Tightening Lending Standards: A market conundrum

What will lending standards look like 6 mos. or a year from now? Will lenders with more stringent qualifying standards be a drag on the market? At minimum, it will change the complexion of the pool of buyers. Some ramifications of tighter standards that come to mind:

  • reduces ability of consumers with credit blemishes to purchase a home as easily as before.
  • it may take longer for loans to be pushed through, because
  • borrowers may have to provide more verifiable documentation.
  • lenders may look more carefully at appraisals and implement other safeguards to reduce fraud.
  • reducing the probablity of those buying a home with questionable credit from getting into financial trouble (which leads to distressed properties which leads to downward pressure of prices)
  • a more stable and credit seasoned pool of borrowers, leads to stable and healthy markets.
  • housing affordability becomes much more tied to economic fundamentals vs speculation and artificial housing appreciation.

Over the last three years or so, qualifying for a mortage has been absurdly easy. There is no doubt about it. When my wife and I bought our first house (670 sq ft) in Ballard, I barely qualified for an FHA ARM. I think the underwriters were cringing and looking away when they stamped it “approved.” We had to provide bank statements, two yrs. of tax returns and more.

Today, borrowers with average to low credit scores could get a loan with virtually little oversight. What program buyers qualified for largely depended upon borrowers credit scores. In the end, it really came down to the interest rate you were going to pay. It was never a matter of “if” you could get a loan, rather, it came down to the interest rate and program you were placed in.

A conundrum

In hindsight, most first time homebuyers that closed their purchase transactions though our escrow office put little to nothing down over the last three years. It is still going on today, but not nearly at the tempo that our office experienced in all of 2005 through summer of 2006. First time home buyers drive the market, providing impetus for sellers to move up into a home that suits their current lifestyle. For many, that meant moving to new construction housing. If the first time buyer market slows, everything down stream slows as well.

Through my direct discussion with loan officers, some have indicated that lenders are scrutinizing transactions more carefully. One indicated that a recent appraisal was required to add more comparable homes and provide interior photos of the subject property being purchased.

WMC, a large national lender and a wholly owned subsidiary of GE Finance (my spouse has now informed me that WMC is no longer, but is now taking the GE name) is slated to eliminate all 100% financing with borrowers having FICO scores below 700. Further, they are financing first time home buyers (FTHB’s) at a 95% cap. I take this to mean that FTHB’s will need a 5% down payment. This is quite the turnaround from the loose lending standards we have seen.

If lending standards tighten with or without government intervention, certainly it will have an impact on the ability of buyers with marginal credit to become a homeowner. Those with existing mortgages may find it more difficult to refinance. I can’t help but think of all the 100% financed borrower transactions our office has closed—borrowers that may not have qualified (nor closed) if these guidelines were in place today. In 2005, that meant 71% of our purchase/sale business would have never existed as it did (hard swallow).

Generally, with sales trending slower than in months past, stricter qualifying standards may have enough impact to slow sales further. I hope it does not, but I don’t see the alternative as being realistic. The upside is that the pool of homebuyers may move towards more traditional mortgage products, such as fixed rates. More stringent qualifying standards is a good thing for the market long-term, even if the short-term prognosis is discomfort.

36 thoughts on “Tightening Lending Standards: A market conundrum

  1. Well, let’s see. The FDIC released its guidelines on nontraditional mortgages on October 4th. Has there been any changes since then on the types of loans being originated?


    Hmmmmm. I just received my latest edition of the Scotsman Guide and I see all kinds of loans avail for credit scores under 700.

    The effect will be: even higher rates and fees to offset the risk.

    Which means pressure on appraisers once the sales price is increased to allow for “seller contribution to closing costs.”

    The appraisers are speaking loudly on this issue. They’re tired of being pressured to hit value.

  2. Jillayne – Could you explain what scotsmanguide is? Are these mortgage brokers who have already approved a loan, and are now trying to sell that loan to a bank or someone else who will package and sell it as an MBS?


  3. Jillayne’ last sentence is absolutely correct.

    I’m a certified residential RE appraiser, serving NW Wa. We are, by law, expected to be independent from all parties who have a financial interest in a property….i.e., seller, buyer, agent, mtg.broker, loan originator. We are expected to provide supportable market value without experiencing influence from those above.

    Yet the ‘value’ we are often expected to produce is pre-determined by one or more of the parties above. Sorry…I don’t play that game, and many of my peers are finally coming around to the fraud in the system when this happens.

    Yes, I may lose current business due to my policy, but in time the ‘ball playing’ appraisers could find themselves out of the business or in federal prison, along with the rest of YOU who are part of the fraud scheme. The FBI is taking notice, and they are serious.

