The Secrets of Successful Investing
In other words, it was okay for people with no money that wanted to buy a home to borrow money for the down payment and then borrow more money for a mortgage.
To encourage home ownership—the great American dream—the patriotic mortgage companies came up with the idea of a very low “teaser” fixed rate that automatically turned into a variable rate mortgage after a year or two. Thus a starting rate of 6.6% winds up at 9.6% in a few years.
An example of what can happen is the sad tale of Mario and Letitia Montes of Fullerton, California, in the August 16 edition of The Wall Street Journal:
“My wife and I make pretty good money,” says Mr. Montes. Mrs. Montes works as a school secretary. Together, they earned nearly $90,000 last year. But they already pay about $38,400 a year on their home loans, even before taxes and insurance. In December, when their primary loan “resets” to a higher rate, that cost will rise to about $50,000 a year, Mr. Montes says.
Fifty grand a year for housing (before taxes and insurance) out of a total household income of $90,000 makes for an unsustainable lifestyle—by a lot.
Strapped homeowners like the Montes family who can’t afford the monthly payments are forced into default—millions of them. This past Tuesday, AP Business Writer Alex Veiga reported that in July alone, 179,599 homeowners defaulted and were thrown out onto the street—a 93% increase over the same period in 2006. According to RealtyTrac Inc., that’s one foreclosure for every 693 households in America.
Meanwhile, these mortgages had been bundled into giant funds and then sold by the slice to a vast network of hedge funds and individual investors. The various investment vehicles are so incredibly complex that nobody really understands them.