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FRED
07-12-07, 04:19 PM
http://www.itulip.com/images/mortgageswampburp.jpgEverything you ever wanted to know about how bad the mortgage mess is but forgot to ask

Today Credit Suisse issued a new report titled Mortgage Liquidity du Jour: Underestimated No More. (Thanks Sapiens for locating it.) Below is a brief rundown of some of the most pertinent charts. We analyzed Credit Suisse' previous report on ARM resets here (http://www.itulip.com/forums/showthread.php?t=1114).

Often we hear that, sure, a lot of crummy subprime loans are going bad with more to come, and, yes, the ratings agencies have downgraded the bonds that backed these mortgages, but that's because the borrowers are high credit risk due to poor credit records and income histories, and the problems will be confined to subprime mortgages and to borrowers who are in the high credit risk category. This new report suggests that this view is false.

You probably know that Low/No-Doc loans are also called "stated income" or "liar" loans. That's because the borrower was allowed, and in some cases encouraged, to overstate their income in order to qualify for the loan. Obviously, these borrowers are at a higher risk of default than borrowers who are living within their means, who borrowed only what, by traditional measures, their income will permit. A low credit risk has in effect be turned into a high credit risk by the act of lending more money than income will reasonably allow these borrowers to repay. If in addition to subprime borrowers, a significant number of Alt-A, Jumbo, and Prime borrowers were also granted Low/No-Doc loans, then risks in the mortgage market cannot be confined to subprime loans.

How many Low/No-Doc loans were originated for each class of securitized loan? As it turns out, more than 80% of Alt-A, more than half of Jumbo, and 36% of Prime securitized loans (approximately 75% of all mortgages are securitized).


http://www.itulip.com/images/nodoc.gif

One hope is that price declines are reaching the end of the cycle. However, prices for new homes on order fell 12% in Q4 2006. This shows a market still in steep decline, not bottoming out.


http://www.itulip.com/images/neworderprice.gif

The rise in vacant homes indicates that some regions of the US are entering Step E, as defined by iTulip's January 2005 Housing Correction prediction (http://www.itulip.com/forums/../housingbubblecorrection.htm), while others are only at Step B and may not decline further.

"Five years into the downturn, rising unemployment will begin to more seriously affect the market, as indicated in Chart 1. As unemployment rises, homeowners will leave housing bust regions to move to areas where there are more jobs. Many houses will be sold at a loss, or even abandoned, as the market price falls below the loan value. Given the choice between paying cash out of pocket to sell their home or leaving the keys with the bank, many home owners will make the latter choice."


http://www.itulip.com/images/vacant.gif

Piggyback loans are another risky mortgage. Piggyback loans get their name from a second mortgage that is "piggybacked" onto a first mortgage to compensate buyers who are unable to come up with a larger down payment or any at all. Piggyback borrowers are another group that is vulnerable to default. More than 50% of subprime and Alt-A mortgage holders fall into this category.


http://www.itulip.com/images/piggybacks.gif

This picture is to us the most disturbing of all. It shows that an average of one quarter of all mortgage loans made since 2003 were to "homeowners" who are doing nothing more than renting a house from the bank. There is no equity built in a home during the period when the borrower is paying only the interest on the loan. This borrower has no incentive to fight to stay in their home if the price falls and the mortgage goes underwater, especially if they lose a source of income. They have no equity to lose.


http://www.itulip.com/images/interestonly.gif

This chart is from our previous analysis. It shows arm resets by mortgage type over time. It shows a large group of borrowers who have adjustable rate mortgages which will, of mortgage rates continue to climb, experience major increases in their monthly payments. According to CNN, they "may see their monthly mortgage payments climb by 35 percent or more." Many will try to refinance into a fixed rate mortgage, but this may be impeded by a continued tightening of lending standards.


http://www.itulip.com/images/armadjust.gif

No surprise that after this lending free-for-all defaults are starting to rise and lenders, in response, are tightening lending standards.


