by Calculated Risk on 5/22/2008 05:21:00 PM

From the Comptroller of the Currency: Comptroller Dugan Tells Lenders that Unprecedented Home Equity Loan Losses Show Need for Higher Reserves and Return to Stronger Underwriting Practices (hat tip Steven)

Comptroller of the Currency John C. Dugan said today that accelerating losses in the home equity business show the need to build reserves and to return to the stronger underwriting standards of past years.

Home equity loans and lines of credit grew dramatically in recent years, more than doubling, to $1.1 trillion, since 2002. In part, that’s because of the rapid appreciation in house prices, the tax deductibility feature of home equity loans, and low interest rates.

“But another contributing factor was perhaps not so obvious: liberalized underwriting standards,” Mr. Dugan said, in a speech to the Financial Services Roundtable’s Housing Policy Council. “These relaxed standards helped more people to qualify for loans, and more people to qualify for significantly larger loans.”

These relaxed standards included limited verification of a borrower’s assets, employment, or income; higher debt to equity ratios; and the use of home equity loans as “piggyback” loans that helped borrowers qualify for first mortgages with low down payments and without mortgage insurance, resulting in ever-higher cumulative loan-to-value ratios.

Consequently, once house prices began to decline in 2007, home equity lenders began to experience unprecedented losses. While losses have traditionally run at about 20 basis points, or two tenths of a percent of loans, they shot up to nearly 1 percent in the fourth quarter of 2007 and to 1.73 percent in the first three months of 2008.

Looked at in dollar terms, losses on all home equity loans, including HELOCs and junior home equity liens, rose from $273 million in the first quarter of 2007 to almost $2.4 billion in the first three months of 2008 – a nine-fold increase. And the largest home equity lenders are now saying that they expect losses to continue to escalate in 2008 and beyond, Mr. Dugan said.

The Comptroller said these loss numbers need to be viewed in perspective. Though accelerating quickly, they are still much lower than the loss rates for other types of retail credit, such as credit card loans.

“It’s true that home equity credit was priced with lower margins than these other types of credit, and it’s true that the product has become a significant on-balance sheet asset for a number of our largest banks,” he said. “Nevertheless, the higher level of losses and projected losses – even under stress scenarios – are what we at the OCC would describe generally as an earnings issue, not a capital issue. That is, while these elevated losses, depending on their magnitude, could have a significant effect on earnings over time, with few exceptions they are not in and of themselves likely to be large enough to impair capital.”

For the near term, Mr. Dugan said, the OCC expects national banks to continue to build reserves.
emphasis added

It appears HELOC losses are accelerating rapidly in Q2, and will definitely impact earnings. Dugan's comment that HELOC losses are "not likely large enough to impair capital" might be a tad optimistic.

Weekly Schedule

by Calculated Risk on 5/22/2008 04:48:00 PM

From Bloomberg: S&P Cuts, Reviews $6 Billion of Prime-Jumbo Mortgage Bonds (no link yet)

Standard & Poor's cut or threatened to cut the ratings on almost $6 billion of securities backed by prime ``jumbo'' mortgages ...

Ratings on 125 classes of [prime-jumbo] bonds created in the first half of 2007 ... were downgraded ... Ratings on 156 classes were put under review. ... Ninety percent of the securities put under review are AAA rated ...

Late payments of at least 90 days and defaults among prime-jumbo loans underlying bonds issued last year rose to 1.16 percent as of April bond reports, up 180 percent since December, S&P said.

This is more evidence that the credit problems have moved up the chain. See: Fed: Delinquency Rates Rose Sharply in Q1. Also the Q1 Mortgage Bankers Association (MBA) delinquency report will be released soon - and I expect that report to show accelerating delinquencies in Alt-A and prime loans.

by Calculated Risk on 5/22/2008 01:23:00 PM

Click on graph for larger image.

The first graph shows the OFHEO Purchase Only Index (through Q1 2008) vs. the Case-Shiller National Index (through Q4 2007). (Q1 2000 = 100 for both indices).

Note that the Case-Shiller National Index showed a larger price increase during the boom, and is now showing a faster price decline.

The second graph shows the year-over-year change in the price indices. The Case-Shiller index showed larger annual percentage increases than OFHEO during the boom, and is now showing larger annual percentage declines.

