But first . . .


. . . but it’s still nice for those of us long CBH:

Commerce Bank Tops Magazine Survey

NEW YORK (AP) — Consumers appear to be happiest with banks that have attractive branch offices and limited fees, according to a personal banking survey released Monday by Consumer Reports. A survey completed by nearly 11,200 of the magazine’s subscribers indicated that their favorite financial institution was Commerce Bank . . .

And this . . .


Religion News Service reports Pat Robertson said this about the recent heat wave:

“It is the most convincing evidence of global warming I’ve run into in a long time,” Robertson said Thursday (Aug. 3) during his “The 700 Club” television show. He previously had been critical of claims about the dangers of climate change.

☞ The scientific consensus failed to convince him (and yes, it is a consensus). But a really hot week – well, now maybe he agrees with the scientists . . . though surely not based on their thousands of man- and woman-years’ research and analysis. Just seems real damn hot.

And now . . .


Following up on Tuesday’s ‘ouch‘ . . . here are the views of two real estate professionals.

The first is scary (and long!). It concerns residential real estate only (not that a collapse in residential real estate wouldn’t affect everything else).

The second is more upbeat.

Here’s the first . . .

Michael Monahan: ‘This is an anonymous loan officer’s take, from the forum at piggington.com (right column, second heading – active forum topics . . . the thread title is: ‘Mortgage Lender to Answer Questions that You May Have’). I’ve pasted the loan officer’s comments below, and deleted the questions and interruptions.’

Submitted by X1Y2Z3 on August 5, 2006 – 12:32pm:

Hi all,
I noticed someone asking for a mortgage lender to participate in these forums. I have been in the mortgage business for 10 years. I have worked at a mortgage banker that funded their own loans with their own warehouse line of credit and then sold the loans to various investors, and for one of the top three direct mortgage lenders in the country. If you have any questions, please feel free to ask. I may not answer everyday but I will try to get back to you. I will give you the real scoop on mortgage lending and real estate. BTW I have a real estate license as well.


Ok here goes. Yes, most major real estate markets are in housing bubbles IMHO. It was like the dotcom frenzy of the late 90’s. People thinking they were geniuses because the values of their homes were going up. Once the bidding wars started up, I knew the bubble was getting way out of hand. The worst situation that I heard of was a house that had 36 offers on it. Who in their right mind would bid against 35 other people for a house? It wasn’t even in a nice location, in fact it was in a bad location. Here’s what would happen. A couple would get approved for a mortgage. Then the agent would help them make an offer, they would lose the house because they didn’t bid high enough. Then the agent had them. They would say, if you only add an escalation contract you will win the next bidding war. So the buyer probably would lose another house, then they would ask, how high can I go over the list price? It was ridiculous. One agent I worked with called it a “vertical market,” prices were going straight up. So you have everyone trying to outbid each other and virtually no one taking the time to assess whether the price increases were sustainable. BTW I was an in-house Loan officer meaning I worked in a real estate office so I saw everything.

So initially, the low housing supply/low rates got the bubble started. Then the lenders made it much worse than it had to be by loosening guidelines. When the Interest-Only loans started getting popular a vicious cycle began. They allowed people to buy more home, which drove the prices higher. Then, as the prices rose, people had to use the Interest-Only’s or they couldn’t afford the house. Now, remember that regular guidelines were very easy to begin with. At my bank, we allowed debt ratios – mortgage-payment-plus-monthly-debt divided by income – of 45% and didn’t even bother with a front ratio (mtg payment/income). When I started in 94, FNMA guidelines were 28/36 for ratios. And I can tell you that the majority of people who got a regular loan were at 44% or so. I had to be very careful with my estimates for monthly tax and insurance or someone could end up at 45.1%. Then as people couldn’t afford a house with either an interest-only and a 45% debt ratio, they opted for a negative amortization ARM or a Stated Income loan. My bank doesn’t even offer the negative amortization ARMS.

There are basically 3 types of low documentation loans: Stated Income, No Ratio and No Doc. Stated Income means we ask for income and employment info but don’t verify it. No Ratio means we don’t ask for income but verify the employment. No doc means, no job, no income no assets are verified.

Stated Income loans are very much ‘liar’ loans. I never liked them because it was so obvious and I was uncomfortable with them. A bank can do quality control and pull tax returns to verify the Stated Income after the loan closes. I preferred No Ratios or No Docs because no one was lying, they just didn’t put their income down. Bottom line is that originally these loans were for newly self-employed people or people who just didn’t want to document their income for various reasons (tax returns were too large and complicated). But today they are used to buy homes that the borrower can’t afford in the first place. Our company tried to separate functions, so I was a “prime” loan officer and I would refer marginal buyers to our subprime loan officers. Every time someone wouldn’t qualify for a prime loan, I would just refer them to the subprime guy and ask him to do a stated, No Doc, etc.

