12 August 2009

FHA leads the way towards sub-prime meltdown 2.0

The anemic economic recovery that is being talked about so much is resting on very week foundations. An astonishing 90% of all new American mortgages are now guaranteed by the US government, in one way or another. It’s as if the private economy has vanished.

Worse, the extraordinary growth of Ginnie Mae (which handles FHA loan guarantees) shows that risky lending continues to thrive, but now it is being handled by the government rather than private mortgage brokers, and investment bankers, driving luxury cars. Instead of taking a tip from the private sector, which tightens it’s lending criteria during recessions, the government is lowering its standards as fast as it can. The rising default rates on new FHA insured loans bears this out.

Prepare yourself for sub-prime implosion 2.0 in the years ahead, when masses of FHA insured borrowers default, and the government is forced to bail-out Ginnie Mae.

Ginnie’s mission is to bundle, guarantee and then sell mortgages insured by the Federal Housing Administration, which is Uncle Sam’s home mortgage shop. Ginnie’s growth is a by-product of the FHA’s spectacular growth. The FHA now insures $560 billion of mortgages—quadruple the amount in 2006. Among the FHA, Ginnie, Fannie and Freddie, nearly nine of every 10 new mortgages in America now carry a federal taxpayer guarantee.

On June 18, HUD’s Inspector General issued a scathing report on the FHA’s lax insurance practices. It found that the FHA’s default rate has grown to 7%, which is about double the level considered safe and sound for lenders, and that 13% of these loans are delinquent by more than 30 days. The FHA’s reserve fund was found to have fallen in half, to 3% from 6.4% in 2007—meaning it now has a 33 to 1 leverage ratio, which is into Bear Stearns territory.

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