FINANCING THE SUBPRIME HOME MORTGAGE GOLD RUSH: THE ROLE OF SECURITIZATIONHanson Hu LiHanson.H.Li@(646)544-1027Dec. 29, 2007FINANCING THE SUBPRIME HOME MORTGAGE GOLD RUSH: THE ROLE OF SECURITIZATIONI. INTRODUCTIONBe it ever so humble, there’s no place like home.-- John Howard Payne, Home, Sweet Home(from the opera “Clari,the Maid of Milan”)[T]here is something about the “American Dream,” the sort ofDisneyesque dream … of the beautifully trimmed front lawn, the whitepicket fence, mom and dad and their happy children …, that sort ofexpectation; and the flipside of it, the kind of anger and the sense ofoutrage that comes from discovering that that’s not the trut h of the matter.-- Wes Craven, in The American Nightmare (Highland Myst Films,2000)For many Americans, a home is their largest investment and greatest source ofwealth, and owning a home is the biggest dream of a lifetime.1 Today, thanks in large part to the strength of the economy, low interest rates and innovative financing methods, home ownership rate in the United States is higher than it has ever been.2 However for many Americans, especially those in ethnic minority and traditionally low-income communities, some such innovative financing methods encompass a variety of1See Christi Baker, A Practitioner’s Guide to Combating Predatory Lending, at 4, available for downloading at /content/publications/detail/787/ (last accessed on Oct. 20, 2006).2Id. at 4. The Bureau of the Census reported that in April 2000, the last time the Bureau conducted a national census, 70.7 million American families, or 67.1%, owned their homes. See/hhes/www/housing/hvs/annual00/ann00t13.html (last accessed on Dec. 12, 2005).A more recent study shows that in 2004, American home ownership has reached as high as 69%, and Americans had 9.6 trillion dollars in home equity. H ARVARD U NIVERSITY J OINT C ENTER FOR H OUSINGS TUDIES,T HE S TATE OF THE N ATION’S H OUSING 2005 1 (2005).abusive lending practices –collectively known as “predatory lending” – that have at increasing rate turned their dreams of home ownership into an “American nightmare.”3 In recent years, there has been fierce debate between consumer advocates on the one side, and industry supporters on the other, over the issue of predatory lending in the home mortgage market and how best to respond to it.4The debate, however, has too often been couched in vague moral terms.5 While the arguments from both sides appear to contain obvious elements of truth in that both the tactics often employed by unscrupulous mortgage lenders and the impulsiveness of the borrowers seem to be important contributing fac tors. Depending on where one stands, he may also find either side’s argument to be more persuasive than the other side’s. From a policy and regulatory perspective, despite the extensive debate and the increase in legislation and regulation at various levels of government,6 the key puzzle about the predatory lending problem3See R ICHARD L ORD,A MERICAN N IGHTMARE:P REDATORY L ENDING AND THE F ORECLOSURE OF THEA MERICAN D REAM (Common Courage Press 2005); see also Baker, supra note 1, at 4.4See, e.g.,Lending Group Forces Delay of Predatory Ordinance, N ATIONAL M ORTGAGE N EWS, Aug. 24, 2001 (available at </comm/story.jsp?story=TBCMJK3OYOC>) (reporting statement by trade association representative that his group is “willing to challenge any local effort to regulate” subprime lending); see also Kathleen C. Engel & Patricia A. McCoy, A Tale Of Three Markets: The Law And Economics Of Predatory Lending (University of Connecticut School of Law Working Paper Series # 29)(Sep. 2001), available at /uconn/ucwps/papers/29 (last accessed on Nov. 3, 2006); Michael S. Barr, Modes of Credit Market Regulation (University of Michigan Law School The John M. Olin Center for Law & Economics Working Paper Series No. 2005-45)(2005); Baher Azmy, Squaring the Predatory Lending Circle: A Case for States as Laboratories of Experimentation (Seton Hall Public Law Research Paper No. 20)(2004), available at/abstract=594042 [hereinafter Squaring the Circle]; Kurt Eggert, Limiting Abuse and Opportunism by Mortgage Servicers (Fannie Mae Foundation Research Report)(May 2004), available at /programs/hpd/pdf/hpd_1503_Eggert.pdf(last accessed on Nov. 11, 2005); Robert E. Litan, A Prudent Approach To Preventing “Predatory” Lending (Brookings Institution Working Paper)(2004), available at /admin/authorpdfs/page.php?id=126 (last accessed on Dec. 11, 2005).5See Engel & McCoy, supra note 4, at 2-3 (On one side of the debate, consumer advocates and opponents question the often abusive tactics employed by p redatory lenders, condemning them as “immoral.” In contrast, industry supporters on the other side often take to criticizing those borrowers for being impulsive and profligate.)6 William Apgar, Allegra Calder & Gary Fauth, Industry Structure Perpetuates Dual Market, available at /cedric/files/2005_conf_paper_session1_calder.pdf (last accessed on Dec. 9, 2005); William C. Apgar & Allen J. Fishbein, The Changing Industrial Organization of Housing Financeremains the persistence of allocational inefficiencies in the home mortgage lending market. As these have persisted, the mortgage delivery chain perpetuates the predatory lenders’ continued exploitation of unsophisticated and vulnerable “subprime” borrowers, inflicting serious negative social and economic consequences on their communities.In light of the unanswered puzzle of previous analysis, this paper argues that what is missing in the ongoing debate over policy responses to predatory lending is precisely an in-depth, fundamental understanding of the origin of the evil: the funding mechanism of the subprime mortgage market.7 Significantly, this paper seeks to explain how securitization as the main funding method in the residential mortgage secondary market actually operates as a double-edged sword, providing apparent and yet limited benefits to subprime borrowers, while at the same time providing a means for unscrupulous lenders to pass off home loans8with abusive terms onto vulnerable borrowers, thereby fueling the predatory lending “gold rush”.II. FROM REDLINING TO REVERSE REDLINING:THE EXPLOSIVE GROWTH OF THE SUBPRIME MARKET It happens that every man in a bank hates what the bank does, and yet thebank does it. The bank … is the monster. Men made it, but they can’tcontrol it.-- J OHN S TEINBECK,T HE G RAPES OF W RATH 45 (1939)and the Changing Role of Community-based Organizations (Harvard University Joint Center for Housing Studies Working Paper Series No. BABC04-9)(May 2004), at 6.7 Other authors have attempted to examine the puzzle from different perspectives. See, e.g. Lauren E. Willis, Decisionmaking and the Limits of Disclosure: The Problem of Predatory Lending (Loyola-L.A. Legal Studies Research Paper No. 2005-14)(borrowers’ decision making process), available at/abstract=748286 (last accessed on Oct 21, 2006); Apgar et al., supra note 6 (industry structure); Engel & McCoy, supra note 4 (market conditions); Litan, supra note 4 (regulatory precautions). 8The term “home-secured loan” or “home loan” as used in this paper is an extension of credit secured by a borrower’s primary residence. “Home loans” thus intentionally encompasses a wide variety of credit products – purchase money loans, refinancing loans, home improvement loans, home equity loans, home equity lines of credit, and other similar products that exist now or may be developed in the future.。
