Seth Chalnick

Why Is the Market Going Up When Jobs Are Going Down?

Ricard, you write:

"What if our companies hire abroad, make profits abroad, and bring home the bacon to Uncle Sam?

That surely would be a 'Wall Street' recovery..."

You make a good point, but replacing 70% of our GDP via outsourcing in one or two quarters would be a pretty impressive trick.

U.S. Housing Market Has Likely Bottomed

You know, I was going to make some comment or other debating points the author makes, but see that pretty much, most of the counter arguments have been well said by other folks. And then I read Living4Dividends comments, which I disagree with, but give a whole hearted thumbs up to them, since at least his argument makes sense.

And while only time will tell which force will tip the scales (fundamentals or hype-confidence)... one thing I want to make clear... Mr. Ho attempted to present a fundamental argument for a housing rebound. The items he mentioned are definitively not fundamental in nature. For example, he writes, "But more fundamental is a revival in confidence"... umm... market confidence is about as whimsical as the wind.

This sort of unfounded optimism is somewhat irresponsible, and mostly just weird.

Will FHA Fall into the Sub-Prime Trap?

Hi BullnBear,

Re: “jobless recovery”… a paradox consists of two seemingly opposite terms that make sense when joined together… like “jumbo shrimp”.

The idea of a “jobless recovery” is just wishful thinking. Subprime crashed because people couldn’t afford their payments. When they couldn’t afford their payments, and they couldn’t get more cash out from refinances, this put the whammy on spending, not just for the subprim-ers, but for everybody trying to do refinances, because the re-sets reversed the trend of appreciation.

Then, consumer discretionary spending died because people had less money. Spending makes up 70% of our GDP. So our GDP decreased. But on paper the GDP, along with corporate earnings reports, continue to defy gravity because corporations are cutting back on payroll and marketing and every other expense they can to make their earnings reports attractive. The banks, with the help of the government, are just flat out ignoring their non-performing assets and the costs that go with them.

Meantime, everyone I talk too seems to be counting their blessing that they’re only earning 30% less than they did last year while nobody’s spending since 20% of folks are unemployed and the majority of the rest of the folks are either underemployed or afraid they’ll potentially become unemployed.

The real problem with housing didn’t even start yet in earnest and it will wreak havoc on the jobs market, especially when the real stimulators of the economy… the small business owners… start seeing their own home loans adjust to principal and interest over 25 year amortizations while the rest of their credit lines get cut out from under them, on personal credit cards, and business tradelines.

No jobs = no recovery.

To me, the stock market seems manipulated beyond belief… sort of like fattening up the 401k chickens before the short sell slaughter.

Will FHA Fall into the Sub-Prime Trap?

As a real estate insider I whole-heartedly agree with this article, with the exception of the error the author makes in saying that people can “use the $8,000 first time homebuyer tax credit for that 3.5%” down payment. While the FHA allows for this in theory, no lender extends this feature in practice, because it is unclear how and when the semi-government institution will credit back the lender.

Meantime, to add key perspective to this article, the FHA loans cost consumers considerably more per month than conventional loans do, and they become downright cost prohibitive as the sale price approaches $400k… and yet buyers can borrow right up to “agency jumbo” loan limits, which for example in SD are $697,500.

Approximately half of the increased monthly payment stems from the borrowing of more money… the rest comes from the multiple whammies of higher rate, upfront mortgage insurance premium (added to the loan balance), and monthly mortgage insurance premium… all of which are applied to the whole balance enchilada, which is obviously really high… i.e. 96.5% loan to value.

I say key perspective, because the higher cost of all this directly impacts the ability of folks to repay.

For further perspective on this issue, and insight into the party line rhetoric most real estate agents regurgitate via groupthink… SA fans may be interested in checking out a very telling thread on Trulia.com, whereby industry insiders go at it, pitting party line sound bytes against fundamental analysis.

The Trulia question is posed by a Long Beach broker, named Ben Nicola, and it is entitled, “What’s Wrong with FHA financing?”

This link should take you there… www.trulia.com/voices/...

Jamie Dimon: The Man Who Could Save Wall Street

For all the hypocrisy one ever needs to swallow to draw any kind of conclusion about Jamie Dimon and his altruistic motives, check out his Op-Ed, published by the Wall Street Journal on June 29, 2009.

For easy reference, there is a link to it in a SA article I published, which is entitled, “A Letter to Jamie Dimon”, and which reproduces the response I logged in the comment section beneath the Op-Ed itself, along with a dozen or so equally outrageous comments filled with sarcasm and disbelief.

