March 20, 2007

A lot of customers have been asking how the "meltdown" in the sub-prime sector of the mortgage lending industry will impact home buyers and the industry overall.

The sub-prime sector actually makes up a very small percentage of the home lending industry. But because of the intense media coverage that is focusing on this segment, the problems experienced by a few companies are being amplified through many areas of the industry. "Meltdowns" such as those currently being experienced in the sub-prime sector often precipitate regulatory changes.

Reduced levels of sub-prime lending also means fewer people can enter the market. As a result, sellers have a harder time selling their home, or they’re required to lower their price. When prices stagnate, there are fewer home sales and home equity cash outs, and less home construction.

We can’t accurately predict the impact of the sub-prime sector problems on home loans. But one significant change could likely be lower home appraisal values. Lower appraisals could actually work to the advantage of first-time buyers. And the defaults that are occurring with sub-prime loans can also have a downward effect on home prices. If you neighbor defaults on a loan or has to sell at a fire sale price, it’s very likely to lower you property value as well.

One senior economist at the Center for American Progress believes problems in subprime lending could impact the broader economy, too, forcing mortgage lenders to tighten restrictions on a wide range of loans, including loans made to small businesses.

It may be helpful to view the situation in the sub-prime segment as a "market correction." Doug Duncan, chief economist for the Mortgage Banker’s Association, says that the jump in delinquencies was expected, given the housing-market slowdown. He believes that the shakeout in subprime lending should restore equilibrium to that market shortly.

We welcome your questions and comments on the developing situation inthe sub-prime lending segment of the market.