1. Enthusiasm
2. Disillusionment
3. Panic
4. Search for the guilty
5. Punishment of the innocent
6. Praise and honors for the non-participants

Right now, we seem to be in an overlapping state centered around panic (this phase can last a long time) with lingering pockets of “disillusionment” and the beginnings of the “search for the guilty” now under way.

As anecdotal evidence as to where we are in the cycle, I point to “Foreclosure Crisis Sparks Investigation” :

“Amid Wisconsin’s deepening mortgage foreclosure crisis, Legal Aid Society of Milwaukee on Tuesday announced an inquiry into what went wrong.

“‘We need to find out who are the people being foreclosed, who are their servicers and original lenders, and what kinds of loans did they get,’ said Catey Doyle, the organization’s chief staff attorney. ‘There are a lot of questions about who bears responsibility for this situation, [and] the only way to find out who the players are is to manually go through court files’…

“Volunteers working under the group’s supervision recently launched a review of all Milwaukee County Circuit Court cases filed since June 2006, Doyle said. She said the group will report its findings this fall by lender, ZIP code, loan type, and other factors…

“‘Loans made in the last year got progressively more and more outrageous,’ Doyle said. ‘It was like a feeding frenzy. Now we’re seeing 20 foreclosures a day on average in Milwaukee County, and sometimes 30. It’s really depressing.’

“All year, her office has been awash in complaints of deceptive lending practices — ‘dozens of them,’ Doyle said.

As part of the “search for the guilty” phase, there is an ongoing denial and coverup by some of those who are guilty but are trying very hard to stop any fingers from pointing in their direction. This “One on One With David Wyss, Chief Economist of S&P” shows what I mean:

“SUSIE GHARIB, NIGHTLY BUSINESS REPORT: More analysis now on that subprime credit watch by Standard & Poor’s. Joining us, David Wyss, chief economist of S&P. Hi, David.

“DAVID WYSS, CHIEF ECONOMIST, STANDARD & POOR’S: Good evening.

“GHARIB: Let’s begin by getting your reasons of why S&P put these mortgage- backed securities on negative credit watch.

“WYSS: Well, the basic reasoning is they’re simply not performing as well as we expected. The housing market is not turning around in a hurry. We didn’t really expect it to. Home prices still have a ways to drop. And we’re already seeing substantially higher default rates on these securities than we had anticipated at this point. So it was time to move them.

“GHARIB: But why now? All of these factors that you’ve mentioned have been going on and the housing sector has been struggling for some time — why now?

“WYSS: Well, largely because we need to get enough record on these securities to see how they’re performing. We knew the housing sector was underperforming. We knew that when we rated these securities. But what surprised us is that even given the poor performance for the housing sector, the default rates are running higher than we would have expected given the FICO scores here, given the loan-to-value ratios in these mortgages.

“GHARIB: Now, I understand that there are 612 mortgage securities on your credit watch list. And you’re reviewing them and some of them will be downgraded. How many of them will be downgraded, do you think?

“WYSS: Well, if we knew that, we wouldn’t have to put them on credit watch. But I would say, you know, the great majority. My personal guess would be at least 90%. Let’s keep this in perspective. We’re looking at $12 billion. That sounds like a lot of money — it is a lot of money to most of us. It’s only 2% of the subprime securities we rated during that period. And it’s 0.01% of the U.S. mortgage market.

“GHARIB: All right. So if it’s 2%, then how serious is this announcement that you made today? How worried should investors be?

“WYSS: I don’t think you should be worried generally, but obviously, what we do worry about, is there a concentration of this risk that has built up in some of the hedge funds, for example, that could cause problems?”

David Wyss is trying like mad (as are numerous others in the state of denial) to contain the damage by containing the negative sentiment. It’s galling to see shills saying with a straight face the problem is only with 2% of subprime when a full 65% of the bonds in indexes that track subprime mortgage debt don’t meet the S&P ratings criteria that were in place when they were sold.

The 2.1% downgrade of debt by the S&P is a joke. I talked about this at length in “Stress Test.” The ploy by David Wyss at the S&P is doomed to fail. Sorry, David, no matter how hard you try, you can’t put air back into a popped bubble.

Regards,
Mish

July 12, 2007

Six Phases of the Housing Bubble was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

State Tax Revenues Slump

In “Housing Slump Pinches States in Pocketbook,” The New York Times is reporting on tax shortfalls:

“‘It’s the year of the housing hangover,’ said Sean M. Snaith, director of the Institute for Economic Competitiveness at the University of Central Florida.”

Lower Earnings, Less Capital Spending, Less Hiring

MarketWatch is reporting, “Lower earnings could cut into capital spending, hiring”:

“U.S. corporate profits fell in the fourth quarter of 2006, signaling the end of one of the greatest profit cycles in postwar era, economists say.

“Economic growth is slowing, hurting corporations’ top line. Meanwhile, costs are rising, squeezing profit margins.

“‘Profits growth has turned decisively down, and the end is not yet in sight,’ wrote Gabriel Stein, an economist for Lombard Street Research.

“‘As the expansion matures and unit labor costs rise, profit margins will be under pressure,’ said Stephen Stanley, chief economist for RBS Greenwich Capital…

“‘The deceleration of profits may be dramatic,’ wrote Mickey Levy, chief economist for Bank of America, in a research note. ‘If so, weaker profit growth may affect business hiring and capital spending decisions, and will likely influence financial markets.’

“‘Weaker profits may undercut any rebound in capital spending,’ Levy said.”

Pink Slips Litter Loan Industry

The Chicago Tribune is reporting, “Turmoil in the subprime mortgage sector hits some workers as hard as borrowers”:

“The tumult in the subprime mortgage sector has hit some of the industry’s employees as hard as its borrowers.

 ”Nationwide, job losses in the category that includes mortgage lending, real estate, and construction climbed 346% in the first quarter, to 21,245 from 4,764 in the same period last year, according to outplacement firm Challenger, Gray & Christmas Inc.

