March, 8 2011 | Mark
The Multi-Agency Mortgage Servicer Settlement, Principal Balance Reductions, Effective Negative Equity, Foreclosures
1) The $20 Billion Multi-Agency Mortgage Servicer Settlement – A Pee-Hole in a Snow Bank. Even Less if Used for Principal Reductions
The multi-agency mortgage servicing settlement draft, or term sheet, was leaked to the press this week. There was a lot of commotion over it — mostly that the banks are getting only a slap on the hand yet again – including over the missing monetary penalty and its intended use.
The monetary piece of the settlement has been rumored to be between $20 and $25 billion. Its primary use has been stated as being for counseling, legal-aid, hotlines, web portals, education, outreach, post-Foreclosure relo assistance etc. However, it is also stated that ‘a substantial amount’ of the monetary settlement was to be used to ‘support an enhanced program’ for loan modification including principal reductions.
For the purposes of this analysis let’s pretend the entire $20 billion goes to distressed borrowers for principal reductions. Of note, I am still convicted to the idea that a wide scale principal balance mod program for distressed borrower’s will never happen.
The BAC/Countrywide $8.6 billion settlement of late 2008 — referred to many times during the current multi-agency mortgage servicing investigations — included ~400k borrowers, or $21,500 per loan. Therefore, the $20bb monetary fine being floated to potentially be used for principal reductions for four to seven million borrowers in the delinquency, default or Foreclosure process – $2.6k to $5k per borrower – is a proverbial ‘pee hole in a snow bank’. It’s only a few percent of what is really needed for an effective principal program, if there is such a thing. I would rather see the money used to buy and rehab condo complexes around the nation and give keys to condos, instead of general assistance checks, to the less fortunate to cover rent.
An apples-to-apples Robo-Settlement based on the BAC settlement would be $86 to $161 BILLION depending on how many were allowed to benefit. And still, reducing principal on every underwater borrower in the country by $21,500 would not do much. Add an Order of Magnitude to that and we are talking – but not even the Fed has a couple of trillion dollars lying around.
A $20bb settlement makes no difference to anything in mortgage and housing that is occurring, or set to occur. As an example of how small of a number $20bb is, new Notice-of-Defaults — the first stage of Foreclosure — in the state of CA totaled $9bb in January alone.
If this settlement draft – which not incidentally does include a laundry list of servicer guidelines, codes of conduct, and consumer protections (albeit much of it is ambiguous and should have already been in place based on existing law) – is accepted then I counter intuitively expect Foreclosure, short sale, and deed-in-lieu liquidations to increase substantially…far beyond what is considered ‘normalized’.
This is because as the uncertainty that has been hanging over the servicer’s heads since Robo first broke in September 2010, which has resulted in a decrease of total legal default filings and Foreclosure completions by over 40% as of the end of February, is removed and servicer’s check their ‘conduct boxes’ off on each loan unit, there will be no uncertainty over liquidating when the hand book says it’s okay to do so. Further, there are hard and fast rules on modification timelines within the term sheet. In short, quicker modification decisioning allows loans to proceed to either the permanent modification or liquidation stage much quicker than is happening at present when loan mod can be in process for months on end with no final resolution.
2) Principal Balance Reduction Benefits are Overstated
As a career mortgage banker until 2006 — when it became blatantly obvious mortgage and housing was going to fall off a proverbial cliff and I left the industry to pursue other ventures – I am confident that the primary default driver has more to do with the back-end (total) debt-to-income ratios on the average legacy loan and loan modification being in the stratosphere than negative equity. In fact, on the average HAMP loan modification the median back-end DTI is ~65% of gross income. A household paying 65% of their GROSS monthly income to debt service each month — that can’t save, spend or vacation — is a massive credit risk, plain and simple.
Obviously, if a borrower has 20% equity and 65% debt ratios they can always sell making them less of a risk. But when you combine a high DTI and low to no home equity, it’s toxic. Even legacy Subprime loans only had a maximum total Debt-to-Income ratio allowance of ~55% when they were originated during the bubble years. To that end, legacy Subprime loans had an average LTV of ~93% and credit score of ~600. To that end, loan mods — with a ~65 DTI, 150% LTV, and 550 score on average — are much worse in structure than Subprime loans ever were and should perform accordingly. Even if loan mods had an average LTV of 100% due to principal reductions they still would be worse in structure than legacy Subprime originations.
Loan mods, restructurings, workouts and payment plans are simply new-vintage, higher leverage, worse-than-Subprime loans. And by design millions were originated from Q209 through Q310, when the low hanging fruit had been plucked and new mod volume began to fall sharply. All of these new-vintage toxic loans — many now called something else by banks and servicers including ‘performing and re-performing’ — are a real risk to housing and finance that few consider as such.
Bottom line: A borrower at a 65% total debt-to-gross income ratio is a debt slave whether he is 50% underwater OR has 5% equity in the house. There is no difference between the two. Neither can sell their house — pay their mortgage, pay the Realtor 6%, and put a 10% to 20% down payment on a new house — and re-buy. Both are stuck.
