Chuck Ponzi December 9th, 2009

Houston, we’ve got a disconnect.

Housing to the moon!

• Bailout , Debt , Deflation
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Chuck Ponzi October 22nd, 2009

“We didn’t truly know the dangers of the market, because it was a dark market,” says Brooksley Born, the head of an obscure federal regulatory agency — the Commodity Futures Trading Commission [CFTC] — who not only warned of the potential for economic meltdown in the late 1990s, but also tried to convince the country’s key economic powerbrokers to take actions that could have helped avert the crisis. “They were totally opposed to it,” Born says. “That puzzled me. What was it that was in this market that had to be hidden?”

• Bubble , Debt , Deflation , Delusion , Speculation , Unintended Consequences
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Chuck Ponzi August 6th, 2009

It’s no surprise to most readers, but banks are finally figuring out that which was already extensively investigated and reported on by SoCal bubble bloggers; that the primary determinant of foreclosure is not the point at which the buyer purchased the home, but rather all of the “wealth harvesting” that was done via refinancings and second mortgages.  Nowhere is this more prevalent than in Orange County, it seems.  Most of the area’s extravagent showings of wealth were actually extracted from home equity.

A recent study by CSU Fullerton with assistance from Fannie Mae has linked the correlation of cash-out refinancings with foreclosure.  The main takeaway:  Homedebtors who are now in foreclosure are not victims of circumstance (the prevalent thinking in Washington), but rather victims of their own selfish and greedy tastes.

The Wall Street Journal has some a great summary up by Nick Timiraos.

Michael LaCour-Little, a finance professor at California State University at Fullerton, looked at 4,000 foreclosures in Southern California from 2006-08. He found that, at least in Southern California, borrowers who defaulted on their mortgages didn’t purchase their homes at the top of the market. Instead, the average acquisition was made in 2002 and many homes lost to foreclosure were bought in the 1990s. More than half of all borrowers who lost their homes had already refinanced at least once, and four out of five had a second mortgage.

The original loan-to-value ratio for these borrowers stood at a reasonable 84%, but second and third liens left homeowners with a combined loan-to-value ratio of about 150% by the time of the foreclosure sale date.

Borrowers, meanwhile, took out around $2 billion in equity from their homes, or nearly eight times the $262 million that they put into their homes. Lenders lost around four times as much as borrowers, seeing $1 billion in losses.

“[W]hile house price declines were important in explaining the incidence of negative equity, its magnitude was more strongly influenced by increased debt usage,” writes Mr. LaCour-Little. “Hence, borrower behavior, rather than housing market forces, is the predominant factor affecting outcomes.”

What happened in SoCal over the past few years has been tragic, not only because of what happened to families, but rather that it was a tragic waste of human abilities; a misallocation of our skills into a non-productive asset.  Rather than investing time and capital into a productive enterprise, it was wastefully fed into a giant Ponzi scheme.

Unfortunately, old speculative habits die hard, as is evidenced by the dearth of investment-worthy housing in the midst of a sea of WTF asking prices.

Now that the goose that laid the golden egg is killed, cooked, and finding its way through the proverbial lower intestine of our financial system, wealth will need to be made from something other than housing.  Here’s to hoping it’s something that actually produces value for our company.  However, considering the loose monetary and regulatory policies that are still written in stone, I wouldn’t hold my breath.

• Debt , Deflation , Housing Crash
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Chuck Ponzi May 21st, 2009

Barry Ritholtz had this up, and it’s interesting how this country has become entranced by what appears to be becoming a cult of personality.

There is serious potential for federal crowding out of private enterprise.  That was one of the reasons that the Great Depression lasted as long as it did.  The federal stimulus was so unevenly applied that it distorted natural incentives.

Here’s another visualization of part of the problem (added later).

• Debt
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Chuck Ponzi May 8th, 2009

California recently took the steps to reduce government deficits by raising taxes:  1% on sale tax , and raising income taxes.

It doesn’t seem that this worked out too well.

From the information that came out, California is pretty much KlusterF*(ked. With a kapital K.

From the May 09 Summary from the state controller’s office.

Compared to April 2008, General Fund revenue in April 2009 was down $6.3 billion (-39%). The total for the three largest taxes was below 2008 levels by $6.3 billion (-40.3%). Sales taxes were $452 million lower (-50.9%) than last April, and personal income taxes were down $5.7 billion (-43.6%).

