Saturday, March 27, 2010

Latest Foreclosure Prevention Initiative Written For Banks, Not Homeowners

This week the Obama Administration came out with some upgrades to the already unsuccessful HAMP program called "Making Home Affordable Program Enhancements to Offer More Help for Homeowners." The two items that stand out to me is the assistance for unemployed homeowners and principal reduction on both first and second mortgages,which on the surface look like they are being done to help borrowers.

It may sound sincere in aiding homeowners through modifications and principal reductions, but it's not. Remember, we're still in the Bailout Era, so this is being done as a sincerely worded, homeowner helping bailout of taxpayer money designed to benefit the Investment Banks and the four largest holders of second mortgages: BofA, JP Morgan Chase, Wellss Fargo, and Citibank. Here's the size of their second mortgage holdings:

BofA: $147 Billion
WF: $124 Billion
JPMC: $118 Billion
Citi: $53 Billion

You have to think that many of these second mortgages are upside down, having reverted to Unsecured Debt status (Ex. $500,000 Purchase Price in 2006 - $400,000 First Mtg, $100,000 Second Mtg. 2010 - $325,000 Home Value - $175,000 is actually unsecured debt).

The housing market the last 1.5 years has been propped up by TARP, TALF, HAMP, HAFA, PPIP, FASB suspension of Mark To Market Accounting, $8000 First Time Homebuyer Credit, The Fed buying $1.25 Trillion of Fannie/Freddie/Ginnie new mortgage issues, etc. All of these programs have had an impact in stabilizing home values after prices dramatically fell in 2007 & 2008. Some markets have even seen price increases. And all of these programs have been done at a very significant cost to American citizens, paid for up front by our dear friends in the People's Republic of China and the Federal Reserve's printing press, all to be paid back by future generations of Americans. And, all of this was done in an effort to keep large banks from failing one after the next.

TARP basically flooded the banks with $700 Billion of new cash and calmed the market right after Lehman Brothers went bankrupt, on the eve of Morgan Stanley collapsing which would have led to Goldman Sachs collapsing, and so on. Investors and uninsured depositors were amidst a run on the bank. The government stepped in to keep everyone from collapsing.

TALF provided $800 Billion government guarantees on consumer loans for credit cards, auto loans, and student loans. These loans were primarily securitized, but the securitization pipeline dried up, as losses started to snowball for prior investors, who were now spooked to invest in new issues of debt. The economy relies on the inexpensive financing of these products, so the government had to guarantee the debt to get investors to buy them and get cars off the showroom floors.

HAMP was created to force banks to work with homeowners to stay in their house through loan modifications. Under the surface, it was the administrations boldest attempt at "Extend and Pretend," meaning "extend" out the inevitable foreclosure as long as possible and "pretend" the value of the underlying $500,000 mortgage against a $250,000 home still is $500,000. It's better to book that loss way out in the future than to book it now. Keep kicking the can down the road. HAMP has had a low success rate, getting permanent modifications to delinquent or underwater homeowners. I've seen re-default rates of modified loans anywhere from 50-80%. The main problem was no principal balance reduction and it changed the logic taken by homeowners, who soon realized, "Gee, I can live rent-free for a long time because the bank is so slow in approving or denying my loan modification. Not a bad gig."

HAFA makes more sense to me. It's basically for all the homeowners who couldn't get a HAMP modification, if they have a Fannie/Freddie mortgage, they can Short Sell their house and the bank/servicer has 10 days to accept the offer. Anyone who's tried a Short Sale, knows that it's often a 3-6 month process to get an accepted offer from the bank. Why? Extend and Pretend. Book losses way out in the future rather than now. Stave off insolvency a little bit longer while building the warchest of cash reserves right now.

PPIP simply allowed a bank to sell their mortgage backed security (MBS) or Derivative Products or other "toxic asset" (worthless CDO's) to The Fed at par (100 cents on the dollar) whereas the market was only offering 1-10 cents on the dollar. The Fed would "loan" the bank money, backed and insured by the FDIC. ("Uh, Mr Bernanke, can I get an FDIC backed loan against this laptop I'm typing on, saying it's worth $1000, even though somebody would only pay me $50 right now?" "Sure Ted. Makes perfect sense to me. Do you want that in large or small bills?").

FASB suspension of Mark-To-Market accounting on long-term mortgage related assets in April 2009, allowed a bank to mark an asset (mortgage) or security (pool of loans/MBS) to a reasonably defensible level. Reasonably defensible are the key words. As long as you can defend it, and a regulator believes you with a "wink-wink," this will work. This is different than marking it down to it's actual value, which would result in paper losses and create greater demands on a bank to raise more capital. I see the logic in this one, since these investments are designed to mature on a 10-30 year time table.

