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Mortgage rates are back above
6% Friday (despite Freddie’s “Fell Below 6%” headline in the papers, the
result of an early-week survey), the definitive 10-year T-note is now
4.12%, a long way from the 3.85% bottom in the last two weeks.
A 94,000-job gain in November
payrolls reported Friday didn’t help -- the bond market was hoping
ghoulishly for an off-the table figure -- but the real damage was done
Thursday by the sub-prime workout plan. It won’t work, of course (see
below), but as we said last week, signs that government is waking to the
hazard in the Crunch will mark the bottom in long-term interest rates.
For bond and mortgage yields
to go lower, even return to the Thanksgiving bottom, we will need news of
deepening Crunch: the failure of a bank or two one morning, or by credit
market counterparties (bond or mortgage insurers); or word that the real
economy is slipping to negative, or a Dow dive below 13,000.
In the Eurozone, outright
bailouts are already under way: huge HSBC took back $45 billion in bad
paper it had sold, worth perhaps half that, a hit bad enough to impair its
capital. Next day, business as usual. Most of the world is not as prissy
as we about the need to bail out major institutions, easily overlooking a
mere shortage of capital.
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The Fed will cut its rate next
week. If .25%, nothing to help mortgages (already built in); .50% more
likely to hurt than to help. All bond traders know to sell before the Fed
ends an easing cycle; for the Fed to go below 4.00% (4.50% at this
minute), the Crunch will have to deepen. We think Mit will, but the bond
market wants to see the fact.
The sub-prime workout will be
a blessing to any family whose home is saved. However, as an economy-wide
reality, benefits from the workout will be undetectable. This episode will
defy workout efforts for several reasons.
1. The primary cause of
foreclosure is zero or negative equity, today the widespread aftermath of
a plague of idiotic and predatory 100% lending. No hope for these homes.
2. The first step in workouts
is to add delinquent payments to balances and recast future payments
(“capitalized interest”). See #1: no equity, no room to add.
3. Another common workout:
convert to a period of interest-only. A ton of these troubled loans
already are interest-only.
4. Another traditional
approach: reduce the interest rate. Fabulously successful in the 1980s was
the FHA “streamline refi” (available today, but only for FHA loans).
Families under water versus value or in job trouble were stuck with 14%
loans and walking away; a streamline allowed refi to then-current 8% with
no proof of income and no appraisal. Won’t work today: the inventory of
loans made ’01-’06 has average rates too close to today’s.
© 2008 - Economic Notes is published weekly by the Economics Department of
Universal Lending Corporation. |
The Amateur Hour team at the
Fed and Treasury have missed two remedies. The obvious one: restore an
adequate supply of new credit (re-guarantee Fannie and Freddie, expand
limits; un-block bank financial statements). Rate cuts, discount-window
blabbing, and announcements that the Crunch is loosening... get with it,
guys.
The sub-prime fix that would
work is technical, but easy: cut the margins in the loans, existing and
future. The life-of-contract “margin” in an ARM is the spread paid over
index value; in “A”-quality primary residence loans, below 3%. What makes
a sub-prime a sub-prime is a margin in the 5%-6% range. The one, quick
stroke of broadsword available now: limit primary residence margins to 3%.
No negotiations or re-qualifying, no work for servicers at all -- simply
extinguish the predatory resets.
A shriek from the Right and
The Street; “You can’t re-write existing contracts! You’ll damage the
market!!”
The hell we can’t. We do not
respect the contracts of loan sharks -- by definition, terms that a
borrower cannot meet. If your idea of a market for mortgage-backed
securities is the back-alley knee-capping of three million households, we
have every right to alter your “terms.”
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