Bottom line is that first low supply low rates drove prices up, then interest only and neg am arms helped push them up and finally, when all else failed, just put someone in a Stated Income, No Ratio or No Doc to get them qualified.

Oh – I forgot about 100% financing. Of course, no one buying a house these days has any money saved. Since we can now do 100% to $1M who needs savings? Basically, anyone who could fog a mirror could buy a house. This created a massive pool of buyers with a limited supply of homes. Any one who took Econ 101 can tell you what happens with large demand and low supply.

Let me give you some examples of crazy loans: 100% to $800k, 1 day out of bankruptcy, credit score 580, 95% NO DOC to $700k and some lenders were doing 100% No Docs: again, no job, no assets needed.

Anybody, anybody could get a loan. Here are some reasons why most major markets are in a bubble:

1) price/rents are way above historical averages

2 price/income way above historical averages

3) look at mortgage volume: Interest Onlys went from being almost non-existent to 40% of the market and higher in certain areas.

4) Neg am arms again almost nonexistent to a huge percentage of loans, 100% financing a huge percentage. I believe 40% of first time buyers used 100% financing last year.

5) Subprime loans made up 5% of the market in 2000 or so and about 25% now. The majority of subprime loans are 2/28s, meaning the rates will adjust in 2 years – these borrowers are finished. The easiest sale in the world for a loan officer is to say, ‘Oh just take this 8% loan and in two years your credit will improve and I will refi you to a standard, loan.’ It never happens, these people never fix their credit.

6) 2 Trillion dollars of ARMS are adjusting over the next 2 years. Many of these are interest-only so they will be hit by a rate increase and have to start paying principal.

7) Prices are already coming down much more than the stats show, NAR stats do not include seller concessions, the large majority of sellers/builders are paying closing costs, etc.

8) The NAR stats also operate with a lag. They use year over year numbers so if there was a lot of appreciation in the beginning of the year, but prices are falling now, albeit slowly, it still looks like houses are appreciating. Prices just turned negative year over year in San Diego, DC, Long Island, NY and many other places.

9) Inventory is going through the roof. real estate moves like a glacier. First inventory will rise, then sellers will have to adjust their prices down. Especially ones who can’t afford their ARMS.

10) Psychology will change. Behavioral economics studies how psychology can affect economic decisions. People get caught up in the mass psychology and get burnt, dotcom bust, the coming housing bust. Robert Schiller is a Yale economist who studies this and studies the housing market. His data shows that housing barely exceeds inflation, his data goes back something like 200 years. Now the scary part is that as home prices fall, psychology will turn negative. People will hate housing which will drive prices down further. Why would I buy now, if prices are falling, why don’t I wait?

11) people who put 0 or 5% down are already underwater. They will walk away from their homes. Foreclosures are going up across the country. Of course foreclosures were very low recently because all you had to do was throw a sign in your yard to sell your home. Now that homes aren’t selling or are selling for lower prices, foreclosures will continue to rise adding more inventory to the market. Note that foreclosures are a lagging indicator. I think the last time they spiked was in 1996 or so well after the last real estate bust of the early 90s.

Oh I forgot, this isn’t just a US bubble. Most major markets around the world have housing bubbles, UK, South Africa, Ireland, Australia, Spain, etc. etc. The Fed caused a lot of this by dropping the funds rate to 1%. Other central banks lowered their rates spurring bubbles of their own. Australia has already seen a downturn in their markets, nothing huge yet, but I have seen declines of 5-10%. The UK is on the knife’s edge. Their personal bankruptcies are soaring. The most undervalued market is probably Japan. I’m sure most of you know but their housing market fell 50% or more from the early 90s. Their stock market fell 70% or more. Their housing market just showed some appreciation for the first time in many, many years.

If the US goes into recession, which I believe we will in early to mid 2007, we could bring the whole global economy down. Things could get very ugly. Housing made up a huge percentage of GDP over the past 5 years (after the dotcom bubble), something like 40%. When housing goes, which it is doing, the US economy will go. My prediction is that 30% of agents, lenders, contractors, builders, painters, etc. will be out of the business in the coming year. It’s already happening. Here’s what makes this so scary, unlike the dotcom bubble, people now have enormous mortgage and consumer debts to service, many of which are ARMS, they are in serious trouble as the economy slows. The FED created one bubble after another and this one (housing) is much more dangerous than the first (dotcom).

Ok that’s enough for now. I apologize for the spelling and grammar. I was trying to type as fast as possible. This is all my humble opinion and worth no more than 2 cents.


