Page 5 of
5 CREDIT BUBBLE
BULLETIN At
the heart of disorder By Doug
Noland
At the same time, plastic has pushed
into every corner of American life, making new
inroads that worry some economists and card
issuers." February 4 – Market News International
(Kevin Kastner): "Banks tightened lending
standards across the board on all types of
mortgage and commercial loans as concerns about
credit quality in the near term made banks more
cautious as demand for these loans declined… The
outlook for loan quality in 2008 was bleak, with
70%-80% of U.S. banks expecting a deterioration of
mortgage loan quality this year, including prime
mortgages. In addition, 75%-80% of banks
anticipated a deterioration in C&I loan
quality. About 55% of U.S. banks reported tighter
lending standards for prime mortgages, compared
with
40% in…October. This percentage pales in
comparison to the nearly 85% of banks that
reported tightening lending standards on
nontraditional mortgages and the 71% of banks that
reported tightening standards on subprime
mortgages."
February 6 – Bloomberg (Carlos
Torres): "The increase in U.S. unemployment that’s
jeopardizing economic growth is being driven by a
drop in the number of people working for
themselves, government figures indicate. Hours
worked by the self-employed dropped at a 15.5%
annual pace in the last three months of 2007, the
biggest decrease in 15 years, according…the Labor
Department. The decline ‘is probably related to
the housing downturn, since one in six workers in
construction is self-employed, twice the average
for all industries,’ said Patrick Newport, an
economist at Global Insight… The number of people
running their own businesses dropped by 365,000
last quarter, compared with the same period in
2006…"
GSE Watch February 7 -
Dow Jones (Michael R. Crittenden): "The downturn
in the housing market and the increasing reliance
on Fannie Mae and Freddie Mac to provide liquidity
to the mortgage market is taking its toll on the
two firms, their regulator said… ‘Public
disclosures indicate that Freddie Mac will report
annual losses for the first time in its history
and Fannie Mae for the first time in 22 years,’
James Lockhart, director of the Office of Federal
Housing Enterprise Oversight, said…"
February 7 - Dow Jones (Michael R.
Crittenden): "The increases in mortgage loan
limits included in the U.S. economic stimulus
package have been hailed as a major step in
dealing with a stubborn housing crisis. But even
Fannie Mae and Freddie Mac… have said the measure
carries some challenges. As a result, it remains
to be seen what effect the change will have. ‘(The
higher mortgage limits) only are relevant if
investors accept them,’ Stanford Group analyst
Jaret Seiberg said… ‘If investors balk, the new
powers will not help the market.’ …The legislation
would increase the conforming loan limit to a
maximum of $729,750… The size of loans the Federal
Housing Administration can insure would also be
increased to $729,750 for high-cost areas, in the
hopes of replacing some of the subprime and
adjustable-rate mortgages at the root of the
current housing crisis… Once again, instead of
thinking of ways to further protect the American
taxpayer, we are actually considering ways to
further expose them for the benefit of those
making healthy six-figure salaries,’ Sen. Richard
Shelby… said… James B. Lockhart III, director of
the Office of Federal Housing Enterprise
Oversight, told the Senate Banking Committee… that
increasing the conforming loan limit presents ‘new
challenges’ for Fannie Mae and Freddie Mac. ‘Jumbo
loans would present new risks to the already
challenged GSEs. Underwriting them successfully
will require new models, systems and tough capital
allocation decisions,’ he said."
MBS/ABS/CDO/CP/Money Funds and
Derivatives Watch February 8 – The Wall
Street Journal (Nicole Gelinas): "Fitch Ratings,
while telling investors last Friday to expect
additional 'widespread and significant downgrades'
on $139 billion worth of subprime loans, has cited
a new factor in their ‘worsening performance.’
‘The apparent willingness of borrowers to ‘walk
away’ from mortgage debt,’ the analysts noted,
‘has contributed to extraordinary high levels of
early default’ on loans issued during the 18
months before the mortgage bubble burst. It
expects losses to reach 21% of initial loan
balances for subprime mortgages issued in 2006 and
26% for those issued in early 2007. Such behavior,
where not precipitated by willful fraud, shows
that American homebuyers supposedly duped by their
lenders aren't so dumb. They’re perfectly capable
of acting rationally without political
interference."
