Monday, May 23, 2005

Appraisers Bringing Attention To Fraud

The US congress is going to get an earful Tuesday, when appraisers take center stage. Alan Zielinski said,"All [lenders and brokers] want to do is hit the number because if they don't hit the number the deal doesn't go through and if the deal doesn't go through they don't get the commission. If [appraisers] don't play ball, they don't get paid or don't get work again."

"There are a lot of people who have refinanced for more than their homes are actually worth and they're effectively already upside down even without a real estate bubble bursting," said David Callahan of Demos.

"'The real issue is on the refinance side where people are cashing out of their equity on the basis of higher and higher values,' said Zielinski. 'Conservatively, I'd say that 10 percent of the houses I appraise are worth less than the mortgage on them.'"

"One overvalued appraisal can skew home prices throughout a neighborhood, according to the Appraisal Institute's Don Kelly. 'If a house is appraised for 10 percent or 15 percent more than it's actually worth and the sale closes, it may be used by another appraiser as a comparable sale the very next day. It has a ripple effect.'"

24 Comments:

At 7:56 AM, Anonymous Anonymous said...

Behold the bubble is about to pop. It is quite likely that in 4 months it will be clear the bubble is popping.

Why?
1) People are stretching to their limits to buy
2) Lending practices will tighten given Fed's reccomendations
3) Greenspan just used the term 'bubble'
4) The foriegn buying of loans is slowing
5) More awareness of the housing bubble situation. See the increasing number of articles referencing bubble using a google news search

 
At 7:59 AM, Anonymous JJ said...

What happened to the days when real innovation and production drove American business? Nowadays, "business" is increasingly the ability to subert and steal as much as possible from the public. Success is not getting caught, and failure means they get to keep the money, but you throw a couple of scapegoats to the wolves (think about the mutual fund fraud resolution recently - _I_ sure haven't seen any compensation, nor do I expect any). Either way, honest people and businesses suffer at the hands of these CRIMINALS. I hope names are named, and that these petty thieves are bought to swift and extremely severe justice.

-JJ

 
At 8:00 AM, Anonymous Anonymous said...

"It has a ripple effect"

Then we have a rippled bubble?

 
At 8:31 AM, Anonymous Anonymous said...

I am an appraiser in san Francisco,and the situation here is crazy.Peopl over bid by $100,000 or even $200,000.It it not based on existing sales but on the avialability of low interest rates and the believe that the market will just keep rising.People are usung no money down and interest only loans to fuel this madness.They expect to refinance and cask in on the increased equity of their property.I can't image this can sustain itself.All the money from the dot bomb industry has gone into real estate.

 
At 8:48 AM, Blogger deb said...

I have been thinking about one key difference between this "mega-bubble" and the last bubble in CA in the late 80's. In the 80's the bubble was inflated with developers "building on spec". The buyers were over bidding, but they were largely buying homes to live in.

In this bubble, the name of the game is "buying on spec". The builders are largely building based on presently existing demand, but the buyers are not buying homes, they are buying investments, with many "investors" holding multiple units. Then, they are refinancing and pulling money out at record rates, piling debt upon debt. The fraudulent appraisals have been a key part of making this all possible, along with lax lending standards.

The risk has been completely shifted. The speculators are now Joe and Jane Six-pack. Last time many of the worst hurt were the developers and small spec builders.

I think that is part of why this bubble continues beyond all reason. The participants are unbelievably ignorant of the risks they are taking and the potential ramifications.

This time will be so much worse.

 
At 8:58 AM, Anonymous Anonymous said...

("'If a house is appraised for 10 percent or 15 percent more than it's actually worth and the sale closes, it may be used by another appraiser as a comparable sale the very next day. It has a ripple effect.'")

It's a house of cards that's bound to fall.

Or as UCLA economist Thornberg out it, it's a pyramid scheme which requires new people coming in at the bottom to allow people to keep moving up in appreciation.

Marketable securities are heavily regulated in this country. But marketable real estate is not. The MLS controls the information, but doesn't make it readily available to all. So unlike the stock exchanges, we don't have an instanteous clear picture of what's going on. It serves to prop up real estate brokers, who really don't do anything for a 5-6% commission. An open information database utility could do it for a fraction of the cost. Do stock brokers get 6% commission? No way.

