Real estate speculators are to blame for the intensity of the 2004-2006 housing bubble and subsequent financial crisis, as found in a study by the Federal Reserve of New York (New York Fed). Between 2000 and 2006, the share of purchase-assist financing going to people who owned more than one home — mostly real estate investors — nearly tripled in California to 20%.
Borrowers with multiple first liens flooded to the subprime mortgage market at the height of the Millennium Boom. These short-term investors — also known as speculators — took out loans with small down payments and high interest rates to buy properties and sell them quickly for a profit. At the 2006 peak, about 22% of subprime mortgage lending went to California homeowners with only one first lien while 35% went to homeowners with three or more.
Speculators seemed the more profitable bet for mortgage lenders during the first half of the decade since they were paying a higher rate of interest to cover the risk of a greater likelihood of their default. Then as prices began to fall in 2007-2009, speculators became responsible for more than 30% of seriously delinquent mortgages statewide.
first tuesday take: The Fed’s research again proves a trend first tuesday has observed in the data for years — high speculator activity hyper-inflated the 2004-2006 housing bubble, making the subsequent burst more devastating than previous booms and busts as they dumped their unprofitable holdings on the market for sale or rent. [For more information regarding speculators, see the January 2010 first tuesday article, Homebuyer beware: the real estate game lacks fair play.]
Housing prices during the Millennium Boom were initially driven up by Wall Street bankers pouring excessive money into mortgage lending with no regard for the change in value of the collateral (i.e., the real estate). Speculators then jumped into the momentum in the ever increasing over-priced market, creating artificial buying and selling activity which withdrew property from the market and in turn fueled more building, speculation and mortgage lending.
Speculators took advantage of quick and easy money leant in the form of adjustable rate mortgages (ARMs), with low teaser interest rates that wouldn’t reset to high interest rates until well after they expected the property to be flipped and sold. But when the financial crisis hit and home values plummeted, speculators were left with a glut of homes, no buyers and mortgages approaching their reset date. The resulting Lesser Depression has been longer and more devastating because of speculator activity. [For more information regarding adjustable rate mortgages, see the March 2010 first tuesday article, The danger of an ARMs build-up.]
Speculators contribute nothing of value to the real estate market. During good times, they merely purchase homes to sit on, contributing only the minimum maintenance needed to keep the property functioning, until rising market momentum increases the value and the time to sell presents itself. A speculator will then list a property for sale at a price much higher than he paid and pocket the profit on the flip. Such transactions add money to the real estate market only to withdraw it again, creating a zero-sum game (except for the lost rental value). [For more information regarding speculator activity, see the August 2010 first tuesday article, Speculations on speculator suppression.]
Owner-occupants, real estate licensees, long-term buy-to-let investors and those employed in the industries relying on a stable housing market (construction, escrow, title, home inspectors, etc.) must strive to keep the influence of the speculator at bay. This is best accomplished by demanding strict lending standards and regulation of the subprime (ARM) mortgage market. Although unqualified homeowners may not like it, lenders do them and the economy a favor by enforcing a more fundamental, documented approval process and only lending to those who can produce a minimum 20% down payment. [For more information regarding strict lending, see the July 2011 first tuesday article, Strict lending is good for you and the economy; for more information regarding 20% downpayment regulation, see the October 2011 first tuesday article, The 20% quagmire.]
Re: “Flip This House: Investor Speculation and the Housing Bubble” from the NY Fed
27.12%/month IRR net net net from 1999 to 2008 on 198 sale escrows, about 9000 acres sold. We are little grains of sand, and we must make & take profits with the wind blowing us around. Griping and nagging will not help us or keep us happy. Profits at the top and buys at the bottom will make us happy, low stress/drama and very well off. I averaged 1167% gross profit per acre from 1999 to 2008. Goal is 2000%/acre or about 40%/month IRR from 2015-2021…
A little cause and effect analysis produces a “flaming arrow theory” – destined to go down in flames but while it’s up, it might shed some light on the subject. “Down in flames” not because it’s wrong but because it will invoke the wrath of Big Government Bigots and the Anti-Capitalism Altruists.
