patrick.net

http://healdsburgbubble.blogspot.com/2009/05/reset-chart-from-credit-suisse-has.html

And here is another thought process...

Recast vs reset:

From the Healdsgurg Bubble blog

But interest rate resets don't pose much a problem for those with Option-ARMs when rates are low. They can continue making a minimum payment that only adjusts upwards by 7.5% once a year. The real "payment shock" comes when the loan is recast (i.e. becomes fully amortizing over the remaining term of the loan). This occurs after a contractual time limit (normally 5 or 10 years) or, if due to negative amortization, the loan value increases to 110-125% of the original principal of the loan.

Leigh says

he loan value increases to 110-125% of the original principal of the loan.

Exactly, And its the same people with credit bills around $20K... up to their eyeballs in debt.

These people pay the minimum because thats all they can afford, even 10% increase (doubtful) could push them over the top....these people you speak of still faces underwater mortgages, large credit card bills, job losses, even if they can afford the recast, many are going to walk. Banks can't keep shadow inventory hidden forever. eventually they will have to sell or risk these abandoned homes falling into disrepair. Do we have real data on how much of a % hike these mortgage payments are going to be when they recast?

The housing market started to tank NOT when people started to reset, NOT when people started to lose their jobs, but when the banks pulled the plug on refinancing people out of their problem. Sooooo many of this garbage is from people who'd been floating for years. That's your built up inventory. Insolvent investors have been flushed out.

but it’s NOTHING compared to watching a teaser rate jump from 2.9% to 9% like happened with much of the sub-prime market.

technically I believe subprime never had access to such low rates. That's more Alt-A, people with good credit histories who got adventurous.

subprime borrowed the down-payment too, at astronomical rates.

@knewbeter - excellat post

their backup plan is to walk away and rent.

The backup plan as I understand it is to refinance. When I was approached by Wells Fargo for an interest only loan with no money down, I asked what happens in 5 years when the interest only period runs out. I was told I would be able to refinance. That's not much of a plan as mortgage rates were already incredibly low. People got duped and won't be able to pay when the time comes.

Back up plan is already being utilized...dipping into 401K and other retirement savings to save the house. Also, not contributing to retirement is a big issue.

What's scary about Portland is that we have a large share of Alt-A and Option ARM's, we didn't drink much from the subprime bowl, though.

I don't think the Fed is going to raise rates until we are definitely on solid ground and that's not gonna be clear until the home buyers credit expires and the housing stabilizes and U6 numbers get down to around ummmm? 12%?

One huge aspect that we aren't taking into consideration is how housing problems will be viewed. Right now, we're essentially in year 1 of our problems, where people are starting to THINK about what to do, vs just running around.

In another 2-3 years we're going to have specialists in this area. We will also have a potential shift in how this is viewed in terms of a social acceptance. If walking away from a loan because it was underwater/a mistake becomes truly acceptable, we could be in for a serious world of hurt. Right now people might feel too ashamed, some might have no choice, and others say "it's a business decision..". If all three line up and say walking away is acceptable, it could become pretty interesting.

What "specialists" might come out of this could be interesting too. Someone has to figure out how to make a lot of money on keeping people in their homes. Someone will figure out a system for them to keep them.

I ain't no kinda expert like some of y'uns but I think there are tons of loans in the bay area (la la land) that gots people paying like $2500 on a $800,000 note, that changes in some kinda way I don't unnerstand in 2010 or 2011. Like sumptin' 'bout them having to like, 'fully service the debt' or such. Like, I think they hafta start payin' like they had a reg'lar loan so they stop addin' to the debt.

But like I say, I don' know much about this stuff.

The sky has fallen as far as it is going to fall.

The bottom is behind us for the lower third of the market.
The middle market is bottoming now.
Higher end home prices will keep slipping during 2010.

With all the wild government spending and Fed printing of money, inflation is coming. The lower end market has been rising for a year now. We will never see those prices again. Ever.

There is more pain remaining for many. But, the end of the world has passed.

... better buy now or be priced out forever.

Zephyr says

The sky has fallen as far as it is going to fall.
The bottom is behind us for the lower third of the market.

The middle market is bottoming now.

Higher end home prices will keep slipping during 2010.
With all the wild government spending and Fed printing of money, inflation is coming. The lower end market has been rising for a year now. We will never see those prices again. Ever.
There is more pain remaining for many. But, the end of the world has passed.

There is a lot of speculation and fluff in this post but it does not address anything about the massive government intervention that will expire at some point, increasing shadow inventory, terrible unemployment, and upcoming alt-A option ARM recast/resets. In the long run, I don't see housing as a good investment due to babyboomers retiring and downgrading to smaller homes and nursing homes.

Markets always overshoot - especially on the upside. The exuberant fools drive prices to wild levels. And the lenders become exuberant too, giving money away, thinking there is no risk.

