Mortgage workout process not working out?

Several days ago, I highlighted a Moody's study about loan modifications -- the process by which a lender attempts to work out a troubled loan by modifying certain loan terms. The conclusion reached by Moody's: The workout process isn't exactly firing on all cylinders. The firm found that only 1% of adjustable rate loans that had hit a rate/payment reset date through July of this year had been modified.

Now, the New York Times has weighed in with a detailed piece about how many borrowers are having trouble getting their lenders to budge. The story zeros in on Countrywide Financial, which services $1.5 trillion in home loans. It's not perfect, but it does help illuminate some of the ins and outs of the workout process.

Name that chart

Quick, let's play a game of "Name That Chart." Without looking at the header on this chart, or the name of the image file, can you guess what it shows? Alright, time's up. It's the U.S. Dollar Index -- the index that tracks the value of all those greenbacks you and I hold. That horizontal line represents the all-time DXY low from September 1992. As you can see, we're punching through it to the downside in today's trading.

Say what you will about whether the Fed's drastic rate move was the right thing for the housing market or the U.S. economy. But it sure looks like exactly the WRONG thing for the U.S. dollar. Oh, and have you seen the price of oil yet? Wheat? Soybeans? Milk? Eggs? The price of these commodities and goods is rising as a direct function of the dollar's meltdown.

The Fed can pretend all it wants that this stuff doesn't matter (remember, it's not "core" inflation). But as this great story in the Wall Street Journal points out, the rising cost of food does impact our lives. And this dollar stuff does matter.

The construction industry's split personality

We just got data on August construction activity and the industry's split personality continued to manifest itself. Specifically, residential construction spending dropped yet again -- by 1.4% from July and 16% from August 2006. Meanwhile, non-residential spending rose 1.6% on the month and 14.7% on the year. Looking deeper into the numbers, there were big increases in private spending on lodging (+4.2%) property, office buildings (+3.7%), and health care facilities (+2.1%).

This Bloomberg story has some more details, with my thoughts on the matter. Also, if you haven't seen it already, this Chicago Tribune piece goes into more detail about the new home sales data and what the housing slowdown may mean for the broader economy.

Some belated thoughts on this morning's new home sales figures

I'm out of the office today, so I haven't had a chance to comment on the August new home sales figures until now. Maybe that's a good thing. After all, my mom taught me that "If you can't say anything nice, don't say anything." Too bad it's my job -- here's my take ...

* Sales plunged 8.3% between July and August to a seasonally adjusted annual rate of 795,000 units from 867,000 in July. The August figures were also down 21.2% from a year earlier (1.009 million SAAR), worse than forecasts for a SAAR of 825,000, and the lowest since June 2000 (793,000). If you exclude that month, you have to go all the way back to December 1997 to find a month with slower sales.

* The inventory of homes for sale slipped 1.5% to 529,000 from 537,000 in July. That was good for a reading of 8.2 months supply at the current sales pace, up from 7.6 in July and just shy of the cycle peak (8.3 in March of this year).

* Here's the big story: Median prices tanked 7.5% from a year ago -- to $225,700 from $243,900 in August 2006. Prices were also down $20,500 from July.

The mortgage crisis that began festering in July struck with a vengeance in August, according to the latest new home sales figures. Both sales and prices fell off a cliff as home builders and home buyers were forced to adjust to the tougher operating environment -- one marked by fading buyer confidence and tighter financing conditions.

If there's a bright spot, it's that the absolute number of new homes for sale is starting to decline fairly steadily. That's a sign builders are cutting back on production and adjusting their prices to today's market. Unfortunately, inventory is still about 200,000 units too high. And in the existing home market, sellers appear as clueless as ever. They're trying to hold the line on prices -- and the supply of homes for sale keeps setting new records as a result. My long-standing call for a lousy housing market until at least late 2008 -- and possibly into 2009 -- looks right on target.

August existing home sales drop 4.3%

Anyone who has been following the mortgage and housing markets closely knows they've been in a state of turmoil. Now, we're starting to get "official" data showing the impact of that turmoil. Today, it was August existing home sales figures from the National Association of Realtors. According to the NAR ...

*Sales dropped 4.3% to a seasonally adjusted annual rate of 5.5 million from 5.75 million in July. That was roughly in line with economists' forecasts for a 4.6% decline to 5.48 million. The August sales rate was down 12.8% from 6.31 million a year earlier, leaving it at the lowest level since August 2002.

* For sale inventory came in at 4.581 million single-family homes, condos, and co-ops. That was up 0.4% from 4.561 million in June (previously reported as 4.592 million units), and up 19.2% from 3.844 million in August 2006. It's also the highest level on record. Single-family only inventory is running at 3.92 million. That's about 2 million more units than was common in the 1990s and early 2000s, and about 900,000 more units than we had listed at the previous peak in the 1980s, per this long-term chart.

* On a months supply at current sales pace basis, inventory was 10 months, up from 9.5 months in July (previously reported as 9.6) and up from 7.3 a year earlier. We have a longer history of months' supply figures in the single-family only market. Using that reading (9.8 months), we are the most oversupplied since May 1989 (also 9.8 months). We haven't seen a worse reading since February 1988 (10.3).

* Median prices dropped 1.8% $224,500 in August from $228,700 in July. July's figure was previously reported as $228,900. On a year-over-year basis, prices were up marginally (0.2%) from $224,000 in August 2006. That snapped a record 12-month run of YOY home price declines.

We were expecting bad housing data and that's exactly what we got -- sales fell to the lowest level in a half-decade, while for-sale inventory ballooned to yet another high. To me, the supply story is absolutely essentially. We have the highest absolute level of inventory ever, and the most single-family home inventory on a months supply basis in more than 18 years.

The only way we're going to "clear" the market is by sellers getting realistic. We're starting to see prices come down in some cities, according to the Case-Shiller data. And home builders that are willing to price homes to move -- like Hovnanian did recently -- are clearing some inventory. But too many sellers are sticking to their guns. The end result is today's mammoth inventory glut. Until we get supply and demand into better balance, home prices should stay on a slippery slope lower.

S&P/Case-Shiller index for July -- prices down 3.91% YOY

Every month, S&P and Case-Shiller release data on home prices (PDF link). They have indices that track what home prices are doing in major cities around the country. The group's 20-city index showed ...

* Home prices fell 0.45% between June and July. That was worse than the 0.38% decline in June and the biggest monthly drop since January (-0.5%)

* On a year-over-year basis, home prices fell by 3.91%. That was a larger decline than the 3.42% fall we saw in June, and the sharpest drop yet for this down cycle.

* Of the 20 cities in the composite index, 15 showed a YOY price drop (the same as in June). Leading the decliners again was Detroit (-9.69%). The next worst-performing markets were Tampa (-8.77%), San Diego (-7.78%) and Phoenix (-7.3%). The country's strongest upside performers were Seattle (+6.86%) and Charlotte (+5.97%).

* Lastly, the group has maintained a 10-city index for a longer period of time than the 20-city index. The 10-city measure showed prices off by 4.5%. That was the worst year-over-year decline since July 1991. The biggest decline on record was -6.3% in April of that year.

The ongoing housing slump deepened in July, according to these figures, and there are plenty of reasons to believe home prices will continue to decline. After all, mortgage standards have tightened up, for-sale inventory levels are off the charts, and home prices are still high relative to incomes.