Therefore, unless total debt-to-income ratios are taken considerably lower through long-term household de-leveraging – or complete household balance sheet modifications that target the back-end DTI (the only known way now is through Chapter-13) — no modifications will ever stick in mass.
3) What is to be gained through reducing principal balances on mortgages?
Nobody is asking the primary question in my mind with respect to principal reduction mortgage mods…What is to be gained?
The central planners making the rules will say ‘fewer people will default and go into Foreclosure’. We already discussed that negative equity alone is not a determining factor. Further, if a principal reduction plan was rolled out to the mainstream, then I suspect many would strategically default to take advantage of it. So, principal reduction mods to prevent loan defaults and Foreclosures are hogwash.
However, principal and ‘other debt’ forgiveness to ’unburden the organic homeowner allowing them to participate in the housing market again’ would be highly beneficial. But, of course, this isn’t a quick fix, as homeowners who received mortgage principal and other debt forgiveness could not turn right around and buy houses for various reasons. Further, there just isn’t enough capital at all of the top banks in the nation to bring balances down enough to make it effective. Lastly, demographics are not in the favor of the repeat buyer — especially at the mid-to-higher end of the market — as baby boomers that were such a vital part of the bubble from 2001 through 2007 are not moving up anytime soon. In fact, they are looking to downsize. I suspect that the next time repeat buyers have an outsized benefit on the housing market is when today’s first time buyers can move-up.
Remember, housing has a demand AND supply problem, which most don’t understand. In a normal housing market, the repeat buyer drives volume, followed far behind by first timers and then investors. In this market, the repeat buyer is by and large absent relative to historic averages leaving all the heavy lifting up to first timers and investors who want low priced properties, preferably Foreclosures, REO and short sales. Thus, anything that disrupts the flow of distressed real estate prevents a housing bottom and subsequent recovery.
There is just no way to easily or quickly unleash the organic repeat buyer or unburden them from their extraordinary leverage positions. Actually, the latter could be achieved by offering foreigners immediate US citizenship for the capital investment into residential real estate of at least $500k, but I suspect things would have to get really bad before an idea such as this was floated.
4) Real (Effective) Negative Equity is a much larger problem, as it pertains to housing, than mainstream reports suggest
CoreLogic came out today with their latest monthly negative equity figure of 11.1mm borrower’s with mortgages, or 23.1%. But this number doesn’t mean much to me.
What most don’t consider is real, or effective negative equity, as it pertains to repeat buying I touched upon in the item #2. They generally only focus on the default and Foreclosure probability with being ‘underwater’. Effective negative equity begins at the point at which the homeowner can’t sell the house and rebuy another, which requires paying a Realtor 6% on the sale and putting 10% to 20% down depending on the type of loan needed.
For example, on a Jumbo purchase in CA effective negative equity begins at 75% CLTV (6% Realtor fee and 20% down payment), which is the reason the Jumbo housing market continues to languish and will get worse. In fact, when you lower the CA Jumbo negative equity threshold to 75% CLTV, then 64% of all mortgaged homeowners are effectively underwater. This is also why I believe that Jumbo loans, a clear focus of banks and servicers with respect to modifications, payment plans and workouts for the past year and a half, have not even begun the pain stage that will ultimately come.
In lower house price states such as AZ and NV where it takes 6% to pay a Realtor and 10% down to move-up, down, or across, when you lower the negative equity threshold to 85%, even a greater percentage are effectively ’underwater’.
When national house prices fall another 10% to 20%, entire states will be consumed by effective negative equity putting even more pressure on real estate supply and demand fundamentals.
Bottom Line: Whether the borrower is at a 95% LTV or a 140% LTV, they are in an effective negative equity position. Then it all comes down to debt-to-income ratios. If I was a whole loan long-term investor, I would much rather own a 140% LTV loan on a borrower with a 40% DTI than a 95% LTV loan on a borrower with a 65% DTI. To the 40% DTI borrower, the LTV is an inconvenience. But, the 65% DTI legacy or modified borrower — even at 95% LTV – is trapped and not saving, shopping or vacationing, with few options available. After months or years of being in debtor’s prison, walking away and stripping down the house in order to sell the parts for security deposit and first months rent, moves way up the most likely list. Further, with respect to sales demand, the US real estate market has lost its most significant segment of buyers – repeat buyers — due to effective negative equity and tighter lending guidelines.
5) Where do we stand now?
In final, I am always asked about my predictions for total Foreclosures stemming from the bubble years. And I have said the same thing for years.
In short, there have been 3.5 million foreclosures and short sales to date stemming from legacy loans. There are presently ~7.5 million borrowers delinquent, defaulted, or in Foreclosure at present — grows by 100k to 125k per month — of which 75% to 80% will ultimately be liquidated. If another 7.5 million defaults — and modification redefaults — occur over the next three to five years then a total of 12 million to 15 million Foreclosure, short sale, and deed-in-lieu liquidations will occur, meaning we are now ~25% complete in cleansing the infamous 2003-2007 Bubble-Year’s toxic lending cesspool.
