This post first appeared on Minyanville.
The race to be included in the government’s $700 billion financial bailout plan is starting to get a little absurd.
First, Treasury Secretary Hank Paulson offered to buy up mortgage-backed securities rotting away on the balance sheets of our biggest banks. When it became clear more immediate action was needed, he forced Bank of America (BAC), Citigroup (C), Wells Fargo (WFC), Goldman Sachs (GS) and other big lenders to accept $125 billion in fresh capital.
Then, as the financial crisis deepened, MetLife (MET), Prudential (PRU), Hartford Financial (HIG) and other big insurance companies were rumored to be lining up for the government dole.
Next came General Motors (GM) and Chrysler, who are begging for billions from Washington to complete their merger.
Now, bond insurers Ambac (ABK) and MBIA (MBI) are nuzzling up to the government spigot, scrambling for their piece of the protective TARP. The Wall Street Journal reports the 2 firms are even vying to be part of Treasury’s plan to inject capital into troubled financial institutions.
Including the bond insurance industry in the bailout, Ambac and MBIA executives argue, would allow the firms to step in and insulate the rest of the financial industry from losses. Ambac called the potential impact “exponentially positive.”
The mere thought of including these firms in the bailout, frankly, is nauseating.
Ambac and MBIA personified the abject inability to assess risk during the credit boom, handing out bond insurance like candy on Halloween. Only theirs were the pieces parents warn their kids about: Snickers a la razor blades.
Their guarantees on debt ranging from municipal bonds to collateralized debt obligations allowed investors to ignore credit risk, use obscene leverage and rake in profits while adding next to no true value to the economy. When the bonds went sour, the firms' tiny cash reserves paled in comparison to their obligations.
As a result, hospitals, cities and countless other innocent bystanders had to scramble earlier this year just to make payroll as debt costs skyrocketed.
The bond insurers already had their chance for a bailout. Thankfully, their pleas have thus far fallen on deaf ears - and they haven’t gotten their grubby little paws on any taxpayer money.
With the government already considering a massive mortgage-guarantee program, bond insurers could be fearful their usefulness may have finally run its course.
And rightly so. It has.
Friday, October 31, 2008
Consumers Squeezed from Both Sides
This post first appeared on Minyanville.
One thing’s for sure. We’re all gonna be a lot thinner!
- Han Solo, Star Wars
American consumers are getting squeezed like aspiring Jedis in a Death Star garbage masher.
Hundreds of billions of dollars in losses have forced financial institutions around the world to rein in credit just when their clients need it most. Amid mounting job losses, falling home prices and high energy costs, consumers are finding it harder and harder to make ends meet.
For years, keeping the lights on was a cinch. If times got tough, getting more credit was as easy as sifting through stacks of junk mail and picking the best offer. Now, issuers are reducing limits, jacking up interest rates and discontinuing promotional offers.
The New York Times reports things could get worse. In the first 6 months of 2008, lenders wrote off around $21 billion in loan losses. Analysts say layoffs and a dim economic outlook could result in another $55 billion by the end of next year.
In an attempt to stem the bleeding, issuers like American Express (AXP) and Bank of America (BAC) are reluctant to give new cards out to anyone, let alone borrowers that seem even the least bit risky. Capital One (COF) is closing inactive accounts; it cut credit lines by almost 5% last quarter alone.
Spending money certainly isn’t getting any easier. And to make matters worse, saving it is getting tougher too.
Hitherto generous 401k matching programs are going by the wayside as companies hoard cash in preparation for lean economic times.
According to USA Today, General Motors (GM), which is hoping for a government bailout, announced last week it won’t match employee contributions to their 401k retirement accounts.
GM isn’t the first, and likely won’t be the last, company to cut costs in this way. Goodyear (GT), Dollar Thrifty (DTG) and real estate broker Cushman & Wakefield have all shut down their matching plans. Goodyear, for its part, actually shut the program down in 2003 and plans to start it back up again next year.
For consumers, this all adds up to one easy decision: Buy less stuff. This doesn't bode well for retailers, or any other company dependent on free-and-easy American wallets.
With credit nearly impossible to get, interest rates on savings accounts plummeting and wobbly banks suckling at the government teat just to stay afloat, Americans may soon resort to the age-old practice of stuffing cash under the mattress.
Who knows, as deflation takes hold and the dollar rallies, it may not be such a bad idea.
One thing’s for sure. We’re all gonna be a lot thinner!
- Han Solo, Star Wars
American consumers are getting squeezed like aspiring Jedis in a Death Star garbage masher.
Hundreds of billions of dollars in losses have forced financial institutions around the world to rein in credit just when their clients need it most. Amid mounting job losses, falling home prices and high energy costs, consumers are finding it harder and harder to make ends meet.
For years, keeping the lights on was a cinch. If times got tough, getting more credit was as easy as sifting through stacks of junk mail and picking the best offer. Now, issuers are reducing limits, jacking up interest rates and discontinuing promotional offers.
The New York Times reports things could get worse. In the first 6 months of 2008, lenders wrote off around $21 billion in loan losses. Analysts say layoffs and a dim economic outlook could result in another $55 billion by the end of next year.
In an attempt to stem the bleeding, issuers like American Express (AXP) and Bank of America (BAC) are reluctant to give new cards out to anyone, let alone borrowers that seem even the least bit risky. Capital One (COF) is closing inactive accounts; it cut credit lines by almost 5% last quarter alone.
Spending money certainly isn’t getting any easier. And to make matters worse, saving it is getting tougher too.
Hitherto generous 401k matching programs are going by the wayside as companies hoard cash in preparation for lean economic times.
According to USA Today, General Motors (GM), which is hoping for a government bailout, announced last week it won’t match employee contributions to their 401k retirement accounts.
GM isn’t the first, and likely won’t be the last, company to cut costs in this way. Goodyear (GT), Dollar Thrifty (DTG) and real estate broker Cushman & Wakefield have all shut down their matching plans. Goodyear, for its part, actually shut the program down in 2003 and plans to start it back up again next year.
For consumers, this all adds up to one easy decision: Buy less stuff. This doesn't bode well for retailers, or any other company dependent on free-and-easy American wallets.
With credit nearly impossible to get, interest rates on savings accounts plummeting and wobbly banks suckling at the government teat just to stay afloat, Americans may soon resort to the age-old practice of stuffing cash under the mattress.
Who knows, as deflation takes hold and the dollar rallies, it may not be such a bad idea.
Thursday, October 30, 2008
Keepin' It Real (Estate): What's My Mortgage Worth?
This post first appeared on Minyanville and Cirios Real Estate.
As the debate rages about whether or not we’re finally approaching a floor in home prices, let’s examine the value of another asset: The mortgage.
As the debate rages about whether or not we’re finally approaching a floor in home prices, let’s examine the value of another asset: The mortgage.
When considering a home-buying transaction, buyers (and sellers) typically worry most about the value of the house. Lenders, on the other hand, are much more concerned with the value of the mortgage.
From a lender’s perspective, the economic value of a loan is its expected future cash flow in the form of interest payments. The key word in that phrase -- and why a loan’s value isn’t purely derived from its rate -- is “expected.”
To a bank, a loan is just a product, like an iPod is to Apple or a BlackBerry is to Research in Motion. The value of that product is just how much someone will pay for it. Loans with higher coupons, adjusting for risk, are worth more than those with lower coupons, because they fetch more on the open market.
Mortgages, or debt of any kind, are priced relative to their face value, or “par.” A $100,000 mortgage that’s worth par would cost $100,000. Prices are then expressed as a percentage of par. That is, a loan with a face value of $100,000 that’s worth 102.50 (percent) would cost $102,500.
Subprime loans are often considered “bad,” while prime loans are presumed to be “good.” Many assume, therefore, that high-quality prime loans are worth more than those lousy subprime ones. This isn’t entirely accurate.
“Good” loans are the ones where you’re appropriately paid for your risk, whereas “bad” ones are those in which you’re on taking too much risk relative to return. As Professor Sedacca often says, “If you aren't being paid to take risk, don't take risk.”
Consider the following 2 mortgage situations, ask yourself which one a lender is likely to value more highly:
Borrower A has impeccable credit, can make a sizable 30% down payment on her family’s first home, but will have to stretch to make the monthly payments because her husband just quit his job to stay home with their second child. The mortgage carries a low 6.00% rate, or coupon, because of Borrower A’s good credit and the low loan-to-value ratio (loan amount divided by sales price).
Borrower B has poor credit, stemming from medical problems that put him out of work for the past 12 months. Credit-card bills piled up, payments were missed and he had a hard time making ends meet. Healthy now, Borrower B is looking to refinance his existing mortgage on the home he’s lived in for 20 years. He needs some extra cash to finish paying off bills and get back on track, so he's looking for a loan to value of 90%. The mortgage carries a high 9% coupon because of Borrower B’s bad credit and the loan’s high loan-to-value ratio.
I designed the examples to prove a point, but I would take Borrower B’s "subprime" mortgage over Borrower A’s every time. Even though Borrower A’s perceived risk (by the numbers) is less than Borrower B, Borrower A is probably more likely to default. Despite Borrower’s A big down payment, the low coupon may not cover the additional default risk.
Banks often write mortgages with the intent to sell them on the open market. Whether the loan is sold individually or packaged in a security, the higher the coupon, the higher the potential value for the ultimate owner (provided, of course, the risks are properly measured and evaluated).
Mortgage originators (both banks and brokers) and Wall Street firms used this concept to push bad loans onto borrowers. Whether Goldman Sachs (GS) wanted to issue a mortgage-backed security or Wells Fargo (WFC) planned to park the loan on its balance sheet, both earned more from higher coupon loans, so that's what they asked for from their salespeople and brokers.
One of the most highly sought-after types of mortgages were those with a high loan-to-value ratio, written for speculative investment properties where borrowers didn’t have to state their income. These loans carried a very high coupon because of the high perceived risk of default.
However, since homeowners in areas experiencing rapid appreciation like Phoenix, Las Vegas, Florida and California could easily sell their way out of a problem during the boom, the actual risk on these loans remained low. Wall Street demanded precisely this kind of loan, and brokers wrote them. Whether the borrower could really afford the payments didn't matter, since they could just sell the house at the first sign of trouble.
Of course, when appreciation stalled, actual risk shot up, and even high rates didn’t compensate banks for the risk these loans now carried.
Since Wall Street could earn far more packaging and securitizing these high-risk loans than they could on boring, low-coupon prime loans, they paid mortgage brokers and bankers higher commissions to write them. These originators, being good salespeople, aggressively marketed these loans to borrowers that fit these highly profitable criteria.
Homeowners, watching their neighbors get rich speculating on condos in Miami, had little to no financial incentive not to join in. That’s not to say there weren’t some who made responsible decisions - but enough people got caught up in the mania that, well, we are where we are right now.
So this brings us back to your mortgage. How much is it worth?
