June 24, 2008 12:56PM
The Answer to When the Writedowns End
By Elizabeth MacDonald
If you had placed a bet that the financials’ writedowns would be kitchen-sinked this year, over, done, that’s it, you are likely mistaken.
That’s because the next wave of writedowns will come from negative amortization loans, a type of adjustable rate loan which require tiny monthly payments insufficient to even pay-off interest costs. Fox Business anchor Stuart Varney first alerted me to this story.
The bad loans are the reason why the government is moving to bail out homeowners with new housing legislation that would put this bad paper on the backs of taxpayers via a ramped-up Federal Housing Administration, which will help refinance and rejigger mortgages.
Lenders such as Countrywide Financial (CFC) have been racing to restructure these loans, as well as numerous other adjustable rate loans, since last fall.
And the loans are why you are increasingly seeing deals such as “100% financing” made to first-time home buyers, so neg am borrowers can unload their homes, and in turn their loans. The 100% financing deals are made possible via down-payment assistance programs run by nonprofit organizations.
These programs are funded largely by home builders and also by private homeowners desperate to sell. The seller-funded groups provide enough down-payment money to buyers so that they can qualify for a mortgage backed by the FHA, which requires at least a 3% down payment.
Supporters of the down-payment programs say they are vital to repairing a damaged housing market. Critics say the FHA, meaning taxpayers, will see more defaults in these loans, as today’s seller-funded loan is tomorrow’s foreclosure, reports the Wall Street Journal. Borrowers can just as easily walk away from down-payment assisted, no-money-down loans, as they sink virtually none of their own money into the house to begin with.
In a “neg am” loan, any interest not paid is added to the loan balance, a process called “negative amortization.” These loans were given to borrowers with stated income (meaning, borrowers merely told lenders what their income was, and presto, they got a loan), or low- or no-documentation–meaning lenders did zero income checks.
Often ARM loans give borrowers the “option” to set their own payment amounts. They can slow up paying on the principal of the loan, and they can even defer some of the interest payments.
These so-called “neg am” loans first became popular in coastal markets in 2003, says Sheila Bair, head of the Federal Deposit Insurance Corp. They reset after five years, meaning, they remain interest-only loans with no amortization for the first five years.
That means the first wave of these shoddy loans are resetting this year.
Many of these shoddily underwritten ARMs were made near the real estate market’s peak in 2005 and 2006. That means these loans will reset to higher interest rates in 2010 and 2011. FDIC analysis says that large volumes of these loans will undergo payment reset and require amortization beginning in 2009, “in market conditions that may not be much better than we see today.”
And that means the markets won’t see a halt in Wall Street writedowns or loan defaults until 2011. Is that when housing, and the financials, will find their bottom?
Remember, it’s estimated that Wall Street provided three-quarters of the financing for mortgages by repackaging them as securities.
Lenders made an estimated $581 bn in option ARM loans during 2005 and 2006 while shelling out an estimated $1.4 tn in interest-only ARMs, according to the mortgage research outfit First American LoanPerformance. Option ARMs are a type of interest-only loan.
A recent study estimated about $325 bn of these loans will default, leading to more than 1 million homeowners giving back their property to lenders.
The Federal Bureau of Investigation is looking into whether troubled lender Countrywide Financial (CFC) deliberately made loans to borrowers who did not have the assets or financial wherewithal to pay them back, the Wall Street Journal has reported. The FBI is trying to prove Countrywide knowingly ignored signs that borrowers would not be able to repay loans.
Countrywide redirected its conveyer belt of mortgages towards Wall Street, including players like Merrill Lynch (MER), which repackaged and securitized this junk, ending up in hedge funds, pension funds, endowments, money market funds and insurance portfolios around the globe–including Old Lane Hedge Fund, formerly run by Vikram Pandit, chief executive of Citigroup (C).
It’s been estimated that about half of the nearly $470 bn worth of loans that Countrywide made in 2007 had adjustable rates built in to its loan terms.
