No, this isn't a Native American greeting. It's a response to Dem hopeful Hillary Clinton's new economic plan.
Hillary introduced her "Economic Blueprint" this weekend. Only it's not a blueprint. See, I've had a house built. I've seen the blueprint. And it showed not only what the house would look like, but how it would be built. And that's what's missing from Hillary's plan. The how.
For example, she says she'll create "good jobs" here in the US. Okay - how? She doesn't say. She says she'll stop companies from "exporting jobs overseas like they were some commodity" (which they are). Great - how? Okay, in this case she actually does give us one idea: eliminate tax breaks for those companies that do export jobs. Which begs the question - you guessed it - how?
What tax breaks? Is there a specific break for exporting jobs now? No? Well then, what would she do? If a company has employees overseas, does she just eliminate all tax breaks that company gets? Wait a minute, some of those breaks are legit. So do we penalize companies that do things we want to provide an incentive for them to do by taking away the legitimate tax breaks we've used to provide those incentives, because they're also doing something we don't want them to do? Gee, then won't they just stop doing ALL the things we want them to do, since the incentives are gone?
And how do we differentiate between a company that has employees overseas because they have operations there, and those who shift call centers and the like to other countries? I mean, is McDonald's supposed to cook all their burgers over here and then ship them to China for consumption? Is GM supposed to build its cars for the French market in the US, instead of in France, where it's more cost-effective for them to build them due to shipping, materials and related costs, rather than labor costs?
Hillary also wants to freeze mortgage rates for five years on subprime ARMs, a monumentally stupid and criminally unfair idea. Again, how? Hank Paulson tried to get it done voluntarily, and we've already given up hope on Project Hope. What's Hillary going to do, make it mandatory? That'll make the bondholders' lawyers very happy. (Given how tight Hillary is with trial lawyers, maybe that's her motive.) Besides, by the time she's sworn in, the bulk of the impact of the subprime/option ARM imbroglio will have already wreaked its havoc on the economies of the world.
She has promised to impose a windfall tax on the profits of oil companies. Guess who else is planning to do that? Venezuelan dictator Hugo Chavez. Now there's a similarity that should send chills up our collective spine.
Monday, February 18, 2008
Saturday, February 16, 2008
Can’t Find the Bottom With Both Hands and a Map?
A lot of people are asking “where’s the bottom?” in terms of both housing and the stock market. A survey of Bloomberg users found that the consensus expectation for the bottom in global stocks is six months out. Well, what the heck, I’m a Bloomberg user (though they didn’t ask me), so I’ll take a stab at it myself.
For starters, let’s take a look at the National Association of Home Builders’ (NAHB) Housing Market Index, a gauge of builder sentiment. The index peaked at 72 in June 2005, when housing starts were in excess of 2 million units, annualized. A sharp decline then ensued, arrested only by a one-month pickup in October 2005, a month of no change in January 2006, a five-month pickup from September 2006 through February 2007, and another unchanged month last November. Other than those months, the index plummeted to a low of 18 in December of last year, before rebounding to 19 last month.
These numbers are record lows for the index, which is based on three components: current sales, projected sales six months hence, and prospective buyer traffic. The current lows are lower even than during the last credit-driven recession, in 1991.
Now, the recent numbers suggest that builder sentiment may be bottoming out. It fell from a September 2007 reading of 20 – matching the then-record low from January 1991 – to 19 the following month, where it stuck before dropping to the new record low of 18 in December, then rebounding to 19 last month. The forecast for February’s reading – due out next Tuesday – is also 19. So in other words, the index has been hovering around the 18-20 range for six months, if the forecast holds.
So, has it bottomed out? Well, one could make that argument, especially if the forecast does come to fruition. I won’t make that claim, though, for a couple of reasons. First, the forecast could prove overly optimistic, and I’d look stupid for taking a position three days before a number comes out. I hate when that happens. And second, many observers thought the bottom had been reached in September 2006, when the index hit 30, then rebounded to 39 by February, before resuming its free-fall. Boy, were they wrong. (For the record, I kept stalwartly predicting that the worst was yet to come, and turned out to be right, looking pretty smart in the process. I love when that happens.)
Part of the index’s recent performance has been driven by an uptick in the six months’ forward sales outlook. So apparently builders think that sales will improve beginning in about May. If they’re right, we could say that housing will officially bottom out this spring or summer.
That may be premature. Let’s look at how starts and permits have behaved. Starts peaked at about 2.3 million units, annualized, in January 2006, a couple of quarters after the peak in the NAHB Index. Thus began a slide that has seen starts plummet to just more than 1 million units, less than half the peak (that number, too, is due for release next week, and may well see a piercing of the 1 million unit threshold, which hasn’t happened since 1991).
Similarly, permits peaked at almost 2.3 million in September 2005 (leading starts, as would be expected) before beginning a similar decline that has also brought us to the brink of the 1 million permit threshold. If anything, the recent performance of both starts and permits has exhibited an acceleration of the decline. And the continued slide in permit issuance suggests that starts will also continue to fall.
It should be noted that in 2002, the National Association of Realtors, using readily-available and reliably-forecasted demographic and immigration data, projected that starts would need to average 1.5 million units per year throughout this decade to keep up with housing demand. Well, starts have never been at or below that level since the projection was made, averaging about 1.8 million from 2001-04, and never falling below 2.0 million in 2005.
As a result, the supply of new homes for sale has risen from 4.1 months’ worth in mid-2005, when the NAHB Index peaked, to 9.6 months in December of last year. And it keeps going higher, in spite of the fact that builders have dramatically cut back on building.
But given the excess of construction activity over projected demand as noted above, by my estimation we built about 1.9 million too many homes from 2001 through the end of last year. To work off that inventory, builders could just sit completely idle for the next five quarters. Or, at a level of, say 1 million starts a year, it would take about four years to work down the inventory. Either way, it’s hard to argue that we’ve seen the bottom in housing yet. The reality is probably something in the middle – in other words, between five quarters and four years, with starts between zero and 1 million. So a reasonably safe guess for the bottom might be two and a half years, with starts falling to about 750,000 a year or so at the trough.
One indication that things could hit bottom somewhat sooner is the modest improvement in the supply of existing homes, which rose from 4.5 months in 2005 to 10.7 months last October, before contracting to “just” 9.6 months in December. But at that pace it would still take more than a year to get the supply of existing homes back down to historical norms. Then, we could see trade-up activity start to take a serious bite out of the excess inventory of new homes. That would still probably put the bottom two years out.
Working against this, of course, is the continued foreclosures of subprime ARMS, and now serious delinquencies and foreclosures on prime mortgages are trending up as well. Also, this year will bring “option ARMageddon,” as I argued earlier, which will only result in more vacant homes on the market. And there is nothing the Fed can do about this, short of cutting the funds target back to 1.00% by spring, in which case I’m leaving the country.
So where’s the bottom for housing? None of this is definitive, but I’m pretty confident it’s not this summer. I’m not even sure it’s foreseeable, as there’s another, longer-term, systemic housing correction coming in 2010, one related to the demographic shift among the baby boom generation. But that’s a topic for another day. For now, I’ll say the bottom of this correction in housing will occur around the end of 2009, at best.
As for the stock market, let’s look at the S&P during and following the last recession. It peaked above 1,500 in the second half of 2000 before beginning a slide that persisted through the subsequent recession, which lasted only a couple of quarters of the following year, but it extended beyond that through 2002, bottoming out at just over 800 that October. The 9/11 terror attacks didn’t help, but they didn’t artificially depress stocks for long either; the S&P did plunge right after 9/11, but rebounded through the end of 2001 before resuming its slide early the next year.
So, the duration of the S&P’s slide in the last bear market was about two years, during which time it fell by almost half, from above 1,500 to 800.
More recently, the S&P peaked – again above 1,500 – last October, and has since shed just over 200 points, or about 13%. We could just assume the slide will extend another 20 months or so, and about another 500 points, like last time. But we’d like to have something a little more concrete than that.
Well, here it is. First, this recession will be worse than the last one. It will last longer, and run deeper, especially as housing’s woes extend. So the concomitant decline in equities will likely last longer as well, and run deeper. That’s just the seat-of-the-pants assessment, though.
A second observation can be made by returning to the NAHB Index. As the 1990-91 recession loomed, George Bush Sr. commented, “As housing goes, so goes the economy.” A pretty astute observation. The NAHB Index tracks pretty well with the S&P 500, lagged about 18 months (for more detail on this, go to www.cnbsnet.com, click on “View all MarketCast Articles,” then click “Search MarketCast Articles” at the bottom of the page, then select May 2007 from the “View a Specific Issue” drop-downs, and click on the article titled the same as President Bush’s quote above).
If we look at what’s happened to the NAHB Index subsequent to that article, which was penned during the early 2007 rebound in the index (and I did a follow-up in the December MarketCast titled “Recession Indicators Revisited”), we can extrapolate the expected trailing S&P trend. If we assume that the NAHB Index has indeed hit bottom recently, then the bottom for the S&P would be approximately a year and a half out. That would correspond fairly well with the rough 20-month estimate postulated above.
As for the trough level, that same exercise in extrapolation puts the S&P at about 400, or about 1,000 points lower than today. That falls somewhere between the 800 we get from just looking at the last bear market, and the seat-of-the-pants assessment that things are worse this time. One thing’s for certain: stocks won’t meaningfully rebound until the housing crisis ends, and that’s about two years out.
So is 400 my forecast? I’ll hedge my bet, and say the bottom’s around 600, and it’s a good two years out – call it second quarter 2010. Now, aren’t you glad you read this far to reach such a gloomy conclusion? Told you I was a curmudgeon.
For starters, let’s take a look at the National Association of Home Builders’ (NAHB) Housing Market Index, a gauge of builder sentiment. The index peaked at 72 in June 2005, when housing starts were in excess of 2 million units, annualized. A sharp decline then ensued, arrested only by a one-month pickup in October 2005, a month of no change in January 2006, a five-month pickup from September 2006 through February 2007, and another unchanged month last November. Other than those months, the index plummeted to a low of 18 in December of last year, before rebounding to 19 last month.
These numbers are record lows for the index, which is based on three components: current sales, projected sales six months hence, and prospective buyer traffic. The current lows are lower even than during the last credit-driven recession, in 1991.
Now, the recent numbers suggest that builder sentiment may be bottoming out. It fell from a September 2007 reading of 20 – matching the then-record low from January 1991 – to 19 the following month, where it stuck before dropping to the new record low of 18 in December, then rebounding to 19 last month. The forecast for February’s reading – due out next Tuesday – is also 19. So in other words, the index has been hovering around the 18-20 range for six months, if the forecast holds.
So, has it bottomed out? Well, one could make that argument, especially if the forecast does come to fruition. I won’t make that claim, though, for a couple of reasons. First, the forecast could prove overly optimistic, and I’d look stupid for taking a position three days before a number comes out. I hate when that happens. And second, many observers thought the bottom had been reached in September 2006, when the index hit 30, then rebounded to 39 by February, before resuming its free-fall. Boy, were they wrong. (For the record, I kept stalwartly predicting that the worst was yet to come, and turned out to be right, looking pretty smart in the process. I love when that happens.)
Part of the index’s recent performance has been driven by an uptick in the six months’ forward sales outlook. So apparently builders think that sales will improve beginning in about May. If they’re right, we could say that housing will officially bottom out this spring or summer.
That may be premature. Let’s look at how starts and permits have behaved. Starts peaked at about 2.3 million units, annualized, in January 2006, a couple of quarters after the peak in the NAHB Index. Thus began a slide that has seen starts plummet to just more than 1 million units, less than half the peak (that number, too, is due for release next week, and may well see a piercing of the 1 million unit threshold, which hasn’t happened since 1991).
Similarly, permits peaked at almost 2.3 million in September 2005 (leading starts, as would be expected) before beginning a similar decline that has also brought us to the brink of the 1 million permit threshold. If anything, the recent performance of both starts and permits has exhibited an acceleration of the decline. And the continued slide in permit issuance suggests that starts will also continue to fall.
It should be noted that in 2002, the National Association of Realtors, using readily-available and reliably-forecasted demographic and immigration data, projected that starts would need to average 1.5 million units per year throughout this decade to keep up with housing demand. Well, starts have never been at or below that level since the projection was made, averaging about 1.8 million from 2001-04, and never falling below 2.0 million in 2005.
As a result, the supply of new homes for sale has risen from 4.1 months’ worth in mid-2005, when the NAHB Index peaked, to 9.6 months in December of last year. And it keeps going higher, in spite of the fact that builders have dramatically cut back on building.
But given the excess of construction activity over projected demand as noted above, by my estimation we built about 1.9 million too many homes from 2001 through the end of last year. To work off that inventory, builders could just sit completely idle for the next five quarters. Or, at a level of, say 1 million starts a year, it would take about four years to work down the inventory. Either way, it’s hard to argue that we’ve seen the bottom in housing yet. The reality is probably something in the middle – in other words, between five quarters and four years, with starts between zero and 1 million. So a reasonably safe guess for the bottom might be two and a half years, with starts falling to about 750,000 a year or so at the trough.
One indication that things could hit bottom somewhat sooner is the modest improvement in the supply of existing homes, which rose from 4.5 months in 2005 to 10.7 months last October, before contracting to “just” 9.6 months in December. But at that pace it would still take more than a year to get the supply of existing homes back down to historical norms. Then, we could see trade-up activity start to take a serious bite out of the excess inventory of new homes. That would still probably put the bottom two years out.
Working against this, of course, is the continued foreclosures of subprime ARMS, and now serious delinquencies and foreclosures on prime mortgages are trending up as well. Also, this year will bring “option ARMageddon,” as I argued earlier, which will only result in more vacant homes on the market. And there is nothing the Fed can do about this, short of cutting the funds target back to 1.00% by spring, in which case I’m leaving the country.
So where’s the bottom for housing? None of this is definitive, but I’m pretty confident it’s not this summer. I’m not even sure it’s foreseeable, as there’s another, longer-term, systemic housing correction coming in 2010, one related to the demographic shift among the baby boom generation. But that’s a topic for another day. For now, I’ll say the bottom of this correction in housing will occur around the end of 2009, at best.
As for the stock market, let’s look at the S&P during and following the last recession. It peaked above 1,500 in the second half of 2000 before beginning a slide that persisted through the subsequent recession, which lasted only a couple of quarters of the following year, but it extended beyond that through 2002, bottoming out at just over 800 that October. The 9/11 terror attacks didn’t help, but they didn’t artificially depress stocks for long either; the S&P did plunge right after 9/11, but rebounded through the end of 2001 before resuming its slide early the next year.
So, the duration of the S&P’s slide in the last bear market was about two years, during which time it fell by almost half, from above 1,500 to 800.
More recently, the S&P peaked – again above 1,500 – last October, and has since shed just over 200 points, or about 13%. We could just assume the slide will extend another 20 months or so, and about another 500 points, like last time. But we’d like to have something a little more concrete than that.
Well, here it is. First, this recession will be worse than the last one. It will last longer, and run deeper, especially as housing’s woes extend. So the concomitant decline in equities will likely last longer as well, and run deeper. That’s just the seat-of-the-pants assessment, though.
A second observation can be made by returning to the NAHB Index. As the 1990-91 recession loomed, George Bush Sr. commented, “As housing goes, so goes the economy.” A pretty astute observation. The NAHB Index tracks pretty well with the S&P 500, lagged about 18 months (for more detail on this, go to www.cnbsnet.com, click on “View all MarketCast Articles,” then click “Search MarketCast Articles” at the bottom of the page, then select May 2007 from the “View a Specific Issue” drop-downs, and click on the article titled the same as President Bush’s quote above).
If we look at what’s happened to the NAHB Index subsequent to that article, which was penned during the early 2007 rebound in the index (and I did a follow-up in the December MarketCast titled “Recession Indicators Revisited”), we can extrapolate the expected trailing S&P trend. If we assume that the NAHB Index has indeed hit bottom recently, then the bottom for the S&P would be approximately a year and a half out. That would correspond fairly well with the rough 20-month estimate postulated above.
As for the trough level, that same exercise in extrapolation puts the S&P at about 400, or about 1,000 points lower than today. That falls somewhere between the 800 we get from just looking at the last bear market, and the seat-of-the-pants assessment that things are worse this time. One thing’s for certain: stocks won’t meaningfully rebound until the housing crisis ends, and that’s about two years out.
So is 400 my forecast? I’ll hedge my bet, and say the bottom’s around 600, and it’s a good two years out – call it second quarter 2010. Now, aren’t you glad you read this far to reach such a gloomy conclusion? Told you I was a curmudgeon.
Friday, February 15, 2008
The Three Stooges
The classic comedy trio came to mind as I was watching Ben Bernanke, Hank Paulson and Chris Cox testify before the Senate Banking Committee - I just couldn't help myself. The hard part was deciding who was who. I finally settled on Cox as the mean-spirited Moe, which only seems appropriate given his role as SEC chief, even though he didn't say much. Both Bernanke and Paulson sport the bald pate to qualify as Curly, and both are hapless enough to play either of the remaining characters. I finally flipped a coin and cast Paulson as Curly, and Bernanke as Larry.
My wife, who really had no exposure to Paulson prior to watching his performance yesterday, asked, "What's wrong with him?" His uneasy, stammering responses had her convinced he was the victim of some debilitating illness, or that he was an octogenarian, or that he just doesn't know what the heck he's talking about. I assured her that he's only 61, in good health, and highly educated, and that his most recent stint was running Goldman Sachs (which he deftly maneuvered out of the bulk of its subprime exposure just prior to his departure, leaving Goldman as the best performer on the Street).
