Irish Mortgage Brokers Blog

Trinity Economist Kevin O’Rourke received a lot of attention recently which centred around a paper he wrote with Agustin Benetrix and Barry Eichengreen that featured on VOX.

The Sunday Tribune picked up on it with the headline ‘House price fall could be worst in history‘. Fairly powerful statement that! Kevin O’Rourke is a man who I personally have a lot of respect for (an example of his work is in a talk he gave to the CFA last year here) so we were delighted when he kindly took a call today while on a working holiday in France.

My questions are in bold, the main thrust of his answers follow them.

You say a rapid adjustment would be best, what can be done to facilitate that?
“You have to start by wondering ‘do we think the Irish adjustment is rapid or not?’. In general one thing that comes out of international experience is that property prices are quite sticky downwards, vendors take property off the market and new properties stop being built as well. Can policy speed price falls up? I’m not sure, but you don’t want to have policy that slows them down, that much is for sure”.

Should we therefore get rid of TRS? That is just a Government/fiscal incentive toward home ownership right?
“First it might be better to at least get rid of the asymmetric policy of subsidizing home ownership but without property taxes”.

Does restrictive credit therefore help as opposed to hinder the adjustment? If a rapid journey towards a bottom is a good thing?
“Statistically – the more credit is available the more likely it is that the market bottoms out, and the more prices fall the more likely it is to bottom out. We didn’t think about the possibility of restricted credit speeding up price decline, which may get us to the bottom faster. Increasing rates will have a downward effect on prices, reduced credit availability the same. On the other hand they may be helping by allowing the bottom to be reached faster”.

How much further is required (from the index of average prices) to hit bottom?
His opinion – “I agree with Morgan Kelly. In particular there is a total disconnect between rent and prices. There is one property I saw in Dublin recently that had a renting price of €4,000 per month but an asking price of €3.8 million!” (that’s a 1.3% yield if you are wondering).

If our GDP issues are affected structurally (in terms of decreased government spending) and not just by the business cyclical then how will that affect housing?
“One thing that would help for house prices is a resumption of growth, but I think that the ESRI projections of last week were optimistic. Their low growth scenario is perhaps somewhat of a high growth rate when you look at Ireland, I don’t forecast on that topic but if you want to look at different scenarios you could be more pessimistic, there are worrying indicators coming out of the States, the Baltic Dry Index is lower”.

“Austerity across Europe hasn’t kicked in yet. We are committed to taking more out of the economy every year for the next 2-3 years. The British housing market is also back into decline”. The main reason he thought the ESRI was too optimistic was their growth figures of c. 3% over 2011-15. Per capita growth in the USA over the last 100 years has been a little more than 2% per annum. There were ups and downs but on a smoothed basis 2% per annum is about right. You can grow faster when catching up, as we did in the 1990s, but once you’ve caught up on the technological frontier 2% is about as good as it gets per capita.”

Do you think that if we cut deep and hard enough that we could make anaemic growth look good? That it would perhaps represent 2+%?
“That is quite cynical… Something like that might occur if you cut very very deep, output collapses even more, and once that stops you get a bigger rubber band effect. I’m not sure why you’d want to do that. Furthermore, other issues also suggest low growth in the future, for example unemployment – if it lasts too long it can make it difficult for people to get back into work”.

How will rate increases by lenders affect the market? Given that the value is not being passed or maintained, and that banks are actually capturing the value in the market?
Higher rates would have a downward effect on prices, and our results show that low rates affect the probability of bottoming out positively. It’s a crude correlation, the lower the real interest rate the more likely it is that the market bottoms out. Interest rates are going up meaning we can expect an acceleration in housing price deflation.

Any plans to stop renting?
No.

What parameters did you use in the calculations? Where are the weaknesses in your calculations
“Perhaps we haven’t adequately accounted for the five core variables interacting with each other to the degree that they might have, they were actually viewed as being somewhat independent”. The calculations were based on a group of countries including Ireland and then the average results were applied to Ireland, as opposed to being based on Irish experience alone.

