Morning Journal-Selective transparency

Economics

This Week’s Data

The International Council of Shopping Centers reported weekly sales of major retailers up 1.0% versus the prior week and up 3.3% versus the comparable period a year ago; Redbook Research reported month to date retail chain store sales up 1.3% on a year over year basis.

The June Richmond Fed’s manufacturing index came in at -17.0 versus expectations of 0.0.
http://advisorperspectives.com/dshort/commentaries/Richmond-Fed-Manufacturing.php

Weekly mortgage applications rose 0.9% while purchase applications fell 3.0%.

Everyone Knew They Were Making Liar Loans (Mortgages)

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PIMCO Boss Bill Gross Calls For Massive Taxpayer-Backed Mortgage Refinance Initiative

Gross said the refi scheme would spur some $50-60 billion a year in new consumer spending and raise home prices between 5-10 percent.

Home Vacancies at a Record -- The Opportunity of a Lifetime

The time to buy the biggest house you can get your hands on is right now. Even if you own a house and it is underwater -- you should bite the bullet and sell it. Get a bigger home.

Sound nutty? I lived in Texas in the 1980s. I watched people scarp up houses in Houston for $400,000 -- houses that the previous owners paid $1.25 million to own.

But today the opportunity is even better. In the late 80s mortgage interest rates were around 10 percent. Now? 4.5 percent.

Imagine 20 years from now, living in your nice big beautiful house, and you locked in your monthly payment way down here. On an inflation adjusted basis you will paying peanuts.

The time to borrow money is when interest rates are low. Most of you are probably too young to remember when mortgage interest rates were 15 percent. You probably are thinking it will never happen again.

What were you thinking and doing when the Internet stock bubble burst? What were you doing in 2006? Thinking about how you had to get a nice big fat, overpriced house?

Can't quite afford the down payment? Beg, borrow, steal -- do it.

A record 19.1 million homes stood unoccupied in the first quarter and the U.S. homeownership rate fell as the recession sapped demand for real estate.

The number of vacant homes, including foreclosures, properties for sale and vacation properties, jumped from 18.6 million a year earlier, the U.S. Census Bureau said in a report today. Households that own their own residence declined for the third straight quarter to 67.3 percent.

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Bob DeMarco is a citizen journalist and twenty year Wall Street veteran. Bob has written more than 500 articles with more than 11,000 links to his work on the Internet. Content from All American Investor has been syndicated on Reuters, the Wall Street Journal, Fox News, Pluck, Blog Critics, and a growing list of newspaper websites. Bob is actively seeking syndication and writing assignments.

More from All American Investor

30 Year Conventional Mortgage Rate (Chart)

Top Hedge Fund Managers Make Billions in 2008

Systemic Risk Defined--Too Big to Fail

Ray Dalio on the current state of affairs in the market

Roubini Predicts U.S. Losses May Reach $3.6 Trillion

Option ARM--The Toxic Mortgage

Warren Buffett's Annual Letter to Investors (Cliff Notes Version)

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Is the new Toxic Asset Plan a Mirage?

More and more, it appears the new toxic asset plan is a mirage--it is being done with smoke and mirrors.

Current talk is that the Treasury is going to buy $1 trillion in troubled mortgages and related assets from financial institutions. It should be noted that this means we, the taxpayers, are going to be buying these toxic assets.

The plan is being designed to rescue the nation’s banking system by taking the toxic assets off their balance sheets. Does that sound familiar?

Nouriel Roubini has been writing about this for some time, and if he is right the numbers are staggering. More than the $2 trillion that is currently being forecast.

It appears the plan has three parts:

• The FDIC will set up investment partnerships and lend 85 percent of the money needed to buy up troubled assets that banks want to sell. This will be accomplished with low interest, non-recourse loans, and lots of taxpayer money. It remains to be seen how purchased assets will be priced. Incidentally, this is how the Resolution Trust Corporation ( RTC) unloaded much of the real estate from the savings and loan crisis--non recourse loans.
  
