Here in Sonoma County we need to pay particular attention to Option-ARM loans (some of the most toxic that allowed for negative amortization). As we've pointed out before, we are second nationally only to Salinas in issuance of Option-ARM loans according to BusinessWeek. This a time bomb on the horizon for Sonoma County as 37.7% of all loans were financed this way in 2005 in our locality.
For this reason I pay close attention to any mention of these loans in the media. This morning I noticed CalculatedRisk linked to a New York Times article that has me scratching my head.
Well Fargo, thanks to its acquisition of Wachovia, has around $115 billion Option-ARMs (or as they call them "Pick-a-Payment") on its balance sheet. But according to the article:
Only $325 million of the [Wells Fargo Option-ARM] loans — less than a third of 1 percent — will reset by the end of 2012.
Say what? Something doesn't mesh with the chart that leads off this post. Notice that it shows virtually all of the Option ARMs resetting (recasting?) before 2012.
But yet it's true. Here are the actual numbers from Wells Fargo’s filing with the SEC:
Based on assumptions of a flat rate environment, if all eligible customers elect the minimum payment option 100% of the time and no balances prepay, we would expect the following balance of loans to recast based on reaching the principal cap: $4 million in the remaining three quarters of 2009, $9 million in 2010, $11 million in 2011 and $32 million in 2012. In first quarter 2009, the amount of loans recast based on reaching the principal cap was de minimus. In addition, we would expect the following balance of ARM loans having a payment change based on the contractual terms of the loan to recast: $20 million in the remaining three quarters of 2009, $51 million in 2010, $70 million in 2011 and $128 million in 2012. A payment change recast occurred on $4 million of loans during first quarter 2009.
In short, Wells expects $56 million in Option ARMs to recast due to the loan balance reaching 125% of the value of the home and another $269 million to recast based on the terms of the loan. Given that we’re talking about a portfolio of over $100 BILLION of these loans, the bulk of which are in California, Florida and Arizona, how can this be?
Surely more than a fraction of one percent of the homes behind these neg-am loans will not meet the 125% loan-to-value requirement, even in a flat rate environment (and I think that assumption is a stretch). The same goes for the contractual recast. My understanding was that this was structured to take place 60 months (5 years) from origination. So how can Wells say that only $269 million will recast by 2012?
Has Wells Fargo gone mad? Or am I missing something? Any input in the comment section would be greatly appreciated.
Of note: It’s important to understand the difference between "reset" (interest rate changes) and "recast" (payments change to reflect full amortization). CalculatedRisk has a great post on the subject.
UPDATE: Please take a look at the follow up post on this topic here.
even if this is only loans originated by and kept on the books by wfc is does not add up.The Golden West Loans are Something else,GW was extremely flexible in their underwriting (I am being tactful) WFC also has HUGE exposure to 2nds and Helocs in the bubble states.Reggie Middleton has some good coverage on WFC BoomBustBling" Blog...I call BS.
ReplyDeleteI may be able to shed some light on this...NYT had an article on WF's Option ARM portfolio on Friday. World Savings went to Wachovia which went to Wells Fargo. A lot of World Savings "pick a payment" loans are 10-year Option ARMS, so they won't reset for almost another decade, which was the focus of the article, how strung out the foreclosures are going to be on these particular loans. And yes, most of them are CA, FL and AZ.
ReplyDeleteWells estimates a full 60% of these loans won't be repaid, so yes, the tsunami will come, but not yet. 2005 loans won't be blowing up until 2015, for example, unless people walk beforehand. So it's convenient the losses look manageable over the next year or so, when WF knows full well the pain is further out on the horizon.
Lisa,that is reset but most World Loans had a 125% recast,and almost everyone with an option ARM makes the Neg Am payment...which gives about 5 years...60% is a LOT of loans and the recovery will be getting smaller all the time as prices fall.
ReplyDeleteBecause of the sharp reduction in short-term interest rates, many option ARMs where borrowers make the minimum payment that were made in 2005 (e.g.) will NOT hit a 125% neg-am limit -- or actually get very close. E.g., the one-year constant maturity Treasury rate is currently around 0.50%, and the latest 12-month moving average (through April) was 1.37% (as such, of course, it will continue falling). A MTA option ARM taken out in, say, mid-2005 with a 3% gross margin, a 1.5% teaser, and a 7.5% annual payment cap hits a maximum neg-am limit right around now at just under 110%, and the balance then starts falling a bit.
ReplyDeleteThat doesn't mean they aren't a huge problem, because they were predominantly originated in areas where prices have fallen by well over 20% from the peak. But 10-year recasters don't face a recast coming. 5-year recasters, of course, are another story.
Great comments everyone. I'll probably post again on this later, but in short the fact Wells is assuming "flat rates" speaks volumes. Also hard to believe they are assuming everything will be fine when in 2015 all these loans recast into 20 year mortgages.
