Credit Reports & Unsolicited Telemarketing

This may help explain some phone calls that you have received over the past two years. When someone takes your loan application they get a credit report through a credit report agency. Myself, our company Residential Pacific Mortgage and that credit report agency do not sell that information to anyone else. These agencies are companies which get raw info from the credit repositories and organize it into the credit reports which we use. However the actual repositories Equifax, Experian, Innovis and TransUnion sell the information that you are looking for a mortgage. As a result, you may receive unsolicited calls selling insurance or loans. There is no way to describe the extent to which this annoys us. We give them money to get your credit report and they sell that info to our competitors but that is our problem. I suppose that one could justify this by suggesting that making that info available to the competition encourages the borrower to get a better loan. Maybe it does. You decide. I am in no position to be objective about this.

But this enables the repositories under the Fair Credit Reporting Act to include your name on lists used by creditors or insurers to make offers of credit or insurance. In case you are not interested in receiving such unsolicited offers you may opt-out preventing consumer credit reporting companies from providing your credit file information for offers of credit or insurance that are not initiated by you.

You can do this at:

https://www.optoutprescreen.com/?rf=t

This site enables you to 1) opt-out permanently 2) opt-out for 5 years 3) opt-in if you change your mind.

Maybe I am suspicious of this whole process because I find that if you enter this site without the "https" and the "?rf=t" at the end of the URL you get sent to a part of the site that seems devoted to anything other than opting out.

All of which gives me an adequate excuse to update and present my piece on the wise use of credit.

How to Start Using Credit Cards Correctly

A long time ago - when I was graduating from college, even before I actually started my first job - I was sent applications for credit cards.  They were very easy to get.  They still are. Young folks getting their first jobs are introduced to the world of credit cards.  Credit cards are a modern necessity but for some they become a serious problem .  Credit card debt can destroy young people's lives.

This section is for people getting started in the credit world.

If you want to become a homeowner you need to have credit cards work for you.  It is OK to get credit cards.  It is OK to use them. The purpose in using them should be to establish a credit history. What is not OK is carrying any sizable credit card debt.

Let's say that you want to buy a new TV for $700. Do not do it unless you have the $700 set aside for the purchase.  If you are not the best in the self-control department, perform this drill: 
buy the TV on your credit card only when you have the money in your checking account.  When you leave the store (OK you can take the TV home first but you can't plug it in yet) write a check to the credit card company for the amount that was billed. 

Go home, take the TV out of the box, plug it in and Scotch tape the envelope with the check to the top of the TV. Mail it (the check not the TV) to them when you receive the credit card statement. You will have accomplished two things: 
1) established credit usage and
2) not run up any debt.

Obey the following rules when using credit cards:
- use them infrequently
- do not buy anything that you do not have the money in hand to pay for
- pay off all of your credit card debt when you receive the statements.

At present, I use credit cards only when
1) shopping online
2) buying "big ticket" stuff because BofA gives me 1% back and I pay the bill immediately
3) in an emergency.

It is only in the last few years that I have broken down and used them to pay for gasoline.  It is a lot easier to stick the card in the pump than to deal with the attendants at gas stations.

If you want a DVD and do not have the cash then you cannot afford it.  Wait until you have the cash and pay cash for it. 

If you feel that you need to get away for the weekend and do not have the money - stay home and watch TV.  Watch cartoons on Saturday and football on Sunday.  Play World of Warcraft all day. It only costs about $15/month.

Don't go to restaurants and put it on your credit card - pay cash. If you don't have that kind of cash - eat at McDonalds. If you cannot afford that then you really are in trouble.

Have some understanding with your spouse about that what will be spent for birthdays and the anniversary will be limited to cash-on-hand. Mutually agree that you love each other but that your love would be enhanced if you could buy your own house some day.  If you are not married then be grateful that you do not have this problem.

Avoid getting a lot of credit cards.  When the kindly woman at the cash register at Macy's asks you if you want to apply for a credit card and tells you that you will get 5% off whatever you buy that day - resist.  She is working for Satan. She represents the forces of evil even though she looks innocent. She is out to destroy your credit.  She probably owns apartment buildings and wants to make sure that you become a permanent renter.

Do not succumb to the concept that we live in a "credit card economy" and that using credit cards helps the economy.  I suppose that in the 1970's people bought cocaine and cocaine dealers made money and that gave the economy a boost.  In the long run neither drugs nor credit card debt really helps the economy.  Those who are ruined by them become economically marginalized. 

The Credit Industry

If you look on-line you will see that there are thousands of listings for credit cards, debt consolidation, credit repair, debt counseling and bankruptcy.  The credit card industry has spawned other new industries.

