Friday, December 28, 2007

New Home Sales in November Were Down 34.4% from a Year Ago

Admittedly, the new home sales data issued by the Dept. of Commerce is subject to good bit of statistical error that is eventually reduced over about four months. None the less, the numbers continue to be comparable to those of the 1990s. Text in bold is my emphasis. From the WSJ:

New-home sales retreated during November, sinking to the lowest annual rate in 12 years. Home prices also receded, a further negative sign for consumer spending and the economy.

Sales of single-family homes decreased by 9% last month to a seasonally adjusted annual rate of 647,000, the Commerce Department said Friday. October new-home sales rose 1.7% to an annual rate to 711,000; originally, the government said October sales rose by 1.7% to 728,000. . . . . The actual rate of 647,000 reported for the month was the lowest recorded since 621,000 in April 1995.

Year over year, new-home sales were 34.4% lower than the level in November 2006. That's the largest year-to-year decline since 35.3% in January 1991.

The median price of a new home decreased by 0.4% to $239,100 in November from $240,100 in November 2006. The average price advanced by 0.5% to $293,300 from $291,800 a year earlier. In October this year, the median price was $229,500 and the average was $307,900.

The ratio of new houses for sale to houses sold rose during November, going to 9.3. It was 8.8 in October; originally, the government estimated the October ratio at 8.5. Friday's data showed an estimated 505,000 homes for sale at the end of November, down from October's 514,000.

Regionally last month, new-home sales decreased 6.4% in the South, 19.3% in the Northeast, and 27.6% in the Midwest. Sales rose 4% in the West.

An estimated 46,000 homes were actually sold in November, down from 55,000 in October, based on figures not seasonally adjusted.

I would like to add to the article above some comments from the WSJ economics blog.

Home prices were mixed. Over the year, median prices slipped by just 0.4% while average prices rose by 0.5%. Much of this “strength” reflects the changing regional mix of sales. In addition, home builders’ sales incentives are not included so actual transaction prices are even weaker. Bottom Line: New home sales plunged in November and the trend is definitely lower. In addition, there is absolutely no indication that home sales have reached a bottom. … Prices are falling, more sharply in some regions that in others. – Steven Wood, Insight Economics

It appears quite clear at this juncture that the consumer has reached a psychological point where expectations of future price declines have become entrenched. We consider this to be eminently rational behavior on the part of potential homeowners and until the new homes market observes a decline in the median price of homes and falling rates, there will be little incentive to step up purchasing activity. – Joseph Brusuelas, IDEAglobal

This was obviously a stunningly weak report, particularly given the aggressive price-cutting that homebuilders have been implementing …. However, with demand falling, unsold inventories remain high and the months’ supply at the current sales rate is quite lofty … . None of this bodes well for near-term conditions, and prices will need to fall further to help clear the market. … Interestingly, the relation between mortgage applications for purchases and reported sales of new homes seems to have broken down in the past year or so, with applications well above where they have historically been at current sales rates. This could be due to multiple applications being filed by potential homebuyers in order to try to ensure a mortgage approval. – Joshua Shapiro, MFR Inc.

Wednesday, December 26, 2007

Housing Prices Down and Christmas Spending is Weak


Just a quick summary of two articles in the WSJ. The Case-Shiller Housing Price Index (WSJ #1) is down 6.7% for October the worst year-over-year decline since they began measuring the index in 1988. None of this should come as a surprise given the condition of the mortgage lending business and the overstock of homes. A picture is worth 1,000 words. The graphs are from the WSJ online.
















By the way, the changes in home prices year-over-year by city are as follows:










Also the the consumers did not pull it off at Christmas. There were numerous signs that the consumer spending was going to be weak this holiday season and they were. According the WSJ #2 article consumer spending was up only 3.6% over last year. If you factor out the gasoline sales it looks like the consumer spending was up only 2.4%. Assuming these price increases are in nominal dollars, the real net increase in spending excluding gas purchases and correcting for inflation is right around 0%. Like I said in an earlier post 2008 is going to be a real interesting year for people that have never "felt" a recession.

A View of the De-Leveraging of the US and Europe from the UK

My favorite author (Ambrose Evans-Pritchard) from the UK Telegraph discusses the de-leveraging of many parts of the economy in the Europe and the US. Basically, pumping a lot of liquidity into the system may not be the solution. The problem is not liquidity, it is solvency. The losses of the financial institutions due to the mortgage meltdown (the insolvency portion) will cause financial institutions to shrink their balance sheets (can't lend as much so that is the credit crunch), which in turn will cause consumers, corporations, and financial institutions to reduce borrwoing (de-leveraging). This will have an interesting effect on consumption (driven by debt), the driver of US GDP. Stay tuned, if you thought 2007 was interesting, there is a chance that 2008 could be a down right shocker. Text in bold is my emphasis.

As central banks continue to splash their cash over the system, so far to little effect, Ambrose Evans-Pritchard argues things are rapidly spiralling out of their control.

Twenty billion dollars here, $20bn there, and a lush half-trillion from the European Central Bank at give-away rates for Christmas. Buckets of liquidity are being splashed over the North Atlantic banking system, so far with meager or fleeting effects.

As the credit paralysis stretches through its fifth month, a chorus of economists has begun to warn that the world's central banks are fighting the wrong war, and perhaps risk a policy error of epochal proportions.

"Liquidity doesn't do anything in this situation," says Anna Schwartz, the doyenne of US monetarism and life-time student (with Milton Friedman) of the Great Depression.

"It cannot deal with the underlying fear that lots of firms are going bankrupt. The banks and the hedge funds have not fully acknowledged who is in trouble. That is the critical issue," she adds.

Lenders are hoarding the cash, shunning peers as if all were sub-prime lepers. Spreads on three-month Euribor and Libor - the interbank rates used to price contracts and Club Med mortgages - are stuck at 80 basis points even after the latest blitz. The monetary screw has tightened by default.

York professor Peter Spencer, chief economist for the ITEM Club, says the global authorities have just weeks to get this right, or trigger disaster.


"The central banks are rapidly losing control. By not cutting interest rates nearly far enough or fast enough, they are allowing the money markets to dictate policy. We are long past worrying about moral hazard," he says.

"They still have another couple of months before this starts imploding. Things are very unstable and can move incredibly fast. I don't think the central banks are going to make a major policy error, but if they do, this could make 1929 look like a walk in the park," he adds.

The Bank of England knows the risk. Markets director Paul Tucker says the crisis has moved beyond the collapse of mortgage securities, and is now eating into the bedrock of banking capital. "We must try to avoid the vicious circle in which tighter liquidity conditions, lower asset values, impaired capital resources, reduced credit supply, and slower aggregate demand feed back on each other," he says.

New York's Federal Reserve chief Tim Geithner echoed the words, warning of an "adverse self-reinforcing dynamic", banker-speak for a downward spiral. The Fed has broken decades of practice by inviting all US depositary banks to its lending window, bringing dodgy mortgage securities as collateral.

Quietly, insiders are perusing an obscure paper by Fed staffers David Small and Jim Clouse. It explores what can be done under the Federal Reserve Act when all else fails.

Section 13 (3) allows the Fed to take emergency action when banks become "unwilling or very reluctant to provide credit". A vote by five governors can - in "exigent circumstances" - authorise the bank to lend money to anybody, and take upon itself the credit risk. This clause has not been evoked since the Slump. (The "Slump" is the term the Europeans use for the Great Depression.)

Yet still the central banks shrink from seriously grasping the rate-cut nettle. Understandably so. They are caught between the Scylla of the debt crunch and the Charybdis of inflation. It is not yet certain which is the more powerful force.

America's headline CPI screamed to 4.3 per cent in November. This may be a rogue figure, the tail effects of an oil, commodity, and food price spike. If so, the Fed missed its chance months ago to prepare the markets for such a case. It is now stymied.

This has eerie echoes of Japan in late-1990, when inflation rose to 4 per cent on a mini price-surge across Asia. As the Bank of Japan fretted about an inflation scare, the country's financial system tipped into the abyss.

In theory, Japan had ample ammo to fight a bust. Interest rates were 6 per cent in February 1990. In reality, the country was engulfed by the tsunami of debt deflation quicker than the bank dared to cut rates. In the end, rates fell to zero. Still it was not enough.

When a credit system implodes, it can feed on itself with lightning speed. Current rates in America (4.25 per cent), Britain (5.5 per cent), and the eurozone (4 per cent) have scope to fall a long way, but this may prove less of a panacea than often assumed. The risk is a Japanese denouement across the Anglo-Saxon world and half Europe.

