Credit Crisis Review: ARMed for Failure 22 comments
-
Font Size:
-
Print
- TweetThis
Many of the losses from loans made from 2000-2005 have now been recognized as rates have now reset on their 2/28 or 3/27 mortgages. Loans which were issued in 2006 and 2007 are seeing higher and higher delinquency rates as an effect of falling home prices and an 18 month excess supply of homes. What is likely to be the new wave of write-downs on mortgage loans will be adjustable rate mortgages, which are set to reset in the next few years. This could destroy the markets once again as they are fighting to get out of this bear market.
What has happened with sub-prime mortgages?
Here’s just a quick summary to see the differences/similarities as to what has happened in this credit crisis. As housing prices continued to accelerate at unsustainable rates from 2000-2007, many people went into the real estate business to try to “flip” houses in a few years. These people would buy houses which they couldn’t possibly afford because rates were cheap for the first few years. They would then sell off these houses with capital that they didn’t have to make a hefty 15-30% profit for just a year or even less. They could afford to pay these mortgages at the beginning of their loan because of the teaser rates which were offered in the beginning.
Loans were often issued on a no-doc, no money down basis. This only escalated the housing crisis, as buyers would flock in, who wouldn’t normally be able to afford homes at these prices. Loans were set on 2/28 or 3/27 rate periods. As an example, the 2/28 loan has a fixed or locked rate for the first two years with a floating rate for the last 28 years of the mortgage. The rate on the first two years would often be extremely low and often less than a quarter of what the loan would reset on in the future. Many people didn’t care because as long as the values of their homes were going up, everyone was making money. This changed as there was a peak in the housing markets, which eventually led to a lock-up in the credit markets, which has now led to over a trillion dollars of write-downs and losses for financial institutions like Citigroup (C), Bank of America (BAC), Wachovia (WB), AIG (AIG), Merrill Lynch (MER), as well as many others, eventually leading to the bailout of Bear Stearns (BSC).
So What’s the Deal With Adjustable Rate Mortgages?
Adjustable rate mortgages [ARMs] are nothing new in terms of product or service, just something new which many banks and investors are watching closely. They are mortgage loans in which the interest rate on the note is adjusted on an underlying index, most often LIBOR, Treasuries, the Cost of Funds Index, or the FF rate. ARMs are issued with variable spreads over the underlying index to compensate banks for taking on the risk of issuing the mortgage.
The Fed has done a good job to alleviate the problems of 2008-2009 ARMs by slashing interest rates which have had an affect on the indexes that they track. It is important to look ahead to see where these rates are going to go and whether or not it could cause a double-dip in the housing markets.
The problem seems to be out a few years to the 2010-2012 period. This is a vulnerable period as many economists and research analysts are predicting that this should be a recovery period. The problems are mostly centered on the Alt-A and Pay Option ARMs. Delinquency rates for this pool have already escalated, and one can only imagine what will happen when rates on these move higher.
The Fed has been put in a difficult situation to save the financial system or fight inflation. Things will only get worse if they don’t treat either. I think that they are doing the right thing by protecting the financial institutions, due to the problems and chaos that would occur if they didn’t. They can always tackle inflation later, which is what the next 10 years will be fought doing. As inflation creeps up though, it has a direct effect on the rates of these ARMs. As the Fed raises interest rates to fight inflation, it would also indirectly be raising rates on mortgages for Americans who struggled to keep their homes in the greatest fixed income crisis ever.
I don’t think that you will see a worse housing environment in the future period of ARM mortgage resets than you have seen and will see in the housing market now. Regulations will be tighter and the people who do own homes in the future will be able to actually afford them.
Disclosure: None
Related Articles
|
-
The Seeking Alpha 100
See allThe top 100 stock
market authors
selected for publication
Seeking Alpha 100 » -
Fastest Climbers
Authors with the largestSee all
increase in followers
in the last 7 days
Fastest Climbers » -
Top Commenters
Top commenters,See all
as ranked by their peers
Top Commenters » -
Top Instabloggers
The 100 most active
Instabloggers.-
1
David Fry
-
2
TraderMark
-
3
Don Dion
-
4
Cliff Wachtel
-
5
Mike Havrilla
Top Instabloggers » -
1
-
Top StockTalkers
TopSee all
StockTalkers.
