Nitpicking Brad Delong on Fannie/Freddie

He writes (in response to Greg Mankiw):

The problem is that in the past year and a half the Federal government has stood behind the debts of not just Fannie and Freddie, but AIG, Bear Stearns, Merrill Lynch, Bank of America, Morgan Stanley, and Goldman Sachs--none of which bear any resemblance whatsoever to a "public plan." The government has stood behind Fannie and Freddie not because they were, before 1968, public enterprises but because they were--like AIG, Bear Stearns, Merrill Lynch, Bank of America, Morgan Stanley, and Goldman Sachs--too big to fail. The Treasury staff would have loved to have let Fannie and Freddie default on their bonds had they not feared the systemic consequences.

The fact that Mankiw can't find an example of his argument (2) makes me think that it is very weak, and that the real reason people oppose the public plan is (1).

I agree that the Mankiw's Fannie/Freddie example is emblematic of a weak argument against a public health insurance plan. But, I actually seriously doubt that Fannie/Freddie would have been allowed to fail their creditors under any circumstances.

Foreign central banks bought FF debt and MBS at least in part because FF securities were called agency securities. Subordinated debt on FF debt was not AAA, and so it is highly unlikely that foreign central banks would have invested in FF debt/MBS were it not for the ambiguous government guarantee, an ambiguity that arose at least in part because Fannie's debt was public before 1968 (Freddie was born in 1970). LBJ wanted Fannie debt off the government balance sheet so that the apparent Vietnam War deficit would be lower. Had FF been allowed to default on debt held by foreign central banks, Treasuries themselves might have been much less appealing. And if the government is going to make the Bank of China whole, it is also going to make grandma whole. It is striking that FF debt continued to trade at favorable prices even when they couldn't produce timely financial statements.

I have in this space argued that FF were not the primary causes of the crisis--they turned out to be slow followers of the "purely private" market in funding unsustainable mortgages. But let's not kid ourselves: the enterprises long have had an implicit subsidy, and they took advantage of it when they could.

Confirm Robert Groves as Census Director

From his first page of scholar.google.com:

B

OOK] Survey errors and survey costs
RM Groves - 2004 - books.google.com
WILEY SERIES IN SURVEY METHODOLOGY Established in Part by WALTER A. SHEWHART AND
SAMUEL S. WILKS Editors: Robert M. Groves, Graham Kalton, JNK Rao, Norbert
Schwarz, Christopher Skinner The Wiley Series in Survey Methodology covers ...
Cited by 1104 - Related articles - Web Search - Library Search - All 2 versions

[BOOK] Nonresponse in household interview surveys
RM Groves, M Couper - 1998 - Wiley-Interscience
Cited by 584 - Related articles - Web Search - Library Search

[BOOK] Surveys by telephone: A national comparison with personal interviews
RM Groves, RL Kahn - 1979 - Academic Pr
Cited by 334 - Related articles - Web Search - Library Search

Understanding the decision to participate in a survey - ►uiuc.edu [PDF]
RM Groves, RB Cialdini, MP Couper - Public Opinion Quarterly, 1992 - AAPOR
Abstract The lack of full participation in sample surveys threat- ens the
inferential value of the survey method. We review a set of conceptual
developments and experimental findings that appear to be informative about ...
Cited by 300 - Related articles - Web Search - BL Direct - All 5 versions

Consequences of Reducing Nonresponse in a National Telephone Survey* - ►pollcats.net [PDF]
S Keeter, C Miller, A Kohut, RM Groves, S Presser - Public Opinion Quarterly, 2000 - AAPOR
Abstract Critics of public opinion polls often claim that method- ological
shortcuts taken to collect timely data produce biased results. This study
compares two random digit dial national telephone surveys that used ...
Cited by 318 - Related articles - Web Search - BL Direct - All 10 versions

