Aaron Krowne, writing at iTulip: “Pay Option ARMs are adjustable-rate mortgages what give the borrower the option of paying less than the normal monthly payment. … The difference between the “minimum” – the “fully-amortizing” amount – and the actual payment is simply added on to the principal of the mortgage. At a higher interest rate, of course. This is like making a credit card payment using the cash advance on a second credit card that charges a higher interest rate. This results in dramatically more debt overall, and a higher interest burden for the borrower overall. The added interest is called “negative amortization,” and typically there is a limit to how much of this can be added on to a loan–usually, 110% to 125% of the principal.

The way lenders or portfolio-holders of pay option mortgages account for negative amortization is surprising to the lay person: they simply take the negative amortization amount–that is, money not received–and add it to their earnings. This is called “capitalization of income from negative amortization” or “CINA.” [For] a number of mortgage lenders and bankers … a significant and increasing portion of their net income is now provided by this capitalized negative amortization:

Downey S&L … 68% of net int. income
First Fed Cal. … 72% of net int. income
Bank United … 52% of net int. income
Wash. Mutual … 17% of net int. income
Countrywide … 24% of net int. income

Countrywide’s negative amortization income jumped from $74.7 million at 12/31/05 to $654.0 million at 12/31/06—a whopping increase in excess of 8 times.

This practice of immediately marking-to-market negative amortization is actually considered valid under Generally Accepted Accounting Principles (GAAP). Of course, so were most of the tricks utilized by Enron. In fact, I would argue the neg-am situation is potentially even worse: In the case of neg-am in mortgages, what is likely to actually be a loss is marked to book as a gain. I consider this essentially a “loophole” in GAAP, which has been found by these mortgage purveyors and, in my opinion, massively abused.”

Robert Toll, Chairman and CEO of the homebuilder Toll Brothers, Inc, is at the Milken Institute Global Conference. At a roundtable discussion on real estate he summarized the current market situation:

- Boston is in the pits, in New Jersey things stink.

- New York City strength on top of strength, Texas is good, Pennsylvania burbs are okay .

- Florida, it’s so bad “Death takes a holiday,” Phoenix right into the bucket, Chicago not working, Las Vegas is terrible.

- Washington DC has come back, Southern California started to come back but has dipped again, Michigan is a place that may never come back.

Toll also noted that the housing downturn was unique in that it isn’t accompanied by a recession. He asked, “What happens if there is a recession?” He then answered his own question, “It would be cataclysmic for the housing industry.”

Paul Kasriel notes that the Chicago Fed National Activity Index (CFNAI), published today, is negative (at  -0.30) for the third time in a row, indicating below trend growth.

The Liscio Report is an economic newsletter whose primary value is the collection of state tax data, sales and withholding, which it uses to provide indexes that are well correlated with economic growth. Some recent quotes:

“Serious Deterioration in Sales-Tax Receipts.”

“The meager growth, or lack thereof, in sales-tax collections is currently running at recessionary levels.”

“The ratios of (a) stock value to GDP and (b) real-estate value to GDP are both nearly twice their averages from 1952 to 1970.”

Jim Kunstler, who wrote “The Long Emergency”, comments on the current bizarre state of the financial markets: Stocksplosion - “The current euphoric hysteria should therefore be viewed as a form of disorder in its own right. The players in the markets are making their moves based on misunderstood signals. They think the world is awash in energy and prosperity. They believe Cambridge Energy Research Associates (CERA) and the Chairman of the Federal Reserve. They believe that the mortgage fiasco and the associated imploding housing bubble are just a couple of temporary zits on the handsome WASPy face that Wall Street presents to the world. In the background, though, feedback loops are aligning to rock the systems we depend on for daily life in the real world. Capital will become unavailable. Food will grow scarce. Trade will be interrupted. Mobility will be constrained. And an awful lot of pissed-off people will be poised to fight over the table scraps of industrial civilization.”