“We took conditions in other countries: the regressions looked at what correlated in those countries with the end of housing slumps, and what we found was that the higher was GDP growth and credit growth, and the lower were rates, the more likely it was that the slump stopped. Smaller prior bubbles and larger price declines during the slump had the same effect. Our approach was a binary yes or no one: did the slump end in a given quarter? Monetary policy is factored in (via real rates and credit availability).
Why do different countries bottom out?

“Different countries bottomed out for different reasons. In the States there’s a 1 in 8 chance of a bottom, and there is a 16% chance in Japan and  in Germany. In Germany this is based on the bubble not being too big to begin with, in the US and Japan it’s due to the very large price decline to date, low rates and signs of higher growth . But remember: one in eight is less than one”.
ENDS

We have been talking about the idea that the Chinese ‘miracle’ could not last indefinitely, in this clip from Bloomberg, Harvard Economist Kenneth Rogoff (co-author of ‘This time it’s different’) talks about China having a real estate bubble in the making, the bursting of this bubble is not about ‘if’ but when… Watch this space! [If the clip doesn't play for you then follow this link ]

Today we were delighted to do the first of what will hopefully be a regular slot on the Business section of the Breakfast Show on Newstalk 106 with Conor Brophy. The topic today was that of Site Value Taxation (we had an article in the Sunday Times about it this week), property prices and then a mention of our Investment Property Profile which was done in association with PropertyWeek.ie and ODKM Architects in Terenure.

We looked at some properties in the Dublin market that might obtain a 7% yield, they require some work (sweat equity!) and although they all didn’t come out at 7% some were above 6%. This is helping to reinforce the believe that the market in general has not rationalised but that in particular you can find good value if you look for it.

Aidan McLoughlin of of the Independent Trustee Company was also there with some fascinating insight into non-bank lending that is occurring whereby pension funds are lending to businesses who cannot obtain credit via the banks, this is some compelling evidence that credit is not forthcoming to SME’s in the way that we are being told that it is.

[To see the Investment Property Profiler report click on the image]

The recent liquidation sales have possibly started a new trend in the property market in Ireland, one whereby there is an increasing divide between the valuations in different types of property, we have long been saying that the only market worth considering is non-apartment second hand homes in cities, the liquidation sales have reinforced this belief.

While we may be part of Europe, when it comes to living spaces we believe that Irish people favour houses to apartments, we have not crossed that particular Rubicon just yet and unlike our European counterparts, there is still a wish to own the land under the dwelling, over time this may change, but with the exception of the bubble-times the overwhelming mortgage for a first time buyer was used to purchase a house and not an apartment.

The situation regarding the property market in Dublin (for instance) will likely be one where apartments are seen as a totally separate market, in the past many newly built apartments were not priced on a totally dissimilar basis to houses of comparable square footage in the same vicinity, this trend is not likely to continue.

The removal of stamp duty for first time buyers removed the bias for new build (a badly created bias as the stamp was normally reflected in [built into] the purchase price and the majority of newly built property stock was apartments. Further to this are the ongoing management fees and closer living conditions which many people find unattractive, in a terraced house you might have neighbours to either side who are noisy but in an apartment that can happen on four sides (both up and down as well), and the square footage and floor plans were often created in order to lend to maximum density of units rather than maximum benefit for the inhabitant.

It is for reasons such as these that we suspect the market will start to divert from a general view of ‘common housing stock’ (when you look at square footage) into one where there are very different valuations for specific property types. There always was a divergence, but we think that is set to widen. Soon we hope to put this into hard numbers, for now it is just a prediction

This is a fascinating video that clearly points out some of the myths surrounding the housing bubble in the USA, describing the role that Federal Reserve policy played in creating the bubble, they created a set of incentives which were badly aligned with long term aims. We have long felt that the role of monetary policy and regulation have been central to the problems in both the US and Europe, the full video of the conference is below.

We are pleased to release our new Irish Property Investor Report for the Spring of 2010 (click on the picture to view it). The people that put it together this time were Frank Quinn (IPAV), Lecturer in Valuations at Senior College Dun Laoghaire and Irish Mortgage Brokers.

The property figures were provided by PropertyWeek.ie (who also run a non-practitioner site at MyHat.ie) and a critique of the report and methodology (which we deemed  necessary in the spirit of balance) was carried out by Iain Nash.