[BOOK] Survey nonresponse
RM Groves, DA Dillman, JL Eltinge, RJA Little - 2001 - Wiley-Interscience
Cited by 149 - Related articles - Web Search - Library Search

[BOOK] Telephone survey methodology
RM Groves - 1988 - books.google.com
WILEY SERIES IN SURVEY METHODOLOGY Established in Part by WALTER A. SHEWHART AND
SAMUEL S. WILKS Editors: Robert M. Groves, Graham Kalton, JNK Rao, Norbert
Schwarz, Christopher Skinner Wiley Seríes in Survey Methodology covers ...
Cited by 178 - Related articles - Web Search - Library Search - All 2 versions

Advances in strategies for minimizing and adjusting for survey nonresponse
RC Kessler, RJA Little, RM Groves - Epidemiologic Reviews, 1995 - Soc Epidemiolc Res
INTRODUCTION The decrease in survey response rates since the 1950s (1, 2) has
sensitized survey researchers to the importance of studying the effects of
nonresponse bias, of developing procedures to minimize the mag- nitude of ...
Cited by 207 - Related articles - Web Search - BL Direct - All 4 versions

Leverage-Saliency Theory of Survey Participation: Description and an Illustration* - ►ohio-state.edu [PDF]
RM Groves, E Singer, A Corning - Public Opinion Quarterly, 2000 - AAPOR
The literature on survey participation contains scores of alternative hypotheses
about influences on cooperation with survey requests. Unfortunately, there is an
embarrassing lack of replication of experimental findings (incentives some- ...
Cited by 132 - Related articles - Web Search - BL Direct - All 7 versions

[PDF] ►Frequency-independent equivalent-circuit model for on-chip spiral inductors
Y Cao, RA Groves, X Huang, ND Zamdmer, JO … - IEEE Journal of solid-state circuits, 2003 - vergina.eng.auth.gr
( ) characteristics beyond the self-resonant frequency. Using
frequency-independent RLC elements, this new model is fully compatible with both
ac and transient analysis. Verification with measurement data from a SiGe ...
Cited by 131 - Related articles - View as HTML - Web Search - BL Direct - All 15 versions

It would be hard to find someone more qualified--because he/she doesn't exist.

I am surprised the rate is so low

Luigi Guiso, Paola Sapienza and Luigi Zingales find in a working paper that once the value of a family's house falls to below 50 percent of its mortgage balance, the default rate rises to 17 percent, even among those who can afford to make payments. This to me shows how un-ruthless people are about default--about how responsible they feel to make their payments.

(ht to Leigh Ann Coates for pointing out the paper to me).

Models and Agents teach(es) us about Bank Capital

She writes:

So the first blunder comes early on when Greenspan talks about what he sees as a virtuous circle of rising stock markets, leading to improved credit conditions, higher lending and the resumption of economic activity… which in turn supports higher stock prices and so on.

While the idea that improved confidence can generate a virtuous circle has merits, what is questionable is Greenspan’s road to get there: The “newly created equity” in banks’ balance sheets as the prices of banks’ stocks go up.

Well that’s plain wrong. Regulatory capital, which is what matters for a bank’s ability to increase its lending, is not marked to market but at the price paid up originally to purchase equity in a bank. (Regulatory capital also includes other stuff, like retained earnings, which again are not marked to market but at the price when they were booked).

In other words, the increase in stock prices does NOT provide a “capital buffer that supports the debt issued by financial and non-financial companies” and does NOT “supply banks with the new capital that would allow them to step up lending.”

If there is one way higher stock prices help is if banks actually see it as an opportunity to raise new capital and expand their operations. Indeed, some banks have done so recently, but the main motivation was their urge to pay back the TARP money and rid themselves of the government’s watch. So new private capital replaced old government capital, without a meaningful improvement in banks’ ability to lend.

The problem with equity is that it is not as liquid as tier-one capital: if a bank tries to sell a bunch of its equity to raise cash, the value of the equity will fall.

