Spenders and Pretenders

I have written many times on this blog about the upcoming foreclosure problem due to ARM resets.
I have posted the available statistics and presented all the
data-driven arguments about why this is going to be a problem. However,
today I am going to ask you to think about this issue more intuitively.
Based on what you know about human nature, I think you can see how big
this problem is.

Today’s featured property is a median-sized 3/3 condo where the onwer managed to extract almost $300,000 in HELOC money.

38 Daisy kitchen

Asking Price: $499,900

Address: 38 Daisy, Irvine, CA 92618


The Pretender — Jackson Browne

Im going to be a happy idiot
And struggle for the legal tender
Where the ads take aim and lay their claim
To the heart and the soul of the spender

I have written many times on this blog about the upcoming foreclosure problem due to ARM resets.
I have posted the available statistics and presented all the
data-driven arguments about why this is going to be a problem. However,
today I am going to ask you to think about this issue more intuitively.
Based on what you know about human nature, I think you can see how big
this problem is.

In the short run, prices in any market are purely driven by supply
and demand. Right now, the available inventory in Irvine is low, so
despite the decline in demand caused by tighter lending standards and
job losses, prices have not dropped as much as they should. Supply and
demand are still in balance. If the inventory were to increase (which
it will) this does not necessarily cause prices to drop. If the sellers
are unmotivated, large inventories will cap any appreciation, but it
does not force prices lower. It is when sellers become very motivated
that prices really start to drop.

Lenders and builders are motivated sellers. They must sell their inventory. The builders have pulled back construction to record low levels,
so this leaves the lenders as the main source of must-sell inventory.
Therefore, the real question for future pricing is how much
lender-owned inventory will we have?


Lender inventory is created by the foreclosure process. When a house
is auctioned at a foreclosure, the lender will bid the price up to a
pre-determined level according to its loss mitigation procedures. They
hope not to buy the property at auction. Unfortunately, since prices
are so inflated, and since the first mortgages are so large, lenders
end up buying the bulk of foreclosures at auction.

The sources of these foreclosures are borrowers who default on their
mortgages. We have discussed many of the motivating factors behind
borrower defaults, but these mostly boil down to the fact that these
borrowers have more debt than they can either service or pay off. Those
borrowers who are likely to default can be broken down into two
categories: 1. Those who bought at the peak and paid too much. 2. Those
who borrowed at the peak and owe too much. It is this latter category
that gets so much attention at the IHB: HELOC abusers.

I have posted profiles of HELOC abuse day after day here on the IHB.
It has been eye-opening to many that this practice was so widespread.
At first many people were incredulous that anyone would behave that
way. Then many people wrote it off as an extreme example of an isolated
behavior. Now I think most realize that many, many people were doing
this. Based on what I see in the property records, I believe this was
the rule rather than the exception.

This is where I ask you to think about human nature to get a feel
for how large the problem is. Yesterday I wrote about the natural
feelings of jealousy people have when they see others spending so much
money. There is a widespread desire to “keep up with the Jones’s”.
During the bubble when everyone was buying houses and feeling rich,
there was enormous peer pressure to enjoy the good life. This was fed
into by the marketing machine of lenders touting the great lifestyle
one could obtain through HELOCs and refinancing. Couple all these
pressures with the widespread belief that this money was free because
house prices would go up forever, and there is little to stop people
from taking this money.

Think about your own experience and emotions. It takes an iron will and self-discipline to stop from taking this money, and that is only if you believe you shouldn’t.
When you really think about what occurred, it is more surprising that
everyone did not do this. It is not logical to think that only a few
people got caught up in this. It is far more likely that only a few
people did not get caught up in it. Based on what I see in my
daily search for properties to profile, if it is for sale now, there is
an 80% chance that the seller either bought at the peak or added to
their mortgage. I am not exaggerating.

So when you think about how big the foreclosure problem is going to be (it is currently understated), think about basic human nature. Do you think many people borrowed themselves into oblivion? I do.

