Oh brother, have you nailed it!
Posted on 11/30/2007 2:48:41 PM PST by shrinkermd
The Bush administration and major financial institutions are close to agreeing on a plan that would temporarily freeze interest rates on certain troubled subprime home loans...
The plan is being negotiated between regulators including the Treasury Department and a coalition of mortgage-related companies including Citigroup Inc., Wells Fargo & Co., Washington Mutual Inc. and Countrywide Financial Corp. People familiar with the talks say the individual members have agreed to follow any agreement reached by the coalition, which is called the Hope Now Alliance.
Details of the plan, which could be announced as early as next week, are still being worked out. In general, the government and the coalition have largely agreed to extend the lower introductory rate on home loans for certain borrowers...
Many subprime loans carry a low "teaser" interest rate for the first two or three years, then reset to a higher rate for the remainder of the term, which is typically 30 years in total. In a typical case, the rate would rise to around 9.5% to 11% from 7% or 8%. That would boost an average borrower's payment by several hundred dollars a month.
Exactly which borrowers will qualify for the freeze and how long the freeze would last are yet to be determined. Under one scenario, the freeze could run as long as seven years.
Mortgage servicers -- the companies that collect loan payments -- are a key part of the coalition, because they are the companies that deal directly with borrowers. Often the servicer is different from the company that originally made the loan. Citigroup and Countrywide are among the nation's biggest mortgage servicers. The mortgage servicers in the coalition represent 84% of the overall subprime market. The coalition also includes lenders, investors and mortgage counselors.
(Excerpt) Read more at online.wsj.com ...
However, research has found that we don't actually process information in such a rational way. In 1979, Kahneman and Tversky presented an idea called prospect theory, which contends that people value gains and losses differently, and, as such, will base decisions on perceived gains rather than perceived losses. Thus, if a person were given two equal choices, one expressed in terms of possible gains and the other in possible losses, people would choose the former - even when they achieve the same economic end result.
According to prospect theory, losses have more emotional impact than an equivalent amount of gains. For example, in a traditional way of thinking, the amount of utility gained from receiving $50 should be equal to a situation in which you gained $100 and then lost $50. In both situations, the end result is a net gain of $50.
However, despite the fact that you still end up with a $50 gain in either case, most people view a single gain of $50 more favorably than gaining $100 and then losing $50.
Others have determined, that on the average, people respond to losses two and one-half times that of gains; they do their best to avoid losses even in cases where the chance of gains are clear and likely. That is, they sell stock winners too soon and refuse to take losses in a timely fashion.
Individuals do this. Groups, including government, do this. The outcome is the loss is really not averted but prolonged and more expensive than if it were allowed to occur at its own, intrinsic rate.
An readable, brief discussion of prospect theory can be found: HERE.
It will kill the mortgage business going forward.
"There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved."
~~Ludwig von Mises
Sheila Bair of the FDIC, who sponsored the idea of this move to Paulson, knows the FDIC is undercapitalized for possible bank failures from the stimulus of subprime repossession also involving other derivative classes now. Several Fed court decisions recently have denied lender repossessions for failure to show clear title to the mortages claimed for repossession...therefore, loss is total for bank lender. The banks DO NOT want these dead mortgages back on their books in this country or anywhere else. The Treasurys’ purpose is to aid banks from the repossession threat, not to help mortgage holders. Nation supersensitized now because of the Fla school fund RUN. Two informative links on the Paulson/Bair proposal are: Roubini at http://www.rgemonitor.com/blog/roubini/229674
AND, Shedlock at http://globaleconomicanalysis.blogspot.com/2007/11/temporary-mortgage-freeze-is-doomed.html
The current value of a home is all the lender has as collateral, and extracting that value through foreclosure and resale carries costs that will significantly reduce the amount the lender actually collects. Most of the homes where current market value actually exceeds the amount still owed on the mortgage are cases where the original lender knowingly used an appraiser who would inflate home values, so as to generate bigger mortgages and fees for originators/lenders, and/or lent well over 80% of the home's value. Dropping the remaining mortgage balance to say 95% of the homes current market value, as determined by some independent valuation process, would leave the banks financially exactly where there are now or even better off, while greatly improving the home"owners" financial picture. It's a no-losers proposition.
