Nothing can stop the foreclosure train
The question wsa asked: how will the Dodd/Frank Bill affect foreclosures?
The Dodd/Frank Bill first has to get through Congress. Both are Democrats, and Republicans have to be convinced to participate. John McCain recently came down on bailouts, and he didn't do it because he is for responsible borrowing/lending. Well, maybe that too. But he did it largely because polls show the majority of Americans are against this bailout.
Politics will slow this down, as will realities of time. If/when such a bill ever makes it live, it is at least a year before folks are affected. 43% of California ARMs re-set by December.
And the bill is really just political grandstanding. The thrust of the bill is for lenders to take a loss and to re-finance at lower rates. The government (aka the taxpayer) would guarantee the loan. They will guarantee $30B.
Now, with $1T in loans re-setting, and Goldman Sachs estimating ~$500B in losses, that $30B doesn't go very far.
At heart, this is a government buyout of distressed properties. And a buyout at premium prices.
This plan is DOA because it won't stop foreclosures.
And, in fact, no plan will stop foreclosures or a collapse in home prices. To understand this you must understand how lending works. Banks are middlemen - they package the loans and sell them on. It's called ABS or Asset backed securities. You've heard versions of them called CDOs. They are bought by pension funds, insurance companies, other banks and investors - groups that need a guaranteed payment stream to offset their own payouts. Mortgages are great for this because they lock in rates for 30 years.
Banks can originate their own loans, called Agency loans, but these days, most lack enough funds. The entire US housing mortgage market depends on re-selling loans (the ABS). SO here are the problems:
* Why buy new ABS when the old ones are plentiful and selling at a deep discount. Centex homes just sold multiple properties for $162M when they were originally valued at $1B+. That's how cheap housing is becoming - literally pennies on the dollar.
* Why buy US mortgages when the default rates are moving up and expected to go up even higher?
* Why buy US mortgages when the dollar is eroding?
In February 2007, $323B of ABS were sold. Fast forward 1 year. In February 2008, barely $83B were sold. There gush of Other People's Money has slowed to a trickle.
Having to use their own money, banks are suddenly more cautious and demanding. Downpayments are back. Risk premiums are being charged. That's why mortgage rates have moved up while interest rates have moved down.
But lenders have to lend, so why wouldn't they work out some solution? Many are, in fact, tryingto do so. The realities are that banks are swamped and lack the manpower to deal with the massive volumes of foreclosures. Many are proposing solutions that basically delay the day of reckoning, following a strategy that the borrower's finances will improve (not likely) or that prices will stabilize (not likely).
And there is a ticking time-bomb called regulations. Laws force the hand of the banks. At some point the accountants force banks to take action with a loan default. Banks have a fiduciary responsibility to shareholders as well. Marking the asset to market would hurt the banks because they would be forced to recognize the loss in value and build up cash reserves - something that leads to credit tightening.
Banks need cash at the moment. Their borrowers are paying $0 (hence the notices of default leading up to foreclosure and these discussions between lenders and borrowers). And the reality is that banks that do the due diligence can determine ability to pay. That strawberry picker in Gilroy earning $30K and buying a $700K house, for example, is more likely than not to default anyway. Foreclose, take the home and get cash by selling. Banks are helped out in this situation by already writing off the loan and taking the loss.
Banks will harden their stance as folks begin defaulting in earnest (you can start to see the wave building now - even Kudlow has mentioned it).
Bottom line: throughout the housing bubble, banks found a way to avoid holding the bag. With no consequences, they were more than happy to give away money on easy terms. Now that they are no longer able to avoid the risk, they are back to being banks and not loan processing machines.
The Dodd/Frank Bill first has to get through Congress. Both are Democrats, and Republicans have to be convinced to participate. John McCain recently came down on bailouts, and he didn't do it because he is for responsible borrowing/lending. Well, maybe that too. But he did it largely because polls show the majority of Americans are against this bailout.
Politics will slow this down, as will realities of time. If/when such a bill ever makes it live, it is at least a year before folks are affected. 43% of California ARMs re-set by December.
And the bill is really just political grandstanding. The thrust of the bill is for lenders to take a loss and to re-finance at lower rates. The government (aka the taxpayer) would guarantee the loan. They will guarantee $30B.
Now, with $1T in loans re-setting, and Goldman Sachs estimating ~$500B in losses, that $30B doesn't go very far.
At heart, this is a government buyout of distressed properties. And a buyout at premium prices.
This plan is DOA because it won't stop foreclosures.
And, in fact, no plan will stop foreclosures or a collapse in home prices. To understand this you must understand how lending works. Banks are middlemen - they package the loans and sell them on. It's called ABS or Asset backed securities. You've heard versions of them called CDOs. They are bought by pension funds, insurance companies, other banks and investors - groups that need a guaranteed payment stream to offset their own payouts. Mortgages are great for this because they lock in rates for 30 years.
Banks can originate their own loans, called Agency loans, but these days, most lack enough funds. The entire US housing mortgage market depends on re-selling loans (the ABS). SO here are the problems:
* Why buy new ABS when the old ones are plentiful and selling at a deep discount. Centex homes just sold multiple properties for $162M when they were originally valued at $1B+. That's how cheap housing is becoming - literally pennies on the dollar.
* Why buy US mortgages when the default rates are moving up and expected to go up even higher?
* Why buy US mortgages when the dollar is eroding?
In February 2007, $323B of ABS were sold. Fast forward 1 year. In February 2008, barely $83B were sold. There gush of Other People's Money has slowed to a trickle.
Having to use their own money, banks are suddenly more cautious and demanding. Downpayments are back. Risk premiums are being charged. That's why mortgage rates have moved up while interest rates have moved down.
But lenders have to lend, so why wouldn't they work out some solution? Many are, in fact, tryingto do so. The realities are that banks are swamped and lack the manpower to deal with the massive volumes of foreclosures. Many are proposing solutions that basically delay the day of reckoning, following a strategy that the borrower's finances will improve (not likely) or that prices will stabilize (not likely).
And there is a ticking time-bomb called regulations. Laws force the hand of the banks. At some point the accountants force banks to take action with a loan default. Banks have a fiduciary responsibility to shareholders as well. Marking the asset to market would hurt the banks because they would be forced to recognize the loss in value and build up cash reserves - something that leads to credit tightening.
Banks need cash at the moment. Their borrowers are paying $0 (hence the notices of default leading up to foreclosure and these discussions between lenders and borrowers). And the reality is that banks that do the due diligence can determine ability to pay. That strawberry picker in Gilroy earning $30K and buying a $700K house, for example, is more likely than not to default anyway. Foreclose, take the home and get cash by selling. Banks are helped out in this situation by already writing off the loan and taking the loss.
Banks will harden their stance as folks begin defaulting in earnest (you can start to see the wave building now - even Kudlow has mentioned it).
Bottom line: throughout the housing bubble, banks found a way to avoid holding the bag. With no consequences, they were more than happy to give away money on easy terms. Now that they are no longer able to avoid the risk, they are back to being banks and not loan processing machines.
posted by Andrew at
6:58 AM
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