Home Equity Loan Defaults Soar

One of the last sources of ready cash for homeowners looking to get money from their house appears to be shutting down and the results aren’t likely to be pretty for the economy.

The structure of these loans appears to spell trouble for many home lenders with big home equity loan books.  According to an overlooked Moody’s Investors Services note that came out recently, once a certain threshold of losses is achieved in a home equity loan securitization pool, the bond holder is paid off ahead of the lender.

What’s worse is that it’s difficult to see how large a lender’s exposure is to home equity loans.  Known as rapid amortization, this risk is treated as a contingent liability for many home equity loan lenders and is carried off balance sheet, until deterioration occurs and the lender goes on the hook for the loans.

In the short-term, this is just another blow for investors in the financial sector.  Longer-term however, it looks like a lot of ready cash is getting taken away from homeowners in some states.  Coupled with rising unemployment, this could pose a major headache for already strapped homeowners.