Bernard Connolly, global strategist at Banque AIG, said the Fed and allies had scripted a Greek tragedy by under-pricing credit long ago and seem paralysed as post-bubble chickens now come home to roost. "The central banks are trying to dissociate financial problems from the real economy. They are pushing the world nearer and nearer to the edge of depression. We hope they will eventually be dragged kicking and screaming to do enough, but time is running out," he said.

Glance at the more or less healthy stock markets in New York, London, and Frankfurt, and you might never know that this debate is raging. Hopes that Middle Eastern and Asian wealth funds will plug every hole lifts spirits.

Glance at the debt markets and you hear a different tale. Not a single junk bond has been issued in Europe since August. Every attempt failed.

Europe's corporate bond issuance fell 66pc in the third quarter to $396bn (BIS data). Emerging market bonds plummeted 75pc.

"The kind of upheaval observed in the international money markets over the past few months has never been witnessed in history," says Thomas Jordan, a Swiss central bank governor.


"The sub-prime mortgage crisis hit a vital nerve of the international financial system," he says.

The market for asset-backed commercial paper - where Europe's lenders from IKB to the German Doctors and Dentists borrowed through Irish-based "conduits" to play US housing debt - has shrunk for 18 weeks in a row. It has shed $404bn or 36pc. As lenders refuse to roll over credit, banks must take these wrecks back on their books. There lies the rub.

Professor Spencer says capital ratios have fallen far below the 8 per cent minimum under Basel rules. "If they can't raise capital, they will have to shrink balance sheets," he said.
Tim Congdon, a banking historian at the London School of Economics, said the rot had seeped through the foundations of British lending.

Average equity capital has fallen to 3.2 per cent (nearer 2.5 per cent sans "goodwill"), compared with 5 per cent seven years ago. "How on earth did the Financial Services Authority let this happen?" he asks. . . .

. . . . . Maastricht rules may force the Government to raise taxes or slash spending into a recession. This way lies crucifixion. The UK current account deficit was 5.7 per cent of GDP in the second quarter, the highest in half a century. Gordon Brown has disarmed us on every front.
In Europe, the ECB has its own distinct headache. Inflation is 3.1 per cent, the highest since monetary union. This is already enough to set off a political storm in Germany. A Dresdner poll found that 71 per cent of German women want the Deutschmark restored.

With Brünhilde fuming about Brot prices, the ECB has to watch its step. Frankfurt cannot easily cut rates to cushion the blow as housing bubbles pop across southern Europe. It must resort to tricks instead. Hence the half trillion gush last week at rates of 70bp below Euribor, a camouflaged move to help Spain.

The ECB's little secret is that it must never allow a Northern Rock failure in the eurozone because this would expose the reality that there is no EU treasury and no EU lender of last resort behind the system. Would German taxpayers foot the bill for a Spanish bail-out in the way that Kentish men and maids must foot the bill for Newcastle's Rock? Nobody knows. This is where eurozone solidarity stretches to snapping point. It is why the ECB has showered the system with liquidity from day one of this crisis.

Citigroup, Merrill Lynch, UBS, HSBC and others have stepped forward to reveal their losses. At some point, enough of the dirty linen will be on the line to let markets discern the shape of the debacle. We are not there yet.

Goldman Sachs caused shock last month when it predicted that total crunch losses would reach $500bn, leading to a $2 trillion contraction in lending as bank multiples kick into reverse. This already seems humdrum.

"Our counterparties are telling us that losses may reach $700bn," says Rob McAdie, head of credit at Barclays Capital. Where will it end? The big banks face a further $200bn of defaults in commercial property. On it goes.

The International Monetary Fund still predicts blistering global growth of 5 per cent next year. If so, markets should roar back to life in January, as though the crunch were but a nightmare. There again, the credit soufflé may be hard to raise a second time.

Sunday, December 23, 2007

Paul Krugman's Talk to the Google About the Economy, Recession, Housing, Etc.

About a week ago Paul Krugman (famous economist) gave a talk to Google employees about the state of economy. The talk, which can be seen on You Tube, is very a very good summary of how we got to where we are, some of the problems we face going forward, the future of the housing market, bank liquidity vs. solvency, etc. The video of the talk is just over an hour and 10 minutes long, but is worth a listen if you have the time. By the way, be patient when opening the link, it takes a while to load.

Just a few highlights that stick in my mind:

1. Banks have an solvency issue not a liquidity issue
2. Krugman expects the housing market to continue to decline
3. There is a 50% chance of recession in 2008 as measured by the NBER
4. The dollar will continue to decline
5. The current housing crisis is like the S&L crisis of the early 1990s
6. He fully expects to see "debt deflation" as the economy moves into 2008 and beyond

Thursday, December 20, 2007

Happy Holday Season to All

I would just like to thank everyone that was courteous enough to read my blog this past year.

Also to all of those that made comments I would like to offer special thanks. I may not always agree with your comments, but as I have stated before it is my experience that everyone gains from well thought out discussions, even if no one mind is changed. It is good to have your ideas challenged even if it does not feel that way when you read someone' s comment.

Because it is the holiday season I will be posting less often for the next week or two. But, I will be back in January 2.

Go enjoy the holiday season even if you don't necessarily celebrate any of the season's holidays. Never look too hard for an excuse to party. My mother told me (these are not the exact words) "that if God did not want you to have a good time there would be no need to make you so you can laugh".

Senator Charles Schumer’s Four Myths About the Subprime Crisis

Senator Charles Schumer gave a speech yesterday at the Brookings Institution concerning possible solutions to the subprime crisis. As part of that speech he gave what he calls the four myths of the subprime crisis. These are worth a look. Text in bold is my emphasis. From the WSJ online economics blog:

1. The Myth of Vastly Expanded Home Ownership from Subprime Lending The first myth is that most of this subprime lending led to millions of brand-new, first-time homeowners in America. The fact is that only a small percentage of subprime borrowers were first time homeowners. According to the chief national bank examiner for the Office of Comptroller of the Currency, only 11% of subprime loans went to first-time buyers last year. The vast majority were re-financings that caused borrowers to owe more on their homes under the guise that they were saving money. Too many of these borrowers were talked into refinancing their homes to cover short-term emergencies like medical bills. Other subprime borrowers were homeowners that simply moved to another house; and only a small percentage went to investors and speculators. And the truth is, after this subprime crisis blows over, there will be a net loss of homeownership in this country.

2. The Myth of the Unqualified Borrower The second myth is that subprime borrowers couldn’t have qualified for better loans, and thus that the subprime market is the only place they could have gotten a mortgage. A corollary follows that these people can’t be helped by the government or refinancings. But in truth, many of these people were prime borrowers. I had been talking about this myth for months, but policymakers ignored it, which is a major reason they wouldn’t act to solve this problem.Finally, to its credit, the Wall Street Journal did a study confirming what I, and others like Martin Eakes at the Center for Responsible Lending had been saying for so long — a majority of subprime borrowers would have qualified for a conventional primerate loans. Based on the Journal’s analysis of borrowers’ credit scores, 55% of subprime borrowers had credit scores worthy of a prime, conventional mortgage in 2005. By the end of last year that percentage rose to over 61% according to their study. While some will have damaged their credit in the interim, it’s clear that many subprime borrowers have the financial foundation for sustainable homeownership, but may have been tricked into unaffordable loans by unscrupulous brokers.

3. The Myth That Borrowers Can Easily Obtain Perfect Knowledge of The Terms of Their Mortgage Loans When market participants have full information about transactions, the results are efficient. But we have known since shortly after Adam Smith that they do not function well when important information is lacking. We make a great mistake when we accept the myth that the borrowers in mortgage markets are fully informed. The truth is that almost no one reads their entire mortgage document’s fine print, few hire special real estate lawyers to walk them through the home purchase, and frankly, many borrowers were tricked or duped into bad loans by unscrupulous brokers and lenders.Some ideologues blame the borrowers, and while that might make them feel better, it does nothing to solve this problem. That ideology is straight out of the 1890’s and the early 1900’s.

