The fact sheet on the foreclosure prevention plan released by the Obama Administration is at http://www.treas.gov/initiatives/eesa/homeowner-affordability-plan/FactSheet.pdf. In this post I'm providing an analysis of this plan but will stick to the ones that are in sufficient detail.
The first proposal of providing low cost refinancing to responsible borrowers is to appease everyone who's probably going to be upset with the rest of the plan and I'll get to this in a minute. It is interesting however that this non-problem area is the first thing that's addressed in the plan. The “I come in peace – wink wink” approach.
The second proposal is the real meat and so let's dissect this. This is basically very much like a 401K plan where an employer matches up to a given percentage of the employee's contribution. If the bank is willing to reduce the mortgage down to 38% of the borrower's income (net or gross is not specified), then the government will pitch in and match dollar-to-dollar a further reduction down to 31%. Seems like everyone's got skin in the game.
Let's do some numbers based on the median income of about $45,000. Let's also say this was the kind of borrower who bought too much house, say 10% more than the 38% mark that the bank is now required to bring it down to. That would make it 48% of his income and a loan payment of $1,800 a month. This is equivalent to a loan amount of 250K. For the banks to bring this down to 38% that would mean a payment of $1,425 a month or a loan amount equivalent to 200K. So the bank has to take a 50K loss before they qualify to play the match game. This game would cost the bank an additional 20K and the government 20K. The total loss for the bank is 70K netting the bank 180K. Assuming this borrower had put 10% down then this house was worth $275K when the loan was made. Assuming the bank can get 65% in a foreclosure auction that would have net the bank about 180K. So that's a wash.
About the incentives to servicers: There seems to be an attempt to make them do the right thing by giving them more rewards if the borrower stays current but given the $1000 fee for just doing the initial rewriting, most servicers are going to consider the rest gravy and simply try to pile people on to the rewriting wagon. We all know how aggressive servicers can get. The up to $5000 incentive to borrowers is something that should upset the tax payer. Is bailing them out not good enough an incentive to these borrowers?
Now, let’s talk about the ‘refinance for all’ proposal. In short this will allow people to waive the 80% LTV requirement for refinances and benefit from the low interest rates. Let's do some math again with the median income albeit responsible borrower this time. She would have purchased a 200K home with 20% down and a mortgage of 160K. If her property has depreciated 10% since she bought it now she can get a loan for 180K lowering her skin in the game by 50%. Wasn’t over-leveraging the systemic problem to begin with? We have taken a responsible borrower and made her a potential bailout risk.
Finally about investing $400 billion in Fannie and Freddie: Do the MBS investors really care if the reason their returns are down is due to the foreclosures not generating cash flow or due to these newly negotiated lower payments? Each of these mortgages is structured such that out of the payment made by borrowers, the investors get steady returns. If those payments are going down, so must the returns. So not sure, if lowering the attractiveness of MBSs to the investors and sinking an additional $400 billion into the same vehicle in the same proposal is a wise thing to do.
Wednesday, February 18, 2009
Tuesday, February 17, 2009
The Myth of the American Job
Understandably these days you hear this a lot - American Jobs for American People. American People is defined by the constitution but what's an American Job? Is that a job that's at an American company? Okay, so what's an American company then? Is that one that is physically located in the United States? Like BMW or Nokia or IKEA? That doesn't sound right? So is it one that has a US mailing address registered with the government for tax purposes? That would make Haliburton - our largest defense contractor - unamerican. So what is an American company? We have to be able to define this to define an American job.
A reasonable definition might be - an American company is one that has most of its operations in the United States. By operations we mean they produce in the United States by employing Americans and they sell to Americans. So let's look at some giants then. Take GM - the mother and apple pie American company. Their plants in China have come under a lot of scrutiny but what about their global sales. GM sold more cars outside the United States than inside the United States in the last several years. 64% of sales was in foreign markets in 2008 and 59% in 2007. By our definition then GM is no longer an American company and hence their jobs no longer American. Well, GM simply has to be American and so may be our definition is wrong. Selling in other countries don't count - they don't make a company unamerican. Okay but why not? We want to protect jobs in GM plants from being outsourced but selling GM cars in other countries and thereby taking a bite of their production and displacing their jobs doesn't raise an eyebrow? I think I'll stick to my definition and declare GM unamerican. Let's move on.
