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Sub Prime Lending - Essay Example

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The advent of sub prime lending in mid 1990s made it possible for many people to get credit especially those who belong to the low net income or are having lower than average credit score. Over the years the sub prime sector of the mortgage industry has grown from one hundred and billion pounds in 1998 to five hundred and three billion in 2008 or about a quarter of the mortgage market (IMF 2008)…
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Sub Prime Lending
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Download file to see previous pages This led to a subsequent boom in housing markets in all most all parts of the world.
Requirement for possessing ones' own house in the US was further fuelled by a normal liberalisation of approval standards for contributing to the growth of "teaser" loans. These loans came with relatively low primary repayment charges. Ultimately this led to the speeding up of financial conceptions which has made it possible for mortgage financing to be more easily accessible.
In this dissertation we are going to examine the growth of the sub prime lending industry, and will also discus the viability of a business model for lenders. Keeping in mind the current credit crunch and sub-prime lending particularly mortgage lending; we believe that this research will attempt to lay the foundation on future research as to what may be done to rectify financial institutions in the United Kingdom. We would like to discuss the rise and fall of sub prime lending from home owners perspective also.
Sub prime mortgages can be defined as residential loans that are not conforming to the Criteria for prime mortgages and so their probability of full repayment is low. This assessment is normally made according to the score and record credit of the borrower, the mortgage loan to value (LTV), and debt service to income service ratio.
The advantages of sub prime lending, is that it offers homeowners who in real sense, cannot afford real estate nor do they get an opportunity for creating wealth. However, some critics of sub prime lending have argued that this benefit comes at a bigger cost, given that borrowers of sub prime loans are usually charged excessive rates which eventually fix them in default. The cost of borrower associated with a sub prime lending is normally driven by two factors, down payment and credit history requirements (Kennedy 2008 pp.12-18).
In mid 1990, the country witnessed a residential real estate lending boom, with the sub prime lending expanding at a faster rate. The wall street journal reported in 2001 that the number of outstanding sub prime mortgage had tripled. According to the housing department the sub prime lending industry has grown from thirty five million in 1994 to six hundred and fifty.
There are many factors that have contributed to this growth such as: increase in risk based pricing facilitated by some advances in technology, deregulation of the banking industry and an increase in capital that has been made possible by security.
However, the growth is mainly attributed to an increase in security. Securitisation refers to the pooling of loans to make securities which are then sold to the secondary market. Securitisation gives lenders an excess capital that will normally not be available to make any additional loans. The legislative deregulation entrenched by government in the banking industry has also fuelled the growth of sub prime lending industry (Army 2003 pp. 124-134).
The last two years (2007, 2008) are the years that are surely to be remembered as a years of turbulence, change and difficulty. The world banking systems have received trillions of funding because of the weight of their innovation. The worlds' largest economies have gone into recession with the value of the UK pound going below the value of Euro for the first time.
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