Bank CEOs Beg For Bailout, Their Jobs

This post first appeared on Minyanville.

Business schools around the country would be wise to add a new course to this fall’s curriculum: How to Run A Bank into the Ground, But at the Last Minute Get it Rescued by the Government, Thereby Saving Your Cushy, High Paying Job.

Guest speakers from the American banking industry would be easy to come by.

Despite having sopped up hundreds of billions of dollars from US taxpayers, the Associated Press reports almost 9 out of 10 of the most senior executives at banks which have received federal bailout money still have their jobs. It appears the only way to get fired is to perform so poorly that your bank gets snatched up by another for a song:

• Ken Thompson, CEO Wachovia, gone. Bought by Wells Fargo (WFC).
  
  
• Kerry Killinger, CEO Washington Mutual, gone. Bought by JPMorgan Chase (JPM).
  
  
• Alan Schwartz, CEO Bear Stearns, gone. Also bought by JPMorgan.
  
  
• Stan O’Neal and John Thain, CEO Merrill Lynch, gone. Bought by Bank of America (BAC).

Most of the above crept quietly out of the spotlight after their respective departures to avoid Congressional inquiries about their lavish pay and severance packages. Others, however, have gone less quietly.

John Thain, for example, has become a bit of a media mainstay after reports of his $1.2 million office redecoration were leaked to the press. To his credit, Thain is repaying the money. However, he was also spotted last week -- just before news of his $35,000 commode hit the press -- making a scene at a New York restaurant by conspicuously ordering tap water; the sincerity of his act is suspect, to say the least.

Among the banking titans who managed to keep their jobs, despite needing to be rescued by the Treasury Department, Federal Reserve, FDIC or some combination thereof:

• Ken Lewis, CEO Bank of America: $25 billion in capital and $118 billion loss protection.
  
  
• Vikram Pandit, CEO Citigroup (C): $25 billion in capital and over $300 billion in loss protection (although, to be fair, Pandit inherited a mess and his predecessor Chuck Prince was shown the door way back in late 2006).
  
  
• John Mack, Morgan Stanley (MS): $10 billion in capital, used in part to buy Smith Barney from Citigroup.
  
  
• Lloyd Blankfein, Goldman Sachs (GS): $10 billion in capital.
  
  
• John Stumpf, Wells Fargo: $25 billion in capital so his firm could keep paying its dividend, despite recording its first loss since 2001.

Meanwhile, layoffs in the financial sector have topped 100,000 in the past 2 years.

More troubling still: With last night's news of the possible creation of a “bad bank” to absorb the illiquid, worthless assets clogging up existing banks' balance sheets, most banks will continue to be run by the incompetent boobs who drove them to insolvency in the first place.

Okay, maybe "incompetent boob" is a bit harsh. To be sure, these men are well-educated, shrewd, and groomed for some of the most challenging jobs in the world of business. Nevertheless, their collective willingness to allow wild risk-taking, insane leverage and virtually non-existent risk management should at the very least cost them their current positions.

After all, now that we, the people, are shareholders in nearly every major financial institution in the country -- without any voting say as to how they’re run -- the least our elected representatives could do is kick out the incompetent boobs who got us here in the first place.

Fed Jumps on Loan Modification Bandwagon

This post first appeared on Minyanville and Cirios Real Estate.

“If at first you don’t succeed, try, try again" - and you certainly can’t fault lawmakers for a lack of persistence in trying to stem the epidemic foreclosures plaguing America's housing market.

Sadly, they insist on trying the same failed strategies over and over again.

For more than 18 months now, Congress has resolutely believed loan modifications are the path out of the housing jungle. But despite a blitzkrieg of public-relations campaigns and benevolent-sounding foreclosure-prevention programs like “Hope for Homeowners,” “HOPE NOW” and the latest, the Federal Reserve's “Homeownership Preservation Policy,” modification efforts continue to sputter.

Even private-sector programs announced by big banks like Citigroup (C) and Bank of America (BAC) have had only marginal success.

After months of relentless pressure from the House and Senate alike, the Fed’s new policy allows it to review loans supporting the assets it purchased after it rescued Bear Stearns and AIG (AIG) for potential modifications. Barney Frank, the House Financial Services Committee Chairman, told reporters yesterday, “This is a very big deal.”

Actually, Mr. Frank, it’s not.

The assets acquired when the Fed and Treasury Department backed the JPMorgan (JPM) buyout of Bear Stearns and nationalized AIG were derivatives, not actual loans. These mortgage-backed securities are supported by thousands of individual mortgages, while the interest in those underlying loans was sliced up and allocated to countless securities, derivatives, and derivatives of derivatives.

Securities owners can't modify mortgages: The rules about altering loan terms are pre-determined in securitization documents. It's left up to loan servicers to implement the rules, whether the security owners like it or not.

