US: subprime lending's big bite in the bum

The big bite in the bum that the sub-prime lending boom was destined to suffer from is becoming infected. Low start mortgage rates - in which a super-low monthly payment is offset by higher payments later - are coming to their highest settings in increasing numbers. And increasing numbers of borrowers cannot afford them.

Low start loans suck people into believing that they can afford "assets" that they could otherwise not afford.

Home buyers are driven primarily by two economic factors, in a rising market. First, that their home will be an asset of increasing value and, secondly, that they will not be able to afford a first or better home if they delay.

And low start loans feed both of those factors by substantially decreasing the cashflow demands of the purchase. Borrowers think that in a rising economy they can get a better job, bonuses, a salary increase that will take care of the increasing repayments.

But human nature being what it is, no one thinks that the economy will slow down, that jobs will become scarce, that interest rates will rise in addition to the planned increases in repayments.

As the subprime bubble grew, Angelo R. Mozilo, one of the two founders of Countrywide, watched his stock options (he has been accumulating them steadily) mature. He has sold consistently - but in the past year his selling rate has increased. He has sold approximately four-fifths of his holding - netting almost USD130 million. In the previous quarter of a century or so, his previous sales totalled around twice that amount.

Did he know something no one else did? Or was he just being a prudent elderly businessman liquidating assets for easier disposal. Or just watching the market generally and deciding cash is king?

It's impossible to tell at this stage although his personal holding remains substantial. What is clear is that Countrywide was still offering 100% loans with proof of income and 95% self-certification loans as late as February this year, long after the repossession figures had started to climb. And just a matter of weeks later, it had drawn down the whole of its USD11 milliard bank reserve lending as its portfolio became unattractive as security.