What about the Fed rate cut? It's still an open question as to whether that will help with sentiment or financing costs. So far, we've seen a "split reaction" in the mortgage market. Some market rates that short-term ARMs track, like LIBOR, have come down. But long-term Treasury note and bond yields have risen, putting upward pressure on 30-year fixed mortgages.

Housing hammer falls at Lowe's, Lennar ...

We're getting into earnings confessional season and so far, the news ain't so good on the housing front. Two key companies had profit bombs to drop within the last 24 hours ...

* Lowe's Cos., the home improvement retailer that competes with Home Depot, said profit will come in at the low end -- or below -- its previously issued, per-share earnings guidance range of $1.97 to $2.01 per share. The company cited drought conditions in its warning, but I don't think it's a stretch to say the housing market downturn is the real problem here.

* The news out of home builder Lennar was even worse. The company reported a whopping $513.9 million net loss in the third quarter, a huge swing from $206.7 million in profit in the year-earlier period. Bloomberg is calling it the largest quarterly loss in Lennar's 53-year history.

* Some of the details: The company has cut 35% of its workforce. It offered $46,000 per home in incentives on houses delivered in Q3, up from $35,900 a year earlier. And it took $857 million in write-offs and valuation cuts to goodwill, investments, land option deposits, land, and finished homes. That compared to $76 million a year earlier. But perhaps the biggest shocker was the decline in new orders. They were down a whopping 47.5% year-over-year.

Still to come today in the sector: The July S&P/Case-Shiller Home price index and August existing home sales.

So where are all those "Mod Squads?"

A few months back, Bear Stearns highlighted the existence of a "Mod Squad" at its EMC Mortgage division, which services subprime home loans. The idea was that this Mod Squad would proactively contact borrowers in an attempt to head off foreclosures by modifying their loan terms.

I'm not sure how well that effort is going at EMC. But a new report from Moody's Investors Service suggests the industry as a whole is doing a pretty poor job getting out in front of the problem and modifying loans. Moody's just put out a note saying it surveyed 16 subprime loan servicers that handle a total of $950 billion mortgages. It wanted to find out what they were doing for borrowers who either already experienced an interest rate reset in 2007 or who will face one later this year or sometime in 2008.

The answer? Not much. Per Moody's: "The survey showed that most servicers had only modified approximately 1% of their serviced loans that experienced a reset in the months of January, April and July 2007." Moody's also noted that some servicers were actually calling borrowers who faced resets, but most were still just sending them letters - a more passive approach.

How big of an impact are resets having on loan performance? And how many loans are facing resets? Glad you asked. Moody's says (emphasis mine) ...

"Some servicers reported that they could experience in a given quarter interest rate resets
on loans which constitute up to 15% of their portfolio during the period from late 2007 to early 2008. In addition, data from a limited subset of servicers indicated that for loans that were current prior to reset and were not modified, the average delinquency rate after reset was in the 5% to 15% range. However, these results are for loans that were made in early 2005. Those loans were of generally higher quality than loans that were issued later in 2005 and in 2006 and had greater refinancing opportunities as they were not as impacted by the negative home price environment. Moody's expects delinquencies will be higher for subprime loans backing securitizations issued in late 2005 and in 2006 and that reset without modification."

Lots of potential solutions to the mortgage mess are being discussed right now. Fannie Mae and Freddie Mac will likely be allowed to expand their loan portfolios. The FHA mortgage program is going to be modified so more troubled borrowers can refi into a government-backed loan. And Congress may raise the conforming loan limit so mortgages that are currently considered "jumbos" could be purchased by Fannie Mae and Freddie Mac (something that would lower the rates on those loans).

But when it comes down to it, loan modifications are supposed to be one of the best solutions. That makes this report from Moody's troubling to say the least.

Long Bonds suffer worst day in almost four years

Just as an update to my last post, the continuous long bond futures contract is now down more than a point and a half in price. That's a move of 1.4%, the worst one-day shellacking since March 22, 2005 (-1.49%). 10-year T-note yields are up 12 basis points to 4.67%. Oil at $83.25, up about $1.40 (though the dollar is off its lows, with DXY recently down 0.82%).

FINAL UPDATE: Long bonds closed down a stunning 1 24/32 on the heels of a 1 point decline yesterday. Today's 1.57% rout was the worst going all the way back to September 22, 2003

Watch that dollar and watch those long rates

I want to show you two charts -- the first is of the Long Bond continuous futures contract. The second is of the Dollar Index. They illustrate the price action in both of these markets over the past three days. Keep in mind the Fed announcement came out at 2:15 p.m. or so on the 18th ...

Chart #1 (Long Bond Futures):

Chart #2 (Dollar Index):

Notice anything here? Both instruments are getting pounded! It's easy to see why -- the Fed is aggressively cutting interest rates in an environment where oil is at $82 a barrel and counting ... where gold is trading at its highest level in 27 years ... and where the dollar is on the edge of a precipice. The all-time low for the DXY was set in September 4, 1992 at 78.19 -- we were recently trading at 78.74. (Speaking of the dollar, we're now learning of risk that Saudi Arabia and other Middle Eastern nations could de-peg from the greenback. See this Daily Telegraph story for more details).

Then there are all the agricultural commodities -- wheat, soybeans, etc. -- that are trading at or close to all-time highs. In fact, the only place we're not seeing inflation is in the Consumer Price Index, which, as we all know, is 100% accurate and completely reflective of what we're all seeing in our daily lives (ahem...)

Look, markets are markets. They can change on a dime. So maybe this is much ado about nothing. But it seems to me the Fed is playing with fire here. Aggressively cutting interest rates may make the Wall Street crowd happy because they can now get out of -- or modify -- some of their aggressive takeover deals, their stupid debt investments, and their highly leveraged derivatives bets. It might even help with their confidence -- and according to the New York Times, things are really shaky there. In fact, $48 million Hamptons estates are no longer selling! The horror.

But at the same time, it runs a real risk of pushing the dollar off a cliff. As for mortgage borrowers and homeowners -- ostensibly, the constituencies the Fed is trying to help -- these rate cuts are a mixed bag. As I spelled out yesterday, lower short-term rates may help out some borrowers. But with both 10-year Treasuries and 30-year Treasuries falling in price, it's likely long-term fixed rate mortgages will get more expensive.

UPDATE: Right now, the DXY decline in percentage terms is 0.92%. That is the single-worst daily decline since 11/24/2006 – That was around the time of the dollar's “Thanksgiving week massacre,” when the euro surged from around 1.28 to around 1.34 in just a matter of days.

What the Fed's rate cut does -- and doesn't -- mean for mortgages

Ask a layperson to explain what a Federal Reserve rate cut means for mortgages and you'll probably get a simple answer: They get cheaper! But the reality is a bit more complex. Depending on the type of mortgage you're talking about, the rates being charged could fall in lock step with the Fed cut ... the rates could go down by a smaller margin than the Fed cut ... or they could actually go UP. Let me try to break things down:

* Rates on home equity lines of credit (that's the P.C. term for "floating rate second mortgages) almost always follow the prime rate. And the prime rate almost almost moves in lock step with the federal funds rate. So if you have a HELOC, you're going to pay 50 basis points less in interest very soon.

