The Volokh Conspiracy

The Wall Street Journal is today reporting that Wells Fargo, a major mortgage lender, is raising the interest it charges on prime jumbo home mortgages by a whopping 1.125%.

The Cerberus deal to buy Chrysler went through today, but they were unable to sell the corporate debt to fund the deal at prices that they were willing to pay (so the bank bridge loans, intended to be temporary, continue in force). It was this news of problems in the financing for the Cerberus deal that triggered last Thursday’s sell-off in the US stock market, the second largest down day in the last 4 years in a week that was the worst for the stock market in at least 4 years.

Standard & Poor’s today lowered its outlook on brokerage Bear Stearns to negative:

Bear Stearns Cos., the manager of two hedge funds that collapsed last month, had its credit-rating outlook cut to negative by Standard & Poor's on concern declining prices for mortgage-backed securities will reduce earnings. . . .

The failure of the Bear Stearns funds, which invested in mortgage-related bonds, triggered a flight from the riskiest debt that spurred some lenders to balk at financing leverage buyouts and dried up credit lines for some U.S. mortgage providers. Shares of Bear Stearns, the second-largest underwriter of mortgage-backed bonds, have lost more than [40] percent this year.

Among the problems for Bear Stearns are lawsuits alleging that the brokerage misled investors to induce them to stay in the hedge funds when problems first became public.

CNBC reporters have been discussing the difficulty of finding money for new deals, though most deals previously in the works are still going through.

In a flight to quality, investors in the last two weeks are buying Treasury notes, which has led to those interest rates moving sharply lower. Usually, this leads to lower mortgage interest rates, but mortgage interest rates are going higher because of the difficulty of repackaging those loans and selling them as mortgage-backed securities. This would tend to lengthen the current slump in the housing market, which most analysts are now saying should probably last at least through 2008.

On Wells Fargo’s huge jump in interest rates on jumbo home mortgages, the Wall Street Journal reports:

Lenders broaden clampdown on risky mortgages
Tightening standards could worsen slump in the housing market.

Jittery home-mortgage lenders are cutting off credit or raising interest rates for a growing portion of Americans, extending well beyond the market for subprime loans for people with the weakest credit records.

This worsening credit crunch threatens to put further pressure on the housing market, where prices are flat to declining in much of the country.

Lenders say they are being forced to raise interest rates and stop offering certain loans because mortgage-bond investors have lost their appetite for a broad range of mortgages considered risky. That includes those dubbed Alt-A, a category between prime and subprime that often involves borrowers who don't fully document their income or assets, or those buying investment properties. Notably, American Home Mortgage Investment Corp., which stopped making loans earlier this week, said late yesterday it would cease most operations, slashing its work force to about 750 from more than 7,000.

"It is with great sadness that American Home has had to take this action," Chief Executive Michael Strauss said in a statement. "Unfortunately, the market conditions in both the secondary mortgage market as well as the national real estate market have deteriorated to the point that we have no realistic alternative."

Lenders are tightening standards and "raising rates like crazy," said Melissa Cohn, chief executive of Manhattan Mortgage, a New York mortgage broker. She said Wells Fargo & Co. is charging 8% for a prime jumbo 30-year fixed-rate loan that carried a 6 7/8% rate late last week. (Jumbo loans are those too large to be sold to government-sponsored mortgage investors Fannie Mae and Freddie Mac.) A Wells spokesman said rates are lower on loans made directly by the bank than on those through brokers.

The market for mortgage-backed securities is "very panicked," Michael Perry, chief executive of IndyMac Bancorp Inc., another big lender, said in a message on the lender's Web site yesterday. . . .

Alt-A loans accounted for about 13% of U.S. home loans granted last year, according to Inside Mortgage Finance, and subprime loans about 20%. Industry executives have said subprime lending is likely to shrink by more than 50% this year, and now much of the Alt-A market is vanishing too.

This credit squeeze "will further crimp the effective demand for housing, and will make the late summer home-sales season even worse than the dismal spring season," said Thomas Lawler, a housing economist in Vienna, Va. . . .

Several dozen lenders have gone out of business in the past six months, and others are teetering. Shares of Accredited Home Lenders Holding Co. fell 35% yesterday on the Nasdaq Stock Market after auditors said its "financial and operational viability" is uncertain if a pending merger isn't completed.

I’ll have more thoughts on Federal Reserve policy in a later post.