By Michael Olenick, creator of FindtheFraud, a crowd sourced foreclosure document review system (still in alpha). You can follow him on Twitter at @michael_olenick or read his blog, Seeing Through Data
… how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions…
– Alan Greenspan, Dec. 5, 1996
In any context except a Gay Pride parade grown men wearing short skirts and carrying pom-poms look out of place. But if they’re cheering the artificial rise of housing prices we’ve seen lately, they seem to be not only accepted but welcome.
“Broward home prices rise 10 percent in May,” reads a typical headline for the Broward County, FL Sun-Sentinel, ground zero for the housing meltdown. The article itself mentions that the ten-percent increase was year-over-year, not month-over-month, and neighboring Palm Beach County suffered a month-over-month decline by a whopping four-percent, but – whatever – home prices are up; let’s party. In this spirit the article mentions Palm Beach sales volume increased, though a close look shows the increase amounts to 114 additional houses sold, out of 664,549 housing units in the county. This figure is so small that my calculator expresses it in scientific notation when I convert it into a percentage.
It’s not only reporters from areas decimated by the bubble that are looking for signs of a housing bottom. Bill McBride of Calculated Risk (CR) calls a housing bottom like clockwork. CR somehow fails to reconcile data about underwater homeowners being unable to sell with the low inventory levels. There’s fewer houses for sale so all is peachy; never mind that inventory is being manipulated by servicers and regular sellers are locked-out of the market through negative equity.
On the latter subject, last week CR labeled a story about a CA couple who looted $140,000 from their retirement savings to refinance their underwater home “a reasonable option.” At least he didn’t use the word rational, since their decision is anything but. Since the couple’s mortgage had been a purchase-money mortgage, had they walked away from the old loan, their lender (under CA law) could not obtain a deficiency judgment. However, with their new loan – since it is refinanced – that option, their best leverage point when negotiating a modification (say they need one later due to financial setbacks), is gone. It’s one thing to cheer for your team but it’s normally considered bad sportsmanship to purposefully injure the other team.
Yale Prof. Robert Shiller, co-creator of the well-known Case-Shiller house price index, takes a more sober approach. Shiller argues in the New York Times until meaningful principal reductions are put in place that house prices are hosed. Pricing may bump up on artificial scarcity caused by the relatively low number of foreclosures after the robo-signing scandal, but in the long run underwater borrowers are likely to drown. Further, because of sky-high loss severities in foreclosures – my own data shows it is not at all uncommon for investors to lose the entire face value of a mortgage in a foreclosure – principal reductions make good business sense.
Shiller embraces an idea being floated about lately; having municipalities use eminent domain to “take” mortgages at fair market value. Databases like the one I’ve been compiling clearly show the loss severity of similar mortgages in similar ZIP codes, allowing municipalities to ascertain fair market value of the mortgages, as opposed to the houses. In bubble-states, where negative equity issues are most pronounced, fair market value of most mortgage would be no more than 20-percent of the face value of the first mortgages – and oftentimes far less; no more than a few cents on the dollar – while second liens would be worthless.
Assuming this approach is only used with the consent of the homeowner, I’d suspect that one last call the servicer before implementation would magically result in an almost immediate modification: no lost paperwork, no transfers to the offshore call center, no capitalized interest.
Those who advocate a “rip the bandage off” approach through mass foreclosures should embrace this idea since it will lead to the same place, quick resolution of problem mortgages. It won’t be the homeowner who is left bleeding but since their advocacy for quick pain to end the crisis is principled, as opposed to being rooted in greed or malice, they should be enthusiastic supporters .. right? Further, absent amending the Constitution there’s nothing our dysfunctional federal government can do to get in the way. Even trying to interfere would expose Republican hypocrisy on issues of federalism and Democrats hypocrisy on middle-class aid.
While this solution looks like a great idea it remains unclear if local officials could pull it off competently. As the residents of Jefferson County, Alabama can attest to with their new sewage system – that led the county into bankruptcy – when local cronies “work with” Wall Street bankers the result is often barbaric for everybody besides the bankers. There’s a real risk that they’d pay far too much for the mortgages or team up with the same types of sharks that caused the mess in the first place, leading to the same inevitable meltdown. Here’s a hint for success: if the principals in any company offering to “help” have a background originating or securitizing subprime debt keep the idea alive but look elsewhere for partners.
Granted, investors could opt for principal reductions out of business sense – that is, they’d rather lose 40-percent of their principal than the 90% that’s become common in foreclosures – but they follow the lead of the Federal Housing Financial Authority, FHFA, and simply lie about this well-known fact. There’s an irony that the FHFA publicly screams that principal reductions are taboo while benefiting from those same principal reductions in the Agency MBS subprime tranches owned by Fannie and Freddie. The dirty secret is that principal mods DO work. DS News quoted a study on this very issue:
For 2011 modifications, the re-default rate after 12 months for principal modifications was 12 percent compared to 23 percent for rate modifications and 30 percent for capitalization modifications, according to the [Amherst] report [by analyst Laurie Goodman].
However, it’s been a long time since anybody has accused either Fannie, Freddie, or their regulator of honesty. Besides, with taxpayers footing the bill there’s no reason to mitigate losses. It’s much easier to be short-sighted and pander to beggar-thy-neighbor sentiment.
I own a home in West Palm Beach, FL. I want home prices to rise. But there are just too many factors that continue to drain the economy, including and especially underwater borrowers who push money into their bubble-era basis mortgages, robbing local economies of this sorely needed stimulus. Further, the dearth of first-time home buyers – caused by young people saddled with staggering amounts of student loan debt – will have long-term, very real repercussions.
We have to deleverage the middle-class, just as we did the banks in 2008, if we are going to put a long-term floor on the housing market. Until then the cheerleaders may inspire a goal or two, but – especially given that inventories are being artificially depressed – no matter how well they wiggle their tuchas or shake their pom-poms we’re never going to rally to overcome this point deficit. Take the Monday housing report that new home sales are higher than they’ve been in years; three years, to be exact, putting new home sales at the third worst for the home-buying season since the US has been keeping statistics. As pundits cheer the “recovery” people will no-doubt be inspired by the news, as long as they don’t hear the chant “We’re number three .. from the bottom.”