Financing Houses

Housing's New World of Cautious Lending

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http://www.fool.com/investing/general/2007/06/11/housings-new-world-of-cautious-lending.aspx

David Lee Smith
June 11, 2007

About 60 days ago, I mentioned to my Foolish friends that my wife and I had put our Florida home on the market in favor of relocating to the Carolinas. At the time, I noted that the Southwestern part of the Sunshine State, where we were trying to attract a buyer, was essentially the epicenter of U.S. housing weakness. As a result, we expected a long siege among the ranks of those with "for sale" signs adorning their front yards.

But lo and behold, we received a contract on our home the day it hit the market. We're therefore in the latter stages of arranging for a mortgage in our new location. Our loan-to-value ratio will be less than 40%, meaning that we won't encroach upon the now famous -- or perhaps infamous -- world of subprime loans. Yet despite having excellent credit, we're being confronted with more mortgage-granting hurdles than has been the case with any of our prior homes, most of which carried 80% or higher mortgages.

  Toll Brothers (NYSE: TOL) CEO Bob Toll was spot-on last month when he observed that subprime woes are affecting the entire housing "food chain." Indeed, I believe that, somewhat quietly, there has been a material strengthening in U.S. mortgage-lending standards for all borrowers. And while that strengthening clearly is justified, it just as clearly will slow the recovery of the housing sector.

That takeaway also would seem logical from a Monday Wall Street Journal article about Sheila Bair, the aggressive and still relatively new chairperson of what the Journal called "the once-sleepy Federal Deposit Insurance Corp.," the entity that oversees federally regulated banks. Apparently, Bair urged Congress earlier this year to hold Wall Street investors and mortgage service companies accountable for the expanding subprime quagmire. Such blame placement makes those in the mortgage "food chain" even more circumspect than they have been.

It also seems that housing's lift-off is anything but imminent. Last week, Meritage Homes (NYSE: MTH) joined other builders such as Pulte (NYSE: PHM), Hovnanian (NYSE: HOV), and Toll in declaring that the future had become too murky to permit the issuance of financial guidance for this year. At the same time, an economist from the typically rose-colored-glasses-adorned National Association of Realtors noted during the week that home sales "probably will fluctuate in a narrow range in the short run, but gradually trend upward." That, my Foolish friends, is tantamount to doom and gloom for the Realtors' group.

I've stated that I believe Fools can make money by very slowly building positions in the better builders and exercising considerable investor patience. I continue to believe that approach will work, but with each passing week, the words "slowly" and "patience" gain additional currency.

Building on related Foolishness:

•     The Housing Slump's Third Phase  
•     Housing Schizophrenia  
•     Haunting Results at Home Depot  

  Meritage Homes is a   Stock Advisor   selection. Find out why with a free 30-day trial.

  Fool contributor David Lee Smith does not own shares in any of the companies mentioned. He welcomes your questions or comments. The Motley Fool does have a disclosure policy.

The Interest Rate Trap

                                       

Posted by: admin, in General                                

There’s an old saying that there’s no such thing as a free lunch. When someone takes you to lunch, there’s often an ulterior motive; and so it is with lenders who advertise extremely low interest rates.  There’s always a catch.  There’s got to be for purely economic reasons:

Only a tiny minority of lenders lend their own money.  They borrow what they lend from other people; usually depositors in banks and money market funds.  To be able to borrow this money, they have to offer their lenders an attractive interest rate, or ease and simplicity of keeping liquid assets in a secure place, or sometimes all of the above, in addition to a toaster.  One lender in my area is advertising that it will throw in a round trip ticket to anywhere that Air Trans flies if you’ll deposit $10,000 with them for a year.  They hope nobody will notice that the low interest rate they pay more than makes up for the expense of the ticket.

When they advertise that they’ll re-lend this money for 1.95% per year, the catch is that it will be an “introductory rate” that runs for about 3 months, after which the borrower will pay an adjustable rate starting above prevailing rates, then pegged to an aggressive loan index rate.  This is accompanied by a pre-payment penalty that glues the borrower to this rate unless he can come up with a lot of cash to pay off the loan and the pre-payment penalty.

The top ten jurisdictions where people have signed adjustable rate mortgages are Nevada (43%), California (40%), Washington D.C. (35%), Arizona (33%), Florida (33%), Colorado (33%), Illinois (28%), Washington (27%), Maryland (26%), and Virginia (26%).  The bad news is that a lot of people are going to be in financial trouble in these areas.  The good news is that they are going to offer the most fertile field for exploiting pre-foreclosures when interest rates start to climb again.

To further lull the unsuspecting, naïve borrower into thinking he’s getting something for little more than nothing, they keep the monthly payments at the same level, then add the unpaid interest to the loan balance and allow it to compound at the same high rate.  After paying on the loan for a year, the borrower may owe far more than the house is worth, and be unable to refinance the bad loan, or sell the house.  The moral of this story is to always think through offers that seem too good to be true.  They probably are.

Financing Houses

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