Twilight of the HELOCs

The days of the home ATM are over. Why do you think charges to credit cards have been at record levels for the last year or so? Because Americans can no longer tap home equity (because equity is vanishing and lenders are tightening standards) and the only way to keep the consumption binge going is to rack up credit card debt. Of course, that house of cards will eventually collapse just like the real estate house of cards.

The 20+ year credit induced binge in the US is over. It's time for Americans to pay up. Unfortunately, many Americans are so deep in debt that they can't pay up. That is why we are living through a massive transfer of wealth from the US to the emerging markets such as China and Brazil. The days of US economic dominance are numbered. Hope you enjoyed the ride.

As a friend of mine said, the ability to borrow against your home (through HELOCs or loans) is just a tool. The key (and the hard part) is using it wisely. For example, if you borrowed to improve your kitchen, which increased the house's value over the long-term, and could always afford the repayments, then there is no problem that I can see. Again, I'm talking long term, not speculative stuff.

The problem is that many people make unwise choices. And I must say I'm not as harsh on them as many others on this site. People are fallible, especially with money. Money isn't just numbers, it's quality of life, and so it's all wrapped up with dreams and hopes for the future, etc. Even well educated people have troubles with this. I certainly have. And what "average" person could have seen the conditions that were leading to the bust? If the Fed didn't predict it, how could your neighbor the plumber?

I'm obviously one of the people constantly bemoaning american's financial illiteracy on this site. I think less HELOCs is definitely a good thing. I'd like to see us get back to being a country with a real savings rate, and no longer quite so fixated on borrowing for consumption as opposed to investment.

Many people are not really even aware of the difference between consumption and investment, which leads to things like purses being described as an "investment", which is simply absurd.

Things like HELOCs, Option Arms, etc. may be beneficial to the financially sophisticated, but the problem is that they are marketed to people who don't really understand what they are doing until they lose their house. I'm generally skeptical of regulation, but we as a society have to come up with someway of moderating such risky behavior.

I think more financial education is the key - I'm really constantly bemused at the ignorance of economics and matters financial the average american suffers from. It's bad for them, and bad for our country as a whole.

charles, I couldn't agree more. About everything. Who can look at a savings rate of 0% or even negative and not be concerned? How can that possibly bode well for the country's future?

And yeah, conservatives moan about regulation but my goodness, has there ever been a more obvious need for it than in this area? As I read recently somewhere, it's not just good for people, it's good for business, it's good for the economy.

Where was the basic financial education curriculum in my high school? How about required classes in financial basics: loans, credit, and interest rates, stocks and bonds, compounding interest? A good start right there, nothing more complex. It pisses me off that I had to learn this stuff on the fly, in many cases the hard way.

Ah yes, another guided tour of Middle America from Mr. Brooks, helpfully gesturing at the interesting bits of suburbia with a tweed-clad arm from deep within the Beltway.

Anyway.

During the last anemic "recovery"--the one that likely ended in December 2007--corporate profits reaped a record share of GDP growth while the incomes of working Americans flattened or fell. Only the top slice of the wealth cake enjoyed the benefits. Yet, we have a global economy that is largely dependent on the continued spending of the American consumer.

So the padishahs faced a conundrum: How do we get consumers to spend more while paying them less? Why, we'll let them borrow it!

Thus was born a housing bubble, and record home equity extraction to help monetize it.

What?! My cache of purses aren't investments? I thought I was outsmarting the manipulators that hadn't figured that market out...yet.

I'm long on handbags.

Marcus, you just expressed something so obvious but that's rarely said. Greed trumped sense when they didn't ask the next obvious question: What happens when they can't pay us back anymore?

My first impulse is: screw Bear Stearns. Screw the mortgage companies folding. Screw the lenders, speculators, investors. Let them all hang for their greed. But then who's hurt, really? The CEOs? The head of Bear, whose stock value dropped from over $100M to around $10M. Poor guy. Or the CEO of Countrywide? Should I fear that he'll be sitting on wiped out credit, renting in the bad part of town anytime soon?

Nope, it's the employees, the workers, the former customers -- i.e. the rest of us, the suckers, the saps, the rubes, the great unwashed.

And they say class warfare is no longer relevant. Just wait!

Borrowing against home equity, in some circumstances, is a bad idea. But evidence of "moral decline"? Delinquincy might be evidence of moral decline, but borrowing from a lender most certainly is not.

I agree with Brooks in most cases. However, one also has to look at institutions that benefit from the house and credit card as a wallet other than financial institutions and consumer products. Namely, education/universities. The increase in cost has also far outpaced income and most of what I have seen goes to posh undergrad pads and lining celebrity/consultant professors' pockets rather than teach our children. How many have tapped their equity to invest in their children?

