by Calculated Risk on 12/10/2007 10:17:00 AM

The National Association of Realtors (NAR) released the Pending Home Sales index (PHSI) for October and an updated forecast this morning.

From NAR: Existing-Home Sales to Trend Up in 2008

The Pending Home Sales Index,* a forward-looking indicator based on contracts signed in October, increased 0.6 percent to an index of 87.2 from an upwardly revised reading of 86.7 in September. It was the second consecutive monthly gain, but remained 18.4 percent below the October 2006 index of 106.8.

So the PHSI suggests seasonally adjusted sales will up slightly in November / December at around 5 million (Seasonally Adjusted Annual Rate SAAR). The PHSI leads existing sales by about 45 days.

And the NAR forecast for 2007:

Existing-home sales are likely to total 5.67 million this year ...

by Calculated Risk on 12/10/2007 01:56:00 AM

Form the WSJ: UBS Gains Two New Investors, Writes Down $10 Billion

UBS AG Monday said that two strategic foreign investors placed a total of 13 billion Swiss francs ($11.5 billion) ... as the Swiss bank announced a further $10 billion in write-downs on subprime holdings.

... Beyond the investments from these two parties, UBS plans to sell treasury shares and replace its 2007 cash dividend with a stock dividend.

Wow. $10 billion in losses, and cutting the dividend to zero (a stock dividend is worthless).

by Calculated Risk on 12/09/2007 06:15:00 PM

From MarketWatch: UBS may announce writedowns - report

The board of Swiss bank UBS AG is holding an unscheduled meeting this weekend, and could announce more sizable writedowns on its subprime mortgage exposure as early as Monday, reports Swiss weekly Sonntagszeitung.

These unscheduled board meetings usually mean bad news.

The confessional is now open.

by Tanta on 12/09/2007 11:02:00 AM

CR adds: here is the link to Tanta's piece referenced in the Chronicle: The Plan: My Initial Reaction

Thanks to Bob Dobbs (and bacon dreamz) for this: we made it into a real newspaper!

From the San Francisco Chronicle, "Loan bailout is not likely to help many homeowners":

A fascinating though somewhat technical piece on the blog Calculated Risk surmises that this "convoluted and counterintuitive plan" was designed to stay "on the allowable side" of the contracts (called pooling and servicing agreements or PSAs) that govern how securitized loans are handled.

Dear media people: we appreciate being cited just like anyone else. That's what our media policy is about.

For the rest of you who've been hanging out at Calculated Risk before it was cool, a little celebration:

by Tanta on 12/09/2007 10:18:00 AM

CR did a wonderful post yesterday clearing up some of the myths and misunderstanding about the Hope Now/"Paulson Plan." I just want to follow up on one of them, the issue of whether this is a "bailout."

We will never establish consensus on that point as long as anyone uses the term "bailout" to mean just any post-hoc action that could benefit someone. CR is using the term somewhat more specifically, in the sense of providing actual taxpayer funds to subsidize mortgagors or make whole mortgagees. In that latter specific sense, the Paulson Plan does not represent a "government bailout."

Several people have noted that it does seem to rely on the availability of government-insured refinance loans (FHA and FHASecure), and it proposes, certainly, the development of government-sponsored bond programs (the "government" in the latter case would be states and counties and cities, not the federal government, as far as I can tell).

I therefore thought it would be helpful to remind everyone what the difference is between a "government-insured" loan and a bond program. FHA does not buy loans. It does not provide capital to make loans with. It is not entitled to any interest income from performing loans. It does not service loans. Ginnie Mae securitizes FHA loans, but Ginne Mae doesn't buy loans either. It "wraps" pools of loans with its guaranty.

So FHA gets nothing out of performing loans except the required insurance premium that the borrower pays. Premiums are held in the MMIF (Mutual Mortgage Insurance Fund) and used to pay out for claims on defaulted loans. We don't need to get into all the technical parts of that today. The point is that the general goal of the FHA MMIF is to be revenue-neutral. Whether it is or not at any given point in time depends on how well the premiums were priced and how well the loans perform. For a long time the MMIF has been a "negative subsidy" on the federal balance sheet, meaning that it actually is in the black. It may well not continue to be in the black, but my point is that what's in the black isn't "profit" from interest payments made by mortgage borrowers. FHA doesn't own any loans. What's in the black is insurance premiums collected in excess of claims paid.

