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Next Wave Of Mortgage Defaults Coming

Think the U.S. housing crisis is nearing an end? Think again, says Vikas Bajaj of the Paris-based International Herald Tribune. Bajaj wrote yesterday:

The first wave of Americans to default on their home mortgages appears to be cresting, but a second, far larger one is building with alarming speed.

After two years of upward spiraling defaults, the problems with mortgages made to people with weak, or subprime, credit are showing the first, tentative signs of leveling off.

But with the U.S. economy struggling, homeowners with better credit are now falling behind on their payments in growing numbers. The percentage of mortgages in arrears in the category of loans one rung above subprime, so-called alternative-A, or alt-A, mortgages, quadrupled to 12 percent in April from a year earlier. Delinquencies among prime loans, which account for most of the $12 trillion market, doubled to 2.7 percent in that time.

So, when should we expect this new tsunami of mortgage defaults to arrive? Bajaj wrote:

While it is difficult to draw precise parallels among various segments of the mortgage market, the arc of the crisis in subprime loans suggests that the problems in the broader market may not peak for another year or two, analysts said…

Bajaj said that prime and alt-A borrowers typically have a 5 to 7-year grace period before having to start making payments toward their principal. By contrast, subprime loan borrowers had a 2 to 3-year introductory period. David Watts, an analyst with CreditSights, told the Tribune that regarding alt-A mortgages:

More delinquencies look like they are on the horizon because so few of them have reset.

Delinquencies in prime and alt-A loans are worrisome for financial institutions because they have more of these types of loans on their books than they do subprime mortgages. Bajaj noted:

During a conference call with analysts last month, James Dimon, the chairman and chief executive of JPMorgan Chase, said he expected losses on prime loans at his bank to triple and described the outlook for them as “terrible.”

Madness, “One Step Beyond” (1980)
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Source:

“A second, far larger wave of U.S. mortgage defaults is building”
Vikas Bajaj
International Herald Tribune (France), August 4, 2008

Greenspan On Recession, Stagflation, And Rescuing Homeowners

This morning, former Federal Reserve Chairman Alan Greenspan appeared on the ABC program “This Week” and talked with host George Stephanopoulos about the risks of recession and stagflation, and what could be done, if anything, to prevent more homeowners from losing their residences.

On the probability of an economic recession in the United States:

Well, that the probabilities of a recession have moved up to close to 50 percent — whether it’s above or below is really extraordinarily difficult to tell. I think that’s correct.

On the prospects for stagflation in the U.S.:

Well, I’m most concerned about it… and the evidence is clearly there in rising export prices coming out of China. It’s coming out — it’s showing up in a slowed rate of productivity growth in the United States and elsewhere, and we are beginning to get not stagflation, but the early symptoms of it.

The former head of the Federal Reserve also discussed the current housing crisis in the United States, the problems associated with subprime and other classes of mortgages, and foreclosures:

Greenspan: There are going to be significant losses [on Subprime and Alt-A mortgages]. And there are loss ranges, now — the minimum, now, is $200 billion. But it’s easy, by some calculations, to get to $400 billion.

Stephanopoulos: The political world is now looking at the immediate pain. And Senator Clinton looks — has called for a freeze on foreclosures. Senator Edwards called for a rescue fund to be set up by the government for people who are facing these kind of foreclosures. What do you think about those ideas?

Greenspan: It’s important to help those people without affecting the mortgage rates and without affecting the structure of markets. Cash [from the government] is available and we should use that in larger amounts.

… It’s far less damaging to the economy to create a short term fiscal problem, which we would, than to try to fix the prices of homes or interest rates. If you do that, it’ll drag this process out indefinitely.

Stephanopoulos: But by infusing cash, it sounds like you agree, then, with former Treasury secretary Larry Summers, who says that, right now, given this crisis, there has to be a bias toward activism.

Greenspan: It depends what you mean by activism. If you mean doing something that works, absolutely. If you mean doing something just for the sake of perceptions, that’s very costly. I don’t know if [infusing cash] would work, but it would certainly help people — it would help their incomes; it would help their personal state, without affecting the structure of the way markets are behaving and the way adjustment process is going on. It’s very critical that this thing reach a selling climax — if I may put it in other words, exhaust itself. It’s only when the markets are perceived to have exhausted themselves on the downside that they turn. Trying to prevent them from going down just merely prolongs the agony.

