Affordability Mortgage Products Make Prices Unaffordable

I Want It All — Queen

We all want affordable housing. There are numerous government programs designed to provide low-cost rental and ownership properties to people in all walks of life. Lenders, builders, realtors and buyers all benefit from affordable housing because affordability means an increase in transaction volumes and more money into the pockets of those dependant on the real estate market. The difficult problem with affordable housing is how to provide it without making it unaffordable. Finance is not the answer.

Most of those who worked in the mortgage business really believed the “financial innovation” meme. I have contended that the entire idea is a fallacy. At its core, the belief among financiers is that affordability products reach more customers and permit home ownership for a larger number of people. The statistics during the Great Housing Bubble seem to warrant this enthusiasm.

Home Ownership Rates from 1984-2005

Unfortunately, increasing the home ownership rate also dramatically
increased prices and created an unsustainable bubble in both. Why is
that? As with all macroeconomic concepts, it emerges from the
microeconomic circumstances of individual borrowers and buyers. If you
look back to the lending practices which endured the crash of the last
housing bubble in the late 80s, you see that the financing arena was
dominated by 30-year conventionally amortizing loans with 20%
downpayments and conservative debt-to-income ratios. This is the only
loan program that has relatively low default rates even if prices
decline. So what happens when a new “affordability” product is introduced into this stable system?

Let’s look at an example. Assume our would-be buyer makes $100,000 a
year and could qualify for a $300,000 loan using conventional
financing. He has save $100,000 for a downpayment and costs. He is
looking to buy a $375,000 home. In our stable system, he would find a
home relative to his income. If he is making the median income, then he
would be able to afford a median priced home. Now let’s say that
lenders “innovate” and start offering interest-only loans with a
10-year fixed term followed by an interest rate reset and a recast to a
fully amortized loan on the remaining 20-year schedule (sound
familiar?) Our buyer is conservative and does not want to purchase on
these risky terms and take the risk on future interest rates or the
need to refinance later because he may not be able to afford the higher
payment in 10 years. However, other potential buyers will ignore
these risks and embrace the new financial innovation because it allows
them to buy a house they previously could not afford. The same payment
on an interest-only schedule now finances 15% more money, so other
potential buyers in the marketplace who are making $100,000 can now
finance around $345,000 instead of $300,000. When our conservative
buyer goes out in the open market to bid on properties, he now finds
himself being consistently outbid on properties. At this point, he has
a choice to make: either embrace the new financial innovation and bid
15% higher for the same property, accept a lower quality property, or
not buy a home. The affordability product did not make houses more
affordable, it made them less so.

Amortization Value Table

Our stable system without affordability products saw annual appreciation of around 4% because this is how much incomes and rents were rising (this was true for most national markets outside of California,)
and it reflects the amount of increased borrowing power available to
homebuyers each year. With appreciation only running at 4%, market
participants do not get excited about making millions in real estate,
nor are they worried about buying today because they may get priced out
tomorrow. Affordability products change all that. With the introduction of interest-only borrowing to the system, prices can very quickly appreciate 15% as the financing system seeks a new equilibrium dominated by the new affordability product. This sudden and dramatic rise in appreciation can be the precipitating factor that ignites a housing price bubble. Once people start drinking the appreciation kool aid, they begin to stretch their debt to income ratios to buy properties with the belief that the extra investment will be recouped by rising home values. Plus the fear of being priced out compels people to buy for fear of not being able to later. The value of real estate detaches from its fundamental value, and the perception of value is driven by appreciation alone.

Behavioral Finance Theory

The bubble of the late 80s became dominated by interest only products, and buyers began using DTIs well in excess of the normal 28% limit. However, that bubble rally was of much shorter duration and of much lower volume toward the peak, so the majority of owners still had conventional financing. Mortgage equity withdrawal was much less common, so not as many households were overextended. The result was a period of moderate foreclosure activity and slowly declining prices until affordability returned based on conventional financing products.

Debt-To-Income Ratio 1986-2006

What really sets the Great Housing Bubble apart was the “innovation” which took off in late 2003: the Option ARM. As you can see in the table above, the Option ARM, or negative amortization loan, allowed borrowers to finance twice amount a conventional mortgage would provide. Hence, prices were bid up to twice the price level sustainable with conventional mortgage financing — a price level to which the market is in the process of returning.

In short, affordability products did not make prices more affordable, they inflated a massive housing bubble.

This fact is important because if the truth of affordability products is not recognized for what it is — a series of unstable loan programs that inflate house prices — these products may return to ravage our housing market again. Affordability products do not help buyers get into homes, they prevent buyers from getting into homes under terms which are sustainable. Temporary home ownership is renting. Affordability products simply allow people to rent from a lender. Perhaps some may sustain home ownership, but unless they were one of the first to embrace affordability products, and unless they refinanced later into a conventional mortgage, they will ultimately lose their illusion of home ownership and go back to renting from a landlord rather than the lender. What good came from all of that?

Will lenders learn the right lessons from The Great Housing Bubble? I doubt it…


Adventure seeker on an empty street
Just an alley creeper light on his feet
A young fighter screaming with no time for doubt
With the pain and anger cant see a way out
It aint much Im asking I heard him say
Gotta find me a future move out of my way
I want it all I want it all I want it all and I want it now
I want it all I want it all I want it all and I want it now

Listen all you people come gather round
I gotta get me a game plan gotta shake you to the ground
Just give me what I know is mine
People do you hear me just give me the sign
It aint much Im asking if you want the truth
Heres to the future for the dreams of youth
I want it all (give it all) I want it all I want it all and I want
It now
I want it all (yes I want it all) I want it all (hey)
I want it all and I want it now

Im a man with a one track mind
So much to do in one life time (people do you hear me)
Not a man for compromise and wheres and whys and living
So Im living it all (yes Im living it all)
And Im giving it all (and Im giving it all)

Yeah yeah
Yeah yeah yeah yeah
I want it all all all all

It aint much Im asking if you want the truth
Heres to the future
Hear the cry of youth (hear the cry hear the cry of youth)
I want it all I want it all I want it all and I want it now
I want it all (yeah yeah yeah) I want it all I want it all and i
Want it now

I Want It All — Queen

91 thoughts on “Affordability Mortgage Products Make Prices Unaffordable

  1. George8


    Excellent comment on the fallacy of the creative financing schemes.