Nevertheless, according to Bloomberg, the Fed -- after identifying which loans it holds a fractional interest in -- will encourage the servicers of those residential mortgage-backed securities “to implement a loan modification program that is consistent with this policy.”

Congress, Treasury and now the Fed have been trying to months now to get servicers on board with modification efforts, to no avail. Even the FDIC, whose highly touted modification program is being tried out at defunct California thrift IndyMac, has been unable to successfully -- and sustainably -- modify loans en masse.

The reason modification efforts aren’t working -- amid evidence that Washington continues to ignore the root of the housing problem -- is that the vast majority of loan defaults are being caused by job losses and negative equity. Borrowers can’t get a new loan without a job, nor can they qualify for a modification if they owe more on their house than it’s worth.

According to data released by JPMorgan yesterday, average equity for subprime loans stands at less than 5%.


Click to enlarge

It's negative for all Alt-A adjustable rate mortgages.



Click to enlarge


Average equity in jumbo prime loans, which are experiencing defaults at faster rates than either subprime or Alt-A, has tumbled from 45% in January 2006 to less than 20% at the end of last year.


Click to enlarge

And, even as regulators force mortgage rates down to record lows to encourage buyers to step in -- catching the falling knife of tumbling home prices and risking financial ruin for the benefit of the rest of us -- property values continue to fall.

Meanwhile, regulators and lawmakers continue to parade bold foreclosure-prevention efforts before the public. And they'll keep trying - even if it bankrupts the country.

Central Banks Fight For Survival

This post first appeared on Minyanville.

When I hear the words "central banker," I don't picture a bald-headed academic, patiently explaining the tedious minutiae of monetary policy to thick-skulled, loud-mouthed politicians on Capitol Hill.

Instead, I think of a lumberjack, tenuously perched on the tip a log floating in a river, desperately trying to out-balance his foe.

Log-rolling, a sport invented by lumberjacks driving lumber downriver to sawmills, pits 2 competitors standing atop a log as it floats along the surface. Mirroring the other’s moves, each participant’s goal is to spin the other off the log into the water.

The Federal Reserve, and indeed central banks around the world, are pitted in a battle not unreminiscent of those dueling lumberjacks. Their adversary, however, is nothing so unintimidating as a single wood-chopper - they face an unwieldy, inconceivably complex national economy. Imagine herding cats - Tyrannosaurus-sized cats roaming around in packs of thousands.

Nevertheless, scores of economists, pundits and private citizens entrust their economic well-being to these monetary masters, however poor their record may be.

A piece in this morning’s Wall Street Journal entitled “Central Banks Are Creatures of Financial Crises” chronicles the history of central banks, asserting that they owe their existence to society's excesses. Asset bubbles beget dramatic financial crises, and benevolent central banks have been forced throughout history to protect the many from the bad actions of the irresponsible few.

Ultimately, however, central banks have a destabilizing effect on markets, encouraging reckless risk-taking and manipulating interest rates for the benefit of those same privileged few.

Initially established in 1913 to be a “lender of last resort,” the Federal Reserve has seen its power and influence grow. The establishment would have us believe that the Fed carefully maintains a prudent balance between inflation and growth, which we're told creates greater prosperity for all.

What we’re left to figure out on our own, however, is this: As central banks hold interest rates artificially low under the pretext of maintaining strong economic growth, paper money is devalued, and the wealth we do manage to accumulate gradually erodes in value. This is fine - so long as we don’t accumulate any wealth. Hence the perpetuatl belief that spending in vast quantities is our patriotic duty, though we support the national economy to our own detriment.

Issuing mountainous debt -- as the Federal Reserve is currently doing to “rescue” the financial system -- cheapens the value of the very dollars we now so desperately covet. Likewise, as the Treasury doles out guarantees and loans to the likes of Citigroup (C), Bank of America (BAC), Fannie Mae (FNM), Freddie Mac (FRE), AIG (AIG), General Motors (GM) and Chrysler, a host of non-elected officials were somehow given the power to take money out of the wallets of average Americans.

Main Street is now working harder for fewer dollars, and each one of those dollars is worth less than it was yesterday thanks to around the whirring sounds of central bank printing presses being run around the clock. As former presidential candidate Ron Paul is apt to ask “Is there any moral justification for deliberately devaluing the currency?”

Paul’s is not a new concern, that government issuance of massive debt isn’t any way to run a country. Thomas Jefferson wrote in 1816, "To preserve our independence, we must not let our rulers load us with perpetual debt. If we run into such debt... [we will] have no time to think, no means of calling our miss-managers to account but be glad to obtain subsistence by hiring ourselves to rivet their chains on the necks of our fellow-sufferers."

Even now, however, central banks are facing what could be their greatest test. The market, which they're perennially battling, is screaming for deflation. Assets of all types, long the beneficiary of loose monetary policy, are falling in value as Americans shun debt and hoard dollars to repay loans.

