Author: Mark Hanson

(This guest post previously appeared at the author’s blog)

 

CA housing is double-dipping right now. After surprisingly strong September through December sales due to the original Nov end date of the stimulus coupled with a sharp drop in mortgage rates in Sept, January and February CA sales have dropped sharply, both coming in below year-ago levels.

 

February’s 28,111 sales was slightly higher than Jan’s 27,585 but still made for the SECOND straight YoY lower sales comparable.  And last Jan & Feb — coming off of a rotten 2008 — the global financial markets were imploding, QE was new, prices were still falling and sentiment was terrible. This year with sentiment measurably better across everything lower house sales is remarkable.

 

Yes, sales usually fall in Jan & Feb, but with rates and tax stimulus at historic levels and most thinking both will end soon, seasonality should be somewhat muted like from Sept to Dec.

 

Bottom Line – Despite rates being at record lows and stimulus ending soon, sales are not picking up like they did last year three months before the Nov end of the original stimulus.  The stimulus driven market hand-off to a normal market has not occurred.

 

Organic sales — me selling a house to you and the true gauge of the health of the housing market — have stabilized at very low levels due to epidemic effective negative equity while foreclosure-resales languish due to the artificial lack of supply. In addition, median prices are again trending lower, as organic sales remain depressed and over the past couple of months, distressed sales have picked up slightly as a percentage of total sales.

In Feb, new Notices-of-Default outpaced sales by 10%, meaning the supply pool is filling quicker than it’s draining, and the mid-to-high end market continues to fall. Lastly, comps were easy in Jan and Feb and the tough comps begin in March through year-end — the first two months of 2010 were only a taster.

 

We are running out of sellers and buyers quickly, as HAMP has kept distress inventory at extremely low levels relative to last year and epidemic effective negative equity — not enough equity to sell (pay a Realtor and put a down payment on a new house) and re-buy — has trapped 10s of millions in their houses across the nation.  

 

Additionally, flip-resales that have provided a noticeable boost in sales counts due to double-counting will diminish in 2010 due to the heavy handed foreclosure prevention in 2009, providing a further drag that few are looking for.  

 

What now?  With foreclosures artificially depressed for the past year due to HAMP and other aggressive initiatives, houses that are most in demand are becoming scarce. 

 

The only way for the 2010 sales pace to keep up with the 2009 stimulus and distress driven market is for foreclosures and short sales to flood the market. This is what the two primary buyer groups — investors and first-timers — want.  If foreclosures do not begin to crank up right now — or for some reason HAFA is not rolled out as it should be – house sales will disappoint for most of 2010 just like you are seeing now but worse as comps get tougher.

 

In fact, sales could outright collapse without abundant distressed inventory as investors and first timers do not make up a strong foundation and can literally turn it off overnight.

 

Yes, if distressed properties flood the market prices will be negatively effected but not like during 2007-2008 because sales will pick up. And prices are under pressure again anyway.

See Proof Of The Double Dip >

See Also:

• How A Relentless Attorney Finally Got Wells Fargo To Modify His Client’s Mortgage — And How You Can, Too
• Here’s Why Population Growth Does Not Mean Home Prices Will Eventually Rise
• Record Drops In Home Value, Peak Foreclosures, And Millions Underwater, And Now Home Values Are Rising?

January and February sales are down Y/Y

The chart shows what a “double-dip” looks like – there is no arguing that. 2010 has not started off well with two months in a row of lower YoY comps (red & blue).  And in March the real YoY comp sales trouble begins as that is when the stimulus-driven market began to take off in 2009.

Loan defaults just rose higher than sales

1) Total CA home sales (blue) plunged in Jan & Feb putting them below year-ago levels when the global markets were imploding, QE was new, prices were still tumbling, and sentiment was terrible.

2) Organic sales (green) holding steady at low levels emphasizing the epidemic effective negative equity that prevents the majority from selling and re-buying

3) Foreclosure resales (yellow) are languishing due to continued meddling. The lack of distress supply, which is most in demand, is the primary threat to house sales in 2010 and beyond.

4) Flip-Adjusted Sales:  When adjusting for flip-resales (light-blue), which make for double-counting in the monthly house sales results, CA house sales are bouncing off lows not seen in decades. It is important to note that flip-resales, which provided much of the 2009 boost in sales counts due to double-counting, will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something nobody is looking for.

