Meet your new mortgage holder. You may have gotten your mortgage from Countrywide Financial
Anyone who's purchased a home is familiar with a mortgage getting sold to third parties who end up servicing it. With the subprime mortgage mess extending its tendrils further out into the economy, the large commercial banks may actually be the ones holding your mortgage these days. According to the Federal Deposit Insurance Corp., the big investing houses have seen the value of the homes they own balloon by 53% from last year. As foreclosures blossom, investment bankers have become homeowners by default.
Commercial banks hoped that by spreading out the risk of the mortgages over many buyers, they'd be far less likely to have to take possession of any of the properties, should a homeowner default. Failing that, they assumed they could always pressure the mortgage originator to take it back. But because the subprime mortgage market fueled ever greater speculation on buyers' part, it appears that banks may now face their worst-case scenarios.
Although Fannie and Freddie typically don't require their investors to repurchase their mortgages in the event of a default, others do. Those repurchase requirements sent New Century Financial and ResMae into insolvency.
According to a recent Bloomberg News report, the value of U.S. homes held by commercial banks rose to $2.3 billion at the end of March, from $1.5 billion a year earlier, the highest level recorded since 1992.
The banking houses must now choose between paying the costs until an appropriate price can be realized on the property, or dumping it below market value. One of Bear Stearns' hedge funds recently faced that dilemma, having made big but ultimately wrong bets on the subprime mortgage business.
This is a crisis of banks' own making. By fueling the homebuying frenzy with creative mortgage financing, investment bankers may now become the catalyst of their own devaluation. As the number of defaulted subprime mortgages grows, the amount of homes in inventory will rise, which may prompt the bankers to unload them at fire-sale prices. The National Association of Realtors already expects average selling prices to decline by 1.3% this year -- the first time they've done so since the Great Depression.
The vortex of price declines sucking down values could spiral out of the investment bankers' control, leading to their own subprime devaluation.
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Fool contributor Rich Duprey owns shares of Fannie Mae but holds no financial position in any other stocks mentioned above. You can see his holdings here. The Motley Fool's disclosure policy is thinking about putting in a gazebo.