You Never Give Me Your Money—The Beatles

When I first started researching the property records for my daily posts, I was astounded by all the mortgage equity withdrawal. I still am. At first I was surprised that borrowers would do it. It would have never occurred to me to actually increase my mortgage indebtedness (yes, I have had a mortgage before). I can understand taking out a loan for home improvements, but never for consumer spending. Then, the more I pondered the issue; I came to realize that borrowers are like drug addicts: if you make money available to them, they will take it. Combine that tendency with a drug as addictive as kool aid, and you get people who truly believe their house is providing them with free money, so it is OK to borrow this money. Once the fear of debt is gone, even fiscally conservative people get into the act.

Finally I came to realize it was the lenders who were the stupid ones. Rational lenders want to make sure they are going to get their money back with interest. They are supposed to be the experts at determining the creditworthiness of a borrower because they are the ones ultimately taking on all the risk. Lenders started drinking the kool aid and began giving out any amount of money to just about anyone. They also believed they had no risk because they believed house prices would always go up. Even if people defaulted, they would not experience any default losses. It is the stupidity of lenders and investors in mortgage-backed securities that is truly mind-boggling.

You never give me your money
You only give me your funny paper

Most of the houses for sale today have some amount of mortgage equity withdrawal. The conservative ones only added a little, but the average Irvine homeowner who bought before 2001, and who is selling today, doubled their mortgage. That’s right, most of them doubled their mortgages. However, some people really got carried away. Some people borrowed every penny of equity as it accumulated and spent it.

Usually when people go on an irresponsible borrowing and spending spree, there are consequences for this action. People get burned, and they learn not to repeat their mistakes. However, those people who were the most egregious HELOC abusers, are the ones being punished the least. Borrowers who took out all their equity have transferred 100% of the loss in value to the lenders (remember Mortgages as Options?) What have these people learned? And what lesson is being taught to everyone else?

The worst HELOC abusers have learned there are few consequences for their behavior. Yes, they will lose their homes and face bad credit issues, but they still got to spend all the money. Perhaps they will suffer the loss of their lifestyles as the free money dries up, but I imagine they will be first in line to buy another home and start the process all over again when their credit clears up. The rest of us witnessing this behavior have to be asking ourselves, “Why won’t we max out or debt during the next cycle and pass the losses on to the lenders?“ Based on what we are seeing, perhaps the fiscally conservative ones were the fools.

Out of college, money spent
See no future, pay no rent
All the money’s gone, nowhere to go
Any jobber got the sack

Today’s featured property is a particularly bad case of HELOC abuse enabled by Stearns Lending Inc. (Bears Stearns?). The peak appraised value of this property based on the loans attached was $1,138,500. The asking price is 40% off this figure. I have profiled this property before, but since the discount is so large, it is worth revisiting.

Asking Price: $684,900

Income Requirement: $171,225

Downpayment Needed: $136,980

Purchase Price: $397,000

Purchase Date: 7/20/2001

Address: 9 Soaring Hawk, Irvine, CA 92614

So lets walk through the mortgage history of this property and see just how bad HELOC abuse can get…

• 7-20-2001 The house was purchased for $397,000 with a first mortgage of $317,600 and a downpayment of $79,400.
• 11-07-2001 HELOC for $48,000 taking out over half of downpayment.
• 8-26-2002 Refinance for $360,000.
• 11-26-2002 HELOC for $29,000
• 11-26-2002 HELOC for $71,000
• 6-18-2003 HELOC for $56,000
• 6-18-2003 HELOC for $100,000
• 6-1-2004 Refinance for 517,500—probably paid off HELOCs at this point.
• 10-22-1004 HELOC for 89,900.
• 4-21-2005 Refinance first mortgage of $624,000
• 4-21-2005 Refinance second mortgage of $156,000. Total debt of $780,000 at this point.
• 9-12-2006 Refinance first mortgage of $948,750.
• 9-12-2006 Refinance second mortgage of $189,750. Total debt of $1,138,500. No HELOCs

So there you have it.  This homeowner went to the housing ATM 8 times over a 5 year period and pulled out $820,900.

I first wrote about these people back in January of 2008, and I am still amazed. Can you imagine being the knife catcher who might have paid them their $1,195,000 asking price back then? Talk about major equity burn…

If this property sells for its current asking price, and if a 6% commission is paid, the total loss to the ABS pool stuck with this crappy loan will be $494,694.

I also want to note the timeline here. This property first showed up as a distressed sale in January of 2008. It is now December, and it is finally available as REO complete with is 45% reduction in asking price. What do you think December of 2009 will bring?