5) NODs:  Despite being artificially lower, new loan defaults (red) are leading the pack meaning the supply pool is filling quicker than it’s draining. 

Foreclosure prevention initiatives have prevented the problem from working through the system

Organic Sales are picking up, but not as much as most expected if foreclosures were artificially suppressed.

This is due to Epidemic Effective Negative Equity that prevents 10s of millions from selling and re-buying (paying off the loan, paying the Realtor, moving expenses, and putting a down payment on the new house).

In California, new notice-of-defaults are leading sales once again

If distressed properties are about to come to market fast again the 2009 peak median prices are the best we will see for a long time.

As Foreclosures as a Percentage of total sales began to drop sharply at the beginning of 2009, median house prices got a boost due to the mix shift. Prices also dipped again in Jan & Feb as foreclosure resales ticked higher (blue) due to the total lack of organic demand.

Flip-Adjusted CA Sales are at the lowest point on record

When adjusting for flip-resales, which are hot and make for double-counting in the monthly house sales results, CA house sales are bouncing off lows not seen in decades. It is important to note that flip-resales, which provided much of the 2009 boost in sales counts due to double-counting, will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something nobody is looking for.

Sales aren’t as bad as they were in 2008… but they are worse than any other year in recent history

When adjusting for flip-resales, which are hot and make for double-counting in the monthly house sales results, CA house sales are bouncing off lows not seen in decades. It is important to note that flip-resales, which provided much of the 2009 boost in sales counts due to double-counting, will diminish sharply into 2010 due to the lack of foreclosures in 2009 caused by all of the foreclosure prevention initiatives. This is something nobody is looking for.

National Existing Home Sales Preview: TOO CLOSE TO CALL

Based upon CA sales and other national sampling we perform, National Existing Home Sales released this Tuesday, should be down slightly MoM and flattish YoY on a Not-Seasonally Adjusted Basis. My estimate is for 282k sales vs 288,250 in Jan and 280k in Feb 2009.

 

Seasonally adjusted, it is too close to call. But consensus has dropped to 5mm units, which is below January’s levels even though Feb has a history of being up slightly.

 

Despite the voodoo seasonal adjustments, the same trend in national sales is obvious — the lack of distressed inventory is beginning to take its toll on sales and despite historical stimulus, the stimulus-driven market has not handed the baton to a more normalized market. Investors and first-timers continue to dominate due epidemic effective negative equity among organic sellers and buyers and these two groups can literally turn off the demand overnight.

 

Bottom line – the national housing market ‘recovery’ sits in a precarious position and ironically enough, the deciding factor will be how quickly foreclosures and HAFA liquidations can hit the market and be absorbed because that is all the buyers want. 

Even if “listed” inventory is down, that could just mean that people are UNABLE to sell homes. Note the tanking flip-adjusted sales.

Yes, “listed” inventory is way down.   Pundits use this metric as leading evidence that the housing market has nowhere to go but higher. Obviously, they will not mention the millions of houses barreling down the foreclosure pipe — and the approx 150k that enter the pipe every month — of which the vast majority will end up as inventory through foreclosure, deeds-in-lieu or short sales.

 But aside from the shadow inventory, the lack of organic inventory (natural sellers) is not a positive rather it speaks to the epidemic negative equity preventing most from selling and re-buying. Homeowners are trapped.

 

**Remember, effective negative equity does not begin at the point in which somebody owes more on their house than what it’s worth. It begins at the point at which they can’t pay the Realtor and put a down payment on the new prop.  

 

In the Jumbo market this could be 75% LTV (sales proceeds less 6% Realtor fee and 20% down payment). When calculating neg-equity like this, the figures are much greater than the popular reports suggest.

 

Also, this speaks to how strong foreclosure prevention has been, keeping in demand foreclosures off the market. For the latter reason, this is why allowing more distress supply into the market via significantly increased foreclosures and the new HAFA program (short sales and DILs) is beneficial to the housing market and will happen. At this point, holding back distress inventory is detrimental to the housing market.  