Remember to think about it from the bank's perspective.
The next time you hear offers like “no closing costs!” or “low introductory rate!”, think about why the bank would do this. If it’s not charging fees to close the loan, you can be sure it’s making up that lost income with a higher rate. If it’s offering a teaser rate, the higher payments you'll be making when the coupon adjusts upwards will more than make up for that low payment in the first few months.
The best way to get the best deal is to think about what loan will be worth the least to your lender. Low rate, low fees, low risk... Who wants that boring paper?
The answer: You do.
Wednesday, October 29, 2008
GM, Chrysler Hit Taxpayers Up for $10 Billion
This post first appeared on Minyanville.
There’s a disturbing pattern emerging in Washington’s merry-go-round of bailouts:
1. Congress pleads with taxpayers to support bailing out a troubled industry;
2. Taxpayers rightly demand to know what their hard-earned money will be used for;
3. Congress chooses expenditures that are palatable to constituents (new lending, protecting deposits, investing in renewable energy, etc.);
4. Congress doles out money, neglects to describe rationale to taxpayers.
In recent weeks, it’s become evident that the $125 billion being invested in banks isn’t likely to jump-start lending anytime soon, as we were told it would. Instead, it’s paying for mergers and executive bonuses.
Now, the $25 billion earmarked for low-interest loans to the auto industry for renewable energy projects is likewise being diverted from its proposed goal.
According to the Wall Street Journal, General Motors (GM) and Chrysler LLC are lobbying the Bush administration to siphon off a portion of the bailout money to help fund their proposed merger. Chrysler, which is majority-owned by hedge fund Cerberus Capital Management, would end up being gobbled up by GM in a complex deal that would require about $10 billion to cover integration expenses.
Integration expenses, translated into layman’s terms, means layoffs and plant closures.
To be sure, neither firm is exactly flush with cash, nor are they in terribly good standing with their creditors; the deal would help shore up the financial position of both.
Monday, Moody’s Investors Services (MCO), the ratings agency Professor Jeff Macke colorfully described as “a bunch of sub-par analysts with the ability to make press releases and the power to kill any company in America,” lowered its ratings on both GM and Chrysler. Moody’s fears liquidity will continue to deteriorate, and that both firms could face cash crunches next year.
Ford (F), the third of Detroit's 3 troubled auto-makers, has seen its debt fall well into "junk" territory, and is on review for further possible downgrades.
Chrysler, for its part, is no stranger to the government dole. In 1979, the company petitioned Washington for over $1 billion in government-backed loans to prevent bankruptcy. Touted as a success, the bailout resulted in massive losses for creditors and layoffs of around 50% of its workforce. It did, however, keep the company alive…so it could go on to build millions of gas-guzzling SUVs.
Unfortunately, economic conditions in both the auto and financial industries have deteriorated such that, without government assistance, both would be doomed to collapse. Even with government funding, however, the result may not be much different.
There’s a disturbing pattern emerging in Washington’s merry-go-round of bailouts:
1. Congress pleads with taxpayers to support bailing out a troubled industry;
2. Taxpayers rightly demand to know what their hard-earned money will be used for;
3. Congress chooses expenditures that are palatable to constituents (new lending, protecting deposits, investing in renewable energy, etc.);
4. Congress doles out money, neglects to describe rationale to taxpayers.
In recent weeks, it’s become evident that the $125 billion being invested in banks isn’t likely to jump-start lending anytime soon, as we were told it would. Instead, it’s paying for mergers and executive bonuses.
Now, the $25 billion earmarked for low-interest loans to the auto industry for renewable energy projects is likewise being diverted from its proposed goal.
According to the Wall Street Journal, General Motors (GM) and Chrysler LLC are lobbying the Bush administration to siphon off a portion of the bailout money to help fund their proposed merger. Chrysler, which is majority-owned by hedge fund Cerberus Capital Management, would end up being gobbled up by GM in a complex deal that would require about $10 billion to cover integration expenses.
Integration expenses, translated into layman’s terms, means layoffs and plant closures.
To be sure, neither firm is exactly flush with cash, nor are they in terribly good standing with their creditors; the deal would help shore up the financial position of both.
Monday, Moody’s Investors Services (MCO), the ratings agency Professor Jeff Macke colorfully described as “a bunch of sub-par analysts with the ability to make press releases and the power to kill any company in America,” lowered its ratings on both GM and Chrysler. Moody’s fears liquidity will continue to deteriorate, and that both firms could face cash crunches next year.
Ford (F), the third of Detroit's 3 troubled auto-makers, has seen its debt fall well into "junk" territory, and is on review for further possible downgrades.
Chrysler, for its part, is no stranger to the government dole. In 1979, the company petitioned Washington for over $1 billion in government-backed loans to prevent bankruptcy. Touted as a success, the bailout resulted in massive losses for creditors and layoffs of around 50% of its workforce. It did, however, keep the company alive…so it could go on to build millions of gas-guzzling SUVs.
Unfortunately, economic conditions in both the auto and financial industries have deteriorated such that, without government assistance, both would be doomed to collapse. Even with government funding, however, the result may not be much different.
Tuesday, October 28, 2008
Banks Still Underestimating Scope of Crisis
This post first appeared on Minyanville.
Certain American banks, it appears, didn’t get a very important memo: Losses tend to rise, not fall, during a recession.
The Wall Street Journal reports some large banks, contrary to what seems logical in an economic slowdown caused by massive amounts of bad debt, aren’t raising loan-loss reserves as fast as their loans are souring.
Loan-loss reserves represent a bank’s expected losses on its loan portfolio. They don’t set aside actual cash, but any increase in their reserve reduces profits. This allows executives to manage expectations, giving investors a heads-up about future losses. Eventually, when they get around to selling or otherwise disposing of bad debt, there shouldn’t be any surprises.
Just one catch: Though there are guidelines, standards and principles that govern how banks determine loan-loss reserves, the final number is ultimately subjective. If in September, for example, bank executives felt the credit crunch was waning, and that things were returning to normal, one would expect to see reserves fall.
In recent third-quarter earnings releases, Suntrust (STI), Bank of America (BAC) and BB&T (BBT) actually saw the ratio of reserves to non-performing loans decrease. In other words, these banks thought it prudent to set aside fewer dollars for expected losses for each dollar of impaired loans.
Whether the levels were manipulated to manage earnings, or simply the result of honestly incompetent miscalculation, it’s a troubling trend. Either the folks at the helm of some of our largest financial institutions just don’t get it, or they’re still trying to cross their fingers and hope things get better, despite their continued failure.
By contrast, JPMorgan (JPM) and Citigroup (C) raised the percentage of bad debt on which they expect to experience losses. This is what one might expect of a shrewd financial institution, and is an indication that management expects conditions for their borrowers to worsen. But at least they’re dealing with and acknowledging the problem, rather than continuing to sweep it under the rug.
Now that taxpayer funds are being pumped into troubled banks, continued mismanagement of loss expectations cannot be tolerated. It’s one thing for investors, of their own volition, to take on risk by buying bank stocks. It’s an entirely different story, however, when we don’t get to choose the institutions to which we’re hitching our collective cart.
Limiting executive pay makes for nice headline copy, but it's a weak mechanism for imposing accountability where it’s sorely needed. Until more banks own up to the real exposure lingering on their balance sheets, the true impact of the financial crisis will remain unknown.
Investors don't like uncertainty. Banks would do well to (finally) come clean.
Certain American banks, it appears, didn’t get a very important memo: Losses tend to rise, not fall, during a recession.
The Wall Street Journal reports some large banks, contrary to what seems logical in an economic slowdown caused by massive amounts of bad debt, aren’t raising loan-loss reserves as fast as their loans are souring.
Loan-loss reserves represent a bank’s expected losses on its loan portfolio. They don’t set aside actual cash, but any increase in their reserve reduces profits. This allows executives to manage expectations, giving investors a heads-up about future losses. Eventually, when they get around to selling or otherwise disposing of bad debt, there shouldn’t be any surprises.
Just one catch: Though there are guidelines, standards and principles that govern how banks determine loan-loss reserves, the final number is ultimately subjective. If in September, for example, bank executives felt the credit crunch was waning, and that things were returning to normal, one would expect to see reserves fall.
In recent third-quarter earnings releases, Suntrust (STI), Bank of America (BAC) and BB&T (BBT) actually saw the ratio of reserves to non-performing loans decrease. In other words, these banks thought it prudent to set aside fewer dollars for expected losses for each dollar of impaired loans.
Whether the levels were manipulated to manage earnings, or simply the result of honestly incompetent miscalculation, it’s a troubling trend. Either the folks at the helm of some of our largest financial institutions just don’t get it, or they’re still trying to cross their fingers and hope things get better, despite their continued failure.
By contrast, JPMorgan (JPM) and Citigroup (C) raised the percentage of bad debt on which they expect to experience losses. This is what one might expect of a shrewd financial institution, and is an indication that management expects conditions for their borrowers to worsen. But at least they’re dealing with and acknowledging the problem, rather than continuing to sweep it under the rug.
Now that taxpayer funds are being pumped into troubled banks, continued mismanagement of loss expectations cannot be tolerated. It’s one thing for investors, of their own volition, to take on risk by buying bank stocks. It’s an entirely different story, however, when we don’t get to choose the institutions to which we’re hitching our collective cart.
Limiting executive pay makes for nice headline copy, but it's a weak mechanism for imposing accountability where it’s sorely needed. Until more banks own up to the real exposure lingering on their balance sheets, the true impact of the financial crisis will remain unknown.
Investors don't like uncertainty. Banks would do well to (finally) come clean.
Monday, October 27, 2008
Banks Beware: Here Come the Lawsuits
This post first appeared on Minyanville and Cirios Real Estate.
Despite the Armageddon-esque financial turmoil of recent weeks, one thing about America hasn’t changed: If you really want someone to do something, sue them.
The lined up in droves: Cities, counties and states sued the pants off Countrywide for its shady lending practices. California, Illinois and Florida all alleged the lender fleeced American homeowners, jamming them into loans they had no hopes of repaying.
Now, Bank of America (BAC), who purchased the troubled California-based lender earlier this year, is stuck cleaning up the mess. Earlier this month, the bank agreed to pay more than $8 billion to settle lawsuits filed against Countrywide. Friday, the Los Angeles Times ran through the details of its plan to help as many as 395,000 troubled borrowers:
Despite the Armageddon-esque financial turmoil of recent weeks, one thing about America hasn’t changed: If you really want someone to do something, sue them.
The lined up in droves: Cities, counties and states sued the pants off Countrywide for its shady lending practices. California, Illinois and Florida all alleged the lender fleeced American homeowners, jamming them into loans they had no hopes of repaying.
