What Are Subprime Mortgage Loans
Below is a MRR and PLR article in category Finance -> subcategory Mortgage.
What Are Subprime Mortgage Loans?
You may have heard about the subprime mortgage loan situation affecting the United States. But what exactly is a subprime mortgage?
Understanding Subprime Lending
Subprime lending involves providing credit to higher-risk borrowers, often referred to as "B/C" or "nonconforming" credit. This type of lending targets communities that traditional lenders have often overlooked. The subprime mortgage market has expanded significantly in recent years, especially after 1993. By the end of 1996, the total value of subprime mortgage loans surpassed $350 billion, with more than $125 billion in home equity loans originated in 1997 alone. Subprime mortgages have now become a vital part of the home equity market, comprising 11.5% of it in 1996 and growing to 15.5% by mid-1997.
Growth and Evolution of the Subprime Market
The subprime mortgage market has thrived due to profitability, increased borrower demand, and expanding secondary market opportunities. Subprime loans typically come with higher interest rates and fees compared to conventional loans. These higher costs are often justified by the increased credit risks involved. However, critics argue that some subprime lenders impose excessively high rates and fees that aren't necessary, especially since these loans are secured by the home's value. Some point to the federal deregulation of state interest rate ceilings in 1980 as a reason for these high rates on first mortgages.
The Role of the Secondary Market
The high profit margins in the subprime mortgage sector have attracted significant interest from investors seeking higher-yielding securitized assets, particularly in a low-interest-rate environment. In 1996 alone, the sector issued over $38 billion in securities, marking the largest increase in securitizations across any lending industry that year. This expansion in the secondary market has allowed lenders to secure funds more easily, further boosting subprime lending activities. Freddie Mac, a major government-sponsored enterprise in mortgage purchases, planned to enter the subprime secondary market by buying "A minus" subprime mortgages by 1998 and higher-risk "B and C" loans by 1999.
Future Expectations
The subprime market is poised for continued growth. Rising credit card delinquencies and record personal bankruptcies are impacting borrowers' credit histories, pushing more people into higher-risk categories. Despite these challenges, consumer spending remains strong, increasing demand for subprime loans. Additionally, changes in tax codes limiting interest deductions to first mortgages may encourage more borrowers to seek home equity loans.
In summary, the subprime mortgage market has become an essential component of the lending landscape, driven by profitability, borrower demand, and the evolving secondary market. As economic conditions change, the demand for subprime loans is likely to continue growing.
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