My New Outside Blog: Option ARM's and what affect will it have in Las Vegas, Nevada Housing Market.

Option ARM's and what affect will it have in Las Vegas, Nevada Housing Market.

CNNMoney Article By Les Christie: Option Arms: A poison Pill for homeowners

Option Arm's

This is a comment about a article today in CNNMoney about Option Arms and what the affect it will have on the Las Vegas, Nevada housing Market. CNNMoney assessment is that it may be a killer for any home price recovery in Las Vegas, Nevada as the last of the Option Arms that were issued in 2004 are set to be recast. Some of the more interesting statistics that CNN reported is that relatively few of these Option Arms programs were used while they were being offered.

Option Arm's

Unfortunately this is, I have some good news and I have some bad news which do you want to hear first! The good news is that only about 350,000 Option Arms were used, the bad news is that 60% of all Option Arms were in California, Nevada, And Arizona. These three states are in a bubble market and have already seen large declines in home prices over the last several years.

Option Arm's

For those of you that are unsure how the Option Arms work I will explain. Most of the Option Arms had a starter teaser rate anywhere from 1% to 1.5% for three months to a year. The buyer was allowed to be qualified based on the starter teaser rate. They allowed the buyer to pick a payment plan each month

1.)a minimum payment (less then the Interest only option).

2.) Interest only payment.

3.) 15 years Principal and Interest payment.

4.) 30 year Principal and Interest Payment

I doubt that anyone one would be surprised that 93% of the people that had a Option Arms used the payment plan #1. The problem with using the payment plan #1 was that each and every month you took payment plan #1 you added the difference between Plan 1 and the interest only plan, this creates a negative amortization which increases the principal loan balance.

The lender to protect itself had written into the loan terms, if the principle balance increased more then 110% or 5 years (which ever trigger came first)  then the loan would be recast with the remainder of the loan term converted to a fully amortized loan, but at a greatly higher interest rate then the current ARM rate.

CNNMoney reports that currently 25% of the Option Arms that were issued have already defaulted in the first 20 months into the loan. The people that have made the minimum payment plan, but are ready to be recast, the defaults are expected to jump considerably higher due to lower home prices values, higher balances leaving few alternatives for the homeowner.

Option Arm's

The "poison pill" for owners of a Option Arms loan is 80% of these types of loans were stated income. While the lender allowed no verification of income then, the rules have changed as they are now known as the "Liar Loans". The owners of the Option Arms loans are unlikely to produce the necessary income to qualify for a new loan, but may be also held legally liable for falsifying the application by stating income that was untrue.

Add the wrinkle of an unstable economy, and high unemployment rate in Las Vegas, Nevada you have a very poor foundation of stabilizing the housing market in Las Vegas, Nevada.

I have never used the Option Arm product with any of my clients and have actually lost business because after explaining to the clients the pitfalls of this program the client insisted in having this, I declined to do the loan.

I have received a few calls from clients that went a head and proceeded with the Option Arms, asking me to help them try to get out of their loan and told me they had wished they had listen to me in the first place.

At least I can sleep at night.




         Kenny Salame                                                                                                  Equal Housing

Kenny Salame
Senior Loan Officer
All Western Mortgage Inc.
8345 W. Sunset Rd.
Suite 380
Las Vegas, NV, 89113
Mobile: 702--506-3301
Direct: 702-947-0609
Office: 702-369-0905
Fax: 702-952-0887
Comment balloon 24 commentsKenny Salame • November 26 2009 05:06PM


Good post.

These are all about to hit and it is not going to be pretty.

thanks for your post


Posted by Tony Grego, 317-663-4173 #1 Trade Association for Alternative Inv (REISA - 317-663-4173) almost 11 years ago

Thank you. It is true that we have not seen the full impact for bad loan programs that had little regards for the effects on the homeowner or the investors that were ultimately going to be sold these terrible products!

Posted by Kenny Salame, NMLS ID 313873 (All Western Mortgage Broker # 14210) almost 11 years ago

We've felt the punch thrown by option arms here in Northern California. Some families certainly chose the wrong loan product!

Posted by Vickie Nagy, Vickie Jean the Palm Springs Condo Queen (Coldwell Banker Residential Real Estate) almost 11 years ago

Once again, as I have repeatedly commented on posts like this one, the Option Arm product is and was only one tool out of many tools available in one's loan toolbox.

