February 23, 2007

True American Idol: Subprime Mortgage Lenders Send off a Blast Heard Around the World.

After searching and debating endlessly, we can now state that the catalyst of the housing downturn is subprime mortgage outfits. Many housing watchers have been sitting on the sidelines wondering what event or circumstances would prick the major global housing bubble. It is like watching a car chase on the 405, you know they will eventually catch the person, it’ll probably end bad, but you really don’t know the exact moment or thing that will stop the event. In effect, I am issuing a clarion call that subprime lenders are the first of millions of dominoes to collapse on this housing ponzi scheme. Yes, the call may not sound like an American Idol voice but let me tell you that more people will be affected by this housing collapse than those voting for glorified Karaoke all-stars.

First, let us take a look at a graph that I have used various times:

Let us look at the subprime market:

$1 Trillion in Loan Resets in 2007

With $1 trillion in loans resetting this year we are in a major game of cat and mouse. Close to $100 billion a month is resetting in adjustable rate mortgages and interest only suicide loans. Couple this with a housing market that is falling and you have a spectacle close to the shenanigans of the Anna Nicole case. For the past five years, we have been participating in the global housing orgy either actively or in spectator role. If a seller got in trouble he had two options, either sell the place at a higher price or refi into a longer term mortgage possibly with a cash-out refinance. Essentially the market gave these amateur buyers enough cord to hang themselves; not only that but it was under the guises of “investing.” Sound familiar? All these perma-bulls think that comparing housing to the technology boom is blasphemous. However, the market psychology behind both bubbles is the same; running to purchase an overpriced stock or commodity on risky terms. Think housing is a safe bet? Many newbie buyers are going to realize a hard lesson in leverage and real estate cycles soon…to the tune of $1 trillion.

What About Greenspan?

You don’t hear much about the maestro anymore do we? The great Amadeus of the housing credit party. Well let us recall that it is Greenspan after the 9/11 attacks that decided that we needed to prop up the economy from our very brief recession with easy credit.

All of a sudden with rates dropping, almost by serendipity, did home prices across the nation start going up. Coincidence? I think not. Of course housing raging alcholoic bulls would like you to believe that housing went up on its own merits and accord but unfortunately this is not the case. Wages have not gone up and inflation is still a threat, just ask our new resident HP LaserJet money printer, Ben Bernanke otherwise known as Helicopter Ben. This bubble is so ridiculous that even the aforementioned party heads have nicknames that connote their willingness to throw money at you as if you were in a JayZ video with a bunch of scantly clad women shaking their rears in your face. Okay, maybe that isn’t such a bad thing but back on track, the maestro setup an environment of easy credit access. Or as I like to call this easy credit access, the housing cocaine of the last 6 years. Good old Greenspan essentially gave every homeowner the ability to install a Diebold ATM on the side of their home and access money at their convenience. When 70 percent of our economy is based on consumption I think this was a smart move, don’t you?

40% of Subprime Loans are Liar Loans

Liar loans, no doc loans, fake-it-till-you-make-it-loans, mama didn’t raise a fool loans, or as we have seen in the mainstream media, no documentation loans have become a de facto part of the housing mania. 40% of all subprime loans are considered to fall into this category, a total of $400 to $500 billion in loans. Yet the question arises what happens when the market goes down and rates go up?

A big drop in subprime from NEW. So what exactly occurred here? As you can see above with New Century Financial many lenders are now taking a closer look at the mortgages they are receiving and kicking them back to mortgage companies for not vetting them properly. Not only that, but many mortgage companies make money on the margin and now they are getting doubly screwed. As of a week ago (this is changing daily since a set of things are now in motion) 21 subprime lenders have bit the dust or are filing for bankruptcy. Last week Novastar took a major hit in the similar vein of NEW.

