Jumbo Loans Are As Good As Toast

It looks like jumbo loans are lining up for the default window. We were warned in 2008 that jumbo loan defaults were coming down the pike. Jamie Dimon, JP Morgan/Chase, predicted the fall out starting in Q4 '08. Turns out he was right on target. But now the numbers are growing at an alarming rate.

As reported in the Wall Street Journal:

About 6.9% of prime "jumbo" loans were at least 90 days delinquent in December, according to LPS Applied Analytics, a mortgage-data research firm. The rate was up sharply from 2.6% a year earlier. In comparison, delinquencies of non-jumbo prime loans that qualify for backing by government agencies climbed to 2.1% from 0.8% in December 2007.



That means trouble for banks that made those loans when times were good and investors who snapped up jumbo loans packaged into mortgage-backed securities. Defaults on jumbo mortgages tend to result in especially steep losses for lenders, because pricier homes are tough to sell in the current market.

Last month, the mounting defaults prompted Moody's Investors Service to downgrade hundreds of tranches of prime jumbo loans sold to investors as securities.

Moody's has downgraded more than 75% of all prime jumbo loans originated in 2006 and 2007 that carried the top rating of triple-A.

From 2002 to 2006, banks originated an average of $557 billion a year in jumbo loans, according to Inside Mortgage Finance, a trade publication. About 40% of the total was sold to investors as securities.

Three lenders accounted for nearly half of all jumbo loans made in the first nine months of 2008. The top two originators, Chase Home Finance and Washington Mutual, both part of J.P. Morgan Chase & Co., made more than 25% of all jumbo loans, while Bank of America Corp. and Wells Fargo & Co. each accounted for 11% of the jumbo market.

Some of the largest financial institutions held on to many of their loans. Last July, J.P. Morgan disclosed that it had $34.4 billion in jumbo mortgages. Chairman and Chief Executive James Dimon acknowledged that the New York bank expanded too aggressively into the market in 2007, particularly in places such as California, where home prices later collapsed.

"We were wrong," Mr. Dimon says. "We obviously wish we hadn't done it."

Jumbo loans shriveled when credit markets seized up in July 2007, and originations slid 71% to $87 billion in the first nine months of 2008, down from $303 billion a year earlier. Only 7% of the loans made last year were securitized, according to Inside Mortgage Finance.

Originations are expected to fall even further in 2009. Earlier this month, Wells Fargo stopped buying jumbo mortgages originated by mortgage brokers. The San Francisco bank still is making loans through retail channels.

Conforming-loan limits top out at $625,000 in the highest-cost housing markets. To buy a more expensive home, buyers must put up larger down payments -- between 30% and 40% -- and pay higher mortgage rates. Rates on 30-year fixed jumbo mortgages stood at 6.87% last week, compared to 5.34% for conforming mortgages, a difference of 1.53 percentage points.

Your potential community of buyers for a particular house ... is smaller because you've got fewer people who can afford the payment," says Jay Brinkmann, chief economist for the mortgage Bankers Association. "That is going to have an impact on price.", according to HSH Associates, a financial publisher.

Nearly 25% of prime jumbo mortgages exceeded the value of the homes they backed in September, according to Credit Suisse. That figure would increase to 42% given home-price declines of 15% over the next two years.

The delinquency rate on jumbo loans still is far lower than that of subprime mortgages and Alt-A loans, a category between subprime and prime. Both those delinquency rates now exceed 17%.