http://www.itulip.com/forums/../images/tightlending.gif

Where did the money come from to back these loans? From the asset-backed securities (ASB) firms that you've been reading about. Note that Fannie Mae and Freddie Mac reduce their holdings of household mortgage debt, ASB firms make up the difference, and then some.


http://www.itulip.com/forums/../images/percentheld.gif

The last is the bag-holder chart. It shows Freddie Mac and Fannie Mae holding about 50% of all mortgages. Guess who bails these guys out when the time comes?


http://www.itulip.com/images/firstlienSM.gif (http://www.itulip.com/images/firstlien.gif)

What you see in the charts and graphics above is a picture of millions of borrowers who, as No-Doc and Piggyback mortgage holders, have taken on more debt that they can afford even when the monthly payment on their ARM is low. As trillions of dollars in mortgage loans reset to higher monthly payments before the end of the year, the already historically high rate of foreclosure, and falling sales and prices accelerated by more frequent abandonment of homes by borrowers with negative equity, along with negative wealth effects, reductions in consumer confidence, will drive the US economy into recession. We are sticking with our October 2006 prediction of a housing led recession in Q4 2007.

Other Housing Related:
The New Road to Serfdom (Feb 2007) (http://www.itulip.com/forums/showthread.php?t=966)
Are We Idiots? (Apr 2007) (http://www.itulip.com/forums/showthread.php?t=1205)
Fueling the FIRE Economy: Part I (Apr 2007) (http://www.itulip.com/forums/showthread.php?t=1114)
Sub-prime Loans and the Failure of Credit Welfare (Mar 2007) (http://www.itulip.com/forums/showthread.php?t=1087)
Top in Housing Bubble - Dancing, Booze and Overpriced Houses (Jun 2005) (http://www.itulip.com/forums/showthread.php?t=606)
Housing Bubbles Unlike Stock Bubbles (Jan 2004) (http://www.itulip.com/forums/../housingnotlikeequities.htm)
Housing Bubble Correction Prediction – Timing (Jan 2005) (http://www.itulip.com/forums/../housingbubblecorrection.htm)
Housing Bubble Correction Prediction – Geographic (Mar 2006) (http://www.itulip.com/forums/../housingpriceregionscascade.htm)
The Six D's of Foreclosure (Jul 2006) (http://www.itulip.com/forums/showthread.php?t=179)
Global Housing Bubble? Report from Thailand (Aug 2006) (http://www.itulip.com/forums/showthread.php?t=374)
High Commuting Costs Push Rural Property Owners Past the Tipping Point (Mar 2006) (http://www.itulip.com/forums/../reportfromthefront.htm#Rural_Property_Owners)
Housing is correcting in northern California. How far will it go? (Apr 2006) (http://www.itulip.com/forums/../reportfromthefront.htm#N.CA_Housing_Correction)

iTulip Select: (http://www.itulip.com/forums/showthread.php?t=1032) The Investment Thesis for the Next Cycle™
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bill
07-12-07, 06:56 PM
Superb analysis, send this to CNBC and Bloomberg they can use it in a special presentation and put the public on alert as to what’s about to happen. CC a copy to Moody’s and S&P for their risk ratings report.

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zoog
07-13-07, 01:40 AM
The rise in vacant homes indicates that some regions of the US are entering Step E, as defined by iTulip's January 2005 Housing Correction prediction (http://www.itulip.com/forums/../housingbubblecorrection.htm), while others are only at Step B and may not decline further.

That's interesting...


