Nov282012

Neighbors stealing from neighbors: HELOCs make a comeback

When people are victims of theft, they usually work to remedy the situation so the theft doesn’t happen again. If a thief breaks into someone’s house, the homeowner installs better locks or alarm systems to avoid a future loss of property or worse. However, when the crime is more complex than breaking-and-entering, or when the government is the facilitator of the crime, it can be much more difficult for the victims to protect themselves, but it’s just as necessary.

The Big Steal

I have written that Moral hazard is the central issue in the housing bust. My reasoning is simple. If we let bankers and borrowers get away with stealing from taxpayers, both of those groups will work hard to do it again. So how exactly did they steal from us?

When bankers make bad loans, they are supposed to lose money. The fear of loss is the only thing that compels bankers not to take excessive risks like the ones that brought down the economy in 2008. If bankers know they can look to the US taxpayer to bail them out and absorb their losses, bankers have every incentive to take wild risks to generate private profits. The US taxpayer shares some portion of these profits through taxes, but it assumes 100% of the liability for losses, not a particularly good deal for taxpayers.

So far, the US taxpayer has absorbed about $150 billion in losses through the GSEs. Plus, through the variety of loan modification and short sale incentive programs, we have paid investors and bankers billions for their worthless securities. For example, we now pay second lien holders $6,000 to sign off on a short sale. Since these securities are subordinate to an underwater first mortgage, they have no value at all. Paying these investors — who ostensibly knew the risks — $6,000 from the treasury for their worthless second mortgage is a government bailout of an investor’s bad decision. Theft.

Dodd-Frank to the rescue?

The general public widely believes the Dodd-Frank bill corrected the mistakes of the credit bubble which fueled the housing bubble. Unfortunately, this is not the case. Nothing in the new law protects taxpayers from future bailouts. The too-big-to-fail banks have gotten larger. There is little or no oversight of the types of complex financial instruments such as credit default swaps that created the mispricing of risk that resulted in a credit bubble. And most importantly, there are no restrictions at all on the kinds of loans lenders can underwrite or the loan-to-value ratios they can cover with debt.

Restricting loan types, DTIs and LTVs

In The Great Housing Bubble, I proposed a series of regulatory changes that really would have prevented the next housing bubble.

Loans for the purchase or refinance of residential real estate secured by a mortgage and recorded in the public record are limited by the following parameters based on the borrower’s documented income and general indebtedness and the appraised value of the property at the time of sale or refinance:

  1. 1. All payments must be calculated based on a 30-year fixed-rate conventionally-amortizing mortgage regardless of the loan program used. Negative amortization is not permitted.
  2. 2. The total debt-to-income ratio for the mortgage loan payment, taxes and insurance cannot exceed 28% of a borrower’s gross income.
  3. 3. The total debt-to-income of all debt obligations cannot exceed 36% of a borrower’s gross income.
  4. 4. The combined-loan-to-value of mortgage indebtedness cannot exceed 90% of the appraised value of the property or the purchase price, whichever value is smaller except in specially sanctioned government programs.

The only way to ensure lenders can’t provide the air to inflate another housing bubble is to restrict the types of loans offered to verify they amortize, and restrict loan-to-value ratios to ensure people can afford to repay the loans, and restrict the loan-to-value ratio to make certain borrowers have equity, and more importantly, confirm borrowers don’t have incentive to become Ponzis.

The Texas example

Texas did not have a housing bubble. The reason was simple. In the Texas constitution, lenders are not allowed to loan beyond an 80% loan-to-value ratio. Without access to HELOC money, Texans saw no purpose in running up house prices. Expensive homes did not provide them spending money, and in Texas, the higher home value also increases their property taxes, so higher home prices actually cost them more money. The incentives in Texas are the opposite of what they are here in California, so we endure bubble after bubble, while Texas enjoys stable home prices and relative affordability.

federal reserve encourages Ponzi theft

Ben Bernanke is determined to reflate the housing bubble and expand consumer spending from what he calls the “wealth effect.” In reality, the wealth effect is an illusion. What we really have is the “Ponzi effect.” When house prices go up, people are not encouraged to spend their savings, they are encouraged to take on more debt. The increase in consumer spending is largely a result of increased borrowing, which is a benefit to the member banks of the federal reserve. Since our current system is set up to bail out the banks when they get in trouble, when the Ponzis take this free money the federal reserve wants them to have, the US taxpayer will end up paying off the bills of these Ponzis when the Ponzi scheme collapses yet again.