Looking at Countrywide Financial (CFC) alone, it has mortgages with unpaid principal balances that amounted to $87.2 bn as of March 31, 2008.
Of that sum, CFC has $27 bn in pay option loans, $24.8 bn of which were negative amortization loans.
Shareholders in Bank of America (BAC) are voting on the bank’s $3 bn acquisition of Countrywide on June 25th. The bank has reaffirmed that the deal is going through.
Countrywide Financial should have seen this coming. It saw a notable increase in the percentage of its mortgage book with some level of negative amortization back in 2006, increasing year to year from under 12% to over 20%.
Right now, servicers thought they could get recovery rates of 60% on subprime loans, but even 30% is thought to be currently unattainable. Some servicers have been selling loans for as little as three cents on the dollar.
Note: As of last fall, less than 4 % of the option and interest-only ARMs were delinquent, well below the 14 % rate for the subprime market, where about $1.5 tn in home loans are still outstanding, according to the most recent data from the research firm First American LoanPerformance.
But that’s because these negative amortization arms reset after five years. Again, the first wave of these neg am loans, issued in 2003, are resetting now.
Comment by Greedom
Jun 24th, 2008 at 2:01 pm
Scariest eval I saw of this mess was 6 trillion when you add in US Dollar problems to US real estate - which would be about 1/2 of the entire US real estate sector.
Best case was 600 billion -
that’s some margin in between to sort out what’s real.
Comment by Greedom
Jun 24th, 2008 at 2:06 pm
Forgot to say - thanks for offering up some sensible inquisition into this.
Hope it gets finer granularity - I think you’ve got the pulse on subject matter here.
I am reminded by some folks to not make more of something than it might be, but on the flip side, if I were to MISS or ignore something that is worthy of attention.
I think this subject is certainly worthy of attention.
I keep reminding myself, once the problem has been fully identified - which is what I think people are reaching for on sub prime fallout etc, I ask myself what changes can be made to encourage successful recovery from it.
Comment by Greedom
Jun 24th, 2008 at 3:09 pm
from article:
”
June 25th. The bank has reaffirmed that the deal is going through.”
I doubt if any dark cloud came down on CW - or it’s MY eval - 100 billion in red it brings to BoA ? it’s stop it.
CW IS the nations largest mortgage company - and in turn ? with all these free fed welfare checks to help JP or BoA ? Hey, just maybe…
The Fed is going to slap on a fixerupper making CW’s losses not NEAR 100 billion.
TO that I ask - now the US tax payers are responsible for this NYC street shell game.
IF BoA is given a blanket for this cold cold weather from Bernanke.
I guess we’ll find out.
Me ?
I look back 2 years ago - fall time.
cash in on stock, BoA help - CW from other pov’s I’ve seen to was prettied up for acquisition by BoA.
if “I” were investigating CW, I’d go back 2 years and try to establish a known intentful acquisition by BoA.
Who makes out better ? JP on BS at 1/8th stock value ?
or BoA with CW - for what ? 3 billion ? for the ENTIRE hold on the largest collection of US mortgages ?
wow
dealtime.
If my moral compass didn’t steer my otherwise, AND if I had money to invest, I’d ride the BoA deal - what a deal eh ? for 3 billion - wow
all devalued - again ?why?
it seems the homes got over valued - then ? after sifting profits from THAT - they got devalued, and CW too - but - real money lost - vaporized - FDIC is hiring lately - badly - even recalling retirees, too bad the FBI doesn’t have enough people to help clean the street.
Comment by Greedom
Jun 24th, 2008 at 4:38 pm
p.s.
it’s fine if you people want to edit my comments
I think I’m at the point where I just want to try and bring more light on what I think is the truth - and that’s always JUST one perspective - I know I’m in error at times, but NOT in error at other times ! : )
Comment by EMacFan
Jun 24th, 2008 at 8:07 pm
Who is too blame? No one. Prospective homeowners got a chance to get in on the housing bubble game on the cheap. Countrywide made big bucks originating loans. Wall Street made a ton of money creating triple A rated securities out of vapor. Those who got in early in made out, those who got in late…….