 

Along the lines of lack of “listed” inventory in the state is the bifurcation within the value tranches — those houses priced right vs. those priced according to what the owner owes. In any given city, half of the listings will be priced in the stratosphere relative to other current listing comps. Because everybody wants a good deal on a distressed property, the real marketable inventory is much less than the “listed” inventory would suggest. Again, this suggests that the market is ready for significantly increased foreclosures and HAFA liquidations to come post-haste.

See more…

Now see more housing markekt commentary at the author’s blog >

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Pending Sales for November were just released and despite the market blowing it off, it was a significant print. The consensus was for Pendings to be down 2%…instead they were down a big daddy whopper 16%. Now that’s a miss. It goes to show how twisted housing analysts have become…slaves to stimulus. This release just gave you a glimpse of the new normal (ex-stimulus) in housing. Last month when new home sales came out far below expectations, several analysts said “it’s a blip because the stimulus was going away”. No, that was not a blip — that was the real market showing itself just like it did this morning in the Pending release.
 
Already the analysts are trying to compare this morning’s release to last Nov 2008 but you can’t do that. This is because last Nov the QE was not in effect yet, rates were sky-high (about 6% to 6.5%), lending guidelines were all over the map, and prices were still in free fall along with the global financial markets. There was not a soul going pending – comparing Nov 09 with 08 is apples to oranges. Despite the $8k going away for buyers who went pending in Nov 2009, buyers still had a much more stable environment this year than last with rates 100bps lower.  This is why comparing Oct 2009 with Nov 2009 is a much better comp that Nov 2008.
 
But in Dec 2008 everything changed with massive gov’t intervention and a crash in rates. The Fed QE forcing rates down sharply in Dec and spurring serious buying is why going forward — beginning with December Existing Home Sales due out in a couple of weeks — YoY comps will get much tighter, with many misses on tap in the near to mid term. In fact, my early CA survey shows sales down YoY about 20%. Last Dec, there was a robust 37,836 sales. In Nov 2009, there were only 35,860. I expect Dec CA sales to be roughly 30k. That is a big MoM and YoY miss and the theme for 2010 house sales because of the lack of inventory due to foreclosure moratoriums, mortgage mod initiaves, and epidemic negative equity preventing 10s of millions from selling and re-buying. Remember, negative equity does not start at 100% for most…it starts at the point where they can’t sell their house for enough to pay the loan, the Realtor and put a down payment on the new vintage loan…perhaps 75% on Jumbos and 85%-90% on conforming loans. On a national basis, Existing Sales will fall sharply in Dec but I think they will still beat Dec 2008’s 361k…but not by much.
 
To sell remotely the same number of houses in 2010 as in 2009 many things have to go right. The most important is more foreclosures. They made up just under 40% of all sales in 2009 and are what is in the most demand. There are enough foreclosures hung up in the pipeline right now to satisfy demand for a long time. If foreclosures and short sales surge early in the year, sales counts have a shot at down 10% from 2009. If not, expect down 20% at least. The second most important is rates – they have to stay very low. We know refi and purchase activity dry up in the mid 5%’s. In July and August 2009 when rates ticked up to the high 5%’s sales began to wane fast. Then when rates plunged 100bps, housing picked back up sharply going into the original Nov 30th ex-stimulus date.
 
But with increased foreclosures and short sales, come all the house price and write down challenges we experienced when foreclosures were coming without interference. Having their cake and eating it too will be a difficult task in the housing sector for the gov’t in 2010. 

See more housing market analysis at the author’s blog — >

Join the conversation about this story »

See Also:

• Millions More Are At Risk Of Foreclosure Than Anyone Realizes
• The Slow-Moving Trainwreck In Mid-To-High End Housing

(This guest post originally appeared at the author’s blog)

Most look to loan type and equity position as two of the most important factors when forecasting loan default. In fact, I believe that epidemic negative-equity is the overarching reason that the default, foreclosure and housing crisis remains in the early innings. But…negative-equity with a caveat.

While negative equity is a threat in and of itself, being in an over-leveraged household debt position is the true default catalyst for most in a negative-equity position. And being over-leveraged is also the primary default catalyst for those is a positive equity position. Being in a negative-equity position with lots of top line and disposable income each month is generally more of a mental burden than a reason to fly the coop.

How many homeowners are over-levered and at eminent risk of default? This answer is…a lot more than most think, especially those who got a loan from 2003-2007 due to a radical, yet subtle shift in loan guidelines across the mortgage spectrum that kicked-off the bubble-years.