No, his problem was the same problem that afflicts so many people when they're put on the spot and either don't know the answer to the question or don't want to give it: he was lying through his teeth. The more I watched him, the more I thought that if you put a bad toupee and moustache on him, took off his glasses, and took about 20 years off him, you'd have Uncle Rico from "Napoleon Dynamite." Come to think of it, Bernanke wouldn't make a bad Napoleon, the way he lets Wall Street bully him. Napoleon's cooler, though.
To wit: Bernanke said his own personal forecast called for meager growth in the near term, followed by more robust growth later in the year as monetary and fiscal stimulus kick in. Okay, Ben, so if the economy's going to continue growing, and with inflation still a serious threat (did anybody catch the 13.7% year-over-year spike in import prices reported this morning?), then why are you easing as though we were in the Great Depression? Why do you exude a sense of panic, of impending doom? Your actions say "economic armageddon," even as your words say "growth will slow."
"Curly" Paulson echoed those sentiments in his stammering, stilted responses. The duo's concerted remarks prompted New York Senator Chuck Schumer to point out that his discussions with Street firms indicate considerably greater concern than the responses he was getting from them, which generated the following response from Paulson: "Um ... aahhh ... well ... er ..." Schumer just might have been the most reasonable, realistic and least political person in the room.
True to form, Bernanke promised that the Fed stands ready to cut rates further as an insurance policy against the downside risk to growth (but wait - the economy's going to continue growing, just slower, right? I mean, how much slower than 4Q07's +0.6% pace can we get?). However, the head of the central bank of the world's largest economy didn't say whether he stands ready to fight inflation. Why? Because he doesn't. Ben Bernanke is a pansy.
What do the markets think of Bernanke? Immediately after his comments, options on Fed funds futures contracts suggested that of all the possible outcomes for the Fed funds target between now and the March 18 FOMC meeting (we have to say "between now and then," because Ben has cheerfully - okay, Ben does nothing cheerfully - proven that he's more than willing to cut just days before a scheduled meeting to acquiesce Wall Street), the second most likely is a whopping 100 basis point cut. If that's not viewing a guy as soft, I'm not sure what is.
Others don't think too highly of him, either. Both Democratic candidates for President have said they'd can him. At this stage of the political game, why does a candidate say they'll do anything? Because it's the right thing to do? No, because they think it's the popular thing to do. And canning the worst Fed Chairman we've ever had would undoubtedly be a popular move.
Is it too early in Ben's tenure for me to label him "worst ever?" Maybe. But I don't think we can afford to give this clown more time to screw things up, especially when our economy is the most fragile it's been in about 80 years.
Back to "Curly" Paulson. Among the stammering were a couple of out-of-character remarks for Hank, who is nearly Bernanke's equal when it comes to pandering to Wall Street. Referring to his latest brilliant plan, "Project Lifeline," which followed "Project Hope" (I'll get back to that in a minute), he acknowledged, "None of these efforts are a silver bullet that will undo the excesses of the past years."
He also warned against making permanent the recent stimulus plan's provision to raise the limits on loans Fannie Mae and Freddie Mac can buy from $417,000 to $729,750. "Raising the loan limit flies in the face of the affordable housing mission," he said. I never knew Hank was such an idealist when it comes to housing and the markets. Check that - he's not. More likely, he knows just how precariously undercapitalized Fannie and Freddie are, and he doesn't want them imploding before he can get the heck out of Washington.
As for "Project Hope" and "Project Lifeline," the latter seems to represent an admission that the former was an abject failure. As will be the latter. What's next, "Project Resuscitation?" "Project Lazarus?" I should have a contest to name the next Treasury project. The winner gets an abandoned house - Lord knows there are plenty of them to give away.
"Moe" Cox pledged to "increase transparency" in the capital markets, something that's been promised since ... the last recession, which was exacerbated by accounting irregularities. Cox reported that the SEC currently has more than three dozen subprime-related investigations underway, and the FBI is investigating 16 companies. The ratings agencies have also come under the SEC's scrutiny.
Meanwhile, the losses just keep on coming. It's so comforting to have these three on that wall. Listening to them brought to mind Kevin Bacon, in the closing parade scene in "Animal House," shouting, "All is well!" while chaos and panic rage all around him.
My wife, who really had no exposure to Paulson prior to watching his performance yesterday, asked, "What's wrong with him?" His uneasy, stammering responses had her convinced he was the victim of some debilitating illness, or that he was an octogenarian, or that he just doesn't know what the heck he's talking about. I assured her that he's only 61, in good health, and highly educated, and that his most recent stint was running Goldman Sachs (which he deftly maneuvered out of the bulk of its subprime exposure just prior to his departure, leaving Goldman as the best performer on the Street).
No, his problem was the same problem that afflicts so many people when they're put on the spot and either don't know the answer to the question or don't want to give it: he was lying through his teeth. The more I watched him, the more I thought that if you put a bad toupee and moustache on him, took off his glasses, and took about 20 years off him, you'd have Uncle Rico from "Napoleon Dynamite." Come to think of it, Bernanke wouldn't make a bad Napoleon, the way he lets Wall Street bully him. Napoleon's cooler, though.
To wit: Bernanke said his own personal forecast called for meager growth in the near term, followed by more robust growth later in the year as monetary and fiscal stimulus kick in. Okay, Ben, so if the economy's going to continue growing, and with inflation still a serious threat (did anybody catch the 13.7% year-over-year spike in import prices reported this morning?), then why are you easing as though we were in the Great Depression? Why do you exude a sense of panic, of impending doom? Your actions say "economic armageddon," even as your words say "growth will slow."
"Curly" Paulson echoed those sentiments in his stammering, stilted responses. The duo's concerted remarks prompted New York Senator Chuck Schumer to point out that his discussions with Street firms indicate considerably greater concern than the responses he was getting from them, which generated the following response from Paulson: "Um ... aahhh ... well ... er ..." Schumer just might have been the most reasonable, realistic and least political person in the room.
