Fogging the Mirror in Mortgage Lending

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The U.S. housing market continues to struggle. Housing starts have dropped appreciably from as recently as a year ago, and builders' financial results are plummeting as they write off land positions and options that no longer seem realistic.

It's a malady that has plagued the likes of Centex (NYSE: CTX), KB Home (NYSE: KBH), Toll Brothers (NYSE: TOL), and Beazer (NYSE: BZH), to name but a few. And with housing prices continuing to drift lower in many locations -- including parts of Florida, where I live -- the timing of a firmer market remains extremely difficult to predict.

Indeed, while the buying and selling of homes is a relatively straightforward exercise -- many of us do it frequently throughout our lives -- there is a group of what economists might call "exogenous factors" that collectively are complicating the housing market and clouding predictions about its future health. One of these factors is the recently ballyhooed phenomenon of subprime lending and the growing reverberations in the housing and mortgage markets that have resulted from increasing defaults by subprime borrowers.

I actually have a better term for the sort of housing mortgages that are now infamously called subprime. Until very recently, about the only thing one had to do to arrange a zero-down and perhaps interest-only (and ultimately adjustable-rate) mortgage on a home was be able to identify the desired house and then figuratively fog a mirror from a credit perspective. Verification of employment and income were unnecessary with what came to be known as "stated-income loans." And so, I think what we saw might better be referred to as "mirror-fogging" lending. It won't surprise you to know that a slug of those mirror-fogging mortgages now are being unserviced. (I think it's interesting and amusing that Roget's Thesaurus lists "fink out" and "crap out" as synonyms for "default.")

The whole mirror-fogging phenomenon and its aftermath have effectively resulted in yet another anchor dragging down the housing market. In some locations -- including Florida -- we're seeing rapidly escalating costs for homeowners' insurance and relatively frequent policy cancellations among hard-hit carriers. Last month, Florida's governor and its legislators hatched a plan that gives a state insurer more latitude in competing with private insurers. One result of that plan -- which is reportedly being considered in Louisiana as well -- is that Floridians, even those with little chance of sustaining hurricane damage, may be affected financially by storm-related expenses. These and other frequently underappreciated subordinate considerations almost certainly will continue to affect the housing market negatively.

Nevertheless, as I've counseled Fools in the past, homebuilders' share prices and aggregate housing statistics are independent of each other. As such, and with the worst of the housing news likely having been disclosed, I continue to believe that Fools with a somewhat longer-than-normal investment time horizon will be able to earn profits in any of several of the high-quality national builders.

For related Foolishness:

• Profit From the Housing Bust
• Forecasting Housing Futures
• Lennar Kicks Up More Industry Gloom

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Fool contributor David Lee Smith does own shares in Centex and Beazer but not in the other companies mentioned. He welcomes your questions and comments. The Motley Fool has a disclosure policy.