Aug. 19, 2011: Troubling trends in existing home sales; bank job cuts; Remember Libor - why is it so low? Companies trying to process locks
Rob Chrisman

Every month we hear about existing home sales, with the usual quote from someone at the NAR. (This time around, Lawrence Yun, NAR chief economist, said, "Affordability conditions this year have been the most favorable on record dating back to 1970, but many buyers are being held back because banks are offering financing to only the most highly qualified borrowers, ignoring a large share of otherwise creditworthy buyers. Those potential buyers represent the difference between an uneven recovery and a much more robust housing market that could stimulate additional economic activity and create jobs." Many in the credit & mortgage industry would say that “qualified” and “creditworthy” are subjective, and that NAR members rarely underwrite loans and are better at helping to buy & sell properties.)
 
Existing home sales fell 3.5% to 4.67 million in July, below expectations for a modest gain. At this sales pace, it would take 9.4 months to clear the inventory on the market for sale, almost double the supply in a normal market. Economists believe that this large imbalance between demand and supply likely will keep downward pressure on home prices and housing construction. Cancellations have increased, as suggested by the widening gap between closed (existing) and signed (pending) contracts. Per NAR, 16% of contracts failed because of mortgage application rejections, 9% due to low appraisals. (Low appraisals led to 13% of contracts being renegotiated below the agreed upon price.) All-cash sales accounted for 29% of sales in July, unchanged from June but down slightly from 30% last July, and distressed sales made up 29% of sales compared with 30% in June and 32% last July. The majority of distressed properties are purchased without financing, usually by investors. A decline in investor demand would be a clear negative for the housing market given the large overhang of foreclosures that need to be sold. If investor demand is drying up it means prices would have to fall further to clear the excess supply.
 
RE/MAX released a survey of 53 cities, showing that July home sales dropped 12.7% from the previous month. RE/MAX blamed tightened lending standards, concern about the overall economy and bad appraisals that reportedly killed many transactions. In addition, RE/MAX also said many lenders are already using the lower loan limits for government guaranteed or insured mortgages set to take effect in October.
 
No one wants to be the target of a probe, no pun intended. There is some momentum picking up with regard to examining the rating agencies' role in the mortgage meltdown - and many say "it is about time." http://uk.reuters.com/article/2011/08/18/uk-mortgage-probe-levin-idUKTRE77H5ZJ20110818.
 
Bank of America is cutting 3,500 jobs this quarter (they started the year with 280,000 employees). According to Reuters, global banks have announced close to 50,000 job cuts, starting now and continuing in coming years. HSBC and Lloyds Banking Group have announced the biggest cuts, and Bank of New York Mellon Corp last week said it plans to cut about 1,500 jobs, or 3 percent of its workforce, due to rising expenses.
 
(In a rare move, the FDIC shut down a bank on a Thursday. The deposit base of Public Savings Bank of Pennsylvania was taken over Capital Bank of Rockville, Maryland.)
 
All of the major US banks are seeing an influx of deposits, and balance sheets are expanding at a very high rate. This is not necessarily a good thing, however.  At first it sounds like a good problem to have, but in many ways it isn’t. Remember that deposits are liabilities (not assets!) and cost banks money.  Meanwhile, over on the asset side, the tepid loan environment means there aren’t many good places to lend the influx of deposits!

In this era of low mortgage rates, few borrowers are opting for ARM loans. We all know that at some point that will change and lenders will all have to dust off their ARM margin notes and remember things like LIBOR, created in the 1980's. The London Interbank Offered Rate is a key adjustable rate mortgage index, but also helps price trillions of dollars of derivatives and corporate loans. Calculated daily, Libor (not all in caps) is supposed to measure borrowing costs for a panel of banks globally. The rate "floats," or ebbs and flows depending on how much banks charge one another. At the height of the financial crisis in 2008, Libor was one of the most-watched indicators, as nervous investors looked at its sharp rise as a sign of waning confidence in the stability of the global financial system. These days, however, two key Libor gauges are being suppressed because of sharply shrinking demand since banks have a lot of cash, and don't need to borrow from each other. Libor rates are very low, and have failed to reflect turmoil in the bank markets amid the European debt crisis. (In the 2008 financial crisis, by contrast, the rate rose to about 4.82% from 2.81% in a six-week period.)

