More clues were recently provided in the investigation of the curious case of the various “Acronyms” being employed by the Federal Government, in its attempt to stimulate the economy, with the able assistance of its henchman the Federal Reserve.
Investigation of the MBAS market yielded collateral evidence; which showed that underwriting conditions similar to those fingerprints found at the scene of the crime before the crisis of 2008 were evident in recent bond issues[i]. The new smoking guns have got names like “super-senior support bonds”, “exchangeable securities”, “principal-only notes” and “pool interest-only bonds” in which investors in some pieces can have greater losses even with the same levels of loan defaults and repayments. It’s déjà vu all over again. This sense of déjà vu is attenuated by the appearance of old skeletons from cupboards that had been buried deep off the balance sheets of the banks. JP Morgan, who was notably putting on the “Big Long” in Housing Smoke and Mirrors “On the Contrary” going into the recent FOMC decision, is now having its “white collar” felt by the legal hands, at the end of the long arm of the law in California, for its role in the “Big Short” going into the crisis of 2008[ii]. The New York Attorney General, who is in the vanguard of the movement seeking justice for the alleged “white collar” crimes of 2008, has unearthed an archaic legal precedent, dating back to the S&L Crisis of the 1980’s, in order to get around all the obstacles erected by the alleged 2008 criminals[iii]. His predecessor, Elliot Spitzer was discredited because of his private life; however there is more of the Elliot Ness about his successor Mr. Preet Bharara, which suggests that justice will be served.
All the justice and retribution for the crisis of 2008 seems to be arriving just as the Fed is engineering another crisis with is equivocation over the “Taper” and the course of monetary policy. To compound the risk, Congress is going through the annual ritual of blowing fiscal headwinds through political dysfunction. Someone is going to blink, most probably the speculators; which will enforce a solution born out of economic disaster, as has always been the case.
The banks are already preparing for the worst; and scaling back their mortgage business units. Citibank became the latest casualty of attrition; when it announced that it will downsize another 1000 home lending professionals[iv]. As the storm clouds gather, the Federal Government is moving with alacrity to use the “Acronyms” it has created to fill the cracks in the creaking housing market superstructure (see Housing Smoke and Mirrors (18) – “The Mendacity of HOPE (and HARP and HAMP)”[v]. The rise in interest rates, because of the “Taper Talk”, has effectively closed the refinancing window. The FHFA has an ace up its sleeve however, in the form of HARP. Market derived interest rates may be too high for refinancing, however refinancing rates derived by the Federal manipulation in HARP are significantly lower. Refinancing directly at the Federal Reserve’s expense can now be switched to refinancing at the Tax Payers’ expense through the HARP programme. Of course the Fed will then indirectly enable this book transfer; by buying the mortgages in the HARP programme. There is however one small issue of price discovery for the consumer. Allegedly 50% of Americans with HARP eligible mortgages still aren’t aware that they can avail themselves of this refinancing opportunity. The FHFA is therefore proselytizing the benefits of HARP in order to enlighten this 50% and keep the refinancing momentum going[vi].
In Housing Smoke and Mirrors “Elementary” it was observed that the game was afoot for Freddie Mac; as it swiftly moved to “Streamline” its footprint reduction in the HAMP, Streamlined Modifications (SMP’s) and Pay for Success (PFS) initiatives[vii]. Freddie’s footprint shrinking project has been so successful that it has been able to report that its portfolio shrank 5% month-on-month in August[viii]. The significance of the refinance business was highlighted by Freddie. Single-family refinance loan purchases and guarantee volume was $20.8 billion during the month, representing 63% of total single-family purchases or issuances. Relief refinances were approximately 33% of the companies refinance business. In effect 96% of Freddie’s business in August was related to refinancing and modification. The size of this statistic underlines the reason why the FHA is now moving with alacrity to replace Freddie’s shrinking footprint with its own “Acronyms”.
Fannie Mae signalled its intentions and capabilities to continue to shrink its own footprint, in its latest dog and pony show to market its Risk Sharing bonds to investors. The terms and conditions applied to the Fannie Mae bonds are far less onerous, in transferring capital loss to bondholders, than those attached to Freddie Mac’s equivalent bond issues[ix]. Fannie is therefore undercutting Freddie in the rush to shrink their respective footprints; and by so doing is retaining far more risk on its own books. In a crisis therefore, it will be shown that Fannie’s footprint has not shrunk at all; since it has retained a significant portion of mortgage default risk.