Just so we’re all clear on this, the mortgage crisis was driven from the start by the government and has been many years in the making:
FDR created Federal National Mortgage Association (Fannie Mae) as part of the New Deal. Richard Nixon chartered the Federal Home Loan Mortgage Corporation (Freddie Mac) in 1970 (oops, what’s a Republican doing in this crowd?)
The Community Reinvestment Act was passed in 1977 to prevent “redlining” by banks of low income neighborhoods (oops, Reagan admin but this truly was needed to correct a bad practice that was truly wrong at the time. But then it got distorted…
The Clinton Administration instructed Fannie and Freddie to increase the number of mortgages in their portfolio from poor and minority communities. HUD Secretary Cuomo helped to facilitate a mandate to fund poor families with down payments and low interest mortgages, which amounted to “affirmative action” lending.
Then it really took off when activist groups like ACORN harassed banks and bank executives as well as threatened action under the CRA if the banks didn’t make more money available to poor neighborhoods.
Starting in 2000 Republican members of Congress and other outside groups called for stricter regulations on Fannie and Freddie, but many other members of Congress, predominately Barney Frank, Chris Dodd, etc. said there was no problem and threatened to block any stricter regulation of the two GSE’s (Government Sponsored Entities).
From an interview with Barney Frank, the Boston Globe reported the following:
“Frank, in his most detailed explanation to date about his actions, said in an interview he missed the warning signs because he was wearing ideological blinders. He said he had worried that Republican lawmakers and the Bush administration were going after Fannie and Freddie for their own ideological reasons and would curtail the lenders’ mission of providing affordable housing.”
Fannie and Freddie were exempted from Sarbanes Oxley reporting rules. The Democrats also threatened to filibuster any legislation designed to place stricter regulations on Fannie and Freddie. And no one went to jail when Fannie and Freddie were proven guilty of accounting fraud to the tune of $200 million. Maybe it had something to do with “connections”, e.g., a number of the key executives like Franklin Raines and Jamie Gorelick were former Clinton Administration officials and James Johnson was a Democratic Party Operative.
So not only did the regulators fail to regulate, but they used their political clout to build the house of cards. And when it all came tumbling down, the biggest card dealers in Washington, Frank and Dodd, were chartered to create more cards resulting in the Frank-Dodd bill that is guaranteed to set up the next banking crisis. And more insult-added-to-injury, the Dems and their media buddies are now busy vilifying Wall Street as the cause of all this because they sold flawed Mortgage Backs.
But wait a minute!!! Weren’t those flawed mortgages misrepresented to Wall Street as solid? Yes!. Wasn’t it the federally structured oligopoly of Moody Madness, Standard and Poorness, and Fitch Failures that misrated those mortgages? Yes! Didn’t the feds even admit that it was they did so? Yes!…
“The regulation of the Credit Rating Agencies (CRA’s) by the Securities and Exchange Commission (SEC) and the FED has eliminated competition between CRAs and practically forced market participants to use the services of the three big agencies, Standard and Poor’s, Moody’s and Fitch. SEC Commissioner Kathleen Casey has said that these three CRAs have acted much like Fannie Mae, Freddie Mac and other companies that dominate the market because of government actions. While the CRAs issued ratings that were “catastrophically misleading, these same rating agencies enjoyed their most profitable years ever during the past decade.”
Yeah, that’s what we thought.,,so did someone forget to tell those Occupiers on Wall Street that they should be occupying Washington?
Looks like most of the responders are passing the buck, dodging or functioning with blinders on. That is simply assigning blame to their particular point of focus. My belief is that the blame is shared by all the mentioned from bottom to the top. The situation had a driving force that all involved calls need but when closely analyzed shows up to be greed. No matter how neat its dressed up. The little guys were providing sales/loans acceptable to the written request and or requirements. Each knew when and where they were wrong but there motivation to continue was a paycheck, The more the better, the bigger the better. Likewise the big players shared a like interest. Every step taken in the frauds were perpetrated with the knowledge of doing the business to make it work on each level while ignoring the right and wrong of Law, Personal Integrity or care for what the actions might lead to. All the time turning a blind eye to the obvious. If the value is not there don’t sell it. That is Individual properties, Packaged loans, Debt to investors. ( Be responsible )
You guys are right about the Fed! And also, who designed those loan with little or no nown payment???