Bond programs are different. There are a jillion flavors of them, but in essence they are public versions of securities: they actually do buy loans, pool them, and issue bonds to investors who receive the principal and interest payments from the loans. Typically, they are set up to buy low-interest (below market) rate loans, because they are issued by governments and everything gets favorable tax treatment. It is possible that the loans in a bond program pool also have some other kind of credit enhancement like FHA insurance, private mortgage insurance, or second liens.

But the bottom line issue here is that insofar as the loans do perform, the bond program's investors do receive the interest income. The bond issuer is ultimately at risk if the loans default and there is not enough principal recovered to make the investors whole.

But in both cases--government-insured loan programs and bond programs--private investors are providing the capital. Of course cities and states and counties can themselves invest in mortgage securities, and we see that they have. But that's hardly the traditional way of doing a mortgage-backed bond issue: the idea there is to get someone else to provide the capital, since the issuer is providing the credit enhancement.

The federal government does not have any program in which it directly buys mortgage loans, or directly invests in mortgage loan pools. The lending capital in this context is always coming from the private sector.

So to get back to the "bailout" question: at the simplest level, what's going on here is that loans that were "insured" (or credit-enhanced) by the private sector are being refinanced into loans that are insured or credit-enhanced by the public sector. Therefore the risk is moving off the private balance sheet and onto the public one. The rewards--such as they are these days--are still firmly in the private sector. In that sense, you could call this a bailout: it's moving the risk of default.

On the other hand, it only works if investors are still willing to buy Ginnie Mae securities or municipal bonds. There has to be some capital supplied. The idea here is that nobody's stupid enough to buy high-risk mortgages right now without government guarantees. So far--and I do stress so far--not even FHA has been willing to go down the road of upside down loans to borrowers who can't qualify with income docs. That's why the whole Paulson Plan is about, in essence, what to do with those loans. So FHA is "taking out" some pretty weak loans, but it isn't taking the weakest ones. The weakest ones get "the freeze" or the foreclosure. That is why this Plan is usefully described as not a government bailout. If FHA or municipalities would take all the toxic waste, we wouldn't need this Plan; servicers would just be busy refinancing. The Plan exists because there is a big pile of loans that do not qualify for any of those refinancing opportunities.

Some people are getting confused by the extent to which The Plan talks about refinances. We already had FHASecure and plain old FHA before this Plan; the Plan did not invent those options. The Plan is about designing rules of thumb for quickly sorting out the loans that don't qualify for refinances, and doing something about them. In that sense it's no more of a "bailout" than what we had before The Plan.

Now, as I noted last week, Paulson's "total package" includes lobbying for "FHA Modernization," which would certainly increase the number of loans FHA could "take out" and decrease the number of loans the private investors have to live with somehow. There are many reasons not to like that; even if you do like the idea of FHA taking on more of the problems, though, the answer here would be to expand FHASecure, which is a new program specifically designed to refinance troubled loans. Changes to the regular old FHA warhorse program would allow more "take outs," but it would also apply to new loans, and we'd have it forever (because there's never the political will to tighten FHA requirements during the next boom), and so FHA would be in the front of the mess next time, with no "dry powder."

"FHA Modernization" might be a kind of bailout, but it's not, in my view, really much of a bailout of existing, defaulting mortgage securities. It's a "reflation" of the mortgage origination industry and the RE market (existing and new). That's the only rationale for pressing for FHA Modernization rather than pressing for easing restrictions on FHASecure. As I said, there are precious few investors who will put money in mortgages right now without a government (or quasi-government) guarantee. Ignore the spin: FHA Modernization is about making new purchase money loans, not about refinancing old problems. That is not an "investor bailout"; it's life-support for loan originators and builders and sellers of existing homes.

We should, I guess, pause over "sellers of existing homes," because we have a vocal subset of the commenting community who keeps arguing that borrowers in trouble should just be counseled to mail in the keys and be done with it. I take it the idea is not to have the banks and REMICs own that REO forever; the idea is that the REO would be sold at a much lower price to new borrowers. Who quite possibly can't get financing right now because the mortgage market is stalled and all appraisals are now in question. So even at a lower price, you need financing for these new borrowers. Enter "FHA Modernization."