Top StockTalkers »
This article has 22 comments:
Commenter above, I short you, I can't disagree but have to, frankly, place most of the blame on the consumer. Think about it, these morons bought houses that they couldn't afford based on two incomes usually (suppose one lost his job...nah...that would take foresight), took out a mortgage that they KNEW they couldn't afford two years down the pike (suppose we CAN'T sell the house....nah...that would take foresight), in some cases took out interest-only loans (did they think at all about equity in the property....nah...that would take foresight) and never thought that the housing bubble would, inevitably, burst (nah..that would take foresight). Common sense, in this country, is on sick leave. Thank the day-care generation that's now growing up, reproducing, and perpetuating the breed. See this mess?... guaranteed, it's gonna happen again in about 21 years. Will anyone remember? Nah...that would take foresight.
Yup, these criminals knew exactly what they were doing; however, you left out the rating agencies. These schemes could not have worked without the the guys who rated these packaged sub-prime mortgages as Triple-A. There had to be a concerted effort to disguise and misrepresent these bogus "securities" in order sluff off this garbage to investors. It's real simple; nobody in their right mind would have bought this stuff unless they were fooled!
My question is why aren't we going after everyone involved from the loan originators, mortgage companies, bankers, rating agencies and others that were materially involved in this fraud? These crooks are slipping under the radar as all of our attention is on mitigating the problems caused by these scumbags rather than prosecuting them. I just don't understand.
"In the context of insurance policies, this court has long recognized that oral misrepresentations made by an agent to a policyholder are actionable, despite the fact that the written policy itself accurately discloses all terms. "[If] the agent of the insurer undertakes to ad-vise [a policyholder], . . . it should be the duty of such representative to make no false or misleading statement in that respect." ( Glickman v. New York Life Ins. Co. (1940) 16 Cal.2d 626, 634 [107 P.2d 252, 131 A.L.R. 1292].)"
These new hybrid option arms that were created were so complex, even though their terms were included in very complex documents, truth is, these products misled the public into believing they could afford homes that they could not. The lenders new that... or at the very least... they SHOULD have known it. Remember the golden rule, "he who has the gold, rules." Well, they did a poor job ruling!
I agree with most of what the author's written, except that he makes a fool of himself by continuing this ridiculous "blame the borrowers" story.
The evidence is clear: American banks deliberately and with forethought decided to VASTLY increase the number of poorly-documented mortgages they wrote. To suggest that they were somehow taken advantage of - en masse - is absurd. Borrowers did not hypnotize American bankers. American bankers decided to securitize lots and lots of loans with "broken odometers".
These were not "liar loans," these were "Lemon Loans" - bad product deliberately brought to market with bad information.
Messrs. Akerlof, Spence, and Stiglitz got a Nobel prize in economics for telling us what happens when you fill a market with lemons - and it's not good.
If you don't want to take the evidence from what has happened after Sub-Prime ARMs adjusted after two years and apply it to what may happen when Alt-A Lemon Loans adjust after five years, don't. But all it will mean is that you are ignoring evidence - which may suit you, I don't know.
I disagree that the ARM reset foreclosures are not going to be all that bad: the problem is not that the people won't be able to afford their payments; the problem will be that housing prices will be so far below what they owe that they will be able to get more house for less money by walking away. Can you say "Land Contract"?
If the bank owners were personally responsible for loan losses do you think they would have made all those bad loans? They can socialize the losses and take all the profits, so they do. Fractional reserve loaning is totally corrupt, a government approved Ponzi scheme.
Loans from fractional reserve banks are inherently “liar’s loans”, the lie being, the bank is loaning money that it really doesn’t have. The Fed and the thousands of banks creating these liar loans create inflationary conditions that actively discourage thrift: people throw their money at something that hopefully will go up in a lot in price in order to hold onto the buying power of their money, trading the certainty of being screwed in the long run for the chance to possibly avoid being screwed at that future time. Debt-money leaks out value like a bucket with a hole in the bottom leaks out water.
This is just going to keep happening until the basic cause gets fixed.
First of all, WE NEED OUR OWN DEBT-FREE CURRENCY, backed by all of the real estate owned by the United States (which is, in fact, all of the real estate within the national boundaries, and really more than that including other nations whose continued claim to existence depends on U.S. defense of that claim; case-in-point, Kuwait, 1991), we should distribute that new currency in monthly equi-dollar amounts to all legal residents (amounts due minors to be held in trust accounts). Also, we need bankers to be held financially responsible for any loss of depositors’ money (if they want to gamble with fractional reserves, it’s the bank owners who should pay, not taxpayers, and if you lose your own money by depositing it in a fractional reserve bank, again, it’s YOU who should pay, not taxpayers. How can we ever expect things to get right with a system based on socializing losses?