4. The Myth that the Free Market Alone Will Fix EverythingThis administration is wedded to the philosophy that government should take a hands-off approach to governing and to dealing with economic crises. This crisis has been no exception. The myth that left to their own devices, free market forces will correct the disruptions caused by the subprime crisis has caused us perhaps the most economic pain because it has allowed the subprime crisis to wreak havoc in other areas of the economy.Throughout the course of this year, the administration and its financial market regulators have repeated time and time again that the subprime crisis would be contained and mitigated by the strength of the U.S. economy. Then, in August of this year, we began to witness the beginnings of a severe credit crunch in the U.S. credit markets that forced financial institutions to limit the amount of loans that they offered to individuals and companies.As the administration looked on, the credit crisis trickled into the Alt-A and prime mortgage markets, pushing up mortgage rates for borrowers with even the best credit. The tightening of lending and lack of confidence in credit quality has led to shrinking investment and consumption, and a slowdown in economic growth. And the fallout wasn’t limited to the U.S. We may even see a downturn in the global economy, as Secretary Summers has warned.Today, the crisis is fueling a housing downturn that will hit every American family where it hurts the most — their equity. And as a result, we are facing an economic downturn that we haven’t seen in this country since the Great Depression. Economists like Robert Shiller estimate that a 10% decline in housing prices could lead to an overall $2.3 trillion economic loss at a time when this country can least afford it. $2.3 trillion in economic losses!Unfettered free market forces did not contain this problem within the subprime segment of the housing market. Far from it. And the laissez-faire philosophy that allowed this crisis to spread far and wide won’t get us out of this mess, either.

Tuesday, December 18, 2007

Is the Goldman Sachs Game Fixed?

This is a good question. Is there a close, maybe even chummy, relationship between Washington DC and the large investment and commercial banks? Of course there is and there should be. If you are going to be the largest capitalistic country in the world the political powers are going to talk to the money powers. Better to have them talking to one another than at odds with one another. The problem is that the article below is too short to draw any conclusions other than some people are happy and some are not. Is this legitimate or just sour grapes? My guess is that it is far more complex than the article addresses. But if you think the most competitive sport in the world is professional football or basketball, you should visit Wall Street. Text in bold is my emphasis. From Market Watch:

Goldman Sachs Group Inc. might fare better if it followed the advice of the great poker players: Lose a hand every once in a while.

The white-shoe investment bank on Tuesday reported a record $3.22 billion in profit for the fourth quarter, a 2% increase above the same period last year. This while Wall Street as a whole is having its performance in six years.

Goldman's success amid the industry's decline hasn't gone unnoticed. Even before Tuesday, skeptics have argued that Goldman's far-ranging influence in Washington and in the markets have helped the firm succeed at the expense of rivals.

Ben Stein, the actor, game-show host and economist, accused Goldman economists of "selling fear" and then shorting mortgage-backed securities. That resulted in gains that offset write-downs in the third quarter.

Fortune's Allan Sloan suggested that Goldman was well-aware that it was selling doomed MBSs because it was shorting those same securities at the same time. Sen. Christopher Dodd, D-Conn., has called for Goldman alumnus and Treasury Secretary Hank Paulson to answer complaints made by Stein and Sloan.

Expect the criticism to continue. Goldman shares have risen 15% over the past three months, while rivals' stocks have fallen nearly 10%. Goldman posted gains in every division Tuesday. Though the firm did not detail how much those controversial short positions contributed to the bottom line, the lack of significant write-downs stood out in comparison with other players' results.

And Tuesday's results are doing little to quiet talk that the game is fixed.

ECB Injects $500B into Euro Money Markets

The ECB injected $500B into the euro money markets which brought down the rates on euro loans through the end of the year. Or the banks should now have enough cash at reasonable rate to get them through the end of the year (accounting period). With all that said, the central banks in the UK and US have not had that level of luck yet. Text in bold is my emphasis. From Bloomberg:

The cost to borrow in euros through the end of the year plunged after the European Central Bank added an unprecedented $500 billion to the banking system as part of a global effort to ease gridlock in the credit market.

The amount banks charge each other for two-week loans in euros dropped a record 50 basis points to 4.45 percent, the European Banking Federation said today. The rate had soared 83 basis points in the past two weeks as banks anticipated a squeeze on credit through year-end.

``These are strong-arm tactics intended to show the market they're seriously committed to breaking the deadlock,'' said Marc Ostwald, a fixed-income strategist at Insinger De Beaufort SA in London. ``The ECB is helping to bankroll banks out of a problem that they themselves created.''

The decline may be a sign attempts by policy makers to revive interbank lending are succeeding.


The Federal Reserve announced last week the biggest coordinated central bank action since Sept. 11, 2001, amid concern surging money-market rates and estimates of $400 billion in losses linked to U.S. subprime mortgages will slow economic growth.

Until today, central bank measures have had little effect. The cost of borrowing in dollars for two weeks rose today even after the Fed held the first of four cash auctions yesterday. Two-week rates for U.K. pounds surged.

This ``doesn't address the fundamental issues of banks hoarding cash and while the central bank has succeeded in stabilizing the shorter-term rates, it makes little impact on the longer-term rates,'' said Lena Komileva, an economist at Tullet Prebon in London.

The ECB loaned a record 348.6 billion euros ($501.5 billion) for two weeks at 4.21 percent today, almost 170 billion euros more than it estimated was needed.

Bids were received from 390 banks, ranging from 4 percent to 4.45 percent, the ECB said today. The central bank first offered extra cash on Aug. 9, when it lent 95 billion euros of emergency funds. Banks also borrowed about 2.4 billion euros at 5 percent yesterday, the most since Sept. 26, the ECB said.

``Maybe this is the sign we've all been waiting for that a peak in Libor has been reached,'' said Patrick Jacq, a fixed- income strategist at BNP Paribas SA in Paris. ``It's a definite sign of an improvement in the market.''

The cost of borrowing in dollars for two weeks increased 1 basis point to 5.10 percent, the British Bankers' Association said today. The Fed yesterday offered $20 billion in one-month loans. The results will be announced tomorrow.

The corresponding rate for pounds soared 77 basis points to a record of 6.51 percent, the BBA said. Today is the first day that pound-denominated loans cover a borrower's commitments through the end of the year.

The Bank of England held the first of two special operations today, offering 10 billion pounds ($20 billion) of three-month cash. The cost of borrowing pounds for three months dropped 4 basis points to 6.39 percent, the fourth straight decline. That's still 89 basis points higher than the central bank's benchmark interest rate.

Central banks in the U.S., U.K., Canada, Switzerland and the euro region are responding to subprime mortgage-related losses at financial institutions including Citigroup Inc., Merrill Lynch & Co. and Bank of America Corp.

Goldman Sachs Group Inc. estimated last month losses related to record home foreclosures in the U.S. may be as high as $400 billion for financial companies. If accurate, banks, brokerages and hedge funds would need to cut lending by $2 trillion, triggering a ``substantial recession,'' the firm said.

U.S. corporate defaults probably will quadruple next year after the number of companies that lost their investment-grade credit ratings rose at the fastest pace since 2003, according to Moody's Investors Service.

The Home Builder Index is Unchanged Since October at its Lowest Level Ever

The bad news in the housing market continues with no let up. From CNNMoney:


A December reading of U.S. homebuilders' sentiment remained at a record low for the third straight month.

The National Association of Home Builders said Monday its housing market index, which gauges builders' perceptions of conditions and expectations for home sales over the next six months, came in at 19 in December. The number was at the lowest level since the index began in January 1985.

Index readings higher than 50 indicate positive sentiment. The seasonally adjusted index has been below 50 since May 2006, and declined for eight straight months this year, and has been unchanged since October.

Tighter lending standards, rising defaults among borrowers with weak credit and a sense of worry about the housing market's future have meant fewer buyers for hard-hit homebuilders.. . . . .

Many builders are "bracing themselves for the winter months when home buying traditionally slows, scaling down their inventories and repositioning themselves for the time when market conditions can support an upswing in building activity," David Seiders, the trade group's chief economist said in a statement.

Confidence dropped in the northeast, but inched up in the Midwest and South. It remained unchanged in western states.

Single Family Housing Starts and Permits are Down Again in November

For those that think things are going to turn around in 2009, it appears that we still have a long way to go. In addition with a declining economy in 2008 and tight credit markets it appears that any type of recovery in 2008 or 2009 is difficult to forecast. Text in bold is my emphasis. From Market Watch:

New construction of single-family homes slowed to the weakest pace in 16 years in November as U.S. residential builders scrambled to reduce their inventories of unsold homes, the Commerce Department reported Tuesday.

Starts of single-family homes fell 5.4% to a seasonally adjusted annual rate of 829,000, the lowest figure since April 1991. Building permits for single-family homes fell 5.6% to 764,000, also the lowest in 16 years.