    Worse yet, when the system is crewed up, we allow the politicians to cover up with various bail out plans that sow the seeds for future problems.

    I wonder if you would explore what these future impacts and problems might be?

    1. idrnkurmlkshk

      Complete utter destruction of the the middle class.
      It’s like a hook and line scenario. The mor epeople who get “caught” in these schemes, the larger the lower income class grows.

      2 class social system. Lords, and serfs, have’s and have not’s, richer rich, and mass poor….

      Until we have indentured servitude, and debtor’s prisons again.

      1. Perspective

        Democrats, and many Republicans, try to solve A’s problems by taking from B. B is harmed in the process and most often A is not benefited. In fact, A is harmed in many instances of government intervention. If you pay young poor women to have children, guess what? They’re going to have more children.

        1. ice weasel

          Strawman: “If you pay young poor women to have children, guess what? They’re going to have more children.”

          Now, argue in reality and we can have a discussion. If you point was to merely add in the law of unintended consequences I agree with you completely. But in the end, your example seemed to feeding some other dialogue.

          And please, no “welfare queens”. There’s no doubt that the real welfare queens of this country are entities such as GM who collect the lion’s share of government largesse.

          1. Perspective

            Fair enough – Here’s a more relative example. Irvine, Tustin, & other cities have affordable housing programs where lower income families may purchase new housing at discounted rates. Well then, aren’t the other families buying in these new developments going to pay more for their homes (every affordable housing home set-aside removes a home from supply)?

          2. The Moar You Know

            No – “affordable housing” set-aside homes are not what most home buyers are looking for (too small, too ugly, wrong neighborhood, etc).

            You’re looking at the wrong boogeyman. What drove up prices was not government set-asides, but lending to people who had no business having a mortgage. We’ve had government set-asides for decades and it didn’t do much to housing prices. The flood of newly-qualified buyers – people who would never have been able to buy a home without the impetus of having received irresponsibly loaned money – those are the folks that drove prices up.

          3. Perspective

            My intent was not to place blame. It was to highlight how government intervention always adversely affects someone while rarely trully benefiting those claimed to have benefited.

          4. east coast wonderman

            “government intervention always adversely affects someone while rarely trully benefiting those claimed to have benefited”
            It’s not the spelling of truly that’s gonna take down your illogical misperspective; it’s the qualifier of “always:

            Then the non-response to Katrina was the best thing for the poor folk of New Orleans, huh?

            K-Lo writes using the same illogic over at the corner.

          5. Perspective

            Yes. I’m sorry. Completely discount everything I write due to a spelling error in a blog…

  2. Agent#777

    I know you are thinking that the 4% increase sounds conservative, but I could show you places in Florida that were pretty stagnant until 1998 or so.

  3. r€nato

    one small quibble with an otherwise excellent (as usual) post:

    The affordability product did not make houses more affordable, it made them less so for responsible buyers who are most likely to be able to carry a mortgage, and more so for buyers who are most likely to be unable to carry a mortgage.

    In other words, ‘creative’ financing tended to flush responsible would-be buyers out of the system, replacing them with buyers who were more likely to default.


    1. IrvineRenter

      “In other words, ‘creative’ financing tended to flush responsible would-be buyers out of the system, replacing them with buyers who were more likely to default. ”

      Yes, that is exactly what happens.

      1. mo fine

        How is a buyer that is putting 100k into the property likely to default because of an interest-only product? His or her payment will not change (except to go lower if principal is paid) for 10 years. The buyer who chose interest-only and 10%-15% or 20% equity 2nd is the one defaulting and the lenders that offered this risky 2nd financing are the ones losing the most. Your example B might have a rate of 5% on his $345,000 (10 year rates up through 2006) for a payment of $1,437 for his $445,000 purchase. He or she is not going anywhere…..

        1. GM

          I do believe that the point was the since you’ve introduced more buyers into the market, this drives prices up.

          So you have a market of people who can afford thier payments, but who now have to bid even higher to get a desirable home, and people who under strict fundamental lending practices should never have been approved for a loan out bidding the responsible buyer.

          1. mo fine

            Are you saying that a buyer with 100k down payment is irresponsible because of an 10 year I/O. That is ridiculous. What about the seller? Do they not deserve to get the most money for their product? It’s Economics 101 – Supply and Demand.

          2. IrvineRenter

            Interest only products are inherently risky. People who use them take on the risk of higher interest rates, and they have to deal with a higher payment when the loan amortizes. Therefore, they are also betting on either a positive refinancing environment or a substantially higher income. A 10 year term simply pushes the realities of these risks far enough off into the future that people can be in denial about them.

          3. Matt

            I think that IR is right about the interest-only (or, even worse, neg am) loans. But, I’m not sure that this post, in isolation, hits the nail on the head.

            Rather, interest only and neg am loans are attractive and do push up prices, but that effect is exacerbated by low interest rates. Interest only when interest is 10% is much different than interest only at 5%. Also, the “innovative” products combined with low rates fueled the bubble…which then encouraged tons of HELOC abuse by people thinking they had become paper millionaires. (and the best flavor of HELOC abuse Kool Aid is Low Interest Rate).