Now, Bank of America (BAC), who purchased the troubled California-based lender earlier this year, is stuck cleaning up the mess. Earlier this month, the bank agreed to pay more than $8 billion to settle lawsuits filed against Countrywide. Friday, the Los Angeles Times ran through the details of its plan to help as many as 395,000 troubled borrowers:
- Only owner-occupiers (not investors) with subprime or option ARMs qualify for assistance
- Interest rates may be reset as low as 2.5%
- Prepayment penalties and late fees will be waived
- Upside-down borrowers may have principal reduced
- Borrowers who lost their homes (or don’t qualify for assistance) will receive an average of $2,000.
Notably, Bank of America managed to get most investors who bought Countrywide’s mortgage-backed securities to agree to the plan. Holders of these assets have previously balked at such sweeping plans, since modifications usually lower a loan’s cash flow and decrease the value of securities behind it.
Efforts to get lenders to work aggressively with borrowers to avoid foreclosure have been largely ineffective. To be sure, there has been progress, but it’s fallen mightily short of promises the Bush Administration made last year when it announced its pilot program, HOPE NOW.
The aggressive plan, which Congressman Barney Frank, capitalism’s new public enemy number-one, called “the first truly comprehensive plan we’ve seen from the private sector,” could set the stage for a deluge of lawsuits.
The precedent has now been set: The way to stop foreclosures is to start suing banks.
I remember sitting in a meeting in early 2006, when a German bank that had lent our mortgage finance firm a few hundred million dollars asked why we didn’t get into the lucrative option-ARM market. The response: “We don’t want to touch those things. They’re a class action lawsuit waiting to happen.”
Indeed.
Other than Countrywide, the biggest writers of option ARMs during the boom were Washington Mutual, Bear Stearns and Wachovia. Not a single one remains independent.
The proud new owners of these banks, JPMorgan (JPM) (WaMu and Bear) and Wells Fargo (WFC) (via Wachovia) would do well to beef up their legal departments.
Friday, October 24, 2008
Pension Funds Feel Burning Sensation Where Money Once Was
This post first appeared on Minyanville.
Retiring at 65 may be a thing of the past.
Even as Americans watch their 401Ks brutalized by wild swing on Wall Street, some may now need to worry about the security of their pensions as well.
Amid the turmoil in the financial markets, the California Public Employees’ Retirement System, or Calpers, is watching its billions dwindle away.
Since the beginning of the year, I’ve catalogued 2 instances of Calpers making losing real estate bets. The largest pension fund in the country has seen investments in both a Manhattan housing project and vacant land in California turn sour.
Where there's smoke, apparently, there's fire: Calpers has lost $48 billion, or 20% of its total portfolio in the last four months.
The fund manages around $200 billion in pension money for state employees, most of which is contributed by employers like schools, police departments, cities and other public agencies. According to the Wall Street Journal, Calpers is considering upping the contributions from its members to help cover losses. This would further cripple the state’s budget, which is already reeling from lower sales taxes and the collapse in the housing market.
The problem isn’t unique to California.
Calpers is actually outperforming most other pension funds, which have on average posted a 5.1% loss during the fiscal year that ended in June. According to Merrill Lynch, Calpers lost only 2.4% during that time.
And while other states have more red tape to cut through before higher employer contributions can be implemented, as losses mount, it’s not unreasonable to expect California to be the first of many to pass these costs on to their members.
So why should anyone -- at least anyone who isn’t depending on a state pension to fund their golf and tennis in Palm Springs -- care?
States aren’t exactly flush with cash these days, as debt costs rise and tax receipts fall. In order for pension funds to cover payouts in years to come, they need more money. Short of a sharp reversal or a sustained recovery in equity markets, that money needs to come from somewhere: Higher taxes could be in everyone’s future.
Recent stock market losses have thrust the argument over who manages retirement money into the spotlight. Big brokerages like Merrill Lynch (MER) and Morgan Stanley (MS) would love to take money away from pension funds and Social Security, instead trumpeting personal choice as the way to save for the future.
Washington, on the other hand, will point to the financial crisis as evidence the government should have more say over how retirement money is invested.
What’s evident, however, is that, irrespective of the outcome of this heated debate, it's likely Americans (and even Argentineans) may have to figure out cheaper ways to enjoy their golden years.
Anyone for Wii Tennis?
Retiring at 65 may be a thing of the past.
Even as Americans watch their 401Ks brutalized by wild swing on Wall Street, some may now need to worry about the security of their pensions as well.
Amid the turmoil in the financial markets, the California Public Employees’ Retirement System, or Calpers, is watching its billions dwindle away.
Since the beginning of the year, I’ve catalogued 2 instances of Calpers making losing real estate bets. The largest pension fund in the country has seen investments in both a Manhattan housing project and vacant land in California turn sour.
Where there's smoke, apparently, there's fire: Calpers has lost $48 billion, or 20% of its total portfolio in the last four months.
The fund manages around $200 billion in pension money for state employees, most of which is contributed by employers like schools, police departments, cities and other public agencies. According to the Wall Street Journal, Calpers is considering upping the contributions from its members to help cover losses. This would further cripple the state’s budget, which is already reeling from lower sales taxes and the collapse in the housing market.
The problem isn’t unique to California.
Calpers is actually outperforming most other pension funds, which have on average posted a 5.1% loss during the fiscal year that ended in June. According to Merrill Lynch, Calpers lost only 2.4% during that time.
And while other states have more red tape to cut through before higher employer contributions can be implemented, as losses mount, it’s not unreasonable to expect California to be the first of many to pass these costs on to their members.
So why should anyone -- at least anyone who isn’t depending on a state pension to fund their golf and tennis in Palm Springs -- care?
States aren’t exactly flush with cash these days, as debt costs rise and tax receipts fall. In order for pension funds to cover payouts in years to come, they need more money. Short of a sharp reversal or a sustained recovery in equity markets, that money needs to come from somewhere: Higher taxes could be in everyone’s future.
Recent stock market losses have thrust the argument over who manages retirement money into the spotlight. Big brokerages like Merrill Lynch (MER) and Morgan Stanley (MS) would love to take money away from pension funds and Social Security, instead trumpeting personal choice as the way to save for the future.
Washington, on the other hand, will point to the financial crisis as evidence the government should have more say over how retirement money is invested.
What’s evident, however, is that, irrespective of the outcome of this heated debate, it's likely Americans (and even Argentineans) may have to figure out cheaper ways to enjoy their golden years.
Anyone for Wii Tennis?
Thursday, October 23, 2008
Keeping It Real (Estate): Don't Ban Foreclosures!
This post first appeared on Minyanville and Cirios Real Estate.
Banning foreclosures is starting to gain momentum in Washington: This isn't good.
Barack Obama, the current frontrunner in the race for the White House, recently floated a plan for a 90-day moratorium on foreclosures by certain banks, along with other initiatives to revive the economy.
While Obama’s heart may be in the right place with respect to homeowners, current efforts to stem foreclosures by making it harder for banks to take back houses are largely misguided. Preventing banks from exercising their rights as debt holders could have negative consequences for all homeowners. For the ones facing foreclosure, a moratorium is likely to delay in the inevitable.
Mortgage rates are kept low largely because banks can repossess a home if the borrower stops making payments. Even if a homeowner declares bankruptcy, the bank can still take back the house. It may seem cruel, but it’s one of the primary reasons banks are willing to give out hundreds of thousands of dollars in support of home ownership.
By taking away their loss mitigation tool, or even by threatening to limit their ability to foreclose, banks will demand a higher return for the risk they undertake in lending. This means higher interest rates, tighter qualification requirements and home prices far lower than they are today.
We must find effective ways to limit the damage of the housing market’s collapse without endangering the eventual recovery of one of America's most essential markets.
Case in point: California. The epicenter of the housing market’s implosion recently enacted legislation forcing lenders to jump through additional hoops before starting the foreclosure process. Aimed at finding common ground between lenders and troubled borrowers, the state saw a dramatic 62% drop in notice of default filings -- which mark the start of the foreclosure process -- a month after the new law took effect.
On the surface this may sound encouraging, but digging deeper, it appears the data simply reflect a brief interruption in the prevailing trend. Sean O’Toole, founder of research firm ForeclosureRadar, told Housing Wire:
Given the significant negative equity now occurring in most California foreclosures, modifying loans to affordable levels either requires large principal balance reductions, or extending the unsustainable teaser rates that created the foreclosure crisis in the first place.
Wide-scale adoption of large principal balance reductions also poses significant risks, as they are likely to encourage non-defaulting homeowners to default in the hopes of securing similar reductions. As such, either type of loan modification is likely to result in increased default, and/or foreclosure activity in the future, a consequence clearly not intended.
Foreclosures are a necessary, if painful, aspect of the housing cycle - and a requisite part of any sustainable market recovery. And while there are measures the government can take to prevent foreclosures without sacrificing the necessary price discovery the market so desperately needs, they must not be banned outright. Not even for a few months.
The guilty are being punished, albeit slowly.
Bank of America (BAC) recently had to fork over $8 billion to settle lawsuits filed against Countrywide, which it purchased earlier this year. Fannie Mae (FNM) and Freddie Mac (FRE) are being sued by angry shareholders who felt they were misled about the companies' financial strength. Bear Stearns is gone, as are IndyMac and Lehman Brothers. And While this may offer little solace to upside-down homeowners, it's evidence the free market is still functioning (however deep it may become buried under government intervention).
Significant increases in mortgage regulations are already in the works: A more restrictive set of rules is the only sure bet in today’s housing market. However, in so doing, it's important that we not block out an entire subsection of the population - those with poor or undeveloped credit, who are nonetheless worthy of and responsible enough to own a home.
These distinctions were badly blurred and blatantly exploited during the boom, but that’s not reason enough to preclude millions of deserving families from realizing the American dream of homeownership in the decades to come.
Banning foreclosures is starting to gain momentum in Washington: This isn't good.
Barack Obama, the current frontrunner in the race for the White House, recently floated a plan for a 90-day moratorium on foreclosures by certain banks, along with other initiatives to revive the economy.
While Obama’s heart may be in the right place with respect to homeowners, current efforts to stem foreclosures by making it harder for banks to take back houses are largely misguided. Preventing banks from exercising their rights as debt holders could have negative consequences for all homeowners. For the ones facing foreclosure, a moratorium is likely to delay in the inevitable.
Mortgage rates are kept low largely because banks can repossess a home if the borrower stops making payments. Even if a homeowner declares bankruptcy, the bank can still take back the house. It may seem cruel, but it’s one of the primary reasons banks are willing to give out hundreds of thousands of dollars in support of home ownership.
By taking away their loss mitigation tool, or even by threatening to limit their ability to foreclose, banks will demand a higher return for the risk they undertake in lending. This means higher interest rates, tighter qualification requirements and home prices far lower than they are today.
We must find effective ways to limit the damage of the housing market’s collapse without endangering the eventual recovery of one of America's most essential markets.
