Recent Article Points one Good Way to Fewer Foreclosures

Today I read an article from Milken Institute President Michael Klowden and Regional Economist, Ross DeVol,  that provoked an immediate response to the Editors at the Milken Institute.  My letter is reproduced below. Take a look at what out of the box thinking could do with enough support.

6/08/09
Dear Sirs,

Regarding your recent Op-Ed piece How to Rebuild U.S. Home prices and Fix the Economy.

I thank you for your clear thinking and willingness to propose ideas from outside the box to solve the underlying problem of negative equity in residential housing.  I have been writing about the failure of government initiatives to address negative equity in Loan Modification programs and bubble issues in general for the better part of two years at www.unsustainabubble.com . During this time, increases in negative equity have continued un-abated and thanks to gutless ...<< MORE >>

Unintended Consequences will Produce More Foreclosure Losses with Higher Severity in Bubble States

Legislation that would have resulted in Bankruptcy Cramdowns is dead, see  "Cramdown Bill Fails in Senate" . This is old news now, but what makes it important is that it may have been the last opportunity consumers had to create any pressure for mandated reductions of mortgage principal on first mortgages and the legislation probably will not revive thanks to the continuation of totally pro-banker policies from the Clinton and Bush administrations  by the Obama administration. So much for campaigning on a platform of "Change".

As methods go, Cramdowns were a poor substitute for lenders/investors doing what they know they should do, which is to take principal reductions (meaning current financial losses) and keep people in their homes, in performing loans with lower interest and values. Lenders have attempted to create a kind of shadow market for exotic loans through ...<< MORE >>

Current Market Conditions Validate assumptions in "Where's the Beef"

One of my first Blog entries ever, in July of 2008 is titled "Where's the Beef" after an old Hamburger commercial some of you may remember on TV. I wanted to discuss the incredible investment opportunities I saw coming for personal investing as well as alternative investing in truly  Self Directed Retirement Plans. I have another blog on this topic at www.selfdirectioncentral.com .

It seems that many of us are looking for alternatives to traditional Wall Street investments and conservative investors are looking closely at Hard Assets, including real estate, notes and precious metals.

Here is the link to an updated version of "Where's the Beef" at: http://unsustainabubble.com/2008/08/04/wheres-the-beef.aspx .

        

How Low can Single Family Real Estate Prices Go?

Perhaps the question should really be, how low will all real estate prices go during this recession/depression?

I had an email from a gentleman this morning that thinks much the same way as I do about the economy in general. He is currently considering relocating his principal residence to a different area and upgrading his home while taking advantage of current lower prices. He is in the enviable position of having the cash to back his intentions. Of course his worry is that he will buy now and that prices will continue fall, resulting in an unintended financial loss. In answer to his question. He said "I am thinking that the next wave of foreclosures is going to hit the market in the next 3-6 months, which would drive the prices down further. That would be the time to buy. What is your ...<< MORE >>

How does a distressed borrower get a fair shake?

With all of the recently announced programs, especially Home Affordable and the new Public Private Partnerships (a topic for a separate entry) being touted as the solution to the foreclosure crisis, borrowers in trouble are more bewildered than ever about what to do.

I mentioned in my last entry that only about 1 or 2 in ten upside down borrowers in bubble areas (CA, AZ, NV, FL) would be helped by the Home Affordable Program. That program does nothing to address the fundamental issue of drastic reductions in home values in bubble areas and cannot help people whose homes have dropped in value by 30% or more. Under Home Affordable refinance programs, your home will not be refinanced for more than 105% of current market and modifications still do not offer principal reductions 98% of the time. Because none of the suggested programs ...<< MORE >>

Please Speak Up, Help People Save Homes and Stabilize the Housing Market!

If your neighbors home goes into foreclosure and your home is identical, regardless of what you owe the value of your home will be dramatically affected by the amount of time the foreclosed home is on the market and the eventual selling price. Think about this when you are angry that you might be helping someone who you feel is not a "responsible borrower" get a bailout.

