Written each Friday by Lou Barnes in Boulder, CO. Also available online. Reprinted with permission. Lou typically provides background and context to what's happening in the credit/bond world along with topical events that some readers appreciate.
Looking into the future is an unreliable thing to do, but today an unusual amount of the future depends on our attitude toward it.
Economic data is especially unhelpful because all of it is back-looking and most is badly lagged -- and hence will be the perfect playthings of fearmongers. This week’s top example: the 17.8% drop in April sales of existing homes from March. March was a half-shutdown month, April all the way shut, and May half-open. NAR captures “sales” as closings, but the contracts were written at least one month and often two months before.
This disorderly lag will push the statistical housing bottom into reports of an awful May released in June, or possibly June released in July. But the bottom has already passed!
Your own local media and eyeballs will provide better information than these reports. A meteorologist friend used to say, “Never forget to look out the window.” Housing here in CO and a lot of places has revived faster than any other economic element, showings surging back to normal, competing offers returned, and the nationwide urban and suburban housing shortage still in place.
Possible housing trouble lies in three places. First, rentals: scattered data indicates only about 10% of tenants not making payments, but job losses have fallen so heavily on renter-profile households that we may soon see semi-distressed sales by landlords. The good news: lending to investors always requires large equity and post-closing reserves. The bad news: to what degree will the local college re-open, and campus-proximal flophouses re-pack?
The second housing issue is farther in the future and impossible to quantify now: what will be the slope of recovery? Nobody now expects a “V”, which means it’s still possible. The best chances for “V”: any effective treatment of the Covid illness, defined as fear-reducing; or dwindling cases despite reopening, whether from testing, masks, changed behavior, summer, or less general contagion than feared.
If the near-term Covid outcome is not so happy, economic damage will deepen and so will layoffs. The panicked shutdown may have been necessary to get our attention, but damage to state and local tax revenue will spread sideways. Here in CO already: a half-billion-dollar cut to higher education, and a 15% cut in K-12.
Mortgages are the third housing risk. Fortunately the risk is the fixable result of one thoughtless program in response to the virus, and one very bad actor making that program dangerous. Demand for loans was so poor in April and May that few consumers noticed -- except the puzzled millions who wonder why interest rates are so much higher than in February, why it’s so hard to extract home equity, and why some loan types are suspended.
Forbearance of mortgage payments is a necessary program. In an on-purpose shutdown we cannot then foreclose on those who can’t make payments. But we were in a hurry in March, and didn’t think through the consequences. Aside from the effects on existing loans and their investors, how do we make new loans if the payments will be randomly optional?
In the dozen years since the last disaster, mortgage underwriting has been the most rigorous in at least fifty years. The best evidence: mortgage delinquencies last winter fell to the lowest levels ever measured, still falling. We verify everything. We reject even good loans which don’t fit models for uniformity.
Almost 10% of loans are in forbearance now, although half of those are still making payments (go figure). But, in underwriting a new loan, how to quantify the prospect of forbearance, even near term? What if reopening is confounded by Covid spikes? Or even if not, as layoffs ripple outward and trigger more budget cuts and layoffs?
The US mortgage supply, $10 trillion in first mortgages has since 1983 depended on a weirdly elegant system of diverse local retailers (“originators”) sending loans through securitization to global financial markets, the loans then tended by contract data processors (“servicers”). That system replaced the Savings & Loans’ catastrophe, long-term loans funded by short-term deposits. The new system has worked beautifully, except for the interval of Wall Street highjacking, 2002-2008 -- and depended on two things. First the true genius of insight in 1983, how to derivatize and distribute interest rate risk, and second the high and uniform standards for government guarantees by Fannie et al -- collectively Government Sponsored Enterprises, the GSEs.
The bad actor turning forbearance into a supply disruption: The GSE regulator, Marc Calabria. Forbearance needs simple and routine bridge funding, a supply of credit to carry forborne payments until they are either made or added to existing loan balances.
Calabria is a zealot. A front-rank government-hater determined to privatize the GSEs. He knows that the GSEs were invented to backstop lending in a circumstance like this. I can say that because he said so on Wednesday. Pressing his privatization plan, he asserted that his privatized capital requirements would ensure the GSE mission “to provide stability to the secondary mortgage market both during and after a severe economic downturn.”
But Calabria will not allow the GSEs to execute that mission now. He has offered sham support to forbearance. To a drowning system, “Here, have an anvil.”
Privatization rests on a gigantic new IPO, selling $250 billion in stock to investors. Do you think the buyers, those public-spirited hedge funds would in a future economic upset be eager to sacrifice their investments for the good of the country? Calabria’s mission prattle aside, if he allowed the GSEs today to draw on their Treasury credit line, do you suppose he’d find those hedgies -- or warn them away?
For the moment Calabria guards his roadblock unmolested. The right wing of Congress shares his fanaticism, as do some in this all-time incompetent administration. The Fed knows, but this is Fannie’s job, has been since 1938. Mnuchin knows, but the right is already suspicious of him for agreeing to some Democratic stimulus. The Democrats are silent because they fumbled forbearance.
We shall see. The election is ever-closer.
Other than our individual economic behavior, Covid testing matters more than anything. Three snapshots, first the inspired daily graphic of national testing at www.calculatedriskblog.com. The good news: despite White House sabotage, we have huge room for increase and benefit, and positives falling to 5% is great news:
Then, just Colorado. In a state of 5.8 million people, staggering toward 4,000 tests/day is pathetic and still disorganized, only the amber bars state-sponsored. Down to 5% positives from 20% in one month is fabulous. Presumably fewer positives to find, although testing still targeted at the hot spots, nursing homes, food plants, and jails:
Also CO only, we’re one month into antibody testing, the positives still consistently near 7% -- which may include a large group of false-positives. Even if so, the true case count in the state is in some range near ten times the number of identified, and mortality among the young too low to worry about: