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How Can Assets Be Toxic If They Were Insured?

foreclose; wonder al via Flickr

Question: Why does everyone avoid discussions about PMI (Personal Mortgage Insurance), which protects the lenders from loss and is required on all loans with less than 20 percent down (except VA & Federal Housing Administration loans)? How can there be “toxic assets” if the loans were guaranteed? Who were the beneficiaries of these policies?

Paul Solman: Everyone avoids discussions of PMI? Not me. I’ve answered this question directly several times here on the Business Desk. You just have to read regularly, John!

Anyway, be sure to see the the discussion back in August for a good primer. First, many loans skirted the insurance requirement via second mortgages, and it’s only the FIRST mortgage that has to be insured if you put down less than 80 percent. Second, the private insurers are in serious trouble.

Third, from Nic Retsinas, Director of Harvard University’s Joint Center for Housing Studies, and sometime NewsHour guest:

I would only add that private mortgage insurance is commonly associated (i.e. required in many cases) with the origination of prime loans sold to or securitized by the GSEs (Fannie and Freddie). Most subprime loans (especially the more toxic products) were packaged through private issuers and did not carry (or require) mortgage insurance.

This is, I believe, the best answer to your question. Moreover, Retsinas’s point has huge implications for those who would blame the crisis on Fannie and Freddie. They weren’t the major players in the subprime debacle.

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