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For 30 years I've worked with Main street, in a variety of capacities, on housing, mortgage and real estate related issues. My experience includes origination, both for institutional lenders, mortgage bankers and as a mortgage broker; managment of origination and operations; product developmnent... More
  • Why NO DOC & Subprime Lending Will Come back 1 comment
    Jul 11, 2009 01:16 PM

    Why should "prudent and practical" no doc lending bother people...

    Many SA authors and commentators seem extremely bent by this concept, and yet, like all other forms of lending, it has its place….done properly.
    Peter Drucker once said "the function of business is to create customers....through marketing and innovation"...
    Now, No Doc...and Subprime lending...they help to create customers.  This is undeniable.  And, has been evident to me by observing the rise and fall of the economy over the past 30 years, creating customers  is better than chasing them away. Done properly helps every one…at every level…in the general economy, if done prudently.
    I have written that I saw my first “no doc/stated income” loans in the mid-1980’s…so this concept is not new….
    I have written that I met my first “subprime” lenders in the early 1980’s…so this concept is not new…
    I have written that I was involved in the development of my companies version of the “Option ARM” in the early 1980’s…so this concept is not new…
    As a matter of fact…none of the programs or concepts, so railed upon by so many, are actually new. I have had the good fortune of trading emails and correspondence with several high profile economists who do not fully understand much of this history, and their lack of awareness is often displayed in their writings, either in flawed methodology or false assumptions, which leads to flawed and false conclusions.
    My point is that there in known behavior and history for these mortgage lending concepts. It all goes back 25 years, or so…not 5 to 7 years like many seem to think.
    The problem was not the concept of these lending standards…rather, it was that the lending standards were never consistent…they were elastic.
    I liken the expansion and contraction of lending standards the highway speed limits. There was a time when “55 MPH” was the max on the highway system. As frustrating as it was, statistics show that it saved on gas consumption and there were fewer accident related deaths.
    “55 mph” ended…and some states went to unregulated speeds for a while… So, because you could go 100 mph…even though it was not economical and brought increased risk, many chose to do so.
    Now, I like speed, but at 100 mph, even I begin to wonder about the sanity of it all…especially the other idiots on the road…I’m not sure I trust them. Unregulated speeds…say 100 mph…really felt wrong.
    But, “55 mph” also felt wrong.
    In the 1980’s, when lenders began the “no doc” idea, borrowers had to put down 25%. This became a limiting factor in just who could access this credit channel. For many entrepreneurial spirits, this became a way for them to continue in their venture and to access the credit markets.
    The cost difference was somewhat significant, as it should have been, and  the cash requirement was significant, and you had to be self-employed, or own at least 25% of a company.  It was actually a good idea that served a market segment.
    Oh, by the way, according to studies and audits performed in the late 1980’s, on those loans which were “stated income/no ratio”…where borrowers had to list income, 90% lied. This seemed to surprise the lending community. I never understood the middle ground of “stated income/no ratio”. Either its full doc, or no doc. Full review, or no peak. This can be accounted for, managed and the risks can be priced.
    The problem with this loan product in the 1980’s was not the process…the real problem began when lenders altered the process…they cancelled the program, and collapsed the a significant part of the market.
    I am a believer in consistency. Every time you change a lending principle or guideline, you alter the market.  And, while change this may have certain negative consequences, often the medicine or cure is worse than the problem ever would have been.
    At any point in time, based on the total breadth and depth of lending standards, there are theoretically a finite number of borrowers who fit the parameters. When lenders expand their borrower profile, they must be prepared to stay there forever…or not go there at all.
    In the Fannie/Freddie AUS findings I used to receive on my borrower files, I was regularly surprised at who the model had been expanded. With 30 years experience in reviewing borrower information, I could not, without running the AUS, tell a client what their maximum purchasing power was…I had to run the AUS.
    As we all now know, the underwriting F/F profile was expanded beyond was prudent, beginning in the late 1990’s. However, currently, the underwriting model has over compensated. Both of these processes are wreaking bad results, and only serve to distort the market and both have proven to be destructive. And, destructive is never prudent.
    The key was not necessarily the underwriting process…the key was the consistency of the underwriting process. Once “no doc/stated income” credit underwriting was prudently implemented and integrated into the system, and then “chiseled in granite”, the market would have been stable.  The problem was that the process proved to be evolutionary, as lenders looked to further expand their guidelines to continue to grow their business (what many call free market capitalism…which I call capitalistic manipulation).
    So to, if the F/F AUS system had been set in stone, say in 1999, we would not have experienced the excesses of 2006/2007. I also believe, and have written that, if F/F had not over-reached its true market, many of the Subprime and Alt lenders may not have expanded into troublesome areas, and the problems in the market would be different than they are currently.
    I was still able to process a 100% LTV non-owner in 2007…which was not prudent lending… it never was and never should have been a prudent product. Investors should have to commit cash. But, like the 100 mph limits in some states…it was allowed and many borrowers eagerly sought out these programs.
    I was still able to process a FNMA Flex 100 in late 2007…with housing ratios of around 60%. This was not prudent lending, not at this extreme ratio…and it never should have been available through the AUS. But, like the 100 mph limits in some states…it was allowed, and many borrowers accepted it.
    So, too many borrowers, created though elasticity in the guidelines distorted the market…but that is no worse than too few borrowers, caused by the reverse elasticity in the guidelines…which also led to distortion in the market. Elasticity in the underwriting guidelines was the culprit.
    What many today call “market adjustment’ or “free market” … is anything but a market or free. So we need to end that rhetoric. We do live, I believe, in a highly manipulated market, which is constantly abused by those in positions of authority, responsibility and influence.
    Markets need to be pure…and that means a set of guidelines is put in place, based on a single definition of “what the market is”, and “what a customer is”, and then it is left alone. Change and abuse should not be a part of the process. 
    However, since “to error is human”…. we must find a way to deal with the “to forgive is divine” part. We need serious solutions…not simple clichés or reckless banter.
    No Doc, in its original intended form, met a market need. In its original intended form, it was good, and prudent.
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This post has 1 comment:

  •  
    I just have a question.
    YOu commented that about 90% of applicants lied on those NO Doc loans in the 1980, do you know, or do you know how I can find out what percentage of those loans went into default. I think that would be interesting to know. THanks
    alvarado1080@gmail.com
    2009 Aug 19 05:31 PM Reply
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