Wall Street Journal: Bad Loans Draw Bad Blood

by Mike Bevel, CollectionIndustry.com

Time was, potential homeowners needing a home loan would get it from the bank. If the homeowner defaulted, the bank absorbed the hit and suffered any consequences.

Things aren’t as streamlined and simple, now. Today, a complex Wall Street machine buys and sells mortgages and packages the loans into securities that are diced and sliced and sold again to investors world-wide. Everyone takes a hit – and everyone would like that to stop.

According to the Wall Street Journal, “Under contracts that govern the exchange of mortgages, lenders often must take back loans that default very early in their lives or that come with underwriting mistakes, such as flawed property appraisals. As the housing boom fizzles, cases of bad underwriting are popping up and more mortgages are defaulting early. That has investment banks and other mortgage buyers invoking these contract provisions and pressing lenders to repurchase mortgages that get sold to third parties, creating big losses for some lenders.”

One way of dealing with these bad loans is from the start, by tightening underwriting standards. There’s also a bit of financial “sniffing out” going on, as investors and lenders investigate problem loans.

"In a rising market, even a bad loan is a good loan," Nate Redleaf, a research analyst with Imperial Capital LLC, a Beverly Hills, Calif., investment bank, told the WSJ. "You could be sloppy and it didn't matter. Now people really have to do their jobs. They have to be more vigilant."

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