True to form, Bernanke promised that the Fed stands ready to cut rates further as an insurance policy against the downside risk to growth (but wait - the economy's going to continue growing, just slower, right? I mean, how much slower than 4Q07's +0.6% pace can we get?). However, the head of the central bank of the world's largest economy didn't say whether he stands ready to fight inflation. Why? Because he doesn't. Ben Bernanke is a pansy.
What do the markets think of Bernanke? Immediately after his comments, options on Fed funds futures contracts suggested that of all the possible outcomes for the Fed funds target between now and the March 18 FOMC meeting (we have to say "between now and then," because Ben has cheerfully - okay, Ben does nothing cheerfully - proven that he's more than willing to cut just days before a scheduled meeting to acquiesce Wall Street), the second most likely is a whopping 100 basis point cut. If that's not viewing a guy as soft, I'm not sure what is.
Others don't think too highly of him, either. Both Democratic candidates for President have said they'd can him. At this stage of the political game, why does a candidate say they'll do anything? Because it's the right thing to do? No, because they think it's the popular thing to do. And canning the worst Fed Chairman we've ever had would undoubtedly be a popular move.
Is it too early in Ben's tenure for me to label him "worst ever?" Maybe. But I don't think we can afford to give this clown more time to screw things up, especially when our economy is the most fragile it's been in about 80 years.
Back to "Curly" Paulson. Among the stammering were a couple of out-of-character remarks for Hank, who is nearly Bernanke's equal when it comes to pandering to Wall Street. Referring to his latest brilliant plan, "Project Lifeline," which followed "Project Hope" (I'll get back to that in a minute), he acknowledged, "None of these efforts are a silver bullet that will undo the excesses of the past years."
He also warned against making permanent the recent stimulus plan's provision to raise the limits on loans Fannie Mae and Freddie Mac can buy from $417,000 to $729,750. "Raising the loan limit flies in the face of the affordable housing mission," he said. I never knew Hank was such an idealist when it comes to housing and the markets. Check that - he's not. More likely, he knows just how precariously undercapitalized Fannie and Freddie are, and he doesn't want them imploding before he can get the heck out of Washington.
As for "Project Hope" and "Project Lifeline," the latter seems to represent an admission that the former was an abject failure. As will be the latter. What's next, "Project Resuscitation?" "Project Lazarus?" I should have a contest to name the next Treasury project. The winner gets an abandoned house - Lord knows there are plenty of them to give away.
"Moe" Cox pledged to "increase transparency" in the capital markets, something that's been promised since ... the last recession, which was exacerbated by accounting irregularities. Cox reported that the SEC currently has more than three dozen subprime-related investigations underway, and the FBI is investigating 16 companies. The ratings agencies have also come under the SEC's scrutiny.
Meanwhile, the losses just keep on coming. It's so comforting to have these three on that wall. Listening to them brought to mind Kevin Bacon, in the closing parade scene in "Animal House," shouting, "All is well!" while chaos and panic rage all around him.
Wednesday, February 13, 2008
More Political Musings
Since this is an historic election (the first serious African-American candidate, the first serious female-American candidate, the oldest candidate) I had wanted to buy bobble-heads of all the candidates, assuming I could find them.
Well, in Hillary's case, it turns out it's unnecessary - the woman IS a bobble-head. I watched coverage of her campaign speech in El Paso last night (after Obama mopped the floor with her in DC, MD and VA). After every point she made, she nodded her head up and down. Apparently she's so insecure about her standing now that Obama is cleaning her clock, she has to reassure herself that SOMEONE agrees with her points - even if it's her.
She's sure focusing on Texas - she should, since if she loses there (or Ohio), you can pretty well put a fork in her. She's spending most of her time around the border, focusing on the Hispanic vote, which has tended to go in her favor versus Obama. However, she may be missing the point. Obama will surely garner the African-American vote, and the way the delegates work in Texas works in his favor in light of that.
It seems that delegates in Texas go to the particular state Senate districts a given candidate wins. There are two largely African-American districts, one in Dallas and one in Houston, that account for a combined 13 delegates. By contrast, two largely Hispanic districts along the Mexican border offer only six delegates between them. So Hillary could win even a majority of districts, but if they're not the right districts, she loses.
Some people, mistrustful of the Clintons (no! really?), think that even if Obama wins more delegates, Bill will start calling in his markers among the super-delegates who have yet to cast a vote ("remember when I appointed you ..."). But I doubt that he has enough residual influence to pull off an upset in that scenario. Politics is all about what you've done for me lately, and riding the wave of momentum. If Obama's got the mo, the super-delegates will forget Billary like yesterday's news. One of them already anonymously said that if she fails to win Ohio AND Texas, she's finished.
Hillary has also hinted at legal action to make Florida and Michigan count. That's so typical. She was fine with the rules before those primaries (although she broke at least one of them, campaigning in Florida when the candidates had agreed not to). But after she won races that effectively no one was entering, now she wants them to count. If I were Obama, I'd say, fine - but now that they count, let's re-do them, with full-on campaigning and a fresh vote. Given his ability to raise money relative to hers, it would be a safe bet for him.
How ironic would it be for Florida to become a legal ground zero for the Democratic nomination?
Well, in Hillary's case, it turns out it's unnecessary - the woman IS a bobble-head. I watched coverage of her campaign speech in El Paso last night (after Obama mopped the floor with her in DC, MD and VA). After every point she made, she nodded her head up and down. Apparently she's so insecure about her standing now that Obama is cleaning her clock, she has to reassure herself that SOMEONE agrees with her points - even if it's her.
She's sure focusing on Texas - she should, since if she loses there (or Ohio), you can pretty well put a fork in her. She's spending most of her time around the border, focusing on the Hispanic vote, which has tended to go in her favor versus Obama. However, she may be missing the point. Obama will surely garner the African-American vote, and the way the delegates work in Texas works in his favor in light of that.
It seems that delegates in Texas go to the particular state Senate districts a given candidate wins. There are two largely African-American districts, one in Dallas and one in Houston, that account for a combined 13 delegates. By contrast, two largely Hispanic districts along the Mexican border offer only six delegates between them. So Hillary could win even a majority of districts, but if they're not the right districts, she loses.