That’s gotta hurt.  This recession is going to make things even more difficult.  California is wanting to start talking about legalizing pot.  Some ideas have been floated of putting a $50/oz tax on recreational use.  Nice.  At this point, California needs to do something big.  Look to have even higher taxes and even more people leave if they do.

• Debt , Deflation , Unintended Consequences
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Chuck Ponzi March 5th, 2009

While our government is busy running around wondering how much money should be given to whom, and how we can change the rules of engagement in business, Bill Poole, (yes, shameful, shameful) makes a very straightforward argument that all of this intervention is actually a bad thing in a NY Times Op-ed piece.

THE fundamental causes of this recession, unique in the experience of the United States, were mortgage defaults and the consequent insolvency of major financial firms. These insolvencies, and especially fear of them, damaged normal credit mechanisms.

The self-correcting nature of markets will ultimately prevail. We should not underestimate the power of monetary policy; with the sharp increase in the nation’s money stock starting in September, monetary policy is now extraordinarily expansionary. I believe, though without great confidence, that the recession will end in the second half of this year.

Federal policy is damaging the economy’s prospects. It fails to provide the needed tax incentives for investment in factories and equipment, incentives that were central to efforts to revive the economy during the Kennedy-Johnson era and under Ronald Reagan. But government spending can’t lead the way to sustained recovery, because its stimulating effect will be offset by anticipated higher taxes and the need to finance the deficit.

I, of course, agree with this assessment (although I believe the recession could linger quite a bit longer due to the current political response). There are 2 fundamental problems with the current administration’s approach:

1. Changing the rules of the game only makes sure players will wait until they are clear on what the new rules are before they begin playing again.

2. History has told us (even though we have deflation now) that a strong increase in the money supply is inflationary. The lag time between the money creation and the effects to rising prices is measured in years, not months.

In the end, a more moderate monetary approach, with the INCREASE in foreclosures, and expedition of foreclosures and bankruptcy will speed the recovery that much faster. It’s the difference between ripping the bandaid off (which is what free markets do to minimize pain) and slowly pulling it off.

We can’t forget that FORECLOSURE AND BANKRUPTCY ARE THE SOLUTIONS, NOT THE PROBLEM.  The problem is too much debt, and the only way it can be resolved is the legal resolution as quickly as possible.  All attempts to forestall the solution are forestalling the recovery in our economy.  Once people are no longer held captive to bad bets, their discretionary income can once again be released and well-run businesses can capitalize on the demand.

• Debt , Deflation , Foreclosures
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Chuck Ponzi February 6th, 2009

I am deeply concerned with any talk of a stimulation package.  Prior readers know that I vehemently opposed prior bailout packages, and deemed them “Fear Mongering” by the Federal Reserve and our own Treasury Department.  I still feel so, and believe that our new President has been duped by the same economic advisers who led us into this crisis (yes “Timmay” Geithner).  This country really is going to shit.

A quick and useful synopsis of the problem can be found in a small regional paper from Neuces County.

In one of history’s more candid reflections, Henry Morgenthau, Jr., Treasury Secretary under President Franklin D. Roosevelt, confessed, “We have tried spending money. We are spending more than we have ever spent before and it does not work.”

Just six years after crafting the New Deal, Morgenthau declared that their efforts to create jobs and restore America’s depression-ravaged economy by expanding the federal government to unprecedented levels had been a failure. By Morgenthau’s own assessment, the New Deal saddled our country with “as much unemployment as when we started…and an enormous debt.”

More than 75 years have passed since FDR signed the New Deal into law, and many noted economists are studying the Great Depression and trying to learn from the experience. In 2004, a team of UCLA economists concluded that the policies of the New Deal, which suppressed competition and kept unemployment in the range of nine to 16 percent, actually prolonged the Great Depression by seven years.

Amity Shlaes, an economic scholar and Great Depression historian, has argued that the sheer “arbitrariness” of the New Deal actually exacerbated the crisis.

The crux of the problem is that once you start arbitrarily trying to assign a value better than the collective wisdom of markets, you create a process of compensating factors.  Yes, markets will react only temporarily to any stimulus and will eventually revert to its given path.  Any stimulus will have been wasted.