The whole MLS - broker axis is an evil oligopoly with huge conflicts of interest inherent. After this housing bubble pops, look for Congress to attack and break up this axis.

 
At 9:07 AM, Anonymous Anonymous said...

"Then we have a rippled bubble?"

Would that be a Rubble, or a Bipple?

 
At 9:21 AM, Blogger goleta said...

Deb,


Interesting thought! Cagan's paper has shown that buying a home to live in at a price that follows the historical 3 to 3.5% inflation corrected appreciation is financially sound. But the current level is just way out of the chart and it may take 30 years for that 3% appreciation to reach the current pricing. So eventually the current pricing will be reasonable in 30 or 40 years if the owners live in or rent out the properties.

But if the properties are left vacant, maintenance cost, fees, and property tax will reduce the appreciation to negative range that the investment will not even beat inflation in 40 years. The loss will be much greater when they can't sell at current pricing but are forced to sell.

The magnitude this coming burst will definitely dwarf anything we've seen. Any thought on the ripple effect it can cause to our lives?

 
At 9:25 AM, Anonymous Anonymous said...

I think most people underestimate the huge economic power of latin american immigrants. As one of the earlier posters noted, RE is a pyramid scheme requiring new people to come in at the bottom. That is exactly what has been happening.
Here's the scenerio:
Hispanic buyers scoop up all the lowest priced properties, eventually bid them up to lofty prices. These low end sellers take their exaggerated profits and upgrade into a bigger house in a nicer neighborhood, eventually pushing the price of these home up. The sellers of the 'medium' homes take their exaggerated profits and upgrade also. And so the cycle continues.

For southwestern states its the ultimate catch-22. Do you close the borders and eliminate those first time buyers who got the bubble rolling in the first place? Or do you suffer through social/economic strains that comes with immigration?

 
At 9:31 AM, Anonymous Anonymous said...

Duh... inflated appraisals? duh... you mean real estate doesn't just go up and up and up... duh... people might be underwater on their mortgages already? duh... you mean real estate doesn't double in value every 3 years? duh... but my realtor and mortgage broker told me that it would... duh

 
At 9:35 AM, Anonymous Anonymous said...

(The whole MLS - broker axis is an evil oligopoly with huge conflicts of interest inherent.)

The MLS is a monopoly. The brokers do have much competition. But brokers (like lawyers) act in collusion (aka "industry practice") in setting their rates.

At least lawyers do something. Brokers just show a property - something a minimum-wage person could do.

 
At 9:37 AM, Anonymous trenchantwit said...

@

Interesting conversation today on Minyanville.com:

Question: Record Foreclosures...Record New Home Sales...is this Bizarro? Large well financed tract homebuilders with their own mortgage companies have moved into several areas in our region over the past 10 years. They can and have purchased bare farm ground on the cheap ($3-5,000 per acre), converted it and developed it into a vinyl sided, subdivision/city popping out of a corn field complete with playgrounds, pool, clubhouse, ponds, walking paths, etc.

Using abundant and relatively cheap Hispanic sub-contractors/labor. They can build a home within 30-60 days. Once specs homes are built they advertise NO DOWN PAYMENT, 3.125% Rate, 3/1 ARM. etc. They take a buyer who has no savings and has been employed less than a year and put him into a home that costs $134,500. They put him in this home with a multitude of 100% mortgage products including 80/20's, 100% Conventionals, and my favorite 97% FHA's with a downpayment gift of 3% from a non-profit organization.

They use FHA because the DTI ratios are more flexible, bankruptcies only have to be discharged 2 years, and credit scores only have to be 600-620 depending on the situation. However, FHA does not allow 100% financing, but they do allow a gift from a non-profit organizaiton.

The builder can pay closing costs up to 6% (which is used by the builder to pay down the already low 3/1ARM to a lower level), but the builder cannot give the buyer the 3% downpayment that FHA requires that would be fraudulent. SO what does the builder do? They make a donation to a non-profit organization in the amount of 3% plus $250-$500 handling cost. The non-profit than gifts the 3% to the buyer for the downpayment out of their already established pool of funds and keeps the handling cost. Believe it or not this is completely legal according to HUD.