Im going to rent myself a house
In the shade of the freeway
Im going to pack my lunch in the morning
And go to work each day
And when the evening rolls around
Ill go on home and lay my body down
And when the morning light comes streaming in
Ill get up and do it again
Say it again

38 Daisy kitchen

Asking Price: $499,900IrvineRenter

Income Requirement: $124,975

Downpayment Needed: $99,980

Monthly Equity Burn: $4,165

Purchase Price: $313,000

Purchase Date: 12/13/2000

Address: 38 Daisy, Irvine, CA 92618

Beds: 3
Baths: 3
Sq. Ft.: 1,712
$/Sq. Ft.: $292
Lot Size:
Property Type: Condominium
Style: Contemporary
Year Built: 2000
Stories: 2
Floor: 1
Area: Oak Creek
County: Orange
MLS#: S560978
Source: SoCalMLS
Status: Active
On Redfin: 4 days

Super spacious 3 bedrom 2.5 bath unit boasts over 1,700 square feet.
Direct access two car garage with brand new garage door installed.
Inside laundry conveniently located on 2nd Floor. Beautiful marble
flooring throughout first floor. Nicely tiled fireplace. Kitchen is
nice and bright with ceramic tile. Close to great shopping and
Excellent School District!

IMO, this is probably within $50,000 to $75,000 of its bottom value. It would probably rent for $2,500.

As you might have guessed, today’s featured property is a case of HELOC abuse.

  • The property was purchased on 12/13/200 for $313,000. The owners used a $234,700 first mortage, a $62,550 second mortgage, and a $15,750 downpayment.
  • On 12/21/2001, they refinanced with a $346,500 first mortgage. I imagine that extra $50,000 made for a Merry Christmas…
  • On 9/11/2202, they opened a stand-alone second for $45,000.
  • On 11/15/2002, they refinanced with a $375,000 first mortgage.
  • On 10/7/2003, they opened a stand-alone second for $20,000 and a HELOC for $50,000.
  • On 1/10/2005 they opened a HELOC for $25,000.
  • On 2/11/2005, they refinanced with a $590,000 first mortgage.
  • Total property debt was $590,000.
  • Total mortgage equity withdrawal was $292,750 including their tiny downpayment.

These people put $15,750 into a property for about 1 year, and they took out $292,750 over the next 5 years. Pretty good return on investment, wouldn’t you say? It is not hard to see why houses in California are so desirable.

This property was taken back by the lender on 9/24/2008 for $508,500. Three months later, it is now on the market. If this property sells for its asking price, and if a 6% commission is paid, the total loss to the lender will be $120,094. Not to worry though, the borrowers still made almost $300,000 on the deal…


Im going to rent myself a house
In the shade of the freeway
Im going to pack my lunch in the morning
And go to work each day
And when the evening rolls around
Ill go on home and lay my body down
And when the morning light comes streaming in
Ill get up and do it again

Say it again

Caught between the longing for love
And the struggle for the legal tender
Where the sirens sing and the church bells ring
And the junk man pounds his fender
Where the veterans dream of the fight
Fast asleep at the traffic light
And the children solemnly wait
For the ice cream vendor
Out into the cool of the evening
Strolls the pretender
He knows that all his hopes and dreams
Begin and end there

Im going to be a happy idiot
And struggle for the legal tender
Where the ads take aim and lay their claim
To the heart and the soul of the spender
And believe in whatever may lie
In those things that money can buy
Thought true love could have been a contender
Are you there?
Say a prayer for the pretender
Who started out so young and strong
Only to surrender

The Pretender — Jackson Browne

52 thoughts on “Spenders and Pretenders

  1. Agent#777

    I had another person yesterday remark that his HELOC was now being frozen by the bank. He knows he is underwater on his house, but at least he can afford his fixed payment (fixed on the first, not sure of the terms of his second and then HELOC). Unfortunately, he is itching to buy another, as he figures we are close to the bottom. I tell him almost daily that I don’t think the bottom is anywhere near.

