Employment is up, foreclosures are down. Home prices are low, and mortgage interest rates are the lowest in history.
It's a great time to buy a home, so you go looking and fill out that all-important loan app. What? You can't get the loan? How can that be?
One word could explain it: Repurchase.
The ultimate owners of residential loans, primarily Fannie Mae and Freddie Mac, are compelling lenders large and small to buy back bad loans; it's costing institutions like Bank of America, Wells-Fargo and J.P. Morgan-Chase, billions.
It works this way: Lenders make residential mortgages and then sell the loans on the so-called "secondary market." The majority of these loans went, and still do, to Fannie and Freddie, which in turn package them into mortgage backed securities, which are then bought by investors all over the world.
Once these loans are sold, accounting rules say that they're "sold without recourse," meaning that they're gone from the lender's balance sheet; the purchaser of the paper has no recourse against the lender.
But that's not the case. The loan seller makes "representations and warranties" regarding the quality of the loan. Should it go bad, the purchaser - say, Fannie Mae - can, and often does, demand that the loan be bought back, with the original lender standing any loss.
The nuances of the Reps and Warranty section of a loan buyer-seller agreement are extensive, and we won't detail them here. Suffice to say that Fannie and Freddie can find a reason to demand a putback on just about any loan that goes bad. Doesn't mean they'll be successful, but they are more often than not.
Potential repurchases comprise a staggering off balance sheet liability for the big banks. As of June of this year, putback demands total around 17 billion for the year, with only about 6 billion having been repurchased.
In addition, the Federal Housing Administration, which insures loans against default, has pulled its insurance coverage on billions of dollars in mortgages that the agency claims weren't properly underwritten. This also puts the original lender in the harm's way of foreclosure.
The banks aren't taking this lying down. Or maybe they are. I recall, back in the day before cell phones (yeah, I know my picture doesn't make me look that old) I was at a mortgage banking convention. It was Friday morning and, as I was dialing my office, I overheard the guy at the next phone say, "If we close at that rate, we'll lose our butt!" I finished my call, and he, his. He turned to me and said, "Well, I solved that. I just told everybody to lock the door, go home, and don't close any loans until Monday."
If you don't make the loans, you don't have to buy 'em back, so the mega lenders are simply lying back and making a lot fewer by ratcheting up underwriting and documentation criteria. If an applicant catches a toe on that last jump through the hoop, well, too bad. No matter what, that one won't end up back in the bank.
The idea now is, if the loan goes bad, if we hang enough bells and whistles on it, we'll be able to prevail against Fannie in court.
If you weren't able to get that cheap loan you coveted, don't feel bad. As Hyman Roth said, "It's nothing personal, just business."
Pat Dalrymple is a valley native. He's been in the mortgage and banking business since 1961. He'll be happy to answer your questions or hear your comments. His e-mail is email@example.com.