Foreclosure Moratoriums: It's Time to Get Real

Let's take a look at Citibank (C), J.P. Morgan (JPM) and the Mortgage GSEs' plans to temporarily suspend foreclosure proceedings:

(From the Associated Press): "WASHINGTON – JPMorgan Chase & Co. and Citigroup Inc. are expanding their efforts to halt home foreclosures while the Obama administration develops its plans to help the U.S. housing market.

JPMorgan Chief Executive Jamie Dimon said the New York company plans to halt new foreclosures for owner-occupied home loans through March 6. Dimon made the pledge in a letter to Rep. Barney Frank, D-Mass., chairman of the House Financial Services Committee, who released it on Friday.

"This moratorium replicates the 90-day foreclosure freeze we announced on Oct. 31," Dimon wrote. "We believe three weeks is adequate time for the Treasury to announce — and for us to implement — a new plan."

Citigroup's foreclosure moratorium applies to all "Citi owned first mortgage loans that are the principal residence of the customer as well as all loans Citi services where we have reached an understanding with the investor" until President Barack Obama's administration has finalized the details of the loan modification program or March 12, whichever is earlier, according to a company release. New York-based Citi's action expands on a similar effort that it started in November.

Frank on Wednesday called on the mortgage industry to enact broad foreclosure moratoriums, and executives from the nation's largest banks committed then to such action…

...Government-controlled mortgage finance companies Fannie Mae and Freddie Mac suspended foreclosure sales during the winter holidays and have halted evictions from foreclosed properties until next month. And earlier this week, John Reich, director of the Office of Thrift Supervision, urged the more than 800 thrift institutions nationwide to do the same.

Meanwhile, the administration is considering spending taxpayer dollars to cut monthly payments for homeowners on the verge of foreclosure."

There are a couple of problems here:

Suspending a foreclosure is of no help to someone who bought a house they couldn't afford, giving them more time isn't making the payments going away, nor is it helping the person increase their income. As a result all you're doing is to do delay the inevitable and possibly creating a situation where the impact of the eventual foreclosure will be even worse. The smart thing to do is to help these people get into a sustainable and affordable housing situation, not help them to perpetuate a bad one.

It's glaringly obvious that the government (and others) are refusing to face the facts around the mortgage crisis: people bought homes they can't afford and no amount of "loan modification" can change that. Hence the reason that 36% of all modified mortgages are 30 days or more past due after 90 days, meaning that many of the people whose mortgages were modified struggled to make even one payment.

Subsidizing Mortgages with taxpayer dollars should be a non-starter, it shouldn't even be on the table. What's the government going to do, subsidize someone's mortgage until they build up their income and/or pay the mortgage off? Are they going to make lump sum payment to reduce principle so they person can refinance with a lower payment?

Considering that we're in a crisis caused by irresponsible behavior on the part of lenders and borrowers, does it really make sense to both subsidize and encourage future irresponsible behavior that could very well be the cause of our next economic crisis? If we want to have a stable economy in the future we have to encourage people to behave in a manner that's both responsible and sustainable.

Furthermore how can our Congress (and the average citizen for that matter) have the moral authority to deride Wall St. for executive pay, perks, private jets, etc, when the same amount of outrage doesn't exist for bailing out irresponsible citizens?

I didn't realize that this was the United States of Hypocrisy, I'm starting to think that some people only believe in personal responsibility, self-reliance, etc, when it's convenient.

Prolonging the problem: the decline in housing prices isn't going to stop until the foreclosure problem has run its course, and prices have declined to pre-housing boom levels. Artificial methods of propping up the housing market are only going to prolong the very problem that these fatuous tactics are trying to prevent.

Instead of trying to prevent the foreclosure problem the government should focus its efforts on getting people into affordable housing situations, not only will this help the housing market reach bottom faster but the people who are struggling to keep their homes will find themselves better off in the end.

You can read more here(AP) and here (WSJ); Dimon's letter to the government is available here.

Sources:

The Associated Press: "JP Morgan, Citigroup halting foreclosures" -- Alan Zibel, February 13, 2009.

Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.

Comments

[41justice:]

I closed some of these mortgages as a convence to my clients. I warned them about adjustable rate and interest only mortgages and the then current historically low interest rates. I warned those buying properties to flip that the market was unreasonably high and that someone would be caught holding the bag when the market went South (down). My advice was ignored. Now some are asking about what are the consequences of walking away. Not good. I believe that eventhing the government has done so far will have bad consequences. Everyone seems to think that the government will bail them out. I doubt it. The government is merely prolonging the misery.