If the wrong tool is used at the wrong time, the result may be a smashed thumb. It's not the tool's fault!

At the time these loans were made, everyone, including the lenders and the government, expected that home prices would continue to rise, and that these loans would be refinanced out in a very short period of time. No one expected to hold an OA loan for very long -- everyone recognized that it was a TEMPORARY situation.

Obviously that is not what happened.  The housing market cratered and unemployment rose. Refinancing opportunities disappeared. The OA's were hit first, but now even the prime mortages are being impacted. The finger pointers are out in force, but no one has a solution to the problem except to wait for the market to regain its equilibrium. 

I believe that home buyers will return as soon as they feel that they are not putting themselves at  risk by buying a home.  Anything that contributes to that feeling by buyers is a good thing, IMHO. that is why I am in favor of the buyers' tax credit program.

All the detailed analysis as shown in the CNN article referenced in this post is IMHO is merely an attempt to explore and maybe explain the situation.  But in the end, when buyers return, most of these problems will fade away.

When one loses his job it does not help to explain his problem in terms of macro economics -- what he needs is a job and when he gets a job his problem goes away.

"This is a great time to buy a house".

Akron, Ohio




Posted by Thomas McCombs (Century 21 HomeStar) almost 11 years ago

Personally, I think it is quite possible that some people will be paying less, with their interest and margin, than when they started their loan.  It is possible.  The problem will emerge when they only paid the minimum, and most likely piggybacked an I/O Second for 20%.  They may have refi-ed their second, making it a recourse loan.  Or, as is the case with so many, they may have lied and it was not their primary residence, thereby committing mortgage fraud.
Invest in jails, they're bound to fill up.

Posted by Gary Frimann, CRS, GRI, REALTOR and Broker (Eagle Ridge Realty / Signature Homes & Estates) almost 11 years ago

93% chose payment #1?!? OMG - so disappointed in people, once again.

Posted by Joetta Fort, Independent Broker, Homes Denver to Boulder (The DiGiorgio Group) almost 11 years ago

Good to hear that there are honest mortgage brokers. I also instructed my client's not to use these types of loans. Great work! It's too bad there are not more professionals out there like you, educating their client's rather than just trying to make a quick buck. We may not be in this mess. Unfornately it seems that the government is not pushing for tax payer funded pay options ARM loans!

Posted by Shevy Akason (Evergreeen Realty) almost 11 years ago

Thomas, #4 and Gary, #5 have it correctly stated. OA was a tool to be used under certain circumstances depending on the borrower who had the financial resources to pay the interest only at years end and prevent the neg am. Most business owners were qualified borrowers and used OA as a tool to manage cash flow.

As long as the interest only was paid prior to the 110% recast, nothing would affect their obligation until the scheduled recast, 5 years hence. The unknown factor was the LIBOR rate, which was used as the benchmark plus the rate of interest to be charged. Regardless, they would easily qualify to refi

Gary is correct if the LIBOR remains unchanged. A year ago, the LIBOR rate was 2.60, today it's .49, so many OA homeowners today are benefiting from this circumstance, so it depends on the circumstances, doesn't it?

Properly used, the OA was a great tool to manage cash flow especially for business owners. So, when people, especially those in our industry criticize the use of OA and generalize it as a terrible tool to consider, it simply indicates their ignorance of the benefits of OA.

A professional would never put a client into an OA unless they were qualified to pay the loan or qualified to refinance to avoid the "poison pill".

Posted by Kimo Jarrett, Pro Lifestyle Solutions (WikiWiki Realty) almost 11 years ago

I think World Savings had a good option Arm Product that was more conservative than most.  It was a good product for the right people.  It was over used, but if the turn down had been less extreme it would have held up a lot better.

Posted by Gene Riemenschneider, Turning Houses into Homes (Home Point Real Estate) almost 11 years ago

Most of the clients that requested the Option Arms from me were not business owners they were w-2 employees. They wanted the Option Arms as it was the only way they could buy a house. If 93% of the people that had Option Arms used payment #1, then how was this such a good tool? People that I met were only looking at payment plan 1 and did not want to know or did not care about the negative amortization. Hence that is why I did not use this tool.

Posted by Kenny Salame, NMLS ID 313873 (All Western Mortgage Broker # 14210) almost 11 years ago

To be human is to be able to choose.   Humans have the ability to make their choices and sometimes they are right and sometimes they are wrong.  Banks offering payment #1 - going negative in amoritization, doesn't make business sense.   Too many cocktails at the top.