You are right, most people who visit this site know what’s really going on. But I can tell you, that 90% of the real estate community and the general public doesn’t get it. They now know that things are getting ugly because of the surge in inventory and the recent price reductions, but before August 2005, they had no idea that we were in a bubble. Honestly, it was very frustrating because I couldn’t talk to my coworkers, friends or in some cases, family about it. They either didn’t get it or would think I was nuts. My in laws thought I was crazy. I told my sister-in-law, to be careful about buying a house. They bought in April of this year. I told them to negotiate and get the seller to pay closing costs. I also told them to prepare themselves mentally that prices could fall after they buy. Of course, they didn’t really believe me. I put them on a 30-year fixed rate first mortgage that is interest only for the first 15 years and a 30-year fixed rate second. They put 5% down. There’s no doubt that prices in their neighborhood will fall and they will owe more than the house is worth. However, they have the protection of 30 year fixed rate loans. They will just have to ride out the downturn.

I noticed the bubble in early 2003. It was just starting to get some publicity. When the multiple offers, escalation clauses started picking up, I knew people were being irrational and a bubble was forming. Also, when I started in 1994, I will never forget sellers bringing money to the table to sell their homes/condos, that they bought in the previous peak around 1989-1990. I knew that real estate goes in cycles. Unfortunately, a huge amount of new realtors, lenders, buyers, didn’t understand the cyclicality of the business.

Angelo Mozilo, CEO of Countrywide, is quoted as recently saying, “I’ve never seen a soft landing in 53 years in the business.” He’s just pointing out that real estate goes in cycles. The problem is this cycle got so out of control that the downside could be much, much uglier than ever before.

I just left the business, not because I couldn’t survive, but because I never liked it. The money could be incredible, but it was mindless work. I also did not like being tied to one area of the country. Once you build your book of business, its hard to relocate without having to start all over. Basically, as a mortgage lender, one does the same thing over, and over and over. How many loans can I do this week, this month, this year. It’s the same process every time, although it’s been streamlined dramatically since 1994.

Now, don’t get me wrong, this year has been very ugly for many lenders, including myself. I saw the latest numbers for my company, everyone’s numbers are off 20-40%. And, we are a very strong mortgage company, because all of our loan officers work in real estate offices and do a large amount of purchase business. Lenders who focused on Refis are finished. If lenders do not have a strong base of builders or real estate agents referring them business they are in big trouble. Basically, lenders can get their business from realtors, builders, accountants, financial planners or past clients.

The best source of course is builders or realtors. However, most builders will have their in-house lenders which they can steer loans to because they can pay closing costs or offer reduced points. Once a lender has been in the business for a long time, if they are smart, they will build a database of past clients who they will email, mail, etc. to bring new business in. They will also have a loyal following of real estate agents. So the longer one has been in the business, the more sustainable their business becomes assuming they are any good. Now, that doesn’t mean that they won’t have huge ups and downs during the cycles. I know many people who were making $300-500k just because they had been in the business a long time. I always considered a loan officer to be very close to a used car salesman. There are almost no barriers to entry, most states don’t require licensing or a test of any kind and no education is required. I also hated being on call 24 hours a day. It just wasn’t worth it to me.

I always tried to steer my clients to the safest loans possible. For example if someone wanted an ARM, I tried to push them into a 10/1, 7/1 or 5/1 at the shortest. Even the 5/1 ARMS are at risk. Our 5/1 has an initial interest rate cap of 5%! So if someone starts at 4%, they can adjust to 9% at the first adjustment. I also, never offered Neg Am arms, I lost a bunch of deals because of that.

3:48pm [in response to a first-time buyer ‘in-waiting,’ asking when to buy]:

You are in a great position. Time is on your side. Real estate takes a long time to move, the downcycle has only just begun. Luckily you didn’t listen to your agent. Many people bought the line, “if you don’t buy now you never will be able to.” That’s total BS. It’s tough being a contrarian but can be very profitable. The old adage, it’s best to buy when everyone is selling and best to sell when everyone is buying, is perfect for this real estate bubble. Now we are on the sell side of the equation as inventory continues to build. The buyers market has only just begun.

4:34 pm:

I understand Negative Amortization option ARMS. They are terrible loans.

Obviously they are a easy sell when the teaser rate is 1.5%. I had a lady and her real estate agent come into my office to do a refi. She had no idea what kind of loan she had so I told her to bring in her loan note and mortgage statement. She had a neg am option arm. Her loan had grown something like $8k on a $300k balance. She had no idea this could happen. She also had a prepayment penalty of 2%. I ran the numbers and it was a tough call whether to refi. If she planned to keep the house, then she should have sucked it up, switched to a 30 year fixed and rolled all closing costs into the loan. However, she couldn’t make the new payment. She had a renter in the home and now I’m sure she is in trouble. This was a few months ago.

Yes, I have heard of caps of 110% up to 125% on these option ARMS. These ARMS helped extend the bubble by allowing marginal buyers to purchase homes. They are going to have massive default rates.

I will tell you about an even worse loan.

