Monday, July 24, 2006

Tighter Lending Standards

This one comes to us from Barry Ritholtz at The Big Picture:

New, More Stringent Rules on Option ARMs and Interest-only Loans

"We got to musing on the extraordinary deliberateness ... while reading a recent "policy report" put out by Ed Hyman's ISI Group. [Bank regulators] who, as it happens, months ago were to issue new regulations to curb the abuses of such mortgage exotica as option ARMs and interest-only loans.

Which bears on our conviction that Mr. Bernanke is wrong on how severe the housing skid is apt to prove and is wrong as well on his relatively benign expectation for its impact on the economy. The folks at ISI say that, despite its tardiness, the new, more stringent rules, chances are, will be issued by the end of the summer. And when they finally see the light of day, contrary to the conventional wisdom on the Street, they'll have an impact, and a substantial one. And that impact will consist of cutting already shaky demand for housing and putting further pressure on home prices.

Unfortunately, any new regulations would come much too late. The horses have left the barn, closing the doors at this point will do no good. The risk is out in the marketplace. Will introducing tighter standards at this part of the cycle only serve to further reduce demand and drive prices lower?

Caveat Emptor!
Grim

6 Comments:

Blogger chicagofinance said...

I saw this stuff. Was it here or on the Ben Jones blog? So I was cued to read the Abelson column in Barron's.

This issue is so amorphous at this point that I don't know what to say. ISI is just a consultative think tank and money manager. Whose is going to subscribe to these guidelines anyway? Some kind of peer pressure among the ABA? The Federal Reserve System [no way]?

My only guess is that Moody's, S&P and Fitch will begin to evaluate banks, credit products and other financial instruments. This story in of itself means nothing. However, I would ask that anyone who sees evidence of this filtering through institutions or the markets make us aware immediately.

Even though this research and potential tacit regulation is needed tough medicine, there will massive political fallout and grandstanding from the affected masses.

Think about some jack--- politico staging his November election on some poor family that is "losing the house".

Keep your eyes open. Be forewarned. Be prepared. But most of all, have plenty of Dramamine on hand so you don't barf up your lunch at the hypocrisy.

chicago

7/24/2006 09:48:00 PM  
Blogger RentinginNJ said...

Whose is going to subscribe to these guidelines anyway? Some kind of peer pressure among the ABA? The Federal Reserve System [no way]?

Working in a highly regulated industry myself, I know we often take government “guidance” very seriously. It’s often seen as the last step before more draconian command & control type regulation.

This being said, the Federal govt. has direct oversight of nationally charted banks only. Banks operating under state charters are under state control. From the Fed’s own analysis, nationally charted banks are not the biggest abusers of exotic mortgages.

If all else fails, I still believe that markets are ultimately efficient and self correcting. Investors, at some point, will either lose appetite for debt backed by exotic mortgages or will at least demand greater compensation for risk.

7/24/2006 10:45:00 PM  
Anonymous Anonymous said...

The fed and the OCC, both institutions likely to insist on tougher regulations care about the banks, not the consumer. if they say lending standards must tighten, then its likely that they will. The politics wil play out as they always have done. First ignore problem, then wait for the fall guy to appear. it may be mortgage brokers, or even realtors. It may even be developers (this is unlikely though because of their links to state and city govts). Best of all scenarios is to find a few extreme examples of broker abuses and then pin the lot on them. I believe the rules change.

Patrick

7/24/2006 11:07:00 PM  
Anonymous Anonymous said...

Chicago said:
"Even though this research and potential tacit regulation is needed tough medicine, there will massive political fallout and grandstanding."
=====
DLC | Press Release | July 25, 2005
Sen. Hillary Rodham Clinton Accepts Position as Chair of the DLC's 'American Dream Initiative'
http://tinyurl.com/krlc5

Chicago..just what is the American Dream? Initially targeting lower income folks who think they should be middleclass?

Anyway, I think it is topical that she is naming this platform, "American Dream Initiative," since that is typically associated with homeownership by the middle class.

7/25/2006 08:28:00 AM  
Blogger chicagofinance said...

If all else fails, I still believe that markets are ultimately efficient and self correcting. Investors, at some point, will either lose appetite for debt backed by exotic mortgages or will at least demand greater compensation for risk.
7/24/2006 11:45:25 PM

I agree with both Patrick and you. From what I understand, the review of hedge fund regulation by Bernanke some months back focused on this area.

It stated that the greatest potential for a blow-up would be underpriced risk in credit product than was highly levered up.

As an example, the potential for a huge shift in credit profile, and the resulting blow-out in spreads [i.e. drop in value], in what were perceived to be AAA credits or pools of instruments. As a method to generate addtional yield on cost of carry, a lot of hedge funds and similar money managers have been using AAA/AA and pools in lieu of cash. But cash is cash, and when you buy product that is overpriced for its credit profile and margin the heck out of it, slight movement in credit quality will get you hammered.

I still say that the spigot in turned on full blast.

The market has only slowed down, because houses are just way too expensive. However, behind the scenes, everything is the same.

Until there is a wholesale dislocation, a credit blow-up, a bad hedge etc. the housing market is going to continue as a kind of George A. Romeo Dawn of the Dead walking zombie.

I think that the housing market has more legs than people want to admit here.

chicago

7/25/2006 08:40:00 AM  
Blogger chicagofinance said...

Anon 7/25/2006 09:28:45 AM:

It reminds me of the work initiatives and programs trumpeting the success of low income workers during the latter stages of the dot-com boom.

Pure garbage.

Some people are not meant to own homes, and it actually is beneficial for them that they are prevented from obtaining access.

7/25/2006 08:47:00 AM  

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