Best Regards,
Mark Hanson
www.MHanson.com
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May, 27 2010 | Mark
This report was taken from a monthly macro update we produce for clients on the distress loan pipeline and shadow inventory, updated to reflect recent data. I hope you find it interesting. Mark Hanson
- Monthly Foreclosures Need to Double from April’s Record Pace to Clear the Distress Pipe in Four Years. If not, it will take 8-years.
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 Hanson
Bottom Line: If monthly Foreclosures double (hypothetically) to 180k from April’s record 92.5k and stay at that level — based upon the 1) monthly average Notice-of-Default (NOD) 2) HAMP and private mortgage mod volume 3) and conservative cures and redefault rates — it will take 42 months to clear the portion of the 8mm loans presently in the distressed pipeline that will ultimately be liquidated. If Foreclosures remain at April’s record high of 92.5k, it will take 101 months.
With 900k record foreclosures in 2009 (but only 2.3mm since Jan 2007), 2.16mm (180k*12) needed every year for the next four years to purge the distress inventory plaguing and overhanging the market, and potentially fewer existing sales in 2010 than the 5.15 million in stimulus-driven 2009, it is easy to understand the challenge facing the housing market ex-stimulus.
I am a firm believer that the only way the housing market stands a chance of maintaining momentum post-tax credit is for Foreclosures to surge because they are what are in demand. In fact, over the past few months investor demand has waned due to the lack of Foreclosures and competition from swarms of first-timers waiving Obama coupons who they refuse to bid against. First timers, who are notorious for turning it off and on overnight, now make up some 50% of all sales according to the most recent Existing Home Sales report. That is a shaky foundation.
But surging Foreclosures — plus surging short sales in recent months — will significantly increase the distressed-to-organic sales ratio negatively impacting reported median and average house prices., which have benefited from a falling ratio over the past several months with distress sales as a percentage of total sales dropping every month in 2010.
But even at April’s 92.5k record Foreclosure pace — at a time when stimulus is ending, with sales volume set to fall and servicer’s assigning more Foreclosure resales to real estate brokers in April than in all of Q1 combined — prices stand to fall under considerable mix-shift pressure in the near-to-mid term.
At April’s Record Foreclosure Pace the Distressed Bubble Keeps Blowing
Massive-scale home retention (mortgage mod) programs have truly helped only a small slice but primarily served to slow up the pace at which foreclosures have occurred over the past year. This has created a giant bubble of distressed homeowners in the pipeline that over time will be liquidated. But in order to get through it the bubble has to quit expanding. Herein lies the challenge.
Based upon the past year’s average monthly Notices-of-Default, house retention and redefault figures taken from the MBA and OTS quarterly reports, and the Making Home Affordable monthly HAMP report, the number of loans being permanently modified each month is only 30% greater than receive an NOD each month. But after a conservative 50% redefault rate is applied to the retention actions and a 90% liquidation rate to the NOD’s, the number of NOD’s headed for liquidation outpaces retentions by 38%.
This means that the sum of all loan mod programs on the market today is not letting any air out of the massive distress loan (shadow inventory) bubble.
Findings
For the purposes of this report I assume that new permanent loan mods and new NODs stay flat going forward, despite over the past few months mods have been sharply declining and NODs rising.
In addition, I do not give the surge in short sales or the new Home Affordable Foreclosure Alternatives (HAFA) program any weighting because both are so new the results are unknowable. In addition, short sales are the ultimate in shadow inventory because they do not necessarily have to originate from the distress mortgage pipeline, therefore, do not subtract from it. Every homeowner with a first and/or second mortgage balance of 95% LTV (due to 6% Realtor fee) is a potential short-sale candidate. As short sales become the first-line liquidation method across all servicers, they will increase in volume from both current and non-current borrowers, perhaps keeping the shadow inventory liquidation time-line estimate in this report intact.
However, I am a big HAFA proponent and think it will be an overwhelming success. If I am correct, then the years of shadow inventory referred to in this report will be cleared somewhat quicker, but absolutely at the expense of the distress-to-organic sales ratio and reported median and average house prices. In fact, if prices get weak enough this actually could lead to increased delinquencies, defaults, and foreclosures none of which I account for either.
1) There are 8 million in the delinquent, default and foreclosure pipe per the most recent MBA report (14.01% of 57 million mortgages). Of these, 80%, or 6.4 million, should end up in liquidation.
2) On average over the past year 118k borrowers monthly have received an NOD. Ultimately, at least 90% of all NODs will end up with the borrower losing the house. (I use NODs in this report vs 30 or 60 day lates because once an NOD is filed few will cure naturally and a mod, Foreclosure or short sale is the most likely outcome).
3) Each month there are roughly 153.5k borrowers put into a home retention plan per the most recent OTS and Making Home Affordable reports. They consist of 53.5k HAMP Perm Mods, 46k Non-GSE Mods, and 54k Payment Plans, the latter of which are not technically a mod but I counted them anyway to be conservative. And remember two key points a) not every Mod or Payment plan has to involve a borrower in official default so the potential shadow universe is that much larger b) at least half of all mods will ultimately fail due to the average mod allowing too much DTI leverage, which I have covered on numerous occasions.
