A return to rational prices

From the New York Times:

Frozen Rates, Falling Prices

THE Bush administration’s mortgage rescue plan will worsen, not alleviate, the problems in the housing market.

We are suffering from a home value crisis, not simply a credit crisis. If home prices were still rising, defaults would be low, investment returns would be high, borrowers would still be cashing out equity, and lenders would be showering credit on home buyers.

Falling prices reverse this dynamic. A recent study by the Federal Reserve Bank of Boston found that most foreclosures result from falling home prices, not from the resetting of mortgage rates.

And if rates are frozen for some subprime mortgages, standards for most new loans will become increasingly strict. Lenders will have to factor in the added risk of having their contracts rewritten when borrowers default. Higher down payments, mortgage rates and required credit scores — along with lower loan-to-income ratios and perhaps the death of adjustable-rate loans altogether — will further push down home prices.

Whether or not their payment levels are frozen, borrowers with loans that are greater than the values of their homes will have few incentives to keep paying their mortgages or to maintain their properties. Why spend more on a home in which they have no equity and which they may lose to foreclosure anyway?

Having put nothing down or having extracted equity in previous refinances, most subprime borrowers will lose nothing financially from foreclosure. In some cases the low teaser rates allowed them to pay less than what they might otherwise have paid in rent. The real losses are borne by the lenders.

Proponents suggest that a rate freeze will buttress home prices by keeping foreclosed homes off the market. But that is a stay of execution, not a pardon. Most homes temporarily saved from foreclosure will continue to depreciate as new buyers fail to qualify for loans. Lenders will be on the hook for even more losses than if the foreclosures had taken place sooner.

Everyone seems to agree that a return to traditional lending standards is a good idea, but no one seems willing to accept a return to rational prices as a consequence.

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24 Responses to A return to rational prices

  1. grim says:

    File this under “terrible ideas”.

    From the WSJ:

    Some Find Banks Are Willing
    To Accept Reverse Mortgages
    To Retire Troubled Loans
    December 26, 2007; Page D1

    Reverse mortgages used to be a way for homeowners to get extra cash during retirement. Now they’re also being used for a more-pressing purpose: helping people who are struggling to meet payments on high-interest-rate loans to keep their homes.

    The strategy, which is relatively novel but gaining popularity among legal-aid attorneys and housing advocates around the country, calls for persuading lenders to take the cash generated by a reverse mortgage in lieu of foreclosing on older homeowners.

    With a reverse mortgage, the bank makes payments to the homeowner instead of the homeowner making payments to a bank. The loan is repaid, with interest, when the borrower sells the house, moves out permanently or dies. The products are complex and have high fees — typically about 7% of the home’s value — and they make it difficult for homeowners to leave the property to their heirs. But they may be the best option for people who have built up equity in their home and would otherwise lose it.

    Most of these older homeowners in trouble had refinanced their home into so-called subprime mortgages. Such loans — many of which feature adjustable rates that can tack sharply higher after an initial teaser period — have roiled the mortgage industry and credit markets this year as default rates have shot up, and analysts expect hundreds of thousands of additional subprime loans to go bad over the next several years.

  2. grim says:

    From NPR:

    America’s Housing Troubles Won’t End with 2007

    With the collapse of the housing market, many economists are warning that a recession has become more likely. Gone are the days when homeowners flush with rising equity buoyed the economy with confident spending.

    Now entire neighborhoods are plagued by foreclosures, mortgage lenders are skittish, and the real estate industry is shedding tens of thousands of jobs.

    This time last year, the housing sector was looking shaky. But few had any idea what was coming. Hundreds of billions of dollars in losses on subprime loans sent shocks through credit markets around the world. Scores of mortgage companies went bankrupt. Many others had massive layoffs.

    While there are areas and neighborhoods that have weathered the crisis with little effect, on average, home prices over the past year have been falling more broadly than they have since before World War II.

    Not too long ago, foreclosures were considered a rare, unhappy event. Now entire cities are plagued by foreclosures — which are at their highest level since the Great Depression. At the same time, new home construction has fallen to the level it was at in 1991.

    And those events are rippling through the nation’s economy.

  3. grim says:

    From the Star Ledger:

    Hovnanian hit hard as housing decline persists

    The Hovnanians have been building homes in New Jersey for almost a half-century, but the measure of their success was never more indelibly stamped than in a 1992 mishap, when the family’s 123-foot yacht sank off Cape May.

    Outfitted with teak paneling, gold-plated fixtures and other luxuries, the $10 million sport-fishing boat seemed more worthy of an oil sheik than crafters of humble condos.

    In the years since, Hovnanian Enterprises has grown into the nation’s sixth-largest homebuilder, snapping up smaller businesses and expanding into a total of 19 states. Riding the great housing boom of the past decade, the company built developments as fast as it could, with homebuyers queuing up overnight to sign sales contracts like groupies camping out for Hannah Montana tickets.

    The credit crunch and a glut of unsold homes has put an end to those glory days, however. And this time, it’s the Red Bank company itself that’s taking on water.

    Hovnanian last week reported dismal results for the fourth quarter and fiscal 2007, which ended Oct. 31 for the company. Full-year sales fell 28 percent to $4.8 billion, with a loss of $638 million.

    The builder is shutting down sales operations at several communities, and paying financial penalties to walk away from options to build elsewhere. And while the company has given no formal guidance for fiscal 2008, company officials acknowledge it will be another rough year.

    “We feel that Hovnanian has fallen victim to its earlier aggressive growth strategy which has left the credit over-leveraged, inflexible and ill-equipped to navigate through the tough current market conditions,” CreditSights, a debt analysis firm, said in a report last week.

  4. grim says:

    S&P Case Shiller Home Price Index due out today (holiday schedule).

