Wachovia to Borrower- “Are You Sure You Understand the Pay Option ARM?”

Posted on June 18th, 2008 in Daily Mortgage/Housing News - The Real Story

11:45am EST Update –Of course, as Wachovia’s share price tumbles to about $16, rumors are hitting about Warren Buffet buying the firm. This has sent the stock price up considerably from it’s lows. You know that bubblevision will pick this up shortly. Why are rumors like this acceptable but when a stock price falls due to rumors, everyone gets up in arms with the SEC and Fed issuing statements in cases such as Lehman recently?  This rumor is bogus…Buffet already owns enough toxins with US Bank and Wells Fargo.

9am EST –You have got to be kidding me. While Pay Options are a lead anchor around the neck of every bank who ever touched them, Wachovia continues to insist that theirs are different.

**A little freebee from my paid-service. As of June 15th year-to-date, Wachovia’s CA defaulted loans taken back (REO) is approx 100% larger than in all of 2007. As of 5/15/08, the total CA REO across all banks was equal to all of 2007 so Wachovia is performing at a greatly accelerated pace when compared to the overall REO market. Wachovia hit their 2007 total by March 2008.

If you remember, for months they ran Pay Option commercials with families dancing around their houses, singing, because they could pay the minimum monthly payment if they want to. I found that insulting and absolutely ignorant on their part.

Now, Wachovia is calling broker-originated borrowers, making sure they understand what they got themselves into. Don’t ya love how they still try to blame it on the mortgage broker. Hey Wachovia, this is your loan program, not the brokers! Many borrowers may understand, but few will have a good enough grasp on the loan to understand how it WILL perform under various market or economic scenarios or stresses, if underlying index values soar or if values plummet, as they are now. This loan was never meant to hold for any period of time and absolutely never meant to hold in a period of declining house prices.

While the Pay Option ARM maybe a perfect loan for someone such as an investor with a large amount of equity in a property who is waiting for the purchase market to improve before selling and wants to cash-flow, my guess is that 90% of Pay Option borrrowers are in it because they only could afford the home by paying the minimum monthly, negatively amortizing payment. These loans are the ultimate toxins, even more so than subprime 2/28’s. At least with subprime loans, the principal balanced owed doesn’t grow every month.

“Wachovia is contacting applicants through independent mortgage brokers to ensure “the customer understands the key features of the Pick-A-Payment loan product,” according to a June 11 memo from Tim Wilson, head of loan origination at the Charlotte, North Carolina-based company. The loans let borrowers defer part of their monthly bills.”

Wachovia’s clients fall in line with other published numbers with 70% of borrowers choosing to make the minimum monthly payment. Below is a graphic showing an recently update recast schedule for Pay Option ARMs. This is a disaster that will surely keep the foreclosure issue on the front pages for a long time.

“Golden West was the market leader in option-ARM mortgages, with about $120 billion of the loans when it was acquired by Wachovia. The loans, termed Pick-a-Payment by Wachovia, allow borrowers to make lower initial payments that don’t even cover the accrued interest. Almost 70 percent of Wachovia’s borrowers choose to pay as little as possible. “

The truth is Wachovia’s Pay Options are different and in my opinion, probably worse.The primary differences are that they did not do 100% loans in any size and they did a good job validating appraisals by a variety of means. As a matter of fact, over the years World/Golden West/Wachovia has been known to be ‘tough on appraisals’ meaning they always tried to cut the value. In the risk-management game, this is a good thing for the bank.

But, with values down in CA on the median by 28% in the past 11-months and much further in many areas, not doing 100% loans doesn’t really matter too much. Borrowers across the state are sitting in massive negative-equity positions and once you get upside down, does it really matter if you are upside down by 20%, 30% or 50%?

Once the borrower gets a hard-recast letter saying “you have reached your maximum allowable negative amortization for this loan program, so now you must either  a) refinance  or  b) pay a minimum of the fully-indexed payment so as not to accrue any more negative amortization and pay off the loan within it’s term (this could easily double the payment)”, borrowers default. First, you can’t refi in most cases. Second, why in the world would you want to pay twice the monthly payment or more for a home that has dropped 30% in value and in which you have accrued 15 to 25% negative amortization depending on the lender?  By the time they get this letter, a borrower could be upside down 50%!