“‘It’s a whole sector of the economy that’s leaking,’ Chief Executive John A. Challenger said.

“In California, the 3,679 mortgage industry jobs lost in the quarter pales compared with the 70,000 construction jobs that economists figure could disappear over the next two years. When considered individually, though, the loss of a higher-paying white-collar position can be more significant for the economy.

“‘Each one of these finance jobs is worth at least two construction jobs,’ said Ryan Ratcliff, an economist with UCLA’s Anderson School of Business.

“Added Esmael Adibi, director of the Center for Economic Research at Chapman University in Orange: ‘The ripple effect is significant.’

“The layoff wave began about a year ago, when Ameriquest Mortgage Co. fired one-third of its employees. In December, Ownit unloaded 800 workers. Last month, the Orange-based parent of Ameriquest Mortgage and Argent Mortgage Co. announced major layoffs, as did Fremont General Corp. of Santa Monica. General Electric Co.’s WMC mortgage unit, a major player in the subprime business, said it would snip 20% of its payroll.

“‘We went on a big real estate bender,’ Ratcliff said. ‘And this is sort of the beginning of the hangover.’

“Shelly Dusing of Aliso Viejo, who lost her $48,000-a-year job at Ameriquest last month, said she would not return to the industry. In fact, she said she would work ‘anywhere but’ because mortgage lending was too volatile, ‘whether you’re prime or subprime.’

“For Dusing, who’s nearly eight months pregnant, the situation at Ameriquest became so tense that getting fired was a relief.

“‘You go to work every day and you don’t know if you’re going to have a job or not. You don’t know if your badge is going to open the door,’ she said. ‘We knew bad things were coming and it was just a matter of time’”…

“The abrupt end is a bitter memory for Tamika Williams, her family’s primary breadwinner when Ownit collapsed shortly after she bought a home in Phoenix.

“The 29-year-old mother of four lost a job that paid $21 an hour, plus commissions. Williams landed a new job March 2, making $12 an hour handling collections for a bank.

“‘I’m surprised I haven’t called myself yet,’ she said.

“The end came quickly at Ownit, said Lisa Seeley, another former employee.

“‘Now you wake up every morning and wonder, “Who’s wheezed their last today?,”‘ she said. ‘If there’s anybody who isn’t wondering about their job today, they’re not paying attention.’”

Property Tax Soup

The Orange County Register is asking, “Are Property Taxes in Subprime Soup?”:

“If you’ve got a mortgage from a subprime lender in deep financial trouble — and that’s a good-sized bunch — you may want to gulp.

“The county’s tax collector is concerned that some ailing lenders may be unable to get borrowers’ payments to their rightful place, such as prepaid property tax payments.

“‘This is a very serious issue,’ says [tax collector Chris] Street, who adds the unsettling notion that property owners are still liable for a tax bill — even it goes unpaid due to a lender’s failure to forward your cash to the tax collector.

“Street’s not yet seen evidence in his tax collecting efforts of such mistakes or misappropriations. Still, O.C.’s overall late tax payments are already running at an 11-year high. But one company in the subprime game claims they’ve witnessed borrowers’ mortgage payments go awry.

“Wall Street banker UBS sued New Century Financial, the once subprime giant now mired in bankruptcy. The UBS beef? That the Irvine [Calif.] lender failed to forward $3.8 million in borrowers’ payments — plus $1.7 million in escrow payments for house expenses — to UBS-sponsored owners of certain mortgages.

“A New Century spokeswoman would not comment on the UBS allegations. She did say that protections are in place to keep borrower payments separate from New Century’s other financial obligations. Court filings indicate that New Century has the right to continue forwarding prepaid bills to tax officials.

“‘I’m just being prepared that one, two or many of these lenders will have used the money that should have been set aside,’ says Street, who notes that New Century forwarded its borrowers’ tax payments to his office on Friday. The current installment of tax bills is due Tuesday.”

Imagine you are a subprime borrower who paid taxes to New Century Finance or some other now bankrupt subprime lender and you wake up and find that those tax escrows you made were not paid. Subprime being what it is, exactly how are you going to come up with $2,000-4,000 or more to pay tax bills you have already paid?

Some borrowers have avoided escrow payments simply because they could not afford those on top of a mortgage. Where are those borrowers going to come up with the money to pay property taxes?

California Foreclosure Sales Near $2 Billion in March

The Central Valley Business Times is reporting, “Unprecedented’ foreclosure activity”:

“Foreclosure sales are now 15% of all home sales in California.”

“5,316 homes were lost to foreclosure sales in March in California, according to figures compiled by Foreclosure Radar, a Discovery Bay-based foreclosure listings and software company.

“The homes sold at auction last month represented a 27% increase from February and a 264% increase in the last six months, the company says. Of the $2 billion worth of properties sold in March, 4,796 went back to the lender after receiving no bids, representing $1.82 billion, it says.”

4,796 homes out of 5,316 homes at foreclosure sales received no bid. That is a pretty stunning 90% of homes at foreclosures auctions receiving no bid. Obviously, those homes have a bigger mortgage than what they are worth.

Hot Employment Numbers?

In regards to the highly touted 180,000 March payroll numbers, there are some anomalies that need to be addressed. I talked about this in “March Employment Numbers & Leading Indicators,” and Paul Kasriel talked about the job numbers in “An Autopsy on the March 2007 Employment Situation Report.” From the latter:

“With regard to the 35,800 person increase in general merchandising retail, it seems odd that this accounted for all but 100 positions in the net monthly increase in total retail payrolls. Something very volatile appears to be going on in general merchandizing hiring.General merchandise employment in relation to total retail employment has gone from 18.81% in November 2006 to 19.25% in March 2007, a very sharp reversal, as shown in Chart 5 [below]. I wonder if there are not some seasonal adjustment issues in play here. Whatever the case, if a lot of our job growth is occurring in retailing in general, then this is unlikely to result in strong consumer spending from income growth inasmuch as the average hourly wage in this sector is only $12.74, with only leisure and hospitality paying less ($10.19 per hour). If Circuit City’s hourly pay cut plan is successful, other retailers might opt for a variation of it, which will lower the wages in this hotbed of employment growth even more.