As trillions of dollars in mortgage loans reset to higher monthly payments before the end of the year, the already historically high rate of foreclosure, and falling sales and prices accelerated by more frequent abandonment of homes by borrowers with negative equity, along with negative wealth effects, reductions in consumer confidence, will drive the US economy into recession. We are sticking with our October 2006 prediction of a housing led recession in Q4 2007.I'm sticking with believing you're right.:D

However, looking at the reset schedule chart, it appears that the peak in resets will happen ~ October/November this year, with most of that subprime. One of the other graphics in the report was this one, showing the typical foreclosure cycle is four to six months from default to showing up on the market.

http://img71.imageshack.us/img71/8109/foreclosurecyclela2.gif (http://imageshack.us)

With that delay in additional supply being dumped on the market, causing prices to drop, causing potential buyers to hesitate, etc... would this postpone the recession until early/mid 2008? Or do you think there is already so much in the pipeline in terms of defaults & foreclosures and the CDO shakedown that the recession will hit even before the reset peak?

bill
07-13-07, 10:12 AM
With that delay in additional supply being dumped on the market, causing prices to drop, causing potential buyers to hesitate, etc... would this postpone the recession until early/mid 2008? Or do you think there is already so much in the pipeline in terms of defaults & foreclosures and the CDO shakedown that the recession will hit even before the reset peak?

EJ 1-10 cycle:http://www.itulip.com/forums/showthread.php?p=11082#poststop


The process goes like this.

1. As the housing market tanks, the US economy slows even while other countries' economies keep growing.
2. As the US economy slows relative to other nations which also attract foreign investment, the relative expected future return on investment in the US falls.
3. Among other financial assets, demand for US treasuries bonds falls.
4. As demand for US treasury bonds falls, prices fall and yields rise.
5. Demand for bonars (http://www.itulip.com/glossary.htm#Bonar) also declines because fewer are needed when converting foreign currencies to bonars to purchase bonar denominated financial assets.
6. Import prices rise.
7. In the US, where so much of the low inflation story is based on cheap imports, the impact on net inflation is significant.
8. Bond yields rise in response to increased inflation risk.
9. Mortgage rates rise.
10. Housing market tanks some more. Go to step 1.




I think in 08 in addition to the housing debacle the PE bubble will start to have a impact. Jim Finkel said http://www.itulip.com/forums/showthread.php?t=757 in a interview:


Private equity bubble is even bigger than mortgage bubble, and serious macro-economic fallout is more likely

FRED
07-13-07, 11:04 AM
If the US economy were not already skirting recession, I'd agree with you. But given weak Q1 performance and drastically low retail numbers in June, when demand is traditionally strong, you are arguing the 50% probability iTulip Economic Face Plant case: we get a drastic self-reinforcing recession such as we have not seen in decades.

Housing recession -> cap-ex recession -> layoffs -> demand implosion

Darin
07-13-07, 12:00 PM
Oddly, the front page has the same first line as the forum post, but the "here" at the end of the front page is not hyperlinked.


As usual, great summary of the Credit Suisse report.

c1ue
07-13-07, 02:03 PM
Interesting additional info from:

http://www.fpafunds.com/news_070703_absense_of_fear.asp


We (Robert L Rodriguez & Co.) were on the March 22 call with Fitch regarding the sub-prime securitization market’s difficulties. In their talk, they were highly confident regarding their models and their ratings. My associate asked several questions. “What are the key drivers of your rating model?” They responded, FICO scores and home price appreciation (HPA) of low single digit (LSD) or mid single digit (MSD), as HPA has been for the past 50 years. My associate then asked, “What if HPA was flat for an extended period of time?" They responded that their model would start to break down. He then asked, “What if HPA were to decline 1% to 2% for an extended period of time?” They responded that their models would break down completely. He then asked, “With 2% depreciation, how far up the rating’s scale would it harm?” They responded that it might go as high as the AA or AAA tranches.

zoog
07-13-07, 03:00 PM
bill, Fred, c1ue, all good info, thanks. So a recession starting late this year, that gets progressively worse as defaults grow and hedge funds stumble and everything keeps building upon itself.

There's still talk out there that the stock market tends to do well in election years. Could that still be a possibility in the midst of such a recession?

My personal take on this has been to expect a relatively mild recession late this year, followed by a weak recovery next year, then followed by a serious crash say 2009 or so. But I'm just an armchair economist, so I trust iTulip analysis and forecasts more than my own.