Foreclosures up, but not that high -- GazetteXtra (HT to Kris Hammergren)

Morris Davis explains how RealtyTrac gets foreclosure numbers wrong. As households are trying to figure out what to do about their housing, getting numbers that are accurate is especially important.

Foreclosures up, but not that high -- GazetteXtra

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Identification Problem

Traffic has been moving remarkably smoothly on the 110 Freeway for the past week or so. Is it summer? Unemployment? Gas north of $3 per gallon? It seemed before that $4 was something of a magic threshold.

Austin Kelly adds to my brief explanation of the origin of Freddie

He writes:

The Federal Home Loan Bank System, chartered in 1932, was created to provide a national source of funds for local thrifts. Any thrift could borrow from their FHLB (cooperatively owned by the thrifts) and the FHLBs borrowed collectively in a national market.

Freddie was created as part of the Home Loan Bank System (owned by the Home Loan Banks, which were, in turn, owned by the thrifts) to get into the securitization game. A small thrift couldn't really expand its volume if it had to hold all its loans on balance sheet. But if it could sell them off like the mortgage banks could ...

Significant Features of the Property Tax is Live On-line

This is a new, valuable tool for those interested in property taxes.

http://www.lincolninst.edu/subcenters/significant-features-property-tax/

It is a joint project between the Lincoln Institute for Land Policy and George Washington Institute for Public Policy. My former GW colleague Nancy Augustine spearheaded it.

Rhonda Porter asks why we have both Fannie and Freddie

Back in 1987, when I started working on housing finance issues, I wondered this very thing. So I spoke with the person in charge of secondary market business for a Wisconsin Savings and Loan called First Financial (I wish I could remember his name now).

He had a crisp explanation: Fannie Mae was a Savings and Loan for Mortgage Bankers, while Freddie Mac was a mortgage banker for Savings and Loans. This was in fact the reason for their original existence. Fannie has been around since 1938, and it became private in 1968, and its purpose was to raise money from capital markets to fund mortgages originated by mortgage bankers. Between 1938-68, its business was entirely FHA and VA loans; thereafter it could fund private sector loans.

Freddie was chartered in 1970 at least in part in response to regional differences in the availability of mortgage credit. At that time, around 60 percent of mortgages were held by Savings and Loan Associations. These S&Ls were local businesses, who could not lend outside of their communities (I will need to double check, but my recollection is that they could not lend more then 150 miles away from their front door).

As young people migrated from the Northeast and Midwest to the sunbelt, leaving their parents and grandparents behind, there was a geographic mismatch between the location of deposits and the demand for mortgage credit. Freddie was invented to buy loans from S&Ls, turn them into securities, and sell them in the secondary market. This allowed money to flow where it was needed.

The distinction between the two institutions disappeared in 1992, with the passage of the Federal Housing Enterprises Financial Safety and Soundness Act (FHEFSSA). I am guessing that the reason we kept two around was to have some competition in the MBS issuance market.

The Blessings of Product Variety

A SoCal phenomenon I don't understand is In n' Out Burger. People around here rave about their burgers; to me they are not worth the calories and fat.

Don't get me wrong--I like lots of food that is bad for me. Tommyburger sends me to the moon. But while others find consumption of In N' Out puts them on indifference curves that are tangent to their budget constraints, it leaves me on an indifference curve that cuts the budget constraint.

Why 15 percent is a magic number for office vacancies

From Businessweek last April:

Stan Ross, chairman of the Lusk Center for Real Estate at the University of Southern California in Los Angeles. He estimates that 15% of all office space across the U.S. is currently vacant. "We can live with 10% to 12%, but we start really feeling it at 15% to 18%," he says. "And we could get [to 18%]."

One metric for commercial mortgage underwriting is the "break-even" ratio, which is (Debt Service + Operating Expenses)/(Potential Gross Income). The most aggressive commercial loans have break-even ratios in the neighborhood of 85 percent. Thus when vacancies rise past 15 percent, some office buildings will have insufficient cash flow to cover their expenses and debt service. And in an environment where rents are falling, a 15 percent vacancy rate is worse than it looks.

