Housing Bubble Peaks as Predatory Subprime Lending Reaches Maximum, Setting Stage for Collapse

The U.S. housing bubble reaches its peak in mid-2006, with national home prices having risen 124 percent since 1997. Subprime mortgage originations hit $600 billion, representing 23 percent of all mortgage originations, up from 8 percent in 2003. The bubble’s apex represents the culmination of captured regulatory systems that enabled predatory lending to flourish unchecked.

At the peak, mortgage quality has deteriorated dramatically. “Stated income” loans requiring no income verification constitute nearly half of all subprime originations. Adjustable-rate mortgages with low teaser rates and massive payment shocks represent the majority of subprime products. Loan-to-value ratios exceed 100 percent as “piggyback” second mortgages eliminate down payments entirely. Lenders like Countrywide, New Century, and Washington Mutual compete to lower standards further, knowing they will immediately sell loans into securitization pools.

Rating agencies Moody’s, S&P, and Fitch assign AAA ratings to mortgage-backed securities containing these toxic loans, providing the seal of approval that pension funds and institutional investors require. The agencies’ fee-based business model creates conflicts: issuers pay for ratings and can shop between agencies for favorable assessments. Internal emails later reveal analysts knew ratings were inflated but faced pressure to approve deals. Federal Reserve Chairman Alan Greenspan dismisses concerns about a housing bubble, and regulators take no action to curtail lending abuses. Within months, early-payment defaults surge, subprime lenders begin failing, and the collapse that will destroy $7 trillion in household wealth and trigger the worst recession since the Great Depression begins to unfold.