Were lenders stupid, you be the judge
It's always interesting to look at the history of a property a client is considering. Even though it really doesn't matter, buyers always want to know the last sales price of a home. The financing history is also available as part of the public record and that's always interesting, especially in the case of a foreclosure. So while I'll anonymize anyway, take a look at this scenario and you be the judge, were lenders stupid.
Home was purchased in 2004 with no money down, the financing was 80% bank and 20% seller financing. The bank loan was a 5 year ARM at 7.5% and the seller financing was probably a typical 5 year balloon. Now if you're thinking that a 5 year ARM at 7.5% back in 2004 was a little high for a mortgage interest rate, think subprime.
With subprime loans, lenders seemed to think that if you charged more to less than credit worthy customers, you could make more and that would be true if the loan actually got repaid. But, they probably sold the loan anyway and didn't care if it ever got repaid because they made money on the origination. So the lender wasn't necessarily stupid (unless they kept the loan on their books) but whoever bought the loan should qualify for stupid. But because it was packaged with a lot of other loans and being sold as a mortgage backed security, there were lots of investors snapping this toxic waste up. Financial engineering at its best.
Well, in 2006, the borrower refinanced and this time, it was a real doozy. Once again, 100% financing but the new rate was at an astronomical 11.5% ARM and the borrower used the home ATM machine and took out an extra $150,000 as well. And, while they were at it, why not get a little $25,000 heloc just to tide themselves over.
None of it ever got repaid, the home was foreclosed, the bank is going to lose money on this deal. The borrower got to live in the home for pretty much free, pocketed well over $100k and just took a hit on their (probably already shaky) credit report.
So there was a lot of stupid lending and sadly, we're all paying for it with taxpayer bailouts and property values that have declined as a result of the mess that the lenders created.
Photo courtesy of Flickr by swanksalot