Study: Brokers, Minority Borrowers to Blame for Most Mortgage Delinquencies

Study: Brokers, Minority Borrowers to Blame for Most Mortgage Delinquencies

09/02/2009 By: Adam Weinstein

Residential mortgages originated by brokers at the height of the housing boom, as well as loans given to minority borrowers, are to blame for the lion’s share of delinquencies in the current recession, according to a study released this week by researchers at the Columbia Business School.

The findings were reported in a working paper titled “Liar’s Loan? Effects of Origination Channel and Information Falsification on Mortgage Delinquency”, assembled by a team of finance and economics experts at the school. In a study of all the 721,767 loans that an unnamed “major national mortgage bank” opened between 2004 and 2008, the researchers found that loans originated by brokers were 50 percent likelier to be in arrears than loans originated by the banks themselves.

The study also found “significantly higher delinquency rates among Hispanic and black borrowers” than among whites. But researchers stopped short of saying discriminatory lending practices by brokers and banks were the cause, instead attributing the discrepancy to “information and experience disparities resulting from a lack of prior home buying experience or exposure to mainstream financial institutions.”

“Our analysis highlights two major agency problems underlying the mortgage crisis,” the report said. Those issues were “an agency problem between the bank and mortgage brokers that results in lower quality broker-originated loans, and an agency problem between banks and borrowers that results in information falsification by borrowers of low-documentation loans-known in the industry as Alt-A or ‘liars’ loans’-especially when originated through a broker.”

The report also compared differences between well-documented borrowers and those who didn’t need to verify their incomes and histories and loan documents. It found that the less-documented borrowers who reported high incomes were far likelier to default than those whose high incomes were verified – suggestion that loans were made on misleading information.

“We provide evidence of borrower information falsification at both individual variable and aggregate levels,” the report said.

An author of the report put it more bluntly.

“Low-doc borrowers had slightly better credit scores, slightly better incomes-slightly better everything,” Wei Jiang, an associate professor at Columbia, told the Wall Street Journal. “But we estimate that low-doc applicants exaggerated their income by about 20 percent on average.”

The unnamed bank itself did not escape scrutiny, however. The Columbia researchers also asked “why this major mortgage bank-as well as other market players-allowed such deterioration in borrower and loan quality to persist before tightening its lending standards.”

The analysts concluded that the securitization of mortgages, and selling of them to investors, essentially left the bank free to originate loans without regard for any true standard of the borrowers’ creditworthiness.

“The expansion of the secondary mortgage market and the ease of loan securitization weakened the bank’s incentive to screen borrowers by allowing the bank to offload risk,” the study said.