Prime Deliquencies Accelerating: A $4.5Trln Market
A: The delinquency problem has been spreading to higher quality debt classes for some time now. It is not new but seems to be something lingering out of mind right now. Since prime loans make up '80% of US bank exposure to mortgages + credit card loans', its something worth keeping our eyes on. According to the latest T2 Partners report the total size of the prime market is about $4.5Trln. As the lower end of the national housing market starts to stabilize and even improve from uber distressed levels, its the higher end market that is yet to see the same level of re-entry activity. This is probably a force that will last for a while as move-up buyers are not part of any near term housing recovery.
First the news via WSJ, "Troubles For 'Prime' Borrowers Intensify":
Rising delinquencies on prime mortgages helped drive the total mortgage-delinquency rate to a record 9.24% in the second quarter, according to the Mortgage Bankers Association. The data reflect loans at least one payment past-due.Take a look at this chart presented in the latest T2 Partners report in July, showing us the size of the prime mortgage market:
Such delinquencies on mortgages made to prime customers rose 5.8% in the second quarter, compared with a rise of 1.8% among subprime customers. Still, the delinquency rate for prime loans was 6.4%, far below the 25.4% rate for subprime loans, according to the Washington-based trade group.
I believe that total includes all whole loan originations + all refinancing activity for prime borrowers. The scary thought lies in the appreciation levels that some of these higher end properties saw during the boom. How much of that was cashed out when MEW was the hot thing to do? Now that the high end home is worth significantly less, the debts still remain. In a rising unemployment environment, its only a matter of time for prime borrowers to start running into debt service problems. And we are seeing that now.
Its the lower end to mid end of the national housing market that is seeing the most activity and the most stabilization. The pace of destruction in home prices for these segments were not sustainable and a natural market rebound can be expected as investors and first time buyers take advantage of attractive prices and government tax credits. But the higher end is still adjusting. This is due to a combination of lack of credit availability in the high end market + tighter lending standards for higher end property + misaligned price/rent affordability ratios for higher end + a shrinking buyer pool that can qualify and close for a higher end property.
One major element that is missing from the higher end market nationally are the move-across and move-up buyers! No longer are people taking profits from their mid sized homes to put that towards a higher end move-up purchase and financed by an easy credit system.
Calculated Risk has covered this absence of move-up buyers in detail as 70% of total sales in Q2 were first time buyers taking advantage of gov't tax credits and investors (click for larger image):
"According to the Campbell survey over 70% of sales in Q2 were to first-time buyers and investors.Lots of things to put together to get a clear bigger picture view of what is happening out there. Prime is part of Wave 2 concerns discussed here. The banks raised a ton of money and still have a steep yield curve to benefit them with higher earnings potential to help build a nice cushion for absorption of future loan losses. The question is when does the second wave of pressures start to be a real burden on the balance sheets of our bigger financial institutions. Since stock market indexes are what most people use to gauge the health of our economy, I think we still have some improving data from fiscal/monetary stimulus and inventory restocking to get through before we see equities adjust to these fundamental issues that don't seem to go away.
Although we don't have historical data for distressed properties - or buyer types - this does suggest a market that is far from normal with few move-across or move-up buyers. "
Posted by anonymous
Fri Sep 4th, 2009 05:09 PM
It's not really that bad:
http://www.zerohedge.com/article/if-you-believe-all-negative-hype-about-commercial-real-estate-ive-got-few-thousand-vacant-of
Posted by Noah
Fri Sep 4th, 2009 05:56 PM
well that was in regards to commercial, which has seen a big improvement in bids for cmbs over the course of this rally from march lows. I still think it will come back to bite a bit, but not nearly as much as I originally thought say 6 months ago
I wonder if he has the same sentiment for prime whole loans and securities
thanks for the link!
Posted by Rick Arvielo
Sat Sep 5th, 2009 04:40 PM
Thanks for the information
Posted by anonymous
Sat Sep 5th, 2009 04:40 PM
Thanks for the info
Posted by TJ
Sat Sep 5th, 2009 05:01 PM
Hey-
I love your website and have been reading it for a while. i felt the need to comment on the Whitney Tilson charts - I just don't find him a terribly reliable source. This chart of the debt market is riddled with errors and, I suspect, fairly out of date.
T2 partners have numerous double counts, such as option arms and Alt A, jumbo prime and prime, sub prime and home equity. It is possible that these were just mistakes and it is also possible they are deliberate for the sake of exaggeration.
T2 is also big on scary headlines - "The mother of all headfakes" and "the coming second wave disaster"... but short on analysis for why the second wave will occur.
i agree that defaults will increase in higher end properties and that prices will continue to decrease in regions like new york. i am not so convinced that we will see the same sort of calamitous skyrocketing of defaults, however. the subprime and alt A defaults were triggered by bad underwriting - borrowers in loans and homes they couldn't afford. this type of issue tends to burn off after a few years, as we have seen with the subprime crisis.
careful analysis of Alt A and prime loans will reveal that there is not a this time a big risk of payment shock (excluding option arms, which were not that popular in the new york area) and that the borrowers in prime loans and high end properties were in better underwritten loans - thus less exposed to the default triggers that affected so much of subprime and alt A loans.
in general, i am suspicious of the motives of Tilson - why is he so up in arms about this? could it be that he has a deep financial position in being short? (if so, he would be eager to have bonds connecting to these bonds continuing to decline in value) or is he just worried about us?
either way, i think his reports lack substance and are mostly about the scary headlines.
just my opinion, take it for what it's worth.
Posted by Noah
Sat Sep 5th, 2009 06:22 PM
TJ - thanks for the comment. You know I kind of feel the same way. I only used his charts 2-3 times to show the size of the total market by debt class. I assumed it was somewhat accurate, not pinpoint of course. I think it is overstated though.
Also, he doesnt talk about the massive amounts of money the banks raised and the fed engineered environment that has been in place for some time now. That is very helpful for banks and will continue to be. It does seem like they have an agenda with all the charts and look at only one side.
I would really like to know the accurate size of the prime loans, whole and securitized, and commercial and privat equity finances LBOs...those 3 are what concerns me for later on. But for now, banks raised too much money to be in trouble today. They could absorb losses for a few more quarters at the least. I think its a late 2010 or even 2011 problem.
Plus we do have stimulus, natural market (less worse) and inventory restocking pressures that will make data better for a while ahead of us. How long equities are supported by that is a great question to ask, if the markets look ahead 4-6 months. When does that uumph, start to fade?
Thanks again for raising this topic! I think I agree. My buddies and I look at those reports and ask ourselves if the markets should be 60% lower if they were all true and nothing else mattered.
Posted by Alexis Jameson
Mon Sep 7th, 2009 09:24 AM
Really good information ! Thanks a lot for this useful post !Good post!
You should write more about this!