* Rates on shorter-term Adjustable Rate Mortgages, such as the 1-year ARM, also tend to track movements in shorter-term Treasury rates -- not prime. So the Fed rate cut will likely make these loans cheaper for new borrowers, but the decline will likely be smaller than 50 basis points.

* What about rates on all those EXISTING ARMs we're so worried about? Well, if you're a subprime borrower with one of these 2/28 mortgages, chances are your loan adjusts to LIBOR -- the London Interbank Offered Rate. Up until recently, LIBOR rates had actually been RISING despite a decline in short-term Treasury rates. The reason: LIBOR is a rate charged between banks lending each other money, and they were worried about credit risks stemming from mortgage losses, CDO losses, and more.

But the Fed rate cut has succeeded -- at least for now -- in bringing down LIBOR rates. Six-month, U.S. dollar-based LIBOR dropped 31 basis points overnight, for instance. That leaves it at 5.11%, its lowest level since March 2006. Bottom line: People facing rate and payment adjustments will see some relief -- though not enough to prevent the current delinquency and foreclosure rates from rising further.

Other ARMs are tied to things like the 11th District Cost of Funds Index, or COFI, and the 1-year Constant Maturity Treasury Index. Treasury rates have already been falling, while COFI will likely start to decline (with a lag). Long story short, if you have an ARM and you're facing an imminent adjustment, you will probably see a smaller hike in rate and payment than you would have if the Fed didn't cut.

* Now let's get to the BAD news. The Fed's drastic cut in SHORT-TERM rates has revived LONG-TERM inflation fears. After all, the Fed is cutting the cost of money at the same time oil is trading at $82 a barrel and counting ... gold is trading at its highest level since 1980 ... agricultural commodities are soaring in price ... and world economic growth is robust, despite our housing-led downturn. That makes the Fed cut a high-risk move, one that threatens to cement these higher prices into the economy.

Long-term bondholders hate inflation. So long-term Treasury bonds are getting pounded. Long Bond futures were recently down more than a point in price today, in fact, after losing 7/32 yesterday. Since yields move in the opposite direction of prices, long-term rates are rising. The 10-year Treasury Note yield is UP 7 basis points today, after rising a smidge yesterday.

The end result: Rates on 30-year fixed rate mortgages will NOT drop 50 basis points like fed funds. In fact, they may go UP. So if you're looking to refinance out of an ARM into a FRM, don't expect to get any help from the Fed's move.

I hope this helps clarify things a bit more. This Chicago Tribune story has some more details, as does this special section from the good folks at Bankrate.com.

Housing starts and permits fall again

August housing starts and building permits data just hit the tape. The details?

* Starts fell 2.6% to 1.331 million units at a seasonally adjusted annual rate from a 1.367 million rate in July. July's rate had previously been reported as 1.381 million units. On a year-over-year basis, starts were down 19.1%. The August 2007 reading was the worst since June 1995 (1.281 million).

* Building permit issuance sank 5.9% to 1.307 million from 1.389 million. The July figure was revised up from 1.373 million units. On a year-over-year basis, permits were off 24.5%. The August 2007 reading was also the lowest since June 1995 (1.305 million).

* Regionally, starts fell in two of four areas (the West, by 18.4%, and Northeast, by 38%). They rose in the Midwest (4.2%) and South. (+11.4%). Permit issuance declined in three out of four regions -- the Northeast (-3.9%), Midwest (-9.6%), and South (-8.4%).

Home construction took another step down in August, and so did permit issuance. It's not surprising to see builders put the brakes on, given the large supply glut we're starting in the face. We have about 3.85 million existing single-family homes on the market now. That's the most ever and much higher than the 1.5 million-to-2.5 million unit range customary throughout the 1980s and 1990s. In the new housing market, we're oversupplied to the tune of 200,000 units.

Looking to the future, construction activity should continue to fall even if the Federal Reserve rate cut helps to stimulate sales. Again, it goes back to the large inventory overhang. Until that's worked down to a more normal level, builders aren't going to shift the bulldozers and backhoes into overdrive.

Breaking news: 50 bp cut made to both the federal funds rate and the discount rate

Here is the text of the statement. Color me surprised the Fed is moving this aggressively given what has been going on in the commodities and currency markets recently. I expected 25 on the funds rate. Anything can happen, of course. But the initial reaction is a big rally in stocks ... a big steepening in the yield curve (meaning, short-term yields falling but long-term yields rising on the inflationary implications of this cut) ... and a sharp decline in the dollar index.

The Federal Open Market Committee decided today to lower its target for the federal funds rate 50 basis points to 4 3/4 percent.

Economic growth was moderate during the first half of the year, but the tightening of credit conditions has the potential to intensify the housing correction and to restrain economic growth more generally. Today's action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time.

Readings on core inflation have improved modestly this year. However, the Committee judges that some inflation risks remain, and it will continue to monitor inflation developments carefully.

Developments in financial markets since the Committee's last regular meeting have increased the uncertainty surrounding the economic outlook. The Committee will continue to assess the effects of these and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Thomas M. Hoenig; Donald L. Kohn; Randall S. Kroszner; Frederic S.Mishkin; Charles L. Evans; William Poole; Eric S. Rosengren;and Kevin M. Warsh.

In a related action, the Board of Governors unanimously approved a 50 basis point decrease in the discount rate to 51/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve banks of Boston, New York, Cleveland, St. Louis,Minneapolis, Kansas City and San Francisco.

UPDATE: Some more thoughts on the move --

This seems a bit mind-boggling to me. We’ve got $81.50-a-barrel oil ... $720+ gold prices … and a U.S. dollar that's been on a severe slide. While the economy has certainly shown signs of weakness, and housing has been in its own private recession, it seems inconceivable that the Fed would cut rates this much. It essentially gives bond traders and currency traders carte blanche to dump the heck out of their longer-term Treasuries and their dollars.

And lo and behold, that’s exactly what’s happening. The U.S. Dollar Index was recently down about a half-point to the 79.22 level. That’s a large decline that leaves this measure of the dollar's value within a few ticks of its all-time low at 78.19 (which dates back to 1992). Meanwhile, long bond futures were down a half point, while yields were up almost 8 basis points (though they are starting to gain some of that move).

I know the stock and housing markets will be happy. So will the politicians. But man oh man is the Fed taking a big risk here with the value of our currency and longer-term inflation.

NAHB index ties record low

The National Association of Home Builders just released its most recent monthly builder sentiment index. So what did the numbers look like?

* The overall NAHB index dropped 2 points to 20 in September. That matched economists' forecasts. It also ties the all-time low of 20 in January 1991 (for perspective's sake, the cycle peak for this measure was 72 in June 2005)

* Two out of three sub-indices declined. The index tracking present single-family home sales dropped to 20 from 22 in August. And the index tracking estimates of future SFH sales fell to 26 from 31. Meanwhile, the index measuring prospective buyer traffic held steady at 16.

* Regionally, buyer traffic declined in all four areas -- the Northeast (-3 points), Midwest (-1), South (-2), and West (-4).