Office vacancies in Manhattan are now around 13 percent--and Manhattan has about 25 percent of all Central Business District office space in the country--at least according to Cushman and Wakefield. Hang on to your hats.

Mark Thoma thinks Ben Bernanke should be reappointed

He writes:

I'd reappoint him. If forced to choose between Yellen and Summers, I'd choose Yellen.

I agree. I think Bernanke has done a remarkable job, and I think his temperament is much better suited to the job than Summers' (not that it matters, I suppose, but I also prefer Bernanke's academic work to Summers'). I also worry about the appearance of having a Fed Chair who has taken such large speaking fees from companies that he would be regulating.

The USC Graduate Real Estate Association has a Blog!

http://trojangrea.blogspot.com/

FWIW

I have spoken recently with a couple of real estate brokers that I trust (i.e., those who tell me when the market is bad). In the western San Garbriel Valley, stuff in the 500K range is selling very quickly--often receiving multiple offers within a week of listing. They are not distressed sales, either.

I still worry about shadow inventory of REOs that have not yet been placed on the market. But it is hard to ignore the change in activity over the past four or five months.

I have nothing to add...

...to Brad Delong and Paul Krugman's posts on the firing of Dan Froomkin from the Washington Post. Except to say that I once thought that Brad was too harsh with the Post. I was wrong.

A Sharpe Rule for Compensation?

As we think about the extent to which compensation incentives caused the financial mess, we might start with a basic fact: annual internal rate of return is a bad metric for evaluating performance. The largest problem with it is that it rewards return without punishing risk.

When firms use leverage to invest, they increase the risk they are taking on. The value of a firm's assets divided by its equity gives a rough multiple of risk created by leverage.

Suppose a firm has $100 in assets, and its return in one year can be either -$5 or $15, each with 50 percent probability. The expected return to the firm is 5 percent, with a standard deviation of 10 percent.

Now suppose it can borrow half the money to purchase the assets at an interest rate of 3 percent. Its expected return is now higher, because it will expect to earn $3.50 (13.50*.5+(-6.50)*.5) on a $50 investment, or seven percent. Thus positive leverage gooses the return.

But now the standard deviation or risk) of the investment is 20 percent (the investment produces a return swing of plus or minus $10 on a $50 investment). So while the return has improved, so too has the risk of the investment. Compensation strategies based on return would fail to recognize the risk.

This would not be the case if compensation were tied to a company's Sharpe Ratio. The Sharpe Ratio is corporate return less a risk free rate divided by the standard deviation. In our case, in the first instance, the sharp ratio is .2 (.05-.3)/.1. In the second case, it is also .2 (.07-.03)/.2). If the Sharpe Ratio were used to determine compensation, managers would not be rewarded for goosing returns via leverage. And we could avoid all kinds of future trouble.

Paul Krugman on the how the Obama Financial Reform Plan is Insufficient

He writes:

True, the proposed new Consumer Financial Protection Agency would help control abusive lending. And the proposal that lenders be required to hold on to 5 percent of their loans, rather than selling everything off to be repackaged, would provide some incentive to lend responsibly.

But 5 percent isn’t enough to deter much risky lending, given the huge rewards to financial executives who book short-term profits. So what should be done about those rewards?

Tellingly, the administration’s executive summary of its proposals highlights “compensation practices” as a key cause of the crisis, but then fails to say anything about addressing those practices. The long-form version says more, but what it says — “Federal regulators should issue standards and guidelines to better align executive compensation practices of financial firms with long-term shareholder value” — is a description of what should happen, rather than a plan to make it happen.

