I wrote a post about the loss of jobs due to the subprime collapse and was pleased to see it featured. I had written about this problem a few weeks before the mainstream press picked up on it because I have contacts at both securities firms (from a former life) and sub-prime lenders (from my existing life).
Some good comments followed along with a request from my buddy Carole Cohen about WHO was really going to LOSE from the collapse of the subprime mortgage market. Laurie Manny and I discussed this tonight and she convinced me to go public with my theory.
Let me tell you a story about how the subprime mortgage market collapsed and millions of baby boomers had to accept less money in retirement. If you liked the Da Vinci Code, you’re gonna love this one. It’s not wrapped up in sex, or murder, or corruption, just good-old fashioned “pass the buck” and “what the little guy doesn’t know won’t hurt him” attitudes.
WARNING: If you are prone to believe conspiracy theories, you are going to curse, kick the cat, and be extremely pissed off after you finish reading this.
Here is the dirty little secret of the mortgage securitization boom of the last 5-10 years:
CLICK HERE FOR THE SECRET (opens in a new window)
You'll get a good history lesson and hopefully a little laugh.
You know I was going to post a bunch of stuff to disagree with the theory, since I went to the trouble of cutting and pasting the above graphic I will leave it. Instead of attacking the theory (which is like most real estate theories I hear nowadays from agents and brokers saying how people will be hurt, but they won't be this theory is just more of the same and not based on any discerneble facts) I will just offer up the following question.
After everyone notice that a certain portion of bonds took out 5% of their portfolio, how many people, fund managers, bank executives, governments, asian investors, etc are going to be willing to do it AGAIN?
THAT is the exact question we are facing now, people are removing THEIR funds from THAT market drying up new capital inflows. It essentially doesn't matter that much who is holding the bag (unless of course the risk is concentrated in one area), it only matters that the inflow of funds is SHRINKING causing a liquidity crisis.
Less funds means that the funds that are there are going from the prime borrowers on down and so subprime is last in line because nobody wants want are essentially junk bonds at such LOW interest rates. The secondary market is (slowly) finding out that the appropriate price of risk for such bonds is too high to make the actual end product feasible it.
Mikey, subprime loans aren't packaged as agency issues. They are whole loans securitized as CMOs without an agency backing. They are sometimes considered more along the lines of corporate bonds (like your junk analogy) Okay, smack-down is done.
More importantly, your comment in bold highlights the REAL problem. Sorry to adopt the cynic approach but I offer you:
PT Barnum (or Joe Bessemer)
The same people always lose.. those who don't have deep pockets. Laurie Manny is in Long Beach and N. Long Beach has long been an area that is hit hard with foreclosures when the market turns. You are right it really makes me furious that the government turns a blind eye to this type of manipulation. They never go after these guys.. they just take campaign contributions from them while expecting us to pay.. and of course we do..
Markets are efficient (eventually).
For your "sucker born every minute" theory to be true, that would mean that people would buy these underpriced securities forever out of sheer stupidity/ignorance.
The market is already contracting in spite of the loosest standards in history the theory falls apart at both ends, the ability of the borrowers to take on the loans and the willingness of the investors to purchase the ever junkier loans. The investors woke up and realized what they were really buying, the spotlight is on and the microscope is out.
Your statement is pretty bold considering todays market, but who knows, things can change on a dime, we shall see what happens in the future.
the subprime market was due for an issue no matter what the conspiracy.. it was just too easy to get things through.
I'm particularly interested in the Apaper backlash as well...
and the way the A Lenders are now looking harder at how they can cherry pick off some of the loans for neighborhood advantage and such that are for people that deserve the credit and would have been stuck in a bad loan at any other point.
Brian .... Veering is a slightly different direction for a moment. Several lenders have told me: Effective immediately "No More 100% Financing".
It seems to me that 100% financing fueled the boom even more than low interest rates.
We saw plenty of folks around here buying $550,000 priced properties (a fairly average price in these parts) with no money down. A 5% down payment on $550,000 would be $27,500 ... and I doubt if most of these folks had $2,000 in savings, let alone $27,500.
It's gonna be a whole new ball game.
Now that is a good point, Matthew.
There are tons of originators in California who got into the business these past 3-4 years and have built it on high LTV subprime and neg-am loans. I think both of those products will be dramatically different in 12 months.
I think you are right about credit repair and hard money. Add "experienced" A paper originators to that list because those guys know how to get tough deals done.