Case in point: California. The epicenter of the housing market’s implosion recently enacted legislation forcing lenders to jump through additional hoops before starting the foreclosure process. Aimed at finding common ground between lenders and troubled borrowers, the state saw a dramatic 62% drop in notice of default filings -- which mark the start of the foreclosure process -- a month after the new law took effect.
On the surface this may sound encouraging, but digging deeper, it appears the data simply reflect a brief interruption in the prevailing trend. Sean O’Toole, founder of research firm ForeclosureRadar, told Housing Wire:
Given the significant negative equity now occurring in most California foreclosures, modifying loans to affordable levels either requires large principal balance reductions, or extending the unsustainable teaser rates that created the foreclosure crisis in the first place.
Wide-scale adoption of large principal balance reductions also poses significant risks, as they are likely to encourage non-defaulting homeowners to default in the hopes of securing similar reductions. As such, either type of loan modification is likely to result in increased default, and/or foreclosure activity in the future, a consequence clearly not intended.
Foreclosures are a necessary, if painful, aspect of the housing cycle - and a requisite part of any sustainable market recovery. And while there are measures the government can take to prevent foreclosures without sacrificing the necessary price discovery the market so desperately needs, they must not be banned outright. Not even for a few months.
The guilty are being punished, albeit slowly.
Bank of America (BAC) recently had to fork over $8 billion to settle lawsuits filed against Countrywide, which it purchased earlier this year. Fannie Mae (FNM) and Freddie Mac (FRE) are being sued by angry shareholders who felt they were misled about the companies' financial strength. Bear Stearns is gone, as are IndyMac and Lehman Brothers. And While this may offer little solace to upside-down homeowners, it's evidence the free market is still functioning (however deep it may become buried under government intervention).
Significant increases in mortgage regulations are already in the works: A more restrictive set of rules is the only sure bet in today’s housing market. However, in so doing, it's important that we not block out an entire subsection of the population - those with poor or undeveloped credit, who are nonetheless worthy of and responsible enough to own a home.
These distinctions were badly blurred and blatantly exploited during the boom, but that’s not reason enough to preclude millions of deserving families from realizing the American dream of homeownership in the decades to come.
Fannie, Freddie Jump on Grenade
This post first appeared on Minyanville and Cirios Real Estate.
For anyone wondering where the billions of dollars in worthless mortgage-backed securities will wind up, look no further: The mirror.
Fannie Mae (FNM) and Freddie Mac (FRE), the formerly quasi-public, now taxpayer-owned mortgage behemoths, are stealthily sopping up the worst of the structured mortgage debt Wall Street churned out during the boom.
In a story that barely made the back pages of the nation’s newspapers, the Federal Housing Finance Agency announced Fannie and Freddie will start purchasing $40 billion per month of “underperforming mortgage bonds.”
If this program is indicative of the care with which Washington plans to deploy taxpayer money to clean up the mortgage mess, we’re going to need a lot more than $700 billion.
In September, Treasury Secretary Hank Paulson rationalized the seizure of Fannie and Freddie by saying, “It’s very possible for not only the taxpayer not to be hurt or to make money, but for the shareholders to have some value restored to them.” It’s unclear how targeting the worst quality assets on the market will achieve this end.
The initiative -- which is outside the scope of the recently announced bailout plan -- intends to bring liquidity to the frozen mortgage markets. Regulators hope the effect will be lower rates on new mortgages, softening the blow of tumbling home prices.
Policy-makers are desperate to find ways to make buying a house easier, as banks continue to tighten lending requirements to shield themselves from further losses. From big banks like JPMorgan Chase (JPM) and Wells Fargo (WFC) to small, regional players like Gateway Bank in San Francisco, lenders are making it harder to take out mortgages, auto loans, credit cards and just about every other type of consumer debt.
The inevitable regulatory reaction in the coming years is likely to make getting a mortgage even harder.
Coupled with the growing belief in Washington that freezing the foreclosure process is necessary to stem the tide of repossessions decimating communities across the country, mortgage rates aren’t likely to fall any time soon.
Malls Go for Broke, May Still Go Broke
This post first appeared on Minyanville.
As retailers batten down the hatches for what most finally agree will be a nasty economic slowdown, their landlords are scrambling to keep the lights on.
The Wall Street Journal reports mall and shopping-center owners are turning to unconventional advertising methods to keep cash coming in the door. Ads are popping up on food-court meal trays, parking-lot stalls and even vacant storefronts.
InWindow and WindowGain, 2 new companies in the alternative ad space, have landed big names on their clients’ previously vacuous retail space: Comcast (CMCSA), SAB Miller and Verizon (VZ) are all signed up.
Although cash flow from these new avenues pales in comparison to traditional rental income, it’s better than nothing. Owners, however, are reluctant to lock in such ads for long periods of time; instead; they're hoping new tenants will somehow turn up.
In addition to buoying bottom lines, storefront ads help make malls feel less empty. “For lease” signs and empty windows don’t exactly make for a happy shopping experience. And consumers waffling over how to spend their dwindling discretionary dollars can't be constantly reminded of how bad things are - it isn't exactly good for business.
Big mall owners like General Growth Properties (GGP) and Boston Properties (BXP) are hoping the extra income will help cover mounting credit costs. Meanwhile, investors are fleeing equity of these and other publicly traded Real Estate Investment Trusts, or REITs, on fears they could default on their debt obligations. GGP trades at just above $3, down from more than $50 at this time last year. BXP has fared slightly better, taking a mere 35% haircut from over $100 to $65 now.
Since the beginning of the housing downturn almost 3 years ago, many have wondered whether commercial real estate would follow residential into the abyss. Professor Zucchi has long been saying that it’s just a matter of time.
The bullish case for commercial real estate argues the business is less prone to bubbles than the residential market, since asset prices are more directly tied to cash flow. Even if vacancy rates rise, commercial property values won’t take the drastic hit we’ve seen in residential, since there wasn’t a huge speculative run-up in the first place.
While this line of thought is logical, it ignores the structural similarities between the 2 markets. During the boom, both residential and commercial mortgages were funded by originators using cheap short-term debt to finance long-term loans at higher rates. Since that short-term debt could be rolled at low rates, spreads were wide and profits juicy.
Now that short term funding markets are frozen, even for credit-worthy borrowers, that business model is broken. Unable to tap new, cheap debt, property owners are turning to expensive bank lines of credit - or nothing at all. At best, this is squeezing margins; at worst, it's risking the viability of entire firms.
The ongoing economic slowdown, now far worse than most expected, won't help much either. Consumers are cutting back, retailers are closing stores and landlords will find rent harder and harder to collect.
Sayonara, strip mall mania.
As retailers batten down the hatches for what most finally agree will be a nasty economic slowdown, their landlords are scrambling to keep the lights on.
The Wall Street Journal reports mall and shopping-center owners are turning to unconventional advertising methods to keep cash coming in the door. Ads are popping up on food-court meal trays, parking-lot stalls and even vacant storefronts.
InWindow and WindowGain, 2 new companies in the alternative ad space, have landed big names on their clients’ previously vacuous retail space: Comcast (CMCSA), SAB Miller and Verizon (VZ) are all signed up.
Although cash flow from these new avenues pales in comparison to traditional rental income, it’s better than nothing. Owners, however, are reluctant to lock in such ads for long periods of time; instead; they're hoping new tenants will somehow turn up.
In addition to buoying bottom lines, storefront ads help make malls feel less empty. “For lease” signs and empty windows don’t exactly make for a happy shopping experience. And consumers waffling over how to spend their dwindling discretionary dollars can't be constantly reminded of how bad things are - it isn't exactly good for business.
Big mall owners like General Growth Properties (GGP) and Boston Properties (BXP) are hoping the extra income will help cover mounting credit costs. Meanwhile, investors are fleeing equity of these and other publicly traded Real Estate Investment Trusts, or REITs, on fears they could default on their debt obligations. GGP trades at just above $3, down from more than $50 at this time last year. BXP has fared slightly better, taking a mere 35% haircut from over $100 to $65 now.
Since the beginning of the housing downturn almost 3 years ago, many have wondered whether commercial real estate would follow residential into the abyss. Professor Zucchi has long been saying that it’s just a matter of time.
The bullish case for commercial real estate argues the business is less prone to bubbles than the residential market, since asset prices are more directly tied to cash flow. Even if vacancy rates rise, commercial property values won’t take the drastic hit we’ve seen in residential, since there wasn’t a huge speculative run-up in the first place.
While this line of thought is logical, it ignores the structural similarities between the 2 markets. During the boom, both residential and commercial mortgages were funded by originators using cheap short-term debt to finance long-term loans at higher rates. Since that short-term debt could be rolled at low rates, spreads were wide and profits juicy.
Now that short term funding markets are frozen, even for credit-worthy borrowers, that business model is broken. Unable to tap new, cheap debt, property owners are turning to expensive bank lines of credit - or nothing at all. At best, this is squeezing margins; at worst, it's risking the viability of entire firms.
The ongoing economic slowdown, now far worse than most expected, won't help much either. Consumers are cutting back, retailers are closing stores and landlords will find rent harder and harder to collect.
Sayonara, strip mall mania.
Wednesday, October 22, 2008
Hedge Fund Cowboy: Screw You Guys, I'm Going Home
This post first appeared on Minyanville.
Slaving away under coma-inducing florescent lights, listening to the ceaseless droning of automaton bosses, watching our best years crushed under stacks of monthly bills - All have distinct benefits.
After all, when it’s over we get to let it all go, head south, lounge in the Floridian sun, sip piña coladas and field visits from begrudging grandkids while our skin prunes, our hair falls out, and our bodies generally deteriorate. Finally, we return to that happy place where someone else gives us baths and spoon-feeds liquefied pears into our toothless mouths.
Unless, of course we get our grubby little paws on a little f&%k-you money in the interim. Then we can offer the world the finger while riding off into the proverbial sunset.
One hedge funder, Andrew Lahde, manager of the small California fund that made headlines by making over 1000% betting against subprime mortgages, is taking his blood money and going home.
Last week, he released a letter explaining his decision, mocking those he took money from, and thanking the “people stupid enough to take the other side of [his] trades.”
Lahde admits that "some people... might be surprised that I would call it quits with such a small war chest. That is fine; I am content with my rewards." He's leaving the business he now abhors.
Lahde lauds the creation of a new world order, free of the rotten values of our failed capitalist state, while extolling the virtues of hemp, the much-maligned sibling of its more popular -- and more enjoyable -- sister, marijuana. According to Lahde, hemp, “unlike alcohol, does not result in bar fights or wife-beating.”
He appears to be one of the few who are successful enough, and disciplined enough, to know when enough is enough. However, his success did come at a cost: “I now have time to repair my health, which was destroyed by the stress I layered onto myself over the past 2 years, as well as my entire life.”
