Apr032015
Lamentations of a long-term floplord
Many underwater homeowners face recasting and resetting second mortgages and HELOCs. Their options limited, most will be stuck paying off these debts.
One of the most obvious signs of the housing bubble was the willingness of buyers to purchase properties where rents only covered a small portion of the total cost of ownership. Speculators ignore the costs because they plan to make a fortune on appreciation; investors focus on carrying costs and consider appreciation a bonus. Speculators bought houses from 2004-2006; investors did not.
One of the primary goals of the property analysis system on this site was to prevent a recurrence of the foolish behavior witnessed during the housing bubble. Everyone who buys a property should know the consequences of “plan B,” renting the property. Even owner-occupants face unplanned events, both good and bad, that prompt them to move: promotions or transfers, job loss, or other life-changing events. The property search system on this site analyzes each property for sale on the MLS and displays the cost of ownership and comparable rentals. Everyone who researches properties here knows the ramifications of executing “plan B.”
From Speculators to Floplords
During the Great Housing Bubble, many speculators tried to make money through trading houses. Most of these traders were not professionals but amateurs who thought they could be professionals, and most lost money because they did not understand what it takes to be successful in a speculative market.
Most amateur speculators emulate Warren Buffet and adopt a “buy and hold” mentality where assets are accumulated with a supposed eye to the long term. In reality this is often a “buy and hope” strategy — a greed-induced, emotional purchase without proper analysis or any exit plan. Since amateur speculators have no exit strategy, and since they are ruled by their emotions, they will end up selling only when the pain of loss compels them to. In short, it is an investment method guaranteed to be a disaster.
When house prices stopped their dizzying ascent, many speculators found themselves with large monthly debt service costs and no income to offset expenses (see today’s featured story). Many speculators chose to quit paying their mortgage obligations and allowed the property to be auctioned at foreclosure. Many other speculators chose to rent the properties to reduce their monthly cashflow drain, and they became accidental landlords. In the vernacular of the time, they became floplords — flippers turned landlords.
Becoming a floplord was fraught with problems. First, they were not covering their monthly expenses, so the losses on the “investment” continued to mount. For houses purchased near the peak in 2006, rent only covered half the cost of ownership unless the speculator used an Option ARM with a very low teaser rate (which many did).
Becoming a floplord was a convenient form of denial for losing speculators because they believed they were buying themselves time until prices rose again, allowing them to sell later either at breakeven or for a profit. Unfortunately, as floplords like the family in today’s featured article demonstrate, even eight years later, the problem persists.
Another problem floplords faced was their own inexperience at managing rental properties. Most had never owned or managed a rental property, and none of them purchased the property with this contingency in mind. They often found poor tenants who did not reliably pay the rent or properly care for the property. This created even more financial distress and greater loss of property value as the property deteriorated through misuse.
So what happens to floplords that hung on for eight years? They face recasting second mortgages that may finally wipe them out.
What effect are second mortgages and home equity lines of credit having on housing recovery?
by Daren Blomquist, Mar 30
Plans for second homes don’t always work out
Joe Schwarz is sick and tired of being a landlord.
“The property has pretty much been a nightmare since day one,” he said of a home he bought while a student at Arizona State University in 2007 near the height of the housing market in the Phoenix area. “I’ve wanted to be done with it for years but I couldn’t because of the second (mortgage) to be honest … A lot of people shy away from me because of the second.”
Schwarz said he purchased the property for $165,000, thinking he was getting instant equity given that other similar properties nearby were selling for as much as $199,000 at the time. The plan was to rent the property to cover the mortgage while watching the equity increase over time.
When he made this “plan” did he actually analyze rental rates and compare that to a cost of ownership? Realistically, there is no way he made these calculations (or at least not accurately) because if he had, he never would have purchased the property in 2007. The reality is he thought he was buying something under-market,
and since real estate only goes up, the idea of renting the property was merely a convenience to reduce the cashflow drain while the value continued to climb. Unfortunately, it didn’t work out as he envisioned.
He purchased using some money he inherited along with a stated-income loan and a second mortgage to avoid paying private mortgage insurance (PMI).
