Dennis' Mortgage Blog

Wow.

My kids will be studying about this current period in college in several years, massive government intervention in private industry to protect the nation’s wealth and retirement—why and how will be debated for a long time and it may take until about 2020 before history fully and somewhat accurately judges the results of the moves this week by the Treasury and Federal Reserve.  For those of you stuck on the Food Channel, ESPN or still finishing the last Harry Potter here in a nutshell is a recap of the past week plus (for ease of writing and reading whenever I say “the Feds” I mean the Treasury Department and/or the Federal Reserve or a combination of Federal Government entities):  1^st the Feds move in and take of Fannie and Freddie over last weekend shoring up the confidence and investments in those entities.  Chairmen out, Feds in with about an 80% stake in the company  2^nd Lehmann Brothers begins to teeter and everyone waits for Feds to step in as they did with Bear Stearns six months ago, Feds sit on their hands and Lehmann files bankruptcy as Barclays comes in to buy what they can 3^rd Merrill Lynch begins to teeter and it is evident that the Feds having passed on Lehmann Bros will do the same with Merrill, Bank of America still working through its buyout of Countrywide Mortgage comes in with a deal and it is apparent that Merrill Lynch will be part of the new BofA 4^th AIG, the mega-huge insurance company faces serious liquidity issues and the Feds move in with a huge cash infusion/guaranty and another chairman is ousted and the Feds make about a $200 billion loan to the company at 11% interest 5^th  the Feds announce they will buy failed and delinquent mortgages and cover mortgage backed securities (investments in home loans) while also guaranteeing money market funds and eliminating the ability of investors/speculators to short sell stocks in investment companies and banks.   Meanwhile the stock mark lost 800 points on Tuesday and Wednesday and gained 800 points on Thursday and Friday and mortgage rates went down and up and are week to week flat.

Catch my breath….

So what does all this mean?  Who the hell knows?  Seriously it is a tangled mess of protecting the economy, protecting the investments of Americans, and ensuring our economy can move at all much less forward.  But you did not read this far for me to take a pass so here are my thoughts after reading many opinions I have culled through research or sent to me by some of the readers of this weekly update.  Of all the information I have gathered here is the best, most simple analogy I can offer you:

You are hit with a bunch of expenses at one time, car breaks down, house needs a new roof, kid needs braces, property taxes and insurance are due, your 10^th anniversary and your spouses 40^th birthday have come and gone and your company is re-structuring so there is not bonus this year.  So you hunker down and do your work and slowly pay down debt, fix your assets and get to the point where you rebuild savings.  After a while the debts are diminished, everything is working well, you get a bit of a raise at work and decide to take a weekend vacation with your spouse to relax and enjoy life a little bit.  A little while later you have more debt paid down, more money in savings, another raise and bonuses are restored at work.  You decide to take another weekend vacation and this time decide to go to Las Vegas, you have nice dinner and gamble a little at the $5 tables and come home losing about $100 but relaxed and refreshed.  Some more time goes by, everything is paid but the mortgage, your savings have become investments and your bonus check was very nice.  You decide to take a four day weekend, go back to Vegas and because everything is going so well decide you can risk $50 hands of blackjack because what the heck I am on vacation and I deserve it and can afford it—and if I when I will win a lot. 

That is where our credit and investment markets were last summer.  Investment houses like Bear Stearns, Lehmann Brothers, Merrill Lynch had weathered the recession that started sometime in 2000 and the subsequent post-9/11 economic and emotional traumas.  They had debts, houses that needed fixing and braces to buy; and they slowly put capital into the markets and the economy.  And slowly the capital investments grew and profits were made—much of which was reinvested again and again.  Over time the capital grew very fast and investments were spinning off significant amounts of cash in income and equity for all investors.  As their stockpiles of funds grew the risk managers decided they could put a greater amount of their funds into riskier investments and still protect their prime assets and investments.  So they got together with the mortgage industry and created sub-prime loan programs for homeowners.  Money was cheap, housing prices were soaring (in part because money was cheap and in part because record numbers of Americans were earning paychecks) and the initial waves of sub-prime loans were great investments—so more money was pumped into them. Then one of the dominoes began to teeter, a company out of Orange County by the name of New Century, a sub-prime lender was having problems getting funds from Wall Street to fund new mortgages.  And boom most of your chips were on the blackjack table and the dealer was showing an Ace.  Investors pulled back, money got really tight and the markets began to seize up.

What we have faced this past year has been less of a problem about profits than one of liquidity.  Much of the Wall Street investment vehicles are somewhat of a Ponzi scheme, the more people who invest the more money those invested make.  The investments already made, for the most part, have been paying very well and steady and profits have been made.  The problem is the lack of funds for new investment and investors has created cash problems for the investment houses and the credit markets seeing the cash crunch stopped lending and investing funds.  Everything grinds to a halt.

