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Allan from Fallbrook
ParticipantDa Counselor,
Another really good book (when it comes to financial market debacles) is Roger Lowenstein’s, “When Genius Failed” (subbed “The Rise and Fall of Long-Term Capital Management”).
There are some significant parallels between LTCM’s 1998 meltdown and the coming MBS CDO/CDS meltdown. As of late, I am reminded of a couple of great expressions. One from Las Vegas that goes: “There’s a sucker in every game and, if you can’t find him at the table, it’s probably you”, and the Wall Street adage, “Never panic. But if you do panic, panic first”.
Bear Stearns is doing their best to “take one for the team” in trying to keep the damage localized but, given the size of the MBS CDO/CDS market, it looks increasingly beyond their ability to control. If/when that happens, it will be a bloodbath, as investors scramble for the exits and dump these securities at fire sale prices.
Interestingly, this same phenomenom will probably occur in the housing market at some point if the number of REOs and price-slashed builder properties overwhelms a local market’s ability to absorb underpriced excess inventory.
You can spell “tranche” either way. I have viewed numerous prospecti using both spellings.
ParticipantLA_Renter,
Yup, yup and yup.
ParticipantLA_Renter,
Yup, yup and yup.
ParticipantSD Realtor,
I was working as a CFO for a large Orange County insurance brokerage in 1994. At the time, the large investment houses, including Bear Stearns, Merrill Lynch and Lehman Bros, were making the rounds selling derivatives on margin. These were the same investment products that the Comptroller of Orange County had recently purchased, and they were being heavily touted throughout the Orange County institutional and commercial investment market as a result.
I sat through a presentation at our office in Tustin given by Merrill Lynch. My boss, the CEO, was an MBA (Ohio State) and a former Bear Stearns guy. I remember feeling somewhat embarrassed because I had no idea what the hell the Merrill guy was talking about, but figured that my boss did. Lo and behold, he was just as confused as I was. We both agreed that we shouldn’t invest in something neither of us understood. Shortly thereafter, Orange County went bankrupt due to a margin call on their derivatives position.
The point I am making is this: All of these CDO (collateralized debt obligations) and CDS (credit debt swap) products backing these mortgages (sub-prime and Alt.A) are part of a largely unregulated and little understood section of the market. I don’t think we (the general public) have clue one as to how bad the fallout could potentially be, but if Orange County in 1994 is any example, it could get real ugly.
Your comment on valuation was bang on the money. What Bear Stearns is facing in particular right now is the investor backlash surrounding misrepresented value (overstated) and risk (understated). Bear Stearns has a $20B position in the sub-prime market, and is absorbing losses at a frightful pace right now.
You did spell tranch correctly, btw.
Regards
ParticipantSD Realtor,
I was working as a CFO for a large Orange County insurance brokerage in 1994. At the time, the large investment houses, including Bear Stearns, Merrill Lynch and Lehman Bros, were making the rounds selling derivatives on margin. These were the same investment products that the Comptroller of Orange County had recently purchased, and they were being heavily touted throughout the Orange County institutional and commercial investment market as a result.
I sat through a presentation at our office in Tustin given by Merrill Lynch. My boss, the CEO, was an MBA (Ohio State) and a former Bear Stearns guy. I remember feeling somewhat embarrassed because I had no idea what the hell the Merrill guy was talking about, but figured that my boss did. Lo and behold, he was just as confused as I was. We both agreed that we shouldn’t invest in something neither of us understood. Shortly thereafter, Orange County went bankrupt due to a margin call on their derivatives position.
The point I am making is this: All of these CDO (collateralized debt obligations) and CDS (credit debt swap) products backing these mortgages (sub-prime and Alt.A) are part of a largely unregulated and little understood section of the market. I don’t think we (the general public) have clue one as to how bad the fallout could potentially be, but if Orange County in 1994 is any example, it could get real ugly.