Two things:

First, one of the things that got investment banks in trouble is that they did hold on to part of the securities they created. Indeed, they held the riskiest stuff--the lowest rated tranches of subprime and commercial MBS. The reason: so long as they performed, they captured the margin between the rate on the underlying debt instrument and the rates paid to the higher tranches. They borrowed short term at low interest rates to invest in these high risk, high margin securities, and earned spectacular rates of return, for awhile.

Investment bankers had incentives to take risks, because while they were earning spectacular returns (IRRs), they got paid huge bonuses. But when their investments fell apart, they only lost their jobs--there was no claw back. While their companies failed, their total compensation for the time they worked remained high.

So, point two is that compensation schemes must align long-term company interests with pay. There are two ways to do this: through clawbacks (which are complicated) and through long-term restricted stock (which is how employees at Google get paid).

I should note, however, that I am very pleased with the administration's proposal for financial institution capital. That by itself will solve a lot of problems.

The Wisdom of Paul Samuelson

Two nuggets from an interview with Conor Clarke

Last thing. Mea culpa, mea culpa. MIT and Wharton and University of Chicago created the financial engineering instruments, which, like Samson and Delilah, blinded every CEO -- they didn't realize the kind of leverage they were doing and they didn't understand when they were really creating a real profit or a fictitious one.

and

Well, I'd say, and this is probably a change from what I would have said when I was younger: Have a very healthy respect for the study of economic history, because that's the raw material out of which any of your conjectures or testings will come. And I think the recent period has illustrated that. The governor of the Bank of England seems to have forgotten or not known that there was no bank insurance in England, so when Northern Rock got a run, he was surprised. Well, he shouldn't have been.

But history doesn't tell its own story. You've got to bring to it all the statistical testings that are possible. And we have a lot more information now than we used to.

Mark Thoma Points us to Robert Shiller on Unlearned Lessons

Did the false belief that land suitable for building houses was becoming scarce help to drive the housing bubble?:

.Unlearned lessons from the housing bubble, by Robert J Shiller, Project Syndicate: There is a lot of misunderstanding about home prices. Many people all over the world seem to have thought that since we are running out of land in a rapidly growing world economy, the prices of houses and apartments should increase at huge rates.

That misunderstanding encouraged people to buy homes for their investment value – and thus was a major cause of the real estate bubbles around the world whose collapse fuelled the current economic crisis. This misunderstanding may also contribute to an increase in home prices again, after the crisis ends. Indeed, some people are already starting to salivate at the speculative possibilities of buying homes in currently depressed markets.

But we do not really have a land shortage. Every major country of the world has abundant land in the form of farms and forests, much of which can be converted someday into urban land. ...

I think Shiller is largely right but for two things.

First, there are a small number of places on earth for which there is no close substitute: Santa Barbara, Aspen, Paris come to mind. Rich people will always outbid the rest of the world for these places, whose fundamentals are more similar to those of Monet paintings than real estate. But these are a very small number of places indeed, and we can argue about what they are.

Second, I think Shiller underestimates the power of NIMBYIsm to prevent housing construction. He should visit places like Mumbai and Johannesburg, where regulations limiting residential density have driven values well beyond what middle-income people in those places can afford. I agree that land shortages are an artificial, rather than a natural, phenomenon. But it remains a powerful phenomenon nevertheless.

The Miracle of Southwest Airlines

I am sitting in the Tucson airport awaiting a flight home to LA. I just watched a Southwest 737 stuffed with passengers load and unload in about 20 minutes.

United Airlines can't turn around a regional jet in less than 40 minutes (they always claim they are "cleaning" the plane, but I never see much evidence of cleaning). It is little wonder that Southwest has performed better financially over the long haul.

What's the matter with Rich Liberals?

Derek Thompsonn, in an Atlantic blog, argues that rich people who support higher taxes are just a befuddling as Thomas Frank's Kansans, I am not so sure.

If people are at all introspective, they will recognize that fortune can be fleeting--that anyone can get a bad draw. Catastrophe call befall anyone, because of illness, because of natural disaster, because of unexpected changes in business conditions. For example, while it is possible that the demise of the newspaper industry was foreseeable many years ago, I am not sure that it is likely. As a result, many people who thought themselves secure in their work are now being laid off.

