This Weekend’s Contemplation - More Bad News Ahead for the Banks!
The article below from the WSJ discusses the current and future state of the banking sector (both commercial and investment). Test in bold is my emphasis. The article is in italics.
There are a couple of comparisons in the article that require some additional comments. Namely, more money was lost in the S&L crisis of the late 1980s then is lost so far, both in dollar terms and as a percentage of GDP. Second, there were more bank failures in the 1990s then now.
My response to the first point is that losses of have just begun to increase. The real losses started in early summer and have already topped $100B with no end in sight (this only took 7 months). Most realize that the banks are probably looking at another 2 – 3 years of losses assuming no serious recession. Furthermore, who cares that the losses in the S&L crisis was 3.2% of GDP as opposed to the current 0.7%. The primary difference between the S&L crisis and now is which financial sector is taking the losses. The collapse of the S&Ls almost 20 years ago was the final chapter in the slow death of that financial sector due to the disintermediation of the S&Ls resulting from the growth of money market accounts. Or as money markets gained in popularity people pulled their money from the S&Ls and put it into money market accounts (disintermediation). To counter this loss of revenue the S&Ls became more aggressive mortgage lenders with fewer sources of cheap funds. The crash of the housing market in the 1990s just finished off a financial sector that was already in decline. Basically, the S&Ls did not play that large a part in the consumer and small business portion of the credit cycle.
In the current situation the losses are hitting the commercial banking sector very hard and this is the primary source of credit for consumers and small businesses. If the banks have more credit problems this will make it tougher for consumers and small businesses to borrow, the primary drivers of economic growth.
The second is the number of bank failures. As stated above the S&L crisis was really the death of a financial sector so one would expect bank failures to be high. It will take another year or two for bank failures to start developing in the US. However, just realize that the purchase of Countrywide by B of A, cash injections in Citibank and Merrill Lynch, negotiations between Washington Mutual and J P Morgan Chase are not signs of strength in the banking sector. These moves were completed to prevent bank failures.
Citigroup Inc. posted its largest loss in the bank's 196-year history this past week, driven by $18 billion of write-downs on its mortgage and other fixed-income investments.
With write-downs of an additional $14 billion by Merrill Lynch & Co., total losses reported by the world's biggest banks since May have climbed to more than $100 billion as a result of U.S. subprime mortgages.
Foreign investors paid $19.1 billion for stakes in Citigroup and Merrill this past week, spotlighting a shift in financial clout as U.S. institutions look abroad to help shore up their balance sheets. The losses have analysts wondering if the worst of the write-downs are over. Citigroup, for example, ended the fourth quarter still exposed to $37 billion of subprime mortgages, and $43 billion of corporate-loan commitments for leveraged buyouts remain on its balance sheet.
Still, losses from the current credit crunch -- nearly equivalent to 0.7% of U.S. gross domestic product -- haven't reached the level seen in the savings-and-loan collapse in the late 1980s, when losses reached $189 billion, or 3.2% of average GDP.
What's on the horizon for the banking industry? Here's a closer look:
Credit cards and consumer loans: Rising home prices allowed borrowers to refinance mortgages or take other loans to pay off credit-card bills and other loans, which prevented consumer-loan losses from rising. But that stopped in August, which has spurred a rise in loan and credit-card delinquencies since then.
Credit-card delinquencies and charge-offs increased by one percentage point to 6.83% last October from November 2006. But the figure jumped 0.8 percentage point in November 2007, to 7.63%. "That's the kind of jump you normally see after Christmas and not before," says Zach Gast, an analyst at RiskMetrics Group. Earnings reports this past week suggest that credit-card-debt repayment in December may have been as bad or worse. Moreover, losses stemming from delinquencies on holiday purchases won't show up until the summer, says Dennis Moroney, a bank-card analyst for TowerGroup.
Credit-default swaps: The sale of securitized loans using complex financial instruments can distribute risk broadly while democratizing credit, but the explosion of those complex investments may have gone too far because investors -- big banks, insurers and others -- never knew the real worth, or risk, their investments carried.
The market for credit-default swaps, which protect investors against borrowers defaulting on their loans, has soared in recent years to an estimated $43 trillion. If defaults in investment-grade or junk corporate bonds return to historical norms of 1.25% this year (from 0.5% last year), sellers of insurance on those loans could face losses of $250 billion, enough to match the losses some predict will result from subprime mortgages, says Bill Gross, chief investment officer at Allianz SE's Pacific Investment Management Co., or Pimco.
Loss reserves: Bank earnings could fall by as much as 20% over the next three years, suggests Mr. Gast, because they face a double whammy: Loan delinquencies are outpacing the capital reserves they are required to set aside, according to Mr. Moroney. As losses mount, banks have had to commit more of their revenue to loss reserves.
Those low reserve levels, coupled with deteriorating credit, could force banks to increase their loan-loss provisions by $30 billion to $85 billion, according to Mr. Gast, which would put further pressure on earnings. Loss reserves fell to 1.28% of total loans in the third quarter of 2007, nearly half the 2.57% share reached in 1991.
Regulation: Bank deregulation in the 1970s and 1980s spurred the creation of larger banks, but it also fostered greater competition. Between 1970 and 2005, the number of banks fell to 7,500 from 13,500, but the number of banking locations nearly doubled to 80,300. Some argue that recent deregulation -- such as a 1999 law that repealed the Depression-era Glass-Steagall Act separating investment- and commercial-banking activities -- has made it too easy for banks to take bigger risks, even as they grow so large that the government can't allow them to fail.
But the problem may have more to do with management than regulation -- indeed, top executives have been booted from the banks that posted the biggest losses. Banks have struggled to eliminate blind spots for risk, in part because banks have grown so large, says Guillermo Kopp, a former Citigroup information-technology head who is now TowerGroup's executive director. "Citi was supposed to be the quintessential diversified financial institution. But because it's so big, the leadership has been finding it hard to keep all of the pieces working together."
And regulation has its limits, says Alex J. Pollock, a resident fellow at the conservative American Enterprise Institute. "No matter what any regulator or legislator does, financial markets will create as much risk as they want."
* * *
Facts
• Since 1934, there have only been two years when no U.S. banks failed: 2005 and 2006, according to the Federal Deposit Insurance Corp.
• During the savings-and-loan crisis of 1988-89, U.S. banks failed at a rate of more than two every business day.
• Nearly 58% of Americans believe the globalization of the U.S. economy has been bad for the country, up from 48% 10 years ago, according to a December NBC News/WSJ poll.
• Real-estate holdings accounted for 58% of total assets for U.S. banks in 2006, up from 45% in 2000, according to the FDIC.
Sunday, January 20, 2008
Saturday, January 19, 2008
U.S. Treasury Secretary Henry Paulson Wants a Stimulus Plan Soon
I find it interesting that there was hardly any talk about a stimulus plan before Christmas (did not want to upset the shoppers), but since the first of the year it is a hot topic. The powers that be in Washington DC (and Wall Street) realize that the usual efforts of the Fed are both too slow and too ineffective at this point. Decreasing interest rates is not going to induce anyone to buy more clothes, electronics, etc. Therefore, the economic problems we face are passed your first line of defense – the money supply. Now the consumer has to be directly stimulated by giving them cash. Interesting that for all the fancy economic theories in the end we are Keynesian in our approach. My bet is that the stimulus package, whatever the form and however the government spins it, is too little too late. Basically, $150B of stimulus with $8T of consumer spending, just is not that big. Also what do you do is this does not work? From the online WSJ Economics blog:
U.S. Treasury Secretary Henry Paulson visited the morning talk shows to make the case for an economic stimulus plan being developed in Washington designed to get money into the U.S. economy this year.
Speaking about the stimulus plan on NBC’s “Today” program, Paulson said the long-term fundamentals of the U.S. economy are strong but said “the need here is this year, doing something this year as the economy is slowing that will make a difference.”
He said the economy is going to continue to grow slowly and the risks are to the down side. But Paulson said he believes economic relief can be delivered this year.
“I’ve been consulting at the president’s direction very actively with members of Congress, leaders on both sides [Republicans and Democrats] for the last couple of weeks, and I think we see a common objective here, a common need of doing something that’s going to be temporary, something that will be robust and simple and get money into the economy this year,” he added.
President Bush will offer broad outlines of the economic stimulus plan at 11:50 a.m. EST Friday. The plan won’t include an extension of Bush’s signature tax cuts, which expire in 2010.
Asked if tax rebates to individuals - reportedly one of the cornerstones to the stimulus plan - is an effective course, Paulson said, “the evidence from [the] 2001 [rebate] was that people spent between a third and two-thirds of the money and spent it quickly, so the lesson here is we need to move quickly and do something in enough size.”
Paulson, on ABC’s Good Morning America, also said he’s opposed to a moratorium on home foreclosures, saying he’s against that type of intervention. The Associated Press reported that Paulson also predicted that the administration and Congress can come together quickly to enact a package. Paulson said that the biggest part of the package should be focused on consumers, “getting money to them so they will spend it.”
On CBS’s “The Early Show,” Paulson said, “What [Bush] believes is that we’ve got to do something that is robust. It’s going to be temporary and get money into the economyquickly.”
