Tag: Mortgage Marketplace

Feedback Loops – I Raise My Hand And Ask, "Is There Homework?"


Scientists must be folding their arms and shaking their heads at the financial industry. The financial media and economic discourse of the day has adopted the term “Negative Feedback Loop”, a term that originated in scientific labs, to describe the downward spiraling momentum of our economy (housing values go down, more people are encouraged to sell, foreclose, etc, and that causes values to go down further, and round and round we go…).

The market action systematically feeds its result back into the force that caused it to do what it just did. A feedback loop. Have you ever stood between two mirrors, and looked at your reflection, and then the infinite reflections of your reflection behind it? Its like that.

Problem is, we’ve got the name wrong. This may sound like I’m picking on a technicality here, but I think it points to a bigger problem.

A “Negative Feedback Loop” sounds like the right way to describe what we are seeing in the economy. But a true Negative Feedback Loop is one where the output of the system works against the system, causing it to lose momentum, and return to equilibrium. What we have here is a Positive Feedback Loop, or one where the output reinforces the input. The result is an increasingly negative impact on our economy, so its easy to understand the confusion. We had another Positive Feedback Loop that fed the mania side of the cycle as well.

A snowball rolling downhill, growing in weight, causing it to keep rolling, is a Positive Feedback Loop.

Why do I split hairs here? The widespread adoption of an erroneously illustrated concept just begs the question of who is doing the thinking out there, and who is doing all the talking. The mainstream media just takes it in on one side, spits it out the other, no regard for accuracy or perspective. All of the talking heads, the so-called experts, the pundits, the authorities, they’re all confused like the rest of us about the big picture.

And it’s a tough issue to figure out, so confusion is understandable. But our electable leaders and policy makers would serve us all well to admit what they don’t know. Seems to me they feel a need to convince us that they do know, and the next thing you know, they’re acting on their contrived and false sense of confidence. And let’s face it, since 8 out of 10 Congressmen have no formal education in economics, most of these folks are expert at one thing, and one thing only: getting votes.

The bomb has gone off in the markets, and there’s a lot of dust flying around. Those of us who slow down and focus while everyone else runs around screaming, are going to be the first to see what the new landscape looks like.

Does This Work?

Came across this quote from Michael Lewitt of Hegemony Capital Management recently:

At some point, society has to figure out that the way an investor earns his money is even more important than the amount of money he makes. This is why human beings were vested with moral sentiments, so they could distinguish the quality of human conduct from the quantity of its results.

hmm. An interesting idea, and one that garners some attention in a climate like this one. I don’t think it would hold water in a bull market, say what you will about moral sentiments, but a very interesting thought to say the least…

How To Get Your March Madness Fix In September

There is no better time in the sporting calendar than the first weekend of March Madness. It can be a long wait year over year, especially if your bracket gets blown out early. So what is one to do in the downtime, especially when the Giants and A’s can’t make the playoffs, the Olympics are over, the Raiders and 49ers are struggling at best, and you don’t give a rip about hockey?

Play September Madness, of course.

Quick Details On Bailout Plan’s Unsuccessful Vote

BOTTOM LINE: House vote on TARP failed 205-228. We expect legislation to reemerge in the near future, but the extent of the modications that will be necessary is unclear. There still appears to be a good chance that Congress enacts some type of stabilization package before the election. Another vote is possible in the House later this week — perhaps on Thursday — but the situation is fluid.

KEY POINTS:

1. A simple majority was needed to pass the TARP plan. 140 Democrats voted in favor, and 66 Republicans supported the bill, leaving the bill 12 votes short. Internal vote counts prior to the vote expected roughly that number of Democrats to vote for the bill, but expected a greater number of Republican votes than materialized. Assuming that Democratic votes on the bill do not change, House Republicans are likely to be the key to unlocking additional support for the bill, so the focus over coming days is likely to be on what additional concessions they may request.

2. Congress will be in recess on Tuesday, and will return to legislative business on Wednesday. Another vote then is possible, but looks likely to occur at earliest on Thursday. It is not clear whether major concessions will be necessary, or whether minor changes to the bill would be enough to secure the incremental votes necessary for passage.

3. The House can bring the bill up quickly if a compromise is reached among House and Senate leaders and the White House on potential modifications. If the House is able to pass an amended plan later this week, the Senate should prove to be less challenging. However, the legislative process in the Senate takes at least two days for procedural reasons, so passage in both chambers by the end of the week could be a challenge.

Interesting That This "Crisis" Is Happening During An Election Year

Just because of the way it shapes the discourse on the matter, the way it causes the public to value the players and the voices, the way it will shape the election, and how the election will shape the eventual path forward. I watched most of the McCain / Obama debate last week, and I have to say, when asked about their opinions on the bailout plans, I felt embarrassed that either tried to express any opinion whatsoever. Henry Paulson’s request for $700bn came with a “trust me, I know what I am doing” style plea, there wasn’t much to make an opinion of. Most of congress seemed perplexed by the details, so why should Obama or McCain represent to have a grasp of what it entailed, and then elaborate? Why can’t they just say “I dunno, my economists will advise me on that when the details become more clear…”?

