Bringing the Pain and Sharing the Consequences

by Guest Blogger: Kenneth Stewart

If it is true that the housing bubble was the root cause of the financial crisis, it seems an obvious solution would be to delay an immediate devaluation of housing stock, based on the premise that home values could recover nicely over time if corrective housing policies are put into place.  Financial institutions are being hit by the double-whammy of mortgage foreclosures, and expectations that future foreclosure rates will be even worse, which devalues a wide range of real estate-related assets.  As the foreclosure scenario plays out, home values take another hit, and a vicious cycle is perpetuated.  The answer to the question of how to halt this vicious cycle may lie in a commonly used tool in the affordable housing field: low-interest rate, deferred second mortgages. 

 

The mortgage program would work as follows.  A homeowner with a mortgage they can no longer afford would go to their lender with a proposal: refinance my loan at a principle balance and interest rate I can afford, and I will get a second mortgage from my local government/nonprofit program administrator such that the combined refinancing proceeds will equal 90% of the current outstanding balance.  In other words, take a 10% loss and convert your asset from a non-performing loan to a well-underwritten conventional mortgage.  Localities have already been granted funding in the recently enacted Housing Bill that can be used to fund second mortgages.  The Treasury Department would be well-advised to dump a significant portion of the Wall Street bailout package ($250 billion would be helpful) into this kind of initiative. The government would be directly investing in citizens and communities, as opposed to risky, complex securities, and banks and financial institutions would be clear indirect beneficiaries by limiting the loss of loan principal. 

 

The program would have to be limited to homeowners who could afford a conventional first mortgage of at least 60 percent of their current balance.  If they are unable to afford that minimum, it means they could never afford the home in the first place.  The government should not attempt to provide a stop-loss for such poor decision making, and possible fraud, on the part of the parties involved. Where the program is applied, lenders would still face a write-down in various residential assets–albeit smaller at 10% write down — plus the loss of any prepayment penalties that would compensate them for the loss of future up-ward adjusting interest rates.    If we couple this with some type of moratorium on the amount of commission that can be earned by realtors and appraisers involved  in the sale of foreclosed properties, then the parties who came together to create the mess will have to share in the pain of correcting their mistakes.    A salary cap for the executive leadership of participating financial institutions would complete the circle.

 

As tempting as it may be to  leave those responsible for the housing bubble at the mercy of the market, the best approach would be a program that targets the root cause of the current crisis, through direct investments in the hardest-hit communities. A well-structured nationwide second mortgage program could achieve many important results.  Banks would benefit from having hundreds of thousands of loans refinanced with the lowest possible loss of principle, cities would stabilize neighborhoods and protect their tax base by keeping homeowners in place and avoiding foreclosure sales that would drive market values down even further, homeowners would benefit by keeping their home and getting some protection as related to their equity position, and local housing agencies and their nonprofit partners would benefit from having a role in closing and servicing second mortgages that would give them a new source of revenue, as well as a vested interest in getting home values back up to maximize recovery of  funds invested for the second mortgages.   Such a program would still require billions of dollars in federal outlays, but it would be through a mechanism that allocates the pain as well as the benefits as broadly as possible, while focusing efforts on stabilizing home values – which is the root cause of the problem.

 

Mr. Stewart currently underwrites equity investments in affordable housing projects for Enterprise Community Investments in Columbia, MD.  Prior to going to Enterprise, he was with the Prince George’s County Department of Housing and Community Development (DHCD), serving first as Deputy Director for Capital Markets, and later as the Deputy Director of the Redevelopment Authority, where he had primary responsibility for the tax-exempt bond,, homeownership, and the federal HOME block grant programs.  Prior to his appointment at PG-DHCD, Mr. Stewart served as Director of Public Finance for the D.C. Housing Finance Agency, where he was responsible for processing, underwriting, structuring and closing transactions involving the issuance of over $300 million in tax-exempt bonds. He holds a B.A. from the University of Denver, (Denver, Colorado), and a Master of Arts in Public Administration from Howard University, (Washington, D.C.).