According to the Personal Bankruptcy article in todays news (linked below), "As of Thursday, Sen. Richard Durbin (D-Ill.) was weighing a key concession to the financial services industry on legislation that would allow judges to workout mortgages in the bankruptcy process. Durbin said he may limit the bill to existing subprime loans, which could make the legislation more appealing to the financial services industry — who has strongly opposed the bill thus far."

Since the recent Obama "Foreclosure Fraud Prevention Act" includes the possibility of Cramdown in Bankruptcy, it represents the first real attempt to address the underlying issue of housing price decline, which is principal balances that are no longer sustainable or affordable. The initial response of the Bankers was to immediately say that they would not reduce principal balances in order to save homes.

So far the only legislation that could force them to be realistic is the possibility of Cramdowns. I sent this letter today via email to Senator Dick Durbin (D-Ill.) via the email link at: http://durbin.senate.gov/contact.cfm .  You should make your feelings on this issue known, whether you agree with my point of view or not.

Letter to Dick Durbin

Dear Senator,

I am writing for the first time to urge you in the strongest terms not to gut the Cramdown bill by limiting eligible borrowers only to those who have sub-prime loans. As you know, there is an avalanche of potential defaults in Alt-A and A paper coming through 2011.

I saw these articles today. "Personal Bankruptcy Soars"  and "Record Jump in Non-Agency Jumbo Foreclosure Starts". For more than a year I have followed the progress of the housing decline and related legislation on a blog at unsustainabubble.com.

You must pass this legislation with a requirement that the person filing bankruptcy certify that they attempted a loan modification prior to the filing. This should be enough to get the bill passed with the support of Citi and B of A and pressure should be brought to bear on all large TARP recipients. As you know, this is the only way to put any pressure on banks/lenders/investors to do sustainable modifications (ie. those with principal reductions).

Under the new bailout, Jamie Dimon has already said his bank will not be doing principal reductions, why not? Because he is not being required to by this pandering legislation. If Bankers know the judge will/can reduce principal, they will do it for themselves.

No one wants Bankruptcy, except as a last resort. Forcing borrowers to request a loan mod and certify for the court will reduce moral hazard and result in fewer bankruptcies since some will accept the loan mod offered. If the modification is good enough, taking it can change the filing from a 7 to a 13 and further reduce moral hazard.

Would you rather have the market simply crash to get to the real values? I think you know that even bankruptcy is a stop gap measure where housing values are concerned. Ultimately the market will decide the value of housing,but your legislation could even forestall or reduce civil unrest related to the socialization of bank losses in the future.

Step up to the plate Senator and write a bill with teeth in it, otherwise nothing will change and the decline may even accelerate.

Sincerely,
Lance W. Newton

 

        

Recognizing the New "Great Divide"

I started thinking in 2005 and writing in 2008 on topics related to the sustainability of the American (Middle Class) Lifestyle.  Since much of our life style has related to home ownership in recent years, I have paid quite a bit of attention to home ownership related issues here at Unsustainabubble. What I have left out is discussion of the many other factors that have resulted in the widest gap in wealth since the last "Golden Age". Today we are truly a two class society in all but name.

It occurred to me that a good title for an entry to discuss the middle current middle class dilemma is "Going Down with the Joneses", since most of us spent so much of our time and have apparently put ourselves in unsustainable and insurmountable debt "Keeping Up With the Joneses" from the early 1950's on.  Now we must face the consequences or "Go Down with the Joneses" if you will.

My goal in writing this is to help other middle class people understand their best course of action to retain their Middle Class status or grow beyond it if possible. My belief is that going forward, this will require a renewed intergenerational approach to rebuilding wealth that flies directly in the face of American societal trends since the 1950's. I believe that in order to move forward again, we will have to go back to work closely together in family units and at the local level, where there is trust.