Originations of option-ARMs fell more than 50 percent last year after making up 8.9 percent of the almost $3 trillion in U.S. home loans made in 2006, according to estimates by industry newsletter Inside Mortgage Finance. Delinquencies are rising as interest rates tied to the loans increase, forcing borrowers to make larger payments. Once option-ARM borrowers’ loan balances reach a predetermined limit of 125 percent of the mortgage amount, Wachovia requires higher payment rates.

Where World/Golden West/Wachovia went easy was on borrower strength and credit. For years, those in the mortgage industry called them ‘The Heartbeat Lender’because anyone with a little equity and a heartbeat could get a loan there. In essence, they were ok with working with subprime borrowers, if they had a little skin in the game.

So, now that values have been trashed, what do they have left? Bad borrowers significantly underwater vs. better borrowers significantly underwater. For these reasons, I would argue that World/Golden West/Wachovia’s Pay Option portfolio is worse than most other’s, despite never doing a 100% loan and being ‘tight’ on appraisals.

“Losses Surge

The mounting losses will add to the $392 billion in asset write-downs and credit losses tied to the U.S. housing slump reported by the world’s largest financial institutions. Wachovia on April 14 said losses on its option-ARMS may reach $1.7 billion this year and $2.8 billion in 2009. That estimate may be optimistic with the bank potentially setting aside almost $17 billion to cover losses, CreditSights Inc. analyst David Hendler wrote in a June 2 report.”

“Through February about 14 percent of the bank’s option-ARM portfolio had loan-to-value rates of 100 percent or more, with 85 percent of those loans in California and Florida. When loan amounts exceed the value of a home, borrowers may stop paying, said Keith Gumbinger, vice president of HSH Associates, a Pompton Plains, New Jersey-based publisher of mortgage data.”

Source: Bloomberg Story 6/17


The Pay Option Implosion – Subprime’s Big Brother

ALT-A Disaster Coming Soon – Know the Facts.

44 Responses to “Wachovia to Borrower- “Are You Sure You Understand the Pay Option ARM?””

  1. I just shake my head when I read sh*t like this … WTF!

    The asshats that ran these banks, have now placed the entire U.S. economy on trial.

  2. Check your facts before writing. The max payment increase on the Pick a Payment Option Arm is 7.5% per year.

  3. “Now, Wachovia is calling broker-originated borrowers, making sure they understand what they got themselves into. Don’t ya love how they still try to blame it on the mortgage broker.”

    This is a point that I wish the media would get across to the general public, and that our congresspeople would understand. At no time in the past 6 years did any wholesale rep come to me and ask “Hey Dave, you got any fresh ideas on any loan products designed to screw the consumer?” Instead, it went more like this. “Sell the option-arm. It’s all about a low payment these days…That’s what the borrower wants.” Of course now it’s the broker LO who created this. Sure thing Wachovia. Anyone ever checked out an option-arm note? Designed to be as confusing as possible.

    Let’s not forget the “You can get a 3 point rebate on this product, all you need to do is turn the screw on the margin, making the loan more unaffordable…then lock the borrower in for 3 years.” I knew a meltdown like this was coming at my brokers x-mas party in 2005. A bunch of scumbags yukking it up, telling tales of 2 up-3 back million dollar loans with $45K paydays for 22 year old guys that were working cell phone kiosks at the mall 9 months prior. WAMU, Downey, and “The king of the 3 year prepay” World Savings were all the rage. The people that took the 3 year prepay are stuck even after the 3 years, because they neg-am’ed themselves right out of any opportunity to re-fi, just like WAMU, Downey, and World knew thay would.

    Of course today my phone will ring off the hook with referral borrowers asking for a new deal that I can’t get them, because their LTV is way too high or they don’t qualify based on their income (because they are huge tax cheats). I have an XL spreadsheet with over 100 borrowers who have called me in the past 5-6 months trying to refi…we are talking about a lot of $1-2 million dollar loans here that I have no hope of doing under current guidelines and market trends. It’s a shame…you should hear the calls. “My nieghbor said you did his loan and didn’t screw him….can you help me?” That, ladies and gentlemen, is all you need to be. The guy or gal that “didn’t screw” your client. Nice.

