Bankruptcies in the pipeline....what does it mean for the future? 6 case studies for your consideration
December 13, 2008
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Many of you know I work for a major bank. I'd like to post for dicsussion what I am seeing that I don't think has made the radar of the market, because its now yet showing in the stats. A number of people that still show strong credit bureau scores that are negatively cash flowing and choked with debt and unsellable assetts. I posted about it before....but I'm going to add some case studies, for all to consider what the financial and social ramifications are for our future and the markets. I think they are profound.
Stories from just this week. Names, certain facts, geographies and sexes have been changed enough to disguise the individuals for privacy.
We will call the first one Mr Big. Mr big is 61, and just lost his job, with no hope of finding another. He moved here for retirement 2 years ago, but like so many of those that do, they moved on the premise that they can find some work to supplelent their retirement income. Mr B is negatively cash flowing by about 2k per month. His savings is exhausted. He has no stocks. He can collect ss in 1 year, and he has already run up 45k in credit card debt. He has about 10k on revolving credit he can still borrow, and he no doubt will. I can't refinance his mortgage, because there is no lendable equity. Even if he goes 90 days late and goes to "hope now", cutting his mortgage by 1 or 2% won't address the underlying problem. There is 45k of credit card debt not yet on the radar that I see no hope of being paid. Credit scores still good. BK is inevitable in 2009. Inevitable.
Next is Mr & Mrs double. They have a house in another city, and moved here to find better paying work, as they couldn't make ends meet there. They bought a house at the top before they moved with an 80/20 mortgage in the other city, via an automatic underwriting FNMA desktop loan. They couldn't sell their house in the other city, becasue they owe more than it is worth, so they put it up for rent. A year ago. It's still empty. They started running credit card debt up to about 40k, the last 20 of it paying the mortgage. They are at 105% loan to value. Even if they go 90 days, "hope now" won't help them because its not their primary residence. Even if they could, a cut of 1-3% would not help them. Too much debtl BK in inevitable in the next 90 days. Total loss. 45k credit cards. 60k on foreclosure. That's over 100k. And they have large student loans that they can't use BK to avoid. Think they'll be big spenders anytime soon?
Now lets go to Mr Ret. Mr & Mrs Ret got caught up in the development lot loan bubble that went on here, where they went to a "tent event" and got a 3 year interest only loan, put 10% down, and then got the 10% back as a kickback from the seller to make the first years payments. By the way, over 2-3 BILLION dollars for those type loans were made by several banks in this area. Banks were falling over themselves to get in on the act. This was supposed to be a "customer gets the savings by buying direct" deal....(hint-by the time real estate "investing' comes to this, the money has already been made) Their time horizon was 3 years to make a nice profit. Of course, you know the story. The loan balloon has come. The lot is worth 30% LESS than what they paid. The bank will do a workout with them, and give them 3 more years. But as Mr & MrsRet are on a fixed income, and they have little savings, they see the writing on the wall, and are going to file for BK. There is no leveraged debt on their credit bureau, and their scores are high, thus they're not showing on the risk profiles yet. But they're toast. I know of hundreds of folks who have these "investments' who are struggling. Think they'll be going back to a consumer spending economy?
Moving on to Mr Blider. Mr Blider sells a unique home product that can allow the buyer to save some money when they buy a home. On paper. But it never seems to work in reality. Mr Blider used the appreciating equity in his private residence to finance the business growth. High credit scores, because every 2 years he was able to use the leverage to meet growth needs and continue to finance personal consumption. In the best of times, Mr Blider obtained several personal and business unsecured lines of credit, and the lenders were all too willing to provide. In addition, Mr Blider bought some of those spec lots above using stated income loans with the intent of selling his product as spec on them. In 2006, things started to slow a bit, and in 2007 they slowed even more. But Mr B was always able to make payroll and pay his personal debt by using the unsecured lines of credit. And the trips kept on happening. By late 2008, Mr B has over 4.5 mm in personal and business debt, supported by about 2 mm in marketable real estate. Down to a last 30k credit line he didn'teven know he had, he's going to draw on that one in a last desperate attempt to stay the course, despite the fact that the writing is on the wall. That bank doesn't see the problem in their screens to know to close the line because his credit score is still 750. They're about to lose 30k. When Mr & Mrs Blider fail, and they will, it will be devastating, as they will lose everything, bcause their business income pays their personal mortgages, which are way beyond anything they can support "if" they can find work. Thus, the is no hope, even in "hope now". The income will never be there. Mr Blider is looking more and more haggard, and his wife is in denial. With zero retirement savings, and in their mid 50's, retirement is going to be a sad affair for them. Total debt 4+mm. In the best of times, they made 6 figues plus. I see 50k combined for them in regular jobs on the other end, he in outside sales and she as a secretary. No happy days here. No retirement savings (i.e. 401) How much will they be spending?
