SHORT STORY: The Truth Behind Mortgage Meltdown

“American Home Mortgage is no longer taking mortgage loan applications.”

That was the message on the American Home Mortgage (AHM) website this morning after they fired over 6,000 people effective today. They will still keep their loan servicing business with about 750 people but everyone is unemployed and looking for a job. I wish them all luck but with unemployment, there will come a few mortgage deliquencies and then some foreclosures. It’s a vicious cycle that is happening. But it happens all the time. After the sun shines for so long, it gets a little dry and we’ll need some rain.

Jim Cramer rephrased the subprime problems to the “mortgage” problems because it’s being more wide spread as seen by Countrywide Financial (CFC) who say their profits depleted by the problems outside of subprime. Don’t get me wrong, Countrywide Financial does have subprime exposure but their exposure include a lot in Alt A loans. They had to defend themselves saying they had an extra 50 billion access to cash. I happen to be very familiar with the loan industry so I can tell you, Alt A is almost as bad as subprime.

Basically Alt A loans are one step above subprime which is usually called “C” paper. Alt A is “B” paper. While subprime is bad credit with little or no documentation, Alt A is usually good credit with little or no documentation. Yes there are a lot of people with “A” credit because if you look at the credit data about 50% of people have excellent credit but doesn’t mean that all those people can afford big houses. But in some occasions, loan folks have to push up the credit by disputing charges on the credit report and if the bank doesn’t respond, it’s automatically off their credit report regardless if it happened or not. But banks doesn’t respond often. Well Alt A is a good plan for the self employed who make a lot of money and cash flow but can’t document it but it’s been used by regular people to have someone else vouch for their false incomes. This is fraud and it happens all the time. Why do you think all these people are going into foreclosure.

Then to make matters worse, there is the creative loans with insane teasers rates that reset to the point where people can barely afford them on their falsely reported incomes. Great, they pay 150% of their income before taxes on their mortgage. How does that work? IT DOESN’T!

So the hedge fund bury all these details in these mortgage securities that are bundled so that they vary the risk. Oh great hide the truth of the loan because once you sell the loan four levels up, you don’t know who the heck your borrowers are. A few mortgage fund burn ups later, we are realizing it’s a bigger problem than we thought.

Short term: there will still be problem until the middle of next year as the majority these adjustable rate mortgages reset later this year and early next year. So here are some short ideas but keep in mind a lot of them are down a lot already especially American Home which stand now at $0.71!

Here are some ideas:

Mortgage Insurers (They insure the worst quality loans): PMI Group (PMI), MGIC Investment (MTG)

Mortgage Reits (They specialize in mortgage securities): RAIT Financial Trust (RAS), Anthracite Capital, Inc. (AHR)

Mortgage Providers (Poor loans are their specialty): Accredited Home Lenders Holding Co. (LEND), IndyMac Bancorp Inc. (IMB)

It’s odd to see a lot of these companies especially the mortgage providers go out of business in California but it’s actually not. California is overpriced for now and a lot of people even people making six figures are struggling. So it’s not a surprise that much of the meltdown has happened to companies in California. One non public bank, Ameriquest is notorious for their loans but unfortunately we can’t short that one. But we’ll see. I think the government will have to set in sooner but they keep saying it will correct itself.