4) New monthly trial modifications are on a significant down slope — down about 50% from mid-year 2009 peak levels. For HAMP, April brought the fewest number of ‘mods offered’ and ‘trial mods started’ since the program rolled out, as some servicers began gearing up early for HAMP 2.0 beginning on June 1st for which borrowers have to qualify up-front vs. on stated income under which HAMP 1.0 has been operating since July 2009. Trial mods feed future perm mods. Without stated income mods, half qualify – what a surprise.
There is no evidence that mod starts will meaningfully increase unless the programs are made much easier, because servicers are running out of eligible victims, as evidenced by the ever-increasing perm mod back-end debt-to-income ratios allowed (64.3% median for HAMP in April), which I have also covered on numerous occasions. This increasing DTI will also lead to increased redefaults regardless of equity (or negative-equity) position.
Lastly, it is my opinion that the HAMP 2.0, which ushers in pseudo principal balance reductions earned over a three-year period down to 115% LTV, will not change the outcome much. Most analysis agrees that this will be a panacea. But based upon my years front-line mortgage experience and research, with the median debt-to-income ratio at 64.3%, the borrower at 115% or 150% are in the same boat…both are underwater, over-levered renters who can’t sell, re-buy, refi, spend, save, or vacation.
More than likely HAMP 2.0 will have the effect of forcing borderline borrowers, who would have otherwise found a way to make their payment, into default in order to take advantage of the program. If this is the case, these strategic defaulters — who will have a better redefault rate — in theory could raise the performance level of the program.
5) If the 8 million distress pool is filing at an average pace of 118k per month, of which 106.2k will ultimately be liquidated, and these are being mitigated through perm mods with an average pace 153.5k per month, or 76.8k per month after re-defaults, then the pool of 8mm distressed homeowners is a growing by 29.4k NOD’s per month. The 29.4k monthly increase is only reduced through Foreclosures, HAFA solutions, or traditional short sales or deeds-in-lieu.
Summary
6) When factoring in April’s 92.5k record Foreclosures (not including short sales), the distressed pool shrank by only 63.1k units (92.5k Foreclosures less 29.4k remaining NOD). At this pace, it will take 101 months to clear the pool of 6.4 million loans headed for liquidation. At a pace of 180k Foreclosures per month, twice April’s record high, it will take 42 months to clear the existing distressed inventory.
On the bright side, based upon the default and Foreclosure pipe action, which I track in real-time daily in aggregate and on an originator and servicer-specific basis, it seems that over the past few months the banks have regained a mind of their own. Unlike action I tracked as early as January 10 when all the big servicer’s NOD through Foreclosure charts looked the same, most have diverged.
In fact, two of the nation’s top four servicers, which I have highlighted in many client reports over the past few months, have opened the flood gates beginning in March. And the GSE’s, who led the Foreclosure charge higher beginning in Feb, are in property liquidation mode, which could force all the big GSE servicers to quickly follow suit on their own portfolios — none expected the GSE’s to blink first and do not want to get left in the liquidation dust.
Perhaps this is the first sign in almost two years of an efficient default and Foreclosure process poking its head out. Time will tell.
Data by M Hanson Advisors, OTS, RealtyTrac, MBA
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March, 19 2010 | Mark
This report contains material from my most recent monthly CA and National House Sales client reports. I hope you find them especially interesting. Mark Hanson
- Feb CA House Sales – SECOND Straight LOWER YoY Comp
- New Loan Defaults Continue to Outpace Sales
- Beginning in March, YoY Comps Get Really Thought to Beat
- National Existing Home Sales Preview
- The ‘Lack of Inventory’ Myth, ‘Effective’ Negative Equity, Price Tranche Bifurcation, Significantly Increased Distress Supply Coming to Market
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 Hanson
CA housing is double-dipping right now. After surprisingly strong September through December sales due to the original Nov end date of the stimulus coupled with a sharp drop in mortgage rates in Sept, January and February CA sales have dropped sharply, both coming in below year-ago levels.
February’s 28,111 sales was slightly higher than Jan’s 27,585 but still made for the SECOND straight YoY lower sales comparable. And last Jan & Feb — coming off of a rotten 2008 — the global financial markets were imploding, QE was new, prices were still falling and sentiment was terrible. This year with sentiment measurably better across everything, lower house sales is remarkable.
Yes, sales usually fall in Jan & Feb, but with rates and tax stimulus at historic levels and most thinking both will end soon, seasonality should be somewhat muted like from Sept to Dec.
Bottom Line – Despite rates being at record lows and stimulus ending soon, sales are not picking up like they did last year three months before the Nov end of the original stimulus. Even if they do going into April, I think it will remain obvious that the stimulus driven market hand-off to a normal market has not occurred.
Organic sales — me selling a house to you and the true gauge of the health of the housing market — have stabilized at very low levels due to epidemic effective negative equity while distress-sales — what’s most in demand — languish due to the artificial lack of supply. In addition, median prices are again trending lower, as organic sales remain depressed and over the past couple of months distress sales have picked up slightly as a percentage of total sales.