FRED
07-13-07, 03:06 PM
Interesting additional info from:

http://www.fpafunds.com/news_070703_absense_of_fear.asp

c1ue, good catch.

Recall the first Jim Finkel interview in early March? He said a national housing price decline > 14% over 3 - 5 years meant that everything was priced wrong, including AAA.

FRED
07-13-07, 03:09 PM
bill, Fred, c1ue, all good info, thanks. So a recession starting late this year, that gets progressively worse as defaults grow and hedge funds stumble and everything keeps building upon itself.

There's still talk out there that the stock market tends to do well in election years. Could that still be a possibility in the midst of such a recession?

My personal take on this has been to expect a relatively mild recession late this year, followed by a weak recovery next year, then followed by a serious crash say 2009 or so. But I'm just an armchair economist, so I trust iTulip analysis and forecasts more than my own.

The biggest errors iTulip has made in the past is not in predicting recessions but underestimating the willingness and capacity of the Fed and Congress to fight them once they get underway. Problem is, no two cycles are the same, and we are starting out from an extraordinarily bizarre place.

bart
07-13-07, 06:41 PM
The biggest errors iTulip has made in the past is not in predicting recessions but underestimating the willingness and capacity of the Fed and Congress to fight them once they get underway. Problem is, no two cycles are the same, and we are starting out from an extraordinarily bizarre place.

Same here - *sigh*

For what its worth, another TIO ("hot money" injection) operation from the Treasury appears to have started today with $13 billion. Over 95% of these in the last year have resulted in up markets.

DemonD
07-13-07, 07:10 PM
Same here - *sigh*

For what its worth, another TIO ("hot money" injection) operation from the Treasury appears to have started today with $13 billion. Over 95% of these in the last year have resulted in up markets.

This is why I learned very early in life to never bet against the house. You can hedge against the house or insure yourself against the house, but betting against it is a game i'm not willing to play.

bart
07-13-07, 07:58 PM
This is why I learned very early in life to never bet against the house. You can hedge against the house or insure yourself against the house, but betting against it is a game i'm not willing to play.

Indeed... and just finding out how to monitor the house to know what they're betting on is less than simple.

“An investment operation is one which, upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”
-- Benjamin Graham

c1ue
07-13-07, 09:54 PM
This is why I learned very early in life to never bet against the house. You can hedge against the house or insure yourself against the house, but betting against it is a game i'm not willing to play.

Luckily there is more than 1 house to bet on/against.

The US economy as a share of the global economy is still large, but shrinking.

As with any stock/bond - the future trend rates will factor heavily into present prices.

Sometimes the only way to play is play somewhere else - that's my strategy.

bill
07-14-07, 02:33 PM
c1ue, good catch.

Recall the first Jim Finkel interview in early March? He said a national housing price decline > 14% over 3 - 5 years meant that everything was priced wrong, including AAA.

Asia Times:http://www.atimes.com/atimes/Global_Economy/IG14Dj01.html

Why did the rating agencies rate the way they did?


However, there are two immediate problems with this. First, ratings are paid for by the people issuing the bonds mentioned above, not the people buying them. Thus there is a logical business reason for maintaining the rating at a higher level than is strictly warranted by fundamentals. This is called a conflict of interest.

The second problem is that ratings are merely opinions. It is a bit like a film reviewer saying that the latest Bruce Willis movie is fantastic, while it may well turn out to be a stinker for most people. The difference, of course, is that a bad film recommendation only costs you US$10 (less if you buy a pirated disc in Shenzhen), but a bad ratings opinion can cost you millions. The agencies, while sophisticated, do not know the future any more than the typical astrologer. They therefore use masses of data to justify their opinions, all the while employing analysis of historical information.


Why did the rating agencies wait so long to downgrade?