  4. whatchu talkin about leroy. You are wrong. The loan hard recasts when neg-am reaches 110, 115 or 125% of the orig principal balance. if that happens prior to 5-years, whatever. I dont care about the ‘payment aadjustments’ because they are so small. I care about the hard recast as I satted here “Once the borrower gets a hard-recast letter saying “you have reached your maximum allowable negative amortization for this loan program, so now you must either a) refinance b) pay a minimum of interest only payments so as not to accrue any more negative amortization (this could double the payment)”, borrowers default. First, you can’t refi in most cases. Second, why in the world would you want to pay twice the monthly payment for a home that has dropped 30% in value and in which you have accrued 15 to 25% negative amortization depending on the lender? By the time they get this letter, a borrower could be upside down 50%!”

  5. Dave – these asshat banks and investment banks are totally quiet too. Throwing the broker and middle market mortgage bankers udner the bus. You can drill down the entire mortgage implosion to about 10 companies that make up 80% of the problems. This is a top-down problem not a bottom-up.

  6. Leroy-

    Check yours. The note only part of an option arm note that is clear is the section on note recasting. If it recasts, the borrower MUST make fully amortized payments. The loan recasts when the loan LTV reaches the neg-am cap. Usually 90-95%. The neg-am cap can be reached by A. The loan amount increasing to a certain LTV, or B. The property’s value diminishing. FACT: A borrower in an option arm that has been making the Interest-Only payment monthly could have a note recast due to a declining market, and a payment increase of thousands a month. The 7.5% payment increase limit applies only to lower LTV properties, and there aren’t too many of those out there. Back to the cell phone kiosk.

  7. The recast period on the loans are 10 years not 5. And if you dont know about this product dont post wrong information here. This product is the best pay option out there with an index tied to savings accounts. Maybe someone should talk to employees of the previous world savings to get the other side of the story.

  8. Dave,you really need to learn more about the pick a payment before correcting people. the 7.5% increase occurs in the minimum payment once per year no matter what size or ltv the loan is. The recast period is 10 years and 125% of the loan balance. It has nothing to do with the value of your home dropping or what percentage the ltv is because of the decrease in your house value. The customer doesnt reacast in the first 5 years because the index is so stable and most people are on a bi-weekly payment program. A customer could safley stay in this loan for the 10 year period having their minimum payment safley go up a reasonable 7.5% each year. So just because someones home value drops and they are at 90-95% ltv doesnt mean their loan becomes due.

  9. Leroy illustrates another point. Even the LO’s selling these things didn’t understand them. No surprise the borrowers don’t. I remember the first time our World rep came in and pitched this thing. My perma-bear, bond trader mind said “what’s the catch?” The max deferred interest/hard recast TRUMPS the 7.5% annual pay caps.

    Also worth noting, LO’s sold the pay rate and pay rate only. They never mentioned that the actual interest rate was fully adjustable with no adjustment caps, was independent of the pay rate, and the difference between the two got added to what you owe and compounded.

  10. From the Pick a Payment disclosure:

    The principal balance may never exceed:

    125% of the original principal balance amount for a loan that had an original loan amount of 85% or less of the property’s appraised value or sales price (whichever is less), or

    115% of the original principal balance amount for a loan that had an original loan amount that is greater than 85% and less than or equal to 90%, or

    110% of the original principal balance amount for a loan that had an original loan amount greater than 90%

    If Deferred Interest caused the principal balance to reach these limits, the Lender would immediately increase the payment without regard to the Payment Cap. The increased payment would pay off the loan at the then current interest rate and remaining term.

    Note that the recast is not dependent upon any new appraised value of the property.

  11. We have lots and lots of “cell phone kiosk” here in Orange County.

  12. Geez Leroy – that makes it even worse. I forgot about the LTV tranch max neg-caps. I was under the impression that they were all 125%, which pushes out their problem as far at it can go. At 110% and 115%, they are right in the middle of the major implosion. No wonder the stock price is aggressively falling. I was thinking ‘these shorts are a little early for a 125% lender.’