“Now, let’s turn to the March 2007 Household Survey, which also provided a surprise in the form of a 0.1 point decline in the unemployment rate, to 4.4% — matching a cycle low. In terms of age groups, the largest decline in the unemployment rate occurred among teenagers, where the rate fell to 14.5% in March, from 14.9% in February. But the ‘adult’ unemployment rate also fell a tick, to 3.9%, matching its cycle low. Did teenage employment increase in March? No, it declined by 59,000. What was driving force behind the sharp decline in the teenage unemployment rate? A 0.6 point decline in the teenage participation rate to a cycle low 41.6%. In fact, as shown in Chart 6, the March 2007 teenage participation rate of 41.6% is a post-WWII low”…

Judging from the enormous drop in the teenage participation rate, the latest drop in the unemployment rate is a complete fabrication of reality. While Kasriel and I focus on different aspects of the payroll numbers, we both reach the same conclusion, expressed by Kasriel: “In sum, an autopsy of the March 2007 Employment Situation report suggests that labor market conditions are not nearly as robust as the headlines that accompanied the report.”

Now factor in the fact that 2.1 million homeowners missed a mortgage payment in 2006, according to USA Today. Does that look like containment? I suggest that the containment is spreading, even as Bernanke and others deny its existence.

Regards,
Mish

April 10, 2007

Containment Is Spreading was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

“A wave of home mortgage foreclosures is sweeping across Brevard County — signaling a disastrous end to the local housing boom for those who could lose their homes…

“Many of the cases stem from homebuyers — both residents and investors — getting sucked into risky loans, with limited options to refinance or sell because of the recent decline in local property values…

“The trend is part of a rise in foreclosures nationwide, and especially in Florida, which ranked second in the nation in 2006 in foreclosures, behind California.

“In Brevard County, there were 982 foreclosures from November through February, more than double the 377 foreclosures during the same four-month period a year earlier, according to data provided by Brevard County Clerk of Courts Scott Ellis. The figures include some commercial foreclosures, but the vast majority are residential.

“In addition, there are more than 5,600 local properties where the owners are at least two months behind in mortgage payments, according to RealtyTrac.com, a Web site that tracks such data…

“If there is a marked downturn in the economy, ‘this could be seen as the tip of the iceberg,’ said David Brown, Bank of America professor at the University of Florida’s Department of Finance, Insurance, and Real Estate…

“‘There are a variety of factors here,’ said Steve Srein, founder of People’s First Financial Services of Melbourne. ‘The first thing is people are not changing their lifestyles to pay for the loans they took on their homes. We’ve adapted to what I call “The Easy Society,” in that we made it easy for people to get into houses with submarginal credit. Since they had submarginal credit, that puts them in the subprime category, ripe for a product like the exotic mortgage or the junk loan, or optional adjustable-rate mortgage.’

“‘The problem today is that the people were pushed into loans they really couldn’t afford,’ Srein said. ‘The real estate people and the mortgage brokers are saying the borrowers knew what they were doing. But, really, it’s the optional (adjustable-rate mortgages) that are the big culprit behind the whole problem’…

“‘These people weren’t prepared for what they were getting into,’ Srein said. ‘They weren’t ready for phenomenal real estate tax increases and phenomenal homeowners’ (insurance) increases. So if you take that element, and combine it with a person that isn’t willing to make changes in their finances, you have defaults. If your habit is spending on lavish trips or spending on clothes, you need to cap the spending to keep your house. It’s the wants versus the needs.’

“The other factor is that, in recent years, housing prices have soared in Florida overall, Srein said, ‘and the salaries have not.’”

Tsunami of Defaults

A tsunami of subprime defaults is about ready to sweep The Easy Society right out of their houses. Fed Governor Susan Bies says, “Subprime Defaults Are ‘Beginning of Wave’”:

“The nation’s banks are just beginning to feel the pain of defaults on risky mortgages they made at low introductory rates when housing prices were soaring, U.S. Federal Reserve Governor Susan Bies said.

“Bies, who has been the Fed’s top banking policy official in her tenure at the U.S. central bank, said today banks are likely to see more missed payments and foreclosures as consumers with weak credit histories begin to face higher monthly mortgage payments.

“‘What’s happening is the front end of this wave of teaser-rate loans that are coming into full pricing,’ Bies said at a risk-management forum in Charlotte, N.C. ‘So what we’re seeing in this narrow segment is the beginning of the wave. This is not the end, this is the beginning’…
 
“The Fed and four other bank regulators released proposed guidelines last week instructing banks to strengthen their underwriting standards and offer clear disclosures on loan terms to subprime borrowers.

“The central bank also said last week that the delinquency rate on banks’ residential real estate loans reached a four-year high last quarter.

“Bies said the problems in the mortgage market are well contained.

“‘We’re seeing this in a very narrow segment,’ Bies said. ‘We’re watching for contagion, we haven’t seen it.’

“Outside of the housing and auto industries, ‘the economy is strong,’ Bies said.”

Given that housing alone accounted for over 40% of the jobs this recovery, that last statement by Bies seems pretty feeble. The Fed is also four years and trillions of dollars too late on those lending guidelines. I talked about that in “Malinvestments, Predatory Lending, and Demagogues,” and it is likely that I will be writing on that theme again soon.

Contagion Watch

So the Fed is “watching for contagion.” Exactly what can the Fed do about it when it hits? That will not be Bies’ problem, as she is cleverly leaving her post at the end of March, as Forbes reported back in February in “Fed Gov. Bies Quits”:

“Two days after a group of major U.S. banks asked regulators to reconsider proposals for regulating bank risk, the Federal Reserve governor heading their implementation resigned.

