Monday, December 15, 2008

Beyond Subprime: Alt-A, Option ARMs, and Weak Financial Stocks

Back in August, Calculated Risk pointed out some good news/bad news: subprime delinquencies had peaked, but the Alt-A rate resets don't peak until late 2009, suggesting that delinquencies and foreclosures could be with us well into 2010. They made the excellent point that, relative to subprime, a smaller proportion of Alt-A mortgages had been securitized. That means that vulnerable mortgages remain on bank balance sheets and are likely to weigh those down for some time to come.

A third set of mortgages, Option ARMs, also have yet to reset. These will pose significant foreclosure problems once the initial teaser rates skyrocket. Together, Alt-A and Option ARMs mortgage problems could lead to losses as large if not larger than the initial subprime mess. While lawmakers are apportioning blame for the mortgage debacle, proposals are on the table to address the foreclosure crisis, including lowering mortgage rates, extending maturities on mortgage loans, and packaging these revised loans through Fannie and Freddie with explicit government guarantees. Questions abound, however, as to whether government-mandated financing will make a difference, particularly if household incomes fall more than such financing will save.

Meanwhile, the banking index ($BKX) fell another 4% today, as the financial stocks continue to lag other S&P 500 sectors. As of Monday's close, Decision Point notes, only 23% of financial shares are trading above their 20-day moving averages, compared with 41% for NYSE common stocks overall. With overhanging mortgage concerns and no clear path for resolution, TARP has failed to rescue the stocks of vulnerable financial institutions.


Prof. Samuel D. Bornstein said...

Re: CBS 60 Minutes "The Mortgage Meltown" aired on Sunday 12/14/08.

Scott Pelley's piece on the 2nd Wave of Foreclosures overlooked a critical fact. The next wave of Foreclosures in 2009 Will Take Self-Employed and Smaller Businesses who have these TOXIC mortgages. In fact, ALT-A, Option ARMS, Interest-Only, the TOXIC Mortgages that are considered the "Troubled" assets in TARP were marketed to the self-employed who fell prey to them.

An NASE survey,, was the first to provide compelling evidence of small business involvement in the upcoming toxic mortgage crisis. The survey was created by Prof. Samuel D. Bornstein and Jung I. Song, CPA of BornsteinSong Consultants in Oakhurst,NJ,and was conducted by the National Association for the Self-Employed (NASE) which issued a Press Release on November 21, 2008. According to this survey, it is estimated that 3,709,800 small business owners hold Alt-A and other toxic mortgages, and 1,279,800 are already delinquent as they have missed one to three or more monthly mortgage payments at mid-November, before the expected Resets that are scheduled to begin in 4th Quarter 2008 through 2012. These small business owners will be at-risk of payment shock and default as their monthly mortgage payments skyrocket. Small business owners were especially targeted for these Alt-A loans which required little or no documentation of income which appealed to many small business owners who previously were unable to qualify.
The resulting defaults will be the cause of the upcoming second tsunami wave of foreclosures that will dwarf the subprime crisis and will take many homeowners and small business owners.

Brett Steenbarger, Ph.D. said...

Thanks, Prof. Bornstein, for the insight; I haven't seen that perspective in the financial press, but I suspect the impact on unemployment (as small businesses in trouble won't be able to hire) will be significant.