These figures aren't much of a surprise given the mortgage market turmoil we've been seeing. It has become harder to obtain home financing, and more recently, job growth has deteriorated. The end result is weaker housing market conditions. Builders are starting to respond to these troubled times by holding "fire sales," like Hovnanian's recent "Deal of the Century" program. Those price cuts will eventually succeed in bringing inventory levels down, but it's going to take a long time given the magnitude of the supply glut.

Producer prices fall in August, but core prices rise

The August Producer Price Index just hit the tape. I won't write much about it because the Consumer Price Index is more important. But suffice it to say that the headline PPI dropped sharply -- down 1.4% vs. expectations for a 0.3% decline. The only problem? These are August figures, and in August, the price of lots of commodities -- especially oil -- fell. Since then, they have rallied right back up. That means the September PPI won't look so good. Meanwhile, the "core" PPI rose 0.2% vs. market forecasts for a 0.1% rise.

In the earlier stages of processing, the headline intermediate goods measure fell 1.2% and the core intermediate goods measure dropped 0.5%. The headline crude goods price index dropped 3%, but the core crude goods index rose 1.3%.

August foreclosure filings skyrocket

If you're worried about credit quality, RealtyTrac's August foreclosure figures won't give you any solace. In a word, they were ugly. Some details ...

* Foreclosure filings soared 115.3% year-over-year in August -- to 243,947 from 115,292 in the same month of 2006.

* Measured from July's reading of 179,599, filings surged 35.8%.

* If you look at filings per household, Nevada performed the worst. One in every 165 households there is in foreclosure. Other standouts include California (1 in 224), Florida (1 in 243), and Georgia (1 in 271).

August wasn't a pretty month for homeowners, with foreclosures more than doubling from a year ago. The problem? Tighter mortgage markets are cutting off refinancing opportunities for borrowers with re-setting ARMs and subprime loans. While they might have been able to refi their way out of trouble 12 or 18 months ago if they fell behind on their payments or faced an imminent reset, that's no longer the case for many borrowers. Slumping prices are also leaving more borrowers upside down, giving them an incentive to walk away in times of financial trouble. Bottom line: Until the underlying housing market finds its footing -- and the mortgage markets loosen up again -- we're going to continue to see delinquencies and foreclosures rise.

E*trade exiting wholesale mortgage lending, taking losses; NovaStar cancels dividend; PHH goes ker-plunk

Some late-breaking news out of E*Trade Financial ...

* The company is boosting its loan loss allowance, blaming "the significant deterioration in the mortgage market in August and particularly the pace of change in the performance of home equity loans." It expects $95 million in charge-offs and a total provision expense of $245 million in the second half of the year.

* Asset-backed securities comprised of second lien loans, as well as CDOs, are losing value, so E*Trade is preparing to impair its holdings by up to $100 million.

* E*Trade is also jettisoning its wholesale mortgage operations.

There's also some news out of subprime lender Novastar Financial. In short, NovaStar is scrapping its plan to pay a dividend tied to its 2006 profit, and abandoning its Real Estate Investment Trust status. The company said it is continuing "to take steps to preserve liquidity, mitigate risks and manage our portfolio in the midst of a difficult environment for the mortgage industry and capital markets."

And I'd be remiss if I didn't mention the action in PHH Corp. The New Jersey mortgage lender's shares took a header today on news that a takeover deal may be in trouble. PHH was slated to be sold to General Electric, which was then planning to re-sell the mortgage business to the private equity firm Blackstone Group. But lenders are reportedly balking at funding the Blackstone part of the deal.

Is it just me, or are a lot of these mortgage sector deals -- signed by the "brain trusts" on Wall Street over the past several quarters -- proving to be nothing more than easy-money fueled foolishness? Blackstone for PHH. Cerberus Capital for Option One. Merrill Lynch for First Franklin (Merrill is now slashing jobs ... a mere nine months after buying the subprime lender for $1.3 billion ... and only a few months after hiring staff there, per Bloomberg). The list goes on and on.

It seems like many big name firms swooped into the mortgage sector in the past year to year-and-a-half on the assumption they were getting a bargain-basement entry into the business. The evidence now suggests they were both wrong and early. This has happened before, of course -- Anyone remember the not-exactly-well-timed purchase of The Money Store by First Union in the late 1990s? But it seems to be hapening a lot more these days.

One of the biggest flame-outs to date, though, has to be Greenlight Capital's move into New Century Financial. The hedge fund firm loaded up on New Century shares and tried to force management and strategic changes. You probably don't need me to tell you that move didn't exactly work out so well considering New Century went broke.

Some Flow of Funds figures ...

Every quarter, the Federal Reserve releases a voluminous report on borrowing, lending, and corporate and household balance sheets called the "Flow of Funds" report. The Q2 report was just released today. You can find links to the entire report and its subcomponents here. But here are a few notable observations that pertain to home lending ...

* Household home mortgage debt grew at a seasonally adjusted annual rate of just 7.3% in Q2. That was down from 7.7% in Q1, continuing a string of recent quarterly declines. On a full-year basis, mortgage debt growth hasn't been this low since 1997 (6.1%).

* Collectively, home mortgage borrowers now owe $10.1 trillion, up from $9.96 trillion in Q1. By way of comparison, total business debt in the most recent quarter was $9.48 trillion.

* Owners' equity as a percentage of household real estate continues to decline. It sank to a record low of 51.7% in the second quarter from 52.2% in the first quarter. What does that mean? Homeowners on the whole own a smaller and smaller chunk of their homes after you take into account the amount they owe on their mortgages.

This downtrend has been going on for years (as shown in the chart above, which goes all the way back to the early 1950s), so your first impulse might be to dismiss it as nothing remarkable. But consider how much home values surged between 2001 and 2006. All else being equal, that surge in home values should have left people sitting on larger and larger equity positions. Think about it in simple terms: If you buy a house for $100,000 with a $100,000 mortgage, your equity position is 0%. If your house doubles in value to $200,000, and your mortgage stays roughly the same, your equity position jumps to 50%.

But as these figures show, owners' equity has NOT increased. Instead, it has gone down. That means U.S. consumers have borrowed every last penny of additional equity generated by rising prices -- and then some. Or in layman's terms, there is something to the argument Americans have used their houses as ATM machines.

Monday morning bits

* Northern Rock Plc, the British mortgage lender mentioned in this blog post from late last week, continues to slide. The stock was recently off another 38%, after falling 31% on Friday, on news depositors are lined up all over the U.K. to take their money out of the firm. The BBC reports that savers have yanked more than 2 billion pounds (about $4 billion), or 8% of Northern Rock's deposit base, in just the past three days.

* British-pound based LIBOR rates are rising on the Northern Rock news, though U.S. LIBOR rates have come down in the past couple of days. Only time will tell if another U.S. financial system time bomb is ticking, and ready to go off a la Northern Rock. But if and when that does happen, you can expect risk premiums to make a quick re-appearance here in the U.S. money markets.

* Alan Greenspan is doing a whirlwind media tour for his new book. You can find all kinds of opinions about the memoir, entitled "The Age of Turbulence: Adventures in a New World." And you can check out his 60 Minutes interview if you want here.

But to focus on his comments about housing and mortgages, Greenspan warned that we're going to see declines in house prices that will be "larger than most people expect," according to the Financial Times. His take is that prices will fall by the high single-digits from the peak to the trough, and that the decline could easily be in the double-digit range.