 

 

 

 

 

Nothing Going On But the Rent

When I first moved to Baltimore, I decided to rent a place to decide if I wanted to stay. As the months have passed the idea of buying became ever more prevalent in my mind–especially as prices started to decline.

But, alas, I have decided to remain a renter. And it has nothing to do with the fact that bad roofing is making it rain in the supposedly newly renovated home in which I currently reside (but let me tell you it did get the idea rolling).

While I am a strong proponent of homeownership, I think that this market is best if you are planning to stay for a long time. If you are a prospective homebuyer looking to do it the “old school way”–buy a home to raise a family and pass it down from generation to generation, by all means do so. But if you still think that you can buy something and in the near term realize appreciation, I think you are in for a world of hurt.

Despite what oh-so many rosie -colored-glasses-wearing financial “guru’s” say, the bottom is not close by.  I more closely agree with others that we have a ways to go–maybe not $215k for many houses to $70k, but definitely below the current median price of $200k. I think it’s going to have to go back below $200k before we may have hit the end of it—perhaps 170k. (of course, some relatively impervious markets like NYC will add a bit of cushion to the decline.)

Plus, despite what all those “why rent?” commercials say, renting can be very appropriate. Often the maintenance costs and usually the tax costs are passed on to the homeowner–while your rent may subsidize these costs, by in large you are not paying for them. And it is great for a rolling stone like me–who knows I might finally decide to live in Brooklyn or move off to New Orleans. Unloading a house in a market like this is a fool’s errand. Plus, if you have better things to do with your cash (not including buying a big screen TV) in an era where it will probably cost you at least 20% down to buy (not including FHA) then no time like the present time to do it.

In the meantime, I’m sure I can figure out how to grow a vegetable garden wherever I rent just like I could if I bought something. 

 

Nightmare on Cul-de-Sac Street

So, a blogging buddy of mine just put up a post about the “death of the Suburbs” myth.  He discusses an article written in last Sunday’s LA Times that purports that the suburbs are not dying–and will not die because so many jobs moved to the suburbs in the last 20 years. 

At least the Times journalist and I agree on one thing–Many jobs did relocate to the suburbs and are still located their.  The transistion is a matter of historical perspective and economics. Suburban living became ubiquitous with the American Dream shortly after World War II. Couple that with the decline of cities as residents left for the suburbs greener pastures and it gave way to urban blight and decay. By the 1970’s, So many people had moved out of the city it not only made job retention sense, but economic sense to move a large company out to the The decision was two to the burbs. And lets not forget the incentive of cheap cheap cheap land, and there is the icing on the cake.

But then, the 90’s came and cities like NYC, Charlotte, Atlanta, Cleveland began to incentivize the  relocation of companies to revitalized in-town locations to make it not only “chic” but economically more attractive to be in-town.  Sprawl, traffic, and energy costs associated with sprawling corporate locations became less attractive.

For the last 10 years the trend away from suburban living has increased. People are changing the way in which they view how they prefer to live and work. Energy costs, traffic, and time spent commuting are making many–particularly young professionals, empty nesters, and to some degree young small families, rethink the benefits of far out, automobile fueled suburban living.

I think agree more with this guy. The suburbs may not be dead, but their ’sprawling mcmasion, two cars in the driveway’ dreams may be fading into the distance, and a new vision of transit and pedestrian orientated homestead may be the key to remaining desirable places to live.

We Keep Giving Fish Expecting Different Results

When I lived in DC, my friends and I called the neighboring suburbs in Prince George County, ‘Greater Southeast’ (a reference to Southeastern D.C). Southeast D.C., was for, generations ubiquitous with urban decay—high poverty, high crime, and high blight with few exceptions. Prince George, on the other hand, was known for having the largest population of upper middle class African American residents. The most obvious reason for the population shift was the rising cost of living associated with gentrification.