And we are moving on to the housing sector. The good old construction jobs that the illegal immigrants are stealing. They should be good American jobs. Okay, so why is Iceland and Norway upset at us now? Oh, they bought a bunch of CDOs - those notorious derivatives of mortgage backed securities that are not worth the paper they are written on now. Foreign money was responsible for about 40% of the liquid capital that caused the housing boom and kept those good American jobs afloat. So may be those illegal immigrants did not get their fair share - after all they were not 40% of the entire housing market's job force - the builders, the brokers, the bankers, the realtors - were they?
How about good old "neither snow nor rain..." government jobs? Are they American jobs? What's that? China owns our debt? 25% of our debt is owned by foreigners and of that 40% is owned by China and Japan. Raising the FDIC insurance to $250K caused a run on foreign banks that funded our banks. What does all this mean? It means that the RMB and the Yen are paying a portion of our mailman's salary.
So, if you work for a large corporation with sizable foreign revenue, or if you work in the housing sector or if you even work for the government your job is not as American as you think it is. So ask yourself these questions. Do I not want my company to capitalize on the global growth but deal only in the saturated United States market? Do I not want the US dollar to be the reference currency of the world? Do I not want foreign investments in US banks making credit available to US borrowers? If you answered "No. I do not", then you have the right to an "American Job".
The point here is not to be heartless but it is in our hardest times that we must not shy away from the truth. We are intertwined beyond recall on this spec of dust in the universe and we must find global solutions to our real problems not succumb to political rhetoric.
A reasonable definition might be - an American company is one that has most of its operations in the United States. By operations we mean they produce in the United States by employing Americans and they sell to Americans. So let's look at some giants then. Take GM - the mother and apple pie American company. Their plants in China have come under a lot of scrutiny but what about their global sales. GM sold more cars outside the United States than inside the United States in the last several years. 64% of sales was in foreign markets in 2008 and 59% in 2007. By our definition then GM is no longer an American company and hence their jobs no longer American. Well, GM simply has to be American and so may be our definition is wrong. Selling in other countries don't count - they don't make a company unamerican. Okay but why not? We want to protect jobs in GM plants from being outsourced but selling GM cars in other countries and thereby taking a bite of their production and displacing their jobs doesn't raise an eyebrow? I think I'll stick to my definition and declare GM unamerican. Let's move on.
And we are moving on to the housing sector. The good old construction jobs that the illegal immigrants are stealing. They should be good American jobs. Okay, so why is Iceland and Norway upset at us now? Oh, they bought a bunch of CDOs - those notorious derivatives of mortgage backed securities that are not worth the paper they are written on now. Foreign money was responsible for about 40% of the liquid capital that caused the housing boom and kept those good American jobs afloat. So may be those illegal immigrants did not get their fair share - after all they were not 40% of the entire housing market's job force - the builders, the brokers, the bankers, the realtors - were they?
How about good old "neither snow nor rain..." government jobs? Are they American jobs? What's that? China owns our debt? 25% of our debt is owned by foreigners and of that 40% is owned by China and Japan. Raising the FDIC insurance to $250K caused a run on foreign banks that funded our banks. What does all this mean? It means that the RMB and the Yen are paying a portion of our mailman's salary.
So, if you work for a large corporation with sizable foreign revenue, or if you work in the housing sector or if you even work for the government your job is not as American as you think it is. So ask yourself these questions. Do I not want my company to capitalize on the global growth but deal only in the saturated United States market? Do I not want the US dollar to be the reference currency of the world? Do I not want foreign investments in US banks making credit available to US borrowers? If you answered "No. I do not", then you have the right to an "American Job".
The point here is not to be heartless but it is in our hardest times that we must not shy away from the truth. We are intertwined beyond recall on this spec of dust in the universe and we must find global solutions to our real problems not succumb to political rhetoric.
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