Ghost of The Past: Could we see another mortgage crisis like 2008 next year?

By Jay Anderson, VP of Product Delivery

The subprime mortgage crisis that occurred between 2007 and 2010 left a lasting impression on the financial system nationwide. While it wasn’t as broadly devastating as the Great Depression, it was one of the rockier economic periods in many of our lifetimes. The pain felt during the collapse of the housing market not only decimated many lenders, banks, and wall street players, but also left a scar on Main Street, with record numbers of home foreclosures and strategic defaults.

Learnings from the most recent mortgage crisis are well documented and important changes were made to the banking system to help protect against similar crises reoccurring in the future. Some of those changes included: adjusting credit standards, updating bank capital reserve requirements, strengthening oversight, and implementing new tools and procedures aimed at reducing fraudulent activity. With those changes made, it would be reasonable to assume we are secure against another housing crash or at the very least be able to avoid the lender failures seen in 2007 and 2008.

Once interest rates started to climb earlier this year, we started hearing the predictions. As expected with interest rate increases, housing demand is cooling in many markets, and mortgage originations are slowing. There are certainly indicators that home values in many areas of the country are near peak and will start coming down. Inevitably, fewer borrowers will qualify for mortgages.

As consumers, we’re hoping for a soft landing, with housing values and inflation numbers returning to something more “normal.” What does 2023 hold?

The 2023 mortgage landscape – could it become another crisis?

Policymakers are shooting for a soft landing too. But what if that doesn’t happen that way? What does a hard landing look like? If home values decrease faster than expected, will the market snowball to another crisis? Here are some things we are keeping in mind:

What’s the housing value depreciation tipping point where losses begin to mount?
If home values drop precipitously (e.g., more than 20%), what does that do to delinquency rates and foreclosures?
As the mortgage market continues to tighten, we can expect to see an increase in fraudulent income, employers, and occupancy status?
If intermediaries like brokers, real estate agents, and appraisers collude with borrowers to stay in business, are lenders prepared for these riskier loans?
If lenders are required to buy back excessive amounts of loans, what does that do to their solvency?

Applying what we learned from 2008

Mortgage lending is more comfortable for all involved during stable times. The last 10 years have been a great run. Borrowers have had great rates and lenders have had great revenue streams. Taking out a mortgage is a safer bet for borrowers when home values are steady or increasing.

When times get tough, fraud and misrepresentations become a much bigger deal. Bad loans can no longer just be relisted and sold with little loss. Repurchases can result in cash flow and liquidity challenges for lenders that hurt their bottom lines.

Lenders have gotten much better with controls since 2008, but if the crystal ball said “HARD landing ahead”, how many lenders would be able to batten down the hatches right away? Surely not all. Now is the time to button things up, so that just in case the landing is hard, lenders will not see a repeat of 2008. It is now time to:

Ensure you have proper intermediary monitoring, and don’t let a few bad brokers harm your bottom line.
Sniff out income and employment misrepresentation to reduce early payment defaults and repurchase requests.
Have good processes to ensure occupancy claims are valid.
Don’t let a synthetic identity scheme or a credit washing ring spoil your loan pools.

The end of 2022 feels like a critical point in mortgage risk management. Contact Point Predictive to see how our solutions might help.