February 7 – Financial
Times (Paul J Davies): "As the bond insurers, or
monolines, have seen their seemingly rock-solid
AAA ratings begin to buckle, worries have grown
about what downgrades for these companies might
mean for banks. Now, one particular type of trade
done between banks and monolines is being seen as
an extra hidden danger. These so-called negative
basis trades were done in large volumes in recent
years. They allowed both banks and monolines to
book apparently ‘free money’ and saw monolines
writing guarantees on each other. If they have to
be unwound, it will be a costly business for all
involved. The real problem is that almost no one
has any idea how significant the profits taken on
these trades might be. These trades were
profitable because a bond could pay out more in
interest than it cost to buy the insurance
available in the derivatives market to protect the
holder against default. In the world of structured
finance, a bank would buy a bond, get it
guaranteed, or wrapped, by a monoline to support
the bond’s AAA rating, but then also pay another
monoline to write a default swap on the first
monoline, to guard against it defaulting on its
guarantee. The difference between what the bank
paid for the insurance and what it received in
yield from the bond could be pocketed as
‘risk-free’ profit – and in many cases banks took
the entire value of that income over the life of
the bond upfront. One senior industry insider
admits that billions of dollars worth of these
trades were done… Bob McKee, an analyst at
Independent Strategy, a London research house,
believes that up to $150bn worth of CDO business
done by the monolines could be negative basis
trades. Standard & Poor’s…said it believed
some of the CDOs hedged by bond insurers were part
of a strategy of "negative basis trades" The
problem is that if monolines are downgraded and
their protection becomes ineffective, profits
booked up-front need to be reversed. Restating
earnings is a very tricky area for investment
banks – not least because the traders involved
will have long ago pocketed their bonuses."
Mortgage Finance Bust
Watch February 7 – Bloomberg (Andrew Frye
and Erik Holm): "MGIC Investment Corp., the
largest U.S. mortgage insurer, is scaling back
coverage in California, Florida, Arizona and
Nevada to reduce losses on loans. The company will
offer fewer policies to homebuyers who don’t have
top credit scores… The insurer will also tighten
standards in parts of 14 other states… In the
high-risk regions, MGIC will no longer back
so-called Alt-A mortgages where borrowers don't
provide full documentation. It also won't insure
mortgages on condominiums for more than 90% of
their value."
February 7 – Bloomberg (Bob
Ivry and Jody Shenn): "Joe Ripplinger took out a
$184,000 mortgage in 2006 and makes his payments
every month. Now he owes $192,000. The 66-year-old
Minneapolis house painter has a payment- option
adjustable-rate mortgage. It allows him to write a
check for $565 a month even though he owes $1,300.
The difference is added to the mortgage, and when
his total debt reaches $212,000, or after five
years have passed, his monthly minimum will jump
to about $2,800, which he can’t afford. ‘We’re
barely making it right now,’ Ripplinger said. The
estimated 1 million homeowners with $500 billion
of option ARMs are beyond the help of
interest-rate cuts by Federal Reserve Chairman Ben
S. Bernanke… ‘We call them neutron loans because
they’re like a neutron bomb,’ said Brock Davis, a
broker with U.S. Express Mortgage Corp. Three
years later the house is still there and the
people are gone.’"
February 6 – Financial
Times (Bernard Simon): "GMAC, the financial
services group owned by Cerberus Capital
Management and General Motors, is considering the
sale of at least part of Residential Capital, its
troubled mortgage lender, ResCapafter a hefty
fourth-quarter loss. GMAC posted a net loss of
$724m, a sharp reversal from a profit of $1bn a
year earlier. ResCap’s loss grew to $921m from
$128m while earnings from motor vehicle financing
slipped to $137m from $593m. Both the US
automotive and mortgage businesses have been
squeezed by rising funding costs and problems in
the subprime sectors. However, Robert Hull, chief
financial officer, said the increase in automotive
delinquencies and losses remained "relatively
mild" and in line with previous economic
downturns. GMAC reported a 2007 loss of $2.3bn
compared with a $2.1bn profit the previous year.
Its results would translate into a net loss of at
least $300m for General Motors, well above
analysts’ forecasts."
February 6 –
Financial Times: "It is never wholly reassuring
when a company commits to support one of its
divisions ‘to the extent it doesn’t hurt our other
businesses’. But then GMAC, the financing arm of
General Motors that is 51%-owned by Cerberus
Capital Management, has little choice when it
comes to ResCap. Losses at the mortgage business
overwhelmed small fourth quarter profits in GMAC’s
other operations. ResCap has not turned a profit
since the third quarter of 2006 and has lost a
cumulative $4.5bn since."
Real Estate
Bubbles Watch February 7 – Bloomberg
(Hui-yong Yu): "Construction in central Seattle
rose last year, with $1.1 billion worth of
projects completed, 44% more than the year before,
and a further $3 billion of projects was under
way, the Downtown Seattle Association said. The
value of commercial and residential projects under
construction was up 30% from 2006."
February 8 – Bloomberg (Brian Swint):
"U.K. housing repossessions reached the highest
since 1999 last year and will increase further
this year as banks curb lending and the economy
slows, the Council for Mortgage Lenders said."
