Archives for June 2011

Mortgage Down Payment Size vs. Delinquency Rate

As part of new reforms, the government is debating what downpayment size should be required for a “qualified” residential mortgage. If a mortgage doesn’t meet the new standards, the lending bank would have to retain 5% ownership even if selling the rest to investors. The initial proposal is for 20%, but of course the mortgage industry wants the required down payment to be as small as possible. They want to keep the good ole’ days from being able to offload the risk entirely onto others.

Honestly, if banks can’t handle keeping even 5% ownership of the loans they originate, why would I trust their underwriting at all? Their track record for determining creditworthiness hasn’t exactly been stellar. Of course, their public argument is that a low downpayment keep homes “affordable” for everyone. From the Washington Post:

“Why, in a law intended to fix the mistakes that caused the credit crisis, would you mandate a certain down payment when low down payments were not the problem?” said Kathleen Day, spokeswoman for the Center for Responsible Lending.

Actually, they are a problem. Felix Salmon points out how the mortgage industry is trying to influence people with misleading statistics, saying that “boosting down payments in 5 percent increments has only a negligible impact on default rates.” After some wrangling, Salmon got this clearer chart showing delinquency rates as a function of downpayment size for the period 2002-2008:

When the mortgage industry starts complaining about the 14 million people who would be denied the chance to buy a qualified mortgage if they don’t have a 5% downpayment, it’s worth remembering that qualified mortgages for people who don’t have a 5% downpayment have a delinquency rate of 16% over the course of the whole housing cycle. (You can be sure the numbers were much higher still in 2006 and 2007, which is why Guarino didn’t give them to me.)

And you can see too why the 20% downpayment limit was put in place: it’s the point at which delinquencies fall to less than 5%. If you take one group of loans with a 20-25% downpayment, and a second group of loans with a 15-20% downpayment, then the second group, on these numbers will have a delinquency rate 56% higher than the first.

The fact is, downpayment size does matter. Imagine what the chart above would look like with data from 2006 to 2009. It should serve as a reminder that giving anyone with a pulse a mortgage loan because it’s the American Dream was a bad idea.

A 20% downpayment was the standard when banks actually kept 100% of mortgage on their books. I’m not saying every single person should need 20% today; A bank should be able to create a mortgage that requires less, but in exchange it should have to have some skin in the game. If a lender won’t even keep a mere 5% on their books, doesn’t that just show the mortgage is too risky in the first place?

More reading: NY Times, ChicagoMag

Book Review: SuperFreakonomics – Economics Lessons

Super Freakonomics is the follow-up to the 2005 bestseller, Freakonomics by Levitt and Dubner. This review will not be a summary of all the stories inside, although they are indeed entertaining. Given that they compare Santas and prostitutes, you quickly realize this is no economics textbook. However, I think both books should be required reading for high school students anyway because they teach that economics isn’t just about supply-and-demand curves. Economics is really about how people respond to incentives.

One main lesson is that sometimes you can’t clearly see what incentives people are responding to. When you think it’s just about money, it often isn’t. People respond to the need for sex, praise, love and the desire to avoid shame, judgment, and criticism. For example, why do people give to charity? It’s not just to help others. We do it for the tax break, for recognition in a newsletter or on a plaque, to feel better about ourselves, to avoid guilt, to help guarantee a spot in the afterlife, or simply because somebody important or attractive asked us to.

Or when you think it shouldn’t be about money, it actually is. Not very many people in the U.S. consent to organ donation, even though it could directly save countless lives. Iran compensates people for kidney donations, something that is considered unethical in the U.S. Remember, most people have two kidneys, and can live with one. How many lives could letting money play into this save?

Another worthwhile lesson is to watch out for unforeseen consequences. Here’s another example. The feminist movement resulted in dumber schoolchildren. Early in the last century, teaching was one of the few jobs available to women that didn’t involve cleaning, cooking, or other menial labor. In 1940, 55% of all college-educated females workers in their early 30s were employed as teachers.

As more and more women entered the fields of law, medicine, finance, science, and so on, resulted in a “brain drain” for schoolteachers. There are many excellent teachers still today, but according to cited research the overall teacher skill level and quality of instruction has declined over time. Between 1967 and 1980, U.S. test scores fell by the equivalent of about 1.25 grade levels.

If you liked Freakonomics, you’ll probably like this book. You have to read carefully to separate what “the research says” and the authors’ theories as to the actual reasons why. Again, there weren’t any direct applications to personal finance inside, other than perhaps showing us how pimps provide more value than Realtors. Their chapter on global warming was especially controversial. It’s been out for a while, so it should be easy to find at your local library, and used copies can be found at Half.com or Amazon for about $2 + shipping.