Our company offered two equity lines back to back. So you could do an 80/20 no money down with two equity lines. Well, equity lines are tied to prime, have only a life cap and are monthly adjustable. They started a 3.5% for the 1st loan and probably 7% for the 2nd in 2003 or so. Now they have gone up by 4.25% on each loan. Anyone still in those loans is finished. They are the riskiest loans I have ever seen. They were interest only and the buyer could ask the seller to pay all closing costs. So one could buy a home with nothing down, no money in the bank, no assets, with a monthly adjustable loan with no monthly or yearly rate caps up to $500k. And this loan was from a conservative lender.

I would estimate that the majority of people with prepayment penalties have no idea that they have them. Very few people would realize they should get a rate break to accept a prepay penalty.

Yes, I have seen a bunch of people consider refi-ing with a prepay penalty because they can’t afford not to. Honestly, I would say the great majority of home buyers do not understand their ARMs, the caps, whether there are prepay penalties and when their ARMS adjust. The buyer is usually more concerned with the payment than the type of loan they get. Of course, there are exceptions to this but I really believe that most of the buying public knows very little about how their mortgage works. Some understand that they have a 5/1 ARM and that the rate will adjust in 5 years. But they won’t know that the cap is 5% at the first adjustment. They also won’t know that they will have to pay principal at that time if they took an interest-only. Most lenders will say, oh you will either move to another house or refi before your 5/1 ARM comes do. Everyone buys that line and then forgets they have a time bomb waiting in 5 years.

☞ Now that you are about to jump out the window of your overpriced condominium, here’s the second, somewhat more sanguine view. It comes from a friend whose private jet is probably larger than yours (no offense) – or mine, for that matter (no exist) – which suggests he knows a thing or two about his business:

I think it important that you differentiate the residential market vs commercial.

Housing – big difference between high rise condos and single-family homes. While the first is set to blow up with speculators and mezzanine lenders holding the bag – and developers and senior lenders coming out ok – single-family home builders will just suffer a severe slow down – and will be okay if they are not over levered. Condo apt values should fall as speculators unload.

The residential lenders, lawyers doing closings, title companies, residential brokers and mortgage brokers will suffer most – and then the general construction trades as the slowdown continues. In markets dependent on residential real estate like Miami, this will impact office and retail real estate – as they give up office space and consumers in these impacted industries have less to spend. But the labor market is tight enough so they will find new jobs easily but at less pay.

Commercial markets remain strong – office rents and occupancies are rising since new construction costs are not yet supported by current rents – a number of factors have driven new construction costs through the roof: oil, China, and scarcity of materials and labor – most labor is made up from labor suppliers and illegal aliens – immigration reform would send labor costs to the moon.

(Commercial spaces are rented to serve a business need – and as such, the occupancy while subject to variations in the economy, is a little less prone, initially at least, to suffer in economic downturns. If the downturn is prolonged, tenants do fail and vacate, and businesses to not expand at the same rate, but in 18 to 24 month slowdowns – as opposed to meltdowns – we usually have long-term leases so the tenants stay and pay – albeit they may profit a little less.)

Retail sales and rents continue to climb – market is incredibly healthy in the open air shopping centers and moderately strong in enclosed malls – super discounters and high end retailers will perform well, guys in the middle will suffer. Retail rents are all about sales and sales are good – especially restaurant sales as the eating out trend keeps growing with more and better options for the consumers. Dual working households makes this trend likely to continue.

Warehouse occupancies are ok – not great – and rents, likewise – but rising land prices and construction costs are positively impacting both of these and will continue to do so.

Hotel room rates are rising – as again costs of new construction are too high to support new hotels – so, as with offices, growing demand with constant supply is leading to rising rates and values

Finally there are rental apartment buildings – with the rush to condo conversions over (and higher interest rates shutting down home buyers in all but the super affordable categories) rental apartments are finally filling up – the demographic bubble coupled with the inability to replace supply bode well for a recovery in rental housing.

There u have it. Just important for you to note, when you bash the real estate market, that it is only fair to do so to the residential component – and, more narrowly, the high rise condo world – especially in Miami, Las Vegas, and California.

PS: We have always thought the leading economic indicator was the payment of rent by local tenants – they tend to be the least capitalized and the most subject to a slowdown in sales. Our rent collections on a sizeable portfolio have been very strong – unusually so for the summer months. Both inquiries and signings of new tenants in all asset classes – retail, office and industrial also continue strong – in fact, stronger than last year at this time period for office and industrial – and retail continues to be the power performer for the last six years.

☞ But what if $3.50 gas begins to cut into retail sales? And what if folks start saving for retirement instead of spending at the mall?

Then again, if things do get rotten – and they might not – loan demand likely fall, and interest rates could fall, too . . . which would ease the pain somewhat for the folks with adjustable rate mortgages.

And so it goes . . .


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