Sub-Prime Memories are Short on Capitol Hill
By Mr. ToughMoneyLove | November 19, 2008
Barney Frank and his dysfunctional House Financial Services Committee held another hearing this week on the financial crisis. This one featured appearances by Paulson, Bernanke, and the other usual suspects who are commanding U.S.S. Bailout. In other words, many captains but still no navigator.
I had an opportunity to listen to some of the hearing live on the radio while driving to an appointment outside the office. (By the way, what is up with Chairman Frank and his diction? If you didn’t know better, you would swear from the sound of his radio voice that he is either drunk, stoned, or recovering from an overdose of dental anesthetic. He makes the late Harry Caray sound like a great orator. It is painful to hear. )
Early on in the hearing, Congresswoman Maxine Waters expressed her unhappiness that TARP (Troubled Assets Relief Program) funds were not being used to re-structure existing residential mortgages that were in default. Apparently, Waters and her staff had formed their own little mortgage workout operation. She stated that they were working with 26 different constituents who were behind on their mortgages. She and her congressional operatives were quite frustrated because the various loan servicers they contacted were not very helpful on the phone. Gosh, Maxine, welcome to our world of customer disservice.
So Maxine offered up her view that Sheila Bair, the FDIC Chair, had a great thing going at IndyMac Federal Bank (the failed bank taken over by the FDIC in July). Yes, Chairperson Bair had developed her own plan for re-structuring mortgage loans owned by IndyMac that were in default. This is how she described the plan in an earlier press release and in testimony at the hearing:
Under the IndyMac program, eligible mortgages will be modified into sustainable mortgages permanently capped at the current Freddie Mac survey rate for conforming mortgages which is currently about 6.5%. Modifications are designed to achieve sustainable payments at a 38% debt-to-income (DTI) ratio of principal, interest, taxes and insurance. To reach this metric for affordable payments, modifications could adopt a combination of interest rate reductions, extended amortization, and principal forbearance.
Don’t you love the government speak in this description? What is a “sustainable” mortgage? A mortgage that goes on indefinitely without change? If so, then the Bair-IndyMac plan will certainly create mortgages that are super-sustainable.
Let’s examine a couple of components of the plan advocated by Bair and now Waters. First, Bair proposes creating affordable mortgage payments by ”extended amortization.” In plain language, this means taking a 30 year mortgage and extending it to 35 or 40 years. The Bair plan also includes “principal forbearance.” Once again applying the Tough Money Love plain language interpreter to this government-speak, she means an interest-only loan.
Do 40-year mortgages and interest-only loans ring a bell with you? They do with me. They ring alarm bells actually. These are precisely the type of funny-money loans that the sub-prime lenders pushed into the market to inflate and sustain the real estate bubble. Californians were particularly fond of these gadget mortgages. (Can you guess where Maxine Waters is from?) These are the loans that indeed last forever, with little or no equity being built by the borrower-home owner. And these are the loans that folks like Bair and Waters now want to use to “rescue” those who cannot afford their existing mortages. Pure genius.
Have Bair, Waters, and others on Capitol Hill forgotten where much of this mess started? In fact, have they forgotten that IndyMac itself failed in part because of its own sub-prime loan portfolio? I cannot see any long-term benefit of a government plan that systematically re-generates an entire portfolio of sub-prime loans for underfunded borrowers, guaranteed with taxpayer money. Dear Capitol Hill: The great “sub-prime loans for sub-prime borrowers” party has ended and the social experiment has failed. Merely lowering the payment-to-income ratios is unlikely to significantly change the outcomes. Even if the lowered payments prevent immediate foreclosures, the borrowers are not building equity with these aberrant loan terms and, in fact, may go further underwater. Eventually, they may figure that out and walk away anyway. It’s happening now.
The cliche’ about history is that those who do not study it are bound to repeat it. In the case of Sheila Bair, Maxine Waters, and others on Capitol Hill, memories have faded quickly and history is being forgotten. Standby for the launching of U.S.S. Bailout II. 
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Topics: Economics, Loans and Borrowing | 4 Comments »
An Un-Toy Holiday Gift for Children
By Mr. ToughMoneyLove | November 19, 2008
Having raised three boys of my own, I know the power of advertising in persuading children and their parents that toys must be at the top, bottom, and middle of all Christmas gift lists. The price we paid for falling victim to this power is measured by the many hours we spent wondering around Target and Toys R Us.
