Underwater Stats

The term "underwater" means that people owe more on their properties than they are worth or having negative equity. There are a few ways how homeowners can find themselves in this position - by putting no money down and seeing any sort of decline, putting some money down (say 5%) but seeing a larger than the original investment, and HELOCing the property so much at peak than experiencing a decline. It is barely conceivable how this first group was ever possible to exist in the first place - a big part of the problem. The middle group deserves the most sympathy in these situations - they were trying to do the right thing just got the timing wrong. Most people in the third group did the wrong thing - except the few that are underwater for medical reasons.

Today CNN bring us some underwater stats in an article titled 7.5 Million Homeowners Underwater. The first thing to point out is that they estimate there are at least 7.5 million owners underwater - however in February the New York Times estimated at least 8.8 million. With the continual decline the 8.8 would be larger now, so we wonder what the real number could be. Perhaps that 1.3 million lost, sold or renegotiated their loans. Perhaps. Well, lets take a look at the article -

The report on the growing problem of negative equity, out Friday from real estate research outfit First American CoreLogic, is actually a conservative estimate. Some reports, including one from Moody's Economy.com, puts the number of underwater borrowers even higher, at as many as 12 million.

"Being underwater doesn't necessarily mean that you can't pay your bills," said [Mark Fleming, CoreLogic's chief economist], "but it's a necessary condition of default."

Borrowers who are underwater but have enough income to pay bills can keep up with their mortgages - even if they don't like paying more to live in a home than it's currently worth. On the other hand, anyone who runs into trouble paying their bills but has positive equity in their home can avoid foreclosure by either borrowing against their home, or simply selling it.

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Nevada, which saw home values plunge by more than 30% during the past 12 months alone, according to the latest home price report from S&P Case-Shiller, tops the list of states with the highest numbers of underwater borrowers. A full 48% of homeowners there have negative equity. Nevada and the other so-called bubble markets saw tremendous price run-ups, and are now watching home values plummet. So even buyers who put 20% down don't stand a chance.

In many bubble markets, home prices got so high that the only way that many buyers could get a loan was by using what Fleming called "affordability products." These included adjustable rate mortgages with rates that were set artificially low for a few years, until resetting much higher, as well as mortgages that required little or no down payments.

The article also provides a list of the top ten states underwater (the bad list) -

State	# of mortgages	% underwater
Nevada	609,577	47.8%
Michigan	1,145,572	38.6%
Arizona	1,287,076	29.2%
Florida	4,248,470	29.2%
California	6,461,981	27.4%
Georgia	1,456,327	23.2%
Ohio	1,905,000	22%
Colorado	1,045,773	18.3%
New Hampshire	144,479	17.2%
Texas	2,721,638	16.5%

And the Bottom ten states that have underwaters (the good list) -

State	# of mortgages	% underwater
New York	1,554,607	4.4%
Hawaii	201,188	5.6%
Pennsylvania	1,413,181	5.7%
Montana	87,181	6.9%
Connecticut	678,766	7.4%
Alabama	238,978	7.4%
Oregon	641,820	7.5%%
Washington	1,273,659	7.6%
New Mexico	186,844	8.2%
New Jersey	1,748,179	9.3%

While it is good to see that NJ is in the bottom ten for underwaters, remember we are also number 8 in the national foreclosure activity statistics.

An Economic House of Cards Is Falling

Bad news on top of bad news. Today we learn that the economy is shrinking due to consumer cut backs. Not that we can see how patriotic consumption through debt is really a good economic model - none the less it was one we relied upon. This article from the New York Times titled Economy Shrinks as Consumers Cut Back illustrates the current economic problems. Lets take a look -

The Commerce Department reported this morning that consumers sharply cut their spending this summer, causing the United States economy to shrink at annual rate of 0.3 percent. By almost all accounts, the economy is now in recession.

The last quarter in which consumers reduced their spending came in 1991. Since then, neither the recession of 2001 nor the slow income growth of the past seven years has kept households from increasing their consumption. They often relied on debt — in the form of home-equity loans, mortgage refinancings and credit-card loans — to continue spending.

But the housing bust, the resulting credit crunch and the deteriorating job market have forced many people to cut back. Personal consumption fell at an annual rate of 3.1 percent in the third quarter of this year, its biggest drop since 1980, when the economy was in a deep recession.

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But the report nonetheless pointed to the serious problems facing the United States economy: consumer spending is falling, and no engine of growth seems likely to replace it the near future.

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Consumer spending makes up a little more than two-thirds of economic activity in the United States, more than it did in past decades. The rest is a combination of business spending, government spending and the net difference between exports and imports.

