Reintroduction of Moral Hazard in the Mortgage Industry

“Throwing this out there without showing evidence of hardship was an outrageous move, outrageous.”

Photo by DJ Johnson on Unsplash

According to the National Association of Realtors, home sales spiked 24.7% in July from June.

Monthly supply of for-sale houses in United States. Source: FRED.

As the amount of homes on the market continues to drop, we’re summiting a vital question:

How many people are in deferment and what happens at the end of that period?

It’s great that home prices are staying strong and that more people are entering a mortgage. However, the stickiness on the darker side of that coin is the burden that banks are taking on by mandatory deferments.

Specifically, what happens at the end of those deferments and what those numbers look like. David Stevens, who headed the Federal Housing Administration during the subprime mortgage crisis, said that:

“The administration made a huge mistake bringing moral hazard in and thrust extraordinary risk into the private sector that could collapse the mortgage market.”

The events that led up to the subprime mortgage meltdown looked relatively normal. By most visible indicators, the economy felt strong. This later turned out to be facade and nothing more than semblance, causing approximately $8 trillion in homeowner equity to vanish over a few years.

Homeowner equity in real estate, tracked from 1990 to present. Source: FRED.

Home prices are at a record high. The stock market is at a record high. Gold is at a record high. If you were an alien from a different planet, you would think that this is a great time to be alive in this world.

You would have no indication that the people of the Earth today are living in a pandemic, wearing masks wherever they go, and small businesses are closing shop left and right. All while the Federal Reserve is printing money against itself at an alarming rate, banks are employing mortgage deferments, and state funding is drying up due to the overwhelming amount of unemployment benefits being paid out.

For mathematics that nobody quite understands, the sum total of these events leads us to the shortest bear market the stock market has ever seen and a housing market that only knows to trend upward at a pace with growing acceleration.

Mark Zandi, chief economist at Moody’s Analytics, predicts that 15 million households — or more — will receive some form of forbearance on their home loan. This was in April, and those numbers are likely to be higher today.

CNBC reported that 32% of Americans, or one-third of households, owed money for missed rent or mortgage payments at the beginning of August.

As independent events with evidence to suggest a recovery, these things wouldn’t be terrible. As events conflated with future financial instability and uncertainty, the economy is left in a confused state. The collision of these events could easily exist in the future — especially when these forbearances need to either be

  1. paid.
  2. re-evaluated.
  3. added to the principal loan in some fashion that makes sense.

None of those things have been figured out. Instead, the economy has been thrust several years into the future, and money has been infused in every industry while the unemployment rate continues to depress.

This is a world where the interest rate continues to fall while the home price rises. Effectively, that makes the purchase more expensive, since the interest is generally always paid forward and amortized over the life of 30 years.

No insurance policy going forward.

Freezing bills have been the concept at play moving forward. It’s been that in combination with throwing the entire kitchen sink at markets to keep them afloat.

We’ve achieved record highs in the stock market. Both the S&P 500 and the Nasdaq-100 eclipsed the pitfalls in March. The housing market continues to rocket forward, too.

But in a few short months, people will be left trying to figure out a way to pay for a loan they were approved for — and whether or not they have that ability is a gargantuan question at play right now. With a third of American households potentially in some form of forbearance, it’s starting to feel like this wave of euphoria will be shortlived.

Responsibility and reckless abandon have never felt so close.

Written by

UC Berkeley, mathematics. Los Angeles. Long-time runner. Top writer on Quora, 100M+ total content views. New to Medium. Inquiries: Moumj@berkeley.edu

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