Next, we should REPLACE ALL FEDERAL NON-CONSUMPTION TAXES with a one-half percent(+/-) Tobin-type tax on ALL outgoing electronic transactions (avoidable by using cash for all transactions, and, since avoidable, the tax will be arguably being paid voluntarily) in order to:
1. Pay off the national debt,
2. Repair the damage that the U.S. government has done to persons and the free market by favoritism (reparations for having “Constitutionalized” slavery might be considered) and excessive regulation (e.g., we need about 4 times as many doctors and healthcare professionals as we currently have in order to have enough competition extant to get medical costs back to the realm of affordability, and we would have had them had there been a free market in medical education), and
3. Extract and destroy excess currency as required to avoid inflation.
No other form of Federal non-consumption tax would be allowed (this tax could go to zero when it has done its job if there is no inflation in the system).
The monthly equi-dollar distribution amounts should be of sufficient quantity (assuming $1000, that’s $24,000 Federal tax-free per couple, plus whatever wages and other income they bring in) to be considered sufficient replacement for all forms of corporate, farm and personal welfare, including subsidies, welfare, tax incentives, Social Security (to be phased out), Medicare, the Federal Minimum Wage law, and ALL OTHER forms of Federal financial redistribution schemes; there won’t be any need for separate Federal retirement accounts since there won’t be any income or investment taxes.
For those who like their political solutions morally justified, the monthly equi-dollar distribution amounts can be considered “justified compensation” for the denial of free access to all the property that the government has privatized.
With everybody getting the same monthly amount, and everybody paying the same percentage increase of fiat money, there is no redistribution nor inherent injustice in the plan.
It was actually a Triumvirate spawned by the Greenspan era of low interest rates=easy credit.
1.Banks wrote mortgages designed for maximum profits in anticipation of ever increasing home values. And packaged the CDO junk for sale -up the line and overseas. Boy we sure fooled those Chinese with our AAA CDO-Tranches Huh??
2. Those poor dupes who wanted but could never qualify were accommodated anyway. Unemployed room temperature I-Q's stood No Chance against lifetime Real Estate hucksters. Plus as values rose ,they discovered the "Equity Loan" compounding the damage.
3. The true speculator, that believed it would never end and rode the Ponzi scheme to dizzying heights, turning cheap Lead to Gold, till that one big wave and ----Wipeout!!
Mortgage brokers have switched from underwriting loans to entering into "loan modification agreements". For a flat fee of $2500, they act as intermediaries between borrowers and loan servicers of loans who are either in default or on the verge of resetting.
So the real issue isn't when these loans trigger - because they are not going to trigger. The issue is that the servicers or the CMO trusts have to write down the principal amounts, creating on sheet balance losses. Careful investors will need to take closer look at balance sheets of financial companies to see how they "massage the numbers".
Shoot, you can just pay CASH for your next house...
Truth be told, if I had known this bubble would go up as much as it did, I still would have bought early on and then just sold last year. I suppose these things always take a bit longer to get here than you expect.
"Who cares if things go to shit? There is no social mobility in the US. So what's wrong with "crooks" giving a half-assed attempt to get rich? Decorate it however you want."
What's wrong with it? It's dishonest. Many of today's problems can be attributed to dishonesty. Ambivalence allows the environment in which dishonesty flourishes.
"Dien Truong, a 35-year-old, water deliveryman, pulled out $156,000 in cash when FirstFed refinanced the $628,000 mortgage on his Richmond, Calif., home in 2005. Mr. Truong used the money as a down payment on another home and turned the FirstFed home into a rental property. But the $2,500 a month he collects in rent is no longer enough to cover his mortgage payments, which have climbed to roughly $5,100 from $1,618.
FirstFed offered to refinance him into a new loan with payments of roughly $4,250 for the first five years, but Mr. Truong says he can afford only to pay the $2,500 in rental income. Because he has been making the minimum payment, his loan balance has climbed to more than $690,000, which is more than the home is worth.
"I've been a good customer," says Mr. Truong, who hasn't made a loan payment since March. "This time my credit will be screwed up for good." His loan application shows that Mr. Truong and his wife earn $165,000 a year, more than double their actual income, says Katrina Vizinau, a housing counselor with Community Housing Development Corp. of North Richmond. Like Mr. Truong, she says, many borrowers say they didn't read the application until later."
Great article! Does Samir know about this?