In Feb, new Notices-of-Default outpaced sales by 10%, meaning the supply pool is filling quicker than it’s draining, and the mid-to-high end market continues to fall. Even if half do not make it to liquidation, which is a long shot, net inventory that left the supply pool was less than half of what sales suggest. Lastly, comps were easy in Jan and Feb and the tough comps begin in March through year-end — the first two months of 2010 were only a taster.
We are running out of sellers and buyers quickly, as HAMP has kept distress inventory at extremely low levels relative to last year and epidemic effective negative equity — not enough equity to sell (pay a Realtor and put a down payment on a new house) and re-buy — has trapped 10s of millions in their houses across the nation.
Additionally, flip-resales that have provided a noticeable boost in sales counts due to double-counting will diminish in 2010 due to the heavy handed foreclosure prevention in 2009, providing a further drag that few are looking for.
What now? With foreclosures artificially depressed for the past year due to HAMP and other aggressive initiatives, houses that are most in demand are becoming scarce.
The only way for the 2010 sales pace to keep up with the 2009 stimulus and distress driven market is for foreclosures and short sales to flood the market. This is what the two primary buyer groups — investors and first-timers — want. If foreclosures do not begin to crank up right now — or for some reason HAFA is not rolled out as it should be – house sales will disappoint for most of 2010 just like you are seeing now but worse as comps get tougher.
In fact, sales could outright collapse without abundant distressed inventory as investors and first timers do not make up a strong foundation and can literally turn it off overnight.
Yes, if distress inventory floods the market prices will be negatively effected but not like during 2007-2008 because sales will pick up sharply. And prices should not be the primary concern now anyway because they are once again under pressure even though they have been significantly restricting distressed supply.
Over the next year — with mortgage rate and tax stimulus likely waning — the health of housing will depend upon how they manage sentiment and headline risk. The most obvious headline risk, which I go over in detail in the charts below, is a string of lower monthly YoY 2010 sales comps, which infers a “double-dip”.
Turn on the Foreclosure Machine & HAFA
This can be avoided turning up the foreclosure machine and allowing servicers to run with HAFA unimpeded, but it has to start right now.
By the way, I am a big HAFA fan, am working closely with a couple of the large servicers and several outsourced loss mitigation specialty firms, and am confident that it — along with Obama’s new ’60-day late/HAMP for all loans proposal’ and June 1st HAMP rule change & portal debut — will define and streamline the foreclosure process from the mess it is today.
A defined and streamlined foreclosure process where everybody is on the same page, borrowers are being sought out many times in person at the 60-day late stage, and HAFA is in place to change the outcome of half of the foreclosures to short sales or DIL’s will result in a constant supply of the very distress supply that the primary buyer groups – investors and first timers — are demanding for at least the next few years.
1) CA Total Home Sales Down in Jan & Feb — TWO YoY lower comps in a row
The chart below is what a “double-dip” looks like – there is no arguing that. This year has not started off well with two months in a row of lower YoY comps (red & blue). And in March the real YoY comp sales trouble begins as that is when the stimulus-driven market began to take off in 2009.
2) CA Sales (Total vs Distressed vs Organic vs Flip-Adjusted) and Loan Defaults – Loan Defaults Lead Pack
A) Total CA home sales (blue) plunged in Jan & Feb putting them below year-ago levels when the global markets were imploding, QE was new, prices were still tumbling, and sentiment was terrible.
B) Organic sales (green) holding steady YoY at low levels emphasizing the epidemic effective negative equity that prevents the majority from selling and re-buying
C) Distress resales (yellow) are languishing due to continued meddling. The lack of distress supply, which is most in demand, is the primary threat to house sales in 2010 and beyond.
D) Flip-Adjusted Sales: When adjusting for flip-resales (light-blue), which make for double-counting in the monthly house sales results, CA house sales are bouncing off lows not seen in decades. It is important to note that flip-resales, which provided much of the 2009 boost in sales counts due to double-counting, will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something nobody is looking for.
E) NODs: Despite being artificially lower, new loan defaults (red) are leading the pack meaning the supply pool is filling quicker than it’s draining.
3) Foreclosure-Resales Languishing – an unintended consequence of foreclosure prevention initiatives
4) Organic Sales picking up slightly, but it’s not the hand-off most expected if Foreclosures were artificially suppressed. This is due to Epidemic Effective Negative Equity that prevents 10s of millions from selling and re-buying (paying off the loan, paying the Realtor, moving expenses, and putting a down payment on the new house)
5) CA New Notice-of-Defaults Lead Sales once again in February
Even if only 33% of the 31k Feb NODs make it to foreclosure and become housing supply, which is a very aggressive estimate of foreclosure prevention, then Feb’s 28k CA sales rally did not remove 28k units from inventory. This is because another 20k units will end up as inventory 5-10 months from Feb based upon the NODs. The market can’t clear when new distressed supply is hitting faster than the distressed supply is leaving – remember less than half of CA sales in Feb were from the distressed stock.
6) As Foreclosures as a Percentage of total sales began to drop sharply at the beginning of 2009, median house prices got a boost due to the mix shift. Prices also dipped again in Jan & Feb as foreclosure resales ticked higher (blue) due to the total lack of organic demand.