You never give me your money
You only give me your funny paper
and in the middle of negotiations
you break down

I never give you my number
I only give you my situation
and in the middle of investigation
I break down

Out of college, money spent
See no future, pay no rent
All the money’s gone, nowhere to go
Any jobber got the sack
Monday morning, turning back
Yellow lorry slow, nowhere to go
But oh, that magic feeling, nowhere to go
Oh, that magic feeling
Nowhere to go

One sweet dream
Pick up the bags and get in the limousine
Soon we’ll be away from here
Step on the gas and wipe that tear away
One sweet dream came true today
Came true today
Came true today (yes it did)

One two three four five six seven,
All good children go to Heaven

You Never Give Me Your Money—The Beatles

Liar—Queen

Liar I have drunk the wine (or kool aid)
Liar time after time

Not long ago, we had a realtor trolling the forums. He tried all the standard hooks, but he found those fish were not biting. One of the more ridiculous ideas he put out there was the notion, “You can’t predict which way the market will go, so you should buy.“ WTF? Anyone with half a brain or any amount of investment experience would know the old truism, “When in doubt, stay out.“ Beyond that the remark is stupid for another reason: it is pretty obvious that the market is going to go down. The decline has momentum, we are entering a recession, and prices are still greatly inflated.

Realtors thrive by creating fear in buyers. They will use lines like:

• It is a good time to buy!
• Hurry. This one won’t last.
• Don’t throw away your money on rent.
• If you are serious, you had better buy now or you might be priced out of the market.
• They are not making land anymore.
• If you see a property you love, you really need to make an offer.
• The more earnest money you put down, the more seriously your offer is taken.
• Things have been a bit slower than last year, but the last two weeks we have seen a lot more traffic.
• Rates are at all time lows and buyers have more choice than ever!
• Rates are creeping up, so you better get in now.
• If you wait until the bottom, you will miss out on getting a property that you really like.
• This property is priced at below market value.
• Incentives this good won’t be available after…
• Don’t worry about the asking price - just offer what you’re willing to pay.
• Don’t worry. You can afford this house.
• I will show my client the offer, but I just want to let you know that we have another offer for more coming in this afternoon.
• Trust me.
• It’s not just the commission. I really care about you.

In a buyer’s market these ploys are all lies (the truthfulness of these statements is questionable in all market conditions). Don’t believe them.

Liar liar liar liar
Liar that’s what they keep calling me

Do not forget that when you are buying a house, the realtor is the agent of the seller. The primary responsibility of the realtor is to serve his client by obtaining the greatest possible purchase price. The realtor may be nice and disarming, and you might honestly believe they have your best interests at heart. They don’t. In a perfect world (for them) they would lead you to believe they are looking out for you while they are extracting as much money out of you as possible. That way, you will be inclined to use them again when it is your turn as a seller to get as much as possible from your buyer.

Realtors are paid to say the things that would make you cringe with a straight face and a smile. That is how they get that extra few percent out of buyers that justifies their existence. Sellers pay them to say all of the things in the list above for one simple reason: it works. Buyers fall for it, almost every time. Financial manias are not enabled by realtors presenting rational arguments and objective advice. Housing bubble psychology is exploited by realtors to sell homes. That is their job.

When I sold my home before moving to California, I used a realtor. When it is my turn to sell a home here in California, I may do the same. If I find someone who I believe will get me at least 4% more in a sales price than I could on my own, I will hire them. I just won’t be there when they go into their sales pitch. My facial expression would give me away…

Today’s featured property is in the Northwood II neighborhood. The stress of the low end is working its way up to this next tier of the housing market. This one is going for less than $300/SF.

Asking Price: $750,000

Income Requirement: $187,500

Downpayment Needed: $150,000

Monthly Equity Burn: $6,250

Purchase Price: $898,500

Purchase Date: 3/28/2005

Address: 53 Bombay, Irvine, CA 92620

Beds:	4
Baths:	3
Sq. Ft.:	2,630
$/Sq. Ft.:	$285
Lot Size:	-
Property Type:	Condominium
Style:	Other
Year Built:	2005
Stories:	2
Floor:	1
Area:	Northwood
County:	Orange
MLS#:	S555878
Source:	SoCalMLS
Status:	Active
On Redfin:	1 day
New Listing (24 hours)

Assciatio? That description is 55 words, and they can’t spell them all correctly.

This property was purchased on 3/28/2005 for $898,500. The owners used a $718,562 first mortgage, a $137,500 HELOC, and a $42,438 downpayment (It is possible the HELOC wasn’t used to purchase and the downpayment was $179,938). On 6/7/2006, they refinanced with a $749,000 first mortgage, and opened a $111,000 HELOC. On 7/28/2006 they opened a $200,000 HELOC. If the final HELOC was used, the total debt on the property is $949,000. That would also be its peak appraised value.