In other interviews, he has defended himself against charges that the Fed aided and abetted the inflation of the housing bubble. His general stance: That the Fed raised rates to cool things off, but because long-term mortgage rates didn't rise along with the federal fund rate, things got out of control. These excerpts from the Wall Street Journal's website give more detail (The questions are from WSJ reporter Greg Ip):

"Q: At the Fed you said housing was in a froth, but you avoided calling it a bubble. From the vantage point of 2007, can you say now that it was in a bubble?

A: Oh yeah. Lots of froths are equal to a bubble… What was driving prices higher was essentially the aftermath of the decline of the Soviet Union and the fall in real long term interest rates which drove up residential prices all over the world. And indeed, the U.S. was not at the top of the list by any means. It drove them up sooner in Britain and Australia as I recall. I find this issue that the Federal Reserve created the housing bubble just utterly devoid of any awareness of who created all the other bubbles. And they all look alike. Long-term real interest rates moved [in] parallel all over the world and the results were what you always get: a fall in equity [risk] premiums, a rise in price:earnings ratios, huge increases in liquidity, and large increases in the market values of assets.

Q: Many people, including some former colleagues of yours from that period, believe the Fed kept interest rates too low for too long, thereby contributing to the housing bubble and problems in subprime mortgages. Do you agree?

A: We kept them too low for too long because we were effectively creating an insurance against [deflation]. The problem in making choices is that you recognize that if you miss, you can end up with interest rates too low, too long. The question is, what did that have to do with the housing boom? Remember that long term Treasury rates and mortgage rates stayed flat from early 2004 through the summer of 2005 [while the Fed raised the federal-funds rate from 1% to 3.5% in 0.25 percentage-point steps]. We tried effectively to get mortgage rates up as part of our incremental 25 basis point operation and we failed… If we were dealing with an inflationary environment, we would have had no trouble getting the 10-year [Treasury yield] up… Had we [raised rates] earlier, do you think we wouldn’t have gone through exactly the same phenomenon?"

My take: The Fed raised interest rates in a clearly telegraphed, 25-basis points-at-a-time manner. It also spread the rate-hiking cycle out over a long period of time. This contrasted sharply with the fast, severe rate cuts in the down part of the interest rate cycle. As a result, the bond market was able to price out all uncertainty about the future path of interest rates, effectively neutering the impact of fed funds rate hikes.

In addition, Fed officials refused to characterize the bubble for what it was several times over the span of two to three years. And they refused to aggressively use the "bully pulpit" to criticize lenders making all the higher-risk mortgage loans. Meanwhile, on the regulatory front, the Fed and the other agencies merely issued toothless "guidances," rather than new rules, to tame high-risk lending. So I think it's a clear case of revisionist history for Greenspan to say "we did all we could." Under his watch, the Fed simply replaced one boom-bust in the tech world for another in housing.

Thoughts on retail sales and import prices

Lots of economic data is hitting the tape this morning, so let's get a quick recap in here:

* Retail sales rose 0.3% in August, below expectations for a 0.5% gain. If you exclude autos, sales were down 0.4%, versus expectations for a 0.2% gain. However, July's gain was revised up to 0.5% from 0.3% on the headline, and July's ex-autos gain was revised to +0.7% from +0.4%. Also, a drop in gasoline station sales (due to falling gas prices) helped suppress sales.

* Import prices fell 0.3%, compared with forecasts for a 0.2% rise. The previous month's gain was revised down to 1.3% from 1.5%. That puts import prices up just 1.9% year-over-year, down from a 2.8% gain in July.

* However, there are a couple of interesting things to look at in the import price figures. First, if you exclude all fuels (natural gas, oil, etc.), you see that import prices were up 0.2% on the month. So if you want to believe (like the Fed does) that energy doesn't count, you can't be too sanguine about import inflation. And we all know that oil prices have been surging THIS month, meaning the August drop will be reversed in short order.

Second, imports from China are rising consistently in cost. They were up 0.3% in August after rising 0.3% in July, 0.4% in June, and 0.3% in May. In other words, it looks like cheap Chinese goods -- which have held down U.S. consumer inflation -- may be getting a bit pricier.

* The immediate market reaction: A further drop in stock futures ... a reversal of slight gains in the Dollar Index ... and a half-point gain in long bond futures prices.

The U.K. ... yes, I said U.K. ... mortgage crisis

Just in case you were thinking the mortgage crisis was "contained" to the U.S., it isn't. This story talks about how the third-largest U.K. lender is seeing a "run on the bank" due to concern about its mortgage exposure and liquidity. The stock plunged as much as 26% today in London trading after news broke that it's receiving emergency funding from the Bank of England. Bloomberg calls it the "biggest bailout of a British lender in 30 years."

Here's an excerpt with more details ...

"Hundreds of Northern Rock Plc customers crowded into branches in London today to pull out their savings after the mortgage-loan provider sought emergency funding from the Bank of England.

"It's scary,'' said Peter Pye, 60, a retired university lecturer standing in a line of about 30 people outside the Moorgate branch in the financial district. "I have my life's savings in Northern Rock.'' He said he would withdraw a "six-figure'' sum and leave 5,000 pounds in the account.

The Bank of England said it will provide emergency cash toNorthern Rock, Britain's third-largest mortgage provider, in the nation's biggest bailout of a financial institution in 30 years. The rising cost of credit left the lender unable to make new loans and stoked concern among customers about their money.

Northern Rock, which has 1.4 million retail depositors and 800,000 mortgage customers, hasn't imposed any special limits on withdrawals, spokesman Don Hunter said. The Newcastle, England-based company traces its roots back to 1850."

What August home sales figures might show in South FL

By now, you know the drill: Each month before the "official" Florida Association of Realtors' figures on existing home sales are released, a local real estate brokerage here in South Florida, Illustrated Properties, posts some monthly numbers. The important data shows trends in for-sale inventory, sales, and prices. In August, according to IPRE ...

*Sales dropped 32.6% from a year earlier -- to 583 units in August of this year from 865 in August 2006.

* For-sale inventory rose 5.3% YOY to 24,423 units from 23,192. At the current sales pace, that's good for about 42 months worth of inventory.

* The median home price dropped 6.7% YOY to $280,000 from $300,000. That tied April for the lowest median price this year.

It looks like we got more of the same in August -- bad news. Inventories remain very high, with three and a half years' worth of supply on the market. Sales are down by about a third and prices are off in the high single-digits. The "average days on market" measure also climbed to a fresh high of 146 (vs. 107 a year ago). On the upside, we haven't had any hurricanes yet to muddy the waters! But seriously, if you're selling in this market, don't waste anybody's time. Price your property right if you want it to move. You've got plenty of competition.

Bernanke's box

The countdown to next Tuesday is on. That day - September 18th -- the Federal Open Market Committee will meet to decide the fate of the free world. Just kidding there. But you wouldn't know it by the way Wall Street is approaching this policy meeting. Everyone is on pins and needles about what might happen. So what the heck -- why not throw my hat in the ring!

First, I think it's a lock that Fed Chairman Ben Bernanke and his band of fellow policymakers will cut interest rates. But several questions remain unresolved ...

* Will Bernanke opt for a quarter-percentage point cut or go for a bigger, 50-basis point move?

