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The Misplaced Argument Over Down Payments
Be prepared for the next great transfer of wealth. Buy physical silver and storable food.
market-ticker.org / By Karl Denninger / April 25, 2013
Lenders and consumer advocates — rarely on the same side of the issue — are now cautioning against down payment requirements. They argue that such restrictions could limit lending, and prevent lower-income borrowers from buying homes. They also contend that the new mortgage rules put in place this year will do enough to limit foreclosures, making down payment requirements somewhat superfluous.
The arguments seem to run contrary to long-standing beliefs about homeownership. For decades, experts have emphasized the need for a sizable down payment — a rule of thumb being 20 percent — on the premise that borrowers with a sizable chunk of equity in a home are less likely to walk away when things get bad.
20% down payments have less to do with that aspect of things than they do with the basic principle of financed purchase – the amount of leverage that the buying is carrying in the transaction.
With a 20% down payment the buyer is carrying 5:1 leverage. This is still substantially dangerous to the buyer, but it is probably manageable, provided that the income and assets of the purchaser prove up after diligent inquiry and there are no hidden liabilities that are being actively concealed.
With 10% down the buyer is carrying 10:1 leverage, or the amount that commercial banks are allowed — in theory — to carry. But this is much more dangerous than a bank, because the bank carries this leverage across thousands if not hundreds of thousands of individual transactions. That is, the bank has little or not “specific transaction risk” — the risk that the one transaction in question will go bad and blow you up. A buyer, on the other hand, is inherently exposed to this specific transaction risk and this makes such a loan very dangerous.
Thanks to BrotherJohnF
2013-04-25 11:01:08
Source: http://silveristhenew.com/2013/04/25/the-misplaced-argument-over-down-payments/
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