Feb 16 09:44 AM

[Hmm?!:]

These two statements say it all, unless someone can not do simple math (from Mortgage Liquidity Du Jour by Credit Suisse, March 2007)

"low/no documentation loans increased from just 18% of purchase originations in 2001 to 49% in 2006"

"sampling 100 stated income loans found that 60% of borrowers had "exaggerated" their income by MORE than 50%"

The above would be fraud. So now we know the criminal element is really Wall Street, Congress and more often than not the homeowners themselves. Most of them could never pay in the first place. So other than a mere handful there really isn't anything to save.

Feb 16 09:49 AM

[Rhett:]

The ultimate solution is to let housing prices find their "natural" market level. They're going to do so anyway, whatever Obama, Inc, does.

Feb 16 10:13 AM

[scotty1560:]

Many of you folks think everybody buying was flippers or using no money
down. Quite a few people put down 10--20% and in areas like South Florida
see their value down 60+%. So on a 500k home with 100k down, the home
is worth 200k now, and you still owe 400k. At least 200k negative on a home
you bought 3 years ago.

My thinking is to streamline and get the people out of an unmanagable
situation. These buyers have been slaughtered in masses, say 7-8 years
worth of buyers.

If they are working re-write the loan with a new appraised value, or get
them out and auction off the house for expediency. Foreclosures and short
sales are taking way to long and further depressing the situation. Short
sales are a joke, banks take months to respond, squeeze the distressed
seller for any remaining assets like retirement accounts, and have turned
off buyers from this long arduous process.

Feb 16 10:32 AM

[NANA:]

WAKE UP AMERICA, LET THEM RENT THE HOMES FROM THE LENDER'S.SOME $$$ IS BETER THEN NO DOLLARS. wHEN AND IF THEY GET A PAYING JOB AGAIN. MR. OR MRS. LENDER DROP THE AMT OWED TO THE VALUE OF THE HOME. LET THEM START PAYING AGAIN. HOW MANY "ON THE STREET PEOPLE DP YOU ALL WANT!!!WE WILL ALL PAY FOR THAT. NOT TALKING ABOUT THE MORALE ISSUE. SO NICE TO COMPLAIN,WHEN YOUR SNUG AND COMFI. GO WORK IN A SOUP KITCHEN, OR THRIFT STORE, SEE WHO IS ON LINE. iT MAY BE YOU REALITIVE NOW OR SOON...

Feb 16 10:51 AM

[ArnoldCountry:]

I somewhat agree but I do take exception to the personal responsibility statements. What about corporate responsibility? I equate many of these products to the wares of "snake oil salesmen". We have all lost sight of the old statements "a sucker is born every minute", "if it is too good to be true, it most likely is." These statement have not come about by the housing crisis, they have existed as long as there have been salepeople. The public, for the most part, have been snookered again by salespeople. A combination of wall street, lenders, loans officers, real estate salespeople all have played a part in taking advantage of suckers. Did they sign the loan documents? Yes. Did they read them? No. Every salesperson and corporate officer of those entities knew they would not. Are there abusers? Sure. Are there stupid people who beleived they could own a McMansion while having an average job? Sure. But do not lose sight... corporate greed created the products and sales peoples (snake oil salesmen) peddled them to people who were suckered. This is a time tested process.

Feb 16 11:26 AM

[JohnL:]

<We have all lost sight of the old statements "a sucker is born every minute", "if it is too good to be true, it most likely is." These statement have not come about by the housing crisis, they have existed as long as there have been salepeople.>

If there was fraud, there should be prosecution. But the fact that these statements are so old and so well-known in our culture, is just evidence that these homebuyers can't claim ignorance about snake oil. It still comes back to a really basic question: who should take (financial) responsibility for a person's mistakes? I think it is immoral to forcibly take money from one person's pocket to pay for the mistakes of another. That's the intended purpose of all these bailouts.

Feb 16 12:37 PM

[jksisco:]

The money that was generated from the housing bubble was passed around to everyone, we all benefited from it, but, the party is temporarily over and yes, some of the solutions will seem "unfair" to the "responsible". A high tide lifts all boats, however, not being part of the solution and instead pointing fingers will accomplish nothing. At this point, we all need to pull together. The banks and lenders need to look at the big picture as do some homeowners who will not be able to salvage their current situation. We need to set bottom-line parameters and move on from that point, learn from the experience and try to avoid the same mistakes in the future.

