BluefoxToday blog : January 2009

Home builders have been absorbing severe body blows for a while with their over-priced product and too much supply. Using Las Vegas as an example, the scenario here easily applies to many areas of the country, the troubles really began gathering steam two-three years ago and haven't let up since. That seems like enough time to put together a new strategy to combat the obvious oversupply but they somehow have been slow in doing anything substantial. Besides cutting back production, not enough it seems, and reducing the average size, they are now trying something different; offer cut-rate mortgage financing.

Some of the bigger firms are going from 1% to 1.5% below the current average interest rates for 30-year fixed. For starters, that ought to catch the eye of some prospects. In addition, at least one of them advertises a mortgage insurance option in case of a job loss. The heavy focus has now shifted to the finance side to generate sales that are so hard to come by in this slow economic environment.

Housing hasn't been this disjointed in a long while between the existing home sector and the new one. Still keeping in mind Las Vegas, resales are now doing rather well here in the lower end of the real estate market because foreclosures have pushed prices down hard. New homes can't compete with them at all, so that's why the financial incentives were introduced. But it's doubtful that they'll make much of a difference because the price gap is so wide. And it can get even wider in the coming months if foreclosures keep on piling up, as some experts suggest, and lenders turn around and list them for sale at ever-decreasing prices to get them quickly off their books.

Home builders predictably will remain between the rock and the hard place for now, even after introducing these mortgage finance incentives.

Warren Buffett rarely needs an introduction. By most standards he can be considered as popular as today's movie stars, music performers and sports heroes. As a savvy guru of the business world he has made a tidy sum of money as one of the most revered investors of the last several decades. Whatever his formula is, it works. Besides the record-breaking numbers on investment returns, he personally brings confidence and prestige to any process he is involved in.

Confidence in the U.S. economy is what's largely lacking right now. Actually, it all pretty much started with the subprime mortgage deterioration that then engulfed the entire financial system and these troubles eventually spread over to entire economy and overwhelmed it. Many different approaches have been tried to cure the ills but the results so far have been meager And that is because the confidence level in the economy and the political process is badly faltering. Wall Street's reputation is severely damaged by its own inability to responsibly run its affairs and the U.S. Treasury Department, the Federal Reserve and other governmental entities aren't doing much better.

Enter Warren Buffett. In a recent interview he voiced his unwavering support for the new President Obama, that he is the right man to successfully face this "economic Pearl Harbor". His words can go a long way in carrying the present administration's policies to a result that will lift the mortgage, financial and real estate markets off the mat and when the housing sector is gaining strength the whole economy will perk up. It plays such a key role in it, in the big picture. In essence, Buffett is instilling a healthy dose of his personal confidence into the upcoming plans that it alone ought to improve the country's outlook for the future. Raise its spirits and work tirelessly toward correcting what needs to be corrected.

He also makes it clear that there are no quick fixes, no miracle cures because many of the problems are fundamental in nature and take a while to straighten out. Yet, he has the confidence that the light at the end of the tunnel is visible and will grow bigger and bigger.  

It comes as now surprise. The trend has been talked about in the industry for months and the last time it came up again was at the International Builders' Show held recently here in Las Vegas. But there has been no hard evidence to support that, until now. U.S. Census Bureau has compiled a load of numbers on this and they show that the median size of new homes started in the third quarter of 2008 was 2,090 square feet while in the second quarter the corresponding size was 2,291. In one quarter, then, the product shrank about 200 square feet which can be considered a substantial shift.

The sliding economy has a lot to do with it, of course. A large segment of the buying public simply can't afford to go for the bigger ones any more, the ones that so many got used to purchasing just a few years ago. By one measure they could start maybe at 2,500 square feet, with the backstop being a small mansion. Homeowners were able to buy them with the equity that had built up in the old home, for one, and also because the banking industry had become extra generous about doling out mortgage loans. If you could spell your name correctly you were good to go.

That was then. Today's real estate scene is practically a complete reversal from what it was a couple of  years ago in many areas. In order for home builders to move their inventory now they have to bring the median price down quite a bit and that generally means the size of the home has to decrease. They often offer fewer extras as well. Nice tile floors, gone. Huge master suites, gone.

The current economic hardship may also be teaching the consumer a useful lesson. Bigger isn't necessarily better. Does a family of four really a need a five-bedroom house? Or a large game room? What about a three-car garage? With some astute planning a smaller home can easily meet the needs of a four-member family. A survey run by Better Homes and Gardens points in that direction, that people are becoming more practical about how they like to live and the extra space is usually the first thing to go.

Home builders are certainly taking notes and have begun adjusting their building plans accordingly.

As foreclosure numbers keep growing nationwide lenders are facing more pressure to make home loan modifications, or workouts, more meaningful. Up to now their efforts have mostly been half measures from the borrower's perspective, backed by recent stats that around half of modified home loans re-default within six months. That surely isn't helping the pummeled real estate market to recover, something everyone ought to strive for, and thus help the entire economy get back on track.   

