In the past two weeks a pair of monster rumors ripped through Wall Street. They were not like the normal rumors; these somehow gained instant credibility and became the talk of the street. Zero Hedge, Denniger and I wrote about them. Even big shots like Pethokoukis at Reuters added gas to the fire with his piece, An August Surprise from Obama. Morgan Stanley actually came out with a comment in support of one of the rumors. And finally, none other than Barrons, weighed in on the rumor mill Friday night. Randall Forsyth wrote a piece, Mortgage Forgiveness? Forget It.
So both the press and the street believe in and are fanning the rumors of imminent changes in the $10T mortgage market. That’s pretty impressive. The only way rumors get spread is if they are fundamentally believable. The other reason rumors get traction is that those who are spreading the information actually have some information to peddle.
I think I have the answers. These rumors came from Washington. This talk was originated by one or more of our legislators (or their staffs). Information was provided to some heavy hitters in finance by some big shots in D.C. I can imagine how this got started:
Congressperson: “Psst, you did not hear this from me but D.C. has something cooking that will reduce interest and principal on mortgages. Don’t forget me when it comes time for my re-election campaign.”
Wall Street: “Interesting. I’ll pass this on to the mortgage desk to see if they can’t make a buck on the info. Don’t worry we won’t forget you….”
And that is how credible rumors get started.
The rumor two weeks ago was focused on a program that would reduce mortgage interest rates for a substantial number of homeowners. The talk was that a new ReFi rate could be as low at 4%. The rumor this week was that there was going to be an effort to substantially reduce the principal balance on existing mortgages.
Both rumors are true. The US government is going to reduce the principal balance and the interest rate for many homeowners. The information comes directly from David Stevens at the FHA. They released a statement Friday afternoon regarding their efforts:
In the release Stevens explains that this is a lifeline being thrown to millions of underwater borrowers in the US. This sounds like it could be a very big deal, but it is not. You have to look at the terms and conditions under which a troubled borrower could take advantage of this program. When you do that you come away with the conclusion that there will be very few of those underwater borrowers who can slip through the needle of the FHA requirements for principal reduction and a ReFi at a much lower rate. Some basic points of the program:
- You have to be current on your existing mortgage.
- You have to be underwater, but not by more than 15%.
- You have to have your existing mortgage with a third party bank and the bank has to agree to a principal reduction of at least 10%.
- You must have a credit score of at least 500.
- The second lien holders (if any) must write off their loan.
- The borrower must be in compliance with section 1481 (d) of Fin Reg.
- The new FHA loan can’t exceed 97.5% of the current property value. It cannot be greater than 31 percent of gross monthly income and total debt, including all recurring debts, cannot be greater than 50 percent of gross monthly income.
These conditions are giant hoops for a borrower to jump through. I doubt that many are going to be eligible for the principal reduction/low coupon ReFi deal that FHA is offering. For those out there who have been trying to talk with their lenders about a restructuring, the conversation could go like this:
Borrower: “Oh, hi BoA. Glad you finally answered the phone. I have a $400,000 mortgage with you and I have been dutifully paying you every month. I am current. I also have a job and a credit score greater than 500. So I am a pretty good borrower. I want you to reduce the principal that I owe you by 20% so I can do the sexy new FHA deal. So all I need is for you to say that you are willing to take an $80,000 loss on my current mortgage. Does BoA agree to that?"
BoA: Buzz off with that idea. We are not letting you (or anyone else) off the hook. You have to be in default for at least 90 days before we can even consider that.
Borrower: No, you do not understand. I can’t get the FHA ReFi unless I am current.
BoA: That is the catch 22 on this. Lots of people are technically eligible for the program, but next to none are going to get this deal.
So there you have it. The D.C. based rumors of principal and interest relief are real. There is a new program in place that can, in theory, achieve those lofty goals. But very few will be able to access this opportunity. It is just a program that looks good but has no teeth. This program was put in place for political reasons. It will be held up by the Administration this fall as an example of how a benevolent Washington is trying to help homeowners that are underwater. It is a show pony only. This proposal will do nothing to get to the heart of the problem.
A side note on this story. This from the Barrons piece:
There Ain't No Such Thing as a Free Lunch. And the Treasury denied Thursday that any such changes are afoot.
Forsyth is relying on a statement made on CNBC Thursday that they had spoken to Treasury and there was no substance to the rumor. That would appear to have been misinformation. Either CNBC made it up or whomever they were talking to at Treasury has no clue what is going on. I suspect it was the latter. CNBC should check their sources more carefully.
Treasury is very much involved with the FHA program. They are supporting some of the losses. From the FHA Mortgagee Letter #210-23:
To facilitate the refinancing of new FHA-insured loans under this program, Treasury will provide incentives to existing second lien holders who agree to full or partial extinguishment of liens effective on all case numbers assigned on or after September 7, 2010.
In summary, there is a program to reduce principal and interest on mortgage loans that has been sponsored by D.C. It has no substance, but it “looks/sounds good”. Treasury is definitely involved. They are paying a portion of the losses. And CNBC gave us a head fake on the news.
This is a small step that will take us closer to the broader discussion of debt relief and who will pay for it. This first effort will not accomplish much. There is more of this coming. Sooner or later a plan for real debt relief will arrive. That can’t happen until after the November elections. When it does happen we will probably first hear about it in the form of a new rumor. That talk will again originate from Washington. D.C. has become the new source of rumors/leaks on finance. Just another example of how things have changed, for the worse.