The builder's mortgage company qualifies this buyer on a 3/1 ARM telling them that the rate will rise and fall with the interest rate environment and overall economy. They don't tell them that the adjusted rate is figured by adding a margin to an indexed rate which automatically means the payment will adjust at the very least the maximum capped amount for the first three adjustment periods. At the end of the 3 year fixed rate period a new payment is figured at the new rate.

The borrower cannot afford the new higher payment and the property ends up in foreclosure. The builder is in and out of the subdivision before the first wave of foreclosures hit as this would dramatically cut profit due to the 20-45% cut in overall values caused by the high number of foreclosures in the subdivision.

I know this because I have recently purchased a home at $90,000 when the original price 3 years ago was $134,000 in one of these subdivisions.
The large well financed tract builder moves on to construct a new subdivision.

If the market is so strong then please tell me why the values in these sudivisions drop by 20-45% while the builder moves on to a new subdivision and starts the same process/game all over again selling homes for $135,000-136,000. My best guess is that the existing homeowners (suckers) are not as sophisticated as the builder. In other words the homeowner cannot offer a 6% closing cost concession, 3% gift for downpayment, and pay a 5-7% commission to the real estate agent on top of a loss of value of 20-45%.

Near as I can tell our Federal Government, from the FMOC to HUD, is nurturing this type of situation where these supposedly new breed, consolidating, Wall Street homebuilders are enriching themselves at the expense of U.S. taxpayers and the poor souls they prey on, and I forgot to mention the sub-par or below average workmanship and materials these homebuilders offer.

In my opinion this is how we get record new home sales while we have record foreclosures. Is this the Bizarro world or what?

How good a juggler is/was Greenspan? I never thought he'd be able to keep all the balls in the air this long. Maybe his arms are starting to tire. Maybe he senses something coming. Maybe that is why he is no longer interested in the job. Maybe this is why he is just now starting to get real vocal about Fannie Mae (FNM) and Freddie Mac (FRE). Maybe he is setting the stage for, "It wasn't my fault."...."It was those damn GSE's."

The house of cards is starting to wobble.

RESPONSE: We have noticed that those defending ARMs are those that sell them. You point out the real risk of ARMs (a financial product like any other; just like a gun, it is how one uses them that is the danger): the proliferation of loose credit by inexperienced lenders bringing leverage to those that will ultimately not be able to manage it.

We don't dispute that 5/1 ARMs make loans cheaper and "match" cash flows for homewoners that have a short time horizon (although this fact is what creates pandoras box). We do understand, however, that they cause people to borrow a principal amount (the full purchase price of a house since there is a very low or no down-payment) that will ultimately not be supported by collateral value (the price that they will be able to sell the house at in five years).

Mr. Greenspan is not juggling anything, nor is he particularly talented in such. Mr. Greenspan has a very powerful tool: he is able to print money. He is the chief of the fire department and he has the biggest hose. He can douse the burning building and it seems there are no flames left, but tons of water is not the solution, although to the bystanders they don't know that. Water won't put out the electrical fire that is about to explode within.


   

 
At 9:49 AM, Blogger Ben Jones said...

Deb,
I had a post a while back in which the big builders bragged about how insulated they were from a price drop. The upshot was they had passed off the risk to the buyers and secondary mortgage markets. Good point.

 
At 10:23 AM, Anonymous historybugg said...

(it's a pyramid scheme which requires new people coming in at the bottom to allow people to keep moving up in appreciation.)

Right you are. Pyramid schemes fail when they can no longer attract new money.

Perhaps that's why, at this stage of the bubble, we are seeing so many folks within the govt-regulatory-industry Matrix putting forth all kinds of new ideas on how to sucker more people in (like Gordon Brown in the UK).

Fires burn out when they run out of fuel. With 70% of Americans now "homeowers"---by far an all-time record---it's going to be interesting to see how they can scrape the barrel any further.

Maybe that's why we are seeing so much interest in finding ways for illegal aliens to purchase homes.