Falling Up: The New Business Model

Hi Reneeg,

In short, there are probably many reasons why banks are keeping properties off the market, though I’m not sure which is the most compelling. Actually I’m not sure anyone is… even the banks themselves.

Here are a few likely reasons:

-So they don’t flood the market with inventory thereby putting downward (spiraling) pressure on home prices.

-So they don’t publicly acknowledge the amount of non-performing assets, which would put downward pressure on their share prices (not to mention, call into question the stability of their very business model, and by extension, the world financial markets too).

-So that the public can "catch their breath" and confidence can be inspired to resume spending. (The government and banks are working together on this one.)

For more in-depth coverage of these questions and more importantly, the very importance of asking these types of questions… check out my SA article called, “Here’s a Statistic I Dare You to Challenge”.

Hope this helps,

sc

Banking Sector: Worst Is Yet to Come

dragonpaw, my friend, I am publishing a SA article dedicated to you :)

Banking Sector: Worst Is Yet to Come

I think Reggie does a good job of intertwining facts and informed opinion.

I rarely do this, but I'm going to cut and paste here a comment I made last night on another thread... which shows another whole perspective of why the worst is yet to come in the financial sector.

You can find the SA article posted by Zacks if you search for ("Mortgage Delinquencies Rising").

My comment addresses a two-fold question posted by another reader... paraphrased as follows: "what is there to worry about my 5yr rate re-set if the rates are lower these days?" and "are option arms really that bad if the rates are lower too?"

First, in your scenario, yes you are better off if rates stay low compared to what will happen when they inevitably climb, but there still exists a major problem for many folks who are making less income than they did at time of purchase or who took on additional debt since then.

When the rate switches to adjustable... about 50% of these loans also switch from i/o to p&i... the other 50% keep the i/o option for five more years. The ones that go p&i now, reset the amortization to 25 yrs... the ones that go p&i in five years will switch at that time to 20yr amortization.

On a loan size of $800k if the rate is the same now as it was at time of purchase, this creates a payment increase (or payment shock as the case may be) of approximately $1,000/mo.

This may be easily absorbed by many households, but the marginal ones will look for other options. They will try to refi, and they will get rejected. Then they will attempt to short sale and only 15% will succeed. The rest will ultimately walk away, thereby creating a downward spiral in home values for the next marginal household.

The option arms are worse because they pay (or accumulate) anywhere from 8% to 11% on their balance just for the option to pay less than interest only. Most of the folks who have these loans have not even been paying the i/o... they have been paying less than i/o. When the negative amortization reaches 115% or 125% (varies by lender) of the original balance, the loan implodes by becoming due. A recipe for disaster.

Meantime, the prime pool is three times larger than subprime and, as this article points out, the average loan size is also larger. The subprime problem loans have not been absorbed into the market yet. They have merely been put on hold. The bankerment has (successfully?) used smoke and mirrors until now… since at least the prime consumers have been paying their monthly payments, but when they start defaulting (and they already have started)... the banks will start to falter. This will create another credit crunch and it will accelerate the problem.

The imminent prime crash is going to make the subprime crash look like a little footnote in history.

Mortgage Delinquencies Rising

Mavericks, you ask good questions... let me try to answer.

First, in your scenario, yes you are better off if rates stay low compared to what will happen when they inevitably climb, but there still exists a major problem for many folks who are making less income than they did at time of purchase or who took on additional debt since then.

When the rate switches to adjustable... about 50% of these loans also switch from i/o to p&i... the other 50% keep the i/o option for five more years. The ones that go p&i now, reset the amortization to 25 yrs... the ones that go p&i in five years will switch at that time to 20yr amortization.

On a loan size of $800k if the rate is the same now as it was at time of purchase, this creates a payment increase (or payment shock as the case may be) of approximately $1,000/mo.

This may be easily absorbed by many households, but the marginal ones will look for other options. They will try to refi, and they will get rejected. Then they will attempt to short sale and only 15% will succeed. The rest will ultimately walk away, thereby creating a downward spiral in home values for the next marginal household.

The option arms are worse because they pay (or accumulate) anywhere from 8% to 11% on their balance just for the option to pay less than interest only. Most of the folks who have these loans have not even been paying the i/o... they have been paying less than i/o. When the negative amortization reaches 115% or 125% (varies by lender) of the original balance, the loan implodes by becoming due. A recipe for disaster.

