The journey back to reality begins: mortgages, HELOCs, defaults and foreclosures in the second quarter

Forbearance and pandemic money are running out. But everyone had fun.

By Wolf Richter for WOLF STREET.

Mortgage balances jumped 9% in the second quarter from a year ago as prices climbed year-on-year as people bought far fewer homes – home sales Existing homes fell 10% from the second quarter of last year and sales of new single-family homes fell 19% over the same period.

Mortgage balances have risen relentlessly since the end of the housing crisis in 2012. In those 10 years, mortgage balances jumped $4.6 trillion, and in the past three years, mortgage balances jumped $2.0 trillion, or 21%, to $11.4 trillion.

HELOCs end a long decline.

Home equity lines of credit fell out of favor after 2009 and balances steadily declined, reversing the massive surge of the years before the financial crisis. As the Fed’s interest rate crackdown and QE drove mortgage rates down and house prices rose, people began to cash out and refinance their mortgages to generate cash, rather than to tap into the HELOCs.

But now the decline is over. HELOC balances rose in the second quarter to $319 billion, from the previous quarter’s low. It came as mortgage rates soared and cash remittances plunged.

Now there is a new dynamic in place: Much higher mortgage rates: It would be foolish to refinance a 3% mortgage with a 5% mortgage in order to get $100,000 cash out of the house. It’s best to leave the 3% mortgage alone and get a $100,000 HELOC that charges 5% on the outstanding balance, if any. So I expect HELOC balances to increase further in the future as the cash-in refi game has changed.

Mortgages are by far the largest part of consumer debt, bigger than ever.

Nothing even comes close. Q2 Consumer Debt Balances:

  1. Mortgages: $11.4 trillion
  2. Student loans: $1.6 trillion
  3. Auto loans: $1.5 trillion
  4. Credit cards: $890 billion
  5. “Other” (personal loans, etc.): $470 billion
  6. HELOC: $320 billion.

Mortgages are where the big systemic risks used to be due to the sheer size of the market and high leverage.

But now, commercial banks in the United States only hold about $2.4 trillion in residential mortgages, including HELOCs, on their balance sheets, and those are spread across 4,300 commercial banks. Thousands of credit unions and other lenders also hold mortgages on their balance sheets.

But most mortgages are now securitized into mortgage-backed securities. MBS are divided into two categories:

  • Most are government-backed MBS. Here the taxpayer is responsible, not the investors and lenders.
  • A smaller portion of MBS are “private brands” – not backed by government entities. They are held by global bond funds, pension funds, insurance companies, etc.

Crimes are starting to come back to reality. Everyone had fun.

Under pandemic-era forbearance programs, homeowners who fell behind on their mortgage payments, or stopped making mortgage payments altogether and then entered a forbearance program, were reclassified as “current” instead of delinquent. They didn’t have to make mortgage payments and could use the money saved from those unpaid mortgage payments for other things. Eventually, they would have to reach an agreement with the lender to exit the forbearance program.

The surge in home prices since the spring of 2020 has allowed homeowners, upon exiting the forbearance program, to sell the home and pay off the mortgage and walk away with extra cash; or make a deal with the lender, such as a modified mortgage with a longer term, lower rate, and lower payments. And everyone had fun.

But with the end of forbearance programs, mortgage delinquencies have started to rise this year from last year’s record highs.

Mortgage balances that were 30 days or more past due reached 1.9% of total mortgage balances in the second quarter, compared to 1.7% in the first quarter. It was the third consecutive quarter-over-quarter increase, from the record low in the second quarter of 2021. But it remains below all pre-pandemic lows (red line).

HELOC sales which were 30 days or more past due reached 2.3% of total HELOC balances, the fourth consecutive quarter-over-quarter increase, from the record low in the second quarter of 2021. They are now higher than they were before the housing crisis (green line).

The HELOC delinquency rate in the second quarter was higher than the mortgage delinquency rate for the very first time, making you go hmmm.

Seizures have increased, but are still near all-time lows.

The number of foreclosed consumers rose to 35,120 borrowers from 24,240 in the first quarter and from the record range of 8,100 to 9,600 last year.

Foreclosures are still well below pre-pandemic lows. At the low of Q2 2005, during the Best of Times just before the Housing Bust took off, there were 148,780 foreclosures, more than four times as much as now.

In comparison, during the three-year period from 2008 to 2011, the peak of the mortgage crisis, more than 400,000 consumers per quarter were subject to foreclosures, including 566,180 at the peak of the second quarter of 2009.

During the best of times before the housing crisis, about 150,000 consumers had foreclosures; and during the good times before the pandemic, about 75,000 consumers had seizures per quarter. This range of 75,000 to 150,000 seizures could represent something like the old Good Times Normal (blue box), and we’re not there yet:

House prices and foreclosures.

A spike in foreclosures can only happen if there is a drop in house prices. When a homeowner who bought the house two years ago for $400,000 is in trouble now, when the price of the house has jumped 25% to $500,000, he can simply sell the house, pay off the mortgage, pay the fees and walk away with the money left over. And there will be no foreclosure.

If the price of that house ultimately drops 25% to $375,000 and the borrower owes $390,000 on the mortgage, that exit becomes more difficult.

If the price dips 40% to $300,000, the easy exit is closed. This is when foreclosures start to happen in large numbers, especially if accompanied by a sharp rise in unemployment, and this is what happened during the mortgage crisis. But it’s not on the table yet.

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