For consumers and companies, low Libor is good news because some home, student and corporate loans, among other things, are tethered to Libor. Just think of all those resetting ARM loans (although the impact depends on margins). Most U.S. auto and credit-card loans are set against the prime rate, however, which now stands at 3.25% and often have margins in the teens.

The British Bankers' Association "oversees" Libor, and has some reasons why Libor is so low and why banks are borrowing less from one another in the Libor market. In the U.S. and Europe, regulators have given banks cheap access to their lending facilities since the 2008 panic. And depositors are parking their money in banks - who needs to borrow outside aside from banks with end-of-month funding needs? Retail deposits are desirable because they are stable.  The Fed has a lot of cash now (which they could use to buy bonds) which also keeps Libor low: there is a massive liquidity cushion.

Every mortgage company suddenly is swamped. Frank Fiore with Matchbox LLC writes, "The joy of a bolstered pipeline faded with the prospect of not being able to close it as operation inefficiencies suddenly came to the forefront.  Mortgage bankers are now worried about their processes and looking for ways to handle the mounting surge." At Plaza Mortgage, they warned clients, "Due to heavy volume, you may experience delays in processing document uploads through PULSE.  Please avoid duplicate uploads as this will further delay processing. Please ensure the following documents are included in your submission package for disclosures: 1. Initial 1003 with complete HMDA and NMLS data, 2. Initial GFE, provided to borrowers w/in 3 days of application, 3. Any subsequent revised GFE(s), if applicable, 4. Initial Fees Worksheet/Itemization of Fees Breakdown, 5. Credit Report."
 
Mortgage companies have been deluged with locks over the last few weeks - whether or not they close remains to be seen. Out in Northern California, a rep for Interbank sent out a preemptive e-mail to his region. "From: Gabe Munoz at gmunoz@interbankwholesale.com, Subject: INTERBANK ***Northern CA $100 Million in Locks Not yet Submitted**. I know a lot of you have locked a great many loans since last Monday and the first of the month.  Currently we have 100 million in the Bay Area alone that have yet to be submitted, please get these in as soon as you can! At InterBank we require a Pull Through on Locks and Underwriting approvals to stay above 75% and they have zero tolerance on this policy. Please remember if your file is not submitted in the first 10 days from your lock date, it will be cancelled, and you will not be allowed to relock until we have received a complete file submission and you will be subject to worse case pricing...Also if on you already locked loans you would like to float down your rate a .25, again please contact the lock desk and “cc” me with the borrower name and loan # and what you would like to float down to, remember it’s a .50 cost up front to float down on current day pricing." Wow - what wholesale rep wouldn't want $100 million in business for a month!? Good luck.
 
What do these headlines add up to? "Consumer Price Index increased 0.5% in July," "Jobless claims climbed by 9,000 to 408,000, the highest in a month," "Federal Reserve Bank of Philadelphia’s general economic index unexpectedly plunged to minus 30.7 this month, the lowest since March 2009," and "Treasury Yields Tumble Amid Concern Worldwide Economic Growth Is Slowing." Stagflation? Double-dip recession?
 
For trading, MBS volume was about average yesterday – nearly 20% of it being 15-yr paper. 10-year notes surged .75 in price down to 2.08% in yield by the end of the day (1.99% intra-day) – but MBS prices were nearly unchanged! (That is called “negative convexity”!) Selling from mortgage bankers weighed on 3.5s and 4s as did the prospect of looming supply, particularly from the increasing pay downs that will be coming off the government (Fed/GSEs/Treasury) MBS portfolios due to refinancings.
 
Yesterday was a very good example of how mortgage rates don't always move in lock-step with rates on Treasury securities, like the 10-yr note. This commentary usually quotes the yield on the 10-yr in comparison to where it was the previous day, as a rough rule of thumb. But yesterday the 10-yr sank to a yield of 1.98%, up over .75 in price, while current coupon MBS prices were nearly unchanged! Hedgers beware!
 
This morning, out of the gate, stocks are going to get smeared again while rates are…not much different. As one trader put it, “equities are finally getting the joke that bonds have been telling for a while now.” There is no scheduled news until Tuesday, leaving us open to “headline news”. The 10-yr sits at 2.10%, and MBS prices are worse by about .125.
 

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