Countrywide Prime Mortgages Are Now Sub Prime

Discussion in 'Wall St. News' started by THE-BEAKER, Oct 24, 2007.

  1. Best Mozilo restart his share selling program again.

    This company is not worth a toss.

    Still short the shares,staying short and awaiting $ 1 to trade in 2008.

    Subprime mortgages aren't the only challenge facing Countrywide Financial Corp., the nation's biggest home-mortgage lender. Some loans classified as prime when they were originated are now going bad at a rapid pace.

    These loans are known as option adjustable-rate mortgages, or option ARMs. They typically have low introductory rates and allow minimal payments in the early years of the mortgage. Multiple payment choices include a minimum payment that covers none of the principal and only part of the interest normally due. If borrowers choose that minimum payment, their loan balances grow -- a phenomenon known as "negative amortization."


    • The News: At Countrywide (under Angelo Mozilo, above), delinquencies are rising for option adjustable-rate mortgages, which carry low introductory rates but can lead to a rising loan balance.
    • Background: Lax lending standards led to rising subprime delinquencies. There are signs of similar woes in the prime sector.
    • Worst to Come? In 2009-2011, monthly payments on $229 billion of option ARMs will readjust (so borrowers may have to pay more).Countrywide first offered these loans in 2003 and quickly became a leader in this profitable and growing part of the mortgage market. Mortgage brokers liked the higher commissions and borrowers were drawn to low payments. As lending standards loosened, more of these loans included less-than-full documentation.

    An analysis prepared for The Wall Street Journal by UBS AG shows that 3.55% of option ARMs originated by Countrywide in 2006 and packaged into securities sold to investors are at least 60 days past due. That compares with an average option-ARM delinquency rate of 2.56% for the industry as a whole and is the highest of six companies analyzed by UBS.

    The increase in overdue payments partly reflects a decline in home prices in much of the U.S., which has made it more difficult for borrowers to refinance or sell their homes. In addition, at Countrywide, "they were giving these loans to riskier and riskier borrowers," says UBS analyst Shumin Li.

    Among option ARMs held in its own portfolio, 5.7% were at least 30 days past due as of June 30, the measure Countrywide uses. That's up from 1.6% a year earlier. Countrywide held $27.8 billion of option ARMs as of June 30, accounting for about 41% of the loans held as investments by its savings bank. An additional $122 billion have been packaged into securities sold to investors, according to UBS.

    More News on Friday

    Countrywide is due to provide an update on its business and loan quality on Friday, when it reports third-quarter results. Analysts expect the company to post a large loss for the latest quarter, with estimates ranging from $600 million to more than $2 billion. The stock tumbled 4% yesterday, to $15.05 in 4 p.m. New York Stock Exchange trading.

    The problems with option ARMs have been dwarfed by those in the subprime market, with 20% of nonprime loans serviced by Countrywide at least 30 days overdue as of June 30. Losses also are mounting on home-equity lines of credit and second-lien mortgages, of which Countrywide held $22.6 billion as of June 30.

    The deteriorating performance of option ARMs is evidence that lax underwriting that led to problems in subprime loans is showing up in the prime market, where defaults typically are minimal. Challenges could grow, as from 2009 to 2011, monthly payments on some $229 billion of option ARMs will be adjusted to include market-rate interest and principal, according to Moody's

    In a recent interview, Countrywide Chairman and CEO Angelo Mozilo acknowledged that delinquent payments are "bleeding" into prime mortgages. He nevertheless reaffirmed his longstanding pledge that the company will survive the current mortgage turmoil and thrive, as many smaller lenders are forced out of business.

    A Countrywide spokesman said the UBS comparison could be misleading because lenders' policies for which loans are sold can vary and geographic differences also could skew the comparison. Countrywide says its potential losses on option ARMs are partially covered by insurance.

    Option ARMs once were a niche product targeted mainly to people with very strong credit. An early lender was Golden West Financial Corp., a California savings and loan acquired last year by Wachovia Corp. At Golden West, which used conservative underwriting standards, losses never exceeded 0.18%.

    By 2005, option ARMs accounted for $238 billion of loan volume, or about 8% of loans originated that year, according to Inside Mortgage Finance, a trade publication. At Countrywide, these loans accounted for $93 billion, or 19%, of the company's loan volume by 2005, making it the top option ARM lender that year.

    These mortgages can be highly profitable. Once the short teaser-rate period ends, the interest rate typically is higher than on other types of loans for a similar borrower. Investors were willing to pay more for securities backed by option ARMs than for those backed by traditional mortgages and guaranteed by Fannie Mae and Freddie Mac.

    Broker commissions on an option ARM ranged from 1.75% to 2.5% of the loan amount last year, estimates Tom LaMalfa, a managing director of Wholesale Access, a mortgage-research firm in Columbia, Md. That compares with 1.48% for standard fixed-rate mortgages and 1.88% on subprime mortgages.

    It now appears that many borrowers who moved into option ARMs were attracted by the low payments and may have been staving off other financial problems. More than 80% of borrowers who are current on these loans make only the minimum payment, according to UBS.

    CEO Was 'Shocked'

    Mr. Mozilo told investors in September 2006 that he was "shocked" so many people were making the minimum payment. He called a sampling of borrowers to find out why. The "general answer...was that the value of my home is going up at a faster rate than the negative amortization," he said. "I realized I was talking to a group...that had never seen in their adult life real-estate values go down."

    The temptation to use these loans was strong. A borrower with a $520,000 mortgage at a 30-year fixed rate of 6.05% would pay $3,134 monthly. With an option ARM carrying a 1% introductory rate, the minimum payment in the first year plummets to $1,673.

    But after a specified period, often five years, when borrowers must start repaying principal and meeting full interest payments, monthly payments can more than double. If the balance outstanding gets too high -- the ceiling generally is 110% to 125% of the original amount borrowed -- borrowers can face sharply higher payments even sooner. Some borrowers could find themselves in the painful position of owing more than the value of their home.

    Countrywide requires option ARM borrowers to acknowledge they received a brochure "describing how the product works in plain language," the spokesman said.

    Of the option ARMs it issued last year, 91% were "low-doc" mortgages in which the borrower didn't fully document income or assets, according to UBS, compared with an industry average of 88% that year. In 2004, 78% of Countrywide's option ARMs carried less than full documentation.

    Countrywide also allowed borrowers to put down as little as 5% of a home's price and offered "piggyback mortgages," which allow borrowers to finance more than 80% of a home's value without paying for private mortgage insurance. By 2006, nearly 29% of the option ARMs originated by Countrywide and packaged into mortgage securities had a combined loan-to-value of 90% or more, up from just 15% in 2004, according to UBS.

    Of all Countrywide's option ARMs, including those kept by the bank as investments, fewer than 5% have had a combined loan-to-value ratio over 90%, a spokesman said.

    Some big lenders, including Wells Fargo & Co. and U.S. Bancorp, decided not to offer option ARMs. Countrywide prominently displayed its "PayOption" ARM on its Web site and encouraged employees in its call centers to offer the loans.

    Hawaii Beckoned

    In one California branch office, employees could win prizes, such as a trip to Hawaii, for selling the most option ARMs, says Cindy Lau, who worked for the company for more than six years. Only a small portion of borrowers "understood the loan and knew what they were getting themselves into," Ms. Lau adds. She says she was fired in August for low production.

    In a statement, Countrywide said it is "confident" its loan officers follow corporate policies in explaining the provisions of all types of loans; it didn't comment on Ms. Lau's situation.