Your comment on valuation was bang on the money. What Bear Stearns is facing in particular right now is the investor backlash surrounding misrepresented value (overstated) and risk (understated). Bear Stearns has a $20B position in the sub-prime market, and is absorbing losses at a frightful pace right now.
You did spell tranch correctly, btw.
Regards
ParticipantSD Realtor, you make some good and valid points. I would point out a few others as well. First off, we’ve never been here before, meaning the market has never seen a bubble of this size in any asset class in history.
Second, the level of exposure in financial markets has not been fully felt, meaning the true size of the problem is only now becoming apparent. When you hear a constant and consistent drumbeat regarding the banks, investment houses, hedge funds, pension funds and their concerns about sizeable losses in the mortgage markets and beyond, it is apparent that something very bad is in the offing. There are investors in the mortgage backed securities markets selling off at approx. 11 cents on the dollar. This is not the behavior of someone who believes they are occupying a solid position. In the business, this is called a fire sale.
Lastly, while I think the big players such as Lennar, Toll Brothers and Pulte will indeed ride this out, they are sustaining catastrophic losses right now, in some cases between $125MM and $250MM in just the last quarter alone. Bob Toll, the CEO of Toll Brothers, who is generally a very optimistic guy when it comes to housing, has stated in no uncertain terms that the housing market is a long way from bottom and it is going to hurt a lot to get there. Toll Bros does not construct middle market tract homes; they are a luxury home builder, catering to the high end of the market. The market segment least likely to default and most likely to hold a fixed mortgage product and not a sub-prime loan. What this means is that the consensus view that this will be confined to the sub-prime middle market buyer is probably wrong.
As strange as it sounds, given this little epistle, I am not doom and gloom. I don’t think things are going to crash, but I also realize that we are seeing an event never before seen, and something that is dwarfing the NASDAQ boom and bust in terms of size.
ParticipantSD Realtor, you make some good and valid points. I would point out a few others as well. First off, we’ve never been here before, meaning the market has never seen a bubble of this size in any asset class in history.
Second, the level of exposure in financial markets has not been fully felt, meaning the true size of the problem is only now becoming apparent. When you hear a constant and consistent drumbeat regarding the banks, investment houses, hedge funds, pension funds and their concerns about sizeable losses in the mortgage markets and beyond, it is apparent that something very bad is in the offing. There are investors in the mortgage backed securities markets selling off at approx. 11 cents on the dollar. This is not the behavior of someone who believes they are occupying a solid position. In the business, this is called a fire sale.
Lastly, while I think the big players such as Lennar, Toll Brothers and Pulte will indeed ride this out, they are sustaining catastrophic losses right now, in some cases between $125MM and $250MM in just the last quarter alone. Bob Toll, the CEO of Toll Brothers, who is generally a very optimistic guy when it comes to housing, has stated in no uncertain terms that the housing market is a long way from bottom and it is going to hurt a lot to get there. Toll Bros does not construct middle market tract homes; they are a luxury home builder, catering to the high end of the market. The market segment least likely to default and most likely to hold a fixed mortgage product and not a sub-prime loan. What this means is that the consensus view that this will be confined to the sub-prime middle market buyer is probably wrong.
As strange as it sounds, given this little epistle, I am not doom and gloom. I don’t think things are going to crash, but I also realize that we are seeing an event never before seen, and something that is dwarfing the NASDAQ boom and bust in terms of size.
ParticipantWhile I definitely agree most of the bleeding right now is confined to the sub-prime market, it appears that the pain is starting to spread into the Alt.A market as well.
I live in Fallbrook, and the majority of homes here are older. There are some newer developments but, by and large, the homes here have been here for a while.
The interesting thing to note is this: The people getting hit locally with NOD/NOT/foreclosure notices are upper income, white collar professionals. My information is anecdotal, but this is a small community and people talk.
While Temecula/Murrieta (north of us) have been widely pilloried as a bad example of what happens when over building and easy money collide, it appears more gentrified areas like Fallbrook, Vista and Bonsall are not immune either.