The moves by the Feds have been less about guaranteeing individual investments and investors and more about ensuring investors, and Americans, Chinese, Germans, Chileans, that investing in American businesses and the economy is okay.  Essentially the Feds are providing confidence to the markets, confidence that it is okay to free up some capital and invest, confidence that it is okay to invest in a portfolio of mortgages backed by single family homes in Aimes, Fargo, Tulsa or Long Beach.  Our biggest issue has been confidence that tomorrow will be okay, because investors need that confidence before they invest any assets in a tight market. 

And so the cycle will begin anew.  Through this we may see a few more investment houses go out of business, merge or be bought; we may see some bank mergers or closings; and we may see some decline in the value of our stock markets.  But as we go through this slowly those with equity and capital are looking for bargains and investments that will provide a solid return and they will make those investments.  And capital will enter the market and slowly more capital will follow.  And more.  And more.  And the cycle will continue until one sector over extends and begins to collapse and the markets will correct and we will start again.

The biggest questions I am asked are:  How much of the taxpayers money is at risk? And what will happen with interest rates? 

Regarding taxpayer funds at risk that might be impossible to ever calculate since the Feds can print and borrow money at will.  My feeling is that in regards to the Fannie and Freddie deal the government should end up making money on this maneuver.  A very small percentage of the mortgages under the Fannie/Freddie umbrella are delinquent or in danger of going to foreclosure.  The total numbers are high, but a big reason for that is the sheer number of mortgages outstanding.  Overall the Fannie/Freddie portfolios are very profitable and will continue to be so.  The mortgages currently being funded, and that have been funded for the past year, are very secure mortgages given the credit criteria.  Over time the funds extended by the Feds for Fannie and Freddie should be repaid with interest.

I would say the same thing about the AIG transaction.  Already its shareholders are trying to find a way to pay off the loan so they are not partners with the Feds; they know insurance companies are profitable—that is why they invested in them.  They will slowly sell off bits and pieces of the company and repay the Feds bailout money, also with interest.

The potential losses to taxpayer funds come more from the Feds taking on the delinquent mortgages.  While these are backed by hard assets, property, that can and will be sold for some return on the asset, overall many of them would be a loss for the government.  I would like to see them slowly manage the foreclosed properties; sub-leasing them to local governments as part of an affordable housing package that can slowly turn them into owner occupied homes without flooding local markets with re-sale housing stock.

Regarding interest rates my feeling after the recent moves by the Feds to inject and insure almost $1 Trillion (Tuh-tuh-tee as in Trillion) into the markets is that to do this they will have to borrow.  That kind of borrowing will be a strain on the markets and put pressure on rates to increase.  Of course as the rates do increase it will encourage more money to flow into investments to capture the higher rates and it will have a positive affect of loosening the markets some more.  Until the end of the year my prediction—subject to disclaimers and changing my mind—is that our current conforming rate of 5.75% will stay within a range of about 0.500% to 0.75%; meaning lows of about 5.375% to highs of about 6.25%.  We still have a pretty solid employment number with over 93% of America working and earning paychecks, we have oil and natural gas prices dropping, and we now have what should be confidence in our markets to encourage renewed investment and opportunity.  With the Feds borrowing money and creating higher short term rates the Federal Reserve can sit back and let the Fed Funds and Discount rates stay where they are and let the markets raise rates to fight inflation without them.

I was at a meeting Wednesday afternoon and half-jokingly people were saying, “well lost 10% today how about you?”  I said then, and say now, markets go up and down and in the end capitalism works.  Along the way there are bumps and individuals can and do get hurt, but for the overwhelming majority of society and members of the economy (which is all of us) it works.  So, I said, I will continue to invest in my 401(k) because now I am buying on the down and will continue buying when it goes up; and over time I will be glad I did.  The media makes nothing off of good news and everything off of bad news.  Remember 2003 when they predicted a burst in the housing bubble?  Well it took them five years to get that right—but even a broken clock is right twice a day.

Meanwhile back at the ranch…. Rates were up and down and up and down and up and down and that was just each day before lunch!  We are still seeing a good intake of purchase applications with healthy borrowers.  As we close out the year with the combination of prices and rates I am cautiously optimistic about our local market.  I hope you are as well. 

Here are the rates as we finish off the week:

NOTE PRICING BELOW IS BASED ON 20% DOWN FOR JUMBO LOANS AND 10% DOWN FOR CONFORMING, 3% FOR FHA, FULL DOC, AND FICOS OF 740 AND ABOVE (change from last Friday):

30 year conventional at 1 point 5.75%              ó  FLAT

30 year conforming-jumbo at 1 point 5.875%            ó  FLAT

30 year FHA at 1 point 5.75%                                    ó  FLAT

30 year jumbo at         NO PRICE CALL FOR INFORMATION              

Have a great weekend!  (Happy birthday Puppy!)

Dennis