|Poor loan performance, payment shock among adjustable rate mortgage borrowers and a growing weakness in the West Coast job market are fueling what could turn out to be a potentially rough 2007 for subprime lenders, according to a mortgage industry analyst.
"We are seeing significantly worse performance of loans originated in 2006 than we have of loans at similar stages originated in prior years," Michael Youngblood of Friedman, Billings, Ramsey & Co. told MortgageDaily.com.
Lenders have been engaged in a battle for market share and began making loans that may now come back to haunt them, he said.
"We think that lenders liberalized their underwriting practices in 2006 in order to rebuild the battered profitability of 2005 both by seeking higher mortgage rates and higher origination volumes," Youngblood said. "But they could only entice (borrowers) by offering lower mortgage rates.
"Unfortunately, building volume with lower mortgage rates and higher FICO scores while the (Federal Reserve) is tightening monetary policy and raising (interest) rates squeezes profitability, and squeezes it hard," he said.
The industry is also bracing for next year when $266 billion of ARMs begin to reset, resulting in higher payments for borrowers.
The situation could prove to be even graver given the small growth in wages for many workers.
"We are deeply concerned about the ability of borrowers to make their newly reset mortgage payments," he said.
"We fear that many borrowers will not have enjoyed income gains equal to potential increases in mortgage payments," Youngblood said. "That's what sticker shock is all about."
Youngblood said the situation comes against a backdrop of slowing rates of appreciation and falling house prices in 28 metropolitan areas.
"The equity cushion for these borrowers is not as great as they might have experienced," he said. "That will further crimp their ability to refinance these loans."
The subprime industry is also "deeply concerned" about the growing weakness in the West Coast labor market. For the first time in a decade employment growth in Washington, Oregon and California is less than the national average, Youngblood said.
"Multiple sectors are affected," he said. "Retail, mining, natural resources, government ... white and blue collar workers.
"Weakness of employment is a pre-cursor to weakness in credit performance," Youngblood said. "The implication is not merely in subprime but in mortgage lending generally from falling employment in these states that is quite substantial and significant."