Yes, payments to “new homeowners” is an arbitrary effort, almost all of whose profits will go to homebuilders (who led us into this mess with overbuilding due to overstimulus) and bankers (who also led us into this mess with overlending due to overstimulus).

I will state categorically that from an economic standpoint, the best thing for the federal government to do is to spend its money on permanent solutions to permanent problems.  Trying to prop up housing prices only leaves us further in debt and beholden to our own currency.  This will not end well, and is getting worse with every dollar given to the Federal Government.

I am outraged at President Obama’s approach.  Unfortunately, it appears that we will have at least 4 more years of unmitigated idiocy, this time aided and abetted by our own Congress.  There is no incentive in America to work hard, do what is right and pay your bills.  Indeed, it seems, never was there a time where it was more prudent to default than now.  You will get to keep all of your past gains, and the government will continue to fund your gains in perpetuity. I’m frankly disgusted that my tax money is going to scum-of-the-earth bankers and homebuilders.

We could really do well to take our tough medicine now and get it over with so we have some growth.  Instead, we have special interests running this country with threats of financial terrorism (give me billions or I’ll blow up your economy and myself) and an out of control President just weeks after taking office.

I’ll give the President a suggestion:  Give me the money and I’ll find a better way to use it.  I’ll set up a bank that will RIGHT NOW hire people, lend to people at below market rates AND make shitloads of money all at the same time.  This absolute garbage of giving current banks TARP money was from the beginning doomed to failure.  I’d like to have loans at 0% that I can then compound 10 times and sell on the open market at 4.5%.

President Obama, I’m ready.  I’m willing.  Just give me the money.

PS, if I happen to take the money and skip town, chalk it up to learning a lesson about giving billions to an anonymous internet blogger.

• Credit Bubble , Debt
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Chuck Ponzi July 7th, 2008

Anyone who hasn’t seen the charts for Freddie Mac (FRE) should really take a look at them.  This is definitely a crash in the making.  As of this writing, FRE is down 22% today on news that FRE and FNM CDSs have widened 10BPS.  That is quite an increase.

The funny thing is, I remember less than a year ago, discussions about how Freddie Mac and Fannie Mae were well capitalized, preeminently prepared for any disaster, and frankly, as unsinkable as the Titanic.  Little good that has done.  We may be witnessing a historic crash of epic proportions, greater by far than the crash we have seen to date.  To put it in perspective, FRE and FNM have pretty much been the only thing that have kept the real estate market together in the US over the past year.

Consider for a moment this statement regarding the mortgage insurance statistics from the GSEs.

There are more hard numbers available to support MI’s recent surge. MICA, the trade association representing the private mortgage insurance industry, began reporting rising volume monthly after February 2007. For example, mortgage insurers wrote 190 percent more business this year, through April, than in the comparable period of 2006, when subprime/Alt-A were in their heyday.

To put that sort of gain into proper context, consider that even GSE production is only up 160 percent — and they are doing an estimated 80 percent of all new mortgage lending. By inference, MI providers have made huge gains in market share.

Let that sink in for a moment:  GSEs are doing an estimated EIGHTY PERCENT of all mortgage lending, up 160 percent.  IN AN ACTIVELY FALLING MARKET.  Any implied “worst case scenario” imagined last year of the US government bailing out the grossly irresponsible GSE lending facilities is quickly not only becoming a reality, but would represent a necessity unless the entire lending business  in the US becomes STATE OWNED.

State owned lending?

Is that such a bad idea?  I mean, we pretty much have so many controls that we expend an enormous amount of government money in oversight, what’s so wrong with giving the federal government the right to nationalize the largest lenders as they fail?

I’ll write the next part only partially tongue in cheek.

Lending is perhaps one of the great debatable rights of Americans in the 21st century.  We have become so conditioned by its availability to believe that it is owed to us.  We need it, we want it, we should have it.  If we want to create our own financial ruin, and by extension the country’s entire financial ruin, we should be able to do so.  It is our right as Americans.  By this rationale, we should allow all Americans the right to open access to low-cost lending much like clean air, clean water, food and drugs free of harmful contaminants, and an interstate transportation system.

For example, if free enterprise were required to finance our transportation systems, we would be required to pay for every trip we consume on local and long-distance roads.  This is where economics has a hard time playing the role of moral coach, because, frankly, Economics is concerned with the free market and the most efficient method of delivering the utility people desire.  Governments have typically only concerned themselves with PUBLIC NEEDS.  Therefore, the big question is, is real estate lending a PUBLIC NEED?

