MuBiS, Credit Fears, & Housing Woes

Posted by urbandigs

Thu Jul 26th, 2007 10:38 AM

A: The markets are rattled. There is a flight to quality going on right now into bonds sending bond prices higher and yields lower out of fear for growing problems in the RMBS (residential mortgage backed securities) markets, credit markets, and housing industry. Is it warranted? Sure. Is it just beginning? Not for housing it isn't. Will the markets absorb the shock and bounce? Again, I really don't know. What I do know is that the source of fears that are combining forces right now to cause this pain in stock market prices is NOTHING NEW! I have discussed this time and again on the site. However, as time goes on it seems the problems get more and more real and that is what is causing uncertainty to take over. And the tradable stock markets HATE uncertainty causing a flight to quality in the bond markets.

Lets go one by one.

MuBiS - A term I'd love to coin! Instead of Mortgage Backed Securities, why not call it Mortgage Unbacked Insecurities? That is more in line with what is going on! You see, when you take out a mortgage it doesn't just stay with the lender the entire term of the loan. The most profitable time period for a new loan is the very beginning when the interest costs are the highest. In all amortized loans, as time goes on you pay less and less interest and more and more principal. So, a common loan product may have up to 3 or 4 changes of address or parents so to speak as it gets packed up and resold on the open mortgage markets.

What you need to know is that liquidity is starting to DRY UP in these mortgage backed securities markets making it more and more difficult to find a new buyer of a packaged loan. Get it? As liquidity dries up, less options are available to consumers as fewer and fewer buyers of the loans are available. In other words, credit is tightening and the CDO (Collateralized Debt Obligations) and MBS markets are helping drying it all up. Hence the concerns.

For more on this, read Barry Ritholtz's site The Big Picture daily for in depth reporting on these markets. Some of his MBS posts on the topic:

The Great Credit Contraction of 2007

CDO Hedge Funds = Enron

10 Questions About CDO's

Credit Crunch / Liquidity Drying Up? - A number of private equity deals are having trouble securing credit and financing to make the deals work! I reported a few days ago on the growing trend of so called cov-lite loans (article titled, "Buyout Boom Brings Reason To Worry" that I published 6 days ago!) in which the banks were stretching to do deals with loan types that favored the borrower and increased risk for themselves. Fears are starting to ripple through equity markets much sooner than I thought!

In today's Forbes article titled, "Crunch Time":

What started in the subprime mortgage bond market earlier this year is filtering into the broader credit markets, but the nervousness is less a sign of deteriorating credit quality--defaults are at historic lows of 0.3%, according to Coffey--and more an oversupply issue.

Reuters Loan Pricing estimates $134 billion in leveraged loans in the syndication pipeline, up from $42 billion last year and $24 billion the year before. That reflects the boom in leveraged buyouts over the last year.

At the same time dozens of deals like the Chrysler and Alliance Boots loans, have been postponed or canceled in the weeks since investors started getting spooked about credit quality concerns in the mortgage bond markets.

Thirteen loans have been pulled from the market, according to Reuters Loan Pricing, including $4.9 billion in so-called covenant lite loans for the LBO of U.S. Foodservice, $4.5 billion of covenant-lite loans for the ServiceMaster (nyse: SVM - news - people ) deal, and $1.3 billion in loans for the Swift & Co. takeover. All three deals stuck the banks with bridge loans that could not be sold.
There IS a reason why I discuss stuff like this on a NYC based real estate site! Here are some of my past posts on the credit crunch topic:

Credit Crunch: Tighter Loan Standards

Lenders Starting To Tighten

Housing Woes - Housing across the nation has got some serious issues! Did anyone catch the statement by CEO of Countrywide Financial yesterday who compared the current housing appreciation environment as the 'worst since the Great Depression'? Anyway, everyone must understand that housing is an illiquid investment. That is, it takes time to sell and convert the asset to pure cash; as opposed to say a stock. Therefore, when the market turns from such a huge runup over the past 5-6 years, it will take some time to play out! We are arguably about 2 years into this national housing correction and it very well may take another 2-3 years to reverse the underlying fundamentals that are causing such pain; i.e. high inventory, tighter credit, still high prices. To use an analagy, when you take such a large ship that is going so fast driven by one small propeller, it will take a while to slow it down and turn!

Here are some of the recently release datasets for housing industry:

New Home Sales Sink 6.6% in June
The pace of new home sales was weaker than expected in June, according to the government's latest look at the battered real estate and home building market.

New homes sold at an annual pace of 834,000 in the month, down 6.6 percent from the revised 893,000 rate in May. Economists surveyed by had forecast sales would slow to a 900,000 annual sales rate in June.
Pace of Existing Home Sales Slump; Prices Tick Up -
The pace of existing home sales fell to a more than four-year low in June, according to the latest reading on the state of the battered real estate market, although year-over-year price comparison showed the first uptick in nearly a year.

Sales of existing homes slowed to an annual pace of 5.75 million in June, according to the National Association of Realtors, compared with the revised 5.98 million sales pace in May. It was the slowest pace of home sales since November 2002, as rising mortgage rates and problems in the subprime mortgage sector continue to put a squeeze on financing.
UrbanDigs Says - In my opinion, Inventory, Wall Street & Jobs are the most direct fundamentals to the sustained growth of the Manhattan real estate marketplace in this past housing boom! Right now, this is what is supporting us and at the same time these fundamentals are the biggest threats to keep your eyes on! Should wall street flounder, resulting in a loss of jobs and high end salaries then it is very possible that more and more inventory will hit the marketplace at the same time that buyer demand loses a big umph. So far it has not happened and even a few down days on wall street is not a trend make as we are only off record highs of the Dow by a few hundred points. However, where we will be in 6 months is another question. If you see stocks get killed, chances are that will start a chain reaction of events that would directly impact our housing market that has been so strong in the face of multiple adversities happening outside our city!