30 Years of US Mortgage Finance through Q2 2010

Scale and magnitude have defined this housing crisis

This chart tells the story of US residential mortgage finance over the last 30 years. On the right Y-axis, I have charted delinquency and foreclosure rates, and on the left Y-axis, I have charted the homeownership rate and % of owner-occupied homes mortgaged. My last version of this blog (Feb 18) was significant because we broke the all time high in ‘All Loans Past Due’ category and I had to re-scale the right Y-axis to above 10%. Netting out the 5.9 million foreclosures started over the last 3 years, that means that 1/10 houses were still delinquent on their mortgage – a frightful number considering that the previous 10 years only saw 5.5 million foreclosures.

The housing markets are poised for a recovery

I have maintained that housing lead us into this crisis and it will lead us out. All delinquency categories declined for the first time in the Mortgage Bankers Association’s National Delinquency Survey (Q1 ’10). In particular, the ‘All Loans Past Due’ declined from 10.44% to 9.38%. Consumer self-cure behavior is also showing signs of improvement. The 30 day delinquent category declined from 3.63% to 3.07% - these levels were last touched in late 2006/early 2007, the very beginning of the housing recession. According to the LPS Mortgage Metrics Report, the volume of loans curing to current hit an all time high in March 2010 (almost 700,000).

Little darling

It’s been a long, cold, lonely winter

Little darling

It feels like years since it’s been here

Here comes the sun

Here comes the sun, and I say, It’s alright

After shocks remain

It’s hard to say we’ve completely turned the corner. Lack of Euro-coordination could derail the credit markets and contagion could inflict damage on banks and US companies with exposure to Europe. Also, a strong dollar doesn’t do our exports any favors. But housing is starting to look like the “next worst place” to put money. Inflation is tame; new home building posted some gains in April; stocks have corrected somewhat; Redwood Trust created the first private label jumbo securitization in more than 2 years; rumors are that PennyMac will bring another issuance in Q2 ‘10. The last remaining behemoth the government needs to solve is Fannie/Freddie.

Future of the GSEs (or just Freddie Mac)

In February, Geithner suggested that Treasury is waiting until 2011. It’s possible that a series of private label securitizations could reduce reliance of government intervention. Further, Freddie Mac’s recent $8 billion loss was not really a tangible loss; rather, it was the mostly the result of an accounting change (FAS 166/167). They had to consolidate all VIEs/QSPEs onto their balance sheet (even ones where they are only guaranteeing the credit risk, and don’t ‘hold the paper’) – this meant recognizing at ‘fair value’ all ‘other-than-temporary’ impairments. Of the $2 trillion that Freddie Mac owns or guarantees, $1.4 trillion is owned by third parties. An $8 billion loss is less than a .4% impairment. Was the ‘loss’ material? Yes, but they only needed to recognize these assets and the impairments once. Further, the GSEs have complied (for the most part) with HARP/HAMP/HAFA. These programs mean material changes to the value of loans and securities. Do we really believe that loan terms could be changed en masse and investors holding those loans or securities wouldn’t feel some impairment? That’s why it’s not surprising that the investor backing nearly 20% of US resi mortgage debt would feel a little pain. [Note: Citi, BofA, JP Morgan, & Wells had to consolidate about $450 billion of loans/securities for the same reason].

In closing, I think we might be in for a very interesting recovery if housing bucks any notions of a double-dip scenario. It’s been a long, cold, lonely winter. Here comes the sun. 

HAFA Market Opportunity & Impact

Home Affordable Foreclosure Alternatives ("HAFA") is scheduled to start April 5, 2010. What exactly is the size of this program? By using some publicly available data, I have constructed the HAFA waterfall of eligible homeowners.

1. 7.5 MM borrowers that are 60+ days delinquent or in some stage of foreclosure (LPS Mortgage Monitor Report, Feb '10)
2. 2.0 MM are the foreclosure "inventory" (MBA Q4 '09 National Delinquency Survey)
3. 1.0 MM Non-HAMP Mods (OCC Mortgage Metrics Report, assumes Q4 '09 = Q3 '09)
4. 830k HAMP Trial Mods (Making Home Affordable Jan '10 report)
5. 116k HAMP Permanent Mods (Making Home Affordable Jan '10 report)
6. 754k Remaining HAMP eligible Mods (1.7 MM HAMP eligible minus HAMP Trial minus Mods minus HAMP Permanents Mods)
7. What is left is the HAFA eligible, or about 2.8 MM

30 Years of Mortgage Finance

This chart tells the story of US residential mortgage finance over the last 30 years. On the right Y-axis, I have charted delinquency and foreclosure rates, and on the left Y-axis, I have charted the homeownership rate and % of owner occupied homes mortgaged. I have been tracking this chart for more than a year now and with the latest Mortgage Bankers Association National Delinquency Survey, I had to adjust the right Y-axis. I knew it was coming, because the growth rate of the ‘All Loans Past Due %’ has been slowing, but still growing nonetheless and approaching the 10% mark with the Q3 '09 figure. In the survey released last week, this category of loans rose a full half-percent (from 9.94% to 10.44%). I adjusted the scale of the right Y-axis from a max of 10% to a max of 12%. Forever, any historical chart of delinquency rates will have to be based with an upper bound greater than 10% - quite a poignant reminder of the magnitude that our country faces.

