’m opening up for opinions is…

Huh? :eek:

I mean, I understand the historical chain of events. What happened happened so I can’t say, “That’s impossible! Nobody would be stupid/mean enough to do that!” because obviously people did that.:frowning:

But I have a lot of trouble seeing how “Let’s provide loans to people who can’t afford them and create an agency of our own to underwrite the loans in accordance with our own underwriting rules” is the appropriate* response to “Hey guys, we’re gonna spot-check to make sure you’re complying with 20+year-old anti-discrimination laws.”

Am I wrong here? Did the banks and real-estate companies have to create and sell subprime mortgages in order to satisfy Fannie Mae?
–G!
*Humans are involved, so I won’t bother asking about the logical or sensible aspects of those decisions. And nobody is criticizing anybody about the anti-discrimination laws. It appears to me, though, that Professor Watkins is blaming Clinton and/or Franklin Raines of Fannie Mae for having the audacity to suggest existing anti-discrimination laws should be followed. Ultimately, I guess I’m wondering if it matters who made the suggestion or who appointed the suggester.

2

“Red-Lining” is the practice of flat-out NOT lending in certain areas (always poor, almost always black) - it comes form the practice of bankers to draw a line around the blocks they would not touch.
There is nothing about “Not Red-Lining” that can possibly be construed to mean "sell to people who obviously cannot afford it, and create clever “buy-down” mortgages which pre-pay the interest for 6 months to a year - making the borrower’s payments a token of the real P&I.

“Don’t redline” means "be willing to write mortgages wherever people happen to live - even if they are poor and living on public assistance. It does NOT mean “sell stupid people smoke and mirror” mortgages.

I spoke to a Broker here - the Banks were paying 4 points for originating a junk mortgage; and real 30 year fixed, fully amortized? You got 1.5 points origination fees.

Don’t try to somehow blame the poor people for that debacle.

And where you get the idea that Freddie Mac was so very different than Fannie Mae? I don’t understand all the differences, but both are Federal programs.

If you talk to a banker, he’ll tell you the deposit insurance on accounts at banks is superior to the insurance on accounts held by Credit Unions. When you understand the difference between those insurance products, then try Fannie v Freddie.

3

I really am just replying to suggest you go easy on the formatting. You’re a few font sizes shy of turning into Timecube.

I don’t know enough about the subprime mortgage issue to have a strong opinion one way or another, but AFAIK, the timeline of the argument is wrong. Freddie Mac was founded far before the Clinton administration and was not founded to provide subprime mortgages to minorities, it was founded to provide competition for Fannie Mae and to increase the amount of money available for home loans. Also, it was founded by the US government, not by the banking industry.

It certainly had a role in the crisis, but to say it was created because of some devious plan to circumvent Fannie Mae is dubious at best. And the suggestion that the subprime lending crisis is all the fault of lending to minorities is not only wrong, but disgusting.

Do you have a link to the actual article? I think anybody responding to this would want to read it themselves.

4

[quote=“Grestarian, post:1, topic:696147”]

President Clinton asks relevant government officials to make sure the real estate industry (agencies, agents, finance people, banks, etcetera) is not violating the extant laws against Red Lining.
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Real Estate companies and banks respond by increasing the number of higher-value properties shown to minorities.

[/QUOTE=Grestarian;17660438]

Real estate companies and banks don’t give a shit about what Clinton and his “officials” say, unless its a law.

5

To answer your questions:

Yes you’re wrong, and no, not at all. They had to loan to minorities to satisfy some Federal lending requirements. The vast majority of subprime loans went to white people with bad or overextended credit.

The true driver of subprime mortgage growth was the collateralization of mortgage debt, started in 1978 by Lewie Ranieri of Salomon Brothers. Prior to this, mortgages remained on the lenders books, meaning that credit-worthiness was a prime (yuck-yuck) consideration of the lender. But once you could sell the mortgages and get them off your book, you had a discincentive to remain focus on credit worthiness - not if market share and growth was part of your strategy.