Recently I found an author who is new to me that has a great deal to say on related topics. David Shvartsman has a revealing look at middle current middle class values in one of his articles, "Singing the Middle Class Blues" with many relevant links. 

The Status of the Many

The primary keys to our growth as a country were abundant natural resources combined with abundant human resources in an economic system that promoted a strong middle class and upward mobility for those who could work hard and were willing to sacrifice for the future. The widespread availability of good education and access to learning for all made us a shining beacon for immigrants who found ready markets at higher than world pay in our industrial complex. Today this is far less true, although we still attract the best and brightest from many parts of the world, because on a relative scale, life is better here than in many places and corruption is less visible, with less effect on workers at the street level.

The tremendous gap in wealth has been at least partially generated by the creation of deregulated debt  and its excessive use by the middle class as our economy moved from profits generated by industrial manufacturing to the manufacturing of paper profits, or "Financialization". The leverage available in financial transactions combined with electronic trading in global markets has led to a concentration of wealth by those (large banks,hedge funds, and epic traders like George Soros) who can understand and manipulate the system and we now face the possible collapse of whole economies in part based on complex trades in currencies.

I remain concerned about hedge funds and currency manipulation strategies, given the mess in Europe and the absence of Global Regulation for complex trades.  Can it really be that a few individuals would bring down entire currencies and perhaps a continent or two for immediate gain? Is George Soros the poster boy for the next generation of “winners” in the hedge fund world? How could I have lived this long and stayed so naive about big money?

I have also realized that our collective failure as individuals to save from 1985 on (and/or our propensity to consume) has created issues that have contributed to the collapse of the American middle class, although I have not talked about this very much. (So who wants to listen to or read about such bad news?). Of course another piece of this issue is the transfer of pension and healthcare costs from employers to individuals on top of the destruction of wealth in 401k plans and Real Estate.

These cost transfers were triggered by promised Government and Corporate entitlements that were never properly funded, compounded by rising life expectancy and expansion and waste in Government spending. Another key element is wealth transfer to the top of the food chain as CEO pay rose exponentially from 40x to 500x  line workers while pay for line workers stagnated with real wages declining and cost transfers to employees soaring since 1970. All of this on top of creeping hidden and openly increasing taxes to fund waste at all levels of government.

I have tried to get average people interested in taking charge of their own financial future by Self Directing their own retirement plans at http://selfdirectioncentral.com/ . Average Americans had about $10k in their IRA and maybe $40k in a 401k if they had one before this meltdown. I routinely have calls from people with $50k I their pension at age 50 who want $5k per month after retirement from their plan and they want to retire early! The level of denial is mind numbing.

Most of the Boomer generation will be unable to retire and will work as long as they are physically able. I read recently that 40% of the allocations for future medical research are for finding ways to keep workers physically productive longer into old age. This makes sense in a rapidly aging population as we witness the load on society created by carrying unproductive retirees.

It is becoming more and more clear to average people that promised entitlements may not materialize and there is open debate on the transfer of costs for entitlements and bailouts to future generations. Pushback from younger generations will lead to civil unrest in the future as they realize the load we are asking them to bear.

Below is a chart of 2004 Government data on Social Security Payments as a percentage of income for retirees. This data does not reflect the 10,000 Baby Boomers that are daily filing for Social Security benefits now, most on the first day they are eligible after age 62.


It is interesting on many levels how individuals have historically abdicated responsibility for their own futures to third party money managers with no skin in the game and the ability to use OPM to enrich themselves at an increasingly record pace. Smart money recognized individual aversion to making financial decisions early on and created the mass financial vehicles (starting with mutual funds) that parted average Americans from their money for decades. The deregulation of Financial Institutions after the repeal of the Glass Steagall Act accelerated this process and we are now seeing it unwind. 

Most individual investors balk at any decision that involves more than two choices and we are a society that looks for the ability to sue someone if our investments go wrong (easier than taking responsibility for our own decisions). Of course there is still the illusion that funds are recoverable in the event of a meltdown because of federal guarantees from FDIC or SIPC.