* Will the Fed’s gambit help loosen up the credit markets, allowing banks, hedge funds, and Wall Street firms to unload some of the toxic debt they’re holding?

* What will this mean for stocks? Can they just resume their run for the roses? And how about housing? Will the Fed’s move “save” that market?

My take is that the Fed will go for a 25 bp cut, and that such a cut will prove to be a disappointment for Wall Street. Why not be more aggressive? Because I think Bernanke is in a bit of a box, frankly. What's going on in the currency markets -- and the impact that’s having on other markets, like commodities -- makes it all but impossible to opt for a 50 bp reduction in the federal funds rate.

Just look at the U.S. Dollar Index. It measures the greenback’s performance against six major world currencies. The euro is the biggest weighting at 57.6%, followed by the Japanese yen (13.6%), the British pound (11.9%), the Canadian dollar (9.1%), the Swedish krona (4.2%), and the Swiss franc (3.6%).

This index has been in an absolute tailspin. It peaked out at 121 in July 2001 ... dropped below 100 in early 2003 ... knifed through 90 at the end of that year ... and just a few days ago, sank below 80. It has broken every single level of technical support except for the all time low -- 78.19 in September 1992. In other words, the dollar is staring into the financial abyss.

Two forces are driving the action:

First, the U.S. economy is weakening. The U.S. economy LOST 4,000 jobs in August, the first time that’s happened in four years. Home sales are tumbling. And consumer confidence just fell by the biggest margin since Hurricane Katrina struck in 2005. Economists are freely tossing around the “R” word -- recession -- for the first time in years.

Second, currency traders smell blood. They know the Fed is going to cave in to the Wall Street crowd and cut rates. That will make investing in short-term U.S. debt instruments less attractive vis-à-vis investing in countries with rising or stable interest rates.

Third, the dollar decline isn’t just eroding your purchasing power. It isn’t just making trips to Paris or Canberra more expensive. It’s driving up the price of all kinds of commodities ...

* Crude oil futures just topped $80 a barrel for the first time in history. Heating oil now trades for about $2.20 a gallon on the wholesale market, the highest since futures were introduced by the New York Mercantile Exchange in 1978.

* Gold futures have been screaming higher, with December gold eclipsing the $720 an ounce mark.

* The price of wheat just surged to an astronomical $9.11 a bushel, a record high on the Chicago Board of Trade.

* Soybean futures climbed above $9.43 a bushel, the highest price in more than three years.

In short, the slumping dollar is threatening to ignite a new bout of rising consumer prices. The Fed may say it focuses on “core” inflation -- inflation excluding food and energy. But with each dollar move higher in the price of oil ... and each $10 jump in the price of gold ... that stance looks more and more ridiculous in the real world.

The bottom line: How can the Fed justify LOOSENING monetary policy when the commodities markets are saying -- in no uncertain terms -- that looser monetary policy is the LAST thing we need?

Now I'm not naive. There is plenty of political pressure coming from Washington and Wall Street to cut rates aggressively. Rep. Barney Frank recently weighed in with an odd statement calling for a Fed cut, for instance. Meanwhile, several home building executives just held a meeting with Fed officials in Washington, while top mortgage company managers got together with Treasury Secretary Henry Paulson. As outsiders, we have no way of knowing what they pushed for. But I doubt these guys were asking for a rate hike.

In other words, I doubt Bernanke will do nothing. But I also don't think he can afford to go whole hog with a half-point cut. That could really pull the rug out from under the U.S. dollar -- and risk cementing longer-term inflation risks.

Fortunately, we won't have to wait much longer to find out where interest rates are headed.

Southern California August home sales drop to lowest level since 1992

Lots of early indicators are pointing toward an awful month for home sales in August. I doubt it will be confined to any one region or area given the fact the mortgage meltdown is a national event. But California bears particularly close watching given that it was one of the first markets to boom and that lenders have tons of exposure there. Anyway, the following press release just crossed: "SoCal home sales at 15-year low, prices edge down" According to DataQuick Information Systems (the source of the information) ...

* SoCal home sales (both new and existing) were just 17,755 last month. That was off a whopping 36.3% from 27,857 in August 2006.

* Things haven't been this bad in any August since 1992, when 16,379 sales were recorded. August 1992, in turn, was the worst August since DQ began tracking the market in 1988.

* For perspective sake, 39,562 homes were sold in the busiest August (2003). That means sales are down a stunning 55%. Wow.

* DataQuick says that if you adjust the house price data to account for a change in the type of homes sold, you find that prices are off about 3.5% year-over-year.

Random bits for today

I'm not seeing any major news on the housing and mortgage fronts today. But there are lots of little things worth mentioning. In no particular order ...

* The International Organization of Securities Commissions (IOSCO) is a group of securities regulators from around the world. It has summoned the major ratings agencies for a pow-wow over the ratings process for structured finance products, according to the Financial Times. Needless to say, the ratings agencies are at the center of the mortgage credit storm. Critics accuse them of giving overly optimistic projections about the future performance of hard-to-value bonds backed by high-risk mortgages.

* Treasury Secretary Henry Paulson -- formerly of the "well-contained housing problem" camp --hosted his own Washington get-together with the leaders of top mortgage lending firms. Paulson told lenders that "we need an expansion of mortgage financing products," according to Bloomberg.

Me? I think we need lower home prices so potential buyers don't need "expanded" mortgages (read: higher-risk ones) to afford a darn house. Stretching the bounds of prudent lending got us into this mess. Reverting back to a world where average home buyers earning median incomes can buy traditional homes using plain-vanilla mortgages will help create a healthier housing market over the longer term.

* According to Briefing.com, an executive speaking on a Capital One Financial conference call just said borrowers are choosing to give up their houses and home loans rather than give up on their credit cards. Welcome to Bizarro World!

* A random thought: I'm wondering if or when actual principal balance reductions will start being implemented as a loan modification tool. If you bought a house for $400,000 and it's now worth $300,000, your lender might cut your rate to 6% from 8% to lower your monthly payment. But are you really going to be incentivized to keep making those payments? I doubt it. You'll just resort to "jingle mail" because you're so far in the hole.

Maybe the real answer for some lenders in bubble markets (where 20% to 30% price declines from peak levels are already occurring or will likely occur over time) is to identify borrowers who want to stay in their homes and who were not speculators. Then figure out if they'd be willing to stay in their homes (and mortgages) if the amount they owed were slashed to the current market prices of their homes. An "out there" idea? Maybe. But perhaps it's worth considering.

* Crude oil is surging by $1.31 right now. At $79.53, futures prices are at an all-time high. One catalyst: An Energy Department report showing a massive 7.01 million barrel drop in crude oil inventories. Another: The sinking U.S. dollar. You see, commodities like oil are priced in dollars. As the dollar falls, it boosts the dollar cost of oil. Or stated another way, oil producers have to charge the U.S. more because the dollars they're getting paid for that oil are losing value.

The Fed has pretended the slumping dollar and surging oil prices don't matter for -- what -- five years now? But I wonder just how much longer they can afford to keep that charade up with the $80 level only a whisker away. Don't forget that the dollar index is falling out of bed, too. It was recently down 32 more basis points to 79.39 (78.19 is the all-time record low).