Mr. ToughMoneyLove wants other parents to learn from our mistakes. All of those Christmas toys are long gone. Many were forgotten or broken by New Years Day. Christmas consumerism itself is something to be stopped in its tracks. So I am recommending a different approach to at least some of your holiday gifting this year. If you have a child on your list, consider a gift that has staying power as well as educational value. Give that child a share of stock.
Recently, I discovered a company - OneShare.com - that sells individual shares of stock in framed certificates. Finding a stock certificate itself is unusual these days and OneShare has access to many companies that still issue them. Some of these companies are those that a child will recognize. It is a great teaching opportunity for you and learning opportunity for your child or grandchild. And, the value of the stock will no doubt increase over time, thereby boosting the value of your gift at no additional cost to you.
I am mentioning this non-toy gift option today because 11/19 at midnight is the deadline for guaranteed delivery by Christmas. If you click the link to OneShare.com in the left sidebar on this page, you will be taken to the OneShare site where you can browse the products and order if you like. if you do order using that link, Mr. ToughMoneyLove will earn a small commission which I will donate to charity. It doesn’t cost you anything extra to order that way. Everyone wins, including one of my favorite charities.
So consider the “un-toy” option this year. That way, your Christmas gift will probably hang around a while.
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Topics: Spending | 3 Comments »
Get Educated and Stay Informed with Tip’d
By Mr. ToughMoneyLove | November 18, 2008
In a prior post, I briefly mentioned Tip’d, a new online community for those interested in business and personal finance news, including blogs. At that time, the site was in beta mode but today it officially launched. New features for readers and bloggers have been added or improved since the beta launch, including:
- Private messaging for users
- Users have three minutes to edit a story after submission
- New categories - business and entrepreneurship - have been added.
- The “Tip It” button now has its own server to speed things up.
As of today, there are approximately 1700 members. Give it a look and if you see one of my stories that you like, please Tip it. Thanks.
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Topics: Financial Planning | No Comments Yet »
Year End Retirement Funding: The Moment of Truth Approaches
By Mr. ToughMoneyLove | November 18, 2008
Many of us still have an important personal finance decision to make this year: Whether and how to fully fund our IRA’s and/or 401(k) for 2008. (Mr. ToughMoneyLove has already maxed out our 401(k) funding but re-balancing and non-deductible IRA funding are still decisions in process.)
Actually, 2008 IRA funding can be deferred until you file your 2008 tax return. But either way, a decision must be made very soon and plans made for that funding. This is something I have been thinking about for a number of weeks, because I have a substantial cash-equivalent position in my 401(k) that is poised for use in a re-balancing move. I had planned since last November (my last re-balancing) to execute another re-balancing this month.
The problem is that the market is still trending downward and has not yet found a bottom. Who really wants to invest in equities under these circumstances? Yes, stocks are on sale but we all would prefer to put money in during the “meat” of a market move once a trend of relative directional stability has ben established. (I borrowed that “meat of the market move” phrase from a recent article by Professor Peter Navarro.) I am not talking about timing the market but finding some degree of confidence that general upward movement is in our foreseeable future. These are unique times and I wonder if anyone has reached that confidence point yet. I know I haven’t. Neither has Professor Navarro.
So I have considered a Plan B for 2008 year-end retirement funding. Let me explain. Part of our overall retirement plan strategy has been to accumulate sufficient liquid (non-equity) retirement investments that we could use to fund at least three years of retirement living expenses. You could call this our personal “stable value” retirement fund. Having a personal stable value retirement fund is a defensive strategy that would enable us to survive and live through an extended down market without having to sell equity retirement investments that have lost value. Instead, we would hopefully give these equities time to recover and grow. When they do, we re-fund the stable value portion for use in another down cycle. Having that option is so important for retirees, particularly early in retirement.
Since we are still at least 5-10 years from reaching a point where we will have to access any retirement accounts to maintain our standard of living, it made sense to fully accumulate our personal stable value retirement fund later rather than sooner. In other words, up to now we have been focusing on building the non-stable value part of our retirement assets, i.e., equities. Some of our stable value fund is in place now with I-Bonds but more will be needed.
