...it's not dark yet, but it's gettin' there...
If anyone is smart enough to capitalize on it, the big issue that may decide the next presidential election is not the war. It's the mortgage crisis. I say this because it's a pocketbook issue that will affect every voter regardless of whether they rent, own, or live with their parents. The combination of balooning payments and falling house values has a wide ranging effect on business as well as ordinary people. It could hurt all of us because the long awaited housing crash just might bring on another recession.
And guess what, we've known it was coming for at least five years but like with the dot coms, nobody wanted to say anything because too many people were making money. Everybody and their brother wanted to get in on the housing boom, and lenders were all too happy to throw cash at them. Realtors weren't going to say anything. They were like, "don't worry man, you're equity is going to skyrocket." And the lenders just said, "hey, when the adjustable hits, you can always refinance."
But as I watched this all unfold from the sidelines, I always predicted that it couldn't go on forever. Didn't the 1929 crash happen because of easy credit? And there's no way people should be spending 50% of their take home pay on a mortgage. I thought the rule of thumb was 25%, one third tops. How is your average Californian supposed to afford $450,000 for a first home? Just because some crooked lender will give you the loan with no money down, doesn't mean you should take it. But people do, because everybody's doing it.
Sacramento is a prime example. I read somewhere that this city was second only to Palm Beach, Florida in overblown housing prices. My boyfriend, God bless him, did everything wrong. When we first started going out, he was in the process of dumping a house that he had bought at the very top of the market, when properties were selling almost the day they got listed. He put it up for sale a year later, just after everything slowed down. There were about six houses with his exact same floor plan for sale within a radius of a couple of blocks. Luckily, after four months of waiting, and hardly any lookers, he sold to an investment buyer who ended up renting the house. Christopher bought at the crest and sold at the trough. Thus ended his foray into the "get rich through home ownership" scheme.
If my boyfriend hadn't sold when he did, the value of his house was in danger of falling below the amount of his mortgage. He ended up with a tiny profit, but lots of people aren't going to be so lucky. When the adjustable rate goes through the roof, and people aren't able to sell because of falling prices, look out. A lot of folks are going to get hurt.
(I also wondered what was going to happen to all those Gulf Coast homeowners, especially in New Orleans. I imagine there are going to be a lot of foreclosures down there, if there haven't already been. What if you got screwed by the insurance company, the bank still wants their money, and they don't care if you're living out of a trailer (or not) and you still haven't got your job at the liquor store back because that place went out of business too?)
Maybe I'm being too pessimistic, but I think the mortgage crisis is going to be a real problem. Hillary thinks so too, and savvy politician that she is, she's already made it a campaign issue. This is exactly the type of issue that Democrats win elections on because the conservative response is usually to let the free market sort itself out. People don't want to hear that. If things get really bad, Hillary will score points being the first one to call for a homeowner's bail-out. Predictably, she faults Bush for doing nothing while sub-prime lenders dug us into this hole. And you know what, I can't say she's wrong about that.
Ooooo, what a deal! You mean no matter who wins, I get to pay for the financial foolishness of others? Fucking communists.
Posted by: Casca on Mar. 16, 2007Over 90% of Sub-prime loans are residential. So the effect on business will only be on real estate related companies.
HOwever, the effect on these defaulted loans will haunt and affect the individuals holding the note for many years to come, precisely becuase they either got carried away with the housing boom and either bought a bigger place than they could afford or went to an unreputable lender without doing research and reading the fine print first.
Most of the individuals who apply for sub-prime loans have poor financial histories. But should that keep them from their american dream. NO! If they are disciplined and do their homework and go to one of thousands of reputable lenders that engages in fair lending practices, then they'll be okay. But, if they are not disciplined, or have not planned carefully for the future and for all possible events, then it will be difficult for them to meet their obligations.
Remember, these are people who go and apply for these loans voluntarily. Nobody is forcing them to apply for a loan. It's on them to do their due diligence and to look at trends. Flipping has always been a dangerous investment scheme, exactly for the experience your boyfriend went through.
Whenever a person invests they should ask themselves, if the bottom fell out tomorrow, could I and my credit still survive with minimal damage?