The Case-Shiller index for Q1 2008 will be released next Tuesday at 9 AM ET, and the index will probably be at about the same level as the OFHEO index on the first graph, and will probably show a year-over-year price decline close to 15%.

by Calculated Risk on 5/22/2008 11:50:00 AM

From Reuters: Subprime, Alt-A mortgage delinquencies rising: S&P

Delinquencies for Alt-A mortgages rated between 2005 and 2007 are climbing, with total delinquencies rising as high as 17 percent in some cases, more than 6 percentage points higher than previous estimates, the ratings agency said in a report.

Lower-quality subprime mortgage delinquencies soared as high as 37 percent for mortgages originated in 2006, 4 percentage points higher than previous estimates, S&P said.

Subprime mortgages originated in 2007 saw delinquencies climb to almost 26 percent, 6 percentage points higher.

Yesterday, the Fed released the commercial bank delinquency report and it appears that prime delinquencies are rising rapidly too.

by Calculated Risk on 5/22/2008 10:34:00 AM

From OFHEO: Decline in House Prices Accelerates in First Quarter

U.S. home prices fell in the first quarter of 2008 according to OFHEO’s seasonally-adjusted purchase-only house price index. The index, which is based on data from home sales, was 1.7 percent lower on a seasonally-adjusted basis in the first quarter than in the fourth quarter of 2007. This decline exceeded the 1.4 percent price decline between the third and fourth quarters of 2007 and is the largest quarterly price decline on record. Over the past year, prices fell 3.1 percent between the first quarter of 2007 and the first quarter of 2008. This is the largest decline in the purchase only index’s 17-year history.

Click on graph for larger image.

This graph, from OFHEO, shows the four quarter and quarterly price changes for the Purchase Only Index.

There are significant differences between the OFHEO index and the Case-Shiller index (see House Prices: Comparing OFHEO vs. Case-Shiller), but it's important to note that the Fed uses the OFHEO index to calculate changes in household assets - and this means the Flow of Funds report in Q1 will show a significant decline in the value of household real estate (no surprise, but the number will be large).

by Calculated Risk on 5/22/2008 09:18:00 AM

From Ford: Ford Adjusts Production to Lower Industry Volume and Shift in Customer Preferences; Profit Outlook Revised

Ford Motor Company today said it is making adjustments to its production plan and revising downward its near-term North American Automotive profit outlook ...

Ford is reducing 2008 production of large trucks and SUVs, as gas prices soar and customers move more quickly to smaller and more fuel-efficient cars and crossovers.

Ford said it now plans to produce 690,000 vehicles in North America during the second quarter, a further reduction of 20,000 units from previously announced planned production levels and a decline of 15 percent from the second quarter of 2007. The company plans to produce between 510,000 and 540,000 units in the third quarter, down 15 to 20 percent from the same period last year.

It just keeps getting worse for the auto industry.

by Tanta on 5/22/2008 08:26:00 AM

It is inevitable that we would join the mirth all over the rest of the toobz regarding The Tanned One's unfortunate use of the "reply" rather than "forward" button in the process of registering his "disgust" with a borrower who emailed some 20 Countrywide executives (including the press office) with a request for a mortgage modification based on a form letter he found on the net. Moe Bedard, whose advice on approaching his servicer this borrower faithfully followed, wasted not a moment in "reaching out to the media" with this story, managing to land it in the LAT yesterday.

As a PR stunt, there's not much you can criticize here about Mr. Bailey's letter or Moe's media-savvy frothing in response. Angelo just handed these folks a dose of self-righteousness that will keep them stoned for weeks. The problem here, of course, is that if you are a borrower in distress trying to work something out with your servicer--Countrywide or anyone else--your primary need is not sympathy from the senior execs or attention from the press office or a flap in the newspaper. Your primary need is to reach a person in default servicing who can do something about your problem. This person needs to understand very clearly what your problem is and what can, practically, be done about it. At the risk, therefore, of sounding like a shill for Countrywide (this is a blog in-joke; every time I write something insufficiently hostile to CFC I get accused of being an "industry shill"), I offer to use what insight I have into the minds of loss mitigation specialists who deal with these things to offer some advice on how to write a letter that runs much less of a risk of being dismissed as just another sympathy-seeking form-letter.