So, my proposed Plan B for year-end 2008 is to reverse the sequence of funding our stable value and equity retirement funds. Instead of using all of the cash-equivalent funds in my 401(k) to re-balance our equity and bond mutual funds, I can use most of that accumulated cash to complete the funding of our personal stable value fund. I have not decided yet exactly what I would purchase inside our 401(k) for that purpose. (I can buy anything inside my 401(k) because I have elected to use a self-directed brokerage account option for managing those funds.) It makes no sense to buy I-Bonds inside a 401(k) because I-Bond interest is tax-deferred anyway. I am sure I can find something suitable.
If I implement Plan B, beginning in January 2009, I would continue regular monthly contributions into my 401(k) and use those monthly contributions to dollar-cost average my way back into the market, re-balancing as I go.
The advantages to using this proposed Plan B for year-end retirement funding are: (a) unlike many other nervous investors, we will not have cut-back or stopped retirement funding altogether; (b) Plan B is consistent with our long-standing retirement strategy - only the funding sequence (personal stable value fund first instead of last) has changed; (c) we avoid putting more money into equities during a time of extreme discomfort with a market that cannot seem to find a bottom; and (d) the re-balancing of equity and bond mutual funds is done on a dollar-cost averaging basis throughout 2009.
The disadvantage of Plan B is that we may end up missing a sale of the century on stocks and mutual funds. Honestly, I think this sale on stocks will last well into 2009 so we will not miss much if any of it when we continue our 2009 401(k) and IRA funding. But I could be wrong and failing to re-balance equities this month could cost us a big upside. Also, periodic re-balancing through 2009 will increase my transaction costs slightly, because of commissions I will have to pay for trades in the brokerage account.
So, Mr. ToughMoneyLove is looking for some feedback on this one. What decisions have you made on your retirement plan funding at year end? How does this Plan B sound to you?
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Topics: Investing, Retirement Planning | 2 Comments »
Is Denmark our Window to an Obama New Economy?
By Mr. ToughMoneyLove | November 17, 2008
I was in Boston this weekend to visit my brother and to deliver a guest lecture to a college class taught by a friend and colleague. My wife and I had dinner with our friend and conversation eventually turned to the economy, investing for retirement, and to our families. It was interesting how these topics seemed to converge into a discussion of Denmark, of all places.
Our friend’s son has lived and worked in Denmark for about seven years. He was recruited from the U.S. for a temporary assignment to assist a Danish publisher in developing a web presence. The assignment morphed into a longer position and then became permanent after his son married a Danish woman. They have since had children of their own and it appears that this former U.S. techie is fully committed to his new Danish lifestyle.
Based on interactions with his son, our friend facetiously mentioned that Danish workers “seemed to get 200 paid holidays” per year on top of six weeks of vacation. Apparently, his son and his family are often traveling around Europe as tourists. They report high levels of contentment because, although taxes are high, health care and college education are basically free, taking huge spending and saving burdens off the finances of young families.
Although we are hard core free-market capitalists and low tax advocates, my friend and I had to agree that his son’s situation had a certain appeal for folks like us who are closing in on retirement.
On the trip back from Boston, I mentally revisited that conversation about Denmark. I started to wonder if there were aspects of the Danish economy that could give us a window into an economic future that President-Elect Obama might have in mind. Obviously, the next administration and Congress will have a lot of work to do to fix the mess we are in. But, in a few years and after the smoke clears, I can imagine hearing cries of “never again” from politicians and like-minded voters looking for ways to prevent a recurrence of the economic damage we are now experiencing. These folks will want to re-design our economy into one in which our government takes a more active role in eliminating many of the financial risks that are now borne almost entirely by its citizens. So, I decided to learn a little more about what is happening in Denmark, to see if it indeed gave us a window into a different economic future for us, and to determine what it might look like. This is what I found, essentially confirming what was reported by my friend’s son.
Healthcare in Denmark. The Danish health care system is among the most comprehensive in Europe. It covers virtually all physician and hospital care for all citizens. It also covers some dental care. 81% of the costs of health care is paid for by the government (from tax revenues.) The balance (mostly prescription and dental costs) is paid by the patients themselves or by insurance. Most health care facilities are government-owned and most providers are government employees. (Source: Healthcare in Denmark) However, much of the administration of the health care system is decentralized to the local governments. (Sort of like how our public school system is structured.)
An interesting feature of the Danish system is that after waiting two months for treatments at public hospitals (such as for elective surgery), citizens can choose to go to a private hospital or go abroad for care, with full payment by the government.
