Selling Mortgage Loans on the Side of the Freeway: The Reckless Bailing out of the US Housing Market by Government Agencies.
I’ve learned as this market continues to unwind that many proposals issued out by our government carry a lot more bark and have very little bite. Yet there are some proposals that flat out irritate me because they strike at the core of what is ethical and are diametrically opposed to what any sane capitalist system would stand for. What makes many of these proposals worse is that the corporate sector has been calling for hands off approaches from the government during the boom times but now that the inevitable correction is occurring, they want handouts as if they were walking up to a shelter asking for a golden cot. The market in the last few days has witnessed a much needed cleansing. Think about the monoline insurers and the back and forth bailout talk that lasted for a few months. Initially, it was thought that $10 to $15 billion would be enough to bailout these insurers but the reality is that the counterparty risk is much more profound and losses can range in the hundreds of billions. How insane is this? How can a company be rated AAA and be asking for a bailout? Welcome to the Orwellian world of our current economic situation.
The systemic problem isn’t going to be solved by lowering Fed rates or handing out Wal-Mart vouchers to people so they can go spend on useless imported trinkets. Trinkets that in fact got us into this problem in the first place! Now the prospect of tighter credit is sending people running around like a chicken with its head cutoff. You should not create policy because of panic or negotiate out of desperation. I am actually very disappointed in the way our political leaders of both parties are handling this situation. Think of some of the stupidity going on and the mixed messages that are being sent out. You have some of the most idiotic grandstanding going on in the history of US economics. Take a look at this from way atop the food chain:
“We’re at the very early stages of discussion,” Bush said. “Anything that would be submitted to Congress … would have to be revenue-neutral.”
A Treasury Department study, released earlier this year, showed the federal corporate tax rate could be cut from 35 percent to 27 percent with the same amount of revenue collected if a number of corporate tax breaks were eliminated, thereby broadening the tax base.
However, such a move would likely trigger a firestorm of protest as various groups would seek to protect popular tax breaks such as the research and development credit.
“What we’d really be talking about is a simplification of a very complex tax code that might be able to lower rates,” the president explained. “However, I would readily concede to you that this is a difficult issue.”
How in this green planet is dishing out a $150 billion stimulus package revenue neutral? The above statement was said in August of 2007 right when the credit crunch was in its infancy. Even then, they were discussing lowering the corporate tax rate from 35 percent to 27 percent. You mean you want to give tax break to all those companies on Wall Street that fleeced the American public during this housing bubble? I’m sure that is a fantastic way to get the economy going. Of course this revenue-neutral idea is coming from an administration that is invested in an extremely costly war yet at the same time, wants to lower taxes further and further. Apparently the rules of economics stop at 1600 Pennsylvania Avenue. You would think that at a certain point, some people would be getting it but apparently they are not. I’m sure many of you realize that subprime mortgages make very little financial sense and that we’d be in much better shape without them. This is obvious. No money down and jumbo loans for those with little income should realistically be renting a place or purchasing a lower priced home. But guess what? The government through the FHA, which has a mission toward affordable housing is now talking like one of the 230+ defunct subprime lenders! Take a look at another idiotic proposal that was on CNN today:
“NEW YORK (CNNMoney.com) — By early April, both chambers of Congress are likely to tie the bow on a bill that would expand the reach of the Federal Housing Administration (FHA), which aims to provide safe loan alternatives to subprime mortgages and make homeownership more accessible.
The FHA program is intended for mortgage borrowers with weak credit or little or no cash who may not be able to get an affordable mortgage elsewhere.
Permanently raise loan limits. The economic stimulus bill passed in February temporarily increased the limit on loans eligible to be FHA-insured. The ceiling until Dec. 31, 2008 is now $729,750, up from the normal $362,790 for single-family homes. Those are the ceilings for high-cost areas. The ceiling is lower in low-cost housing markets.
Reduce down payment requirements. Homeowners would no longer be required to have 3% equity or the cash equivalent to get an FHA-insured loan. The House bill would allow borrowers to get an FHA-insured loan with 0% down if they can show they can afford the mortgage payments. The Senate bill requires 1.5%.
Make it easier for borrowers in high-cost loans to refinance. The House bill would let some homeowners in default or at risk of default refinance into an FHA-insured loan.”
