The specter of the subprime mortgage sector upon the economy continues to dominate the news. Many investors are worried about the effects on the economy of the downward spiral of these types of loans. Still the uncertainty has not produced a recession, but according to some analysts one may be on the horizon this summer. Historically this sector of the mortgage business was 9 to 12 percent of the overall market. For example, from years 1996 to 2000 subprime loans accounted of only 9 percent of the total loan origination market. However, during the housing boom that percentage spiked to 21 percent of all loans between years 2004 to 2006.
In 2006, approximately 40 percent of interest-only and adjustable loan mortgages were classified as subprime mortgages. The defaults by mortgage customers persist and the corresponding free-fall in the subprime mortgage market continue to capture the public's attention. Many lenders have tightened their lending practices, compared to the facile loans doled out by them to borrowers in the boom time of the last few years. In the mortgage industry, intermediaries buy mortgages and give funding to mortgage lenders. These financial intermediaries are tightening their rein on mortgage lenders as they want to get rid of bad mortgage loans or avoid them all together. Hence, many subprime mortgage lenders, are being asked to repurchase these untouchable mortgages, leading to subprime lenders’ ultimate financial demise.
A good example of current industry momentum is the New Century Financial Corporation, a prominent subprime mortgage lender. The main concern lenders like New Century have is liquidity. Its backers or creditors are attempting to keep New Century solvent; to stop the bleeding they have forced the company from making any new loans. Also, New Century is under criminal investigation by the Department of Justice, and faces investigations in several states where the company is banned from new lending. To add to their woes, New Century’s shares have been delisted from the New York Stock Exchange.
New Century is one of many lender companies that are on the brink of insolvency; many have already crossed that threshold. The ability of subprime lenders to remain solvent in the near future will be an ever challenging endeavor, given that a hefty number of loans have been recently returned to them due to high default rates. This will only add pressure on the housing market, especially the lower priced spectrum of the market. Therefore, it is not very difficult to portend these cycles of homeowner defaults and continued losses for the mortgage industry generating ripples of shockwaves throughout the economy leading to a major correction.
