The New York Times has yet another piece on the question of walking away from underwater mortgages, this time an op-ed by Richard Thaler. It finally references the excellent essay by Brent White on the current “norm asymmetry” between the mortgage holders and mortgage holders; i.e. one side ethics & roots while the other has only spreadsheets. I wrote about that a while back.
These pieces all seem to presume that the underwater owners can continue to tread water. That’s crazy talk. These mortgages are fundamentally unsound. A sound mortgage requires a few key elements. It needs to be backed by appropriate collateral, and these aren’t. It’s servicing must tap only a reasonable percentage of the holder’s income stream, and these don’t. It needs to be reasonably liquid, i.e. that should the situation arise the mortgage holder can sell the instrument and/or the home owner can sell the house; and these aren’t liquid, not at all.
So what we have here is a standard bubble situation. i.e. “What can’t go on won’t.” Sooner or later these people will walk. The only question is how much damage to their family’s economic status they take before they do.
I continue to think there is money to be made here. An entrepreneurial opportunity: a business that facilitates the walk always. At it’s core all it does is loan people money to fund their walking away; i.e. bit of legal cost, a lump sum to pay for rental deposits, maybe some moving expenses. I wonder how many landlords are willing to let you put the 3 months rent worth of deposits on your credit card?
What I find fascinating about this idea is who it turns the question of borrower honor on it’s head. For these walk-away enabling loans to work you need trust. They are personal loans. The business works because it accepts that you can trust somebody who walks away. The business accepts that they are not dishonorable, but rather that they are pragmatic. It works because by splitting the benefit of that pragmatism with them. I love that.
Further I love that such a business would have to do what the bubble lenders failed to do. It would actually need to know the customers. If you wanted to set up such a business you’d need to have local knowledge of the customer’s actual situation. You’d need to be able see through his lousy existing cash flow and recognize that if his income stream is stable and that as soon as his housing costs drop by a thousand dollars a month paying off this new loan is going to be straight forward. Maybe you could hire all the loan officers who learned their trade in the years before the bubble. Maybe this is business model to be sold to small banks where their local knowlege can be brought to bear.
I can’t quite capture it, but the key is in there someplace. The original lenders didn’t bother to figure out who was trustworthy. (They didn’t need to since they could offload the risk immediately.) Now if somebody shows up willing to do that work they can profit from it. Curiously, the longer an underwater home owner tread water the more you can trust him.
Update: I suspect this mortgage holder wasn’t actually living in there.
That’s so first order, man. What I’d be interested in is in securitizing these personal bridge loans. That would be something worthy of the ‘financial innovation’ moniker.
In fact I’m a little concerned that the whole plan doesn’t work if that part isn’t in place.
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