ING (ING), the ubiquitous orange-tinted Dutch bank, runs an ad campaign that asks savers the slightly alarming question, “What’s your [retirement] number?” Retirement, it seems, could be just a mouse-click away.
Ask any banker, or aspiring investment banker, and they have a number too.
But that number doesn’t include years of working for the man, adhering to antiquated populist notions like “putting in your time” or “paying your dues.”
Instead, such a pursuit often requires abandoning such luxuries as "personal time" or "vacations" or "family" while biting, scratching and kicking through the ranks of Goldman Sachs (GS) or Merrill Lynch (MER) in the hopes of reaching that pedestal from which money can snatched from the trees upon which it's rumored to grow - assuming that trees can grow anywhere in lower Manhattan.
Most, much to their chagrin, never do set sail on that 72-foot Hatteras Motor Yacht, complete with scantily clad South American models (of the gender of their choice) hanging off the bow.
Indeed, as deflation takes hold, the social mood shifts away from consumerism and we collectively realize that it is indeed possible to be happy with less, rather than more, Lahde may simply be the first in a long line of pilgrims headed toward a simpler life.
Slaving away under coma-inducing florescent lights, listening to the ceaseless droning of automaton bosses, watching our best years crushed under stacks of monthly bills - All have distinct benefits.
After all, when it’s over we get to let it all go, head south, lounge in the Floridian sun, sip piña coladas and field visits from begrudging grandkids while our skin prunes, our hair falls out, and our bodies generally deteriorate. Finally, we return to that happy place where someone else gives us baths and spoon-feeds liquefied pears into our toothless mouths.
Unless, of course we get our grubby little paws on a little f&%k-you money in the interim. Then we can offer the world the finger while riding off into the proverbial sunset.
One hedge funder, Andrew Lahde, manager of the small California fund that made headlines by making over 1000% betting against subprime mortgages, is taking his blood money and going home.
Last week, he released a letter explaining his decision, mocking those he took money from, and thanking the “people stupid enough to take the other side of [his] trades.”
Lahde admits that "some people... might be surprised that I would call it quits with such a small war chest. That is fine; I am content with my rewards." He's leaving the business he now abhors.
Lahde lauds the creation of a new world order, free of the rotten values of our failed capitalist state, while extolling the virtues of hemp, the much-maligned sibling of its more popular -- and more enjoyable -- sister, marijuana. According to Lahde, hemp, “unlike alcohol, does not result in bar fights or wife-beating.”
He appears to be one of the few who are successful enough, and disciplined enough, to know when enough is enough. However, his success did come at a cost: “I now have time to repair my health, which was destroyed by the stress I layered onto myself over the past 2 years, as well as my entire life.”
ING (ING), the ubiquitous orange-tinted Dutch bank, runs an ad campaign that asks savers the slightly alarming question, “What’s your [retirement] number?” Retirement, it seems, could be just a mouse-click away.
Ask any banker, or aspiring investment banker, and they have a number too.
But that number doesn’t include years of working for the man, adhering to antiquated populist notions like “putting in your time” or “paying your dues.”
Instead, such a pursuit often requires abandoning such luxuries as "personal time" or "vacations" or "family" while biting, scratching and kicking through the ranks of Goldman Sachs (GS) or Merrill Lynch (MER) in the hopes of reaching that pedestal from which money can snatched from the trees upon which it's rumored to grow - assuming that trees can grow anywhere in lower Manhattan.
Most, much to their chagrin, never do set sail on that 72-foot Hatteras Motor Yacht, complete with scantily clad South American models (of the gender of their choice) hanging off the bow.
Indeed, as deflation takes hold, the social mood shifts away from consumerism and we collectively realize that it is indeed possible to be happy with less, rather than more, Lahde may simply be the first in a long line of pilgrims headed toward a simpler life.
Tuesday, October 21, 2008
Banks Using Your Tax Dollars For Mergers, Acquisitions
This post first appeared on Minyanville.
Banks, it appears, may finally be tired of losing money.
The $700 billion bailout plan rushed through Congress was aimed at shoring up the American financial system, providing banks with capital that they could then blithely begin lending again.
The law of unintended consequences -- already familiar to us following the recent spate of unprecedented government intervention -- is once again rearing its unsightly head.
The Wall Street Journal reports that, rather than extending credit to embattled American consumers, banks may use recently allocated taxpayer funds to gobble up competitors. Zions (ZION) and BB&T (BBT) are eager to go shopping for attractively priced banks, and are considering accepting government funds to do so.
Many argue this is a healthy, natural progression as the banking sector consolidates and prepares for its eventual recovery. Others, however, aren’t pleased to see taxpayer funds funneled into takeovers, which will do little to pump credit into the economy in the near term.
Furthermore, as Professor Sedacca noted on this morning's Buzz and Banter, banks like KeyCorp (KEY) are tapping the government for cash - only to turn around and dole it out to shareholders in the form of dividends. Good for equity owners; not so good for taxpayers.
Lending money to consumers in the past 12 months has been a losing bet. Banks -- obligated to make good on credit lines handed out during better times to individuals and businesses alike -- are finding themselves with more bad loans than they know what to do with. American Express (AXP), heretofore the lender of first resort to the world’s wealthiest, saw third-quarter profits tumble 24% on a 51% jump on credit-loss provisions.
Banks, like any responsible economic actor, act in their own best interests. Irrespective of whatever pressure Treasury Secretary Hank Paulson or French President Nicolas Sarkozy puts on financial institutions to start lending again, government officials cannot force money into the real economy.
The massive amount of liquidity being pumped into the financial system may be a short-term fix for the panic gripping world markets, but self-preservation is paramount during hard economic times. If an acquisition makes more financial sense than extending credit to struggling consumers, banks won't think twice.
A few lost customers or a few angry borrowers is a small price to pay for survival - and the chance to emerge on the top of the heap.
Banks, it appears, may finally be tired of losing money.
The $700 billion bailout plan rushed through Congress was aimed at shoring up the American financial system, providing banks with capital that they could then blithely begin lending again.
The law of unintended consequences -- already familiar to us following the recent spate of unprecedented government intervention -- is once again rearing its unsightly head.
The Wall Street Journal reports that, rather than extending credit to embattled American consumers, banks may use recently allocated taxpayer funds to gobble up competitors. Zions (ZION) and BB&T (BBT) are eager to go shopping for attractively priced banks, and are considering accepting government funds to do so.
Many argue this is a healthy, natural progression as the banking sector consolidates and prepares for its eventual recovery. Others, however, aren’t pleased to see taxpayer funds funneled into takeovers, which will do little to pump credit into the economy in the near term.
Furthermore, as Professor Sedacca noted on this morning's Buzz and Banter, banks like KeyCorp (KEY) are tapping the government for cash - only to turn around and dole it out to shareholders in the form of dividends. Good for equity owners; not so good for taxpayers.
Lending money to consumers in the past 12 months has been a losing bet. Banks -- obligated to make good on credit lines handed out during better times to individuals and businesses alike -- are finding themselves with more bad loans than they know what to do with. American Express (AXP), heretofore the lender of first resort to the world’s wealthiest, saw third-quarter profits tumble 24% on a 51% jump on credit-loss provisions.
Banks, like any responsible economic actor, act in their own best interests. Irrespective of whatever pressure Treasury Secretary Hank Paulson or French President Nicolas Sarkozy puts on financial institutions to start lending again, government officials cannot force money into the real economy.
The massive amount of liquidity being pumped into the financial system may be a short-term fix for the panic gripping world markets, but self-preservation is paramount during hard economic times. If an acquisition makes more financial sense than extending credit to struggling consumers, banks won't think twice.
A few lost customers or a few angry borrowers is a small price to pay for survival - and the chance to emerge on the top of the heap.
Monday, October 20, 2008
So, You Want to Fix the Housing Market?
This post first appeared on Minyanville and Cirios Real Estate.
On The Exchange, several sharp-minded Minyans pressed for details on how the government could execute a program to “absorb negative equity” in a fair, equitable, efficient manner - and without bankrupting the entire country.
To be clear, I'm fundamentally opposed to government intervention into the free market beyond a requisite regulatory capacity. I'm also deeply skeptical that government can manage any program, large or small, with even the slightest degree of aptitude.
Unfortunately, the usefulness of ideological debate is growing fainter by the day. Practical solutions must be put forth and implemented immediately, lest we slip further toward a second Great Depression. Historians are welcome to argue semantics while we get down to fixing the problem. Only a mixture of public and private enterprise can repair the damage.
Negative equity creates a number of serious problems for the housing market, such as:
Foreclosures
Negative equity turns defaults into foreclosures. Delinquent borrowers can sell their way out of the problem if they can find a buyer at a level higher than their outstanding mortgage (plus closing costs and real estate agent commissions). But being underwater makes this impossible without coming up with the difference between the loan amount and the sale price.This is cash most struggling homeowners simply don't have.
Oversupply
Negative equity exacerbates existing oversupply issues, pushing home prices down further. Sellers who haven't yet missed a payment must list their house at least as high as their outstanding mortgage. But if a homeowner is upsidedown, the property gets listed too high and stays there. Borrowers must then choose to continue pouring money into a losing bet, while hoping someone buys their house at well above its market value. The alternative is to default and end up in foreclosure.
Bank losses
Once a mortgage becomes delinquent, banks must write down the asset and take a loss. Not only is the loan impaired because of the delinquency, but negative equity enhances the bank’s losses. As property values fall, balance sheets become even more impaired, mortgage-backed securities continue to lose value and the entire financial system becomes even more desperate for capital.
Banks are bleeding cash: JP Morgan (JPM), Wells Fargo (WFC), Citigroup (C) and Bank of America (BAC) all recently announced reduced earnings and were forced to take equity injections from the Treasury. Lenders are reticent to accept short sales (allowing borrowers to accept a sale price lower than the loan amount without making up the difference) because they can’t handle the losses.
Now, for the solution(s).
There's no magic bullet, no one solution that can, in one fell swoop, wipe the slate clean. As I've described it, “sopping up negative equity” is an immensely complicated task. The mortgage industry is massive, inefficient, disjointed, riddled with redundancy, buried in paperwork and plagued by bad regulation and misplaced incentives. In short, it’s a mess. Cleaning it up will take a very, very long time.
Still, I'd argue spending money on the programs below -- without any hope of it being returned -- is a better use of taxpayer funds than watching hundreds of billions of dollars simply disappear into the opaque balance sheets of what remains of the financial system.
There may be additional solutions, but this laser focus on earning taxpayers a return on their investment dilutes the effectiveness of many important initiatives.
Principal Forgiveness
Fannie Mae (FNM) and Freddie Mac (FRE) are already experimenting with a pilot program to give borrowers the amount of their negative equity as an unsecured loan. Based on the most recent appraisal (appraisals are, for all their faults, currently the most accurate way to value individual homes), Fannie and Freddie could pay down the negative equity -- plus some cushion for future depreciation -- and refinance the existing loan at, say, an 80% loan to value.