Home"owners" who are simply unable to afford a home they're in, and probably knew that full well and lied about their income when they "bought" it, would still get foreclosed on. But home"owners" who are basically responsible, and just got caught up in an inflated market that originators/lenders were aggressively taking advantage of despite knowing full well that the fundamentals simply weren't there, will be able to keep up the reduced payments based on what the home is actually worth.
Nothing fails so miserably as government. Government got us here and more government is not the way out. All will be screwed for the sake of a few.
Yes, going forward, the Treas proposal has no clothes..US citizens cannot afford homes on the wages they earn now. Historically, a homes rent must be able to pay a mortgage...this was at a max level of 2.5x of wage income. Homes are at 4x..therefore, homes must fall 40% to approach the higher limits of affordability and rentability. Big drop necessary....and, it is coming.
Seems as though your quantification, i.e. few, may not be accurate.
The whole idea of securitization of a bank's mortgage book is that it sells the risk off. That's why title holders are phantoms. The loans have been sold to myriad institutional pools of capital - hedge funds, pension funds, corporate treasuries, etc.
It's their losses that are so daunting. And, of course, the larger banks provided capital for the larger mortgage originators, and to the other classes of institutional capital as well (no more Glass-Steagal).
I don't mean to oversimplify, but my heart is not broken by the punishing of institutionalized capital.
Possible increase in adjustable interest rates for two million people is not terminal for the two million, only for those who should have never taken out those loans in the first place. All borrowers knew what they were getting into - how could they not know with the various disclosures they were required to sign.
The markets, as in the past, will settle this mess. Serious borrowers who talk to their Lenders can work out a better solution than any government intervention. Of course, those borrowers who got into the housing market for sone quick bucks will have problems, as they should in a free market environment.
Read the following somewhere:
there is close to $2.5 trillion in sub-prime, Alt A and jumbo interest only or negative-amortization mortgage loans outstanding....account for close to 1/4 of all outstanding mortgage debt...$1.35 trillion originated since early 2005... $450 billion are expected to ultimately default according to estimates from Moody's Economy.com.
Yes. Socialism is the Paulson/Bair plan with continual bailout and no accountability for banking institutions. Capitalism is institutional accountability and potential failure resulting from wrong choices...the Fed and the US Treasury are socialist in deed, indeed. Market forces seem not to be acceptable now, but they will prevail over socialism every time. I do not like pain either. Govt. is postponing pain with nothing to offer but more pain eventually to come.
This type of thing rewards spending, borrowing, and not planning and critically reading the contract. It’s paid for by those who take responsibility for their actions. Why would anyone carefully save and invest, and not instead blithely max out their credit cards, buy the biggest SUVs and house of their dreams, being assured of being forgiven later or at least of repaying in a sharply devalued currency?
Funny how they want to freeze rates when they are in freefall.
The 2.5x multiplier is skewed by historically low interest rates. Comparing the affordability of a house now and in the 80s, a house with a 2.5x wage income multiplier in 1980 would be the same as a 5.0x wage income multiplier now. Should interest rates return to 10% or higher, I’d agree with you. Since prime people can get 3 or 5 year arms for 5% or less or fixed rates still under 6%, I’d argue that 3.5-4x is appropriate. That said, there are certainly areas in the country that still have further to drop (California, Florida, Las Vegas, etc).
Oh brother, have you nailed it!
Agreed. If the housing market hadn't crashed, these lenders would be reaping large profits off of the loans to shaky borrowers. They're just gamblers, nothing more, nothing less.
That is fine if you don't have any other debt according to home purchase calculators.
I really dont understand why rates are being blamed for what is happening.
rates have not changed much in the past few years and where are all these belly up homeowners that are making these banks write off hundreds of billions?