• The Treasury will hire four or five investment management firms, matching the private money that each of the firms puts up on a dollar-for-dollar basis with government money. If this turns out to be part of the package then one can assume they have the managers lined up.
  
• The Treasury plans to expand lending through the Term Asset-Backed Securities Loan Facility. The plan is to buy up as many toxic assets as possible so that banks can get back to lending. The available monies to the Treasury will be running out of money soon so the key word here is--leverage. We never learn.
  

This is not very different from what was proposed last September. It has more buzz words and wrinkles but one thing remains the same--lots of taxpayer money; and hope that this strategy will help avoid the inevitable nationalization of banks.

There is one big wild card. Will the banks be willing to sell the mortgages at prices substantially below the prices they paid for these securities. Stay tuned--I doubt it.

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The Big Fight Against Deflation

Sometimes you have to look beyond the obvious. It should be clear that the state of angst over the potential for deflation to bring down the financial system is enormous. The Federal Reserve announcement that they will be buying Treasuries, mortgage backed securities, and agency securities is clearly aimed at bringing liquidity back into the market. If 30 year mortgages were to fall to 4.5 percent, and if all homeownwers were able to refinance, it would create about $200 billion in cash flow savings to the consumer.

However, there are still many question that need to be answered. Will all consumers be able to refinance? What will consumers do with these cash flow savings? Will consumers spend or save? Will lower mortgage interest rates bring the supply and demand of houses into balance, or will the market continue to suffer from over supply?

The big questions is--what will be the longer term effects of the monetization of debt by the Federal Reserve? Short term this policy should bring an end to the deflations psychology. This is needed. It will bring liquidity into all debt markets; but, at what price? The monetization of debt right now looks like the necessary strategy in the short term. I agree. But, I have severe reservations about the long term.

The goal right now is to get us out of recession.

Is this new strategy a panacea or is it a Pandora's box? We will be looking at this over the weekend.

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Bob DeMarco is a citizen journalist and twenty year Wall Street veteran. Bob has written more than 500 articles with more than 11,000 links to his work on the Internet. Content from All American Investor has been syndicated on Reuters, the Wall Street Journal, Fox News, Pluck, Blog Critics, and a growing list of newspaper websites. Bob is actively seeking syndication and writing assignments.

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Bold Endeavors: How Our Government Built America, and Why It Must Rebuild Now

60 minutes World Of Trouble--Housing and Lending Practices Video

This 60 minutes video will make you sick. The kinds of lending practices you will see in this video were common place. There was one single goal--to create fee income and enrich management at the expense of ordinary Americans. Get the unsuspecting customer to refinance into a toxic mortgage like an Option Arm. Charge very high fees. This strategy enriched management at the expense of shareholders who got left holding the bag.

Three years before the housing market crash, Paul Bishop says he warned his superiors at World Savings - the nation's second largest savings and loan company - that many of the mortgages they were granting were misleading and predatory.

Watch CBS Videos Online

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I have written many times about the housing scam and Options Arms--The Toxic Mortgage

Ray Dalio on the current state of affairs in the market

Homebuyer Credit Won’t Stabilize Market, Analysts Say

Roubini Predicts U.S. Losses May Reach $3.6 Trillion

Six Errors on the Path to the Financial Crisis

Who Caused the Financial Crisis?

Option ARM--The Toxic Mortgage

Debt Binge--The Perfect Financial Storm

Pricing a Toxic Asset to the Market

The government wants to buy up toxic assets from banks. If you look up toxic in the dictionary you will find that when something is toxic it can kill you. We know that banks own lots of toxic assets. We are not hearing much discussion about the problem, how it happened, and who is responsible. In fact, the U.S. government by announcing that they are going to buy "toxic" assets is sending the message that no one is at fault or to blame.