Even if the government-sponsored enterprises started with just their own portfolio, that would be a huge step in the right direction. For loans owned by banks and in securities, Fannie and Freddie could pay off the mortgage at the outstanding balance, forgive the necessary principal and write a new loan.
At this point, the homeowner is free to sell the house at the new, lower market price (price discovery) or go on making the now much-more-manageable mortgage payments.
Shared Equity
Banks could “sell” negative equity to Treasury, sharing any future upside based on each party’s pro rata share of the home’s current value (again, we’re forced to use appraisals because there just is not a better option - yet). When the home sells, the bank and Treasury would participate in any future appreciation. If the home's value continues to slide, the bank is less exposed to the losses.
Bank’s could effectively choose the amount they write off: The more they receive from Treasury, the less upside exposure they retain. On the flip side, stronger banks would be able to write off just enough to stay afloat without losing future earnings potential.
The U.K. is already trying a version of this program.
Community Redevelopment
I believe the best way out of this mess is to set up a federal land bank system, where funds are distributed by the Treasury to local community development organizations and vetted real estate developers. I recognize the potential for bureaucratic abuses, but unfortunately the government is the only organization with the scope to handle the problem on a national scale.
Just as we now have a Bailout Czar, we need a Housing Bailout Czar to oversee such a program. I’m sure Goldman Sachs (GS) could send up another of its finest for the betterment of the country.
Groups like Habitat For Humanity, which have existing ties in the community and teams of professional and volunteer contractors, could dramatically help rebuild struggling communities with requisite resources from the federal government. These groups could either buy foreclosed properties, refurbish them and rent them out, write low cost mortgages through the land bank or offer up funds to enable banks to accept short sales.
If there's a better use for taxpayer money than rebuilding communities after a tragedy, helping families put their lives back together - I'm not sure what it is.
Will some speculators be helped in the process? Probably. But the good news is the widespread economic implications of this crisis, which are now inevitable, will take care of much of the moral hazard we so fervently argue against.
Not every stock speculator was taught his lesson after the stock market crash of 1929, but the Great Depression did affect an entire generation, encouraging thrift and aversion to risk for decades. Now isn't the time to take the moral high ground, only to watch our cities washed away by the rising flood of poverty.
This isn't socialism, it’s being American.
On The Exchange, several sharp-minded Minyans pressed for details on how the government could execute a program to “absorb negative equity” in a fair, equitable, efficient manner - and without bankrupting the entire country.
To be clear, I'm fundamentally opposed to government intervention into the free market beyond a requisite regulatory capacity. I'm also deeply skeptical that government can manage any program, large or small, with even the slightest degree of aptitude.
Unfortunately, the usefulness of ideological debate is growing fainter by the day. Practical solutions must be put forth and implemented immediately, lest we slip further toward a second Great Depression. Historians are welcome to argue semantics while we get down to fixing the problem. Only a mixture of public and private enterprise can repair the damage.
Negative equity creates a number of serious problems for the housing market, such as:
Foreclosures
Negative equity turns defaults into foreclosures. Delinquent borrowers can sell their way out of the problem if they can find a buyer at a level higher than their outstanding mortgage (plus closing costs and real estate agent commissions). But being underwater makes this impossible without coming up with the difference between the loan amount and the sale price.This is cash most struggling homeowners simply don't have.
Oversupply
Negative equity exacerbates existing oversupply issues, pushing home prices down further. Sellers who haven't yet missed a payment must list their house at least as high as their outstanding mortgage. But if a homeowner is upsidedown, the property gets listed too high and stays there. Borrowers must then choose to continue pouring money into a losing bet, while hoping someone buys their house at well above its market value. The alternative is to default and end up in foreclosure.
Bank losses
Once a mortgage becomes delinquent, banks must write down the asset and take a loss. Not only is the loan impaired because of the delinquency, but negative equity enhances the bank’s losses. As property values fall, balance sheets become even more impaired, mortgage-backed securities continue to lose value and the entire financial system becomes even more desperate for capital.
Banks are bleeding cash: JP Morgan (JPM), Wells Fargo (WFC), Citigroup (C) and Bank of America (BAC) all recently announced reduced earnings and were forced to take equity injections from the Treasury. Lenders are reticent to accept short sales (allowing borrowers to accept a sale price lower than the loan amount without making up the difference) because they can’t handle the losses.
Now, for the solution(s).
There's no magic bullet, no one solution that can, in one fell swoop, wipe the slate clean. As I've described it, “sopping up negative equity” is an immensely complicated task. The mortgage industry is massive, inefficient, disjointed, riddled with redundancy, buried in paperwork and plagued by bad regulation and misplaced incentives. In short, it’s a mess. Cleaning it up will take a very, very long time.
Still, I'd argue spending money on the programs below -- without any hope of it being returned -- is a better use of taxpayer funds than watching hundreds of billions of dollars simply disappear into the opaque balance sheets of what remains of the financial system.
There may be additional solutions, but this laser focus on earning taxpayers a return on their investment dilutes the effectiveness of many important initiatives.
Principal Forgiveness
Fannie Mae (FNM) and Freddie Mac (FRE) are already experimenting with a pilot program to give borrowers the amount of their negative equity as an unsecured loan. Based on the most recent appraisal (appraisals are, for all their faults, currently the most accurate way to value individual homes), Fannie and Freddie could pay down the negative equity -- plus some cushion for future depreciation -- and refinance the existing loan at, say, an 80% loan to value.
Even if the government-sponsored enterprises started with just their own portfolio, that would be a huge step in the right direction. For loans owned by banks and in securities, Fannie and Freddie could pay off the mortgage at the outstanding balance, forgive the necessary principal and write a new loan.
At this point, the homeowner is free to sell the house at the new, lower market price (price discovery) or go on making the now much-more-manageable mortgage payments.
Shared Equity
Banks could “sell” negative equity to Treasury, sharing any future upside based on each party’s pro rata share of the home’s current value (again, we’re forced to use appraisals because there just is not a better option - yet). When the home sells, the bank and Treasury would participate in any future appreciation. If the home's value continues to slide, the bank is less exposed to the losses.
Bank’s could effectively choose the amount they write off: The more they receive from Treasury, the less upside exposure they retain. On the flip side, stronger banks would be able to write off just enough to stay afloat without losing future earnings potential.
The U.K. is already trying a version of this program.
Community Redevelopment
I believe the best way out of this mess is to set up a federal land bank system, where funds are distributed by the Treasury to local community development organizations and vetted real estate developers. I recognize the potential for bureaucratic abuses, but unfortunately the government is the only organization with the scope to handle the problem on a national scale.
Just as we now have a Bailout Czar, we need a Housing Bailout Czar to oversee such a program. I’m sure Goldman Sachs (GS) could send up another of its finest for the betterment of the country.
Groups like Habitat For Humanity, which have existing ties in the community and teams of professional and volunteer contractors, could dramatically help rebuild struggling communities with requisite resources from the federal government. These groups could either buy foreclosed properties, refurbish them and rent them out, write low cost mortgages through the land bank or offer up funds to enable banks to accept short sales.
If there's a better use for taxpayer money than rebuilding communities after a tragedy, helping families put their lives back together - I'm not sure what it is.
Will some speculators be helped in the process? Probably. But the good news is the widespread economic implications of this crisis, which are now inevitable, will take care of much of the moral hazard we so fervently argue against.
Not every stock speculator was taught his lesson after the stock market crash of 1929, but the Great Depression did affect an entire generation, encouraging thrift and aversion to risk for decades. Now isn't the time to take the moral high ground, only to watch our cities washed away by the rising flood of poverty.
This isn't socialism, it’s being American.
Thursday, October 16, 2008
Washington Continues to Ignore Root of Housing Problem
This post first appeared on Minyanville and our sister site Cirios Real Estate.
Despite overwhelming evidence that we're in the middle of a debt crisis, regulators insist they're wrestling a liquidity crunch. And all the while, a cancer continues to eat away at the guts of the economy: The housing market. Only when it stabilizes will the financial system and, by extension, the economy -- recover.
And yet, despite this widely recognized fact, the recent $700 bailout package contains little support for struggling homeowners. Even the $250 billion being dumped into banks will have only a minor effect on property values.
Smothered under the weight of falling home prices and tight credit conditions, consumers are reining in spending, as evidenced by yesterday’s bleak retail sales data. The economy is following the housing market into the abyss.
Since last summer, Washington's tactic has been to encourage loan modifications through HOPE NOW and Project Lifeline and to widen the scope of government-backed loan programs via the Federal Housing Administration, Fannie Mae (FNM) and Freddie Mac (FRE).
As noted in the Wall Street Journal and discussed ad nauseum here in the 'Ville, these measures are woefully inadequate to stem the continued decline in housing prices.
As property values fall, over-leveraged borrowers find themselves underwater, or owing more on a house than it's worth. In order to sell, the homeowner must come up with the difference between the sales price and the balance of their mortgage. For most, this is cash that simply doesn’t exist.
As a result, homes sit on the market for months, further pressuring home values. Despite the insistence by some real-estate agents that this is a buyer’s market, it most certainly is not. Until bloated inventories fall, home prices will continue to slide, making buying a home a dangerous proposition in the vast majority of the country.
Meanwhile, politicians continue to bang their heads against the proverbial wall, backing programs simply that do not work with the scope and efficiency that’s needed. Loan modifications, opening up mortgage guidelines and providing tax breaks so homebuilders like Centex (CTX), Pulte Homes (PHM) and KB Homes (KBH) can sell more overpriced houses may help a select few, but they do little to address the root of the problem.
Until taxpayer funds are appropriated to absorb negative equity, price discovery in the housing market will be a long, agonizing process.
Despite overwhelming evidence that we're in the middle of a debt crisis, regulators insist they're wrestling a liquidity crunch. And all the while, a cancer continues to eat away at the guts of the economy: The housing market. Only when it stabilizes will the financial system and, by extension, the economy -- recover.
And yet, despite this widely recognized fact, the recent $700 bailout package contains little support for struggling homeowners. Even the $250 billion being dumped into banks will have only a minor effect on property values.
Smothered under the weight of falling home prices and tight credit conditions, consumers are reining in spending, as evidenced by yesterday’s bleak retail sales data. The economy is following the housing market into the abyss.
Since last summer, Washington's tactic has been to encourage loan modifications through HOPE NOW and Project Lifeline and to widen the scope of government-backed loan programs via the Federal Housing Administration, Fannie Mae (FNM) and Freddie Mac (FRE).
As noted in the Wall Street Journal and discussed ad nauseum here in the 'Ville, these measures are woefully inadequate to stem the continued decline in housing prices.
As property values fall, over-leveraged borrowers find themselves underwater, or owing more on a house than it's worth. In order to sell, the homeowner must come up with the difference between the sales price and the balance of their mortgage. For most, this is cash that simply doesn’t exist.