After all, why should you give a crap if that 46yo white guy with bad credit is buying a $260k house with $5k down and a balloon mortgage that will break him in three years - it’s not going to be your problem, but Goldman Sach’s!

6

I was in a credit-issuing position at the beginning of this non-sense, but not for homes, but “luxury items”.

The factories expanded production to meet a demand that had started to wane. Suddenly, stuff is sitting on previously vacant showroom floors. “Exclusivity” is no longer a selling feature. Dealers start to squirm…

Daily, the standards were lowered for loan approval criteria. After a year and a half, it was really a joke. Warm body, pulse? Approved! No verification of employment, income or refs. Bankrupt? We’ll ignore that, as long as you have a job, but jack the rate to around 24%. Gotta get a piece of that “Lifestyle”. :rolleyes:

We didn’t run a credit department. We operated a revolving cycle of bad debt and repos, with the “asset” sold for more than it went for new! The collections dept. and repo sales were very busy indeed.

Anybody care to guess?

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Home entertainment centers or boats.

8

That’s not really true. The federally-sponsored secondary market for mortgages has existed since the 30s (when Fannie was founded) and they’ve been authorized to purchase private mortgages (not insured by the VA, for example) since the late 1960s when Freddie showed up.

So large lenders have always sold a significant percentage of their debt portfolio as mortgage-backed securities (MBSes) in order to recapitalize, and they still do.

However, the government-sponsored enterprises that buy them on the secondary market have minimum standards for loan quality; they’re not supposed to buy low-quality loans. The problems leading up to the financial crisis stemmed from both a failure of the GSEs to enforce their standards rigorously, and an explosion in private speculation on MBSes, which had basically no standards at all.

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RVs, HDs, SUVs, and BMWs. And vacations at Disneyworld.

10

That broker I talked to:

People were actually trading in their perfectly good 30 yr fixed for a junk mortgage. Not all of these people were inherently stupid - just tell me I can get $20K in my pocket, pay 1/3 of what I had been paying, and just repeat over and over - and after 2 years of exactly that happening, more than one person with an IQ over 110 will think “Why not me, too”?

Why not! Lower your payment by a factor of 3, cash out. That balloon? Who cares? Either get a new loan or, worse comes to worse - sell - by the time the balloon comes due, the appreciation will not only pay the balloon AND the broker’s fee, but buy another 10 tanks of gas for that 40’ Class A RV you will drive twice - that you bought with the cash out when you signed the junk mortgage.

11

One thing missing is the role of mergers. In the run up to Y2k there were a bunch of bank mergers. My accounts had four different banks acquired from 1995 to 2000. One of the rules about merging was that community groups got a say in the hearings. Banks that were not lending to minorities were given increased scrutiny during mergers and banks that were lending to minorities were praised. This meant that banks with lower lending standards became much bigger than those with higher lending standards. Thus lending standards for banking as a whole went way down. When it was still profitable because of the run up in housing prices then the bottom dropped out of standards as past experience showed that low standards meant big profits and risks were apparently contained. Everyone was making money and everything was fine until it wasn’t.

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Another factor I have heard reported - large influx of money, specifically from China, looking for debt to buy.

So, you are a mortgage writer and now you have these big piles of money flowing in for you to lend out, and you need to get it done by the end of the quarter. So, what do you do? Lower your standards! Since you did such a good job this quarter, next quarter you have twice as much to lend out. You lower your standards even more! You’re bonuses are getting huge so why stop? Rinse & repeat.

And, with the ability to sell the dicey loans out on the secondary market, it’s not really going to be your problem anyway. :smiley:

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Yeah, I should have added the clause “for the private markets” after my mention of Ranieri, you’re correct.

The causes of the 2008 panic are many and varied (I’ve read over 60 books on the subject and most read like the blind man describing an elephant solely by the body part they’ve grabbed), but, as many seem to imply, that it was caused by a push to lend to “minorities”… well, that’s not correct. Not even remotely correct.

