This page has been archived and commenting is disabled.

Guest Post: Debunking Real Estate Myths – Part 2: Overly Stringent Underwriting

Tyler Durden's picture





 

Submitted by Ramsey Su via Acting Man blog,

I remember Ben Bernanke saying that lenders are overly stringent on underwriting, unnecessarily so. I assume Ms. Yellen is parroting the same message, and so are all those in the business, hoping for a return of no-qualification-needed financing.

Are current underwriting practices overly stringent? Yes and no. With the exception of the sub-prime era, underwriting has never been easier (read on before you start calling me names). At the same time, it has never been more difficult for many qualified borrowers to get a loan. This strange phenomenon is among the unintended consequences of ill-guided public policies.

Round peg/round hole, that is the best description current underwriting guidelines. It started with the conservatorship of Freddie Mac and Fannie Mae. Combined with VA and FHA, these agencies have taken over the mortgage finance business with a 90% market share. In the meantime, Bernanke has purchased $788 billion of securities backed by agency loans in 2013.  The Treasury/Fed monopoly has been born. This combination of the Treasury guaranteeing and the Fed buying at manipulated rates made it impossible for any private label mortgage backed securities to compete against the GSEs. The private sector is left with a sliver of the business, mainly in the jumbo and oddball products.

With the dominance of the agencies,  agency guidelines became the law of the land. These guidelines are even more restrictive with the introduction of the CFPB's QM (qualified mortgage) guidelines.

 

Once upon a time there was an occupation known as loan officers. They evaluated a borrower's credit history, ability to pay, collateral and other factors in order to make lending decisions. Today, the title of loan officer may still exist but they are nothing more than children playing with a toy, the one that inserts pegs of different shapes into holes of the same shape. The mortgage version of this toy has only round holes. Round pegs will fit into this hole with ease. Good luck if your pegs are not round. A round peg borrower is a W-2 household, or one with a few years of steady tax returns. A so-so credit score in the low 700s is more than adequate. Even a 580 score is enough to get you an FHA loan. Do you have any idea how irresponsible you have to be in order to have a credit score that low? Speaking of the FHA, borrowers now may become eligible for an FHA loan just one year after a short sale, foreclosure or bankruptcy as long as they can show they experienced financial hardship due to extenuating circumstances, such as unemployment. You have to read this HUD instruction to believe it. FHA also allows co-signers, including blending the family members' income credit to arrive at an acceptable ratio and to cover the down payment as a gift. How much easier can it get?

Do not confuse cumbersome documentation with easy underwriting. Do not confuse easy qualifying with deteriorating qualification of borrowers. Just imagine how many borrowers have been knocked out of the market during 2013 with mortgage rates rising about 1% and double digit house price appreciation.

The mortgage industry is flawed. Underwriting guidelines are flawed. The secondary market is flawed. Policies are heading in the wrong direction. Any system, even sub-prime loans and sub-prime MBS, will work as long as property values appreciate enough to offset the flaws. It is when less than optimal economic conditions occur that the weaknesses surface. I could write a book on this subject but I will only use one simple illustration.

Here are two loan applications, from Joe Sr. and Joe Jr., both plumbers. They have an identical credit score, income, the minimal required down payment and are perfect round pegs at just under the 43% overall debt ratio. The Consumer Finance Protection Bureau has determined that these are Qualified Mortgages. The borrowers are well protected and have the ability to repay.

As it turns out, Joe Sr. is 60 with not many years left that he can bend under the sink. Joe Jr. is only 30 with a full career ahead. Both have no retirement savings (not required). Joe Sr. is going to be living off social security as soon as his back gives out. It is obvious that while these loans are both round pegs, one of them has a high probability of default. In reality, both loans are not likely to survive an economic downturn if the income of both borrowers declines. Both are hand to mouth borrowers with no ability to survive a few missed paychecks. Would you call these underwriting guidelines too stringent?

Anyway, I digressed. My point is underwriting today is not about sound lending practices. It is about how policy makers want to manipulate the market.

A truly healthy mortgage system requires the breakup of the Treasury/Fed monopoly and the return of portfolio lending by community banks. Neither are possible at this time. Therefore, it is useless to analyze the logic behind sound underwriting. It is far more important to anticipate what policy makers are going to do. We know the FHA is already the sub-prime lender of today. We know that with Mel Watt, the probability of more accommodation from Freddie and Fannie is likely. The easiest route is to quietly pass the cost of default insurance to the government, which would only be discovered when we have another down cycle. The Treasury would have to pick up the guarantees but let's not worry about that until we have to. Right?