* * * * * * * * * *

First of all, your goal is not to convince the servicer that you deserve a loan modification. Some people can't quite get a handle on this point, but you need to. Your goal is to convince the servicer that what you are asking for--in this case, a modification, although it could be a deed-in-lieu or a short sale or just a temporary repayment plan--is 1) necessary given your financial situation and 2) going to work. The biggest problem I have with Mr. Bailey's letter is that it does not ask for anything specific and it does not help me see why a modification would actually work in his case. In fact, it makes the mistake of suggesting that a modification would only allow Mr. Bailey's shaky income situation to continue or get worse. That being the case, it doesn't really matter if the person reading your letter feels sympathy for you or believes that the situation was truly beyond your control.

Let's start at the beginning:

To Whom It May Concern:

I am writing this letter to explain my unfortunate set of circumstances that have caused me to become delinquent on my mortgage. I have done everything in my power to make ends meet but unfortunately I have fallen short and would like you to consider working with me to modify my loan. My number one goal is to keep my home that I have lived in for sixteen years, remodeled with my own sweat equity and I would really appreciate the opportunity to do that. My home is not large or in an upscale neighborhood, it is a “shotgun” bungalow style of only 900 sq. ft. built in 1921. I moved into this home in May of 1992…this was the same year I got clean and sober from drugs and alcohol, and have been ever since, this home means the world to me.

The first sentence of this letter encapsulates what's wrong with it: it is going to be about "explaining" "unfortunate circumstances." The fact is that every letter every Loss Mit specialist in the universe gets from borrowers is about "unfortunate circumstances." It is quite rare to get a letter from someone that says "Look, I'm a selfish irresponsible pig, but I want more from you than I already have." Trust me on this. Everyone who talks to the Loss Mit department has "unfortunate circumstances." That is what the Loss Mit department is designed to deal with.

It is very hard for people in financial distress not to focus on their own misery, or to imagine that the "uniqueness" of their misery is not really the point. You need to get beyond that. You may think it is "unfair" that your story sounds more or less like everyone else's. Life is unfair. Servicers do not modify loans because they feel sorry for you. They modify loans because you have convinced them that you will be able to make payments that way.

A much better first paragraph would be: "I am writing to request that you consider a modification of my delinquent mortgage loan so that I can continue to make payments. I have tried to analyze my own situation objectively, and I believe that a monthly mortgage payment of no more than $xxx would allow to me to keep current on my mortgage and my other necessary obligations. I am a long-time homeowner and am committed to staying in my home if we can work out terms that are practical for both of us."

Starting out by addressing head-on what payment you need in order for this to work accomplishes a couple of things: it shows that you are, indeed, thinking practically about your situation. It gives the Loss Mit people a clearer idea of what you want. And it (hopefully) sets a tone that keeps you from degenerating into irrelevancy or sympathy ploys. No one needs to know that you had a booze or drug problem prior to 1992. Certainly no one needs this hint that your property is old, obsolete, and probably filled with DIY "remodeling." Not given what we see in the rest of the letter.

The main reason that caused me to have a hardship and to be late is my misunderstanding of the original loan. I was told that after the first year of payments, I would be able to refinance to a better fixed rate- then the bottom fell out of the industry. My payments for that first year were on time. I also lost my second income due to physical conditions in a very physically demanding industry.

Where to start with this? It simply sounds too vague to be believable, even if you think a Loss Mit specialist will be moved to modify your loan because you were told you could refinance. If you feel you need to include such information, I'd try this: "I refinanced my home in [month of year], and I made the mistake of relying on the broker's oral assurance that I could refinance it in a year to lower the payments. After making the first year's payments on time, I contacted my original broker again to apply for a refinance. I was told that I did not qualify because [specific reason given by broker]. I inquired about refinance opportunities with two other companies, both of whom told me [the truth goes here]. It appears that the only way I can lower my payments to a tolerable level is to request a modification."

This would show that you did indeed attempt to refinance, that you paid attention to what you were told the second time, and that you have some understanding of what your options are. The original letter simply blames everything on the loan officer who wrote the original loan and sounds a little too pat--"the bottom fell out of the industry" does indeed sound like something you read on the Internet. Once again, this writer is asking for sympathy, not presenting himself as someone who has made a good-faith effort to rectify the problem himself.

