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Markus Gaertner

Americans have been treating their homes like ATMs as borrowings outstrip property values

Concerns are growing that the United States is facing a mortgage financing disaster amid fresh signs that the housing market is cooling.

According to the National Association of Realtors (NAR), 43 per cent of first-time homebuyers last year financed 100 per cent of their purchase. Another 50 per cent of new homeowners financed between 71 and 99 per cent of their property with no-money-down loans.

With the real estate market starting to cool and interest rates still creeping up, experts are worried many buyers could soon end up owing more than their homes are worth.

'Exotic loans coupled with overborrowing are very reminiscent of the savings and loan problems that plagued the US in the 1980s,' said Ted Geoca, vice-president at Wunderlich Securities, a financial services provider in Memphis, Tennessee.

Meanwhile, the PMI Mortgage Insurance's latest US Risk Index forecasts at least a 50 per cent risk that prices will decline within two years in  11 major metropolitan areas, including Boston, San Diego, New York, Los Angeles and San Francisco.

Recent numbers seem to support that forecast. Existing home sales fell 5.7 per cent in December.

New housing starts fell  by 8.9 per cent in December,  the  US Commerce Department reported. December permits, which are an indicator of future building, fell 4.4 per cent. That could push hundreds of thousands of Americans over the financial brink.

'Interest-only loans accounted for over 30 per cent of all new mortgages in many cities in 2005,' Mr Geoca said. This is up from less than 5 per cent as recently as 2001. The rise and extent of exotic financing is also demonstrated in another alarming number.

'About 18 per cent of US home loans are for more than 90 per cent of the value of the property', said Michael Power, a strategist at Investec Asset Management.

The result of the growing financial gearing is a slide in owners' equity in real estate. The proportion of US homes not mortgaged has declined in the past 20 years from a high of 70 per cent to a low of about 55 per cent. During the real estate boom that was not a problem. While market prices have risen between 10 per cent and 25 per cent for the past couple of years, Americans have been treating their homes like ATMs. According to Federal Reserve estimates, equity extraction by US households topped US$600billion  in 2004.

But with new home construction tumbling, inventories rising and interest rates going up, some of the latest quarterly earnings reports of US banks such as Citigroup and Wells Fargo showed signs that a growing number of homeowners may not be able to service their property-related debts. Americans have taken about US$8.8trillion in mortgages to buy homes, up an astounding 42 per cent since 2001.

A cooling housing market may also be bad news for the banking industry. In its rush to broaden the consumer base, home loan companies were offering mortgages equal to 125 per cent of the value of the property, Mr Power said.

He said more than 50 per cent of US banking assets were exposed to property.

Alarmed about the latest development, federal financial regulators  are seeking tighter rules for non-traditional mortgages. In late December, several agencies, among them the US Federal Reserve Board, proposed new guidance on these exotic financing tools.

'Institutions should avoid the use of loan terms and underwriting practices that may result in the borrower having to rely on the sale or refinancing of the property once amortisation begins,' the Fed said. It is  a warning not to rely on the value of the property to bail out homebuyers once they are in trouble.

The massive use of alternative loans combined with relaxed standards in assessing the creditworthiness of clients 'present unique risks that institutions must appropriately measure', the Fed said.

An analysis by Deutsche Bank found that US$83billion in loans with adjustable rates were subject to interest rate rises last year.



Crisis fears as US market cools