Rodney Johnson | Wednesday, October 16, 2013 >>
I like to know things. I read non-fiction for fun and I’m constantly on the lookout for facts and figures that border on fringe.
While this can sometimes lead to odd dinner conversation, it also makes me better at my job. I get to bring readers like you information and analysis that allows you to make better-informed decisions… hopefully very profitable decisions.
Unfortunately, there are times when I have to let people know that their assets are being stolen from them… and that there really isn’t much they can do about.
In fact, the current financial system is designed for this theft to occur.
But that’s not where today’s story begins. Instead, it starts in housing…
For years we’ve talked about the overhang of homes that banks foreclosed on and now own. There are millions of these units simply sitting in inventory, going nowhere.
Our view was that eventually this inventory would be sold, leading to a flood of houses hitting the market, which would potentially spark the next down leg in housing. After all, what else would a bank do with an empty, foreclosed home? Surely they have to sell it, right?
Well, not exactly.
In fact, about half of the foreclosed homes are not even empty.
Realty Trac recently reported that 47% of all bank-owned, foreclosed homes are currently occupied by… wait for it… the previous owner.
So a person who lost a property through foreclosure – a person who has no legal interest in the property and no debt to repay – is now living in the home for nothing.
In Virginia, previous owners occupy more than 70% of bank-owned foreclosures. In California the number is 55%.
Now, a good question might be: If the bank foreclosed on the previous owner and took away the property, why is he still living there?
The answer appears to be: Because it serves the bank’s interests.
Right now banks have way too much of this type of property. They would love to get rid of it, but just like anything else, if they flood the market with inventory then prices will fall.
This would hurt the rest of what the banks have in inventory and it would hurt their efforts to pump up their mortgage businesses. After all, would potential homeowners be rushing to buy if they saw a lot of “For Sale” signs in yards and prices dropping?
Banks have done the logical thing: They have driven up prices by keeping supply off the markets, thereby supporting their own business lines and protecting the value of their inventory. That’s why these homes are called “vampire properties.” They’re sucking the life out of the housing markets by constricting supply.
While this inventory is off the market there is the pesky problem of upkeep…
If a bank owns 1,000 homes, it must mow the grass, keep the bushes trimmed, and keep everything in working order. As every homeowner knows, houses require constant attention to little things so they don’t turn into big problems.
Maintaining 1,000 homes is a tall order. So instead, a bank can simply allow the previous owner to live there, hopefully maintaining the property. It’s a win-win for the banks and the previous owners, while it’s definitely a loss for current home buyers.
But this is only half the story.
While holding inventory off the markets to keep prices high might make sense, it certainly leads to the question of how banks can afford to do this. Where does the money come from to fund this activity?
The answer is: from savers.
The Federal Reserve sets interest rate at which banks can borrow funds from one another. This is called the Fed Funds rate. While this rate fluctuates a bit with market gyrations, it tends to stay close to what the Fed wants.
Today, the Fed Funds rate is 0.00% to 0.25%. So when a bank either has excess capital at the Fed that it can lend, or needs some uncollateralized capital for a day or two, the interest rate on the transaction is a paltry 0.25% or less. Keep in mind this is an annualized rate, so the real amount of interest charged is miniscule.
The Fed Funds rate is what drives all short-term interest rates, and therefore is the driving force behind the rate of interest financial institutions pay savers on deposit accounts.
A quick check of Bank of America’s website shows that the bank is paying 0.01% interest on all savings accounts, no matter what the balance. In short, banks pay nothing, even though inflation is running 1.5%.
At the same time, banks use our deposited money to make loans and to buy securities. A 30-year mortgage from Bank of America will cost a highly-qualified buyer roughly 4.25% in interest, while a 10-year Treasury bond yields 2.62%.
If a bank simply keeps its excess reserves at the Fed, it’ll still earn 0.25% in interest.
There’s nothing wrong with banks earning more from lending or investing than they pay out in interest to depositors. The difference between the two rates of interest is called the spread and it’s how banks make money.
Instead, the problem is that the Federal Reserve is holding the Fed Funds rate at historical lows levels simply to boost the profitability of banks. It is this profitability that gives banks the leeway to hold these millions of properties off the housing market.
Higher profits flow to banks, previous homeowners who lost their properties to foreclosure enjoy mortgage-free living, and savers are drained of their assets.
While vampire properties might be sucking the life out of the housing markets, vampire monetary policy is crippling the savers of the nation.
But at least the banks are profitable.
P.S. This is your last chance to secure your copy of The Sovereign Society’s Total Wealth Symposium Audio Kit, which includes the presentations Harry and I made to attendees last week. Before midnight tonight, click here.
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