The HELOC Party is Over for Lenders and Homeowners
Unsolicited home equity loan pitches and refinancing offers made up about 20 percent of my mail two years ago. The volume and language of these offers bothered me: clearly someone would profit if they convinced me and other homeowners to get deeper in debt.
It wasn’t easy money for homeowners. Now it turns out that home equity lines of credit aren’t easy money for banks either. According to Financial Week:
…losses on home-equity loans soared to $2.4 billion as of the end of the first quarter, from $273 million 12 months earlier. National banks, which hold about half of all home-equity loans, sustained as much loss from this type of credit in the first quarter of this year as they did in all of 2007.
Several major financial institutions have taken steps to freeze open HELOCs in recent months. Mortgage Insider notes that many homeowners still counting on access to home equity cash are angry at the turn of events. The earlier story he reported of a mortgage broker out of work, upset when his HELOC froze, elicited some sarcastic comments on his blog.
Financial Week continues:
Banks can find some shelter from losses on home-equity loans by freezing access to existing lines of credit and restricting access to new ones, and they have already done so. But they won’t be able to avoid losses on loans already granted and on lending lines already drawn down.
The level of losses on existing home-equity loans, especially those made between 2005 and 2007, will depend partly on the purpose of the loan. Those used for downpayments are more likely to default those those used for house renovations. Losses will also vary by locale, as have those on primary mortgages. But Mr. Gumbinger noted that such distinctions may not matter much if home prices keep falling.
“The key issue is that until we see home prices stop declining and start increasing again, the risk to lenders will continue,” he said, adding that he sees no major improvement before the end of the year. “Its going to take time.”
And during that time (which I believe will stretch on longer than the end of this year), all of us will suffer. The economy will contract as banks restrict access to credit or fail, and as homeowners lower spending or walk away from their debt.
Believe it or not, there are still boosters out there urging homeowners to take on additional debt. This blogger used Morgan Stanley’s recent home equity line of credit freeze notice to urge people to use their credit now or lose it!
Housing Doom is understandably proud of its 2006 post on the FDIC’s HELOC concerns. It points out that the FDIC itself predicted each step in this economic crisis in a 2004 fourth quarter report:
…the FDIC looked in their crystal ball and saw 2006. It would have been comforting to see the FDIC accurately assess the difficulties, had they not appeared to encourage risky loan practices. The report specifically dealt with HELOC concerns (Home Equity Line of Credit), but addressed concerns with the mortgage industry in general as well.
Here’s an excerpt from the FDIC Outlook 2004:
…when will home prices ultimately level off, and could they actually decline in certain high-priced metropolitan areas? Because HELOC interest rates are typically tied to benchmark short-term interest rates, rising rates make it more expensive for borrowers to service their debt. Higher rates could also dampen demand on the part of new homebuyers, thereby slowing the rate of home price increases. Should home prices stagnate or fall, the most important effect for lenders could well be an erosion in the equity position of some homeowners that will marginally reduce their incentive to repay the HELOC.
The full FDIC report is worth reading. Government oversight did a fine job of predicting this crisis, but a poor job of preventing it. I wonder if the United States Postal Service’s lighter load of junk mail these days is significantly offset by notices of home equity line of credit freezes and notices of default.
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