December 19, 2006 at 3:43 PM #8089SD RealtorParticipant
Of late I have been concerned that the secular depreciation cycle we are in is going to be slower (single digit % per year at best) then I had previously hoped and I have posted that thought. Believe me, I hope I am wrong… The swift kick in the pants that I am desperately hoping for are the loan resets that will push the default rate sky high. This will flood inventory and should suppress prices…
However what if lenders pull a rabbit out of the hat? Because of the cyclical nature of housing, what if lenders could postpone the all important first step? That is the loan resetting and the buyer not being able to make the new payment under the new conditions. If the current low rate climate persists, what is stopping lenders from simply refinancing the loan and offering a new loan to the more indebted buyer? What if the lenders offer 125% financing on a home that used to be 100% financed? So even a home that has depreciated already or has a new balance with the deferred interest added in actually qualifies for this type of financing?
Now I agree the problem doesn’t go away for the lender that does this. Yet, the lender could pick and choose which homeowners to offer this bailout to.. If Joe homeowner has a steady job and seems like a good risk, why take his house? Why not get more interest from him and convince hime that in 5 years the market will turn and he will not be in dire straights anymore? Offer him 125% financing on his home that he originally 100% financed to cover the deferred interest accrued or the depreciation that has occurred. This could at least stem the flow of defaults. Again, the lenders strategy here is to keep the patient on life support for a few years until the market turns.
The net result is (IMO) a way to keep the default rate from spiraling out of control. Remember the golden rule… he who has the gold rules. So those with the gold right now will do everything they can to continue to hold that gold. A real estate crash would hurt them. I want so badly for the market to come down fast so I can buy the home my family wants… However the institutional losses are so staggering if that crash occurs, I just do not see them letting it happen.
I am sure there are a myriad of flaws in my thoughts and I am being overly paranoid…yet I thought I would throw it out there… This couldn’t happen could it?December 19, 2006 at 3:52 PM #42087PerryChaseParticipant
What you are suggesting is exactly what happened in Japan, especially in the commercial sector. What did it get them? 15 years of stagnation (the lost decade).
We lectured Japan for years to bite the bullet and write off the bad debts, sell them and move on. From an economic standpoint, it’s better to let the market cleanse itself without intervention.
I hope that our regulators will have better sense than to permit such monkey business.December 19, 2006 at 3:58 PM #42088ibjamesParticipant
After seeing all the loans passed through the previous years, I have no faith in the “sense” of things anymore..
I was thinking the same thing. In the next couple years, knowing my luck, there are going to be some other types of crazy loans to delay the inevitable.
I can only hope that something starts the ball rolling more than single digit decreases as some think it will be.December 19, 2006 at 4:03 PM #42089Steve BeeboParticipant
It could happen with some lenders. But every lender is so different. I’ve heard anecdotally that certain banks are much more willing to negotiate in short sales right now, and some don’t seem to want to negotiate at all, even if it would be in their best interest to do so.
Don’t assume that banks will know how to manage their inventory of REOs. I remember from 1991 to 1995, that some banks were very poor managers of their new “assets”. Some didn’t have the right people in place to deal with their foreclosures. There was one bank called Northeast Savings, (no longer in business), that had a huge inventory of REOs in Southern California that they couldn’t unload. They ended up doing bulk sales to investor groups at something like 50 cents on the dollar.December 19, 2006 at 4:36 PM #42092doubledogdareParticipant
I think that what you’ve described is already happening. The LA Times had an article back on Dec 11th with this interesting statistic on option arms:
“In 2003, only about 8 of every 1,000 people buying a home or refinancing a mortgage in California got a pay option loan, according to San Francisco-based data tracking company First American Loan Performance”.
“Last year, 1 in 5 loan applicants got one.”
“In the first eight months of 2006…Nearly 1 in 3 California loan applicants are now choosing them.”
My hypothesis is that lenders are finding a way to refinance FBs with ARM resets into new option ARMs to delay defaults/foreclosures for another one to three years and hope that the boom years return to bail everyone out.December 19, 2006 at 4:40 PM #42091bgatesParticipant
I worry about the banks dragging it out too, but I think all we need is a few banks like the ones Steve is talking about to keep having short sales or foreclosures and steadily setting new, lower comps. It’s a prisoners’ dilemma – all banks are better off if they cooperate and extend the life of loans, but each bank individually would better off getting out from under bad loans as fast as possible.
And I should mention, whether the banks are able to stretch it out or not, whatever happens will be due to an enormous secret conspiracy run out of the White House for the benefit of the pentaveret.December 19, 2006 at 4:51 PM #42094SD RealtorParticipant
I agree with the consensus of all the posts… I am not thrilled with a more prolonged deterioration but what can I do…
Also there is a large factor that I do not understand yet either as I am but a simple engineer and realtor… What I do not understand is the process of mortgage backed securities… So my point is that I do not think any of these bad loans can be readjusted or tweaked correct? There are bond holders earning interest on these mortgages right? So in essence the lender or current owner of the loan would essentially have to offer an entirely new loan wouldn’t they? You cannot “tweek” or “alter” an existing loan.December 19, 2006 at 5:15 PM #42095bubble_contagionParticipant
In 1994, Mexican private banks were going to go bankrupt and the goverment save them. A similar scenario would be the worst outcome of the bubble bursting. The only English source of information I have about the matter is from Wikipedia. Below are some excerpts and the link.