            The addition of 4% of people into the housing market DOES have an impact. A 4% increase in householders in Irvine is about 2080 homebuyers. But, the true impact isn’t the numbers of people…2080 homebuyers is almost like a random fluctuation in moving into and out of Irvine. I think it’s when you COMBINE more buyers, lower rates, and cockamamie loan products that you get the real inflation.

          4. mo fine

            To use interest-only and neg am in the same sentence makes about as much sense as comparing property in Irvine with that in Barstow. For an educated, finacially savvy borrower the interest-only payment makes the most sense. They can always pay the same payment as a P & I loan, but with the I/O the payment will go down. They also would be receiving at least 1/4% lower on the rate than a 30 year (comparing the 10/1). Finally, they might not even be in the home in 10 years. Paying a higher payment now because of worries in 11 years makes little sense.

          5. IrvineRenter

            You are spouting nonsense. You consider it financially savvy to take on interest rate risk, particularly at historic lows? The reason you are getting a better interest rate up front is because you are assuming all the interest rate risk. Whether or not you plan on owning the home more than 10 years is irrelevant. You might have to stay in the same home more than 10 years, in which case you have a ticking time bomb.

          6. east coast wonderman

            Remember, too, that real estate agents, including one who said this to me just last month, said for years, “They’re not making any more real estate (fill in location here)” and people like Countrywide were pitching us HELOC loans (we still get HELOC checks every month???). So the bubble dynamic had many different causal factors, though, I would agree that the massive increase in potential owners–via these garbage loan products–was likely the primary cause of the real estate price bubble.

          7. mo fine


            I’m spouting reality, but it’s nice to see
            you get off the sidelines. 1/4% on a $500,000 loan is over $100 a month which equates to $12,000 in 10 years. That’s called a good financial decision. There are also fixes with Interest-Only for the first 10 years. Are those bad loans too? If you would take your knowledge and actually live a little than the Shady Canyon dream house that you and your wife dream about might actually happen. Instead you can wait around for a 30 year fix with your 50% down payment and enjoy an 800 sq. ft condo on the 5.

          8. IrvineRenter

            I would probably prefer the condo that I knew I could keep to the house purchased with precarious financing terms.

            Interest-only is simply renting from the bank with equity participation. Perhaps this is desirable in a kool aid world of endless appreciation, but in a world like ours where prices can go down and stay down for a very long time, interest-only is a time bomb with a long fuse.

            I am a believer that debt should be retired, not endlessly serviced. Right now, I live in a place where I save hundreds each month versus the cost of ownership on any terms. That is financially savvy, in my opinion. When prices drop to where I can save money by owning, I will buy. If you take away the kool aid, and evaluate a purchase solely on its consumptive value, it becomes clear that terms other than conventional financing are only useful for speculation.

          9. Chris

            IR, this time I have to disagree with you. Taking on interest rate risk might be worthwhile to **some** folks.

            Let me provide you with a perfect example: credit card offering 0% APR on balance transfer with maximum of $75 for transfer fee. I happened to play the game of earning free CD money on 5.25% (thank you uncle Ben for flying your damn helicopter) thanks to this 0% balance transfer offer from various credit card companies a few years ago. Guess what? I actually MADE money from credit card company. The key is to pay back ALL the remaining balance BEFORE the 0% balance transfer expires.

            This is somewhat similar to the interest only analogy. Go figure.

    2. MalibuRenter

      It flushes new responsible buyers out. They tend to wait, stay renters, or move elsewhere.

      However, this has an interesting implication. Once you get near the bottom, the borrowers who have 20%+ down and can get past the new much tighter underwriting qualifications will have far lower default rates than the 2003-2007 vintages.

      In other words, if you weren’t a major mortgage lender before late 2009, it might be a good time to consider getting in the market.

  4. ice weasel

    Wow, I don’t say this often but here it is. IR I think you’re missing something here. While I agree with your analysis and conclusions regarding “affordability” I think that term misses the point. You said,

    “Temporary home ownership is renting. ”

    Yes, to a point. There is no reason we cannot work with our financial systems to increase home ownership through access to credit, rather than “affordability”. The point isn’t giving away easy and free money to speculators and investors, the point should be encouraging (generally speaking) younger people and families to tie themselves to a home through reasonable credit.

    There’s a lot of blather about who should and who should not own a home. For the most part it’s just the self-interesting opinions of the party speaking. I think it’s clear that many, again to use this one example, young families would like to own a home. I think there is an argument to be made that as a society we benefit when these same groups of people can and do finance a home (that they can afford).

    I think we lose something when we conflate “affordability” with access to credit and I think we further muddy the waters when any kind of “first time buyer” program or something similar is suddenly a vehicle for investment and real estate speculation.

    I do wonder sometimes what this crisis would have looked like if the lenders had done just one thing differently. Just one thing. If, for instance, they had truly verified that every borrower did indeed live in the dwelling they were financing, if that would have had some impact on the destruction we’re seeing? I know it wouldn’t have been a huge difference but I do wonder what difference it would have been and if that doesn’t, in a sense, point to abject negligence the lenders indulged in to collect their fees and commissions.

    But maybe that’s just me.

    1. AZDavidPhx

      Something else that needs mention is the “monthly payment culture”.

      You can’t truly grasp the cost of home-ownership when all you are looking at is a monthly payment.

      We have been trained like monkeys by our credit card masters that we can afford anything as long as the “monthly payment” can be made – even if it leaves 0$ for savings.