“I had to go stated because I couldn’t qualify otherwise because I had a part-time job working at a bar while I was in college,” said Schwarz, who has since married and purchased another property where he and his wife live. “I was told if I do a second you don’t have to pay PMI.”
A part-time bartender was given a loan? I imagine he overstated his income on that stated-income (liar) loan. Do you feel much sympathy for someone who lied to obtain the property?
But about a year after Schwarz purchased the investment property, the housing market tanked and he saw the value of the property drop precipitously, falling as low as $65,000. Meanwhile the original plan for renting to a friend fell through, and although he ended up renting the property eventually, the rental income was barely enough to cover his mortgage payments, not to mention maintenance, vacancies and other costs that come with being a landlord.
So was this friend going to dramatically overpay rent to cover the full cost of ownership? Doesn’t that part of the story seem like a convenient lie designed to cover the fact he didn’t do his homework?
“I’ve never really made any money on the property. In fact, it’s been a huge money pit for me,” he said, estimating he’s invested about $30,000 in the property that he never expects to see again. …
If he waits another 10 years, he might get that money back through appreciation. Of course, if he really added up how much he paid in over what he received in rent, his real losses are much, much higher, and he will never recover the full amount.
“I’m never going to see that money … so why would I want to be any farther in the hole?” he asked. “I have kind of been under the assumption over the past few years that this property was going to be a foreclosure or short sale.
“My wife and I are just tired of it,” he continued. “Just tired of dealing with the property … Being a landlord is not the right thing for me.”
As I mentioned in the opening, many floplords weren’t prepared to be long-term landlords, and since the property is a cash drain rather than a positive source of funds, the owner isn’t getting any positive reinforcement for being a landlord.
Hope fades as home prices plateau
… That slowing appreciation is deflating the hopes of underwater homeowners like Schwarz who have held on for years waiting to regain their equity but who are now ready to walk away, according to full-time Phoenix real estate investor Maria Giordano.
“The majority are in situations where they have a second that is going to adjust,” said Giordano, …
Giordano said the combination of slowing appreciation and a second mortgage — or first mortgage in the case of Schwarz — that is going to adjust in the near future is pushing more of the distressed homeowner holdouts over the edge into selling or even foreclosure.
In the post The dangerous tipping point in favor of foreclosure, I mentioned tepid appreciation as a condition that favors foreclosure. Buyers are more likely to strategically default, and lenders earn less through appreciation than they lose through servicing costs, so slowing appreciation may precipitate more foreclosures.
Many of these homeowners also have the additional hurdle of deferred maintenance that makes it even tougher to sell or refinance their property.
“The two I looked at this week had green pools, just nasty,” she said, noting that these distressed homeowners have been willing to keep paying a second mortgage at a lower introductory rate, but now many are realizing that their payments will soon be going higher. “If you’re only paying $200 to $300 on a second … why not ride that out until you decide, ‘Oh shoot, I have to do something.’”
At this point, he doesn’t have many good options. He should have strategically defaulted six or seven years ago, but he didn’t. Now that he’s gone on with his life and acquired assets, strategic default is more costly. His only reasonable course of action is to see this through. He will have to sacrifice and pay off the second mortgage and sell the property at his earliest convenience. For his sake, real estate prices better keep going up.
[dfads params=’groups=23&limit=1&orderby=random’]
[listing mls=”CV15065947″]
Job growth craters in March, down to just 126K
Severe slowdown in employment makes rate hike questionable
In a stunning reverse, private employers added just 126,000 jobs to payrolls in March, the worst monthly gain since December 2013 and a bog miss from analyst expectations.
Worsening matters, February’s print of 239,000 was revised down to 201,000. Over the prior 12 months, employment growth had averaged 269,000 per month.
With February’s revision, the combined January and February totals are down 69,000 from the initial reports.
This puts job creation for the first quarter at an average and weak 197,000 per month, raising questions about the Federal Reserve’s commitment to raising interest rates by mid-2015 or by the end of the third quarter.
Interest rates will not go up in 2015
The $ selloff since ~mid March, and recent US macro data rather suddenly flipping from positive in Q4-14 to negative in Q1-15 is supporting your no rate hike this yr view. For now.