As a result, homes sit on the market for months, further pressuring home values. Despite the insistence by some real-estate agents that this is a buyer’s market, it most certainly is not. Until bloated inventories fall, home prices will continue to slide, making buying a home a dangerous proposition in the vast majority of the country.
Meanwhile, politicians continue to bang their heads against the proverbial wall, backing programs simply that do not work with the scope and efficiency that’s needed. Loan modifications, opening up mortgage guidelines and providing tax breaks so homebuilders like Centex (CTX), Pulte Homes (PHM) and KB Homes (KBH) can sell more overpriced houses may help a select few, but they do little to address the root of the problem.
Until taxpayer funds are appropriated to absorb negative equity, price discovery in the housing market will be a long, agonizing process.
Tuesday, October 14, 2008
Sport Ticket Sales Dribbling
This post first appeared on Minyanville.
The Wall Street Journal reports Americans are shelling out fewer of their precious dollars to attend sporting events, despite creative sales ploys by franchises. As New Jersey Nets CEO Brett Yorkman put it, "We’re not just competing for people’s entertainment dollars anymore. We’re going up against milk and orange juice.”
Consumers are shunning extravagances -- including overpriced tickets to sporting events -- as they turn away from debt, credit and generally spending money they don’t have. Which spells trouble for teams and cities alike, many of whom have recently sunk hundreds of millions of dollars into new stadiums and the infrastructure improvements required to support them. With tax revenues sinking and borrowing costs skyrocketing, municipalities may have trouble keeping up with their monthly payments.
During the previous decade of easy money, cities and counties issued debt -- often backed by bond insurers MBIA (MBI) and Ambac (ABK) -- to finance stadium projects. Glitzy new venues went up in place of old, crumbling ones steeped in history and tradition. Now, however, that credit has tightened up like a frightened sphincter, future plans are in jeopardy of being put on hold.
New York City, as usual, is on the leading edge of the storm.
Both the Mets and Yankees inked deals to build new stadiums just before the credit crunch began in earnest last year. The Mets even managed to corral a big-name sponsor to plaster the venue with its logo: Citi Field will open for business next season, and Citigroup (C) will shell out $20 million per year for the naming rights.
The Nets were a little late to the game, and may not be so lucky. Plans to build the Barclay's (BCS) Center arena in Brooklyn are in the works, but ground is yet to be broken. The British bank, recently the recipient of a generous cash injection from the U.K. government, has reiterated its commitment to supporting the project. However, legal setbacks and rising construction costs continue to imperil the arena’s future.
Meanwhile, back in New Jersey, 2-for-1 season ticket offers, gas-card rebates and a recently launched buy-now-pay-later still haven’t allowed the Nets to meet their goal of selling enough tickets to make up for lost renewals.
For now, fans appear inclined to stay at home, flip on the television and salivate over those court-side seats they once could afford.
The Wall Street Journal reports Americans are shelling out fewer of their precious dollars to attend sporting events, despite creative sales ploys by franchises. As New Jersey Nets CEO Brett Yorkman put it, "We’re not just competing for people’s entertainment dollars anymore. We’re going up against milk and orange juice.”
Consumers are shunning extravagances -- including overpriced tickets to sporting events -- as they turn away from debt, credit and generally spending money they don’t have. Which spells trouble for teams and cities alike, many of whom have recently sunk hundreds of millions of dollars into new stadiums and the infrastructure improvements required to support them. With tax revenues sinking and borrowing costs skyrocketing, municipalities may have trouble keeping up with their monthly payments.
During the previous decade of easy money, cities and counties issued debt -- often backed by bond insurers MBIA (MBI) and Ambac (ABK) -- to finance stadium projects. Glitzy new venues went up in place of old, crumbling ones steeped in history and tradition. Now, however, that credit has tightened up like a frightened sphincter, future plans are in jeopardy of being put on hold.
New York City, as usual, is on the leading edge of the storm.
Both the Mets and Yankees inked deals to build new stadiums just before the credit crunch began in earnest last year. The Mets even managed to corral a big-name sponsor to plaster the venue with its logo: Citi Field will open for business next season, and Citigroup (C) will shell out $20 million per year for the naming rights.
The Nets were a little late to the game, and may not be so lucky. Plans to build the Barclay's (BCS) Center arena in Brooklyn are in the works, but ground is yet to be broken. The British bank, recently the recipient of a generous cash injection from the U.K. government, has reiterated its commitment to supporting the project. However, legal setbacks and rising construction costs continue to imperil the arena’s future.
Meanwhile, back in New Jersey, 2-for-1 season ticket offers, gas-card rebates and a recently launched buy-now-pay-later still haven’t allowed the Nets to meet their goal of selling enough tickets to make up for lost renewals.
For now, fans appear inclined to stay at home, flip on the television and salivate over those court-side seats they once could afford.
Treasury Throws Good Money After Bad
This post first appeared on Minyanville.
In recent testimony before the Senate Banking Committee, Treasury Secretary Hank Paulson rejected the idea of the US government injecting capital into banks and taking preferred stock, suggesting that such an extreme measure would imply that the US banking system had failed.
"Some [say] we should just stick capital in the banks, take preferred stock in the banks. That's what you do when you have failure," Paulson said.
Houston, we have failure: Yesterday, after the markets closed, Paulson announced plans to just stick capital -- $250 billion, to be exact -- into the banks and take preferred stock.
According to the Wall Street Journal, 9 of our biggest banks will receive around half the total injection.
In recent testimony before the Senate Banking Committee, Treasury Secretary Hank Paulson rejected the idea of the US government injecting capital into banks and taking preferred stock, suggesting that such an extreme measure would imply that the US banking system had failed.
"Some [say] we should just stick capital in the banks, take preferred stock in the banks. That's what you do when you have failure," Paulson said.
Houston, we have failure: Yesterday, after the markets closed, Paulson announced plans to just stick capital -- $250 billion, to be exact -- into the banks and take preferred stock.
According to the Wall Street Journal, 9 of our biggest banks will receive around half the total injection.
- Citigroup (C): $25 billion
- JPMorgan (JPM): $25 billion
- Bank of America (BAC) and Merrill Lynch (MER): $25 billion
- Wells Fargo (WFC): $20 - 25 billion
- Goldman Sachs (GS): $10 billion
- Morgan Stanley (MS): $10 billion
- State Street Bank (SST): $3 billion
- Bank of New York Mellon (BK): $3 billion
The rest of the $250 billion will be divvied up among smaller, healthier institutions around the country.
Reports indicate that some of the banks balked at the injections, which include restrictions on executive pay and requirements to help struggling homeowners.
Careful not to dilute existing shareholders by buying common equity, Treasury will purchase preferred stock carrying a 5% dividend, that jumps to 9% after five years. This represents a significant discount, however, to the 10% return Mitsubishi Finance (MTU) is earning on its recent $9 billion investment in Morgan Stanley, and Warren Buffett is picking up from his stake in Goldman Sachs.
In conjunction with Treasury's plan, the FDIC announced it will guarantee senior unsecured debt issued by banks, making it easier for them to raise capital in private markets. The FDIC will also insure all non-interest bearing deposits, which are typically held by businesses.
Over the weekend, after Europe announced a quasi-unified front to tackle the financial crisis which has spilled over into markets around the world, Washington said it planned to release details of a “comprehensive” plan to shore up America’s financial system - and by extension the economy as a whole.
Many scoffed at the idea that the government's actions to date -- hundreds of billions in liquidity injections, rescuing AIG (AIG) and Bear Stearns, the bailout package itself, and countless other measures -- didn't constitute a “comprehensive” approach. Today, as financial commentators huff and puff through reams of press releases and sift through details of the myriad new programs, we're coming to understand what a truly “comprehensive” plan entails.
Still, amazingly, bureaucrats don’t get it.
Even this morning, FDIC chairman Sheila Bair -- who by many accounts has performed admirably throughout this crisis -- described our situation as “a liquidity problem.”
Liquidity is just the external manifestation of the true issue: Too much debt. A liquidity crisis is easier to explain (and more politically palatable), because admitting the true problems facing this economy and their implications for our long-term prosperity are a bit too scary to trumpet around on national television.
Professor Depew laid out the details of why this is a debt crisis, not a liquidity crisis, last week:
"Similarly, the issue today is not one of temporary liquidity, time preferences being shortened out of a temporary risk aversion. The issue is too much debt supported by too little real income. As a result, global time preferences are retreating, risk aversion is growing, and access to credit is diminishing."
Until that debt load shrinks -- until American consumers and businesses alike save, repay debt, save again and repay some more -- the merry-go-round of bailouts, capital injections and more bailouts will continue its revolutions.
Unless they’re interrupted by a revolution of another kind.
Monday, October 13, 2008
Morgan Stanley, Mitsubishi Say "I Do"
This post first appeared on Minyanville.
A collective sigh of relief just went up in the narrow boulevards of lower Manhattan - and it’s not just because the Federal Reserve said it will lend out unlimited amounts of dollars to help prop up the global financial system: Morgan Stanley (MS) managed to secure its capital infusion from Japan’s largest bank, Mitsubishi UFJ Financial Group (MTU).
Just weeks ago, when the transaction was first announced, Mistubishi’s agreed to hand over $9 billion for a 20% stake in the storied Wall Street firm. But during the market’s train wreck last week, shares of Morgan Stanley sunk below $7 on concerns the deal would be derailed.
At those levels, the Japanese bank could have picked up the entire firm for less than the proposed injection.
Nevertheless, after a weekend of what must have been intense negotiations, the 2 sides agreed on a deal.
According to the Wall Street Journal, Mitsubishi picked up $7.8 of convertible preferred stock with a conversion price of $25.25 per share, along with $1.2 billion of non-convertible preferred shares. Both investments carry a 10% dividend, which seems to be the going rate for equity positions in former-investment banks (Warren Buffett is earning a similar dividend on his investment in Goldman Sachs (GS)).
The deal comes without any implicit backing from the US government - though Bloomberg, citing the New York Times, reports federal officials told Mitsubishi its investment would be “protected.” It’s unclear whether there will be specific guarantee slapped on the deal, or if the government simply implied its plans to inject cash into troubled financial institutions will keep Mitsubishi’s money safe.
The 2 firms are already forging a strategic partnership, identifying several areas of cooperation: Corporate and project-related loans, investment banking and certain aspects of retail banking and asset management.
Both Morgan and Goldman are paying a high price for private capital; 10% is nothing to scoff at for what are alleged to be strong financial institutions. That also sets the bar for what taxpayers should expect to earn when the Treasury Department starts taking equity positions in American banks.
Existing shareholders, already fretful these equity investments will be highly dilutive to existing shares, now have to worry that the high cost of capital will eat into future earnings. According to Bloomberg, Morgan’s annual payout to Mitsubishi could be as much as 16% of next year’s profits.