Holy crap! Are you kidding me? The FHA is intended for mortgage borrowers with weak credit or little or no cash? They flat out sound like a 1:00PM mortgage ad that we would see in between Judge Judy and Maury Povich. After reading the above proposed lunancy I went straight to HUD to see what their mission stated on their website:
“The mission of the Office of Housing is to:
– Contribute to building and preserving healthy neighborhoods and communities;
– Maintain and expand homeownership, rental housing and healthcare opportunities;
– Stabilize credit markets in times of economic disruption;
– Operate with a high degree of public and fiscal accountability; and
– Recognize and value its customers, staff, constituents and partners.”
How from this mission they derive the mandate to raise caps in high priced areas to $729,750 is beyond me. If you look at the three new major items proposed they are even considering doing 0% down loans! What in the world? The last item is flat out hallucinogenic. How are they going to let those that are already in default refinance into an FHA mortgage? We already know that FHA loans are amortized over 30 years with principal and interest and by looking at the data on recent foreclosures, most people are unable to afford their payments because the price of the house was too high! It has little to do with the mortgage. Yes, we have our absurd subprime loans that reset but we are now seeing option ARM mortgages to prime borrowers go in to default even before they recast. And the teaser rate is surely much lower than a fully amortized 30 year mortgage that would be offered by the government. What the above proposal does is converts the government as a subprime insurer. Why worry about Ambac or MBIA when our government is going to be pushing out subprime loans. I love that “show they can afford their payments” caveat. Well if they can afford their payments, then it shouldn’t be a problem for them to save up 10 percent for a down payment. Such knee jerk reactions are only adding fuel to the flame. None of our politicians have the guts to tell people that speculated or paid way too much for a home this:
“You made a choice. A conscious free market choice. No one forced you to sign on the dotted line. We do sympathize for those that lost their job and are no longer able to make their house payments. But those of you who bought in high priced areas such as California and Florida tough. That was a decision brought on by your own free will. The government will not step in to help you, the lenders, or Wall Street for irresponsible lending. See, this would encourage and reward future behavior that will once again lead us into the same predicament. Many of you have the option of renting and this may be a more prudent economical choice for you and your family. Homeownership is not a right. It is an earned privilege gained by saving and managing finances wisely. Should you wish to own in the future you can take the appropriate steps to save and purchase a home when economically it makes more sense without risky financing.”
This may seem a bit harsh but owning a home isn’t a right. You earn it. This is something that is completely in your own control. This isn’t healthcare where unfortunately sometimes you do not have the choice of becoming ill. I’m sure many of you can delineate between unforeseen circumstances and flat out decisions that are entered upon by your own free will. Why is housing more of a privileged then say, owning a Ferrari? Why shouldn’t we go out and bailout those that bought high priced cars and are having trouble paying them? Many of you may disagree that we have yet to see any bailout. Well I will direct you to the massive loan Countrywide receieved from the Federal Home Loan Bank. Professor Nouriel Roubini sums up the covert bailout nicely in a testimony he gave to the Financial Services Committee on February 26, 2008:
“Finally, the widespread use of the FHLB system to provide liquidity – but more clearly bail out insolvent mortgage lenders – has been outright reckless. Countrywide alone – the poster child of the last decade of reckless and predatory lending practices – received a $51 billion loan from this semi-public system; in the absence of this public bailout Countrywide would have ended up where it should, i.e. into outright bankruptcy. And the largesse of the FHLB system does not stop at Countrywide. A system that usually provides a lending stock of about $150 billion has forked out loans amounting to over $750 billion in the last year with very little oversight of such staggering lending. The risk that this stealth bailout of many insolvent mortgage lenders will end up costing massive amounts of public money is now rising.”
And of course this was done in as discreet of a fashion as possible to keep the public from panicking and running around with their underwear on the outside yelling that they can no longer survive without their HELOC. But over the weekend, the FBI announced that it would be investigating Countrywide for securities fraud:
“NEW YORK (Reuters) – Countrywide Financial Corp shares dropped 14 percent to a 13-year low on Monday following reports the largest U.S. mortgage lender was being investigated by the FBI for possible securities fraud.
The decline in the stock came even as Bank of America Corp the No. 2 U.S. bank, indicated it will move ahead with its roughly $3.7 billion acquisition of Countrywide.
