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forgotten centrist
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housing crash fueled by flippers, not sub-prime borrowers
Sep 6th, 2017 at 5:06pm
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The housing crash that launched the Bush recession is being studied more or less continuously.  This piece (and the study it links to) points to evidence that it wasn't caused by poor sub-prime borrowers taking out loans recklessly and then defaulting en masse.

Default rates were up for those with GOOD credit, who were buying investment properties, not primary residences.  Speculation, in other words, inflated the bubble until it popped.  And the speculators weren't those at the bottom of the barrel...

* * *

The grim tale of America’s “subprime mortgage crisis” delivers one of those stinging moral slaps that Americans seem to favor in their histories. Poor people were reckless and stupid, banks got greedy. Layer in some Wall Street dark arts, and there you have it: a global financial crisis.

Dark arts notwithstanding, that’s not what really happened, though.

Mounting evidence suggests that the notion that the 2007 crash happened because people with shoddy credit borrowed to buy houses they couldn’t afford is just plain wrong. The latest comes in a new NBER working paper arguing that it was wealthy or middle-class house-flipping speculators who blew up the bubble to cataclysmic proportions, and then wrecked local housing markets when they defaulted en masse.


https://qz.com/1064061/house-flippers-triggered-the-us-housing-market-crash-not-...
  

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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #1 - Sep 6th, 2017 at 5:45pm
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All classes borrowed at a rate far above their means. Fundamentally changing the banking refs is what led to the massive buildup of class 3 assets owned by banks.
  
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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #2 - Sep 6th, 2017 at 8:39pm
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The logic and evidence in the article seem a bit flimsy to me.  First, the bubble fueled the crash, and it is tough to say that speculators and flippers fueled the bubble, because they, logically, come in to play when the bubble is already visibly growing.  So they can certainly add to it, but can't get the ball rolling.  So them adding fuel to it, doesn't relieve any other parties of their part.

I wish we could see the actual paper this is based on, because maybe there is more to it than what is presented here.

What their basically saying is that: those with higher credit scores were more likely to have more than one mortgage (duh!); and that people who have more mortgages contributed a higher number of the delinquencies and foreclosures (duh, again!).

But they are trying to use that to argue that these folks were the culprits and to release subprime borrowers from any blame.

But that is not what the data they present is saying.  Yes, investment properties increased.  And yes, they increased more in the higher credit score area.

But it gets trickier.  They present these graphs that show that during the crash the "investor" group within all quartiles, but especially the higher quartiles, accounted for a bigger share of the defaults within those quartiles than they had before the bubble.

This, somewhat sneakily, makes it seem like there was no increase in default rates among the lower quartiles.  But there was.  It is just that there was not as a big a spike in delinquencies and foreclosures among the lower quartile people with more than one mortgage.  But that follows from the fact that there simply weren't all that many of them that had more than one mortgage in the first place!

I am not saying, "derp, blame poor, sub-prime borrowers".  I would actually say blame the fed if I wanted to boil it down to such a simple explanation.

What I am really saying is that people across the income and credit buying and selling spectrum responded to the same incentive.

When taking into account all defaults, you get a graph like this:

https://commons.wikimedia.org/wiki/File:Mortgage_delinquencies_by_loan_type_-_19...

So yes, when you consider just the "investor" group, more of them were high credit scores.  But that follows pretty obviously from the idea that those with high scores tend to be more able to do that sort of investment.

So I give this a bit of a "meh".  What happened was the fed enticed all kinds of borrowing all over the place, and much of it went into mortgages.  When the rates went up, the most over-extended folks defaulted first, and the rest followed when they couldn't refinance.  Then even more followed when the economy got bad.
« Last Edit: Sep 6th, 2017 at 9:12pm by wyattstorch2004 »  
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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #3 - Sep 6th, 2017 at 9:04pm
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I would second what Wyatt has said.

It is my view that policy created the bubble and all classes of investors became involved in it at one degree or another.

When rates went up and the music stopped, a wave of defaults kicked off a credit contraction in the highly leveraged derivatives markets.

The key to the story is not to be found in the actions of any particular class of investors, rather we should focus on the price signals that investors were reacting to, whether in the run up or during the crash.
  

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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #4 - Sep 7th, 2017 at 7:40am
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This echoes my own anecdotal experiences with the crash.

I was working for a newspaper company in 2007 and 2008.  We started seeing photographers laid off and our real estate C sections disappear.

In the town of Lonsdale, MN (I lived there in 2007) was affected pretty hard when a whole group of investors were exposed as perpetrating a mortgage fraud that affected over 200 homes and Rent to Own customers in the area.

http://www.twincities.com/2007/09/24/mortgage-scam-threatens-200-homes-with-fore...