If jobs growth remains weak, I see little or no chance of tightening. If anything, we may see more calls for QE to boost a flagging job market.
Traders Are Now Expecting the Fed to Raise Rates Later Than Ever Before
Ahead of the March jobs report, traders are expecting the Federal Reserve to raise interest rates later than ever before.
As of Wednesday’s close, Federal funds futures implied liftoff from zero in the final week of November, according to an index maintained by analysts at Morgan Stanley. That’s been pushed back from September as of two weeks ago, before the policy-setting Federal Open Market Committee’s March meeting.
Why the delay? Fed officials have expressed concern about the effects of the strong dollar, which is weighing on the outlook for economic growth and inflation. Some policy makers also cut their estimates of the unemployment rate below which price increases should accelerate, implying the economy is further away from their goals than previously thought.
Moreover, economists say the pace of job gains — the U.S. economy has added 275,000 workers each month on average over the past year — probably needs to come down to reconcile with a slower pace of underlying economic growth.
If Friday’s report shows job growth in March was as strong as economists surveyed by Bloomberg forecast, investors will probably pull forward their expectation of the first Fed rate increase. The median estimate of the 93 respondents in the Bloomberg survey is 245,000.
Investors currently are probably foreseeing a slightly lower figure, after the weaker-than-expected report from payroll-processing firm ADP released Wednesday (most economists submitted their forecasts to Bloomberg before Wednesday). That report showed private employers added only 189,000 to staff last month.
Expect the weak jobs report to push the expectation of a rate increase back to 2016
Economists Completely Missed Jobs Forecast
Streak of strong US hiring likely extended into March
Another month of job growth above 200,000 expected for March despite signs of slowing economy
WASHINGTON (AP) — U.S. employers are expected to have hired at another solid pace in March despite signs that the broader economy has weakened.
Factories are facing a slowdown. Construction activity has slumped. Cheaper oil has led to cutbacks at energy companies. And consumers saddled by sluggish wage growth have been reluctant to spend their recent savings from cheaper gasoline.
Even so, economists foresee a 13th straight month of job gains above 200,000 — an encouraging sign for an economy that’s still showing steady gains despite a harsh winter that squeezed growth.
Economists have forecast a job gain of 248,000 in March and predict that the unemployment rate will hold steady at 5.5 percent, according to the data firm FactSet. In February, employers added 295,000 jobs.
US Growth Forecast Chopped to Zero
The Federal Reserve Bank of Atlanta has reported that its forecast for U.S. gross domestic product (GDP) growth dropped to zero on April 1 and ticked back up to 0.1% on April 2. The bank uses a unique model called GDPNow to prepare its forecasts, and the model typically estimates growth well below the rate projected by the Bureau of Economic Analysis (BEA).
On February 2, the GDPNow model forecast GDP growth of 1.9%. At that time the change in net exports was forecast to be down $15 billion. By March 12, that total had dropped to a $40 billion negative change. Nonresidential construction spending was initially forecast to drop by 1.5% and is now forecast to be down 22.5%.
Interest rates will not go up in 2015
Only Americans 55 And Older Found Jobs In March
At least the people who found jobs are potential homeowners
We first showed back in October 2012 that in America, courtesy of the Fed’s micro-mismanagement of everything, the labor force has been turned upside down, and the only jobs being created are those for aged workers, Americans 55 and over. The reason is two-fold: with savings rates at zero, Americans who were on the verge of retiring found that the fruit of their labor was worth nothing under ZIRP (and may well be punished under the upcoming NIRP) as their savings (and fixed income investments) generate zero interest income, while young Americans would rather stay in college by the millions funded generously by trillions in Uncle Sam student loans.
In any event, this is nothing short of a recipe for disaster, as aged workers have no leverage to demand higher wages (hence the lack of any broad wage growth), while Millennials and other young Americans, instead of entering the work force and accumulating job skills as well as wages, get more and more in debt.
All of this was on full display in today’s jobs number, which while disappointing wildly based on Establishment survey data, was even worse based on the Household survey where only 34,000 people found jobs in March. But it was the age breakdown that was the stunner, and it can be seen best in the chart below.
