Chuck Ponzi November 23rd, 2009
For many readers of bubble blogs, the holy grail of 2009 has been the focus on a “second dip”, or a second tsunami of foreclosures. Indeed, the dead cat bounce currently being felt and seen throughout Southern California at the present time has caused a significant amount of anxiety among bubble sitters and housing worry warts alike.
I have held firm throughout this time that 2009 is a head fake and dead cat bounce. I have staked my personal online reputation on this fact (to be honest, though, do I really have an online reputation?)
It seems, then that 2 major counter-arguments to mine have arisen. They are as follows:
1. Most of the Option Arms that were supposed to create the second wave have already been modified away or refinanced into better mortgages in the meantime, and so the Credit Suisse charts available in 2007 and 2008 are substantially changed. These no longer pose a significant threat.
2. Government intervention has resparked a housing bubble, which will never end. Through first-time homebuyer credits and ultra-low rates, the incentives to own have permanently changed. There will be no second leg down.
I’ll call your attention as a debunk to several pieces of information:
Exhibit A: Very few modifications have been made of Option Arms:
From Hussman Funds:
I’ve noted that we are facing a predictable second wave of defaults, based on a mountain of scheduled resets for Alt-A and Option-ARM mortgages, which began in recent weeks and will continue through 2010 and 2011. One of the counter-arguments against such concerns is the assertion that “the majority of these mortgages have already been modified.” Unfortunately, this assertion is not true. Certainly not for distressed mortgages, and not for pre-reset mortgages either (where there is absolutely no economic incentive to modify the mortgage before the reset date).
Moreover, the 2.7 million delinquent mortgages counted above were those that were already distressed early in the third quarter of this year. Many of these modifications are simply term extensions that reset the clock. A recent Fed study pointed out that only about 3% of delinquent mortgages have received modifications that would reduce their monthly payments in the first year. As noted a few weeks ago, “coupling state-by-state delinquency rates and foreclosure starts (as reported by the Mortgage Bankers Association) with other data, the Center for Responsible Lending [which correctly predicted, but slightly underestimated the size of the first wave of defaults] projects that for most states, foreclosure totals will more than triple over the coming 4 years, for a total of 8.1 million foreclosures.”
As for the small percentage of mortgages that receive modifications, the outlook is not very encouraging either. Several months ago, John Dugan, head of the U.S. Office of the Comptroller of the Currency, noted “over half of mortgage modifications seemed not to be working after six months.” Dugan reported that after three months, nearly 36 percent of borrowers who received restructured mortgages re-defaulted. The rate of re-default jumped to about 53 percent after six months and 58 percent after eight months.
Exhibit B; Distressing Gap:
Finance blog, Calculated Risk has much more information on the distressing Gap, but put succintly, there is a significant correlation between economic output and new housing. There is typically a correlation between resale and new housing being built. The distressing gap exists because while housing resales have been resparked by government intervention with the first time home buyer credit and ultra-low rates, this has not been a typical economic recovery which would show up in housing starts. Indeed, this appears more as a mirage of activity: helps realtors and a few FHA lenders, but leaves the economic output (and by that virtue, the attendant jobs creation) unchanged at bad.
The recent spike in existing home sales was due primarily to the first time homebuyer tax credit.
But what matters for the economy – and jobs – is new home sales, and new home sales are still very low because of huge overhang of existing home inventory and rental properties.
Second, normally a decline in inventory and the months-of-supply would be considered a positive for the existing home market, however much of the apparent recent improvement in months-of-supply is related to the artificial – and likely short lived – boost in activity.
As an aside, many have (I believe) misvalued the effect of the first time home buyer credit on houses. As a little assistance to those who only think this incentivizes people bad at math…
The $8K or $6,500 credit is actually worth more than that on a time-value of money basis. For example, $100 today is worth far more than $100 30 years from now. Not only because it can grow with interest, but because people discount future purchases with an internal value mechanism.
In my own personal estimation, I’d say that $8K today is worth about $15K on a house value, but I’d say that is pretty conservative. Consider, for example, someone who holds their house for 5 years. That means the buyer will make 60 payments. Divided by 8K, people believe they can afford about $133 more per month. That translates into about 31K additional purchasing power using a 5% rate.
In the adrenaline fueled mind of a California native where housing only goes up, that means it’s probably worth more since they only plan on holding the house 3 or 4 years, translating to more like 40K to 50K in additional value. That’s a pretty valuable incentive in my opinion.
As a final rant:
So many times I hear people talking about “the market coming back”. I think, “Seriously?”. This IS the market it never went anywhere, the prices just adjusted to what people were willing to pay. You see, the markets are ALWAYS priced at the margins. They were in the bubble years, they are now. It’s the same market, just with a different psychology. And, that’s the crux of “when it will come back.”
It’s possible that it will never come back. With the drag of offshoring, loss of US financial hegemony, fiscal problems in federal, state, and local governments, and potentially longer-term higher unemployment along with demographic shifts means that the 1980’s, 1990’s, and 2000’s until 2006 will likely NOT be repeated simply for mathematical reasons.
If ever there were a time to question whether the market will EVER come back (at least in our lifetimes), NOW WOULD BE IT!
I don’t blame speculators for trying. You can bet your money and everyone is entitled to do so, but just don’t go looking for another handout like we’re giving now if your trade goes the wrong way. Sadly, my concern is more for our moral fabric, since productive uses of capital are being put towards wagering on speculative activities, and less on maintaining our infrastructure. It is this type of short-term thinking that will leave us less able to compete in the future (as a region, state, and country)
But, please, anyone who tells you they know what is going to happen just does not understand enough to be sure (at least in 2009-2010). There are no free lunches here, and magical thinking does not work.
Sphere: Related Content
