You've worked all your life to get your credit score where it, never been late on mortgage payments, and always pay off your credit cards. So, how does this subprime meltdown effect me, and why should I be concerned? You should be if you ever plan on borrowing money in the near future of if you want to sell that home you are locked into, which is probably worth a lot less than what you think it is.
The US Economy has been dragged down the last 12 months on soaring default rates on high interest subprime loans and declining home values. This problem is not going away anytime soon as more subprime loans will go bad over the next year and housing values continue to fall. Falling home prices and the growing number of foreclosures have created the worst US housing slump since the Great Depression. So what do problems with subprime loans, aimed at borrowers with poor credit, have to do with all of this?
Two events triggered this, one is that too many people with subprime loans stopped making their payments, and two, housing values have sharply declined.
With banks and investment firms expecting to make a healthy rate of return off the interest and principal borrowers paid, they bought billions of dollars’ worth of bonds backed by the subprime mortgages. The raising defaults and foreclosures by the subprime borrowers meant there was not enough money coming in to pay the investors their promised rate of return. Because of this, banks lost billions of dollars, which means they did not have the cash needed to make loans of all kinds.
“The financial sector is the oil that lets the economy run”, said Robin Dubin, and economic professor at Case Western Reserve University. “So, if that seizes up, it definitely slows the economy down.” Businesses are finding it more difficult to find loans, in order to remain competitve. When businesses can not compete, people lose their jobs. When people are out of work, they can not buy products and pay their bills or debts. This drags down the economy further. In the final months of 2007, one out of every six subprime borrower was behind on their payments. The Federal Reserve has been pumping hundreds of billions of dollars into the banking system to keep it running. However, there are still a large number of banks going out of business, or needing to merge with healthier banks. Home buyers with good credit and money for a down payment were scrutinezed before given a loan. In the realm of sub prime lending, the "stated income" and "no document" loan made it easy for anyone to get a loan.
Mortgage lenders like Countrywide, New Century and Argent Mortgage couldnt write these loans fast enough for the demand Wall Steet was buying them, because of the high rate of return. It came to the point where brokers were selling these securities faster than lenders were writing them, which put more pressure on lenders to push these loans through. Mortgage lenders and investors continues to keeping flipping these loans as real estate prices continues to rise in the hot markets of Florida, Nevada and California. When the market fell out in these hot areas, and market prices tumbled, the subprime house of cards collapsed. This is what is now fueling a downward sprial of housing prices as foreclosures, from these subprime loans now enter the market, and will continue to enter the market for the next 10-15 months. These foreclosures continue to put down ward pressure on home values, which in turn is tightening up the restrictions and money supply of the lenders, creating less demand in a time when more is needed to absorb the supply.
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