Congressional aides said that the administration is examining providing rebates of up to $800 for individual taxpayers and $1,600 for families.
I find it interesting that there was hardly any talk about a stimulus plan before Christmas (did not want to upset the shoppers), but since the first of the year it is a hot topic. The powers that be in Washington DC (and Wall Street) realize that the usual efforts of the Fed are both too slow and too ineffective at this point. Decreasing interest rates is not going to induce anyone to buy more clothes, electronics, etc. Therefore, the economic problems we face are passed your first line of defense – the money supply. Now the consumer has to be directly stimulated by giving them cash. Interesting that for all the fancy economic theories in the end we are Keynesian in our approach. My bet is that the stimulus package, whatever the form and however the government spins it, is too little too late. Basically, $150B of stimulus with $8T of consumer spending, just is not that big. Also what do you do is this does not work? From the online WSJ Economics blog:
U.S. Treasury Secretary Henry Paulson visited the morning talk shows to make the case for an economic stimulus plan being developed in Washington designed to get money into the U.S. economy this year.
Speaking about the stimulus plan on NBC’s “Today” program, Paulson said the long-term fundamentals of the U.S. economy are strong but said “the need here is this year, doing something this year as the economy is slowing that will make a difference.”
He said the economy is going to continue to grow slowly and the risks are to the down side. But Paulson said he believes economic relief can be delivered this year.
“I’ve been consulting at the president’s direction very actively with members of Congress, leaders on both sides [Republicans and Democrats] for the last couple of weeks, and I think we see a common objective here, a common need of doing something that’s going to be temporary, something that will be robust and simple and get money into the economy this year,” he added.
President Bush will offer broad outlines of the economic stimulus plan at 11:50 a.m. EST Friday. The plan won’t include an extension of Bush’s signature tax cuts, which expire in 2010.
Asked if tax rebates to individuals - reportedly one of the cornerstones to the stimulus plan - is an effective course, Paulson said, “the evidence from [the] 2001 [rebate] was that people spent between a third and two-thirds of the money and spent it quickly, so the lesson here is we need to move quickly and do something in enough size.”
Paulson, on ABC’s Good Morning America, also said he’s opposed to a moratorium on home foreclosures, saying he’s against that type of intervention. The Associated Press reported that Paulson also predicted that the administration and Congress can come together quickly to enact a package. Paulson said that the biggest part of the package should be focused on consumers, “getting money to them so they will spend it.”
On CBS’s “The Early Show,” Paulson said, “What [Bush] believes is that we’ve got to do something that is robust. It’s going to be temporary and get money into the economyquickly.”
Congressional aides said that the administration is examining providing rebates of up to $800 for individual taxpayers and $1,600 for families.
Is the US in a Recession? Update 1-18-08
The article below from Market Watch is a good summary of the how a recession is defined and the current status of the five primary indicators. With that said in my mind the real “show” is not whether we are in a recession, but how the financial intermediaries (commercial banks, investment banks, S&Ls, etc.) are going to weather the current and continuing losses from the mortgage crisis. There are still more problems to come on this issue. If you visit the original article the indicators below are in graphs (just in case you are a graph person).
It's much too soon for an official judgment on whether the U.S. economy has fallen into a recession, but early indications show that a recession may have already begun.
Of the five monthly economic indicators used to judge whether the U.S. economy has fallen into a recession, three are declining and one other is flattening out. Three of the five numbers peaked in September. Only one has grown with any vigor over the past few months, but it's starting to look weaker.
Calling a recession is as much art as science.
The numbers now in hand are preliminary, subject to large revisions. What now seems very weak could be revised to show significant growth. That's why the academics who decide whether we've been in a recession wait a long time before making a judgment.
In some cases, the most recent data are more than two months old, a frustrating delay for those who want to know what's happening right now. What now looks like a peak in activity could turn out to be a local peak or a false top, with the economy regaining strength in the next few months.
"There are a lot of local peaks that don't mean anything," said Chris Varvares, president of Macroeconomic Advisers, an economic forecasting firm.
The evidence currently available is by no means definitive about a recession, but it is not encouraging. There's no easy formula for analyzing the five indicators and only a fool would try to do it in real time.
So here goes:
The street definition of a recession as two consecutive quarters of declining gross domestic product is not quite right. Most recessions have met that definition, but the economic historians who have the task of making these judgments have a more nuanced view that takes monthly data into account.
According to the business cycle dating committee of the National Bureau of Economic Research, "a recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales." Note that none of the housing indicators are part of the analysis.
Payrolls and income
The NBER's single most important monthly number for determining a recession is also the most important for the market: nonfarm payrolls, which are barely growing.
Payrolls have increased for 52 consecutive months, but hiring has slowed sharply over the past year. Payrolls rose just 18,000 in December and have risen at an annual rate of 0.9% in the past three months. Job growth that slow has typically been a recession-warning sign.
As weak as they are, the payroll numbers have likely been overstated. In two weeks, the government will release its annual benchmark revision to 2007 payrolls. Based on a preliminary estimate, the revision is likely to show payrolls were overstated by about 25,000 per month. If the preliminary estimate of the benchmark is right, December's gains could be revised completely away.
Other labor market indicators have also been weak, although they are not officially part of the NBER's tool kit. Employment measured by the household survey is up just 262,000 in the past year, or 22,000 per month.
Conclusion: Payrolls are flattening out.
Income growth
The second most important monthly indicator is real income growth excluding transfer payments. Real incomes peaked in September and have risen at an annual rate of 0.1% over the three months ending in November. The figures are adjusted for inflation. Incomes are closely related to job and wage growth, but also reflect income from small businesses, rental properties, savings and investment.
Real incomes represent the current resources available to consumers. Consumer spending can also be supported by rising wealth. Although net worth is not an official recessionary indicator, the declines in home prices and stock prices in the past few months are probably reducing household wealth for the first time since 2002.
Conclusion: Incomes and wealth are falling.
Output
The manufacturing sector is highly cyclical, often leading the nation into recession. Consumers and businesses buy fewer durable goods when times are bad, but purchases rebound when the first signs of recovery appear.
Industrial production is the broadest measurement of the health of the factory sector. Industrial output was flat in December after peaking in July and in September. Output fell at an annual rate of 0.9% in the fourth quarter, despite strong export growth.
Conclusion: Industrial production is falling.
Sales
Real business sales have been healthy, but are showing early signs of slipping. Unfortunately, the data on inflation-adjusted sales are published with a long lag; the most current data are for October. Sales rose at an annual rate of 4.7% in the three months ending in October.
The most recent sales data aren't comforting. Retail sales fell 0.4% in December in nominal terms before adjusting for the 0.3% rise in consumer prices. Nominal sales for wholesalers and manufacturers were very strong in November, before accounting for the 3.2% rise in wholesale inflation.
Conclusion: Real business sales have been growing, but the data are old.
GDP
The government publishes its GDP figures on a quarterly basis only. The first estimate for the fourth quarter will be released on Jan. 30. Economists are forecasting annualized growth of about 1%.
A top economics firm, Macroeconomics Advisers, publishes a monthly GDP figure that the NBER uses as its fifth monthly indicator. The Macroeconomics Economics GDP is extremely volatile month-to-month. It rose in November, but didn't regain the peak set in September. December's data are not yet available. Varvares, the president of the firm, says the monthly GDP figures are consistent with his firm's forecast for 1.3% annualized growth in the quarterly GDP.
Conclusion: Inconclusive.
Not a pretty picture. But economic downturns never are.
The article below from Market Watch is a good summary of the how a recession is defined and the current status of the five primary indicators. With that said in my mind the real “show” is not whether we are in a recession, but how the financial intermediaries (commercial banks, investment banks, S&Ls, etc.) are going to weather the current and continuing losses from the mortgage crisis. There are still more problems to come on this issue. If you visit the original article the indicators below are in graphs (just in case you are a graph person).
It's much too soon for an official judgment on whether the U.S. economy has fallen into a recession, but early indications show that a recession may have already begun.
Of the five monthly economic indicators used to judge whether the U.S. economy has fallen into a recession, three are declining and one other is flattening out. Three of the five numbers peaked in September. Only one has grown with any vigor over the past few months, but it's starting to look weaker.
Calling a recession is as much art as science.
The numbers now in hand are preliminary, subject to large revisions. What now seems very weak could be revised to show significant growth. That's why the academics who decide whether we've been in a recession wait a long time before making a judgment.
In some cases, the most recent data are more than two months old, a frustrating delay for those who want to know what's happening right now. What now looks like a peak in activity could turn out to be a local peak or a false top, with the economy regaining strength in the next few months.
"There are a lot of local peaks that don't mean anything," said Chris Varvares, president of Macroeconomic Advisers, an economic forecasting firm.
The evidence currently available is by no means definitive about a recession, but it is not encouraging. There's no easy formula for analyzing the five indicators and only a fool would try to do it in real time.
So here goes:
The street definition of a recession as two consecutive quarters of declining gross domestic product is not quite right. Most recessions have met that definition, but the economic historians who have the task of making these judgments have a more nuanced view that takes monthly data into account.
