8-22 No Credit For You!
August, 22 2009 | markmti |*This report was first published as part of the Mortgage Pages research series on 7.22.09
- ‘Unemployment’ much higher than reported – everyone lost their 2nd job at the same time
- To millions of modified mortgagees – NO CREDIT FOR YOU!
- Private, Non-Financial Borrowing Death Spiral
Our mission is to provide our clients a significant edge. This is done by turning the daily, market-moving real estate and mortgage news flow and events into old news by the time it makes headlines. – Mark M Hanson
At the end of this report is a story from Bloomberg that brought it home — no pun intended. With so many moving parts, sometimes you lose sight of the simplest and most obvious of overwhelming challenges that stand as road blocks to recovery.
Everyone is focused on jobs. But primary employment loss is not the only factor working against the macro. The loss of easy credit, which essentially had the same effect as ‘secondary employment’ in America during the bubble, is also a major factor. ‘Extra’ income from a second job can account for a larger percentage of disposable income and discretionary spending than a primary job. You hear about ‘banks not lending’ all of the time. But what that really means for the homeowner/consumer, economic growth, and npa direction does not get enough attention.
Despite what anybody may tell you, relative to 2003-2007 new consumer credit is virtually gone for the average homeowner/consumer. But the psychological wealth effect and bubble-years spending inertia stuck around much longer than most anticipated. This is because homeowners and consumers kept using what credit they had left and/or dipped into savings in order to supplement the loss of newly available credit in hopes of maintaining lifestyle until conditions improved.
But when conditions do not improve, default happens. When default happens savings begins and at a certain point during this process, some spending actually starts again. But unlike the power that instant credit, HELOC’s, and high-balance credit cards provided…increased savings equals some spending. It is much harder for most to spend hard-earned savings than credit on a pretty plastic card. That’s why casino’s like you to have fancy chips — it’s not really money. Millions are in various stages of this cycle.
From 2003-2007, extracting equity from real property each year (or more) was a second job for millions. It likely yielded a much higher take-home amount than after tax/expense/savings real income for most homeowners than their primary job. This led to significantly increased spending and overall economic activity.
A $75k a year earner/homeowner with average other debt may have disposable income of $15k to $17.5k per year before savings and consumer staples. Bottom line income is few thousand per year for discretionary spending. Without credit they are broke.
During the bubble, it was easy for this person to attain $10k to $20k per year in credit with good credit scores and a job. The few thousand dollars per year in discretionary income would be enough to pay the minimum amount due on the outstanding balances. As long as the credit kept coming, it was very important for this person to make the payments on time and keep their scores up. But as soon as new credit dried up and existing credit lines were slashed, savings became paramount because without credit this person is effectively broke. Paying back creditors is far down the list of priorities.
Now, credit as supplemental income is gone indefinitely — everybody lost their second jobs at the same time. New consumer credit is being issued at a drips pace relative to the bubble years. Unsecured credit cards and lines have been slashed, much of the time at or below the present outstanding balance due — the latter having the effect of dramatically lowering credit scores due to excessive utilization thresholds. This makes it even more difficult to borrow. Additionally, mortgage mods will destroy the credit profile of millions.
Mortgage Mods Making it Worse
I always say that mortgage mods make homeowners “underwater, over-levered renters for life, unable to sell, re-buy, refi, shop or save”. In part this is because mortgage mods qualify borrowers at the maximum debt-to-income ratio allowed to ensure that they are paying out every disposable red cent they earn each month to debt. It is also in part because once they accept a loan mod they are dead to new creditors because their credit rating is severely impacted. Remember, we are still in a credit crisis — perhaps the new normal — in which only great borrowers can get credit and those that really need it can’t.
The amazing chart below is represents data from Freddie Mac on the average Loan-to-Value and credit score of borrowers over the past 18 months. In Nov 2007, the average LTV was 75% and average score was 723. In May the average LTV was 65% and score was 765. In June the spread narrowed due to the LTV jumping 2.2%. However, this is likely due to the new Obama 105% loan program initiative, therefore, its artificial. This chart exemplifies the mortgage credit crisis and how difficult it will be to refi America into prosperity.
Below is an interesting chart dug up by Karl Denninger that speaks louder that anything I can say about it credit, savings and future consumer spending.
Finally, onto the Bloomberg story. What’s missing from the story below is the fact that most borrowers with modified loans can’t get new mortgage financing. Obviously, most are underwater and/or already delinquent at the time the mod is granted making them ineligible for most new vintage mortgage financing. But a growing number — especially in more exotic loans types like Pay Option ARMs — are coming for help before they get into trouble.
By accepting a loan mod, they are admitting they need help, which means they are a poor credit risk to the lender even if their score is 740. Many lenders now have internal guidelines prohibiting the origination of previously modified mortgages. Why would a lender take a risk funding a new loan for a modified borrower when 60% to 70% of all mods re-default within a year? But even those mods that stick turn the homeowners into economic zombies without income growth.
The big question is…in the new normal — even if banks ease up some — what takes the place of easy and near limitless credit for the millions of homeowners and consumers that now have delinquent credit, modified mortgages, or crammed down available credit limits that has caused their credit scores to plunge, prohibiting even great borrowers from attaining credit?
This is something that sentiment can’t fix. Only years can.
Best Regards,
Mark Hanson
Mark@MHanson.com
Cheaper Mortgages Spark Lower FICO Scores for Payers (Update1)
By Alexis Leondis
July 17 (Bloomberg) — Victor Stern thought his money troubles were over when he got approval to modify his home loan. Then his credit score dropped 121 points. (click link above to read rest of story)