In short: America continues to be a country where there are only jobs for old men, those 55 and older, who saw a 329,000 increase in jobs in the past month. Every other age group saw job losses!
China to focus more on “degree of tightness” in policy: Central Bank
“degree of tightness” to fall to zero as real estate implodes
BEIJING: China’s central bank said on Friday it would focus more on the “degree of tightness” in monetary policy to keep the economy growing at a stable rate, adding to recent comments that it wanted policy to be neither too loose nor too tight.
Authorities should not underestimate the complexities that are clouding the outlook of the world’s second-biggest economy, the central bank said in a short statement after the first-quarter meeting of its monetary policy committee.
The bank said it would maintain prudent monetary policy while keeping the yuan at a “reasonable and balanced” level.
Less Teaching And More Administrative Bloat—–Why College Tuition Is Up 1000% Since 1970
Summarizing their work in a recent article, Mussano and Iosue argue that “colleges need a business productivity audit” if we are to address what they identify as the primary drivers of the historic tuition and student-loan debt increases over the past forty years—“professors are teaching less while administrators proliferate.”
Mussano and Iosue find that, over the past four decades tuition has surged “more than 1000 percent, while the consumer-price index has risen only 240 percent.” Stated in terms that hit home for average college students (and their parents), they find that, whereas in 1970 the percentage of annual household income needed to pay for the average private four-year school was 16 percent, by 2010 the percentage had risen to 36 percent.
Mussano and Iosue demonstrate that roughly 75 percent of average university costs consist of personnel expenses and benefits. However, university professors spend on average “much less time” teaching in the classroom than they did 20 years ago. Citing statistics compiled by UCLA’s Higher Education Research Institute, Mussano and Iosue find that 60 percent of professors surveyed in 1989 reported that they spent nine or more hours weekly in the classroom. But, by 2010, this percentage had fallen to 44 percent. “The traditional 12-15 hours a week teaching load is changing into a six-to-nine-hour workweek, a significant decrease in productivity.”
This Man Will Never Be Invited Back On CNBC
And now for something completely unexpected: 2 minutes of pure truth (courtesy of Mizuho’s Steve Ricchiuto) on CNBC…
148 seconds of awkward uncomfortable truthiness…
http://www.zerohedge.com/news/2015-02-10/man-will-never-be-invited-back-cnbc
The irony is CNBC has more credibility than ZH at this point. Sad really.
His assessment of the current situation is remarkably lucid.
SF housing down?
..ssssyeah right… Not in the real world
http://www.doctorhousingbubble.com/san-francisco-tech-bubble-spills-into-housing-bubble/
So what happened? The home ended up selling for $1.21 million or $411,000 over asking price in March. Even a high earning household would not only have to front the cash to buy this place but the massive amount of money needed to make this place livable.
“I had to go stated because I couldn’t qualify otherwise because I had a part-time job working at a bar while I was in college.”
It’s been said here repeatedly, but the repetition is necessary for the housing market doomsayers. If a creditor made this loan today, they would be violating federal law. ATR requires creditors evaluate and verify the borrower’s reasonable ability to repay the loan. Federal law now protects the Joe Schwarzes from their own poor housing finance decisions and from being preyed upon by creditors.
I qualified it as “housing finance decisions,” because you can still go get a car loan at 150% of its value, for seven years at 20%, and a back-end DTI near 100%.
I hope that the success of the regulations on housing finance will embolden the CFPB to extend the same protections to all loans.
Imagine if we lived in a world where the 43% DTI cap were universally applied to all debt. Dare to dream…
Speaking of predatory creditors:
http://www.consumerfinance.gov/newsroom/cfpb-and-13-state-attorneys-general-obtain-about-92-million-in-debt-relief-for-servicemembers-harmed-by-predatory-lending-scheme/
The Bureau needs to tread more carefully. There is so much bad stuff they can go after, but they’re attacking some creditors using creative/false legal theories. In this linked enforcement action, the Bureau argued that the mark-up beyond FMV can be considered part of the finance charge. This is a stretch to say the least.