      The mortgage hustlers have come to depend on the typical idiot who will bend over and gleefully take all of the junk fees and thousands upon thousands of dollars paid in interest without question because it has all been conveniently bundled together for them and finely wrapped with a pretty red bow and called a “monthly payment”.

      These creative finance scams assume that the buyer is too much of an idiot to sit down and do the math. With a little smoke and mirrors and slight wave of the hand, the “buyer” is fooled into the illusion that something is affordable because the monthly payment has been engineered to attract him.

      When you have an unlimited army of mindless lemmings who are willing to go along with the status quo (since “everyone else is doing it”) its no wonder all of these wolves in the real estate industry were all hustling to make a quick buck.

      Along with more conventional financing there also needs to be a shift in the cultural thinking. It’s time to take some stock in the kids and start teaching “fiscal” and “conservative” finance and money management skills from junior high and onward. At present, the credit card vultures are getting to them first and we all know how the story goes from there to our self-fulfilling prophecy.

      1. idrnkurmlkshk

        Maybe the movie I.O.U.S.A will wake some people up.

        It’s out August 23..playing at AMC in the District.

        Also at the Block in Orange.

        1. mav

          ….. Orange County should protect our civil liberties and ban this movie…..

          ….. Al Jazeera made that movie, it is anti american…….

          ….. from what i hear, the real housewives of orange county are organizing a protest…..

          …..complete with signs, that are fake nail and fake everything safe….

          1. Food

            Replied to “Banning IOUSA”:

            You must be one of these recent immigrants to the US that misses the totalitarian rules of your old country. Do you miss the censorship and oppression that you would try hard to turn the US into your oppressed old country?

            I will go to see that movie despite your suggestion of dissolving the first amendment.

          2. Matt

            OK, so I can detect the sarcasm in mav’s post.

            Either I can’t detect the sarcasm in Food’s post, or he couldn’t detect mav’s.

    2. Emma Anne

      I think it does make sense to give first time home buyers a break in the down payment requirement. I don’t know many young families who saved 20% before they bought their first house. But they do need to save something and prove they can handle credit and make the payments.

      You are right – too many standards got jettisoned all at once. You can give a break in down payment, if you are extra careful in verifying ability to pay and good credit. You can accept poorer credit if there is a big down payment and the buyer can make the payments. You can’t do NINJA loans with no down payment, or disaster ensues.

      1. Major Schadenfreude

        “I think it does make sense to give first time home buyers a break in the down payment requirement.”

        Nope, absolutely not!

        It makes no sense to give any type of aid to the first-time buyer because this translates into higher home prices. When no one has the “extra money/aid” to buy the homes, then home prices must…COME DOWN to meet what the first-time buyers can afford!

        That’s how it works! Any aid to purchsing homes is a concession to the existing home owners, as their assets gets inflated as a consequence.

        I’ve noticed that people have a hard time grasping this metric. I admit it is somewhat counter-intuitive: You help the buyers by NOT helping them because prices will go lower.

      2. east coast wonderman

        Lots of talk about young couples saving that twenty percent downpayment when I think the majority of us were given the downpayment from family as unreported loans. Some of the government programs just filled in for people whose parents couldn’t liquidate some stocks as a gift for a new married couple. I often wonder about some neighbors–whose parents gifted them their downpayment–and are now digging into their one retirement fund to make their newly divorced daughter’s mortgage payments so she can spend time with her four horses.

        1. irvinesinglemom

          I paid for my own college. I paid for my own first car – when I was 23! I saved my own damn down payment for my first house. I paid for my own wedding. And I always resented the spoiled young adults whose daddies paid their bills, (and many still do even though my cohort is approaching 40 years old!). Losers! Stop mooching off your parents and take care of your own responsibilities. Hah!

  5. cara

    Thanks for another analysis post.

    Out here in D.C. people seem to be conflating I/O, Neg AM and other ARMs with Alt-A. (and then concluding that since the inner regions had less Alt-A that they’ll be relatively fine). Can you point to anywhere with statistics on what percentage of the creative financing products were sold to people under normal underwriting and documentation of assets and income? Because these products were not just sold to those with high credit scores that were willing to inflate their incomes, but also to traditional buyers who were getting priced out.

    1. ice weasel

      Cara, I’m not sure this is exactly what you are looking but I can relate part of the story of my own home purchase. In 2003, when I bought my current home I was absolutely plagued by pleas, from the realtor and the mortgage broker, to buy a much more expensive home and take much riskier terms. I had a definite idea of what my mortgage should be and stuck to it but I can easily see where someone else in my position might not have questioned their own decision and listened to these “industry professionals”.

      If I had listened to the “pros” five years I would be screwed now.

      1. irvinesinglemom

        ice weasel-

        That’s interesting because it’s EXACTLY what happened to me in 2004. I was so frustrated with my mortgage broker (who had come highly recommended by my accountant whom I respected and trusted) because he kept arguing with me that we needed to be buying “twice the house” instead of what we had decided upon. I am educated and assertive and didn’t budge but have always commented that a less decisive person than me could have been talked into such a stupid move.

        1. cara

          iceweasal and irvinesinglemom

          I brought this up partially because my best friend bought in NoVa (northern virginia) with a 10 year I/O. They put a huge downpayment down from 12 years of equity accumulation (the normal way) in Connecticut, but still decided on the 10 IO, 20 amoritizing loan (with a balloon payment at 10 if you haven’t kept up with the amoritization) because they got a 1% lower APR. It made sense to them, they have mostly kept up with the fully amoritizing payments but got a lower interest rate and greater flexibility out of it. The balloon payment is a pretty strong incentive to keep up or catch up. (for them)

          So, I know there exist semi-conservative people, with easily documented income and assets, who got unconventional loan products. But what I don’t know is how many.

