Wednesday, March 29, 2006

The Domino Effect...

Today's Dallas Morning News has a brief but insightful look at the mortgage market and the risk facing our economy given the concentration in real estate assets.

It is worth repeating that this is a national economic risk, not an upstate NY risk. However, any economic shock of this size could have a ripple effect that would eventually impact our economy.

Some highlights from the article:

"•The collateral backing mortgages is stretched precariously thin – one in 10 homeowners has zero-to-negative home equity.

I'd add that this ratio increases quickly if home prices begin not just to stagnate but actually start to fall.

•Recent estimates put one-quarter of all mortgages underwritten last year in the subprime, or riskiest, category. That's well above the 13 percent average share for the decade through 2005.

And the 13% share from 2000-2005 is more than double the historical average of 5-6%.

•Despite historically low borrowing costs, households spent a record amount of after-tax income at year-end to pay required principal and interest payments.

The general rule of thumb is never spend more than 30% of your after-tax income on housing. Many people are now pushing 60% of their income toward an asset that may decline in value.

•In the next two years, about a quarter of all outstanding mortgages – or more than $2 trillion worth – will reset at higher rates.

We've talked about this before - $2 Trillion in mortgage resets is a huge number.

Also, consider these real estate stats to really grab your attention:

• 43% of first-time home buyers did so with no down payment in 2005.

• The median down payment for those first-time buyers was 2% (on a $150,000 home).

What happened to the days of 20% down?

• Adjustable Rate Mortgages accounted for almost 40% of mortgages originated in 2004 and 2005.

• $1.4 Trillion in Equity was cashed out through refinancings in 2004 & 2005.

There is still just a 10-15% chance that the real estate bubble ends badly, but the scenario is scary enough that we need to look at it very closely.


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