“More than 17 percent of all FHA loans were delinquent in September, according to data on the agency’s website.”

I believe that number was 9% last quarter. Of course not all delinquencies turn into bad loans, or full-on NPL’s, but both the trend and absolute level should be alarming. The major problem, however, seems to be the mortgage guarantee business which is what FHA is actually designed for (to allow first-time or low-income buyers to buy with minimal money down). FHA is guaranteeing $1.1 trillion in mortgages, but the guarantee pool is an astounding $16.3 billion short. That deficit, by the way, is mostly a product of changing actuarial assumptions about the future trajectory of the housing market (a little too much optimism in their assumptions, a systemic problem).

http://www.bloomberg.com/news/2012-11-16/fha-sets-stage-for-taxpayer-subsidy-with-2012-deficit.html

“In addition, FHA will expand short sales and continue auctioning off at least 10,000 delinquent loans every quarter, urging investors who buy them to take steps to keep families in their homes.”

Proof of overeagerness:

“The agency has lost $70 billion on loans it insured from fiscal years 2007 through 2009.”

http://www.businessweek.com/news/2012-11-16/fha-sets-stage-for-taxpayer-subsidy-with-2012-deficit

Maybe they have been year-in-year-out a little too optimistic in their assessments and predictions? I’m not saying the housing rebound is over but this will not help (being more realistic might), particularly at the margins. Foreclosures in September 2012 were down 16% over September 2011, a five-year low. The rebound in housing has been more about supply than demand (see chart at the end of this post) so we will have to see whether this disturbs that dynamic. This gets back to who will ultimately bear the costs of the housing bubble. We still don’t know and won’t until the shadow inventory actually clears (banks or taxpayers) but someone has to take these hidden losses at some point. Maybe there is a third option if the Fed just buys everything housing related now that mortgages have been explicitly linked to economic progress. Bernanke just might have to if his assessment from yesterday proves durable (and renders his mortgage-for-jobs policy even more obtuse):

“The Federal Reserve’s Senior Loan Officer Opinion Survey on Bank Lending Practices indicates that lenders began tightening mortgage credit standards in 2007 and have not significantly eased standards since. Terms and standards have tightened most for borrowers with lower credit scores and with less money available for a down payment.” [emphasis added]

Why have lending standards failed to re-align with the optimistic forecasts?

“When lenders were asked why they have originated fewer mortgages, they cited a variety of concerns, starting with worries about the economy, the outlook for house prices, and their existing real estate loan exposures. They also mention increases in servicing costs and the risk of being required by government-sponsored enterprises (GSEs) to repurchase delinquent loans (so-called putback risk). Other concerns include the reduced availability of private mortgage insurance for conventional loans and some program-specific issues for FHA loans as reasons for tighter standards.”

Bernanke at least tries to put a happy face on the broken transmission:

“Policymakers have also taken steps to remove barriers to the flow of mortgage credit. The Federal Housing Finance Agency recently announced new rules that will provide mortgage lenders greater clarity about the conditions under which they will be required to buy back defaulted mortgages from Fannie Mae and Freddie Mac or otherwise address origination problems. This greater clarity may result in reduced concern about putback risk, which in turn should increase the willingness of lenders to make new loans. In its rulemakings and supervision, the Federal Reserve, along with other bank supervisors, has worked with lenders to try to achieve an appropriate balance between reasonable prudence and ensuring that qualified borrowers are not denied access to credit.” [emphasis added]

I think they tried that, and they lost $70 billion on loans made between 2007 and 2009. Now that FHA is potentially within a month of drawing funds from the US treasury (without any need for Congressional approval) to cover that guarantee deficit, any plan B’s?

“In September, we took the added step of stating that we will continue actions to put downward pressure on longer-term interest rates until the outlook for the job market improves substantially in a context of price stability. Our hope is that our statement provides individuals, families, businesses, and financial markets greater confidence about the Federal Reserve’s commitment to promoting a sustainable recovery with price stability and that, as a result, they will become more willing to invest, hire and spend. In addition, of course, the historically low mortgage rates that have resulted from the Federal Reserve’s policies are directly supporting the housing market by putting homeownership within the reach of more people.” [emphasis added]

Given what has transpired recently, was the Fed Chairman unaware of the dissonance contained within these remarks or just speaking in platitudes? The FHA is undoing anything the Fed does through lower mortgage rates. Chairman Bernanke grudgingly acknowledges that as a fact of the current marketplace – the new deficit and delinquency rates at the FHA only reinforces this monetary “paradox” (it’s only a paradox for those inside of monetary policymaking, impartial observers have no trouble seeing the contradictions here). So QE 3 really comes down to “our hope is that our statement provides individuals, etc, with greater confidence”. Just as it always has been, the Fed’s only tool is cajoling because the financial system remains broken, and will remain broken until losses are disposed and markets are allowed to clear previous imbalances.

Putting faith in the Fed’s ability to cajole is dangerous business, as the FHA will now attest.  Even Alan Greenspan in 2003 admitted he didn’t think the Fed had any idea how markets actually worked under extreme conditions. For the second time in history, I actually agree with Alan Greenspan (his 1966 views on gold was the first).

http://www.realclearmarkets.com/articles/2012/11/16/its_a_good_bet_the_fed_doesnt_know_what_its_doing_99993.html