Some people, mistrustful of the Clintons (no! really?), think that even if Obama wins more delegates, Bill will start calling in his markers among the super-delegates who have yet to cast a vote ("remember when I appointed you ..."). But I doubt that he has enough residual influence to pull off an upset in that scenario. Politics is all about what you've done for me lately, and riding the wave of momentum. If Obama's got the mo, the super-delegates will forget Billary like yesterday's news. One of them already anonymously said that if she fails to win Ohio AND Texas, she's finished.
Hillary has also hinted at legal action to make Florida and Michigan count. That's so typical. She was fine with the rules before those primaries (although she broke at least one of them, campaigning in Florida when the candidates had agreed not to). But after she won races that effectively no one was entering, now she wants them to count. If I were Obama, I'd say, fine - but now that they count, let's re-do them, with full-on campaigning and a fresh vote. Given his ability to raise money relative to hers, it would be a safe bet for him.
How ironic would it be for Florida to become a legal ground zero for the Democratic nomination?
Tuesday, February 12, 2008
A Project By Any Other Name
Hank Paulson is the Don Quixote of the subprime debacle – he never seems to run out of windmills at which to tilt. Now, he’s put together a group including B of A, Citi, JPMorgan Chase, Wells Fargo, Washington Mutual (WaMu) and Countrywide to back “Project Lifeline,” which would impose a 30-day freeze on foreclosures while the lenders consider modification of loan terms for borrowers facing the loss of their homes.
Without doing so publicly – Hank would never admit to failure – Paulson appears to be acknowledging, through the new venture, that “Project Hope” did not go far enough in providing relief to homeowners facing foreclosure. That relief has been slow to come, drawing fire from Congress (which itself acted with deliberate slowness in passing the fiscal stimulus package, due to the presidential campaigns of three Senators, but that’s different). So now Paulson is urging lenders to go beyond Project Hope’s five-year rate freeze. Project Hope, Project Lifeline … what’s next, Project Resuscitation?
A spokesperson for the Center for Responsible Lending saw that the emperor is naked, and showed no fear in saying so: “This is good, but we’ve seen this over and over again. The fact that they keep having to roll out subsequent rescue plans every few weeks underscores that each plan is inadequate.” You have to love the line-up Paulson has assembled to execute the plan: Citi, WaMu and Countrywide are down an average 66% since the beginning of 2007; B of A, Wells Fargo and JPMorgan have fared better, only losing an average 16% over that span. Yeah, this is the "Dream Team" that I'd want saving America from wretched subprime excess.
Without doing so publicly – Hank would never admit to failure – Paulson appears to be acknowledging, through the new venture, that “Project Hope” did not go far enough in providing relief to homeowners facing foreclosure. That relief has been slow to come, drawing fire from Congress (which itself acted with deliberate slowness in passing the fiscal stimulus package, due to the presidential campaigns of three Senators, but that’s different). So now Paulson is urging lenders to go beyond Project Hope’s five-year rate freeze. Project Hope, Project Lifeline … what’s next, Project Resuscitation?
A spokesperson for the Center for Responsible Lending saw that the emperor is naked, and showed no fear in saying so: “This is good, but we’ve seen this over and over again. The fact that they keep having to roll out subsequent rescue plans every few weeks underscores that each plan is inadequate.” You have to love the line-up Paulson has assembled to execute the plan: Citi, WaMu and Countrywide are down an average 66% since the beginning of 2007; B of A, Wells Fargo and JPMorgan have fared better, only losing an average 16% over that span. Yeah, this is the "Dream Team" that I'd want saving America from wretched subprime excess.
Saturday, February 9, 2008
The Bottom of the Subprime Market and Other Musings
Let me be the first to officially declare the bottom of the subprime market. It seems that Bear Stearns - once the most respected bond house on the Street, now a joke since it kicked off the subprime implosion with the failure of two of its hedge funds last summer - has taken a reported $1 billion bet against the subprime market. In other words, Bear - which bet heavily on subprime in its ironically named High-Grade Structured Credit Fund and High-Grade Structured Credit Enhanced Leveraged Fund - is now betting that subprime will get worse.
On the fundamentals, I concur. But it's tempting to bet against Bear betting against subprime, so badly have they miscalculated the sector in the past. Bear posted its first-ever quarterly loss in the fourth quarter of last year on subprime losses, and has been courted by Chinese securities giant Citic, among others.
I've cruised the Caribbean fairly extensively, and it's common for the islands and the Mexican and Central American ports to readily accept dollars in lieu of local currency. But now, we Americans, long accustomed to everyone else in the world speaking our language and accepting our currency, are getting a taste of our own medicine.
Increasing numbers of businesses in New York City are reported to be accepting euros, pounds and other foreign currency, something that was unheard of not long ago. The hordes of Europeans flocking to the US to vacation and shop, taking advantage of unprecedented exchange rates in their favor, are bringing their euros into Big Apple shops - and the shopkeepers are accepting them. In fact, some aren't even bothering to exchange them, holding them instead for their own next trip abroad.
It's a far cry from the time not too many years ago when I booked a room in a London boutique hotel overlooking Hyde Park for my family. The hotel was running a special where it charged the rack rate in US dollars, effectively creating a one-for-one exchange rate between the dollar and the pound. At that time, $1.42 would buy a pound; now it takes $1.95, and it took $2.11 in November. We won't see those specials again for a while, but the Europeans and Brits are getting great deals here. Maybe we should send the tax rebates to them - they'll spend them.
On that topic, a survey by American Century Investments, the mutual fund giant headquartered right here in Kansas City, finds that more than half of respondents plan to save their tax rebates or pay down debt, as I've predicted all along (and as was the case with the post 9/11 rebates, in spite of what the revisionist historian Hank Paulson says). As I've noted earlier, what else do politicians expect when they throw cash at people when they lack confidence about their financial future?