According to the business cycle dating committee of the National Bureau of Economic Research, "a recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales." Note that none of the housing indicators are part of the analysis.
Payrolls and income
The NBER's single most important monthly number for determining a recession is also the most important for the market: nonfarm payrolls, which are barely growing.
Payrolls have increased for 52 consecutive months, but hiring has slowed sharply over the past year. Payrolls rose just 18,000 in December and have risen at an annual rate of 0.9% in the past three months. Job growth that slow has typically been a recession-warning sign.
As weak as they are, the payroll numbers have likely been overstated. In two weeks, the government will release its annual benchmark revision to 2007 payrolls. Based on a preliminary estimate, the revision is likely to show payrolls were overstated by about 25,000 per month. If the preliminary estimate of the benchmark is right, December's gains could be revised completely away.
Other labor market indicators have also been weak, although they are not officially part of the NBER's tool kit. Employment measured by the household survey is up just 262,000 in the past year, or 22,000 per month.
Conclusion: Payrolls are flattening out.
Income growth
The second most important monthly indicator is real income growth excluding transfer payments. Real incomes peaked in September and have risen at an annual rate of 0.1% over the three months ending in November. The figures are adjusted for inflation. Incomes are closely related to job and wage growth, but also reflect income from small businesses, rental properties, savings and investment.
Real incomes represent the current resources available to consumers. Consumer spending can also be supported by rising wealth. Although net worth is not an official recessionary indicator, the declines in home prices and stock prices in the past few months are probably reducing household wealth for the first time since 2002.
Conclusion: Incomes and wealth are falling.
Output
The manufacturing sector is highly cyclical, often leading the nation into recession. Consumers and businesses buy fewer durable goods when times are bad, but purchases rebound when the first signs of recovery appear.
Industrial production is the broadest measurement of the health of the factory sector. Industrial output was flat in December after peaking in July and in September. Output fell at an annual rate of 0.9% in the fourth quarter, despite strong export growth.
Conclusion: Industrial production is falling.
Sales
Real business sales have been healthy, but are showing early signs of slipping. Unfortunately, the data on inflation-adjusted sales are published with a long lag; the most current data are for October. Sales rose at an annual rate of 4.7% in the three months ending in October.
The most recent sales data aren't comforting. Retail sales fell 0.4% in December in nominal terms before adjusting for the 0.3% rise in consumer prices. Nominal sales for wholesalers and manufacturers were very strong in November, before accounting for the 3.2% rise in wholesale inflation.
Conclusion: Real business sales have been growing, but the data are old.
GDP
The government publishes its GDP figures on a quarterly basis only. The first estimate for the fourth quarter will be released on Jan. 30. Economists are forecasting annualized growth of about 1%.
A top economics firm, Macroeconomics Advisers, publishes a monthly GDP figure that the NBER uses as its fifth monthly indicator. The Macroeconomics Economics GDP is extremely volatile month-to-month. It rose in November, but didn't regain the peak set in September. December's data are not yet available. Varvares, the president of the firm, says the monthly GDP figures are consistent with his firm's forecast for 1.3% annualized growth in the quarterly GDP.
Conclusion: Inconclusive.
Not a pretty picture. But economic downturns never are.
Friday, January 18, 2008
Bad News About Housing Continues
Yesterday the US Dept. of Commerce released their monthly report on new housing starts. As expected new housing starts are down. As a matter of fact new home construction is down 14.2% to its lowest level since May 1991 (WSJ). Below are other comments about the housing market that are not going to make you feel anymore positive about the housing market. From Online WSJ:
Housing starts declined sharply in December, primarily because of a plunge in multifamily starts. Home builders have been very aggressive in trying to bring inventories of unsold new homes down; because new home sales remain very sluggish, builders have been slashing new starts. Nevertheless, with inventories still elevated, with sales still soft, and with lending standards now tighter, housing starts will continue to contract. –Steven A. Wood, Insight Economics
No sign of slowing in the rate of decline in housing activity is evident in this report, which suggests that the housing drag to GDP in the first quarter will again be sizeable. However, the speed of decline in new construction is likely to limit any further additions to the stock of unsold new homes. –Bear Stearns
We are more interested in permits, because they are less affected by the weather. Single-family permits were very weak, down 10.1%, suggesting further downside risk for starts over the next month or two. The rate of decline of permits has reaccelerated markedly since the turmoil in the markets began in the summer; builders have finally thrown in the towel. This is a precondition for recovery, as it will eventually reduce the inventory overhang, but there is a LONG way to go. –Ian Shepherdson, High Frequency Economics
The decline in starts reflects the oversized nature of the inventory overhang that plagues the development community. We anticipate that the now multiyear correction in the residential construction sector will continue to act as a deadweight on output throughout the 2008. With the level of foreclosures expected to add to the already bloated existing stock on the market the adjustment in the development community will continue to be towards the negative. –Joseph Brusuelas, IDEAglobal
Housing market conditions were already in quite bad shape when credit market turmoil intensified in August. With mortgage financing further constrained and inventories of unsold homes quite high, the near to medium term outlook for housing starts is not good. The magnitude of the housing bubble was unprecedented, and the corrective process promises to be a long and painful one. We look for activity levels to continue to slide in the months ahead and for pricing to erode a good deal further. –Joshua Shapiro, MFR, Inc.
All the key metrics of housing activity are now threatening to breach the lows set in the severe 1990-91 housing recession. Permits for new home construction also continued their descent suggesting further declines in new starts lie ahead. While these data confirm that the housing slump will continue to drag down overall economic activity, the lower volume of new building — combined with more aggressive marketing — should help builders accelerate the reduction in inventories of unsold homes –David Resler, Nomura Securities
A 40% [decline] in multi-family starts is far far out of line with the multi-family permit data, suggesting either statistical noise that will be revised away in the coming months or perhaps a winter weather related anomaly. The outlook for multi-family construction is more favorable, which is worth noting given the tendency to tar the entire housing market with the same brush used to paint the dismal picture of the single family segment of the market. –Richard F. Moody, Mission Residential
Yesterday the US Dept. of Commerce released their monthly report on new housing starts. As expected new housing starts are down. As a matter of fact new home construction is down 14.2% to its lowest level since May 1991 (WSJ). Below are other comments about the housing market that are not going to make you feel anymore positive about the housing market. From Online WSJ:
Housing starts declined sharply in December, primarily because of a plunge in multifamily starts. Home builders have been very aggressive in trying to bring inventories of unsold new homes down; because new home sales remain very sluggish, builders have been slashing new starts. Nevertheless, with inventories still elevated, with sales still soft, and with lending standards now tighter, housing starts will continue to contract. –Steven A. Wood, Insight Economics
No sign of slowing in the rate of decline in housing activity is evident in this report, which suggests that the housing drag to GDP in the first quarter will again be sizeable. However, the speed of decline in new construction is likely to limit any further additions to the stock of unsold new homes. –Bear Stearns
We are more interested in permits, because they are less affected by the weather. Single-family permits were very weak, down 10.1%, suggesting further downside risk for starts over the next month or two. The rate of decline of permits has reaccelerated markedly since the turmoil in the markets began in the summer; builders have finally thrown in the towel. This is a precondition for recovery, as it will eventually reduce the inventory overhang, but there is a LONG way to go. –Ian Shepherdson, High Frequency Economics
The decline in starts reflects the oversized nature of the inventory overhang that plagues the development community. We anticipate that the now multiyear correction in the residential construction sector will continue to act as a deadweight on output throughout the 2008. With the level of foreclosures expected to add to the already bloated existing stock on the market the adjustment in the development community will continue to be towards the negative. –Joseph Brusuelas, IDEAglobal
Housing market conditions were already in quite bad shape when credit market turmoil intensified in August. With mortgage financing further constrained and inventories of unsold homes quite high, the near to medium term outlook for housing starts is not good. The magnitude of the housing bubble was unprecedented, and the corrective process promises to be a long and painful one. We look for activity levels to continue to slide in the months ahead and for pricing to erode a good deal further. –Joshua Shapiro, MFR, Inc.
All the key metrics of housing activity are now threatening to breach the lows set in the severe 1990-91 housing recession. Permits for new home construction also continued their descent suggesting further declines in new starts lie ahead. While these data confirm that the housing slump will continue to drag down overall economic activity, the lower volume of new building — combined with more aggressive marketing — should help builders accelerate the reduction in inventories of unsold homes –David Resler, Nomura Securities
A 40% [decline] in multi-family starts is far far out of line with the multi-family permit data, suggesting either statistical noise that will be revised away in the coming months or perhaps a winter weather related anomaly. The outlook for multi-family construction is more favorable, which is worth noting given the tendency to tar the entire housing market with the same brush used to paint the dismal picture of the single family segment of the market. –Richard F. Moody, Mission Residential
Thursday, January 17, 2008
Sub-Prime Mortgage Crisis Has Spilled Over into Home Equity Loans and Lines
If 2007 is the year of the sub-prime mortgage crisis, 2008 could be the year of the home equity crisis. With the declining housing market in the US the second (and third) mortgage industry is coming under a lot of pressure. The real problem with trouble in the second and third mortgage sector is that unlike the primary mortgage business there is no well developed secondary market for home equity loans and lines. In other words, seconds and thirds are usually not securitized, but are usually held by the originating bank. That means as losses in this sector begin to mount they will not be taken by some obscure hedge fund, insurance company, or investment bank that the common man never does business with. Instead the losses will be taken by names that everyone is familiar with. Text in bold is my emphasis. From Market Watch:
Just as banks are struggling to get out from under the subprime mortgage mess, they're facing a new burden: growing delinquencies for home equity loans.