We can think of taxes as being both user fees and as insurance premiums. Social Insurance helps the rich--as well as their parents and children--survive at a minimum living standard even if the world turns on them. While we all like to think we have some control over our lives--and to some extent we do--we are also all subject to chance, and for some of us, it is good to know there is a society that cares about the misfortune of others should we encounter a bad draw.

Certainly some rich people are also motivated by altruism and their desire to repay a country that had given them so many great opportunities. But people pay all sorts of insurance premiums; to some extent, taxes are another.

University of Wisconsin Union Terrace

One my favorite chunks of real estate (especially in summer!).

One Mortgage GSE?

At the Wisconsin Housing Conference in Madison last week, Curt Culver of MGIC forecast that Fannie and Freddie would be merged into one public sector entity for mortgage funding. I am not so sure...

Blogging from 7 miles up

First internet connection off the ground, on Airtran flight 226. It works really well!

Housing/Community Development Focus of 2009 Policy Summit ::

Housing/Community Development Focus of 2009 Policy Summit ::


Federal Reserve Bank of Cleveland

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Some random thoughts on Cleveland

The day before yesterday, I participated in a conference at the Cleveland Fed (I will post the slides in a bit). I got into Cleveland the afternoon before the conference, and so had a chance to walk around its downtown and take in a ball game at Jacobs Field. It was my second visit to Cleveland, and it confirmed my impressions from around 10 years ago: it is a very pleasant city. The Midwest has four declining cities that I quite like--the others are Milwaukee, St.Louis and Pittsburgh--and so it pains me that they are in decline.

The way to explain decline is in one sense easy: lots of literature has shown that since World War II, cities in cold climates have had a very difficult time competing with warmer cities, and cities that relied on manufacturing have been at a disadvantage. Yet some cold climate cities (Boston, Chicago and Minneapolis) have done quite well, and Cleveland has remarkable assets, including one of the World's great medical centers, a first rate university, and among the finest orchestras and art museums anywhere.

Cleveland is also, distinguished, however, by an eye-popping number: a high school graduation rate that is, according to Jay Greene of the Manhattan Institute, 28 percent. High school graduation rates are difficult to calculate, but even if Greene's estimate is off by 10 percentage points, Cleveland's educational system resembles that of a developing country, and its kids are not equipped to be productive.

The poor performance also explains an anomaly: a city with lots of vacant houses has suburbs with newly constructed houses. Its not that the old houses are good--they are not--but given Cleveland's infrastructure, it would be more sensible to raze the vacant houses in the central city, assemble the parcels, and encourage new development rather than have development on the periphery. But one could hardly blame parents looking for houses for avoiding a school district with a high school graduation rate of less than 1/3.

Rhonda Porter writes about the Home Value Code of Conduct

She writes:

You may or may not have heard about HVCC. You'll have the opportunity to learn about it first hand if you obtain a conventional mortgage. In a nutshell, mortgage originators and processors (anyone considered to be in "production") are no longer allowed to order appraisals or know who the appraiser willbe until AFTER they receive the appraisal. HVCC just went into effect in May, I wrote a post about my experience at Rain City Guide where a Real Estate Agent asked me:

If I understand you correctly:

1. We don’t know who the appraiser is
2. We cannot contact the appraiser even if we knew. [Note: the real estate agent CAN contact the appraiser if they somehow know who it is...the loan production staff cannot].
3. We have no idea when the appraisal will be done.

The Home Value Code of Conduct was created as a result of the New York Attorney General investigating Washington Mutual (once a large bank) and eAppraiseit (an appraisal management company) for manipulating appraisers to produce higher values.