“Fed Governor Susan Bies submitted her resignation on Friday that will become effective March 30. Bies leaves five years into an appointment that was not slated to end until 2012. In a resignation letter address to President Bush, Bies called her experience on the board ‘very rewarding’ but offered no reason as to her departure.”

That seems like a good move. I would not want to stick around for this tsunami, either. Most of those in The Easy Society won’t even know what hit them. They will be blaming predatory lenders, hurricanes, insurance companies, and anyone and everyone but the primary culprit (the Greenspan/Bernanke Fed). I suspect that is the real reason (at least one of them) for Bies’ resignation.

To be fair, Forbes also reported:

“In her last position, she was spearheading efforts to revise and implement the international capital standards for banks developed in 1988. Although banks and regulators agreed the old standards were outdated and overly simplistic, updating them has been a contentious issue for years.

“Bies had recently voiced frustration at the slow progress. After a speech at the National Credit Union Administration’s Risk Mitigation Summit in January, Bies told reporters that ‘I’m an impatient person. I clearly wish that things were going faster, but I’m very happy that we’ve got everything out for comment now.’

“On Wednesday, four major U.S. banks submitted a letter to the Federal Reserve and urged it to move away from certain Basel II proposals. JPMorgan Chase, Washington Mutual, Wachovia, and Citigroup complained that the new rules would require U.S. banks to hold more minimum capital and would give foreign banks an advantage.”

If Bies is resigning because she refuses to go along with tightening minimum capital requirements, then perhaps she should be applauded. For now, she isn’t saying. Once she is gone, I hope she will disclose her reasons. It will also be interesting to see if she stops chirping the economy is strong with Paulson, and starts singing the recession blues with Greenspan.

Regardless of what tune she will be singing, The Easy Society is in for very harsh times.

Regards,
Mike Shedlock ~ “Mish”

March 13, 2007

The Easy Society was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

This article from December 2006 is typical: “Families Feel the Pressure as Mortgage Delinquency Rates Rise”:

“America’s middle class is already burdened by a trifecta of economic pressures: the labor market is slowing, household debt burdens are reaching new record highs, and interest rates have been creeping higher for most of this year. Now comes a distressing new report from the Mortgage Bankers Association, which reported yesterday that delinquencies on mortgages rose sharply in the third quarter of 2006.

“Delinquency and default rates on loans and personal bankruptcy rates are still at comparatively low levels — only 4.7% of all loans in the third quarter — but they have been rising rapidly over the course of this year. Other measures of financial distress are also pointing one way for American families — up. With all pieces of the trifecta staying in place, rising delinquency rates on mortgages may be the beginning of a trend toward more middle-class financial insecurity…

“The data on bankruptcy rates also show a worrisome trend over the course of 2006. Bankruptcy rates dropped precipitously in 2006 in the wake of large filings in 2005 just before the new bankruptcy law went into effect. However, from the first quarter of 2006 to the second quarter, the annualized personal bankruptcy rate, measured as bankruptcy cases relative to the U.S. population, grew from 1.2 in 1,000 to 2.0 in 1,000 — an increase of 33.7%. The bankruptcy rate in the third quarter stood at 2.2 in 1,000, an additional increase of 9.6% in that quarter alone.

“Middle-class families are caught between low income growth, a high debt burden, and rising interest rates — and for the moment, these ingredients are here to stay. The most recent third-quarter delinquency, default, and bankruptcy figures show that the dangers to middle-class economic security are not theoretical concepts. They are a harsh reality for a growing share of middle-class families.”

I am having a hard time finding fourth-quarter stats, but I do see that “Mortgage Delinquencies Jump: Foreclosures Inch Higher in 3Q”:

“U.S. homeowners had a harder time keeping up with their mortgage payments in the third quarter, the Mortgage Bankers Association said Wednesday, with the delinquency rate rising to 4.67% from 4.39% in the second quarter. A year ago, 4.44% of mortgage holders were 90 days or more past due on their loans.

“The foreclosure rate inched higher in the third quarter, with 1.05% of mortgages in the foreclosure process, versus 0.99% in the second quarter, the MBA said. While delinquency rates on all types of loans rose in the third quarter, it was the subprime category — loans made to less creditworthy borrowers, that shot up the most, to 12.56%, from 10.76% a year ago.

“‘As we expected, in the third-quarter, delinquency rates increased across the board. However, increases were noticeably larger for subprime loans, particularly for subprime ARMs,’ said Doug Duncan, chief economist for the MBA.

“‘This is not surprising given that subprime borrowers are more likely to be susceptible to the cumulative increases in rates we’ve experienced and the slowing of home price appreciation that has resulted,’ Duncan said.”

Freddie Mac Delinquencies

While doing some research on delinquencies, I just happened to stumble across a recent release from Freddie Mac on delinquencies.

Following is a chart from the above link, and it shows that delinquencies at Freddie Mac are falling dramatically:

That is pretty stunning. Freddie Mac says delinquencies are dropping, but everything else I can find shows delinquencies are rising dramatically. OK, Mish, what gives?

Footnote No. 12

“Single-family delinquencies are based on the number of mortgages 90 days or more delinquent or in foreclosure while multifamily delinquencies are based on net carrying value of mortgages 60 days or more delinquent or in foreclosure. Includes delinquencies on mortgage loans where the lender or third party retains the largest portion of the default risk as well as Structured Securities backed by alternative collateral deals. Excludes mortgage loans whose original contractual terms have been modified under an agreement with the borrower as long as the borrower complies with the modified contractual terms.

“Previously reported delinquency data [are] subject to change to reflect currently available information. For example, delinquency data reported for some Structured Securities may be omitted or subsequently revised by servicers of the underlying loans, which may require revision to previously reported numbers. For periods presented in this report, revisions to previously reported delinquency rates have not been significant nor have they significantly affected the overall trend of our Single-Family ‘Credit Enhanced’ and ‘All Loans’ delinquency rates. Delinquencies on mortgage loans underlying alternative collateral deals may be categorized as delinquent on a different schedule than other mortgage loans due to variances in industry practice.”

