Look, I'm getting very tired of continuing to explain this in terms of percentages and such, so let's just do this with a real example:
June 11 (Bloomberg) -- Shirley Breitmaier’s mortgage payment started out at $98 when she refinanced her three-bedroom home in Galt, California, in 2007. The 73-year-old widow may see it jump to $3,500 a month in two years.
Shirley Breitmaier took out a $315,000 option ARM to refinance a previous loan on her house.
About 1 million option ARMs are estimated to reset higher in the next four years, according to real estate data firm First American CoreLogic of Santa Ana, California. About three quarters of those loans will adjust next year and in 2011, with the peak coming in August 2011 when about 54,000 loans recast, the data show.
If we do a dispassionate examination of the math we can examine what's coming, and we will discover precisely why those who are calling for an economic recovery are dead flat wrong.
This woman gained an effective $3,500 a month in "purchasing power" by doing something that is extremely dangerous - that "money" came" not from earnings but from a bet "on the come" of a continued price appreciation in her house.
More than one million families did this, and if $3,500 is a reasonable "best guess" at the extra spending capacity per month that was generated, this means that the economy saw:
$3,500 x 1,000,000 = $3,500,000,000 per month in excess spending capacity, or $42 billion dollars annually.
But wait! Its much worse than just removing that spending capacity from the economy, because the interest costs on that recast loan remain, and continue to drag on aggregate demand until the original loan is fully amortized away (30 years!) or defaulted.
That $42 billion is final demand. There is also, of course, all the employment that is unnecessary. $42 billion is roughly 210,000 cars, as just one way of measuring it - that's 210,000 cars that will not be built and the employees to build them that will be unemployed.
Further, there were about $750 billion of these loans originated between 04-08, and almost none of the losses from them have been taken by the banks. These loans are severely underwater and recovery is going to be lucky to reach 50% on them. (These loans, incidentally, are what sunk IndyMac, Downey Federal Savings and others.)
That's another $350 billion in direct losses to the banks and other institutions that has to be taken and which is not being accounted for in the so-called "green shoot" claims, or in bank share price valuations. To quantify this in terms of market developments it is five times the "extra capital" that the banks have raised, five times the TARP funds that are being repaid, and one half the entire original TARP allocation.
These losses are real, they are inevitable, and they are currently being intentionally hidden instead of discussed and dealt with.
These loans are almost all going to blow up, and that will dump another million homes on the market as foreclosure sales, further hammering valuations and inventory levels. This source of existing homes is about 20% of all home sales inventory across a given year - a massive supply increase.
This is why Bernanke and everyone else have been so desperate to restart the housing ATM. It is why they are desperate to stop prices from correcting to sustainable levels, even though the futility of this exercise has now been shown to be fact, not conjecture, as the government and Fed policies have caused long-term interest rates to rise instead of fall.
They know that when, not if, the other $350 billion in direct losses show up - and they will, starting now and running through 2011, that the banks that are supposedly "well-capitalized" will be shown to in fact be insolvent.
They know the math is irrefutable, they know that it is impossible to stop this, and they know that both the credit and stock markets will be decimated when these losses become realized.
To add insult to injury the intentional obfuscation and lies on this point by the media and "pump monkeys" - that is, sell-side folks who are trying to convince you to buy from them, that is, to take financial instrument inventory from them at a price higher than fair market value, given these facts, are nothing other than self-serving bullcrap that is intended to do you harm for their benefit.
If you want a real view of what's going on in housing, especially in California, have a look over at The Field Check Group run by Mark Hanson (known as "Hedgie" around Tickerforum.)
Reality folks is this:
Market rates from 2002-2008 fluctuated between the low 5s and upper 6s for 30 year money.
The so-called "Fed buydown" intended to lower market rates for mortgages has in fact failed. Here are today's rates from Wells Fargo:
Bluntly: The Fed's "intervention" has FAILED; it has in fact resulted in a 30 year mortgage rate that is close to 2% higher in rate than claimed as the target, which is fifty percent higher in terms of percentage change, and this spike will destroy any claimed "nascent recovery" in housing which is the lynchpin of claimed economic stabilization and recovery in the second half of 2009.
There is no possible way we will avoid the economic damage from these Option ARMs and this is not reflected in any market - not the stock market, not the housing market, and not the general economy.
The math is never wrong.