Subprime mortgage rap tars good consumers, economy

By Al Yoon - Analysis

NEW YORK (Reuters) - The rapid rise in subprime mortgage delinquencies is having a knock-on effect on the rest of the housing industry and the U.S. economy as lenders rush to staunch their bleeding.

The rise, a byproduct of loose lending standards and the softening housing market, has hurt the ability of the riskiest borrowers to obtain loans.

The problem for lenders, however, is now so out of control that they must begin to choke off credit to the growing segment of "Alt-A" borrowers with better, though not pristine, credit.

The contagion has unnerved brokers, who are scrambling to complete mortgages before big lenders tighten terms.

Two days before Countrywide Financial Corp. CFC.N disclosed that a surprising 19 percent of the non-prime mortgages it services reflect late payments, mortgage broker Bob Moulton opened an e-mail from the lender telling him some loans just above subprime status must be backed by a "FICO" credit score of 660, instead of 620, on a scale from 350 to 850.

Mortgages will also be harder to obtain under new guidelines from another lender who that same day told Moulton, who runs Manhasset, New York-based Americana Mortgage Group, that it boosted required property appraisals from one to two.

"It feels like this is just the tip of the iceberg and no one knows how it will shake out," Moulton said, adding that for now, "we're trying to anticipate guideline changes" as customers apply for loans.

This tightening of credit, started by lenders themselves to protect eroding profits, may soon be forced upon banks by regulators including the Federal Reserve in a move to ensure bank safety and protect consumers.

Regulators on Friday urged lenders to make sure subprime borrowers have the ability to meet the highest possible payments on a typical loan, instead of the lower initial rate.

Subprime loans, the riskiest part of the U.S. mortgage market, serve borrowers with poor credit histories at higher interest rates. Default rates have risen in recent months amid falling prices and slower sales in the U.S. housing market.

Subprime represented some 20 percent to 40 percent of all mortgages last year, according to FTN Financial.

Subprime defaults are around 14 percent now, while late payment rates on Alt-A mortgages is about 3 percent, said Deutsche Bank analysts who warn the latter figure will rise.

With the U.S. housing market teetering between stabilization and a deeper downturn, federal regulation on top of the industry's self-regulation may result in higher inventories and lower house prices, affecting the broader economy, said Chris Low, chief economist at FTN in New York.

At worst, it may become so onerous to buy a home that there will be a dramatic contraction in the industry, he said.

A borrower a month ago who could have qualified for a $450,000 interest-only loan for the home's full value without proving his income would today be limited to a $300,000 loan for 70 percent of the property value, Low said, citing a conversation with a nationwide lender.