    1. george8

      Who do you his itching to buy another since he is underwater on his house? Average down on multiple houses?

      He must be out of his mind.

      1. Agent#777

        I should have mentioned that his mom is a long-time Realtor, and she apparently owns a number of properties that she has had for a while. Hence, he has a personal reference that real estate always seems to come back. At least that is my take on his mindset.
        I am assuming that she did not get two mortgages and a HELOC on her properties though. 😉

        1. dafox

          have him ask his mom how long the last downturn was (in the early 90s).
          It’ll come back. but the question is how long are we dropping for first?

  2. AbroadThankGod


    You think the price for a mid-range condo will bottom around 450k? No view, no yard, neighbors twelve feet across from your bedroom. Wow…

    That seems high to me, no matter how much marble flooring it has. I suspect people that can manage to save 80k and have good paying jobs will expect more.

    1. george8

      I believe IR is basing this on 160 GRM and $2500 monthly rent for $400k. And, maybe some knife catchers would jump the gun a little at a little higher prices.

        1. lunatic fringe

          Rent inflation? Seems doubtful, IR.

          I was apartment shopping just last weekend and for a 2BR/2BA I was offered an effective rent of under $2k per month in a brand new complex near Main & Jamboree. The advertised rent is over $2500.

          Made me decide to look online at the Woodbury apartment I am currently in and discovered that the advertised rent is now $200 under what I pay.

          I think we’re looking at falling rents for a while and I certainly wouldn’t base a home purchase on today’s rental rates.

          (I also think your GRM is very generous in a deflationary period, even for Irvine.)

          1. IrvineRenter

            Yes, we won’t be seeing any rent inflation during this recession, and this recession may last a long time.

            It is funny that the board is getting more bearish than I am 🙂

          2. Perspective

            Keep a close eye on this bearish sentiment. This board is becoming very bearish, as you’d expect; but so are the realtors I know (just 2 thankfully).

          3. lunatic fringe

            Find me a good reason to be bullish and I’ll flip that way. So far I see no reason to think things won’t continue down.

          4. lazyDog

            Well I don’t know of any more bullish sign than a surfeit of bearish sentiment. When everybody says you’d be crazy to buy something, you would be crazy not to. I believe that this was Perspective’s point as well.

          5. Laura Louzader

            I rather not base my decision on anyone else’s feelings at this point, but on the numbers.

            If the numbers make sense- the house is at rent-saver or investor price, and it’s the place you want, and can honestly afford, the only thing that should stop you is consideration of your job situation, which for most people is a major obstacle.

            If you have good reason to believe you are reasonably secure in your income AND everything else sets up, there’s no reason to put off buying.

            However, according to Case-Schiller, most locales still have a considerable distance to drop to get back to the mean, and most major city areas are still unaffordable, though there are some deals to be had here and there.

            Right now, here in Chicago, only the most marginal properties are priced at rent parity, and most of the foreclosures are NOT listed on the MLS. Look out below when all those REOs are finally dumped on the market, for they will drag area comparables down considerably.

    2. AbroadThankGod

      I guess I’m saying that if this condo is what a professional making 100k a year has to look forward to then something is wrong with the country. Not that I’m a big believer in national mythology but this doesn’t look like the “American dream” to me.

      1. george8

        Agreed. However, housing prices and costs do vary greatly depending on how urbanized the location is.

        For example, professional making US$100k a year in NYC, Hong Kong, London and etc. would be thrilled to be able to afford half less housing than this.

        1. AbroadThankGod

          I’ve lived and worked in NYC and London and paid much more for rent. You’re right, George8. This would be heavenly for 2400 in either of those cities. But Irvine is not NYC. It’s urban sprawl. It’s not dense, walkable or cosmopolitan. If you’re paying a fortune to live in London, AT LEAST you’re in London. Moreover, I think rents are going to drop in Irvine. Precipitously. Finally, I would just say that 100k is going to be MORE than what it used to be – at least five or eight years ago – after this recession has taken hold for a while.
          I don’t mean to be argumentative. It just strikes me as counterintuitive that this kind of housing (condos) isn’t considered lower income in areas like Irvine.

