Everyone should know a little about what has been going down the mortgage industry…..in simple terms.

In simple terms: The risk tolerance has changed for investors of mortgage backed securities (MBS).

MBS are investments in the performance of large pools of “like” mortgages, i.e. no-doc or bad credit loans. Performance, meaning the actual payments made on a monthly basis. After mortgages are funded at the closing table, they are grouped in “like pools” and shipped to investors willing to buy these “graded” MBS.

In actuality, the purchase is consumated before hand and the sale begins on the “day the loan is locked”.

That is why a loan with a 60 day lock must fund within 60 days. Because the “secondary market”, the MBS investors, are counting on that guarenteed margin.

When the real estate market was still firing hot along with a robust economy and hot job market, these securities, naturally, were risky, but profitable. The “perfect storm” for profiting on junk. Now that these economic factors have changed, these riskier MBS are not performing so well and investors have lost billions. Investors have stopped buying them and also are balking at, or lowering their purchase offers, on even A-minus paper MBS. A-minus paper would be a high credit score / stated (not verified) income, full asset verification loan. In other words, an otherwise perfect loan, but the income is not documented, just stated on the application. Hence, A-minus, or Alt-A paper.

So much money has been lost on investing in the subprime market (bad credit, B-C-D paper), that investors haved changed their terms on the purchase of A-minus loans literally overnight. Investment in the subprime loans was huge: hedge funds, global banks, giant investment firms. The reprecussions have traveled around the globe.

Investors of MBS are also the lifeline of many mortgage banks. Without the purchase of these huge bundles of loans, the bank has no cash flow to fund the next wave of loans. The banks less vulnerable to this condition are banks that are diversified i.e. funded by deposits, CD’s, etc, that do not count entirely on the secondary market.

Mortgages virtually unaffected by this are Fannie Mae (FNMA) “conforming” loans. That is, full-doc, good credit loans at (currently) $417,000 and under . FNMA must buy these loans. There is no negotiating when a lender has a giant pool of conforming loans. The money keeps flowing. But, not all of us live in that world. And not all of us can, are able, or even willing to document income. Sometimes we can’t prove cash income. Sometimes we don’t want to if we have ten corporations and it’s more work to produce documentation or divulge the sources, than paying the quarter point in additonal fees or slightly higher rate.

So we’ll always have these mortgage options. We just have to deal with more restrictive guidelines than we’re used to until the secondary market gets over this fright, subprime loans are charged off or begin performing and things get back to normal.

We don’t know how far the subprime effects will ripple. We can only wait and see. If you currently are, or will be originating a non-conforming loan, due to a purchase or a refinance…..get it done! Because in the meantime, any loan that is non-conforming will be changing before our eyes, as investors will decide on the risk and demand more restrictive lending guidelines and higher rates of return…….until things get back to “normal”.

Ted Soulopulos