Essentially, Footnote No. 12 says that if Freddie Mac renegotiates the terms of the loan with someone who is delinquent, then, voila, that person is no longer delinquent. It seems to me that since about June of 2006, Freddie Mac is struggling to keep this Ponzi scheme afloat.

Fannie Mae has its own guidance on delinquencies:

“First and foremost, Fannie Mae tries to avoid foreclosure. There are no winners when a home mortgage is foreclosed. It is the least desirable way to resolve a problem loan, and a terrible ordeal for the homeowner. It also is costly for Fannie Mae, as the investor, and for the loan servicer.

“Homeowners who are having difficulties making their mortgage payments should immediately contact their mortgage loan servicer (the company to which they send their monthly payments) to discuss options.

“Fannie Mae has instructed its lenders and servicers to avoid foreclosure whenever possible by offering borrowers who get behind in their mortgage payments various alternatives, including temporary forbearance, loan modification, and preforeclosure sales.”

Mish Translation: Keep this stuff off the books as long as you can. Cross your fingers and toes with David Lereah and hope the bottom is in.

Foreclosures

A more recent article from Jan. 30, 2007, entitled “U.S. Banks Move Earlier to Curb Foreclosures,” shows just what is being done to hide the problem:

“As the number of borrowers falling behind on their mortgage payments climbs to the highest level in five years, the mortgage industry is trying new strategies to help bail them out.

“Much of the attention is on homeowners who in recent years took out adjustable-rate mortgages, a popular way to finance a home when interest rates were low. Now, with rates having moved up, many of these borrowers have recently seen, or soon will see, their mortgage rates adjust higher for the first time.

“To head off problems, mortgage companies are reaching out to borrowers earlier. Bank of America Corp. is allowing some borrowers with ARMs to refinance into a different loan at no cost. Citigroup Inc.’s CitiMortgage unit is focusing extra attention on parts of California, Florida, and New York where home prices have moved up sharply. It is also contacting delinquent borrowers within days after a missed payment, if it doesn’t fit their normal bill-paying habits….

“For some borrowers, efforts to work out bad loans can be complicated by the fact that many mortgages no longer are held by the banks that made the loans. Instead, roughly two-thirds of mortgages are packaged into mortgage-backed securities and sold to investors. How much leeway a borrower is given can vary, depending in part on the rules spelled out at the time the securities are created. Some agreements, for instance, don’t permit loan modifications or limit the circumstances under which a loan can be modified. Others put a cap on how many loans can be restructured…

“The increase in bad loans is broad-based, with delinquencies rising in the past year in roughly 80% of the 250 local areas analyzed by Moody’s Economy.com. Some of the biggest increases have come in California, where high prices have made it hard to afford a home, and in other once-hot markets such as Las Vegas and Port St. Lucie, Fla. Among the handful of major metropolitan areas where delinquencies have fallen: Salt Lake City, San Antonio, and Albuquerque, N.M.

“The rise in delinquencies is unusual because it comes at a time when the economy is relatively strong. Even though job growth remains healthy, ‘the total mortgage delinquency rate is the highest that it’s been since the depths of the (2001) recession,’ says Mark Zandi, chief economist at Moody’s Economy.com. He attributes the increase in part to the weaker housing market and the widespread use of adjustable-rate mortgages, many of which now are resetting at higher rates.”

Who Is Bailing?

I guess you gotta love it. Delinquencies are soaring, but Freddie Mac shows they have been reduced by 24.6% on all loans over an 11-month period. Foreclosures are soaring, but new strategies are invoked to “bail them out.” Hmm… who is “them”? I suggest “they” are the lenders hoping with fingers and toes crossed that the bottom is in.

In case you missed it, here are the two key sentences from the above article:

“For some borrowers, efforts to work out bad loans can be complicated by the fact that many mortgages no longer are held by the banks that made the loans. Instead, roughly two-thirds of mortgages are packaged into mortgage-backed securities and sold to investors.”

There are numerous Ponzi finance schemes ready to implode. It will be spectacular to watch once it starts unfolding. The longer this progresses, the worse it will get.

Regards,
Mike Shedlock ~ “Mish”

February 5, 2007

Delinquency Footnote No. 12 was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Monetary Base

M3

The above chart is from a discussion on "Money Supply and Recessions." For this article, pay attention to the green line and ignore the others. M3 started exploding in 1971, and it was not happenstance, either. Here is a snip from "The Last Great Bubble — Counterfeiting the Dollar":

"1971 — Aug. 15 — President Nixon closes the international gold window. U.S. dollars are no longer redeemable in gold for international settlements. This marked the beginning of the current, anchorless floating currency regime, and not, coincidentally, a decade of inflation."

The previous link is an interesting read from 2002 predicting the demise of the dollar, even as it was still rising at the time. However, the article fails to point out that it was not just the U.S. abandoning all ties to the gold standard, but it was every country in the world.

This was the biggest experiment in fiscal madness the world has ever seen. Unleashed from the "burden" of gold redemptions, credit has soared far faster than base money supply. This in turn fueled asset bubble after asset bubble, but most notably in the global equity markets and housing.

Do those charts represent inflation? Absolutely — what else can they represent? Inflation is the expansion of money and credit, and both money and credit went on a tear. But although the chart patterns are similar, the scale is enormously different. M3 dwarfs monetary base expansion.

There is without a doubt a bubble in credit. Money is being "swept" out of checking accounts and lent out. Bank reserves are nonexistent. Fannie Mae and Freddie Mac have been creating debt out of thin air. That is what happens when money is no longer backed by anything. But the question is not, "What happened?" The charts clearly show what happened. The pertinent question is, "What happens next?" As long as asset prices keep rising, the bubble can keep expanding. Consumers can then keep borrowing against the rising value of their houses and stocks, which in turn supports current consumption.