Feb 16 01:54 PM

[Summer Sea:]

Banks were not forced to qualify all these people that were "so called irresponsible". People that had their homes destroyed from disasters were paid their losses with a "depreciation clause",so to rebuild they had to take out additional loans, in many cases adjustables.
Some people were insured for as high as $130,000 replacment and received only $60,000. So insurance companies are at fault also.
We need the "Great American Mortgage Write Down" where every homeowner, whether they pay their mortgage on time or not has a chance to get a fixed 2% mortgage. This will put money back into the economy at stelth speed and relax this monster. A gain for mainstreet that God.


On Feb 15 01:50 PM Tricky wrote:

> > I don't fully understand the reasoning behind the objections here.

Feb 16 03:53 PM

[adan:]

wow, way too much reasonable information and suggestions here

i can only "hope" it gets its deserved air and print time

thank you much!

Feb 16 05:18 PM

[Dean M:]

I have been tracking house prices on Cape Cod with the thought of investing in a vacation home. I find that even with the recent dramatic price drops that prices are still 50-100% up over the past ten years. Contrast that with the stock market that has gained little or no value in that time frame and it is obvious that the housing correction has a long way to go. Foreclosure is a neccessary mechanism to bring prices back in line with reality and the sooner we take our medicine the better off we'll all be.

Feb 16 05:36 PM

[LvRealEstate:]

well, what most people miss is this. Its not about the housing market. Its about the 57 trillion global credit market in huge default. With about 7 trillion just in the US.

There is no way to prop that up.

And comon sense should tell these lawmakers and banks that of they continue this foreclosure moratorium, other homeowners will stop paying all together. What a mess.

It will take years and years for this to pan out. Ant the Option arms are not set to implode until 2010-2011.

Feb 16 09:42 PM

[sourceview:]

Lets see, now, the big corporations have been bailed out of their greedy, predatory, irresponsible behavior, now its time to stick it to the little guy. So what else is new?

Feb 16 10:21 PM

[Dirk McCoy:]

The key is to escape this mess providing as much confidence in the system going forward as possible, otherwise economic activity will be depressed, which is a bad thing in a world with 3 billion people living on $2.50/day or less. Investors, lenders, and debtors need to have some confidence the system will not blow up on them as it did here.

And it blew up because of 18 Fed rate hikes that created 2-3X increase in company debt service requirements, killing hiring, and 2X increase in ARM rates (with spectre of greater increases) that scared millions of homeowners to try to sell at once, killing the market and the ability of prudent borrowers to do what you normally do when you can't afford a home- sell it, pay off your loan, and downsize.

But now the Fed has cut rates again, and it is a matter of time before that starts to undo the damage. In the meantime, forebearance is prudent for those homeowners who have decent prospects of making good on their loans. Writing down principle is a terrible thing- when a bank makes 1-2%, it can take 50 years to earn back principle, so that won't help their confidence (nor potential investors). But reducing interest rates, especially when Fed and market rates are at historic lows, seems a no-brainer, and that should help homeowners make payments. Perhaps roll behind balances or interest shortfalls into principle if the equity in the house covers it. Perhaps give homeowners a year or even two to sell the house at a better price than forced liquidation. These are all prudent decisions that a bank and homeowner should be able to work out together- without the government forcing a solution.

Once home values stabilize (and it's not just lower values, but the prospect of additional declines that is keeping buyers from pulling the trigger), they should start to recover, and as values start to climb alot of the exposure in derivatives will lessen, except for the worst tranches that will need to be dealt with by finding those who were fraudulent or negligent and meeting out some punishment.

The worst thing would be for the government to take taxpayer money and give it to the worst offenders- there's no worthwhile confidence building in that.

Feb 17 01:33 AM

[JohnL:]

<Investors, lenders, and debtors need to have some confidence the system will not blow up on them as it did here.

And it blew up because of 18 Fed rate hikes that created 2-3X increase in company debt service requirements, killing hiring, and 2X increase in ARM rates...>

Or did it blow up because the Fed lowered rates to unsustainably low levels, inducing investors to go out on the risk curve to get yield, inducing consumers to load up on unsustainable debt and driving up asset prices to unsustainable heights? I would argue the "blow up" occurred when everyone had smiles on their faces.

Feb 17 12:04 PM

[Dirk McCoy:]

John, that's a great question that should be asked, instead of stampeded to as a statement.