Unlike others, I am not forecasting a housing collapse, but I do think the correction is going to be ugly and I think we are nowhere near bottom yet.
It also appears that the news coming out of Wall Street supports the assertion that the major issues surrounding the sub-prime debacle are beginning to spread into the Alt.A and prime markets as well. Lehman Bros pulled a $1B warehouse lending line from HR Block’s mortgage lending unit, pension funds are admitting their exposure to undervalued mortgage backed securities and UBS fired their CEO (as a direct result of their exposure in the mortgage market).
ParticipantWhile I definitely agree most of the bleeding right now is confined to the sub-prime market, it appears that the pain is starting to spread into the Alt.A market as well.
I live in Fallbrook, and the majority of homes here are older. There are some newer developments but, by and large, the homes here have been here for a while.
The interesting thing to note is this: The people getting hit locally with NOD/NOT/foreclosure notices are upper income, white collar professionals. My information is anecdotal, but this is a small community and people talk.
While Temecula/Murrieta (north of us) have been widely pilloried as a bad example of what happens when over building and easy money collide, it appears more gentrified areas like Fallbrook, Vista and Bonsall are not immune either.
Unlike others, I am not forecasting a housing collapse, but I do think the correction is going to be ugly and I think we are nowhere near bottom yet.
It also appears that the news coming out of Wall Street supports the assertion that the major issues surrounding the sub-prime debacle are beginning to spread into the Alt.A and prime markets as well. Lehman Bros pulled a $1B warehouse lending line from HR Block’s mortgage lending unit, pension funds are admitting their exposure to undervalued mortgage backed securities and UBS fired their CEO (as a direct result of their exposure in the mortgage market).
ParticipantScruffy,
LTCM was not bailed out by the US government; rather a consortium featuring Fed Reserve Bank of NY, Citigroup, Lehman Bros and the rest of the Wall Street usual suspects banded together and pumped enough money into LTCM to prevent a full-blown meltdown. Had this meltdown occurred, it would reverberated throughout the financial markets with devastating effect.
I mention LTCM for two reasons: (1) You don’t have your facts straight on this topic, or, it appears, regarding real estate, and (2) What is occurring right now with the sub-prime mess specifically as it relates to Wall Street players like Bear Stearns and Merrill Lynch is about to have the same long-term implications.
Bear Stearns and the rest of the investment houses are facing a similar meltdown and are being forced to buy back securities totaling billions of dollars. These securities, which were offered as being valuable investment instruments are now considered nearly worthless (see “4plexowners” link regarding selling these for 11 cents on the dollar).
Do you believe for a second that these billions of dollars worth of securities hitting the market at fire sale prices are not going to have a profound effect on banks, mortgage houses and financial brokerages throughout America and the world? These securities, in essence, were the backing for all of those “suicide” and “liar” loans getting ready to reset at significantly higher rates of interest.
What will happen to the foreclosure market then? More importantly, what will this mean for new underwriting and credit reporting guidelines?
You are seriously delusional if you think mortgage lending and housing are going to be anywhere near healthy again anytime soon.
We have just hit a couple of bumps on the road leading off of the cliff. The precipice is ahead and the brakes just failed. Enjoy the ride.
ParticipantScruffy,
LTCM was not bailed out by the US government; rather a consortium featuring Fed Reserve Bank of NY, Citigroup, Lehman Bros and the rest of the Wall Street usual suspects banded together and pumped enough money into LTCM to prevent a full-blown meltdown. Had this meltdown occurred, it would reverberated throughout the financial markets with devastating effect.
I mention LTCM for two reasons: (1) You don’t have your facts straight on this topic, or, it appears, regarding real estate, and (2) What is occurring right now with the sub-prime mess specifically as it relates to Wall Street players like Bear Stearns and Merrill Lynch is about to have the same long-term implications.