Three of the U.S.'s largest banks that reported earnings this week, Citigroup, Wells Fargo, and J.P. Morgan, said that mounting pressure on home equity loans were a major -- and growing -- problem in the fourth quarter.
J.P Morgan took a 34% cut in profit over the fourth quarter, a change it attributed at least in part to its lagging home equity products. The bank said it expects home equity chargeoffs to rise to 1.5% of total loans this quarter.
"Our consumer home equity and subprime loan portfolios performed worse than we expected," said Jamie Dimon, chief executive of J.P. Morgan, in a press release. The bank's continuing pain from subprime mortgage bets that went bad could now be coupled with the newer worry of nonperforming home equity lines of credit.
"J.P. Morgan is exiting one set of problems and write-downs in one part of the company but now must face more significant issues in the other half," Deutsche Bank analyst Mike Mayo wrote in a note to investors following Wednesday morning's conference call with J.P. Morgan management.
Likewise, Wells Fargo announced it would reserve $1.4 billion for losses in its home equity lending unit, more than half of the $2.6 billion it set aside for all loan losses. The company more than tripled the amount it would earmark for losses in the fourth quarter.
Well Fargo will also divest itself of more than $12 billion of its riskiest home equity loans, instantly cutting its $72 billion portfolio by 16%.
Wells said it was especially hard hit by rising default rates in states experiencing rapid home price depreciation such as California and Ohio.
Citigroup, too, pointed to faltering consumer loans as a major factor in the bank's decision to reserve $5.1 billion to increasing loan losses and delinquencies.
"We had losses in our U.S. consumer business, up over $4 billion, and these numbers completely overwhelmed record performance in many, many of our other large businesses," Chief Executive Vikram Pandit told analysts Tuesday.
Banks are right to be worried. Ratings agency Moody's and consumer credit reporting agency Equifax estimated last week that nearly 4.65% of fixed-rate home-equity loans were delinquent in the fourth quarter. The same data found that across the board, delinquencies on home-equity lines of credit have jumped to 2.01% from 1.07% a year earlier.
That troubling leap is coupled with the more than $58 billion in home equity loans outstanding at the end of July 2007.
Home equity loans were a popular option for many borrowers looking to capitalize on a booming housing market as a way to use home values to finance other aspects of their lifestyle.
But as housing prices have rapidly depreciated and the housing market has tanked, home equity loans are becoming increasingly delinquent. Borrowers who are already stressed by a slowing economy, rising gas prices and creeping unemployment are finding payments on home equity loans to be a lower priority.
Other banks are also hedging their risk to home equity loans, as they try to stay ahead of the curve in a tricky part of the lending industry. Washington Mutual Inc. announced last month that it would put a cap on the maximum amount 3,200 of its customers with home-equity lines of credit could ultimately borrow. If the program works, other banks may follow WaMu's lead in limiting their exposure to a faltering part of the business.
As for potential upcoming charge-offs, prime loans, too, could become a major problem in the next quarter. Government-chartered lender Freddie Mac released the results of its 24th Annual Adjustable-Rate Mortgage Survey of prime loans on Wednesday and said it found that delinquency rates for prime loans are also shooting up.
"Delinquency rates on prime ARMs have moved sharply higher over the past year, and are well above rates on prime fixed-rate loans, according to the Mortgage Bankers Association," said Frank E. Nothaft, chief economist for Freddie Mac, in a company press release. "They have reported that the serious delinquency rate on prime ARMs was 3.1 percent, compared with 0.8 percent for prime fixed-rate loans as of September 30, and with 1.1 percent on prime ARMs one year earlier."
J.P. Morgan's Dimon warned during the conference call that J.P. Morgan that although banks will continue to attempt to hedge lending risks, the housing market's direction is famously unpredictable -- making home equity loans an even bigger gamble.
"We are being a little conservative in assuming that they (home prices) are still continuing to go down in terms of reserve, and I was using a number like 5-10%," Dimon said. "But your guess is as good as our guess about future home prices."
If 2007 is the year of the sub-prime mortgage crisis, 2008 could be the year of the home equity crisis. With the declining housing market in the US the second (and third) mortgage industry is coming under a lot of pressure. The real problem with trouble in the second and third mortgage sector is that unlike the primary mortgage business there is no well developed secondary market for home equity loans and lines. In other words, seconds and thirds are usually not securitized, but are usually held by the originating bank. That means as losses in this sector begin to mount they will not be taken by some obscure hedge fund, insurance company, or investment bank that the common man never does business with. Instead the losses will be taken by names that everyone is familiar with. Text in bold is my emphasis. From Market Watch:
Just as banks are struggling to get out from under the subprime mortgage mess, they're facing a new burden: growing delinquencies for home equity loans.
Three of the U.S.'s largest banks that reported earnings this week, Citigroup, Wells Fargo, and J.P. Morgan, said that mounting pressure on home equity loans were a major -- and growing -- problem in the fourth quarter.
J.P Morgan took a 34% cut in profit over the fourth quarter, a change it attributed at least in part to its lagging home equity products. The bank said it expects home equity chargeoffs to rise to 1.5% of total loans this quarter.
"Our consumer home equity and subprime loan portfolios performed worse than we expected," said Jamie Dimon, chief executive of J.P. Morgan, in a press release. The bank's continuing pain from subprime mortgage bets that went bad could now be coupled with the newer worry of nonperforming home equity lines of credit.
"J.P. Morgan is exiting one set of problems and write-downs in one part of the company but now must face more significant issues in the other half," Deutsche Bank analyst Mike Mayo wrote in a note to investors following Wednesday morning's conference call with J.P. Morgan management.
Likewise, Wells Fargo announced it would reserve $1.4 billion for losses in its home equity lending unit, more than half of the $2.6 billion it set aside for all loan losses. The company more than tripled the amount it would earmark for losses in the fourth quarter.
Well Fargo will also divest itself of more than $12 billion of its riskiest home equity loans, instantly cutting its $72 billion portfolio by 16%.
Wells said it was especially hard hit by rising default rates in states experiencing rapid home price depreciation such as California and Ohio.
Citigroup, too, pointed to faltering consumer loans as a major factor in the bank's decision to reserve $5.1 billion to increasing loan losses and delinquencies.
"We had losses in our U.S. consumer business, up over $4 billion, and these numbers completely overwhelmed record performance in many, many of our other large businesses," Chief Executive Vikram Pandit told analysts Tuesday.
Banks are right to be worried. Ratings agency Moody's and consumer credit reporting agency Equifax estimated last week that nearly 4.65% of fixed-rate home-equity loans were delinquent in the fourth quarter. The same data found that across the board, delinquencies on home-equity lines of credit have jumped to 2.01% from 1.07% a year earlier.
That troubling leap is coupled with the more than $58 billion in home equity loans outstanding at the end of July 2007.
Home equity loans were a popular option for many borrowers looking to capitalize on a booming housing market as a way to use home values to finance other aspects of their lifestyle.
But as housing prices have rapidly depreciated and the housing market has tanked, home equity loans are becoming increasingly delinquent. Borrowers who are already stressed by a slowing economy, rising gas prices and creeping unemployment are finding payments on home equity loans to be a lower priority.
Other banks are also hedging their risk to home equity loans, as they try to stay ahead of the curve in a tricky part of the lending industry. Washington Mutual Inc. announced last month that it would put a cap on the maximum amount 3,200 of its customers with home-equity lines of credit could ultimately borrow. If the program works, other banks may follow WaMu's lead in limiting their exposure to a faltering part of the business.
As for potential upcoming charge-offs, prime loans, too, could become a major problem in the next quarter. Government-chartered lender Freddie Mac released the results of its 24th Annual Adjustable-Rate Mortgage Survey of prime loans on Wednesday and said it found that delinquency rates for prime loans are also shooting up.
"Delinquency rates on prime ARMs have moved sharply higher over the past year, and are well above rates on prime fixed-rate loans, according to the Mortgage Bankers Association," said Frank E. Nothaft, chief economist for Freddie Mac, in a company press release. "They have reported that the serious delinquency rate on prime ARMs was 3.1 percent, compared with 0.8 percent for prime fixed-rate loans as of September 30, and with 1.1 percent on prime ARMs one year earlier."
J.P. Morgan's Dimon warned during the conference call that J.P. Morgan that although banks will continue to attempt to hedge lending risks, the housing market's direction is famously unpredictable -- making home equity loans an even bigger gamble.
"We are being a little conservative in assuming that they (home prices) are still continuing to go down in terms of reserve, and I was using a number like 5-10%," Dimon said. "But your guess is as good as our guess about future home prices."