If distressed properties are about to come to market fast again the 2009 peak median prices are the best we will see for a long time. I am not expecting the same cliff-dive as we saw from 2007-2008 but can easily see 5-10% per year for a number of years coming off prices as distressed sales rise as a percentage of total sales. At the mid-to-high end the downturn will be more severe, as the upper price bands have lagged on the way down, but are picking up steam.
7) Flip-Adjusted CA Sales are at the lowest point on record
When adjusting for flip-resales, which are hot and make for double-counting in the monthly house sales results, CA house sales are bouncing off lows not seen in decades. It is important to note that flip-resales, which provided much of the 2009 boost in sales counts due to double-counting, will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something nobody is looking for.
2010 YoY CA Sales (red) are above 2008 when the wheels were coming off all global markets, rates were high, prices were still falling sharply and sentiment was terrible, but remain lower than any year in recent history.
National Existing Home Sales Preview
Based upon CA sales and other national sampling we perform, National Existing Home Sales released this Tuesday, should be down slightly MoM and flattish YoY on a Not-Seasonally Adjusted Basis. My estimate is for 282k sales vs 288,250 in Jan and 280k in Feb 2009.
Seeing national house sales flat when in Q1 2009 there was no tax stimulus, prices were still falling and the global financial markets were imploding is remarkable. This underscores how fundamentally weak this housing market really is…unprecedented stimulus and the market can only keep pace with the worst time in history for the financial markets.
Seasonally adjusted, it is too close to call especially with the foul weather in Feb that any sales miss will be blamed on. But consensus has dropped to 5mm units, which is below January’s levels even though Feb has a history of being up slightly, so it should be a close call. If I were forced to bet the result, I would pick the under.
Despite the voodoo seasonal adjustments, the same trend in national sales is obvious — the lack of distressed inventory is beginning to take its toll on sales and despite historical stimulus, the stimulus-driven market has not handed the baton to a more normalized market. Investors and first-timers continue to dominate due epidemic effective negative equity among organic sellers and buyers and these two groups can literally turn off the demand overnight.
Bottom line – the national housing market ‘recovery’ sits in a precarious position and ironically enough, the deciding factor will be how quickly foreclosures and HAFA liquidations can hit the market and be absorbed because that is all the buyers want.
Lastly, flip-sales double counting within the Existing Home Sales reports provided a sizeable boost to house sales counts in 2009 as shown in the chart below. When backing out flip sales double-counting the resulting ‘Flip-Adjusted’ total sales (red) in 2009 were weaker than 2008 and they continue to languish. Since July 2009, both the headline and Flip-Adjusted MoM trend in existing home sales has been lower. It is important to note that Flip-resales will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something few are looking for.
The ‘Lack of Inventory’ Myth, ‘Effective’ Negative Equity, Value Tranche Bifurcation, Significantly Increased Distress Supply
Yes, “listed” inventory is way down. Pundits use this metric as leading evidence that the housing market has nowhere to go but higher. Obviously, they will not mention the millions of houses barreling down the foreclosure pipe — and the approx 125k that enter the pipe every month — of which the vast majority will end up as inventory through foreclosure, deeds-in-lieu or short sales
But aside from the shadow inventory, the lack of organic inventory (natural sellers) is not a positive. Homeowners are trapped. In strong real estate markets homeowners selling and moving drive the market but in this market, epidemic effective negative equity prevents most from selling and re-buying.
**Remember, effective negative equity does not begin at the point in which somebody owes more on their house than what it’s worth. It begins at the point at which they can’t pay the Realtor and put a down payment on the new prop.
In the Jumbo market this could be 75% LTV (sales proceeds less 6% Realtor fee and 20% down payment). When calculating neg-equity like this, the figures are much greater than the popular reports suggest.
Also, this speaks to how strong foreclosure prevention has been, keeping in demand foreclosures off the market. For the latter reason, this is why creating more distress supply via significantly increased foreclosures and the new HAFA program (short sales and DILs) is beneficial to the housing market and will happen. At this point, holding back distress inventory is detrimental to the housing market.
Along the lines of lack of “listed” inventory in the state of CA is the bifurcation within the value tranches…those houses priced right vs. those priced according to what the owner owes. In any given city, half of the listings will be priced in the stratosphere relative to other current listing comps. Because everybody wants a good deal on a distress sale, the real marketable inventory is much less than the “listed” inventory would suggest. Again, this suggests that the market is ready for significantly increased foreclosures and HAFA liquidations to come post-haste.
Best Regards,
Mark Hanson
Mark@MHanson.com
www.MHanson.com
**sales data for this report provided by M Hanson, CAR, DataQuick
This document is for your private information only. In publishing research, Mark Hanson and M Hanson Advisors are not soliciting any action based upon it. Mark Hanson and M Hanson Advisors publications contain material based upon publicly available information, obtained from sources that we consider reliable. However, Mark Hanson and M Hanson Advisors does not represent that it is accurate and it should not be relied on as such. Opinions expressed are current opinions as of the date appearing on Mark Hanson and M Hanson Advisors publications only. Mark Hanson and M Hanson Advisors are not liable for any loss or damage resulting from the use of its product. Mark Hanson and M Hanson Advisors are Limited Liability Corp registered in CA.