Mortgage applications have been declining. The mini housing bubble is deflating. Borrower qualifications are not keeping pace with rising rates. What will Ms. Yellen do? Whether it is $40 billion or the tapered $35 billion per month, the Fed is already buying all agency purchase mortgage originations.

In conclusion, I eagerly await some clarification of policies from the new people at the helm of the Treasury/Fed mortgage monopoly, the Watt/Yellen combo. We shall see in the next few weeks.

 


- advertisements -

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
Mon, 01/06/2014 - 14:39 | Link to Comment gwar5
gwar5's picture

Isn't there still about 6 million residential units being held back off the market artificially holding prices up?

 

Mon, 01/06/2014 - 14:45 | Link to Comment LawsofPhysics
LawsofPhysics's picture

exactly, the wall street banks control the supply of homes, the financing of homes, as well as the taxation and home policy out of D.C. (via their political puppets).  They own the fucking "market".

Mark to fantasy, forever...

have a massive auction motherfuckers and let's see what the real "value" of all that housing is...

Mon, 01/06/2014 - 14:42 | Link to Comment LawsofPhysics
LawsofPhysics's picture

Blah, blah, blah...

Does one need a decent wage and 20% down in order to get a mortage, or simply a pulse?

Create all the paper money/credit/debt you want, you need calories in order to do anything.

Got Oil/Coal/Natgas?

Mon, 01/06/2014 - 16:11 | Link to Comment Larry Dallas
Larry Dallas's picture

I agree with the blah, blah blahs.

As long as there are people who are in the secondary market selling off this risk, who cares about the 60 year old plumber. Underwritting is so passe. Banks want to make money and will give loans to anyone soon. Not now. But soon.

Mon, 01/06/2014 - 14:47 | Link to Comment Callz d Ballz
Callz d Ballz's picture

No worries, this will be an afterthought soon...

Mon, 01/06/2014 - 15:19 | Link to Comment Colonel Klink
Colonel Klink's picture

FNMA/FHLMC unwilling to take more current crap and their guidelines are tighter than a frogs a-hole.  Subprime still loose as they can foist them off to another investor who's reaching for yield, after they've been pooled.  But everyone still knows it's the government loan programs which are being stuffed full of shit to the lender of last resort the US government, backed by the US taxpayer.

Mon, 01/06/2014 - 15:05 | Link to Comment Mercury
Mercury's picture

It’s not so much that underwriting qualifications are too stringent or not stringent enough it’s that they are, at this point, completely cookie-cutter.  Human judgment has been completely eliminated from the system and this has created some weird scenarios where people who are a good credit risk aren’t getting credit and vice versa.


It’s one thing if equity traders go the way of the do-do bird but quite another if an entire generation of bankers have never priced risk “in the field”.

 

 

Mon, 01/06/2014 - 15:07 | Link to Comment Colonel Klink
Colonel Klink's picture

Not sure that warrants a down vote.  A vast majority of loans today are done DU, which is direct underwriting via  computer based models on FICO score and borrower parameters.  After initial rejection they're usually reviewed by a live underwriter.

EDIT:  Though I don't necessarily agree with his whole premise.

Mon, 01/06/2014 - 15:14 | Link to Comment Mercury
Mercury's picture

I doubt underwriters have much incentive to escalate to DU override procedures unless it’s obvious that the algo has failed to pick up on some group identity subtlety.

Mon, 01/06/2014 - 15:18 | Link to Comment Colonel Klink
Colonel Klink's picture

Agreed if they don't meet A credit.  It's possible they could be moved to a subprime product, at a higher rate of course.

Mon, 01/06/2014 - 15:34 | Link to Comment Mercury
Mercury's picture

In any case it’s very likely that there is a sizable small business (and probably RRE mortgage too) market that is “underserved” by lenders right now.  That may or may not mean that there is a subsequent business opportunity here but still, it doesn’t quite jive with the happy outcome that was painted for us when QE was being sold as a silver bullet.

Mon, 01/06/2014 - 15:35 | Link to Comment Colonel Klink
Colonel Klink's picture

I think we all know that TARP and QE wasn't to solve a liquidity crisis but a solvency crisis.  The major banks are bankrupt if they had to follow FASB guidelines before they moved to "Marked to Fantasy".  They still are, and all they're doing in monetizing the debt and trying to allow the banks to fill their holes in the balance sheet by ROBBING THE PEOPLE!

Mon, 01/06/2014 - 15:54 | Link to Comment Blankenstein
Blankenstein's picture

People are still buying homes 4-6x's income.  If standards were truly stringent, prices of homes would drop to affordable levels, so buyers wouldn't have to spend such a large portion of their paychecks to buy depreciating, upkeep-intensive crap shacks.  Realwhores, banks and mortgage brokers want the gig to keep going, so they can keep enriching themselves from the housing ponzi.

