San Diego Housing Market … Hitting the Lottery (or not)

In San Diego California we all know about the woes of the housing and the mortgage markets. Home prices continue to slide, with foreclosures out-numbering sales in some markets. Builders are writing off land and unsold projects, and new housing starts are at all time lows. The mortgage pendulum has swung so far the OTHER way that now almost no one qualifies.

 

There are some gaping holes in available mortgage products. Starting January 1, 2009, the maximum loan that can be purchased by FNMA or FHA will be capped at $546,250 for a single unit property in San Diego County. (Different limits apply for other areas.) Do you want to borrow more than that? Then you need to be WELL qualified and prepared to pay. Chase, Citibank and Wells Fargo (all still players in the “Jumbo” mortgage market) are quoting rates well over 8% for those loans. Even for smaller loans, problems exist. For those who want to make a smaller down payment, FHA has become the option of choice. There are no more 80/20, 80/10, or 80/anything, loans and there is no market for 2nd mortgages.

 

Conventional loans with less than 20% down require PMI. There are only a few PMI companies left right now they are not eager to insure mortgages in the state of California. The guidelines that they have are more restrictive than the FNMA and FHLMC underwriting guidelines and contribute to limiting the available pool of qualified buyers.

 

What else? Well, if you want to keep your current home and buy a new one you better have 25 to 30% equity in your current home or you’re not getting a loan. Own more than 4 homes and want to buy the 5th one? You’re not getting a loan either. Looking at a condo? Well, unless the condo meets specific occupancy requirements has adequate reserves for the HOA, this won’t happen either. Self-employed and write off a bunch of your income? You’re not getting a loan either.

 

See where this is going? As long as the number of San Diego home foreclosures in a given month exceeds the number of sales, prices can only go down. As tight lending standards eliminate potential buyers from the market, prices will go down. Each property sold buy a bank (foreclosures and short sales) means that there is no “move up” buyer. The person who “owned” that property is not going to be back in the market looking to buy another home for at least a few years (again, dependent on underwriting guidelines for someone with a foreclosure or short sale on their credit).

So, in San Diego California real estate, who IS “Hitting the Lottery” in these times? Well, a few folks are. If you have a loan serviced by IndyMac, you just may have hit the lottery. IndyMac is now effectively the US government. They are aggressively “re-working” their loan portfolio by reducing interest rates and principal balances (yes, this means REDUCING the loan balance) for borrowers to keep them in their home. If you have a loan with a lender who is still a viable enterprise (BofA/Countrywide, Chase/WaMu, Citi, Wells, etc) and your neighbor has a loan with an IndyMac or another FAILED bank, they stand a much greater chance at relief than you do.

 

Banks are also more likely to re-work loans where they feel that doing so will keep the loan as a performing loan long term. This is perhaps more likely in Kansas City than it is in San Diego. Why? In lower priced markets, a homeowner may have a 220k loan on what is now a 190k property. If the bank simply reduces the interest rate to 5% for five years, the lower payments may be enough to keep the borrower in the property. In San Diego, if you have a 600k loan on a $390k property, a simple interest rate reduction alone will not cut it. You want principal reduction too, or you stand a much greater chance of walking away. Banks are still very reluctant to just lop off hundreds of thousands of dollars on loan after loan.

Here is another angle that is starting to happen. Banks want and NEED cash … liquid cash. One reason that the so called “jumbo” loans are priced so high is that banks really don’t want them because there is NO secondary market for them. So, if they lend 1 million dollars to the most creditworthy person out there, they still have $1 million off of their balance sheet. That 1 million is no longer available to lend for any other purpose because it is tied up. Even if the yield is good (and it is, with rates over 8 and a fed funds rate at 1, the yield is VERY good), they don’t want to lend because it affects their cash position and their “leverage” or ability to lend that money in other places. Lending it 10 times on a credit card yielding 10% over prime is better than lending it at a 7% yield once.

 

Who is taking advantage of this? Private Equity firms. These are RICH people and institutions (yes, the rich get richer). Here is a version of what is happening. A private equity firm approaches a regional or mid-sized bank. The bank may have hundreds or thousands of mortgages on their books that they are not able to sell. The private equity firm agrees to buy mostly “performing” assets (loans that are paying on time) for say 60 cents on the dollar. Why would the bank agree to this? Well, three reasons. They rid themselves of “assets” for which there is no market. They put CA$H on their books that they can “leverage” and use to lend to others. Last, they now have a REALIZED loss and get a tax write off of the loss on the sale of assets. A sweet deal for them.

 

It goes on and here’s how. Lets look at how just one individual San Diego home loan is impacted, and you can multiply by hundreds or thousands to see where this will go. If the private equity firm bought a $400k loan, they paid 60 cents on the dollar or $240k for the loan. Let’s say the property is worth $300k. The private equity firm approaches a direct lender (at Guild we have been approached this way) and asks us to contact the borrower and see if they are interested in refinancing into an FHA loan for 97% of the current value. The borrower says, “How can I get a $291k loan when I owe $400k”? We tell them that once they are approved, the payoff will be reduced by the servicer to the new loan amount of $291k. It is a win-win for everyone. The new lender gets to create a good new FHA loan. The borrower gets a good fixed rate loan that is significantly less than they currently owe. The private equity firm makes a quick $5+k. (They also make out on the loans that are un-refinancable. They paid less than current value in most cases, so they continue to receive payments or foreclose and sell the property on loans that don’t perform.) The bank, private equity firm, borrower, and new lender are all happy. Who is not? The guy who lives next door to a guy who DOES get his servicing bought by a private equity firm. Yes, you could have a loan and your neighbor could have a loan of equal value. Your neighbor might be the one who gets the call to re-fi to a significantly reduced principal balance. You call your lender and are told “Sorry, can’t help you.”