I was renting an unassociated home that a developer from north of the cities was unable to sell so he rented it to me and my wife at a huge discount.  Gorgeous two story house in a fancy new development.  $900 bucks a month rent.  In conversations with him over the next few months while he tried to convince me and my wife to buy it at "a great deal" he revealed that he had 6 spec houses he'd built that he was trying to unload.

In the winter of 2007 the sheriff showed up on our door with foreclosure papers and we moved back to an apartment in Northfield.

Every place I looked I saw developers that had overextended themselves.  Didn't see many poor folk buying houses they couldn't afford.  Not saying they didn't exist ... saying poor people don't develop houses to lead to a housing inventory glut.  And if you can't unload the houses you've developed ... you can't pay for em.

http://money.cnn.com/2007/08/10/real_estate/home_glut_worsens/

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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #5 - Sep 7th, 2017 at 10:06am
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here's the abstract from the underlying paper (which unfortunately sits behind a paywall):

A broadly accepted view contends that the 2007-09 financial crisis in the U.S. was caused by an expansion in the supply of credit to subprime borrowers during the 2001- 2006 credit boom, leading to the spike in defaults and foreclosures that sparked the crisis. We use a large administrative panel of credit file data to examine the evolution of household debt and defaults between 1999 and 2013. Our findings suggest an alternative narrative that challenges the large role of subprime credit in the crisis. We show that credit growth between 2001 and 2007 was concentrated in the prime segment, and debt to high risk borrowers was virtually constant for all debt categories during this period. The rise in mortgage defaults during the crisis was concentrated in the middle of the credit score distribution, and mostly attributable to real estate investors. We argue that previous analyses confounded life cycle debt demand of borrowers who were young at the start of the boom with an expansion in credit supply over that period.

At a minimum, this refutes the commonly-hoisted petard that foolish/lazy/greedy sub-prime borrowers caused the crash, or that the Community Reinvestment Act forced lenders to lower their standards and lend to those with bad credit.

And it refutes the idea that the sub-primers buying a first house were the ones who over-extended.  It was those with good credit driving the default rate up, and mostly through those cheap, variable-rate sub-prime loans.  THOSE were the people more willing to default on bad investments.

They were eagerly aided by the deregulated mortgage-investment industry, by the corrupted credit-rating agencies, by a financial sector bidding up bad loans in search of a fast buck, and ultimately yes -- the Fed.  But it wasn't low-credit first-home-buyers who popped the bubble.
« Last Edit: Sep 7th, 2017 at 10:25am by forgotten centrist »  

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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #6 - Sep 7th, 2017 at 10:13am
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Queshank wrote on Sep 7th, 2017 at 7:40am:
This echoes my own anecdotal experiences with the crash.

I was working for a newspaper company in 2007 and 2008.  We started seeing photographers laid off and our real estate C sections disappear.

In the town of Lonsdale, MN (I lived there in 2007) was affected pretty hard when a whole group of investors were exposed as perpetrating a mortgage fraud that affected over 200 homes and Rent to Own customers in the area.

http://www.twincities.com/2007/09/24/mortgage-scam-threatens-200-homes-with-fore...

I was renting an unassociated home that a developer from north of the cities was unable to sell so he rented it to me and my wife at a huge discount.  Gorgeous two story house in a fancy new development.  $900 bucks a month rent.  In conversations with him over the next few months while he tried to convince me and my wife to buy it at "a great deal" he revealed that he had 6 spec houses he'd built that he was trying to unload.

In the winter of 2007 the sheriff showed up on our door with foreclosure papers and we moved back to an apartment in Northfield.

Every place I looked I saw developers that had overextended themselves.  Didn't see many poor folk buying houses they couldn't afford.  Not saying they didn't exist ... saying poor people don't develop houses to lead to a housing inventory glut.  And if you can't unload the houses you've developed ... you can't pay for em.

http://money.cnn.com/2007/08/10/real_estate/home_glut_worsens/

Queshank



Lots of people rent out their spec homes after they stop making mortgage payments. They can usually stretch it out for at least a year, sometimes two. Chances are that he wasn't paying when you first rented.

I agree about the individual buyers with one big exception. Commission paid mortgage originators (they picked their own appraisers), were able to sell adjustable rate products with huge interest buydowns for the first two years by telling the buyer that he could refi after one year at 80% of new appraisal with all closing costs included and maybe even some cash out. They (the bank expert) laid it on about what a great deal the buyer had made and that getting an appraisal at 130% of purchase price would be no problem.Appraisers were given the choice to make value of look elsewhere for work.
Basically it was the same problem that took down the Saving & Loan industry. It worked in good times to focus on profit and speed, but all hinged on the appraiser and the their income was tied to a commission paid loan salesperson whose job it was to make as many loans as possible and as much money as possible.
There were no consequences for making bad loans, as all has been long since packaged and resold. Not a good long term plan.
  
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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #7 - Sep 7th, 2017 at 10:33am
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I definitely agree that "flippers" fueled the bubble more than sub-prime borrowers. Smart money always leads dumb.

