Double Journey

Before the crash came, I remember real estate agent after real estate agent saying what a great time it was to buy into a house.  If you didn’t buy soon, you would soon be priced out forever.  Housing was the best investment ever (it isn’t) and it would never go down because it never had.  Hurry, buy now.

The latest housing numbers are pretty grim.  New housing starts fell to their lowest levels since the started tracking the number.   Housing in my neck of the woods is down 27% year over year (they aren’t down enough).   Yet I keep hearing real estate agents say that now is the best time to buy.  Their reasoning, prices have dropped so much and there is so much choice for buyers.  What does that make real estate agents?  Are they just dumb because they couldn’t see the fall of housing coming when it was pretty evident to anybody who was paying attention.  Are they just naive because they don’t understand how horrible the current situation is and how much worse it is going to get.  Or perhaps they are just like every other sales guy out there, willing to lie and say whatever it takes to get a sale.

I keep looking at housing prices in my city, and they just aren’t all that great.  There are some houses which aren’t outrageous, but none I would say is affordable, and I earn way more than the average American household.  For me, I would need to see prices drop at least another 30%-40% from here before I would even consider buying.

For the most part, I haven’t talked too much about the housing mess that is causing a ripple effect in the rest of the economy. This despite the fact that I actually have pretty strong feelings on the subject. Government plans to help troubled borrowers are growing by the day. Local news story are constantly featuring poor borrowers who were “tricked” into buying a house or worse yet felt they have a right to own their house despite the fact that they could never afford the payments.

Despite all the sob stories, I will admit I feel very little sympathy for most people. If you count my girlfriend and I as a household, we are in the top 5% of households in terms of income. Yet we have deliberately stayed out of the housing market these past few years because it was very clear to any rational person that housing prices were over inflated. If we could barely afford payments on a standard loan on a regular house, how was anyone else affording it?

The answer is they couldn’t. These people took out loans that they would eventually not be able to afford or could never afford in the first place. That’s why I don’t feel bad for most people. The people I really don’t feel sorry for are

• Anyone who took out a stated-income (liar’s) loan.
• Anyone who refinanced their house and took equity out to pay for consumer goods they didn’t need like a new car or vacation.
• Anyone who didn’t read the fine print and who uses it as an excuse
• Anyone who bought a 2nd house as an investment (Investments lose money.  They are risky, it is the nature of investing)

How anybody can feel bad for someone who took out a liar’s loan is beyond me. They are called Liar’s loans for a reason. There is a reason that banks require documentation of income for loans. They want to be sure that you can actually pay the loan back. Most people’s income is documentable. So the only reason for most people to use a stated income loan is that they in fact can’t afford the loan they are applying for. How much common sense (or maybe it is lack of common sense) does it take to not get into one of these loans?

As for the third one, people who argue they didn’t read the fine print. Can’t really feel bad for those people either. It is the biggest purchase you will ever make. You need to take the time to understand what you are getting into. If it is too difficult for you to understand, find somebody who can understand it. You can not trust your real estate agent or mortgage broker on this one. They have a vested interest in making sure you sign the loan and structuring it in a way that makes them the most money.

So while it may sound harsh and somewhat cruel, I really do hope our government does nothing to help people out of a mess they got themselves into. While I’m sure there are rare and isolated cases where people were deceived, I believe this not the norm and there are avenues of recourse for people who were legitimately deceived. But anything close to a wholesale bailout for those who should have known better is akin to rewarding stupidity. It makes me think of the movie Idiocracy where stupid people breed the smart people out of existence.

The Just One story is easy for me today. The Bush administration announced a plan which would essentially freeze interest rates in hopes of stemming the tide in an otherwise rising wave of home foreclosures.

It would essentially classify homeowners into a few different buckets. To make a very complicated story short, homeowners who have mortgages that have rates which will reset in the next two years and can not afford the reset, will get a reprieve from the rising interest rate they would have otherwise had to pay. Those who can afford it won’t get it (how this is determined is beyond me) and those who could have never afford even the lower rate won’t get it.

Another sticking point is to figure out a way to get investors who bought these securities to just bend over and take this. Imagine if someone promised to give you $10 a month for a year and then $30 a month every month after that. Then, when it comes time to start the $30 month payment they say, “Just kidding!”. Well that is what this plan is doing.

What about all those homeowners who complain they didn’t know what they were getting themselves into? Well I don’t feel a lot of pity for them. This was the biggest purchase they will ever have, and they didn’t try and understand what they were buying? People like me, who were careful with my money and didn’t buy when everyone else was going crazy now have to pay for this (yes we all pay for it). Doesn’t seem really fair to me. Further, the economist in me knows this plan will cause Moral Hazard going forward. Basically future homeowners will know that the government will bail them out, causing more people to take on riskier loans. Moreover, investors will suspect the same thing, and demand higher interest rates, thus making mortgages for all more expensive.

So how do you play this in the market? Still wouldn’t touch financials or stocks related to housing here. In fact, I would wait for them to bounce, and they will bounce, and then short into strength. Names like Toll Brothers were up 13% today, I think you let them go a little higher, and then short them. This mess isn’t anywhere close to over.

What do you think? Do you think this is a good plan that the government should support? If not, what would you let happen?

More Info:

Details of Plan

Pimco Manager criticizes plan.

Six Quick Thoughts