Its the same with every bubble, the worst thing we can do is ease the pain and reduce moral hazard.
Comment by T
Jun 24th, 2008 at 9:12 pm
I just purchased a home using a no-money down program and FHA. I have never in 15 years been late on my rent and the mortgage is only 126$ more a month than what I am currently paying, my credit is pretty good, about average. If it was just the 3% I would have been OK but with other costs I put in over 6K into the loan which was difficult for us. With the rent every month and five children the youngest of whom is under one there was no way to save more unfortuntally! While in post graduate training, many of my friends purchased homes with them co-signing which is legitimate under FHA and giving them “gifts” of often 10’s of thousands of dollars to purchase a home. That was not an option for us. They bought at the peak of the housing market and make the same amount of money as me, while we got a great deal on our home paying over 50K less than the home was apprasied at… With homes costing what they do, I would have had to save up more than 20K for a 10% downpayment. With my rent costing about 20 to 25% of my salary adn a large college loan debt, I just do not think it would have been possible without the FHA and gift programs. I wish I could save more but in the current economic climate I do not believe it possible…
Comment by awgee
Jun 25th, 2008 at 1:00 am
Many of the 5 year option ARMs will reset years ahead of 5 year date. There is a clause in almost every option ARM which says that if the loan amount increases, by manner of negative amortization, to 110% of the original loan amount, the interest rate recasts immediately. Most of the loans which the borrowers figure to reset in 2010 and 2011 will actually recast in 2008 and 2009. And the writedowns from mortgage defaults are nothing compared to the amount of losses to be incurred from the non-payment of credit default swaps. MBIA, AMBAC, and FGIC are presently asking the investment banks to forgive $125 billion worth of credit default swaps which they can not pay. The author of the above article may want to check into this.
Comment by Greedom
Jun 25th, 2008 at 1:42 am
Looks like state of Illinois is sueing CountryWide already.
Now, I ask myself, with Fox News running CountryWide as it’s largest advertising account ?
Bottom line, this corrupt company CountryWide paid the salaries of Fox employees.
I observe Fox has taken off their CountryWide advertisement from the front page, which was up until oh ? last week I think.
Now ? The ads are Newt Gingrich newsletter - Ann Coulter newsletter or an energy company advertisement.
I tell ya, Fox ads look like a shorthand front for http://www.humanevents.com
Odd, there is Gingrich, Coulter, O’Reilly, Hannity, the whole crew over at http://www.humanevents.com
Strange how small the world is sometimes I guess.
Stranger when Fox and CountryWide had such a profitable relationship.
Now, if Fox KNEW that CoutnryWide was engaging in phony mortgage practices, Kevin Martin or not, they could end up losing their FCC license if proven.
Interesting subject indeed.
Comment by Greedom
Jun 25th, 2008 at 2:29 am
from article:
“And that means the markets won’t see a halt in Wall Street writedowns or loan defaults until 2011. Is that when housing, and the financials, will find their bottom?”
That is interesting about the 2008 resets starting, in that one can ask - if one wase ML, etc, how or what would one be juggling these losses.
I wonder in what ways we can see attempts to prevent write downs, and of course, what kind of write downs to expect.
I also wonder if interest rates are kept steady right now, instead of an increase to fend off inflation so as to give some padding for these resets coming.
I mean, if the MOB lends you that kind of money, with nothing down, etc, to reset after 5 years, traditionally in the movies in 5 years, you get a visit with consequences. What can we expect as the consequences or damages from these current resets coming ?
That subject alone I find intriguing.
Comment by Greedom
Jun 25th, 2008 at 3:50 pm
The following is an attempt to show just how bizarre it had to be been to offer up money for mortgage loans with no money down, no interest payments, no collateral, and no employment history checkup:
I mean, really, would CountryWide or any of these brokers given a mortgage to an 18 year old ? I do wonder. I have to ask myself - why would any broker ever ever allow this kind of behavior ?
—–
Mom, Dad ?
Can I have 375k for a new house ?