  13. Hi Admin, you talk about the 110% and 115% as a bad thing in one sentence but then in another sentence talk about how horible it is for someone to be upside down in their house. the 125% is a great thing but doesnt it make sense that if someone is borrowing a high ltv up front the lender would not want to give them 125% recast? It just cracks me up that you write an article saying how bad it is to be upside down in your house and there is no difference between 10% and 50% negative yet you complain that the customer has a neg am cap at 110% or 115% at ltvs of 90% to begin with? Atleast wachovia gave them 125% at under 85% ltv where all other lenders gave 110% recast no matter what. Plus you are totally ignoring the fact that what you deffer is the difference between your fully indexed payment and minimum payment. Well with wachovia the fully indexed payment is based off of cds which are stable. Plus cds have come down latley and you are totaly ignoring that AE’s made extra money for selling bi weekly payments so almost every borrower is on a bi-weekly paymnent program. If you know this product inside and out you just like myself would have one on your own home.

  14. one more quick note. You only deffer from the fully indexed payment to the interest only payment not the minimum payment as i posted above. Sorry, i got carried away.

  15. You are not even considering the 85/15s stacked on top of the pay-option. Yeah, I know you were not supposed to be able to do them but no one checked the first note. That 15% HELOC is being pushed out to an effective LTV of 140% (125% + 15%). And that is BEFORE considering the declining market (another 25%+)!

  16. Brandon-the recast at Wachovia (it is different at every bank I am sure) is 125% of the loan value OR 10 years, which ever comes first. Anyone want to bet which comes first when 70% of borrowers are making the minimum payment? I hope you didn’t mislead your borrowers into thinking that they could make neg-am payments for 10 years and be guaranteed only 7.5% payment increases annually. Most of these option arms were stated income deals that were at 90% LTV to begin with. Also, lets not forget that 2 years ago, several of these option arm lenders were allowing seconds behind them, so what are the CLTV’s now??? Just about every one of those borrowers in any declining market are almost certain to walk away. You said-“This product is the best pay option out there” That’s like saying I took a really satisfying kick in the balls. If I should talk to some of the old World Savings folks to get their side of the story, certainly you wouldn’t mind a few calls from the desperate borrowers who are trapped in these loans by $30k prepay penalties and upside-down equity positions.

    Josh makes a good point…with all the different pay options out there, very few LO’s (including me) categorically understood the terms on them all. That’s why I tried real hard not to sell them. Another good point is that payment and start rate are what was sold, not the fully amortized consequences. Most guidelines two years ago qualified the borrower at the minimum payment rate, which is a joke because most of these qualed stated anyway.

  17. I have a question: Assuming the original loan was purchase money, would the recapitalized interest be considered non-recourse?

  18. Dave, if you don’t understand the Pick A Payment loan (and it’s obvious from your comment that you don’t) then don’t throw out “facts” about it that are anything but factual.

  19. Brandon – I think his point was that the 110% and 115% thresholds are going to hit faster than we originally expected under the 125% assumption. MUCH sooner than 5 years for those making minimum payments. And at potentially the worst possible time in terms of the housing market. So Wachovia doesn’t have another few years to clean up this problem – it is happening NOW.

    And it is ‘defer’, not ‘deffer’. Or did you mean ‘differ’? I shudder to think you sell these loans.

  20. what amazes me is there are people here defending the pay option arm. I thought this battle ended long ago.

  21. Mr. M,

    I totally agree! These are the fuc*ers that benefited from this BS, and now their in here hedging and defending and bickering. LoL

  22. Leroy Said:
    June 18th, 2008 11:02 am
    Check your facts before writing. The max payment increase on the Pick a Payment Option Arm is 7.5% per year.

    You were wrong here Leroy. The payment on a note recast would be at least 50%, probably more, then the minimum payment. Trust me, recasts are happening all over California…yours and Brandons former borrowers are calling me everyday trying to keep their homes.