I am no fan of these creditors, but the Bureau is in the Republicans’ cross-hairs. This just gives them more fuel to argue the Bureau has gone far and beyond its mission, and needs to be slow down dramatically.
The article featured in today’s blog post is so full of half-truths and misinformation, it’s comical. IR did a great job pointing out the liar loan that he used to qualify, either to inflate his income, or get around the fact that he was under reporting his tips as a bartender to the IRS. One way or another this guy is a liar.
The excuse about the rent being lower because his “friend” fell through as a renter is laughable.
In addition:
-Taking a second to avoid PMI was unwise. After 5 years the PMI would have disappeared but he is still stuck paying 8.5% on a second. Doh!
-The ability to refinance doesn’t matter because he has a 7 Yr ARM that adjusted DOWN saving him $200-300 per month. Having the ability to refinance would not have saved him any further money.
-Even though the article is focused on second mortgages resetting, his second is a fixed rate loan, so there is absolutely nothing pushing him into foreclosure. (Note: Most subprime seconds were fixed because the investors would rather have a high interest rate locked in. That’s what made them so valuable in the secondary market before prices tanked. Therefore, the entire article is misleading on this point. HELOC’s are resetting, but subprime seconds are not.)
-Having a second mortgage does not prevent you from refinancing. You just need the servicer of the second to agree to a re-subordination. This might be a mild pain in the ass to achieve, much like getting a short sale approved, but it’s certainly not impossible and it happens all the time.
-The article refers to Schwartz as distressed, but by all accounts he can afford the payments, so he is a strategic defaulter (and a tool) but not distressed.
Your last point is the key: he will either keep paying, or he will strategically default, but he is not distressed. As I noted in the post, he should have strategically defaulted years ago when he had nothing. Today it would be much more painful because the lender would come after his other assets, as they should.
If you can’t get out, or won’t get out because you can’t stomach the loss, then you have to get further in. I was in a similar situation on an investment property I bought in 2005. 80/20 loan (30yr fixed I/O @ 7% and 15yr fixed @ 10.5%, with balloon payment). Yeah. I know, stupidity has no ceiling and intelligence – no floor. Seemed like a good idea at the time.
By 2010 the property had lost 10% in value and we hadn’t paid down the loan very much. On top of that we were putting in 5k/yr to cover maintenance, insurance, and taxes. By 2011 we paid off the second, and refinanced the first into a 15yr fixed at 4% by essentially doubling our investment.
Now we have paid off 50% of the original balance and the property has risen by 60% since the low. So our LTV went from 110 to 36 over five years. Our monthly interest expense fell from $1600 in 2010 to $450 today. And the rent rose from $1450 to $1800. We have been so successful, in fact, that we are now running into the problem of showing a profit. Egad! We are running out of necessary maintenance items – any additional upgrades will put us above the rent ceiling for the area. Maybe it’s time to cash-out refi and buy another property. Plenty of renters out there.
It is possible to turn it around if you didn’t over-borrow in the first place, and are willing to work at it.
Sounds like you took lemons and made lemonade.
One side benefit to selling the property is that your basis is high. You won’t get hurt too bad on capital gains. But since you’re cashflow positive, and since there aren’t an abundance of better alternatives, keeping your money tied up in this property is probably not a bad way to go.
Your point reminded me of a neighbor who completed a short sale. He was complaining about his “ARM” and that it was forcing his hand to stop making payments. I questioned this, because if it was just an ARM, then he’d be in a better position than when he obtained the loan since rates had dropped over 200 bps. It was only then, that the time bomb features of his loan were shared.
So, don’t complain about the ARM feature. Complain about the IO feature, or the neg-am feature that allowed you to pay much less than a fully-amortized payment.
Yes, and it’s very rare for the media to make the distinction as well. Many of the meltdown era news articles were blaming foreclosures on ARM resets when they should have been blaming IO and Option ARM recasts. Anybody with a standard ARM reset from 2008 on would have a experienced a payment reduction.
Yes, it wasn’t the resets, it was the recasts that forced those with interest-only and Option ARMs into default.