As far as "I also lost my second income due to physical conditions in a very physically demanding industry," you're much better off being factual and specific there--especially since, if you do get a Loss Mit specialist assigned to your case, you might be asked for documentation of income in the last two years. A much better approach (assuming, of course, it's true) would be: "I took a second job as a part-time bricklayer in [month and year] to help make ends meet, but I suffered a back injury in [month and year] that meant I could no longer do physically-demanding work. There are no second jobs available to me now that pay more than minimum wage, which is not enough for me to meet all my current obligations." If you got fired, you should either admit it frankly or leave the whole detail out. If you were laid off, say so. "Lost my second income" quite honestly suggests the worst to those of us who read letters like this all the time.

As my ARM payments increased, I have had less money to put towards making my business (income) work. I had been unable to generate business because all of my funds were going towards attempting to make my loan payments. This, coupled with major repairs to my vehicle (93 jeep) and paying out of pocket for medical and dental issues (I have no ins.) caused me to fall further and further behind, destroying my credit rating.

Now, it’s to the point where I cannot afford to pay what is owed to Countrywide. It is my full intention to pay what I owe. But at this time I have exhausted all of my income and resources so I am turning to you for help.

I feel that a loan modification would benefit us both. With that, and knowing my home will not be foreclosed, I would be able to obtain a roommate in order to generate more income, have the funds to generate more business and have a good working relationship with Countrywide. I would appreciate if you can work with me to lower my delinquent amount owed and payment so I can keep my home and also afford to make amends with your firm.

Here's where the wheels really fall off this letter. I need to know what kind of business you are in, and why it requires you to spend money on it, and what kind of money we're talking about. As written, this letter suggests that you need your mortgage payment reduced so that the monthly cash-flow can be "invested" in a business that doesn't seem very successful. Why does Mr. Bailey think that the lender would conclude, in this case, that a modification would work? And this is, actually, the point at which one wonders what happened to the proceeds of Mr. Bailey's latest refinance. Apparently it didn't go into home improvements; did it go into a failing business? That does happen a lot. Will it help to, in essence, do it again by means of a modification?

It is certainly OK to mention unexpected expenses that have arisen lately--like the car repair and the medical bills--but I would caution anyone about claiming that that "destroyed your credit rating." The first thing a servicer is going to do is pull your credit report. If you can supply the car repair invoice and medical bills (or cancelled checks), showing that these expenses were incurred just before delinquencies began appearing on your credit report, you may indeed help the servicer see that the issue here is unforeseen expenses. But you need to be honest with yourself: if your credit history was a mess before those expenses popped up--which is likely the case for Mr. Bailey, I fear--then you don't help your case by writing something like this. The person reading your letter can see your credit report.

Finally, suggesting that you would take in a boarder if you got the modification won't help you much if you need boarder income to qualify for the modified payment. And how much would a boarder pay? How much of a difference would it make?

The big problem with this letter is that Mr. Bailey doesn't simply present a budget and a proposal. The letter needs to say something like this: "My current income is $xxx per month. My monthly expenses [itemized] are $xxx per month. I believe I can add $xxx per month to income by taking in a boarder. That means that I can continue to pay my mortgage if we can reduce the monthly payment to $xxx." The bottom line is, if you cannot write something like that because you cannot come up with a set of numbers that work (and can be verified), you really have no business asking for a modification. If you can come up with reasonable numbers that work, it only helps your case with the servicer to come across as someone who has taken a clear view of the monthly budget and can suggest a concrete plan.

Finally, if you are going to email or fax a letter like this, you need to offer to provide whatever documentation the servicer needs in a follow-up letter. A simple way to do this: "Please let me know what financial documents you will need from me, and where to address them so that they come to the attention of the right person." Quite honestly, the offer to work cooperatively and promptly with the servicer in a specific way is worth any number of rhetorical flourishes borrowed from some Internet form letter.

There are some unfortunate comments over on Moe's site about this letter, the burden of wisdom of which is "not everyone is a college grad or trained writer, you know, so people use form letters and shouldn't be criticized for it." Let me tell you that the biggest problem Loss Mit folks tend to have with borrower letters is not that they don't have the old college polish. The biggest problem is that "explanations" for delinquencies are not actually the same thing as proposals for a successful workout. Nobody cares about rhetorical flourishes; Mr. Bailey's modification will stand or fall on the question of whether it is likely to keep him out of foreclosure, and that stands or falls on whether he can afford the modified payments out of his current income.

