C.M.O. 5.28.2009
Credit Market Overview
May 28, 2009
On Tuesday the S&P Case/Schiller home price index data was released and it was; not good. The S&P stock index decided it was a good reason and traded 2.63% or 23.33 points higher. Yesterday, the National Association of Realtors released existing home sales data which turned out to be at least as good if not a bit better than expectations and the market decided to sell off 17.27 S&P points or 1.89%.
Are you beginning to see a pattern here? Today, the Census Bureau releases new-home sales. So can we expect a good number to be bad and a bad number to be good; again? That’s the fun part, we never know until its history.
One of the problems with existing home sales is that “up” is not necessarily a good thing as foreclosures are counted as sales too so, like desert, what looks good can actually be bad for you.
To stem the foreclosure tide there has been a lot of pressure [political] put on all the players up and down the mortgage food chain to “modify” mortgages. Modifications can include adding delinquent amounts to the loan principal, lowering interest rates, extending maturities and changing ARMs to fixed rate loans.
The problem, according to a recent report by Fitch Ratings is that this does not seem to be working e.g. keeping people in their homes as well as intended. Imagine that, a politically motivated action with unintended consequences; will wonders never cease!
Fitch looked at mortgages bundled into securities between 2005 and 2007; the period considered the height of mortgage lunacy by many. The findings of Fitch’s work were that somewhere between 65% and 75% of modified sub-prime loans will fall 60-days or more delinquent within 12 months.
Two main reasons were given for the “re-defaults”. 1) Modifying loans for borrowers that were likely to default whether or not the loan terms were changed and 2) falling home prices causing deep underwater borrowers to become more so and simply walk away from their modified loans.
“Based on redefaults to date, an optimal modification formula has not yet been found,” said Diane Pendley, the author of the Fitch Report.
Bank of America Corp., purchaser of mortgage lender to the stars [and Chris Dodd], Countrywide Financial Corp. has modified 50,000 mortgages as part of a settlement brought by state attorneys general against Angelo Mozilo’s old firm. BAC claims the modifications are saving borrowers an average of $195 a month.
Using the Fitch percentages that means about ~35,000 of those mortgages will redefault within a year. Needless to say with a majority of modified loans going into default anyway this problem is not going away anytime soon.
Toll Brothers has a slightly different outlook on things as they reported higher orders than analysts expected in their fiscal 2nd quarter results. This was countered by news of a 51% decline in revenue and a fall of 9% in the number of homes scheduled to be built. To throw a few more numbers at you, total orders were down 37% from a year earlier but had doubled from the previous quarter.
The CEC Strategy is currently short, BDK, HD, KBH, MDC, MLM, OC and SWK in the construction sensitive sector. CDS spreads, in general have been rising and stock price falling even with Tuesday’s blip.
TOL, like most of the other homebuilders saw rising stock prices and falling CDS spreads from early March through early May. Things have changed around since then and the reverse is now true. TOL in particular has seen its CDS spreads turn lower again recently even as the stock continues to fall. It will be interesting to see which asset class turns out to have been moving in the correct direction.
Enjoy the “holiday shortened” week.
Jim Delaney
