A Perfect Storm

There's a storm brewing.

No, I don't mean Hanna, or Ike. (And as an aside, the title and topic of this thread is meant in no way to downplay the havoc wreaked by those and other storms. Having spent a week of each of the last two summers in the Gulf, helping to rebuild homes that were damaged or destroyed by Katrina, I have nothing but respect for the forces of a hurricane, and for those whose lives are affected tragically.)

This storm has dollar signs attached to it. A "financial tsunami," as Bill Gross put it. But while I agree with the sage of PIMCO on what's to come, we part company on the proposed solution. He wants to throw money at it.

Why? Because he makes it up in spades if the credit markets get fixed.

Me, I want the powers that be - Congress, the President, the Fed, and especially the Treasury Secretary - who's done enough harm trying to help already - to leave things be. Let nature run its ugly and painful course, and then we can get back to the business of saving, then spending. And our economy will once again be strong. Sustainably strong.

Greenspan intervened in the wake of the dot-com bubble, made money too cheap, too long, and fueled the speculative housing bubble, which is even worse. (Oh, and Greenspan fathered the dot-com bubble too, again with cheap money.) If we try to shore this thing up, I don't think we pull out of the next catastrophe to which the "fix" gives way.

Here are the weather conditions that lead me to predict this perfect storm.

1. The Fannie/Freddie bailout, on which topic I've already ranted. But let me add another couple of points.

First, my fellow bloggers don't seem to like this any more than I do:

"This maneuver is 100% consistent with the government grand plan to boil us like frogs in a pot of debt since, in the govie's estimation, it appears that too many people have suddenly decided not to jump in the cauldron of their own volition." - Fil Zucchi, Minyanville.com

"A strong rally lasts for a while, but it eventually fades and makes a new lower low; each 'rescue rally' has been shorter in duration and weaker in intensity than the immediately prior one." - Barry Ritholtz, The Big Picture

"The Treasury said it will appoint two independent asset managers as financial agents of the US government to manage a government portfolio of MBS ... which means that the US government could become akin to the single largest hedge fund on the planet." Paul Jackson, Housingwire.com

"For housing, this doesn't change anything. Housing fundamentals remain the same: excess supply (especially distressed supply), tighter lending standards, and prices are still too high compared to incomes and rents. The possible slightly lower mortgage rates are almost inconsequential compared to supply and price issues. And the economy is still in recession that will linger for some time." - Calculated Risk

Second, another of my favorite guys, Alan "Mr. Bubble" Greenspan, argued last week that "we need laws that specify and limit the conditions for bailouts - laws that authorize the Treasury to use taxpayer money to counter systemic financial breakdowns transparently and directly rather than through the central bank as was done during the blowup of Bear Stearns." He added that the Fed should not be viewed as a "magical piggy bank."

Hey, Al - neither should I.

He advocated the creation of an agency like the old RTC of thrift crisis days, arguing that "as with the RTC, the public cost could be minimized," according to Report on Business.

Excuse me? I lived under the RTC for two years. The RTC dramatically increased the public cost of the S&L crisis. By more than $300 million in the case of one thrift alone.

2. Overlooked in the bailout was the fact that Paulson extended the same secured credit lines Fannie and Freddie got to the Federal Home Loan Banks.

The FHLBs are the largest US borrowers after the federal government, according to Bloomberg.

If they're not in trouble, why extend the same credit lines to them? Guess where the next shoe might drop?

3. Lehman is going to fail. They can't find a buyer, and not for lack of trying.

4. The next round of earnings reports from the financials are going to be ugly.

5. Option ARM negative-am triggers will start being hit soon, and continue through 2010.

6. I saw a news clip that showed people facing foreclosure are putting the house in their spouse's name, buying a new, cheaper house with a fixed-rate mortgage, and walking away from the first house. They say they'll repair their credit later. This will only exacerbate the problem.

Credit card companies are jacking up rates for the slightest decline in creditworthiness, and cutting limits, too. When these clowns are foreclosed on, their card rates will double. Borrowers of their ilk have already demonstrated they'd rather default on the mortgage than give up the plastic, since that's how they fund their monthly necessities. So the debacle will continue.

Oh - and the new mortgages will be among those guaranteed by the "new and improved" Fannie and Freddie. And the MBS will be bought by the Treasury. Cool.

7. As for credit cards, we're going to start seeing financial institutions fail due to credit card, HELOC and auto loan losses. Look for the first one following third quarter results.

8. Guess what the latest credit "innovations" are? 401(k) and reverse mortgage debit cards. Honest.

The lunacy continues.