College Funding in Denmark. Denmark has a publicly funded education system that includes upper level vocational and college level programs. Grants from the state cover approximately 80% of educational funding. Funding is allocated to individual schools based on student population. Tuition is free but college students may have to pay their own living expenses. (Source: Danish Ministry of Education)
Taxes in Denmark. Danish citizens pay dearly for these valuable health care and education benefits. Those in the upper income category pay approximately 63% of their income in taxes. Unfortunately for the Danes, they hit that 63% rate at approximately $70,000 annual income. (Source: Danish Ministry of Taxation) By comparison, the current top marginal rate in the U.S. is 35% and that applies only to incomes above $372,000. Big difference.
Tough Money Love Commentary. Danish workers are highly mobile because of their excellent technical skills and fluency in English. It has been reported that many young adult workers are leaving Denmark because of the high tax rates. Nevertheless, unemployment in Denmark is a remarkably low 1.6%. Income tax rates are expected to decline in Denmark in 2009. Inflation in the Danish economy has recently declined to 3.7%. Thus, the Danish economy seems to be rocking along in decent shape. Denmark has been ranked number one in the world in technology advancement. The U.S. ranked seventh. Hmmm…
Given this data, it is not surprising that Denmark ranks quite high in several key life satisfaction indexes. Of course, we must remember that Denmark is a very small country (fewer that 6 million citizens) and spends very little on national defense. On the the other hand, those of us who are unhappy with U.S. health care deficiencies (a long-standing source of citizen discontent) and are now disgusted with recent economic events, can point to Denmark as a small-scale laboratory experiment of how things could work in the U.S. if radical changes are made. Does anyone not expect Obama to ask for radical changes by the latter stages of his first term? After all, he has Charles Rangel ready with the mother of all tax bills and tax advocate Robert Reich as an advisor. With Democrats controlling Congress, what’s to stop them?
Could the Danish System Work Here? Readers are no doubt guffawing at the suggestion that any Congress would bump U.S. income tax rates to 63% of incomes over $70,000. I would agree with such skepticism as an initial proposition. But don’t forget that there are historical precedents for marginal rates in the U.S. as high as 91% (1951-1963) and 70% as recently as 1982. (Source: Tax Policy Center) Four years ago would these same skeptics guffawed at the idea that an African-American who had the most liberal voting record in the Senate would be elected President? Think about it.
If it is certain that rates will go up just to pay for recent bailouts and rescues, how much more would it take to convince middle income voters that tax rates should go even higher to pay for health care and college educations for their children?
Finally, do not be surprised if baby boomers - even those who have been fiscally conservative in the past - slowly change their attitudes about taxation and health care if their beaten down retirement accounts do not start recovering soon. Health care is a major cost concern for boomers, and with their collective net worth losing trillions this fall, higher taxes paid by others for universal boomer health care will look pretty good. And boomers vote in large numbers. Mr. ToughMoneyLove would prefer to keep my money for myself but if the government is going to take more of it in taxes, it better spend it on something better than more bridges to nowhere.
This was an interesting exercise for Mr. ToughMoneyLove. Obama appears to be a politician that has more of a “world view” than many of his predecessors. I can imagine him taking that world view to heart when he gets around to looking for solutions to health care and college funding problems that he has talked about. At a lot of levels, a country like Denmark appears to have it together and most of its citizens seem to be content with the “tax and spend” trade-offs. So would Obama look at what a country like Denmark has done and be happy with it? Would you? Could that be the direction we are moving?
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Topics: Economics | 8 Comments »
Another Week of Ambiguity in Personal Finance
By Mr. ToughMoneyLove | November 16, 2008
I have read more material this week on the economy, investing, and personal finance than I can recall having done in any week prior. The more I read, the more I learn that there is very little consensus on any current economic issue affecting us, the taxpayers.
Fortunately, less of what is available to read is tainted by political spin, as the election is over and because the lame duck Congress has no clue what to do. That’s a good thing because whatever they do, it would likely be wrong, including a possible bailout of General Motors.
Topics: Blog, Economics, Uncategorized | 3 Comments »
The Obama Economic Advisory Team - A Scary Group
By Mr. ToughMoneyLove | November 14, 2008
If you want to predict what an inexperienced politician will do when suddenly elevated by voters into a position of vast power and influence, it helps to evaluate the people he has picked to advise him. So it is with President-Elect Barack Obama.
Topics: Economics | 4 Comments »