It all started with, or so the story goes…..Banks began lending money to people that where not qualified for conventional mortgages. For example, with annual earnings of $80k under the old school of thought you would have qualified for a mortgage of up to $240k. With a requirement of a 10% to 20% down payment you could afford house of no more that $300k. The US government believed that helping every tax payer own his dream house was good idea and that it would be good for the economy. A healthy housing market stimulated the construction industry and other related industries producing durable goods. After the Dot-com_bubblepopped, the housing market fueled the US economy.
With the banking industry deregulation, the US government allowed banks to lower the lending standards. Banks began approving mortgages to people that would not have qualified before. This was accomplished by offering artificially low mortgage interest rates and even mortgages with 0% down. This economic policy created a significant number of house buyers almost overnight. This in turn created a high demand and drove prices up not only for real estate but for other industries including automotive, travel, etc. The Market was flooded with cheap money. Cheap money creates demand.
With home prices on a rise, people started speculating and many were applying for mortgages with initial interest rates well below the market rate (so called introductory rate or Subprime lending, etc.) with the hope that within a few years their houses will appreciate and will be resold for a profit or will be refinanced with the equity taken out. This went on for several years but eventually the money supply dried up.
About 12-14 months ago the housing market started showing signs of weakness. Prices were no longer were rising but rather had declined in many areas. The housing market was over saturated with new construction and a large inventory. Lower interest rates caused the dollar to fall. With the unprecedented fall of US dollar against major foreign currency we observed the price of commodities sky rocket. For a while the US housing market continued to ride on, mostly fuel by overseas investors seeking for bargains, but even that came to screeching halt after bad economical times hit overseas markets. The Federal Government raised the interest rate to stabilize US currency and rein in rising commodities prices.
Adjustable rate mortgages were no longer affordable and one that was sold 3 to 5 years ago was due to ether be refinanced or was getting a rate increase. That caused many adjustable mortgage holders to default on there mortgages. Needless to say it also became more difficult to qualify for a new mortgage.
Here we have a classic domino effect. The housing inventory began growing, prices began falling and banks ended up having bad mortgages and were forced to foreclose on houses which they desperately are trying to resell ASAP. Banks started experiencing liquidity problem and eventually facing bankruptcy and liquidation. Many financial institutions bought mortgages on a secondary market as a sure bet for future profits at a time when mortgages were very lucrative. These institutions were left holding significantly devaluated assets almost overnight. Balance sheets were showing reduced capitalization causing banks credit ratings to decline. So now the panic begins.
The Feds want to inject 700 billion dollars into the US economy. Details are sketchy but for a short term, this massive infusion of capital will help. After this party we may have a big hangover because someone will have to repay this massive debt. During economical uncertainty great fortunes are made, so if you have available cash and are in the market for great bargains, be on the lookout. We too at PropertyMinder recognize difficult times ahead and offer great deals and discounts for our products and services. As for what will happen, this is a subject of a different and very political discussion which will go well beyond this blog.