  5. grim says:

    From the AP:

    Home value report seen as dominating today

    A report on U.S. home values will dominate when trading resumes today.

    Fall in home values

    Standard & Poor’s releases October results for its index on U.S. home values today. S&P’s Case-Shiller housing index, which tracks prices in big metropolitan areas nationwide, fell 4.5 percent in the third quarter from the prior year. That was the sharpest drop since the index began in 1987. Some economists say the housing industry is in the midst of a multiyear downturn and threatens to pull the rest of the economy into recession.

  6. BC Bob says:

    Schiff must be reading this site. The msm, our govt is missing, [misleading/lying], the point. The problem is declining values not resets. If values were appreciating 20%, would anybody be complaining about their adjustment?

  7. Frank says:

    “Frozen Rates, Falling Prices”

    Where was NYT 2 years ago? When some people were screaming bubble, bubble, NYT was printing interviews with idiots that claimed that house prices will be going up and up forever.

  8. Confused In NJ says:

    2007 Sale Prices in New Providence are still sky high, so it’s avoiding the problem.

  9. John says:

    Christmas Update – So anyhow my cousin works in the mortgage department of WAMU. He actually deals with the mortgage brokers and the buying of mortgages and making sure the mortgages meet WAMU standards. Anyhow WAMU had a really big operations in Lake Success (Great Neck) Long Island. WAMU bought DIME bank years ago that was headquartered on Long Island. Anyhow per the WARN act they gave the 60 days notice around early December. WAMU is shutting down the whole mortgage operations in Lake Success on Feb 15th lock stock and barrel and the front door will be locked on that day. Och, merry christmas WAMU style. Now he will be looking for work along with a few thousand still unemployed American Home Mortgage and Delphi Financial people all with similar resumes in a business that is basically dead for many years to come.

  10. lostinny says:

    Don’t know if this has been posted but:

    Thousands of New Yorkers to Share in Ameriquest Settlement


  11. Richie says:

    So anyhow my cousin works in the mortgage department of WAMU. He actually deals with the mortgage brokers and the buying of mortgages and making sure the mortgages meet WAMU standards.

    They had standards? What were they???

  12. John says:

    Who knew, but I last saw him in early November at a birthday party and he was gung ho. The CEO of WAMU just had a town hall and said they had a strong banking operations unlike countrywide and they had already started cost savings in anticipation of the downturn in mortgages way back in 2006 and that this would actually be a good event for them as they could gain market share. He was actually saying buy the stock and was excited about the prospects. Thing that was funny was him and his Boss quit Chase Mortgage in 2005 out in Hicksville and came over as a team to Wamu so they know what lending standards are. It is now apparent you need more than two people in the department who knew what they were doing. He was just an AVP reporting to a VP so the problems were not his to see.

    They had standards? What were they???

  13. stuw6 says:

    “No matter how you look at these data, it is obvious that the current state of the single-family housing market remains grim,” said Robert Shiller, who helped create the index, in a statement Wednesday.


  14. BC Bob says:

    Stu [13],

    That’s Chiller.

  15. CAIBC says:

    i know 3 people that used to work out in LI….Nassau and Suffolk in the mrtg industry….they all got laid off back in Sept / Oct…they worked for smaller companies that were already feeling the belt tighten….they predicted back then that there would be massive layoffs in 2008 since the bigger banks could hold out longer that them…

    does this mean that LI home prices are also going to fall….i couldnt believe the rate of appreciation that those two counties!!! and there is nothing out there!

  16. Outofstater says:

    Good Morning All. Hope you had a nice Christmas. One of my gifts was a long out of print copy of “The Invisible Scar” by Caroline Bird. It’s a chronicle of the Great Depression written in the 1960’s. I haven’t gotten very far but here are a few sentences that made me think “whoa.” “Our guilt over preferring war to Depression is one of the reasons we hate to think about the bad old days before the war.” “(The Depression) began with a financial crash, reached nadir in paralysis (the Bank Holiday) and ended with unexpected death from the skies.” “The Crash made us see, in a blinding flash of insight, that we had more buildings than we were going to need for the next generation… in Detroit, the Elks stopped work on an 11-story building and it stood like a skeleton on East Jefferson Street for the next 34 years.”
    Happy Boxing Day everyone.

  17. BC Bob says:

    “Happy Boxing Day everyone.”

    Cheers, mate.

  18. chifi / children are -(NPV) says:

    Richie Says:
    December 26th, 2007 at 8:53 am
    They had standards? What were they???

    All correspondence on 8 1/2 x 11 paper.

  19. ithink_ithink says:


    The real concern is that the banking system has had a serious wobble after a very small real economy event. Average US house prices have fallen by only about 6 per cent from their high, having risen by over 50 per cent over the last five years. They could well fall further.

  20. ithink_ithink says:

    “…Marty Feldstein, who also is a friend of mine, said something like – Well, housing prices could decline 30%. Let me tell you something. As I said, housing wealth in the United States is about $22 [billion]. You get a 30% decline in housing prices; that’s– I said billion– it’s $6.6 trillion. That’s about half a year’s GDP. If we get a decline in housing prices of 30% in the United States, we’re all going long apples and boxes to sell them in.”


  21. Runaway lending practices do nothing but inflate the marketplace, whether in housing or in other capital goods. When the goods are being snapped up the costs tend to rise. That’s the opportunity of business, right or wrong. We wouldn’t have runaway pricing for homes and cars if we didn’t have complicit financial institutions convincing the public that they can afford the cost. As a result, costs spiral upward because they can along with hidden costs that further push the envelope. Sooner or later, even in a stable economy, a correction is eminent.

  22. JCLurker says:

    RE: wamu has been laying off mort brokers in NY this month. acquaintance of mine got clipped

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