HVCC was suppose to create a professional distance between mortgage originators and appraisers so that an appraiser could perform their task without pressures to produce a higher value. Appraisals now go through an appraisal management company (which take on average 40% of the appraisal fee from the appraiser) to create this distance and supposedly reduce any conflicts of interest. However, the code was amended to allow AMCs (appraisal management companies) to be owned by the very banks who are ordering the appraisals.

From Fannie Mae's HVCC FAQs update on May 9, 2009 (Question 36):

Q. May an AMC Affiliate with, or that owns or is owned in whole or part by the lender or a lender-affiliate, order appraisals?

A: Yes, an AMC affiliated with, or that owns or is owned in whole or part by the lender or a lender affiliate, may order appraisals...

This smacks of the WaMU eAppraiseit scenario all over again!

So big bank owns an AMC where they order all their appraisals through and if a mortgage originator is brokering a loan to that big bank, the appraisal may be ordered through that AMC. Big bank/title company collects an average of 40% of the appraisal fee from the appraiser just for ordering the appraisal. If an appraisal cost $500; the AMC keeps $200 just for controlling and placing the order. The appraiser, who once collected $500 for producing the report now receives $300. Many appraisers are having to increase appraisal fees in order to make a living since AMCs are stripping them of 40% of their income.

Instead of being able to select an appraiser by their qualifications, experience or expertise in a certain area; it's a crap-shoot based on which appraisers are participating (agreeing to lower compensation) with the AMCs.

From CNBC's Diana Olick on the impact of HVCC:

"As many brokers expected, the HVCC is also resulting in some lower appraisals. Since the appraisers now may be unfamiliar with the local market, they will err on the lower side. Of course it may also be that the lack of a relationship with the lender is removing the 'expectation' of a certain appraised value. If the appraisal comes in lower than the sale price, then the deal is off."

HVCC does not allow second appraisals to be ordered due to low appraisal as it's considered "value shopping".

With a refinance, no value can be provided to the appraiser--I can't even let the appraiser know what the home owner thinks the value of their home may be. The home owner, if the appraisal comes in low, is out the appraisal fee (typically around $500). Prior to HVCC, my appraiser could call to give me a heads up that the home was not going to appraise high enough--providing an option for the client to cancel the appraisal before it's complete and saving them some of the appraisal fee or I could contact my appraiser to ask for a value check prior to ordering the appraisal. Not so anymore.

The National Association of Mortgage Brokers has been trying to battle this code with strong political opposition. (NOTE to Mortgage Originators: NOW is the time to belong to your local chapter of NAMB if you care about the future of your industry).

The intentions of HVCC to stop the strong-arming of appraisers to create false values are good. The results are terrible and many of us are trying to have this reversed. I encourage you to please sign this petition and to contact your representatives in Congress.

HVCC is going to hurt the consumer and will only help pad the pockets the owners of the Appraisal Management Companies.

I read Rhonda's blog all the time: she is a straight shooter and keeps me informed of the real world mortgage market. But here I think the policy idea behind the HVCC is correct, and that it needs tweaking instead of repeal. The fact is that lenders and appraisers were in cahoots to get deals done, and that appraisals were basically useless. A paper I wrote with Michael Lacour-Little back in 1998 found that appraisals came in at or above offer prices about 94 percent of the time in Boston, and I have little reason to doubt that the figure was similar elsewhere.

But the more general problem is that even honest appraisers cannot know property values with precision. When I read residential appraisals, they are ridiculous. For instances, they make adjustments from comparables that appear to have no foundation in statistical modeling; they weights the place on the comparables also have no particular foundation. Kerry Vandell showed that comparables can improve valuation relative to using regression along (because they can help control for characteristics that are difficult to observe in data), but I know of no appraiser who actually uses the techniques developed in Kerry's work.

But even if they did, it is likely the standard deviation of valuations would be something like 10 percent. This means that we can be 95 percent sure that actual values would be within 20 percent of appraised value. In neighborhoods where there is lots of homogeneity, one could do better; in neighborhoods with lots of variety, one could do worse. But the point is that to have one number determine collateral value makes little sense.