On the downside, the overshoot is mitigated by bargain hunting investors (real investors, not the bubble fools) who buy with cash and hard-nosed rationality. Currently these investors are buying up the rentable properties, making it difficult for first-time buyers. Prices are rising from the depths of despair.

I am one of those investors. I was buying rentals in the 1980s, selling in 1989. Buying again in 1998 to 2003. Selling in 2006. And now I am buying again.

During the bubble, the fools were those who thought prices would never fall.
During the crash, the fools are those who think prices will never rise.

Serpentor, The various problems you mention are temporary, and not new to this cycle. They will pass. However, you stated: "In the long run, I don’t see housing as a good investment due to babyboomers retiring and downgrading to smaller homes and nursing homes."

This is a very real problem. The really big houses will feel this effect first. However, this process will not be significant until the boomers are in their late 70s. The average boomer is about 53 today - so we have more than 20 years before this occurs. There will be another full boom/bust cycle (or two) before this begins to be an issue. In addition, the population will grow by enough to offset this effect entirely by then. So demand will hold (but not grow) at that time.

Over the last 30 years demand grew significantly. Homebuilders thrived by supplying ever bigger homes to meet this growing demand. 20 years from now there will not be as much growth in demand, and homebuilders will have to lower their expectations. But there will be buyers for the existing inventory.

Zephyr says

Prices are rising from the depths of despair.

With an assist from the ever-helpful "3.5% down" FHA, $700K limits, and 4.5% fixed money. That'll support any market.

Edit: I maintain an interest in Tokyo Real Estate, and was puzzled by the sky-high valuations there. Then I saw their 2.5% loan rates, and I Understood.

Bap33 said: "better buy now or be priced out forever."

I am not saying that at all. Only that we are at the cyclical low.
As the economy recovers the interest rates will rise. Prices will also rise.
What we are seeing now is as good as it gets.

Zephyr says

Markets always overshoot - especially on the upside. The exuberant fools drive prices to wild levels. And the lenders become exuberant too, giving money away, thinking there is no risk.
On the downside, the overshoot is mitigated by bargain hunting investors (real investors, not the bubble fools) who buy with cash and hard-nosed rationality. Currently these investors are buying up the rentable properties, making it difficult for first-time buyers. Prices are rising from the depths of despair.
I am one of those investors. I was buying rentals in the 1980s, selling in 1989. Buying again in 1998 to 2003. Selling in 2006. And now I am buying again.
During the bubble, the fools were those who thought prices would never fall.

During the crash, the fools are those who think prices will never rise.

The problem is that prices have not come down to rational multiples of rent or income yet. These "temporary" problems we are discussing are huge drivers in prices. By your definition, the great depression, Katrina, 9-11, are all "temporary problems" as well. With a leveraged purchase like a house, the entry point can either make you rich or break you.

You claim these factors are "not new to this cycle", where in the history of the mortgage market have we seen zero down liar loans, alt-a/option ARM time bombs, massive fraud, CDOs, historically low interest rates, etc etc?

take a look at Japan, their real estate prices have not recovered from the boom of the 80s. What makes you think the biggest bubble in the history of the US will be over in just 2 years, especially when half of all the doomed mortgages have yet to be addressed?

Zephyr says

What we are seeing now is as good as it gets.

Wake me up when *nominal* wages rise. It's my thesis that wages are going to be under pressure for the foreseeable future. *Especially* in the still expensive (but non-Fortress) areas.

(fwiw, I think any enclave-like market will hold its own and will in fact respond to inflationary pressures, since people with $$$ -- professionals -- tend to have pricing power in an inflationary environment -- it's J6P that I see tatooed and screwed going forward)

Serpentor,

Yes. The serious past problems you cite were very serious, but they were not permanent.

You said: “With a leveraged purchase like a house, the entry point can either make you rich or break you.”

I agree. That is my point - Timing is very important.
Getting it right is financially rewarding.

We have had serious mortgage problems in prior cycles.
The details are different as we find new ways to make old mistakes.

During the 1980s bubble the mortgage fraud was so rampant that the Savings and Loan industry was devastated. The S&L crisis was so bad that it caused the insolvency of the Federal Savings & Loan Insurance Corporation (FSLIC) and required the formation of a federal agency the Resolution Trust Corporation (RTC) to hold all the underwater properties owned (foreclosed) by the roughly 1,200 bankrupted lenders (S&Ls and Banks) taken over by the government FSLIC and FDIC.

As for Japan, we had a RE crash when they had theirs (see above). But our policies were dramatically different from theirs. They did as we had done in the Great Depression, making things worse. In addition, Japan’s population age profile is dramatically different from ours. That caused a decline in real demand after their bubble. Our growing population and demography does not suggest a decline in real demand.

Troy,

I agree. Real wages will be under pressure, especially for J6P.

