The Third Wave

It’s obviously all linked: the credit freeze, unemployment, consumer’s tightening up on spending, the stock market, the stimulus package, borrowing your way out of depression, California-like state deficits, the declining dollar and the foreclosure crisis. The government makes up for slacking consumer demand by becoming the “buyer of last resort,” but since employment is a trailing economic indicator, a double-digit jobless rate threatens to carry way into, if not all the way through 2010.

And that gives rise to what real estate experts call the “third wave” in this litany of residential housing foreclosures, which doesn’t even begin to address much anticipated hit to commercial real estate values. The first wave is attributed to the exceptionally unrealistic subprime mortgage failures – people buying artificially inflated homes with no real money down, many with false income statements, and no way to make the monthly payments.

The second wave was the overall hit to the residential real estate market as people realized that overall values were inflated because of pressure from these subprimes that rippled right on up through the system and as teaser rates that suddenly skyrocketed to become up to unaffordable monthly nuts. All of these realities further weakened the financial institutions that provided the loans, the aggregators who bundled such loans into packages of derivatives and the investors, mostly financial institutions who bought these instruments as “investments.”

But losing your job is seriously bad news for someone trying to make monthly mortgage payments, particularly for those who bought real estate over the last few years. The May 25^th New York Times: “‘We’re right in the middle of this third wave, and it’s intensifying,” said Mark Zandi, chief economist at Moody’s Economy.com. “That loss of jobs and loss of overtime hours and being forced from a full-time to part-time job is resulting in defaults. They’re coast to coast.’ … Those sliding into foreclosure today are more likely to be modest borrowers whose loans fit their income than the consumers of exotically lenient mortgages that formerly typified the crisis… Economy.com expects that 60 percent of the mortgage defaults this year will be set off primarily by unemployment, up from 29 percent last year… Among prime borrowers, foreclosure rates have been growing fastest in states with particularly high unemployment. In California, for example, the unemployment rate rose to 11.2 percent from 6.4 percent for the year that ended in March, while the foreclosure rate for prime mortgages nearly tripled, reaching 1.81 percent.”

There is no way that the government programs are going to stem much of this tide. Mortgage “resets” based on government incentives have been minuscule relative to the scope of the overall problem. With over 4 million loans in the “distressed” categories, as foreclosures continue to rise, the fact remains that only tens of thousands have benefited to date from federal programs that encourage principal and interest re negotiations.

In short, things are going to get a lot worse before they get remotely better. The “stress tests” administered to our 19 biggest banks was in part intended to address what this third wave of foreclosures will do to these financial institutions if double digit unemployment sustains well into the future. But were those tests “negotiated” results based on banks clamoring for better treatment, and will financial reality tank those projections? And exactly how do these financial barometers augur for an “unfreeze” in the credit markets, which experts tell us is a main component of any real shot at stabilizing employment numbers in this country?

I’m Peter Dekom, and I approve this message.