The Richmond Fed produced a report that provides some useful
information on the issue of non-recourse mortgage loans and their
default rates. The report includes a State-by-State breakdown of the
rules for defaulting.
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Richmond Fed on the GSE’s – “They Encourage Defaults”
This
report was over my head. For example, the following calculation
describes the probability of a short sale in a Recourse State:
report was over my head. For example, the following calculation
describes the probability of a short sale in a Recourse State:
The conclusions are easier to read. I found this interesting:
“For
homes appraised at $300,000 to $500,000, borrowers in non-recourse
states are 59% more likely to default than borrowers in recourse
states. For homes appraised at $500,000 to $750,000, borrowers in
non-recourse states are almost twice as likely (100%) to default as
borrowers in recourse states while for homes appraised at $750,000 to
$1 million, borrowers in non- recourse states are 66% more likely to
default.”
California is the largest State that is also a
non recourse State. It is also a place where a significant amount of
properties are worth >$300k. Given that the anticipated default rate
is 70+% greater then in another State it tells you what is happening
and what will continue to happen for Cali-jumbo mortgages. It is a
black hole. Given this, why would anyone be willing to lend in
California?
Also from the conclusion is the following. It took
me a bit to understand the double negatives. When I see words like this
I just assume that it is an effort to obfuscate something.
“We cannot reject the hypothesis that recourse does not have an effect on Loans held by the Government Sponsored Enterprises.”
In the body of the paper is a better explanation:
“Recourse does not have a significant impact on the probability of default for mortgages held by a GSE.”
I
found that to be a startling observation. What this means is that
people will more likely default on a GSE loan than a private lender
regardless if they are in recourse or a non-recourse State. This can
only be attributable to the following mindset:
“I
owe this mortgage to the Feds. Even though they have the right to go
after my bank account to pay this off I know they will not. So screw
them, I‘m not paying. There is no downside”.
The confirmation for this comes from the Richmond Fed:
“The
probability of default by foreclosure increases by 7% for mortgages
held by a GSE as compared to the mortgages held by private lenders.”
This
report was sent to Congress. I doubt they will read it. Barney Frank,
one of the chief ‘deciders’ on all of this should read it. The
conclusion is obvious. When the government makes mortgage loans they
are encouraging defaults. As lenders they appear to have no teeth. This
is a hell of a predicament given that the D.C. lenders are currently
95% of the new mortgage market. The total value of mortgages held by
Uncle Sam is $7.5 Trillion.
The most significant contribution
from this piece is a well-organized discussion of who can do what to
whom and when can they do it on a State-by-State basis. That
information can be downloaded at this site. The information on the individual State Laws starts on page 43 and ends on 54.
The
following is a summary of that information. If you are thinking of
defaulting on your mortgage you might take a look at these sources. Who
says the government doesn’t provide useful information?
»
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Florida, Nevada, Ohio, Michigan, all recourse states with tons of foreclosures.
A defeciency judgment that a bank may obtain in any of the recourse states would get tossed in a bankruptcy.
That being the case one would say that the value of a mortgage today is equal to the collateral. The 'collateral is down by 40%. The value of mortgages is 12 T. So that would imply a loss of 5Trillion. Probably too high, but it is a least 3 trillion. We are smoked if that is true.....
Bruce,
This is the BOMB man !!!
Bruce never realized you had your own blog - saw a link to it over at NC yesterday
http://www.nakedcapitalism.com/2009/10/links-happy-halloween.html
Bruce,
I always find your commentary and research quite revealing and relevant.
This is quite a bomb.
Thanks
Bruce,
Very interesting but I think you might be misinterpreting a bit.
"We cannot reject the hypothesis that recourse does not have an effect on loans held by the GSEs"
This is not obfuscation; it's statistical language. They conducted a statistical study. The hypothesis that they investigated was "recourse does not have an effect on loans held by GSEs." Their findings were not statistically significant enough to reject the hypothesis.
"The probability of default by foreclosure increases by 7% for mortgages held by a GSE as compared to the mortgages held by private lenders."
You assume that this 7% increase is attributable to borrowers' mindset vis-a-vis GSEs but it could be attributable to other factors (e.g., the population of GSE borrowers and private lender borrowers are not homogenous in some unidentified respect). You could be right but not necessarily.
Thanks for both points. Like I said, this one was over my head. You seem to understand the methodology and the language. What is your take on the 7%? Is it random factors or is there a real increase in probability?
I think it is not random. The folks at the Richmond Fed would not have reached the conclusion is it was a random error? I think there are two forces at work:
I) Borrowers are less fearful of a Fed lender than a private lender.
II) The lending standards for loans sold to the GSE had (generally) lower credit quality. The originators were quick to 'pass the trash'.
bkrasting@gmail.com
I think (II) is the most likely explanation for the 7% difference. I'm skeptical about how much most borrowers are aware of (1) who holds their mortgage and (2) the difference between a GSE and a private lender.
GSE forfeits are more likely because these loans have the lowest down payments and the least attracive borrowers (in bank terms).
Recourse, or non, is huge obviously.
Securitized, or non, was also huge.
Combined those two essentially made the sub-prime bubble. As defaults move into prime mortgages though, I think it is less about bad borrowers. Society at large had an expectation that a dual income couple could borrow at high LTV and with low cash reserves. Knock 30% off home prices and run unemployment up towards 10% and you are going to have a broad problem.
It stops being about who originated, but when they originated.
Considering the actual unemployment in Ca. is around 20% and how many people are dropping off keys I see something far worse than the 1990 Ca. R/E crash...and it is a crash.
