"Emancipate yourself from mental slavery, none but ourselves can free our mind.” - Bob Marley

Sunday, June 28, 2009

Mortgage Disaster, pt 2: Failed Refutation

Carl at NOFP tries to "refute" my Mortgage Disaster post and fails - mostly because the facts speak for themsleves.

Says Carl:

If you look at page 23, T2 says that the largest sector, by value, at risk is prime mortgages. Commercial real estate is second. Neither of those are the type of transactions of which you complain.
The debate centered on responsibility for the mortgage crisis: GSEs vs. Wall Street. GSEs didn't do much Commerical Real Estate (CRE). Wall Street and insurance comapnies did and they are hurting plenty.

That "the largest sector, by value, at risk is prime mortgages" says nothing, since I'm discussing the current crisis, and past/current delinquencies.

Further, I fault your interpretation of T2 given that the T2 charts on borrowing power (page 9) seem to prove my point--that much of the crisis was demand driven.
This makes sense only if Carl means the demand, by Wall Street, for reallly bad mortgages.

Once upon a time, before Wall Street got involved (see the graphs for timing), there was a word that originators had for people who wanted to borrow 9x their income, or have mortgages payments equal to 95% of their monthly take home. That word was "NO". People can have all the "demand" they want - if the lenders had said "no" it would not have mattered. The originators/lenders did not say no, because Wall Street paid them to say yes, as noted here:

The big money for unscrupulous brokers, however, lies in steering borrowers into higher cost loans. A prime, fixed-rate loan at par may earn a broker a fee of one percent or less, but a hybrid adjustable rate mortgage (ARM) can pay four percent or more.

The Center for Responsible Lending (CRL) has said that inflated YSPs are included in 85 to 90 percent of all subprime mortgage loans.

Borrowers of hybrid ARMs, nicknamed "exploding" or "toxic" ARMs, often get stuck with prepayment penalties that penalize a borrower for paying off a loan early
Carl further says: That's why T2's page 29 chart shows that 25 percent of prime mortgages also are underwater.

This is more distraction than argument.

In the first case, for prime loans being underwater is just a function of having bought high in the bubble. A prime loan on an underwater house need not turn delinquent, since it's payments are fixed at a low rate relative to the borrower's income, and the borrower having put 20% down makes "strategic default" less likely. It requires a very significant decrease in house-hold salary to cause a default in this case.

In the second place, Carl conveniently ignores 3/4 of the chart on page 29, reproduced below:



As noted before, due to fixed reasonable payments, prime borrowers must experience significant decrease in income to be forced into delinquency.

On the other hand, virtually every underwater Option ARM will inevitably be forced into delinquency when the loan recasts - a process that involves taking the loan from negative amortization to fully amortizing in a shorter term. Low interest rates engineered by Bernanke wil not save these people.

For a quick example of an Option ARM recast, see here:

Lower interest rates do exactly nothing for these people because the original "option" period typically had rates as low as 2% on simple interest, and thus payments could be under $1,000/month on a $600,000 loan during the "option" period...

When the loan recasts five years after origination (assuming that comes first) even if you can get a 4% interest rate based on current low "adjustable" rates you are now financing $750,000 and must amortize the 4% over the remaining 25 years....

Your payment goes from under $1,000 a month to $3,945.62, a near-quadrupling, overnight.
This logic applies to all those who got Option ARM loans and paid the minimum "option". Estimates are that 80% of Option ARM borrowers did so.

And since, as previoulsy noted, the Option ARMs happened in the "bubbliest" areas, California and Florida, these will be large amount loans, most above the conforming limits of the time ($417,000), and therefore most funded by Wall Street.

Subprime and Alt-A borrowers have been given some reprieve by Bernanke's fixing of low interest rates. That cannot last forever.

Carl continues: And you haven't justified your concern for the leverage standards of investment banks. How did that cause the crisis?

Yield Spread Premium explains it. It is the causal link between the sudden explosion of I-Bank money and the suden explosion of lousy underwriting.

(In the background, non-blogger obloodyhell maintains his psychotic notion that the I-Banks did all of this only because the GSEs showed them how, and that therefore the GSEs - and Democrats in Congresses that passed no laws relating to the GSEs - are responsible. Suuuure!)

6 comments:

OBloodyHell said...

bob, you constantly -- constantly -- attempt to reason as though human nature had not one whit of affect on things.

The basic fact is, when credit is cheap (and whose fault is that? Wall Street's? NO.) people will leverage themselves, sometimes to stupidity, trying to take advantage of it.

And when the Fed is demanding that the mortgage firms hand out cheap credit to all comers -- as well as pushing interest rates down -- WELL, GOSH, THEY LISTEN.

It's friggin' obvious that the fed **&** Congress, more than ANY OTHER ENTITIES, created this mess, first by pushing interest rates down, then by creating a ridiculous level of demand for housing by telling brokers to either give it out or else face attention from the DoJ for unfair lending practices (the CRA, etc.).

That makes housing prices balloon, which is the place where people are going to use that cheap credit to earn more money on whatever equity they had.

Once they start to balloon, you no longer NEED the CRA to push the rest (the fact you cannot seem to get into your head), it follows automatically from the now ballooning prices AND the cheap credit. When house prices are rising at 13%/year, and credit is only 2%/year, you can, and will, earn 11% on your equity. Gee, people (both idiots and brokers) jumped on a bandwagon that Congress and the Fed were driving down the street bearing the banner "FREE MONEY!! HOP ON!!"

And I'm sorry, despite your imagination to the contrary, it's not the brokers' place to say "no, you can't leverage yourself like an idiot", just because people are idiots. It's their job to cover their own asses, yes, and they should, for the most part, have been allowed to fail as a result of not doing that.