I think something else is going on - and that mortgages are being blamed.
Further the 30 yr bond is yielding 4.38% amd the 10 yr is yielding 3.94%. Add 2 0r three per cent for inflation and one would expect maximum mortgage rates ob between 6 and 7%. Again data from Bloomberg.
They can't refinance because the house isn't worth what they owe on it. They either overpaid for it or sucked the equity out of it.
This entire matter does not make one drop of sense!
Mortgages are constantly being refinanced! What am I missing!! Can someone intelligent explain this?
Mortgages have been refinanced as far back as I can remember. Why does the government think it is necassary to freeze interest rates? does that mean if the rates go way down the person can not decide to lower the house payment with a new mortgage?
Subprime is now the excuse for everything dumb, all the illegal immigrants flooding into the USA is because to the subprime in Mexico
It may not be fair but it's in the stockholders best interest.
A liquidity squeeze began in the commercial paper market during the summer that threatened the large and aggressive players in the mortgage markets. Not only are their balance sheets at risk, but if they cannot obtain reasonable financing to back mortgage originations, that puts the skids on the hottest 20% or so of the housing market. And that threatens the economy as a whole. If the problem wasn't contained, it could get very ugly indeed -- the last thing anyone needs is panic in any market.
But the distribution of information helps discount the news, and reprice the risk.
It is a very interesting time.
The current value of a home is all the lender has as collateral, and extracting that value through foreclosure and resale carries costs that will significantly reduce the amount the lender actually collects. ...Excellent analysis. The bottom line is that lenders can share ownership of overvalued loans with the consumer or can own the overvalued real estate outright. A simple business decision to share the risk. No government involvement other than providing the table to talk at.
All borrowers knew what they were getting into - how could they not know with the various disclosures they were required to sign.And lenders didn't know they were making bad loans as well? The homeowners are going to have to suffer a capital loss as their over valued real estate deflates. The lenders are going to have to suffer the loss of their future rate increases on what were bad loans anyway. They're both guilty of serious misjudgment. If anything the lenders are more responsible since they have the analysis to show how bad these loans really were. Joe homeowner was depending on the lenders guidelines.
This solution is a lot better for the banks than owning overvalued real estate outright after foreclosure. They will take a loss as they should on bad loans. The question is how big and can they share it with the borrower. The lender and the borrower can help bail each other out.
Yes. Socialism is the Paulson/Bair plan with continual bailout and no accountability for banking institutions.Where exactly is the government money flowing in this case. It looks like all they did was convince the lenders to take their well earned medicine gracefully.
I agree that government bailouts usually let corporations escape accountability. But I don't think the government is bailing anybody out here.
This type of thing rewards spending, borrowing, and not planning and critically reading the contract.Why would lenders make such ill-advised loans? A lot of guilt to go around here.
It’s paid for by those who take responsibility for their actions.The criminal stupidity of the lenders is paid for by those who take responsibility for their actions. They shouldn't lend their money out when they'e not likely to get it back.
disagree.
it’s election year, next and something must be done.
on the one hand the u.s. congress pushed the banks to make loans to minorities.
on the other, some of the banks were ... greedy.
a friend of mine works in escrow. she says she had clients
that did not understand their bank loans.
she would attempt to explain the escalator clauses and they
still didn’t understand.
what can you say?
Worth a read...excerpt from http://wallstreetexaminer.com/blogs/cutting/?p=97 ...”If the credit market stress is revealing a clue, it’s that Hank Paulson and Sheila Bair have no clue.
If you force investors and lenders to accept less, are you not in fact forcing them to devalue their debt asset? In doing so, are you not in fact devaluing a good chunk of their assets immediately? Apparently, this might be enough to upset some mortgage note investors:
Mortgage-industry lobbyists have argued an across-the-board solution is difficult to apply. Rewriting contracts also risks moral hazard — encouraging borrowers to take on more debt in the expectation of being bailed out if needed later.
