The Second Housing Crisis Is Here - TheStreet

The Second Housing Crisis Is Here

Recent comments from Fannie Mae's chief economist confirm we are on the brink of a second, worse housing crisis.
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By Jeff Nielson of Bullion Bulls Canada

As the collapse of the U.S. housing sector accelerated in 2008 and the precise nature of this

supply-driven bubble

became apparent, I laid out a very specific "blueprint" for putting a genuine "bottom" in this market.

The U.S. government needed to commit $1 trillion to $2 trillion to paying down the mortgage balances of U.S. homeowners in order to restore some badly needed

equity

for these homeowners, which in turn, would provide some stability to the U.S. housing market by eliminating most/all "underwater" mortgages, thus ending the incentive to "walk away" from these mortgages.

By 2009, with the U.S. government having

done nothing

to mitigate this collapse and U.S. homeowners having lost much more equity, I raised the necessary government ante to $3 trillion: enough to pay down mortgage balances by roughly 20% (only a small fraction of the $10 trillion used to bail out Wall Street). But there was a

second

structural problem in the U.S. housing market that I identified: a supply glut that could only be "fixed" by bulldozing vast numbers of homes.

Not only was there a gross excess of total housing inventory, but the bubble-driven insanity had resulted in the construction of vast numbers of homes in totally impractical locations: the "exurbs." These were new housing (and population) enclaves that were springing up so far from major population (and employment) centers that they couldn't even be classified as "suburbs."

In February of 2009, I wrote a piece that I referred to as

a "case study" of the U.S. housing collapse

: the town of Merced, Calif.

Merced was located 110 miles southeast of San Francisco, the

nearest

employment center. If such housing developments were ever viable, it was only in a world of cheap oil. That world no longer exists.

Given this reality, I reiterated my position that the U.S. government would have to demand that at least

1 million

of these homes be bulldozed. This would solve two problems. It would eliminate housing units that would likely never be sold

and

remedy the problem of overall excess supply, where there are currently somewhere around

20 million empty homes in the U.S.

(and an even greater number of "underwater" mortgages).

The problem with this solution is that the U.S. banks holding these mortgages -- and holding

trillions of dollars

of leveraged housing-derivatives -- would have to take virtually 100% writedowns on these units. Although the U.S.'s "mark-to-fantasy" accounting rules allow U.S. banks to maintain totally fictitious valuations on U.S. housing units (and their derivatives) as long as the homes are still intact, that will not be the case once they are razed.

In the efforts by U.S. banks to maintain fictitious valuations on U.S. homes and to create the artificial appearance of a "bottom" in the U.S. housing market, U.S. banks have been holding vast numbers of "REO" homes off the market. Part of this game is being played by U.S. banks dragging their heels on foreclosure proceedings, which has been aided by the sheer quantity of defaulting mortgages: enough to totally clog up the court systems of many U.S. states. In Florida alone, there is a backlog of more than 500,000 foreclosures, with only a trickle of those homes actually reaching the market.

Even

after

U.S. banks take possession of homes, they frequently hold those homes off the market in order to allow the propaganda machine to distribute fictitious numbers for U.S. "housing inventories." This is especially true with high-end homes, where for the first time in U.S. housing history, mortgage defaults are comparable with the rates of defaults for lower-end homes. The difference is that

buyers

are more likely for low-priced homes.

With this "shadow inventory" of unsold/unlisted U.S. homes totaling somewhere between 5 million and 10 million units, another

wave

of foreclosures/defaults is about to explode upon this market, as millions of the infamous "option-ARM" mortgages will be

resetting over the next two years

, with a large chunk of those millions of units representing certain defaults.

For those still not familiar with this terminology, an "option-ARM" is an "adjustable rate mortgage" that

also

allows reckless borrowers to pay

no principle

during the "teaser period" before these mortgages reset

and

pay

less than 100% of interest

, with that unpaid interest being added to the principal. Thus, when these mortgages reset, many borrowers will face a triple shock to their budgets. First, the interest rates will rise on most of these mortgages. Second, all that additional principal will now be factored into their new payments. Lastly, they will now have to make

full payments

on these mortgages.