Meantime, the prime pool is three times larger than subprime and, as this article points out, the average loan size is also larger. The subprime problem loans have not been absorbed into the market yet. They have merely been put on hold. The bankerment has (successfully?) used smoke and mirrors until now… since at least the prime consumers have been paying their monthly payments, but when they start defaulting (and they already have started)... the banks will start to falter. This will create another credit crunch and it will accelerate the problem.

The imminent prime crash is going to make the subprime crash look like a little footnote in history.

BTW, this Zacks article is a really good one that makes several excellent points and observations… but I couldn’t help but notice how weird it seems being posted so closely to the other article entitled “pending home sales pop”. Weird.

Shadow Inventory: Conspiracy Theory or Real?

I'm really surprised that this article didn't get more kudos from SA readers, and also that the first comment was actually taken seriously, which unfortunately diluted focus from the main point highlighted by the author.

This is a terrific piece... one of only ones I have seen that puts substance behind the excellent point that user 463618 makes, and which astute observers have been talking about for some time now.

Overlooking this “shadow inventory" or whatever the heck you want to call “that which should be on the MLS but is not”… and taking the banks and the government at face value about how they've been dealing with the situation, or even acknowledging it in the first place, is a mistake that I believe will catch both Main and Wall Streets by surprise... the consequences of which will be devastating.

How on Earth most people are willing to rationalize that the fundamental problems don't exist when technical data temporarily suggests otherwise is simply beyond me. Add to this that the prime re-sets have not even started yet, that interest rates are artificially being kept at bay, that there is no market for jumbo paper, and that unemployment is still a huge factor... and wtf are people thinking??

Economic Collapse Is Accelerating

Jeff, thank you for putting numbers behind the shadow inventory argument. It is refreshing to see an article succinctly isolate the problem, and make moot in one fell swoop, the ongoing debate about the way “shadow inventory” is defined, and about the reasons that drive the shadow inventory phenomena.

Bottom line: since we're only finding buyers for about 20% of the inventory, then we can't even hint at a bottom here.

To take these artificially induced low end sales statistics out of proportion the way the media has been doing… is worse than misleading… it is flat out irresponsible.

Add in the jumbo market, which is collapsing before our eyes, and the point you raised about its impact on the rest of the economy really comes into play. If a few hundred bucks per person (that we shifted from one pocket to the other) didn’t magically fix things, then what happens when the real stimulators of the economy… the folks who own the $700k to $5m homes watch their paper wealth vanish? It is probably a safe wager that spending declines further.

Since the current foreclosure problem we are (not really) dealing with right now only represents approximately 30% of the size of the impending alt-a, opt arm, and prime collapse that has not yet even come online, I would have to unequivocally agree that the idea of a housing bottom, and therefore the idea of the recession ending is absolutely absurd indeed.

It is ridiculous to see “experts” say that “the housing market correction was inevitable with all that crazy lending, etc” and then they turn around and call this the bottom.

Seriously, the only things that have changed are “mark to market” accounting relaxation, artificial pump up of demand by extending the same “zero down” philosophy in the form of 3.5% down fha, some $8k tax credits that we’ll pay for later, and the artificially limiting of supply. Not to mention the artificial suppression of interest rates. All of this hand-holding has to go away at some point. The damn is cracking.

Mortgage Servicers' Perverse Incentives

I guess the confusing part for me has to do with these questions:

-Why would banks take a relatively larger loss on non-performing loans in comparison to the junk fees they cold collect? …and can fees and insurance come even close to offsetting such huge losses?

-Are the individual incentives of bank managers not aligned with those of the broader institution?

-Are the banks simply reluctant to approve short sales (or take back homes) because it triggers balance sheet losses they need to claim officially, which in turn pressure share prices lower?

-Are banks attempting to delay things in hopes that the market rebounds or the government cushions the fall?

-Are they afraid to lower valuations further by flooding the market with more supply?

Obviously there is some reason, or combination of reasons, the banks are not taking action. In California anyway, the moratoriums play a role, at least superficially… but my understanding is that many of the banks have loopholes they can exercise to foreclose on homes if they really wanted to do this.

There is still sooo much of this (non)inventory out there. And more coming behind it. So I’m grateful for thought provoking articles like this one that point to the questions we should be asking. Anyway, it is a lot better than other pieces that say, “hey, homes are selling… the recession must be over”.