“It is really an indiscriminate procedure that would violate the terms of the contract that provide for loan-by-loan decision making,” George Miller, executive director of the American Securitization Forum, said in an interview this month. A broad approach would “significantly disrupt the reasonable expectation of investors” in the $7.1 trillion market for bonds backed by mortgages.”
Was augmented by discriminatory lending prohibitions
That was foisted on them by Congress
That equated reasoned lending criteria as "racial preference".
The "criminal stupidity" of the lenders Was augmented by discriminatory lending prohibitions That was foisted on them by Congress That equated reasoned lending criteria as "racial preference".OK, let me hear more about this. I'm not sure I see the racial angle.
People can put their capital anywhere they want to. If the mortgage market doesn't have a reasonable risk/reward ratio investors are free to take their capital to some other market. It's the investor's choice. If the government has damaged a market with burdensome regulation then there are a lot of other markets out there. Both domestic and international.
I just don't see this as anything more than criminal stupidity on the part of investors (much like the .com bubble) and mere stupidity on the part of borrowers. They are both in the same puddle of mud. They need to bail each other out. It sounds like this agreement does that without government money flowing. Capitalism at its best.
Whether this agreement is fair to those who didn't take out or make risky loans is another question. I doubt fairness took up very much time in their discussions.
Ultimately, this is not solely about interest rates, but about the value of the underlying asset being lower than the mortgage.
The government does a subprime borrower no favor by deferring the financial reckoning - rather they shackle an overvalued asset to someone who cannot afford it, rather than letting them shed their mistake through foreclosure, and the ability to go forward a little bit wiser.
Under the expressed scenario, they could potentially defer the inevitable foreclosure by 7 years, when an unwise borrower could have completely recovered and be living in(even owning) another, more affordable house and marching towards completely repairing the financial errors they made during the housing “boom”.
This is a horrible idea for a myriad of reasons.
Hey, wait a minute—is it too late for me to take out a loan I can’t afford?
How do you feel when the Fed raises interest rates in order to suck the life out of the economy?
The government does a subprime borrower no favor by deferring the financial reckoningI just don't see where the government is imposing this solution on anyone. They aren't legally freezing any interest rates. All they did was provide the lenders a table to discover their self interest. Maybe a little therapy to help them get over how stupid they were in buying into this market in the first place.
The government does a subprime borrower no favor by deferring the financial reckoning - rather they shackle an overvalued asset to someone who cannot afford it, rather than letting them shed their mistake through foreclosure, and the ability to go forward a little bit wiser.I don't think this is so much about the borrower as the lender. It may be (probably is?) a major mistake for the borrower depending on what happens. How long will the subprime crisis last and how far will real estate prices slide? The lenders aren't making this offer out of charity. If the price slide continues the lenders may have to sweeten the pot to keep borrowers on board with them. Self interest rules in markets.
“a liquidity squeeze will drive rates up. “
the overnite fed rate is very low - and banks are eager to lend money and refinance.
I wonder if this is a scam to beat China et al who is holding our paper. (which is fine by me)
This is going to end in disaster. Anyone who doesn’t qualify for the freeze but can “afford” the reset will just walk away from their homes.
Not to mention, this will absolutely kill the credit markets and drop the housing market for a ten-count. There’s no credit market if the gov’t can kill the spread at will. If there’s no credit market - guess what - you’ve got a recession at BEST.
The mood on the street regarding this plan is ugly at best. If it goes through, the GOP will be voted out in a landslide, mark my words. I have encountered outright, vociferous anger from very unexpected sources on this plan. If there’s one thing that people work hard for and sacrifice for, it’s their home. Letting the sub-prime and speculators skate while the majority of people who did the right thing get screwed is going to start a firestorm. The public is starting to see through this and it’s going to get a lot uglier and quickly.
Maybe Countrywide can squeeze one more loan in before their bankruptcy.