        2. LC

          Yes, it is one transaction where you are required to tell exactly how much money that you have. I found that odd, in negotiating a deal, why would you show all of your cards? Real estate is a rotten business. Buying a house is worse than buying a car.

      2. Anonymous

        Asking someone who get a percentage of what you spend, how much you should spend, doesn’t seem like the greatest idea…

  6. Joe Schmoe

    I don’t disagree with the idea of buying a home on credit, but your statement implies that at present, young families don’t have ENOUGH access to credit. But that just doesn’t make sense.

    Some of the FHA mortgage programs require a 3% down payment. 3%! It’s hard to imagine a credit program with more liberal and favorable terms. Are you suggesting that we should liberalize this even more?!? Why isn’t 3% good enough already?

    I suppose the FHA could come out with an interest-only or option ARM mortgage, but that just seems crazy. Simply standing aside and letting the market drive prices down to a point where they are affordable to people with conventional mortgages seems like a much better idea.

    Some people say that mortgage lending is discriminatory against certain racial or ethnic groups, and that easier credit terms need to be made available to these groups to combat a history of discrimination, but I’ve never bought this argument. FICO scores and incomes are color-blind and do not discriminate, and banks will lend to whoever makes them money. I do business with plenty of members of racial and ethnic minority groups. Why would I turn away someone who wants to pay me for my services? It makes no sense.

    There is nothing wrong with buying a house on credit. Although it’s been abused lately, credit can stimulate the market — plenty of people who wish to purchase a car don’t have $25,000 in cash are perfectly capable of paying $400 per month for it. I myself try to avoid using credit whenever possible, but not all credit is insanely risky. It does stimulate demand; GM, Toyota, and Mercedes would not sell nearly as many cars if they didn’t make credit available to their customers.

    1. ice weasel

      Joe, I assume you’re responding to my post so here is my response.

      Joe wrote, “”

      Joe wrote, “I suppose the FHA could come out with an interest-only or option ARM mortgage, but that just seems crazy.”

      I have to admit I’m not exactly what I am proposing. What I can say is that I definitely not proposing that. That would be,as you say, crazy.

      Joe wrote, “Some people say that mortgage lending is discriminatory against certain racial or ethnic groups, and that easier credit terms need to be made available to these groups to combat a history of discrimination, but I’ve never bought this argument. ”

      Anecdotal arguments are frequently much less compelling than passion put into them. Because you’ve never “bought into it” doesn’t mean it does not exist. But again, I made no specific proposal because I don’t have one. And, to address your point a little more specifically, I think this is not simply a matter of race. It’s a matter of where the home is located and many other things. FICO scores are as blind as the person interpreting them wishes them to be. They are by no means an absolute measure or, I would opine, how did we get where we are today? Lowering FICO requirements was only one part of the picture. We’ve already seen many high FICO borrowers walk away from their loans which, I think, tends to undermine any argument that FICO is the best judge.

      Joe wrote, “FICO scores and incomes are color-blind and do not discriminate, and banks will lend to whoever makes them money. I do business with plenty of members of racial and ethnic minority groups. Why would I turn away someone who wants to pay me for my services? It makes no sense. ”

      To follow up a bit on the above I would only add this, racism and prejudice never “make sense”. Saying something “makes no sense” isn’t argument that it does not exist. We have volumes of evidence of lots of people and business entities acting in a manner that direcetly contradicts their best interest to discriminate on other terms. And before you or someone else says it, no, “the market” doesn’t deal with these people or businesses either.

      Again, dealing with racial prejudice was, by no means, the thrust of my comments, it’s one aspect surely but not the totality of what I was talking about.

  7. camsavem

    Being a product of the 70’s I see conspiracy’s in everything and tend to think that everything in life is done to benefit the rich and keep the poor impoverished.

    I have yet to see any evidence to the contrary.

    This snafu is just another example of the average working class american being sold snake oil.

    Sure, the banks will lose billions but the executives will be fine, I dont think we will be able to say the same thing about the average american who thought they were finally given the chance to achieve the “American Dream”.

    (does anyone really think that finance majors didnt know that these toxic loans were gonna blow up) LMAO

    1. msv

      ” dont think we will be able to say the same thing about the average american who thought they were finally given the chance to achieve the “American Dream”. ”

      Here is the problem: the “average American” I feel doesn’t wish to spend the 10 minutes it takes to run the numbers in order to decide if they are making a sound decision. Then this “average American” refuses to take responsibility for their actions and blames everyone else in the system for their bad decisions and consequent misfortunes.

      I am an “average Irvinite” at least in regards to my income. I had ample opportunity to buy into the bubble and even was looking at real estate several times during this period. I had outstanding credit and was approved for enormous sums of money, but each time I had to pull away because the bottom line just didn’t make sense.

      1. camsavem

        I believe peoples biggest problem is thinking that everyone does or should posses the same skill set as them……They dont. As much as the world would want you to believe that “no child should be left behind”, there are many children that lack the mental capacity to complete the coursework.

        It’s great that you were able to “run the numbers” and not taken in by this ponzi scheme, but many people were. They were lead astray by an entire nation of bankers, brokers, agents and appraisers. These were not door to door salespeople peddling diet pills, they were respected institutions, business associates and neighbors.

        It’s not money that is lacking in this society, it’s compassion.

        1. The Moar You Know

          You both are making some compelling arguments here, but camsavern really stated the thing that needs to be said upfront:

          “It’s not money that is lacking in this society, it’s compassion.”

          These aren’t academic subjects we’re discussing; real people’s lives are being affected, and in a very bad way.

