Home > A Look Back at What Caused the Mortgage Crisis
A Look Back at What Caused the Mortgage Crisis
For more than a year, the business press has reported extensively on the problems attributable to the subprime mortgage market. These problems have had a swift and dramatic impact on many investments. At last count, losses were approaching $200 billion. Investors in all sectors are advised to educate themselves on the far-reaching consequences of the subprime securities market freeze, and subsequent crash. A brief history follows.
Beginning in about 2005, this decade's housing boom led to a Wall Street feeding frenzy as a huge, secondary market for mortgage notes sprung up overnight. Before long, it seemed that Wall Street players were willing to fund home loans to literally any borrowers — whether the credit history was good, bad or ugly.
These real estate collateralized loans morphed into thousands of mortgage-backed securities, holding subprime loans and related collateralized debt obligations (CDOs), which were sold to the public. Unfortunately, they were presented as far safer investments than they actually were. Mysteriously, many subprime and sub-sub prime loans were bundled into secured debt packages that were graded A, AA and even AAA by the agencies that rate investment quality.
Over the past several months, securities ratings agencies (Moody's, S&P and Fitch) have downgraded billions of dollars of these investments, acknowledging that they were, indeed, far riskier than first represented. The problem continues to worsen. Investors in these securities need to educate themselves, and respond appropriately.
Since January, 2007, the interest rates on hundreds of billions of dollars of adjustable rate first mortgages have been reset to higher — often much higher — levels. In September, 2007, Fortune Magazine reported that on average, monthly payments on Adjustable Rate Mortgages (ARM) would increase by $1,018. The news was even worse for those borrowers who entered into “teaser” adjustable rate mortgages. They were due for an average increase of $1,825 per month.
Finding themselves under-prepared and overburdened, these already-strapped subprime borrowers have defaulted on their mortgages in record numbers. The following table shows the approximate amount of first mortgages scheduled for reset in 2007 and 2008.
| Month | Approximate Amount of Mortgages Resetting to Higher Rates |
| January 2007 | $27 trillion |
| February 2007 | $23 trillion |
| March 2007 | $26 trillion |
| April 2007 | $38 trillion |
| May 2007 | $38 trillion |
| June 2007 | $38 trillion |
| July 2007 | $44 trillion |
| August 2007 | $44 trillion |
| September 2007 | $48 trillion |
| October 2007 | $50 trillion |
| November 2007 | $46 trillion |
| December 2007 | $41 trillion |
| January 2008 | $44 trillion |
| February 2008 | $32 trillion |
| March 2008 | $37 trillion |
| April 2008 | $46 trillion |
| May 2008 | $40 trillion |
| June 2008 | $32 trillion |
| July 2008 | $35 trillion |
| August 2008 | $37 trillion |
| September 2008 | $30 trillion |
| October 2008 | $18 trillion |
| November 2008 | $14 trillion |
| December 2008 | $12 trillion |
Next, sharp declines in the housing market led to declining home values, restricting subprime borrowers from refinancing or other action to avoid default. Added to that was an overuse of second mortgage loans and/or home equity loans to acquire homes, pay down debt or finance other needs. As a result, many borrowers have found themselves with little or no equity in their houses, and greatly reduced credit options. Taken altogether, the mortgage mess created a “perfect storm” for disaster in the subprime MBS, CDO, SIV and Conduit investment markets.
Several economists believe that the loss in total real estate wealth could range from $2 trillion to $4 trillion. The effect of the subprime fallout has also been felt in commercial real estate. A report last July from Fitch cautioned that rising defaults in the commercial real estate market, after years of increasingly lax lending standards, could adversely affect bonds backed by commercial real estate loans.
As reported here, Moody's, S&P and Fitch continue to downgrade bonds backed by pools of these mortgages to “junk” bond status. Since early October, 2007, investors have seen the transformation of mortgage-backed bonds that had been represented and sold to them as high-quality securities into junk almost overnight.
Between 2002 and 2006, borrowers obtained $2.3 trillion in subprime home mortgage loans. Unfortunately, it appears almost inevitable that the downgrades in ratings of bonds and CDOs backed by these loans will only get worse.
We'll keep you posted.
In the summer of 2007, our group, who individually and collectively have extensive experience in representing investors against Wall Street, formed an affiliation. Our affiliation of lawyers is actively involved in advising individual and institutional investors in evaluating their legal options when confronted with subprime and other mortgage related investment losses. Contact us.
Top