Yes, even Prime full-doc borrowers in 30-year fixed mortgages with 20% equity who got their purchase or refi from 03-07 are at much greater risk than most think. Being over-levered was condoned – all the lenders, investors and loan programs operated in the same manner.

In my research, I often assume that everybody knows the subtle idiosyncrasies of how loans are really structured. I understand this is not the case. So, in an attempt to highlight why the total residential mortgage risk exposure is so much greater than anybody’s expectations, this report drills down on Prime, Alt-A and Subprime allowable debt-to-income (DTI) ratios that were made ridiculously lax relative to pre and post 2003 – 2007. This, in my opinion, is the real tempest in the mortgage teapot that buckets millions more loans that are still in existence today across all loan types, as risky.

– Time-Tested DTI Standards Thrown out the Window

A long time ago in a mortgage market far, far away (circa-2000 and before!) there was responsibility in lending. Age-old underwriting standards only allowed fully-documented debt-to-income ratios of 28% for housing and 36% for total debt (referred to as front and back DTI). On Jumbo loans, the ratios were 33/38 because Jumbo borrowers typically have more disposable income. On occasion, banks would make exceptions to this rule if the borrower had a large equity position or liquid reserves. At 28/36, homeowners can pay debt, shop, take their annual vacation, and even save money. At 28/36 DTI a house is a place to live first and an investment, second.

Bubble year’s loan guidelines not only pushed the boundaries of risk by exotic loan structure but also income leverage. Circa-2002, time-tested DTI standards went out the window. Allowable DTI ratios on Prime loans rose to 50% and much higher when considering that so many loans were made with limited or no income documentation. Alt-A and Subprime full-doc loans would routinely go to 55% DTI…and full-doc are supposed to be the safe loans. Given that full-doc only represented 50% of Subprime and 25% of Alt-A loans it is understandable why these two loan types are experiencing the worst trouble, even though across the Alt-A universe the average FICO was above 700 at the time of origination.

Around this same time, the investment bank’s participation and non-Agency lending and securitization began to really heat up. Guidelines expended further…hey, if the loan was going to be off the books in a few months, who cares how over-leveraged the borrower is.

– Going Exotic in Plain Sight

Before too long — circa-2003 — lending guidelines were fundamentally changing with many lenders allowing leverage through increased DTI ratios never seen before. Obviously, this expanded affordability sharply. When all of a sudden you can spend 50% of your gross income on debt vs 36% before, you can afford to buy much more house or take a much larger cash-out refi.

Subtly changing loan guidelines by raising the allowable DTI on traditional loans, such as a 30-year fixed, was a more sneaky way of easing credit and going exotic than blatantly advertising for ‘no doc’. In fact, 30-year fixed loans and the borrowers that chose them were deemed to be so safe, the underwriting was much more lax than on an exotic structured loan, such as a Pay Option ARM.

By 2004, as property values pushed house prices to levels that were unaffordable and stated income was not the norm yet, the new-normal in mortgage lending was allowing up to 50% of gross income to go to total debt. The mortgage obviously was the largest chunk.

And remember, the 50% is only mortgage PITI and other debt listed on the credit report. It does not include income taxes, auto insurance, food or all the other things that individuals spend money on over the period of a month.

And it didn’t stop there. As the mortgage credit strengthened the borrower’s credit profile, other credit was made available, including second mortgages, that could take total DTI far above 50%. Nevertheless, at 50% DTI, the house becomes the largest investment of a person’s life because there is no way for most to put out half of their gross income to debt each month and invest elsewhere.

– Borrower’s Always Borrowed the Max

When buying or refinancing, most got a purchase or refi loan for as much as their banker or Realtor said they could, which was what 50% of their gross income paid for in most cases. Most borrowers don’t say “we know we qualify for $500k but just to make sure we have some wiggle room in our budget, let’s stick to a $400k loan”. Bottom Line – everybody borrowed too much because all of the lenders and loans — from the safest full-doc Prime loans to Subprime trash — allowed it. And after the fact, most expanded their credit portfolio because all credit was so easily attained until a couple of years ago.

