On builder/banker property market conspiracies. A practical example

Let’s do the maths together.

The typical builder share: Land 33, building costs 33, margin 33. On a competitive market margins will be slimmer, but in the new built bubble market… why not pump up prices, ultimately the surveyor with value the new built property at whatever you say, how can there be a price on something that hasn’t been built yet? (or so the story went).

For argument sake will leave it at 33/33/66. So final price or the property, 132.

The surveyor comes along and goes with the music. 132. Cashes in his commission and moves on to the next easy job.

The bank gives you as much as a 90% mortgage. But you don’t have the 13.2 for the deposit or the 1% stamp duty, so the builder offers you a no-money down deal of 118.8 and they pay you the stamp duty (that’s 14.52 less profit for them, but still they get to sell the property and get away with a 66-14.52-1.32=50.16 profit).

So you pay your admin fees to the bank and get your 118.8 mortgage. If you can pay the overpriced mortgage, bad for you and good for the bank. If you cannot pay your mortgage, they still got their fees (unless you added them to the mortgage total, will keep it simple this time) and they put the property on auction.

Auction day. Reserve price? 110? In the middle of the bubble, the bank sits down and waits. Soon bids come along and the property sells for, let’s say, 120. The bank gets its mortgage paid and probably moves on to offer another mortgage on the same property. Carrousel business, pawn shop, call it what you want, but the bank makes money time and again from the same property.

But what happens if the property sells in auction at a lower price? Did you see the increase in admin fees? I bet they make up for those differences, and remember, buyers normally add this high fees together, so in the long run the bank gets his fees, with interest over 25 years!

Banks are patient businesses, the compound interest theory is their livelihood. And management risk their skill. Also remember who lends to the builder in the first place.

Of course I might be wrong. Most likely I am. I am no insider and I am just speculating, but I have been to enough auctions and done enough due diligence in properties to see that the figures above are closer to reality than buy-to-let investors single-handedly trebling house prices in a few years.

I am not saying that banks don’t lose money on similar deals, they surely do, but if you can pack-up this debt along with healthier one into the infamous Mortgage-backed Securities (MBS) and sell them on in the debt markets, who is the smart guy again? (well, then, because now only the Fed and the BoE are interested in this type of toxic debt).

.Calvin

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4 Responses

  1. I think I see your point now. Individual situations, like auctioning a reposed house in a falling market, are bad for the banks as I was implying, but they are more than compensated for by the rest of their property churning activity. The turnover of property was profitable on the way up and most people will continue to pay the inflated prices anyway. As I said in my post, overall they are accessing a larger percentage of the national income. A grand scheme that looks orchestrated, but could be tacitly and knowingly colluded in by the banks and others, rather than directly and riskily as a cabal. Perhaps then we are thinking the same thing. The last gasp for the banks to get yet more money is crying fowl in the end game as they are left holding some bad debt, and why not try it on with the central / state banks to get a bit more if they are daft / crooked enough to allow this process.

  2. It would be nice to get data on the number of repossessed properties that the same bank ends up mortgaging to the new owner, wouldn’t it?

  3. I agree, there is a great deal of obfuscation of the bigger patterns in the residential property industry that might show up some interesting behaviour if only we knew.

    I personally think that residential property, like pensions, is too important a component of the economy to allow unfettered speculation on. Normally I am a small government person, because they generally make things worse when they get involved. However, property and pensions are beyond the ability of the average person to manage effectively, partly because the periodicity of each is so long, but also because the finance industry is highly organised and utilises smart money motivated people to keep ahead, it can’t be taken on by individuals. Controls need to be put in place and information, like the repossession numbers you mentioned, needs to be accessible and explained at a numbers of levels of complexity.

    Keep up the good work on your interesting blog.

  4. Fevered says : I absolutely agree with this !

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