Investors are concerned that the bank might renegotiate or abandon the purchase, which it announced in January and has said it expects to close in the third quarter.
Scott Silvestri, a Bank of America spokesman, said Monday: “The transaction is on track.”
Countrywide is being investigated over whether it misrepresented its financial condition and the quality of its loans in securities filings, according to reports in the Wall Street Journal and the New York Times over the weekend. The papers cited people with knowledge of the case.”
Money well spent FHLB! As we discussed in a previous post digging into the numbers at Countrywide, there is so much going on here that we have now put the lunatics in charge of the mental asylum. We are looking at a wiping out of equity to the tune of $4 to $6 trillion depending on the severity of the correction. Since the market bottom has fallen out, we either accept the fact that a correction is needed or we keep putting on bandaids trying to mask the problem. The magnitude of this is so large and we are in such dismal shape with our gargantuan debt, that we are running out of options. Oil hit $108 today and gold is still flirting with $1,000 per ounce. The 63,000 job loss number from last month does not bode well either. How people can still think we are not in a recession is totally beyond me.
So what are some solutions? I’ve had to stop and seriously think about some of the options on the table because the cowboy approach of taking your knocks is not the road we are going towards. The OTS option of negative-equity certificates may not be such a bad option. Here is why. For one, if you are an owner of a home and you really want to stay in your house, you can have your lender rework your loan to current market prices and the difference between the new mortgage balance and the previous balance is now a long-term IOU to the lender. This is done between lender and borrower. If your main objective is not losing your home, then you get to stay in your place. However, say prices do go up in the future and you do sell your home, the lender is entitled to that original balance. This helps in a few ways. First, it avoids the moral hazard of folks who were prudent and paid on time from going Lord of the Flies and foregoing to pay their mortgage simply to reduce their principal. It also gives lenders and incentive to write down their mortgages. Of course this probably won’t fly because lenders want to off load all their toxic radioactive mortgage junk onto the government books and have you and every other responsible American foot the bill. And many current owners don’t want to admit that they became speculators and cannot foresee a world without 20 percent annual gains on their piece of land.  So they walk away. But that is their choice. No need to reward this behavior. And when we say walk away we mean people consciously choosing not to pay their mortgage and letting the entire default process work its way through. This of course could take months and I’m sure there will be many living rent free for awhile. Back to putting the loans on the government books, once those loans get on the government ledger, God help us all. If you are losing, doubling down will only compound your losses.
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18 Responses to “Selling Mortgage Loans on the Side of the Freeway: The Reckless Bailing out of the US Housing Market by Government Agencies.”
Doctor,
I enjoy your blog and rhetoric that goes along with it; but please realize some of us did speculatively buy real estate in California and Florida realizing full and well it was a gamble for any long-term ownership. Just as equally, the mortgage industry speculatively loaned money with the same goals in mind.
However, please don’t assume we are all asking for a government-sponsored bailout – because that just isn’t the case. That doesn’t mean I won’t ask my lender for help; I have but I’m certainly not going to call my Senator/Representative and tell him/her to enact legislation to help me because I’m an idiot.
Hindsight is always 20/20; wish I would have found your blog about four years ago.
Every week you hear a new idea that is far worse than the previous bailout idea. The problem is that corporations are running the show here. It should be obvious to any intelligent person who understands the current situation. They are the ones throwing millions of dollars at these politicians and pleading for government help. The only politician I have heard with any common sense is Ron Paul. Let the market correct itself and let home prices retreat to the historic fundamentals.
Median Income x 3. End of Story. I don’t think there are too many people in our society willing to buy a 700,000$ 2 bedroom shack with 20% even if they could afford the payments. Prices still have a long way to go and nothing will impede the correction.
I would have shorted Countrywide back in July from $50 to $10 if I had the money. I’ve been following your site for the last 2 years. You’ve been dead on and I wish I was old enough or rich enough to make money off of this mess. I’m currently buying Silver Eagles, which are the US Mints version of the one ounce pure silver coin.
good luck everyone!
I wonder if they’ll also bail out the rising tide of defaulting auto loans and credit cards. Why not? It’s only a few more 10s of billions of $$. How were these poor consumers to know that they couldn’t really afford a 700k home AND a new Escalade (with $4000 wheels) on 60k/yr?