"Building permits and housing starts showed no signs of ending their free fall in November," wrote Lou Crandall, chief economist for Wrightson ICAP.

"We look for starts to continue to slide in the months ahead and for pricing to erode further," wrote Joshua Shapiro, chief economist for MFR Inc.

Including a 0.6% increase in construction on multifamily housing, total starts fell 3.7% to an annual rate of 1.19 million . . . . Starts have fallen in four of the past five months. Starts are down 24% in the past year, while starts of single-family homes are down 35%. Single-family starts are down 55% from the peak in early 2006.

Meanwhile, authorized building permits fell 1.5% in November to a seasonally adjusted annual rate of 1.15 million, the lowest rate in 14 years. Permits have fallen six months in a row.

Single-family permits are down 34% in the past year, the biggest year-over-year decline since early 1991.

Construction of multifamily units has held up much better than that of single-family homes, as builders shift their resources to building rental units. Starts of buildings with more than five units are up 22% in the past year.

Housing completions dropped 4.1% to a seasonally adjusted annual rate of 1.34 million. Completions are off 29% in the past year.

The government cautions that housing data are volatile and subject to large sampling and other statistical errors. In most months, the government can't be sure whether starts increased or decreased. In November, for instance, the standard error for starts was plus or minus 10.1%. Large revisions of reported figures are common.


It can take four months for a new trend in housing starts to emerge from the data. In the past four months, housing starts have averaged 1.24 million annualized, down from 1.28 million in the four months ending in October.

Another Cartoon About the Housing Market

A friend of mine sent me this. Unfornately, I don't know where he got it from, because I would like to cite the author and source. None the less, funny but true.


Sunday, December 16, 2007

The Coordinated Injection of Cash into the Money Markets – A European View

The central banks of the US, the UK and the euro-zone have agreed to a cooridanted effort to maintain liquidity in the money markets (see previous post). The following is the European view of this move. Text in bold is my emphasis. From the UK Telegraph:

Desperate times call for drastic action, but in a double-edged battle, liquidity lubrication has its limit, writes Ambrose Evans-Pritchard

Never before have the central banks of North America, Europe, and Britain, acted together as such a unified phalanx, but never before have transatlantic credit markets seized up with such violent effect.

"This is a drastic action. The central banks want to place a fire-break to stop credit tensions spilling over into the broader markets and becoming the catalyst for a global economic crunch," said Ian Stannard, an economist at BNP Paribas.

While yesterday's joint move was sketched at the G20 a month ago, and fine-tuned in encrypted telephoned calls over the past month, the final trigger seems to have been the spike in the crucial three-month money rates that lubricate finance. Dollar and sterling Libor spreads have vaulted in recent days. Euribor spreads reached an all-time high of 99 yesterday morning.

"A co-ordinated move like this has the 'wow factor'," said Paul Mackel, currency strategist at HSBC. "But there's a lot of scepticism over whether this will be enough medicine to end the credit crisis. Is it already too late?"

Ben Bernanke, chairman of the US Federal Reserve, made his academic name studying the "credit channel" causes of depressions. He must have watched with growing alarm as the debt markets limped from one mini-crisis to another, failing to recover from their August heart attack despite three emergency rate cuts.

The asset-backed commercial paper market in the US has now shrunk for 17 weeks in a row, shedding almost $400bn (£196bn). Lenders are refusing to roll over short-term loans as they fall due, leaving borrowers desperately searching for other sources of money.

The crucial elements in the Fed's move yesterday is not so much the sum of money on offer - $20bn next week, $20bn the week after - but that all depository banks in America can draw from the tap anonymously, without the risk of being found out.


"People looked at what happened to Northern Rock in Britain and said we're not going to risk that, so hardly anybody has been using the Fed facilities," said Bernard Connolly, global strategist at Banque AIG.

The Fed is now spreading the net wider by allowing all US banks to use the Term Auction Facility, which offers secrecy and allows them to hand in a much wider set of investments as collateral to raise money, including mortgage securities. Perhaps some credit will at last reach those in urgent need.

The Bank of England's £20bn injection over the next two months has a different flavour. It fires a double-barrelled dose of liquidity: priced by auction at far below the penal rate of 6.5pc, and eligible to any lender with half-decent collateral and - crucially - securities backed by housing and credit card debt. Northern Rock might have escaped a deposit run if all this had been on offer in the summer.

Officials denied the worldwide action was orchestrated to pressure the Bank of England to open its credit spigot, giving Threadneedle Street global "cover" for what amounts to a major volte-face. The Fed vice chairman, Donald Kohn, said two weeks ago that "strong bids by foreign banks in the dollar-funding markets" had complicated efforts by the US authorities to manage the liquidity problems. It is unclear whether British lenders were the culprits.

In Frankfurt, officials are seething at the enormous scale of borrowing by British banks at the European Central Bank's window, calling much of it "central bank arbitrage". There is irritation the British are trying to have their cake and eat it, dipping in and out of the eurozone when it pleases them. The bad blood has undoubtedly strengthened the push by EU insiders for more EU-wide financial rules.

The ECB ($20bn) and the Swiss National Bank ($4bn) are playing a support-role in the latest joint action, backing the US move by offering dollar liquidity to European banks caught in the sub-prime mess. Part of the problem in August was that the Fed and ECB lacked swap arrangements, causing a mad scramble by European banks to obtain dollars. "The Europeans are acting simply as agents of the Fed," said Neil MacKinnon, a strategist at the ECU hedge fund group.

"There's a real danger that this may not work. Both the Fed and the ECB have injected a lot of liquidity before, but the banks are hoarding it. We're still seeing all the signs of stress with Libor and the VIX [fear gauge] at very elevated levels. The reason is that people still don't know where the bodies are buried," he said. "This may be a Made-in-America credit crisis but the Americans have cleverly exported their sub-prime cancer to pension funds all over the world. The risk now is a recession on both sides of the Atlantic," he said.

Julian Jessop, chief economist at Capital Economics, said the move was stop-gap measure. "These measures should tide the markets through the potentially awkward New Year period but do not and cannot address the underlying imbalances threatening the world economy. Risk premiums are likely to remain permanently higher after the excesses of the last few years, and it will still be harder to obtain credit," he said.

For now, investors and hedge funds are scrambling to buy risky assets again, renewing bets on the yen ''carry trade", piling back into equities and pushing up commodity futures. Gold jumped $12 to $814 an ounce. They forget that central banks are having to fight two battles at once: against the credit crunch and against inflation. The liquidity rescue has its limits.

Weekend Contemplation #2 – Ben Bernanke – Expert on the Great Depression

For those of you that may not be aware, most of Ben Bernanke’s academic career was spent studying and understanding the Great Depression (see Amazon.com). I was aware of this about the time of his appointment so I always wondered if this is one of the reasons he was selected to head of the Fed. Text in bold is my emphasis. From the UK Telegraph:

The co-ordinated move by five central banks to shore up confidence in the world’s frozen money markets is not the first piece of international co-operation to fend off a financial crisis.

There have been several combined efforts in the currency markets, such as the 1985 Plaza accord when five governments agreed to push the dollar lower to reduce America’s current account deficit and lift the world’s largest economy out of the recession of the early 1980s.

It is, however, one of the biggest joint efforts so far, and the first major intervention of its kind since the September 11 terrorist attacks in 2001. The simultaneous initiative was designed to have maximum impact, to be greater than its parts, which are in fact quite different local initiatives.

The scale of the cash injections – up to $24bn (£11.7bn) in Europe and up to $80bn in the US – is not huge in the context of the hundreds of billions of dollars that have evaporated since the sub-prime crisis broke in the summer, but the presentation of a united front by central bankers on both sides of the Atlantic has symbolic importance.

Although there are no real historical precedents for this type of joint action, the need for central banks to pull together has its genesis in the financial crises that punctuated the last century.

It is no coincidence the collaborative effort should have been co-ordinated by Fed chairman Ben Bernanke, who has devoted much of his professional life to a study of the causes of the Great Depression. No head of the Federal Reserve has had such a keen sense of history.

The lesson from the Depression for Bernanke is that the falling value of assets such as housing and a weakened banking sector pose a significant threat to the economy. Between 1929 and 1933, US economic output fell by 30pc, unemployment rose to 25pc and thousands of banks failed. Prices fell 10pc a year as America slipped into a deflationary spiral.

