This week’s wholesale inflation numbers gave the markets a good scare. The beast is loose, and the Fed is trapped between trying to prop up a sagging economy and locking the inflation monster back in the closet.

Mortgage rates are on the rise, and if Bill Gross is correct about inflation being deliberately understated, this whole thing gets a lot worse before it gets better. Part of the blame lies with those who manipulate the figures, part of it rests with those of us “who have for so long now been willing to be entertained rather than informed.”

Gross strikes a dissonant chord, activating one of my personal rants as he writes,

We care more about whos going to be eliminated from this weeks American Idol than the deteriorating quality of our healthcare system. Alternative energy discussion takes a bleachers seat to the latest foibles of Lindsay Lohan or Britney Spears and then we wonder why gas is four bucks a gallon. We care as much as we always have €“ we just care about the wrong things: entertainment, as opposed to informed choices; trivia vs. hardcore ideological debate.

Amen. We have become a culture addicted to distraction. Wake up!

But I digress. Mortgage rates may well be resting at the base of a long climb. Declining home values make it ever more difficult to meet the equity requirements needed to refinance, and Congress is already hopelessly behind the curve with any relief for homeowners.

So, if you need to refinance your 3/1 or 5/1 ARM, do it now before values make it impossible. I know you have a year and a half left on the fixed rate, but in another 18 months you may just be one more homeowner who owes more than he owns. The promise of more bad economic news just isn’t going to have the usual helpful effect this time around.

And be sure to read the rest of Bill’s newsletter….

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In the last couple of weeks, both Fannie Mae and Freddie Mac have lifted the 5% reduction in LTV required for loans in “declining markets”. For those unfamiliar with this policy, here’s what transpired in the past few months.

For markets designated as “declining”, “stressed”, or in some cases “severely distressed”, the agencies began requiring a 5% reduction in the maximum loan-to-value allowed. Thus the 100% conforming programs like My Community Mortgage and Home Possible had become de facto 95% loans.

At that point, borrowers had to come up with 5% in down payment and qualify under the 100% program rules (think income restrictions and higher interest rates) in order to get a loan. In turn, ordinary 95% conforming loan limits were reduced to 90%, and so on. This was the change that drove everyone back to FHA financing, where a borrower can still finance up to 97% of the price and use a non-profit gift from Nehemiah to cover the down payment.

So Why The Change of Heart?

That’s a question for which I’ve not found a good answer. The real estate market crisis certainly isn’t over–especially here in California, where the number of foreclosures hitting the market is at peak flow. Furthermore, Fannie Mae and Freddie Mac are still losing money on bad loans within their portfolios and have only escaped reform by the distraction of the current crisis and the upcoming elections. So what would cause them to take on additional risk at this point in the cycle?

In the absence of a better explanation, the cynical side of me says politics is at the root. Because at the same time that the Agencies are relaxing their rules, the mortgage insurance companies who insure these loans are in full retreat. At this moment, almost none will insure 95% loans anymore. So, Fannie & Freddie can play good dad and let you go to the all-nighter, knowing mom will never allow it.

So, if you are confused by the news, just remember it’s the mortgage insurance companies who really hold the key.

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Even as the Sacramento real estate market’s lower price range turns frothy once again with first-time buyers and investors slugging it out over for bank foreclosures, the lending noose draws a little tighter.

The Pitfalls of Buying Auction Properties

A client called last week. She had purchased a home–a condo actually–at auction last November, and she got a great price. However, she was unable to arrange a loan because the condo was “non-warrantable”, a term that means the condo project didn’t meet Fannie/Freddie requirements. After paying late fees and penalties for failure to close on time, and not wanting to lose their deposit, she pulled money from their home on an equity line and paid cash for the condo.

Now she wants to refinance the condo and pull some of her cash back out. The trouble is, lenders have reinstituted “property seasoning” requirements and tightened up the cash-out rules. Fannie Mae and Freddie Mac now require 12 months “seasoning” before she can refinance and get any cash back out of that condo.

Moral of the Story

I hear frequent tales of all-cash buyers in the market. It makes sense. Some of these bank-owned properties are so trashed that banks won’t lend money on them. The only solution is to buy for cash, fix the place up, and then get the loan when the property is in decent shape.

Now, that game is over. I think lenders want to finance responsible investmentments, and they’re sick of “flippers” and people trying to make a quick buck. So, watch your step. And if buying for cash was going to be your strategy, plan to have your money tied up for a bit longer.