To be just as honest as I can, I don't think I would have used the term "disgusting" for Mr. Bailey's letter, as Angelo did. However, the term "bullshit" did pop into my underwriter's mind as I read it. That was in part because of the "form letter" quality of some of it; it was also because Mr. Bailey's discussion of his income situation is so muddled. I write this to suggest to Mr. Bailey, and anyone else contemplating sending such a letter, that this is a likely response from servicing people. I am not particularly defending it, you know. I was in fact trained as an underwriter years ago and we were in fact trained to not leap to conclusions and use the term "bullshit" loosely. (And to "forward," not "reply," but that's another matter.) So it's possibly quite "unfair" that I think Mr. Bailey's letter is unlikely to cut any mustard on its own (although now that it got Angelo in the papers again, he might get a more thorough hearing than his letter alone would have gotten).

But most people can't count on the CEO screwing up and winning the battle in the pages of the LAT; most people really really need to get somewhere with the actual servicing employees we have, not the ideal ones who never react badly to borrower pleas for sympathy. We are what we are. I suggest writing in your own voice, about the details of your monthly budget, sticking to the relevant facts, and trying as hard as you can to stifle the impulse to blame your problems on everyone but yourself. That doesn't mean you have to blame yourself; it means we're past "blame" at this point. You're in trouble; you need to work something out; you need to get on with a practical request. You are a flawed person writing to an undoubtedly flawed person. If you don't want the Loss Mit specialist to "fill in the blanks" in your letter from his or her own possibly cynical experience with other letters of this type, don't leave those blanks in it. That's the best advice I can give you.

But Wait! There's More!

by Calculated Risk on 5/21/2008 06:41:00 PM

Added: quote from Goldman Sachs at bottom.

The Federal Reserve reports that delinquency rates rose sharply in Q1 in all categories - except agricultural loans (higher food prices helps).

Click on graph for larger image.

This graph shows the delinquency rates at the commercial banks for three key categories: residential real estate, commercial real estate, and consumer credit cards.

Credit card delinquency rates are at 4.86%, about the same level as the peak of '01 recession. Credit card delinquencies peaked at 5.45% in the '91 recession.

Commercial real estate delinquencies are rising rapidly, and are at the highest rate since '95 (as delinquency rates declined following the S&L crisis). From the Fed: "Commercial real estate loans include construction and land development loans, loans secured by multifamily residences, and loans secured by nonfarm, nonresidential real estate."

Residential real estate delinquencies are at the highest level since the Fed started tracking the data (since Q1 '91).

Update: From Goldman Sachs chief economist Jan Hatzius: Mortgage Credit Deterioration: Broadening and Picking Up Speed (excerpted with premission):

"The Fed’s first-quarter report on loan performance at commercial banks shows mortgage credit quality deteriorating at an accelerating pace. ...

The rapid pace of deterioration is particularly significant because the mortgage holdings of commercial banks appear to be tilted toward higher-quality loans, with more prime and less subprime. ...

The Fed data suggest that mortgage credit performance outside the subprime sector is deteriorating rapidly. This reinforces our long-standing view that the surge in mortgage defaults is much broader than simply a reflection of poor underwriting standards in specific subprime vintages. We don’t doubt that lax underwriting standards were an important issue. But the main driver of the defaults is the decline in home prices, the increase in negative equity positions, and the resulting inability of borrowers who encounter financial stress to sell or refinance their way out of trouble. Although subprime borrowers are more likely to encounter financial stress than prime borrowers—and the share of negative-equity borrowers who will end up defaulting is therefore much higher in the subprime sector—the qualitative outlook for the trajectory of credit losses in the much larger prime market is not all that different."

by Calculated Risk on 5/21/2008 06:09:00 PM

From Capitol Weekly: Foreclosure tale shows that nobody is immune from crisis (hat tip too many to mention - thanks all!)

by Calculated Risk on 5/21/2008 05:36:00 PM

The Mortgage Bankers Association releases a Weekly Mortgage Application Survey. I used to follow the MBA index closely, because the index was a reasonable early indicator of house sales.