In the coming weeks, as details emerge about Treasury's plans, taxpayers should be up in arms if they're not duly compensated for being investors of last resort.
A collective sigh of relief just went up in the narrow boulevards of lower Manhattan - and it’s not just because the Federal Reserve said it will lend out unlimited amounts of dollars to help prop up the global financial system: Morgan Stanley (MS) managed to secure its capital infusion from Japan’s largest bank, Mitsubishi UFJ Financial Group (MTU).
Just weeks ago, when the transaction was first announced, Mistubishi’s agreed to hand over $9 billion for a 20% stake in the storied Wall Street firm. But during the market’s train wreck last week, shares of Morgan Stanley sunk below $7 on concerns the deal would be derailed.
At those levels, the Japanese bank could have picked up the entire firm for less than the proposed injection.
Nevertheless, after a weekend of what must have been intense negotiations, the 2 sides agreed on a deal.
According to the Wall Street Journal, Mitsubishi picked up $7.8 of convertible preferred stock with a conversion price of $25.25 per share, along with $1.2 billion of non-convertible preferred shares. Both investments carry a 10% dividend, which seems to be the going rate for equity positions in former-investment banks (Warren Buffett is earning a similar dividend on his investment in Goldman Sachs (GS)).
The deal comes without any implicit backing from the US government - though Bloomberg, citing the New York Times, reports federal officials told Mitsubishi its investment would be “protected.” It’s unclear whether there will be specific guarantee slapped on the deal, or if the government simply implied its plans to inject cash into troubled financial institutions will keep Mitsubishi’s money safe.
The 2 firms are already forging a strategic partnership, identifying several areas of cooperation: Corporate and project-related loans, investment banking and certain aspects of retail banking and asset management.
Both Morgan and Goldman are paying a high price for private capital; 10% is nothing to scoff at for what are alleged to be strong financial institutions. That also sets the bar for what taxpayers should expect to earn when the Treasury Department starts taking equity positions in American banks.
Existing shareholders, already fretful these equity investments will be highly dilutive to existing shares, now have to worry that the high cost of capital will eat into future earnings. According to Bloomberg, Morgan’s annual payout to Mitsubishi could be as much as 16% of next year’s profits.
In the coming weeks, as details emerge about Treasury's plans, taxpayers should be up in arms if they're not duly compensated for being investors of last resort.
Keepin' It Real (Estate): Realtors Try Used-Car Salesman Tactics
This post first appeared on Minyanville and our sister site, Cirios Real Estate.
Or not.
If nearly 3 years of home price declines, historically low interest rates and a relentless media barrage of half-truths from the National Association of Realtors haven't been able to stabilize home prices, it's doubtful a gimmicky used-car-style sales event will do the trick.
Coldwell Banker, one of the nation's largest real-estate brokerages, launched a nationwide campaign last Friday to boost the flagging housing market. The 10-day sales event aims to close the gap between buyers and sellers by offering up to a 10% discount on listed homes for, you guessed it, 10 days.
This selling bonanza was hatched in response to a recent survey of over 3000 of the firm's real estate agents, which found that a majority feel listing prices are too high to attract buyers. The survey also showed almost 80% of the agents believe more appropriately priced homes are garnering more attention; apparently, you need a license to know people like to pay less for a house, not more.
Coldwell Banker's president and CEO, Jim Gillespie, is confident the housing market may finally be nearing a bottom. He told our friends at Marketwatch: "Despite the difficult headlines regarding our overall economy, the residential real estate market has been showing several positive signs over recent months that could be signaling a tipping point."
It's unclear whether continuing price declines, historically high levels of inventory, tightening lending requirements or frozen credit markets are the "positive signs" he's referring to.
Gillespie also believes the unprecedented sales event will encourage buyers to jump back into the market: "Because of higher inventory, buyers have more homes to choose from and they can take advantage of near historically low interest rates and affordability levels that are the best they have been in years."
Yes, affordability levels are the best they have been in years: Much better than when the only way to get into a house was to lie about your income and take out an Option ARM with a 1% teaser rate.
About this time last year, homebuilder Hovnanian (HOV) tried a nationwide fire sale to flush out its bloated inventory. More recently, Lennar (LEN), Centex (CTX), and DR Horton (DHI) tried a similar approach with both land and homes - to no avail. The fundamental forces pushing housing prices down will persist, regardless of futile ploys aimed at tricking buyers into paying more than they should for homes.
To be clear: Being negative on the housing market isn't exactly a contrarian position. Therefore, anyone claiming it's a great time to buy -- like Coldwell Banker and tens of thousands of real estate professionals around the country -- clearly have their own reasons for doing so.
Real estate agents get paid to close transactions; whether their client receives (or pays) a fair price is a non-issue.
Commission expenses are borne by sellers, typically to the tune of 6% of the sale price. In California, where the median home price is still over $350,000, that's $20,000 out of the pocket of someone who's already seen his home's value evaporate before his eyes.
The selling agent usually splits the commission with the buyer's agent, a pay structure that gives both sides an incentive to not only focus exclusively on closing deals, but also to sell homes for as much as possible.
Coldwell Banker correctly asserts that many sellers have unrealistic expectations about their homes' final selling price, and as a result keep asking for prices too high for too long. Their cute little sales event, however, is aimed more at earning commissions for their struggling agents than advancing true price discovery in the troubled housing market. If the firm truly had the best interests of homeowners in mind, agents would volunteer to take a pay cut to ease their troubled clients' burden.
Gillespie, Coldwell's CEO, claims the event will "help move the US real estate market in the right direction." He's right - home prices must continue to fall. Simple economics, the interplay between supply and demand, is driving most markets, as tens of homes sit on the market for every one qualified buyer. Until this overhead supply is worked through, prices will remain under pressure.
In some of the most depressed areas -- Las Vegas, the California Central Valley, Florida and Phoenix -- homes have reached or surpassed traditional levels of affordability. Unfortunately, there's more to buying a home than just being able to make the monthly payments. With down payment requirements returning to pre-bubble levels, low interest rates are almost a moot point.
There just isn't any economic rationale for buying if home values keep sliding.
Even if a borrower can afford the monthly payments, home price declines wipe out the tax benefits of writing off mortgage payments and risk putting the new homeowner in the paralyzing position of owing more than his home is worth. Buying a home today is almost like buying a new car: You're upside-down as soon as you're handed the keys.
Until there's real, verifiable evidence that home prices have stabilized, buying a home remains a dangerous financial proposition. This is true in every market, not just the ones that make the headlines for mind-boggling foreclosure rates.
Renting is still the far more fiscally responsible option. Staring into the teeth of a recession, families should be making choices in the best interest of their financial security, not for bragging rights at cocktail parties.
Or not.
If nearly 3 years of home price declines, historically low interest rates and a relentless media barrage of half-truths from the National Association of Realtors haven't been able to stabilize home prices, it's doubtful a gimmicky used-car-style sales event will do the trick.
Coldwell Banker, one of the nation's largest real-estate brokerages, launched a nationwide campaign last Friday to boost the flagging housing market. The 10-day sales event aims to close the gap between buyers and sellers by offering up to a 10% discount on listed homes for, you guessed it, 10 days.
This selling bonanza was hatched in response to a recent survey of over 3000 of the firm's real estate agents, which found that a majority feel listing prices are too high to attract buyers. The survey also showed almost 80% of the agents believe more appropriately priced homes are garnering more attention; apparently, you need a license to know people like to pay less for a house, not more.
Coldwell Banker's president and CEO, Jim Gillespie, is confident the housing market may finally be nearing a bottom. He told our friends at Marketwatch: "Despite the difficult headlines regarding our overall economy, the residential real estate market has been showing several positive signs over recent months that could be signaling a tipping point."
It's unclear whether continuing price declines, historically high levels of inventory, tightening lending requirements or frozen credit markets are the "positive signs" he's referring to.
Gillespie also believes the unprecedented sales event will encourage buyers to jump back into the market: "Because of higher inventory, buyers have more homes to choose from and they can take advantage of near historically low interest rates and affordability levels that are the best they have been in years."
Yes, affordability levels are the best they have been in years: Much better than when the only way to get into a house was to lie about your income and take out an Option ARM with a 1% teaser rate.
About this time last year, homebuilder Hovnanian (HOV) tried a nationwide fire sale to flush out its bloated inventory. More recently, Lennar (LEN), Centex (CTX), and DR Horton (DHI) tried a similar approach with both land and homes - to no avail. The fundamental forces pushing housing prices down will persist, regardless of futile ploys aimed at tricking buyers into paying more than they should for homes.
To be clear: Being negative on the housing market isn't exactly a contrarian position. Therefore, anyone claiming it's a great time to buy -- like Coldwell Banker and tens of thousands of real estate professionals around the country -- clearly have their own reasons for doing so.
Real estate agents get paid to close transactions; whether their client receives (or pays) a fair price is a non-issue.
Commission expenses are borne by sellers, typically to the tune of 6% of the sale price. In California, where the median home price is still over $350,000, that's $20,000 out of the pocket of someone who's already seen his home's value evaporate before his eyes.
The selling agent usually splits the commission with the buyer's agent, a pay structure that gives both sides an incentive to not only focus exclusively on closing deals, but also to sell homes for as much as possible.
Coldwell Banker correctly asserts that many sellers have unrealistic expectations about their homes' final selling price, and as a result keep asking for prices too high for too long. Their cute little sales event, however, is aimed more at earning commissions for their struggling agents than advancing true price discovery in the troubled housing market. If the firm truly had the best interests of homeowners in mind, agents would volunteer to take a pay cut to ease their troubled clients' burden.
Gillespie, Coldwell's CEO, claims the event will "help move the US real estate market in the right direction." He's right - home prices must continue to fall. Simple economics, the interplay between supply and demand, is driving most markets, as tens of homes sit on the market for every one qualified buyer. Until this overhead supply is worked through, prices will remain under pressure.
In some of the most depressed areas -- Las Vegas, the California Central Valley, Florida and Phoenix -- homes have reached or surpassed traditional levels of affordability. Unfortunately, there's more to buying a home than just being able to make the monthly payments. With down payment requirements returning to pre-bubble levels, low interest rates are almost a moot point.
There just isn't any economic rationale for buying if home values keep sliding.
Even if a borrower can afford the monthly payments, home price declines wipe out the tax benefits of writing off mortgage payments and risk putting the new homeowner in the paralyzing position of owing more than his home is worth. Buying a home today is almost like buying a new car: You're upside-down as soon as you're handed the keys.
Until there's real, verifiable evidence that home prices have stabilized, buying a home remains a dangerous financial proposition. This is true in every market, not just the ones that make the headlines for mind-boggling foreclosure rates.
Renting is still the far more fiscally responsible option. Staring into the teeth of a recession, families should be making choices in the best interest of their financial security, not for bragging rights at cocktail parties.
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