Standard Pacific Troubled; Hovnanian Almost as Bad

Standard Pacific announced today that they are going to offer $100 million of convertible notes.

The Company intends to use the net proceeds of the notes offering to repay a portion of the outstanding indebtedness under its revolving credit facility.

The notes will bear interest at a rate of 6.0% per year... an initial conversion price of approximately $8.75 per share of common stock...

Concurrently with the offering of the notes and the convertible note hedge transactions, the Company intends to enter into a share lending agreement with an affiliate of Credit Suisse, pursuant to which the Company will lend shares of its common stock to such affiliate. Under the share lending agreement, the share borrower will offer and sell the borrowed shares in a registered public offering and will use the short position resulting from the sale of such shares to facilitate the establishment of hedge positions by investors in the notes to be offered.

On September 14, 2007, and in contemplation of the proposed notes offering, the Board of Directors of the Company eliminated the Company's quarterly cash dividend. This action will save the Company approximately $10 million per year.

It looks like an extremely ugly way of raising money. SPF is going to lend its own shares to whomever buys the notes, so that the buyer can sell the stock short. I don't think SPF is long for this world.

Standard Pacific is one of the worst homebuilders based on three key metrics:

• Debt-to-backlog. Having debt that is a higher multiple of backlog (the dollar amount of outstanding orders for homes) is troublesome. Consider that the amount of cash for paying down debt is going to be a fraction of the backlog, and that significant numbers of orders in the backlog will probably cancel.
  
• Debt-to-market cap. A measure of the amount of financial leverage.
  
• Altman Z-Score. Lower scores are worse; used to forecast the likelihood of bankruptcy.
  

(click to enlarge) Z-Scores are from this article.

One thing to keep in mind is that this table does not consider off-balance sheet debt. Standard Pacific, for example, has loads of debt in special purpose joint-ventures that they may be liable for.

Also, it looks like Hovnanian is the next worst of these builders after SPF. (Not counting TOA, BHS, or BZH, since they are so difficult to short.)

Finally, I took a stab at what SPF's equity would be after hypothetical markdowns.
(Keep in mind, they amended their Consolidated Tangible Net Worth covenant to require "the sum of (a) $1,000,000,000 plus" a proportion of net income and equity sales.)

For this experiment, I made the following major assumptions:

• Land owned is worth 50% of book value. My understanding is the bids for lots and land in SPF's markets are very, very low.
• Completed and model homes are worth 80% of book value.
• They will be walking away from all land options.
  
• A generous assumption that they will be able to walk away from the JV's and such at only a complete loss, when they may actually have to pay those structures' debt, and thereby be liable for more than their initial investment.
  
• Mortgage loans in the portfolio are worth book value. If it turned out that SPF was writing shoddy loans in order to move houses, the loans would require a huge discount.

(click to enlarge)

In this scenario, their book value is negative $1.28 per share.

Downey Financial's Non-Performing Assets Increase Exponentially

On Friday, Downey Financial Corp. (DSL) released their latest THIRTEEN MONTH SELECTED FINANCIAL DATA.

Here are some charts showing data from the latest report and from the quarterly report. (You can click the charts to see larger versions.)

The first chart shows the percentage of loans that are non-performing (that is, more than 90 days past due). You can see that the growth is exponential.

If the growth of non-performing assets (NPAs) continues to follow this exponential function, we can extrapolate that they will reach 4% by the end of 2007, and 12% by next August.

One other interesting point about the NPAs is that they are calculated as a percentage of total assets. But not all of a bank's assets are loans. So, to make the NPA statistic more easily comparable, you can back out Downey's cash, investment securities, FHLB stock, and other assets that are not loans from the calculation.

This graph shows NPAs as a percentage of only loans. It reveals that calculating NPAs as a percentage of total assets has been steadily understating the increase.


Finally, here is a graph of the dollar amount of delinquent loans, which are loans less than 90-days past due. (And, therefore, still considered performing.)

Loose Monetary Policy Crushes the Dollar

The 2:15 rate cut crushed the dollar.



The dollar index just broke through the record low set last Thursday. Oil, gold, euros are hitting multi-year or record highs.

The trend of the dollar index for past two years:



The dollar index tracks the value of the dollar relative to a basket of six major world currencies: Euro, Yen, Pounds, Canadian, Swedish, and Swiss, in order of highest to lowest weights.

Although short term interest rates fell as a result of the rate cut (notice the change from orange to green on the yield curve), long term rates actually increased.


Most mortgages are priced based on the long-term rates. So, after the rate cut, things are looking worse for mortgage rates.

Finally, check out this article from January 4, 2001: Surprise Rate Cut Spurs U.S. Stocks.

Standard Pacific: "Buyer be where?"

Incredible article in this weekend's LA Times about Standard Pacific's "Mission: Possible" sale in Southern California.

For days, the Irvine company has been touting its "Mission: Possible" extravaganza in 49 communities throughout Southern California, with bonuses for buyers totaling as much as $20 million. Standard Pacific is aiming to sell 200 homes by offering mortgage loans with rates of less than 6% and other perks, including a free 42-inch plasma-screen television with every home purchase.

But in Victorville on Friday, the blowout looked more like a washout. Only a trickle of potential buyers showed up on the first day of the 10-day event.