If the low Fed interest rates of 2002, 3, and 4 were the cause of this blowup- why are they even lower now? Because low rates stimulate growth, until real shortages (labor, land, oil, water) arise that can't be dealt with via technology or supply.

If the low interest rates were unsustainable, how come the Fed had to raise them 18 times- and still couldn't raise the long end of the curve? Because there was a glut of savings around the world.

If the low interest rates caused consumers to load up on debt, how come consumers were happily paying 10-15% on credit card debt, signing up for subprime loans that were 2 points above prime? Because they had jobs and hope.

If the low interest rates drove assets up to unsustainable levels, how come people were buying houses as fast as they were being built in 2006- after rates had been raised? Because the houses were bigger, nicer, more efficient, in places like Vegas and California. Home prices in my southern illinois hometown didn't move much at all.

If the US is projected to have a population of 600 million people in 2050, and we're going to need another 130 million houses in 40 years- how is 2-3 million houses per year unsustainable? Why wouldn't the market have corrected at 3-4%, like oil did. We'll never know.

The situation in 2001 and 2002 was pretty bad, as I recall. US manufacturing had converted to high tech, and the tech bust obliviated that sector. Had retail and housing not been strong, the economy could have well fallen into the malaise it is in now. Meanwhile, millions of Chinese, Indians, and others around the world would not have had the opportunity to work out of poverty.

I will concede investors went out on the risk curve to get yield, and where there was fraud (Madoff, reclassifying tranches to AAA, lying on applications) there should be consequences. But I've been asking the questions above and have not had the answers that convince me that the problem really was the recovery steps taken in 2001/2/3. No, it was the Fed and the near-sighted inflationistas who didn't take into account that supply capacity could have been raised to head off inflation for years.

Feb 17 12:46 PM

[JohnL:]

Dirk,

I appreciate your reply, though I would say I'm not the only one doing a little stampeding into answers. :-)

It seems that you and I essentially disagree on this: you think the output growth, use of credit and asset prices seen in 2004-2006 are more sustainable with lower interest rates, whereas I think those things are only sustainable, albeit at lower levels, with higher interest rates. Thus, you view the interest rate hikes as a mistake whereas I view them as required.

I fully admit that I don't know the "correct" set of interest rates and would contend you don't either; neither is omiscient. We probably both think that setting them incorrectly can cause big problems.

You also apparently agree that the central bankers don't know the correct rates either (though for different reasons). This leads to my true complaint: interest rates, both long and short, are controlled to a large extent by bankers, when they should be set freely in the market. That is, the supply and demand for money should be set freely by many market participants, free of government interference. The only way that can happen is if our money is based on a valuable commodity (e.g. gold and/or silver) and nobody is permitted to create "money" out of thin air via fractional-reserve lending. Only with an honest money system will interest rates reflect the true and correct price of money. And I think all such economic crises will be largely eliminated.

If you haven't already, I would recommend you look into the Austrian school of economics for more of the rationale behind my ideas. If you already have, I would like to get your feedback.

Feb 17 05:12 PM

[PROXIMO:]

Well said Tricky.


On Feb 15 01:50 PM Tricky wrote:

> > I don't fully understand the reasoning behind the objections here.

Feb 17 06:35 PM

[Dirk McCoy:]

John,

As I understand the Austrian school, there is a "business cycle" of boom and bust. Opportunity, credit extended, credit overextended, credit defaulted, foreclosure, liquidation, rebirth. I agree it makes some sense when thinking about things like discovering the New World, California Gold Rush, Industrial Revolution, or the Internet. But in our very diversified, specialized, globalized economy, it seems these boom-bust periods (and especially this one) move across the entire economy, on a global scale too much to be created by a simultaneous demand bust or realization of overleveraging. Rather, I see them as being created by central bankers (chiefly, the Fed) raising rates (although the panic of 1937 was created by mass bank failures, before the Fed was created).

So, we do agree that they don't always know how to set rates- and I believe they'd agree that there is no Black-Scholes-like formula for them to use.

I can't argue that rates were not too low for too long. But I remember how fragile our economy was after the tech bust and 9/11. Housing was our redeemer, and low rates helped- as did the tax changes in 98. And now, here we are at .25 again.

