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New Century

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1. New Century’s strategy was to aggressively pursue the origination, sale, and securitization of subprime mortgages. Since its target market consisted of borrowers with low FICO scores, it could charge interest rates 2-3% higher than prime rates as well as higher origination fees. New Century utilized short term credit known as “warehouse loans” to secure the funds needed to lend to subprime borrowers. The warehouse loans were typically paid off within 30-90 days of origination as New Century sold or securitized new subprime mortgages. The subprime mortgages were pooled and sold either as a whole loan sale to an investment bank or they were sold as securitizations structured as sales to a SPE Trust. New Century also made income by structuring securitizations as financing in which it would keep originated mortgages on the balance sheet as LFHI. The difference between interest earned from these loans and interest paid to bond investors was profit to the company. With the real estate market exploding between 2002 and 2007, New Century’s aggressive strategy led them into increased risky lending such as ARMS, interest-only mortgages, 100% loan-to-value loans, and stated income loans. The New Century business model depended on real estate values continually going up and certainly not down. 2. Primary risks: Large scale default was a legitimate risk that was taken on by New Century Financial. High levels of default would increase New Century’s liabilities, because of their obligation to aid in covering losses that were realized by investors within the SPE trust, while cutting off the capital/liquidity being provided through sales and short term loans. To receive “warehouse loans” New Century had to comply with minimum liquidity and debt-ratio requirements. For any reason, including effects of economic cycle, if New Century did not maintain sufficient

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