Only a handful of prospects, although more than usual for a Friday, stopped by the sales offices of neighboring communities Diamond Ridge and Crystal Spring, which were decorated with colorful banners and posters proclaiming the event.

Bubble Markets Inventory Tracking checked out the StanPac community "Avaron at Del Sur."
StanPac has lowered prices by 10-20% since spring 2007, and evidently that is failing to sell houses.

By the way, if we are "near the bottom" of the housing market, as people keep saying, then why are builders trying to dump inventory?

Two Funds Dump Countrywide; Legg Mason Catches Falling Knife

Two of Countrywide Financial Corp.'s largest shareholders said in regulatory filings Monday that they have cut their stakes in the mortgage lender...

AllianceBernstein LP had been the largest stakeholder in Countrywide, but it dumped 40 million shares in August.

Barclays Global Investors NA dumped almost 25 million shares.

Meanwhile Legg Mason is buying. They liked it at $30 and they like it even more under $20. They will probably get really excited about buying at $10.

Los Angeles Home Sales Fall 50% from August '06 to August '07

From Saturday's LA Business Journal:

The expanding mortgage crisis and credit crunch slammed the Los Angeles housing market in August, with home sales plunging 50 percent from the same month last year and 25 percent from July.

Sales of new and existing homes in Los Angeles County slid to 4,107 units in August, just under half the 8,246 units that sold in August 2006 and well below July’s 5,458 units, according to figures compiled for the Business Journal by Melville, N.Y.-based HomeData Corp.

Survey Indicates Downey Foreclosures are Skyrocketing

Today I updated my Downey Real Estate Owned (REO) survey for July and August 2007. It's based on a sample of San Diego, San Joaquin, and Solano counties only. See the footnote for more on how this data is collected.

Survey indicates that Downey borrower defaults and foreclosures are up sharply so far this quarter, and are increasing at an accelerating pace.

A "Default Notice" is the first step in the foreclosure process. It is a formal notice to a borrower that they are in default. Lenders typically send them after a couple months of missed payments. That means that this month's jump in Default Notices comes from borrowers who stopped making payments in the spring.

Once the lender sends the default notice, the foreclosure clock starts ticking. In California, the borrower has 90 days from the Default Notice to become current on the mortgage. If not, the borrower receives a Sale Notice and shortly thereafter (unless the borrower pays up) the property is sold at auction/foreclosed. Then the trustee's deed transfers title to whoever buys it at auction (usually the lender takes it back as Real Estate Owned). This is coded as a "TTEE Deed" in most of the California recorded document systems, and on the chart below.

So, on this chart, the blue portion indicates borrowers who are in arrears, and the red is borrowers whose foreclosure is imminent or has already happened.


So far this year, the survey of these counties has been highly correlated with Downey's reported results, making the survey a great leading indicator. So, I expect that for third quarter, Downey will report non-performing loan statistics that are a multiple of the numbers in these charts.

The following chart extrapolates results for Q3 based on data collected in July and August.



There were 73 properties listed on Downey's website on May 14, 2007. Today there are 113.

Because Downey is an option-ARM lender, many of their borrowers are making artificially low, negatively amortizing payments. This may be temporarily allowing people to avoid defaulting. I expect Downey's default numbers to worsen as borrowers hit loan interest resets and/or max out their negative amortization caps.

Footnotes:
(1) Not all counties make this data easily available online (especially in California). Los Angeles does not provide online access, and many of the counties that do have extremely cumbersome interfaces. My surveying method is to count all of the default notices and all of the notices of trustee's sale/trustee deeds during the time period. I do not make any adjustments for notices of rescission of default. I have found this data to be an excellent leading indicator, but no warranty is made as to its accuracy.
(2) I have covered my NCT short. There is relatively little public information about their portfolio and it's possible that the market has overreacted.

Months of Existing Home Inventory to Surge

Update: Mortgage Broker Survey Finds 33 Percent of Home Loans Failed to Close Last Month. So if pending existing home sales are down by 12.2% and 33% fail to close because of funding issues, we could see actual existing home sales down 42%!

Gigantic drop in pending home sales today:

(Hat tip to Interest Rate Roundup.)

Note that this is an index of existing home sales contracts signed in July. The actual number of closed sales will be lower because buyers will have difficulty getting financing for these sales.

The 12.2% drop in pending sales means that months of existing home inventory will be going up at least 12.2%. That should take it from 9.6 months to 10.7 months.

Inventory will literally be off this chart.

Go to Bubble Markets Inventory Tracking to see the stats for individual metros. Phoenix metro area is over a year of inventory. Queen Creek, a far outer suburb, is 14 months. Las Vegas is closer to two years.

New home inventory is steady at 7.5 months. The seasonally adjusted annual rate of new home starts is 1.39 million. But there are only 834000 annualized sales.

The residential housing market is going to start clearing again, someday. That's going to require prices to come down quite a bit. The market price will be set by banks getting rid of REO and by people who have to move.

Somehow the market doesn't realize this. People are treating what happened as an isolated subprime issue that caused an irrational credit panic.

Many builders won't survive this. Most of them destroyed all the value they created during the bubble by buying their own overpriced stock and plowing more money into land.