          1. no_worries

            IR’s comment struck me as off too.

            I’m actually not following the Irvine Market that closely (I don’t think the “premium” is worth it), so perhaps he’s right. $450k is going to buy you a lot more in a neighboring market then (in fact it already would).

            Here’s a question, when was this property worth $450 last?

          2. asianinvasian

            You’re right. Irvine is not NYC. Irvine has MUCH better weather. That’s what you’re paying for.

          3. AbroadThankGod

            That comment is either disingenuous or stupid. Compton has the same weather as Irvine. And the same amount of culture. Meaning none…

  3. mav

    I would like to see a forecast of the invetory curve based on the scenario of artificially low rates for a decade and cram downs. The assumption all along has been that rates would spike which would be like throwing gasoline on the reset curves.

    The toxic loans have record low payments now due to the artificially low rates. A projection of high inventory would have to be predicated on the Fed and Obama allowing free market carnage. Alternatively it would have to be based on record high unemployment and deflation in the face of market manipulation. I believe the unemployment and deflation scenario is more likely than rates spiking.

    It’s good to explore scenarios and be open to all potential scenarios.


    1. Modguy

      Mav points out something I wanted to comment on from your opening line about the pending ARM resets… With LIBOR at record lows most adjustable rates are dropping – a lot – when they start adjusting! But everyone would rather jump on the ARM doomsday story because it’s more interesting than the truth?

      For those that don’t know, most ARM loans are not complicated… In the NOTE, lender and borrower agree on an Index and Margin from which the rate is calculated. Most use the LIBOR index (google it) which is at a historic low of 1.75 (6 mos avg), and most Prime loans add a margin of 2.25 to calculate your new rate. If your initial fixed period is expiring, you could see you rate drop to 4%!! Now, if you didn’t understand your NOTE, the shady broker may have scr*wed you by slipping in a margin of 5 or 6, but the resulting rate given the current LIBOR isn’t that bad (historically).

      PS none of this applies to Option ARM loans… Those folks ate truly f’d regardless of who the FED artificially holds down rates for the time being. I’d love to see a “plain English” educational post on pick-a-pays (option arms). I talk to people everyday (Trying to do loan mods on these loans), and they were lied to or didn’t understand their loan (or both)!

      1. IrvineRenter

        I will revisit this issue as long as necessary for people to get the problem. The ARM doomsday story is interesting because it is the truth.

        The ARM Problem

        As you mentioned, the Option ARM people are totally screwed. There is not much debate on that issue, and it is a huge problem. But the ARM reset is also a problem for two reasons: 1. The rate reset also corresponds with an amortization recast for most ARM borrowers. Most of these loans were interest-only. Even if rates dropped, the loss of the interest-only option is going to raise their payments significantly. 2. None of these people are going to be able to refinance if the payment caused by #1 is not affordable. They do not meet today’s standards, mostly because of LTV problems (they are underwater).

        1. idrnkurmlkshk

          Wait, I thought all those ARM people had their opportunity to refinance recently? LOL!

          Yup..this country hasn’t seen ANYTHING yet.

        2. george8

          Obama, while in his victorious honeymoon, is being fed and led into major heroic “rescue plans” that include buying the very overpriced toxic papers with taxpayer obligation, modification and pushing out of ARM terms, even buying up all foreclosure….

          The calculated ARM reset and recast probably will not play out as charted.

          In the name of goodness, Obama is leading the mankind into a dirty and deceiving path.

        3. mav

          IR, how do you assume # 2 as a given? That is mind boggling to me. That is like assuming a bridge will fall down because it needs maitenance.