The entities operating between distressed homeowners and the investors who have bought their underlying mortgages usually are the servicing firms. They are the key players, work under contract for the investors and naturally first look for what's good for them. And that means modifying as little as possible. For loan workouts to have more bite the contract terms need to be adjusted or otherwise the whole exercise is largely wasted. Foreclosures would keep rising, home values head further south and at the end the investors would suffer even bigger losses when their deeply discounted, foreclosed property is finally sold.

To make modifications work better loan balances should be lowered bravely and not just a token 10% or so. They ought to be brought down close to where the market is, which of course will hurt the investors at first. But that's the reality right now. When homeowners are upside down by a large percentage they really have very little incentive to do everything they can to make payments. However, if they are looking at newly-adjusted mortgage balances hovering somewhere near actual market value they will most likely make the extra effort to struggle on. It's clear that the housing market is not turning around any time soon and bail the investors out. They have to accept that and base their decisions accordingly.

Another way to lower payments meaningfully is reducing interest rates. And do it so that it would make a real difference, enabling homeowners to stay in their houses. If this avenue is used aggressively, the mortgage balance may not need any adjustment at all, or very little, making it perhaps a more palatable option for the investors.    

It has been rather puzzling to watch lately how aimless the investment community has been in dealing with the growing foreclosure problem. Because of that Washington is likely to get involved and that might not be the best alternative either.

This is an improvement credit applicants can cheer about. For instance, when a house is purchased with a mortgage the borrower's credit credentials are pulled and in most cases the company providing it is Fair Isaac Corporation, the home of the well-known FICO score. It's used to get a look at the consumer's past credit history and then evaluate the future risk he may pose. Over the years it has been for most borrowers kind of a mysterious entity they hear a lot about from real estate agents and mortgage consultants but they never really got to understand what all it does. That is changing as we speak. Or in this case, write.

A few years ago Fair Isaac launched a Scores on Statements initiative that lets participating banks offer their customers a free FICO score with their online accounts. It also includes information on how they can pro-actively manage their credit ratings and this way possibly fine-tune the score before applying for a major loan like a mortgage. So far there are around 1.5 million consumers nationally who have access to this service.

Obviously there is a fee a bank has to pay to get authorized to offer the Scores on Statements program, but it still is a major step forward toward taking the veil of secrecy out of the all-powerful FICO score. Everyone ought to be in the know about where their stand on credit. It simply has too much influence on our daily lives to be ignored, from applying for a home loan to perhaps being a decisive factor in getting a job. The initiative is still very small in size but hopefully it'll gain much wider acceptance in the near future.

Forecasts of any activity are hard to be accurate about. That's why they are forecasts. Las Vegas Housing Outlook 2009 had attracted the cream of local real estate gurus to discuss the state of the market from here on out. The general feeling among those who stood at the podium and spoke into the microphone was that the road is going to be rocky for a few more years. Whether it has huge boulders on it or is merely covered with fist-sized rocks wasn't specified.   

One thing is clear that Southern Nevada is now part of the national economic rhythm and has been dragged screaming and kicking into a nasty downturn because of it. This recession is of course a little more than the garden variety of years past that normally spared Vegas from their effects. In a way it's a good wake-up call for the city.

The forum brought up a few items that give rise to realistic optimism. The median resale home prices are going to drop only about 3% in 2009, a significant improvement from the 34.8% dive they took last year, so predicted by Home Builder Research. The average price then should settle at $158,000, a level they were early in the decade. This will make Las Vegas housing again very affordable and will likely encourage additional in-migration, especially when the national economy improves and pulls the local resort sector up with it that then adds jobs. This all spells demand, the word everyone is looking for today.

Along the same line, new home values will decline just 1.7% to $240,000 in 2009. The wide gap between that and the resale price will clearly put the segment in a tough spot to move inventory.

The existing home sector provides more good news. Or actually predictions. There were 24,838 sales in 2007, then the number grew to 30,491 last year, a noteworthy jump, and for 2009 Home Builders Research estimates 32,000 closings. In comparison, new home sales were only 8,994 in 2008 and will do a meager 6,500 this year, as is predicted. For the next few years observably resales will keep the housing market moving here and eventually will lead it out of the slump, too.

It could make home buying, or even a refinance, a reality. Mortgage interest rates are bouncing around the low 5% mark that ought to draw consumers to the marketplace by the thousands, and it's doing that to some degree. What still keeps many from getting a loan approved, though, are the stringent underwriting guidelines lenders now employ. Weak credit standing can be a major hurdle to overcome, as is the lack of enough down payment.

The solution could be the use of a cosigner. Normally it would be a relative who is willing to come in and help. His/ her name on the application can move the loan within required guidelines and get it approved, like improve the debt-to-income ratio to where it needs to be and hike the credit score that will then lower the rate. Often the original applicant can afford to make the payments but can't get the stamp of approval for the loan, especially in today's demanding lending environment.