It's tough to say whether this market action will factor into the Fed's decision about whether ... or how much ... to cut rates on September 18. But I doubt Gentle Ben is very happy about $80 crude ... $710 gold ... the highest wheat prices in the history of mankind (more than $9 a bushel today) ... the highest soybean prices since 2004, etc., etc.

NAR home sales forecast falls ... again

The National Association of Realtors has cut its home sales forecast. Am I the only one getting sick of that headline? Anyway, the NAR is now projecting existing home sales of 5.92 million units this year. The group's 2007 forecast peaked at 6.44 million units in February. It then dropped to 6.42 million in March, 6.34 million in April, 6.29 million in May, 6.18 million in June, 6.11 million in July, and 6.04 million in August. The 2008 sales forecast was also reduced -- to 6.27 million from 6.38 million in last month's estimate.

By the way, Fed Chairman Ben Bernanke's speech in Germany about current account deficits, investment flows, and the like was a real snoozer. It didn't add or subtract anything to the current debate about what the Fed will do with short-term interest rates on the 18th.

Dollar = Confetti?

Okay, so maybe I'm overstating things a little bit. But the Dollar Index is slumping hard, reflecting an ongoing loss of purchasing power for the U.S. greenback. It took out the key 80 level a couple of days ago and continues to fall (recently down 15 bps to 79.66). In fact, this measure of the dollar's performance against six major currencies (euro, Japanese yen, British pound, Canadian dollar, Swedish krona, Swiss franc) has now taken out every technical support level save the all-time low of 78.19 in September 1992.

Let the lawsuit parade begin

Sorry for the lack of posting yesterday -- had to watch the kiddos again. As I get caught up on all the latest news, I can't help but comment on this Washington Post gem of a story. In a nutshell, it talks about all the parties to the subprime debacle that might get sued in the coming months and years.

Frankly, I think just about everyone involved in the mortgage food chain deserves to shoulder some of the blame:

Greedy borrowers who stretched themselves to the max to get into homes they really couldn't afford ... Overaggressive speculators who never paid any attention to the quaint notion that real estate investments should actually generate cash flow ... reckless lenders who chose to ignore prudence in an attempt to juice origination volumes with super high-risk loans ... package-and-sell Wall Street bankers who helped fund those loans, even though many were practically destined to fail from day one ... aloof bond buyers who scooped up bundles of crappy mortgages with nary a care in the world ... and ratings agencies that clearly dropped the ball in analyzing the creditworthiness of these securities. What a shame.

As an aside, I really have to hand it to a Representative from New York (quoted in the Post) for coming up with one of the most creative ways to describe the role of loan originators and credit ratings agencies in the mortgage mess. It kind of makes me hungry for barbecue, truth be told ...

"Essentially, the originators and credit raters shoved enough pigs and laying hens in with the beef herd that investors expecting prime ribs on their silver platter and money in their pocket ended up with pork ribs on their paper plate and egg on their face," Rep. Gary L. Ackerman (D-N.Y.) said in an opening statement during a Financial Services Committee hearing last week.

A headline that really inspires confidence

One of the big problems for the markets right now is that no one knows what anyone is holding -- and what those holdings are worth. CDOs. CLOs. Subprime RMBS. ABCP. WD-40. Okay, I threw that last one in there for fun. But seriously, we have a ton of complicated, opaque, hard-to-value, "mark-to-model," paper floating around out there somewhere in the hedge fund/banking/brokerage world. It might be worth something. It might be worth nothing. It might cause minor losses in the finance sector. It might cause major losses. We just don't know.

And it's not just the average investor who's in the dark, either. If you really want to feel warm and fuzzy on the inside, check out this headline from a Bloomberg story: "CDO Losses Can't Be Quantified, France Regulator says" You can't make this stuff up. Even the regulators -- the government regulators who are suppose to be overseeing the market for this complex paper -- are at a loss. That's comforting.

August jobs report stinks up the joint

We just got data on the job market in August. I don't think it's an overstatement to say the report stunk up the joint. Here's a recap of the numbers ...

* Nonfarm payrolls FELL by 4,000 in August, versus expectations for a 100,000-job gain. Moreover, the job figures from recent months were revised lower. July's figures went from +92,000 to +68,000, while June's figures went from +126,000 to +69,000. The August reading was the single-worst in any month since August 2003 (-42,000).

* By industry, manufacturing shed 46,000 jobs, construction shed 22,000 and government shed 28,000 jobs. The "diffusion" index -- which measures what percentage of industries are adding workers vs. what percentage of industries are shedding them -- declined. It fell to 51.3 in August from 57.4 in July. That's the worst reading since February 2004 (50.2).

* Average hourly earnings rose 0.3% on the month, as expected. The unemployment rate also held steady at 4.6%, which is the silver lining on this dark cloud.

Some quick hits on mortgages and the markets

Just to keep track of a few of the latest developments ...

* Lehman Brothers plans to cut another 850 jobs related to its mortgage business, both here and abroad. Apparently, business in the Korean mortgage market isn't so hot. Who knew?

* National City said it will take a $200 million charge and that it is eliminating 1,300 jobs to scale back its mortgage banking business. The super-regional bank will no longer make home equity loans through brokers, and will also make cutbacks in its regular nonconforming mortgage business.

* Lots of regional Fed bank presidents and governors are out talking today. The general gist of their comments is that they're watching the markets closely, they aren't positive the housing downturn is spilling over too badly into the rest of the economy, they aren't really sure what to do next, etc., etc.

* Got gold? Looks like metals traders are betting the Fed will keep flooding the world with freshly printed money -- something that could cause even more erosion in the value of the dollar. I show spot gold up 2%, or about $14, at last count. It has now taken out every peak save the big one back in May 2006.

MBA: Delinquency, foreclosure rates rise in Q2

Every quarter, the Mortgage Bankers Association releases a report on mortgage delinquencies and foreclosures. It covers prime, subprime, and government-backed mortgages, including FHA and VA loans. Not surprisingly, given what we know about the state of the housing market, the second quarter figures show deterioration in most categories. Let's get to the numbers ...

* The share of loans on which lenders began foreclosure proceedings climbed to 0.65% in Q2 2007 from 0.58% in Q1 2007. That is a fresh record high -- a disturbing development considering the MBA has been tracking the market since 1972.

* The overall foreclosure rate (which includes loans in foreclosure already AND those entering the process) rose to 1.4% in Q2 2007 from 1.28% in Q1 2007 and 0.99% in Q2 2006. That's the highest for this series since Q1 2003, when it was 1.43%. The high, for perspective's sake, was 1.51% in Q1 2002.

* The overall delinquency rate reversed the first quarter's minor improvement -- and then some. Some 5.12% of the country's mortgages are now delinquent, up from 4.84% in Q1 2007 and 4.39% in Q2 2006. That's the highest DQ rate since Q2 2002.

* By loan type, prime mortgage delinquencies increased to 2.73% in Q2 2007 from 2.58% in Q1 2007 and 2.29% in Q2 2006. That's the worst reading since Q3 2001 (2.85%). DQs on subprime loans jumped to 14.82% in Q2 2007 from 13.77% in Q1 2007 and 11.70% in Q2 2006. That's second only to the 14.96% rate in Q2 2002. Worth noting: DQs increased on both fixed-rate mortgages and adjustable-rate mortgages, in both the prime and subprime categories. The increases were much smaller in FRMs, however.

