Tuesday, July 14, 2009

Adjustable Rate Mortgages Storm Is Brewing

A storm of adjustable rate mortgage foreclosures could be on the horizon according to the Wall Street Journal. In April 36.9% of these loans are at least 60 days delinquent, which means a large number of foreclosures may soon strike the housing market. See the following post by Tim Iacono.

The chart below was promptly whipped up after reading this report($) in today's Wall Street Journal about just how fast Option-ARMs are souring as compared to subprime loans.

It's not so much that the default rates for Option-ARMs have exceeded that of subprimes loans for three months running, but that the absolute numbers are so high.

More than one-third of all Option-ARMs (called Pick-A-Pay loans below) are in default and most of these are likely to make it to the foreclosure stage eventually.

Option ARMs were typically issued to creditworthy homeowners and allow borrowers to make a range of monthly payments. The payment options include a partial-interest payment that adds the unpaid interest to the loan's balance. On many such loans, balances have risen while values of the underlying properties have plummeted amid the housing crisis.

As of April, 36.9% of Pick-A-Pay loans were at least 60 days past due, while 19% were in foreclosure, according to data from First American CoreLogic, a unit of Santa Ana, Calif.-based First American Corp. In contrast, 33.9% of subprime loans were delinquent, with 14.5% of those loans in foreclosure, the figures show.

Payment-option mortgages are heavily concentrated in the worst-hit regions in the housing market, including California and Florida, making borrowers inordinately vulnerable to declining property values. The deepening loan turmoil could mean higher-than-expected losses for Wells Fargo & Co., J.P. Morgan Chase & Co. and the Federal Deposit Insurance Corp.'s own insurance fund.

"The realization of the issues related to option ARMs is just beginning," said Chris Marinac, director of research at Atlanta-based FIG Partners.

If memory serves, the wackiest thing about Option-ARMs a few years ago was that banks could book the interest and principal payments as income even though they weren't actually receiving the money - the vast majority of borrowers were only making the lowest payment that didn't even cover the full amount of the interest due that month.

This post has been republished from Tim Iacono's blog, The Mess That Greenspan Made.

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