There are a few things the cosigner should be comfortable with before signing on. If the primary borrower somehow defaults he'll be responsible for the mortgage. It'll also impact his future borrowing status because this cosigned home loan will now be on his credit report. This arrangement is not intended to run for ever so he should have an agreement on when the principal borrower will refinance the home and release him from the obligation. There are other precautions that can be taken, for instance setting up a reserve account and keeping an eye on the payment flow. To make everything clear, putting the details in writing might be the way to go.

Las Vegas, as an example, right now offers excellent buying value and this type of a set-up could elevate many credit-challenged borrowers from renters into homeowners, or allow payment-reducing refinancing that otherwise wouldn't work.    

2008 is at last behind us and it was what it was. A thoroughly memorable year for the mortgage and real estate industries, and the entire U'S economy for that matter. As years go, a few in the recent history have had as many spectacular market events rumble through the landscape as this one, leaving charred and burnt wreckage smoldering behind.  

Some of the true visionaries inhabiting this land had a few encouraging words to pass on about how 2008 would shape up and now they ought to be spanked for ever opening their mouths. Consider this.

"I expect there will be some failures.... I don't anticipate any serious problems of that sort among the large internationally active banks." That was Fed Chairman Bernanke expressing his views on February 28, 2008. This past fall WaMu just flat out fell apart, Citigroup survived on the taxpayer's money to see another day and so on. The list is long and colorful.

"Existing home sales to trend up in 2008." This from NAR's press release dated December 9, 2007. That was an entirely optimistic view of the future that proved to be plenty of hot air that all active housing market observers can attest to.

"Freddie Mac and Fannie Mae are fundamentally sound.... I think they are in good shape going forward." Barney Frank, House Financial Services Committee Chairman, had the nerve to say this on July 14, 2008. Only two short months later the government took over their operations because they were basically collapsing under the weight of bad mortgage paper.

Generally speaking, it's good to be optimistic about life and markets and those sorts of things. Yet, when the writing is rather plainly on the wall, saying something that goes straight against reality is dangerous to your reputation. Not only that but when people in high positions do it the marketplace starts doubting the soundness of the business environment and becomes really nervous about what lies ahead. That predictably leads to more caution and further slowdown of economic activity. Be careful out there what you say.  

The latest report from the Southern Nevada real estate market gives the reader a warm feeling, at least for now. It was somewhat unexpected as the winter months tend to slow down a bit. Regardless, local industry observers and home buyers are doing flips over the encouraging turn of events.

In its December wrap-up GLVAR, or Greater Las Vegas Association of Realtors, reveals that there were 2,498 existing single-family homes sold, amounting to a powerful 184% jump from December of 2007. In addition, this beats November's number of 2,183 by 315 houses closed. Much of activity was generated by investors who now see good value in the valley and aren't afraid to make a move. Home buyers, on the other hand, remain somewhat hesitant, hoping that prices will fall even further before signing anything. After all, it's their own hard-earned money they would have to use to pay off the mortgage.

What nowadays drives this impressive resale performance here is mostly the doings of the still weakening value picture. Median home prices are down nearly 33% from last year, stopping in dollar-terms at $175,000 for December. Condo prices were hammered even more, down over 51% from the year end of 2007. By many estimates homes are now selling in Las Vegas below replacement cost and if that doesn't spell "Buyer's market", then what does? Appealing mortgage rates are helping out, too.

The MLS inventory remains high at 22,144 units, equaling roughly where it was last year this time. A worrying trend is that now over 65% of single-family houses on the market were vacant, when in early 2007 the figure stood at 44%, implying that a vast majority of them are foreclosures. Clearly, they will continue to be the key dynamic as to which way the market will go in the coming months. 

This particular idea has been talked about in Washington for quite some time but has repeatedly failed to get the needed traction to get passed into law. The basic suggestion of it is that it would let judges alter mortgage terms for borrowers who are in bankruptcy court. The judges could tinker with the principal balance, the interest rate and the length of the loan, or any combination of the three. The major holdup has seemingly centered on the original "cramdown" provision that would allow the principal balance be brought down to the home's market value. That's what the financial community has been fighting against the most.

One of the major banks has now obviously changed its mind about that. Citigroup Inc. has reached a deal with key Democrats in the U.S. Senate to go along with this plan. What caused it to do so is at this point unclear, but Citi, among many other banks, has been criticized harshly by Congress for accepting federal bailout money by the billions and then doing practically nothing to help out homeowners in distress. That may have done it.

The cramdown proposal would cover every mortgage out there, from subprime to A paper, so long as they were underwritten before this bill goes into effect. If it indeed happens, bankruptcy courts are going to be busy for the foreseeable future. Borrowers are likely to get a more balanced hearing in the courts than trying to negotiate directly with their lenders, so they'll choose to go that route. Banks' real estate collateral is also going to take a beating, although that has already been going on for a year or two as housing values have kept on sinking. Either way, it hurts.

Citi is the first to do this. The overwhelming belief now is that others will soon follow. Had the banks that received federal tax dollars last years acted more responsibly with it, this may have been avoided. Anyway, when the bill is written, it ought to have very clear language about how it works. It should leave no room for misinterpretations and loopholes.