What Should You Put on Your Credit Cards?

On-line shopping, emergencies: tow trucks, bail.  Use them also as a "deposit" when traveling.  You need them to make hotel reservations and to rent a car.

Debt Consolidation

I typed "debt consolidation" into Google and it said "41,800,000 pages found".

I typed "+"debt consolidation" +bankruptcy" and it said "22,100,000 pages found".

Feeling frisky I typed "+"debt consolidation" +bankruptcy +suicide"
and it said "406,000 pages found".

Draw your own conclusions.

Living With Plastic

Credit cards are a necessity.  Get them.  Use them wisely.  Make them work for you by enhancing your credit history.  Don't charge anything that you do not have the cash to pay for.  Pay all credit card debt off immediately unless there is an emergency.

Not Just Plastic - Other Credit

I have seen many young people who could not qualify for a home loan because they had two car loans. If you cannot afford to pay cash for a car, keep the payment low.  As a rough guide, if more that 15% of your gross income is spoken for by debt you may not qualify for a home loan.

There is "smart" debt.  If you take out student loans and get through medical school that is smart debt. If you buy a car which you need to get to work or use for work that is smart debt.

For the More Sophisticated

Please understand that most (maybe all) of the advice above is for beginners.  Folks who have well-established credit may seen the picture differently.  They may "put everything" on credit cards for the purpose of accounting or to get some subsidiary benefit such as airline miles or cash. If your approach to credit is that sophisticated, feel free to pass this along to people who need it. One absolute rule is this: do not let any of your balances go above 40% of the credit line. If they get above that there will be a negative impact on your credit score. In short, if you are going to carry credit card debt, spread it around.

 

---

Dick Lepre

Concern About Condo Values

Last week I took a look at housing values and the noted issue that values are stabilizing in most places and will probably turn slightly down in other places. I see no "bubbles" bursting with two exceptions: 1) those places where there was too much building and 2) those condo projects in which there has been a disproportionate amount of speculative buying.

I believe that is is very important for anyone who is contemplating buying real estate to take a look at what and where the risks are and how, as a buyer, one can best take advantage of the situation.

Like any market real estate price movements are determined by the imbalance of supply and demand. Housing is less elastic than most commodities because 1) land cannot be created 2) lead times are long due to zoning and the length of time required to build homes. In addition, little housing construction is modular or prefabricated. In short, the supply often does not keep up with the demand. Like any supply constrained commodity the price can rise to a level begging for correction when the supply catches up with the demand.

One side effect is that sharply increasing values lead to speculative buying. This is not dissimilar to what happened in equities in the '90's. If a large enough percentage of buyers are speculators values get too high and it is not until speculators leave the market that values will attain a "natural level." By "natural value" I mean only a level with little speculative participation.

We are probably at a stage (and I caution here that I am speaking broadly, as if this were a national market which it is not) where there is little or no speculative buying and, in fact, the number of properties being listed is bloated by speculators bailing. Until enough buyers step up, prices will, fall in those places which have seen significant speculation.

There is one twist to this which requires attention. In any given city there is often a disparity in the percentage of speculative buying for single family homes and condos. The reason is very simple. It is a lot easier to but a spec condo because there is less hassle. You don't have to worry about the roof, for example, the HOA takes care of it for you.

The point is this: values will turn down to a much greater extent on condos because there are probably more speculative owners exiting that market. There are two effects likely here: those condos which have had a lot of speculative buying may well have significant losses in values and (this is the part that hurts) other condo projects even where there was little or no speculative buying may also see drops in values because buyers will become wary of condos. This is will be one of those cases where the media is likely to do a disservice. It is easier to write a disaster story called "Condo Nightmares 2007" than it is to correctly explain the market dynamics.

We have seen very like blow back regarding this in the mortgage business. When we do, our rate sheets will start to have more restrictive LTV limits for condos and areas with downturns and will see geographic LTV restrictions by county. That is what happened the last time there was a shakeout in the early 1990's.

I also see anecdotal evidence that there is softness in the new single family homes market because radio ads are telling me about all the wonderful stuff the builders are throwing in (gift cards, trips etc.). The one I heard Wednesday morning was particularly entertaining. This builder was throwing in incentives because business was so good. Right. It is likely the case that this is the result of too much construction compared to buying. It is not that folks no longer want houses. Builders will be affected, construction jobs will be affected, GDP will suffer a corresponding loss and the market will stabilize.

A point about what this may mean is that if you are buying a new single-family home from a builder you may be better able to beat some free upgrades out of them than you are to get a reduced base price. In some places builders are paying commissions to real estate sales people to bring them customers, something they would not have done a year ago.

