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Massive Refinancing Left Market With a Ticking Bomb

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Actions taken by homeowners and bankers in the bubble years have indefinitely postponed any housing recovery.

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Editor's Note: This article was written by Keith Jurow who currently writes about overlooked aspects of the housing debacle. This piece was originally posted on Real Estate Channel.


During the four key years of the housing bubble (2003-2006) an incredible number of mortgages were refinanced. In another article, Investors Played a Key Role in Creating Housing Bubble, I pointed out that homeowners "cashed out" a total of $820 billion while refinancing their mortgages in 2005-2007, according to Freddie Mac figures.

This refinancing frenzy needs to be examined in more depth, including the danger it might pose for the housing market down the road.

Refinancing Statistics Put Out by Financial Crisis Inquiry Commission

In April of this year, the Financial Crisis Inquiry Commission appointed by President Obama published its Preliminary Staff Report entitled "The Mortgage Crisis." In the report, the following chart on annual mortgage originations appears.



These figures are derived from data which lending institutions are required to report to the federal government under the Home Mortgage Disclosure Act (HMDA).

Notice how total refinancing soared in 2002 as the Federal Reserve drastically lowered interest rates to minimize the economic fallout from 9/11. That year, a record 10.2 million mortgages were refinanced according to HUD. Keep in mind that there are only about 55 million total mortgages outstanding. As they had done in the past, homeowners took advantage of the drop in interest rates to lock in a lower rate mortgage.

Refinancing in 2003 was simply off the charts. According to the authors of the Preliminary Staff Report cited above, more than 15 million mortgages were refinanced that year for a total of slightly more than $2.5 trillion. Remember, at the end of the year, there was a total of only $7.9 billion mortgage debt outstanding (including home equity loans). Thus nearly one-third of the entire outstanding mortgage debt in this country was originated as refinancings in 2003.

The next year, 2004, was when home prices really soared, by 30%-40% in the hottest bubble markets. Although refinancings dropped to a mere 7.6 million originations, cash-outs began to take off. According to Freddie Mac (FRE), roughly 40% of all homeowners who refinanced that year pulled money out of their refinanced mortgages to spend as they pleased.

Interest rates had begun climbing in 2005, yet that didn't prevent homeowners from using their increasingly valuable houses as a piggy bank to be tapped at will. Some 72% of all homeowners who refinanced pulled cash out of their piggy banks to the tune of $262 billion.

Although nearly all housing markets throughout the country were weakening as 2006 unfolded, homeowners were undeterred by this. Slightly more than 6 million mortgages were refinanced that year. According to Freddie Mac figures, roughly 86% of all homeowners who refinanced that year pulled cash out -- nearly $320 billion.

The California Refinance Disaster

During 2004-2005, it was California that led the way in refinancings. Keep in mind that many of the largest unregulated mortgage lenders were headquartered in California. They were only too willing to shovel out refinance loans to practically any homeowner in California who could sign a document.

For those two years, the California numbers are simply mind-boggling. According to mortgagedataweb.com, which derives its figures from municipal recordings, slightly more than 2.6 million California mortgages were refinanced in 2004 and another 2.4 million the next year.

The average size of these refinanced mortgages was a surprisingly small $200,000. That's because most of them were second lien Home Equity Line of Credit loans (HELOCs) many of which were taken out by long-time homeowners who refinanced several times as home prices climbed seemingly toward the sky.

The following short sale situation, described in a September 2009 post in the socalbubble.com blog, wasn't at all uncommon in California: "The homeowner had purchased some 20+ years earlier, but had withdrawn over $500K [refis] in the last decade." He goes on to explain that "The most amazing thing to me during the housing downturn is the number and amount of refis that I have seen. It seems most of Southern California took out several hundred thousand dollars each from their houses; enough to buy entire houses outright in most other places in the country."

To get a sense of what really went on in southern California, here's a description of one homeowner's refinancing, which was recently posted on the Irvine Housing Blog:

  • The property was purchased on 11/13/1999 for $485,000.

  • On 5/13/2003 they opened a HELOC for $63,400.

  • On 1/26/2004 they got a HELOC for $100,000.

  • On 2/1/2005 they refinanced with a $634,500 Option ARM with a 1% teaser rate.

  • On 3/23/2005 they obtained a $80,000 HELOC.

  • On 8/10/2005 they got a HELOC for $100,000.

  • On 11/3/2006 they refinanced with a $688,000 first mortgage and a $85,000 HELOC.
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