One Nation, Under Capitalized, With Loan Modifications and Forebearance For All

by REIT Wrecks on December 5, 2008

“Any idiot can face a crisis. It’s this day-to-day living that wears you out.”

– Anton Chekov

Our national psyche has been more thoroughly revealed over the past year or so, and it has been interesting to learn more about us. Before 2007, I was only vaguely aware of the term “schadenfreude”, and I certainly didn’t know how to spell it. I simply had no reason to use it, nor did I spend time with anybody who did. I still don’t. But that is becoming harder and harder as more and more fingers are being pointed more furiously in various directions, and few people are willing to dig into their own pockets for a solution.

The comments on posts of mine that benefit from a wider audience (those posts that appear in Seeking Alpha email alerts, for example), have betrayed a broad streak of national schadenfreude in relation to this huge mess. The failure of the first “bailout” plan was due in part to many people in this country whose sense of justice was betrayed by a “bailout”. It had nothing to do with a deep concern over creeping socialism, which seemed more relevant to me, but a simple need to see others struggle too.

I really don’t believe for a second that schadenfreude is part our nation’s fundamental character, but I do believe there were many, many people struggling for years through the “boom” times, and they bitterly resent the flippers, rehabbers, bankers and hedge fund managers who continue to drive their leased Range Rovers to Starbucks. And I believe there were many others who weren’t struggling but lived relatively simple lives and still resent it.

The question I wonder about now is how much schadenfreude is enough, and I hope the answer will soon be that this much is enough. The title of this blog was meant to be funny, not real. I was never prophetic enough, sadly, to foresee the carnage that would occur in the REIT sector, particularly on Monday when some Apartment REITs were down 20% for no fundamental reason in just one day, after being cut in half or more over the past six months. For those that have engaged in a bit of schadenfreude, shouldn’t this be pain enough for the conservative, income-oriented investors that bought into these REITs thinking they were safe?

Mortgage REITs were also eviscerated. Some of these enterprises deserved to be put away and forgotten even before the credit crunch, but not all of them. I went looking for a list of Mortgage REITs the other day so I could see, in one place, just how bad it had gotten for these investors. Things have changed so much that most lists where full of bad links to bankrupt companies with newly non-existent websites. Error. Page Not Found.

So I made my own list and posted it here so you can see for yourself how bad it is. Check out those yields! Of course, many are completely illusory, but the availability of credit made them sustainable at one point, and that money was “real” for as long as investors were willing to keep believing in the ready availability of credit.

But nobody believes in the ready availability of credit now, and many poorly underwritten loans will start to come due in this environment. The volume of maturing loans will start to pick up beginning in 2010. Nobody really knows what 2010 will be like, except that it will be a very different world than 2005, and the market is clearly not liking what it sees. According to Green Street Advisors, a research firm, the majority of those 2010-2012 maturities – over 80% – are 2005 thru 2007 vintage loans, with the majority being 2005-2007 variable rate deals. The variable rate deals will obviously be the most problematic.

2005-2007 were not good years for underwriting. According to Moody’s, the gap between the Moodys Loan to Value (“LTV”) and underwritten LTVs reached record in the first quarter of 2007 (nearly 45%). The Moody’s estimate of actual LTV also reached a record of 106.5%. Who needs equity when lenders (and investors) would give you more money than your property was worth?

Which brings me to the title of this post. Of course, I was quite pleased with myself over this one, but clever or not, it cuts to the chase: where on earth are we going to find the money to foregive all this recklessness? Is there really any room for schadenfreude? Borrowers want to be bailed out. Investors want their loans repaid. Shareholders are counting on their dividends not to be cut. And everybody wants a tax cut. The whole country is involved, but nobody’s responsible. Change? I hope we can.

It’s turning into a real problem, and a December 2nd story in the New York Times pretty much sums up our little national dilemma: Fund Investors Sue Countrywide Over Loan Modifications. The plaintiff, Greenwich Financial Services (talk about Range Rovers…), said it and other investors stood to lose money if Countrywide, now part of Bank of America, modified bad home loans under a settlement that it reached with 11 state attorneys general in October. As The New York Times noted, this is the first case of its kind, and it signals that more aggressive government efforts to “bail out” individual borrowers could face stiff resistance from private investors.

This is not some theoretical legal case, and it is more and more likely to affect CMBS as well as RMBS if a solution is not found before long. As an investor in, say, Anththracite Capital, are you going to be upset if the special servicer modifies a bucket full of CMBS loans to save a bunch of shopping mall owners, but your investment in AHR gets wiped out in the process?

Or, if you’ve just raised a bunch of money for your distressed debt fund, are you going to plow all that money into AAA CMBS yielding 15% even though there is a chance that the government will force you to take a loss on some of it? If so, is that really a 15% yield, or something else? If not, how do you quantify it? What are the rules, and who is going to pay??

Unfortunately, the economy is now in absolutely terrible shape, so it almost doesn’t matter anymore. The national economic malaise is now so broad and so deep that it will touch almost everyone. Since the start of the recession last December, the economy has shed 1.9 million jobs, and the number of unemployed people has increased by 2.7 million — to 10.3 million now out of work. But this figure does not include the legions of unemployed people who have simply stopped looking for work; that number jumped by 637,000 last month, according to the Labor Department. A half-million (533,000) American jobs disappeared last month alone, the worst mass layoffs in more than three decades, and economists fear the nation’s economy is spiraling downward into what could be the hardest hard times since the Great Depression.

“The economy is in a free fall,” said Richard Yamarone of Argus Research. “It is as if someone flicked off the switch on hiring.”

Ron Paul is a bit of a kook, but he’s right that one of the few ways out of this mess is through inflating the currency. If so, it’ll be more counterfeit money, and the result will not be good:

All of this is really, really bad news, and it leaves very little room for any self-indulgent schadenfreude. As most everyone knew even then, we and our government had been living beyond our means for years. But now the music has stopped. Like it or not, we’re all in this together, and few of us will escape our share of the bill.

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