These are mortgages and loans present mainly in the offer of banking institutions, which divide their customers into prime and subprime depending on their credit history and their repayment capacity.
Subprime customers are customers who have had more or less serious economic problems in the past, such as financial difficulties, insolvency problems or even bankruptcy.
Subprime mortgages are therefore loans or loans granted to a type of customer with a high risk of insolvency , who therefore cannot access loans granted at market interest rates.
In the United States they are also called near prime, b-paper or second chance .
The history of subprime mortgages
This particular type of mortgage made its appearance around the 90s and then spread massively in the following decade, therefore up to the early 2000s. In a period in which the value of properties was constantly growing, mortgages subprime made it possible to grant liquidity for the purchase of a home even to a category of customers considered unreliable and at high risk. In the event of insolvency, the bank would have taken possession of the property subject to the mortgage, thus fully repaying its investment.
The subprime mortgage crisis
This continued in an undisturbed and increasingly massive way until 2008, when the whole castle collapsed, giving rise to the economic crisis that profoundly marked the history of the following years and which still makes its effects felt today. At the end of 2006, just to give an example, it is estimated that subprime mortgages in the United States had reached a value of around 600 billion dollars.
All this was further aggravated by the practice of securitization : in practice these loans were traded on the stock exchange as if they were shares or bonds, theoretically to disperse risk, as well as to increase profit.
In reality, the practice of securitizing subprime mortgages has distributed in a capillary way the high risk that this type of mortgage entails, thus involving insurance companies, credit institutions, investment funds and so on, causing an uncontrollable economic hole that involved the whole world, and not just the financial one.
The beginning of the subprime crisis
As many of you will remember well, the image that characterized the beginning of this crisis is the bankruptcy of the bank Lehman Brothers Holding Inc , together with Salomon Brothers, followed by the bankruptcy and bankruptcy of many of the major American credit bureaus, including including, for example, the New Century Financial Corporation, Goldman Sachs and Morgan Stanley. As a result, many investors lost their capital, which in many cases consisted of life savings.
The characteristics of subprime mortgages
But let’s get to the characteristics of subprime mortgages which, as we have seen, are aimed at a particular clientele, considered to be at high risk.
The most important characteristic of this type of financial product are the interest rates , which are significantly higher than those normally offered to customers who do not have a high risk profile.
Credit institutions can also propose configurations that provide for variable interest rates during the loan repayment period, for example, passing from a fixed rate to a variable rate after a certain number of repaid installments. Consequently, in this case, the amount of the installment also varies. Sometimes a pre-amortization period may also be required , in which the debtor only has to repay the interest, and then move on to the repayment of the principal.
Considerable guarantees cannot be lacking, given the type of customer to whom subprime mortgages are addressed. Generally, the bank registers a mortgage on the property subject to the loan, which in the event of insolvency by the debtor becomes the property of the bank, which in this way can repay its investment.
The types of second chance mortgages
Second chance , or subprime, mortgages are not all the same: different types differ in some characteristics. Among these we can distinguish for example:
interest only mortgages : this type of product gives the contractor the possibility to pay only the interest accrued on the amount borrowed. This takes place for a certain period during the signing of the contract, a period that can last up to 5 or even 10 years.
Initial fixed rate mortgages, which after a predetermined period turn into variable rate mortgages. This type of subprime mortgage is experiencing ever greater success among applicants since the 90s. Also in this case there are different types. One of the most popular is that of the so-called 2-28 mortgages, which offer a fairly low fixed rate for two years, which then turns into a variable rate for the next 28 years or in any case for the residual duration of the loan.
Pick payment mortgages , which allow the borrower to choose a type of monthly payment.
Who are the customers of subprime mortgages
As we have seen, subprime customers are considered to be at high risk of insolvency: in fact, they have a credit history that is anything but impeccable, characterized by unpaid installments, delays, foreclosures, bankruptcies, bankruptcy or in any case by unclear and difficult financial situations. documentable. Sometimes it is also devoid of people who can guarantee for him or property that can act as a guarantee for the credit institution. In Italy this type of customer is usually defined as bad payer or protested.
Despite this and even considering the high probability of insolvency, US credit institutions are quite wide-arm in the provision of this type of mortgages and loans, giving a possibility of access to credit even to a segment of the population that normally it would be excluded but exposing itself to strong risks, with the results we have seen.
How do you classify a customer as subprime?
In the United States this happens quite simply: customers are classified based on a score , assigned based on defaults, foreclosures and various misunderstandings. These scores typically range from 300 to 800 – a score below 620 leads to classification as a subprime customer , who can still access certain specific products, such as credit cards, loans, and subprime mortgages, of course under certain conditions, as we have seen.
Other products: subprime credit cards
Since the 1990s, some credit institutions have begun to offer the possibility of activating credit cards also to subprime customers , that is, with a history of financial problems and with scores that normally would not have allowed them to obtain one.
However, these are cards with fairly low credit limits and which provide very high rates and interest rates that can even reach 30%.
Over the years, many banks and credit institutions have been forced to make their products more appealing to ever larger segments of customers, not excluding sub-prime customers.
From around 2007, therefore, new subprime credit cards appeared on the market , with interest rates ranging from 9.9 to 24%.
In addition to trusting customers who would not normally have access to credit, subprime credit cards have another positive aspect. If the pending payments are paid on a regular and timely basis, they can help improve the customer’s credit scores.