Little boxes on the hillside, Little boxes made of ticky tacky,
Little boxes on the hillside, Little boxes all the same.
There's a green one and a pink one And a blue one and a yellow one,
And they're all made out of ticky tacky And they all look just the same.

And the people in the houses, All went to the university,
Where they were put in boxes, And they came out all the same,
And there's doctors and lawyers, And business executives,
And they're all made out of ticky tacky, And they all look just the same.

My girlfriend and I started watching the Showtime series “Weeds” early last fall. The intro song reflects the monotony of SoCal suburbia and urban sprawl. The show depicts the millions of SoCal residents who live in similar communities as living sterile and impersonal lives. Perhaps the show could take on a new meaning? Weeds proliferate in the absence of horticultural grooming. With the widespread blight of foreclosed houses, many of these communities now look like ghost-towns (Lake Elsinore, or communities once-advertised as “convenient to Palm Springs!”). One imagines what sorts of human interest stories have developed in the midst of now vacant tracts. But one day, normalcy will return after this dark economic chapter. Many former homeowners with damaged credit will re-invent themselves and restore their credit, and along with millions of new first time homebuyers, the “shadow inventory” will get absorbed. The above chart will return to normalcy, and the current period will be a painful chapter in the history of modern US residential mortgage finance. But for many Americans this is much more painful than simply re-scaling the right Y-axis.

target demographic, scope, & purpose of my blog

My friend Damon D’Amore suggested I define my demographic, which prompted me to define the target demographic, scope, and purpose of my blog.

The “reader”

In a perfect world, you are Michael Barr (US Assistant Treasury Secretary), Timothy Geithner (current US Treasury Secretary), Hank Paulson (former US Treasury Secretary), or a decision-maker in the realm of policy. Most likely, you are like me, someone who knows a little about policy, economics, and finance of the US housing market. Because the US housing market is the largest non-governmental debt capital market in the world, you might also be in the financial services industry. Or you might be a homeowner, realtor, non-profit housing counselor, or policy-wonk in the realm of US housing policy (HUD, FHFA, GSE, US Treasury).

The global housing market

The majority of my content will be about the US housing market; however, I believe the scope of my blog will encompass the global housing market. The US housing market is in some ways the testing ground, upon which the BRIC (Brazil, Russia, India, China) countries will develop their housing markets. In the past 80 years, our financial system has withstood many macro-economic shocks to the US housing market (Home Owners Loan Corporation, RTC, subprime mortgage-fueled housing bubble). The founders of the US banking system leaned on the lessons of England and France, because the banking systems were centuries old, and had withstood previous shocks; and so I expect that the BRIC countries will look to covered bonds (and other structured finance products) as a source of capital to create robust lending markets during the next 10 years. Hopefully, they will design their structured finance products with more subordination and better (note, NOT more) regulatory oversight. So, the scope of my blog will encompass international themes; but, the content will be limited to the US housing market.

Housing hierarchy & Policy

A house, more than any other financial instrument, fulfills the needs articulated in Maslow’s hierarchy. In this way, individual homeowners make decisions that are both rational (such as strategically defaulting) and irrational (paying credit card debt before a mortgage payment). But few of us live in a vacuum. Decisions we make individually impose externalities on everyone. Think of a house like a business, and it’s easy to comprehend the difference between a shareholder and a stakeholder. Jeffrey Hollender (CEO/Founder of 7th Generation) and other social entrepreneurs like Jonathan Greenblatt (Founder of Ethos Water) have helped to articulate the “stake” that governments, consumers, and the public at-large have in the actions of businesses.