But I disagree that any investment class is to blame for the crash. Ultimately what led to the crash was the increase in interest rates, as per the Fed policy. They pulled the punchbowl away.

And that led to a fall in the price of certain derivatives and since that is a highly leveraged market, it did not take long for a cascade effect to take hold, with the prices for these bets on mortgage backed debt instruments collapsing.

This threatened to take down many important financial institutions. And it sent a shockwave through the housing market, ultimately leading to a surge in foreclosures (bc interest rates adjusted upward) which further put pressure on the price of mortgage backed bonds.


« Last Edit: Sep 7th, 2017 at 10:39am by TowardLiberty »  

"Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist." J M Keynes

"In the first place, the dichotomy between "theoretical" and "practical" is a false one. In economics, all arguments are theoretical. And, since economics discusses the real world, these theoretical arguments are by their nature "practical" ones as well." M Rothbard
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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #8 - Sep 7th, 2017 at 5:43pm
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- the Fed had low rates about 1% then raised them fast to about 5% - could that cause the bubble and bust?
  

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Re: housing crash fueled by flippers, not sub-prime borrowers
Reply #9 - Sep 7th, 2017 at 7:25pm
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forgotten centrist wrote on Sep 7th, 2017 at 10:06am:
here's the abstract from the underlying paper (which unfortunately sits behind a paywall):

A broadly accepted view contends that the 2007-09 financial crisis in the U.S. was caused by an expansion in the supply of credit to subprime borrowers during the 2001- 2006 credit boom, leading to the spike in defaults and foreclosures that sparked the crisis. We use a large administrative panel of credit file data to examine the evolution of household debt and defaults between 1999 and 2013. Our findings suggest an alternative narrative that challenges the large role of subprime credit in the crisis. We show that credit growth between 2001 and 2007 was concentrated in the prime segment, and debt to high risk borrowers was virtually constant for all debt categories during this period. The rise in mortgage defaults during the crisis was concentrated in the middle of the credit score distribution, and mostly attributable to real estate investors. We argue that previous analyses confounded life cycle debt demand of borrowers who were young at the start of the boom with an expansion in credit supply over that period.


Ya, I read the abstract.  Too bad about the paywall.  Wonder if anyone here is a "journalist" or from one of the developing countries that can get it for free...  Cool

Quote:
At a minimum, this refutes the commonly-hoisted petard that foolish/lazy/greedy sub-prime borrowers caused the crash,


I think if anything it refutes the potential argument that they caused the bubble.  The bubble is an obvious contributor to the crash (no bubble, no crash), but something generally pricks the bubble.  So the causation is slight different for each.

Quote:
or that the Community Reinvestment Act forced lenders to lower their standards and lend to those with bad credit.


I thought that was generally accepted truth that this act loosened lending standards.  Whether that was a major cause for the bubble and crash can be debated, and maybe that is what you meant...

Quote:
And it refutes the idea that the sub-primers buying a first house were the ones who over-extended.


Again, I don't think it does.  It just points out that they weren't as likely to have multiple mortgages and that multiple mortgage defaults weren't as prevalent in that group.  It really sidesteps the area of single mortgage-holding individuals' defaults. 

Quote:
It was those with good credit driving the default rate up, and mostly through those cheap, variable-rate sub-prime loans. 


Among the overall group that held more than one mortgage, yes.  But again, this article largely sidesteps the issues related to folks that hold a single mortgage (which was the majority of mortgage holders in all credit score quartiles)

Quote:
THOSE were the people more willing to default on bad investments.


This much is true.  I wonder what the short sale data looks like.  Those wouldn't be counted in these stats, but would be just as damaging in terms of their impact on home prices and credit availability.

Quote:
They were eagerly aided by the deregulated mortgage-investment industry, by the corrupted credit-rating agencies, by a financial sector bidding up bad loans in search of a fast buck, and ultimately yes -- the Fed.  But it wasn't low-credit first-home-buyers who popped the bubble.


I think the statistics disagree.  If you take into account ALL mortgages, it WAS the subprime adjustable mortgages that started jumping up earliest and to the highest degree.  This is shown in the graph that I linked too in my last post (tried and failed to embed it).

The argument that should come out of the statistics and data presented in this article you posted is that the low interest rates clearly drove a lot of high credit individuals into the home owning/mortgage market, and while they may not have been what pricked the bubble and got the crash rolling, they certainly added a great deal of fuel to the growth of the bubble in the stages leading up to the crisis.

admin wrote on Sep 7th, 2017 at 5:43pm:
- the Fed had low rates about 1% then raised them fast to about 5% - could that cause the bubble and bust?


That's pretty much it, in a nutshell.  If they do the same thing again, watch for the same result.  It might not be as "housing" focused.  But it will happen somewhere.
  
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