I am certain that many could make the argument for and against, but perhaps the question needs to be viewed in a longer timeframe.  Is lending STABILITY more important as an ongoing public need to ensure the ability to liquidate lending and homes in an orderly manner?  What controls and insurances should the government provide?  How should the government handle lending standards and manipulation?  Could there be a cross-control against lying using collaboration with the IRS?  What kinds of manipulations would this open up the home lending business to?  Would the government “crowd out” any potential competitors and therefore stifle competition?  Has the current role of home lending harmed the public more than it has helped?

In any case, the general public perception is that home lenders have harmed America, and therefore must be harshly dealt with.  I don’t agree with that.  I personally believe that the problems is on its way to being fixed by the free market, and frankly I’m not happy with the directors of the GSEs getting away with fat pensions, stock options, and the like while the public swallows the bad debt.  On the other hand, it would end, once and for all, the deceptive practices and level the playing field by nationalizing lending.  Frankly put, the government could recapitalize easier than a private entity or a stock-owned entity.

I have to say that I oscillate between incensed outrage and cold acceptance of the reality.  There is no simple answer to that.  Lending has changed forever (hopefully).

• Credit Bubble , Debt , Housing Crash , Lending Standards
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Chuck Ponzi June 21st, 2008

If you’re not in the know on the recent bailout news, there are 3 main points to be aware of:

1. It seems that Bank of America essentially wrote the Dodd Bailout Bill along with Countrywide (merger expected soon). They have probably the most to gain with a generous bailout bill. It helps noone since it doesn’t resolve the fundamental problem of affordability in house, in fact it makes the problem worse. Ever wonder why the 90’s in Japan were referred to as the “lost decade”? It’s because their banking system did the same thing we’re trying to do here. Anyone else see the problem with not punishing gambling banks and housing speculators?

2. The “Subprime Six” were a group of lawmakers given special treatment in exchange for what? What exactly did Senator Dodd besides favorable treatment in his housing financing? What else could be lurking in his past? If you haven’t read about the “Subprime Six”, follow the link. Investor Business Daily, the Wall Street Journal, and the LA times have picked up the story. It’s a story of insider grift and political pandering. If it weren’t so real and true, it might remind me of one of my favorite film lines:

Stuart: Well, it’s a well-known fact, Sunny Jim, that there’s a secret society of the five wealthiest people in the world, known as “The Pentavret.” Who run everything in the world, including the newspapers, and meet tri-annually at a secret country mansion in Colorado known as “The Meadows.”
Tony: So, who’s in this “Pentavret?”
Stuart: The Queen, the Vatican, the Gettys, the Rothschilds, and Colonel Sanders before he went tits up. Oooh, I hated the Colonel, with his wee beady eyes and that smug look on his face. “Oooh you’re gonna buy my chicken, oooh…”
Charlie: Dad? How can you hate the Colonel?
Stuart: Because he puts an addictive chemical in his chicken that makes you crave it fortnightly, smartass.

3. For all of the crap that our President Bush gets, at least he has the foresight to threaten a veto to said bill. There should be no bailout, not just because it’s not fair and would embolden speculators, but because it’s destined to put our banking system in jeapordy for the forseeable future with taxpayers footing the bill. It’s generally understood that this bill has to be done and voted on by July 4th if it is to carry. Any senator that signs this (if it passes) is hopefully going to be thoroughly trounced in the upcoming elections. This is not only unreasonable, it’s unamerican. This place is going to hell in a handbasket. If something like that goes through, I’ll be posting a list of every person that voted for it and their political affiliation here as a feature story.

So, what do I recommend? I’d say get a year’s worth of food and 6 month’s worth of remaining expenses together, if our politicians have any say in it, this is going to be one whopper of a crash and accompanying recession. On the lighter side of things, our grandchildren will be still paying so that people like this can “keep” their homes (and by homes, I mean plural, because, isn’t every good American not just entitled, but guaranteed to own more than one house?).

• Credit Bubble , Debt , Foreclosures
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Chuck Ponzi March 24th, 2008

The following is a copy of a post I made back in November 2005 (nearly 2 1/2 years ago).  Pay close attention to what is supposed to happen next:

from Interest Only – Creative Financing or Harbinger of Deflation?

