The Fed printed $2.5 trillion to prop up the mortgage market and the
Government “refurbished” all of the mortgage programs it sponsors
(Fannie Mae, Freddie Mac, FHA, VHA, USDA) in a way that positioned the
Government/taxpayer as the new subprime lender of choice. The two
programs combined inflated a new housing bubble – one that ended up
fueling housing price inflation more than sales volume. The FHA
program was the first program to replace the collapsed subprime mortgage
lenders of the mid-2000’s with a 3.5% down payment program. It’s market
share of mortgage underwriting rocketed from 2% in 2008 to around 20%
currently.
As home sales began to falter in mid-2014, the Government rolled out a
revision to the Fannie and Freddie programs in early 2015 that reduced
the down payment requirement from 5% to 3% and reduced the monthly cost
of mortgage insurance. The VHA and, believe it or not, the USDA (U.S.
Dept of Agriculture) programs provide low interest rate mortgages with
zero down payment.
Fannie and Freddie permit the borrower to “borrow” the down payment
or receive down payment assistance from a home seller willing make
price/fee concessions in an amount up to the 3% down payment. In other
words, under FNM/FRE, a homebuyer can close a conventional FNM/FRE
mortgage with zero down payment. These alterations to the taxpayer
guaranteed mortgage programs provided another short-term bounce in home
sales volume and sent home prices soaring.
The housing market is headed south again. Just in time, the
Government is making it even easier for a potential buyer to load up
more debt to leverage into the American dream. Fannie Mae is raising
the debt-to-income ratio on its 3% down payment product from 43% to 50%.
DTI is the total household monthly debt payments divided by pre-tax
income. While the credit standards are not quite as insane as during the
last housing bubble, the current mortgage underwriting standards
facilitated by the Government do not allow any cushion for household
financial instability. This is especially true considering more than 50%
of all households can’t write a $500 check to cover an emergency.
The latest iteration from the Government reeks of desperation.
But wait, it gets even better. Some mortgage companies are now
offering a 1% down payment mortgage that includes a 2% “gift” from the
mortgage company in order to conform to the 3% FNM/FRE underwriting
convention. The mortgage lender pays the 2% portion of the down payment.
However, this is not a free lunch “gift.” The mortgage lender
assesses a higher rate of interest to the borrower than would be
otherwise available from a standard FNM/FRE 3% down-payment mortgage.
The mortgage lender, as the servicer of the mortgage, keeps the
difference between the interest rate on the mortgage paid by the
borrower and the amount of interest payment “passed-thru” to FNM or FRE.
Over the life of the mortgage, assuming the borrower does not default,
the mortgage company makes substantially more than was “gifted” to the
borrower.
If a homebuyer does not have enough capital to make a 3% down
payment, the odds are that the buyer also does not have the financial
strength to maintain the cost of home ownership.
Home-buyers who are “gifted” 2% of their down-payment do not need down-payment assistance, they need earning assistance.
This is going to end badly, especially for the taxpayer. Obama
promised after his mult-trillion dollar Wall Street bailout that the
Government would not bail out the banks again. This “promise” guarantees
that it will happen again. Only this time the source of financial
nuclear melt-down will be many: mortgages, auto loans, unsecured
household debt (credit cards) and student loans. Oh ya, then there’s
the derivatives.
The sell-off in the banking sector since March
1st reflects the market’s awareness of the rising degree of risk lurking
in the financial system from an orgy of reckless debt creation.
I don’t know when the this giant Ponzi bubble will blow, no one does,
I just know that it will be worse than 2008 when it does blow. The
balloon latex is stretched so tight at this point that any systemic
“vibration” not anticipated by the Fed could impale the thing.
The above commentary was partially excerpted from IRD’s latest issue of the Short Seller’s Journal. Two financial sector stocks and one auto sector stock, all three of which have been falling and could easily get cut in half from their current level by year-end with or without a market “accident” were presented.
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Dave Kranzler spent many years working in various Wall Street jobs. After business school, he traded junk bonds for a large bank. He has an MBA from the University of Chicago, with a concentration in accounting and finance, and graduated Oberlin College with majors in Economics and English. Dave has nearly thirty years of experience in studying, researching, analyzing and investing in the financial markets. Currently he co-manages a precious metals and mining stock investment fund in Denver and publishes the Mining Stock and Short Seller Journals. Contact Dave at dkranzler62@gmail.com.
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The author is not affiliated with, endorsed or sponsored by Sprott Money Ltd. The views and opinions expressed in this material are those of the author or guest speaker, are subject to change and may not necessarily reflect the opinions of Sprott Money Ltd. Sprott Money does not guarantee the accuracy, completeness, timeliness and reliability of the information or any results from its use.
