The following headlines highlight what I believe is the next phase of the cycle in the real estate/mortgage markets:
- Late Mortgage Payments Jump to 3-1/2 Year High, New Foreclosures Hit All-Time High
- Bankruptcy lurks for subprime lender
- Report Reveals 2.2 Million Borrowers Face Foreclosure on Subprime Home Loans
- Shares of New Century Financial Corp. suffered their biggest drop ever, leading a decline in subprime mortgage companies and less-risky lenders.
- New Century, a California lender specializing in mortgages to people with poor credit records or heavy debt burdens, plunged $10.09, or 69 percent to $4.56 in New York Stock Exchange composite trading.
- Mortgage Standards Tightened - U.S.-chartered lenders are discouraged from qualifying buyers based on low starter rates.
- More Homeowners With Good Credit Getting Stuck With Higher-Rate Loans
- More Californians at risk of losing homes
In October 2005 I wrote a column about the “housing bubble” in which I argued that there were signs that the next downturn in the historical cycle of expansion and contraction of the real estate market had already begun. At the time, people seemed to be focused on the term “housing bubble,” as if it mattered what the escalating prices of homes was called, rather than actually analyzing what was happening.
So, here we are some 18 months later, once again witnessing the cycle at work: home sales slowing down and producing a backlog of unsold properties, homeowners who gambled on risky financing, such as adjustable rate mortgages (ARM) or “creative financing” with loan payments that don’t even cover the interest, leading to the failure of lenders. Many of these loans have recently been converting to more traditional forms of financing (which include principal amortization). The result is that loan payments for those borrowers increase to the point where they default because they can no longer service the debt.
Lenders are foreclosing and taking increasing numbers of properties into their “real estate owned” (REO) inventories. And, these can’t be unloaded in a down market without significant losses, often not realizing enough to even cover the loan balances.
Government statistics report 109,652 foreclosures in the U.S. in 2006, one for every 1,055 households - a 34.89% increase over the previous year. But, none of this is new. It has all happened before, repeatedly, and was very predicable.
A March 13 (2007) AP story reported the following:
…the third-quarter’s delinquency rate of 4.67 percent (and) was the worst showing since the spring of 2003
The latest snapshot of the mortgage market stoked Wall Street investors’ worries about troubles facing “subprime” lenders who make loans to people with poor credit. The Dow Jones industrials tumbled 242.66 points.
Lenders to subprime borrowers – people with blemished credit histories – have been battered. Rising interest rates and weak home prices have made it increasingly difficult for these borrowers – especially those with adjustable-rate mortgages – to keep up with their payments. Delinquencies and foreclosures in the subprime mortgage market are spiking.
The late-payment rate for all subprime loans jumped to 13.33 percent in the fourth quarter, up from 12.56 percent in the prior period and the highest in four years. The delinquency rate for subprime borrowers with adjustable-rate mortages was even higher – 14.44 percent, also the highest in four years.
The problem is that there is always a new crop of buyer-borrowers and so-called real estate “professionals” who have never experienced the ups and downs of the market and, as often happens, believe that a trend in motion will stay in motion forever. In this case, up.
But trends don’t continue forever, do they? Sooner or later, they always change direction: stocks, interest rates, prices of homes, whatever, you name it. Up markets eventually turn down and vice versa - always.
The trick is being able to judge the timing. But, anyone who believes they can predict any market with absolute certainty is either a liar or a fool, or perhaps just a good salesman. I’ve always been amazed at how people who sell securities are able to convince clients that they are capable of predicting stock values, and I often wondered, if they could that, why are they selling stocks to make a living? Why don’t they just invest in the market themselves and get rich managing their own portfolios?
One Santa Barbara mortgage lender I know personally recently made the following comments about the current situation:
Here is the other side of the story we have been talking about for some time.
This surge in property values was created by the loans you and I have discussed, not true value created by the ability to pay and wage level. Values have been created based on small payment, neg-am mortgages or hybrid ARMs that will eventually recast.
Those recast situations have been happening in large numbers now and will for a few more years. The values are no longer there for the borrower to just refinance or sell out of their situation. The result is that borrowers are defaulting in record numbers and lender's are having to buy back the loans from the secondary market. Additionally, lenders are having trouble selling their new loans on the secondary market.
I have been receiving several alerts about lenders just shutting their doors. They are shutting their doors with no notice and active existing loans in the pipeline are not being funded. For instance, if I had a buyer in escrow with Fremont this week ready to fund their loan and move in, it would not have happened. Fremont just shut their doors yesterday with active loans in the pipeline. Our wholesale rep had just e-mailed us Friday to tell us that the rumors of Fremont's demise were not true and that Fremont was live and well. She came in Monday to find it closed.
Fortunately, I deal mostly with “A” paper lenders and conservative type loans. I have not placed a loan with Fremont or any of these others mentioned in the article I am sending you. Fremont is mentioned in this article, as well as others.
http://www.bloomberg.com/apps/news?pid=20601087&sid=atnu8k1oxwJ8&refer=home (PLEASE NOTE: copy and paste this URL into the address on your browser – HRS)
I am amazed at how I am still hearing the real estate community say that the values are not going down and real estate is a good investment right now.
If the next phase of this current downturn in the mortgage market runs true to form, we will soon be witnessing a series of lender failures, particularly those who have been engaging in high-risk lending practices in order to book high profits. This will be followed by government intervention that will ultimately cost taxpayers big bucks. You may recall that the last major real estate crash in the 80s cost around $500 billion for the Feds to intervene, buy up and liquidate the REO portfolios of the S&Ls.
As you watch things unfold this time, keep in mind that this current mess is once again being brought to the American taxpayer courtesy of the government, which has permitted the high-risk lending practices that have brought us to this point.
(c) 2006 Harris R. Sherline, All Rights Reserved
