When Will We Reach the Bottom?

In the recent past I've pondered the question of "where's the bottom of the stock market." Now I ponder "When will we reach the bottom?"

A lot is made of the increasing rate of mortgage foreclosures, more this month than last month, and so on. Eventually, there will be a month with fewer than the previous month, the monthly rate of foreclosures will decrease, and we will have passed the peak... of foreclosures. Lets assume that the bottom of the stock market will be around the same time (could be longer, could be a little sooner).

The rate of foreclosures is strongly influenced by the schedule of when adjustable rate mortgages (ARMs) readjust from low teaser interest rates to high rates, which are often unaffordable and lead to foreclosure. The peak in the number of subprime ARM interest rate resets per month came at about the end of 2007, tapering off to a low right about now in late 2008 (about month 22 in the graph below, where January 2007 corresponds with month 1).


However, another wave of ARM rate resets is coming and will peak about two years from now. It has been pointed out that the holders of these mortgages, which are of better quality than subprime, might be able to refinance to a fixed rate and afford the transition. True, but this is potentially offset by the fact that many of the associated property values will be worth less than when they were purchased. Statistics say some will fail so that we'll have another wave of foreclosure problems growing to a peak over the next two years.

That's the story on residential mortgages. What about commercial mortgages? According to the Associated Press,

the same events poisoning the housing market are now at work on commercial properties, and the bad news is trickling in. Malls from Michigan to Georgia are entering foreclosure. Hotels in Tucson, Ariz., and Hilton Head, S.C., also are about to default on their mortgages.

That pace is expected to quicken. The number of late payments and defaults will double, if not triple, by the end of next year, according to analysts from Fitch Ratings Ltd., which evaluates companies' credit.

"We're probably in the first inning of the commercial mortgage problem," said Scott Tross, a real estate lawyer with Herrick Feinstein in New Jersey.

And there are compounding factors.

Unlike home mortgages, businesses don't pay their loans over 30 years. Commercial mortgages are usually written for five, seven or 10 years with big payments due at the end.

There's also a chain-reaction effect. As the economy turns down, retailers who are renting space in malls will close some of their stores and stop paying rent. The mall owners will loose their ability to pay their mortgages, and more commercial foreclosures will ensue, placing greater burden on the financial sector, which will be reflected in the stock market.

So when do we reach the bottom? Here's another hint.

About $20 billion [in commercial mortgage payments] will be due next year, covering everything from office and condo complexes to hotels and malls. When those $20 billion in mortgages come due next year — 2010 and 2011 totals are projected to be even higher — many property owners won't have the money.

With both residential and commercial real estate foreclosures possibly peaking out two years from now, it doesn't look like the bottom will be here too soon. This malaise will likely be with us for a while. We seem to have caught what Japan had, for over a decade, starting in the late 1980s.

Psssst... Do Something

• Contact the Broadcast Media
  
• Contact the Newspapers
  
• Contact the US Senate
  
• Contact the House of Representatives

Sources:

Unaffordable Mortgages

Andrew Jakabovics explains the mortgage crisis from the perspective of the home owner:

Many families who bought homes using an adjustable rate mortgage in the past several years face a Catch-22 situation highlighted by today’s home sales and price data: they face a rate reset with payments they can’t sustain, they will have difficulty refinancing their current mortgage because they now have negative equity, and they will be unable to sell quickly because of the glut of homes in the market.

This mess was predicted years ago. Back then, when debating whether or not there was a real estate bubble, I asked skeptics the following question, "How many times have you heard a friend or work colleague say, 'At today's prices I couldn't afford to buy the house I currently own.'" You didn't need higher math or economics to know we were facing a bubble.

In his October 24, 2007 piece on the Center for American Progress web site, Jakabovics looks over the horizon to see where this is going:

There are more than 2.8 million families with mortgages that reset in 2007 or 2008. The average monthly payment these loans will spike 37 percent when the reset happens. It is estimated that the new payments will cost the average family an additional $10,000 per year in mortgage costs.

At an average of 2.6 people per household, the 2.8 million families cited above translates to over 7 million people directly facing foreclosure in the next year or so, or about 2.4% of Americans. Many more millions of friends, relatives and work associates will be indirectly affected. Many marriages will fail and jobs will be lost in the process. Some will act out in violence and others will commit suicide during their ordeal. This is just another example of the disparity between the Main Street economy and Wall Street economy.

The Federal Reserve is pumping money into Wall Street, but little of that is trickling down to Main Street. Instead, the money is being used to offset the losses of large finanical institutions. These institutions are too large for the Fed to allow them to fail (read "monopolistic").

Sources:

Center for American Progress, Andrew Jakabovics on New Housing Numbers, October 24, 2007.