---

Dick Lepre

Housing Values

Data this week confirm the fact that a long awaited, inevitable and totally healthy event is taking place. Housing prices are stabilizing. On Wednesday we saw sales of Existing Homes fall 4.1%. AP described this as a "plunge." Without getting into semantic quibbling that strikes me as a drop but not a plunge. I like the NYT description better "Sales of existing homes fell in July to an unexpectedly low rate." That is good because it is accurate. A smaller drop in sales was expected.

What we are seeing is the effect of long-term serious inflation in values. Many people are going to put their homes on the market hoping to get top dollar but many of those homes will not sell. While this creates the appearance of a market headed lower it is simply not the case with housing. Folks are not distressed to sell their homes they are simply willing to cash out if the price is right. The vast majority of those who cash out will be buying another house with the proceeds.

As we have been cautioning for a year the risks are in those places where there has been speculative buying of non-owner occupied homes. Those will be hard hit. Especially hard hit will be condo projects with speculative buying. As always, values will be impacted in those areas where one industry dominates and that industry is having cutbacks. The savaging of values in certain cities in the Midwest will continue. If there are no jobs for would- be buyers values have to fall enough to make homes attractive to someone. The Midwest also suffers from not being a retirement destination.

Builders are going to slow down in the construction of new homes and that will most certainly affect GDP and certain industries and businesses: building materials, Home Depot etc. With rates having gone up on mortgages and purchases slowing our humble mortgage industry will have one of its secular shake outs - fewer loan agents and processors.

With values having gone up so far so fast it is probably inevitable that values will actually fall in some places but I have long held the belief that a prolonged period (say, 5 years) of flat housing values would be a healthy thing. The simple fact is that the cost of owning a home has gotten to darn high. This 1) makes them unaffordable for some and 2) means that folks have less to spend on other things. So my point is this: do not complain about flat housing prices for the next 5 years. This is overall beneficial to the economy and to people's lives in general.

Values are not going to collapse for a couple of reasons: 1) these is not technological change which is suddenly going to lower the construction cost of housing . That won't happen unto we have nanobot carpenters and plumbers and 2) folks are not going to dump their houses and start living in tents, motor homes or cardboard boxes. House are not like Internet stocks - people actually need them and they have tremendous utility value. It would take a major shift in the relative cost of renting vs. buying to cause many folks to give up being owners for an economic advantage of renting.

Chicago Fed President Moscow said "We currently are seeing a good deal of softening in housing markets, and home prices are increasing at a slower rate. Even if prices did decline nationally, history suggests that the impact on consumer spending would be modest and gradual."

Taking another point of view the chief economist at Merrill Lynch said that the slump in housing has raised the chances the economy will fall into recession next year to at least 40 percent. Of course if Merrill Lynch says so then one can count on the opposite being true.

Speaking of misinformation I have been troubled by a radio commercial I have been hearing in San Francisco for the past several weeks. It (I think) is a pitch for a seminar based on the idea that one can make money in the coming "real estate shakeout." If you attend you will be informed by (and I swear I am not making this up) George Foreman, Mark Burnett (the "Survivor" dude) and Bill Walsh. Now I will admit that all three of these gentlemen probably own a bigger house than I do but I don't think that they are really wells of information as to what is happening in the real estate market.

The humor aside higher home values have spurred economic growth by creating activity in the home building and related sectors and the higher values have afforded folks the ability to borrow more and spend more. That party is ending and it remains to see what the aftereffects are.

 

---

Dick Lepre

This and That About Mortgages, Real Estate & the Economy

This week I am going to just make some comments on various topics relevant to the mortgage and real estate markets at present. In lieu of one of my off-topic thematic pieces it is good to concentrate on mortgages, real estate and the economy. Not as much fun but, hopefully, more relevant.

Mortgages

We will continue to see a modest increase in mortgage rates until the end of this year. This is based on both the technicals (StoMaster) and the reality that we will see one or 2 more Fed hikes and then enter an annoying gray period marked by uncertainty about whether the Fed's actions have hurt the economy. I believe that we shall once again find that the Fed knows what is doing. Nonetheless, much ink and blogging will be devoted to suggesting otherwise.

Mortgage Types

I have been doing mortgages for (I think) 14 years. I do not believe that I have ever seen a time when mortgage rates were flatter. By this I mean that the differences between fixed 30 year loans and the intermediate-term ARM's (the 5/1 and 7/1) and zero some days and 0.125% other days. There is not a lot of incentive to get an adjustable. Adjustables should offer mainly the advantage of lower rate and payment now for uncertainty later.