But our “government gone wild” is spending like drunken sailors, and the Fed printing press has been working overtime. This will lead to inflation. Nominal wages will rise, and investors will chase real assets to avoid the loss of purchasing power. Similar to the 1970s all over again…

the problem has not past yet. I ask again, what makes you think we are immune to further price drops if these "serious problems" have not taken affect yet?

Zephyr says

Similar to the 1970s all over again…

I think this may, and I mean may, prove to be totally naive.

The baby boomers were entering their 20s in the 1970s not their 60s as now.

The national debt was under a trillion and there was a modicum of fiscal restraint. State finances were also less unbalanced. Unions with real negotiating power still existed.

PCs, that wonderful productivity multiplier, were just getting started.

China was imploding under the Gang of Four. Working with India meant a $4000 plane ride or sketchy and expensive long distance communication over voice lines, but of course back then India didn't know a TRS-80 from trash.

We still made stuff and we only recently had gone into importing more manufactured stuff than we exported.

Japan has printed like crazy and what do they have? Lower wages and lower land values than 1985.

There could very well be raging inflation in global commodities like energy, food. Healthcare could double. Tax burdens could go up. None of these effects exert upward pressure on home prices. Quite the opposite, in fact, since housing -- rents -- is a household budget line that comes AFTER taxes, transportation to get to work, and essential food and other survival goods.

Zephyr says

Our growing population and demography does not suggest a decline in real demand

We may be growing by 2.5M people per year but 1M of those are immigrants and much of the rest are shall we say relatively unproductive mouths to feed. Looking for population growth to automatically stimulate the economy is a major broken window fallacy.

Population doesn't increase land values, after-tax household income does. And household income is primarily driven by wealth creation, something that may or may not grow as it has for the past 40 years.

" Our growing population and demography does not suggest a decline in real demand."

Plenty of land in CA central valley and even more in the South West.

thomas.wong87 says

Plenty of land in CA central valley and even more in the South West.

Unfortunately, there are ~no jobs~ in those locations. Plus every 20 people you add takes an acre-foot from ag.

There would be very little impact on Agriculture business.

Troy says

Unfortunately, there are ~no jobs~ in those locations.

Like to remind you of Ciscos 1999 plan to relocate its entire operations from Milpitas down to Gonzales.
So many are willing and able to relocate out of state as needed as did 3Com and Borland.

Troy,

I am not expecting an exact repeat of the 1970s. But, we are looking at inflationary pressures that will be greater than anything we have experienced in recent decades. Thus, I refer to the 1970s because that was a decade of rising inflation. The effects on asset prices will be similar. Classic cycle patterns suggest that the inflation will start with commodities and then work into real asset prices and the prices of goods. That will lead to nominal wage pressures. Real wages will probably be stagnant for most Americans, and actually decline for Joe Sixpack. This will mitigate the rise in real home prices.

“…what makes you think we are immune to further price drops if these “serious problems” have not taken affect yet?”

We are not immune, and I am expecting further price declines in the upper half of the market during 2010. But the bulk of the serious problems have taken effect already. And the results were dramatic – a financial panic, a collapse of the stock market and housing prices, and a major recession.

What remains to hit us will be much smaller than what has already hit. Financial markets are reflecting that. The stock market bottomed in March and has since recovered by about 60%. Housing is going through a rolling bottom. The problems are/were most significant for the lower part of the housing market and that segment has already bottomed, and prices are rising. The tide is turning.

“Looking for population growth to automatically stimulate the economy is a major broken window fallacy.

This has nothing to do with the broken window fallacy. That is a completely unrelated concept which pertains to the problem of things unseen. Cash for Clunkers is an example of the broken window fallacy. You cannot crate wealth by destroying what you have. You just create busy work to replace what you had.

Population growth does increase demand for housing, by increasing the number of households.

Home prices (like all goods) are moved by changes in supply and demand. Real price changes require real changes in supply and/or demand. Nominal price changes can occur without any real change in supply and demand if there is a change in the value of the currency. Inflation will raise nominal prices.

We are in the very early stages of a cyclical recovery in housing prices. Specific segments and locations will have strong movement while others stagnate, but overall I expect real housing prices to move slowly in the next few years. Rising inflation will begin to push nominal prices a bit faster.

Thomas.wong87,

You said: “Plenty of land in CA central valley and even more in the South West.”

Yes. The same supply we have always had, during booms and busts. Nothing new. If the supply of land is not growing, and the demand for land is growing (population growth), then real prices must rise relative to other goods.

Real-estate inflation happened in the 1970s because of the massive influx of money into the aveage house-buying household. It came in the form of an additional paycheck with the woman's name on it. A nice, taxable representation of her economic power which previously skirted under the radar. Why raise your own chickens when you can pay taxes on the money you use to buy the eggs?