And who didn't let them fail? Ah, that would be the ones who led them over the cliff in the first place. Congress.

=====

Anyway, you should like this one:

---

Or, put another way, Wall Street was pulling the "room full of horseshit" trick:

Brokerages were saying, "We're going to sell you a room full of horseshit.

And with that much horseshit, you just know there's a pony in there somewhere."


-- PJ O'Rourke

OBloodyHell said...

This, bob, BTW, is why you should be violently against any support for Obama:

Obama's Stealth Anti-gun Campaign

The man is more dangerous to the nation in that position than William Ayers or Ward Churchill would be. At least with them, everything would be viewed with suspicion.

OBloodyHell said...

And BTW, bob -- here's a case in point, courtesy MOM:

Idiots follow money


This is just a mini-example of what happened in the mortgage market En Masse.

bobn said...

OBH said:

This, bob, BTW, is why you should be violently against any support for Obama:

Obama's Stealth Anti-gun Campaign


I voted for McCain, remember? Obama didn't fool me on gun control, at least not for long - his voting record in Illinois was absolutely clear, as was the comment about people getting "bitter and..clinging ...to guns".

I don't like the guy. I still want to see the real birth certificate. I still want to know who financed his education.

Wish I could say I never voted for him, but I used to vote a straight Democratic ticket. In 2008 I voted straight Republican.

Carl said...

You're still missing that:

1) There are thousands of Wall Street "private label" firms that participated in mortgages and mortgage securities. Almost all are small enough to be allowed to fail. By contrast, there were only a couple of GSEs, making them critical points of failure. Further, the GSEs were government-guaranteed, so had to be bailed-out, ensuring they could attract more capital for the same or greater risk.

2) Contrary to the "facts" you tout, the GSEs purchased the majority of mortgages from especially risky borrowers (page 24):

"The Government Sponsored Enterprises led the way into the housing crisis: Fannie Mae and Freddie Mac were leaders in risky mortgage lending. According to an analysis presented to the Committee, between 2002 and 2007, Fannie and Freddie purchased $1.9 trillion of mortgages made to borrowers with credit scores below 660, one of the definitions of "subprime" used by federal banking regulators. This represents over 54% of all such mortgages purchased during those years."


3) The GSEs also made it possible for private label firms to participate in securitized mortgages:

"Without their commitment to purchase the AAA tranches of these securitizations, it is unlikely that the pools could have been formed and marketed around the world. Accordingly, not only did the GSEs destroy their own financial condition with their excessive purchases of subprime loans in the three-year period from 2005 to 2007, but they also played a major role in weakening or destroying the solvency and stability of other financial institutions and investors in the United States and abroad."


4) You provide no reason for insisting--contrary to cases and examples--that only official action influences policy. Quit hitting us with your sixth-grade civics textbook on "how a bill becomes a law." It's naive in the real world. After all, would Congress keep grilling hearing witnesses or sending harsh letters if such tactics didn't accomplish their goals?

bobn said...

Re: Carl above. It is worth noting that he abandoned the points I rebutted in my post, excepting the Congress-GSE issue.


Carl says:

There are thousands of Wall Street "private label" firms that participated in mortgages and mortgage securities. Almost all are small enough to be allowed to fail. By contrast, there were only a couple of GSEs, making them critical points of failure.

Yes, but the ginormous bubble occurred after the big 5 I-banks - allegedly TBTF - had their leverage limits lifted. And it is the pumping of money into these I-banks - via TARP, FDIC guarantees of their new debt, and the "bailout" of AIGFP, which has been nothing more than a conduit for taxpayer money to huge I-banks, especially your heroes at Goldman Sachs - which has created the problems going forwards.

Why do you never denounce the raw money-grubbing of the Finance-Government complex? I've never heard you once denounce the funneling of huge amounts of current and future taxpayer dollars to these scumbags. You claim to be for limited government, yet you ignore the huge commitments made by the FRS and Treasury to support the zombie banks. Are you in favor of government interventions when it serves corporate interests? That seems to be the case.


Further, the GSEs were government-guaranteed

Absolutely 100% incorrect. Every GSE issue I've looked at said in big black explicit letters that they were *NOT* guaranteed by the government. Our government bailed them out for political reasons, possibly relating to ensuring future government borrowing.

If you want to argue that even the implicit guarantee was wrong, I concur. If you want to argue that 80:1 leverage was insane, I concur. But again: GSEs are regulated by the executive branch.

Contrary to the "facts" you tout, the GSEs purchased the majority of mortgages from especially risky borrowers (page 24):

Apparently not all subprime loans are equal. Using the numbers from the T2 report, private label loans were almost 12.7 times as likely to fail as GSE loans. (This number may be a bit exaggerated by GSEs holding loans made before the bubble.)

"Without their commitment to purchase the AAA tranches of these securitizations, it is unlikely that the pools could have been formed and marketed around the world.

AAA stuff with higher yield than treasuries virtually sells itself. And GSEs weren't paying YSP to incent ever crappier mortgages.

After all, would Congress keep grilling hearing witnesses or sending harsh letters if such tactics didn't accomplish their goals?

Yes. It's called grandstanding. They get to tell their constituents how hard they are working on the constituents's behalf.

About Me

I'm a 57 year old geek. I voted Democratic for 20 years, because I disliked the Republicans more. But now, nobody really speaks for me. I'm for Guns, for more correct government regulation of the financial world, against illegal immigration and amnesty. (in 2008 I ended up voting Republican - too many questions about Obama, and voting against anybody who voted for TARP 1.) In 2010 I voted a stright republican ticket because the Democrats have completely lost their minds.