Top Credit Card Bonuses Roundup – June 2011

If you have a good credit score and the discipline not to get into consumer debt, you can profit from your responsibility by participating in various credit card promos where their ad dollars go into your pocket. There have been some exceptionally nice deals lately to choose from, one of which expires soon. Here’s a brief summary:

$500 in Gift Cards or $500 towards Student Loans, your Mortgage, Airfare or Hotel

The Citi ThankYou Premier Card is competing with a 50,000 ThankYou Point bonus. You get 50,000 bonus ThankYou Points after $2,500 in purchases within 3 months of account opening. 50,000 points is worth $500 in gift cards, airfare, or a check towards your student loan or mortgage. No annual fee. See this post for details.

$500 in Cash or $625 towards Airfare or Hotel

Chase Saphire Preferred Card BannerThe Chase Sapphire Preferred Card is a rewards credit card offering new cardholders 50,000 bonus points after you spend $3,000 in purchases within the first 3 months. 50,000 points can be redeemed for $500 cash or two airplane tickets worth up to $312.50 each since they offer a 25% boost towards airfare and hotels. No annual fee for the first year, $95 in future years. They also offer 2 points per dollar spent on dining & 1 point per dollar spent on all other purchases. Additional details here.

(This card is the “big brother” of the regular Chase Sapphire Card, where you can get 25,000 points ($250 cash) after you spend $3,000 in purchases within the first 3 months, and there is no annual fee in the first year or subsequent years.

This is their new travel-oriented card, with no foreign transaction fee on purchases and you can also earn points based on the amount of miles you actually fly. The annual fee is free the first year, $125 in later years if you keep it. Alternatively, if you want a card with no annual fee period, the Citi ThankYouSM Preferred Card is offering 25,000 bonus points after $2,000 in purchases within 4 months.

Free $2 Credit for Amazon MP3 Downloads

Amazon.com is offering $2 of free credit towards MP3 downloads with the code CLOUDMP3. No purchase required. Enter code at this link. It should increase your gift card balance by $2 for music purchases only. You must redeem the code by June 30, 2011, at 11:59 p.m. Pacific time. Limit one Amazon MP3 promotional credit per customer.

Free 500 Hawaiian Airlines Miles

Hawaiian Airlines is offering up 500 free miles if you link your Twitter and HawaiianMiles accounts. This will bring you a bit closer to the islands and also resets your miles expiration date (after 18-months of inactivity). While you’re at it, you can follow my highly sporadic Twitter account @mymoneyblog. 🙂 Found via InACents.

Why You Should Ignore the Dow Jones Index

The Dow Jones Industrial Average (DJIA) is an antiquated, somewhat-arbitrary, poorly constructed, incomplete indicator that does a subpar job of tracking the actual performance of the U.S. stock market. There, I said it. Every time I see it mentioned in the financial media down to the decimal points like it’s some hyper-accurate holy number, I get a bit annoyed.

A recent BusinessWeek article Why Apple Isn’t in the Dow served as another reminder of why I feel this way. Whether or not you like Apple, it’s the second largest company by market value in the country. Is it in the Dow Jones? Nope. Why not?

The Dow only includes 30 stocks, picked by WSJ editors. In 1896, the DJIA had 12 stocks. In 1916, it grew to 20. In 1928, it increased again to 30. It’s still just 30 stocks over 80 years later. Not only that, but it’s not even clearly defined as the largest 30 companies or something like that. It’s simply 30 companies chosen by a committee to best represent the market out of the ~5,800 publicly traded companies out there. As a result, new companies like Microsoft, Intel, and now Apple are added rather late, and major sectors like transportation and utilities aren’t even represented.

The Dow is a price-weighted index. The DJIA is not weighted according to the relative value of the companies like the S&P 500 or other “Total Market” indexes. Instead, it’s weighted by share price, something that is very arbitrary. The same company could have a million shares at $10 each, or 1,000 shares at $10,000 each. It’s worth the same, but the second company would have 1,000x the effect on the Dow Jones Index. This means Apple stock (about $330) would have the 18 times the effect of General Electric, even though it’s market value is only about 1.5 times more.

This also means you shouldn’t invest in any mutual funds or ETFs that follow the Dow either. I’m looking at you “Diamond”, the SPDR Dow Jones Industrial Average ETF (ticker DIA). By extension, this is also one of my problems with the investing start-up Betterment.com. I would never take advice from a financial planner that said a Dow Jones ETF was a critical part of my portfolio’s asset allocation.

Free Weekend Day Car Rental From Hertz

Rental car agency Hertz is revamping their frequent renter program, and is offering 500 bonus points (enough for a free rental day on a weekend) plus 100 bonus points per day on rentals from 7/1 to 9/30/2011 when you register online. You must be Hertz #1 Club Gold member first, but you can also join that for free until 9/30/11.

