Housing Bubble Defined: Greed

Greed is supposed to be an ugly word. In the United States, though, it’s often considered a virtue.

But there is little doubt that it was greed that created America’s housing mess. There is plenty of blame to go around, but a case can be made that Wall Street firms hungry for high-return mortgage securities was the demand that generated the supply. Or you could argue that this mess was created by Americans who demanded a lifestyle they couldn’t afford. Perhaps it was both.

Let’s start with Wall Street, which was hungry for high-yield profits needed to reward unrealistically greedy investors. To see how this self-fulfilling greed system worked, read deep into this New York Times story and you discover that Wall Street was falling over itself to buy subprime mortgages.

By 2005 and 2006, financial institutions wanted these crappy securities so bad that it’s no wonder subprime lenders were throwing money at any Joe who walked in off the street. To heck with credit ratings or income levels!

But as early as 2006, risk managers at some of these financial institutions smelled rotten fish. While most couldn’t stop their organizations from buying questionable securities, they instead hedged against them. That’s why Goldman Sachs came out mostly ahead rather than down when its securities started to fail.

Not all banks had such foresight. That’s why you are seeing stories about companies like Citigroup and Merrill Lynch taking billions of dollars in write-downs.

Even more troubling are the mortgages written in 2006, which are failing even before rates reset. Deutsche Bank reports 23.8 percent of those loans are already in some stage of default. Morgan Stanley is reporting that 23.3 percent of their $36.1 billion in mortgage-based securities issued in 2006 are in default.

Can the damage be undone? The Bush Administration seems to think that its plan to freeze interest rate resets will do the trick. Not surprisingly, Democrats think the plan is far too little, too late.

The Bush plan only allows a select group of borrowers to get relief, reports The New York Times. Here’s who would be excluded from the plan:

• Borrowers whose introductory rate expires before Jan. 1.
• Borrowers who could afford higher monthly payments.
• Borrowers who are already delinquent, which currently is 22 percent of all subprime.

I’m not sure who that leaves in the plan. If you can afford your payments your not delinquent and vise versa.

The Bush Administration also is offering some sort of tax relief to cities and states if they issue bonds to buy up bad mortgages. In a way, this makes sense because cities need a way to deal with vacant or soon-to-be vacant homes. On the other hand, it seems like a great way for local governments to go deep into the financial hole.

The Democratic plans vary. Some want to freeze rate resets for seven years while another seeks changes to bankruptcy laws.

I argue that it doesn’t matter that much. You can slow the process down, which actually hurts more Americans than it helps. Or you can let nature take its course.

But let’s get back to greed. During recent boom times, Americans used their homes as piggy banks. In 2004 alone, homeowners took nearly half a trillion dollars out of their home via equity loans or refinancing, reports The Associated Press.

About 58 percent of that money went to home improvements or personal spending while another 27 percent went to pay down credit card debt. That means less than 15 percent of the money was spent on things like medical emergencies.

I’m not against home remodels. We needed one desperately when we lived in California. But we also knew this: we couldn’t afford it. Our monthly mortgage would have exceeded my salary. So we decided against it. One of our neighbors, who put us down for this, refinanced their home to a point they had erased most or all of their equity.

This kind of greed fueled the economy in an unnatural, dangerous way. Remember, salaries have not risen much since 2000. How did Americans plan to cover higher mortgage payments? While I have yet to see how many Americans are in danger of defaulting, I’m sure we will be hearing more about them soon. More bailout plans, anybody?

All of this leads me to the same place I discussed earlier this week: Why should we pay the price for the greed of others?

Comments

[Mark D]

That's a good question, and one that has to be balanced with "how do you protect homeowners with a legitimate beef?" and "how do we do it without wrecking the little house of cards our entire speculative financial system is based upon?"

The only reason to freeze rates is that banks can find a way to shore up their assets. Period. All it does for homeowners is delay the inevitable. And the declining housing market means they're just losing money.

The big problem on the consumer side is all those people who didn't realize they couldn't just walk in and refinance their mortgage. They didn't read the fine print.

Hell, The Mrs and I are pretty astute, yet had to call our lender to make sure our 7-23 was all good. It is (they're local and very, very trustworthy).

The broker side has YSPs. People think brokers are working on their behalf and never know they're being screwed.

And then, of course, Wall Street, which has always needed rich people to work like it should. Well, they found a way to make billions off of poor people, and too many people decided they wanted a piece, failing to realize there wasn't enough for everyone.

Or, like you posted, "greed."

Now, I absolve a lot of homeowners who just got rooked by some sleaze, or like most Americans, simply lack the financial knowledge necessary to make such a big purchase. FinEd should be MANDATORY in all high schools and colleges, but not sure the powers that be would want that. /snark

Oh, and the ones who flipped houses -- which will be easy to separate due to public records -- can rot.

Sorry for the thesis ... :-)

[brettdl]

All good points Mark. I've harped in the past that one of the reasons so many people do get duped is they get an inadequate financial education in school.

[Mortgage Refinance Blog]

There are actually a number of different plans people can qualify for besides this rate freeze. HopeNow is only one of them, there is a FHASecure, Mortgage Relief Fund and other. You can easily figure out what
subprime relief program a home owner can qualify for.

[brettdl]

Thanks.