Bear Stearns and the rest of the investment houses are facing a similar meltdown and are being forced to buy back securities totaling billions of dollars. These securities, which were offered as being valuable investment instruments are now considered nearly worthless (see “4plexowners” link regarding selling these for 11 cents on the dollar).
Do you believe for a second that these billions of dollars worth of securities hitting the market at fire sale prices are not going to have a profound effect on banks, mortgage houses and financial brokerages throughout America and the world? These securities, in essence, were the backing for all of those “suicide” and “liar” loans getting ready to reset at significantly higher rates of interest.
What will happen to the foreclosure market then? More importantly, what will this mean for new underwriting and credit reporting guidelines?
You are seriously delusional if you think mortgage lending and housing are going to be anywhere near healthy again anytime soon.
We have just hit a couple of bumps on the road leading off of the cliff. The precipice is ahead and the brakes just failed. Enjoy the ride.
ParticipantWhy buy now? We bought in Fallbrook in 2003 for $425k. During the subsequent run-up, price on our house went all the way to $810k (based on neighborhood comps). Several houses in the neighborhood sold at that point and most of them are either back on the market (and not moving) or in some stage of foreclosure.
Our house has settled back into the mid- to low- $600k range. The five houses in our immediate neighborhood that have been for sale since the beginning of the year are all back off of the market. In talking to the neighbors, only one had a decent offer and the offeror had to back out because they couldn’t qualify for the mortgage. Four of the five houses were for sale for the better part of four to five months with little foot traffic and no serious offers.
While I realize this is anecdotal and not hard data, it does point to the fact that the pool of buyers is getting rapidly smaller due to new lending guidelines (and the higher cost of funds) and the intrasigence of sellers in accepting that this isn’t 2005 (or even 2006).
Once you add in the inventory overhang (with builders slashing prices and offering significant incentives), it would seem that while a crash might not be in the offing, a sizeable “correction” is.
I would definitely wait before taking the plunge, and wait for at least a year, if not 18 months.
ParticipantWhy buy now? We bought in Fallbrook in 2003 for $425k. During the subsequent run-up, price on our house went all the way to $810k (based on neighborhood comps). Several houses in the neighborhood sold at that point and most of them are either back on the market (and not moving) or in some stage of foreclosure.
Our house has settled back into the mid- to low- $600k range. The five houses in our immediate neighborhood that have been for sale since the beginning of the year are all back off of the market. In talking to the neighbors, only one had a decent offer and the offeror had to back out because they couldn’t qualify for the mortgage. Four of the five houses were for sale for the better part of four to five months with little foot traffic and no serious offers.
While I realize this is anecdotal and not hard data, it does point to the fact that the pool of buyers is getting rapidly smaller due to new lending guidelines (and the higher cost of funds) and the intrasigence of sellers in accepting that this isn’t 2005 (or even 2006).
Once you add in the inventory overhang (with builders slashing prices and offering significant incentives), it would seem that while a crash might not be in the offing, a sizeable “correction” is.
I would definitely wait before taking the plunge, and wait for at least a year, if not 18 months.
ParticipantJWM points out that the bigger picture here has less to do with real estate and more to do with the Fed’s monetary policy.
After the NASDAQ bust in 2000, the Fed engaged in a frenzy of rate cuts, so designed to stave off recession and cushion the larger economy from the impact of the bust (which eliminated $4 trillion worth of wealth in a 2.5 year period).
The problem was that, similar to the Dollar Bust in 1997, which sent Asian countries into a tailspin, the money had to go somewhere. Add in the Chinese central banks buying dollar denominated assets to shore up the yuan, and you have a helluva lot of cheap money seeking assets to buy.
The real estate industry, the banking/mortgage industry and the Fed all have a vested interest in selling the notion of a “soft landing” for real estate. The Fed is terrified of hiking rates, to the extent that they are virtually ignoring rising costs of everything from fuel to food and claiming that inflation is “contained”. They will be forced to raise rates again and then it will get uglier still.
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