    I was certainly wrong in my assumption that the declining market could cause a loan to reset. It should, but it doesn’t. It is, in fact, 125% of the original loan balance, usually. Which again IS happening due to the 70% of borrowers continually making that minimum payment monthly. What the declining market does is make it impossible for a borrower to refinance out of one of these deals…that or the 3 year prepay penalty that so many seem to be stuck with.

  23. And the assholes from the rest of the world trusted sheepishly all the bullshit from the financial geniuses from Wall Street. Remember that stupid jerk Alan Greenspan ? He thought that all these people were so creative. Assholes from the FED. The rest of the world should pull the plug on these banks and say to them; Wachovia you desserve to die and dissapear.

  24. The prepay is easily waived. I have financed two out of these in the last couple of months. I used FHA at about 96% LTV (not a dime to spare) and Wachovia was glad to get rid of them.

    And no, Linda, there is no special recourse for these loans as compared to a conventional loan, even though they are similar to a HELOC hybrid.

  25. I find it ironic that this little story isn’t being covered on this side of the pond.

    From the Teabags over at the Tele:

    RBS issues global stock and credit crash alert
    By Ambrose Evans-Pritchard, International Business Editor
    Last Updated: 5:42pm BST 18/06/2008

    The Royal Bank of Scotland has advised clients to brace for a full-fledged crash in global stock and credit markets over the next three months as inflation paralyses the major central banks.

    A very nasty period is soon to be upon us – be prepared,” said Bob Janjuah, the bank’s credit strategist.

    I want to remind everyone, Mr. Junjuan was one of the first mainstream, talking heads, to warn of this looming implosion last year.

    A report by the bank’s research team warns that the S&P 500 index of Wall Street equities is likely to fall by more than 300 points to around 1050 by September as “all the chickens come home to roost” from the excesses of the global boom, with contagion spreading across Europe and emerging markets.

    I tend to agree … the fork in the road is dead ahead.

  26. donny – shoot me a link and I will run blog it and get it out there.


  27. Paulson & Co. Says Writedowns May Reach $1.3 Trillion (Update3)


    June 18 (Bloomberg) — John Paulson, founder of the hedge fund company Paulson & Co., said global writedowns and losses from the credit crisis may reach $1.3 trillion, exceeding the International Monetary Fund’s $945
    billion estimate.

    A bit pessimistic but this j.paulson there knew about subprime and made 3.7B from betting against it. I would at least pay him a lil heed.

    Enjoy :-


  28. M

    Click on my name for the link.

  29. http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/06/18/cnrbs118.xml

  30. I always scratched my head about Wachovia/World’s Equity Builder feature. Specifically, why would you want to go bi-weekly if you are Neg-Am’ing. Re-amortizing the loan every 14 days as EB does ratchets up the principle balance (and interest-on-interest) quicker. They should call it Equity Drainer! If you were planning on making only the minimum payment, monthly payment method will hit forced recast at a later date, all else being equal. I would choose to re-amortize “slower”.
    The EB was just an extra dose of Kool-Aid designed to confuse: “You mean I can pay at a 1.5% rate AND pay my house of in 18 years?”

  31. You all can argue all you want regarding who understands the product or who doesn’t, “whatever”! Anyone getting one of these loans obviously is spending more money than they make, or buying more house (or a house) they cannot afford – it is only bound to fail. Shame on the lender, and the borrower, and now the rest of us get to pay.

  32. its up

  33. Admin – do you have your tidbit on US Bank available yet? I remember you mentioned that you had a juicy one on USB. That stock has weathered the BKX storm much better than other banks.

  34. Hi Patience, not yet. I have been so slammed. I will get that out.

  35. OK, so here’s my question:

    WHY is Wachovia calling? Because, now that they realize what the market’s doing, they’re not stupid (or, as stupid as they were). You call these folks now in the hopes that some of them start paying down principal (or, at least make interest-only payments). Why? Wachovia would rather have these folks paying some money over the long term than take possession of a worthless asset! Wachovia doesn’t want to foreclose now, and they really don’t want to foreclose in a year or two. They’d much rather have a regular old functioning loan out there than a house they can’t sell (or have to take a major loss on selling). If they can somehow keep 5% more of these folks in their homes, that’s a lot of houses they aren’t going to have to lose their shirt on.