    I’m not interested in having a personal relationship with ‘Guido’ in a lockup somewhere. I am interested in helping you place a loan, but not in an unethical way.

  4. The major lenders are moving to position themselves as we speak, not only has some lenders moved the sub prime credit rating requirement from a once 580 to as high as 640 but they have closed marketers such as in Wachovia’s recent closure of EquiBanc Mortgage Unit that operates out of the Southeast portion of the country and compiled mergers or competitor purchases as in Citigroup’s case.

    I agree with Jillayne that appraisers are going to see an increase of pressure from lenders, but may also see it from property owners who must refinance as soon as possible. With or without pressure, there may not be much appraisers or loan originators will be able to due rather underwriters require more comparables or better details because of the lack of sales. Nationwide there is a lot of inventory on the market right now.

    With regard to the business volume mentioned by Tim, I personally have tracked for the last 12 months customer base being mortgage companies only located in the Midwest portion of the country. As of March of 2006 we saw a 10 percent decrease in customer base, as of July 2006 we saw another decrease of 5 to 10 percent and at the end of the last marketing campaign as of January of 2007 we estimate that another 10 percent reduction has taken place from the companies that remained at the end of our July campaign. While I admit that I do not have any documented numbers per press reports I can say that this is based on in house marketing records.

    I completely agree with Jillayne and Tim, what bother me are the moves that the big lenders are making, as an appraiser that is what I will be monitoring.

  5. After all I have been reading over the past weeks and months about tightening lending standards, imagine my surprise when I heard the following pitch last week at a seminar, the pitcher of which is apparently a fairly reputable lender –

    A new loan product for those with:

    1) no credit score
    2) no SSN
    3) no credit history – if they rented for a short time, apparently they could use that.

    My take was that this could be targeted only at illegal immigrants, but how can a lender justify that type of risk?

  6. Hi All,

    Biliruben, The Scotsman Guide is a trade magazine for mortgage brokers and correspondent lenders (who have a credit line with a bank but who also broker out to other lenders as well.)

    The “wholesale” lenders show their wholesale prices to the brokers via Scotsman.

    You can sign up for a free subscription on the link I provided above.

    A mortgage broker doesn’t give loan approval. They can prequalify a client, the can pre-approve a client, but the entity who has the money gives formal “loan approval” and yes, the rest of your question is accurate, the bank or lender funding the loan will either portfolio the loan or package it for sale on the secondary market.

  7. Hey Jim,

    Who was the lender on that one? I will bet that with a high risk loan like that, the rates and fees are very high, or quite possibly, the lender was requirng there be some sort of equity-downpayment. (No 100% LTVs)

    It is also possible that the loan product was set up especially for legal immigrants with a valid green card whose cultural background would not lend itself to using alot of credit cards and thereby establishing a credit score. I just heard a similar presentation myself last week and the entity presenting was a non-profit association, the loan was specifically for first time homebuyers of any race/nat’l origin but they had to have a valid green card (or obviously, if US citizens, a SSN.)

  8. Jillayne –

    I didn’t catch her name or company, but I see what you are saying. The way it was presented didn’t sound as up as what you are stating. There’s definitely a market there, though. Or maybe I was jumping to conclusions.

  9. Thanks, Jillayne.

    I think we may be looking at two different things, however. I see the lenders and their advertised offers.

    When I look at this page, however, it looks like brokers offering specific loans.

    Are these loans that haven’t found a lender?

    Thanks again. I didn’t realize this market was quite this transparent, if what it looks like is what it is. Pretty cool tool to keep a pulse on the tightening lending standards.

  10. Yeah, biliruben, the link you posted is something totally new that Scotsman just launched where a broker can post loan scenarios and receive replies directly from wholesale lenders themselves. This is free to the mortgage broker.

  11. “My take was that this could be targeted only at illegal immigrants, but how can a lender justify that type of risk?”

    Who cares if they have the ability to repay and the LTV is low enough? lending is about making a credit decision, not advancing a political agenda.

  12. The No Credit Score Loan? I’ve been waiting for that one! 😉
    We all ready do “no job loans” … I just cannot imagine a “no credit score” loan when our worlds revolve around fico.

  13. I can only hope that people that read this not only RE-read it…but also take note of Post #3 as mentioned by Diane Cipa. I tip my hat to you both.

  14. Great post. I’m glad to see mortgage companies tightening up in an effort to prevent mortgage fraud. I know it will make it difficult for homebuyers, but it will help us in the end. Ralph Roberts is quoted in the Swanepoel Trends Report by saying that more and more people are being sent to jail on charges of bank fraud and conspiracy to commit mortgage fraud. Even with these new rules in place, I am concerned that this will get worse before it gets better. What do you think?

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