How to Sell A Subprime Mortgage Part One: Why Subprime?Posted: March 23, 2009 | |
From the end of 1999 until the spring of 2002, I worked for Aames Home Loans as a Loan Origination Officer. I started my mortgage career during an interesting period for the mortgage industry. Bill Clinton and his economic team poured millions of dollars into the tech industry, creating a situation reminiscent of the Dutch Tulip craze. Worthless tech stocks and stock options were publicly traded on Wall St. All financial regulations were relaxed, including the regulations for the buying and selling of subprime mortgages. Alan Greenspan kept interest rates high to keep domestic wages low. Money was invested because of the high returns in CD’s, annuities, and even money market accounts. Of course, there was a huge amount of money invested in the stock market. There was virtually no investment in domestic production, but hundred of millions of dollars were spent on outsourced industry.
Displaced workers found themselves either living in the black market or homeless. Homelessness grew as rents rose to match the interest rates, and as more and more people sought housing. As the demand rose so did rents. The demand for housing also began to raise property values. High rents caused salaries to pay for less. People began to miss bill payments to keep up with the rent. The less a dollar could buy, the more profit there was in Wall St. People began using their credit cards more. This tied even more dollars into high interest rates. The richer the few became, the poorer the rest of us became, and that created a new market for subprime mortgages.
A simple definition of a subprime mortgage is a mortgage for people with less than perfect credit. What less than perfect credit means in this case, is people whose credit scores dropped due to the economic conditions created by the White House. People who could afford their prime mortgages when they were working in an American factory were suddenly unemployed or underemployed due to outsourcing. Other homeowners had variable rate mortgages because they thought the moderate interest rates of the Papa Doc Bush years would last forever. They watched their 3.7% mortgage grow into a 17% mortgage or even a 27% mortgage. Credit cards were overused, so homeowners needed help with their monthly credit card payments as well as their mortgage payments. The demand for subprime mortgages, combined with the fact that mortgage companies don’t risk their own money, made the subprime industry look very good to Wall St.
The money that is used to purchase homes and properties does not come out of the pockets of the banks and mortgage companies who sell the loans. They come out of what are known as “Mortgage Banks”. A mortgage bank can be anything from a group of individuals who pool their money into long term, high return investments to major international banks. Subprime was very attractive to many investors because subprime has a higher interest than prime. Subprime is considered riskier than prime because the customers have a history of missing bill payments. This is why subprime loans have even more restrictions on them than prime loans. Prime loans are sold to people with excellent credit. They have a lower interest rate and a higher commission for the salesman. It takes about two and a half subprime loans to equal the commission on a prime loan.
This brings us to the underwriter. Underwriters are the guardians of the mortgage banker’s money. The mortgage bankers pool their money and they divide it up into different amounts. These amounts are anywhere from 10K-100K for second mortgages to 10K-500K for firsts and refinances. They decide what interest rate they want for it, whether or not it is to be prime or subprime, and the conditions of the loan. The money belongs to the mortgage bankers. They can impose any darned condition they want as long as it does not conflict with State and Federal laws. That’s where the underwriter comes in. The underwriter’s job is to examine each mortgage to make sure it conforms to his principle’s conditions. The underwriter can demand any proof from the customer that he wants. He can ask for pay stubs, character references, profit and loss statements, or anything else he needs to make a decision. The only thing that he cannot factor into his decisions is race, creed, or national origin.
Subprime from the Inside
Unprecedented demand for subprime mortgages attracted Wall St. Wall St. corporations began buying up private mortgage companies and turned them into publicly traded companies. Aames Home Loans had been a family owned company until two years before I signed on. It had been a much respected institution by the minority home owners who made up most of its customers. The office manager was loved by the people she served. The processor, who also served as receptionist, knew everybody by sight. This changed after Wall St. took over.
Aames’s cash reserves were exhausted by the time I started in the Oakland office. Customers could no longer pay their mortgages at the office, because the loans were sold to other companies before they were even funded. New rules and regulations were instituted that made no sense and were ignored. It didn’t take long to realize that the only rule that mattered was the eleventh commandment: Thou Shalt Not Get Caught.
This was my introduction to the mortgage industry. My job, loan origination officer, was one of the innovations brought in by the new Wall St. management. We were replacing the old call center in Irvine, California. Wall St. thought the old call center was too expensive and the long term employees made too much money. Instead they put one or two L.O.O.s in each office. The people in the old call center knew their jobs. I knew nothing about selling mortgages and my new bosses were not going to teach me. They thought they could chase me out and return things to the way they used to be. More fool they. I survived Aames for two and a half years, outlasting five managers, four regional managers and more salesmen than I can remember. I had no experience in subprime mortgages at all, but within six months I was running that office between managers.
Aames was my introduction to the financial industry. I share it with you in hopes that you will truly begin to understand why things went wrong and the changes that we have to make to make them right again.