Washington D.C., Dec. 5, 2008 — Treasury Secretary, Hank Paulson, announced a moratorium on defaults today. “We have been considering a moratorium on foreclosures,” said Paulson, “but a moratorium on defaults will be much more effective.”

While other lawmakers are still considering foreclosure moratoriums, Paulson is convinced a default moratorium is a better approach. He hopes others in State and Local legistlatures will follow his lead. “We want to keep people in their homes,” said Paulson, “and we need to keep our lending institutions healthy.”

When asked how a default moratorium would help, Paulson had this to say, “Foreclosures are the result of defaults, and defaults are also causing lenders to take write-downs on mortgage loans. By putting a moratorium on defaults, we solve both problems.” Paulson provides clear guidance on how the program would work, “Homeowners need to keep making their payments. That will put an end to the housing crisis.”

Experts agree that falling home values are not the root of the problem. Paulson goes on, “But let me emphasize that we do not need a system-wide solution for the vast majority of loans where a homeowner temporarily has negative equity. Negative equity does not affect borrowers’ ability to pay their loans. Homeowners who can afford their mortgage payment should honor their obligations.”

When pressed for more details on how such a moratorium would be implemented when so many homeowners cannot afford their payments, Paulson responded, “We are still working on the details. We may provide direct government assistance. The American people are kind and generous. They certainly won’t mind helping out their fellow citizens with tax dollars as necessary.”

When confronted with the possibility of creating a moral hazard, Paulson scoffed at the notion, “Homeowners need this help to stay in their homes. It would be immoral to throw them out on the street.”

You’re gonna realize that
Some of my lies are true

Some of My Lies Are True — Huey Lewis and the News

I have been getting some practice writing press releases lately.

When our various politicians propose foreclosure moratoriums, do you think they are serious? I believe most of them are simply pandering to their constituents that want to believe they are doing something about the housing price crash. If you give the idea of a foreclosure moratorium even a moment’s thought, you realize it could never accomplish anything. We just had a defacto foreclosure moratorium here in California when we instituted a new 30-day waiting period for lenders to contact borrowers to try to work something out. Of course, this only delayed the inevitable, but perhaps it gained some homeowners in foreclosure an extra month of free rent from the bank. I suppose the idea isn’t any crazier than subsidising mortgage interest rates at 4.5%. Why not zero percent? Why not pay people to live in homes? That would probably reduce the inventory. Any thoughts on what half-baked idea they will come up with next week?

Today’s featured property is another HELOC abuser who won’t get bailed out.

WTF?

Asking Price: $463,900

Income Requirement: $115,975

Downpayment Needed: $92,780

Monthly Equity Burn: $3,865

Purchase Price: $420,000

Purchase Date: 8/29/2003

Address: 24 Rockrose Way, Irvine, CA 92612

Beds:	3
Baths:	2
Sq. Ft.:	1,660
$/Sq. Ft.:	$279
Lot Size:	4,928 Sq. Ft.
Property Type:	Single Family Residence
Style:	Cottage
Year Built:	1966
Stories:	1
Area:	University Park
County:	Orange
MLS#:	P667046
Source:	SoCalMLS
Status:	Active
On Redfin:	1 day
New Listing (24 hours)

Can anyone tell me what the second picture is showing me?

Backing to green belt? Yeah, and siding on to the 405.

Well, this person didn’t double their mortgage. they didn’t own it long enough. So what did they do?

• The property was purchased on 8/29/2003 for $397,000. The owner used a $336,000 first mortgage, an $84,000 second mortgage, and a $0 downpayment.
• On 10/29/2004 he opened a HELOC for $120,000.
• On 9/21/2005 he refinanced with an Option ARM with a 1% teaser rate for $528,000.
• On 4/26/2007 he opened a HELOC for $24,847.
• Total property debt was $552,847.
• Total mortgage equity withdrawal was $152,847.

Is it any wonder kool aid intoxication is so strong? This guy put no money down, and he managed to extract $152,847 in spending money over a 3 year period. Who wouldn’t want some of that?

If this property sells for its asking price, and if a 6% commission is paid, the IndyMac (now the US taxpayer) will lose $116,781.

I hope you have enjoyed this week at the Irvine Housing Blog. Come back next week as we
continue chronicling ‘the seventh circle of real estate hell.’ Have a great weekend.

🙂

{book}

Say you wanna be a friend of mine
See me all the time
You don’t care what I do
But it all sounds the same to me

Sooner or later when you say I love you
Your gonna
Realize that some of my lies are true

Some of My Lies Are True — Huey Lewis and the New

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.

{book}

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.

{book}

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.

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