A friend shared with me a very interesting supposition about the mortgage mess: That borrowers’ financial difficulties did not begin with the mortgage reset, but began even earlier with the increase in minimum payments for credit cards. Bowing to Congressional pressure, last year credit card companies upped the minimum monthly principal payment on credit cards, so as to facilitate people paying off their debts faster… and for borrowers in many cases, causing the minimum monthly payments to double or triple.
One would want to suppose that Congress was well-intentioned in their action, but how stupid can Congress be? {that was rhetorical, I know they can be more stupid than anyone can imagine} They decree by fiat that card payments double, that it’s for the debtor’s own good, and they do so without any regard or consideration of the debtor’s ability to manage the higher payment. But with a strong job market, debtors found a way, as charge-off’s in the card sector did not markedly increase in the wake of the higher payments.
Now comes the reset of interest rates on mortgages, in most cases upping the monthly payment by hundreds of dollars. Faced with the higher payments on both fronts, alot of borrowers threw in the towel. This has been especially prevalent in the last three or four months, where we have seen record foreclosures and huge amounts being written off by the financial institutions who bundled and resold the mortgages to investors.
To the rescue, here’s the President with a ”Subprime Solution” that essentially freezes mortgage interest rates for five years, thus at least delaying the painful reset of billions in mortgages, and the wave of foreclosures and write-offs that it would cause. To begin with, I am inherently nervous about the “we’re the government, we’re here to help” approach. History has clearly displayed that government interference in commerce to help one alledgedly disaffected group usually ends up making things far worse for everyone (think Sarbanes-Oxley).
Make no mistake about what is happening here. While the stated goal may be to give debtors a longer timetable to either sell or otherwise get out from under a problem mortgage, the actual outcome will be to postpone the inevitable. The group this plan targets are the most upside down, the most cash-strapped, and the least likely to be able to make payments regardless of circumstance. Borrowers who cannot afford those homes today will not be able to afford them five weeks, five months, or five years from now, and will end up in foreclosure sooner or later.
Now it may surprise you to hear this, but I am not a rocket scientist. And if I know this, the guys behind the bailout know this. So why are they doing it? Two reasons.
First it’s an election year. Enough said. Pandering bunch of schmucks. And we deserve every one of them because we keep electing them.
But mostly, this is a move to prop up the larger economy. Specifically, it is a move to help the banks and the brokerages who bundled these things into investment vehicles and who now are left holding the bag. These guys know that they will have to write the vast majority of this debt off, and in many cases they will be called to come up with vast sums of cash to fulfill the obligations of these failed investments. The lack of cash flow could mean selling off portions of their business, or face insolvency. If they have to write the debt down en masse in the next 12 months, there is a chance that one or more major financial institutions could go under. And trust me, though it might be more cathartic in the long run, in the short term having Citibank or Wells Fargo become insolvent would be a disaster for the stock market and send an EMP though the economy at large. Not to mention the FDIC would be on the hook for the deposit guarantees. But if you stretch the write-downs out over five years, these FIs will not only manage the write-downs, but manage them nicely.
So what happens now? Maybe just maybe some homeowners will actually hang onto their houses, though it’s naive to think those who do will be smarter for the near-death experience. If anything, this sort of return from the brink only emboldens people further.
The banks and brokerages will have learned their lesson, that is until the cost of funds make this sort of risky investing attractive again. Two more half-point rate cuts and we’ll be right back there again. Otherwise, we’ll see it again in about 7-9 years (think: ”late 80s/ early 90s real estate and S&L disaster” bubble ends in 92. The “99 internet” bubble ends in 2001. The ”early 2000’s real estate” bubble ends in 2008. We’ll be back here in 2015 watching these clowns unwind their positions and wondering just how the hell anyone could be so stupid.
Disclosure: As of publication I have no positions in the stocks mentioned here. I am not a professional, but I am trying this at home. It is highly recommended that you consult a licensed financial advisor or broker before making any and all investment decisions.
Tags: Business And Life by HJ
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