So far Inland Empire/San Diego and even Orange Co. are down up to 50% or more. A lot of homes were built way far away from employment centers in hopes of selling more affordable homes to commuters. With 20% unemployment those 100-500 homes developments in the hot, dry desert don't look cheap now. In order to carry a mortgage and the taxes prices will probably, IN SOME CASES, fall 90% from the high just like 1990. The problem is it is spreading like cancer closer to the cities. Too Bad.
Great News - the savings rate declined from 4.9% to 3.3 from the second to the third quarter !! Who says the banks are not lending ?? Borrow Borrow Borrow Cause there is no Tomorrow (for any of us or our kids)!! The Fed is achieving what its set itself to do. What a great country we live in.
Two sharply pointed questions for you Bruce:
1) haven't financial intermediaries already dumped their most toxic tranches of "Florifornia" paper back onto the Fed's doorstop, er, doorstep;
2) hasn't there been an obscenely blatant collective obfuscation of actual price discovery when it comes to these notes since Lone Star Fund 6's Merrill and CIT "purchases" way back in July of 2008?
Below are publicly verifiable time-stamped Worden TeleChart comments posted under our other online handle, Chopshop, from way back when:
[7/18/2008 6:57:12 PM] <Chopshop> 2007 vintage paper ~ meaning its period / year of origination ~ and referring primarily to RMBS is T H E worst slime imaginable .. im talking deep " Florifornia " paper ... FL, CA, TX, NM, AZ, NV, OH, MI .. stuff being valued RIGHT NOW @ 55- 70 cents on the dollar of Origination ( a VERY important distinction between Origination ~ Org. and MMB ~ mark to make believe ) ... it *MIGHT* fetch 42-47 cents on the Org. $ if you got a real sucker on that line or a junkie fiend like the FED / PPT ... 36 is [the] next stop on [the] way to 27-24 before [becoming] teenagers
[7/30/2008 5:42:17 AM] <Chopshop> from Barry Ritholz at [link excluded] " Industry participants will likely mark super-senior CDO assets with 2006 and 2007 vintage collateral down to the $0.22 range. Including the financing, Merrill took assets with a carrying value of $0.36 and wrote them down to $0.22, and transferred the risk of declines down to $0.17 to a 3rd party. "
[7/30/2008 5:44:52 AM] <Chopshop> sorry, i was REALLY off the ball on that "guess" huh ... what was 61 cents on the dollar when i said that was just sold for 21.8 cents on the dollar with implied value on next leg @ 17 cents ... by the way, just to be precise ... MER just "sold" 2005 vintages for what amount[s] to 5.47 cents on the dollar .. see barry ritholz link above for explicit accounting of arrival at said #
[7/30/2008 5:50:00 AM] <Chopshop> MER : REPO'd liablities off their book in egregiously ENRON-esque accounting tactics to stave off being termed from counter-party status ... the FED had to approve this several days in advance bc of explicit provisions ..... *** MOST EGREGIOUS *** National Australia Bank was a direct co-investor with MER in many deals and last FRIDAY, NAB wrote down THE SAME CDO's @ 10% value, NOT the 21.8% that MER just used ... again C has the same crap on their books @ 61 cents still, [while] others have downgraded their own toxic sludge to 42-44 cents ... got puts ???
California is actually BOTH, (recourse & non-recourse). The lender is given the option on which course to pursue when it begins the foreclosure process. Obviously, most of the time the lender will follow the recourse pathway. If you're going through a foreclosure do your homework!
Fantastic piece with extremely noteworthy info Bruce. Thank you for sharing it.
You write, "... I found that to be a startling observation. What this means is that people will [be] more likely [to] default on a GSE loan than a private lender regardless if they are in [either a] recourse or a non-recourse State. This can only be attributable to the following mindset: “I owe this mortgage to the Feds. Even though they have the right to go after my bank account to pay this off I know they will not. So screw them, I‘m not paying. There is no downside.
The confirmation for this comes from the Richmond Fed:
“The probability of default by foreclosure increases by 7% for mortgages held by a GSE as compared to the mortgages held by private lenders.” "
Only two points that I would like to add to your excellent synopsis Bruce.
1) Financial intermediaries which both originate and service, namely WFC, have an enormous incentive to shelter 60 and 90 day delinquencies from entering foreclosure for the simple reason that the process itself forces the property back onto their ledger in a quasi-current quasi-long-term liability, thereby becoming something of a tax-burden that they themselves have virtually no mechanism for protecting or ensuring the physical safety of; in addition, such foreclosures further depress immediately surrounding property values and weigh upon aggregate property values in the region.
2) Much like the Federal Reserve Bank of New York serves as a proxy holding agent and custodian for the accounts and activities of foreign central banks, the most recent monthly and quarterly home sale figures contain a very large component of foreign purchasing through domestic holding agents and custodians (namely Deutsche Bank) whose exact number escapes me at the moment; meaning that foreigners have been buying up vast tracts of depressed US properties in the explicit hope of flipping the properties some months later much like any security, commodity or other explicitly financial instrument. By definition, these foreigners are not purchasing condos in Miami or Las Vegas to live in but rather to flip back onto the market once their "value" rises with the expectation that such increases in price will cover the carrying costs and taxes while still yet leaving over a profit from sheer asset appreciation. Much like the current situation in the GLD ETF, where weak holders have taken significant speculative positions in the explicit hopes of immediate price increases, should sellers forcefully re-exert themselves in the near future, a roach motel mentality may very well take shape and serve to further exacerbate downside pressures.