Is the ability to expand that credit bubble infinite?

I think not. Therein lies the problem. Every bubble sows the seeds of its own demise. Wages are not keeping up with ability to service debt. Global wage arbitrage and outsourcing ensures that trend will continue. Housing is not affordable and has risen several standard deviations beyond wage growth and rental costs. People purchased homes they could not afford just because someone was dumb enough to lend them money. The result is rising bankruptcies and foreclosures at a massive annual rate of growth.

Can the Fed keep expanding the bubble?

Once again, the answer is no. Debt bubbles end when the central bank is no longer able or willing to extend credit and/or when consumers and businesses are no longer willing to borrow because further expansion and/or speculation no longer makes any economic sense.

Here is an alternative reason: Debt bubbles implode when the ability to service the debt can no longer be maintained. Bankruptcies and foreclosures are two ways to measure inability to service debt.

Foreclosures

Foreclosures are actually at a fairly low rate. It is the rate of change, however, that is alarming. See "Foreclosures Increase 51% Nationwide":

"Foreclosures increased 94% last year, to 157,417 homes in California, as homeowners struggle with fast-rising home payments and a slow-selling market, according to a Fair Oaks real estate investment advisory firm on Monday.

"California had the most foreclosures filed nationwide, while Nevada had the largest percentage increase, at 175%, last year compared to 2005, according to Foreclosures.com.

"Nationwide, almost 971,000 foreclosure filings were reported last year, 51% more than the 641,000 in 2005, according to the annual report."

Faith in the Fed

Right now, there is enormous faith in the ability of the Fed to keep the bubble inflated. Inflationists fail to see that much of that credit borrowed into existence can never be paid back.

Yet somehow everyone thinks the Fed will expand money enough to matter if a credit bust happens. It has never worked that way in history. Take a good, hard look at monetary base versus M3. Interest rate policy at the Fed cannot fuel that expansion forever.

The Treasury Department has massive ability to print money, but it cannot force banks to lend. It is important to understand the difference. Credit lending standards can only go so far before bankruptcies and foreclosures force a change. That change is finally upon us, and a huge secular reversal is now under way.

The Fed simply does not have the power to deposit money into consumer accounts so that bills can be paid. It probably would not do so even if it could, because it would be to the detriment of banks and creditors. Will the Fed react to a debt implosion by cutting interest rates? Absolutely. The Fed will likely attempt anything it can to help consumers service debt. History proves it, and history proves gold will benefit, as well. But the Fed cannot create jobs or revive housing, and neither can the Treasury.

Willingness to Lend

The Mortgage Lender Implode-O-Meter is reporting, "Twelve lenders have now gone caput since December 2006." This number has been increasing at a rate of one-two a week since December. Two of those lenders were among the top 20 subprime lenders. One of them was Ownit Mortgage, the other was Mortgage Lender Network. Ownit Mortgage and MLN both went bankrupt.

Following is a partial list of lenders unable (via bankruptcy) or unwilling (because of huge losses) to make subprime loans:

2007-01-19: EquiBanc

"Wachovia recently conducted an intensive strategic review of its mortgage business, which has altered the company’s approach to the origination of nonconforming loans. As a result, Wachovia has elected to close EquiBanc Mortgage, Wachovia’s only business dedicated solely to nonconforming loans."

2007-01-19: FundingAmerica

"Due to current market conditions in the mortgage industry, Funding America has decided to discontinue accepting any new business."

2007-01-08: Clear Choice Financial/Bay Capital

"Clear Choice Financial Inc., a Nevada corporation, announced that it is insolvent and in default on numerous obligations. Clear Choice has officially closed the mortgage lending offices of its wholly owned subsidiary, Bay Capital, located in Owings Mills, Md., and Irvine, Calif."

2007-01-05: SecuredFunding

"Based upon market conditions and limited product availability, we are ceasing wholesale operations. We have stopped accepting new applications, and will have until the 12th of January to fund out the pipeline. We appreciate your patience as we undergo this transition."

2006-12-29: MLN

"Hundreds of workers in Rocky Hill left the office of a billion-dollar national company with boxes in hand and tears in their eyes. Mortgage Lenders Network, headquartered in Middletown, recently stopped funding new loans. ‘We’re not going to get paid. We keep our benefits for two weeks, and we’re not going to have a severance package,’ said MLN employee Melissa Goyette. The company is closing after losing a large financial backer and the failure of a last-minute bid to raise cash. The company was in the middle of building a new location in Wallingford that was to open later in the year."

2006-12-20: Harbourton Mortgage Investment Corp.

"Harbourton Capital Group, Inc. announced that effective Dec. 20, 2006, Harbourton Mortgage Investment Corp. ("HMIC"), its wholly owned mortgage-banking subsidiary, ceased funding new mortgage loans and initiated a process to wind down its operations. HMIC was forced to take these actions when it was unable to satisfactorily resolve mortgage repurchase claims asserted by selected investors that had purchased mortgage loans from HMIC. As a result of this action, HCG will likely write off its full investment in HMIC. HMIC’s recent significant losses and requirements for new capital negatively impacted HCG during 2006."

Eligible Buyer Pool

The pool of eligible buyers is now shrinking. Consider the article "For Credit Risks, Home Loans Harder to Get." Here are some excerpts regarding changes in lending standards:

• Down Payments: New guidelines require 10% down, according to Gary Akright, a mortgage broker at Dominion Mortgage Corp. The previous guidelines required 5% down
• Credit scores: Previously, borrowers with a FICO credit score as low as 570 (out of 850) could qualify for a single loan financing 100% of their home purchase, Mr. Carmona of Homewood Mortgage in Carrollton said. "Now, across the board, it’s jumped up to a 600 FICO score for an 80/20 loan"
• Subprime Rates: Rates on subprime mortgages have risen about a full percentage point since September, Mr. Carmona said, while regular mortgage rates have been relatively steady
• Savings requirements: "They want to see borrowers have at least three months of reserves in their account in case of an emergency," Mr. Carmona said. "They want to see it in your bank account saved for at least 60 days. Usually, subprime lenders didn’t ask for that."