If this property sells for its asking price, the total loss on the property will be $193,500 after a 6% commission. The actual loss to the lender would be $244,000 if the HELOC is maxed out.

This property is being offered for 16% off its 2005 purchase price, and 22% off its peak appraised value.

So can you think of any realtor ploys I have missed?

I have sinned dear Father Father I have sinned
Try and help me Father
Won’t you let me in? Liar
Nobody believes me Liar
Why don’t they leave me alone?
Sire I have stolen stolen many times
Raised my voice in anger
When I know I never should
Liar oh ev’rybody deceives me
Liar why don’t you leave me alone

Liar I have sailed the seas
Liar from Mars to Mercury
Liar I have drunk the wine
Liar time after time
Liar you’re lying to me
Liar you’re lying to me
Father please forgive me
You know you’ll never leave me
Please will you direct me in the right way
Liar liar liar liar
Liar that’s what they keep calling me
Liar liar liar

Liar—Queen

Saved By Zero—The Fixx

Once 100% financing became widely available, it was enthusiastically embraced by all parties: the lenders suddenly had a huge source of new customers to generate high fees, the realtors and builders now had plenty of new customers to buy more homes, and many potential buyers who did not have savings were able to enter the market. It seemed like a panacea; for two or three years, it was. There was a problem with 100% financing (which was masked by the rampant appreciation brought about by its introduction): high default rates. The more money people had to put in to the transaction, the less likely they were to default. It was that simple. The borrowers probably intended to repay the loan when they got it, however they did not feel much of a sense of responsibility to the loan when the going got tough. High loan-to-value loans had high default rates causing 100% financing to all but disappear, and it made other high LTV loans much more expensive, so much so as to render them practically useless. It was all part of the credit tightening cycle.

Maybe I’ll win
Saved by zero

Besides stopping people from saving for downpayments, 100% financing harmed the market by depleting the buyer pool. In a normal real estate market, first-time buyers are saving their money waiting until they can make their first purchase. This usually results in a steady stream of first-time buyers that enter the market each year. When 100% financing eliminated the downpayment requirement, it also eliminated any need to wait. Those who ordinarily would have bought 2-5 years in the future were able to buy immediately. This emptied the queue. This type of financing appears periodically in the auto industry, especially in downturns when it is necessary to liquidate inventory. The term for this is “pulling demand forward,” because it reduces demand for new cars in the next few years. This might not have been a problem if 100% financing would have been made available to everyone forever; however, once downpayment requirements came back those who would have been saving were already homeowners, so there were few new buyers available, and any potential new buyers had to start over saving for the downpayment they thought would never be required. The situation was made worse because those late buyers who were “pulled forward” from the future buyer pool overpaid, and many lost their homes. This eliminated them from the buyer pool for several years due to poor credit and newly tightened credit underwriting standards. Thus, most who thought 100% financing was a dream come true found it to be a nightmare instead.

Today’s featured property is another 100% financing deal, and get this: the lender was Zero Down Mortgage! I wonder if they are still in business…

Asking Price: $829,900

Income Requirement: $209,975

Downpayment Needed: $167,990

Monthly Equity Burn: $7,000

Purchase Price: $1,150,000

Purchase Date: 6/21/2006

Address: 14 Arbusto, Irvine, CA 92606

Corporate owned? It this a new BS realtor ploy to disguise the fact this property is REO?

The Redfin listing is incorrect on the purchase price of this property. It was purchased on 6/21/2006 for $1,150,000. The owner used a $920,000 first mortgage, and a $230,000 HELOC to purchase the property. It was bought at auction by the loan servicer for $1,044,971. As I mentioned above, the loan originator was Zero Down Mortgage. The name tells you all you need to know about the housing bubble.

If this property sells for its asking price, the total loss on the property will be $360,494 after a 6% commission.

This asking price is 27% less than its peak purchase price.

Maybe, someday
Saved by zero
I’ll be more together
stretched by fewer
Thoughts that leave me
Chasing utter
My dreams disown me
Loaded with danger
Maybe I’ll win
Saved by Zero
Holding onto
Wends that teach me
I will conquer
Space around me
Maybe I’ll win
Saved by zero
Maybe I’ll win
Saved by zero

Saved By Zero—The Fixx

BTW, Toyota recently killed this song for me:

I wonder if 0% financing is working any better for the auto industry…

Movin’ on Up—Theme from the Jeffersons

Well we’re movin on up,

The conventional wisdom in California real estate is that you buy a home, and when it appreciates, you sell it and move up to a better home. There is some truth to this idea, but not in the way most people think. Let’s examine how it really works.

