An essay in today’s Wall Street Journal written by Andy Laperriere and titled, “Mortgage Meltdown,” clearly and concisely makes the argument that the current problems in subprime are not contained. It is a must read:
Federal Reserve officials and most economists believe the problems in the subprime mortgage market will remain relatively contained, but there is compelling evidence that the failure of subprime loans may be the start of a painful unwinding of a housing bubble that was fueled by easy money and loose lending practices… According to Credit Suisse, the number of no or low documentation loans — so-called “liar loans” — has increased to 49% last year from 18% of purchase loans in 2001, a nearly three-fold increase. The investment bank also found that borrowers put up less than a 5% down payment in 46% of all home purchases last year… Fully 81% of Alt-A loans last year were no or low documentation loans, according to First American Loan Performance… a [recent] Mortgage Bankers Association report… found that mortgage delinquencies hit nearly 5% at the end of last year and that prime adjustable rate loans deteriorated at a faster rate than subprime ARMs. A recent UBS report finds that the 2006 Alt-A loans are “on track to be one of the worst vintages ever.” This is no subprime niche problem… The report by Credit Suisse estimates mortgage originations could drop 21% during the next year or two because of tighter credit standards. Coupled with high inventories of unsold homes and the additional supply likely from distressed sellers, this drop in demand could
produce an unprecedented nationwide decline in home prices. Merrill Lynch estimates prices could drop as much as 10% this year.
Given the problems brewing behind the scenes in the world of finance, I think Merrill’s estimate may prove conservative. It may also prove to be the least of our worries.