Muni Watch February 5 –
Bloomberg (Michael Quint): "U.S. securities
regulators are examining whether municipal
governments should publicly disclose when periodic
auctions used to set rates on some of their debt
fail to attract enough bidders, a spokesman for
the SEC said. About $270 billion of municipal
auction bonds have interest rates that are
determined by bidding that typically occurs every
seven, 28 or 35 days. When there aren’t enough
buyers, as has occurred in recent months, the
auction fails and bondholders who wanted to sell
are left holding the securities… ‘A failed auction
makes the bond an illiquid security, and that
certainly affects investors,’ said Lance Pan,
director of research at…Capital Advisors Group,
which manages about $7.5 billion of short-term
investments."
Fiscal
Watch February 5 – Financial Times (James
Politi): "The US administration on Monday blamed
the slowdown in the economy for a projected
increase of the budget deficit to a near-record
level of $410bn this year, or 2.9% of gross
domestic product. The expected jump in the deficit
was announced as George W. Bush sent to Congress a
$3,100bn federal budget for 2009 – the last and
largest of his eight-year presidency… The spending
plan, which is likely to set off an intense
tug-of-war with Democrats who control Congress,
includes a 7.5% increase in funding for the
military to $515bn and a cut of about $200bn over
five years in government healthcare programmes
such as Medicare… The new budget estimates that
the deficit will rise from $162bn, or 1.2% of
gross domestic product, in 2007, to more than
double that amount, or $410bn, in 2008, and $407bn
in 2009."
February 5 – Financial Times
(Demetri Sevastopulo): "US military spending
continues to soar with the Pentagon yesterday
asking Congress for a record $515bn to fund the
armed services in fiscal 2009. The military base
budget funds everything from military salaries to
big-ticket weapons, but does not include money for
the wars in Iraq and Afghanistan. The $515bn
request represents a 7.5% increase from last year,
and translates into the 11th consecutive annual
increase for the defence department."
February 6 – Dow Jones (John Godfrey):
"The U.S. federal government amassed a $90bn
budget deficit in the first four months of the
fiscal year that began Oct. 1… That deficit is
nearly double the $48 billion shortfall amassed
during the same time period in the previous fiscal
year… According to the CBO, federal receipts will
likely grow, year-to-year, 3.3%. That’s down from
roughly 7% growth in revenue the year before, and
growth rates exceeding 10% the two preceding
years. While payroll taxes through January grew
about 6.9% over the same time period last year,
individual income taxes grew just 4.4% and
corporate income taxes shrank 10.1%, the CBO said.
In contrast, federal spending through the first
four months was 8.7% higher than during the same
time period last year."
Speculator
Watch February 7 – Bloomberg (Jenny
Strasburg and Katherine Burton): "Hedge-fund
managers lost an average of 1.8% in January as
stock markets around the globe got off to their
worst start since 1990. The biggest losers were
managers who buy and bet against stocks, known as
long-short funds, which fell 4.1%, according to…
Hedge Fund Research Inc."
February 6 –
Bloomberg (Tom Cahill and Katherine Burton): "SRM
Global, the hedge fund run by former UBS AG trader
Jon Wood, fell about 30% this year as of Jan. 18…
The drop followed a loss of about 30% in 2007…"
Crude Liquidity Watch February 5
– Bloomberg (Yon Pulkrabek and Matthew Brown):
"Gulf states including Saudi Arabia and the United
Arab Emirates will be forced to revalue their
currency pegs this year following the dollar’s
declines and the Federal Reserve’s interest-rate
cuts, said Bear Stearns Cos. Five Gulf nations
lowered interest rates last week in step with the
U.S. to keep their links to the dollar even as
inflation accelerates… ‘It’s going to be very
difficult for central banks in the region to have
adequate control of monetary policy, and hence
inflation, when the Fed is slashing rates left,
right and centre and the dollar is slumping,’
Steven Barrow…wrote…"
February 7 –
Bloomberg (Will McSheehy): "Gulf states including
Saudi Arabia and the United Arab Emirates, which
control $1.8 trillion of wealth, may control ‘the
third global currency’ by 2020, according to Dubai
economist and former Lebanese minister Nasser
Saidi. ‘The common Gulf Cooperation Council
currency can emerge as a global currency that
other countries of the region, other Arab and
central Asian economies, could peg their
currencies to,’ Saidi, chief economist for the
Dubai International Financial Centre, said…"
Doug Noland is a market
strategist for the Prudent Bear
Funds.
(Republished with permission
from PrudentBear.com.
Copyright 2005-2008 David W Tice & Associates.
All rights reserved.)
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