There are many kinds of "bailouts," and they don't all depend on not foreclosing on current owners. I frankly am more worried about FHA Modernization becoming a "bailin" than I am FHASecure being a "bailout."

by Calculated Risk on 12/08/2007 08:13:00 PM

From Floyd Norris at the NY Times: Like Subprime Mortgages, Some Construction Loans Are Delinquent (hat tip FFIDC)

Figures compiled by the Federal Deposit Insurance Corporation ... show that both midsize and small banks had construction loans outstanding that were greater than their total capital. A decade ago, such loans were equal to only a third of capital for those banks.
...
Now ... more than 3 percent of all construction loans are classified as being nonperforming, or have borrowers that are behind on their payments. That is the highest proportion in a decade.
...
“I think there will be a wave of bank failures in the not-too-distant future,” [Matthew Anderson, a partner in Foresight Analytics] added, “although probably not on the order of the 1980s and 1990s. You had a lot of high loan-to-value lending going on in markets that have soured significantly.”

When construction loans go bad, they can go very bad, in part because it can take a long time to slow them down after markets begin to weaken. Construction projects, once begun, are useless if not finished.

During the Paulson Q&A on Friday, he was asked: "Do you anticipate bank failures like England saw with Northern Rock?" Paulson gave a non-answer, and the reason is probably because there are several bank failures in the offing.

by Calculated Risk on 12/08/2007 05:05:00 PM

Update: OK, eleven!

10) This is not a bailout. There is no federal money involved.

9) The Paulson mortgage plan does not violate any contracts. Tanta nailed this immediately: The Plan: My Initial Reaction

A lot of people are very worked up over the idea that the New Hope Plan is, in essence, the government mandating a kind of reneging on private contracts (the PSAs or Pooling and Servicing Agreements that govern how securitized loans are handled). I personally think you can all stand down on that one.... it is clear to me that it is in fact structured with the overarching goal of making sure that it stays on the allowable side of the existing contracts.

James Hymas of Prefblog (via Econbrowser) dug up this contract language. I've highlighted section Y, what Tanta pointed out immediately!

EMC, as master servicer, will make reasonable efforts to ensure that all payments required under the terms and provisions of the mortgage loans are collected, and shall follow collection procedures comparable to the collection procedures of prudent mortgage servicers servicing mortgage loans for their own account, to the extent such procedures shall be consistent with the pooling and servicing agreement and any insurance policy required to be maintained pursuant to the pooling and servicing agreement. Consistent with the foregoing, the master servicer may in its discretion (i) waive any late payment charge or penalty interest in connection with the prepayment of a mortgage loan and (ii) extend the due dates for payments due on a mortgage note for a period not greater than 125 days. In addition, if (x) a mortgage loan is in default or default is imminent or (y) the master servicer delivers to the trustee a certification that a modification of such mortgage loan will not result in the imposition of taxes on or disqualify any trust REMIC, the master servicer may (A) amend the related mortgage note to reduce the mortgage rate applicable thereto, provided that such reduced mortgage rate shall in no event be lower than 7.5% and (B) amend any mortgage note to extend the maturity thereof, but not beyond the Distribution Date occurring in March 2035.

8) There will be no lawsuits from investors (other than lawsuits that would have happened anyway).

There have always been different interests of the various investors - what Tanta referred to as "Class Warfare". These different interests may lead to lawsuits, but this isn't the result of the Paulson plan. Earlier this year Tanta wrote a series MBS for Ubernerds, and in the April edition she pointed out:

... the notion of a multi-class security is generally premised on the happy assumption of a bunch of different investors with different investment needs—fixed income, hedges, what have you—all of whom can come together, take the piece they want, and play “support bond” for each other, while the REMIC issuing trust happily takes the leftovers in the residual out of the kindness and generosity of its heart. What lurks beneath this premise—and will get crucial when we start talking about credit risk again—is that multi-class can introduce “class warfare.”

One thing you can say about the various part-owners of a big single-class pass-through is that they’re all in the same boat, since they’re all getting a pro-rata share of whatever is going on—fast prepayments, slow prepayments, high-coupon, low-coupon—in the underlying pool. In a multi-class REMIC, fast prepayments could be great for me and tough luck for you. Changes in the underlying interest rates on the loans could be tough for me and great for you.
emphasis added

The proposed changes in the interest rates (the freeze) may be tough for a particular investor, but they are permitted under the PSA (Pooling and Servicing Agreements).

7). These are not teaser rates.