A rational scheme for mortgage underwriting would look at a combination of down payment size, amortization speed and confidence interval for valuations. I am not holding my breath.

Next Thursday in Madison

I will be speaking at the annual Wisconsin Housing Conference. I am really looking forward to returning to Madison.

My Colleague Lisa Schweitzer writes about GM

From her blog:

I opened my Facebook this morning to see a few environmentalists crowing about GM’s bankruptcy. If nothing else, this is uncharitable, as the company plans to lay off 21,000 more people. Way to combat the idea that environmentalists are a bunch of Birkenstock-wearing privileged bobos who don’t care about working class people, folks. At least there was some protection for workers’ retirement benefits in the restructuring.

But more to the point, crowing is also inaccurate. The car company will retain its four signature lines–Cadillac, Buick, GMC, and Chevrolet. It is cutting its Saturn and Hummer lines, or more accurately, selling them. It isn’t as though its cars on the road will vanish magically simply because of its economic hardship. If anything, this is probably bad news for the environment because these kinds of economic hardships give companies more evidence to argue against new, potentially capital-intensive changes needed to implement technology standards like the ones environmentalists were celebrating a few days ago or new engine technologies.

If this stuff were as easy as striking a strident normative stance , the planet would be sustainable already.

How would one best manage a university portfolio?

It would be complicated. The biggest asset for most places is tuition paying students. For selective universities (those with excess demand), undergraduates are more or less a long asset: one can expect a steady cash flow stream that is hedged against inflation. Masters student demand seems more volatile, and therefore shorter in duration. Ph.D. students lose money for universities in the short run, but might make money (via their ability to enhance a university's reputation) in the long run.

As for liabilities, it is again a mixture. Tenured faculty (and to some extent, unionized staff)are long liabilities; adjuncts have much shorter duration. Into this mix are financial assets and liabilities. It seems to me that the best portfolio strategy would use financial assets and liabilities to hedge the business of the university. I would be curious as to whether those in charge of managing university portfolios do this.

Speaking of Duration Mismatch

I wonder if we are setting ourselves up for another set of problems for Fannie and Freddie. They are purchasing large number of mortgages with 5 percent interest rates; so long as the yield curve remains steeply sloped, this is OK. But if short term rates rise to 5 percent, the GSEs and investors in their MBS who are borrowing short will be in trouble.

The problem is that the GSE disclosures are not very helpful. They look at the effect of changes in interest rates and the slope of the yield curve on value, but the changes are quite small. They also disclose how much of their debt is one year and how much is longer than one year, but again, one year is not that helpful a cut-off point. It is possible that everything is fine from a duration perspective, but with so much current focus on credit issues (and just getting through the next year), we may be taking our eye off the ball on interest rate risk.

I once felt good about having Larry Summers run the economy

Now I am not so sure. From Boston Magazine:

Further squeezing Harvard was a transaction Summers had pushed it into in 2004, when he successfully argued that the university should engage in a multibillion-dollar interest rate swap with Goldman Sachs and other large banks. Under the terms of the deal, Harvard would pay Goldman a long-term fixed rate while Goldman paid Harvard the Federal Reserve rate. The main goal was to lock in a low rate for future debt, and if the Fed had raised rates, Harvard would have made hundreds of millions. But when the Fed slashed rates to historic lows to try to goose stalled credit markets, the deal turned equally sour for Harvard: By last November, the value of the swaps had fallen to negative $570 million. The university found itself needing to post more collateral to guarantee those swaps, and would ultimately buy its way out of them at an undisclosed cost.

If this story is true, Summers basically created balance sheet duration mismatch, with short assets and long liabilities. This creates negative duration, which is just as risky as more traditional positive duration (i.e., the S&L problem). I wonder if Summers plotted out a worst-case scenario for this transaction, or if he just thought he was really good at forecasting interest rates.