I understand that less than 2% of individuals manage their own retirement funds, even after the most recent ravages of the stock market. The same percentage are financially independent after retirement.

I believe that a few more will self direct in the future and base their investments in hard assets they can see and touch. Rational people know that our current average lifestyle will change for the worse (revert to the global mean), but that may not be a bad thing for individuals except those who take no responsibility for their future. They will face a life based on unsustainable handouts.  What a prospect for the great Boomer Generation, so lovingly described as “beneficiary units” by Uncle Sam.

The Status of the Few

The other side of this coin is the improbable accumulation of wealth by a tiny fraction of our population in a historically short period between 2000 and 2006. During this time, the tiny slice at the top of the heap essentially doubled their wealth while the middle class atrophied. One of the most interesting explanations is in the book "Unjust Deserts" by Gar Alperovitz and Lew Daly, which posits that a few individuals have unjustly benefited from the aggregated profits that rightly belong to all of society. I do not know if this is the case, but the question is worth discussing.

The book discusses the fortunes aggregated by folks like Warren Buffet and Bill Gates, both of whom are active philanthropists, but neither of whom have exactly given away the store. The popular media has brought forward the "success" of so many incompetents in the financial sector, but I am more intrigued by the success of the competent and understanding the basis of that success.

I started following the story of John Paulson, the hedge fund manager of the year in 2007, “The Man Who Made Too Much”
and other hedge fund managers and think you would enjoy the resignation letter of Andrew Lahde, who made a smaller fortune than Paulson, also by betting against Subprime loans. The tone and content of the letter is truly astounding.

I was interested in the Paulson 2007 Payday mostly because I can’t comprehend the size and scope of the other side of the trades that resulted in 500+% returns in a single year and I lack the accounting skills to calculate what the losses on the other side of those trades were and how many individuals were affected in order to aggregate the gains represented by a $3B payout to a fund manager who had no downside risk on that payout and may not even have had any of his own money invested. 

I am not against the accumulation of wealth. I simply want to understand how this can be done sustainably, act accordingly and teach the next generation to do the same.

 

 

        

Plan as Announced Will Help Some, but Won't Save the Housing Market

The final guidelines for the new Homeowner Affordability and Stability Plan won't be out until early March but the consensus of analysts is pretty consistent.  The best coverage I've seen is from Mike Larson at Money and Markets .  This plan will help some borrowers who fit within narrow guidelines and few others. As I have said many times, without the active participation by lenders, servicers and investors in writing down the principal balances on loans in the bubble areas, not much will change and the housing market will continue in a downward spiral, minus the few for whom the new plan makes a difference.

Other news links on the Obama plan:

Obamas Housing Plan, Who will Benefit?
http://economix.blogs.nytimes.com/2009/02/18/obamas-housing-plan-who-will-benefit/?partner=rss&emc=rss

$275 Billion Plan
http://www.nytimes.com/2009/02/19/business/19housing.html?_r=1&8au&emc=au

Public reaction has been fear that "Good Taxpayers" who are current on their mortgage, even though they may be upside down, might end up subsidizing neighbors (perhaps some with bigger houses and looser spending habits) to help them keep their homes. This could be true for some borrowers, but the gaps in "Loan to Value" (LTV) and the drop in prices in the worst bubble markets in Florida, California, Arizona and Nevada preclude refinancing of these loans under the announced guidelines.

We will all be painted by the same brush if nothing meaningful is done to make lenders participate in taking current losses on existing mortgages. Amazingly, I have seen so many commentators on financial news networks say that those who are underwater through no fault of their own, should simply give in to the inevitable and take the foreclosure of their home in stride. Obviously these same commentators are at no risk in their own situation. Many of those "Good Taxpayers"  forced into foreclosure will never be able to buy a home again and face the prospect of being renters for the rest of their lives on top of taking it in the shorts on their pension plans and personal stock market investments.

