LEX
US negative equity
Financial Times
Published: February 29 2008 14:48 | Last updated: February 29 2008 19:38
Underwater loans are giving banks that sinking feeling. It turns out that
second mortgages taken out when the US property market was booming are
particularly painful for lenders when prices fall so fast that the house
is
worth less than the outstanding loan.
JPMorgan Chase has just provided a blunt *****sment of its $95bn ****tfolio
of second mortgages, also known as home equity loans. The extra disclosure
revealed that about 10 per cent of it is secured against homes suffering
the
burden of negative equity. Loans caught in this trap are particularly
toxic
for the banks. They punch above their weight in contributing to credit
losses 60 per cent in JPMorgan Chasešs case with loss rates three to
four times those incurred on loans that are still just but only just
in
the money.
Negative equityOnce a home tips into negative equity, borrowers have less
incentive to keep up on repayments. That is especially true if the
property
was not a primary residence, but a speculative punt. Meanwhile, the costs
of
foreclosure mean lenders have little incentive to try to recover any value
from a house in this kind of death spiral. The loans become in effect
unsecured.
The hallmarks of the worst loans are obvious in hindsight. The loans that
came on to banksš books via third-party brokers and others are more likely
to have a nightmarish feel to them. In 2006 and 2007, nearly 30 per cent
of
the second mortgages that brokers originated for JPMorgan had
loan-to-value
ratios of more than 90 per cent. The bankšs own origination was
dramatically
more conservative. And leverage turns out to trump credit scores in
predicting which borrowers were really risky.
JPMorgan is not alone. Citigroup, for instance, has about $21bn of home
equity loans outstanding where the ratio of loan-to-house value exceeds 90
per cent. With house prices expected to fall further, there is little
prospect of avoiding more trouble.
http://www.ft.com/cms/s/1/5800dc6c-e6d5-11dc-b5c3-0000779fd2ac.html
