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Jumbo Prime: ‘Walk Away’ Loans - More Downgrades Coming
By Mr Mortgage on November 26, 2008 | More Posts By Mr Mortgage | Author's Website
I am hearing that more ratings agency downgrades are on the way in the Jumbo Prime arena - rightfully so. Believe it or not, as with Pay Option ARMs Jumbo Prime are also ‘walk away’ loans.
Conforming and Jumbo Prime defaults are surging. These programs offered by most of our nations largest banks allowed a considerable amount of leverage when purchasing or refinancing. These are the ultimate ‘walk away’ loan, as a household income of $85k per year could legitimately buy a $650k home with 5% down during the bubble years. Now, that home is worth 30-70% less and borrowers are making the wise decision to walk away.
The greatest volume of Jumbo Prime was on the 5/1, 7/1 and 10/1 interest only product line with 5/1 being the most popular. Wells Fargo was the leader for this program on the West Coast. Chase and Citi were also significant players. The 5/1 interest only is fixed for 5-years at a low introductory rate, typically 1.5% or so below a 30-year fixed then after 5-years adjusts higher or lower depending upon the underlying index such as the 1-year T-Bill or LIBOR plus a margin of 2.25 to 3.25%. Although Pay Options were considered Prime for years, they are not included in this analysis, as they are now in a category of their own.
Jumbo Prime are high-leverage programs that allowed borrowers to buy much more home than they should have. Because Jumbo Prime borrowers had better credit overall, banks were very easy on the qualifying. For example, with full-documentation a 620 credit score could get an 80% $750k first mortgage that allowed a 15% second on top of that for a 95% loan. These loans typically qualified at interest only payments. For stated income, the fee was very small, typically .125% in rate, with allowable credit scores around the 660 level. A 50% debt-to-income ratio was typical. THESE ARE NOT PRIME LOANS. This goes to show how distorted risk-management became.
This entire mortgage and housing blow up is very linear…Subprime to Alt-A to Jumbo Prime then Prime conventional. Helocs blow the entire way up the chain. The defaults in Jumbo Prime have to do with a) the way they were structured with longer teasers such as 5, 7, 10-years and high leverage b) the massive negative equity due to median home prices falling in the biggest Jumbo regions by 25 to 70%.
BUYING A $650K HOME WITH $85K PER YEAR INCOME - MOST POPULAR IN CA
A 5/1 interest only at 5%, qualifying at interest only payments, means that a $520k loan carried a payment of only $2166 per month. Add in $650 per month for taxes and insurance, and the total is roughly $2825. With a 15% second of $97,500 at Prime carrying payments of $325 per month and reasonable ‘other debt’ at the time of $400 per month, the total payment out the door would be $3541 approx. This means a household income of $7082 per month could buy a $650k home with 5% down. This is not out of the realm of hourly workers or moderate income single worker families in CA.
Now the same home is worth $450k, the borrowers added debt after the loan was funded and all of their after tax income is going out to debt each month. They can’t save a penny and are going broke just to live in this underwater house. They can rent the same house for $2500 per month. The best decision is to walk.
$650k Purchase in 2006 - 95% first/second combo
$2166 per month on a $520k 5/1 interest only Jumbo Prime
$650 taxes and insurance
$325 per month on a $112,500 heloc
$400 other debt
——————-
$3541 per month total payments
$7082 per month ($85k per year) needed to qualify
Now days the same income buys a $275k to $300k mortgage with 10% down. This shows why housing prices keep falling.
In foreclosure the recovery rate in CA for these loans is running less than 50% presently. The average note discount for a home taken to the foreclosure sale in CA last month among the big banks was 45%. If these loans were mostly 80% loans at the beginning, this means the homes are being discounted over 55% and still less than 5% sell at auction. They rest go back to the bank as REO.
Home values going parabolic in Jumbo regions like CA had much to do with the nation’s past six year’s wealth effect. When a home goes from $300k to $1 million, that equity is extracted and spent. The home in Nebraska going from $100k to $200k was insignificant. This is why when it comes down to housings impact on the broader economy, ’so goes CA as does the rest of the nation’.
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I have a 5/1 option arm Jumbo loan and am upside down on my home. If I walk away from the loan do do I need to keep paying for the property tax and will I have to pay for the taxes due to difference between the original purchase price and the current fairmarket value. How is this all handled.