The flatness of mortgage rates is a consequence of the flat Treasury yield curve. The flat Treasury yield curve is a consequence of the Fed lifting the short end and the market keeping the long end fairly flat.

That Said...

We still see demand for both interest only loans and the Option ARMs. We have discussed this in the past but these are primarily for folks who are 1) buying a home now which they will be able to afford the payment on in a couple of years - folks with rising incomes 2) folks with incomes which vary significantly from month-to-month 3) folks who are buying homes which require fixing up 4) folks with income property which is costing them a few hundred bucks out of pocket to maintain 5) folks who may be buying a new home before they have sold their old home and need a break to carry two payments for a few months.

In short, it is not the rate that is selling ARMs but the low payment associated with interest only or the very low payments associated with the minimal payment of a negative amortization Option ARM.

Real Estate Prices

This has gotten enough coverage in the media. The media tends to be biased to "gloom and doom." Last week a writer in the S.F. Chronicle wrote and article on housing prices in the San Francisco Bay Area and said that the median housing price "tumbled" from $656,000 to $637,000. This may be a semantic thing but that is hardly what I would call a "tumble." It is a decrease of less than 3%. If that happens 5 months in a row we have a "tumble." (Dictionary says: tumble 1 a : to fall suddenly and helplessly b : to suffer a sudden downfall, overthrow, or defeat c : to decline suddenly and sharply (as in price).

The point here is that it is my hope that we see an extended period (say, five years) of relatively flat housing prices in those areas which have seen significant inflation in housing prices in the past 5-10 years. Folks are simply committing too large a portion of their income to housing payments at a time when wages are flat. That has to be taking a bite out of GDP and acting as a slowing force on the economy.

There is a lot more at stake here than folks may be willing to admit. Stability about housing prices may be seen as providing economic security to individuals. The fact is that a lot of folks have a great deal of their net worth tied up in the equity in their home. Collectively this is about the security of the banking system.

The following is almost seven years old but remains true: on April 22, 1999 Federal Reserve Governor Laurence Meyer in a speech in Annendale-on-the-Hudson, NY pointed out that asset price bubbles in real property were much more dangerous to the economy than inflated equity prices. To quote Meyer:

"There are two kinds of asset price bubbles. There is one which is centered on financial assets and equity markets. The other is when it stretches the real property market, and it is infinitely more dangerous. The U.S. economy can handle surely an equity kind of correction well. But when you have the kind of correction going on in Japan in property markets, you undermine the collateral of the banking system and you crush the value of banks."

If Meyer was concerned then I would think that the inflation in housing values since that time has given cause for more than a small amount of concern.

Apart from the real work of employees and employers the underlying infrastructure of our economy depends on confidence in the dollar and dollar denominated debt and on a healthy banking system. The real peril in the event of a serious bursting of a "housing bubble" is nothing less than the financial well-being of the banking system. In short, a collapse of the banking industry is much more serious than, say, a collapse of the domestic auto industry. I am by no means forecasting this. I very much doubt that anything like this would happen. I am only noting that instability of housing values would create a serious problem for banks. Meyers is correct that a collapse in housing values would be of far greater consequence for the banking system than any shop drop in equities.

To be fair, this issue is not so simple. Most mortgage debt is not owned by banks. The total amount of banks assets tied up in mortgage is about 20%. Of course, this is not uniform. It is still the case that any sharp drop in housing values will impact some banks and not others. In addition, the securitization of conforming mortgages by FNMA and FHLMC spreads the risk around geographically. In vales fall in Podunk the Bank of Podunk is not bearing all of the risk.

Economy. Big Picture.

I think that we will see sluggish GDP growth as the actions of the Fed intended to abate inflation take hold. From the Fed's perspective the biggest enemy of the economy is inflation. One year of GDP growth of less than 2% is better that core-CPI above 4%. That's simplistic but you get the idea.

- Dick Lepre

Housing Bubble? Option ARMs - the Good and the Bad

This is a copy of an article which I wrote which is published in the current edition of Scotsman Guide - a publication for mortgage professionals.

As published in Scotsman Guide's Residential Edition, March 2006.

Mortgage brokers and borrowers have two important questions about the market's future: 1. "Are we going to see a sharp drop in housing values?"; and 2. "Will the prominence of so-called 'exotic mortgages,' such as option ARMs, actually end up hurting more borrowers than they're helping?"

Although there is no definitive answer to either question, both are worthy of further investigation. Upon analysis, the market's guiding factors and option ARMs future are intertwined and addressable on their own separate terms.