More than 50% of Americans now reside in urban areas. In China, there is a flight to the urban areas that is likely to continue. Land use, urban planning, transportation, and smart-grid energy efficiency are examples of factors that shape our behavior as house consumers. One could make an argument that the most significant problems America faces are because of inadequate land use and urban planning since WWII, commonly known as urban sprawl. Some detrimental externalities include:

1) increased need for cars, which exposes the US to foreign energy dependence
2) increased maintenance costs of the aging highway system (rural states spend 2-3 times per capita as much as heavily populated states on highways)
3) over-reliance on a single mode of transportation (cars) causing ubiquitous traffic congestion
4) under-reliance on diversified transportation modes that are more healthy and energy efficient (walking, biking, transit, carpooling, etc)
5) excessive consumption of durable goods based on cheap space
6) increasing social isolation especially in the elderly populations
7) increasing commute times as high-paying jobs move to population centers while people move out to suburbs
8) hollowing out of formerly-economically vibrant central business districts
9) far-reaching environmental impacts beyond population centers

The above externalities are realities that cannot be shouldered by homeowners alone. This “shared experience” influences healthcare premiums and affects the quality of life. Urban planning is now a department of most municipalities, and the discipline has advanced as an academic discipline. So while we are working to resolve the problems associated with post-WWII urban sprawl, we are undoubtedly spawning problems that future generations will be forced to resolve.
The house fulfills the needs in Maslow’s hierarchy for the individual, but as we see, the aggregation of the 130 million housing units in America poses difficult policy questions as well. At some point, I would like to enhance this discussion, and consider the policy surrounding the asset and wealth creation cycle of the home, both for the individual, and for the fabric of American society. But my purpose for today was to touch on the greater policy ramifications, as they relate to the individual motivations surrounding homeownership, which surpasses the wealth cycle.

Thanks for reading. I welcome critical feedback, robust thoughts, and vigorous challenges. Later this week, I plan to post my analysis on the Second Lien Modification Program, also known as “2MP”.

5 important updates to MHA Borrower Income Verification

Both in the course of my volunteering with Los Angeles Neighborhood Housing Services and in my capacity as VP of AssetPlanUSA, a premier foreclosure alternatives service provider, I see struggling homeowners who are facing financial hardship and earnestly trying to negotiate the “system.” Below I have highlighted the 5 most important updates to the “Borrower Income/Asset Documentation and Verification of Eligibility” from Making Home Affordable Supplemental Directive 10-01 (effective date January 28th, 2010). It is important to note that this guidance supersedes the ‘Borrower Income/Asset Documentation and Verification’ section in Supplemental Directive 09-07 and applies both to the evaluation of borrowers currently in active trial period plans as well as to evaluation of borrowers being evaluated for verified income trial period plans. Later this week, I will post my thoughts about the Second Lien Program (“2MP”).

1) When evaluating a borrower’s eligibility for HAMP, servicers should use good business judgment consistent with the judgment employed when modifying mortgage loans held in their own portfolio [page 4].

Commentary: Several recent Treasury supplemental directives use the phrase “good business judgment.” In some ways, Treasury is giving the servicers enough rope to hang themselves with.

2) Copies of two recent pay stubs, not more than 90 days old at time of submission, indicating year-to-date earnings. Servicers may accept pay stubs that are not consecutive… Servicers may use year-to-date earnings to determine the average periodic income [page 4].

Commentary: This is a helpful update. In the course of my volunteering with Los Angeles Neighborhood Housing Services, I know that many occupations have been cut back to accommodate “flex demand” (see recent WSJ article on manufacturing “bull-whip”). So many pay stubs are not equal, but can demonstrate the ability to pay if the year-to-date earnings are taken into account.

3) Self-employment income. The most recent quarterly or year-to-date profit and loss statement for each self-employed borrower. Audited financial statements are not required [page 5].

Commentary: The clause “Audited financial statements are not required” is helpful guidance, but Treasury could perhaps add the phrase “the borrower does not need to use tax records to validate profit and loss statements.” Many struggling homeowners are starting part time service-based small businesses. Innovation is the by-product of economic malaise. The result is that previous years’ tax statements will not show this income, because in many cases, these enterprises are newly formed.

4) 20% Threshold for Passive and Non-Wage Income… does not have to be documented if the borrower declares such income and it constitutes less than 20% of the borrower’s total income [page
6].

Commentary: Again, for the reasons mentioned above, many homeowners have become entrepreneurs, in order to remain willing mortgage-paying HAMP participants. Perhaps there could be a clause added that year-end tax returns should verify some sources of extra income. However, I believe that passive income below a certain amount is not required to be reported. I am NOT a tax professional, and borrowers should speak with a tax professional with regards to their own situation. My comment here is for the sake of considering improved policy, during the next wave of revisions.

5) Unemployment Benefits… The unemployment income must continue for at least nine months from the date of the application [page 5].

Commentary: Having collected unemployment for 3 months after my active duty military commitment, I know a little about the unemployment benefit process. My period of eligibility was NOT nine months, and the purpose of unemployment benefits was to be a bridge to employment. In general, the language or intent of the unemployment system is not meant to ensure continued income for nine months.