As we slowly dig out from under the subprime crisis and the ensuing financial meltdown I thought it would be interesting to take a look back and point out someone not often connected with these events. For over 20 years I had the privilege of working for two of the greatest minds in real estate finance, Kenneth Leventhal and Stan Ross. Even today, more than a decade after their official retirements, they are revered as pioneers who helped lead the residential construction industry from post-World War II mom and pop builders starting the construction boom for returning veterans into players on Wall Street, and who advised all segments of the real estate industry through decades of development and evolution.
About 20 years ago Messrs. Leventhal and Ross invented something called the multi-builder mortgage backed bond. This enabled small residential builders, who had been required to tie up valuable capital in seller financing for their homebuyers, to access the public capital markets. Publicly issued debt would be secured by these seller financed mortgages of multiple homebuilders, permitting these builders to cash out and move on to their next project. Of course, if you're really smart, you'll realize this was the start of the securitization of real estate debt, so in a way Leventhal and Ross could be considered to be the Godfathers of the financial meltdown. But really, making Wall Street financing available available to small builders was unquestionably a good thing for these builders, and the subsequent subprime crisis merely shows that even the best ideas may be abused and turned into implements of evil.
With this in mind, I asked Kenneth Leventhal where he thought things went wrong. Interestingly, he pointed the finger at President Clinton. He traces the whole subprime disaster to the Clinton administration's push to make home ownership available to low income taxpayers requiring minimal down payments. In hindsight, this indeed appears to be the start of it all, and I don't know why this hasn't been more widely acknowledged that it has been. Historically, to buy a home, a prospective homebuyer needed to make a 20 percent down payment. I put down almost 30 percent when I bought my first home. Yes, there were FHA/VA low down programs in the past, but actively targeting a group of homebuyers who were likely to default probably was not a good thing, despite the noble goal of home ownership for all. Of course, President Clinton was gone for quite a while before things blew up, so that's probably why he didn't get the blame. In a climate where home prices were escalating rapidly, after just one or two years of home ownership, the no down/low down homebuyer had his 20 percent equity and everything was hunky dory. Personally I became at least a little worried when I discovered that there were virtually no residential properties in the city of Los Angeles, not even in the worst neighborhoods of South L.A. or East L.A., that were selling for less than $400,000. Or when I read the quote in the newspaper of a Los Angeles homeowner who said he had no need to save any money because he was "sleeping in his piggybank." Or when houses in places like Adelanto and Murietta were rising to the same price level as properties in Los Angeles.
The most striking thing about the subprime meltdown and financial crisis was that it played out over such a long time. It was clear there was a big problem with subprime mortgages over three years ago. Yet amid Citbank's announcement of loan loss reserves for subprime loans back in 2007, the Dow Jones Industrials marched past the 14,000 mark. The subprime problem, everybody said, was just a temporary problem. Boy, were they wrong.