Posted by DeAnne Davidson, GRI, CIAS, SRES - Washington State (REMAX Professionals, Tacoma Washington) almost 11 years ago

As i stated, only qualified borrowers, such as business owners, who had the financial resources (assets) would qualify for OA. Many business owners have a cyclical cash flow business, so most would pay the minimum during some period, yet prevent neg am by paying the IO at years end.

You were correct not to recommend OA loans to unqualified borrowers. If they couldn't afford the minimum IO payment, how could they remain in their home? I can't address how borrowers that took OA loans are in trouble, except to say that no professional would have offered an OA loan to anyone that wasn't qualified. Finding the most suitable loan based upon the borrower's circumstances, goals and objectives is a professionals responsibility.

Unfortunately, when consumers secure loans online or from toll free numbers and speak directly with order takers, challenges will occur. Certainly, important decisions with challenging consequences should be conducted with a professional, face to face, wouldn't you agree? How many of those OA loans are from order takers? I'll wager it's at least 80%. Would you describe these people as professionals, I don't think so? Their job was to process OA loans, not find suitable loans, just take an order for an OA loan.

Posted by Kimo Jarrett, Pro Lifestyle Solutions (WikiWiki Realty) almost 11 years ago

You are so correct about order takers! When I first started in the business there were 44,000 loan officers registered in Nevada with a population of only 1.2 million? This was insanity 1 loan officer for every 27 people in the state, fortunately we are down to 2,100 and with better education and licensing requirements we may not see this happen ever again.

Posted by Kenny Salame, NMLS ID 313873 (All Western Mortgage Broker # 14210) almost 11 years ago

John - I completely agree that we should protect our clients and explain the perceived potential future problems with any loan program.  However, the option ARM resetting isn't the main problem here.  I personally have option ARM loans with rates at 3.50% right now.  By paying the minimum payment, I actually pay a few hundred dollars toward principal every month.  Even if I qualified for a loan modification, the likelihood of getting that low of a rate would be very unlikely.  The main problem lies within the value of the home.  I own a home that I paid $223,000 that is worth $80,000.  It's not the loans fault.  Would I be any happier had I chosen a fixed rate loan? Doubtful.

Posted by David Krushinsky, AZ MB-0949619 MLO NMLS #202115 (Dk Home Loans, LLC) almost 11 years ago

Good for you for refusing to put people in loans that would come back to bite them. I have a friend here who felt the same - she let a lot of loans go to other mortgage brokers, but didn't have to feel responsible when those people lost their homes.

Posted by Marte Cliff, Your real estate writer (Marte Cliff Copywriting) almost 11 years ago

As our economy evolves, the mortgage industry will eventually need to change by offering borrowers longer terms because of higher intrest rates from our deficit spending by the morons Americans continue to elect to Congress. So, it makes sense to modify loans to prevent foreclosure NOW, depending on the circumstances, up to 60 years. This would stabilize the real estate market and reduce foreclosures dramatically.

The only challenge at this time is the unemployment rate, yet that could be resolved if our Congress stops giving away entitlement programs and stops increasing taxes.

Reducing taxes so Americans can keep more of the money they earn to spend as they choose in our economy will get us out of this mess.

Our nation must require term limits to our elected representatives and forbid them to pass any laws that exempts them from ordinary American citizens. Anything less than that is just a temporary solution. Isn't it amazing that we are governed by just 544 people in Washington and most of them are considered corrupt yet still get re-elected?

Posted by Kimo Jarrett, Pro Lifestyle Solutions (WikiWiki Realty) almost 11 years ago

I hope that some day we will see th end to this mortgage mess.  It's sad to think of all the families whose lives have been disrupted basically because of naiviete or poor judgement on their part.  Sad.

Posted by Marian Pierre-Louis, Metrowest Boston (Fieldstone Historic Research) almost 11 years ago

John, this post addresses a point that in my mind has not been raised in the discussion of the underlying causes of the collapse of the real estate market and is a much needed reminder to those who have made far too many generalizations about what has caused this mess. I have seen little if any discussion about specific products and their design and the default rates as per product, which is critical not only in projecting additional foreclosures, but in assessing how to revamp mortgage lending to prevent this from happening again. 