>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>

The economists over at Elliott Wave have a great write up about deflation and what causes deflation in a piece titled “What is Deflation and What Causes it to Occur?”

All deflationary periods were marked with the following conditions:
(a) All were set off by a deflation of excess credit. This was the one factor in common.
(b) Sometimes the excess-of-credit situation seemed to last years before the bubble broke.
(c) Some outside event, such as a major failure, brought the thing to a head, but the signs were visible many months, and in some cases years, in advance.
(d) None was ever quite like the last, so that the public was always fooled thereby.
(e) Some panics occurred under great government surpluses of revenue (1837, for instance) and some under great government deficits.
(f) Credit is credit, whether non-self-liquidating or self-liquidating.
(g) Deflation of non-self-liquidating credit usually produces the greater slumps.

From the article: “Self-liquidating credit is a loan that is paid back, with interest, in a moderately short time from production. Production facilitated by the loan – for business start-up or expansion, for example – generates the financial return that makes repayment possible. The full transaction adds value to the economy.”

Credit lent against homes are most definitely non-self-liquidating credit. Unless, you count the opportunity cost of renting as a form of liquidation – however this requires there to be some relationship of rents to monthly payments; something that can’t be said of current market. The relationship of these nonproductive asset backed loans to productive asset backed loans, it would seem is at its peak historically.

Reading this type of semi doom-and-gloom scholarly article makes me think about the many types of financing recently available to the public masses and what impact they might have.

It takes a bit of economic sense to understand a risk premium. A risk premium is an additional amount that a lender expects to compensate them for additional risk. If risk is considered great either a high risk premium is attached or sometimes a transaction cannot take place. We currently have some of the lowest risk premiums in history; interest rates on non-productive assets are at historical lows.

Typically, a lender requires that at some point, principal on the note must be paid back. Interest only loans are an exception to this. Why? And, why have they become popular now?

It’s easy to see why a borrower would want to take on one of these loans; why pay for something now if I can pay later. But, what’s more interesting is why are they so popular for lenders?

Human beings are a fickle bunch. Each one wanting to do something different than the other. Like watching an ant, it runs to and fro, sometimes lost, sometimes productive, but always unpredictable. But, take a step back, and the anthill is an extremely efficient, coordinated jumble of activity. A very predictable bunch. Human financial systems are similar. Each borrower is very unpredictable, but bundle a few thousand together and they suddenly become more predictable; hence the popularity of Mortgage Backed Security Bonds (MBS’s).

BUT… and you knew this was coming… you need to take even a step back to see what is going on in the macro environment. Who has all of this money, and why are they lending it at such low rates. A flat yield curve would signal that lenders see little reason require a larger risk premium for longer-term loans because they expect long-term rates to be about where they are far into the future. How often is the bond market right? Well, that’s for you to decide. Greenspan has even named it a conundrum.

So, this brings me to the title of my post. How could interest only loans signal possible deflation in the future? We already know that low-interest rates can be a signal, but what about creative financing?

Interest only loans cannot be self-liquidating in the short run. When they switch to a liquidating (fully amortized) loan, the payments jump substantially because they do 2 things at once: 1, they begin fully amortizing 2, they adjust to prevailing interest rates. One would expect that people faced with these issues would simply replace the shorter amortizing period with a longer amortizing period at the same rate. Or, they would attempt to liquidate the loan by selling. Since interest-only loans are not self-liquidating in the short run, the bond market is signalling that for the medium-term, interest rates and returns will be low, or that investors are extremely risk-averse to the stock market. The investors feel justified that any possible deflation is offset by the Fed’s moderate inflationary policy, or at least an attempt to prevent deflation. So, MBS investors have signalled that for the medium term (3 to 10 years), that they would rather take their chances with low interest rates AND non-liquidating debt.

Will this truly end as Greenspan has put it? I will leave you with one of his most famous statements on the subject:
“But what they perceive as newly abundant liquidity can readily disappear. Any onset of increased investor caution elevates risk premiums and, as a consequence, lowers asset values and promotes the liquidation of the debt that supported higher prices. This is the reason that history has not dealt kindly with the aftermath of protracted periods of low risk premiums.“

• Debt , Deflation , Mean Reversion , Speculation
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