* Meanwhile, FHA delinquencies ticked up to 12.58% in Q2 2007 from 12.15% in Q1 2007, while VA delinquencies dipped to 6.15% in Q2 2007 from 6.49% in Q1 2007. Both types of loans have lost a ton of market share in the past few years, supplanted by private lenders in the subprime and Alt-A markets.

The delinquency and foreclosure figures from the MBA confirm that credit quality is deteriorating. I blame several forces ...

- Home prices are declining in many parts of the country. A quarterly home price index compiled by S&P/Case-Shiller, for instance, showed prices declined 3.2% year-over-year in the second quarter. That was the worst decline since the firms started collecting data in 1987. As a result, we're seeing more mortgage holders "upside down" -- owing more than their homes are worth. Those borrowers have an economic incentive to resort to "jingle mail" -- sending their keys back to their lenders and walking away.

- Mortgage lending standards started tightening up earlier this year. That made it tougher for stretched borrowers to refinance. This trend has only accelerated since the second quarter ended, meaning we'll see even more pressure on borrowers in the coming quarters.

- For-sale inventory has skyrocketed. We now have a whopping 4.59 million single-family homes, condos, and co-ops on the market, according to the National Association of Realtors. That compares with just 2 million to 2.5 million in the late 1990s and early 2000s. We have a longer history of data in the single-family only market, and the numbers there are equally grim. On a months supply at current sales pace basis, there were 9.2 months of SFH inventory on the market in July. That's the most since late 1991.

With so much supply out there to compete against, borrowers who can't pay their mortgages are behind the 8-ball. They can't sell to get out from under their obligations. As a result, more end up tumbling into foreclosure.

Where do we go next? Well, so far, the housing market has been in what I'd call a "private recession." Mortgage lenders, home builders, construction suppliers, and other related firms have been hit hard. But the overall economy has hung in there.

That may change if the job market starts deteriorating, as it seems to be doing. Outplacement firm Challenger, Gray & Christmas said layoff announcements jumped 22% from a year ago in August. And the payroll processing firm ADP said the U.S. created just 38,000 private sector jobs last month. That was the fewest since June 2003.

The bottom line: Delinquency and foreclosure rates will likely get worse before they get better. That, in turn, will keep the pressure on the housing market as foreclosed inventory gets added to the long list of homes for sale.

House hearing on mortgage and credit turmoil

Today, the House Financial Services Committee is holding a hearing entitled "Recent Events in the Credit and Financial Markets and Possible Implications for U.S. Consumers and the Global Economy." I guess you don't need me to elaborate on the issues being discussed with a name like that!

Anyway, if you want to read statements from some of the officials testifying at the hearing, you can click through to the following links:

* Sheila C. Bair, Chairman, Federal Deposit Insurance Corporation
* John C. Dugan, Comptroller of the Currency
* Robert K. Steel, Under Secretary for Domestic Finance, U.S. Department of the Treasury

For some more perspective on the hearing, see this story from Bloomberg.

Gigantic plunge in pending home sales in July

The National Association of Realtors tracks pending home sales, which are based on contract signings, as well as existing home sales, which are based on closings of contracts signed a month or two beforehand. The July figures we just got show pending sales fell off a cliff. According to the numbers ...

* Pending sales plunged 12.2% between June and July. That's the worst month-on-month decline the NAR has ever found (its data goes back to early 2001). It's also much, much worse than the 2.2% decline expected by economists.

* Pending sales fell in all four regions -- the Northeast (-12.2%), the Midwest (-13.1%), the South (-6.6%), and the West (-20.8%)

* On a year-over-year basis, the seasonally adjusted pending home sales index dropped to 89.9 from 107.1. in July 2006. That's a 16.1% decline. That leaves the index at its lowest level since September 2001, the month of the 9/11 attacks.

There are bad economic reports, and then there are truly awful ones. This one easily falls into the latter category. While I expected home sales to continue to weaken, even I'm surprised by the magnitude of this drop. Here's something else to consider: While the mortgage credit crunch started to gather steam in July, it got even worse in August. That suggests sales have probably slumped further from these depressed levels.

Bottom line: With housing inventory at a record high ... home sales falling ... mortgage credit getting tighter ... and job growth starting to slow, home prices are going to be under real pressure for the rest of this year and into 2008.

The search for mortgage/housing "spillover"

Throughout the housing and mortgage market downturn, we haven't seen as much "spillover" as you'd expect. Put another way, housing has been in its own private recession. But the economy ex-housing has continued to muddle through, growing more slowly but easily dodging recession. Unemployment has remained relatively low and consumer spending has hung in there.

But based on the latest jobs figures, that could that be starting to change. Some news worth noting:

* Job cut announcements rose 22% year-over-year in August -- to 79,459 from 65,278 a year earlier. They surged 85% from July. Challenger, Gray & Christmas CEO John Challenger said the cuts stem from "the dramatic collapse of the mortgage and subprime lending markets." He likened the decline in jobs in the finance/lending industry to what happened in the airline industry after the 9/11 attacks.

* The payroll processing firm ADP also said the economy created just 38,000 private-sector jobs in August. That was down from 41,000 in July ... 143,000 in June ... and the lowest level since June 2003.

* Meanwhile, weekly jobless claims have started to trend higher. From a recent low of 303,500, the 4-week moving average of claims has climbed to 324,500. That's not a big move, of course. But if we convincingly break above, say, 340,000, it'll be a sign that we're seeing much more spillover -- the kind that gets economists whispering the "R" word in muttered voices.

Jawboning in action

Remember how I said part of the government's anti-foreclosure plan was to "politely encourage"/strong-arm/jawbone lenders into re-working mortgages for borrowers who want to -- and could afford to -- stay in their homes if their mortgage terms weren't so onerous? Well, now we're seeing the next step in that process.

Per Bloomberg ...

Sept. 4 (Bloomberg) -- U.S. bank regulators facing the worst housing slump in 16 years called on mortgage lenders to stave off foreclosures by easing cash-strapped borrowers' home payments.

The Federal Reserve and the Treasury Department asked companies that process mortgage payments to identify homeowners at risk of falling behind when their loans "reset"' to higher interest rates, the agencies said in a joint statement today. Lenders should try to refinance at lower rates to keep families from losing their homes, the regulators said.

Here's the full version of the statement (PDF link) from the major banking regulatory agencies. It applies to loans that have been securitized. There has been some confusion about the accounting and regulatory implications for mortgage loan servicers that modify loans that aren't actually in default yet (call it pre-emptive modification, if you will). This guidance attempts to ease those concerns.

What type of things might a servicer do in a loan modification? Glad you asked. The statement includes the following examples:

* Deferral of payments
* Extension of loan maturities
* Conversion of adjustable-rate mortgages into fixed-rate or fully indexed, fully amortizing adjustable-rate
mortgages
* Capitalization of delinquent amounts

Will all of this stuff work? Well, it can't hurt. Loss mitigation is essential in today's down-in-the-dumps mortgage market. But nothing can change the fact the underlying trends in home sales, prices, and inventory are weak. A lot of factors will have to come together to help turn the housing market around over the longer term, and that's why I still think a recovery won't come about until at least the back half of next year (more likely sometime in 2009).