When you owe the bank….
Homeowners have lenders over a barrel, and soon all will know it. Once the government exempts forgiven mortgage debt from being treated as taxable income, defaults will become a national trend. Under normal circumstances, lenders have all the power, as 20% down payments and an ample supply of qualified buyers makes foreclosure a real threat. However, under current circumstances, it’s completely empty. Lenders can not foreclose as there are no buyers and no equity. If homeowners choose not to pay, lenders really have no choice but to renegotiate the loans. Once homeowners understand this no one will make a mortgage payment until their loan is reduced to an amount more consistent with the actual value of their home. 321gold.com
Financial traders have an expression, “mark to market” which describes the moment when an illiquid asset is priced. It can be a rather sobering moment.
We’ve had the cold water of the commercial paper crunch and we are about to find out how big the full on sub-prime mortgage horror will be; but the fact is that these are very much at the margins. The real action arises when, and if, the trillions in securitized mortgages hit the wall. 2nds first; but even injudiciously large 1st mortgages could be hit.
For the moment this is a problem largely confined to the US. Canadian lenders have not been quite so “innovative”. However, while our banks’ mortgage divisions may have been turning down bad risks their trading departments may not have been quite so cautious. There was a lot of money to be made buying less than perfect credit US mortgages at a discount.
The 321gold writer, Peter Schiff, joins the proverbial dots. The ultimate sanction of the mortgage holder in the event of default is foreclosure. And sale. It is the “and sale” part which becomes problematic. “And sale” implies a buyer. In some US real estate markets that buyer is there, but at 30-40% below the alleged equity in the property. So now what?
Marking the property to market means someone is going to take a 30% loss. And that loss would be crystallized on the lender’s balance sheet. Not pretty. The other alternative is to renegotiate and keep the fiction alive. It can be spun as the lender sharing the reversals of the borrower but the fact is that the lender may have little choice. The alternative, when you deal with, say, 100,00- mortgage loans where the security has lost 20% of their value is for the lender to take the hit and the losses.
Banks have this happen from time to time; Canadian banks survive…American banks collapse and their depositors are given FDIC cover to the tune of 100K per person per person…until the 12 billion the FDIC has on hand is used up (More now, but not much relative to the FDIC’s liabilities.)
Schiff has it about right; if the crunch comes the smart banks are going to re-negotiate the principal amounts and help their customers. the dumb banks are going to own a lot of wildly overvalued suburban tract houses and go bust.
Which will signal the beginning of the radical and long needed reformation of the American economy. The only interesting question is whether it will be a hard or a soft landing. I am rooting for hard simply because the entire idea of fiscal rectitude and personal savings seems to have been lost in America. A short, sharp, shock - to quote Mrs. Thatcher - is very much needed.
Written by jay on October 29th, 2007 with
1 comment.
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#1. October 31st, 2007, at 3:13 AM.
I’m rooting for a hard landing as well, simply because I have a strongly rooted belief that stupidity should be painful. Besides, my house is paid for and all I’m into the banks for right now is an SUV, so what the hell.