At stake is not just the economic well-being of a country, or even Main Street Americans. Central banks are fighting for their own survival.

Taxpayer Dollars Don't Return to Main Street

This post first appeared on Minyanville.

Confirming anecdotal evidence that’s been trickling out for months, Americans banks are reining in lending, despite having been showered with taxpayer money.

The Wall Street Journal examined fourth-quarter results for 10 of the 13 biggest recipients of capital injections from the Treasury Department, finding that loan balances fell 1.4% from the third quarter. Among the banks with reductions in outstanding loans were Bank of America (BAC), Citigroup (C) and JP Morgan (JPM). On the flip side, US Bancorp (USB), BB&T (BBT) and SunTrust Banks (STI) saw modest increases to their portfolios.

Bank executives refute criticism they’re greedily hoarding the cash they received from the Troubled Asset Relief Program, or TARP, saying it’s unrealistic to expect them to both build a cushion against future losses and aggressively make new loans. With consumer and business balance sheets alike smarting from a brutal 2008, low-risk lending is increasingly difficult to find.

Notably, in a trend covered at length by Minyanville’s Kevin Depew, even if banks wanted to start lending again, their debt isn’t wanted. According to a Duke University study cited by the Journal, those same businesses and consumers who watched their wealth evaporate last year are shunning new borrowing. Bankers are seeing demand for new loans slip as cost-conscience Americans brace for tougher times ahead.

Confidence in future earnings, a willingness to take risk and a desire for more “stuff” all drive demand for borrowing. As we turn our backs on excess, forgo buying that $500 Coach bag or $150 pair of Abercrombie jeans, avoiding debt will become second nature.

Nevertheless, as the federal government begins to play an ever-larger role in bank management through its bailouts of Citigroup and Bank of America, certain loans will be forthcoming despite an economic reality bureaucrats are loathe to accept. Citi, for example, is expected to announce plans to allocate part of its TARP money to new student loans, propping up a market badly in need of liquidity.

This government-directed lending -- in which banks are gently told to whom new loans should be made, and in what amount -- is part of the continuing effort to centralize economic power in Washington. Whether lawmakers -- most of whom failed to recognize our troubles before it was too late -- can lead us back to prosperity remains to be seen.

Wal-Mart Goes Green, Makes Green

This post first appeared on Minyanville.

For card-carrying environmentalists, going green and avoiding corporate mega-brands go hand-in-hand. But as big companies embrace earth-friendly products and practices, many eco-activists may be forced to tone down their anti-business rhetoric.

This weekend’s New York Times highlights how Wal-Mart (WMT), the world’s biggest retailer (and affectionately nicknamed "Evil Destroyer of Communities" by some) has used its clout to push many of its competitors, suppliers and fellow corporate titans towards green-friendly business.

In 2005, Wal-Mart executives met with leading environmentalists to devise a scheme aimed at rejuvenating the firm’s flagging bottom line by going green. CEO H. Lee Scott Jr. challenged his colleagues to change the way they did business, turn public opinion back in favor of the retailing giant, and remake Wal-Mart’s tarnished image.

In his own words, Scott said “It wasn’t a matter of telling our story better, we had to create a better story.”

Despite record earnings, Wal-Mart had an abysmal record on environmental, labor and health-care issues. To be sure, keeping track of almost 2 million employees is no easy task, but by most accounts the Arkansas-based company treated its workers with remarkable disdain.

As public-relations risk increased and labor groups’ assault on the company intensified, Wal-Mart’s stock price lagged. Sales slipped as rivals like Kmart and Target (TGT) captured some of the megalith's business from more well-to-do clientele.

After coming to the startling realization that image mattered -- that the company needed to change its practices rather than work at silencing critics -- Scott sought to remake the firm at which he worked for more than 20 years before becoming its CEO. Sustainability, he felt, would be the key to the company’s resurgence.

Suppliers had little choice but to follow suit.

General Electric (GE), for example, though loath to sell longer lasting light bulbs (which need to be replaced less often), ramped up production of fluorescent bulbs in response to Scott's demands. Wal-Mart's drive to sell only concentrated liquid laundry detergent saves hundreds of millions of gallons of water, not to mention fuel, plastic and cardboard. Proctor & Gamble (PG), which makes Tide laundry detergent, couldn’t help but cooperate - lest it lose an extremely valuable customer.

Environmental movements are notoriously grassroots movements: What they lack in clout they make up for in vigor. And as going green has become almost sickeningly trendy, corporations have strove to adopt more sustainable business practices.

Large corporations are remarkably powerful in their ability to effect change - both positive and negative. And increasingly, firms are embracing efficient, environmentally friendly ways of doing business.

