10 Subprime Myths?

Yesterday, I had a post about “liar loans” and some surprising information that had come out of research into a fairly large bucket of such loans. The real point of the article was that we really have a lot of preconceived ideas about what caused the mortgage meltdown, but unfortunately little data to back up that conventional wisdom

This isn’t a small point since we are spending many billions of dollars trying to correct the situation based on what might well be bad data. Moreover, we are framing a lot of dicsussion around what the mortgage market should be allowed to do in the future on the basis of these biases.

So, it’s really important to try and divine some truth about what really did happen and avoid the temptation to make the truth fit our preconceptions.

Today’s evidence of just how much we may be wrong about some things comes from Yuliya Demyanyk of the Cleveland Fed. The title of her paper is “Ten Myths About Subprime Mortgages.” I’ll list the myths below but you need to go and spend a little time reviewing her reasoning.

Myth 1: Subprime mortgages went only to borrowers with impaired credit

Myth 2: Subprime mortgages promoted homeownership

Myth 3: Declines in home values caused the subprime crisis in the United States

Myth 4: Declines in mortgage underwriting standards triggered the subprime crisis

Myth 5: Subprime mortgages failed because people used homes as ATMs

Myth 6: Subprime mortgages failed because of mortgage rate resets

Myth 7: Subprime borrowers with hybrid mortgages were offered (low) “teaser rates”

Myth 8: The subprime mortgage crisis in the United States was totally unexpected

Myth 9: The subprime mortgage crisis in the United States is unique in its origins

Myth 10: The subprime mortgage market was too small to cause big problems

Are you gritting your teeth yet? I know, it flies in the face of all of the commentary but this certainly isn’t the first time and it won’t be the last that we thought we knew why something happened only to find out that our reasoning was about ninety degrees off.

I’ll readily concede that Ms.Demyanyk’s analyses might contain some flaws. Certainly, they aren’t the definitive answer but it makes no sense to close our eyes to data that might put a different spin on events than the one with which we have become comfortable.

More here (link to the paper).

Comments

[Leftfield:]

Myth 2: Homeownership WAS promoted until the tsunami of foreclosures.
Myth 4: If declining underwriting standards did not contribute, then I would say many later mortgages were cash-out refi's that allowed people breathing space for awhile to mask their inability to pay. Keeping their credit scores artificially pumped.
Myth 5: People DID use their homes as ATM's. But, the higher default rate for home purchases over refi's is probably explained by builders subsidizing even worse credit risks to get them into their overbuilt projects.
Myth 7: Subprime borrowers WERE offered teaser rates. Just because they were higher than normal teaser rates doesn't mean they weren't teasers to the borrowers they were sold to.
Myths 8-10 were just gobbledygook served by the MSM and were lies all along.
Other "myths" can be parsed further than MS. Demyanyk did, like her assertion that FRM's are defaulting at the same rate as ARM's and may not support her conclusions.
I guess her work creates some controversy. I think it's slightly interesting but weak.

Jul 23 02:42 AM

[John Preston:]

Tom

Interesting post and article to bring to the group....my answer got too long...I'll make it a post.....I will just say that there are many myths working their way into them mindset of the popular culture....it is important that everyone stay informed and open minded....

Jul 23 01:38 PM

[Jane:]

Agree w/Leftfield that builders were part of the problem, (his comment re: myth 7). They opened up their own mortgage co's or set up affiliated arrangements with other lenders like Countrywide. Beazer Homes was investigated for criminal mortgage fraud and settled w/the govt in exchange for not being prosecuted this year. This is going on all over and it's disgusting that when you here "experts" talk about homebuilders it's rarely mentioned that they were a large part of what was wrong w/the economy and this industry. Still are.

Jul 23 04:37 PM

[billddrummer:]

cetin is at it again, unfortunately.

Back on topic:

Interesting take on the subprime sector. I prefer to point to 'layered risk' loans rather than subprime--even if the borrower had a prime credit score, a high LTV coupled with a high debt ratio would raise the risk profile and likelihood of default.

It would be instructive to dig into the defaults of layered risk loans (LTV maximums, high debt ratios, credit scores just above subprime), to see whether there is a correlation between layered risk and likelihood of default.

Thanks for the link.

Jul 23 08:07 PM

[Mr. Ed, Jr.:]

Ms. Demyanyk is arguing in circles on much of this, and very carefully parsing words, such as :

"Myth 8: The subprime mortgage crisis in the United States was totally unexpected"

"Totally unexpected" ? Yes, it is easy to argue against almost any statement when you first set it up by using words like "totally", "unique" and "only".

And, obviously, there is not a single cause of the housing crisis; there are many contributing factors, most of which the author is attempting to argue were not the "only" cause.

But Myth #2 is pretty ridiculous. Of course subprime mortgages "promoted" home ownership. They were not the only type of loan promoting it, and were also not the only type of promotion. The author cannot even get past sentence 3 of her own argument without admitting that subprime loans did, in fact, "promote" home ownership. Her attempt to debunk the "myth" is based on the argument that the promotion was not paricularly successful. That is irrelevant. Her reasoning cannot withstand even a little scrutiny.

Jul 24 12:59 AM