I’m going to start a discussion about the unusual stock market advance that has taken place over the last 4 years. Unusual in that the normal forces that drive the economy such as economic growth, productivity and population growth were not present.
A technician usually does not engage in the discussion of fundamentals, however, the action by the Federal Reserve has cast a new light on what is happening with the stock market. The name of this series will be entitled simply, The Fed.
First I need to provide you with some background information:
Back in 2006 I was a mortgage loan officer in Seattle, Washington, having left the securities industry in 2002. I was noticing a slow down in mortgage business in Seattle and was given an opportunity to relocate in Las Vegas, Nevada. This was my sisters home town and the job was on salary not commission which was appealing.
Las Vegas and Palmdale, California, where I also worked, were a totally different economic environment from Seattle where everyone seemed to be well qualified. I noticed a high number of under-qualified people looking for home loans. The word had gotten out. The banks through Fannie Mae were allowing borrowers considerable leeway in qualifying for a home purchase.
Fannie Mae was showing mortgage loan consultants stated income loans; people with good credit were given loans with no proof of income. There were also option ARM’s which allowed a very low initial mortgage rate, about 1.5%. These loans would revert to an interest only loan of about 7.5% after the first year. If you weren’t paying that amount then the principal on your loan would be increased. These loan made it extremely easy to qualify for loans but the sticker shock a year down the road made these loans very poor for most homeowners. These loans would work for a short term investor looking to flip a property but for the casual homeowner they were a death trap. They would end up adding principal to their loans; their homes would end up costing them more every year.
I was one of the mortgage loan officers who would not qualify people for stated loans or option ARM’s unless they stated a true income and that they could handle the loan. We soon were replaced by loan officers who would lend no matter what the client could truly afford. Think Countrywide!
There were other things that were going on at the time…….Collateral Debt Obligations!
Financial services companies were packaging mortgage loans to resell to the investing public. They would package high quality loans with sub prime loans but would over collateralize the loans. The rating agencies would then give them a AAA credit rating.
As we all know the real estate bubble collapsed and with that a good part of the economic engine that drives the economy.
The Federal Reserve began Quantitative Easing on November of 2008, just about the time that the stock market began its ascent!