Probably the most widely reported on mortgage news over the past two years pertains to the subprime mortgage meltdown. Before this subject officially became widespread mortgage news, most people had no idea how dramatically and negatively it would impact the U.S. economy. In fact, mainstream Americans generally had no clue about the true meaning of a subprime mortgage loan and many didn’t even realize that they had a subprime mortgage.
In the years leading up to the subprime mortgage crisis, a lot of mortgage companies were conducting a brisk business approving loans for just about anybody. The real estate market seemed to be the one sure and secure place to invest and people rushed out in droves to buy houses — often bidding over the seller’s asking price.
When the negative mortgage news began to seep out, it was ultimately determined that subprime mortgage lenders were the main culprits in the real estate market devastation. This happened because many lenders were eager to participate in the profit potential of lending to individuals with poor credit ratings whose credit scores were often less than 600.
These institutions brushed aside the fact that many borrowers were not able to obtain conventional loans in exchange for lending money at high interest rates that were above the normal prime lending rate and that would yield great profits. In essence, the lenders took on more risk because they expected that home values would increase and that the borrowers would be able to repay their loans. Thus the housing bubble formed.
When the mortgage news broke that subprime borrowers were defaulting on their mortgage loans, it was discovered that many of the loans were adjustable-rate mortgages (ARMs). Typically, these ARMs charge a low initial fixed interest rate and then convert to an adjustable rate ― based on a market index (such as the LIBOR or the US Prime Rate, which is the rate at which banks can borrow from each other) on top of which is added a percentage margin for profit.
Many subprime borrowers found these ARMS appealing because they initially had a low mortgage rate. But when their mortgage rate reset to a higher rate, a lot of the subprime borrowers could no longer afford to make their mortgage payments.
Beginning in 2006, the mortgage news that many lenders were forced to shut down and even file bankruptcy as a result of defaulting borrowers and foreclosures, which fueled the subprime mortgage meltdown that has not yet abated.