Category Archives: Econ & Money: Mortgage Mess

USA Today (which appeared outside my hotel room door) has a very arresting graphic today showing that Most foreclosures pack into a few counties.

More than half of the nation's foreclosures last year took place in 35 counties, a sign that the financial crisis devastating the national economy may have begun with collapsing home loans in only a few corners of the country.

Scare talk from [ The Financial Ninja ]: Citigroup, Bank of America: Prisoner's Dilemma, Electronic Bank Runs and Nationalization.

Citigroup © declined 61% from a peak of $4.10 to an intraday low of $1.61 over just 10 trading days. Bluntly put: Citigroup is dead.

Bank of America (BAC) declined 64% from a peak of $7.05 to an intraday low of $2.53 over just 10 trading days. Bluntly put: Bank of America is dead.

Dead actually means dead. It is unlikely they can survive the weekend… and if they do, they most definitely cannot survive the week.

To some extent, talk like this can be a self-fulfilling prophecy…and sometimes market manipulation by short-sellers.

In any case, depositors are as safe as the FDIC. It's the shareholders, and the bondholders, who are at risk, perhaps deservedly so. Which is where the race to the bottom comes in:

The single largest investor in Citigroup is Saudi Prince al-Waleed bin Talal. in November 2008 the Saudi prince increased his stake from 4% to 5%, investing an additional $350 million. In January of 2007, Citigroup had a market capitalization of more than $250 billion. As of Friday's close, the ENTIRE bank is worth about $10 billion. The Saudi prince is down 96% on his 4% stake. Put another way, his original stake was worth about $10 billion in January 2007. Today, he could buy the whole damn mess for the same amount. The prince must be absolutely livid over these developments.

The prince is very exposed to Citigroup. Not only is he an investor, he also does extensive business with the bank. The assets and debts of his financial empire flow through Citigroup in the course of normal business operations. Although his financial dealings are very secretive and opaque, it stands to reason that his advisors would insist he manage this risk. Being long the bank via his ownership stake AND conducting business with the bank is now just too risky. It is the equivalent of doubling up or more in terms of risk on the very same trade. If the bank fails, everything fails. His investment and his business exposures both get severely impaired SIMULTANEOUSLY.

Therefore, the only rational action the prince can take is to shift his business AWAY from Citigroup and towards more stable banks. First the most liquid assets, such as cash deposits would be electronically routed to safer banks. Less liquid assets held in trust from stocks to bonds would be next… all the way down to the least liquid or least transferable assets. Second the credit provided by Citigroup would be swapped out. The prince can't be certain that Citigroup will have the ability to honor the requirements as they come due. This would in fact be an electronic run on the bank.

The prince is damned if he does and damned if he doesn't. The very action of reducing his exposure to Citigroup actually accelerates the death of the bank.

What interests me most about this is that it adds a foreign-relations dimension to the pressure on the Treasury to not just nationalize, but to do so in a way that benefits shareholders at the expense of taxpayers. But of course they could never say that.

The New York Times tells me that President Obama is proposing fifty billion to bailhelp out three million families who can't make their mortgage payments. That works out to an average of $16,666.66 each. Let's say we're going to help cover two year's payments – that's $694.77 /month. Which sounds like a lot.

But if you borrowed, say, $250,000 at 10% for 30 years, your monthly payment is $2193.90.

Let's imagine there's an insurance piece here (and, to make it really easy, that it's free and credible). Then our hypothetical borrower can refinance at the market rate of 5.27% (very optimistic, I know, given the likely credit history), lowering the monthly payment to $1383.61 Our hypothetical unemployed hard-luck case will still have to come up with $688.84 for the next two years, before the federal money runs out. Is that realistic?

I imagine one thing is that there's going to be more focus on insurance to allow refinance and/or encourage banks to swallow a cramdown and less on monthlies?

Oh heck. Should have started by reading Calculated Risk. According to Obama Housing Plan, it's $75 billion, and the NYT summary left out all the good details:

The plan contains two separate programs. One program is aimed at 4 to 5 million struggling homeowners with loans owned or guaranteed by Fannie Mae or Freddie Mac to help them refinance their mortgages through the two institutions.

A separate program would potentially help 3 to 4 million homeowners by allowing them to modify their mortgages to lower monthly interest rates through any participarting lender. Under this plan, the lender would voluntarily lower the interest rate and the government would provide subsidies to the lender.
…
Under the modification program which would involve government subsidies to lenders, lenders will be responsible for bringing down interest rates so that a borrower's monthly mortgage payment is no more than 38% of their pre-tax income. After that the government program would match the amount reduced by the lender to bring a homeowner's payments down to 31% of their pre-tax income.

And the money will come from stage two of the TARP Funds.

OK, that makes a little more sense. It will help people in the zone to be helped, but not the destitute. And there's lots of vigorish for the banks/servicing companies to create an incentive to do workouts (right now the servicing companies to whom all this is outsourced make much more money on the foreclosure, which is part of the reason they don't try real hard to do workouts).

[Update: I feel a little better noting that from the timestamps the Calculated Risk post wasn't up when I took out the envelope…]

If I were Ford, which has been run soundly enough not to need bailouts, I'd be fairly unhappy about the prospect of $39 billion going to subsidize my improvident and incompetent competitors.

I'm not Ford, and I'm still unhappy about it.

On the other hand, I'm a homeowner but I don't object to $50 billion going to prop up people who cannot afford their mortgages and have fallen behind on their monthly payments. That's so even though only some are 'deserving': “Many took out loans they were never going to be able to afford, while others have since lost their jobs.”

If there's going to be a windfall, I'd just as soon it went to people who let the American Dream beguile them into buying modest homes they couldn't actually afford, whether or not the ultimate blame belongs to them or a fast-talking mortgage broker. Now, if we're subsidizing folks who traded up to McMansions, on the other hand….