Read the current issue of “The Economist.” One lone academic trashed the Paulson plan.
http://www.economist.com/finance/displaystory.cfm?story_id=10223613
This guy at Arizona State University is an ex-Wall Street MBS head and knows the market. Plus, I read him trashing Hillary Clinton and the Democrats as trying to reinvest the Soviet Union on U.S. shores. I’ll bet that other faculty really like him! Not!
As I mentioned above, they are whipping up a fecal storm as we speak. Every hard-working household paying a traditional mortgage is going to revolt over this. This is like getting taxed to pay off the gambling debts of everyone in Vegas. This will end very VERY badly for everyone, I cannot stress that enough.
If you punish the investors by depriving them of the coupon they were promised, then you dry up your only source of future credit liquidity. No cash, no loans. No loans? Buh-bye!
How dumb can Bush be? I’m thinking Erin’s characterization of George as a lower primate was overly generous.
Either you pay the rate, or you throw the frickin keys.
Don’t punish me, and millions like me, that stayed within our means, didn’t try to get rich quick.
Hah. FDIC is crapping a brick? Why's that I wonder? Because they'll be on the hook for all of the coming bank failures, perhaps? This is the most disturbing thing I've read in a long time. Thanks for the link.
“I don’t think this is so much about the borrower as the lender. “
You are, of course, correct. It has to be sold to America as something “saving” borrowers though.
That is a bad sign.
Fed trapped...lowering rates only lowers dollar and purchasing power...middle class caught either way...Fed leaning in favor of banks, dollar tanking.
This is going to end in disaster.I think that's a given either way. People will be losing money, lots of it, on both sides.
There’s no credit market if the gov’t can kill the spread at will.Once again, how is the government killing anything? They are putting no money into this solution and imposing no new regulations on the market. They aren't freezing any interest rates.
Letting the sub-prime and speculators skate while the majority of people who did the right thing get screwed is going to start a firestorm. The public is starting to see through this and it’s going to get a lot uglier and quickly.I agree with everything you just said. I doubt this plan is even the final offer. This may have been caused by the subprime lenders and their clients but everybody is going to pay.
Once again, I don't think fairness and morality took up much time in their discussions. Self interest took the day. That's capitalism. They really don't want to outright own all that overpriced real estate that they invested in. Buy some Countrywide stock and go to the shareholder meeting if you want to talk about the morality of it all.
If not something like this plan then what?
In recent news: "The state attorney general refused to prosecute the fraud claims because it seems that all the victims seem to be willing participants in the fraud."
yitbos
As I mentioned above, they are whipping up a fecal storm as we speak. Every hard-working household paying a traditional mortgage is going to revolt over this.What will they do? Leave their homes and live in tents? Tar and feather the guilty parties? (Now that's a satisfying idea.)
If you punish the investors by depriving them of the coupon they were promised, then you dry up your only source of future credit liquidity. No cash, no loans. No loans? Buh-bye!Markets do that all the time. I wouldn't invest in mortgages right now.
The whole country suffered through the Great Depression for the sins of a few on Wall Street. It's not fair, but it happens.
Really - markets break covenants all the time en masse? If the bond covenant can arbitrarily get wiped away by a third party, then the investor will either demand much higher rates of return the next time, or not invest at all. Losing the coupon is maximum risk to the investor, short of total default.
What will they do? Leave their homes and live in tents? Tar and feather the guilty parties?
I know it sounds far-fetched, but the gov't is only proving that if a large enough group of people default, they will be accomodated. In the words of J Paul Getty: "If you owe the bank $100 that's your problem. If you owe the bank $100 million, that's the bank's problem." Why should anyone pay their mortgage going forward if the consequences of failing to are null and void? The point is, if a subprime mortgage isn't enforceable, neither is mine or anyone else's. That's an unintended consequence of this kind of gov't interference. I'm not predicting an all out revolt, but this will simply not be tolerated by the silent majority. There's a lot of anger out there over this.
I wouldn't invest in mortgages right now.
After this, no one will. The real estate market will get asphyxiated.
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