Over-Leveraging
- Leveraging has gotten a black eye in this market downturn. Leveraging, or I should say, over-leveraging is at the root of the problem. It used to be that, in order to buy a home, one had to have a job, a pristine credit rating, and bring 20% of the home’s value to the closing table in order to qualify for a loan. Well, for a period of time, that all went away. In fact, it was mandatory for banks to provide financing to people that needed help buying a home. That opened the door to financing that allowed for some of the above criteria to be overlooked. It opened the door to the Sub-Prime mortgage. Some banks jumped on board and started figuring ways to profit from this mandate. That process is complicated, so I won’t go into the whole thing. Suffice it to say, banks handed out these loans to people who knew they couldn’t get a loan due to one thing or another. If they didn’t have pristine credit, they would be willing to pay a little more up front in order to procure the loan. If they didn’t have 20% down, they were willing to pay a little more in mortgage insurance up front in order to procure the loan. If the borrower didn’t have a job , they would still qualify for a “stated income” loan product. This meant they could, no kidding, “state” what their income was! They didn’t have to prove it, just “state” it. Banks knew this, in fact, banked on it. Some, not all, lenders fed on these situations. They offered loans that they were quite certain the borrowers had no business getting. They offered them because they knew that they were going to pad the front end with fees and make out like bandits. Bandits usually end up in jail or hung. They got hung by the fact that the borrowers had no business getting these loans and guess what? They defaulted on them. Foreclosures were eminent. The situation was compounded by the fact that most of the homes were overvalued and by the time people wanted out, the home was worth less than what they bought it for. It just snowballs from there. By providing these people with loans 95%, 100% and even 125% of the home’s value, there isn’t much wiggle room for the owner. The options fly out the door, along with the furniture and appliances. This is all caused by over-leveraging.
- Leveraging is what has made America wealthy. Leveraging is what helps a small business owner grow their business into a market leader. Leveraging is what has helped farmers maintain their businesses during the good times and bad. Over-leveraging can destroy an entire economy.