Aware of the terrible toll of the Depression, Bernanke has always been open to creative and original responses to financial crises. Sometimes this has opened him up to criticism – for example, in 2002 when he said the Fed could always print money to fight deflation. He once wrote that President Franklin Roosevelt’s biggest contribution to ending the Depression was “his willingness to be aggressive and to experiment”.

In 1998, Federal Reserve chairman Alan Greenspan intervened to organise a rescue of Long Term Capital Management, a hedge fund set up by nobel prize-winning economists that blew up in the face of that year’s Asian financial crisis.

Three years later, central banks on both sides of the Atlantic agreed similar currency swap lines to yesterday’s to prevent a seizure of the system in the wake of the terrorist attacks in New York and Washington.

The jury is out on whether this intervention will be successful. Julian Jessop, chief international economist at Capital Economics, concludes: “Risk premia are likely to remain permanently higher after the excesses of the last few years. The world economy is still facing a marked US-led slowdown in 2008.”

This Weekend’s Contemplation – Bank Illiquidity or Insolvenscy

Paul Krugman maintains that the issue in the financial industry may be insolvency and is not a liquidity issue. Text in bold is my emphasis. From the NY Times:

On Wednesday, the Federal Reserve announced plans to lend $40 billion to banks. By my count, it’s the fourth high-profile attempt to rescue the financial system since things started falling apart about five months ago. Maybe this one will do the trick, but I wouldn’t count on it.

In past financial crises — the stock market crash of 1987, the aftermath of Russia’s default in 1998 — the Fed has been able to wave its magic wand and make market turmoil disappear. But this time the magic isn’t working.

Why not? Because the problem with the markets isn’t just a lack of liquidity — there’s also a fundamental problem of solvency.

Let me explain the difference with a hypothetical example.

Suppose that there’s a nasty rumor about the First Bank of Pottersville: people say that the bank made a huge loan to the president’s brother-in-law, who squandered the money on a failed business venture.

Even if the rumor is false, it can break the bank. If everyone, believing that the bank is about to go bust, demands their money out at the same time, the bank would have to raise cash by selling off assets at fire-sale prices — and it may indeed go bust even though it didn’t really make that bum loan.

And because loss of confidence can be a self-fulfilling prophecy, even depositors who don’t believe the rumor would join in the bank run, trying to get their money out while they can.

But the Fed can come to the rescue. If the rumor is false, the bank has enough assets to cover its debts; all it lacks is liquidity — the ability to raise cash on short notice. And the Fed can solve that problem by giving the bank a temporary loan, tiding it over until things calm down.

Matters are very different, however, if the rumor is true: the bank really did make a big bad loan. Then the problem isn’t how to restore confidence; it’s how to deal with the fact that the bank is really, truly insolvent, that is, busted.

My story about a basically sound bank beset by a crisis of confidence, which can be rescued with a temporary loan from the Fed, is more or less what happened to the financial system as a whole in 1998. Russia’s default led to the collapse of the giant hedge fund Long Term Capital Management, and for a few weeks there was panic in the markets.

But when all was said and done, not that much money had been lost; a temporary expansion of credit by the Fed gave everyone time to regain their nerve, and the crisis soon passed.
In August, the Fed tried again to do what it did in 1998, and at first it seemed to work. But then the crisis of confidence came back, worse than ever. And the reason is that this time the financial system — both banks and, probably even more important, nonbank financial institutions — made a lot of loans that are likely to go very, very bad.


It’s easy to get lost in the details of subprime mortgages, resets, collateralized debt obligations, and so on. But there are two important facts that may give you a sense of just how big the problem is.

First, we had an enormous housing bubble in the middle of this decade. To restore a historically normal ratio of housing prices to rents or incomes, average home prices would have to fall about 30 percent from their current levels.

Second, there was a tremendous amount of borrowing into the bubble, as new home buyers purchased houses with little or no money down, and as people who already owned houses refinanced their mortgages as a way of converting rising home prices into cash.

As home prices come back down to earth, many of these borrowers will find themselves with negative equity — owing more than their houses are worth. Negative equity, in turn, often leads to foreclosures and big losses for lenders.

And the numbers are huge. The financial blog Calculated Risk, using data from First American CoreLogic, estimates that if home prices fall 20 percent there will be 13.7 million homeowners with negative equity. If prices fall 30 percent, that number would rise to more than 20 million.

That translates into a lot of losses, and explains why liquidity has dried up. What’s going on in the markets isn’t an irrational panic. It’s a wholly rational panic, because there’s a lot of bad debt out there, and you don’t know how much of that bad debt is held by the guy who wants to borrow your money.

How will it all end? Markets won’t start functioning normally until investors are reasonably sure that they know where the bodies — I mean, the bad debts — are buried. And that probably won’t happen until house prices have finished falling and financial institutions have come clean about all their losses. All of this will probably take years.

Meanwhile, anyone who expects the Fed or anyone else to come up with a plan that makes this financial crisis just go away will be sorely disappointed.

Friday, December 14, 2007

Credit Cards May Be Next

Credit card debt has been a good source of revenue and low losses for banks since the onset of the mortgage crisis. The question on everyone’s mind is when will problems in this portion of the financial industry begin to increase. Test in bold is my emphasis. From Business Week:

When the housing bust hurt consumer spending this year, plastic came to the rescue. Stung by unwise mortgage lending (BusinessWeek, 12/11/07), banks stepped up credit-card marketing, convinced that plastic was a lower-risk, higher-margin business. Increased card borrowing helped consumer spending rise at a surprisingly fast 2.7% pace in the third quarter.

But this contribution to economic growth may not last. There are early signs that card issuers may need to cut back on their free-lending ways after the holiday shopping season. Delinquency rates on cards have spiked in markets such as Detroit and Las Vegas, where housing prices have fallen the most, according to Equifax and Moody's Economy.com—a warning to card lenders that they aren't insulated from the housing bust. Buyers of card-backed securities—the industry's prime source of capital—are suddenly demanding higher returns. In a possible hint of things to come, Discover Financial Services announced on Dec. 3 a $442 million writedown on its Goldfish credit-card business in Britain.

For now, mailboxes are still stuffed with card offers. Nationally the delinquency rate on credit cards remains low, and banks that issue cards to subprime borrowers were still "going guns blazing" through the third quarter, says Andrew Davidson, vice-president for competitive tracking services at market researcher Synovate, a unit of London-based marketer Aegis.

But things can shift quickly, since card issuers have quite a bit of freedom to raise rates or cut credit limits on existing accounts. On Dec. 4 executives from Discover and Capital One, two of the largest issuers, went before a Senate subcommittee and defended their right to raise rates for a variety of reasons, including a change in economic and financial market conditions—even if the borrowers haven't missed a single payment.

Under pressure from regulators and consumer advocates, major card issuers are moving toward giving customers more notice before a rate change. But realistically the main thing holding issuers back from tightening credit is the fear of losing a customer. If all issuers tighten, that would cease to be an impediment. Dennis Moroney, a senior analyst at TowerGroup, a research firm owned by MasterCard Worldwide, says issuers aren't cracking down during the holiday shopping season but may well do so selectively, mainly in the subprime sector, in January and February.

Market turmoil could make it more expensive and difficult for issuers to fund their operations. So far, credit-card companies have found ready buyers for their securities, which are backed by the flow of payments from cardholders. But investors are demanding higher yields. Until August, yields on three-year, fixed-rate, AAA-rated credit-card securities were a tiny bit below its benchmark, the three-year interest-rate swap rate. But in August they shot up to 0.4 percentage points above the swap rate. After retreating briefly, the spread rose again in late November, to its highest level yet—0.45 percentage points.

These credit-card securities aren't structured like the mortgage-backed securities that blew up recently, but there are enough similarities to be worrisome. Already-skittish investors could require even higher yields if default rates unexpectedly jump. Combine that with issuers' flexibility to quickly change terms and credit could tighten abruptly—especially for the most vulnerable customers.

The Producer Price Index is Up in October at the Fastest Rate Since 1973


Admittedly the Producer Price Index (PPI) is very volatile on a monthly basis, but the largest increase since 1973 is a bit worrisome (see graph below). The main driver is, of course, energy. The current economy feels in part like the economy of the 1970s. Test in bold is my emphasis. From the WSJ:

Producer prices rose last month at their fastest rate since 1973, underscoring why inflation remains a concern for the Federal Reserve, even as it grapples for ways to ease the credit crunch and avert a recession.