The U.S. government is ready to reward the decision makers-- the management-- of the banks that issued these toxic assets by buying all the bad stuff and letting them keep all the good stuff. This is antithetical to how things work in the capitalistic system. When you manage a company poorly you get fired. When the collective management makes bad business decisions the company goes bankrupt. Surviving companies in same businesses get rewarded because they now have less competition and more potential customers. Sounds simple right?

Why would I as a taxpayer want to own a trillion dollar pile of toxic assets? I would not, how about you?

Here is a novel idea. How about we take our trillion and invest in bankers that avoided this mess. In other words, we supply them with capital to grow. Obviously these new banks would be strengthened and additional capital would flow to them in the form of deposits from, uh, taxpayers.  As part of the deal we require these bankers to buy toxic assets up at "real" market prices. These real market prices will be discovered in the market place. The banks can repackage and sell these assets, over time, to collection agencies and investors. This is not a novel idea. Banks, credit card companies, and the like are in the habit of selling distressed assets and then allowing the new owners of these assets to fend for themselves. In other words, these distressed assets end up in hands of companies that know how to manage them, work them out, and how to turn them into a profit. If not, they go broke. The buyers of distressed assets never do it with government money. Don't be fooled. There are plenty of vultures out there that would love to get their hands on so called "toxic" assets. The big difference here is that unlike the government they will end up owning these assets at a fair market value.

It is true that shareholders and debt owners in the pitiful companies that loaded up on toxic assets will get wiped out, or nearly wiped out. Guess what, they are going to get wiped out anyway.

Here is one thing I know. Banks are not going to sell their toxic assets to the government at anywhere near fair market value. If they do guess what is going to happen, they are going to go bankrupt on the spot.

So it appears that we taxpayers are going to buy toxic assets at well above fair market prices. Does this remind you of the Savings and Loan crisis bank in the 1980s. If it does you are crazy. The model they used back in those days won't work this time around. Oh, and by the way, when the RTC took over the saving and loan or bank went poof.

There is a good article over over on the New York Times website entitled, Big Risks for U.S. in Trying to Value Bad Bank Assets. They discuss the current disconnect in trying to price toxic assets. In other words, a bank might be pricing an asset at 97 cents on the dollar, while the market place is pricing it at 38 cents on the dollar. What price do you think your Uncle Sammy will end up paying?

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Debt Binge--The Perfect Financial Storm

When historians look back they will be writing about the Debt Binge.

A binge is any behavior indulged to excess.

In America, we now have a series of binges coming together to form the perfect financial storm. The components of the perfect storm include:  

• excessive governement borrowing from foreigners to finance enormous debt in the public sector,
• excessive borrowing by consumers in the form of mortgages, mortgage refinancings, and credit cards, 
• and, the enormous borrowing by investment banks and bank banks to leverage up their balance sheets with credit default swaps.

The most recent of the borrowing binges--the stimulus package. Or should I say--packages.

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If you saw the movie the Perfect Storm you might remember at one point in the movie it appeared that the fishermen on the Andrea Gail had ridden out the perfect storm. For a brief moment, a hole appeared in the sky and the sun peaked through. The fishermen in an almost euphoric moment thought they had ridden out the monster storm. But, as quickly as the sky opened it closed. Soon the ship was being battered with a series of monster waves that kept getting bigger and bigger. In spite of efforts of the fisherman the Andrea Gail was consumed by a giant wave that consumed the boat and sent it to the bottom of the sea. This where we are today in the financial markets.

I am a proponent of the stimulus package. It is better than nothing (nothing equals depression). Nevertheless, the stimulus package is a continuation of the same binge pattern--

curing a debt problem with more debt.

