Denouement of Subprime Story Yet to Be Written

WSJ starting, after about a month, to get a clearer view of the general contours of the issues in subprime and Alt-A. Good overview article here.

There were two worries. The first was that steep losses in securities backed by subprime mortgages would prompt investors to pull away from risky assets, everything from emerging-market stocks to high-yield corporate debt. For the moment, that concern has receded. Financial markets regained their footing and recovered some of their lost ground in the second half of last month.

The second worry was that subprime woes would exacerbate the housing downturn to the point where the U.S. economy is in serious trouble. Even after all the jargon-filled research reports and talk about second-lien loans and delinquency rates and the like, Wall Street is still trying to figure out whether that's likely.


Some lenders didn't seem to recognize that borrowers who don't put any money down may behave differently from those who put down 20% or so when they buy a home. Nor did they foresee problems these loans might encounter if home prices declined to the point where the amount owed exceeded the value of the property. Sometimes, borrowers defaulted without making a single payment.


It isn't clear whether the problem is just with subprime mortgages or if there is a more general problem with mortgages that first manifested itself in the subprime market. Loans that fall between subprime and prime, known as Alt-A mortgages, are a particular concern. Alt-A borrowers have higher credit ratings than subprime borrowers, but Alt-A loans often fall into the low-doc and no-doc category, and they can require little or no money down

... If risky borrowing helped propel the housing market during the boom times, lenders cutting back on the number of risky loans they make could cause some of the demand for housing to evaporate, and home prices could get pushed lower. That, in turn, would put more homeowners underwater on their mortgages -- which is a big part of how the subprime fiasco got started in the first place.

Posted on April 2, 2007 and filed under Finance.