Now the housing bubble burst, I see education as next. Who will be able to afford it with all the credit channels closed?

"Education" always sounds like a good answer, but evidence shows that it isn't. Financial companies have for years tried lavishly expensive education programs to increase participation in 401(k) plans, yet their own employees still sign up for these programs at embarrassingly low rates.

And really, how much do you expect the average American to be educated about? Yes, we could do better. But here we're only talking about home lending. Listen to other industries, and we learn that we're all supposed to know a lot more about long-term case insurance, pharmaceuticals, nutrition, home repair, phishing scams, the pros and cons of vitamin E, proper exercise form, car maintenance, the warning signs of GERD, signs of drug use among children, crime patterns, bill paying options, proper footware, healthcare reform proposals, corporate governance, interviewing technique, pet food, and the tragedy of restless leg syndrome. If we did all rise to meet these exalted expectations for education, we'd lose our day jobs.

Which is partly the point. You read the debates about housing, and you realize it's just another example of one of the great themes of our time: The transfer of risk from institutions to individuals--individuals who cannot possibly be in as good a position to understand and manage these risks as the institutions themselves.

Risk is transferred a thousand different ways. Today, we're already responsible for managing our own investments and our own healthcare. Now the real estate industry is demanding we take responsibility for their underwriting standards. Convenient for them. Not realistic for us.

hey guys-- what is so hard to understand about "adjustable rate"? If there are so many Americans who are too dumb to understand this simple concept, maybe we should identify them so we can prevent them from doing business with everyone else (and take away their driver's licenses while we are at it).

By the way, no one was complaining that they "didn't understand" their mortgages when house prices were going up 20% per year. Convenient. I wonder if they try that argument at casinoes too.

The amazing thing to me is how our Federal Government's fiscal irresponsibility so closely mirrors our own. The US has enjoyed one of the largest per capita GDPs in the world for the latter 2/3rds of the 20th century until today. We have had an incredibly strong economy, income levels that dwarf most other countries, and the opportunity to accumulate personal wealth on a scale that this planet has never seen.

Yet despite all these remarkable and unprecedented market conditions, Americans have virtually zero savings and in fact are leveraged to the hilt in a lot of cases. We have taken advantage of every single opportunity to borrow, borrow, borrow to leverage ourselves and support our incredibly fiscally irresponsible lifestyles. The government and society at large has not only not frowned on this, but we've actively encouraged this crazy situation in the hopes that the American consumer can continue to purchase our way out of any market decline. Sadly, we haven't been a net exporter in quite some time now - which means that our ridiculous levels of consumption are unsupportable in the long term and the bills are coming due.

Our federal government is no different. Despite drawing more tax revenue than any other nation on Earth for much of the last century into today, our leaders have borrowed dangerously enormous amounts of money from other nations to support our gluttonous spending and war mongering. Right now we're borrowing so much money that just paying the interest on the amounts we have outstanding consumes a giant part of our annual budget.

I'm really not a doom and gloom kind of guy, but one has to wonder - how much longer can we as a people and as a nation keep this up before we have to pay the piper?? All we've known is the days of wine and song. When the party's over and we suddenly realize that we no longer PRODUCE anything to support our consumption, I hate to even guess what kind of shape we'll be in at that point. All I know is that we're not doing our kids and grandkids any favors by handing them hundreds of thousands of dollars each in debt from the minute they enter this world. Yikes.

Yes J.P, the US has evolved or maybe I should say devolved into a nation addicted to credit. Remember when people used to buy things on layaway? How about Christmas Clubs? We delayed the pleasure of the use of the item until we had enough money to purchase it. Those practices went out the window a couple of decades ago when we became a borrow and consume nation.

As far as the "wealth" of the US in relation to the rest of the world, you have to remember that it is not the amount of dollars you have that is important, it is the purchasing power of those dollars. This should be painfully obvious with the collapsing dollar and rampant inflation we are experiencing. Heck, the minimum wage in Zimbabwe is over $100 billion an hour. And since US wages have been virtually stagnant for the past 30+ years, is it any wonder that the only way that the standard of living in the US could rise to it's current level was through massive amounts of debt?

Regarding financial education... I do recall someone occasionally explaining credit cards and interest rates, and giving out the big savings scenario (if you saved just X by the time you were X you would have X) and the scared-straight stuff with borrowing. The problem was that those aren't the basics. That stuff is step two. Step one is simply, cash in and cash out per month. How much does each occupation bring home in cash per month, what has to be paid for, and how much it costs. Even parents who get exasperated with their kids for asking for things they can't afford will just yell, but never sit down with the kids and lay out the living expenses and the income. In many cases parents don't do it, and schools don't either. That is THE most basic financial education and it gets totally ignored. Without

A leading economic journalist has described the current financial crisis as a "gigantic fraud", the fallout of a deliberate and preconceived profit agenda to enslave the middle classes in a debt bubble.