What I can argue is that there were voices in 2005 saying that inflation was not the problem some were making it out to be. Larry Kudlow was one. And these folks said raising interest rates above 4% was an increasingly risky proposition that could precipitate a collapse. And then the Fed kept going, to 6%- above long term rates. To me, that seemed artificial. And as president of a company, I saw first hand what it meant for our cash flow, and hiring and expansion plans. Extend that across the economy, and it's no wonder the economy slowed just as folks were trying to sell houses to respond to their higher ARM rates, and the slide continued.

I'm opposed to a gold standard because I learned inflation is too much money chasing too few goods, deflation vice-versa, so money needs to expand as supply capacity expands to have price stability. Expanding money is also good for debtors- and debtors promise future production. I think price stability and expanding supply are both good things. So constraining money growth to gold stocks doesn't seem like it would necessarily correlate to broader supply growth (take cyberspace, for example). However, I'd be very interested in seeing what tying money supply to energy (total of solar, wind, oil, nuclear, human) would look like.


On Feb 17 05:12 PM JohnL wrote:

> Dirk,
>
> I appreciate your reply, though I would say I'm not the only one
> doing a little stampeding into answers. :-)
>
> It seems that you and I essentially disagree on this: you think the
> output growth, use of credit and asset prices seen in 2004-2006 are
> more sustainable with lower interest rates, whereas I think those
> things are only sustainable, albeit at lower levels, with higher
> interest rates. Thus, you view the interest rate hikes as a mistake
> whereas I view them as required.
>
> I fully admit that I don't know the "correct" set of interest rates
> and would contend you don't either; neither is omiscient. We probably
> both think that setting them incorrectly can cause big problems.
>
>
> You also apparently agree that the central bankers don't know the
> correct rates either (though for different reasons). This leads to
> my true complaint: interest rates, both long and short, are controlled
> to a large extent by bankers, when they should be set freely in the
> market. That is, the supply and demand for money should be set freely
> by many market participants, free of government interference. The
> only way that can happen is if our money is based on a valuable commodity
> (e.g. gold and/or silver) and nobody is permitted to create "money"
> out of thin air via fractional-reserve lending. Only with an honest
> money system will interest rates reflect the true and correct price
> of money. And I think all such economic crises will be largely eliminated.
>
>
> If you haven't already, I would recommend you look into the Austrian
> school of economics for more of the rationale behind my ideas. If
> you already have, I would like to get your feedback.

Feb 18 01:30 AM

[JohnL:]

Dirk,

Thanks for taking the time to reply. You and I may never agree, but I made one last attempt.

<As I understand the Austrian school, there is a "business cycle" of boom and bust. Opportunity, credit extended, credit overextended, credit defaulted, foreclosure, liquidation, rebirth. I agree it makes some sense when thinking about things like discovering the New World, California Gold Rush, Industrial Revolution, or the Internet.>

No, those events you cited are not what the Austrians are talking about; those are real, exogenous events to which the economy must respond. They force relative prices and output mixes to change, but that would be true regardless of the monetary system.

The "credit cycle" (i.e. the business cycle), on the other hand, is artificial. The economy swings upward, in an unsustainable manner, because credit is made available and cheap via the banking system -- enough to induce the purchase of goods which don't exist and can't be produced at the current level of labor productivity. It looks like good times and much activity is stimulated, but it can't be sustained. The economy is forced to swing back down to sustainable levels when the artificial demand meets the reality of supply. Of course, this phase is really painful and tragic. This cycle doesn't happen on a true gold standard with full-reserve banking since there is no artificial credit to start the boom, but happens frequently with our current banking system.

For example, the recent commodity boom and high energy prices were threatening to cut off all profitability for downstream producers as the price increases could not be passed on to the maxed-out consumer. And the home buying frenzy came to an end when homebuyers simply could not afford the elevated cost of the houses. The economy had moved beyond the Production Possibilities Frontier.

The individual entrepreneur gets tricked by this see-sawing of interest rates and credit availability. One minute an investment looks fine; the next minute he can't afford the credit to finish or maintain his investment. To him, the high interest rates are the problem when, in fact, the high rates are merely the central bankers trying to lower overall spending because goods are becoming scarce. The credit cycle is the enemy of the businessman, and the bankers cause the credit cycle.

As for the gold standard, the supply of gold over many centuries has grown fairly consistently at about 3% per year, which is just about the same as economic output in general. An energy-based money might be an interesting alternative or complement to gold. The keys are the removal of fiat money and fractional-reserve lending that allow phantom "money" to chase very real goods.

Feb 18 12:32 PM