          MSV: you are correct, most people just don’t even want to make the effort. However, to think that losing a home and going through the pain will make them wiser next time…well, I know a few things about human nature and one of them is people don’t learn lessons well. Especially when it comes to something like a home, in which so much social standing and self-respect is tied up in. Rationality tends to go out the window with decisions like that. Not for everyone (you sound like you’re one of the few who wouldn’t fall for this), but for most people.

          CAMSAVEM: you too are correct. People are suckers. And it has nothing to do with mental capacity or the ability to do schoolwork; smart people are easier to put one over on, as they think they’re too smart to fall for a scam.

          “does anyone really think that finance majors didnt know that these toxic loans were gonna blow up”

          Finance is not a science, however much we might wish it were. It’s intimately tied to human greed and human desire, with a lot of wishful thinking thrown into the mix. Look at Greenspan and Bernanke – Greenspan knew better but invented excuses to blow the bubble up anyway, and Bernanke is so scared of bringing the market down around his friends’ ears that he’s not willing to take the necessary steps to stop the dollar from plunging into the abyss of inflation. And these two are at the very top of their fields. So I suspect that most “finance majors” had no clue what any of these loan products would do, as they have been taught in school that these business practices make sense.

          Obviously, they don’t.

    2. MalibuRenter

      “does anyone really think that finance majors didnt know that these toxic loans were gonna blow up”

      Well, I’m a finance major, and I certainly saw the mortgage problems. I went from expecting the bubble to start deflating in 2004 to doing more serious research and calculating how immense the damage would be as prices rose through 2006. I convinced a few people of what was going to happen. More often my comments were just taken as odd, because people knew I was thorough and generally optimistic. Starting in late 2007, I started to hear “I’m afraid you might be right”. By mid 2008, I was hearing “It’s just like you predicted”.

      Lots of highly compensated Wall Street people got tossed onto the streets as a result of the credit crunch. Many of them had nothing to do with mortgages or securitization. I was very nearly one of them. However, because of some rather unusual knowledge I have in a growth area I was able to move elsewhere in my firm. About 70,000 Wall Street people weren’t so lucky. My guess is less than half of them were in mortgages, real estate, or securitization. Some of the casualties were in places like issuing municipal bonds, handling student loans, and doing IPOs.

      Those other casualties have the potential to help companies manage risk better. In universities, in Series 7 exams, and at employee and shareholder meetings, wealthy Wall St types should be reminded that irresponsible lending and risk management elsewhere in their firms can cost you your job. It can even blow up the whole firm. In addition to unemployment, you could also end up with worthless stock and stock options. Much of what you thought of as savings is gone.

      My firm has good continuing education. Even so, they certainly could drive this point home a lot better. Avoiding money laundering and fraud are worthy topics, but poor risk controls and stupid lending are the causes taking down our competitors.

      1. Bitter Renter

        Fascinating stuff — thanks for the insider view on this. And excellent point on the continuing education thing.

  8. Orangetimes

    IR and others

    My post about this issue on friday almost went un-noticed.

    I am not sure if you read or come across about the new issue Irvine is facing. Have a look at this site and if appropriate, educate others. Toro Contamination Map.pdf

    I came across this in one of blogs on OCR


    1. Walter

      Think I will buy south of the 405. Problem solved. Nobody is responding because how does one verify this information? Also, it will be a temporary situation.

    2. Bitter Renter

      I responded to it belatedly (actually a response to luckyguy’s reply to yours):

      “Thanks for the link (though you have an extra trailing “” on there).

      The author of the site seems like a bit of a crank. There’s a lot of very questionable reasoning in his discussion of IRWD statements, tons of unsourced claims (as you also allude to). And in that shower photo, can’t tell for sure due to the low resolution, but to me, the pink stuff looks clearly like common Serratia marcescens bacteria, and the darker stuff on the floor like soap scum (and/or non-water-soluble lube residue ;^>) stained with dirt / oils / dead skin / mold.

      But yeah, obviously a very important topic, and I hope it’s getting a thorough treatment from non-conspiracy-nuts.”

  9. ronin


    you make a good point, but there are a lot of reasons for the bubble. Lower interest rates engineered by the Fed made housing more ‘affordable’. Mortgage brokers- what happened to banks?- had no skin in the game and no incentive to do proper loan documentation. Virtualy every organization in the chain was corrupted or compromised to some extent- mortgage insurers, appraisers, etc.

    BTW, the 30 year mortgage was itself a financial innovation, back in the late 30s I believe, though they didn’t really take off till after WWII. Of course the auto and interstate highway system opened up lots of land for building, and cheaper housing construction, etc. kept supply up.
    So housing really did become affordable for large numbers of Americans.

    1. MalibuRenter

      If lower interest rates were the only factor driving the bubble, you would have seen similar price increases throughout the US, which didn’t occur.

      Furthermore, the Fed Funds rate is not what fixed rate mortgages are based on, nor is it even the most common index for ARMs (LIBOR is more common).

  10. bill

    Another great analysis IR.

    Can you guide/link to sources of the data sources that you used for the last chart? I’d be interested in understanding what this would look like for other parts of the country to see how much this was a US phenomena and how much a Southern CA issue. For example I’m in northern NJ where median income is near $100k in many towns, so similar to Irvine but I don’t believe affordability products took off to same degree here.

        1. Walter

          So if we get an earthquake on the west coast that knocks California and Washington into the sea and if a hurricane takes out Florida the national real estate market will get much better..

  11. bshoe


    Thanks for your perspective on housing costs.

    The conventional wisdom is that high prices (“values”) are good, and thus all housing affordable programs simply try to get people with low incomes into houses with high prices. I agree that high house prices and high house inflation are intrinsically bad and are the fundamental impediment to more ownership.