This week
What happened this week was a result of the prices of mortgage securities falling sharply in the past few weeks. Finally on Wednesday, the rating agencies moved to cut ratings of more than $12 billion worth of bonds. This forced the "hogs" mentioned above to sell their bonds into a market that was already nervous about further weakness in the US economy.

The result was, of course, carnage. Being unable to sell all the securities they had, many of the investors had to sell other securities, including corporate bonds hitherto unaffected by the rating moves.

The immediate question arising from the rating agencies' action focuses on timing. Why did they downgrade this week, based on information that had been available since February? The reason, of course, goes back to the conflict of interest - if agencies admitted that their ratings criteria were wrong, they would lose a lot of business. Indeed, financial newspapers have been pointing out over the past few weeks that smart investors such as hedge funds have been "short" the stock of rating agencies (or their holding companies) for precisely this reason.

As alluded to above, we can see that the extra time gave the big investment banks the opportunity to get rid of their existing positions, most often to big central banks around the world. We will know how much these banks lost, especially in Asia, only over the next few years rather than weeks.


Who gets burned as a result from all these miscalculations done by the rating companies?


Next steps
The subprime banana skin has thus claimed a number of victims, including Asian central banks that are forced to hold billions in US dollar securities because of their currency manipulation that pushes up reserves. It almost seems poetic justice that the manipulators are given losses by the very people they think they are helping, namely over-consuming Americans.

I believe that forced liquidation of many portfolios in Asia will create further losses, but American borrowers will emerge in essence unscathed from all this. Holders of mortgage securities do not have any claim on the underlying assets, only on the intermediate companies, which will of course declare bankruptcy, thus leaving empty shells for lenders to pursue. Unlike in previous crises such as that involving the telecom sector in 2002, most of the losses will be absorbed by central banks around the world rather than North American or European commercial and investment banks.

This is one of the greatest robberies of our time, and it will go unreported in essence. Hard-working Asian savers will see their central banks post billions of dollars in losses on the US mortgage crisis in the next few years, but nothing can be done about it given the general lack of accountability across Asia.

lethal
07-15-07, 12:29 AM
bill, Fred, c1ue, all good info, thanks. So a recession starting late this year, that gets progressively worse as defaults grow and hedge funds stumble and everything keeps building upon itself.

There's still talk out there that the stock market tends to do well in election years. Could that still be a possibility in the midst of such a recession?

My personal take on this has been to expect a relatively mild recession late this year, followed by a weak recovery next year, then followed by a serious crash say 2009 or so. But I'm just an armchair economist, so I trust iTulip analysis and forecasts more than my own.
The 'Powers that Be' are going to resist this sequence of events, adjusting the figures (Inflation, Employment, etc) and priming the economy for as long as humanly possible.

My understanding is that with the 2008 Elections, the government and the President go into caretaker mode.

Q: Will this impact their ability to 'manipulate' the economy?

If so, will all of the manipulation and deception stop?

With the amount of pressure built up underneath the deception, how long will it take to reflect in the economy (explode)?

Q: Will the US support the Dollar at current levels?

bill
07-15-07, 01:39 AM
Video: US Home prices adjusted for inflation plotted as a roller coaster:

http://video.google.com/videoplay?docid=-2757699799528285056&q=real+estate+roller+coaster&total=14&start=0&num=10&so=0&type=search&plindex=0

Rajiv
07-15-07, 10:37 AM
Scary video!!

The relevant graph is here, and very educational

http://www.speculativebubble.com/images/homevalues1.gif

and the projected bust

http://www.isecureonline.com/Reports/SUR/images/HTgraph1.gif

bill
07-16-07, 09:45 PM
Please China we are begging you to buy more Mortgage Securities.

http://www.bloomberg.com/apps/news?pid=20601080&sid=ay1Ry.YsHsDw&refer=asia


July 13 (Bloomberg) -- The U.S. is urging China's central bank to buy more mortgage-backed securities after a surge in defaults by risky borrowers in the world's largest economy eroded demand for such instruments.

bill
07-19-07, 02:25 AM
http://www.lvrj.com/business/8516877.html



Real estate consultant John Burns said home prices in Las Vegas need to drop by 33 percent, or about $100,000, before the market returns to normal conditions. He shows the housing cost-to-income ratio at 50 percent, meaning people spend half their income on housing. Reno is the same.
The national average is around 30 percent.