The current model of our economy is propped up by consumer spending. That consumption was only possible through debt. Long term household debt is not sustainable. Like a house of cards, it has come crashing, yes crashing down. The real world pain this model will cause will be long and deep. The pain will be felt by many. Until a new, sustainable paradigm is in place the suffering will remain.

Housing Bust - A Man-Made Disaster

Money disappearing. Hefty government bailouts to lending institutions. Average citizens seeing the wealth decline week after week, be it in their retirement accounts or their property values. We are currently experiencing a man-made disaster. This issue is described in an article from Gannett News Service titled Expert: Foreclosures ripped through some places like hurricanes. Lets take a look -

Over nine months that ended in June, Americans collectively lost $1 trillion in home equity, estimates Christian Weller, an associate professor at the University of Massachusetts. It was the largest drop since 1974.

Many people nearing retirement had been counting on their home equity as the primary source of income.

Home foreclosures have quadrupled over the last four years from 75,597 in August 2005 to 303,879 in August of this year.

"It is comparable in some neighborhoods to being hit by a major hurricane," [Julia Gordon, policy counsel at the Center for Responsible Lending] said. "Except this was not an act of God. This was an act of man."

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"Traditionally, 50 percent who go into foreclosure end up losing their homes," said Chris Varvares, president of Macroeconomic Advisors in St. Louis. "It may be the case that this time it could be a little higher."

That is a lot of economic damage. Much of it is non-repairable - at least in the short-term. The trauma from this disaster will also have long-lasting affects.

Also interesting to find that usually 50% of those that go into foreclosure end up losing their properties. Unless huge changes are made to the foreclosure process things will be devastating. Lengthening out the foreclosure timeline will not necessarily allow the homeowners to keep their properties. The big questions now are how contained we can keep the devastation.

Drinking the Kool Aid

When someone completely buys into an idea it is often referred to as drinking the kool aid. During the housing bubble there were a couple different flavors of kool aid - the house values only increase, the withdraw all the equity, and the ever popular debt is wealth flavor. While none of them make sense now the were very popular at the time. MarketWatch has an interesting post up titled We have met the enemy and he is us that sums up some of the most interesting excesses (kool aid flavors) from the Great Housing Bubble. Here is our 5 favorites from the bullet list -

• If it sounds too good to be true, it probably is. Turning to homebuyers, many people bought more house than they could afford, thanks to adjustable interest rates that were expected to remain low indefinitely.

• What goes up must come down. These people also believed that rising home prices would enable them to pull equity out of their homes, while refinancing into a fixed rate. But as we now know, nothing rises forever.

• Home is where the heart is. Forgetting that a home is first and foremost a place to live, many people began thinking of their houses as investments and as piggy banks, and thus made decisions that they might not otherwise have made. Even to this day, some homeowners think it is wrong to owe more on their mortgage than their house is worth; that's why they walk away from it. Hello? Don't they realize that they need a place to live?

• What, me worry? Home prices have gone up every year since the Great Depression, so it's OK for me to spend more than I earn, since all I have to do to make up the difference is to take out a home-equity loan.

• This time it's different. There may have been bubbles in the past, but it can't happen to housing, since all real estate is local and, at any rate, people need a place to live (See Home is where the heart is, above).

Looking back it is hard to believe so many people bought into it. One that did not make the list was to jump in now (now being 2005-2006) while you still can. Prices were going to keep rising at double digit rates indefinitely. The fundamentals were strong. The economy could handle this. Besides there is global trade now so a little bump caused by the US housing down turn would not have much of an impact.

What flavors are we drinking now?

Living with Debt

In recent years there was a drastic change in personal economic thought - once upon a time debt was frowned upon. However recently debt was equated with wealth. As long as one had a new car, granite countertops and a coach bag it did not matter if one could afford it. Whether the procurement was done through debt or cash in hand was irrelevant. And due to easy access to equity it was even easier. Once people had run up their credit cards they often just threw the debt into their home equity lines.

Now that property values have plummeted people have to change their ways. Credit card debt is still increasing but the ability to convert it into equity debt has abruptly stopped. This issue is examined in this article from the Washington Post titled Banks hoards cash as credit card defaults rise. We can see that the debt problems have been continually increasing. Lets take a look -

The deterioration in consumer credit, the latest downturn to whack Americans after the housing slump and mortgage meltdown, threatens one of the linchpins of the U.S. economy. Over the past 10 years, credit card debt has gone up 75 percent as Americans' real wages and savings rate have stayed flat. That means Americans have been spending beyond their means -- and fueling economic growth with borrowed money.

Now, the housing crash, financial downturn and contracting economy have made it more difficult for Americans to settle their bills, setting off a downward spiral. As people fail to pay off their credit card bills and other loans, banks must put away money to cover expected losses. So banks lend less. Americans who tended to rely on loans to fuel their spending must cut back, readjusting their spending habits to conform with what they earn.

