Are we in the middle of a fully-blown credit crunch, or is this merely an unpleasant
and discontinuous repricing? The answer to that question lies in whether credit
is available at any price. Have funding windows slammed shut, or are lenders
merely requiring higher interest rates than borrowers are willing to pay?
My feeling is that it’s a little bit of both, but that there are definite signs
of a real credit crunch, especially in the mortgage market.
The WSJ’s James Hagerty has an excellent
front-page article today which concentrates on so-called jumbo mortgages
– loans of more than $417,000, which won’t be guaranteed by Fannie Mae
and Freddie Mac. Spreads are widening so much in this market that jumbo-mortgage
rates are rising alarmingly despite long-term interest rates coming down. A
prime 30-year fixed-rate jumbo loan now costs 7.34%, up more than 80bp since
mid-May.
The problem is not defaults, which have remained low on prime mortgages in
general and certainly on anything fixed-rate. The problem is the bond market,
according to Doug Duncan, chief economist of the Mortgage Bankers Association:
Alarmed by weakness in the housing market and rising foreclosures, investors
who buy loans and securities backed by mortgages have fled the market for
almost any loan that isn’t guaranteed by Fannie Mae or Freddie Mac, Mr. Duncan
and others said. That means lenders must either hold loans, at least temporarily,
and face the risk of falling values for them, or seek out borrowers who qualify
for loans that can be purchased by Fannie and Freddie.
For other types of loans, Mr. Duncan said, "there is no market."
He said it isn’t clear how long the market will remain disrupted, but said
some mortgage bankers fear the current paralysis could last weeks. "We’re
getting calls from members [of the lenders’ association] who are quite desperate
about their circumstances," Mr. Duncan said. Large banks have the capacity
to retain loans on their books, but many other lenders can only make loans
that can be sold quickly.
For mortgage lenders without a large balance sheet of their own, this is very
bad news: they’re simply not set up to warehouse loans. Look at the way American
Home Mortgage imploded: the company was done in by its banks, which abruptly
pulled their credit lines – and credit, of course, is the lifeblood, the
oxygen, of any mortgage company. Without it, you last a few minutes at most.
That’s one reason why Countrywide is a
risky bet, even at book value: it has lots of credit today, but no one is
sure whether that credit will stick around tomorrow.
Jumbo mortgages are now being priced at levels above any reasonable expectation
of credit risk: they’re expensive entirely because of market risk. So I’m very
sympathetic to mortgage broker Darren Weisberg, who’s quoted in the WSJ article
as saying that "nobody in their right mind would pull the trigger"
on one of these things today.
This, then, looks like a credit crunch more than it looks like a repricing.
A similar syndrome might well play out in the LBO market, too, as banks find
themselves warehousing the loans they underwrote, rather than being able to
wrap them up in a pretty CLO and sell them in the secondary market.
I’m still reasonably hopeful, however, and not because I think the Fed will
or should cut rates today or any time soon. Rather, I’m placing my faith in
other sources of liquidity: foreign central banks, sovereign wealth funds, hedge
funds looking for distressed assets, even retail investors who are still finding
it difficult to get a nice return on their fixed-income investments. If I was
a retail bond investor, I’d love to buy fixed-rate jumbo loans at these prices.
And where there’s demand, supply will surely follow.