We are in a Lending Liquidity Crisis right now

Mortgage Liquidity Crisis: I wanted to update everyone on what's happening in the lending world right now. I will try to put this in layman's terms. In a nutshell, mortgage lenders are scared about loan defaults and not being able to resell the loans in the secondary markets.

There are two major types of lenders for mortgages. Banks and non-bank lenders (I've lumped brokers into non-bank lenders). The banks are JP Morgan Chase, Bank of America, BBVA, Chemical Bank, etc. The non-banks lenders are Bay Equity Home Loans, Modern Home Lending, Fairway Mortgage, LoanDepot and probably hundreds if not thousands of other companies. Both types of lenders provide very similar rates. One isn't better than the other.

The banks have access to money to lend out directly from the Fed at very low rates. The Non-Banks get their money to lend from other investors (called warehouse lines of credit). The banks and non-banks borrow this money, add their markup to cover overhead and profits and then lend out to the consumer.

Sometimes the lenders hold on to your loan for 15 or 30 years, depending on your loan term. They make the money back every month when they collect your payments. But, this isn’t very common anymore. Many times, your loan gets sold after you've closed on your home.

The lenders take the loans they make to the consumer and then "sell" their loans to a secondary market. Loans that are less than $510,400, the secondary markets are Fannie Mae / Ginnie Mae / Freddie Mac - quasi government entities that buy the loans from the lenders. When lenders sells their loans, they get back their money to make more loans.

So, lenders make loans, sell these loans to a secondary market, skim off a little bit for profit and then take back the money to make more loans. The goal is to churn the money as fast as possible.

Jumbo loans (over $510,400) are not purchased by a government entity. Instead these loans are purchased as Mortgage Backed Securities (MBS) by insurance companies, hedge funds and other large institutions who want a steady revenue stream from the interest payments. When they "buy" these loans, they buy a package of these loans all at once i.e. $300 million or more of these loans in one bundle.

We have a Liquidity Crisis in the mortgage market! What does this mean you ask? It means that we have a cash crunch in the mortgage market, especially in Jumbo Loans. Lenders have to sell of the loans in order to get fresh cash to continue to make more loans to run their company. A lender doesn't want to make a loan that they can't sell off.

At the moment, no one will buy the Jumbo loans. The insurance companies who buy the Jumbo loans are either scared about default rates increasing or just don't have the cash to purchase these loans. They were heavily invested in the Stock market and the value of their investments just took a hit. They can't sell the Stock to purchase the loans and now we're at a Liquidity crisis.

Lenders can't just stop making loans either. They can't turn away a borrower just because they don't want to make a loan. If a borrower meets the current lending guidelines, they have to make the loan. So, to prevent this turning away borrowers, they change the requirements to get a loan. Chase has come out with the 20% down payment and 700+ credit score in order to get a loan.

In talking with my lender friends, Chase has increased the lending guidelines for two reasons. First, they feel like that if they have to hold the loan, this is enough cushion for the borrower where they won't let the home go into foreclosure. Second, when credit markets unfreeze, they can resell this loan as an MBS due to the lower risk profile.

With Chase tightening their guidelines, I'm sure the other lenders will follow also. The other lenders may not be as restrictive but they will definitely tighten guidelines. During uncertain times, lenders become conservative and go into survival mode.

It's a crazy but exciting time we live in. The situation is changing daily and I'll try to update you on what I'm seeing out there. Thanks to all my lender friends who helped me better understand what is happening.

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