According to the survey results, 36% of Americans will reduce debt with their rebates, while 25% will sock them away. Just over a quarter - 27% - said they plan to immediately spend the money. So even if the entire plan were devoted to the rebates, that would provide a spending boost of just $410 million, or 0.0003% of GDP. Problem solved.
One last musing: it's been entertaining to see all the TV stars, movie stars, rock stars and authors endorse this year's slate of presidential hopefuls. It wasn't that long ago that endorsements were made by newspapers, labor unions, trade associations and other politicians. Now, we've got Oprah, Robert DeNiro, Chuck Norris and Donny Osmond publicly backing candidates, and author John Grisham has thrown his, er, pen into the ring. This should be a criterion for the right to vote: if you are actually inclined to say, "Gee, Candidate X is good enough for Chuck Norris, so he's good enough for me," you shouldn't be allowed in the booth.
Now if you'll excuse me, I need to call a press conference to announce my endorsement for president - I want my 15 minutes on TV.
On the fundamentals, I concur. But it's tempting to bet against Bear betting against subprime, so badly have they miscalculated the sector in the past. Bear posted its first-ever quarterly loss in the fourth quarter of last year on subprime losses, and has been courted by Chinese securities giant Citic, among others.
I've cruised the Caribbean fairly extensively, and it's common for the islands and the Mexican and Central American ports to readily accept dollars in lieu of local currency. But now, we Americans, long accustomed to everyone else in the world speaking our language and accepting our currency, are getting a taste of our own medicine.
Increasing numbers of businesses in New York City are reported to be accepting euros, pounds and other foreign currency, something that was unheard of not long ago. The hordes of Europeans flocking to the US to vacation and shop, taking advantage of unprecedented exchange rates in their favor, are bringing their euros into Big Apple shops - and the shopkeepers are accepting them. In fact, some aren't even bothering to exchange them, holding them instead for their own next trip abroad.
It's a far cry from the time not too many years ago when I booked a room in a London boutique hotel overlooking Hyde Park for my family. The hotel was running a special where it charged the rack rate in US dollars, effectively creating a one-for-one exchange rate between the dollar and the pound. At that time, $1.42 would buy a pound; now it takes $1.95, and it took $2.11 in November. We won't see those specials again for a while, but the Europeans and Brits are getting great deals here. Maybe we should send the tax rebates to them - they'll spend them.
On that topic, a survey by American Century Investments, the mutual fund giant headquartered right here in Kansas City, finds that more than half of respondents plan to save their tax rebates or pay down debt, as I've predicted all along (and as was the case with the post 9/11 rebates, in spite of what the revisionist historian Hank Paulson says). As I've noted earlier, what else do politicians expect when they throw cash at people when they lack confidence about their financial future?
According to the survey results, 36% of Americans will reduce debt with their rebates, while 25% will sock them away. Just over a quarter - 27% - said they plan to immediately spend the money. So even if the entire plan were devoted to the rebates, that would provide a spending boost of just $410 million, or 0.0003% of GDP. Problem solved.
One last musing: it's been entertaining to see all the TV stars, movie stars, rock stars and authors endorse this year's slate of presidential hopefuls. It wasn't that long ago that endorsements were made by newspapers, labor unions, trade associations and other politicians. Now, we've got Oprah, Robert DeNiro, Chuck Norris and Donny Osmond publicly backing candidates, and author John Grisham has thrown his, er, pen into the ring. This should be a criterion for the right to vote: if you are actually inclined to say, "Gee, Candidate X is good enough for Chuck Norris, so he's good enough for me," you shouldn't be allowed in the booth.
Now if you'll excuse me, I need to call a press conference to announce my endorsement for president - I want my 15 minutes on TV.
Thursday, February 7, 2008
The Next Big Thing
Once again it’s nice to see the masses climb on the bandwagon. After predicting at the beginning of this year that option ARMs would displace subprime ARMs as the story of the year, I’m seeing more press devoted toward the former product. These loans offered the borrower the option of paying the fully-amortizing principal and interest (P&I) payment, the interest-only payment, or a lower payment that would result in negative amortization (adding the shortfall between the optional minimum payment and the interest-only payment to the loan’s balance each month).
Generally, the loan payments only adjust upward by 7.5% per year until the fifth year the loan is outstanding, at which time the payment jumps to the fully-amortizing P&I payment. But once the loan balance reaches 110-120% of the original amount, the payment immediately increases to the fully-amortizing P&I payment. Since the majority of these loans were made when the Fed funds target was 1.00% (thanks again, Dr. Greenspan), higher rates have resulted in higher negative amortization amounts, which means that many of these loans will hit their triggers this year and next.
Option ARMs accounted for 8.9% of the $3 trillion in US mortgage originations in 2006 alone - that's $267 billion. They made up another 8.3% of 2005 originations, so we can safely assume the total volume in those two years alone was around a half-trillion dollars. Many were securitized, and of those that were in 2007, 20% had a loan-to-value (LTV) ratio greater than 90%. As these loans begin to reach the full-am trigger, with home prices down about 5% year-over-year (thus far), it's going to get ugly - fast.
Who took out these loans? The original target market was extremely high net worth homebuyers, who often have irregular cash inflows and thus seek the lowest possible monthly payment on what is typically a sizeable transaction, but have the wherewithal to pay off the loan – or a substantial part of it – in a lump sum at some point when their ship comes in. They’re not the problem, but in about 2005, they no longer made up the bulk of the target market.
Real estate speculators accounted for 12% of option ARMs securitized last year alone. That’s a problem, because these guys have no skin in the game. To them, it’s a business loan, so the old adage that the last debt that the borrower will default on is his mortgage goes out the window. (Actually, that old adage is dead for another reason, but I’ll save that for another day.)
The remainder of option ARM borrowers were either misled by unscrupulous lenders, or were seeking to leverage themselves into more house than they could afford with a conventional mortgage or even an interest-only loan. I tend to lump these two categories together to some degree. Let’s say I’m one of these supposedly “duped” borrowers. I go to buy a house, and the lender steers me into an option ARM. Once it hits the trigger and the payment jumps, I should be able to afford the higher payment – unless one of two conditions is true.
