Potential impact of secondary problems on primary loans

Not sure if this is the proper forum for this question so mods please feel free to move if its not.

My question is what impact a severe drop in housing prices (if it happens) will have on primary mortgages. If a current primary home loan is say 85% LTV and the bottom drops out of home prices, causing that percentage to shoot much higher, what do you think banks will do?

My first reaction is that they won’t be itching to mess with their good paper and will just leave it be but I’d like to hear what more experienced and informed posters have to say on the matter.


The bank does not care what the ltv% is after the loan is made so long as the mortgage payments are being made. If the borrower stops paying and the bank forecloses then ltv% becomes an issue.

If in fact something like this does happen (15% or more drop in home values), which historically is a rare occurance, the home owners who will be hard hit are the ones who are in adjustable rate mortgages. If the adjustable mortgage reaches the adjustment phase, and the home owner is over 100% mortgaged based on current market value, then they will have to make the payment, sell at a loss, or foreclose.

This will hurt the market significantly as long as short term interest rates remain high. If short term rates start coming down, then ARMs may not adjust too high to cause a financial crunch in these households. In fact, if short term rates come down enough, as we saw in 2003-2005, families with adjustable mortgages may find that their rate and payment stay the same or even goes down.

This is part of the problem currently with the subprime market. Many of these borrowers, and prime borrowers for that matter, mortgaged 100% of the sales price of their home 2-3 years ago when housing was booming. Now, as some markets are seeing a slight decline in values, these borrowers are in trouble. Short term rates have come up since 2004-2005, and now these borrowers are facing a much higher payment and they are overmortgaged.

For a family that is in a fixed rate mortgage or has several years left on the fixed portion of their adjustable mortgage, nothing has changed. As the previous poster said, as long as they are making their payment, the lender doesn’t care what LTV they are at. Real estate will continue to appreciate over time, even if values decrease this year. So for a family who is not planning a move and is not in an adjustable mortgage and/or has equity in their home, the current market should not be something to worry about.