by Tom Wilbur
Legendary New York Yankee Yogi Berra was once quoted as saying, “It’s déjà vu all over again” as he saw Mickey Mantle and Roger Maris hit back to back homers repeatedly during their tenure in the Yankee batting order.
This week, the White House and Obama Administration, in a similar position, asked banks across the nation to ‘get back in the game’ and approve an increased number of home loans to folks with weaker credit scores and/or weaker fundamentals in their ability to repay. Yep, make more loans, Mr. Banker, to those borrowers who haven’t been qualified under the tougher underwriting changes manifested by an industry that was significantly challenged by pushing the envelope to engaged weaker borrowers from 1996 to 2007.
Huh. Really? Is that where we want to go?
The primary value set of variables for originating a home loan have never been difficult, and are really based upon three primary indicators:
1) The evaluation of sustainable monthly income of a borrower
2) Reviewing the re-payment history of the borrowers engaged in requesting a loan—essentially, their credit history in repaying other debts
3) A determination of the value of the collateral—in this case, an evaluation of the value of the home in the current market place
Due to huge losses, and the degradation of the value of homes across the United States, millions of folks find that they actually owe more on their home today than their home is worth. Much of this was caused by the extension of credit to borrowers where one, two or all three of the key parameters above were stretched, in order to generate new loans. When those loans failed, the value of existing homes fell. You’ve read all the horror stories. Everyone was to blame, and we all paid for it.
In many ways the challenges of getting a home loan have increased exponentially, but it’s not because banks don’t want to stay engaged in lending. The rules for making loans, for getting anyone qualified for a home loan, and the regulations banks must follow have changed by an overreaction to what took place a few years ago. There’s much more paperwork, more forms, and less common sense that ever. But bankers don’t have much say in it.
Most fixed rate home loans in America ultimately end up under the watch of four conduits: The Federal Housing Administration (FHA), the Veteran’s Administration (VA), Freddie Mac, and Fannie Mae. All fixed rate home loans are essentially under the rules, direct guidance, and control of the United States government— your Congress and this Administration. FHA, in and of itself, is truly the last subprime lender in America. And they are seeing continued increases in loan defaults because of it.
A bank like ours, in Salina, Kansas, does not define the terms and conditions under which these loans can be made, or further, how they will be treated past origination by regulators. As a president of a small, community bank, I find it curious that we would be asked to increase the number of loans we make to home owners, because in most cases, we have little to no say as to whether a long term fixed rate home loan is approved. We’d love to make more loans. It’s what we do. But the aforementioned groups have all the power to make changes in the dynamics of how loans are underwritten, approved, and funded. We have none.
In the early 1980’s, savings and loans across America had billions of dollars of fixed rate home loans (mostly 30 year loans) on their books, and within a matter of months, Congress de-regulated the entire banking industry. When that happened, savings and loans which had extended long term fixed rate loans to homeowners were immediately saddled with paying a higher interest rates for the money they gathered from people in the communities they serve. The rates being paid for savings accounts and CD’s skyrocketed to levels well above than what these S&L’s earned on the lower interest rate loans they had on their books. As a result, there aren’t many savings and loans around anymore. Paying more interest than what you can charge is a short-term proposition. It doesn’t produce a profit.
The concept of placing long term mortgage loans of any type on an individual bank’s books in any significant amount represents a huge set of interest rate risks for any bank, regardless of its size. When interest rates begin to rise in the future (not if, but when) these loans made today in the mid 3% range will be “underwater”— experiencing a significant loss in the future— a similar predicament to what the savings and loans experienced in the early to mid 80’s. That’s why fixed rate home loans are sold to the secondary market.
Under the proposals in place by a government wishing to push the envelope again, the same set of weak secondary market fundamentals that took place in the early 2000’s could easily create a housing bubble again. When you build a home, or a home loan, on a weak foundation, it will ultimately crumble. Whenever the government pressures the Fed, or regulators, or main street bankers to do something that doesn’t make good business sense, the artificial lift might make us all feel good for a while, but it’s not the right thing to do long term.
Billions of dollars of poorly made loans were the undercurrent that placed many of the largest investment houses and banks in our country at risk, just a few years ago. The securities upon which most fixed rate mortgages are backed in the market place are primarily being purchased even today by the Federal Reserve Bank, to the tune of $85 billion in mortgage backed securities per month. We used to think $85 billion was a big number. It seems to be pocket change these days.
But when interest rates begin to rise, the value of holding all of these securities could be a huge potential risk to the Fed. And the Fed Open Market committee just reaffirmed its commitment to continue on this path of buying up mortgages earlier this week, with one dissenter, Esther George, the President of the Kansas City Federal Reserve Bank. Esther understands the risks of continuing to grow the footprint of the Federal Reserve Bank to mammoth levels, now headed toward $4 trillion in assets. Who will back the Fed if interest rates begin to rise, and these securities go “underwater”? You and me– my friends– the citizens of the United States.
Again, under this entire model, the government controls the way in which fixed rate home loans are being originated in the United States now. They control the types of loans that qualify, and then our own Federal Reserve system buys them back tomorrow, now at record levels. That’s where we stand, folks. Not sure what role as a banker I’m to play in this endeavor, except to continue to give input and respond when asked.
If the White House wants to see more home loans made, then they only need to look to Fannie Mae and Freddie Mac to begin to slowly unwind the onerous rules they have put in place for home loan borrowers—and begin to make well-thought out changes and adjustments. I’ll happily volunteer my time to help shape a better plan.
I’m optimistic about The United States of America and I trust in the process and in the people of this country. Regional and community banks like ours will continue to lend money to qualified applicants for business, homes, vehicles, and farms. We will do everything we can to be a part of the improvement of quality of life in our area. We live and work here, and have pride in this community we serve.
But there are reasons for some concern. Let’s not allow anyone to attempt to repeat the errors of the past decade, and risk it all, by engaging in political rhetoric, or artificial knee-jerk measures designed to make us feel good about where we really stand in the short term— without evaluating the long-term impact of stretching the underwriting criteria for home loans (or any other type of loans) with flawed economic strategies.
Tom Wilbur is President/CEO of BANK VI, Salina, Kansas. He is a graduate of the University of Kansas, and a regular contributor to newspapers, magazines, and industry periodicals. He can be reached at [email protected]