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I just received some statistics on the Sacramento County market that confirm what we in the Sacramento valley have been feeling: buyers have emerged like a dragonfly hatch and are swarming around a veritable feast of low-priced, bank-owned properties. Has Sacramento taken the worst of its lumps?

For April, new escrows rose 33%, and closed escrows skyrocketed by 35% from the previous month and 68% from the same time last year. But the number of new listings fell 30%, reducing the inventory level to 5.9 months from 8.3. To further underscore the market’s keen interest in foreclosures, 90% of April’s sales were under $400k, 85% under $350k. Activity is certainly on the rise. But how deep is the pool of buyers?

Is the Financial Crisis Over?

Lately, Wall Street murmurs suggest that the worst may be over for the financial crisis. This theory has found support in the March and April retail sales numbers. Sales, ex-auto, grew by 0.5% in April, faster that analysts’ expected, on the heels of a 0.4% gain in March. This week’s CPI figures will give further clues as to impending threat of inflation and whether the Fed will soon have to begin reversing the direction of interest rates.

However, there is a big question about whether the financial dislocation will disrupt employment, further reducing consumer spending at the same time that “import inflation” is redirecting consumer dollars from luxuries to necessities. Mohamed El-Erian from Pimco makes this point is his excellent article Why This Crisis Is Still Far From Finished.

As far as mortgage rates are concerned, don’t bet on lower rates any time soon. The “Treasury bubble” will certainly burst if investors begin to feel like the storm has passed. But if the economy gets worse, mortgage rates will remain high to keep MBS investors in the game. Keep your seatbelt fastened; it’s going to be a bumpy ride.

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When FHA Secure was announced by the Bush Administration back in August of 2007, the FHA folks were perplexed. I know because I called them. First of all, FHA had already been doing unlimited CLTV refinances for a couple of years. Second, you didn’t have to be in default on your mortgage to qualify. And third, nobody had any idea what the hell the administration was talking about.

Those familiar with the Cervantes classic Don Quixote will remember Alonso Quixano, the county gentleman who descends into fantasy and reconstructs a farcical reality in which he fights unwinnable battles with imaginary enemies. The familiar phrase “tilting at windmills” has become iconic for the persistent pursuit of futile endeavors.

Still With Me?

Watching the administration and Alphonso Jackson of HUD descend into their own farcical reality has been disappointing. Like the great novel’s second half, the tale of FHA Secure appears to have evolved into a deliberate deception most painful to those for whom FHA Secure initially appeared to offer some hope.

Peter Berg, whose terrific watch dog blog FHA Mortgage Guide keeps close tabs on FHA financing, brings forth the disappointing reality of the statistics vs. the claims, as reported by HUD itself.

Despite the hundreds of thousands of homeowners Jackson claims to have helped (you will note that the these numbers are always in reference to FHA loans in general), “the glaring failure of the FHASecure program,” as Berg points out in his recent post FHA Mortgages at Mid-Year: Real Numbers Comes Out, is that “just 1,729 delinquent conventional borrowers have been helped in a period of six months.”

That’s a far cry from from the spin.

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After 3 1/2 years of a real estate market in full retreat, affordable prices have once again sparked a frenzy of buying activity. Buyers are back. Some are first-time home owners previously sidelined by an overpriced market or frightened off by the free-fall in values. Some are investors who can now achieve a break-even cash flow while buying at the nadir.

Banks, heavily laden with foreclosures, are taking advantage of this turn of events by stoking the bidding fire with aggressively priced REO properties. Its the eBay syndrome. Draw people in with low prices and let their emotions carry the price up. It works.

I am amazed too at the money that has emerged to take advantage of this. Reports of all-cash buyers (investors mainly) are frequent, and I have refinanced homes for clients, withdrawing enough cash to purchase investment property without financing restrictions. That is almost a necessity in cases where the property condition would preclude new financing.

So with prices bouncing off a hard floor and the sudden release of pent-up demand, the bottleneck seems to be with financing. Lenders are still reining in LTVs, raising credit score requirements, demanding repairs on rough properties, and generally behaving the way you or I would if we were worried about being able to sell these loans to investors.

Still, for those who can document income and good credit, there are still options. And a little down payment can do wonders. In fact, its a lot like it was a decade ago. And that makes pretty good sense.

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