No doubt a lot of other players deserve more blame for the meltdown in home lending: mortgage brokers, pool underwriters, hedge fund speculators. But Fair Isaac gets a little blame, too, because its scores did not deliver the predictive power that was expected of them.
mortgage lenders got a little too confident in FICO and failed to give adequate weight to two other factors in a mortgage application: how much the borrower is putting down and how well he has documented his income.
Even Fair Isaac says it's not surprised that its scores have missed the mark in a lenient lending environment. "FICO scores an individual's risk over time. It's not an assessment of the riskiness of the loan made," says Ronald Totaro, a Fair Isaac vice president. He adds that creditors should not be making lending decisions solely on FICO scores.
My comments. Well duh.
FICO scoring is a tool, and things like income, assets, et al. don't factor in. A FICO score is but one piece of the puzzle because it is an assessment of borrower risk.
It is incumbent on the lender to assess the loan product riskiness and whether it is an appropriate match based on the borrowers credit risk (FICO score), assets, income, DTI, money down, history with the lender, time in a job, etc.
If jackhole lenders were issuing loans based on FICO scores alone, well, then they deserve their losses.
I think the author is very offbase in his condemnation of FICO.
The mortgage crisis was brought on by a classical asset bubble. When an asset bubble forms, speculators will find whatever excuse or rationale they can to pump money into it. It's a "madness of crowds" type of situation. Whether it was a prospective homeowner racing to get a $250,000 mortgage on a $200,000 house so he could flip it for $300,000 next year, or a Dutchman back in the day paying 100 guilders for a 10-guilder tulip bulb confident he could unload it for 200 in a couple months, these bubbles have all the rationality of a feeding frenzy.
No one could be bothered to ask themselves just how an asset primarily owned by individuals could continue to appreciate 7 to 15% a year forever in an economy where individual income is essentially flat. All they knew is that their homes were now a magic source of wealth. Heck, the only thing missing was the leprechaun and the rainbow emanating from the pot of mythical gold in the backyard.
FICO scoring played a minimal role. It was greed and ignorance of economic fundamentals that brought the subprime lending market to where it is today.
- - - - in a credit-scoring postnuclear Stone Age...
A bubble. A bubble relies on suspension of disbelief and an expectation of large profits, but it is not the same as a Ponzi scheme. A bubble involves ever-rising (and unsustainable) prices in an open market (be that shares of a stock, housing prices, the price of tulip bulbs, or anything else). As long as buyers are willing to pay ever-increasing prices, sellers can get out with a profit. And there doesn't need to be a schemer behind a bubble. (In fact, a bubble can arise without any fraud at all - for example, housing prices in a local market that rise sharply but eventually drop sharply because of overbuilding.)