Sub-Prime Disaster in the making
A report released this week by the Center for Responsible Lending, a Durham, N.C. based research group, predicted that 1 in 5 sub-prime mortgages originated in the past two years would end in foreclosure. While most on Wall Street dismissed this survey as overly pessimistic, it actually represents a rather rosy outlook.
One of the report's deficiencies
is that it fails to account for how the foreclosures it does
expect will impact those loans that it regards as safe. A 20%
default rate would put millions of homes back on the market,
and would also inflict severe losses on sub-prime lenders, causing
them to pull in their horns and tighten their lending standards.
More inventory and higher rates will put more downward pressure
on home prices. Many over-stretched borrowers, who made little
or no down payment, will find themselves struggling to make mortgage
payments on properties with negative equity. Higher rates and
lower prices will also remove the cash out options that many
borrowers expected would bail them out of ballooning adjustable
The main problem is that the majority of these loans were made to people who really cannot afford to repay them and were collateralized by properties whose true values were but a fraction of the loan amounts. Once the music stops and prices return to earth, borrowers who put little or no money down may decide to simply mail in their house keys rather than make additional mortgage payments. Why would anyone stretch to spend 40% of his or her monthly income to service a $700,000 mortgage on a condo valued at $500,000, especially when there are plenty of comparable rentals that are far more affordable?
In addition, even those who
can comfortably afford to pay may choose not too. Basically,
zero-down, non-recourse mortgages give borrowers a free put option
should real estate prices decline. The bigger the drop, the
more incentive there is to exercise. Rather than throwing good
money after bad, borrowers could simply return their over-priced
houses back to their lenders and buy one of their neighbor's
deeply discounted foreclosures instead.
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Mr. Schiff is one of
the few non-biased investment advisors (not committed solely to
the short side of the market) to have correctly called the current
bear market before it began and to have positioned his clients
accordingly. As a result of his accurate forecasts on the U.S.
stock market, commodities, gold and the dollar, he is becoming
increasingly more renowned. He has been quoted in many of the
nation's leading newspapers, including The Wall Street Journal,
Barron's, Investor's Business Daily, The Financial Times, The
New York Times, The Los Angeles Times, The Washington Post, The
Chicago Tribune, The Dallas Morning News, The Miami Herald, The
San Francisco Chronicle, The Atlanta Journal-Constitution, The
Arizona Republic, The Philadelphia Inquirer, and the Christian
Science Monitor, and has appeared on CNBC, CNNfn., and Bloomberg.
In addition, his views are frequently quoted locally in the Orange