How do you feel about having your tax dollars paying off the debts of Ponzis and paying the bonuses of the bankers who facilitated their theft?

Home Equity Loans Make Comeback Fueling U.S. Spending

By Kathleen M. Howley – Nov 26, 2012 5:55 AM PT

Home equity lines of credit that fueled a spending spree during the U.S. property boom are back.

After six years of declines, lending for so-called Helocs will rise 30 percent to $79.6 billion in 2012, the highest level since the start of the financial crisis in 2008, according to the economics research unit of Moody’s Corp. Originations next year will jump another 31 percent to $104 billion, it projected.

This is good news? Bankers are enabling Ponzis to make a profit, and the US taxpayer is at risk for another bailout. Is stimulating the economy in this way worth the cost? If so, then everyone should buy a house and join in the looting.

Lending tied to real estate is reviving as record-low mortgage rates spur the housing recovery while an improving job market makes it easier for people to borrow. A rise in home equity lines is in turn helping the economy, fueling purchase of goods like televisions and refrigerators. Consumer spending, the biggest part of the economy, accelerated to a 2 percent annual rate last quarter from a 1.5 percent pace in the prior period.

Taking on long term debt with taxpayer backing to purchase short-term consumer goods is both imprudent and stupid. When lenders know they can pass these losses on to taxpayers, it’s highway robbery.

“If house prices continue to rise, home equity lending will keep rising,” said Mustafa Akcay, a Moody’s Analytics economist in West Chester, Pennsylvania. “Lenders have been worried about the ability of consumers to pay back their loans, and as the economy improves, that concern is easing.” …

Bullshit. Lenders are quite confident the US taxpayer will cover any of their losses.

‘Positive Impact’

“People will spend more of their equity,” said Chris Christopher, an economist at IHS Global Insight in Lexington, Massachusetts. “It won’t be as much as they spent when prices were gaining at a rapid pace in 2005 and 2006, but it should have a positive impact on consumer spending.”

Yippee! The Ponzis are spending again. Perhaps we should throw a parade in their honor.

The revival in Helocs comes as lenders … are still coming to grips with bad loans made during the housing boom that ended in 2006. … Banks charged off — or declared worthless — $4.5 billion of equity loans in the third quarter, the most in two years, according to Federal Reserve data.

I can see why banks want to get back into that business…

Americans had used their homes like credit cards to go on spending sprees during the 2000 to mid-2006 real estate boom, tapping their equity to buy cars, televisions and luxury cruises. Consumers used about $677.3 billion, or about $113 billion a year, from home equity loans for consumer spending, according to a 2007 paper by former Federal Reserve Chairman Alan Greenspan and Fed economist James Kennedy.

I can’t believe nobody sees the problem with this.

Added Margins

Typically, the margins banks add to the prime rate might start at around 2 percentage points, what banks would call prime plus 2. Borrowers are approved for an amount they can use in full or just tap when they need, often drawing on Helocs with credit cards or checks. Rates for Helocs vary with location and credit scores.

Private profits and public losses. Of course lenders will want to make those loans.

Wary Lenders

“Having been chastened by the downturn, lenders are wary,” said Keith Gumbinger, vice president of HSH.com, a mortgage-data firm in Riverdale, New Jersey. “If a home goes underwater and the owner stops paying a Heloc, that lender may get nothing back because the collateral is gone.”

Unless they get a bailout — which they will. We currently pay lenders $6,000 each for their worthless HELOCs. Why would it be any different next time around?

During the housing boom, lenders often would approve lines of credit that exceeded home values. One popular type of Heloc was a 1-2-5 loan that allowed the main mortgage combined with the home equity loan to total 125 percent of a home’s value.

“The memory of the housing boom and the correction will make folks a lot more conservative,” Khan said. “That means only getting the amount of loan they absolutely need, and spending it in a more sensible way.”

The memory of the bailouts will remedy any concerns lenders have about future losses on bad loans. The memory of the housing bubble will fade in a nanosecond.

I surrender

I give up. Nobody seems to care that greedy lenders are enabling foolish Ponzis to spend their home equity on trinkets and useless crap. Anyone who exercises the slighted bit of restraint is a fool. The prudent will get none of the benefit and end up paying all of the bills. Apparently, everyone is okay with that because politicians are under no pressure to change the system. Perhaps I should stop fighting it.

Everyone should buy a house as soon as possible and go Ponzi.