Sunday, September 16, 2007

Round three of the horror show

The first round of the mortgage market horrow show was subprime borrowers and other very stretched borrowers falling behind on their payments because of either exogenous events, or they were in loans they should never have been approved for. The fallout for this round was immediately the borrowers, and if there are significant concentrations of troubled subprime borrowers, which is very likely given the heterogenous economic status distribution in America, the immediate neighborhoods and municipalities will have taken a quick and large hit.

The second round has been the larger wave that started first in January/February and then came back even stronger in August as investors collectively realized that subprime and then the entire mortgage market was in la-la land with very questionable data, assessments and modeling problems. Homebuilders, mortgage originiators, financial intermediaries, and hedge funds have taken the first hit, and a wider economy wide hit is in the pipeline as future activity will continue to contract in these sectors as the money dries up.

These two phases have seen the primary negative impacts immediately affecting people and organizations that have been beneficiaries of the excesses of the housing bubble. The secondary impacts are much more diffuse and broader, and probably more important than economically punishing bad decisions, but the economic 'justice' of rewarding decisions is intact.

However the third round is starting to pop up and it is different in that the dominant negative impact stakeholders could be the completely innocent and this is because round 1 and 2 have sent shakes throughout the systemic shock absorbers. And this round is popping up both in the US and the UK. The London Times is reporting that British banking authorities are worried about a $25 billion dollar bank run for Northern Trust. The UK equivilant of the FDIC will provide some protection for consumers, but people who are current on their bills, putting cash into their savings accounts and otherwise have done nothing risky are now at significant risk. Bank runs could happen in the United States as it is not neccessarily a matter of the balance sheet, but a matter of a collective confidence in a probable future balance sheet, and if that confidence is shattered, the panic builds on itself. [h/t Calculated Risk]

Now another twist on the third round is coming from Baltimore. The Baltimore Sun is reporting that an ailing mortgage lender's checks are starting to bounce.

Checks sent out by the troubled American Home Mortgage Investment Corp. to pay the property taxes of more than 70 homeowners in the Baltimore metropolitan area have bounced, local officials said yesterday.

Baltimore City received bad checks for 53 properties - a total of about $63,500. Baltimore County said American Home Mortgage checks bounced for 21 properties, totaling $41,000. Taxes are due at the end of the month.

I hope throughout the country municipalities, school districts, and insurance agencies are very understanding of situations like these when mortgage holders are making their full payments, including their escrow payments to mortgage servicers and then the money disappears and is diverted from its intended purposes. Even if there is a great deal of understanding, people's time will be impacted, their credit ratings will be initially hit even if the situation is cleaned up later on, and people who should not be significant impacted are being hit pretty hard with the mortgage crisis.

This could be the longest round, at least until the markets actually figure out what things are actually worth again and what is included in the bundled debt packages.

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