Mon, 01/06/2014 - 18:38 | Link to Comment ElixirMixer
ElixirMixer's picture

Exactly - I'm on the risk management side of a large residential property manager. Not to be insensitive, but the loan processors I deal with have to be some of the dumber people out there. Most of them seem to act as if it is my fault that they can't flip their loan off on some other party. We try to keep up with FNMA and FHFA guidelines just because we understand their market position and certainly want owners to be able to sell their properties. Unfortunately, at the end of the day it's just impossible to make it work.  

Mon, 01/06/2014 - 14:57 | Link to Comment gwar5
gwar5's picture

A check of new residential building permits shows that the 2013 total nummber is abouut equal to levels seen 20 years ago, circa 1992-3. New permits are running 50% lower than they were during the highs of 2006. Those numbers are really sick and sad considering that the price of housing has marched back up. 

 

 

Mon, 01/06/2014 - 15:07 | Link to Comment Kayman
Kayman's picture

Ship all your manufacturing jobs to your competitor- China- and your home buying middle class disappears, resulting in depleted demand for housing.

Whoda thunk it...

Mon, 01/06/2014 - 15:04 | Link to Comment The Heart
The Heart's picture

Canadian Medical Association Journal Blasts Japanese Government: "Culture of Coverup" Exposing Japanese Citizens to "Unconscionable" Radiation Risk:

http://mr-absentia.soup.io/post/385488541/Canadian-Medical-Association-J...

Skeena Sockeye Fishery Closed Due to Low Returns:
http://ospreysteelheadnews.blogspot.com/...ue-to.html

Sockeye Fisheries Closed Following Historic Lows In Skeena River, B.C.:
http://www.huffingtonpost.ca/2013/08/12/...44088.html

(SitNews) Thorne Bay, Alaska – Due to a low sockeye return, the US Forest Service Thorne Bay District Ranger is acting immediately to protect sockeye salmon in the Hatchery Creek drainage on Prince of Wales Island:
http://www.sitnews.us/0613News/062713/06...losed.html

Diseased Alaska seals tested for radiation:
http://www.wikileaks-forum.com/animal-ri...1#msg54931

""There was not one of the 28 days on that portion of the trip when we didn't catch a good-sized fish to cook up and eat with some rice," Macfadyen recalled. But this time, on that whole long leg of sea journey, the total catch was two. No fish. No birds. Hardly a sign of life at all.":
http://www.theherald.com.au/story/184843...is-broken/

 

.

Mon, 01/06/2014 - 15:06 | Link to Comment Colonel Klink
Colonel Klink's picture

Thanks for that, how does that apply to underwriting of loans?

Mon, 01/06/2014 - 15:40 | Link to Comment Bunga Bunga
Bunga Bunga's picture

They are lesse likely underwriting a loan when the shit hits the Western United States.

A dead radioactive whale in front of a Malibu beach home isn't such a teaser for home buyers, is it?

Mon, 01/06/2014 - 15:51 | Link to Comment Colonel Klink
Colonel Klink's picture

No but it sure is a blast!

http://www.youtube.com/watch?v=d2CfYOJ5oxk

Mon, 01/06/2014 - 15:14 | Link to Comment moneybots
moneybots's picture

"At the same time, it has never been more difficult for many qualified borrowers to get a loan. This strange phenomenon is among the unintended consequences of ill-guided public policies."

 

It was the bankers who wanted an end to Glass Steagall and the bankers who created liar loans.  One extreme has lead to another.

 


Mon, 01/06/2014 - 15:51 | Link to Comment PrecipiceWatching
PrecipiceWatching's picture

Much of the problem with the ongoing US Housing disaster, was (and is still) due the introduction of the usual coerced pro-black racism, in lieu of normally sane business practices, by the biggest bully on the block; FedGovUSA.

For the "Left and Right makes no difference" crowd, this destructive, thieving shit was kicked off during the Criminal Clinton administration, and the ball carried by a venal Democrat Congress during the Bush years. Fag Frank was instrumental.

Affirmative Action crook, the utterly talentless Franklin Raines, former head of FNMA, should be in the penitentiary.

 

 

 

Mon, 01/06/2014 - 15:19 | Link to Comment moneybots
moneybots's picture

"I remember Ben Bernanke saying that lenders are overly stringent on underwriting, unnecessarily so."

 

Bernanke knows that one extreme leads to the other.  Bernanke wasn't interested in speaking up when Greenspan took the lending standards to ZERO.