          1. IrvineRenter

            What makes you think the people who need to refinance because they cannot afford the reset will be given the opportunity to refinance? Most, if not all, will not meet the equity requirement of having at least 20%, few will have the income to afford a fixed-rate mortgage (if they did, they would not have used the ARM to begin with), and less of these people will meet the other underwriting criteria that have been tightening as the credit crunch takes hold. Plus, the statistics show that the default and foreclosure rates on Alt-A and prime loans, particularly ARMs, are following the same pattern as subprime loans did. The only difference is the two year delay on the reset schedule. So, I would say that I do not assume #2 is a given, I see that it is happening, and I see no reason it will not continue to be a problem.

          2. mav

            IR, my point is that the rules can change. Cram downs, elimination of LTV requirements, and a decade of ZIRP are all realistically in play.

          3. george8


            I’d like to suggest that you may want to incorporate the current political and business sentiment in your future analysis and projection.

            Bank, business as well as individual all know very well that they need to continue to play dead to get the free money. Collectively, the irresponsible and the guilty are dumping the problem on the laps of the taxpayers.

            The guilty CEOs continue to be CEOs, the irresponsible NY Fed Chairman becomes Treasury Secretarty.

            And, from what’s coing out of the new administration, they are winning. It is not free market economics any more.

    2. IrvineRenter


      What you describe would be very difficult to model. My projections were based on the assumptions mortgage interest rates would hold in the 6% range. A lower interest rate, if sustained, would keep prices higher and make for a higher bottom. Higher interest rates make for a true doomsday scenario.

      All the cram downs in the world will not keep prices elevated above what people can afford to pay. Fewer foreclosures would certainly make the price declines less steep, but as the amounts buyers can finance declines, so will prices.

      1. george8

        Obama, while in his victorious honeymoon, is being fed and led into major heroic “rescue plans” that include buying the very overpriced toxic papers with taxpayer obligation, modification and pushing out of ARM terms, even buying up all foreclosure….

        The calculated ARM reset and recast probably will not play out as charted.

        In the name of goodness, Obama is leading the mankind into a dirty and deceiving path.

      2. mav

        IR, I was not talking about rates on new mortgages. The toxic crap is based on either the LIBOR or the fed rate. Some of the loans are based on the fed rate + 3%. As long as ZIRP is in place loans will reset lower.

        We are talking about the inventory side of the equation in Irvine. Not entire Orange County, correct? Affordability will most certainly return but for some neighborhoods that likely will include large down payments.

        In regards to the impact of ZIRP and cram downs…. I really don’t think that scenario is that difficult to model in terms of inventory. Qualitatively you can figure that out. However, the actual policies are difficult to predict.

  4. Kelja

    IF your are looking at this as a Rental property (sorry bout the cap, couldn’t help myself), then shouldn’t the GRM be 110 to 120? With a rent of $2500 that would make this property a buy @ $300,000. Of course, the $2500 rent presupposes rents will remain strong in the face of a deep recession.

    IF, on the other hand, this is what home looks like for a $100,000 a year earner – how depressing.

    The Big Question is what happens when Obama opens the ‘BAD’ bank, which will be announced any day now. The plan, as I understand it for the government to buy up all the toxic waste from the banks and sequester it into a nationalized dump. Of course, they’ll crow how this is only a loan (don’t look behind the curtain folks!) and the Taxpayer will make money on the garbage.

    How will these ‘Financial Instruments of Mass Destruction’ be priced, what will the gov. pay for them? The plan, again, is ingenious – they go out to the bank with a price, an offer. As someone astutely pointed out, if any bank accepts the government price, you have to know the offer was too high to begin with.

    Once the Banks are freed of toxic waste, they will be free to lend once again. The problem will be to whom. The next step will be to ‘relax’ lending standards… again. Can anyone say, no-doc loans?

    This will happen then nationalization.

    Wow, what a great country!