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January, 15 2010 | Mark
A(nother) Wide-Scale Mortgage Principal Balance Reduction Initiative Will Not Happen
Volumes of research have appeared over the past six months about loan modifications, why they do not work, and what makes for the optimal solution. They all agree that permanently waiving principal is the key to a successful mod. The chances of an effective wide-scale principal balance initiative are slim to none.
And I am not talking about some sort of an earn out program whereby if borrowers make three to five years of payments on time, they get a principal balance reduction. This sort of thing is not a true principal balance reduction program like the long-forgotten FHA Hope-for-Homeowners (H4H) that sends the borrower away from day one fully de-levered with a 45% back-end DTI their principal balance reduction in hand. Anything short, and more mods will continue to fail.
All of this is an exercise in futility. They are all looking in the wrong place. It is obvious that if you throw $100k in equity at a homeowner who is in default, it changes things for some. I wrote an essay on this in early 2008 when everybody still believed the crisis was contained to Subprime. Back then I was in favor of a national principal balance reduction initiative that dealt with first and second mortgages as a way to force-delever American households and slow the crash in housing in order to prevent a massive consumer led recession/depression.
In it, I hypothesized that that a targeted $2 trillion to buy down mortgage balances and then another trillion in gov’t tax breaks for those that didn’t not need help with their mortgage in order to prevent blow-back and further stimulate the economy would stop what I saw at the time to be a collapse of most of the nation’s banks if not the financial system itself. I was early. Now my $3 trillion looks like a cheap fix. But at this stage of the game, principal balance reductions are 1.5 years and 10 stimulus programs late and $3 trillion short.
Quit wasting your energy – a wide-scale principal balance reduction program is not likely. I do not think it should happen. It is questionable whether they would even make much of a difference. It surely would not be worth the 50 gallon drum of worms it would open. Reductions would only clinch the deal for those on the borderline who are defaulting purely because it makes for a good investment to exercise their option to default based upon equity.
The moral hazard this would create is huge – default rates would shoot through the roof, especially from those premeditated defaulters that can really afford to pay but just want a gov’t hand out. Or, those simply looking for an exotic rate reduction refi who can’t qualify for or benefit from today’s vanilla 30-year fixed rates loans…remember, mortgage mods are nothing more than gov’t sponsored 5-year, interest only, teaser rate, balloon exotic loans created to replace the exotic loans of yesteryear.
If is important to note, however, that some banks are offering principal reductions to certain borrowers such as Wells Fargo on select Pay Option ARM borrowers. But this is the exception and not the rule and typically reserved for loans wholly owned by the financial institution.
Bottom line.- a gov’t sponsored, wide scale principal balance reduction initiative that gives $10s or hundreds of billions to the minority 15% who are distressed and leaves the 85% who pay on time each month in the lurch would be an unmitigated disaster across many levels.
Additionally, political will is not on the side of carpet bombing stimulus plans any longer because of the blow-back and because the Administration wants to reserve what political capital they have left for the big tasks at hand, such as socialized health care. In fact, the Administration’s latest push is for a targeted jobs package, not another $800 billion across the board handout. There is just not enough of anything left for something as large and controversial as a wide-scale principal balance reduction initiative.
$300 Billion Already Committed to Principal Balance Reductions
But beyond all of this, we already have a massive principal balance reduction program in place. It’s called Hope-for-Homeowners – or the H4H — which calls for HUD to insure up to $300 billion in refi’s if the lender reduces the principal balance and the borrower qualifies under very lose standards. In fact, the guidelines were just made easier late last year. I am not necessarily a Chris Dodd fan, but this program was years ahead of its time and he knew it back in 2008.Opportunity funds that even know a little about the mortgage banking universe, warehouse lending and Ginnie Mae II securitizations could put up triple digit annualized returns — while taking virtually no credit risk and looking like heroes for coming to the aid of the housing market — utilizing the H4H in the way I believe it was intended, which is not the way anybody is working the opportunity, yet. That is all I am going to give you in a public forum.
Negative-Equity Alone is not the Primary Default Driver
For the majority, it is not about having an equity position that is 1% positive or 20% negative. It is about being over-levered in addition to being underwater relative to rents, which have consistently fallen for two years.The HAMP chart in my 1-19 research note below says it all – it also goes to show how aggressive lending really was during the bubble years. What everybody glosses right over is the fact that AFTER a HAMP mod, the median borrower has a total debt-to-income ratio of 55.1%, not the 31% that is promoted by the program. This single data point is the primary reason most mods fail, not the negative-equity on it’s own.
As a former career mortgage banker, I can guaranty that if DTI’s were brought down to around 40% or below that the re-default rate would fall sharply regardless of the equity position because it would be cheaper to stay than move and rent. And even if it was slightly more expensive to stay vs rent, most would still stay for a variety of reasons.