The Labor Department reported that producer prices jumped a seasonally adjusted 3.2% in November, as gasoline prices soared 35%. Prices excluding food and energy -- the inflation gauge followed more closely by economists and the Fed -- rose 0.4%. (Hmmm. Does not that mean there is no inflation except for those things where prices are going up?)

Producer prices, which reflect inflation at the wholesale level, are known for their volatility, especially on a monthly basis. Over the past year, they have risen 7.2% -- far less than the double-digit increases of the 1970s. Other factors continue to point to inflation risks, including the weakening of the dollar, which makes imports costlier, and proliferating reports of price increases by makers of food and other products. . . . .

. . . . . In the past few days, critics have lambasted the Fed for not being more aggressive in bolstering the economy. On Tuesday, the central bank cut interest rates by a quarter percentage point, and on Wednesday, it took other steps to encourage bank lending.

But some economists said the producer-price data -- and a separate report yesterday showing that November retail sales rose a strong 1.2% -- put the Fed action in a new light.

J.P. Morgan economist Michael Feroli said people who had accused the Fed of being "clueless" and "way behind the curve" now may realize that "growth is pretty resilient, and inflation isn't a nonissue."

When it cut rates Tuesday, the Fed said economic growth was slowing but also noted that high energy prices indicated that "some inflation risks remain."

Citigroup to Take $49B Worth of SIVs on to Their Balance Sheet

Citigroup decided to bring $49B in SIVs on to their balance sheet. This is going to cause problems with their Tier1 capital and possibly dividends. Does not mean that the big-bank bailout fund, formerly known as M-LEC is not going to proceed? Sounds to me like it couldn’t get off the ground. Text in bold is my emphasis. From the WSJ:

Citigroup Inc., bruised by mounting losses, is bailing out seven affiliated investment entities, bringing $49 billion in assets onto its balance sheet and further denting its depleted capital base.

The big New York bank said it would provide emergency support to the entities -- known as structured-investment vehicles -- if it can't find buyers for their short- and medium-term debt. SIVs, which often hold mortgage-backed securities, have come under intense scrutiny in the past several months as nervous investors have balked at buying the short-term debt known as commercial paper that provides critical funding to the vehicles.


While Citigroup's action may ease uncertainty about the future of its SIVs, it may be the death knell for an industrywide effort to create a rescue fund for the struggling vehicles.

Since September, Citigroup, B of A and J P Morgan Chase have been working to set up the fund, at the behest of the Treasury Department. But interest in the rescue fund has waned in recent weeks as several banks concluded they couldn't wait for it to get up and running, and decided to bail out their own SIVs.

Citigroup's decision to follow suit underscores how quickly Vikram Pandit, who was named Citigroup's chief executive Tuesday, is moving to tackle the many problems facing the bank. Just two days into his tenure, Mr. Pandit decided to reverse repeated assurances by Citigroup executives that the SIVs would stay off the bank's books.

The bank's action could help relieve some of the anxiety in credit markets by removing the threat that the SIVs would be forced into selling assets at fire-sale prices.

The depth of the mortgage and credit crises, and the risk to the economy, have stirred the Bush administration and Federal Reserve to action, but their efforts have had little success so far in thawing frozen credit markets. Helping to organize the so-called super-SIV rescue fund was one of Treasury Secretary Henry Paulson's first responses to the market turmoil, and was controversial from the start, with some critics saying it essentially represented a bailout for the SIV industry. The banks involved dismissed that notion, saying that it would merely provide one more option for SIVs that were in trouble.

Mr. Paulson's other major initiatives include an effort to prod mortgage-servicing companies to ease the terms of certain mortgages that would otherwise jump to much higher interest rates over the next year and an as-yet unsuccessful effort to persuade Congress to adopt changes in the Federal Housing Administration.

The Fed, meanwhile, has cut its target for short-term interest rates by a full percentage point since early August and this week launched, in concert with central banks in other countries, a new strategy to encourage banks to borrow more from the Fed and lend more readily to each other. . . .

. . . .Yesterday, Mr. Pandit also named the bank's finance chief to head a broad cost-cutting initiative that could result in the elimination of thousands of jobs. Many investors are hoping he takes more radical steps, including breaking up the financial conglomerate. . . . .

. . . . Citigroup's key Tier 1 capital ratio -- a gauge of the bank's ability to absorb huge losses -- stood at about 7.3% as of Sept. 30. Citigroup said that the SIV assets could reduce that ratio by another 16 basis points. That would push it even further below the company's internal target level of 7.5%, although it will remain above regulatory requirements.

To be sure, Citigroup remains fairly well-supplied with capital: federal regulators require a bank to have a Tier 1 ratio of 4%. A bank with a ratio of 6% or higher is considered to be well-capitalized.

While Citigroup said it still expects its capital levels to bounce back by next summer, its reduced capital ratio may put pressure on the bank to cut its dividend or take other steps to protect its capital position, such as bringing in another outside investor. A Citigroup spokeswoman declined to comment on possible dividend cuts or capital-raising plans. . . . .


. . . . Citigroup is the largest player in the SIV market, which was valued at about $350 billion at the start of the credit crunch. Just a few months ago, the bank was boasting to investors that its SIVs had nearly $100 billion in assets. "Citi's SIVs remain robust and their asset portfolios are performing well," said a letter from Paul Stephens and Richard Burrows, directors in Citigroup's London-based group that oversees the bank's SIVs.

Although the move will hurt Citigroup's capital ratios, it could take pressure off the wider commercial paper market. Until now, debt investors have feared that a fire-sale of assets held by SIVs would undercut prices for a host of debt instruments. That caused investors to demand higher rates from all kinds of financing vehicles that sell commercial paper. These vehicles, called conduits, provide much-needed financing to companies by purchasing assets such as receivables, credit card debt and auto loans.

Citigroup isn't pledging to immediately take assets off the hands of the seven SIVs it sponsors, but providing them with a backstop may give investors confidence that losses are less likely from commercial paper and medium-term notes issued by the vehicles. Indeed, Citigroup said that it expects the SIVs to continue selling assets, and it doesn't expect to have to make good on its pledge to provide funding.

Since the credit crunch began, SIVs have been forced to sell assets in order to pay off maturing debt. The vehicles, which were created to operate separately from the banks and stay off their balance sheets, issue short-term debt to investors and use the funds to buy higher-yielding assets. The business model only works if SIVs can keep issuing new debt as old borrowings come due, and it fell apart as the subprime mortgage meltdown accelerated this summer. . . . .

. . . . . Citigroup said the SIVs that it sponsors currently have $49 billion in assets, down from $66 billion two weeks ago and $87 billion in August. Like other banks, Citigroup has been selling assets to ease pressure on the vehicles. Already banks like HSBC Holdings PLC in the United Kingdom have taken similar actions to support their SIVs, further reducing the need for a super fund.

Citigroup's action leaves two major financial firms that haven't yet taken steps to restructure their SIV debt: Germany's Dresdner Bank, a unit of Allianz SE, and BMO Financial Group and its Bank of Montreal unit. Allianz said on Nov. 9 that there was no plan to bring assets held by Dresdner's SIV, K2 Corp., onto its balance sheet. A Bank of Montreal spokesman couldn't be reached for comment.

Citigroup's move is surprising because the bank made it clear in its most recent filing with the Securities and Exchange Commission that it had "no contractual obligation" to provide full support to any of its SIVs. In addition, Citigroup said it "will not take actions that will require the company to consolidate the SIVs." Citigroup previously had agreed to provide up to $10 billion as emergency support to its SIVS. The SIVS had drawn down $7.9 billion of that as of Sept. 30.

In making yesterday's decision, Citigroup cited recent moves by credit-rating agencies that threatened to make the SIV problem worse. Late last month, Moody's Investors Service downgraded or put on review debt totaling $119 billion that was sold by SIVs. A Moody's report at the time spotlighted problems that Citigroup faced as Moody's downgraded or put on review for possible downgrade $64.9 billion issued by six Citigroup SIVs.

Thursday, December 13, 2007

Thursday Morning Rant

Many of you have noticed by now that I seldom if ever talk about politics. This is because I believe that “money talks, everything else walks”. If you want to understand motivation in business (or sometimes government) just follow the money. With politics, the real motivation is cloaked in double-talk, fabrications, lies, etc. Case in point is the Bush-Paulson subprime mortgage bail-out plan. Ultimately who are they trying to help.

I could not believe my ears the other day when I heard that that Republican candidate Mike Huckabee questioned the tenets of faith of Mormons. From CBS News:

Republican presidential hopeful Mike Huckabee, an ordained Southern Baptist minister, asks in an upcoming article, "Don't Mormons believe that Jesus and the devil are brothers?"