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During the crash a favorite cry of the right was “the government made us write those bad mortgages. It is all the poor people’s fault.”

Bof A is going to shell out $16.65 billion bucks thanks to the impact of bad mortgages. It looks like one of the leading perpetrators, Angelo Mozilo of Countrywide, is finally going to get sued by the Feds to relieve him of some of his ill-gotten gains. ($535 million according to the story on the Yahoo finance page.)
You’d think the banks would use the Feds made me do it argument. Countrywide, by the way, was not even a bank, and wasn’t covered by these laws.
I thank usedtobe for a specific example of the incentives to write junk mortgages.

Really, anyone who buys the story so well recounted in the OP shouldn’t even be allowed to talk about finance - to the extent that I wouldn’t even trust them to make change.

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[SARCASM]Needless to say, the borrowers BEGGED the brokers to write these loans. They twisted the brokers arms until they gave in! Because the brokers weren’t advertising these loans AT ALL! I mean, how could the borrowers have even known about these loans being available?[/SARCASM]

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My apologies. That hyperlink was under some text in the OP but got lost, probably during one of my formatting steps.
www.sjsu.edu/faculty/watkins/subprime.htm

I agree that it’s important for others to be able to see the original article. I hope someone can tell me I misread the thing entirely, because what I got was that Watkins says Democratic meddling, specifically that of Franklin Raines, appointed by Clinton to head Fannie Mae, left the real estate, banking, and securities industries no choice but to do the subprime lending, default credit swapping, mortgage-backed securities, and those little tricks that eventually fell through and blew a tire off the economic racecar.

I strongly concur, which is why I thought I’d discuss it on this board and see what other people thought. I glanced at it while looking for other stuff and was irritated by what I thought Watkins was suggesting. I read it again a couple weeks later and was irritated again. I read it yet again (several more weeks after my first encounter) before creating this thread.

–G!

17

Around the peak of the frenzy I decided to refinance, partly because the Younger Ottlet had experienced a significant medical issue and the bills were piling up. The broker was gobsmacked that I opted for a straight 15 year mortgage with just enough extra to take care of said bills; the idea that I wouldn’t want to borrow 150% of the appraisal under a 3 year balloon ARM never occurred to her.

(Even if I had been tempted to listen to the siren song, the suspicion that my father would rise from his grave and whup me upside the head for making such a boneheaded move would have been enough to keep me on the straight&narrow.)

18

Hear, hear. I was outright mocked by mortgage brokers for seeking a 30 year mortgage with 20% down. “Yuk yuk, ok, you want your grandmother’s loan.” Well, my grandmother and I are both still afloat, how about you?

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Your Dad sounds smart. My Dad also taught me everything I know about finances and investing. His advice has not steered me wrong.

20

Okay, so what I’m reading between the responses is that, since the industry mechanisms and laws and instruments existed decades before the (now known to be false) boom,

a) Dr. Watkins is wrong (to put it very mildly) in suggesting It was the Democrats’ (Clinton and/or his appointee Raines) fault for suggesting the industry should prove it’s complying with *redlining *prohibitions.

b) Watkins and the industry are incorrect (to put it quite mildly) in suggesting it was the poor (most of whom just happen to be non-white) people’s fault for accepting those dangerous (to put it mildly) loans

I originated this post because it seemed to me that the industry could have proven it wasn’t redlining* without changing its standards and offering dangerous loans. There appears to be a general agreement on that point. In fact, overall it sppears to be generally agreed that the industry lowered its standards and stopped enforcing its rules (or that of the government?) for loan-acceptance criteria all on its own.

Or WAS there some kind of external or policy trigger or impetus to encourage or allow those shenanigans?
–G!
*Unless, of course, it WAS redlining. But changing the loan standards (or enforcement thereof) wouldn’t have changed the past/extant practices or their record-keeping.