“FOBAPROA (Fondo Bancario de Protección al Ahorro or “Banking Fund for the Protection of Savings”) is a controversial fund created in Mexico in 1990 to attempt to resolve liquidity problems of the banking system in that country. The Fobaproa was applied in 1994 during the economic crisis to protect all Mexican banks from going bankrupt, and thus destroying the Mexican Economy.”
“The Fobaproa assumed debt for 552 billion dollars (equivalent to 40% of GDP of Mexico in 1997 or 2/3 of the budget for 1998). Not applying the Fobaproa would have likely caused an interruption of credit and withdrawal from saving accounts for millions of families and thousands of companies.”
Nobody is accountable or went to jail for the fall out of the banks, only the tax payers remain with the debt payments that continue to take out a very large portion of the goverment tax revenue.December 19, 2006 at 6:55 PM #42098doubledogdareParticipant
I share your sense of bewilderment and frustration. Per your question on Mortgage Backed Securities (MBS), my understanding is that they are fully callable bonds. When a investor buys them (e.g., a pension or hedge fund), the portfolio manager needs to factor-in the probability of the bond being called (i.e., mortgage payed off early).
In my opinion, the REIC is very much incented to throw good money at bad by refinancing FBs into new option ARMs since: (1) they avoid default thus keeping the original MBS holder happy, (2) the originator gets revenue from writing a new loan and selling it into the MBS market, and (3) a new fund manager gets to buy new MBS’ to replace ones that have been called. Furthermore, the investment bank maybe able to assemble these refinanced FB option ARMs into larger packages with higher quality MBS to where the fund manager is somewhat insulated from the higher risk…and potentially get a higher yield.
At some point, the music has to stop…probably when the FBs have exhausted their equity, cash and other investments, and they are so far underwater that they can’t refinance or even make the first payment. However, with all the industry players incented to keep the party going, the “creativity” of the financial wizards at the i-banks and sheer inertia of the markets, I’ve given-up on hoping for homes in California to return to rational pricing in the near future.December 19, 2006 at 7:23 PM #42099The-ShovelerParticipant
Yea I to have come to the conclusion that the Government just see housing as being too big to fail, so no matter what happens there will be some form of rescue by the fed, Can you say hyperinflation anyone !!
Don’t know really , We will see I guess.December 19, 2006 at 9:16 PM #42102no_such_realityParticipant
We don’t need to look at Mexico. We already did it. Remember the S&L bailout? The S&L’s after having their investment options liberalized, got cleaned, then the taxpayers got cleaned.December 19, 2006 at 10:35 PM #42104powaysellerParticipant
SD Realtor, it seemed like a logical step to me too, but it’s a money loser for the investors. When I mentioned this restructuring possibility to a broker, he said the investors would not be willing to take a lower interest rate. The ARMs have a lower rate initially, but there was a price for that, via high prepay penalty and the loan’s interest rate moving with the market. So why would the MBS holder give someone a loan at below market rates? That is the question. A guy’s loan resets at today’s 6% rate (or whatever it is), and now the bank is supposed to let him rewrite it at 2% or 3% or whatever the teaser rate was, which is the rate he needs to keep affording the payment. So the investor is basically giving the guy a 50% reduction in interest, and halving his income. I don’t know if that is really in their best interest.December 19, 2006 at 11:07 PM #42107AnonymousGuest
SD Realtor, Powayseller, you both make detailed points that both seem to make sense in a contradictory kind of way. I wish I had a crystal ball. We have no way of knowing whether the banks will pick the “cooperate” or the “defect” card, and my feeling is that the scenarios the bloggers have laid out here tend to reflect their particular take on this dilemma.
I am no economist, but I’ve lived long enough to know that in every one of these conundrums there are winners and there are losers. It’s not a zero sum game, no one is going to come out with all the dough and unscathed, but some will come out of it better than others.
So, who are the actors in this play? Which of them has the power necessary to shape the debacle in such a way that he/she/they/it may land on their feet? When the poop hits the fan all the actors are going to play their cards for all they are worth.
As far as I can tell with my limited knowledge (and forgive me if I am oversimplifying) we have
Of course there are huge variations within each of these groups, but in the final tally those are the major “interest” groups, and two of them are going to be losers.
So, what’s your take? Who gets screwed more than anyone else? My money is on the unfortunate FB’s. I would venture that they get screwed up not once, but twice: a. because all the alternatives you have laid out imply they either lose their house or stay in it as debtor-slaves. b. because the government is going to use taxpayer’s money to either bail out lenders or create inflation or do whatever it is they are going to do.December 19, 2006 at 11:17 PM #42108jztzParticipant
There is still a lot of liquidity in the global financial market searching for returns. As long as that persists, then there will be lenders willing to extend risky loans (because cheap money is available), and as long as lenders are willing to continue to extend risky loans, then housing prices will not drop drastically.
It also happens that there are a lot of financial players (hedge fund, private equity funds) who are highly leveraged, because volatility has been low. In fact, high risk assets (emerging market debt, junk debt) have very low spread currently. How does it relate to housing? In comparison, a mortgage backed security seems like a “safe” bet with decent yield. After all, it has the house as collateral and may have mortgage insurance and/or Fannie or Freddie’s guarantees.
I really believe that the global financial markets are operating on the edge. Although no one knows what may tip it over and when, it seems that sooner or later risky assets will need to have higher yield — once the market demands that, no lender can afford to extend easy loans anymore.
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