The Financial Times (UK) noted afterwards that Alan Greenspan’s remarks about supporting the use of public cash to help struggling U.S. homeowners would likely “fuel growing political pressure for a more radical response to the housing crisis.”

Number Of Foreclosures May Top Great Depression

On Tuesday, I read a press release from Housing Predictor on PR Leap with the headline “Real Estate Foreclosures Topping Great Depression.” On June 5, I talked about Housing Predictor and their latest forecast regarding foreclosures in the U.S. housing market. I wrote:

The latest predictions of foreclosures paint a grim picture. HousingPredictor.com forecasts more than 250 local housing markets futures in all 50 states, and has maintained more than an 85% accuracy rating. Based on a survey of the nation’s 100 largest real estate markets, HousingPredictor.com predicts that at least 2 million residential properties will be foreclosed within the next two and a half years.

It appears that Housing Predictor has now revised that estimate upwards. From their November 27 press release:

Home foreclosures will worsen reaching new record highs in 2008 as a result of the credit crunch, topping the Great Depression, according to a new report by Housing Predictor…

Housing Predictor analysts forecast the national economy is moving into a recession, which will become apparent at the latest in the third quarter of 2008…

Housing Predictor forecast early this year that 3 million foreclosures will occur through 2009. More than one million homes have already been foreclosed, most of which have been subprime mortgages. But defaulting mortgages are also growing in exotic conventional loans, also known as Alternative A mortgages.

Spooky stuff.  Then again, should a mortgage bailout take place…

Sunday Edition: November 25, 2007

Subprime Mortgage Crisis Growing
According to the Wall Street Journal yesterday, calculations by the Bank of America Corp. show that interest rates are set to rise on $362 billion worth of adjustable-rate subprime mortgages in 2008. Banc of America Securities, a unit of Bank of America, estimates that $85 billion in subprime mortgages will reset this quarter, another $85 billion will reset in the first quarter of 2008, and $101 billion of mortgages will reset in the second quarter of 2008. The estimates include loans packaged into securities and held in bank portfolios. In addition to the $362 billion of subprime ARMs that are scheduled to reset during 2008, Banc of America Securities said $152 billion in other loans with adjustable rates are scheduled to reset next year, including “jumbo” mortgages of more than $417,000 and Alt-A loans, a category between prime and subprime.

According to the Journal:

Many of the subprime mortgages that have driven up the default rate went bad in their first year or so, well before their interest rate had a chance to go higher… Now the real crest of the reset wave is coming, and that promises more pain for borrowers, lenders and Wall Street. Already, many subprime lenders, who focused on people with poor credit, have gone bust. Big banks and investors who made subprime loans or bought securities backed by them are reporting billions of dollars in losses… The reset peak will likely add to political pressure to help borrowers who can’t afford to pay the higher interest rates.

The Mortgage Bankers Association estimates that 1.35 million homes will enter the foreclosure process this year with another 1.44 million homes in 2008, up from 705,000 in 2005.

U.S. Recession May Harm Emerging Markets
London-based HSBC Asset Management told Reuters yesterday that an economic recession in the United States will affect emerging markets, even though some believe that decoupling from U.S. growth has taken place. Christian Deseglise, head of HSBC AM’s $85 billion global emerging markets business, told Reuters that the possibility of a U.S. recession was looking real now compared to earlier this year. Deseglise said:

Talk of recession in the US economy has increased lately so the story of decoupling from the US economy is being looked at more carefully … this may be causing the latest bout of nervousness. In February-March, there were fears but no evidence of slowdown. Now we are not dealing just with fears, but with something that is really out there. There are real issues with many sectors that may have a slowdown impact on the rest of the world.

Deseglise talked about the fallout from a U.S. recession:

If the US were to go down to one percent growth, emerging markets have the inner strength to grow within themselves. But if the US were to enter into a prolonged and severe recession that will have a detrimental effect. Emerging markets don’t need a fast growing US economy but they still need a growing US economy… I don’t think a recession is priced into the market.

