We have reached what seems to be the Minsky moment for the housing market. Named after the American economist Hyman Minsky, the idea states that over long periods of economic stability, leverage tends to grow in predictable stages. This economic stability leads to a fertile environment sprouting trunks of easy credit access with little perceived risk.
However, as the growth continues, there seems to be a movement from moderate lending to risky lending and, finally, outright irresponsible lending. With 100-plus subprime lenders imploding on their own convoluted mortgages, the housing market is clearly in the last stage of the lending cycle.
One sign occurred when Countrywide Financial announced that second-quarter profits shrank by a third due to growing delinquencies and – get this – creditworthy borrowers defaulting. The talk early in the year about subprime being contained has turned out to be an absolute ruse. Now we have prime mortgage borrowers swept up in the housing slump. Yet the bigger news came from Countrywide's CEO, Angelo Mozilo, who said that he does not see housing recovering until 2009.
Let's examine three critical factors that propelled housing into its public Minsky moment: prime contagion, record number of foreclosures and negative publicity.
Prime contagion
Countrywide's Mozilo likened the housing market to a gigantic ship needing to turn in the ocean. On the other hand, I like to think of the housing market more like a NASA mortgage rocket with no turning back.
Yet glorious housing bull pundits recently championed the amazing summer rebound and the silo mentality of containing the subprime debacle. Ignoring rising inventory, $1 trillion in mortgage resets and a stagnant market, these pundits decided to jump on the housing Pollyanna bandwagon. After all, this summer was housing's last shot to demonstrate continued bubble resilience.
Unfortunately, this summer marked only the beginning of a very difficult downturn in the housing market and most likely the overall economy. The market has ballooned beyond any economic model of sustainability.
Now we are realizing that prime loans are also taking a hit. This implosion is no longer contained to one segment of the housing market, as homeowners who once took advantage of high appraisal values and home equity are now struggling.
Furthermore, when people feel poorer, they spend less. And in our economy, based on 70% consumption, that equals a recession. Clearly, this direction is where we are heading. We have scheduled mortgage adjustments set for 2008 and 2009 to the tune of approximately $2 trillion.
This housing market followed no economic rules, and as during the Minsky moments of past, greed and irresponsible credit will once again collapse another bubble. Chalk it up to history repeating itself – which leads us to the historic moment recently set in California.
Record foreclosures
Southern California has reached a record number of foreclosures, while notice of default (NOD) numbers are quickly approaching record territory as well. Additionally, NODs are turning over and going into foreclosure. If anything, you can consider the NODs as a canary in the mine, and if we are to read the default data correctly, we are in for some massive foreclosures.
Over 75% of loans originated in August 2005 were adjustable-rate mortgages. Given that the hot product was 2/28 teaser suicide loans, in August 2007 a massive batch of these loans reset in a declining market with higher rates. So even if these folks want to refinance, they will be hit by higher rates and a larger payment.
Amazingly, these defaulted loans are also fairly new, with a median age of 16 months. Clearly, the problem here is people jumping into homes they cannot afford via horrible mortgage products. In addition, the rate of default on second mortgages is also skyrocketing – not surprising, because missing a payment on a primary loan implies the homeowner is also not paying the second.
In the midst of all this, however, there is good news, according to some studies. Right now, median home prices are not falling dramatically. (We won't address the possible inaccuracy of using a small sample size of higher-priced homes, which skews overall market stats. We want to leave you with one piece of good housing news for the day.)
Negative publicity
This may turn out to be the only good news left for housing. The media is fickle and suffers from long-term memory loss. Even a year ago, we were reading about stories of people making thousands in real estate transactions.
Now, you are more likely to find negative housing information permeating the media. But don't you find this pattern odd in California – a state where housing is still flirting with a median price of $600,000? If the media dug deeper into this implication and did constructive journalism, it would be clear that we are in a full-fledged housing bubble bursting.
Why are they afraid to come out and simply admit what the data are suggesting? Housing is in for a major correction, and housing prices grew on the back of irresponsible lending and greed.
The issue is that the real estate industry employs countless people, pays high amounts of money for advertising and has many politicians bought. Of course, they carry clout, but you can only fool the market for so long.
It is becoming apparent that this system will collapse on its own weight. In a way, we haven't felt the ramifications of what is to come, and we are only getting a sneak peak of the real housing bear market. Based on old LA Times articles, the move from positive rhetoric on a housing peak to bubble-collapse Chicken-Little print took about three to four years.
Given this past reference, you can expect a bottom somewhere in 2009 or 2010. Employment numbers, for instance, still do not accurately reflect the coming job losses we will face.
Our economy was based on this bubble via credit, mortgage equity withdrawals, trading houses like baseball cards and a cultural neurosis focused on all things housing. When do you think we will reach a housing bottom?
CJ Gehlke is founder and CEO of REO Nationwide Inc. She can be contacted at (888) 700-0868, ext. 326, or cj@reonationwide.com.