First let me tell you what I know about Mike Huckabee and the tenets of the Mormon faith.

Mike Huckabee (I heard all of this on the radio. I assume that it is true, but I don't actually know.):

1. He is from Hope, Arkansas, where Bill Clinton is from.
2. He lost 110 pounds
3. He does not believe in evolution.

Tenets of the Mormon faith:

1. Virtually nothing.

In light of the economic and financial crisis, not to mention all the other crises the US and the world faces, why would this question even enter the realm of serious argumentation, except as a low blow on Romney. That is why I do not take politics and politicians seriously.

Considering his lack of belief in evolution, my hope is that Mike Huckabee is “naturally selected” to no longer run for President as part of the primary process
. We need serious candidates to run for President, not people, who in the big world of crises and ideas, take cheap shots.

The Risk of Sovereign Wealth Funds

When someone gives you money, either buys an equity position, lends you money, or just gives it to you out right, you should always look for the string. Few people give you something out of the goodness of their heart. Text in black is my emphasis. From the WSJ:

Abu Dhabi's sovereign-wealth fund invests $7.5 billion in Citigroup, the largest U.S. bank. Singapore's sinks $9.72 billion into UBS, the big Swiss bank. China puts $3 billion into U.S. private-equity giant Blackstone Group.

Good or bad? Short answer: Yes.

It is awkward, to say the least, for the West to complain when Asian and Middle Eastern government-owned investment pools shore up capital-starved banks that are vital to the world economy. It is like running out of gasoline in the middle of nowhere and being picky about who drives by with spare fuel. And the U.S. economy needs about $2 billion every day from foreigners to keep it going. It gets this money by borrowing or by selling off chunks of assets like Citigroup or Bear Stearns.

Even without counting the vast reserves of Asian central banks, sovereign-wealth funds, or SWFs -- an abbreviation once more common to personal ads than news columns -- today have about $3 trillion in assets and are on their way to $12 trillion by some estimates. They are bigger than hedge funds and private-equity firms combined, though those outfits magnify their clout with lots of borrowed money. And they pose at least three risks:

The first worry is backlash. Americans, with some trepidation, accept foreign investment in the U.S. -- especially when it comes in the form of jobs making Toyotas or price-reducing competition for cellphone service from Germany's T-Mobile. But the 2006 explosion over the proposed purchase by Dubai Ports World of operations of several U.S. ports single-handedly raised barriers for foreign direct investment around the world. It is a reminder how much anxiety there is about globalization and how quickly politicians can respond.

The specter of undemocratic governments buying up whole U.S. companies, or stakes large enough to have a big influence, is red meat to xenophobes and protectionists. "For America to address one problem -- the special concerns that arise from government ownership of business -- with another one -- betraying our commitment to open markets -- would only result in more government interference in our own markets," the chairman of the Securities and Exchange Commission, Christopher Cox, warned in a speech earlier this month. No wonder U.S. officials are pleading with SWFs to subscribe to some sort of code of conduct.

The second worry is both economic and political. When Cerberus Capital Management, a private-equity firm, swallows Chrysler, there is one certainty: It's in it for the money. Private-equity firms buy low and sell high; that is what capitalism and markets are all about. One big worry about the SWFs is that they might not be in it just for the money.

"The fundamental question presented by state-owned public companies and sovereign-wealth funds," Mr. Cox said, "does not so much concern the advisability of foreign ownership, but rather of government ownership." (Mr. Cox's concerns extend beyond SWFs. Eight of the 20 largest publicly traded companies in the world are state-controlled, he observed.)
It would be ironic if a long period of privatization of government-owned companies from France to China, which clearly helps make them more efficient and productive, came to an end with cross-border renationalization.


"The logic of the capitalist system," former U.S. Treasury Secretary Lawrence Summers has said, "depends on shareholders causing companies to act so as to maximize the value of their asserts. It is far from obvious that this will over time be the only motivation of governments as shareholders."

Is the government of Russia's Vladimir Putin (with an SWF of $150 billion and growing) really going to act like the managers of Harvard University's endowment? A private Saudi investor with a 5% stake in Citigroup helped oust a chief executive. Can we be sure an oil-producing government with a 5% stake won't seek to influence the bank's willingness to lend to finance alternatives to oil? "What about the day," Mr. Summers asked, "when a country joins some 'coalition of the willing' and asks the U.S. president to support a tax break for a company in which it has invested?"

The third worry is klutziness. When really big investors make really big mistakes, the consequences rarely fall only on the investors.

The world economy is shuddering from the mistake that very large, sophisticated investors and lenders made in buying securities linked to mortgages.

The best, oldest SWFs are at least as shrewd as Citigroup, UBS and Merrill Lynch, and that is scary enough. The new ones, swollen with oil revenues or proceeds of currency-market dealings, are like teenagers with more inherited wealth than they can handle.

They will grow up eventually, but you wouldn't want them gambling with the world economy before they are ready.

Wow – It Looks Like Borrowing is Becoming a Privilege and Not a Right, Again!

For those of us brought up in the old days of banking (prior to the 1990s) there was an expression, “borrowing is a privilege and not a right”. It looks like those days are returning. Or it looks like the recent period (since the 1990s) when there were basically very small risk premiums is over. How ever you like to describe the current situation, it looks like the good ‘ole days of lending are back. Personally, it is good for people to understand that the game of "real" life is played with live ammunition and there are consequences for your actions. Maybe people will now understand that a house is not an investment, but a place to live. Now with all that said, this is really going to choke off demand for housing. Text in bold is my emphasis. From the Washington Post:

Call it the credit risk hangover after the housing boom binge. Home buyers and refinancers who cannot come up with sizable down payments and whose FICO credit scores are below 680 are about to get squeezed in the mortgage market.

Fannie Mae and Freddie Mac are imposing significant increases in fees for a range of borrowers with down payments of less than 30 percent who formerly were treated as "prime" credit applicants. At the same time, the two largest private mortgage insurers -- MGIC and PMI Group -- are raising premiums on consumers who have low down payments and scores in the mid- to upper 600s on the FICO scale developed by Fair Issac Corp. The added costs for some home buyers could total thousands of dollars, either at settlement or in the form of higher interest rates.

Each company says it has experienced unexpectedly high losses on loans with these characteristics and must revise prices upward to handle the elevated risks. But some mortgage bankers and brokers say the higher costs and down payments will make homeownership impossible or very difficult for a large number of borrowers and will slow a housing market recovery.


Although Fannie Mae's and Freddie Mac's revised fees won't take effect until March 1, major lenders who sell loans to the two investors began imposing the surcharges on applicants this month. Some mortgage loan officers are upset that clients with FICO scores close to 700 -- far above the once-traditional 620 cutoff point between "prime" and "subprime" -- are being charged more.

"This is outrageous," said Steven Moore, a mortgage broker with 1st Solution Mortgage in Falls Church. "On a loan of $300,000 and with a credit score of 675 -- which is not a bad score -- and a 75 percent loan-to-value ratio (25 percent down payment), the cost is an additional $2,250 per loan." If the same borrower wants to do a cash-out refinancing to consolidate debt, the new Fannie-Freddie fee schedule will add another $1,500 to total costs on a $300,000 mortgage, Moore said. On a $400,000 loan, he estimates the extra fees would total $5,000. (Wow, I guess that means your house is not an AYM machine, what a novel idea.)

Under previous standards, applicants with scores comfortably above 620 "could reasonably assume" they would qualify for a good rate, Lipes said. "But now we've got this whole new gray area between 620 and 680" under the revised Fannie/Freddie risk-based pricing guidelines. Joint applicants for whom one spouse or partner has a FICO score below the new guidelines will need to take special care, according to Lipes, so as not to trigger higher credit-risk fees.

Here's a quick overview of the new policies from Fannie and Freddie affecting loan applications in which the down payment amount is less than 30 percent: If the borrower's credit score is less than 620, a new 2 percent fee will be imposed. If the score is between 620 and 639, the surcharge will be 1 3/4 percent. If it is between 640 and 659, the add-on will be 1 1/4 percent. On scores between 660 and 679, the surcharge will be three-fourths of a percent.

According to mortgage banker Lipes, if applicants choose to roll the higher fees into the interest rate on the mortgage, the new Fannie/Freddie charges generally will increase rates by one-eighth to one-half of 1 percent.