    I learn from your posts, but more importantly it’s the one place I can read about housing without feeling crazy for thinking that high housing inflation is bad in the same manner as, say, gasoline inflation or inflation in the price of blue jeans.

  12. No_Such_Reality

    In looking at the debt to income ratio chart, I’m assuming that’s median income to median home price. Is that correct? If so, it either shows that the median home is being bought by above median income households or that California is an exception case and allowed to run DTIs above 30% even in the bottom of the market.

    If I recall my affordability ratios from the OC Register correctly, I believe is the later. My recollection is that OC/California has been plagued by low affordability for an extended period.

    1. MalibuRenter

      At the bottom in 1996, the median home price was 4x the median household income in LA/OC. The national average was 2.8x in 1996.

      1. nfox

        and in ’96 gas was ~$1.20/gal too. Should be interesting to see where things go this time around with energy being MUCH more expensive.

  13. Emma Anne

    From the DTI chart, it certainly looks like *something* went wrong right around 2002-2003. The ratios looked like they were flattening out and getting ready to revert to the mean, and then they took off again.

  14. Ochomehunter

    IrvineRenter, I remember a while back when you posted the median price chart showing antcipated drop in prices going into next 5-10 years. I think the prices fell much faster than you anticipated. Could you update that chart showing “Anticipated” vs “Actual” on where we are today to get a snapshot on how fast further decline will occur? that would be really helpful.

  15. Hormiguero

    This is really an extension of the fact that our money is based on purely imaginary value. Ponzi schemes beget ponzi schemes.

    Sorry to get on the Ron Paul soapbox, but it is true. The economic climate of 1972-1981 and 2001-present is really the rule, not the exception, when an economy is built on a foundation of funny money.

  16. Ochomehunter

    I think the main reason for the bubble was access to credit. Everyone got approved for any home limit regardless of whether he was even employed. I know people who worked as Pizza delivery folks and got $1M homes for $0 down, in the market frenzy, they were able to make money.

    Interest rates are down even now but home values will continue to fall further due to lack of credit availability to folks who actually drive the markets higher. Even today, home prices are out of reach in OC as compared to median incomes given the fact that those who earn enough are getting caught into credit availability and DTI ratios.

    I think it will be a while before it becomes affordable. I dont think lose lending will start anytime soon.

    1. MalibuRenter

      Credit availability was a big part of the problem, especially with little or no money down, for non-owner occupants, and for people buying more than one house at a time.

      When expected appreciation rates exceed borrowing costs, and there credit available to almost anyone with no money down, many people take the put option and take a chance on winning the home appreciation lotto.

  17. Will

    Question for you guys…

    Instead of “creative” financing packages, why not work on innovative building practices? There’s a lot of neat building technologies coming out of places like MIT that deal with modular building technology that doesn’t look like a schoolhouse portable building.

    The modular design cuts down on waste by being standardized, while providing a level of quality control that can’t be replicated in a multiple-contractor job.

    I know that people are afraid of homes that look like styrofoam or some sort of geodesic eco-monstrosity, but honestly, the level of personalization is a lot more than you think.

    I mean, if you think about it, if you could cut costs by reducing the price of the structure itself, passing the savings on

    What do the dear readers at IHB think (I’m looking at you too, IR!)

    1. cara

      I love it! Bring back the SEARs craftsman home (idea). I think these have serious potential, and I hope they catch on.

      Of course I also love modern architecture and design, so would be more likely to like this concept. I think a really good point in addition to contractor supervision was the dependability potential built-in from needing to survive the transport.

      It’s the triple-wide and double high house. I love it.

  18. LC

    You really need to include something that shows the most fundemental method, called “saving up and paying cash.” It is amazing to contrast this with these exotic methods. Anybody could save enough in 10 years to buy a house outright.

    1. Anonymous

      Ha ha ha … only for the baby boomers in the old days … it’s easy to save up when the house only costs 2x your income instead of 10x as much…

      1. Anonymous

        And, oh yeah, much easier when you are only competing with single income families, and taxes are lower …

  19. MalibuRenter

    There is a nutty article by someone claiming it was a good idea to buy in 2006 at today’s LA Times,

    There are a lot of comments on that blog from people who just aren’t buying Ayres’ line of reasoning/wishing. It’s good to see the more general public thrashing junk analysis in the media so thorougly.

    There is also a complimentary post mentioning the IHB’s Peaker and Trougher analysis.

  20. IrvineBuyer

    I agree with the IR and his excellent article. I have been explaining my friends this problem exactly. Negative amortization loans or teaser payment loans made house prices double here in Irvine.
    But going back to affordability, if you really want to make housing affordable, you have to work on the supply side. That is, government would have to build more houses or encourage more houses to be built, or in the current scenario, they have to let foreclosures happen. By lowering interest rates, allowing exotic financing you are adding to the demand part of the equation. This is the opposite of what you want if you want affordable housing.

  21. nefron

    I’m a lurker, never posted before, but had to add my two cents tonight. I totally agree with msv’s post from this morning….too many Americans just don’t want to sit down and figure out on paper if they can afford a mortgage. I’m also looking at houses now and was very surprised at the amounts that lenders are willing to lend to me, even in the middle of this ‘credit crunch.’ So should I go ahead and take out some huge mortgage loan just because the bank says they’ll lend it to me? No, it’s my responsibility to make sure I can pay it back. It has always been difficult to get a mortgage loan in this country until recently…I don’t understand why people who knew they’d never qualify for a mortgage in the past suddenly thought something changed. A dollar is a dollar, no matter what package it’s wrapped up in.