– GSE Loans – A Culture of Fraud

During the bubble years the GSE’s looked at DTI secondarily to credit score, LTV, and cash reserves as measured by liquid cash and 70% of retirement. Both Fannie and Freddie have automated underwriting systems called DU and LP respectively. During the bubble years, if the LTV was low enough and/or score and cash reserves high enough, the system would approve virtually anything.

Many lenders, especially the big banks, had in-house DU and LP underwriting ‘trainers’ that would go around to the various mortgage branches and teach underwriters how to ‘trip’ the systems in order to achieve automated loan approvals when a declination was certain, or simply get fewer approval conditions on a loan that was borderline. Getting a loan approval out of DU/LP on a borrower with a 100% DTI — with limited documentation required on the automated findings — was not uncommon.

In fact, many that needed to pump up a borrower’s strength who was light on income — instead of lying about the income — would pump up another aspect of the loan. The most common was to increase the borrower’s cash reserves, particularly retirement. This way, the retail sales worker buying a house well beyond their means would not need an obviously fraudulent income level, rather a believable household retirement total of maybe $100k. Doing it this way simply raised fewer red flags for the underwriter and investor.

Few Loans Were Ever Denied at First Pass

During the bubble years, very few loans were ever denied. Denying loans was not ‘production oriented’. The culture across all lenders was to ‘approve everything subject to’. If you did not do it this way, your competitors would get all of the business.

The approval process was for the underwriter to run the loan through DU/LP and if the system did not issue an approval (or an approval the borrower and the loan officer were happy with) to go back into the input file and edit the income, assets, retirement (or all three) until the system approved it.  Some loans were edited 30 or 40 times until the GSE system issued an approval.

Then, the approval was sent out to the borrower and loan officer even if it required them to verify $100k more in retirement reserves than the borrower had per the original loan application. Within a few days, a new back-dated loan application and a retirement account statement reflecting adequate reserves would arrive, the underwriter would sign it off and the loan would be on its way to the doc department. There was no way to verify if the document was a fake, unless it physically looked altered.  In many cases the borrower never even knew this was happening.

Note – this process was not GSE exclusive…this is just how it was done across all lenders.

– Affordability out of Control

Then circa late-2004, as affordability declined sharply even with 50% DTI the norm, stated income came into play in a big way. This super-charged affordability and house prices in ways we will never see again in our lifetime.

Stated income was around for years prior but limited to verified self-employed borrowers. The new-era Stated income loan allowed anyone with a two year job history to get a loan. All of a sudden, everybody earned $150k a year. From then on, the housing market had no shortage of purchases, cash-out refinances or HELOCs and house prices never looked back…well, until the exotic loan programs went away in late 2007.

Circa early-2006 when it became obvious that Stated income was being abused because everybody (hair dressers, public sector workers, and anyone that said they were self-employed for two-years and could provide a fraudulent CPA letter that the lender never verified) suddenly was earning $12k a month, lenders became more cautious.

What was the answer? Begin to push Pay Option ARMs with low teaser rates and payments. This way the borrowers could earn less so their fake income looked more believable. In addition, this is about the time that No Doc and No Ratio doc type options began to show up on every lender’s rate sheet, which provided the ultimate in plausible deniability.

Bottom line – 80% of all Alt-A (including Pay Options), 50% of Subprime, 50% of Jumbo Prime and 30% of Prime loans from 2003-2007 were limited documentation loans for a reason – because the borrowers didn’t even have the 50% DTI needed for full doc.

– How Big is the Total At-Risk Mortgage Universe?

Of the loans in existence today at least 75% were refinanced or attained through a purchase from 2003-2007 – the bubble years. On several occasions the past couple of years, Jim Cramer has quantified the at-risk loan universe as being around 14 million, which represents everyone who purchased a home between 2005-2007. But then he says ‘”here is no way everybody who bought a house from 2005-2007 will ever default”. So, he pairs it back to 20% or 25% of 14 million – whatever. He is incorrect on a number of levels.

First off, the bubble years were really 2003-2007. But aside from that, the number of people who purchased a home is only a small piece of the entire pie. The bubble years was not about purchases, rather refi’s. During the bubble years, cash-out refi’s and HELOCs were at least 5:1 over purchases. A purchase is no more risky than an existing homeowner with a great payment history who pulled out 90% or 100% of their equity at a 50% DTI. In fact, the latter are more risky…purchases in general are always considered the safest loans.