 

But it was while I was an evaluator for a D.C.HOPE VI project (a HUD program started under the Clinton administration to raze physically and socially obsolete housing projects and turn them into mixed income communities), the reason for the shifting crime pattern became even more evident.  It was not just gentrifications, but use of HOPE VI, as an urban renewal tool rather than a an inclusive “neighborhood revitalization” tool that was creating a storm of long term disaster.

 

Under the program, Housing Authorities are authorized to use Section 8 vouchers to help relocate tenants. While housing authorities are merely “required to provide eligible residents with relocation benefits and community and supportive services.”, there was little incentive to provide comprehensive support to residents looking to return or successfully integrate into new neighborhoods. The challenge of taking apart social networks and asking residents to move to places without them has been largely ignored. Instead, Housing authorities have shifted the pervasiveness of poverty out of the projects and scattered it about.

 

As it stands, less then 10% of former residents actually return to after construction is complete. Less than 20% of the new residents in most of these projects are even low to moderate income (less than 80% of area median income).  Instead, former residents move to new communities with no support network and no means of figuring out how to create a new one. Though the legislation requires such support, providing it with families scattered across counties and cities is nearly impossible, and many families become invisible again–except this time without a social network.

 

Since HOPE VI began, crime has been exploding in the relatively stable near-in suburbs of many mid-sized cities like Mecklenburg(Charlotte) and North Memphis(Memphis); Maywood(Chicago) while it is subsiding substantially in many inner-cities. A study recently conducted by husband and wife team, Richard Janikowski, a criminologist with the University of Memphis, and Phyllis Betts, a housing expert also at the University of Memphis, drives the speculation toward fact. Betts and Janikowski put together a map of crime patterns and a map of section 8 rentals, and voila—they almost perfectly matched.   

 

HOPE VI could be so much. But it is not. HUD should be incentivizing projects to figure out creative ways to re-integrate greater numbers of poor and moderate income residents into the new development (say at least 25%, for example) It should require housing authorities to design comprehensive, multi-tiered strategies to address joblessness, childcare, and eduation while also incentivizing the “step-up” from fully sibsidized housing to possible homeownership. Instead, it gives Section 8 vouchers and permission to housing authorities to simply say “go away.”

 

Don’t get me wrong, the goal of turning physically obsolescent, blighted public housing into modern, decent housing is of great importance, but the program should be more about creating economically and socially healthy communities and less about the beautification of real estate.

 

Its high time we time we stopped giving people fish and asking them to go away. Perhaps, its time we, at both the non-profit and public sector levels spend some more time teaching people how to fish instead.   

 

Fannie Mae Caves…

Great news coming out of the housing policy world. It seems housing policy advocates have one a victory regarding Fannie Mae’s changes to the declining market policy.

And this is fabulous news for low and moderate income home buyers and others who might be looking to buy a home in markets that might have been percieved as declining…

Sort of.

To Pay Rent or Eat? That is the Question? (And other interesting midweek tidbits)

• It seems that 1 in 3 New Yorkers is paying more than 50% of their take home pay in rent. If you’ve ever looked at the Real Estate section in a New York paper or been faced with the unfortunate task all NY’ers dread–looking for a no-fee apartment that isn’t rat infested, this is not a surprise.  I bet if we did a national study most people are paying more than the 30% standard applied in measuring housing affordability.

Sorry, NYC, we know how you like to be the exception to the rule. This time you simply prove the fallacy of the rule

 

• If you think the US Housing market is the worst in the world, try the UK on for size.

 

• Tomorrow, the House votes on the bill meant to help stimulate housing and stem foreclosures. Of course, after it passed the Senate, it pretty much wasted paper.  Don’t worry, I will be posting on what I think about it verrrrrry soon.

 

• Hmmm, who knew that the foreclosure crisis would adversely effect renters?  I wonder what types of renters those would be?

 

Well, I gotta go pay the man for the roof over my head and by some more Ramen.  Anybody got any positive housing news? Please share.

Redlining? Or Prudent Lending?

