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richardf8Here are some thoughts of mine on the matter of the Real Estate market correction and its consequences.
The assumption that the bubble came about solely because of subprime lending unhinging home prices from inflation misses the point. The Fed lowering the Prime Rate to levels that were unsustainable in order to combat inflation near the beginning of this decade did a lot to make people seek new mortgages and re-finances who perhaps otherwise would not have. It demonstrates a failure of the "Free Market" that prices so quickly began to outstrip value. One thing this should teach us is that homes, real-estate, have an intrinsic value, separate from the market value. The bursting of the bubble is a "correction," but this is a more tragic correction than, say, a correction in the stock market, because rather than being stock certificates, these are people's homes. So these homes go into foreclosure because, in many cases, the homeowner is burdened with a debt that exceeds the value of his collateral. Seen this happen first hand.
Banks could have taken two approaches - 1) Take a loss by writing a new mortgage for the real value of the house, or 2) Take a bigger loss by foreclosing the home and reselling it in a depressed market, depressing it even further.
Banks seem, by and large to have chosen option 2. It seems to me that any "bailout" would have to favor option 1 - I suspect many homeowners currently faced with foreclosure would greet a manageable monthly payment at a fixed rate with relief.
And this brings me to my last point. If you are buying a house because you plan to fix it up and resell it within a year, perhaps an ARM makes sense. But if you are buying a house as a roof over your head, and a nest egg, then the ARM is a predatory instrument. Especially in times where the prime rate is unsustainably low. If subprime lending is to continue, ARMs should not be among the instruments used: a subprime loan presumes a precarious borrower, it is folly to imagine that such a borrower will be able to manage a higher payment when the rate goes up.
So, my proposals are as follows:
1) Do not write (or underwrite) loans for more than the home is reasonably worth.
and
2) Do not make ARMs available to subprime borrowers. The more precarious your economic situation, the more important it is that your housing costs be Fixed, not Variable.
Item 1 is tricky, because it raises the problem of how to assess a property's intrinsic value (by which I really mean the market value in a market which is neither inflated nor depressed). I suppose a formula that looks at average home prices over a fairly long period of time, adjusted for inflation would come close.
The effect of people not being to obtain loans for a ludicrously overvalued home would be that they could not make offers on them and the prices would have to reach sane levels before the loans would be written.
The assumption that the bubble came about solely because of subprime lending unhinging home prices from inflation misses the point. The Fed lowering the Prime Rate to levels that were unsustainable in order to combat inflation near the beginning of this decade did a lot to make people seek new mortgages and re-finances who perhaps otherwise would not have. It demonstrates a failure of the "Free Market" that prices so quickly began to outstrip value. One thing this should teach us is that homes, real-estate, have an intrinsic value, separate from the market value. The bursting of the bubble is a "correction," but this is a more tragic correction than, say, a correction in the stock market, because rather than being stock certificates, these are people's homes. So these homes go into foreclosure because, in many cases, the homeowner is burdened with a debt that exceeds the value of his collateral. Seen this happen first hand.
Banks could have taken two approaches - 1) Take a loss by writing a new mortgage for the real value of the house, or 2) Take a bigger loss by foreclosing the home and reselling it in a depressed market, depressing it even further.
Banks seem, by and large to have chosen option 2. It seems to me that any "bailout" would have to favor option 1 - I suspect many homeowners currently faced with foreclosure would greet a manageable monthly payment at a fixed rate with relief.
And this brings me to my last point. If you are buying a house because you plan to fix it up and resell it within a year, perhaps an ARM makes sense. But if you are buying a house as a roof over your head, and a nest egg, then the ARM is a predatory instrument. Especially in times where the prime rate is unsustainably low. If subprime lending is to continue, ARMs should not be among the instruments used: a subprime loan presumes a precarious borrower, it is folly to imagine that such a borrower will be able to manage a higher payment when the rate goes up.
So, my proposals are as follows:
1) Do not write (or underwrite) loans for more than the home is reasonably worth.
and
2) Do not make ARMs available to subprime borrowers. The more precarious your economic situation, the more important it is that your housing costs be Fixed, not Variable.
Item 1 is tricky, because it raises the problem of how to assess a property's intrinsic value (by which I really mean the market value in a market which is neither inflated nor depressed). I suppose a formula that looks at average home prices over a fairly long period of time, adjusted for inflation would come close.
The effect of people not being to obtain loans for a ludicrously overvalued home would be that they could not make offers on them and the prices would have to reach sane levels before the loans would be written.
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Date: 2008-09-28 10:44 pm (UTC)Your first proposal is perfectly obvious and the way things used to work. When I got the mortgage on my house, circa 1992, they did everything short of examining me with a colonoscope to make sure I could make the payments, and they had the house professionally appraised, which I had to pay for. I still have the appraisal. In the heat of the moment, and with no oversight because of deregulation, all that went out the window.
Here in Florida, things went quite insane. People were buying houses just to slap a coat of paint on them and "flip" them. I recall a couple I knew saying I was stupid for not getting into condo pre-sales: people were buying condos before they were built and flipping them before even making a payment. They and a lot of others eventually got caught holding the bag. They fled to Arizona, which apparently has some interesting banking regulations.
I was getting at least one call a week from loan companies urging me to refinance and take cash out of my house, I also know a few people who did that and got caught when housing prices dropped.
Regarding your second point, maybe ARMs should be outlawed altogether. I could have gotten an ARM when I bought this place, but stuck with a fixed rate because I remembered the interest crises of the late '70's and didn't want to end up paying 22%;. Really, the subprime borrowers shouldn't have been given loans at all, cf. paragraphs 1 and 2 above.
no subject
Date: 2008-09-29 05:40 am (UTC)Others that change the adjustment basis.. well, those are terrible certainly.
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Date: 2008-09-29 04:07 am (UTC)What I'VE been thinking is, what would happen if the government just said, "To hell with this. All mortgages are now VOID; you people, you now own your houses"? Sure, the financial sector would take a massive hit, but suddenly, the economy would get a massive boost from a huge number of people who were now property owners and were no longer under crushing debt.
no subject
Date: 2008-09-29 04:19 am (UTC)no subject
Date: 2008-09-29 05:38 am (UTC)"Banks seem, by and large to have chosen option 2. It seems to me that any "bailout" would have to favor option 1"
This is unfortunate, because it would make the most "real" and ethical sense, but perhaps it hasn't appealed to the boards of directors yet... :/
"Item 1 is tricky, because it raises the problem of how to assess a property's intrinsic value" ... true perhaps, but not too difficult. Have a look back at Level's posting, and see my comment which leads to two other postings on the topic, showing a plot-line-graph method that honors known trends and gives people a way to project values.