The freeze rate is usually in the 7% to 8% range. Some people hear "teaser rate" and think 1% or 3%. Nah. These loans started at a much higher rate. In the above EMC agreement, the minimum rate was 7.5%.

6) The plan is voluntary - not a mandate - and this is not government regulation.

5) The plan targets homeowners with weak credit who owe more than their house is worth.

All this talk about LTV greater than 97% makes it sound like this plan is for homeowners with LTVs from 97% to 100%. Nah. This is plan is for homeowners with weak credit (maybe 1.2 to 1.8 million) that are underwater - or about to be underwater - on their homes. They can't sell. They can't refinance. And they probably can't make the new payment.

Imagine the headlines if they had set the level to 105% LTV or greater. The actual number of eligible homeowners wouldn't decrease much - most of these people are probably more than 5% underwater already and will be further underwater soon - but the headlines would blare: the government wants people to pay on mortgages that are for more than their collateral is worth!

And that is the goal.

Of course the level was set at 97% or greater LTV because the industry recognizes that anyone with less than 3% equity cannot refinance. For those with a 96% LTV mortgage - no worries - just wait a few months and the value will probably decline enough to put you in the plan.

4) This is an industry / investor plan. Don't be confused about the happy talk about helping homeowners stay in their homes. This is about helping the investors, and trying to slow the impact of the housing Depression on the economy.

Some homeowners will be helped, but as Tanta wrote:

In my reading of this, giving a deal to a borrower almost seems incidental.

3) The savings for the investors will be small. Professor Krugman took a stab at the numbers:

Only a small fraction of borrowers will be covered. According to one estimate, we’re talking about maybe 145,000 mortgages. And because of the nature of the borrowers, these aren’t big mortgages — average value almost surely under $200,000.

Now, the idea of the deal is that it will avoid foreclosures, which are very costly — losing 40 to 50 percent of the value of the mortgage, according to some estimates.

Suppose that’s right — and that virtually all the benefits of the deal go to investors, not homeowners. Then we’d be talking about $100,000 per mortgage, over say 150,000 mortgages. All told, $15 billion.

In reality, it would be substantially less than this, both because borrowers will get something, and because some of the rescues will fail. So we’re almost surely looking at less than $10 billion in losses avoided.

Meanwhile, estimates of subprime losses to investors are currently running in the $300 -$400 billion range.

So the back of my envelope suggests that this plan is a drop in the bucket.

2) Recidivism will be high. Again from Tanta:

I want to comment on this little statistic, that is getting thrown around a lot:

Modified loans frequently re-default. Joshua Rosner at Graham-Fisher & Co. says 40% to 60% of subprime and Alt-A borrowers who have their loans modified end up defaulting anyway within the next two years. Fitch Ratings puts the recidivism rate at a slightly lower 35% to 40% for good modification programs.

Let us bear in mind that such statistics have to be based on loans that were modified no more recently than 2005 (newer mods would not have a 24-month post-modification history). It is quite possible, indeed it is likely, that modifications done in 2005 and earlier (when there were many more refi opportunities and most borrowers could sell their homes for at least the loan amount) were done for borrowers with problems like job loss or illness that either simply recurred or that created other (non-mortgage) debt problems down the road.

This is not to argue that modifications done now for loans originated in 2005 and after would perform better. Or worse. Or the same. It is to say that we are probably in uncharted territory and that "past history" was a lousy guide when we made the loans and might be a lousy guide when we have to work them out.

I suspect the percentage defaults (recidivism rate) after a rate freeze will be in "uncharted territory". And this means the losses for investors aren't being avoided, just postponed.

1) For the Home Builders: Nothing.

There is an investment myth that this freeze will help the homebuilders because there will be fewer distressed homes on the market next year. This seems silly. The homebuilders are getting crushed because of the current inventory levels. Sure, the freeze will probably keep a hundred thousand - maybe a few hundred thousand - distressed homes off the market. That is a drop in the bucket.

And most of this distressed inventory is coming - it's just being postponed - and that will prolong the slump.

AND FINALLY: The purpose of the plan is to publicize that lenders will modify loans.

All of these modifications could have been made anyway without the freeze. But the problem was very few homeowners called their servicer before defaulting on their mortgages - and most homeowners didn't answer their servicer's calls once they were delinquent.

