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Citi: House prices could fall for another two years

by Morgan on July 19, 2008

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Citigroup chairman Win Bishcoff said that housing prices in the US and Britain could fall for another two years before leveling off.  It sounds nice, but it’s wrong.  House prices are going to continue falling for long than two years – especially in highly-speculative areas like California, Florida and Nevada.  The reason?  Option ARM and Alt-A loan resets that start to kick-in in earnest around 2010.  See below graph.

So while various pundits and “people in the know” will continue to throw out numbers that sound far enough off to not sound foolish, they will continue to be wrong until they address the second wave of resets that must wash through the system.

From Reuters:

Citigroup chairman Win Bischoff has warned that house prices in Britain and the United States are likely to keep falling for another two years.

The chairman of one of the world’s most powerful banks told the BBC in an interview that he expects it will take two years for the markets to stabilise.

He also said he expected the credit crunch could continue through until 2009.

And the graph that makes me highly skeptical of any talk of a recovery prior to the second wave.

Last 3 posts by Morgan

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  • Stan
    I'm a little new to this stuff, but learning fast. Could you walk through the graph slowly and expalin what it all means. I see the big drop, but I guess I don't really understand _what_ is dropping.

    Thanks!
  • Sure Stan - welcome to the party! The drop is actually the _good_ part. The two high points in the graphs represent the dollar amount of mortgages set to reset in a given month over the next several years. The high-points represent large amounts of mortgage payments that will be resetting or going adjustable.

    The Fed has tried to minimize the impact of the first wave (the first high peak) by lowering interest rates so that the resets are not as damaging (unsuccessfully many would argue).

    The second wave is made up mostly of negative amortization loans to people with good credit. These neg-am pay option loans will reset to approximately 3 times the current minimum payment amount which will unleash a wave of foreclosures across the market (especially in areas like California where the pay option ARM was popular).

    When forecasters neglect this reality they paint a rosy picture that can't possibly be realized unless something is done about these option arms.
  • Don
    Ahhhh, Morgan's Bar Graph of TRUTH!!!! This is my financial bible. Numbers don't lie!!! You can rearrange the deck chairs on the SS Titanic, but she's still going DOWN!

    Morgan, I'm thinking the $300b bailout is to get people out of the ARMS before the next wave hits.

    This is what I'm hearing....lenders are not helping people with loan mods or short sales as much as they could be. They are just letting these homes go into foreclosure. I've heard this from several sources. By now, the loss mitigation depts should be well staffed to handle the case loads. It's almost like the lenders are thinking, "We don't give a crap because the American Taxpayer will bail us out." I can almost hear Nelson on The Simpsons going, "Ha, Ha!", with Nelson being the lenders.

    Thoughts, Morgan????
  • Don - I think you make an interesting point, but I think the cost to lenders is going to be similar to the cost (to the lender) of a loan modification since the government is only going to help refinance borrowers in to a new 85% LTV loan. So the lender is going to see some loss either way.

    I think the loss mit folks are just screwed. The lender has little control, has to negotiate with whomever is the end note holders and get ok to modify the loan. With the way these things were sliced and diced it makes it almost impossible to get everyone on the same page.

    I think lenders are probably hoping for a bail out of some sort - but I think the $300 billion is just a drop in the bucket. I expect for there to be a massive government intervention at some point over the next 12-18 months. I don't know what it will look like but it will be big. That's my bet.
  • You are right that the Option ARM resets are the next wave of problems. However, those loans when they start to reset will not have the same impact that the exploding 2/28 ARMs did in sub-prime because of their payment caps. Almost all of those loans can not go up more than 7.5% of the payment per year (not rate), so a borrower with a $2,000 per month payment, for example, will only see their payment go up at most by $150 the first year and a little more than that the second year. Also, many option ARMs have a fully indexed rate that is right now only around 7%, while most sub-prime loans were resetting at 9% to 12%. The irony is that it may turn out that WaMu's Option ARM product might perform much better for borrowers and servicers than the sub-prime products.
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