Current Conditions vs. ’70s and ’80s

Conditions now are radically different than conditions in the ’70s and ’80s. A couple decades ago, households went from one wage earner to two wage earners, which increased purchasing power; wages and benefits were rising, and not just for those at the top end; mortgage rates were set to decline nine full points; credit lending standards had plenty of room to drop; debt levels were low; the savings rate was high; and ability to take on debt was huge. Virtually none of those conditions exists today, not a single one. Yet many think that because commodity prices are rising, this is some sort of ’70s and ’80s replay. It simply cannot be. The conditions are vastly different.

Willingness to Lend/Willingness to Borrow

• Credit standards are tightening
• The pool of willing lenders is clearly shrinking
• The pool of eligible home buyers is now shrinking with the tightening of credit standards
• The pool of willing buyers is shrinking along with a decrease in the willingness to speculate on housing.

The psychology of both lenders and borrowers has now changed at the margin (subprime lending). This is how cascades start. When defaults continue, it will progress further and further up the chains of credit worthiness. It is a mistake to think this will be confined to housing. It won’t. If and when there is another huge hedge fund blowup, and/or there is a huge junk bond default, the leveraged buyout and merger mania markets will be hit hard. This is all poised to feed on itself once the ball gets rolling. A major credit bust is coming, and it is only a matter of time.

There is massive belief in the Fed to be able to do something about that bust when it happens. That faith is totally unwarranted. Note again the huge difference between M3 and base money. Also note that the Fed cannot create jobs or put money directly into consumer accounts. Even if the Fed could deposit money into consumers’ pockets (the helicopter drop theory), to do so would be at the expense of banks and creditors. That makes the helicopter drop scenario implausible. However, the Fed will undoubtedly be willing to slash rates. But will banks be able and willing to lend? Will consumers be able and willing to borrow? A history of credit bubble collapses, as well as the data presented above, suggests otherwise.

Regards,
Mike Shedlock ~ "Mish"

January 22, 2007

Gold, M3, and Willingness to Lend was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Bernanke sure seems to think so, at least according to this Chicago Tribune headline: “Bernanke: Household Debt ‘Manageable’”:
 
“Household finances are in good shape even as the greater availability of credit has led to higher levels of debt, Federal Reserve Chairman Ben S. Bernanke said.

“‘U.S. households overall have been managing their personal finances well,’ Bernanke said.

“‘Debt burdens appear to be at manageable levels, and delinquency rates on consumer loans and home mortgages have been low’…

“A ratio of debt payments on mortgage and consumer debt to personal income stood at 13.86% in the final quarter of last year, the second highest in Fed records going back to 1980. Bernanke noted that rising debt burdens have been partially offset by increased asset values as household net worth ‘is at a fairly high level.’”
 
Bernanke never checks into my blog to answer questions, but I have several anyway:

1. Since when do asset bubbles in houses or stocks justify piling on debt?

2. Given that real wages are falling and debt payments are the second highest in history, on what basis do you find “U.S. households overall have been managing their personal finances well”?

3. Which direction are bankruptcies and foreclosures headed?
 
In a slightly different slant on this story, MarketWatch is reporting the spin like this:
 
“Despite the complexity of financial products and wider availability of credit to families with low to moderate incomes, U.S. households appear to be in managing their debt well, said Fed chief Ben Bernanke on Tuesday. ‘U.S. households overall have been managing their personal finances well,’ Bernanke told a seminar on Capitol Hill. ‘On average, debt burdens appear to be at manageable levels and delinquency rates on consumer loans and home mortgages have been low,’ he said. Bernanke did not discuss monetary policy in his prepared remarks. Bernanke said the central bank will continue to make financial education a priority to help families of modest means build assets and improve their economic well-being.”

Debt vs. Wages

“On average, debt burdens appear to be at manageable levels.”
 
Let’s consider one of the problems with “averages.” On average, two cars racing up a mountain are both enjoying the view, even if one plunges over the side of a cliff somewhere near the top. Perhaps a more practical example is the fact that average wages are rising even though median wages are falling. More than 50% of the population is worse off than a few years ago. This is unprecedented in a recovery. Yet “on average,” things are humming quite nicely, especially if you count CEO stock options, salary hikes, and Wall Street bonuses. So why, “on average,” should anyone be concerned?

Writing for The Daily Reckoning, Bill Bonner had this to say:
 
“The 26 top executives at Toyota Motor Company earn an average of $320,000. Good money, but hardly obscene. Toyota is a growing, profitable concern…

“The heads of America’s 500 biggest companies received an aggregate 54% pay raise last year. As a group, their total compensation amounted to $5.1 billion, versus $3.3 billion in fiscal 2003. G. Richard Wagoner Jr., heading up Toyota’s rival, General Motors, received total compensation of $8.5 million. That’s what you get when capitalism enters its degenerate phase. The parasites make sure they get their money…even as the company sinks.”

Foreclosures

Chron.com is reporting, “Foreclosures Rising With Debt, Job Losses”:
 
“Nationally, foreclosures are up 38%, higher than in any quarter of last year, property tracker RealtyTrac said.

“The numbers are even grimmer in the Midwest. Michigan and Ohio, battered by automotive-related job losses, together recorded 45,000 mortgages entering some stage of foreclosure in the first quarter. Those are increases of 91% and 39%, respectively, compared with last year’s fourth quarter.

“There are many reasons for the growing number of defaults, and there are suggestions that the foreclosure trend may soon worsen.

“Layoffs because of corporate downsizings, health care issues, increasing debt levels, and rising interest rates all are factors. In addition, a growing number of homeowners is relying on adjustable-rate mortgages, catching some people by surprise when their monthly payment rises.”