On to Mr & Mrs Ostrichi. Mr & Mrs Ostrichi are both self employed. They work in a home based business, and have good credit scores. They used a small inheritance to buy a house with a "negative am" loan, which allows you to make less than interest payments, accumulating principal. For 2years I suggested they refinance to a conventional fixed, but they don't have the verifiable income to do so. Worse, they bought 2 development lots with the same program as listed above, and both loans are in renegoatiation. They have some credit card debt, and are about to accumulate more, as a means to meet ongoing expenses. By now, you can probably see where this is going. Without help from family, which may exist, they are toast. Even with the help, I don't forsee them ever having equity in their home. They neg am'd that at the top. I estimate they are 50k upside down. Thus, a best case scenario is a white knight relative bails them out of the land loans and credit cards, but they are still negatively cash flowing and have negative equity. They certainly won't be buying new cars or other goods to stimulate the economy any time soon! And they have no retirement.
Onward to Mr & Mrs Loonie. Mr & Mrs Loony are also in the 2 house trap, as in the boom they saw a house a couple of hundred miles to the north and bought in while under construction, putting a good amount of cash down. They figured it would be no problem to sell their house. Worse, they had a nice pile of cash, but instead of putting it all on one of the homes, they fell into the spec trap and bought spec land in one of the 5 worst sunbelt states they could have. That land is now selling for 20 cents on the dollar. They have 2 mortgages, and are out of cash. The lender won't do a refinance, because there is no equity on the home in question. If they do a deed in lieu of foreclosure, the lender will put a lein on their other house, ensuring them to be in negative equity and negative cash flow forever. As they are retired on fixed income, they won't be adding to the consumer economy. It was reasonable to assume one of their houses would sell, after all they live in a mild climate with lots of retirees. But having lost a third of its value, and due to lose more, there are no buyers, as there is still oversupply. "hope now" can do nothing for them. They went from a one house with a modest mortgage and cash in the bank tobankrupt. Oh, no retirement savings either.
Those are 6 stories out of probably 20 that I have seen in the last 60-90 days. What they all have in common, with the rest of them is this: None of these people have any hope of a bailout. They don't qualify. All of them still have good credit scores, and thus they are under the radar of "problem loans". Most if not all of them will use unsecured lines of credit to forestall the inevitable, meaning the losses will be larger when they occur.
Some of these people I know well, others I just handled the situation. But they are not unique, as they all have underlying the same problem....they were taught to use debt to leverage assetts, as debt was cheap and assetts appreciated faster than the debt. They felt wealthy, so they kept spending, and saved little to none, as savings was a low priority. They had housing wealth. They went on trips, ate out, and bought what they wanted. Those that had stocks have long lost them to the market or withdrawls. There is nothing anybody can do to save them. TARP money that sits in bank vaults as government equity will never make it to them, because it can't and it shouldnt. There is only one solution, and that is for the inevitable failure to occur, the losses be taken, and they try to rehabilitate their lives. As most of them are 50-60 yrs old, their retirements are unfunded, and they will be funcationally dependant on what little income from social security and part time work they can obtain. In essence, they are the epitome of the baby boom generation, that overborrowed, underfunded their savings, and overconsumed. They relied on the wealth effect of ever increasing asset values, not INCOME, to finance their consumption. Iforesee reduced consumption from them for the rest of their lives.
With rampant deflation and delevering, they find themselves trapped. They often feel misled,as if their quagmire is for circumstances beyond their control, and many act like victims- but I argue that it was more cultural, and they were fully a part of it. For each one of these I posted, there are many more with many other banks in this area.....people that I define as "under the radar screen". Beyond the immediate credit losses, which will be huge, is the heretofore unrecognised fact that their spending and savings patterns from now will be substantially different than before. After bankruptcy, they will spend less and save more. They have no choice. And they and we shall be better off for it. But their lives will be sparse. And they will be renters. But don't look for the 25 year trend of conspicuous consumption from them to continue. No vacations, no revolving new cars. It's over. Times millions. And there is nothing the Fed Or Treasury can or should do about it. But Fed & Treasury are somewhat resposible, because they forced artificially cheap money into the system, which in part provided the rationale for the takes of the cheap money.
After the failures, millions of the younger ones will be forced to obtain new skills, and change their consumption. The older ones best days are behind them. Isn't that what happened in the great depression? And weren't we better off for it?
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