By having a standard, the guideline can be publicized. The goal of this plan is get homeowners to pick up the phone.

by Calculated Risk on 12/07/2007 07:01:00 PM

From Bloomberg: S&P Cuts Capital Notes of 13 SIVs, More Cuts Possible (hat tip John)

Standard & Poor's said it lowered credit ratings on capital notes of 13 structured investment vehicles and placed debt of 18 SIVs on negative outlook ...

Orion Finance Corp., managed by asset manager Eiger Capital Ltd., became the fourth SIV to enter ``enforcement mode,'' requiring the appointment of a trustee to protect senior debt holders. Premier Asset Collateralized Entity Ltd., an SIV sponsored by Societe Generale SA is close to breaching capital tests that would trigger enforcement, S&P said in a statement.
...
``We do not see asset values rising appreciably in the coming months, and we could see price erosion continue,'' S&P analysts led by Nik Khakee in New York and Katrien van Acoleyen in London wrote in a report today. ``Also, we cannot see investors returning to the market in sufficient numbers to reverse the funding problem, and we are aware that not all restructuring plans are yet final.''
...
Ratings on junior debt of Premier Asset and K2 Corp. ... were cut to below investment grade. Rankings on capital notes of Five Finance Corp., Sedna Finance Corp. and Zela Finance Corp., three SIVs run by New York-based Citigroup Inc., were also lowered.

The ratings cuts reflect ``the increased likelihood that capital investors in these vehicles will see actual losses materialize,'' the S&P analysts said.

What is a Friday without some rating cuts?

by Calculated Risk on 12/07/2007 05:47:00 PM

Click on graph for larger image.

Source: Cleveland Fed, Fed Funds Rate Predictions

On the debate between 25bps and 50bps, market expectations suggest a 25bps rate cut to 4.25% at the Dec 11th meeting.

by Calculated Risk on 12/07/2007 01:44:00 PM

Secretary of the Treasury Henry Paulson hosts a Q&A.

Randall, from Kearney, Ne writes:
Why are we responsible for bailing out the ARM lenders, or if you insist, the borrowers that were fully informed of the consequences of an Adjustable Rate Mortgage? This is for the benefit of lenders, isn't it?

Henry Paulson
Let me say first, this is not a bail-out – there is no federal money involved in what was announced yesterday. It’s a private-sector led initiative that is to the benefit of everyone – the families who face losing their homes, the neighborhoods and communities they live in, as well as mortgage servicers and mortgage investors. Foreclosure is to no one’s benefit. I’ve heard estimates that mortgage investors lose 40-50 percent on their investment if it goes into foreclosure.

Because everyone loses in foreclosure, the industry – lenders and investors – already has a process for working with struggling borrowers to avoid foreclosure whenever there is a better option for everyone. What we announced yesterday is simply a streamlining of this process.

There are 1.8 million owner-occupied subprime ARMs expected to reset in 2008 and 2009. The combination of lax underwriting standards when these loans were originated followed by stagnant or declining home values in the last two years means we expect a dramatic increase in the number of borrowers who are likely to find these mortgage resets unaffordable. The standard loan-by-loan process for working with struggling borrowers would not be able to handle the volume of work that will require. The industry needs a systematic approach, in order to cope with increased volume over the next few years, and we applauded them yesterday for putting forward just such a streamlined approach.

And let me be clear – we will not avoid all foreclosures. Borrowers who are struggling even with the lower initial ARM rate are unlikely to be eligible for assistance, and likely will become renters again. We worked with the industry to create a streamlined process so that those for whom there is a better solution don’t end up in foreclosure simply because the system was too overwhelmed to assist them in time.



--------------------------------------------------------------------------------

Alan, from Arizona writes:
Mr. Paulson Do you anticipate bank failures like England saw with Northern Rock?

Henry Paulson
Alan – I’m glad you asked this. The U.S. banking system is thoroughly regulated and well capitalized. We have a strong deposit insurance system that provides good coverage for the savings of hard-working Americans. Another thing to remember as we work through this mortgage market turmoil is that we’re confronting these challenges against the backdrop of a strong global economy and a fundamentally healthy U.S. economy. Business investment has expanded in recent months, our exports are being boosted by the strong economic growth of our trading partners and the healthy job market has helped consumer spending continue to grow. But I have also been very clear that the housing decline is still unfolding, and I view it as the most significant current risk to our economy.

More Q&A at the link.