Housing On Borrowed Time?

Lon Witter, founding partner at Witter & Westlake Investments in Louisville, KY, wrote an excellent Barron's article The No-Money-Down Disaster (subscription required).

The cost and risk of adjustable-rate financing can be devastating. Consider a typical $250,000 three-year adjustable-rate mortgage with a 2% rate-hike cap. If the monthly payment now is $1,123, after the first adjustment, the monthly payment is $1,419. After the second adjustment, the monthly payment is $1,748, a $625-per-month increase. That's $7,500 more per year just to maintain the same mortgage. If you think high gas prices are biting the consumer, consider the cost of mortgage adjustments.

Some more numbers:

• 32.6% of new mortgages and home-equity loans in 2005 were interest only, up from 0.6% in 2000
• 43% of first-time home buyers in 2005 put no money down
• 15.2% of 2005 buyers owe at least 10% more than their home is worth
• 10% of all home owners with mortgages have no equity in their homes
• $2.7 trillion dollars in loans will adjust to higher rates in 2006 and 2007.

These numbers sound preposterous, but the reasoning behind them is worse. Lenders have encouraged people to use the appreciation in value of their houses as collateral for an unaffordable loan, an idea similar to the junk bonds being pushed in the late 1980s. The concept was to use the company you were taking over as collateral for the loan you needed to take over the company in the first place. The implosion of that idea caused the 1989 mini-crash.

While the source of the statistics was not provided in the article, if we assume the numbers are correct, then those statistics should certainly give us pause. Doug Kass has been beating the drum on housing for quite some time as well. Like both Witter and Kass, I am cautious of the markets because of negative effects that housing might have.