Systemic risk is on the bubble

Danielle DiMartino
07:45 AM CST on Monday, March 27, 2006

The mortgage market remains a mystery to virtually every American.

For starters, the sheer size is inconceivable; it's hard to get your mind around a fast-growing $8.7 trillion market. Even saying it's more than twice the size of the U.S. Treasury market doesn't put things into perspective for the layman.

Try this bit of context, then: The mortgage market is so big that it has the ability to introduce systemic risk into our financial system.

Systemic risk is risk that affects an entire financial market or system, not just specific participants. As such, it's impossible to escape systemic risk through diversification.

The last time systemic risk reared its head was in 1987, when a steep sell-off in stocks triggered a huge number of Wall Street firms' portfolio insurance.

Reactionary, simultaneous, automated selling pressures succeeded in overwhelming a stock market that was supposed to be impenetrable.

Similarly, every time there are large swings in the Treasury bond market, automatic sell or buy orders are triggered in the mortgage bond market.

This intermarket dependency has yet to trigger a crisis of any kind. But then, the system has yet to be put to the test.

All of that could change as the loose lending standards of recent years collide with a buckling housing market.

Too alarmist?

Sound too alarmist? Consider a few facts:

•The collateral backing mortgages is stretched precariously thin – one in 10 homeowners has zero-to-negative home equity.

•Recent estimates put one-quarter of all mortgages underwritten last year in the subprime, or riskiest, category. That's well above the 13 percent average share for the decade through 2005.

•Even after adjusting the rate downward to account for Hurricane Katrina, mortgage delinquencies ended last year at 4.55 percent, an 18-month high. And subprime delinquencies are pushing 12 percent.

•Despite historically low borrowing costs, households spent a record amount of after-tax income at year-end to pay required principal and interest payments.

•In the next two years, about a quarter of all outstanding mortgages – or more than $2 trillion worth – will reset at higher rates.

•A record 62 percent of commercial banks' earning assets are mortgage-related.

The elephant

For good measure, Goldman Sachs recently recognized the elephant in the room:

"These are the early days. An ongoing deterioration in credit quality in an environment of improving labor market performance and rising home prices is therefore quite significant."

Home prices continue to appreciate at a double-digit pace, providing an out to many homeowners in the form of the ability to refinance or sell the house.

That's good, but the point is, there's already visible strain on the credit system, and the good times are still rolling.

Of course, we've lived through credit bubbles and their aftermaths before. What's new this time is how concentrated the banking system's bet is on the future of real estate.

Throw hedge funds' role into the mix and you've got all the ingredients for a batch of systemic risk.

Townhouses to replace Oak Lawn units

09:15 AM CST on Thursday, March 16, 2006

By STEVE BROWN / The Dallas Morning News

Developers have bought up several Oak Lawn apartment complexes with plans to replace the rental units with townhouses.

Prescott Realty Group – the same company that's building high-rise condos at the Stoneleigh Hotel – plans to construct more than 100 townhouses on Newton, Gilbert and Bowser streets just south of Highland Park.

The first phase of the project is being built in partnership with CityView.

The California-based company was started by former San Antonio Mayor Henry Cisneros to build urban housing. Mr. Cisneros is also a former secretary of Housing and Urban Development.

"Prescott Realty Group started on Prescott Street owning and redeveloping duplexes and apartments from the late 1990s," said president Jud Pankey.

"We have now found opportunities to go back into the neighborhood and begin a redevelopment process."

The first 58 townhouses on Newton Street near Douglas Avenue will replace about 84 apartments built in the 1960s.

"The first units should be available in January," said Prescott Realty director Louis Rothermell.

Designed by architect Good Fulton & Farrell of Dallas, the three-story units will be built starting this month.

The condominiums will range from 1,600 to 2,600 square feet and will cost between $375,000 and $550,000.

"It's all masonry for the most part on the exterior," said architect David Farrell. "Modernism is taking a fresh start in Dallas, and that's what we wanted here."

After the Newton Street project is done, Prescott will move on to another location on nearby Gilbert and construct 30 more units.

"We think there is a niche in the marketplace for higher-end townhomes," said Prescott Realty managing director Vance Detwiler.

David Griffin Realtors has been hired to market the Oak Lawn project.

Most of the condo and townhouse projects in that neighborhood are smaller, Mr. Griffin said.

"Since they have been able to acquire so much land, they are able to make an architectural statement," he said. "And there is not a better Oak Lawn location."