The strategy of reducing principal balances is not supported by mandate in the proposed legislation except in very mild terms and by small amounts of federal subsidy that are meaningless in the bubble areas except for a few odd borrowers on the margins. The more than $3 Trillion plus destruction of real estate equity in recent months will create a new underclass who expected some security in retirement from home equity, but who now face the prospect of working till they drop without the possibility of building equity through home ownership, since they will be renters rather than owners of real estate.

The reaction from the financial industry  just about says it all. Major banking figures have said that their banks will pursue modifications that kick the can down the road by extending terms (which may actually increase their profits over time) or by temporary reductions in interest rates. Pretty much everyone in the industry has said that investors and second home owners are on their own and principal reductions are not an option for owner occupants or investors. In the current environment of voluntary loan modifications, 2% or less of all modifications include principal reductions even though studies have shown that loan modifications with principal reductions are far less likely to re-default and up to 50% of the "kick the can" modifications re-default quickly.

As Mike Larson points out, investors and second home owners represent up to 40% of the homes purchased (most using Adjustable Rate Mortgages) in 2005, mostly in the bubble areas, but nationwide as well. This plan does little for this segment of buyers and the best hope for this group (for those that have the means) is to pursue a Loan Modification by a Law Firm specializing in real estate and with proven expertise in the Forensic Loan Audit Process.  This type of audit can range in cost from a few hundred to more than $2500.00 per property, just for the audit. If the law firm is retained to facilitate the loan modification process, an "earned when paid" retainer from $2500.00 to $7500.00 is charged per property/loan.  Properties with more than one loan mean more legal fees and higher retainers. Attorneys are under no obligation to return any part of their retainer if the modification effort fails or has less than the desired results.

The outcome for many investors, whether they were speculators or not, is that most will let investment properties and second homes go to foreclosure or offer the properties back to the bank through a "Deed in Lieu" of foreclosure. In either scenario, the number of properties going back to the banks will increase dramatically, since the options for their owners are so limited.

In turn the sales of the new foreclosure properties at distressed prices is likely to further depress values in the affected markets and the spiral will continue until affordability is there for average borrowers or when investors with cash are excited by the risk adjusted returns available from deeply discounted properties purchased for rental income.  A great deal of cash is sitting on the sidelines waiting for prices to crash to a level that will make the decision to invest a no-brainer. this is especially true of Hedge funds looking to buy distressed asset pools from lenders who must capitulate on pricing.

Unfortunately, this strategy leaves out the average investor, who cannot pay cash or afford to buy and hold. The benefit in this crash will accrue mostly to those who were already wealthy to begin with.

        

Guidelines to be in place Two Weeks from Today

The President spoke today about his plan to stem the tide of foreclosures, but there were few specifics.

Ultimately the market will determine the value of real estate.  The program outlined by President Obama may slow the tide, but appears to lack the teeth to mandate that lenders/servicers and MBS/CDO investors, (lenders) be forced to take current losses in order to reduce the principal balances on underwater mortgages. Especially those lenders who have accepted bailout funds. It also seems that taxpayers will be on the hook for the portion of payment reductions subsidized by the government plan, regardless of what the President has said.

Real estate is only worth what a willing buyer can pay (or finance) a willing seller, not a dime more.  Historical affordability for an average home has been a multiple (2.6 -3 times) average income.  Some bubble area pricing exceeded 20 times average income for an average home. Historically sustainable payments have not exceeded 28% of gross income when mortgage interest rates stay in the 6-8% range for a 30 year fixed mortgage.

If incomes continue to drop because of increased domestic unemployment, union concessions to save jobs or more exportation of high paying technical jobs to low cost venues like India and China, the prices of homes will continue to drop to match the historically sustainable relationship between income and prices and beyond because we are in a depression.