I get too mad to even think about our government even considering a bailout of any kind.
The government luckily has no money to afford any bailout. Do you think one of us should tell them this inconvenient fact!!???
Seriously, Im not an economist at all. I’m an Architect! Tell me how I know more about this housing bubble / bust than these bozos who get paid ten times more than me??? I’m left with the indisputable fact that Wall Street are a bunch of white collar criminals.
Seems like most of the solutions being offered involve more inflation and ways to foster inflation. Maybe the $150 billion bailout is considered “revenue neutral” because the government isn’t planning on taking in any extra money through taxes or borrowing more to fund the bailout. If the Fed can offer $200 billion to the banks in one day, it can probably swing another $150 billion in devalued dollars in a few more months.
I just can’t even read the news or hear our government officials talk about this stuff. It’s cringeworthy. It’s insane. It gives me a sense of vertigo, because damn, these people have REAL POWER. And they are squandering it without, it seems, even thinking through what the long-term consequences will be.
I pretty much expect corporations to push the envelope, and if there is not government oversight preventing them from doing so, you can expect them to lie/cheat/steal rampantly in order to make a buck. Corporations by their very nature are not particularly ethical or concerned with the general welfare. But the gov’t is at least supposed to give the *appearance* of being concerned with the general welfare!!
Instead they are making the dollar worthless, bailing out these big corporations, making AAA ratings a worthless joke, and concocting nonsensical and desperate strategies to let the most irresponsible among us off the hook, at the expense of all of the rest of us.
All this while we have a ridiculous, tragic war going on and 1 out of every 100 citizens is incarcerated.
I am no radical but it’s enough to make me think seriously about moving to Europe or Canada. I know those countries have their problems, too, but it seems like the proposed solutions are at least seriously considered with the general welfare, and the laws of economics, in mind.
Calm down over the loan limit changes to the FHA, Freddie and Fannie, First, for those at or below certain income levels, DPA (Down Payment Assistance Programs) have always been available for FHA loans. Using a DPA means the buyer has nearly nothing in the deal. FHA HAVE A VERY VERY LOW DEFAULT RATE. They can raise the loan limits on FHA all they want. THe stiking point of FHA loans is and alwyas has been the DTI caps – not more than 31% of gross for mortgage, taxes and insurance; and not more than 41% of gross for mortgage,taxes, isurance, car payments, credit card debt and other fixed debt. Doesn’t matter what the loan limit is if the buyer can not meet the DTI. A $729,000 loans needs a $21,870 downpayment. That means a mortgage of $707,130. That means a payment with taxes and insurance of around $5657 (assuming 6.5%). That means an income of $218,982 minimum. That means other debts of no more than $1,824 a month for cars, credit cards, student loans and other fixed debt. Oh yeah- and every penny of income documented up the wazoo. So the strawberry picker will not be purchasing that $700,000 house with a FHA loan.
DItto raising the Freddie/Fannie limits. So what? Freddie/Fannie are requring 20% typically with only some being able to get by with 10% down. And then there are the same DTI rules and full documentation of income (and self-employed can do that – they just need 3-5 years of tax returns and good accounting records.)
AnnScott – You are right, for now. But the point is this is a slippery-slope. How long before the rules of the game are changed again to allow a smaller down payment? No income verification? Elimination of the DTI?
This is one more step towards a full government bail-out of the financial institutions. It will happen in steps, and it’s coming. The system is being gamed and prepped for the bail-out. These people know what they are doing.
The question is: What happens after the Bail Out?
Foreign central banks, foreign individuals and institutions now fund 50% of the national debt; are 40% of the state and municipal bond market, and have been 20% of the mortgage securities markets according to last weeks testimony before the Senate Budget Committee last week.
Because insurers of state and municipal bonds are also insurers of mortgage backed securities the municipal bond market began melting down two weeks ago with some bond auction interest at 15%. Foreign investors are starting to pull out of the US bond market because of US economic policy. The Good Doctor has noted some of these hairbrained policies.
The US economy is dependent on foreign capital for the first time in its history.
