Overview: As the Q3 figures on national mortgage delinquencies and foreclosures were released showing a further worsening performance among borrowers ability to repay loans, President Bush a few hours later addressed the problems in the US housing market in a speech.
Back in August, President Bush announced that the Fed and Capitol Hill were working on several initiatives to help out distressed sub-prime homeowners. Yesterdays speech provided more details on this plan. Importantly, none of the initiatives involve government money.
Details: The plan consists of three major parts
1) The Federal Housing Administration (FHA), which is a federal agency usually insuring mortgage loans for a special group of qualified low-income home buyers, has launched a new initiative called FHA secure. This extends the FHA mandate to offer insurance for refinancing operations for a special group of eligible homeowners with sub-prime loans. Homeowners who meet certain conditions may be qualified to join. The homeowners must have:
a. A non-FHA insured ARM that has reset
b. Sufficient income to make the mortgage payment
c. A history of on-time mortgage payments before the loan reset.
The Bush administration estimates that more than 300,000 households will qualify for the FHAsecure programme. Note that the FHA as a self-funding institution does not involve tax-payers money,
2) The private mortgage industry, the Treasury and the Department of Housing have been working on a programme called HOPE NOW. The HOPE NOW initiative sets a range of industry standards to provide help to sub-prime homeowners. The programme involves three possibilities: 1) Refinancing of existing loans into new mortgages, 2) Moving the loans into the FHA-Secure program, or 3) Freezing the current interest rate for five years.
Bush notes that the group behind the HOPE NOW initiative estimates that 1.2 million homeowners would be eligible for the programme. This should be compared to the currently six million outstanding sub-prime loans according to the Mortgage Bankers Association.
The third option to freeze interest rates for a five-year period apparently applies to sub-prime ARMstaken out between January 2005 and July 2007, with rates to rise between January 2008 and July 2010. Further, it will only apply to borrowers with less than 3% equity in their homes, who are less than 60 days delinquent on their payments. Hence, the initiative is only designed to help those who can afford their pre-reset interest rate payments, but not their post-reset payments.
3) Finally, Capitol Hill is taking several regulatory and legal initiatives probably in close cooperation with the Fed to increase the transparency for homeowners and to ensure more prudent lending standards in the future. Further, Bush is urging the Congress to pass legislation to help offset the pain for homeowners. These include:
a. Allowing bigger mortgages in the FHA programme
b. Temporarily reforming the tax code so that written-off loans are not treated and taxed as ordinary income
c. Providing funding support for mortgage counselling, helping homeowners to find affordable alternative loans
d. Reforming the GSEs (Freddie and Fannie).
Assessment & outlook: In general, the initiative has pros and cons. It certainly involves some potential problems. Firstly, there is a problem from a legislative point of view with the US government intervening with private contract-setting. The mortgage institutions apparently have been acting on behalf of the bond investors. Whether this is compliant with legal practice seems unclear. This public intervention could in the longer term increase the risk premium demanded by investors in the mortgage market. Further, the HOPE NOW deal could imply an upfront loss to mortgage investors. It would be so if the negative effect on the cash flow to bondholders due to the five-year-freeze in interest rates is not fully offset by the positive effect the deal is meant to generate in terms of fewer foreclosures.
Secondly, the initiatives involve some cost in terms of moral hazard. Just as it has been discussed whether the Fed has been bailing out reckless investors by lowering interest rates, it is now fair to ask whether the US government is creating a moral hazard problem with regard to the future behaviour of homeowners. Further, there might be a more imminent moral hazard problem, as some homeowners could feel tempted to deliberately miss mortgage payments in an attempt to qualify for the five-year rate freeze.
On a positive note, the initiatives can help forestall some of the pain US homeowners are facing due to the bulk of resets arriving next year. Hence, the initiative could potentially take the edge off the pressure on the home market. That, said we cannot be sure of the significance of this impact. Probably, it will not be sufficient to dramatically change the current negative dynamics that is predominant in the US housing market. Hence, initially it will not alter our outlook that the US housing sector is set to subtract significantly from growth in the coming quarters.