The MGIC mortgage insurance premium increases, which were scheduled to be announced yesterday, are expected to have the heaviest impacts on borrowers making down payments of less than 3 percent and whose FICO scores are below 660, according to company officials. On such loans, MGIC is expected to raise premiums to 1.7 percent per $100,000 of the loan amount, up from a premium of 0.96 percent. On a $200,000 mortgage, that would raise the annual premiums from $1,920 to $3,400.

PMI Group's increased premiums, which have already taken effect, are similar, but the company also announced that it would no longer insure any mortgages for which the down payment is less than 5 percent and the borrower's FICO score is below 620.

Another Sign That Things are Not Going Well in “Lending Land”

Instead of mortgages this lending problem is occurring in student loans. Writedowns are up 112% in the third quarter compared to the same period last year. Just remember there is no spillover into other lending areas, or so says the Fed and other groups. From CNNMoney:

Student lender Sallie Mae on Wednesday slashed its profit forecast for the fourth quarter and all of 2008, as it hoards cash to offset bad loans and faces reduced federal subsidies.

The company also said it failed to renegotiate a buyout with an investor group that balked several months ago at its original $25 billion cash offer for Sallie, the nation's largest student lender. The investor group, led by private-equity firm J.C. Flowers & Co., "does not wish to pursue these opportunities," Sallie, formally known as SLM Corp., said in a press release.

Sallie and the group have been feuding for months over terms of what would be one of the world's largest private-equity takeover deals, and the dispute has landed in court. The group maintains that a "material adverse effect" has occurred, and therefore it should not have to pay a $900 million breakup fee.

The investors argue that student-loan legislation that has reduced federal subsidies since Oct. 1, and weaker economic conditions, have had a significant negative impact on Sallie, justifying the cancellation of the deal agreed upon in April.

In the third quarter, Sallie wrote off $142.6 million for borrowers missing payments on student loans, more than doubling the $67.2 million writedown of a year earlier.

The Result of the Coordinated Efforts of the Central Banks to Increase Liquidity

This post meshes well with the post below concerning the coordinated efforts by the central banks to increase liquidity in euro-dominated money markets. Text is bold is my emphasis. From Bloomberg:

Interest rates on loans in euros stayed at a seven-year high, a day after global central banks teamed up in an attempt to thaw a freeze in money markets.

The three-month borrowing cost was at 4.95 percent, its highest level since December 2000, according to prices from the European Banking Federation today. That's 95 basis points more than the European Central Bank's benchmark interest rate and up from 4.18 percent at the start of July, before losses related to subprime mortgages contaminated money markets.

Policy makers in the U.S., U.K., Canada, Switzerland and the euro region agreed to the first coordinated action since the Sept. 11, 2001, terrorist attacks. The Federal Reserve said it will make $24 billion available to increase the supply of dollars into Europe. Banks have reported more than $66 billion in losses linked to U.S. subprime mortgages this year.

``It's not going to help us find an exit to this crisis,'' said Cyril Beuzit, head of interest-rate strategy at BNP Paribas SA in London. ``These measures aren't going to address the root cause of the crisis. Banks are still reluctant to lend money to each other because there are serious concerns about potential further bad news.''

The euro levels suggest that money-market rates for the dollar and pound, which will be set by the British Bankers' Association later, won't decline.

``It's a very disturbing sign,'' said Christoph Rieger, a fixed-income strategist at Dresdner Kleinwort in Frankfurt. ``I'm alarmed by the impact this is having, which underscores that the funding difficulties out there are enormous.''

The U.S. central bank also plans four auctions that will add as much as $40 billion. The Bank of England said it would widen the range of collateral it will accept on three-month loans.

``It's a wake-up call for the global economy,'' Brown told lawmakers in Parliament in London today. ``The existing institutions aren't good enough. I'm going to make it my business to reform those institutions.''

(This last comment is interesting. I have thought for some time that the current credit crisis would lead to changes on how investment banks, commmercial banks, and governement agencies interact. Personally, the changes that will occur will be fairly significant, because the one thing that governments have learned in the most recent crisis is that there are holes in their jurisdiction of certain financial institutions, for example, mortgage companies, rating agnecies, etc.)

Fed Has Two Goals for Economy Obtain Moderate Growth and Easing the Strain on the Credit Markets

The Fed has gone down two separate tracks with their current money policy. The purpose of the Fed Funds rate cuts is to obtain moderate growth in the economy. The coordinated efforts with other central banks for injecting cash into the credit markets is to take some of the strain off the credit markets.

I am not sure if the latter move for the credit markets will work. The issue is not liquidity, but trust. One way a banker looks at his profit for other to other banks, especially if mortgage related securities are taken as collateral is by using risk adjusted margin (RAM):

RAM = Revenue – cost of funds – losses

To a banker the cost of funds is a fixed cost. Therefore, the only way to increase your RAM is to minimize losses or increase revenues. So you bump your interest rates (revenue to you) on your loans to other banks to compensate for higher than expected losses.

The central banks are trying to increase liquidity in the credit markets by lowering the cost of funds, but this does not effect their fear losses, so the market remain stuck. Text in bold is my emphasis. From Bloomberg:

The Federal Reserve's coordinated response to the global credit crisis is aimed more at easing strains in financial markets than at averting an economic slump.

The Fed, along with central banks in Europe, pledged yesterday to offer as much as $64 billion to financial institutions. The joint action is designed to break a logjam in money markets that pushed up borrowing costs for lenders worldwide.

Fed officials told reporters that they view yesterday's intervention as distinct from their interest-rate policy, which they anticipate will promote ``moderate'' growth next year. By attempting to keep the two tracks separate, economists said, policy makers are gambling that they will be able to avert a recession that would force them into deeper rate cuts than would otherwise be the case.

While ``this is a positive step for central banks to address the liquidity issues in the markets,'' said Richard Berner, the chief U.S. economist at Morgan Stanley in New York, ``it doesn't change my view of where the economy is headed.'' . . . .

. . . . .The Fed plans two auctions of funds to banks this month, totaling up to $40 billion. The step is in addition to the daily injection of money to bond dealers through repurchase agreements, and the backstop of direct loans to banks.

U.S. central bankers also will make as much as $20 billion available to the European Central Bank and $4 billion to the Swiss National Bank to ease demand for dollars among banks in Europe.

Fed officials discussed setting up auctions of so-called term funds in September as credit markets deteriorated. After the Sept. 18 half-point rate cut, bank funding costs receded and policy makers shelved the idea. When strains reemerged in November, the Fed looked again at the possibility.


U.S. and European officials then discussed steps to reduce bank funding costs when they met Nov. 17-18 near Cape Town in a gathering of the Group of 20, a Bank of England spokesman said yesterday. U.K. central bank Governor Mervyn King and his counterparts intensified their exchanges last week, he said.

Vice Chairman Donald Kohn and other officials said last month they were frustrated that three reductions in the discount rate hadn't encouraged banks to make more use of direct loans. Kohn said Nov. 28 in New York the Fed needed to ``give some thought'' to how it provided liquidity.

The Fed will also hold two auctions of term funds in January, deciding later whether to make them permanent.

``It's the right kind of thing, but I don't know if it's large enough or properly directed to make a difference,'' said Jerry Webman, head of fixed income in New York at OppenheimerFunds Inc., which manages about $220 billion. ``Money just isn't moving. Banks don't appear to be able to get a hold of reasonably priced funding.''

The three-month dollar London Interbank Offered Rate, a benchmark for borrowing, climbed as high as 5.15 percent last week from 4.87 percent a month before. The rate dropped to 5.06 percent yesterday.

Odds of further rate cuts rose. The chance of a quarter-point reduction of the benchmark rate to 4 percent at the Jan. 29-30 meeting reached 98 percent, from 94 percent Dec. 11, according to futures quoted on the Chicago Board of Trade.

Yesterday's step is ``not a game changer,'' said Tony Crescenzi, chief bond market strategist at Miller Tabak & Co. LLC in New York. ``It is an inadequate tool for dealing with the economy.''
Fed officials said in their Dec. 11 statement that the total of 1 percentage point of cuts to the benchmark rate ``should help promote moderate growth over time.'' They cited ``uncertainty'' about the outlook for both growth and inflation.


Separating yesterday's announcement with the Dec. 11 policy statement ``highlights how much they don't want to be seen as easing monetary policy,'' said Vincent Reinhart, former head of the Fed's monetary affairs division and now a resident scholar at the American Enterprise Institute in Washington.