Last December, Fannie Mae and Freddie Mac announced the reinstatement of its Declining Market policy to go, presumably in light of the fallout within the mortgage and mortgage -backed securities market.  In a nutshell, this announcement reinstates a policy to reduce the maximum loan-to-value (LTV) ratio in markets Fannie deems to be “declining” by 5%.  What does that mean? Well, if you were applying for a loan with a maximum LTV of 100%, it means that your maximum LTV would be 95%. You would need to put 5% down.  As of June 1, the policy goes into full effect.

Seems like a reasonable and prudent idea, right? After all, it is well established by a number of lenders in both consumer lending and mortgage that “skin in the game”  keeps borrowers more attached, even if things go haywire.     “Skin in the game” might keep the borrower from having an upside down asset and 5% is a nice little cushion  The policy also encourage appraisers to deem a market declining  if it believes it to be so based on comparables through out the community, rather than succumb to the pressure of a lender client to label it stable.  Lastly, from the lender’s perspective, who wants to have a lien on an asset that is 100% financed, losing value, and worse yet, ends up foreclosed and added to a growing number of REO properties in the portfolio?

And perhaps I would agree, if it were simply, “you want to live in a declining market, you’ll need an extra 5% to protect us and you against value loss”, but it is not.  It’s, albeit unintended, redlining reconstituted.   If, for Fannie the issue at hand is the over-valuing of real estate and subsequent “over-lending” to borrowers, this policy doesn’t cut it.

First things first. As research from the Federal Reserve of Boston indicates, the borrowers most sensitive to price declination are borrowers with “Alt-A” loans; those with credit scores within 620-740 with low document/no document loans, ARMS, and interest-only loans—not sub-prime borrowers who don’t have as much savings.  These Alt-A loans are often most closely tied to a continued increase in appreciation. When the appreciation is not realized, foreclosure is on the horizon.  Those borrowers with homes that have lost value are 14 times more likely to default than those with an increase of same size. While sub-prime borrowers are more likely to default then prime borrowers, there is no loan level data that lends this default back to the primary mortgage because most loan level data shows a greater prevalence of sub-prime loans at the refinance level.  Alt-A borrowers tend to have much higher mortgage notes than a sub-prime borrower—approximately $299k to $181k comparatively. Add on the fact that nearly 30% of Alt-A loans are non-home owner occupied compared to 8% amongst sub-prime borrowers, and it seems to me that this is where the problem lies.

Furthermore, the biggest problems will be areas where the rate of appreciation was so steep that an adjustment for those at the top of the market is significant and trickling downward. .   For example, in San Diego, where the median home price went from $300k in 2000 to more than $500k in 2005, the fall has been a dramatic 30% decline in price. The rate of foreclosure has increased 200-fold.  Yet, Cleveland which is not a declining market, per se, could be labeled as such if one were to simply look at zip codes and census tract numbers and compare to an appraisal on one block versus another.  Yes, there are homes that were placed on the market in Cleveland that were above what the market would pay and they are sitting on the market and the prices have fallen. But existing homes have not seen much depreciation. As a matter of fact, the price of the average existing has generally stayed in line with inflation, and long term homeowners simply pay there mortgage down to get value. In these places, it is much less the overvaluing of real estate that is increasing foreclosures and more a decline in industry and an increase in unemployment.

Add on to this the fact that the policy inadvertently gives additional rise to the discrimination among borrowers through the cost of money. If a neighborhood is labeled declining, not only will an additional 5% down be required, but the lender can charge a greater interest spread for loans made in declining markets through Fannie’s risk-based pricing model.  This will most notably affect low-income borrowers–particularly minority borrowers who historically have paid 75 to 175 basis points more than a non-minority borrower-and are more likely to be first-time homebuyers in markets that through zip code, census tract, and MSA analysis might be labeled as declining.

Fannie is understandably attempting to be prudent and protect itself from future messes in mortgage lending and packaging of securities, but this policy, seems to go against its mandate. It does not target the borrowers who will more than likely be upside down in a property first—small investors and speculators—and instead may lead to the targeting of the first-time homebuyer who simply wants to keep a roof overhead. The policy may very well lead to disinvestment which in turn may leave this  in a neighborhood near you.