Mon, 01/06/2014 - 15:20 | Link to Comment alangreedspank
alangreedspank's picture

Pretend there has been a recession, pretend the government imposed austerity on itself, pretend the consumer has deleveraged, pretend underwriting standards are tight. Victory! This is the recovery!

Mon, 01/06/2014 - 15:44 | Link to Comment The Heart
The Heart's picture

Who can debunk THIS MYTH?

Canadian Medical Association Journal Blasts Japanese Government: "Culture of Coverup" Exposing Japanese Citizens to "Unconscionable" Radiation Risk:

http://mr-absentia.soup.io/post/385488541/Canadian-Medical-Association-J...

Skeena Sockeye Fishery Closed Due to Low Returns:

http://ospreysteelheadnews.blogspot.com/...ue-to.html

Sockeye Fisheries Closed Following Historic Lows In Skeena River, B.C.:

 http://www.huffingtonpost.ca/2013/08/12/...44088.html

(SitNews) Thorne Bay, Alaska – Due to a low sockeye return, the US Forest Service Thorne Bay District Ranger is acting immediately to protect sockeye salmon in the Hatchery Creek drainage on Prince of Wales Island:

http://www.sitnews.us/0613News/062713/06...losed.html

Diseased Alaska seals tested for radiation:

http://www.wikileaks-forum.com/animal-ri...1#msg54931

"There was not one of the 28 days on that portion of the trip when we didn't catch a good-sized fish to cook up and eat with some rice," Macfadyen recalled. But this time, on that whole long leg of sea journey, the total catch was two. No fish. No birds. Hardly a sign of life at all.":

 http://www.theherald.com.au/story/184843...is-broken/

Dead Sea Creatures Cover 98% of Ocean Floor Off California Coast; Up From 1% before Fukushima:

http://thedailyblogreport.wordpress.com/2014/01/05/dead-sea-creatures-co...

Japanese Senator: “The Path That Japan Is Taking Is The Recreation Of A Fascist State”

http://www.washingtonsblog.com/2013/11/fukushima-radiation-will-hit-fish...

Japanese cars banned in Russia:

http://japandailypress.com/russia-bans-1...n-0641885/

Japanese Government Raises Severity Rating of Fukushima Leak:

http://ifclmedia.com/feeds/?p=9579

TV: “Massive radioactivity release” at Fukushima going on for almost 3 years now; Visible steam “just the tip of the iceberg” — NHK: Containment vessels are ‘broken’:

http://enenews.com/nhk-containment-vessels-are-broken-at-fukushima-plant...

BIG RADIATION COVERAGE ON THE ALEX JONES SHOW RIGHT NOW!!!

Listen to the repeat later.

http://www.infowars.com/listen-on-the-internet/

Mon, 01/06/2014 - 16:09 | Link to Comment Spungo
Spungo's picture

There's zero risk in lending to homeless people because the fed has very clearly stated that it would fight "deflation" of asset prices. If they pay the mortgage, you get to keep the interest. If they default, you sell the mortgage to the fed. Everybody wins!

Mon, 01/06/2014 - 17:46 | Link to Comment swmnguy
swmnguy's picture

From what I can tell, home lending is about the same as it was in 1996, when I bought my first home.  You have to have a job, some income, a down payment, and some level of ability to pay back a loan.  I had a hard time squeaking through, then.  We had to pretend my mother-in-law owned my wife's car to get our monthly debt-to-income ratio down to where we got the loan.  Of course, they wouldn't count most of my self-employment income because they considered it unreliable.  OK, fine.  We lived way below our means.  Today, having paid off that mortgage, sold that house, and used the money to make a 55% down payment on the move-up house, my credit union would happily lend me far more money than I would ever take on as debt.

We all know house prices are part of an equation.  The only part that matters to the buyer is whether or not he can afford the monthly payment.  So the principal, the interest, the duration, the taxes and the insurance all have to multiply and result in a number he can pay each month.  None of it matters if the loan doesn't really have to be paid back. If loans can be sold multiple times in the secondary market and never have to be honestly accounted, who cares.  But if lenders can't sell the loans without scrutiny, they have to actually get the loans paid back.  When prices have gotten too high, and the market depends on those prices never correcting, then all the other factors in the equation have to go down to keep the payment in the range of the possible.  Hence ZIRP.  If interest rates start creeping up, then either loan durations have to go up or prices have to come down.

The key question is, do loans actually have to be paid back for the system to continue.  If the answer is "no," then it's bubble-on. If the answer is "yes," we have a problem because principal prices are far too high; so high that the other factors have to be artificially held at unrealistic and unsustainably low levels.

Do NOT follow this link or you will be banned from the site!