Back in August, President Bush announced that the Fed and Capitol Hill were working on several initiatives to help out distressed sub-prime homeowners. Yesterdays speech provided more details on this plan. Importantly, none of the initiatives involve government money.
Details: The plan consists of three major parts
1) The Federal Housing Administration (FHA), which is a federal agency usually insuring mortgage loans for a special group of qualified low-income home buyers, has launched a new initiative called FHA secure. This extends the FHA mandate to offer insurance for refinancing operations for a special group of eligible homeowners with sub-prime loans. Homeowners who meet certain conditions may be qualified to join. The homeowners must have:
a. A non-FHA insured ARM that has reset
b. Sufficient income to make the mortgage payment
c. A history of on-time mortgage payments before the loan reset.
The Bush administration estimates that more than 300,000 households will qualify for the FHAsecure programme. Note that the FHA as a self-funding institution does not involve tax-payers money,
2) The private mortgage industry, the Treasury and the Department of Housing have been working on a programme called HOPE NOW. The HOPE NOW initiative sets a range of industry standards to provide help to sub-prime homeowners. The programme involves three possibilities: 1) Refinancing of existing loans into new mortgages, 2) Moving the loans into the FHA-Secure program, or 3) Freezing the current interest rate for five years.
Bush notes that the group behind the HOPE NOW initiative estimates that 1.2 million homeowners would be eligible for the programme. This should be compared to the currently six million outstanding sub-prime loans according to the Mortgage Bankers Association.
The third option to freeze interest rates for a five-year period apparently applies to sub-prime ARMstaken out between January 2005 and July 2007, with rates to rise between January 2008 and July 2010. Further, it will only apply to borrowers with less than 3% equity in their homes, who are less than 60 days delinquent on their payments. Hence, the initiative is only designed to help those who can afford their pre-reset interest rate payments, but not their post-reset payments.
3) Finally, Capitol Hill is taking several regulatory and legal initiatives probably in close cooperation with the Fed to increase the transparency for homeowners and to ensure more prudent lending standards in the future. Further, Bush is urging the Congress to pass legislation to help offset the pain for homeowners. These include:
a. Allowing bigger mortgages in the FHA programme
b. Temporarily reforming the tax code so that written-off loans are not treated and taxed as ordinary income
c. Providing funding support for mortgage counselling, helping homeowners to find affordable alternative loans
d. Reforming the GSEs (Freddie and Fannie).
Assessment & outlook: In general, the initiative has pros and cons. It certainly involves some potential problems. Firstly, there is a problem from a legislative point of view with the US government intervening with private contract-setting. The mortgage institutions apparently have been acting on behalf of the bond investors. Whether this is compliant with legal practice seems unclear. This public intervention could in the longer term increase the risk premium demanded by investors in the mortgage market. Further, the HOPE NOW deal could imply an upfront loss to mortgage investors. It would be so if the negative effect on the cash flow to bondholders due to the five-year-freeze in interest rates is not fully offset by the positive effect the deal is meant to generate in terms of fewer foreclosures.
Secondly, the initiatives involve some cost in terms of moral hazard. Just as it has been discussed whether the Fed has been bailing out reckless investors by lowering interest rates, it is now fair to ask whether the US government is creating a moral hazard problem with regard to the future behaviour of homeowners. Further, there might be a more imminent moral hazard problem, as some homeowners could feel tempted to deliberately miss mortgage payments in an attempt to qualify for the five-year rate freeze.
On a positive note, the initiatives can help forestall some of the pain US homeowners are facing due to the bulk of resets arriving next year. Hence, the initiative could potentially take the edge off the pressure on the home market. That, said we cannot be sure of the significance of this impact. Probably, it will not be sufficient to dramatically change the current negative dynamics that is predominant in the US housing market. Hence, initially it will not alter our outlook that the US housing sector is set to subtract significantly from growth in the coming quarters.