Mortgage Servicers' Perverse Incentives

Thanks for this really good article. This coherent arguement backs up what a lot of people seem to get intuitively, but have a hard time expressing.

U.S. Housing Has Bottomed

This comment is a follow up to the comment posted by bondtrdr, because it really lies at the crux of our debate.

As a real estate broker whose income is derived in direct proportion to a recovery, I would be extremely happy if I thought these bottom calls amounted to anything more than wishful thinking and distorted statistics.

I agree there is a misconception about Arm resets, and that some of what Bondtrdr says about resets is true. And I will go out on a limb and assume that instead of saying “Alt-A and Hybrid” Bondtrdr meant to say Alt-A and Prime (because Hybrid = Option Arms… and by definition these are a serious problem for anyone other than sophisticated investors)… so we’ll just go with the implied intent rather than dissect the semantics.

Now, yes, with the 6 mo libor at 1%, its true monthly payments will stay low, but even at 3.5% the loans that re-set to 25yr amortized principal and interest (roughly half of all re-sets), actually increase in monthly payment. Bondtrdr’s bro is stoked because he apparently falls into the category of folks who get the 5 extra year reprieve.

But how long can Libor be expected to stay this low? It would be a mistake to view these short term low rate as a foundation for stability.

Even when the Libor gets to 3%... still very low by historic context… the fully indexed rate that folks like Bondtr’s brother will pay on their mortgage will be around 5.5%. This is pretty equivalent to what they had as a teaser.

But here’s the thing… there are two types of 5yr Arm loans:

-Loans that adjust to variable rate after 5yrs, and extend the interest-only period out another 5yrs (and then switch to principal and interest over a 20yr amortization).

-Loans that adjust to variable rate after 5yrs, and immediately switch to principal and interest over a 25yr amortization.

This is where the misconception comes in… there is an idea that folks in the higher pricing tiers can afford the P&I payment. It does not matter than some, or many, or even most folks can afford the resulting payment shock. What matters is that some folks (many) are making less money than they were 5 years ago, and when their $800k loan at 5.5% switches to P&I… at 5.5%... their payment increases by $1,247 per month.

Even at 3.5% their payment actually increases by $340 per month.

We have the blueprint of how this rolls out from here. If at first you can’t afford, try to refi. If the refi guy says no dice, try to short sale. If only 15% of short sales close, then walk away.

Also, if people are currently walking away from homes they CAN afford because they’re upside down by $100k… is it unrealistic to expect folks to walk away when they’re upside down by $200k? If not, then how about $300k?

There is a further misconception that the lower priced tiers were all made up of subprime borrowers. Many of these buyers had great fico’s and bought with 5yr Arm’s. In fact, there were many more 5yr arms executed than there were 2yr arms. Where does the stability of this market segment go when they experience this kind of pressure?

There is a further misconception that the subprime problems are behind us. Not true. What is behind us is the rate resets. But the fall out is not behind us. We have had to lower rates to unprecedented levels and we are absolutely stuck here. There are pressures mounting to raise rates, but doing so would be catastrophic.

We have dealt with the problem thus far by changing mark to market guidelines and imposing foreclosure moratoriums. To say this problem has been contained is not accurate. I think I was reading Peter Schiff the other day, who made a more accurate assessment… referring to these actions as more of a quarantine than a containment.

From an intrinsic value standpoint and an affordability perspective, the bottom has been in for sometime in the 300k pricing tier… but who cares if the people who want to sell cannot sell and the people who want to buy cannot buy? The low end segment is completely out of whack because there is nothing free about the market. The high end market is extremely overbought and will take a huge correction to set things straight.

But to say the “real estate market” has bottomed at this point, with all these problems under the run, and yet to come, is just not accurate by any true standard.

U.S. Housing Has Bottomed

All real estate may be local… but unemployment, illiquidity, deflation/inflation, debt, taxation, and the question of whether the stock market is dislocated from reality sure seem to have a world-wide impact.

The foreclosure problem has not been addressed. Rather it is gaining momentum. And it is about to increase at an even faster rate as the neg-am, alt-A, and “prime” 5yr ARM’s begin to re-set.

The idea of the Midwest leading the pack is nice, but these conservative values didn’t buoy us during the liquidity crunch, etc, and it is not going to stem the tide of the pressures that are mounting now.

Midwestern values may well serve as an exemplary place for us to return. But I’m afraid we have a lot more falling down before we can pick ourselves up, brush ourselves off, and get back on the road that will take us there.