Information on housing:http://housingdoom.com/

Rajiv
07-21-07, 12:54 AM
Good article "Foreclosures Up 90% From Last Year - Winners and Losers in the Housing Market Crash" (http://counterpunch.org/farago07202007.html)


In a quarterly conference call yesterday reported by The New York Times, JP Morgan CEO Jamie Dimon referred to the current business climate as "a relatively benign point in the credit cycle."

The market judged the company differently, sending share prices 3 percent lower by the end of the trading day.

Market jitters and JP Morgan's comments are relative to the subprime mortgage meltdown.

In recent weeks, Wall Street's biggest players have all stuck to the same pitch: that the subprime mortgage mess is "contained".

It is about as contained as inflation. You remember inflation? That's the index that omits food and energy prices because American consumers don't drive cars or eat.

Who would omit the price of food or energy from a core index? Clearly, someone or ones who want Americans to believe the cost of living is nothing compared to the benefits of democracy.

That's how the meaningful is turned to meaning-less.

Along the same lines, today Federal Reserve Chair Ben Bernanke told Congress in his mid-year economic report that he thought "the demand for housing would stabilize "soon".

Understand, though, that the charade that passes for current thinking on the economy in Senate or House subcommittee hearings is stage-managed by well-educated and well-compensated types who know perfectly well how poorly the broad stock market indexes have performed in relation to inflation.

And they read the papers and the blogs: consumer confidence is down, homebuilders confidence is plummeting, and public corporations, like Pulte Homes in yesterday's announcement, are hemorraging value.

Behind closed doors, including the doors of the Federal Reserve, one must infer that the dialogue is of a substantially different character. These knife-blade conversations do not show up in print.

goprisko
07-31-07, 03:26 AM
Dear Fred:

Thank you very much for a detailed and cogent analysis.

However................

One important thing seems to be missing..............

This isn't just any old 10 year period in which to experience a bear market
in housing, no sir !

This is the period in which the baby boomer generation retires......

Demographically, this generation will want to downsize their homes, sell them to buy yachts, or condos in St. Maarten, or burial plots...

I remember reading elsewhere.... in a galaxy long ago..... and far, far, away....

THAT...

The boomer retirement demographics alone.... were sufficient to create a housing recession..........

Your view??????

INDY

FRED
07-31-07, 03:56 PM
Dear Fred:

Thank you very much for a detailed and cogent analysis.

However................

One important thing seems to be missing..............

This isn't just any old 10 year period in which to experience a bear market
in housing, no sir !

This is the period in which the baby boomer generation retires......

Demographically, this generation will want to downsize their homes, sell them to buy yachts, or condos in St. Maarten, or burial plots...

I remember reading elsewhere.... in a galaxy long ago..... and far, far, away....

THAT...

The boomer retirement demographics alone.... were sufficient to create a housing recession..........

Your view??????

INDY

Several factors are working against single family suburban homes:

1) Rising energy and commuting costs will push down the prices of homes located more than 30 min. from regional job centers
2) Aging demographics is causing a migration north to south
3) Aging demographics will cause a shift out of homes and into condos near or in cities

One mitigating factor is the work-at-home trend that will reduce the frequency and cost of commuting.

DemonD
07-31-07, 05:57 PM
Hey Fred (or other itulip staff), I have yet to run across a good analysis on the "work-at-home" crowd and how it will affect the economy. This hits semi-personally as my significant other is looking to transition into a more home-based business type way of generating money.

goprisko
08-02-07, 01:40 PM
Does anyone really think the Chinese Central Bankers will buy Mortgage
Backed Securities?

Aren't they actually dumping them? Assuming they had them in the first place...

INDY