Wednesday, January 16, 2008
Continued Globilization of the Capital Markets
The following for WSJ Economics Online summarizes a report by the McKinsey Group indicating that the capital markets are growing beyond the control of the US. Furthermore, the current problems in the capital markets caused by the mortgage crisis is accelerating this process. Text in bold is my emphasis:
Increasing liquidity in foreign financial markets is contributing to a shift in global power, especially as foreign investors step in to recapitalize the slumped U.S. economy, according to a global economics report.
Global financial assets rose to $167 trillion in 2006, up from $70.2 trillion a decade ago, before adjusting for inflation, a 137% increase, according to the McKinsey Global Institute’s report on world financial markets. Global nominal gross domestic product climbed to $48.3 trillion from $30.2 trillion in the same period, a 60% increase.
The increase was perpetuated by markets such as China and Russia, which continued to grow and achieve financial depth. The consulting firm defines financial depth as the ratio of financial assets to GDP. The deeper the financial market, the more liquid it tends to be.
“What we’ve seen is this liquidity is finding its way into different parts of the world,” said MGI Director Diana Farrell. “You start to introduce the possibility of other markets playing a role.” The persistent challenges in the U.S. credit market will exacerbate the trend as the country moves to a less advantageous bargaining position and opens the door for other countries to pursue alternative investment styles and appetites, Farrell said.
“The answer is not going to be that these sovereign wealth funds and otherwise simply sign up to what the Anglo-Saxon model has said is the best practice for disclosure, the best practice for transparency,” Farrell said. “There’s a recognition that it’s not just going to be a mandate that’s going to come from the traditional players here.” While increasingly liquidity can spur inflationary pressures, publicly traded markets are not yet affected. Private markets, however, are beginning to see upward pressure on asset prices, Farrell said.
The report, the fourth Annual Mapping of Global Capital Markets (you can get a copy of the report if you register with McKinsey), says, “Europe’s capital markets are growing in size and financial clout, and emerging markets rising. Financial power is spreading beyond the U.S. as other markets mature….Emerging markets have rebounded from the financial crises that rocked many of their economies a decade ago. China is the heavyweight, but the group also includes Russia and other rapidly developing nations in Asia, Latin American, Eastern Europe and Africa. Altogether their financial assets grew $5.3 trillion in 2006 in constant exchange rates, or 29%, to a total of $23.6 trillion. That increase accounted for one-quarter of the global growth in financial assets. Since 1990, the total value of financial assets in emerging markets has grown at more than twice the rate of those in developed countries, or 21% and 8% respectively.”
The following for WSJ Economics Online summarizes a report by the McKinsey Group indicating that the capital markets are growing beyond the control of the US. Furthermore, the current problems in the capital markets caused by the mortgage crisis is accelerating this process. Text in bold is my emphasis:
Increasing liquidity in foreign financial markets is contributing to a shift in global power, especially as foreign investors step in to recapitalize the slumped U.S. economy, according to a global economics report.
Global financial assets rose to $167 trillion in 2006, up from $70.2 trillion a decade ago, before adjusting for inflation, a 137% increase, according to the McKinsey Global Institute’s report on world financial markets. Global nominal gross domestic product climbed to $48.3 trillion from $30.2 trillion in the same period, a 60% increase.
The increase was perpetuated by markets such as China and Russia, which continued to grow and achieve financial depth. The consulting firm defines financial depth as the ratio of financial assets to GDP. The deeper the financial market, the more liquid it tends to be.
“What we’ve seen is this liquidity is finding its way into different parts of the world,” said MGI Director Diana Farrell. “You start to introduce the possibility of other markets playing a role.” The persistent challenges in the U.S. credit market will exacerbate the trend as the country moves to a less advantageous bargaining position and opens the door for other countries to pursue alternative investment styles and appetites, Farrell said.
“The answer is not going to be that these sovereign wealth funds and otherwise simply sign up to what the Anglo-Saxon model has said is the best practice for disclosure, the best practice for transparency,” Farrell said. “There’s a recognition that it’s not just going to be a mandate that’s going to come from the traditional players here.” While increasingly liquidity can spur inflationary pressures, publicly traded markets are not yet affected. Private markets, however, are beginning to see upward pressure on asset prices, Farrell said.
The report, the fourth Annual Mapping of Global Capital Markets (you can get a copy of the report if you register with McKinsey), says, “Europe’s capital markets are growing in size and financial clout, and emerging markets rising. Financial power is spreading beyond the U.S. as other markets mature….Emerging markets have rebounded from the financial crises that rocked many of their economies a decade ago. China is the heavyweight, but the group also includes Russia and other rapidly developing nations in Asia, Latin American, Eastern Europe and Africa. Altogether their financial assets grew $5.3 trillion in 2006 in constant exchange rates, or 29%, to a total of $23.6 trillion. That increase accounted for one-quarter of the global growth in financial assets. Since 1990, the total value of financial assets in emerging markets has grown at more than twice the rate of those in developed countries, or 21% and 8% respectively.”
Anna Schwartz Blames the Sub-Prime Crisis on the Fed, Mostly Alan Greenspan
Anna Schwartz, an employee at the NBER and co-author with Milton Friedman of the Monetary History of the US, speaks frankly about the causes of the sub-prime crisis. Text in bold is my emphasis. From the UK Telegraph:
As rebukes go in the close-knit world of central banking, few hurt as much as the scathing indictment of US Federal Reserve policy by Professor Anna Schwartz.
The high priestess of US monetarism - a revered figure at the Fed - says the central bank is itself the chief cause of the credit bubble, and now seems stunned as the consequences of its own actions engulf the financial system. "The new group at the Fed is not equal to the problem that faces it," she says, daring to utter a thought that fellow critics mostly utter sotto voce.
"They need to speak frankly to the market and acknowledge how bad the problems are, and acknowledge their own failures in letting this happen. This is what is needed to restore confidence," she told The Sunday Telegraph. "There never would have been a sub-prime mortgage crisis if the Fed had been alert. This is something Alan Greenspan must answer for," she says.
Schwartz remains defiantly lucid at 92. She still works every day at the National Bureau of Economic Research in New York, where she has toiled since 1941.
Her fame comes from a joint opus with Nobel laureate Milton Friedman: A Monetary History of the United States. It revolutionised thinking on the causes of the Great Depression when published in 1965. The book blamed the Fed for causing the slump. The bank failed to use its full bag of tricks to stop the implosion of the money stock, and turned a bust into calamity by raising rates.
"The book was a bombshell," says British monetarist Tim Congdon. "Until then almost everybody thought the free-market system itself had failed in the 1930s. What Friedman-Schwartz say was that incompetent government bureaucrats at the Fed had caused the Depression." (In terms of central banks during the Great Depression, there is plenty of blame to go around.)
"It had an enormous impact in revitalising free-market conservatism, and it broke the Keynesian stranglehold over policy," he says. Keynes himself was a formidable monetarist. He became a "Keynesian" big spender only once all else seemed to fail.
The tale of the early 1930s is intricate, but worth rehearsing in the climate of today's credit crunch.
The October 1929 crash did not cause the slump, it was merely a vivid detail. The US economy muddled through for another year, seemingly sound. Then it buckled as rising defaults in the farm belt set off a run on local banks.
It was at this juncture that critics claim the Fed lost the plot. Washington prohibited the pros at the New York Fed from injecting sufficient stimulus through open market operations [buying bonds].
Contagion spread. The Jewish-owned Bank of the United States was allowed to collapse by fellow clearing banks, for reasons of snobbery and malice.
The Chicago Fed insisted into the depths of the deflation that inflation still lurked, that there was an "abundance of funds", that speculators had to be punished, and that bad banks should fail. The staggering blindness of Fed backwoodsmen from 1930-1933 is hard to exaggerate.
In hindsight, it seems astonishing that the Fed raised the discount rate twice in late 1931 to 3.5 per cent even as global finance was disintegrating. It did so to halt bullion flight and defend the Gold Standard, but it failed to offset the effects with bond purchases. Britain was forced off the Gold Standard in September 1931 after the Atlantic Fleet "mutinied" at Invergordon over 10 per cent pay cuts. That proved a providential crisis - the pound fell. The Bank of England was soon able to slash rates. The slump proved less serious than in the US, and not a single bank collapsed in the British Empire.
Schwartz warns against facile comparisons between today's world and the Gold Standard era. "This is nothing like the Depression. I don't really believe the economy as a whole is going to fall apart. Northern Rock has been the only episode of a bank failure so far," she says.
Over 4,000 US banks - a fifth - collapsed in the 1930s. There was no deposit insurance. Real economic output fell by a third, prices by a quarter, and unemployment reached a third. Real income fell by 11 per cent, 9 per cent, 18 per cent, and 3 per cent in the years to 1933.
According to Schwartz the original sin of the Bernanke-Greenspan Fed was to hold rates at 1 per cent from 2003 to June 2004, long after the dotcom bubble was over. "It is clear that monetary policy was too accommodative. Rates of 1 per cent were bound to encourage all kinds of risky behaviour," says Schwartz.
She is scornful of Greenspan's campaign to clear his name by blaming the bubble on an Asian saving glut, which purportedly created stimulus beyond the control of the Fed by driving down global bond rates. "This attempt to exculpate himself is not convincing. The Fed failed to confront something that was evident. It can't be blamed on global events," she says.