Years ago consumers fought stringent banking laws to make lending more liberal. This is the result of those liberal policies so that money could be available to support those individuals, perhaps not as affluent as your boyfriend, to purchase homes. Hundreds of thousands have done so without a problem. The true problem lies with individuals who disregard personal responsibility with credit and those who use shady creditors to support their ill-conceived dreams.
So you see Annika, this is not an easy issue to ttackle.
Posted by: michele on Mar. 16, 2007
The underreported aspect of this issue is how Alan Greenspan and the Federal Reserve governors contributed to the inversion of the yield curve started in 2004.
President Bush should not have reappointed Greenspan back in 2004. The Fed correctly lowered the fed funds rate started in early 2001 (and then aggressively in the four month period after 9/11). However, after his re-appointment in May 04, Greenspan led a campaign that saw the funds rate go up by 4% (!) in just two years -- especially when he knew the sensitivity of the housing market to rate changes, he was aware of the housing bubble, and he could see by the yield curve inversion the overall market had a vast difference in future inflation expectations than those driving his changes in monetary policy.
As a result of the mergering of short and long-term rates, companies with mortgage back securities and sub-prime lenders started taking hits. Of course, the reaction is to become even more aggressive (and risky). I agree with Michele that in many cases, consumers bear responsibility (one story on a lawsuit by a homeowner noted the fact the owners had 4 years (!) before the huge rate increases took effect and these people still blame the lender).
The sub-prime loans are only 20% of the total market and foreclosure rates are high, but just barely above 2002 levels. I believe this issue won't have momentum (especially since Bernanke I think gets the message) except to appeal to the populist bent of the Dems in their primaries. If anything, they need to be careful of being exposed pandering to corporate interests (I believe 85% of Chris Dodd's biggest donors are financial service/lending companies).
Remember, only Jim Bunning and Harry Reid (although his for the record objection focused on Greenspan's political support for Bush's tax cuts not on Greenspan's monetary policy) showed any dissent during Greenspan's confirmation vote in 2004). Hillary and Edwards voted yes. Of course, they and the other members of Congress contributed by passing budgets (and the President is at fault too) without making the tough offset calls or tax increases). The problem is the media doesn't do their homework on these issues in order to even know the tough questions to ask the candidates..
Posted by: Col Steve on Mar. 19, 2007Keep in mind that sub-prime loans represent somewhere around 15% of oustanding home equity loans. So even if 15% of those are in default, we're talking about 2.25% of home equity loans in the entire US. Odds are, that won't create the far-reaching economic ouchie that many are predicting.
I hope it does, though. And quick. Looks like I'm gonna have to buy a home in South Florida in the next few months.
Posted by: TaxLawMax on Mar. 19, 2007Col. Steve, the problem wasn't created by the rise in short-term interest rates. The problem was already there because of the artificially low rates that have existed since 2001. The Fed flooded the market with cheap money to forstall recession after the Nasdaq bubble popped, and in consequence the dollar deflated more than 30% versus other world currencies. Sure, recent interest rate hikes have exposed weaknesses in the liquidity-driven economy, but those weaknesses existed as a result of low rates, not rate hikes.
Lest we forget, you can still get a 30-year mortgage for under 6%, which is extremely low by historical standards.
I recommend bigpicture.typepad.com for a primer on the issues surrounding our current credit bubble.
Posted by: Christopher on Mar. 20, 2007Christopher -- I agree the issue is complex with more than just one factor contributing to the problem. I think the Fed was right post 9/11 to follow aggressive monetary accomodation. Note that 30 years mortgage rates in 2003 were also at 6% with short-term rates around 1.5% -- "Home interest rates have moved in a tight range near 6% the last nine weeks after posting record lows during the summer." (Nov, 2003).
One reason you can still get a 30yr mortgage at 6% three years later in spite of the fact short term rates have gone up 4% is the market as a whole does not have the same long term inflation expectations that apparently Greenspan had. His 2005 and 2006 Federal Reserve Board's semiannual Monetary Policy Reports to the Congress are full of waffling statements about core inflation, the impact of oil prices, and the relative power of business and labor on unit labor costs. Greenspan noted in June 05 - "The drop in long-term rates is especially surprising given the increase in the federal funds rate over the same period. Such a pattern is clearly without precedent in our recent experience."
I agree the Fed needed to wean the economy off "cheap money;" however, Greenspan should have taken a more measured approach especially given the "weaknesses" he knew existed and the signal the market was sending with the yield curve inversion.