$8000 First Time Home Buyer Credit. It was pointless in my opinion. A Realtor would tell you "It's great and embodies all the joys of a stable neighborhood and the pride of homeownership." Don't listen to them. It cost billions of dollars to American taxpayers and really didn't benefit the economy much besides the commissions and fees earned for the transactions, that would have taken place anyway, just at a slightly lower purchase price.

The Fannie/Freddie/Ginnie (Agency Paper) $1.25 Trillion mortgage purchase program by The Fed gave many of you a 4.50% 30 year fixed rate mortgage and provided liquidity to the mortgage market, which had come to a halt in 2008 with the mortgage market collapse, resulting from rising defauls in the pools of mortgage-backed securities (MBS). What happens with Agency paper, is Fannie/Freddie/Ginnie insure the MBS investor from loss, not the homeowner. They were chartered to provide liquidity to the housing market. They've done that for a long time. But they went a little too far, dabbling into subprime and raising their "conforming limit from $322,500 to $417,000 from 2002 to 2006, in stride with the housing bubble. Fannie & Freddie were taken over by the government in 2008 amidst major losses that year. Investors had always believed the US Govt would step in to cover losses at FNMA/FDMC, which it did. But investors were still leary of diving back into the market. In stepped The Fed with a $1.25 Trillion commitment to buy mortgages. This program ends in a few days and we'll probably see Phase Two starting in the near future to keep housing prices propped up, running counter to realistic fundamentals of an economy where 17% of the citizens are under and unemployed. Home prices should still be going way down, eh?


I think the eight separate items I outlined above should give you a clear pattern of what has been done since 2008 to keep the housing market inflated and the banks solvent. Obama's latest attempt is masked as a benefit to homeowners. This is a behind the scenes way of sending more taxpayer dollars toward the largest commercial banks for their upcoming next wave of mortgage-related losses.

The last decade was the crescendo of the credit bubble and it popped in 2007. Individuals, businesses, and governments became over-extended. In this country we have bankruptcy. In a personal Chapter 7 BK, you get to wipe away all your unsecured debt, re-affirm your car and your home, and start over. Chapter 11 BK's for businesses either dissolve an insolvent entity or restructures the debt to a manageable level in relation to the cash flow to hopefully thrive again. (Or not, like the airline industry which seems to flirt with bankruptcy protection every few years).

What's happening in the US, is that everyone is being allowed and incentivized to push out their eventual bankruptcy to keep the financial system from collapsing. Fed policy the last 25+ years was to incentivize debt creation to support greater and greater asset appreciation to offset declining real wages (from globalization and the arrival of America's predominant service economy), which would perpetuate more borrowing against these same appreciating assets (leveraging), driving prices higher for other assets as a result of more money chasing limited opportunities for assets.

(Think of leveraging this way - you bought a house for $100,000. The value doubled to $200,000. You pulled out $60,000 to buy another 3 houses for $100,000 - putting $20,000 down on each. Your neighbor is doing the same thing, and he offers you $150,000 each for the three houses. You sell to him, netting $210,000. So you buy 7 more houses at the new price of $150,000, putting $30,000 down on each. Everyone is doing this because it's so easy to get a loan. Finally, the credit market collapses, all the buyers have vanished, you and your 7 tenants have lost their jobs. You wind up selling each house for $60,000).

All of this leveraging was made possible by securitization of debt (individual loans packaged into a large pool) sold off to investors as a security instrument, insured by an bond insurance company, investment bank, or hedge fund (think AIG Financial Products insuring Subprime Mortgage Credit Default Swaps), lowering the cost of borrowing to millions of Americans who never should have been homeowners in the first place along with millions of speculator/flippers looking to cash in on the party.

Well, the credit bubble popped and brought down the asset bubble. Obama keeps using a harsh tone with bankers who won't lend money to struggling consumers and small businesses, but that's the last thing people need right now is take on more debt. He knows it too. It's good for a small uptick in his approval ratings.

Lending is the last thing a bank needs to do as well. Hoarding cash to offset the potential $400 Billion in second mortgage losses along with all the other eventual mortgage and credit related losses, is what the banks should be doing and ARE doing.

If people cannot afford their homes, they need to sell their home. There's nothing sacred or special about the four walls and roof that provide shelter to their family. It can be replaced. There's no sense in paying a $500,000 mortgage on a $250,000 home when you cannot afford to pay for your essentials. The government will not come to the rescue of the homeowner, no matter what new initiative they come up with. They are too busy coming to the rescue of the banks with taxpayer money, which is a much bigger problem.

Hope you all have a nice weekend.