That mistake is behind us now. The lesson of the 1930s is that swift action is needed once the credit system starts to implode: when banks hoard money, refusing to pass on funds. The Fed must tear up the rule-book. Yet it has been hesitant for three months, relying on lubricants - not shock therapy.
"Liquidity doesn't do anything in this situation. It cannot deal with the underlying fear that lots of firms are going bankrupt," she says. Her view is fast spreading. Goldman Sachs issued a full-recession alert on Wednesday, predicting rates of 2.5 per cent by the third quarter. "Ben Bernanke should be making stronger statements and then backing them up with decisive easing," says Jan Hatzius, the bank's US economist.
Bernanke did indeed switch tack on Thursday. "We stand ready to take substantive additional action as needed," he says, warning of a "fragile situation". It follows a surge in December unemployment from 4.7 per cent to 5 per cent, the sharpest spike in a quarter century. Inflation fears are subsiding fast.
Bernanke insists that the Fed has learnt the lesson from the catastrophic errors of the 1930s. At the late Milton Friedman's 90th birthday party, he apologised for the sins of his institutional forefathers. "Yes, we did it, we're very sorry, we won't do it again."
Anna Schwartz, an employee at the NBER and co-author with Milton Friedman of the Monetary History of the US, speaks frankly about the causes of the sub-prime crisis. Text in bold is my emphasis. From the UK Telegraph:
As rebukes go in the close-knit world of central banking, few hurt as much as the scathing indictment of US Federal Reserve policy by Professor Anna Schwartz.
The high priestess of US monetarism - a revered figure at the Fed - says the central bank is itself the chief cause of the credit bubble, and now seems stunned as the consequences of its own actions engulf the financial system. "The new group at the Fed is not equal to the problem that faces it," she says, daring to utter a thought that fellow critics mostly utter sotto voce.
"They need to speak frankly to the market and acknowledge how bad the problems are, and acknowledge their own failures in letting this happen. This is what is needed to restore confidence," she told The Sunday Telegraph. "There never would have been a sub-prime mortgage crisis if the Fed had been alert. This is something Alan Greenspan must answer for," she says.
Schwartz remains defiantly lucid at 92. She still works every day at the National Bureau of Economic Research in New York, where she has toiled since 1941.
Her fame comes from a joint opus with Nobel laureate Milton Friedman: A Monetary History of the United States. It revolutionised thinking on the causes of the Great Depression when published in 1965. The book blamed the Fed for causing the slump. The bank failed to use its full bag of tricks to stop the implosion of the money stock, and turned a bust into calamity by raising rates.
"The book was a bombshell," says British monetarist Tim Congdon. "Until then almost everybody thought the free-market system itself had failed in the 1930s. What Friedman-Schwartz say was that incompetent government bureaucrats at the Fed had caused the Depression." (In terms of central banks during the Great Depression, there is plenty of blame to go around.)
"It had an enormous impact in revitalising free-market conservatism, and it broke the Keynesian stranglehold over policy," he says. Keynes himself was a formidable monetarist. He became a "Keynesian" big spender only once all else seemed to fail.
The tale of the early 1930s is intricate, but worth rehearsing in the climate of today's credit crunch.
The October 1929 crash did not cause the slump, it was merely a vivid detail. The US economy muddled through for another year, seemingly sound. Then it buckled as rising defaults in the farm belt set off a run on local banks.
It was at this juncture that critics claim the Fed lost the plot. Washington prohibited the pros at the New York Fed from injecting sufficient stimulus through open market operations [buying bonds].
Contagion spread. The Jewish-owned Bank of the United States was allowed to collapse by fellow clearing banks, for reasons of snobbery and malice.
The Chicago Fed insisted into the depths of the deflation that inflation still lurked, that there was an "abundance of funds", that speculators had to be punished, and that bad banks should fail. The staggering blindness of Fed backwoodsmen from 1930-1933 is hard to exaggerate.
In hindsight, it seems astonishing that the Fed raised the discount rate twice in late 1931 to 3.5 per cent even as global finance was disintegrating. It did so to halt bullion flight and defend the Gold Standard, but it failed to offset the effects with bond purchases. Britain was forced off the Gold Standard in September 1931 after the Atlantic Fleet "mutinied" at Invergordon over 10 per cent pay cuts. That proved a providential crisis - the pound fell. The Bank of England was soon able to slash rates. The slump proved less serious than in the US, and not a single bank collapsed in the British Empire.
Schwartz warns against facile comparisons between today's world and the Gold Standard era. "This is nothing like the Depression. I don't really believe the economy as a whole is going to fall apart. Northern Rock has been the only episode of a bank failure so far," she says.
Over 4,000 US banks - a fifth - collapsed in the 1930s. There was no deposit insurance. Real economic output fell by a third, prices by a quarter, and unemployment reached a third. Real income fell by 11 per cent, 9 per cent, 18 per cent, and 3 per cent in the years to 1933.
According to Schwartz the original sin of the Bernanke-Greenspan Fed was to hold rates at 1 per cent from 2003 to June 2004, long after the dotcom bubble was over. "It is clear that monetary policy was too accommodative. Rates of 1 per cent were bound to encourage all kinds of risky behaviour," says Schwartz.
She is scornful of Greenspan's campaign to clear his name by blaming the bubble on an Asian saving glut, which purportedly created stimulus beyond the control of the Fed by driving down global bond rates. "This attempt to exculpate himself is not convincing. The Fed failed to confront something that was evident. It can't be blamed on global events," she says.
That mistake is behind us now. The lesson of the 1930s is that swift action is needed once the credit system starts to implode: when banks hoard money, refusing to pass on funds. The Fed must tear up the rule-book. Yet it has been hesitant for three months, relying on lubricants - not shock therapy.
"Liquidity doesn't do anything in this situation. It cannot deal with the underlying fear that lots of firms are going bankrupt," she says. Her view is fast spreading. Goldman Sachs issued a full-recession alert on Wednesday, predicting rates of 2.5 per cent by the third quarter. "Ben Bernanke should be making stronger statements and then backing them up with decisive easing," says Jan Hatzius, the bank's US economist.
Bernanke did indeed switch tack on Thursday. "We stand ready to take substantive additional action as needed," he says, warning of a "fragile situation". It follows a surge in December unemployment from 4.7 per cent to 5 per cent, the sharpest spike in a quarter century. Inflation fears are subsiding fast.
Bernanke insists that the Fed has learnt the lesson from the catastrophic errors of the 1930s. At the late Milton Friedman's 90th birthday party, he apologised for the sins of his institutional forefathers. "Yes, we did it, we're very sorry, we won't do it again."
Tuesday, January 15, 2008
Citigroup Posts a $10B Q4 2007 Loss
A sign of the times. By the way, we are all in this boat together so cries for “let it fail” are not helpful. I am not condoning the decisions Citigroup made by a long shot. In my mind they failed at basic risk analysis. With that said this news will effect many people adversely, including everyone that is still in the stock market. Text in bold is my emphasis. From CNNMoney:
Citigroup Inc. delivered some of the worst quarterly results in its history Tuesday, reporting nearly a $10 billion loss that was much wider than Wall Street had anticipated.
The financial giant also announced a bigger-than-expected writedown of $18.1 billion related to soured mortgage investments, a 41 percent cut to its dividend, and a $12.5 billion infusion from investors in Kuwait, Singapore and the state of New Jersey. . . . .
. . . . . The company recorded a net loss of $9.83 billion, or $1.99 a share, in the fourth quarter. In the same period last year, the company reported a profit of $5.13 billion, or $1.03 per share.
Citi's top line took a big hit. The company reported revenue of $7.2 billion for the quarter, down 70 percent from $23.8 billion a year earlier. . . .
. . . . Pandit, who arrived in office a little over a month ago, blamed the company's grim results on the mortgage-related writedown, subprime exposure in the company's fixed-income business and a surge in credit costs in its U.S. consumer loan portfolio.
Citi also announced major restructuring moves, including a reduction in the company's quarterly dividend from 54 cents to 32 cents a share, making it the latest financial institution to reduce its dividend payout.
The New York-based firm also said it raised $12.5 billion in capital from outside investors and would raise an additional $2 billion through the public sale of convertible preferred securities.
Citigroup also said it would continue to sell some of its non-core assets. Recently it trimmed its stake in the Brazilian credit card issuer Redecard SA.
"We are taking comprehensive action to position Citi for the future with the capital strength that will allow us to refocus on earnings and earnings growth," Pandit said in a statement.
"In an uncertain environment, these actions put us on our 'front foot,' focused on capturing opportunities that earn attractive returns for our shareholders," the statement said.
There had been intense speculation recently that the company would take Tuesday's earnings as an opportunity to unveil major restructuring initiatives, including selling some non-critical assets, slashing its bloated payroll or cutting the company's dividend.
Citigroup's stock endured one of its worst annual performances on record last year and was the worst performing Dow component in 2007. Its shares finished the year down 47 percent.
