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Saturday, February 03, 2007

We All Have Obsessions

First, some humor:
Dr. Phil was conducting a group therapy session with four young mothers and their small children.
"You all have obsessions," he observed.
To the first mother, he said, "You are obsessed with eating. You've even named your daughter Candy."
He turned to the second mom. "Your obsession is with money. Again, it manifests itself in your child's name, Penny."
He turns to the third mom. "Your obsession is alcohol. This, too, manifests itself in your child's name, Brandy."
At this point, the fourth mother gets up, takes her little boy by the hand and whispers, "Come on Dick, we're leaving."
Now, on to my obsession.... From Broker's Universe:
Just received the new guideline changes to CW and it is leaning toward Countrywide getting out of Subprime Biz.
Anything that is over 90% is almost impossible to do Stated or Full Doc ,and for the lower score borrower they are now asking for tradeline requirments that are almost impossible to get. I know that they had huge losses on the high LTV's and with Broker/Borrower fraud.
The decline in the housing market last year was caused by specuvestors getting out. The decline this year will be because of tighter lending qualifications, which will put a constraint on the pool of available first-time homebuyers, therefore dropping demand. This will affect areas in which home prices are extremely high in comparison to median incomes. In order to offset this, further price declines will be necessary.

Those lenders who continue to serve the extremely high LTV (loan to value ratio) and subprime market will have to charge much higher interest rates, which will cut down the number of these loans. The spread between the rates offered to those seeking more traditional amortizing mortgages and those seeking the more risky financing that has come into vogue in recent years has widened and will continue to widen somewhat for months to come.

Right now we are in a slight intermediate pause. Prices have dropped enough in many areas to make housing more affordable to many borrowers with good credit, steady jobs and savings for a reasonable downpayment. With interest rates still being low, life and homebuying is good for these people.

Another result will be that many people who bought using loans that had high resets will not be able to refi out of them, causing higher levels of default in these areas. However, there is some good news. Areas with good jobs and better affordability do look to be steady at the moment, although appreciation will be somewhat constrained across the country.

Whatever you do, you don't want to be invested in the sloppy seconds of the mortgage debacle. People will be selling second and third lien notes cheap, but there is a reason for that. Avoid these investments like a plague. Avoid them in bonds, mutual funds, banks, and in any other form, including company holders. Experts will get the good stuff, and you will end up holding the bag.

Hi Mama!

Glad you're back! What does that mean--to not buy second and third liens?

Do you think the rental market will shift upward as first time buyers are priced out and/or can't get financing?
Right now we are in a slight intermediate pause.


(That is almost word for word what I heard from the sales office of those $400k+, zero-bedroom, two-bath "loft condos" now being built in Downtown Anaheim. It is appropriate that one of the housing bubble blogs is now named Housing Armageddon.)

The Headless Unicorn Guy
Dr. M:
I realized that second and thirds were being marketed to investors. On default, a first lien gets all the equity in the property, and whatever is left over will be used to pay subsequent liens. People will be moving this junk desperately, and on paper it looks good because of the discount. But it's a terrible deal in this market.

Consider the average 80/20 where the borrower now has to do a short sale, which will cost at least 6% in commissions (which have to be paid). If the borrower is under water by 5-10%, what's left of that 20% second lien is likely to be no more than 5%. Standard offers are running around 10% to the second lien holder (loss of 90% of unpaid principal) in some areas of the country, especially the former "hot" areas.

So the current lienholder will be happy to sell that second lien at a 40% discount, and on paper it would look like the buyer is getting a huge return. But in fact, you are likely to lose principal rather than getting any return off the investment.
Headless - I looked at the current purchase money index for mortgage apps and the pending sales index. I would not say that we are setting up for a strong spring at all.

Of course, no one in the industry is going to tell a prospective purchaser that.
Rental market - No. Be very careful. We have a record vacancy rate nationally, and the hot areas are where there are the most vacancies. Because of all the investor purchases, the most common pattern in the year to come will be for rental rates to stagnate. I realize that this is contrary to conventional wisdom, but we are in an era which defies conventional wisdom. When you have high vacancies you have lower rental incomes.

Especially in Texas, the hot areas are still seeing strong investor participation, which translates to more rentals, which has pushed rental incomes down for longterm real estate investors.

Thanks for the insight. When we were in Florida, they were selling condos listed for 1.5 million for around $800,000. Do you still believe the market will dip below that? There was building everywhere.
Dr. M, the losses will go area by area, and in some cases block by block. We haven't reached bottom yet in many FL areas, that much is for certain.

I think you will find if you look into it that those 1.5 mill condos never were really selling at that price. They may have been listed, but they weren't selling at that price except for builder leasebacks. Builders do that to set an appraisal price. They complete some units, have them decorated, sell them to investors at a high price but guarantee the investor a very high monthly rent for a year or 18 months. It's a bogus value. In CA some of those units are now selling at a 40% discount, and some haven't sold at all in auctions.

I would be extremely wary of buying almost any FL condo right now. With the massive oversupply and high vacancies, fees will grow astronomically, especially considering the high insurance rates.
Dr Melissa:

Where I am (SoCal, behind the Orange Curtain), I'm expecting at least a 50% drop in prices.

1) That was the pattern in the last RE crash, 10-15 years ago. I lost $30 grand in that one, and the pattern is the same then and now.

2) Rule-of-thumb from checking the price graphs at Zillow.com. They show a steady rise until two years ago, then a sudden doubling between then and now. From that, I estimate prices are twice what they would be if the original pattern had held.

3) The Real Estate pimps are starting to resemble Televangelists, and their Faith in Real Estate Always Goes Up resembling that of Young Earth Creationists, both in physical evidence and intensity of righteousness.

The Headless Unicorn Guy
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