The republicans have voted down the bailout plan. The market is in a panic-style reaction. Stocks are way down, treasuries are way up, flight to safety. Even if some of them support the bailout effort, they all know that if they allow it to pass on a democrat-carried vote, McCain can soapbox all the way to the November election about how the democrats are bailing out Wall Street. You have to wonder what this would have looked like if it happend after the election…

Here are some more politically charged items floating around my desk today:

1- NY Times article dated 9 years ago tomorrow, talks about the Clinton Administration urging FannieMae to make more subprime loans. From the article:

“The action, which will begin as a pilot program involving 24 banks in 15 markets — including the New York metropolitan region — will encourage those banks to extend home mortgages to individuals whose credit is generally not good enough to qualify for conventional loans. Fannie Mae officials say they hope to make it a nationwide program by next spring.”

2- Ron Paul preaching tough medicine in today’s bailout plan vote.

3- On the fall of Lehman Brothers, Bill Bonner writes:

“… how a company that survived the Civil War, the railroad bankruptcies, the panics, WWI, the Great Depression, WWII, and the Cold War couldn’t survive the biggest financial boom in Wall Street history?…”

In fairness, they survived the boom, just not the bust. But thought-provoking enough… well said.

Down Payment Assistance Programs – Updates At Legislative Level

I am breaking a long inexplicable silence here to follow up to a recent post about rules surrounding seller-funded down payment assistance programs (DAP).

What’s a DAP? (or a DPA? I’m not sure if there is an official acronym; both seem prevalent at this point). With the credit markets recoiling, the ability for homebuyers to enter the market with small down payments has been hampered. Big time. Lender’s simply want the borrower to have skin in the game, so that if the value drops a little, they still have incentive to keep paying back the loan.

The DAP programs that were eliminated in the recent HR 3221 Housing Bill refer to those facilitated by a charitable organization to essentially ‘launder’ a down payment from the seller of the home. The down payment needs to be from the buyer’s funds, not the seller’s. If it came from the seller, its the same as buying the house for cheaper. Proponents of DAP argue that the borrower has equity in the house, regardless of the source. Opponents claim that the fair value of the house is really the purchase price less the seller-funded down payment, or in other words, there is no equity.

FHA was allowing these programs until they realized that default rates on borrowers with DAP assistance were 3x that of borrowers who funded their own down payment.

But without DAP in the market, fewer buyers can get into the market at entry level. And if there are no first-time buyers, who do the move-up buyers sell their homes to? They don’t, and all of the sudden, nobody is buying anything, and inventories skyrocket, and prices fall… sound familiar? This is the “plankton theory of housing”. We need first time buyers to keep everything moving…

There are also community organizations that provide down payment assistance, but do not receive funding from the seller of the home. There is no regulation on the table to curtail these programs, and with them, buyers can still obtain 100% financing in some circumstances.

Here is the latest on the seller-funded side of the practice:

At this point the ban on the use of seller-funded down-payment assistance with FHA-backed loans takes affect October 1st. But a compromise may be in the works. HR 6694, which would allow home builders to continue funneling down-payment assistance through nonprofit groups to home buyers using FHA loans, may pass. HR 6694 would automatically allow qualified borrowers with credit scores of 680 or above to use seller-funded down-payment assistance on FHA-backed loans. Borrowers with scores between 620-680, who relied on seller-funded gifts, might be subject to higher insurance premium fees. Borrowers with scores below 620 would be excluded from using down-payment assistance until mid-2009, when HUD would be permitted to expand the program to include them if the Secretary of Housing determined it could be done without putting a dent in FHA’s insurance requiring taxpayer subsidies. Chairman Barney Frank said, “The FHA loved the ban on down-payment assistance (but) hated the ban on risk-based pricing…That seemed to me to offer an opportunity. So (HR 6694) will replace both bans with middle ground.”

Down Payment Assistance Programs – Keeping An Eye On Legislation


Lots of sparks flying right now, with popular down payment assistance programs (DAP) to first-time home buyers under scrutiny, and a mortgage industry fearful of losing another business niche. This recent story brought quiet a bit of chatter into the markets.

The FHA, who lost $4.6 billion last year, may be losing their ability to accept down payment assistance money. Nearly 79,000 people last year took advantage of them, where nonprofit groups provide buyers with money for down payments and home sellers then reimburse the organizations and pay an administrative fee. The FHA said seller-funded down payments present the single biggest challenge to its solvency. Borrowers who take part in these arrangements go to foreclosure at nearly three times the rate of borrowers who put their own money down, according to the agency. The Senate version of the housing bill would have banned the programs but the House version would not. At this point a compromise bill has backed the Senate’s version on this, which also is supported by the Bush administration.

Inflation Panic 2008 – What Are We Headed For?

