Background information about the current mortgage crisis
Many of the subprime loans given to borrowers during the later part of the housing boom were adjustable-rate mortgages (ARMs). This type of mortgage can appear very attractive since it can be offered with low initial "teaser" interest rates. However, the rates of ARM loans reset at a given time (often within 2-5 years), and the borrower's monthly payments can rise dramatically. Since the housing market was booming a couple of years ago, many people assumed they could take on a low initial interest rate and just refinance before their ARM loan reset to a higher interest rate. Unfortunately, dropping home property values made it impossible for many people to refinance their loans. So, these subprime ARMs began resetting in the last few years, leaving the borrowers with much higher mortgage payments.
As housing prices began to fall it became obvious that many homeowners with subprime mortgage loans would be unable to make their mortgage payments after the loan interest rates reset. Subprime ARMs comprise only 6.8% of the total outstanding home loans in the U.S., but as of the 3rd quarter of 2007 they represented 43% of the loans involved in home foreclosures.† That means that nearly half of the home foreclosures in the U.S. were subprime loans. Studies today show that while consumers with subprime loans continues to generate the greatest number of foreclosures, other borrower segments are definitely feeling the pinch.
Many near-prime or prime mortgage loans are also in trouble as the housing market continues to decline and borrowers cannot extract equity from their homes. While the crisis centers on a handful of states here in the U.S., it's having a national and even a global impact as foreign investors withdraw their support for investment that might be tied to U.S. subprime mortgages. Europe may also go through similar subprime mortgage pains because several European countries began offering subprime mortgage loans within the last few years. While the global story is still being written, here in the states some observers speculate that we will continue to feel a drain on the U.S. economy until lending practices tighten and subprime ARMs become less common.