The news is not positive, we have determined, using our valuation methods; that property as an investment is still unattractive in the spring of 2010, in order for it to make sense prices would need to fall significantly in our major cities in the range of about 39% on average.

Having said that, this report looks at averages and it can’t factor in the individual properties on the market, for that reason it is highly likely that there are great deals out there - they just don’t come through when looking at market averages. Iain Nash also has some good reasoning on why the type of analysis we have done falls short of being ideal in several ways, but in a strange twist, he agrees with our figures, just not to the manner in which we arrived at them!

We hope you enjoy our report and would welcome any further critique any our readers may have upon our findings.

The room was packed and there was plenty of property for sale today at the Real Estate Alliance national property auction, however,  it seems the crowd was more curious than courageous [likely a good position to take!], and the over-riding theme was definitely that played by the word ‘withdrawn’. Of the 71 lots on offer about twenty were taken out of the auction in advance, and the majority of those that remained were attracting little interest and not getting anywhere near the reserve prices quoted.

In the time spent there we only saw a single property reach the AMV (advised minimum value) and subsequently sell. This is the bit that annoys me is this: on the brochure the AMV might be €350,000 so they start the bidding at €230k, one or two bids go in and now it’s at €250k but nobody goes above that so it is withdrawn!

If you are not going to let anything clear for less than the AMV why bother starting the auction at a point which requires any action on behalf of either side at a single Euro less than the point at which a sale can actually take place? This wasn’t an auction that represented an opportunity for a buyer to catch a deal, rather it was a shop window with a live performance instead of posters, we left early having seen enough.

REA would be doing their firm, and the rest of us a favour if they produced credible valuations but only allowed sellers in who would accept the result of the auction - then you could create a vibrant sales floor because people would show up in their droves in the hope of catching a bargain - and the more bidders there are the better it is for the seller, if you don’t want to accept the result of the model then don’t put your house into the auction, it’s really that simple.

The fact that the room was filled shows that there is still appetite and a market, the fact that nobody was bidding to prices that would create a sale shows that there is still a misalignment between what property is ‘worth’ (from a sellers point of view) and what it will actually sell for with live buyers bidding on it. Sadly, many sellers are still living in cloud-cuckoo-land, I believe they will get their AMV bids eventually, but they might have to hang around for a decade to do so.

I was on the panel on Frontline recently and during it I mentioned a thing called ‘Negative Equity Financing’, we were asked by a few journalists and some clients about it, so hopefully this post will help to clear up what it is, and how it may work.

For a start, I’m anti-bailouts, in general and in particular, so debt forgiveness is not really something you’ll  see supported here, but we are big believers in facilitation, and any means that can help to oil the cogs is likely better than one that tries to create a new machine - albeit in time that is what we need; changes to our property and debt laws. However, in the here and now facilitation is quicker and easier to implement and has a better chance of reaching those it is intended for.

Negative Equity Financing is the idea we have put forward, but it isn’t just a case of doing a short sale because that doesn’t work in Ireland.

A short sale is where a person sells a house for less than the mortgage owed on it, in the USA you may or may not be able to do this, it depends on secondary lenders (if you have a 2nd lien on the property) and whether you are in a judicial or non-judicial foreclosure state, in Ireland it’s all the equivalent of ‘judicial’, to get your house taken you need a court ruling. Thus we need to find a way around that issue.

To do this we could have a facility that advances cheap credit to cover the shortfall, it allows the sale to take place but the individual carries out the difference as a low cost loan that can be paid back over time at a very low interest rate.

In the picture to the left we see a current property value (in green) v.s. the mortgage secured on the property (in yellow) and the negative equity element of it (in pink), generally mortgagees has paid a deposit so all said they may be down over €50k but it is really v.s. the mortgage that the issue arises if one wants to move or sell - because it is greater than the price you could achieve on the open market, meaning the person is stuck.

Ideally the banks would let this happen but it has twin issues of using available liquidity and on a secondary basis, unsecured debt is highly risky - you don’t want to put risk like that back on the balance sheet after we have paid so dearly to remove it. It also reduces the asset value of the bank/building society and the remaining loan has virtually no recourse. All said, banks would rather take the property (in normal circumstances), except for recently where they would rather not take it because it means realising market prices and that is why they are not complaining about forced forbearance.