The expansion of the role of the FHFA, to fill the financing void being created by the “Taper” and the shrinking of the GSE footprint, is not without cost however. The FHA signalled that this cost is now a real issue, last week, when it first leaked[x] and then confirmed[xi] that it will be asking Congress for a bailout. Having bailed out the GSE’s and then been “paid back” in dividends, printed by the Fed’s balance sheet and transferred via the GSE dividends back to the Treasury, a new Federal Housing Bailout is advancing by stealth through the “Acronyms” beginning with HARP. This time the FHA has replaced Fannie and Freddie as the sick patient.
The weakness in housing, that emerged in July and which has got the Federal “Acronyms” working in overdrive, was reported to be rolling into August.
Pending Home Sales Index
Released On 9/26/2013 10:00:00 AM For Aug, 2013
One month’s incident may be a coincidence, but two is now becoming a pattern. A third month will confirm a new trend. Pending Home Sales slipped in August, for the third consecutive month. The Campbell/Inside Mortgage Financing Housing Pulse showed a significant drop in momentum in August; especially in the distressed sector[xii].
New Home Sales
Released On 9/25/2013 10:00:00 AM For Aug, 2013
August New Home Sales appeared to buck the emerging trend; however the information was equivocal. July Sales were actually revised lower; and it is now being concluded that falling New Home Prices are stimulating sales volume. The observation of falling prices seems to be the key signal in the report.
In Housing Smoke and Mirrors “On the Contrary” it was noted that institutional investors, like JP Morgan, are using the softness in the housing sector to increase their exposure to it. This observation was supported by the recent analysis by RealtyTrac; which found that Cash Investors were an increasing component of the market as interest rates rose[xiii].
In August, cash sales made up 45% of transactions. Clearly, cash rich institutions and speculators are using the “Taper” weakness as an entry point. Thus far they have been frustrated by the lack of inventory on the market. Distressed sellers in general have been holding back inventory to make prices rise artificially, but is clear that the “Taper Talk” period has reversed this distressed inventory hoarding.
Now the distressed sellers are more motivated and the buyers (especially those with cash) have got pricing power. The Fed has been able to deflate the artificial bubble prices, caused by distressed inventory withholding. The next challenge for the Fed is make sure that the market clears without a significant fall in prices which resembles a crash.
The Fed must be given credit for achieving a scenario of rising house prices, even as the debt deleveraging process is on-going. In doing so, it has avoided a significant deflationary force impacting the economy. The expanded Fed balance sheet is the agency by which this macroeconomic management has been achieved. The Fed is now however forced to deliver on its “Taper” promise; so the power of this tool has been diminished. Going forward, the Fed may need some real weakness in the housing market to justify the application of this tool again. The acme of skill will be engineering this trigger signal without creating another housing crisis.
As we move into the final quarter of 2013 the housing market dynamics are clearly defined. The question of the “Taper” undermines the whole landscape. Upon this landscape are placed the shrinking GSE’s; busily transferring risk off balance sheet onto the Fed before the “Taper” cuts them off. Into this landscape comes the FHA and its “Acronyms” to establish a position in the niche vacated by the GSE’s. The FHA is already cash strapped however; and requires a Federal bailout, even before any new crisis materializes. The whole landscape is buffeted by the fiscal headwinds of the partisan Congress, currently fighting over the Debt Ceiling. Flames of a legal nature, in relation to the last housing crisis, are also beginning to spark. The Federal Reserve and its expanded balance sheet has been the only certainty thus far; and now it is uncertain because of the “Taper” and the introduction of a new Chairman. Suspects, motive and opportunity already exist for the enactment of a new crime.
[i] Mortgage Bonds Reviving Pre-Crisis Structures, Moody’s Says
[ii] JPMorgan Said to Face U.S. Mortgage Securities Charges
[iii] S&L Relic Is Sword of Choice in U.S. Bid to Punish Banks
[iv] Citigroup to Cut 1,000 in Mortgage Business
[v] Housing Smoke and Mirrors (18) – “The Mendacity of HOPE (and HARP and HAMP)” September 22nd 2013
[vi] HARP is a “No Brainer” -FHFA
[vii] Freddie Mac Updates HAMP, Streamlined Mods; Retires “Pay for Success”
[viii] Freddie Mac Issuance Still Refi-Heavy in August
[ix] Fannie Woos Investors as Regulators Embrace Risk-Sharing
[x] FHA May Request Bailout as Early as Next Week
[xi] FHA Required to Take Treasury Draw
[xii] Survey Suggests Market Losing Some Steam
[xiii] Cash Sales Jump to 45 percent in August
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