Auto Loans

Without even opening the Mish Telepathic Question Line, a question managed to sneak through: “Mish, what about cars?” That’s a good question. Let’s take a look.

The Arizona Republic is reporting car buyers are stymied by negative equity:
 
“Zero-interest deals and long-term car loans are boosting sales, but they are producing one troubling side effect — a growing number of drivers owe more on their vehicle than it’s worth at trade-in time.

“Last month, nearly 29% of U.S. car buyers found themselves ‘upside-down’ on their loans, owing an average of $3,789 more than their trade-in value — for the highest level since September 2004.

“Loan officers and car dealers call it ‘negative equity,’ and there are plenty of negatives to it.

“First, car buyers often pay more interest as they roll old upside-down loans into new car purchases.

“Second, they will be saddled with higher payments that make it harder to save for their next car or keep up with their current loans.

“Third, those buyers are instantly turned upside-down in their new purchases, creating a vicious cycle of excessive debt…

“Longer car loans are the prime factor flipping car buyers upside down, experts say. Where the average car loan in 2003 lasted for 60 months, it’s crept up to 64 months today, says Jesse Toprak, executive director of the Edmunds.com, a Web site for car shoppers. Part of the reason is the introduction of the 72-month loan.

“‘Seventy-two months is sort of becoming the norm,’ Toprak said. ‘Unless you put a substantial amount of money down, you will have negative equity’…

“But not every upside-down buyer has a choice, said Dorothy Guzek, a budget counselor with Greenpath Debt Solutions in Troy [Mich.].

“She described cash-strapped clients who need cars to get to work but can’t afford much and end up financing undependable vehicles.”
 
“On average,” things are fine here too, I suppose. After all, a mere 29% of buyers are upside-down on their car loans.
 
Does Bernanke worry about this when it hits 51%, and no sooner?

Bankruptcy Filings

CNN/Money is reporting, “Bankruptcy Filings up Despite Reforms”:
 
“A new U.S. law to deter American consumers from seeking bankruptcy protection made filings plunge to a 20-year low in the first quarter of 2006, but a rapid rise in new cases since then raises questions about whether the law is working as expected.

“The 2005 bankruptcy reform law was pushed through Congress by banks and credit card companies that sought to prevent abuse by individuals trying to wipe their financial slates clean from runaway debt…

“But credit card companies and banks are keeping an eye on the recent increase in filings.

“The law took effect Oct. 17, 2005, prompting a surge of 619,322 personal bankruptcy filings for that month as debt-laden consumers rushed to court.

“New cases plunged to 13,758 in November, then rose to 21,636 in December, 27,235 in January, 35,352 in February, and 49,977 in March, according to the Administrative Office of the U.S. Courts.

“That compares to the monthly average of 130,183 new cases in 2004…

“‘We are starting to see more bankruptcies being filed. They’re taking longer, they’re more complicated,’ said Maureen Thompson, legislative director of the National Association of Consumer Bankruptcy Attorneys. ‘These numbers will continue to creep up as people face a number of economic factors.’

“Those factors include traditional ones, such as poor money management, loss of a job, medical expenses, and divorce. But some consumers are also falling behind on monthly mortgage payments as interest rates continue to rise.

“Other homeowners may be overextended with adjustable-rate mortgages, or ARMs, which could reset soon. At the end of 2005, almost a quarter of all outstanding home loans were ARMs.

“‘We’re going to start to feel those numbers this year and next,’ said Jeffry Taylor, economist at the National Association of Federal Credit Unions in Arlington, Virginia.

“More than $300 billion in ARMs are subject to interest rate resets this year, and that figure is expected to reach $1 trillion in 2007, according to DB Global Markets Research…

“Before the new law took effect, lenders such as department stores, mortgage companies, and credit card companies lost an estimated $60 billion annually due to bankruptcy filings.

“‘Bankers are monitoring the numbers very closely to ensure that the law accomplished what it was passed to accomplish,’ said Patricia Milon, senior vice president of America’s Community Bankers, a Washington trade group.

“‘Bankers feel what was passed was very balanced,’ she said. ‘There should be no backsliding.’

“The bankruptcy law also created various income tests, including a ‘means test’ to determine if an individual is eligible for Chapter 7. The test is triggered if the debtor’s monthly income is above the state median.

“Another provision requires financial counseling before a bankruptcy filing and again before debts are discharged.

“Debtors also face steeper court fees for bankruptcy filings. The fee for Chapter 7 rose to $299 from $274, while the Chapter 13 fee increased to $274 from $189.”
 
“Bankers feel what was passed was very balanced.” Of course they do. With the help of their paid lobbyists, they wrote the bill. It contained 100% of what the credit industry wanted and 0% of what they did not want. All in all, it was perfectly balanced.

Let’s report the Bankruptcy Reform Act of 2005 for exactly what it was: an attempt to make the poor and insolvent debt slaves forever.

The credit card industry wanted protection for their predatory lending practices, no interest rate caps, no fee caps, high interest rates, the ability to change terms at whim, a means test, and guaranteed payments. They got it all. How could the bill possibly have been more “balanced”?

Some people blame consumers for getting into trouble with debt. Is it really that simple? I think not. Here is the Mish vision of the credit card business (and most of the mortgage loan industry as well):

Day in and day out, those industries put a glass of vodka in front of an alcoholic while at the same time reminding the alcoholic how good the drink tastes. When the alcoholic goes on a binge, the credit industry wants to jack up the price of vodka and then blame the customer for the problem.

Now, from Bernanke’s point of view, none of this is a problem “on average,” at least since last October. Unfortunately, Bernanke fails to understand the effects of that mad rush where 600% of normal filings took place in a single month. That blast took away from future demand. It will not be too much longer before housing prices tank (for good) and those filings skyrocket once again. I suspect that Bernanke will have a vastly different view of those averages in the not-too-distant future.

Regards,
Mike Shedlock ~ “Mish”
June 15, 2006

A Look at Averages was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.