A sign of the times. By the way, we are all in this boat together so cries for “let it fail” are not helpful. I am not condoning the decisions Citigroup made by a long shot. In my mind they failed at basic risk analysis. With that said this news will effect many people adversely, including everyone that is still in the stock market. Text in bold is my emphasis. From CNNMoney:
Citigroup Inc. delivered some of the worst quarterly results in its history Tuesday, reporting nearly a $10 billion loss that was much wider than Wall Street had anticipated.
The financial giant also announced a bigger-than-expected writedown of $18.1 billion related to soured mortgage investments, a 41 percent cut to its dividend, and a $12.5 billion infusion from investors in Kuwait, Singapore and the state of New Jersey. . . . .
. . . . . The company recorded a net loss of $9.83 billion, or $1.99 a share, in the fourth quarter. In the same period last year, the company reported a profit of $5.13 billion, or $1.03 per share.
Citi's top line took a big hit. The company reported revenue of $7.2 billion for the quarter, down 70 percent from $23.8 billion a year earlier. . . .
. . . . Pandit, who arrived in office a little over a month ago, blamed the company's grim results on the mortgage-related writedown, subprime exposure in the company's fixed-income business and a surge in credit costs in its U.S. consumer loan portfolio.
Citi also announced major restructuring moves, including a reduction in the company's quarterly dividend from 54 cents to 32 cents a share, making it the latest financial institution to reduce its dividend payout.
The New York-based firm also said it raised $12.5 billion in capital from outside investors and would raise an additional $2 billion through the public sale of convertible preferred securities.
Citigroup also said it would continue to sell some of its non-core assets. Recently it trimmed its stake in the Brazilian credit card issuer Redecard SA.
"We are taking comprehensive action to position Citi for the future with the capital strength that will allow us to refocus on earnings and earnings growth," Pandit said in a statement.
"In an uncertain environment, these actions put us on our 'front foot,' focused on capturing opportunities that earn attractive returns for our shareholders," the statement said.
There had been intense speculation recently that the company would take Tuesday's earnings as an opportunity to unveil major restructuring initiatives, including selling some non-critical assets, slashing its bloated payroll or cutting the company's dividend.
Citigroup's stock endured one of its worst annual performances on record last year and was the worst performing Dow component in 2007. Its shares finished the year down 47 percent.
The Current Debate About Fiscal and Monetary Stimulus
The article below from the NY Times gives a good overview of the current debate about stimulating the economy. Basically, we are caught between inflation fears on one hand and fiscal stimulus that may be too slow and too late on the other hand. This puts the Fed in the middle and they may not have enough tools to do the job. Hmmm. The folks in Washington DC are going to earn their stripes on this one. Text in bold is my emphasis.
As leaders in Washington turn their attention to efforts to avert a looming downturn, many economists suggest that it may already be too late to change the course of the economy over the first half of the year, if not longer.
With a wave of negative signs gathering force, economists, policy makers and investors are debating just how much the economy could be damaged in 2008. Huge and complex, the American economy has in recent years been aided by a global web of finance so elaborate that no one seems capable of fully comprehending it. That makes it all but impossible to predict how much the economy can be expected to fall before it stabilizes. . . . .
. . . . .The measures now being debated in Washington and on the campaign trail — tax rebates, added help for the unemployed and those facing sharply higher heating bills and, most immediately, a move by the Federal Reserve to further cut interest rates — could certainly moderate the severity of a downturn. Democrats and the Bush administration are considering a package of such measures that could reach $100 billion.
But the forces menacing the economy, like the unraveling of the real estate market and high oil prices, are too entrenched to be swiftly dispatched by government largess or cheaper credit, some economists say.
“The question is not whether we will have a recession, but how deep and prolonged it will be,” said David Rosenberg, the chief North American economist at Merrill Lynch. “Even if the Fed’s moves are going to work, it will not show up until the later part of 2008 or 2009.”
In the view of many analysts, the economy is now in a downward spiral, with each piece of negative news setting off the next. Falling housing prices have eroded the ability of homeowners to borrow against their property, threatening their ability to spend freely. Concerns about tightening consumer spending have prompted businesses to slow hiring, limiting wage increases and in turn applying the brakes anew to consumer spending.
Not everyone is convinced that the American economy is headed for a recession, defined as six months of economic contraction. The economy often serves up indications of distress that later turn out to be false warnings.
But some economists think a recession may have begun in December. In the last two weeks, there have been signs that a substantial downturn may already be unfolding. The Labor Department reported a sharp slowdown in job creation in December. Retailers said that sales last month were extremely disappointing, capping the worst gain for a holiday season in five years. A widely watched index showed manufacturing slowing, despite a weak American dollar that has encouraged growth in exports.
The construction of new homes has already fallen by some 40 percent since the peak in 2006. The sales of new homes have fallen even faster, suggesting that a large oversupply of places to live will continue to drag down prices.
Home prices have dropped by about 7 percent since the peak in 2006, but some experts suggest they could fall by another 15 to 20 percent before hitting bottom.
“There is still a long way to go,” said Nouriel Roubini, an economist at the Stern School of Business at NYU and chairman of the research firm RGE Monitor.
Mr. Roubini has long predicted the real estate downturn would cause a severe recession. He envisions foreclosures accelerating this year, and banks counting fresh losses. That could make them less able to lend and further slow economic activity, not just in the United States but around the world.
“We’re facing the risk of a systemic financial crisis,” Mr. Roubini said. “It’s not just subprime mortgages. The same kind of reckless lending has been occurring throughout the financial system. And it’s not only mortgages: Now it’s credit cards and auto loans, where we see problems increasing. The toxic junk is popping up everywhere.”
Banks, including commercial banks and investment banks, have so far acknowledged losses of some $100 billion, yet anxiety persists that more large write-offs are coming.
“Firms will go to great lengths to hide or delay reporting losses,” said Paul Ashworth of Capital Economics. “What we know now therefore might only be the tip of the iceberg.”
In a speech on Thursday, the Federal Reserve chairman, Dr. Bernanke, zeroed in on the nervousness of bankers as a prime factor slowing the economy, even as the Fed tries to stimulate it with cheaper credit.
“Developments have prompted banks to become protective of their liquidity and balance sheet capacity and thus to become less willing to provide funding to other market participants,” he said. His comments were widely construed as an assurance that the Fed would soon cut rates again. The Fed already dropped rates three times during the last four months of 2007.
Wall Street has clamored for the Fed to keep lowering rates, cognizant that cheaper credit is generally good not just for encouraging borrowing and spending but also for corporate profits.
But some economists fear that lower rates will simply provide a short-lived boost at the expense of the economy’s longer-term health: Cheap money encourages foolish investments, they say, which is precisely how Americans came to experience the evaporation of wealth in the Internet era, followed by housing prices rising beyond any reasonable connection to incomes.
“This appears to be a panic on the part of the Fed,” said Michael T. Darda, chief economist at MKM Partners, a research and trading firm. “The housing bubble was a reaction from the effort to protect us from the collapse of the tech bubble. What’s the next bubble going to be as a consequence of trying to protect us against this?”
Mr. Darda asserts that the economy would be fine if left to its own devices, maintaining that the job market is healthier than most economists think. He contends that the December jobs report is likely to be revised to show that far more jobs were created than the 18,000 reported by the Labor Department.
“That could be important in terms of reversing the direction,” Mr. Darda said. “We need to see evidence that the labor market isn’t falling apart. That’s critical.”
But most economists seem convinced that the economy has slowed significantly, and say it is the severity of a downturn that is in doubt, not the existence of one.
“If we have a recession with a modest consumer retrenchment, and the rest of the world holds up, this could be three quarters of disappointment,” said Robert Barbera, the chief economist of ITG. “The risk is a more dramatic decline for the consumer.”
There is little doubt that the Fed will lower its benchmark rate later this month, making it cheaper for banks to lend money to one another. But there is more doubt whether Washington can quickly agree on fiscal policy moves — that is, raising spending or cutting taxes — in an election year in which the White House and Congress are controlled by different parties.
A recession could pack enormous political consequences. Over the last century, the economy has been in a recession four times in the early part of a presidential election year, according to the National Bureau of Economic Research. In each of those years — 1920, 1932, 1960 and 1980 — the party of the incumbent president lost the election.
Much discussed now in Washington and on the campaign trail is a potential rebate for taxpayers, similar to one that seemed to lubricate spending during the last recession six years ago. But worries remain over whether such a move could exacerbate inflation, and some doubt that the benefits would be felt rapidly enough to justify the risks.
While tax rebates can encourage spending and generate jobs, Mr. Roubini said, the government cannot afford to unleash the significant amounts — $300 billion or $400 billion — that he believes would be required to ensure a substantial rebound in economic growth.
“Whatever they’re going to do,” he said, “it’s going to be cosmetic.”
And most economists concur that even meaningful policies will probably take several months to filter through such an enormous economy. By the time they take effect, the country could already be in a recession.
The article below from the NY Times gives a good overview of the current debate about stimulating the economy. Basically, we are caught between inflation fears on one hand and fiscal stimulus that may be too slow and too late on the other hand. This puts the Fed in the middle and they may not have enough tools to do the job. Hmmm. The folks in Washington DC are going to earn their stripes on this one. Text in bold is my emphasis.
As leaders in Washington turn their attention to efforts to avert a looming downturn, many economists suggest that it may already be too late to change the course of the economy over the first half of the year, if not longer.
