Selloffs Suggest a Looming Credit Crunch

And the market has had no shortage of credit-boom numbers to worry about of late.

The housing market has gone from nerve-wracking to downright horrifying. It's got to the point where there is simply no defense left for skyrocketing house prices.

First, even at today's very low interest rates, mortgages are eating up the biggest proportion of income since the early '90s. In the fourth quarter, mortgage payments were equivalent to 10.12% of disposable income, the highest reading since the first quarter of 1992 (and of course in many mortgage-paying households, the share will be much higher -- a fact that is lost in highly aggregated national numbers).

Here's the stunning difference between now and 1992. Back then, the interest rate on a conventional mortgage was 8.5%. Today, it's just under 6%.

In addition, the market value of residential real estate is at a record high in relation to after-tax income, Paul Kasriel, chief economist at Northern Trust, points out. Again on a nationwide basis, the market value of real estate is close to 200% of disposable income now. That ratio's previous high was in the late '80s, when it climbed close to 160%. A ratio close to 200% cannot last more than a few months. It is the equivalent of Nasdaq trading over 5000.

Sore ARMs

One of the defenses the housing bulls always made was that once a borrower locks in a 30-year mortgage rate, higher interest rates won't hurt that borrower, because the cost of the loan is fixed. But in one of the most worrying developments of late in the lending sector, the amount of adjustable-rate mortgages, or ARMs, has soared.

In mid-April, ARMs made up 35% of mortgage activity, according to the Mortgage Bankers' Association. Two years earlier, the share was half that. It might make sense to take out an ARM when interest rates are expected to fall, as the cost of the loan would fall if rates dropped. However, rates have risen since last year and they are more likely to rise than decline from now on. So why are more ARMs being extended to borrowers?