This means the true potential at-risk loan universe is any Prime, Alt-A, or Subprime borrower that did a purchase or refi from 2003-2007. Obviously, not every single borrower is at-risk but we have no way of really knowing how many of the 43 million + loans from that period still in existence today are destined for trouble. This is especially true when even borrowers with 800 scores and 70% LTV’s are at risk of default because their DTI started out at 50% and after the fact, they expanded their credit portfolio because all credit was so easily attained until a couple of years ago.

– 13 to 15 Million Loans at Eminent Risk of Default
– Potentially, 20 Million Homeowners over the Next Few Years

The chart below breaks out all of the loans in existence by loan type. Of the loans originated during the trouble years, the far right columns show the conservative number of loans in which the borrowers either borrowed at 50% DTI or went Limited Doc (stated income, light doc, no doc, no ratio). The two columns are not mutually exclusive.

The last Mortgage Bankers Association report estimates that the total number of loans in some sort of delinquency, default, or foreclosure status to be about 8.2 million, or 14.41% of all loans. If the true number of eminently at-risk loans is somewhere between 13 and 15 million, the default and foreclosure crisis is about 60% over.

The problem with the final 40% is that it crushes everyone other than Subprime households and likely happens over a longer period of time than the two-year Subprime Implosion.

In addition to the eminent defaulters, a large percentage will default for various unforeseen reasons tied to the macro. Throw in top strategic defaulters and we could easily see a situation over the next few years in which 20 MILLION homeowners are either delinquent, defaulted, or in the foreclosure pipeline.

– What a 50% DTI Really Means
– Time-tested 36% DTI Means 60% MORE Disposable Income Each Month

1) What a 50% DTI Really Means?

Borrower Earnings: $100k per year

50% Total DTI: $50,000 per year to housing PITI & all other debt on credit report

25% Fed & State Taxes: $25,000 per year

Disposable income: $25,000 per year, or $2,083 per month

How does this well-above average household SAVE MONEY AND pay for utilities (power, water, cable, garbage, insurance (car, life, health), gas, food, car payment, fuel, clothes, household maintenance and more on $2,083 per month? How do they save an emergency fund or take even a drive-away trip for the weekend?

How do they shop this holiday season when over a trillion dollar in consumer credit was taken away in the past year?

A 50% housing DTI turns the house into the largest investment of your life and ruins most household’s balance sheet at the same time unless the gross income — and disposable income — is much larger.

For most in a serious negative equity position, it is better to walk away. Earning your way out of a $200k hole is impossible with disposable income of $2,083 per month less expenses. Why not walk – the borrower’s credit will be trashed for a few years but as long as they maintain their credit rating on all other credit, their overall rating will not be damaged for as long as their house remains underwater.

2) Now, let’s look at this with 28/36 time-tested debt-to-income ratios.

Bottom Line – 60% MORE disposable income each month.

Borrower Earnings: $100k per year

36% Total DTI: $36,000 per year per to housing PITI & all other debt on credit report

25% Fed and State Taxes: $25,000 per year

Disposable income: $39,000 per year or $3,250 per month

With $3,250 per month, a $100k household can likely save $20k per year. Still, this is not enough to make a real dent in a $200k neg-equity position. But, with this much disposable income the homeowner is not missing out on much and they are saving money, meaning their house is a place to live.

What do households spend money in every year? The U.S. Census bureau provides the answers:

• $200 billion on furniture, appliances ($1,900 per household annually)
• $400 billion on vehicle purchases ($3,800 per household annually)
• $425 billion at restaurants ($4,000 per household annually)
• $9 billion at Starbucks ($85 per household annually)
• $250 billion on clothing ($2,400 per household annually)
• $100 billion on electronics ($950 per household annually)
• $60 billion on lottery tickets ($600 per household annually)
• $100 billion at gambling casinos ($950 per household annually)
• $60 billion on alcohol ($600 per household annually)
• $40 billion on smoking ($400 per household annually)
• $32 billion on spectator sports ($300 per household annually)
• $150 billion on entertainment ($1,400 per household annually)
• $100 billion on education ($950 per household annually)
• $300 billion to charity ($2,900 per household annually)

The average homeowner household spends $22,785 per year, or $1900 per month on the above. When making an allowance for some of the items that are typically financed, the outgo is still roughly $1500 per month.