The economics editor of the London Guardian, Larry Elliott, has hit out at the global financial elite in a refreshing piece that marks a rare shift away from the establishment hackery we are used to from the corporate media.
In an article titled America was conned - who will pay? Elliot writes:
Indeed, it is somewhat surprising that there is not already rioting in the streets, given the gigantic fraud perpetrated by the financial elite at the expense of ordinary Americans.
Business, of course, needs consumers to carry on spending in order to make money, so a way had to be found to persuade households to do their patriotic duty. The method chosen was simple. Whip up a colossal housing bubble, convince consumers that it makes sense to borrow money against the rising value of their homes to supplement their meagre real wage growth and watch the profits roll in.
As they did - for a while. Now it's payback time and the mood could get very ugly. Americans, to put it bluntly, have been conned. They have been duped by a bunch of serpent-tongued hucksters who packed up the wagon and made it across the county line before a lynch mob could be formed.

It's not as simple as understanding "adjustable rate." It's 2005. You aren't a financial professional. You pay your bills on time. You and your wife want a house to settle down with your children. You talk to a professional-sounding man at the lender's office who explains how you can buy a home using an adjustable loan. You ask questions. He says, "you can refinance before the adjustment, don't worry. Home prices haven't fallen since the Depression." You do some homework and see he wasn't lying. You read articles that say the same. No one at any level says this is a bad thing. On top of it your close friends bought a new house a year ago and they have tens of thousands in equity now. You see a chance to do the same, to get a house and get ahead. You sign the papers.

Is it so hard to imagine? Was it so icredibly stupid? Or were they just trying to improve their lot, like so many around them were doing, and so many "professionals" -- people who supposedly knew what they were talking about -- were encouraging them to do?

I’ll accept the industrious and ambitious nature of Americans, but frugal? Our history is rife with brave Americans doing the impossible against all odds with little regard for risk. This is the home of the brave. How can Americans be blamed for engaging in risky behavior when the risk was not historically evident in their lifetime? Those who spend beyond their means did so because they have not lived long enough to know the harmful consequences of doing so. Both institutions and individuals are beginning to learn about the down side risk now. Future borrowing and lending behavior will be governed by the lessons being learned now.

Do not bemoan the sorry state of financial knowledge of Americans. All of us learn everything that we know the same way, through experience. I tell my teenage son to drive carefully and know that he will need to wreck at least one car to understand why. He will survive and so will we

The Worst of Home Foreclosures Yet to Come
Real Estate – Foreclosure avalanche trigged by subprime mortgages started in 2007 will peak in 2010, based on the data from Credit Suisse via the IMF. Following chart from Credit Suisse via the IMF shows the heavy subprime resets in 2009. Number of home foreclosures will be down in 2010. However, the worst is still not over yet.

"Do not bemoan the sorry state of financial knowledge of Americans." I'll accept that experience is the best teacher. But I can easily envision a culture where any school kid knows what (as UncleJulie said) cash in/cash out means, and the common understanding is that spending more than you make is a bad thing. It's a mindset that can be taught.

Compare it with smoking. Not long ago smoking was common and not taboo at all. Now everyone knows it's poison and we re-enforce that understanding in a million ways. Do some people still smoke? Sure. But it's looked down on by society, and for excellent reasons.

Now imagine if we did the same for bad debt, like credit cards, exotic mortgages, etc. For 50 years after the Depression it WAS that way. What happened? See Marcus's posts above. So let's get back to a place where paying as you go is admired and bad debt is looked down on.

I don't know what to say to someone who doesn't expect his teenage son to learn to drive carefully until after he totals his car, except that such a notion is, thankfully, not widely shared. Most of us do not learn mostly by experience. We read, we listen, and we use common sense. That's how, while others were overbuying and HELOC'ing at fever pitch during the bubble, some of us kept our heads and refused to get taken in.

I said above, I don't like lenders outsourcing their responsibilities to borrowers, but borrowers playing victim doesn't wash with me either. "I'm sorry, what can I do? I overpaid for a house I can't afford, and cashed out equity to buy cars and TV sets. Please, give me money so I can keep my house, and car, and TV, all of which are nicer than yours. Don't be a hater."

If this attitude is truly commonplace, we can all kiss our standard of living goodbye. Our economy cannot function if reckless incompetence and entitlement are rewarded while common sense and prudence are punished.

Incidentally, I see little evidence that experience has taught anyone a lesson. Look at recent sales in the communities that some have been touting as "immune." Mortgage and HELOC records show the new owners' financial position is precarious at best, toxic at worst. Doubtless these will be the next gaggle of home debtors to wring their hangs and ask plaintively, "Hoocouldanode?"