I wonder if in a few years, when we look back at this great Credit Crunch episode, and the associated economic slowdown, if we will remember the extreme moodiness of the markets during the transition. It seems every other week the Dow is posting multi-day consecutive 3-digit gains or similar consecutive losses. The financial news media is loaded with guys who say “we are nearing bottom” or “we are at the bottom”, yet none of these guys was here telling us we were headed for this in the first place, so how are they expecting to be viewed as credible? One article I read recently (from Marc Faber, introduced by John Mauldin) labeled this a “conspiracy of optimism”. A pretty dismal prognosis for our economy is laid out in this piece. I have to admit, it was a bit jarring to read.

But the view is a slight bit different in this one, from Pimco’s Paul McCulley. With all this debate going on about stagflation, wage-price spirals, the 1930s (depression) or the 1970’s (“the lost decade”, at least economically speaking), and general financial Armageddon, eyes are on the Federal Reserve this week for an updated policy statement. Expectations, via the Fed Funds Futures trading activity, are all over the place in predicting the Fed Funds rate over the coming year. There is a general lack of consensus, the market is confused.

It will be interesting to see if “Doctor” Bernanke appears on board with McCulley’s concept of a Hippocratic Oath, and there should be a lot of attention on tomorrow’s Fed news release.

Interesting times for sure. Where exactly is this economy headed, and what’s it going to mean to you? How does it impact your investments? Your employment? Your family? Are you positioned to endure the downdrafts as well as participate in the bull runs?

How Foreclosures Increase The Risk Of West Nile Virus


A couple of interesting news headlines today, especially when you put them together. First, a 48% surge in foreclosure filings nationwide for the month of May. The ‘pig in the python’ is just beginning. If you want to learn more about this, and more about the shape of things to come, email me.

And second, public health workers in Phoenix have devised a strategy to combat a spike in mosquito populations now that so many homeowners have abandoned their homes, and their pools, leaving the water to stagnate and become a habitat for the little pests. They are concerned that thriving mosquito populations raise the risk of outbreak of West Nile.

So this is another sign of how foreclosures can drag down community integrity. We have some choppy waters ahead still, but there is opportunity across the board. You must learn to position yourself, and ownership of a home requires much more careful planning today than in recent years. Work with a qualified professional to review your position and if you must abandon your home, for the sake of the neighborhood, drain the pool on your way out the door.

The Wise Words Of Paul McCulley

Paul McCulley with Pimco is one of my favorite economists to listen to or read about. He has some great ways of describing the markets, and especially the current credit crisis, against the backdrop of classic economic theory. I have a few recent articles that are each insightful and interesting, and couldn’t throw into the recycle bin before reading a few times. Here are some highlights, with links through to each:

–November 15 2007:

“Indeed, I’ve taken to calling the 2004-2006 vintages of limited or no document, no down payment, negative amortization (pay-option) subprime ARM loans as not loans at all, but rather free, at-the-money call and put options on property prices. Not exactly free, to be sure, as the putative borrower was obligated to pay something in cash interest, even if not the full amount, with the unpaid amount being added to the principal.

But as a practical matter, the options were essentially free. If home prices went up, the putative “borrower” would stay current, as the call went into the money, refinancing before the ARM reset, essentially re-striking the option exercise price higher. Simply stated, the borrower wouldn’t default, as logical people do not walk away from in-the-money call options.

And they didn’t, until about a year ago. As a consequence, default rates on pools of such subprime loans came in amazingly low, soothing rating agencies’ nerves and re-enforcing the shadow banking system’s appetite for securitized pools of them.

But if house prices didn’t rise, the call option would fall out of the money, and the put option – the right to default on the full principal value of the loan – would go into the money. Indeed, house prices didn’t have to fall, but simply not rise for this outcome to unfold, given negative amortization. In which case, the putative borrower would no longer have any incentive to stay current: Why throw good money after bad for an at-the-money call option that you got for free, which has gone out of the money?

And so it came to pass about a year ago, when early-payment defaults became a new phrase in our collective lexicon. The home price bubble popped, the at-the-money call options went out of the money, the at-the-money put options went into the money, and the holders of them remembered the wisdom of Paul Simon’s 1975 treatise on 50 ways to leave a bad situation:

You just slip out the back, Jack
Make a new plan, Stan
You don’t need to be coy, Roy
Just get yourself free
Hop on the bus, Gus
You don’t need to discuss much
Just drop off the key, Lee
And get yourself free

And with Jack, Stan, Roy, Gus and Lee setting themselves free, the shadow banking system was revealed to be caught between the longing for love and the struggle for the legal tender, living life as Jackson Browne’s Pretender, ships bearing their dreams sailing out of sight, with the junkman pounding their fenders. To wit, a run on the asset backed commercial paper market!”


– March 2008 (interviewed by Katheryne M Welling)

“Only the rating agencies? I’d say the creators and issuers of all that funny paper bear some burden.
They were clearly at the scene of the fraternity party. But it was the rating agencies that were providing the kegs. You couldn’t have played the game without the rating agencies.

I’d say Wall Street and the banks provided the kegs and the rating agencies provided the false IDs.
Touché. Good analogy.”


– May 2008

Read the whole thing via the link above. A great walk-through of the role and responsibility of the Federal Reserve, and some throwbacks to McCulley’s often-quoted evident mentor, Hyman Minsky, who was a noted specialist in Financial Instability Hypothesis.