The problem I have with the 70s analogy is the fact that women today work to make money, whearas before they stayed home to make money. I'm not so sure how much of it was social stigma, and how much of it was the realization that a loaf of store-bought bread from the supermarket (not the grocery store, he went out of business) was just as cheap as making it yourself. No to mention that store-bought clothes/shoes/curtains/whatever were a heck of a lot cheaper to boot so why bother with it. My mother was the last generation to use a sewing machine, and even she hated it. If my taxes/interest rate were suddenly to double I wouldn't be able to turn to my wife and ask her to get a job, because her 40hr/week commitment to keeping us in the middle class is currently booked. Come to think of it, she already makes a lot more than I do!

No, I'm not getting another job.

The real estate explosion in the 1970s will not repeat itself because instead of going to work to buy the house/car they want they are already working too hard to try and keep it. There is no fall back plan this time. High interest rates will KILL the housing market, not make it better. But don't expect renters to make out, because rents will go up when housing becomes less affordable. Count on it!

Zephyr says

Nominal price changes can occur without any real change in supply and demand if there is a change in the value of the currency. Inflation will raise nominal prices.

This is basic economics, yes, but my argument is that the housing good is just one in a basket of goods.

I think we can agree that J6P's real, if not nominal, wages will be under pressure due to globalization and lack of bargaining power with employers.

I agree with you that commodity prices will respond to inflationary pressures, as will wages earned by professionals in gated job communities -- defense contractors, medical professionals, politicians and other higher-level gov't work.

My thesis, as mentioned above, is that even with wage inflation housing can still go DOWN in nominal terms, simply because the production cost of current construction, and all land, is approximately $0. As you well know, what we pay for land is its value as an income-producing asset, its rent. What happens to rents when wages are flat in real (and perhaps even nominal) terms, food goes up, gas is $10/gallon, taxes go up, health insurance goes up?

To make my argument explicitly clear, do you think landlords will have pricing power in this inflationary environment?

I don't. Rent is a surplus.

knewbetter says

Real-estate inflation happened in the 1970s because of the massive influx of money into the aveage house-buying household. It came in the form of an additional paycheck with the woman’s name on it.

yes, in the 1960s banks didn't even look at the wife's income for loan underwriting. They should do the same now (qualify on the greater income), LOL.

Zephyr says

Population growth does increase demand for housing, by increasing the number of households.

People can demand housing all they want, but they have to pay for it out of incomes.

Housing goods are still priced well above the cost of providing them. And there are ~20 million vacant homes in the US!

Granted, the rentiers may well be able to keep this excess inventory off the market and attempt to rack-rent their victims renters.

It's my thesis that housing rose this decade partially due to incorrect assumptions of income growth and also outright ponzi economics. Even now, we are only halfway down the correction curve.

This is not to say that general wage inflation isn't impossible. Perhaps the minimum wage will be $10 or $20 someday. Not sure how that works when weekly wages are that in China.

Correct me if I'm wrong but in the 1970's the leading edge of about 70 million baby boomers were starting to go into the housing market. In the 2010's they are starting to exit the market, looking to downsize (who the heck wants to live in a mcmansion at age 75), going to retirement homes, or dieing. Many have already bought their retirement home during the boom, providing they can hang on. Most of them are dramatically underfunded for retirement with their house being almost their only retirement asset, putting on even greater pressure to sell.

The median age for boomers is 53 with the average lifespan being about 75. For the next 20-30 years baby boomers will die much faster than immigration/births will replace them. This is almost 25% of the current population of the entire country that is simply going to disappear in the next 30 years. People in their most productive years. Do to our insane immigration policy which favors family in the country over all other factors, they will be replaced with people who are not only at the bottom of the chart, totally lacking in education or marketable skills, but many who are actually not capable of working at all.

These are irrefutable demographic facts. So exactly where are the buyers for this approaching tidal wave of homes for sale going to be coming from??

Something I have noticed while looking a houses to buy, people over 65 are selling (trying) at a record rate in the San Antonio, Texas area. I think they are hoping to get some money out of the sale.

Short of having your house paid for and willing to deal, they are not selling. I have seen properties on the market for a year plus and still no sale.

The seniors thought they were going to retire on the equity. Oh well.

people over 65 are selling (trying) at a record rate in the San Antonio
the Silent Gens final act is going to be hosing the Boomers. I'm guessing the seniors will be next to join the Coalition of the Willing in the Bay Area. Could get quite interesting if they all decide to head for the exits (the more sensible ones have their houses paid off, so any price will put cash in their pockets versus overleveraged Boomers.) Calling surfer-x...

I'm 38 y.o. and I can't tell you how many of my friends, especially in the Midwest, were telling me about the vast amount of equity in their homes and how it was going to be their retirement 'egg' just a few years back. I'm afraid to bring up the subject these days. I just hope they have a Plan B!