What's the next step? Remember, we now have over 2 million Americans in prison (1 out of every 140 citizens). Maybe a mass amnesty so that our jailbirds can become part of the Owership Society?

 
At 10:24 AM, Anonymous Anonymous said...

"I think most people underestimate the huge economic power of latin american immigrants."

A good point, and one I don't see discussed often, even on this board. How could this be measured?

 
At 10:31 AM, Anonymous Anonymous said...

9:25 AM and 10:24 AM,

gee... i wonder if you're the same person or not...

 
At 11:22 AM, Anonymous Anonymous said...

(For southwestern states its the ultimate catch-22. Do you close the borders and eliminate those first time buyers who got the bubble rolling in the first place? Or do you suffer through social/economic strains that comes with immigration?)

Mass law-breaking rarely has a happy ending.

If you amnesty them, you show all the world (and America) that U.S. Citizenship is worthless, and to be spat upon. If you enforce the law and do a mass deportation, real estate in markets that relied on illegal aliens will be dead.

 
At 12:56 PM, Anonymous Anonymous said...

Anon 10:31

Not.

 
At 2:26 PM, Anonymous Anonymous said...

"The whole MLS - broker axis is an evil oligopoly with huge conflicts of interest inherent. After this housing bubble pops, look for Congress to attack and break up this axis."

This is a great point and I believe you are correct that when this pops, there will be a wave of new legislation centered around cleaning up the RE industry.

I often wonder how appraisal fraud can be regulated, though. House valuation is difficult and somewhat subjective to begin with, and these people are under enormous pressure to come in at the number. At some level, appraisers are on an honor system, and congress will have a difficult time coming up with objective metrics to identify a problem appraisal.

anon 9:25

Immigrants have to be here a while to establish at least an identity, if not a credit rating. Even with our ridiculously low lending standards, I doubt that the llegals pouring in from Mexico will have much of an effect on the current housing market. These people tend to live in ramshackle shanty town erected on farms and the like. In metro areas, they get absorbed into the barrio, but don't represent a house-buying demographic.

If you're talking about Latinos that have been here for a couple of generations, then I would suggest that their impact is no greater than their numbers, and it's somewhat racist of you to imply that Latinos would only be interested in low-end or starter homes as I know several very successful Latinos.

In any even, I agree with you that it would be fun to see statistics on how many immigrants have applied for or have been granted a loan. I'd especially like to see if any illegals have gotten a loan.

 
At 2:34 PM, Anonymous Anonymous said...

"the big builders bragged about how insulated they were from a price drop. The upshot was they had passed off the risk to the buyers and secondary mortgage markets."

Ben,

It is digusting that they would be bragging about this. Nevertheless, a severe RE downturn will expose these frauds for what they are and always have been: underperforming cyclicals. So much for forward looking p/e statements, eh?

Greg

 
At 3:02 PM, Anonymous Anonymous said...

2:26 PM,

A Denver station did a story on illegal alien home buying. It was also run on CNN. Their website has link to the video here:

http://www.thedenverchannel.com/news/4224901/detail.html

 
At 5:54 PM, Anonymous Anonymous said...

"Immigrants have to be here a while to establish at least an identity, if not a credit rating. Even with our ridiculously low lending standards, I doubt that the llegals pouring in from Mexico will have much of an effect on the current housing market."

I posted an article from the LA Times a couple of weeks ago on this topic. It basically said that these types of folks are now being lent money to buy homes - no credit history, no nothing.

Is this a great country or what? How many people think that you or I could enter Mexico illegally, walk into a bank, and get a loan for 300K to buy a home without any documentation?

 
At 6:20 PM, Blogger deb said...

The Times article made it sound so sad that these people could not get loans simply because they did not have tax returns. Well, why does someone not have a tax return??? Because they are not paying taxes!!

 
At 7:45 PM, Anonymous Anonymous said...

yea, everyday huge masses of illegal people come in, they work for $5 per hour and of course they are the ones that snap up all the newly constructed condos in LV and Boston each for cool 1/2 mil. They are rich you know, only work for $5 as a cover up, then after work they flip a few properties and next morning come back to serve us a hamburger; we got to build more -there are so many rich illegals coming in LOL

 

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