More and more loans were given to higher-risk borrowers to benefit out of the booming market.  The spread between prime and sub-prime mortgage interest rates came down drastically from 2.8% in 2001 to 1.3% in 2007 to induce the borrower thereby compensating on the risk premium. The risk premium was compensated in-spite of the decline in the credit ratings of the borrowers.

To make the best out of the markets, the following fancy loans were also being provided:  – “No Income, No Job and no Assets” loans, also referred to as Ninja loans

  • Interest-only adjustable-rate mortgages (ARM) where the homeowner pays just interest (not principal) during an initial period.
  • “Payment option” loan, where the borrower has the option to pay any variable amount at his discretion but interest not paid is added to principal.

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