May 27, 2013

The Greedy Calling That Will End In Tears

Readers suggested a topic on interest rates. “How much higher will thirty-year Treasury yields go up from here in the near future? And btw, in the absence of extreme intervention, long-term Treasury yields are roughly about 99% correlated with 30-year mortgages. 30-yr T-bond yields, 5/01/13 2.83, 5/23/13 3.20, + 37 bps increase over 22 days. It doesn’t look like a big deal until you run the numbers on how much somebody who bought a 30-year T-bond on 5/01/2013 had already lost by yesterday. Answer: 7.1% and growing.”

One said, “FNMA is up 892% and FMCC 822% over the last three months. Why now?”

A reply, “Of cours they’re profitable, considering that they pay nothing for the government-backed insurance that they sell to others, and have an unlimited ZIRP credit-line to draw upon if losses ever come down the pipeline. That’s like a license to steal.”

The Plain Dealer in Ohio. “The lowest mortgage interest rates may be behind us. Rates have increased each of the last few weeks and are up a quarter-point from three weeks ago, and that seems to be dampening some of the refinance bonanza. ‘Mortgage rates increased to their highest level since March last week, leading to the largest single week drop in refinance applications this year,’ said Mike Fratantoni, the Mortgage Bankers Association’s VP of research and economics. Refinance activity has dropped by 19 percent in the past two week and is at its lowest level since March.”

“Purchase volume, however, is up about 10 percent from this time last year. About 32 percent of refinance applications are for the Home Affordable Refinance Program, the government-sponsored effort to allow people to get approved for lower-interest-rate loans even if they owe more than the home is worth.”

From Yahoo Finance. “One sure sign of a housing bubble is home affordability that’s considerably worse than long-term averages. At current interest rates, which are below 4 percent for the most creditworthy borrowers, no big city stands out as having a bubble. But prices are rising by double-digit percentages in some areas, which obviously makes homes more expensive. And if mortgage rates rise to 5, 6, or 7 percent — which is quite possible once the Federal Reserve begins to tighten its loose-money policy — it would harm affordability and possibly undercut the entire housing recovery.”

“Research firm Zillow has estimated what will happen in 30 big housing markets if mortgage rates rise. If rates hit 5 percent, six of those markets will have affordability worse than historical averages, qualifying as modest bubbles. At rates of 6 percent, the list swells to 11 cities. At 7.1 percent (the long-term U.S. average), bubbles would become more pronounced, and undoubtedly problematic. As the following chart shows, bubbles would be worst in San Jose, Calif.; Los Angeles; San Diego; San Francisco; Portland, Ore.; Denver; Riverside, Calif.; Miami; Seattle; and Sacramento.”

“It’s nothing like a normal housing market. The recovery has been fueled by artificially low interest rates engineered by the Federal Reserve, and virtually all new mortgages these days are underwritten by the back-from-the-dead federal agencies Fannie Mae and Freddie Mac. Worse, more than one-quarter of all homeowners with a mortgage are still ‘underwater’ on their homes. Since those people would lose money if they sold their homes, they tend to keep them off the market, which constricts the supply of homes and pushes up prices for those that are on the market.”

“Those types of distortions are what may be causing another bubble. It may not be apparent now, but the test will be what happens if interest rates rise by 2 or 3 percentage points, which many economists think is likely during the next several years. Mortgage rates of 6 or 7 percent, compared with less than 4 percent now, would still be in the normal historical range, but they could dramatically change the equation for buyers.”

“‘No doubt you can buy a house today and get a really good price and a low-interest loan,’ Jeff Greene, president of Florida Sunshine Investments, said at the recent Milken Institute Global Conference in Los Angeles. ‘But if you want to sell that house to somebody two or three years later and he doesn’t have a 3 percent loan, how much is he going to pay for that house?’”

From Reuters on Canada. “The Bank of Canada should raise interest rates now because five years of low rates are creating distortions in the economy, such as excessive debt and an overheated housing market, a former advisor to central bank Governor Mark Carney said. Paul Masson, now a professor at the University of Toronto’s Rotman School of Management, said the central bank should tighten monetary policy to lean against asset price bubbles rather than focus exclusively on inflation.”

“‘Some of the symptoms of inefficient investment and asset price bubbles are already evident in Canada, in the housing sector for instance,’ Masson said in a paper published by the C.D. Howe Institute, a think tank. Masson said financial imbalances and risky investment decisions are spreading. In addition to the overheated housing market, he cited record-high levels of household debt. ‘The longer the boom lasts, the more likely it will end in tears,’ he wrote.”

The Otago Daily Times in New Zealand. “Flat-screen televisions, cash for groceries and even iPads - banks are competing to offer more attractive prizes to sweeten home loan deals as higher interest rates are forecast. Finance Minister Bill English yesterday warned higher interest rates were expected late this year or early next.”

“Economic commentator Bernard Hickey said similar giveaways were seen during the 2002-2007 property boom. ‘But then, the banks tended to simply use price as their main way to win market-share. This time, they are being a bit more cautious about that, mainly because they want to preserve their profit margins. The cost of such incentives were often simply added on to the mortgage, Mr Hickey said. ‘What they are doing with these offers, is essentially buying your business with your money.’”

The Advertiser in Australia. “I’ve just finished writing a song that celebrates something loved by property owners everywhere. You can sing it to the tune of O Christmas Tree or any other motivational rock anthem that you like. It goes a little somethin’ like this:”

“O interest rates, O interest rates, you’re groovy when you’re falling,
O interest rates, O interest rates, we want you to keep falling,
‘Cos 3 per cent is nice and low, but two per cent is better,
O interest rates, O interest rates, please hear our greedy calling.”

Bits Bucket for May 27, 2013

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