Housing values

Let's say that a sharp drop in property values is one of 20 percent or more and that "prolonged" refers to a 10-year period. The cause of this scenario lies in a simple equation: The price of any commodity falls when supply exceeds demand. As such, housing prices will fall sharply when the number of homes for sale far exceeds the number of buyers. Further, it is likely that any decrease in housing values will occur in some cities and not in others.

The real question, then, is: What would cause the number of sellers to far exceed the number of buyers in certain cities?

When cities' businesses are highly dependent on a single industry and collapse, no jobs are left. People leave, and no one moves into the area until prices fall to an attractive level. Situations include those in Long Beach, Calif.; Dallas; and on a larger scale, the Rust Belt (i.e., the area roughly between Chicago and New York City).

Another answer might be speculation, which can incite price spikes and dips. The speculation could be that instead of people buying their houses to live in, they bought them for the same reason they bought Internet stocks in the 1990s -- greed. This speculation only occurs in certain markets. In a moderate recession, for example, we might see a decrease in property values in areas that primarily contain second homes.

Yet another factor is what I call "economic optometry." Many people who purchased homes in the past year simply could not see the big picture and would not believe that prices would ever come down.

This belief also exists on the seller side, as shown in the halt of increases in housing values in hot markets. Sellers are putting their homes on the market at "Would you believe?" prices, and prospective buyers are saying, "No, I would not believe."

Seeing decreasing or even stable prices, prospective buyers will choose to not enter the market until they are confident that prices will not decrease. As such, many homebuyers and would-be sellers may soon have their vision corrected.

The option-ARM factor

In addition to their concerns about housing prices, borrowers also might be worried about their mortgage payments. Here, there are two issues: 1. The impact of higher mortgage rates on the market and prices; and 2. The effect of "exotic" mortgages such as option ARMs.

There surely will be people who bought their home with an option ARM and who will choose to sell when faced with actually having to start paying off the loan. The idea that option ARMs may cause a wave of selling and further decline in values makes a few presumptions.

A popular assumption is that many homeowners are draining their equity by making payments of less than the interest. Faced in a few years with loan balances that exceed the property value and with the necessity of paying off a loan balance that is now 110 percent of the original loan amount -- and having to do it in 25 years -- these homeowners may be unable to afford the payments. They may not have the option of refinancing because of a lack of equity. Thus, they may have to sell.

I do not doubt that this will happen to some people. But the evidence that I have gathered from loan officers leads me to believe that this number is small. Therefore, I do not believe that the option-ARM factor will have a significant effect on the housing market.

Mortgage professionals must take a responsible stance, however. Those of us who originate mortgages need to temper maximizing our income with a sense of responsibility. There are situations in which option ARMs are excellent choices, and there are situations in which they are inappropriate. For example, if potential borrowers are going to buy a house with an option-ARM loan and intend to stay in the property long-term, they should be asked: "Will you ever be able to afford to start paying off this loan?"

Option ARMs should not be used to make an unaffordable property affordable. A few months ago, for example, a borrower in Phoenix called me about a potential purchase in the San Francisco Bay Area. He and his wife wanted to purchase a $1.5 million home, and they could afford a $300,000 down payment.

He asked me if I could get them an option ARM so that they could buy the home.

"Certainly," I said.

He then asked if this made sense in the long term, and when I asked if they intended to stay there for a long time, he said yes. I told him that he had to consider if they could ever make the payment on a $1.2 million mortgage, either fully amortized or even interest-only. He said they could not.

This was a situation in which an option ARM was inappropriate. There are cases in which option ARMsare appropriate and can provide people with financial opportunities that they might not have with any other loan products, however. For instance, option ARMs are appropriate for:

- Borrowers who want to buy a home today that they can afford three years from now. The profile that I often have is of a young couple: The husband is a lawyer, and the wife is a doctor. They are both at the start of their careers and certain that their combined income in three to five years will be 50-percent to 100-percent greater. They can buy the house that they can afford in three years and can start by making interest-only payments for a while.

- People with irregular income (e.g., commercial real estate agents whose income comes in the form of two checks a year). These people can make minimum payments in income-lean months and can make up the difference from their next large paycheck. In general, this might be appropriate for any family for whom average commission income is greater than average base.

- A purchase situation in which, for the next year, money must go toward repairs rather than toward the mortgage.

- People with income property who would rather not have to spend $500 in negative cash flow each month and instead give up equity now for cash flow.

Used correctly, option ARMs provide opportunity and convenience. Used incorrectly, they can be a prescription for disaster.

Brokers who understand which borrowers would benefit from exotic-mortgage products such as option ARMs can better serve their clients in a potentially volatile housing market.