  5. idrnkurmlkshk

    So…after the banks become nationalized, the debt is into the trillions, hyperinflation takes hold….if you don’t own a home now (better outright) you REALLY never will?

    I just don’t see how the dollar will hold up much longer? Can’t we just call a force majeure and start over?

    Oh yea..the World Bank wouldn’t want that. So lets just make more debt.

    1. h

      The dollar is holding up because the Chinese and the Saudis are making sure it holds up–they have so much money in dollars, they’ll lose a bundle if the dollar drops, therefore they have a serious interest in supporting it–at least for a while.

      1. Anonymous

        Dollar is NOT holding up due to Chinese & Saudis but due to Americans finally saving and repatriating money from foreign investments. Hyperinflationists, kindly take note. The bill not be due on one sudden morning that we need to pay up by printing. Yes, the debt will be quite high and US WILL print money. Unless speculators use those dollars to bid up assets or things (velocity), inflation won’t happen. We are all turning Japanese now and we better look towards Japan (at least Argentine) rather than Zimbabwe.

  6. dafox

    Why havent we seen firesale prices like they saw in the 90s?
    Am I hoping for too much when I think the banks will get to a point where they need the cash rather than cover their costs on the loan?

    I’m praying for that day. We’ll truly see price drops at that point.

    1. george8

      Only after government agrees to absorb the junk of the loss in the “bad bank” account, the drop in price will occur.

  7. alan

    CNN money had a story a few days ago reporting that banks had only listed 1/3 of their properties, meaning that there is still a larger shadow inventory of foreclosed properties which haven’t hit the market yet.

    1. Dave

      I’ve seen this happen to a house in my neighborhood (Fullerton). The bank foreclosed, the people moved out, and no attempt by the bank to sell it for 3 months now.

  8. camsavem

    This is going to be long and drawn out and will affect everyone. As the saying goes, there are two types of people you dont want to sue, those that have nothing to lose and those with unlimited resources.

    In this instance, you have both. Banks and financial institutions were in a game of chicken with the U.S. Government and the Fed blinked first. They have already dumped trillions down the rat hole and they wont stop now. There is no incentive for the Banks to function properly, they are already bankrupt. Why should they care?

    Do you think any of the Merill Lynch executives declined any of their bonus money for bankrupting their company? Hell no, it was ponied up by you and I the taxpayers. I am sure they all yucked it up at our expense after cashing the checks.

    No, this is a scam of epic proportion. The Fed and the banks will do everything in their power to keep Amercians has home debtors, much to the detriment of the country as a whole. Every dollar that goes to debt service is a dollar that cant be used to support an actual working, thriving economy that builds and sells products, not one that just pushes fake money from one account to another.

    There are no more markets left to scam.

    1. tlc8386

      “There are no more markets left to scam.”

      I remember reading something after the tech crash and the push for the housing bubble that the next market to take over for the cash were the rich American’s after all we only used 25% of our income for our homes, we paid only average 30% for our taxes compared to the rest of the World they saw us as a Rich target —like gangsters salivating on how they could get our money–funny part most of us spent it in heloc’s
      –I have no idea where I read something like this but it caused me to go mostly cash.

      As for the next scam they will find one–somewhere. Most likely energy again. REnewed energy could be it as well??

  9. idrnkurmlkshk

    “I believe that banking institutions are more dangerous to our liberties than standing armies. If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that will grow up around [the banks] will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered. The issuing power should be taken from the banks and restored to the people, to whom it properly belongs.”

    There may not be any more markets left to scam, but there are still whole countries.

    1. newbie

      $380k, I may have some properties for you :}
      A 2 bd/2bath, rent at rent $2000 less HOA $200-300 = $1700 net. less interest payment, taxes and insurance. I smell an alligator at $380k.

  10. Mcdonna1980

    I was made aware that Fannie and Freddie are in the works of contracting with various loan orgination companies to rework their loans. I was told they are willing to write down 60% of the principal loan balance to get them off their books.

    IR, what are your thoughts on a this?

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