    Though I have not followed his example as an adult,I remember my driveway-making/foundation- digging/stonewall-building grandfather owning his 5 acre property in an upscale area FREE & CLEAR.He paid cash for his cars.He had & could afford five children.He had to do it that way because in his era-NO ONE was going to loan a black man money to do ANYTHING.I bring this up because he found a way to live the “AMERICAN DREAM” at a time when the forces of society were quasi-LEGALLY empowered & dead set against him doing such.I also bring this up because I find it interesting that in my lifetime the way people “buy” things-which is to say MAKE PAYMENTS & KEEP BANKERS & FINANCE COMPANIES in business-is a radical departure from what was once considered ownership. Apologists like MO FINE who defend this
    crap and the arrogance it has triggered for the last decade or so just need to be brought to heel.(hopefully by market forces)Though with this recent gov’t bailout & probably more meddling on the way…I’m not sure how.

    KUDOS to LC for the 12:31p.m. post: It is the route I am trying to transition to now.Better late than never.

    BIG UPS TO WILL for the 11:14am post:
    I am looking into converting ship containers & aviation parts into something approaching livable & stylish.

  23. Ryan

    The bubble and now the bust are all about Purchasing Power. Excess PP bid up price to unsustainable levels. Now, a return to normal PP and prices are going to fall.

    Consider a typical So Cal area where the median income in 1999 was $75,000 and where the median home price was $288,000. (a 4-1 home price to income ratio)

    In 2005-06 the median home price in this area shot up to $700,000. Meanwhile incomes rose 3% or were $87,000 in 05/06. This is a (9 to 1 income to home price ratio.)

    So our $288,000 house became a $700,000 house.
    When return to 4-1 and account for income rise of 3% a year, the maximum house price than can be supported is $348,000. The difference between the $700,000 and $348,000 is your bubble.

    There’s a nifty tool where you can access the data for your zip-code at Look for the Ceiling Fundamental.

  24. LikeAStalledPlane

    I like this post very much and view carping by shills as further endorsement. All it needs is mention of appraisal frauds to be complete summary.

    We can see the outlines of the last gasp of these ‘affordability’ products in the 3% down for FHA loans, new jumbo limits expressly designed for California lunkheads and the ill-designed IRS $7500 ‘loan’. People who take advantage of these new stimuli will soon be called post-boom knife catchers and like a collector’s bugs, will end up impaled on their foolishness. Smarter people will let the market run the medians down to where they have stabilized for a couple months sometime after May 2011. One thing is certain, in the absence of Wall Street investment cash, prices will not be able to reinflate quickly. There will lots of time to buy at the coming bottom, which will probably occur after Congress runs out of money. Plus considering California’s coming bankrupcy and those of its local governments, buying into that headache doesn’t seem right. But maybe there’s a nifty flameproof canyon with just the woodsy bungalow for you; there’s sure to be a real estate guy ready to help you find it. Mo Fine, for instance.

  25. Laura Louzader

    This is one of your finest posts. The title says it all.

    I’ve been saying the same thing for years.

    Let’s go through a check list of housing programs through the 30s forward, that have only hurt the next class up, while doing nothing permanent to help the intended beneficiaries:

    Federally subsidized low-income housing projects: The first and core injury. Destroyed solid lower-class neighborhoods with their intricate support networks so necessary to low-income people while warehousing the poor in ugly, sterile buildings in which you couldn’t supervise your kids, hang out your wash, easily commune with neighbors, or maintain control of your common space, resulting in mile after mile of city neighborhoods defaced with ugly, sterile buildings with fetid, dangerous hallways.

    The massive monies devoted to the construction of projects resulted in driving up housing costs to the lower-middle classes, who were displaced by rising crime rates and the escalating costs of construction, driven northward by government subsidies- why work for me or you for $269,900 (or the 1955 equivalent thereof), when you can cream the federal government for $50MM and cut corners and substitute materials allover the place?

    This led to efforts to help the lower-middle and middle classes afford houses, the FHA and VA housing programs, which made it possible to buy with no down. This helped drive prices further and also helped drive middle-class flight from the cities and the construction of thousands of miles of ticky-tacky auto suburbs miles from town.

    Then, of course, we have Section 8 rental subsidies, which give truly low-income buyers their “choice” in housing. Very nice- a woman with a welfare income could, and many did, end up living in luxury apartments while people like myself rented within their means. Worse, landlords could overcharge for deteriorating apartments, do NOTHING to make them competitive, and make a great living off a noisome slum that blighted the neighborhood. The result, of course, was soaring middle class rents and the final destruction of absolutely beautiful old buildings and the wonderful old city neighborhoods they stood in. Section 8 was the final destruction of our cities- I never saw so much destruction take place so quickly, never saw so many magnificent buildings destroyed with such speed, as I did in my native ST. Louis, immediately following the promulgation of the Section 8 program.

    Now, these great schemes did not work exactly as intended, as we have seen. It was never the intention of our social theorists and architects and government planners to turn our cities into war zones or generate tens of thousands of miles of autocentric sprawl, and these well-meaning people still cannot understand how their best-laid plans for us all still go awry.

    Which is why they still keep on doing what has proved not to work. Our idea here in this country is: if you do something and it doesn’t work, just keep throwing money at it until you get results, then when it continues to not work, and you get even more unintended consequences, then generate yet another cockamamee plan and throw even more money at it. Yeah, and make even more regulations and more plans and when nothing avails, form another task force or government agency (complete with its own 500,000 sq ft building and staff of 900) to find out why it doesn’t work. Commission an academic study while you’re at it.

    And they won’t work and never will no matter how much money you throw them, because throwing money at stuff like this IS the problem.

    When ever will we learn?

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