Matthew- If you have some time on your hands you can read the 67 page Credite Suisse report on how they think the credit tightening will affect homebuilders (Ivy is an equities analyst) in the next 2 years. Ivy Zelman has been right on everything but timing. The report uses knowledge from both the public and private builders, LoanPerformance, and the in house Credit Suisse ABS/MBS staff.
Subprime is hurting, "Alt-A" is a huge part of the market (81% says she) and stated income is a big part of that market. Stated wage earner now has an add-on for increased pricing on most rate sheets, I predict, at the very least, this add-on will increase to a much higher price. Add in more verification to weed out the fraud and cut appraisals, it means Wall Street is closing the loop holes. But catching the fraud of inflated income will have the same effect of eliminating the program (imho)..
Brian, Great post, I'm with you about PT Barnum and a sucker born every minute (my father quoted him every-time I wanted to buy something as a kid)
I think investors have short memories and I think many on wall street are too young to have any memories.
Markets are efficient - they always correct themselves risk is built into the price.
Brian,
Thanks for the post. What an eye opener. I guess in the game of the Titans, losers can always expect to be devastated.
Brian,
I just finished posting about your fiduciary remark (A Realtor's Guide to YSP (Yield Spread Premium) but ended up on this subject. Part of what I wrote:
"The stage may already be set for mortgage lenders to have their responsibility tested in court with politicians seeking votes from home owners and more importantly former home owners blaming them for rising payments and their defaults. No less than the NAR is covering their broad and vulnerable back side by pointing the finger at mortgage brokers!"
(Fiduciary, Responsibility, Mortgage Brokers, and Evil )
Our readers have to understand if we laugh it's only to maintain our sanity in the face of so much insanity.
Bill
Great article, Brian. I missed it first imte 'round - thanks for adding it to your review, maggie.
Just saw an interesting article in Inman News this morning on the subject by Scott Thompson.
Jeff
Brian,
This was a great post. Congratulations on winning the Carnival of Real Estate Investing. I loved this comment "Quite frankly, it's not fair to "judge" entries when Brian is submitting because he is in a league of his own."
This is a big topic and my knowledge is limited, but I do think however the implications of this go far beyond the 38$ for a 57K retirement account. The multiplier effect of money rapidly tightening up in this economy could have a profound impact on this country's prosperity. In addition much of these investments are in the hands of foreign investors and government's, the impact a large number of bad loans could have on the value of the dollar, and trade will reach much further into the economy.
I'm curious to hear more about what others might say on this.
Brian....
Good job. Great explanation.... I tried to explain this to a reporter at Bloomberg today.... I think I should have given him YOUR number. LOL
Brian - This is a great post and really one that should be read by all the bozo's who are trying to fix the mortgage mess through legislation. The same government that allowed the situation to grow and become a problem seems to want to control the problem by enacting more of the same legislation. Comments above on the market straightening the situation out are likely correct - think how much more quickly that might happen without legislative assistance.
I also have to agree with Matt's point that we are talking less than 20% of the market, however the whole market seems to be having an ugly reaction. The tail is definitely wagging this dog, but some of the changes I'm seeing I feel will e for the better. I include the virtual disappearance of 100% loans below a 660 score in that.
Kaye - I agree with you about the government's idea of prosecution. They seem to only want the huge fish, but they seldom look at the cumulative effect the small fish have had on the lending eco-system. This kill off the sharks but don't worry about the pirhanna's (yeah they don't live in the same waters) attitude they have sickens me when I think of how many people who trusted the mortgage system to get houses are now getting hurt.
Cynthia - If they make the movie I want to play Brian - I'll finally be able to sound intelligent and succinct at the same time
Very good post... this post was very informative
Great Post.
Thank you very much for sharing, that was good information!
Simplistic explanation - but it doesn't sell newspapers. Making it sound like the sky is falling is much more exciting and creates more sizzle.
The funniest part is that when the news ramps up its "gloom and doom" predictions, the money people who are fueling the markets react negatively when they should know better. However, moving the market a couple of ticks one way or the other translates to BIG money for them.
If only the average consumer was more educated about the whole process. I could make for a much different story in the end.
I've had the impressions for about the past eight years that mortgage shoppers like car shoppers want to hear what they want to hear irrespective of what the truth is. It has come as no surprise that we are faced with a credit crisis. There to my knowledge were many mortgage shops set up just to exploit the homeowners with language they wanted to hear, irrespective of what the truth was. At the same time a very loose credit market with no controls and it is just a matter of time before cows would have to come home to roost.
P.T. Barnum said it best “There is a sucker born every second”. Our current market conditions reflect such thinking so vividly. It is part of that Free Lunch mentality.