ReplyDeleteIn the meantime here is a reply I got via email from CalculatedRisk. As you'll see he stresses many of the points above:
HHB, products differ. It was very common to have a 120 month scheduled first recast (10 years), followed by 60 month recast periods. I suspect that is what these World Savings Pick-a-Pay loans were.
These were almost exclusively refis, so when they talk about 80% LTV - that was appraised value for the refi (and we all know how loose those appraisals were!)
But look at how much head room these loans had! Take a house appraised for $300K. World would loan $240K, and the negAM would cap out at 125% of the appraised amount - $375K. I haven't worked the spreadsheet, but that probably gives the borrower - making the minimum payment - the full 10 years until recast.
Can you imagine making minimum payments for most or all of the 10-year initial period? Talk about a loan blowing up, I have to believe the failure rate on these products will be staggering. Who could afford hugely higher payments, and for that matter, who would WANT hugely higher payments on a house that is worth less than the mortgage balance? Jingle mail galore.
ReplyDeleteCalculatedRisk just put up a new mortgage reset chart.
ReplyDeleteCommenting on the Wells Fargo "Pick-A-Payment" loans, he says:
Note that Wells Fargo expects only a small percentage of their $115 billion "pick-a-pay" Option ARM portfolio they acquired via Wachovia (originally from World Savings / Golden West) to recast by 2012 (because Golden West had very generous NegAM terms). I'm not sure how that fits with this chart.http://www.calculatedriskblog.com/2009/05/new-mortgage-loan-reset-recast-chart.html
It is also important to note that the 125% cap is not of the home's value but of the original principal amount. Not that it matters at this point. Some lenders it was 110%. So far because of low rates some must not be adjusting upward yet, it shouldn't be long though. Alot of lenders were doing 80/20 purchase loans. 80% option arm with 20% heloc behind it. Increase the selling price in order to finance closing costs up to 6%. Buyers come in with $500 (yes five hundred dollars)to purchase a $550,000 house. Stated income/stated assets too, of course.
ReplyDeleteI'm on a 10yr int only loan resetting in 2015 (bought in Portland near the peak after moving back into the country from overseas). Anyway, I put down 20% and left w/ a loan of $447k. We are doing great financially making over $200k w/ no other debt. Housing market here in suburbia...not so good. We're still seeing significant building adding to our stockpiles. Question is...doesn't seem to make sense for me to refinance as I'd have to bring $15k to the table to get out of a jumbo loan and enjoy the lower rates plus we'd be paying higher monthly's by a couple hundred dollars on a depreciating asset (luckily we have great credit scores...all my wifes doing). Anyway, I look at my house as a rental w/ tax benefits and plan to ride it out til either it becomes clear we've lost our 20% plus some and reset is coming (whew...that's a definite jingle mail) or market looks better and either we refi or sell. We have 2 rentals and plan to buy more likely in late 2010 or 2011 w/ one as a hedge that we could move into if we have to give up on this house. Not sure if I'm typical of 10yr i/o folks but I sure am curious none of us show up on those charts? Is there only a smattering of the 10yr i/o as the chart shows? If the charts aren't as dire as seems, I may have to give up my bear outfit and as much as it pains me, slide into something more bullish?
ReplyDeleteWould somebody like Anonymous (May 21, 2009 12:07 AM) above be able to walk away from his mortgage, given his income and other RE assets? Let's say house prices keep falling, and he decides to walk. Wouldn't the lender have access to all his financial data and say, 'you have the means to pay your mortgage, sell one of your properties or whatever, but you have to pay."?
ReplyDeleteOtherwise, everybody could simply walk away when their mortgage gets too far underwater, regardless of their financial situation, with no consequences other than a bad credit score. With the low initial rates these ARMs have, it's like having cheap rent for 5-10 years. Doesn't seem fair if you are playing by the rules. -- SoCalRenter
As I understand it, if it's a non-recourse loan you can walk for any reason. Only thing the bank can do is trash your credit. If on the other hand it's a RECOURSE loan then the bank can come after you and your assets. Also for non-recourse loans, they must be original purchase loans to be able to walk for any reason. If you've refied I think the bank can then come after you. Cali is a non-recourse state, don't know about Oregon though?...
ReplyDeleteWondering if Wells Fargo's projections are related to the expectation that interest rates will continue to be managed down. Thus, less impact on near-term resets. If true -- Is this a reflection of collusion between the Fed and our financial sector to push foreclosures further down the pipeline? I think we are all convinced that interest rates won't sit at 4.5% forever.
ReplyDeleteJust a novice
Outright lying, or some dummy made a mistake between those stats listed as "thousands" of millions (billions) and plain old millions.
ReplyDelete