    Am I wrong?

  36. Two days ago closed my “High Performance Money Market” at Wachovia and transferred the funds to my local credit union down the street for 3 times more interest (2.65%). For a $50,000 balance Wachovia was paying a generous .9% rate…I guess they wanted me to pay for future losses from these option arms. Today they approached me on opening a new Money Market Fund paying 3% for 90 days. Based on what I just read, I would like to thank Mr. Mortgage for helping make the decision of not taking the bait and switching back.

  37. dear Mr. Mortgage – thank you for your extremely helpful site. re being slammed: readers can tell by the tone, literacy level and motivations of slammers, whom to believe. please keep up the good work (and stay healthy!).

  38. I heard that American people can’t do the math, but I never imagined there were such many idiots…

  39. According to GAAP, banks can count the highest amount of an option ARM payment as their revenue, no matter how much money borrowers pay. I’m not sure Wachovia is doing this, however, Wachovia could make huge phantom profits from Pick Your Poop loan…

  40. Hi Pot, I’m Kettle. Any one of you that thinks that the Pick-A-Pay loan is the reason for the mess we’re in you couldn’t be further from the truth. Does anybody in here really think a 30 year fixed (with all the principal reduction up front) is going to help people build equity??? Seriously? Oh and when you’re upside down in your home I can see why being committed to a higher payment is better for the customer than a smaller one giving them the option to keep and invest that money rather than throw it away. Dave, good call on the 3 point rebate. By the way, I’m sure you never sold an Option ARM to ABC (or other lenders) offering 4+ points. And I’m doubly sure that nobody else in the room was telling their Wachovia AE’s that 3 points “wasn’t enough” when they could make more elsewhere. Please. Should we start on the “pushed appraisal” subject? You want to point a finger and you can start with the stated income, 580 credit score transactions with the 3 highest sales in the neighborhood used as comps. No, that never happened. If the mirror was in front of the industry everyone would admit that pushed appraisals were the norm rather than the exception. And you are worried about the Pick-A-Pay loan pushing someone into negative equity? Let me tell you, a pushed appraisal did it by the tens of thousands when the Pick-A-Pay does it hundreds at a time. I especially love the “Heartbeat Lender” comment. This coming from an industry that was willing to lend stated income, stated assets to a borrower with a 580 credit score at 100% financing, asking them to put no skin in the game when all they’ve ever told you is that they’ll never pay you back. And, in most cases, that 100% was really 120% from the start. How much of the industry was high LTV, low score sub-prime? I’m sure a whole heck of a lot more than PAP. Anyone still convinced that PAP is really the problem?

    Everyone has a share in what happened so stop pointing the fingers. Look yourselves in the mirror and be accountable for any role you played in it. Lenders, brokers, investors, Wall Street, bond rating companies, etc. Did I leave out the realtors finding “comps” to make sales prices work? How about the consumer that told the broker they wanted this way or they’re going somewhere else to get it that way? And by the way, ethical or not, if you didn’t do it, the broker down the street did. Get off the bandwagon and into reality. Has Wachovia’s REO risen this year? Of course, it had nowhere to go but up since it was 0 for the previous 5 years. How many lenders can say that? This is not a PAP problem, it’s an industry problem. Grow up and treat it like one.

  41. Hi Pot – What’s up. You are totally right. We went over other forms of industry screws ups in the link below. The Pay Option was one of many things but in my opinion as far as toxic loan programs are concerned, this one takes the cake and Wach was out there selling it with fancy commercials until 30-days ago. Gimme a break.


  42. […] admin wrote an interesting post today onHere’s a quick excerpt […]

  43. PAP may not be the main problem, but it certainly is for some borrowers. Some borrowers were tricked into thinking they could pay the minimum payment forever. All PAP borrowers that I’ve come across were qualified with income that could only cover the minimum payments. Once they hit the neg-am reset, they could not afford the new payment, get a refi or sell without a short sell.

    (Sure, if house prices kept going up, the borrowers would still have options.)

  44. Howdy Guru, I fell lucky that I located this post while browsing for downey savings c-ds. I am with you on the topic . Ironically, I was just putting a lot of thought into this last Friday.

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