The first is that the only way I could afford this particular house was at the minimum payment on the option ARM. Shouldn’t I have had some idea that was the case? If I make minimum wage, shouldn’t I realize that something’s fishy if I can afford a 3,000 square foot, four-bedroom, three-car garage home on a golf course? And the second condition – which may occur in concert with the first – is that I’m otherwise over-extended, and can’t afford a higher mortgage payment without defaulting on some other debt payment.
Either way, I have some culpability, and bear ultimate financial responsibility. This “I just wanted a piece of the American Dream” crap doesn’t wash with me. One has the responsibility to be able to discern whether one’s personal version of the American Dream is a shanty or a mansion. We’re all not entitled to the latter.
For the most part, these loans did not require verification of income or assets, layering an additional level of risk onto the reset risk and the high loan-to-value. (Such loans are referred to as “liar loans” because the lenders typically know the borrowers aren’t truthfully representing their income, further diluting the “victim” argument.) And most borrowers were qualified at the minimum payment, not the interest-only or fully-amortizing payment (80% of them go for the minimum-payment option – who wouldn't?).
Serious delinquencies on option ARMs (of 90 days or more) rose from 0.6% in the fourth quarter of 2006 to 5.7% for the same quarter last year. The three biggest holders of this paper are Wachovia, Washington Mutual and Countrywide. The latter wrote down its option ARM portfolio by $35 million for the quarter, up from just $1 million a year earlier. The loans have been referred to as the neutron bombs of the mortgage market: they’ll kill all the people, but leave the houses standing. Indeed, there’s a blog called "Option ARMageddon".
Even if the decline in real estate values wouldn’t prevent many option ARM borrowers from refinancing, mortgage rates would. Given the extremely low payment, converting an option ARM to a 30-year conventional fixed-rate loan at today’s rates – which are even down from a year ago – would result in an estimated 150% payment increase. These are truly “damned-if-you-do, damned-if-you-don’t” loans.
Generally, the loan payments only adjust upward by 7.5% per year until the fifth year the loan is outstanding, at which time the payment jumps to the fully-amortizing P&I payment. But once the loan balance reaches 110-120% of the original amount, the payment immediately increases to the fully-amortizing P&I payment. Since the majority of these loans were made when the Fed funds target was 1.00% (thanks again, Dr. Greenspan), higher rates have resulted in higher negative amortization amounts, which means that many of these loans will hit their triggers this year and next.
Option ARMs accounted for 8.9% of the $3 trillion in US mortgage originations in 2006 alone - that's $267 billion. They made up another 8.3% of 2005 originations, so we can safely assume the total volume in those two years alone was around a half-trillion dollars. Many were securitized, and of those that were in 2007, 20% had a loan-to-value (LTV) ratio greater than 90%. As these loans begin to reach the full-am trigger, with home prices down about 5% year-over-year (thus far), it's going to get ugly - fast.
Who took out these loans? The original target market was extremely high net worth homebuyers, who often have irregular cash inflows and thus seek the lowest possible monthly payment on what is typically a sizeable transaction, but have the wherewithal to pay off the loan – or a substantial part of it – in a lump sum at some point when their ship comes in. They’re not the problem, but in about 2005, they no longer made up the bulk of the target market.
Real estate speculators accounted for 12% of option ARMs securitized last year alone. That’s a problem, because these guys have no skin in the game. To them, it’s a business loan, so the old adage that the last debt that the borrower will default on is his mortgage goes out the window. (Actually, that old adage is dead for another reason, but I’ll save that for another day.)
The remainder of option ARM borrowers were either misled by unscrupulous lenders, or were seeking to leverage themselves into more house than they could afford with a conventional mortgage or even an interest-only loan. I tend to lump these two categories together to some degree. Let’s say I’m one of these supposedly “duped” borrowers. I go to buy a house, and the lender steers me into an option ARM. Once it hits the trigger and the payment jumps, I should be able to afford the higher payment – unless one of two conditions is true.
The first is that the only way I could afford this particular house was at the minimum payment on the option ARM. Shouldn’t I have had some idea that was the case? If I make minimum wage, shouldn’t I realize that something’s fishy if I can afford a 3,000 square foot, four-bedroom, three-car garage home on a golf course? And the second condition – which may occur in concert with the first – is that I’m otherwise over-extended, and can’t afford a higher mortgage payment without defaulting on some other debt payment.
Either way, I have some culpability, and bear ultimate financial responsibility. This “I just wanted a piece of the American Dream” crap doesn’t wash with me. One has the responsibility to be able to discern whether one’s personal version of the American Dream is a shanty or a mansion. We’re all not entitled to the latter.
For the most part, these loans did not require verification of income or assets, layering an additional level of risk onto the reset risk and the high loan-to-value. (Such loans are referred to as “liar loans” because the lenders typically know the borrowers aren’t truthfully representing their income, further diluting the “victim” argument.) And most borrowers were qualified at the minimum payment, not the interest-only or fully-amortizing payment (80% of them go for the minimum-payment option – who wouldn't?).
Serious delinquencies on option ARMs (of 90 days or more) rose from 0.6% in the fourth quarter of 2006 to 5.7% for the same quarter last year. The three biggest holders of this paper are Wachovia, Washington Mutual and Countrywide. The latter wrote down its option ARM portfolio by $35 million for the quarter, up from just $1 million a year earlier. The loans have been referred to as the neutron bombs of the mortgage market: they’ll kill all the people, but leave the houses standing. Indeed, there’s a blog called "Option ARMageddon".
Even if the decline in real estate values wouldn’t prevent many option ARM borrowers from refinancing, mortgage rates would. Given the extremely low payment, converting an option ARM to a 30-year conventional fixed-rate loan at today’s rates – which are even down from a year ago – would result in an estimated 150% payment increase. These are truly “damned-if-you-do, damned-if-you-don’t” loans.
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