Can’t Refi When You’re Underwater

This raises the major issue that you can’t refinance a home when you are underwater. I’m not referring to a Jacque Cousteau documentary but the fact that you owe more than the house is worth. See, in the last few years even a chimp buying a home would be able to flip it to his donkey neighbor and make a buck. Same thing with technology stocks; remember the infamous experiment of the chimp throwing darts at a bunch of tech stocks and making money? However, now that subprime implosion is on its way we realize that the piper must be paid. And the first to pay up to Tony Soprano is these subprime mortgage companies. Sorry folks, this is only the beginning and many of those following the housing mania realize that the worst is yet to come and many of us saw this a long way coming.

Easier to Buy than Rent!

Unbelievably it is easier to buy a home in California than to rent. If you rent, you have to have a security deposit and at a very minimum a credit check – I’ve also heard through the grapevine a pulse would be a plus but not required. Why do this when you can buy and do a cash-out refinance with no one digging into your background plus you actually get money instead of forking your hard earned moolah. Now that the tide is setting out, we can see who is swimming naked. Many of these folks were betting on turning around and selling their homes if they ever got in trouble. Too bad this isn’t the case and the market this summer will be flooded with these people realizing that their home is worth less than they owe. And this is the recipe of disaster because no longer is real estate the hottest deal in town. The subprime market is now showing us that housing can go down and go down fast; do you think banks will hold on to REOs forever? They’re not in the business of renting properties out so they will be the best indicator of market sentiment and prices because they will sell at the best price the market can get. Unlike many delusional sellers thinking they’ll get Alice in Wonderland prices. Welcome to the first phase of the housing implosion courtesy of the subprime market.


IrvineRenter said...

There is a post at PrudentBear.com analogizing the sub-prime disaster with the Titanic hitting an iceberg.


Very well written article. The collapse of the ABX indices and the resulting collapse of sub-prime mortgage lending is hitting the iceberg.

If you remember the movie Titanic, hitting the iceberg was no big deal. Most didn't even realize something went wrong. A few "in the know" knew what it meant. I feel like we are those few that knew the ship was going down right after it hit the iceberg. Nothing is really different right now, but the Titanic IS going down, we know exactly why it is going down, and there is nothing anyone can do to stop it.

tom stone said...

I remember when the lenders rep came into our shop to pitch NINA loans for the first time"with these loans,unlike stated,you won't have to lie about the income,and thus there is much less liability,and the margins are better too" i do not remember who the rep was,but how i avoided spitting my coffee all over the confernce table is beyond me.back in the 60's there was a period of several years when institutional investors would not touch mortgage paper.years.when i look at the probable losses involved in this fiasco,i expect that there will be a complete,and justified loss of confidence in the risk rating agencies.the money for jumbo loans can go away almost instantly,except for the very few who will qualify under what will be overstrict lending criteria.the lending criteria are almost always too loose or too strict,it takes some very smart people with authority to set reasonable standards.it will not be boring this year.

Dr Housing Bubble said...


We are seeing the first tip of the iceberg and that article does a good job comparing the two. Once you see how bad this thing is you realize that it is too late. The subprime collapse wouldn’t be so bad if we maintained tighter lending standard. However, in the last few years close to 20%+ of all loans is in the subprime market. And lenders by proxy will also tighten on safer loans simply by them overshooting on the conservative side, it’ll be in their nature.

All of this was predicted but no one can see all the damage until this train wreck comes to a slow and painful stop.

Dr Housing Bubble said...


Sound like a lot of CYA behavior. Hate to say but this year we’re going to hear a lot of this going on. Even Novastar was talking about them not seeing the extent of loan defaults as they faced; well what do you expect when items change so quickly and the environment is front-loaded with such risky loans? What more can we say except that this is all predictable but Joe and Susie public are caught up with American Idol and aren’t paying attention to the fact that there loan just reset.

Jessica said...

LOL. What a great anaolgy comparing the housing bubble with the Titanic. Very entertaining article - thank you.

The big question that's on a lot of people's minds is "what effect is the housing bubble going to have on the economy in the United States". Are we headed for a full recession?

Love to hear all your thoughts.