All that changed in early 2007 as the MBA index and house sales diverged. There were two reasons for this change: 1) many homebuyers were applying multiple times for loans (the MBA just counts applications), and 2) many lenders were going out of business - and most of these smaller lenders were not in the MBA sample. For more, see this post from May 2007: Is the MBA Index Currently Useless?

Click on graph for larger image.

This graph shows the MBA index since January 2002.

We still can't compare to earlier periods because of the changes in the industry. As an example, existing home sales were at the 6 million annual rate in Jan 2002 and the MBA purchase index averaged 356. Over the last 4 weeks, the MBA index has average 363, but existing home sales are below the 5 million annual rate.

And it's still too early to tell if the index is useful again. But perhaps we can start looking at the index for clues as to the direction of home sales again - and check back later to see if the index was correct. Right now the MBA index is suggesting sales will fall over the next couple of months. We will see.

by Calculated Risk on 5/21/2008 02:29:00 PM

From the WSJ: Fed Signals Rate Cuts Are Done, Lowers Growth Forecast for 2008

The Federal Reserve on Wednesday appeared to shut the door to the possibility of further interest rate cuts, saying in April meeting minutes that the last rate cut was a "close call," and that many officials think future reductions are unlikely even if the economy contracts.
...
The Fed also released updated quarterly economic forecasts with the April minutes. The central tendency of officials' forecasts is for gross domestic product to rise between just 0.3% and 1.2% this year, down from the last forecast of growth between 1.3% to 2%. Officials also raised their forecasts for the unemployment rate and both headline and core inflation as measured by the price index for personal consumption expenditures.

Here are the minutes.

Slower growth, more inflation, no rate cuts ...

by Calculated Risk on 5/21/2008 01:08:00 PM

From the American Institute of Architects: Architecture Billings Index Remains Weak

Click on graph for larger image.

After sinking to its lowest level ever in March, indicating a rapid slowdown in billings at U.S. architecture firms, the Architecture Billings Index (ABI) rose slightly in April. As a leading economic indicator of construction activity, the ABI shows an approximate nine to twelve month lag time between architecture billings and construction spending. The American Institute of Architects (AIA) reported the April ABI rating was 45.5, up from the historic low mark of 39.7 in March (any score above 50 indicates an increase in billings). The inquiries for new projects score was 53.9.

The key here is that the index fell off a cliff in early 2008, and that there is "an approximate nine to twelve month lag time between architecture billings and construction spending". We should expect weaker non-residential structure investment throughout 2008.

by Calculated Risk on 5/21/2008 11:57:00 AM

Last night I posted a video from Jim the Realtor showing an area of Oceanside, CA with numerous REOs. Jim has an REO listing in the area and he sent me the details.

260 Securidad, Oceanside, California
2 Bedroom 1 Bath, 820 sq ft
The house sold for $318,000 in July 2004, and the owner refinanced a year later for a total of $375,000 in loans.

The house is now listed (REO) at $127,900, and there are several bidders (investors and owner-occupant buyers) and Jim believes the property will sell for between $140,000 and $150,000. Note: the house is in good condition (for what it is) and appears to be move-in ready.

This is about 55% off the previous sales price and even more off the apparent appraised value when the homeowner refinanced.

This brings up a key point: house price changes vary widely by area, not just by state, but even within cities.

***********

Click on graph for larger image.

This graph shows the Case-Shiller Home Price Index for San Diego. Prices are off by about 24% from the peak in 2005 according to the Case-Shiller index, but the Oceanside REO is off by about 55%.

Obviously areas with numerous foreclosures have seen larger price declines than areas with fewer foreclosures.

The following map of Denver, from an article by Luke Mullins at U.S. News and World Report, illustrates this point. Some areas of Denver are being devastated by foreclosures, others are mostly untouched.

From the USA Today: Mortgage defaults force Denver exodus

Foreclosures are ripping through the rows of new homes in the flatlands where Denver turns to prairie. Every week, 10 more families here need to find someplace else to live.
...
On some blocks, as many as one-third of the residents have lost their homes, making this one of the worst hotspots in a city that was among the first to feel the pinch of the foreclosure crisis. Many houses here remain empty, bank lockboxes on the front doors.

But prices in the areas untouched by foreclosures are actually flat, or in some cases have even increased slightly.