Let’s look at a hypothetical example. Assume market prices are stagnant, and a small starter home can be purchased for $200,000. The next level up can be purchased for $350,000, and the high end can be purchased for $500,000. The price differential required to move between these classes of housing is $150,000. In a stagnant market, the only way anyone could move up would be to save or make more money. Someone would have to either save the $150,000, or get a large enough pay raise to finance an additional $150,000 to upgrade to the next level of housing. So how does appreciation change the equation? It doesn’t.

Let’s say house prices appreciate at a rate matching the level of inflation. If so, all the properties would become more valuable, and the gap between price levels would increase at the same rate. It would still require savings outside of the house appreciation or a raise in pay to move up. Appreciation alone does not close the gap because all properties will appreciate. There is a belief in the general public that the only requirement to end up in a Mansion on the beach is to climb aboard the “equity train” and wait for the appreciation to transport you to your beachfront paradise. It doesn’t work that way.

So what happens when appreciation exceeds the rate of inflation? Nothing different. All properties will be similarly affected. The rate of appreciation does nothing to close the gap between the various rungs on the property ladder. It is important to note that excessive appreciation is a demand-push phenomenon. When the low end starts to appreciate, prices close in on the next tier of properties. If the gap closes, even by a small amount, people will move up. These move ups, cause prices to rise at higher and higher property tiers. In short, the prices at the bottom of the market push prices up all the way to the top.

Now we’re up in the big leagues,
Gettin’ our turn at bat.

In case you didn’t notice, there is a great deal of price volatility in California. There are significant periods of time where house prices will appreciate faster than incomes increase. This is purely the result of irrational exuberance and kool aid intoxication. Prices cannot rise faster than incomes on a sustained basis, but prices can certainly go up faster than incomes when we are inflating a bubble. When prices start rising faster than incomes, price change alone can serve as a precipitating factor that ignites a rally. When prices rise faster than incomes, people see that the quality of the house they can afford declines. They do not need to fear being priced out forever; they just need to see the reality that they are slowly being marginalized by the increasing prices. This often prompts people to accelerate their buying plans and get what they can today rather than wait until they are more financially capable tomorrow because if they wait, they will have to settle for less. This buying further drives up prices. The rising prices causes more people to notice their buying power is decreasing which prompts even more buying. The irrational rally is on. Once it gets started, then people start buying out of greed to profit from the transaction, and the rally really takes off.

A very similar phenomenon is at work even during our current price decline. As many have noticed, the high end is not falling as fast as the low end. This is happening for two reasons: first, the subprime loans that have already imploded were concentrated at the low end of the market, and second, the activity of prime borrowers with cash (the only people buying right now) is at the higher tiers of the market. The low end has an extreme imbalance between supply and demand while the high end does not—yet.

So why are knife catchers being active in a decline? There are two reasons: 1. They believe they are buying at the bottom (foolish but that is what they believe,) and 2. They fear being priced out of another rally. It is the second fear that is self-perpetuating. As you can see from the chart above, the low end has fallen much more than the high end. This is increasing the gap between the move-up tiers. In this circumstance, people who want to move up are seeing their buying power diminishing, and they buy before it diminishes even more. It is the same phenomenon that it witnessed in a price rally, but it is operative in the initial stages of a decline. This is one of the main motivations of knife catchers, and it explains a great deal of the foolish buying we see today.

Let’s examine the math of this. Go back to our example, and we will start at peak prices where the low end is $500,000, the next tier is $750,000, and the top tier is $1,000,000. Let’s assume each of these tiers has a $250,000 mortgage from their starter home (equity transfer and savings to move up the property ladder). Over the last few years in San Diego, the low end has dropped almost 45%. That would take a $500,000 property down to around $275,000. This would leave the owner with only $25,000 in equity for a move up. The next tier up has only dropped 33%, so the $750,000 property is still selling for $500,000, and the owner would still have $250,000 in equity. The highest tier has only dropped about 20%, so the $1,000,000 home is still selling for $800,000, so the owner still has $550,000 in equity. Despite the huge decline in prices, the gap between the tiers is still very large, and the lower tiers are losing equity faster than the upper tiers. If the price gap is increasing or only decreasing slowly, and the equity in low-end properties is declining rapidly, what money is left over for a move up? Obviously, none. The move up market is dead.