At 50% DTI, the $100k earner with a disposable income of $2083 per month will have extra monthly income of $583 based upon typical spending. That does not leave a lot for savings, or items not listed such as auto insurance, vacations, gas etc. That definitely is not enough to ‘earn their way out’ of their negative equity hole.

However, the 36% DTI borrower will have an extra $1750 month, which allows for living life and saving money, significantly reducing the chance of loan default due to negative-equity..

Bottom Line – This shows vividly why 50% DTI — even with borrowers making $100k a year and with 20% equity in their property — is in fact over-leveraged and a recipe for loan default for any number of reasons.

– HAMP — More Exotic than Bubble-Years Loans

Now you know why I have been calling HAMP “the most exotic loan ever created” since its inception.

But from the HAMP headlines you could not tell. All that is ever focused upon is the 31% DTI. But that is the front DTI…the housing-only DTI. If you read the guidelines, the back DTI (total debt) allows borrowers to go to 55%!

In fact, if the borrower’s DTI is over 55%, the borrowers are required to go to credit counseling. A little news for ya – a borrower paying out 55% of their gross income to debt does not have time for credit counseling because they have a second job.

Bottom Line: HAMP was designed to lower ‘payments’ for underwater borrowers, but also designed to suck every bit of disposable income every month to the bank. Being underwater in a high-DTI situation is the recipe for default, so it is no wonder the program is not performing as thought.

Borrower’s realize this and are simply using the HAMP multi-month processing and approval process as a way of staying in their home rent-free for a longer period of time. At the end of the day, those that do make it to a permanent mod — but have a high back DTI — will ultimately fail.

For small percentage of those that fit the HAMP sweet-spot, it is great and absolutely the right medicine.  However, at what cost? For many that can technically afford the house and would have gone on paying for 30-years  — but can’t qualify for a new-vintage refi — a pre-meditated loan default and subsequent HAMP mod is an easy route to a government subsidized no cost refi.

For all of these reasons and more, I believe HAMP will be fundamentally changed in 2010, perhaps to finally include principal balance reductions.  Principal reductions are the only way modifications will stick. I hate the idea of any gov’t interference, but if they are going to be spending hundreds of billions anyway, they may as well target it.

I also believe that HAMP will be ultimately responsible for a sizable wave of foreclosures beginning in the near-term from those who do not make it through their trail period, which as of recent data, is most.   With foreclosures averaging 80k a month for the past six months and 700k foreclosures held up in the pipeline due to HAMP, even a trial mod failure rate of 40k a month would increase foreclosures by 50%.

However, this is housing market bullish. The biggest threat to the housing market in 2010 is a lack of distress inventory, which is some states still makes up 70% of all sales. Foreclosures are what is in demand and the biggest unintended consequence of HAMP is to keep those who can’t afford their houses in them and others than can afford them away.

– Fannie Mae to Tighten DTI Guidelines

Lastly, the following story talks about a recent move by Fannie to raise minimum credit scores and to lower the max allowable DTI to 45%. Operating in a pro-cyclical manner like this only sucks more liquidity out of the mortgage and housing market, but does make for safer loans in the future.  It is also validation that DTI and household leverage — something rarely focused upon any any analysis I have ever read — is beginning to get the attention it deserves.

Fannie Mae to Tighten Lending Standards: Report

Published: Thursday, 26 Nov 2009 | 6:40 AM ET

By: Reuters

Fannie Mae plans to raise minimum credit score requirements next month and limit the amount of overall debt that borrowers can carry relative to their incomes, The Washington Post reported on Thursday.

Starting Dec. 12, the automated system that the government-controlled mortgage finance company uses to approve loans will reject borrowers who have at least a 20 percent down payment but whose credit scores fall below 620 out of 850, the newspaper reported. Previously, the cut-off was 580.

Also, for borrowers with a 20 percent down payment, no more than 45 percent of their gross monthly income can go toward paying debts, the newspaper said.

A Fannie Mae spokesman told the newspaper that the limits reflect the company’s recent experience.

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See Also:

• The Slow-Moving Trainwreck In Mid-To-High End Housing
• California Housing Market Continues To Recover, Befuddling Bears
• Markets Plunge As Nation’s Air System Dives Into Chaos And Housing Double Dips