Friday, October 22, 2010

Yet Another Pseudo-Crisis

The Market’s climb up the wall of worry continues. Earnings season has put “double dip recession” back into its coffin, as company after company has shown that recovery in spending for electronic devices, air travel and, in some parts of the world at least, infrastructure barely hesitated during the long, hot, now behind us summer. We find ourselves wondering what the Market will do for an encore once the earnings announcements have run their course and the US electorate has rendered its much anticipated verdict (“buy the rumor, sell the news”?), but the economic underpinnings are still “good enough” to carry the Market higher into 2011.


One recently re-animated element of that nettlesome wall has been the foreclosure mess, the one that has brought “robo-signer” into the national conversation. A whole lot of huffing and puffing suddenly erupted around a “scandal” wherein nobody who has been making their payments has come anywhere close to losing their home, but rules are being bent and “fraud” is being perpetrated by overworked, understaffed attorneys offices. The big scary sounding numbers (“100,000+ foreclosures in September”) are back. I had thought that the passage of time was well along in its inevitable process of healing bad accidents like this one (the aftermath of the blow-off phase of a generation-long Bull Market in real estate). As we shall see, the numbers aren’t nearly as big as they seem. It has been three-plus years (i.e., about half the average duration of home mortgages) since the lenders went from delirious to catatonic and the flippers bailed like a school of spooked mullet. And how did that horrific sounding re-set crisis, the one that was supposed to render millions of adjustable rate mortgages unaffordable, turn out? Who knew that refinance would be the salubrious opportunity it turned out to be for so many home owners? There is no gainsaying that on the level of personal and anecdotal, much hardship, much life-wrecking, character building or destroying crisis has been wrought. But here lies the rub: even a plethora of anecdotal, individual crises does not necessarily add up to a macro crisis. The foreclosure “disaster” has not swamped us after all. We seemed to manage through it, but now all of a sudden its back in the news. What’s up with that?


The first thing to do when confronted with a “crisis” involving big (or in some cases, small) seeming numbers is to put it into perspective. What purports to threaten us today is the prospect of a few million homes changing ownership on terms that almost none of parties are happy with. So, is 100,000+ foreclosures in a month a big number? Compared with past experience, absolutely, but how surprising, given what we have lived through in the past decade, is that? But if we are trying to decide if all these micro crises add up to a macro Crisis, we should cast the number in macro terms. Let’s go to the Census data. 100,000, or even 1,000,000 is not so big in the scheme of a population of 310,000,000. In fact, it’s miniscule. Boil that down to 130,100,000 households and its still tiny.


Once we enter this realm of Census data, we find a few more clues as to how scary this foreclosure mess deserves to be. It appears that the threat of mass contagion is a bit less than was advertised. Some 36,000,000 of those households are renters. All this foreclosure mess means for them is that landlords find themselves in a less favorable position than in the past as “what’s available” got a lot more so. This means downward pressure on rents, a good thing if you are a renter. Of the 76,400,000 households that are owner occupied, roughly a third are owned free and clear. So what does a foreclosure “crisis” mean to them? Probably nothing more than the fact that the gain they would realize, IF they were to sell, on the house they bought a long time ago would not be quite as gargantuan as it would have been four years ago. That leaves about 50,000,000 household with one or more mortgages. But not all of these, indeed, only a small slice of these, got to the dance so late as to have missed on the appreciation which preceded the bust AND whittled down the size of the loan. Some 6,200,000 of these mortgages have a loan to value of >90% LTV, of which 5,800,000 were >100%, or “underwater”.


Even within that barely afloat situation, a little clarity is in order. Much has been made of the threat of “strategic default”, homeowners walking away. This is indeed a problem, of the micro sort, for holders of any such mortgage, but is it really a crisis? It needs to be remembered that there is underwater and there is underwater. For everyone bona fide disaster (stretching one’s means to buy an expensive house at the very top in a hot market) there are no doubt many other situations that are merely disappointing. For example, house bought for $500K and sold ten years later for $450K. A pretty crappy investment, to be sure, but probably far from fatal. Such a home could be thought of as having ended up costing an extra $416/month. Not what you wished for, but hardly a “disaster”. (F.D. I have been “underwater” a couple of times, including after buying in NJ in July 1990. It’s a lousy place to be, but not unbearable. And the passage of time made everything turn out okay after all.) Home ownership is about far more than an investment, and one suspects that most of the remaining “underwater” borrowers will suck it up and learn to live with the realization that not ever investment turns out as expected. It is also quite likely that a vast preponderance of those unfortunate borrowers are in it for the home as opposed to the investment. That proverbial house flipper we got to know so well in 2006 is long gone. Finally, it also looks like to the extent this deserves to be called a crisis, it is very localized. A handful of counties (Dade, Henderson, Maricopa) seem to dominate the news. The 80/20 Rule comes to mind, but with a twist. It’s not 80% of the foreclosures in 20% of the counties out there. We can probably get pretty close to 80% of the likely foreclosures in not much more than twenty counties. Of course, foreclosures will occur in virtually every county every year, but in terms anything that might deserve to be considered a macro crisis, it has been contained to a smattering of blotches on the map.


So why is this pseudo crisis being resurrected? Before we address this, let’s be clear that there is a whole lot of crises, in the micro, personal sense, out there. It just doesn’t deserve to be trumped up into an excuse to crawl under your bed and hide. Anyone who was counting on home price appreciation is experiencing what it is like to buy a stock on margin and then have it go down and not up. Similarly, there are a lot of inadvertent mortgage lenders out there (direct or indirect owners of mortgage backed securities) who just might have a problem if they really need the return on those investments to live up the sales pitch. (Of course, investors have had at least 25 years to learn the pitfalls of buying MBS “yield”.) And just because we are now several years into a profound re-set on the notion of home-as-investment does not mean that the psychic toll is even close to wearing off. (F.D. I know what it’s like to have “How are we going to keep the house?” be the first and last thoughts of one’s day, but again, we got through it.)


I see this “crisis” being resurrected for a couple of reasons. There’s the politic: class struggle that will not quit. The Political Class tries to garner support by catering to a Victim Class. Anyone who feels threatened by foreclosure is in a sense a victim, if only in terms of peace of mind. So declaiming “fraud” because an overtaxed system (remember, most of these foreclosures have to be processed through a very small number of courts) prompted some processors to short cut some technical procedures is yet another way to keep the Big Bad, Eager to Screw You Bankers narrative going. Then there is the matter of not enough ambulances to chase, too many lawyers grubbing after too few fees. As the needed safeguards against unjust foreclosure morphed into an arcane pile of rules and regulations, a “game” inevitably developed. Many of the “victims” of foreclosure we are reading about have been gaming this system, in some instances living rent free for upwards of two years. Not surprisingly, some lawyers have figured out that they can leverage a bit of expertise here (which is at least a bit more than most homeowners have) into a nice fee producing activity. And at least a few of these guys think big, and have the rhetorical flourish to gin a few bruised rules into scandal. That’s really all we have here.


Expect these aftermath of the Great Twentieth Century Real Estate Bubble to resume fading into oblivion in the months ahead, and for something similarly disingenuous to take its place in the wall of worry which we must contend with if we are to take advantage of those mega mood swings we call Bull Markets.


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