"Given that the savings rate has been minuscule, there's no reserves in the tank for the consumer to tap his savings to support his spending," said Scott Valentin, a financial services analyst at Arlington investment bank Friedman Billings Ramsey. But consumers have been driving about two-thirds of the U.S. economy.

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A report this week from Innovest, a research firm, said banks and other credit card lenders could record nearly $100 billion in losses because of bad loans through the end of next year. Innovest said financial firms could be reaching a "tipping point" at which years of growth in credit card debt starts to decline.

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Credit card debt is especially worrisome for banks because it is not backed by real assets, such as home mortgages and auto loans. But that has meant credit card issuers routinely have been more cautious.

Which brings us to the Innovest report. First lets take a look at the savings rate Vs. debt Ratio the provide-

Our debt is significantly higher than our savings. This is not viable in the long term.

Now onto an Innovest graph that illustrates the huge divergence between credit card debt and real wages.


With a such a significant gap the money has to come from somewhere. And then lets compare the previous graph with one from Calculated Risk illustrating quarterly rise and fall of equity withdrawal.


These are some pretty frightening graphs depicting just how much we have been accustomed at living well beyond our means. Just living within our means will hurt. Our debt has become a great burden that will make any recession even harder. The fact that we do not have any savings to fall back on will make things even gloomier. The next few years are going to be pretty rough.

ReFi Fun in Wharton

Week after week in our profiled examples we see people who have lost or will lose their property. There is one common reason - the debt is too high. These examples usually either come from people who bought at peak prices at prices that they can not now afford or though bought an affordable property and took all the equity out therefor turning the investment into something they can no longer afford.

In the latter case, we often see this happen to people who continuously refinance and take all the equity out, over and over again. This group is called serial refinancers. Many times once they enjoy the lucrative lifestyle their property is giving them they keep going back for more. It is almost like trying to live two conflicting American dreams - the owner and the patriotic consumer who keeps up with the Joneses.

In today's example we are not sure where the equity withdrawal went - but we know it was utilized. So extraction helped to destroy both sets of the American Dream - no more home and no more funds to shop with. So lets take a look at the refi fun that was taking place in Wharton during the Great Housing Bubble.

Here is the property -


Here is the property info -

THIS HOUSE MUST BE SOLD ASAP!!!

LEGAL 2-Family in excellent neighborhood! The least expensive multi-family in Wharton. Buyer just pulled out of the contract. This will go quick!!!

Unit 1 : 10 rooms, including living room, eat-in kitchen, dining room, 5 bedrooms, 2 extra rooms, 3 bathrooms!!!

Unit 2 is actually in the basement. It is basically a studio efficiency apartment, with eat-in kitchen and bathroom included. This needs some updating.

2-car detached garage. Parking for about 2-3 cars in driveway. Gazebo in back yard. Close to churches, businesses, hospital, Routes 46 & 80.

This house is excellent for a "mother-daughter" combo.

All the systems work in the house. Connected utilities.

Lot Size: 50x117. Taxes: $7059.

I can show the house anytime. It is vacant.

Here are the financials -

• Purchased in January 2002 for $247,000.

• The original mortgage in January 2002 was for $234,000 with First National Bank of Arizona.

• In March 2003 the property was refinanced with cash out for $252,000 with Delta Funding Corp.

• The property was refinanced with cash out again in April 2005 for $350,000 using an ARM with Ameriquest Mortgage.

• The property was refinanced for $348,000 using an ARM with Greenpoint Mortgage.

• A HELOC was opened on the same day of June 2006 for $36,000 with Greenpoint Mortgage.

• The foreclosure process started with a Les Pendens filed in May 2007.

• The property is currently for sale with a realtor for $250,000.

First thing to note is that the property is basically at its 2002 price. Wonder how far back we will go. Now back to our feature property - at the time of purchase the owner put $13,000 down - just over 5% down - which was a very respectable investment during the bubble.

Just over a year in and the owner pulled out the $13,000 plus another $5,000 on top. The small cash out must have felt good, since at the height of the bubble another $98,000 was pulled out of the property. That money went fast, since just over a year later the mortgages out on the property totaled $384,000 was taken out. A total $137,000 of equity, not counting the original down payment of $13,000, was extracted from the property. That averages to a second income of $22,8333 per year over the six years of ownership that the property provided the former owners.

Now that the property is an REO and the lender is selling it for basically the original purchase price, the hit to the property is significant. When the realtor fees are factored in the property will cost the lend a total of $149,000 - and that is if the property sells for full asking price! This is definitely a property to revisit after sale and see how big the loss will end up to be.