Yesterday I discussed my trepidations toward Fannie Mae’s new HomePath Ready Buyer program, under which qualifying first-time homebuyers can receive up to 3% of the purchase price of the subject property in closing cost assistance toward the purchase of a HomePath property.

The GSEs are undercapitalized, their profitability is questionable going forward, GSE-backed loans are getting riskier, and there’s a push on to put people into mortgages that they probably aren’t ready for with the 97% LTV that the government-sponsored enterprises will securitize. Worse these buyers may not have the resources to meet if they have a financial setback, given the state of wage growth.

And of course, there’s a systemic weakness in the economy.

To be fair, the damage this particular program could bring is limited; the program is for REO sales to first-time buyers – that is, homes that were foreclosed on.

But it’s part of a bigger problem, and one that unfortunately doesn’t unfold immediately given the cyclical nature of housing. But the seeds are being planted, and the cobblestones laid out.

I spoke with Ed Pinto this morning, a Resident Fellow and Codirector of the American Enterprise Institute's International Center on Housing Risk.

Walking through the details of risk on these kind of 3% down home loans

Regarding 97%, 30 year loans he offered me this chart:

Click to enlarge

(Source: AEI)

“I am doubtful as to the efficacy of counseling—requiring a residual income test would be more effective,” Pinto said. “In any event, 97% 30-year loans do not accumulate enough equity in the first 3-5 years (unless home prices keep going up much faster that incomes and inflation).  Home price volatility is tremendous.”

He offered this to demonstrate.

Click to enlarge

(Source: AEI)

Since these are REO sales, you have to look at home price appreciation in that range. As the chart below shows, lower priced homes in the cities named had much lower price appreciation over 19 years than higher priced homes.  

“If you were buying a home in the first 19 listed, annual appreciation on the low end was 3% or less,” Pinto said.

He offered what he thinks is a much better solution: Use the 3% closing cost help and the 3% down payment to buydown a Wealth Building Home Loan, which incorporates reduced risk layering and wealth building providing a better alternative.

Click to enlarge

(Source: AEI)

We also talked at length on the next big problem on the horizon when it comes to increasing the risk of another housing crash – the push for an alternative to FICO.

The push to change how FICO is calculated isn’t a problem per se, but it’s getting political. Also, the CEO of Freddie Mac talked openly about the need to look at alternatives to traditional credit scoring.

Realtors push for it because Realtors never saw weak borrower that they didn’t think was a potential buyer, if underwriting was just loosened.

Housing advocates funded by government grants, such as the Urban Institute, want looser lending because they say current standards hurt minority and low-income borrowers. Of course, this is exactly what the Urban Institute said in 1997, and what the Urban Institute said in 1997 is what the Department of Housing & Urban Development cited in in rulemaking in 2000 that lowered standards so much that, well, you remember what happened not long after that, don’t you?

“We’re repeating the same steps again but at faster pace,” Pinto told me.

Here’s a teaser before the next op-ed – the median credit score for the “un-scoreable” out there – those inactive on credit activity for more than six months – is 590. The bulk of the 35 million that VantageScore says it can score will be under 660.

Are these really candidates for being responsible homebuyers?

More well-intentioned cobblestones are being crafted.

[Update: 4.16.15 3:50 p.m. ET - I just spoke with Fannie and before I go into the FICO blog, I'll have a second look at the assistance program, what I got wrong, and what it gets right.]