The financialization of America has resulted in two income earners in bubble areas using 38-60% of their gross incomes to make a house payment. In many cases that level of payment did not include repayment of principal. These same borrowers stripped equity out of their homes to support lifestyles the second equity was available. Lenders enabled this practice using exotic Credit Derivatives and this has proven to be unsustainable but was wildly profitable for lenders. Now those lenders want to socialize their mounting losses.

To date, little or nothing has been done, even by  those who accepted Billions in TARP funds, simply because making meaningful concessions and taking financial losses was not mandated in the original TARP legislation. Many of the current foreclosures would have been avoided if principal balance reductions were mandated in the original legislation. University studies of modifications in a large mortgage pool have shown that the tepid efforts of lenders have resulted in modified loans with higher payments than the original loans and potentially higher profits to the lender. (See http://papers.ssrn.com/sol3/cf_dev/AbsByAuth.cfm?per_id=854609#show1015381 for the papers of Alan White.)

Since the bubble extended the normal business cycle to the upside for at least two years, it is likely that the downturn will be extended for a similar period of time and the correction to the downside may over correct because of oversupply of foreclosed homes. It will be many years before housing prices appreciate more than inflation again and no one today wants to see another bubble.

Key Points in the announced Plan:

• Lenders will need to lower interest rates – government will take steps to keep interest rates low
• Lenders could reduce principal balances
• Need to maintain transparency and oversight
• Judges will be allowed to reduce principal balances for homeowners who perform according to court ordered payment plans (could include investor loans)
• Lenders must be held accountable
• Borrowers must be held accountable
• Refinance Loan to Values could increase from the current proven and sustainable 80% LTV
• Guidelines to be set for all lenders

The points of the new plan are very non-specific and once again do not fully and  forcefully address the underlying issue of affordability, which will ultimately determine values again. Public pushback and resentment of any bailout of “irresponsible borrowers” must be tempered by the fact that all borrowers are affected by dropping prices, regardless of whether they were honest and hard working or debt ridden spendthrifts.

Little was mentioned about the problems related to credit derivatives and the excessive leverage that led to the problems in the first place, but part of the solution presented is excessive leverage in refinances backed by taxpayers through the Government Sponsored Entities. This is unlikely to be a sustainable solution and very likely to result in a large burden to future taxpayers. Nothing was mentioned about legislation to cut through the legal structure of mortgage investment pools that block mass modifications in those pools. Artificially low rates imply a taxpayer subsidy and more socialization of losses.

Cramdowns in Bankruptcy will help those who are forced into bankruptcy or those who qualify for and elect to take the route of Bankruptcy and destroy their credit for years. It is unclear from the speech made by the president whether a loan modification must be attempted by a homeowner contemplating bankruptcy before a judge can make a principal reduction.

It seems that the threat of Cramdowns is being used in this proposal as an inducement to lenders to make more meaningful modifications. This threat is meaningless without mandated principal reductions within industry wide federal guidelines.

Bottom line, without more specific mandated participation in losses by portfolio lenders and mandated restructuring of Pooled Servicing Agreements in mortgage investment pools, this effort will prove to be ineffective in halting the tide of foreclosures and the drop in real estate prices.

        

Academic Shares Pitiful Results of Recent Loan Modification Efforts by Lenders

I recently found a well written, very pointed article with solid research about the results of loan modifications made by lenders and servicers before 2009 and wrote this letter to the author, a university professor studying the loan mess we have created. Here is the letter:

Dear Professor White,

I am happy I found your link at http://www.creditslips.org/creditslips/2008/12/what-is-a-loan-modification.html .  I am grateful that you are so active in objectively identifying and recording the failure of current “kick the can down the road” loan modification efforts of  lenders and servicers in the absence of tougher legislation.

I am not an academic, but have SFR Real Estate industry experience and I have been studying and writing about the mess we have created with the current credit bubble. I have a blog at http://unsustainabubble.com/ and I will be adding a ...<< MORE >>