And who said that we were discriminating when we looked at credit and income for qualifying? (Dodd and Frank)
I think they were trying to put people into home ownership, when they should have remained renters untill they at least had a solid job and down payment.
The government and the Fed are to blame for this mess, and they keep trying to throw the blame to others.
THE BLAME GAME, WHY NOT BLAME THE R.E. BROKERS. MY WIFE FEELS THAT WAY.
Wow! Really? Speculators are to blame for the housing mess? I have seen many trashed properties bought by speculators in my market that they have cleaned up, modernized, rehabbed and sold for a modest profit. I believe that is called capitalism. Speculators either pay cash or put 20-30% down. Actually Frank, the underwriting guidelines were a result of a stupid government that decided banks had better lend to everyone or else. Banks then came up with the loans that would allow them to do that. Many factors led to the destruction of the housing market and subsequently the economy but speculators were only a small part of it.
Who do you think made all of those underwriting guidelines that required minimum down payments and teaser rates and stated income with no verification Loans. It was Wall Street. The Banks originated them, taking a fee and Wall Street bought andPackaged the Loans and Got fraudulent Credit Ratings of AAA, then sold them to everyone in the world making Billions.
Speculators could not do what they did without Wall Street
Men You are RIGHT ON THE MONEY !!!!! ***Finally I can wholeheartly AGREE.
GOOGLE the AUDIT of the FEDERAL RESERVE.
See 16 Trillion Given to foreign Banks !!!! Zero Interest ,,,,,USA dollars ,,,,in 2008.
Every Realtor Knows the Fed kept rates superlow after 9/11 2001 to create a bubble and make trillions, then raised rates Brutally .5 percent a month,,,,,from 3.0% to 6.75% then keep em so High the markets STOP WORKING….after everyone screams fed drop rates a 1/2 percent A MONTH to where they are today, Stripping the wealth right out of the USA,,but they are happy to lend you money back to you at a massive profit….yikes, I have said too much,,,connecting the dots after 25 years in finance, Look at Chase and the other Banks writing themselves checks, while we work through their mess. MERRY CHRISTMAS***HAPPY NEW YEAR**** 2012 will be the year of stabilization…flat bottom….
As Ken recommended ..google the Federal Reserve….it is not a government agency. It was formed in 1913 by the banks…owned, operated and a monopoly driven operation. So when the Federal Reserve blames someone for the mess in the real estate market it is just a ploy to take the blame off the banks.
The sooner we WAKE UP the sooner we can start to deal with the complete control our banks have over this economy. The blame does not fall on the homeowner or any other investor….it is all on the banks who plotted, planned and excuted one of the greatest scams against the American people in history. The banks are making record profits..how can that be when their source of income is from making new loans and they are not making any loans in the market. Where is this record profit coming from?
The additional liquidity injected into the market by ever more exotic financial instruments to repackage the risky loans also gave a supply-push (of credit) to housing prices. With the philosophy that “anything worth doing is worth overdoing,” the ideas embodied in the pass-through mortgage instrument to provide more capital to lend were extended to the point that the instrument had no relation to the value of the underlying asset, cash flow and risk. Who you want to blame – banks or other financial institutions, the Fed, the SEC, or the borrowers themselves – is up to you. All are culpable.
It is notable that as the bubble subsides, in recovering markets housing prices are approaching values expected by extrapolation of the 1995 – 2002 (or thereabouts) trend line.
The Federal Reserve Bank has the bigger part in the financial situation we face today as they are behind the entire plot to collapse the economy. They have doing this since 1935 or so. Google the Federal Reserve Bank and check it out for yourselves.
The banks had the biggest part in this collapse as they encouraged “liar” loans for owner occupied and non-owner occupied loans with little to nothing down.