Yesterday’s move by the Fed and central banks to lend $200 billion to mortgages securities holders in return for the pledge of mortgage securities portfolios should provide some stability in the value of portfolios, provide ample liquidity, and help quell foreign investor’s market jitters.
realestateblockman – Provide stability and quell fears … for how long? This is all happening because house prices are falling. House prices will continue to fall – look at all the defaults in the pipeline and the growing inventory of houses.
This is only delaying an economic correction. Are they going to due another $200 billion in June? What about October? The banks have 28 days to come up with the money. This Fed loan only makes sense if you are trying to prop up stocks long enough to dump ’em and run.
So why did the market soar today. It wasn’t because Eliot Spitzer disgraced himself. It was because the camel got his nose in the tent. The Fed is providing the full faith and credit of the United States government in return for GSE insured mortgage securities. Those so-called AAA GSE backed securities were losing value because the GSE issuers were losing money. The GSE issuers were losing money because the loans made by them increasingly aren’t being paid back. As the GSE insured securites declined in value, banks that had loaned money to funds to buy them were making margin calls. The funds that had borrowed the banks money to buy the GSE issued securities could not meet those margin calls necessitating the banks to sell off the GSE issued securities to get their money back…. which has forced the Federal Reserve to issue a back door guarantee of GSE insured mortgages. Next step, allowing the Social Security Trust fund to ‘redeem’ the US treasury bonds it holds for ‘higher yielding’ mortgage debt but they won’t get if for 30, 40 or even 70 cents on the dollar. No
they will get if for 100% on the dollar.
“Wall Street finally found a reason for a huge rally Tuesday after the Federal Reserve said it plans to pump $200 billion into the financial markets to help ease the strain from the credit crisis. The Dow Jones industrial average shot up more than 416 points, its biggest one-day point gain since July 2002.”
As noted by noted Anthony Conroy, managing director and head trader for BNY ConvergEx Group, “It’s not just a rate cut. I think it’s a very creative way to do financing,” “It shows the Fed is willing to do things that are a little out-of-the-box to shore up credit issues. I really think they went to the heart of the issue.”
Creative financing and going outside of the box to approve mortgage loans… isn’t that what helped get us into this mess in the first place?
Yay, the banks will dump their problems on the government. I can’t see how this is going to be much help to housing. Food, Education and Energy prices are still surging and salaries are not exactly keeping pace with real inflation. I don’t know, will it prop up prices here in Los Angeles? How long will I have to rent? My three year old would really like a spot of grass….
Folks, get ready and fasten your seatbelts. Looks like we are headed for a 1929 style crash. No one knows when, but it’s coming. The country will have a better sense of “how bad” depending on who is elected this November. Does anyone remember the game show the Price is Right, and the losing horn for contestants that made a wrong guess? That’s the marching band anthem for America in these early stages of the 21st Century. All powered by corporate/individual greed, and a federal government that can’t manage it’s way out of a paper bag.
Oh, and by the way Benny, your doing a hell of a job at the Fed. If anyone can see the problem, you would think it would be you and not Ron Paul touting the mantra of let the market correct itself, houses worth 3X income, end of game.
This problem is only going to get worse with government tinkering and what really pisses me off is that good ole’ John/Jane Q Public are going to be left holding the bag while high powered corporate/government leaders are let off the hook. And to boot, prices will remain EXTREMELY over valued. I say let the system CRASH, that’s what’s needed now.
I agree except that I don’t feel homeowners are always at fault. That is assuming everybody is financially savvy. I don’t have much sympathy for speculators who jacked up prices, causing others to pay more. In my area, there were many condo-conversions a couple of years ago and was hard to even find a descent place to rent. Mostly at fault are the lenders who unwisely gave out so much money. THEY are the FINANCIAL EXPERTS. You can’t assume everybody knows how to manage money like experts. The lenders, wanting to make a quick buck, failed to responsibly lend money and warn borrowers of the danger of ARMs and of borrowing beyond there means.
What do you guys think of this story?
Home speculators strike gold in California
http://news.bbc.co.uk/2/hi/business/7289292.stm
“How long will I have to rent?”
As long as it takes. That is the appropriate answer. Or more specifically, until the credit mess blows over and the lending standards are returned to sanity one way or another.
The easiest thing to do is to take that idea of homeownership and put it out of your mind completely for the next several years…don’t even think about it.
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