The most important factor at 40% DTI is that borrowers are much less at risk of mortgage default because they have disposable income each month to save, shop and live their lives relatively normally during their years of de-leveraging. For example, somebody earning $10k a month with a total back-end DTI of 40% and a CLTV of 120% is a much better credit risk than somebody earning the same with a back-end DTI of 60% and a CLTV of 99%.
At the present 55.1% after mod back-end DTI, modified borrowers are debt slaves. It’s that simple. A HAMP 2% rate is not aggressive enough based upon the data released by the program. The median HAMP borrower remains far too over-levered post-mod. The sad part is that most delinquent borrowers could be offered a 0% rate and they probably would still be over-levered based upon time-tested 28/36 mortgage banking DTI’s. This is why mortgage mods by and large are destined to fail.
Embracing HAFA – (Home Affordable Foreclosure Alternatives)
It is time to move on. The best solution going forward is for the banks to fully embrace Treasury’s HAFA (short sales and DIL’s) program, begin to foreclose in earnest like they started to in 2008, and get these properties into the hands of new owners. We know there is huge demand for distressed real estate from investors and those that really can afford to own a home and prices in the hardest hit regions have stabilized somewhat (at least temporarily), so the timing is good. Even though HAFA involves removing borrowers from their homes — because it is not done through the process of foreclosure — it technically conforms to present day anti-foreclosure political will.
There is a lot of excitement around this one. The initial reaction from the lenders I talk to is very positive — if forced to chose, they much rather have a short sale or DIL than a foreclosure because loss severities are much less for obvious reasons. HAFA is very well thought out — other than some tweaking that needs to be done surrounding second mortgages — and some large banks are investing a lot of energy creating detailed policy & procedure and best practices in addition to training and redeploying HAMP modification staff in order to fulfill the expected demand. Before too long, I expect the HAFA infrastructure and developed best practices to be used for non-GSE loans as well just like we saw with HAMP.
Homeowners are not being done any favors through loan mods — the distressed homeowner will be in a better position renting a property that they can really afford instead of being saddled to hundreds of thousands in debt that chews up the majority of their gross income every month. Obviously, this will be painful on many financial institutions but the fact is they can’t kick the can forever. And the longer they kick it, the greater the losses will be when the chicken finally comes home to roost.
The unintended consequences of HAMP was creating a lack of distress inventory, which is most in demand. Without REO, which made up a large percentage of total sales last year, the depressed rate of existing home sales in 2009 was as good as it gets for a lot of years. HAFA is exactly what is needed to keep sales counts from tumbling in 2010. The only negative is that because DIL’s are REO and short sales considered ‘distressed’, there will be negative housing implications from significantly increased distressed sales as a percentage of total sales.
This is why I believe that 2010 kicks off a paradigm shift from pretend and extend to the first year of a multi-year drive to finally de-lever through increased asset liquidations spearheaded by the HAFA initiative. Over a lot of years, this is exactly what is need to essentially ‘reset’ the housing market and is where my research centers this year.
Excerpt from my 1-18-2010 Mortgage Pages research note on the HAMP DTI Topic
A Making Home Affordable program update through Dec 09 came out last week (attached). The update was given kudos by many as a sign HAMP is starting to get on track due to the large number of mods that went temp to perm over the past couple of months. Others slammed the low overall temp to perm pull-through at less than 10%.
I am not going to do either, rather point out a single page in the report that highlights exactly why so many will ultimately fail and there is no place for defaults and foreclosures to go in 2010 but straight up. Within the report, there are a series of charts. The ones pertaining to house prices, sales and inventory and mortgage rates metrics…disregard them. This is because when the gov’t seizes control of the supply and demand fundamentals temporarily through artificially low rates and default and foreclosure moratoria, old-school headline metrics such as ‘months supply’ don’t mean much.
1) The Back-End Debt-to-Income Ratio Nightmare
Everybody loves to talk up the 31% HAMP DTI that is billed as the differentiating factor between HAMP and it’s predecessors. But who cares about the Front-End DTI when no concern is given to the total DTI.
As shown in the chart below, the MEDIAN post-mod Back-End DTI is a whopping 55.1%. The pre-mod Back-End DTI was a nose-bleed 72.2%. Now, that is production oriented underwriting! I have always said “mods make homeowners underwater, over-levered renters unable to sell, re-buy, refi, save or shop”. This chart proves it.
A household with a post-mod Back-End DTI of 55.1% remains in serious trouble. Remember, negative equity alone is not the primary driver to default — being in an over-leveraged household balance sheet position with negative equity is. When 55.1% of your gross income is going out to debt listed on your credit report — not including income taxes, household expenses (food, auto insurance, utilities, gas etc) and all other expenses of life — you are extremely over-levered.
My guess that the majority of mods with a total Back-End DTI of over 40% will ultimately fail. And a Back-End DTI over 40% likely represents the majority of all mods given the median is 55.1%. High Back-End DTI’s are also why at the end of the day, defaults and foreclosures will be much higher than anybody’s present estimates, as I outlined in my 12-6-09 report – “Millions More at Risk of Default Than Most Think”.
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