With a wave of negative signs gathering force, economists, policy makers and investors are debating just how much the economy could be damaged in 2008. Huge and complex, the American economy has in recent years been aided by a global web of finance so elaborate that no one seems capable of fully comprehending it. That makes it all but impossible to predict how much the economy can be expected to fall before it stabilizes. . . . .
. . . . .The measures now being debated in Washington and on the campaign trail — tax rebates, added help for the unemployed and those facing sharply higher heating bills and, most immediately, a move by the Federal Reserve to further cut interest rates — could certainly moderate the severity of a downturn. Democrats and the Bush administration are considering a package of such measures that could reach $100 billion.
But the forces menacing the economy, like the unraveling of the real estate market and high oil prices, are too entrenched to be swiftly dispatched by government largess or cheaper credit, some economists say.
“The question is not whether we will have a recession, but how deep and prolonged it will be,” said David Rosenberg, the chief North American economist at Merrill Lynch. “Even if the Fed’s moves are going to work, it will not show up until the later part of 2008 or 2009.”
In the view of many analysts, the economy is now in a downward spiral, with each piece of negative news setting off the next. Falling housing prices have eroded the ability of homeowners to borrow against their property, threatening their ability to spend freely. Concerns about tightening consumer spending have prompted businesses to slow hiring, limiting wage increases and in turn applying the brakes anew to consumer spending.
Not everyone is convinced that the American economy is headed for a recession, defined as six months of economic contraction. The economy often serves up indications of distress that later turn out to be false warnings.
But some economists think a recession may have begun in December. In the last two weeks, there have been signs that a substantial downturn may already be unfolding. The Labor Department reported a sharp slowdown in job creation in December. Retailers said that sales last month were extremely disappointing, capping the worst gain for a holiday season in five years. A widely watched index showed manufacturing slowing, despite a weak American dollar that has encouraged growth in exports.
The construction of new homes has already fallen by some 40 percent since the peak in 2006. The sales of new homes have fallen even faster, suggesting that a large oversupply of places to live will continue to drag down prices.
Home prices have dropped by about 7 percent since the peak in 2006, but some experts suggest they could fall by another 15 to 20 percent before hitting bottom.
“There is still a long way to go,” said Nouriel Roubini, an economist at the Stern School of Business at NYU and chairman of the research firm RGE Monitor.
Mr. Roubini has long predicted the real estate downturn would cause a severe recession. He envisions foreclosures accelerating this year, and banks counting fresh losses. That could make them less able to lend and further slow economic activity, not just in the United States but around the world.
“We’re facing the risk of a systemic financial crisis,” Mr. Roubini said. “It’s not just subprime mortgages. The same kind of reckless lending has been occurring throughout the financial system. And it’s not only mortgages: Now it’s credit cards and auto loans, where we see problems increasing. The toxic junk is popping up everywhere.”
Banks, including commercial banks and investment banks, have so far acknowledged losses of some $100 billion, yet anxiety persists that more large write-offs are coming.
“Firms will go to great lengths to hide or delay reporting losses,” said Paul Ashworth of Capital Economics. “What we know now therefore might only be the tip of the iceberg.”
In a speech on Thursday, the Federal Reserve chairman, Dr. Bernanke, zeroed in on the nervousness of bankers as a prime factor slowing the economy, even as the Fed tries to stimulate it with cheaper credit.
“Developments have prompted banks to become protective of their liquidity and balance sheet capacity and thus to become less willing to provide funding to other market participants,” he said. His comments were widely construed as an assurance that the Fed would soon cut rates again. The Fed already dropped rates three times during the last four months of 2007.
Wall Street has clamored for the Fed to keep lowering rates, cognizant that cheaper credit is generally good not just for encouraging borrowing and spending but also for corporate profits.
But some economists fear that lower rates will simply provide a short-lived boost at the expense of the economy’s longer-term health: Cheap money encourages foolish investments, they say, which is precisely how Americans came to experience the evaporation of wealth in the Internet era, followed by housing prices rising beyond any reasonable connection to incomes.
“This appears to be a panic on the part of the Fed,” said Michael T. Darda, chief economist at MKM Partners, a research and trading firm. “The housing bubble was a reaction from the effort to protect us from the collapse of the tech bubble. What’s the next bubble going to be as a consequence of trying to protect us against this?”
Mr. Darda asserts that the economy would be fine if left to its own devices, maintaining that the job market is healthier than most economists think. He contends that the December jobs report is likely to be revised to show that far more jobs were created than the 18,000 reported by the Labor Department.
“That could be important in terms of reversing the direction,” Mr. Darda said. “We need to see evidence that the labor market isn’t falling apart. That’s critical.”
But most economists seem convinced that the economy has slowed significantly, and say it is the severity of a downturn that is in doubt, not the existence of one.
“If we have a recession with a modest consumer retrenchment, and the rest of the world holds up, this could be three quarters of disappointment,” said Robert Barbera, the chief economist of ITG. “The risk is a more dramatic decline for the consumer.”
There is little doubt that the Fed will lower its benchmark rate later this month, making it cheaper for banks to lend money to one another. But there is more doubt whether Washington can quickly agree on fiscal policy moves — that is, raising spending or cutting taxes — in an election year in which the White House and Congress are controlled by different parties.
A recession could pack enormous political consequences. Over the last century, the economy has been in a recession four times in the early part of a presidential election year, according to the National Bureau of Economic Research. In each of those years — 1920, 1932, 1960 and 1980 — the party of the incumbent president lost the election.
Much discussed now in Washington and on the campaign trail is a potential rebate for taxpayers, similar to one that seemed to lubricate spending during the last recession six years ago. But worries remain over whether such a move could exacerbate inflation, and some doubt that the benefits would be felt rapidly enough to justify the risks.
While tax rebates can encourage spending and generate jobs, Mr. Roubini said, the government cannot afford to unleash the significant amounts — $300 billion or $400 billion — that he believes would be required to ensure a substantial rebound in economic growth.
“Whatever they’re going to do,” he said, “it’s going to be cosmetic.”
And most economists concur that even meaningful policies will probably take several months to filter through such an enormous economy. By the time they take effect, the country could already be in a recession.
Advertising Seen Struggling in 2008 and Possibly 2009
Projected advertising budgets would actually be a good leading indicator if you could get the data. From the WSJ Real Time Economics:
After Merrill Lynch and Goldman Sachs issued forecasts last week calling for recession, Advertising Age magazine asked several advertising and marketing execs what that could mean for the industry. Their answers varied, but many were surprisingly worried about the outlook not for this year, but for next year. Martin Sorrell, CEO of ad firm WPP Group, said the summer Olympics, presidential election, and European soccer championships mean a healthy advertising year in 2008. “‘08 is not the issue;” he told Ad Age, “‘09 is.” Morningstar analyst Larry Witt said that “If there is a recession and it stretches into 2009, it’ll be bad.”
Many noted that advertising is already feeling the pinch of an economic slowdown.
Jon Swallen, senior vice president of research at TNS Media Intelligence, said “we’re already seeing a flattening in [ad] spending by department stores, restaurants and a host of categories related to housing.” Chuck McBride, executive creative director at Cutwater, said “It’s starting to hit home now. I get the feeling clients don’t want you to spend as much, to save money where you can and do more.”
Finally, Kia Motors chief marketing officer, Ian Beavis, had this to say about the beleaguered auto industry:
“You can smell recession. Dealership traffic is down [across the board]. There is more negative equity in cars [being paid off through loans]. New loans are being made for extended loan cycles of 72 to 84 months, longer than most marriages last. And none of us have seen the impact of $100-a-barrel gas prices. It’s a train wreck.”
Projected advertising budgets would actually be a good leading indicator if you could get the data. From the WSJ Real Time Economics:
After Merrill Lynch and Goldman Sachs issued forecasts last week calling for recession, Advertising Age magazine asked several advertising and marketing execs what that could mean for the industry. Their answers varied, but many were surprisingly worried about the outlook not for this year, but for next year. Martin Sorrell, CEO of ad firm WPP Group, said the summer Olympics, presidential election, and European soccer championships mean a healthy advertising year in 2008. “‘08 is not the issue;” he told Ad Age, “‘09 is.” Morningstar analyst Larry Witt said that “If there is a recession and it stretches into 2009, it’ll be bad.”
Many noted that advertising is already feeling the pinch of an economic slowdown.
Jon Swallen, senior vice president of research at TNS Media Intelligence, said “we’re already seeing a flattening in [ad] spending by department stores, restaurants and a host of categories related to housing.” Chuck McBride, executive creative director at Cutwater, said “It’s starting to hit home now. I get the feeling clients don’t want you to spend as much, to save money where you can and do more.”
Finally, Kia Motors chief marketing officer, Ian Beavis, had this to say about the beleaguered auto industry:
“You can smell recession. Dealership traffic is down [across the board]. There is more negative equity in cars [being paid off through loans]. New loans are being made for extended loan cycles of 72 to 84 months, longer than most marriages last. And none of us have seen the impact of $100-a-barrel gas prices. It’s a train wreck.”
Subscribe to:
Posts (Atom)