The increasing gap between properties tiers and the lack of equity at the bottom to create the move-up demand push is going to create the opposite affect: demand price pull. Falling prices at the low end is going to pull prices down at the high end. Even if the Alt-A and Prime resets were not looming, this price pulling phenomenon would be enough to clobber the high end.

There is a limit to the number of knife catchers capable of paying the extremely inflated high-end prices. The transaction volumes are very light, and any increase in supply (which is coming) at the high end will crush this segment of the market. There is no support coming from the move up market to help out high end pricing. It is only a matter of time before these market segments join their subprime brethren in the 50% off club.

The San Diego market lead Orange County by one year on the way up, to the peak, and on the way down. Watch their market to see where ours is going. We are not 45% off the peak at the low end yet, but today’s featured property is one of those low end properties getting totally hammered. It is being offered for 32% off its early 2007 purchase price.

Asking Price: $435,000

Income Requirement: $108,750

Downpayment Needed: $87,000

Monthly Equity Burn: $3,625

Purchase Price: $640,000

Purchase Date: 3/21/2007

Address: 302 Terra Bella, Irvine, CA 92602

cloet? oppertunity?

This is another property that has some very suspicious activity. Let’s take a look at the last several owners to see the full story.

Owner #1

This property was purchased on 12/22/1999 for $255,500. The owners used a $204,800 first mortgage, a $51,250 second mortgage, and a $-550 downpayment. According to the property records, these people actually cashed out at closing (unusual in 1999). I find these owners interesting because they behaved like typical irresponsible fools, but they were rewarded for it. They refinanced on 6/6/2002 for $258,000, and opened a HELOC for $47,200 a couple of months later. On 10/9/2003 they refinanced again for $297,000, and a few months later they opened a HELOC for $35,000. These people were nothing special. Just average homeowner using refis and HELOCs to fuel consumer spending. Rather than being punished by the markets, these people sold to owner #2 for a huge profit. I imagine they continued their behavior at their next property.

Owner #2

A family purchased the property on 5/31/2005 for $589,000. They used a $471,200 first mortgage, a $58,900 second mortgage, and a $58,900 downpayment. This was a corporate relocation, and the property was purchased by a relocation service for $577,500 on 12/6/2006.

Owner #3

This is the owner who has aroused my suspicions. This relocation company found a buyer on 3/21/2007 willing to pay $640,000. Does it seem likely that this property appreciated over 10% in four months during the winter of 2007?

Owner #4

What is even more suspicious is that owner #4 defaulted almost immediately. The property was purchased at foreclosure auction 9 months later on 1/8/2008 for $545,282. The most common form of buyer fraud has the straw buyer make two payments before defaulting. The fraud is harder to prove, and after 2 payments, the penalties if convicted are less severe. The foreclosure process is 7 months if the lender meets all their deadlines. Two payments plus 7 months is 9 months.

So what do you think? Did the relocation service go find a straw buyer to avoid taking a loss? It sure looks that way to me.

Well we’re movin on up,
To the east side.
To a deluxe apartment in the sky.
Movin on up,
To the east side.
We finally got a piece of the pie.


Fish don’t fry in the kitchen;
Beans don’t burn on the grill.
Took a whole lotta tryin’,
Just to get up that hill.
Now we’re up in the big leagues,
Gettin’ our turn at bat.
As long as we live, it’s you and me baby,
There ain’t nothin wrong with that.


Well we’re movin on up,
To the east side.
To a deluxe apartment in the sky.
Movin on up,
To the east side.
We finally got a piece of the pie.

Movin’ on Up—Theme from the Jefferson

P.S. If you missed it, the MP3 link is here.

I would like to make an announcement. Irvine Renter will be on the radio again this weekend. I will be a guest of John McCauley on KBPK FM 90.1. I can be heard on Sunday November 30, at 6:30 PM. The streaming internet broadcast can be found here. I invite you all to tune in.

AZDavePhx has been busy at the IHB. Last weekend I featured several of his works, and this weekend we have even more.

Like many people, he saw the rampant expansion of credit and a debt-fueled lifestyle to be a problem. It was a problem encouraged by our government and the purveyors of credit.

Many people used their homes as ATM machines, and this money was a huge stimulus to the economy.

Like many of us, AZDavePhx wonders where all this money went…

The lure of real estate was all the free money is generated.

Of course not all these purchases worked out as planned.

Some people are finding their purchase is very scary and painful.

Now our government wants everyone to step up and buy an overpriced house to bail out the banks.

The loan modification terms are good. With the fear of death, the lenders are suddenly willing to negotiate.

Are these companies too big to fail?

Has our government given them a get-out-of-fail-free card?