Unclear On The Concept

Michael Shedlock:

Let's review the Washington Post story Homeowners Losing Equity Lines.

In one brief phone call, Nancy Corazzi's lender yanked away what was left of the $95,000 home equity line of credit that she and her husband took out five months ago. The lender informed her that her Howard County home had plummeted in value and the company did not want the risk that she would owe more than the house was worth. "I got off the phone and I was shaking," said Corazzi, who was using the money to pay preschool tuition for her twins ."I was near tears. We needed this credit line to get us through some tough times."

My Comment: If this is a typical reaction, and it might be, many consumers are still in denial. Home prices are not going up and attempting to meet ordinary expenses by tapping lines is not going to work.

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Returning to the Washington Post article...

Maggie DelGallo did not realize that when she took out a home equity line a few years ago on her home in Loudoun County. Her lender recently froze the line.

DelGallo, a real estate broker, has used some of her credit line over the years. Had she known the freeze was coming, "I would have drained it," she said. "I would have taken every dime and possibly placed it in a money-market vehicle."

DelGallo said she does not think she is in dire straits. "It's more like a huge disappointment," she said. "I have this line of credit attached to my home that's useless."

My Comment: Attitudes like DelGallo's give banks all the more reason to shut down lines of credit. The point of an equity credit line is to tap equity. DelGallo is proposing tapping non-equity as if that was some God-given right.

By showing willingness to borrow money at 8.5% or so, and putting it in the bank at 3% or so, DelGallo has proven the willingness to get into "dire straits" even if she is not there now. Banks reading the Washington Post article like likely to become even more spooked.

Five months ago, the [Corazzi's] Ellicott City house was appraised at $560,000; the lender says it is now worth $469,100.

"I told them, 'You guys are wrong,' " Nancy Corazzi said. "They said, 'Sorry, this is what we're doing in the entire area.' "

Corazzi said she was blindsided by what's happened. "I didn't know they could do that. I thought I was too smart to have something like this happen to me."

My Comment: This is a clear case of denial, not understanding the law, not understanding the housing market, and refusal to live within one's means.

Like it or not, both DelGallo and Corazzi will be forced by the market to live within their means. Should they refuse, they will go bankrupt. It's that simple. Hundreds of thousands of others may be forced to make a similar choice.

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Clever readers will quickly see why Professor Depew's socioeconomic thesis is indeed correct. In this case, cautious (even fearful) bankers are tightening credit. Why? Because it all started with cautious consumers refusing to play the greater fool's game with home prices. The attitude change by consumers caused an attitude change by banks. The attitude change by banks will cause a souring attitude in those who were still in denial and still willing to party.

And so the cycle feeds on itself, and will continue to do so until it reaches an extreme in caution and fear.

Attitudes are like pendulums. Momentum carries both pendulums and attitudes to extremes. The pendulum of consumer recklessness has now reversed, having recently reached a secular peak. It will not stop at equilibrium on the way down. Instead, momentum will progress to a point of complete exhaustion marked by cautious saving instead of reckless spending.

The attitudes of DelGallo and Corazzi from the Washington Post article just may be an indication of how much more attitudes need to change before things bottom. We are a longs ways off in terms of both time and price.