OECD Estimates Losses Due to the US Mortgage Market at $300B

The estimates for losses due to the US mortgage market are beginning to roll in. The OECD seems to like $300B. Paul Krugman likes upwards of $500B as well as some of the investment banks in the US. No one knows what the real number is going to be, but there are a few points worth noting:

Timing of the losses is everything. If the banks have sufficient time to offset the losses with on-going profits the losses are more easily controlled in an orderly fashion. If there is a panic the banks will be forced to take the losses sooner than later. This will cause havoc.

No matter what you think the losses are take your low estimate and double it.

It is difficult to tell who the survivors are going to be at this point, there is still a lot of unwinding to go through.

Most loss estimates are based on no more serious deterioration in the housing markets. If housing prices deteriorate more than losses will get worse.

Most loss estimates are based on a turn around in the housing market in 2009. If the housing market delays the turn around until 2010 or 2011, losses will get worse.

Most loss estimates assume no further deterioration in the capital markets and a return to the normal functioning of the markets in 2008.

This is just the US housing market. No one has yet to factor in the losses in other countries that are also experiencing a housing boom such as the UK and Spain.

Based on the comments above I suspect the OECD estimate of $300B is low.

The problem is that the major financial institutions (investment banks, commercial banks, insurance companies, etc.) have only written off about $50B so far. If this is only 1/6 (16.67%) of the losses that are going to be written off and everyone has watched the effect on Wall Street, in the news, etc. one must assume that there is a long hard road yet to be traveled.

I expect the current mortgage/housing/capital market crisis to be the worst financial crisis of my life time and I watched the stock market crash of the 1970s, the stagflation of the 1970s, the dramatic increases in the price of oil, crash of the oil patch in the mid-1980s, stock market crash of 1987, the S&L crisis, etc. just to name a few.

Text in bold is my emphasis. From Yahoo:

Overall losses from the U.S. mortgage market crisis could be up to $300 billion but financial firms and policymakers need to buy time to ensure an orderly work-out, the Organisation for Economic Co-operation and Development said on Wednesday.

The OECD said the super fund being set up by Citigroup (C.N), Bank of America (BAC.N) and JPMorgan Chase (JPM.N) to pool asset-backed securities of ailing special investment vehicles -- thus preventing a further firesale of these assets -- was one mechanism for buying that crucial time.

"The super SIV idea clearly does provide a mechanism that gives 'time' for all the stock adjustment prices to work through," the OECD said in its latest Financial Markets Trends report. "Time ... is key to solving the turmoil."

But the Paris-based forum said the worst of the U.S. housing market downturn had not yet been seen and would continue to depress mortgage-related debt products and derivatives held by banks, hedge funds and insurance companies.

"We still have not hit the worst point in resets, delinquencies and ultimate losses on mortgages," the OECD said, adding some $890 billion of sub-prime, or poor credit quality, mortgages will have rates reset in 2008 -- with the peak expected about March.

The OECD said a hypothetical 14 percent loss on subprime mortgages being reset in 2008 could result in $125 billion in losses. If so-called Alt-A mortgages are included, cumulative losses in the $200-$300 billion range "seem feasible," it said.

The financial exposure to these losses lies in repackaged mortgage-backed securities such as Collateralised Debt Obligations (CDOs), variously held by hedge funds, banks and bank-sponsored structured investment vehicles.

The OECD estimated outstanding CDOs and synthetic versions was close to $3 trillion in June, before the worst of the credit crisis emerged. Bank SIVs were around $400 billion that month.