That is where the ‘facilitation’ comes in. The state could issue bonds in return for the debt, this would be a similar type of bailout to what they did in NAMA, except this would be for regular borrowers as opposed to dealing with development loans. In this case the loan would be backed by the person and secured against their tax credits (more on this later).

The actual funds for this could come from the same source that the likes of HomeChoiceLoan obtain funding from (loan finance from the Housing Finance Agency). Indeed, HomeChoiceLoan could be the very lending vehicle to do this as it is an existing operation that is not lending in the manner it was intended to.

The state would need to pay the bank a certain amount of money (coupon) for this facility [3 month euribor perhaps] and in return it would be able to charge the borrower a near cost interest rate - lower than a bank could ever secure thus ensuring the person isn’t affected by the trend in lending margin increases, but at the same time greater than the token interest paid to banks which allows the process to occur. In doing this the bank maintain asset quality and a small cash flow, while the state incurs a small profit on the exchange and can obtain reasonable security (via the tax system).

This would allow people in varying degrees of negative equity to sell and move on or perhaps just sell, the main thing is to get people out of debt they can’t service, the general reaction of ‘keeping people in the family home’ is missing the point if the family home is a sinking ship, when that’s the case it is generally the last place you’ll want to be.

So let people get out from under debt they’ll never be able to service, especially with the margin hikes and eventual ECB rate increases that are coming down the line. They can then services a much smaller debt at secured margins (as it is state backed and funded) and the security will be against their tax credits. How does that work? For a start, it has never been tried so this is supposition.

However, the idea would be that if you start to default on your loan that Revenue take away your PAYE allowance, or any other state benefits you would normally be in receipt of - not to the point of pushing people into poverty - but to the point of ensuring that in the majority of cases that eventually the debt will be repaid at the artificially low rate of interest, this solution is not pain free, and it isn’t meant to be.

The obvious flaw is that a person could leave the country, but if they are willing to do that then they might do it anyway and even an old fashioned bailout might not work, a borrower could easily abandon their property despite any plan. So if a person is willing to leave at any cost then you have to accept that it’ll happen in some cases.

Negative Equity Financing would instead make sure that people keep manageable debt and in many cases they could even stay put, renting the house back from an investor and the warehoused loan could have a delayed start time, in any case, the state would be able to collect in all cases except where the person flees the country.

This could also have some positive impacts for retail credit, by reducing traditional impairment (which has so many knock on effects).

This isn’t a ‘bailout’, rather it is a means of letting people pay their debts in a manageable manner, the current structure of debt is such that there are people who will never get out from under it (as it stands today), but if there are market or semi-market propositions that facilitate them in doing this they are perhaps worth trying. The current approach is actually increasing the indebted persons problem, forbearance measures don’t wipe the slate, rather they continue to add interest to the capital sum owed making the situation worse.

An idea like this would allow people who want out to do so, but to pay a price, which will hopefully help to avoid the obvious moral hazard issues that arise with straight out debt forgiveness. This is a ‘NAMA for the little person’ that won’t leave a sour taste in your mouth.

In providing a blanket ban on repossessions our regulator has deployed the bluntest tool in the box with all of the grace of a Rhino on ice skates.

We brought in a new Governor and Regulator with a view to creating real change, but it seems that populism reigns supreme given that Mr. Elderfields first major move since taking office was to give a one year blanket ban on repossessions - that is a textbook mistake.

Everybody accepts that the incentives in life are carrot on one hand and whip in the other, when it comes to arrears the carrot is that of getting your payments back in order, keeping your home, and feeling secure, the whip is that the bank will take your house. When there are no repossessions allowed there is neither whip nor carrot, you will keep your home, securely protected by unthoughtful legislation, and payments…. if you don’t make any you can still walk away after 12 free months.

When deposit rates drop and mortgage rates rise, you can thank the person who doesn’t pay their mortgage in part for this. Cruel? Yes, but banks wouldn’t be taking drastic measures if people were repaying their loans, and the frustrating part is that you can’t really hammer a bank with a ‘NAMA’ argument because those assets are removed from them and are not the root cause for rate hikes/deposit drops.