I don’t have any collateral and I won’t be able to make any payments for 5 years. I have a backup plan, I’m going to take a loan out on my home and invest into the stock market.
But I PROMISE - this will work out !
My paper route is going REAL well - I think I’ll be making lots of money next year.
“Go talk to CountryWide down the street son, try your luck there”
This brings up an issue I’ve thought about which is tricky to think about.
George buys a home.
The mortgage is bundled up into some CDO for oh ? say Bear Stearns.
Now, George borrows against his home.
George invests into the stock market - say into something that in turn ? HAS his original mortgage wrapped up in it.
At this point, I drop the ball, as I can’t figure out how it might be George can make money using a loan on the home that’s mortgage was part of the product that he made money on bought with a loan against the home that’s mortgage was a part of the product … onward.
I ask myself, did this ever happen ?
if so, and to this day - how many situations are out there like this.
Phone rings:
“Hi sheila! Guess what ?”
“What ?”
“I just invested in this new company ? they buy mortgages ? ”
“What ? ”
“Yeah, I took out a loan on my house, and used the money to play the markets”
“oh neat idea Francine”
I ask -what if Francine’s loans are tied up in the investment she made on BOTH ends ?
something elmer fudd wrong with this picture.
insights anyone ?
Comment by DrZoidberg
Jun 26th, 2008 at 11:34 am
Another blow on CountryWide is the following insight:
”
That’s why we suspect that BAC is playing a very dangerous game and is going to continue to drag their feet on closing the CFC deal. We believe that Ken Lewis is playing chicken with Washington, hoping to force the Fed and FDIC to provide some type of subsidy to help shield BAC from the still massive unliquidated claims pending against CFC, claims that could total in the tens of billions of dollars. Without a bankruptcy to flush the litigation and other unliquidated claims, buying CFC may be a no win scenario for BAC shareholders and Ken Lewis.”
from an article I was reading here:
http://seekingalpha.com/article/82051-bofa-countrywide-can-ken-lewis-rescue-the-kobayashi-maru
One neat subject with CountryWide is this Red Oak holding company.
Again, not that I’m a fan NewsCorp owns all of these media outlets, but a MarketWatch user had an insight yesterday that Red Oak will be a way for CW to dump its losses in Chapter 7 FOR that company.
Me ? I think CW will get Fed aid as the article above from that link hints at, and in the end ? BoA will BEAT Exxon’s RECORD US corporate profit this year when that happens. To date I observe the TWO sr. architects for this war on terror are now in sr. positions with Bank of America - I can’t not ask myself, what are they doing THERE ? Di Rita joined RIGHT before CEO of CW dumped his stock. Someone knew SOMETHING was coming !
I can see some Made for TV movie - “We can’t tell the people the oceans will be flooding the coastlines, how can we get something NOW from this without letting the cat out of the bag on global warming Mr. President ? ”
“You can tell them global warming is a myth, and here, use my political propaganda network Fox News to run your CountryWide ads - to give the properties away - offer them no money down, no credit check, no job check, no payments for 5 years, and no interest either - that’ll move those properties before they’re flooded, and remember, play down the global warming, we don’t want any panic !”
heh - ok ok - let’s HOPE that’s a Made for TV movie - maybe I chose the wrong genre there - but let’s HOPE that’s fiction… Because the truth is - satellite maps SHOW we’re looking at rising sea levels AND faster ice melt than before anticipated, so - US coast lines ? get ready for financial mayhem - whether we prepared for it or not (we didn’t prepare for this, we chose the road of denial and insolence).
I’m not doom and gloom on global warming, humans will make it, I’m just saying, did someone know about this and send out the opposite signal so they could cash in on some coastal mortgage swindels ! heh heh
I must be insane, I’ve not read that anywhere, and I do say - it’s appealing to me. Of course the alternative would be what ? Countrywide believed giving out 5 year no money down, no credit check ? no job check ? no payments at ALL was in their best interest ?
Who in THEIR right mind would give OUT mortgages like that, unless they were gettin’ out of dodge like a snake oil conman.
???