HSBC Asset Management wouldn’t be the first to dispel the notion of decoupling from the United States. On November 2, I talked about how Stephen Roach, Chairman of Morgan Stanley Asia, told an audience in Mumbai, India, that he didn’t buy into the theory of decoupling:

I think the thing that worries me the most, and this is where I would really underscore the point for you in India, is that equity markets in this region, including your own, are discounting this optimistic, rosy scenario called decoupling. There is the strong belief that because the US has slowed so far, and Asia hasn’t, that any further slowdown will leave Asia unscathed. Think about it for a second. The slowing that’s occurred in the US right now has been in homebuilding activity. It’s America’s least global sector. You stop building a house in America, there’s almost no impact on Asian exports to the US. The slowing that will be coming over the next year will be in the consumer demand sector, which is America’s most global sector. So, we are going to see the US slowdown go from a domestically driven to a globally driven slowdown. I am sorry, as bullish as I am about Asia, Asia will not be an oasis of prosperity in a softer global demand climate. To the extent that emerging market equities are buyers of the global decoupling thesis, including in your own market right here, I think there could be a significant correction in emerging market equities that certainly could hit the Indian stock market quite hard.

Supporters of decoupling disagree. Reuters said:

Some observers say solid fiscal and monetary policy, healthy balance of payments, and China’s rise as a counterweight to the United States has helped emerging nations decouple from US growth and act as a safe haven from developed market turmoil.

In addition, they argue that the United States takes in just 16% of emerging market exports now, compared with 25% in 2001. In 2006, exports to other emerging nations overtook the volume of goods and services sent to developed nations.

Parting Shot
On the Euro Pacific Captial website, president and investment advisor Peter Schiff talked about how the actions of Wall Street and the U.S. government are forcing Gulf and Asian nations to reconsider their efforts in propping up the U.S. economy. In “Heads We Win, Tails You Lose” from November 23, Schiff said:

Perhaps the icing on this “let them eat cake” mentality was provided by Wall Street itself. In a year with record losses, Wall Street firms announced that they would also be paying record bonuses to their employees. The rationale for this PR fiasco was that since the losses were not the fault of the employees (really?), they should not be made to suffer. So rather than sharing the pain being endured by their firms’ shareholders (clearly even less culpable then themselves), Wall Street’s fat cats will rub salt in their owners’ wounds by compounding their losses with the additional expense of lavish bonuses. Following the outlandish pay packages already given to ousted CEO’s who clearly were responsible for the losses, Wall Street’s “heads we win, tails you lose” attitude will not go over well abroad.

Enjoy it while it lasts… which won’t be for much longer.

Have a wonderful week,

Christopher E. Hill
Editor
editor@boom2bust.com

Analyst Says U.S. Banking Crisis Has Begun

Earlier today, The Globe And Mail (Canada) reported that a major U.S. banking crisis is underway. Myles Zyblock, chief institutional strategist at RBC Dominion Securities Inc. (owned by Royal Bank of Canada), said that problems with the U.S. housing market have spilled over into the financial sector, setting off the third major banking crisis in the United States since the Great Depression. While Zyblock said he didn’t expect bank failures to be the “main problem” this time around, he wouldn’t discount the possibility “of a few sinking ships.”

According to The Globe And Mail:

In arguing his point about the likelihood of a major banking crisis, Mr. Zyblock trots out some disturbing statistics on the U.S. housing market and the fallout on the financials. He noted, for example, that more than 20 per cent of the value of U.S. mortgage loans made in 2005 and 2006 is linked directly to subprime situations, and another 19 per cent is linked to alt-A loan situations. Both are types of loans made to those who don’t qualify for prime mortgages.

And it is those loans that are running into trouble, as evidenced by the fact that 16 per cent of subprime mortgages are now past due. To make things worse, problems are starting to rise in the prime mortgage space as well as in the face of what he says is the worst case of national price deflation in the U.S. housing market in at least 40 years. And inventories of unsold houses are nearing multidecade highs with foreclosures adding to the supply.

Mr. Zyblock believes that the worst is probably still to come in terms of bank writedowns arising out of the real estate situation.

Zyblock said he “would not be surprised” if the U.S. government attempts some sort of bailout to deal with the situation.