Soon we will be calling on the world to lend us enormous amounts of money.  Treasury debt offerings will come to the market in bigger and bigger waves--a key component of the perfect storm.  Corporation will be crowded out of the market and unable to borrow more in an attempt to pay for their past sins.  Consumers, leveraged to the hilt, will begin to default on their debt in greater and greater numbers as unemployment marches higher and higher. Hedge funds will be the next to follow the trend. In case you haven't noticed  investment banks are now extinct. Not only did Bear Stearns and Lehman Brothers implode; but, the venerable Goldman Sachs is now a bank bank. Weak hedge funds now hanging by a thread will join the party during the next downside in the market. As hedge funds near extinction, they will be selling assets as fast as they can--the equivalent of a fire sale. Prices of stocks will get very cheap (a good thing if you were a squirrel during this period).

It seems like much of this is happening unnoticed as history unfolds right before our eyes.

The best way out of this trap is a massive inflation that bastardizes the U.S. currency and lessens the debt burden by cheapening it. Of course, there is the Argentinian solution--default.

We should be looking around and noticing that every major economy in the world is wounded. The situation came about because of excessive debt and leveraging--the World Debt Binge.

The cure to excessive debt is savings. The only good thing I hear out there is talk about wringing out the excesses in our government to bring about costs savings and lessen the need for future borrowing. What is the likelihood of that happening soon? In case you haven't noticed over the last 25 years the quickest way to cut costs is to "fire" people. Instead, we are trying to put more people on the government payroll by creating projects funded with government dollars via the stimulus package.

Something has to give. The massive leveraging of the U.S. economy leaves us in debt to the tune of three and a half times times the output of our economy. The big credit card in the sky is being leveraged to the max. What if the lenders pull the plug? The likely result is higher and higher interest rates to finance the borrowing--or worse.

We have not learned our lesson--excessive leverage via borrowing is not a good thing. There are only two possible solutions to this problem: inflation or default. Both are ugly but the only way out of the trap.

Coming soon: Tsunami. 

Michael Lewis is best known for his books Liar's Poker, The New New Thing, and Moneyball: The Art of Winning an Unfair Game. Lewis started his career in finance as a bond trader at Solomon Brothers. In Liar's Poker he gave a first-person account of how bond traders and salesmen truly work, their personalities, and their culture. The account was less than flattering to most and lead Lewis to conclude that anyone could make millions on Wall Street if they were in the "right place at the right time".

In this new article, The End of the Wall Street Boom, Lewis gives the best account of of the subprime mortgage business and the "phoney baloney" use of credit default swaps currently available. He delves into the craziness of it all and names many of the key players. It is a very good description of greed gone wrong.

I had been waiting for the end of Wall Street. The outrageous bonuses, the slender returns to shareholders, the never-ending scandals, the bursting of the internet bubble, the crisis following the collapse of Long-Term Capital Management: Over and over again, the big Wall Street investment banks would be, in some narrow way, discredited. Yet they just kept on growing, along with the sums of money that they doled out to 26-year-olds to perform tasks of no obvious social utility.

He couldn’t figure out exactly how the rating agencies justified turning BBB loans into AAA-rated bonds. “I didn’t understand how they were turning all this garbage into gold".

The reason they did this was that the rating agencies, presented with the pile of bonds backed by dubious loans, would pronounce most of them AAA. These bonds could then be sold to investors—pension funds, insurance companies—who were allowed to invest only in highly rated securities. “I cannot fucking believe this is allowed—I must have said that a thousand times in the past two years,” Eisman says.

“We have a simple thesis,” Eisman explained. “There is going to be a calamity, and whenever there is a calamity, Merrill is there.”

This was what they had been waiting for: total collapse. “The investment-banking industry is fucked,” Eisman had told me a few weeks earlier. “These guys are only beginning to understand how fucked they are. It’s like being a Scholastic, prior to Newton. Newton comes along, and one morning you wake up: ‘Holy shit, I’m wrong!’ ” Now Lehman Brothers had vanished, Merrill had surrendered, and Goldman Sachs and Morgan Stanley were just a week away from ceasing to be investment banks. The investment banks were not just fucked; they were extinct.

The End of the Wall Street Boom

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PiperJaffray says New Century (NEW) 'likely to liquidate'

You can read this comment at MarketWatch.