Vikas Bijaj of the NY Times who often covers financial markets and macro economic happenings writes about the sneaky increase in the rate of mortgage delinquencies among Alt-A and prime borrowers. While a year ago many politicians and now-former bank CEOs wanted to characterize the current "crisis" as "contained" and as unique to the sub-prime cohort, we are seeing it is not. Forget for a moment that this credit contagion is almost certain to contaminate other consumer lending collateral types (credit cards, cars, etc.), commercial mortgages, and corporate lending. No, forget that. Focus on the fact that given the crisis's roots are in housing, it is goinng to become an sbsolute vomitorium in the rest of the residential mortgage sphere.
The reality is that:
1) the incentive of avoiding a bad credit score is declining as having a foreclosure (or five) on your credit score will hardly be the anomolistic scarlet letter it once was;
2) declining home prices eats into the homeowner's equity first (to the extent the homeowner ever had any), reducing his or/and her incentive to stay in that specific house and thus pay their mortgage;
3) Alt-A and Prime securitizations are supported by a much thinner layer of equity and other credit enhancement meaning that losses will penetrate to the higher rated tranches faster;
4) resets are coming. As Option-Arm and Interest Only resets hit in the coming 12-36 months, the incentive to default will increase;
5) consumers are being pinched in other ways too. Fuel prices, food prices, job losses, wage cutbacks (including through reduced hours worked), etc., ad nauseum. Fuel alone is scary. If you fill up a 20 gallon tank once a week, that's gone from $35 to $80 per fill-up. That $45/week tax is another $1000 per year hit to the consumer;
6) Alt-A alone is as big as subprime. Prime dwarfs them both combined. If prime goes really toxic, it will make people forget about subprime as a standalone problem. Suprime will come to represent not the core of the issue or the cause of the problem, it will come to represent the (now dead) canary in the coalmine;
7) to the extent prime continues to deteriorate in quick fashion, the equity of Fan and Fred is toast (the speed of the deterioration is really important since Fan and Fred are tonning it on new business and could earn their way through this if the cash losses are spread out over enough time. If not, the GSEs are going to be forced to either do an enormous capital raise or be nationalized; thus I suspect they will do everything in their power to postpone actual cash losses (as opposed to MTM, which is less important))
8) to the extent prime continues to deteriorate, many banks that are perceived as weak will obviously fail and some other banks that folks believe couldn't possibly get hurt may face potentially mortal wounds.
Regarding #8, let's use WaMu's asset base as an example. Since they have yet to release a detailed balance sheet for the June 2008 Q, we'll use the March 31, 2008 version:
Of its $320 billion of asssets, WaMu had a $201 billion loan book: $57 billion short-term option ARMs, $16 billion in other ARMs, $41 billion in medium-term ARMs, $12 billion in fixed rate home loans, and $9 billion in credit card loans. I should conclude by mentioning their $63 billion HELOC book.
Let's just think about that for a second. WaMu's target borrower was Alt-A. Let that sink in for a second.
Seriously, these are scary times.