I don't think it's enough to say - "oh, those ARMs". How was the ARM structured? Even if structured with a level of protections geared to a specific consumer and to the lender for that matter, as discussed in some of the comments here regarding OA's, if market conditions move in an unanticipated direction, what is the potential for how the impact in the total opposite direction will play out ? And probably most importantly, with the discussion here in the comments about "if the right people use the product", how does/did the lender guage the discipline of the intended consumer? If 93% of the consumers are choosing Option 1, were lenders moving forward with a product knowing full well that a much higher percentage than what the product was intended would use the product "stating" what they knew wasn't quite true.

Posted by Susan Thompson-Solomons, Southern MD Real Estate-Solomons Specialist (Berkshire Hathaway Home Services McNelis Group Properties) almost 11 years ago

I only sold one of those products.  He was a highly educated buyer and knew what he was doing.  Man it makes it tough not to walk away if you have a huge amount of negative equity.

Posted by Mike Henderson, HUD Home Hub - 303-949-5848 (Your complete source for buying HUD homes) almost 11 years ago

Live for today, so what if I am only making 10% of my mortgage payment now.  Too bad that neg am is still alive and kicking.  Thanks for the post.

Posted by Lyn Sims, Schaumburg Real Estate (RE/MAX Suburban) almost 11 years ago

I have had four different Option ARM's over the past 16 years and still have one now.   In all the time I have had them I have never made any payment except for the minimum payment.   Each time I got a new Option ARM I compared the market rate and payment of a fixed rate loan to the minimum payment required on the Option ARM.   The difference was striking.   At times I was paying $1,500 less per month by making the minimum payment on the Option ARM.   I took the difference in payment each month and put that money to work for me in different investment opportunities.   I have been doing that for 16 years.   The cash flow generated in the first year enabled me to pay off all my consumer debt, and subsequently increased my monthly case flow even more.   I took this additional cash flow and invested it along with the previous cash flow dollars.   At the end of the first five years of each Option ARM, just before the loan was ready to recast, I refinanced into another Option ARM, got the minimum payment down very low again, and began to make use of the extra cash for investments and retirement.   I have experienced the negative amortization on my Option ARM's as well as principal paydown when the interest only payment was less than the minimum payment, as it has been for about the last two years.   The money I have saved, and the money I have made from investing the difference in cash flow is so far in excess of any negative amortization or drop in value that I have experienced, that to do any other type of mortgage loan for me would have been foolish.   Option ARM's are not the evil loans that get so much bad press.   They were to be used in a particular way, and when used correctly, the borrower (me) came out far ahead of any other loan product opportunity.   The problem came from borrowers making the minimum payment and using the difference for consumer discretionary spending.   Don't blame the product, because it works very well when properly applied.   Many loan officers didn't take the time to learn which borrowers would benefit the most from the Option ARM and were not able to explain the benefits properly to those who got these loans.  

Posted by Bruce Bills (RateWindow (Powered by RealEspace)) almost 11 years ago

Bruce,I do understand that this program has worked for you, but the article points out that 93% of the option ARMs did not do the right things. The clients that came to me could only qualify for the loan at the teaser rate, that is why I did not use the product. My other point was that they still took out this loan from another lender who was not concerned about what will happen down the road for the client, but only about the paycheck. If the clients can only qualify for the teaser rate then how are they going to save any additional money? I did understand the product, but feel it was used in the wrong manner for most people.

Posted by Kenny Salame, NMLS ID 313873 (All Western Mortgage Broker # 14210) almost 11 years ago

It's sad, I used to work in the loan industry in Las Vegas, had a fairly large brokerage her. Naturally option arms were very popular in our neck of the woods. The customers loved them for the Minimum Payment and loan officers loved them for the 3 points in the back. Just like anything high risk, the rich and responsible have a way of using this debt instrument to leverage other investments, but the majority of people in Option ARM's where those, like you said qualifying only at the 1%.

When used responsibly, especially with interest rates as low as the are, the Option ARM can be better than a standard loan, however most people lack the discipline and keep checking the minimum payment box until the re-cast monster rears its ugly head. This site does a fairly good job of breaking down the option arm as well: unfortunately like your article it won't get read by the people who need to read it.

Posted by dcdubbs almost 11 years ago

Option Arms hurt buyers...but Countrywide owner Mario Angelo cashed in his millions and millions of stock options just before Countrywide went under

Posted by Dana Devine (Charles Rutenberg Realty) almost 11 years ago