The Subprime Mortgage Crisis – What Caused It and Who Is To Blame?

The examine for superior, mortgage backed securities is one of the factors that led to the subprime crisis that caused such upheaval in the global financial world. In order to form more and more residential loans, lenders created many unusual loan programs, often with relaxed qualifying standards, such as:

1) Requiring tiny or no income or asset documentation
2) Not considering a borrower’s impaired credit or ability to repay the loan
3) Waiving the need for an appraisal to verify value of the property being financed
4) Requiring minimum or no down payment
5) Allowing borrowers to avoid mortgage insurance with a first and second mortgage combined for up to 100% of the value of the property.

Many, if not all, of the loan programs that ancient the above mentioned tactics are no longer offered today. In addition, lenders offered adjustable rate mortgages (ARMs) that had negative amortization, rate adjustments occurring as often as every six months, and exorbitant interest rate caps. These uncertain loan programs were often offered to “subprime” borrowers, those who may have unpleasant credit history, higher debt, lower income, previous bankruptcy, short employment history, and other less than ideal characteristics.

These subprime loans frequently resulted in a high rate of delinquency and foreclosure. When mortgage backed securities declined in value due to the bursting of the steady estate bubble, Wall Street investors cease purchasing them which tightened the entire credit market around the world. The impact of such a credit crunch on the recent market is significant:

1) Available financing for jumbo loans is limited
2) Most high risk loan programs are no longer available
3) veteran mortgages have risk-based pricing
4) Underwriting guidelines are tightened up
5) Mortgage insurance availability may be restricted

As a result of these restrictions, many borrowers found it difficult to glean mortgage loans. In addition, recent federal and spot laws passed to prohibit predatory lending, regulate high cost loans, amend foreclosure procedures, place national standards for mortgage professionals, and clarify suitability requirements for borrowers.

Who is to blame for the subprime mortgage crisis? In short, everyone. First, there are government regulators and lawmakers who, for years, presided over policies that encouraged and allowed borrowers to qualify for loans that they could not afford. Regulators were also unable to realize that the credit ratings given to mortgage backed securities should not have been as high as they were. Next in line for the blame are certainly the lenders and loan originators (including brokers) who sold loans to borrowers even if they knew that the borrower was at risk to default. It did not matter to them since they were going to sell the loan and if it did default the current lender or broker was not going to be on the hook.

Wall Street investors are also to blame for foolishly investing in products that were not stable. Fund managers were simply not able to perceive beyond short term profit and win to realize the proper long term risk that was taking plot. Finally, and arguably most importantly, the consumer is to blame for demanding these products. Because, if there is no query for subprime mortgages, then lenders and Wall Street investors would not need to supply them. A culture of high leverage and a “support up with the Joneses” mentality was a recipe for inconvenience.