To be specific, I looked online and 500 points is worth “1 Free Weekend Day – Non Peak”. I’ve gotten Hertz #1 Club whatever for free for a few years now, so it doesn’t seem to be very special, but two nice perks are (1) “skip the counter” eligibility and (2) free additional driver. Still, they’re usually too expensive unless someone else is paying for it. I’ll take the free rental though. Does anyone else find the new mascot kind of creepy?

Prosper New Lender Promotion: iPod Nano, Bose, iPad 2

Peer-to-peer lending site Prosper recently received another round of VC money and it appears that they are offering a new iPad 2 promotion to attract enough lenders to match their borrower demand. If you open a new lender account by June 30, 2011 and have a certain amount of funded notes by July 21, 2011, you can earn one of the following bonuses:

  • $5,000 minimum (to $9,999) for an iPod Nano, 8 GB ($149 value)
  • $10,000 minimum (to $19,999) for a set of Bose QuietComfort 15 Noise-Cancelling Headphones ($299 value)
  • $20,000+ for an iPad 2 32 GB WiFi model ($599 value)

These are all pretty high investment amounts, and unless you have a lot of money you’re looking to deploy, I’d recommend wading in gradually and spreading your investments across as many different borrowers as possible. P2P lending has a longer track record now, but you are still basically lending money to people who are looking for a cheaper alternative to credit cards. I’m not surprised there are more borrowers than lenders; rates start at 7.4%. You can see overall performance data at LendStats.com.

If you do become a lender, be on the lookout for their “featured listings”, which currently offer a 4% upfront rebate on investments. Rebates are paid within 60 days of the date that your bid is placed. On $5,000 of investments, that would be $200. The fine print specifically states that you can double dip in this way:

Invested funds may also be used to qualify for Featured Listings promotions, but otherwise such funds cannot be applied to other promotional offers.

Capital One’s Non-Response to ING Direct Purchase

Per many reports from Reuters and WSJ and more, Capital One is buying online bank ING Direct. After being bailed out by the Dutch government in 2008, parent company ING Groep NV was required to sell the US bank by 2013 as part of their restructuring plan. Other major suitors included Ally Bank and General Electric.

So while a takeover was expected, many people were unhappy with the announcement that the were soon to be customers of Capital One. They were rightly afraid the stubbornly simple and straightforward bank culture would change. I personally didn’t really care, banks change all the time and I just go with whomever has the best rate and feature combo available right now. ING Direct has been content with “just good enough” rates for a while. Here’s where I keep my cash these days, I’m earning much more than 1%.

However, the NYT Times Bucks blog ran an interview with Capital One about the sale yesterday, and it was just too horrible not to make fun of. Read the original, real interview first, with more vague, lawyer-approved, corporate double-talk you could imagine. In my *parody* version below, let’s imagine what they’d say if allowed to be brutally honest.

Q: Why are customers of ING so upset about the sale of their bank to Capital One?

ING Direct was known for simplicity, directness, and good customer service. Capital One is known mostly for credit cards that don’t properly report credit limits to bureaus so it hurts your credit scores, a surprisingly good foreign transaction fee model, and TV ads with Vikings and Alec Baldwin.

Q: What changes are you planning to make to ING Direct’s account offerings? Will subaccounts for specific savings goals remain?

Well, many good features including that one are already in place and it would be really, really stupid to mess it up. But the lawyers won’t let me commit to anything in writing or they will eat a kitten.

Q. Are you planning any new fees or minimum balance requirements?

If we think it will make us more money in the end, then hell yeah.

Q: Does the reaction suggest Capital One might need to enhance customer service? How might this be done?

Yes. No idea.

Q. Will ING Direct be operated separately or integrated into Capital One’s operations?

Look, we just saw over $80 billion in bank deposits paying out just 1% interest. Do you have any idea how much interest we’d get paid by lending that out to people with our credit cards??? Cha-ching!

To repeat: These are a parody. I am actually a satisfied customer that has used a CapOne credit card for international purchases for several years. But hopefully they’ll realize that bland PR talk does not make more engaged, passionate customers.