What does this mean for future prices? First, some areas are probably close to a price bottom. Looking back at the REO in Oceanside, we can see that this property is now attractive to investors. According to Jim, this property will rent for between $1000 to $1200 per month. Here is a simple cap rate calculation:

Cost: $140,000
Rent: $12,000 to $14,400 per year
Expenses:
Taxes (1% in California): $1,400 (note: no Mello Roos or HOA fees)
Vacancy: 5% or $600 to $720 depending on rent.
Maintenance and Insurance: $1,400 per year.

This yields a cap rate of between 6.1% and 7.8% depending on the rent. Investors provide a floor for house prices, and these are attractive cap rates for some small investors.

But what about prices for areas with fewer foreclosures? These prices are still sticky, but will continue to decline. From Peter Hong at the LA Times yesterday: At the luxury end, home prices are falling

"You can't have one market hugely cheaper than another forever," said UC Berkeley professor Thomas Davidoff, who specializes in real estate.

Davidoff and others say the time lag stems from the fact that affluent homeowners generally don't have to sell under duress, unlike struggling borrowers facing escalating mortgage payments. But wealthy homeowners are increasingly finding out that if they want to sell their homes, they will need to discount the prices.

In the end, the housing market is linked as shown by this graphic.

Not all chain reactions start with a first time buyer using a subprime loan, but the loss of a large number of first time buyers will eventually impact the entire chain.

Over time the equilibrium between different price ranges will return, but the price dynamics will be different. Areas with a large number of REOs have seen much faster price declines - and are probably closer to the price bottom. Areas with fewer REOs will exhibit "sticky prices" and the prices will probably decline for some time.Read on ... there is much more.

by Tanta on 5/21/2008 11:56:00 AM

Channel 5 in San Francisco got its hands on some "training videos" used by World Savings--now owned by Wachovia--to teach brokers and loan officers how to originate their "Pick-A-Payment" negative amortization ARM. It's pretty disgusting:

But what concerns [housing advocate Maeve Elise] Brown even more was the way World Savings employees were instructed to answer questions about the minimum payment on those option ARM's.

"So if I'm paying that minimum payment, I'm not actually putting a dent in my principal though right? My principal and interest they're just going to keep climbing up right?" the borrower asks in the video tape. "It's optional," the broker in the video replied.

"What kind of answer is that?" said Brown after watching the video. "The answer would really be 'Yes.' That's the right answer, that to me would be the true clear straightforward truthful simple answer."

And in still another scenario, the video instructs brokers to explain those loans. "Why would I offer a loan that has a negative amortization?" the broker asked. The World Savings representative replied: "Most brokers refer to them as negative amortization, but we try to use the words a little more user friendly, 'deferred interest.'"

Unfortunately, I don't think very many borrowers probably asked that minimum-payment question. To think that those few who did would be fobbed off with the comment "it's optional" is nausea-inducing. It also strongly suggests, of course, that borrowers who didn't ask that question didn't find the brokers volunteering the information that making the minimum payment would increase the balance.

(Hat tip to checker!)

by Tanta on 5/21/2008 10:14:00 AM

Periodically I wonder how my life would have been different if, instead of becoming a heartless banker whose only concern is the bottom line, not human lives, I had devoted my career to something socially redeeming, like education of the young. Then I read the WSJ:

Some school districts, hoping to control costs and prevent overcrowding, are intensifying efforts to make sure students actually live where they are registered.

Districts from Florida to California are hiring private investigators, creating anonymous tip lines and imposing penalties when they believe people have registered at false addresses. The measures often are spurred by parents who feel they pay a premium in property taxes to get their children into good schools.

One reason for the crackdown is the rise in home foreclosures, which may prod parents into faking addresses to keep their children at their current schools, some in the field say.

"Foreclosure rates are up. Displacement is up. People are becoming homeless," says William Beitler, a private investigator specializing in address verification for school districts in the Chicago area. Mr. Beitler says he has contracts with 32 districts, up from 23 last year, and his caseload has increased to 7,000 from 3,000. He claims he will save districts a total of $12.2 million next year through removing students.