Some homeowners will now be forced to make payments of up to three to five times their current, partial payments. What makes this upcoming crisis truly horrifying to anyone foolish enough to venture into the U.S. housing market is that more than 40% of these option holders have been making minimum payments (or less) on these mortgages, and virtually 100% of those mortgages are certain to default.

The combination of the massive "shadow inventory" of U.S. homes and the new tidal wave of defaults about to hit the U.S. market means that the U.S. housing market is about to suffer a second, worse collapse. With U.S. housing valuations still grossly inflated in relation to income/wealth levels, and with the total "equity" held by U.S. homeowners continuing to

shrink

, the next collapse in the U.S. housing sector either will be even steeper than the first collapse (which was three times as bad as the worst year of the Great Depression) or will simply grind on much, much longer (a more likely scenario).

As regular readers already know, this next collapse in the U.S. housing market will also be severely aggravated by two other factors. First, in an effort to create a second U.S. housing bubble, most of the

new mortgages

written up by government fraud factories in 2009 had

zero down payments

. This means that none of these homeowners has any equity in these homes and (with U.S. house prices now falling again) these homeowners are virtually all "underwater" on their new mortgages.

With these new "homeowners" (who actually "own" nothing) having no equity in these homes and having just started making payments, these new buyers will be even more likely to default, or simply walk away, than the U.S. homeowners who

already

were defaulting or walking away in the largest numbers in history.

Secondly, with the pensions of spendthrift baby boomers

grossly underfunded

(by as much as $3 trillion), there is zero possibility of these retirees collecting full pensions. This will necessitate that baby boomers dump trillions of dollars more homes onto this grossly oversupplied market or drastically reduce their standard of living (and spending). Both of these developments will have a severe (negative) impact on the U.S. housing market. The only difference is that one (dumping real estate) will impact the market directly, while the other will impact the market indirectly (reducing spending, which reduces employment).

With the U.S. government and the U.S. propaganda machine no longer able to pretend that there is a "bottom" in this market, we are

at last

seeing glimmers of reality seep into the reporting of this coming crisis.

Recently, the "chief economist" for

Fannie Mae

(FNM)

bluntly

stated the obvious

: Some of the absurd real estate developments "might have to be torn down."

The reality is that

most

of these "exurb" housing units will have to be torn down, along with some of the worst areas of "urban blight" in the U.S. In many of the most economically devastated U.S. cities, the combination of waves of foreclosures, crime and a lack of city funding for basic maintenance have left vast areas looking like Baghdad during the

worst

periods of the U.S. invasion.

The Fannie Mae economist offered no specifics or ideas of any kind on how many units would have to be destroyed, and (naturally) left open

who

would absorb the massive bank losses on these demolitions. Obviously, as a fellow bankster, the Fannie Mae economist didn't think that Wall Street would or should absorb any of its own losses. (Isn't that what the

Federal Reserve's

printing-press is for?)

In the real world, as I have mentioned in previous commentaries, this demolition process has already begun. Some

new housing developments

have already been quietly bulldozed, while

at least one U.S. city

is already deeply into planning mass demolitions of entire neighborhoods.

These were realities that totally contradicted the mythical

"U.S. economic recovery"

, and so were ignored by media propagandists and politicians alike.

Sadly, what Americans are about to discover is that instead of being more than one year into a "U.S. economic recovery," they are standing in the "eye" of an economic hurricane. This period of false stability is over.

The pretend bottom in the housing market is gone. The feeble wave of Census hiring is over. The flood of "stimulus dollars" has slowed to a trickle,

and

bankrupt state and local governments now either will have to formally default or radically slash spending and raise taxes to prevent such bankruptcies. When the government-sponsored enterprises, which bankroll 95% of U.S. mortgages, start talking about demolishing homes, you know that "the party is over."

Jeff Nielson studied economics for four years at the University of British Columbia, before going on to attain a law degree from that same institution in 1989. He came to the precious metals sector around the middle of last decade as an investor, but quickly decided this was where he wanted to focus his career. After publishing his own, amateur blog for a year, in 2008 he founded Bullion Bulls Canada: a web-site providing information and analysis to precious metals investors. Today, bullionbullscanada.com reaches a global audience of precious metals investors in more than 120 countries.