Banks Must Regulate Use of Exotic Home Loans

Federal Reserve Board Governor Susan Bies is not happy. During a financial service industry conference on Thursday, she spent time outlining the guidance U.S. banks have issued on commercial real estate and so-called nontraditional mortgage lending. Even with recent efforts to tighten restrictions on exotic home loans, Bies wasn’t pleased.

“There are certain rapidly growing business lines in banking operations that are placing pressures on risk-management systems,” she said, commenting on recent risky mortgage lending practices.

In discussing the guidance on exotic mortgage products, such as interest-only loans, Bies repeated that government regulators were concerned risk-management practices had not kept pace with the risks that these widely available loan products could present.

She also cautioned those risks could be “heightened by a downturn in the housing market.”

Bies said that in the past such products were normally offered to higher-income borrowers only, but they now were being extended to low-income borrowers in the subprime market.

This could spell trouble down the line for those who are attracted to the immediate appeal of this sort of Florida home loan - recent affordable housing plans will hopefully balance out the market and save these borrowers from possibly negative consequences.

“These borrowers are more likely to experience an unmanageable payment shock at some point during the life of the loan, which means they may be more likely to default on the loan,” she warned. This could help explain the recent rise in foreclosures across the country.

Bies added that regulators had observed that lenders were increasingly combining nontraditional mortgage loans with weaker controls on credit exposure.

“The absence of traditional underwriting controls may have unforeseen effects on losses realized in these products,” she said.

The lesson: Be careful with which Florida home loan you choose. In any sort of cooling market, there is an attraction to immediate gratification. But look ahead. The current Florida real estate market remains strong and shows no signs of truly slowing down.