I take it those parents who are spurring the school districts to hire PIs and open up snitch tip lines aren't also grieving.

by Tanta on 5/21/2008 08:10:00 AM

Via naked capitalism, there is this ugly report in the Financial Times:

Moody’s awarded incorrect triple-A ratings to billions of dollars worth of a type of complex debt product due to a bug in its computer models, a Financial Times investigation has discovered.

Internal Moody’s documents seen by the FT show that some senior staff within the credit agency knew early in 2007 that products rated the previous year had received top-notch triple A ratings and that, after a computer coding error was corrected, their ratings should have been up to four notches lower.

That's bad. That's really bad. But then there are these two paragraphs at the end of the article:

The world’s other major credit agency, Standard and Poor’s, was the first to award triple A status to CPDOs but many investors require ratings from two agencies before they invest so the Moody’s involvement supplied that crucial second rating.

S&P stood by its ratings, saying: “Our model for rating CPDOs was developed independently and, like our other ratings models, was made widely available to the market. We continue to closely monitor the performance of these securities in light of the extreme volatility in CDS prices and may make further adjustments to our assumptions and rating opinions if we think that is appropriate.”

The implication here, that Moody's jiggered its model to arrive at the same ratings S&P had already arrived at--presumably to keep the "second opinion" business--is ugly. However, the implication that Moody's had to fudge the numbers in order to come up with AAA on these deals but S&P came up with AAA with a "correct" model is something I for one am having a hard time with.

by Calculated Risk on 5/20/2008 10:36:00 PM

This is another followup to CRE: Bought at the top?. Basically NY developer Harry Macklowe bought seven New York office buildings at the price peak, with little down, and a personal guarantee for a portion of the loan. He was unable to refinance the short term debt, and he is now in default. Macklowe is trying to sell his other holdings - including the GM building - to satisfy the personal debt.

From the WSJ: Goldman, Boston Properties, Others In Talks to Buy Macklowe's GM Building

An investment group that includes Boston Properties Inc., Goldman Sachs Group Inc. and two Middle Eastern investors are in negotiations to buy the General Motors building along with up to three other properties from New York developer Harry Macklowe for $3.6 billion to $3.9 billion ...

... The deal would value the GM building at about $2.8 billion, $200 million less than what had been his minimum price.

The deal is designed to rescue Mr. Macklowe from financial ruin, but it isn't clear that this transaction would resolve his debts.

by Calculated Risk on 5/20/2008 06:29:00 PM

Here are a couple of recent videos from Realtor Jim in San Diego. The first video is in a run down area of Oceanside with REO after REO (2 min 19 sec).



The second video is in Valley Center (near Escondido). (2 min 21 sec) Jim mentions the Cash for Keys program (he is offering the previous owners $2500 for their keys). This house sold for $927,500 in 2005.

by Tanta on 5/20/2008 04:00:00 PM

Caroline Baum is exercised over Fannie Mae's recent announcement that it was dropping its "declining markets" policy. Yeah, so, a lot of us didn't like that.

But the rest of us did not write a column that is titled "Mary Had a Little Lamb and a Jumbo Mortgage" and then have this thing about kings and taxes and then Fannie turns out to be the fairy godmother, which is Cinderella, not Mary and the lambs, and then admits to perfect ignorance of what "DU" is and then makes claims about what DU is and then ends up predicting that Fannie will self-insure mortgages which would be like totally surprising since it would require the king to change Fannie Mae's charter which forbids such things, and dammit if you don't get all the way to the end and there aren't any jumbos in it. Boy howdy.

by Calculated Risk on 5/20/2008 03:27:00 PM

From Bloomberg: CIFG Guaranty's Bond Insurer Ratings Cut to Junk (hat tip DD49)

CIFG Guaranty, the bond insurer that lost its AAA ratings in March, was downgraded to below investment grade by Moody's Investors Service, which said the company may become insolvent.

The ratings were cut seven levels to Ba2, two steps below investment grade, from A1 to reflect ``the high likelihood that, absent material developments, the firm will fail minimum regulatory capital requirements,'' Moody's said in a statement.
...
``CIFG demonstrates the cliff-like nature of these events,'' said Thomas Priore, chief executive officer of hedge fund Institutional Credit Partners LLC in New York. ``Depending on the language in the credit-default swap, it can set off a chain of events that creates a complete unwind of the company.''

From AAA to Junk in two months! Yeah, I'd call that Cliff Diving.