Two Movie Tickets for $12: Fandango + BuyWithMe

Daily deal site BuyWithMe is offering 2 movie tickets from Fandango for $12 this week. The city is Houston but you can use them nationwide. This isn’t as good as previous deals, but if you’re going to watch those summer blockbusters at non-matinee times, these can still save some bucks. Selected fine print:

Limit 1 voucher per person; limited quantity available. Valid for 2 tickets with a value of up to $13 each; all Fandango fees are included in the price of your voucher. If two tickets exceed $26 prior to entering your promo code (for IMAX and 3D), you will be responsible for paying the difference in price. Promotional value expires 09/22/2011

Investors Again Had Poor Timing During Recent Market Crash and Recovery

Morningstar.com helpfully provides two types of performance data for mutual funds: total returns and investor returns. Total returns are what you usually see elsewhere, and assumes that one buys all at the beginning and holds the entire period given – the last 5 years, for example. Investor returns account for the timing of the buying and selling of investors on average. An example given is:

Assume a fund generated a 10% total return in a calendar year, with most of those gains coming in the year’s first quarter. If investors added substantial sums of money to the fund after its first-quarter runup, the fund’s investor returns for that year would be lower than the fund’s 10% total return.

Using this data, Morningstar can basically tell how the average investor was at market timing. Apparently, not so good. On average they sold too quickly after losses, and bought too late and missed part of the rebound. From the article Mind the Gap 2011:

In 2010, the average domestic fund earned a return of 18.7% compared with 16.7% for the average fund investor, making for a gap of 200 basis points. For the trailing three years, that gap was 128 basis points. For the past five years, it was 98 basis points, and for the past 10, it was 47 basis points.

For taxable bonds, the return gaps were 138 basis points for one year, 52 basis points for three years, 57 basis points for five years, and 106 basis points for 10 years. That 10-year figure is pretty large considering it meant that returns fell to 4.47% annualized from 5.53%. Municipal bonds have consistently had an even bigger gap ranging from 113 basis points last year to 173 annualized for the trailing 10 years.

To make it clear, those are huge performance gaps over time. Like saying goodbye to 25% of your nest egg huge. The data also found that people who owned balanced funds that owned both stocks and bonds did much better comparatively. This includes target-date style funds. That makes perfect sense to me, because the type of people who buy balanced funds are not the type to try to time the market.

They found similar results when comparing investors in Vanguard mutual funds that had both Investor and Admiral share classes. The more patient (and more wealthy) investors had better performance in 13 out of 15 cases, with a margin greater than the difference in expense ratios:

For example, in the firm’s flagship Total Stock Market fund, Admiral shareholders enjoyed returns of 6.16% annualized compared with 5.35% for Investor shares. At Vanguard Value Index, Admiral shareholders earned a 4.84% annualized return compared with 2.61% for Investor shares.

If you do try to time the market, you owe it to yourself to track your moves carefully (and honestly) to calculate if they were really better than doing nothing at all. Chances are, they weren’t. If you don’t do better after a certain time, say a couple years, it may be a good idea to stop while you’re not too far behind. Here are a couple of ways to find your personal rate of return that accounts for inflows and outflows.

Follow-up: Chase Sapphire Preferred 100,000 Points = $1,000 Bonus Possible?

Chase Sapphire Preferred ImageThis is a follow-up on the previously mentioned 50,000 bonus points offer (converts to $625 in travel) for the getting the Chase Sapphire Preferred® Card. Thanks to readers Paolo and AT, they shared a way to get double those points, even if you’ve already applied.

Apparently, some people were recently mailed targeted offers for the same card, but with 100,000 points (converts to $1,000) instead. The problem was, you needed a special invitation code so there was no public application link. However, some clever folks who already applied for the 50k offer asked nicely for Chase to match with the offer code S6V, and many success stories have been reported on FW.

I was just able to successfully get 50K applied to mine and my wife’s accounts (just applied this past Sat. night in fact) and it was really painless, took 5 minutes. 200,000 total!

So the plan of attack would be:

1) Apply for the 50k offer. That’s the best available offer, and even by itself is a great offer worth $625 in travel. If you’ve already applied, skip ahead to:

2) Ask politely for a match of the new 100k offer. After getting your card, use the Chase website to send an online secure message requesting a match of the new, improved offer. There are no guarantees on this – you should be prepared to be happy with the $625 bonus – but it’s definitely worth a shot and I’d do it sooner than later. Use this helpful script from Paolo:

Dear Chase Representative,

I just this past weekend applied for my new Chase Sapphire Preferred card with a 50,000 sign up bonus of 50,000 points after spending $4,000.

Today, I learned of a new offer S6V which promises 100,000 bonus points. I would be very grateful if you would extend the 100,000 bonus point offer S6V to me as well since I just applied for the Chase Sapphire Preferred card.

I have been a long time customer of Chase, and have had my primary checking and credit card accounts with Chase for many years and hope to maintain them for many more years to come!

Kind Regards,

[Your Name]

I would customize this to your personal situation, mentioning your length or size of relationship with Chase if applicable. Update: Some people are reported that this window of opportunity has been closed.

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