BT: Crisis spreading to prime home mortgages in US (05 Aug 2008)

Crisis spreading to prime home mortgages in US

And its impact will be much worse than that of sub-prime, say analysts

(NEW YORK) The first wave of Americans to default on their home mortgages appears to be cresting, but a second, far larger one is quickly building.

Homeowners with good credit are falling behind on their payments in growing numbers, even as the problems with mortgages made to people with weak, or sub-prime, credit are showing their first, tentative signs of levelling off after two years of spiralling defaults.

The percentage of mortgages in arrears in the category of loans one rung above sub-prime, so-called alternative-A mortgages, quadrupled to 12 per cent in April from a year earlier. Delinquencies among prime loans, which account for most of the US$12 trillion market, doubled to 2.7 per cent in that time.

The mortgage troubles have been exacerbated by an economy that is still struggling. Reports last week showed another drop in home prices, slower-than-expected economic growth and a huge loss at General Motors. On Friday, the Labor Department reported that the unemployment rate in July climbed to a four-year high.

While it is difficult to draw precise parallels among various segments of the mortgage market, the arc of the crisis in sub-prime loans suggests that the problems in the broader market may not peak for another year or two, analysts said.

Defaults are likely to accelerate because many homeowners' monthly payments are rising rapidly. The higher bills come as home prices continue to decline and banks tighten their lending standards, making it harder for people to refinance loans or sell their homes. Of particular concern are 'alt-A' loans, many of which were made to people with good credit scores without proof of their income or assets.

'Sub-prime was the tip of the iceberg,' said Thomas Atteberry, president of First Pacific Advisors, a investment firm in Los Angeles that trades mortgage securities. 'Prime will be far bigger in its impact.'

In a conference call with analysts last month, James Dimon, the chairman and chief executive of JPMorgan Chase, said he expected losses on prime loans at his bank to triple in the coming months and described the outlook for them as 'terrible'.

Delinquencies on mortgages tend to peak three to five years after loans are made, said Mark Fleming, the chief economist at First American CoreLogic, a research firm. Not surprisingly, sub-prime loans from 2005 appear closer to the end of defaults than those made in 2007, for which default rates continue to rise steeply.

'We will hit those points in a few years, and that will help in many ways,' Mr Fleming said, referring to the loans made later in the housing boom. 'We just have to survive through this part of the cycle.'

Data on securities backed by sub-prime mortgages show that 8.41 per cent of loans from 2005 were delinquent by 90 days or more or in foreclosure in June, up from 8.35 per cent in May, according to CreditSights, a research firm. By contrast, 16.6 per cent of 2007 loans were troubled in June, up from 15.8 per cent.

Some of that reflects basic math. Over the years, some loans will be paid off as homeowners sell or refinance, and some homes will be foreclosed upon and sold. That reduces the number of loans from those earlier years that could default. Also, since the credit market seized up last year, lenders have become much more conservative and have stopped making most sub-prime loans and cut back on many other popular mortgages.

The resetting of rates on adjustable mortgages, which was a big fear of many analysts in 2006 and 2007, has become less problematic because the short-term interest rates to which many of those loans are tied have fallen significantly as the Federal Reserve has lowered rates. The recent federal tax rebates and efforts to modify more loans have also helped somewhat, analysts say.

What will sting borrowers more than rising interest rates, analysts say, is having to pay interest and principal every month after spending several years paying only interest or sometimes even less than that. Such loan terms were popular during the boom with alt-A and prime borrowers and appeared appealing while home prices were rising and interest rates were low.

But now, some borrowers could see their payments jump 50 per cent or more, and they may not be able to sell their properties for as much as they owe.

Prime and alt-A borrowers typically had a five or seven-year grace period before payments toward principal were required. By contrast, sub-prime loans had a two-to-three-year introductory period. That difference partly explains the lag in delinquencies between the two types of loans, said David Watts, an analyst with CreditSights.

'More delinquencies look like they are on the horizon because so few of them have reset,' Mr Watts said about alt-A mortgages. -- NYT


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