• I have been watching US housing and mortgage markets with a growing concern, so I did welcome an apportunity to learn the Fed view thanks to R.Cole (Fed director of banking supervision) testimony. Few excerpts follow:

“The Federal Reserve is concerned about recent developments in mortgage markets and has been closely monitoring the effects of these developments on the financial health of mortgage borrowers and lending institutions. Regarding safety and soundness of the banking system, less than half of subprime loans have been originated by federally regulated banking institutions. To date, the deterioration in housing credit has been focused on the relatively narrow market for subprime, adjustable-rate mortgages, which represent fewer than one out of ten outstanding mortgages. Borrower performance deterioration in the subprime market has been concentrated in loans made very recently, especially those originated in late 2005 and 2006, and problems in those loans started to become apparent in the data during the latter half of 2006. “

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“Today, the mortgage lending business has changed dramatically. With the remarkable growth we have seen in securitization, that simple book-and-hold model has evolved to incorporate an alternative and more complex originate-to-distribute model. While commercial banks still play a significant role in the mortgage origination and distribution process, they are no longer the only originators or holders of residential mortgages. Securitization has had profound effects in financial centers, where investment bankers use a broad array of approaches to package and resell home mortgages to willing investors, and in local communities, where mortgage brokers and mortgage finance companies compete aggressively with banks to offer new products to would-be homeowners.”

[…]

“While still only a relatively small part of outstanding mortgages, the subprime sector grew rapidly over the past three years and accounted for an outsized share of originations in 2006. The roots of this increase can be traced back to the low levels of market interest rates that existed in the early part of this decade which, in turn, spurred significant volumes of mortgage refinancing, as well as new originations. To meet this demand, financial institutions significantly increased their mortgage origination and securitization infrastructures. New entrants in the mortgage industry, including independent mortgage brokers and finance companies, also ramped up their origination capacity. With the rise in short-term market interest rates beginning in 2004, the cost burden of such infrastructures came under increasing pressure as both mortgage refinance and new origination volumes declined. “

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“The Federal Reserve believes that the availability of credit to subprime borrowers is beneficial and that subprime loans can be originated in a safe and sound manner. We continue to focus on institutions’ sound underwriting and risk-management practices and to promote clear, balanced, and timely consumer disclosures. “