Essentially you may as well pay your neighbours mortgage, and the problems don’t stop there.

If people don’t make payments in a year, what incentive is there for the people who are struggling to repay to stay up to date? When you have several creditors hounding you the one shouting the loudest gets the response, really, people should be telling their credit card and unsecured debt holders to get stuffed, now they can do the same to their mortgage provider and not risk being kicked out.

That sends the wrong message out to everybody. It also shows that the regulator is willing to use carpet bombing in a situation where precision bombing would be more suitable. It isn’t a solution, in fact, you are likely hurting many borrowers even more by letting this happen (more on that later).

If banks have collateral that they want to repo’ out (for funding) then there are certain arrears/non-performance levels, above which counter-parties don’t want to take the collateral - that is what brought down Bear Stearns. If our banks are forced into allowing arrears to fester it will increase their risk, their credibility suffers as does their credit-ability: namely, they will be reliant even more on a state guarantee which is ultimately a cost to the taxpayer.

The sub-prime lenders were actually very honest in some respects, if you don’t pay your mortage they take your house, now we are forcing them to be part of the process, and yet they are not guaranteed by the state, nor are they getting a bailout and their clients will find it hard to bounce back from their arrears.

That will make it worse, you see, there are (right now) over 6,500 mortgages in terminal default, more than a year behind, the survival rate for mortgages at that point is negligible - without outright debt forgiveness. With another year of compounding (bearing in mind that now ALL lenders are subject to the new rule) that number will swell impressively to the degree where we have to bail out borrowers, the only question is who, and how much.

If you go into arrears and then move out in two years, you don’t owe your current balance, you owe the balance, plus the arrears, plus penalty interest - and that means a person is deeper in the hole come the end of it all, in fact, it would be more merciful to kick a person out and they could then avail of cheaper rent and get on with their lives without the life-burden that defaulting debt brings with it, in essence, our state wants to keep everybody on the hook come hell or high water and the sole beneficiary is the banking system, not the individual. One year down the line many borrowers will owe even more, they will be deeper in debt, and probably deeper in negative equity as prices reach bottom, they will be stuck, and far from having helped them, we will have made them worse off, where is the sense in that?

It is vital to see through the lie, and the programming, you see, most would have you believe that everybody wants to ’stay put’, but that is a default answer when there are no options, if people were told ‘you can get out of this and walk away with a different solution’ you might find their attitudes changing, because now it isn’t choice of ’stay put and deeper in debt’ or ‘get kicked out onto the road’, rather it addresses other elements of the problem.

I am reminded of the song 16 Tonnes, in which a guy tells St. Peter not to call him because he owes so much money to the company store. I’ll put that in perspective, the ‘company store’ used to be a general store run by mining companies, they were often the only place to buy any supplies in the remote areas where mines would be found, they extended credit, expensive credit, and you could pay it back with work, well, for many people, they didn’t have enough to afford the prices so they borrowed and borrowed until they literally owed their soul to the company store. We are doing the same thing, but we’ll tell St. Peter not to call because we owe it to the banks.

Haven’t any of you wondered why the banks are not protesting at such a measure? They cry quite publicly when they are forced to take write-downs, they have every excuse when they jack up rates, and yet not collecting on mortgages that are owed, even after a year of arrears and we hear nothing? The truth is between the lines on this one, I’m not saying its a conspiracy, but it definitely stinks.

There are literally hundreds of solutions to our crisis, the most meaningless medicine would be the one we are seeing utilised, it doesn’t actually solve anything, it just puts the problem off for another year (winning votes in the process) and furthers my personal belief that we don’t actually have a plan, rather we have a hope, and all of that hope is predicated on a recovery happening sooner rather than later.

I pray for the knowledge economy, because the one we are currently being put through certainly lacks it.

On the 7th of February Ivan Yates spoke to Yvonne Hogan, Property Editor of the Irish Independent and Karl Deeter, Operations Manager of Irish Mortgage Brokers, asking for their opinions on the property market, where it has been, and where they believe it is going.