In 2007 Google (GOOG) built the largest ever solar installation on a corporate campus. Safeway (SWY), one of the biggest grocery-store chains in the country, unveiled 2 new eco-friendly stores on Earth Day 2008.

It's not often that corporate CEOs and environmental activists see eye-to-eye, but on the subject of saving money by going green, they couldn't agree more.

Freddie Blows Through Another $35 Billion

This post first appeared on Minyanville and Cirios Real Estate.

$100 billion just isn’t what it used to be.

Over the weekend, Freddie Mac (FRE) requested a second draw on its Treasury Department credit facility, saying $30-35 billion would suffice to keep its net worth above zero, thank you very much. After taking $14 billion in the third quarter of last year, Freddie has now chewed through almost half its $100 billion taxpayer-provided safety net in just 5 months.

According to Bloomberg, Freddie’s fourth -quarter operating losses triggered the need for additional funds, as its massive mortgage portfolio continues to sour. Analysts expect Freddie’s sister company, Fannie Mae (FNM), to request a similar draw when it announces fourth-quarter results in February.

As one analyst told Bloomberg, “[Fannie and Freddie’s] losses are going to be much higher than anyone anticipated. The more and more that people are digging into these portfolios, they’re finding out the more and more these guys were doing subprime and Alt-A loans and classifying them as prime.”

Defaults on prime mortgages, which are supposed to be given out to borrowers with good credit and stable jobs, are now increasing at a faster rate than the subprime loans that get so much headline play. According to the latest Mortgage Bankers Association Delinquency Survey, 2.87% of all prime loans were delinquent in the third quarter of last year, up 85% from the same period a year ago.

Keep in mind those figures are through September 2008 and don’t include the abysmal economic conditions of the past 4 months. And as layoffs mount and the economy continues to contract, the previously well-to-do are facing the same economic hardships those “subprime” people have been dealing with for almost 2 years.

Fannie and Freddie, despite not technically being involved in subprime lending, drove industry trends, and, in many ways, set precedents followed by the rest of the mortgage industry. Their drive to automate the loan underwriting process created massive opportunities for fraud. Both savvy and ignorant originators easily duped the system, jamming subprime borrowers into prime loans, which neatly showed up on bank balance sheets as AAA-rated assets.

The sieve-like automated systems were adopted by other big lenders, such as Countrywide, Washington Mutual, Bear Stearns, Lehman Brothers, IndyMac and Wachovia.

Now that none of those firms exist, loans originated under the guise of “prime” are turning out to be anything but. Bank of America (BAC), JPMorgan (JPM) and Wells Fargo (WFC), heretofore the strongest banks in the country, who absorbed many of those defunct lenders, are now faced with mounting losses on loans they thought were of the highest quality.

As I noted about this time last year, while everyone was so focused on subprime, prime mortgages -- a market about 4 times as large -- quietly presented a far bigger threat to the financial system. Now, as the government has bailed out 2 of the 4 remaining big American banks, those loans threaten the federal balance sheet.

Where's TARP 2 when you need it?

Keepin' It Real Estate: A Tale of Two Markets

This post first appeared on Minyanville and Cirios Real Estate.

Increasingly, US real estate is becoming a tale of 2 markets.

In low-income neighborhoods, overbuilt suburbs, and other areas besieged by foreclosures, home sales are through the roof.

Data released this week by MDA Dataquick, a real-estate information service, show December 2008 sales in Southern California’s hard-hit Riverside and San Bernardino counties up a whopping 300% from a year ago. Southern California as a whole has seen transactions spike more than 50%, while pockets of the San Francisco Bay Area are showing similarly robust numbers.

Prices, however, continue to plunge.

Foreclosure sales are driving distressed markets, and since repossessions disproportionately affect lower-priced homes, data are being skewed downward. Record-low interest rates, bottom-fishing investors and relentless marketing efforts by the National Association of Realtors are all spurring renewed buying activity.

Lenders are so overrun with new business that Wells Fargo (WFC), which plans to cut over 10,000 jobs as it absorbs recently purchased Wachovia, is hiring hundreds of temporary workers to handle mortgage applications, according to MortgageDaily.com.

Meanwhile, buyers are on strike in high-end markets, and supply is creeping towards materially unhealthy levels.

Jumbo loans -- those not guaranteed by the government via Fannie Mae (FNM) and Freddie Mac (FRE) -- are nigh impossible to get, leaving would-be buyers of expensive homes in the lurch. Transactions are down in some of California’s -- and indeed the country’s -- most prestigious markets, leaving a host of recently minted real estate millionaires wondering if they're next to get stuck in the subprime slime.

Conventional wisdom among real-estate professionals is that these well-to-do areas are in “wait-and-see” mode. This attitude, while comforting to the rich, is dangerously naïve.

Transparent, real-time sales data is carefully concealed from the buying public by the country’s real-estate brokers; it tells a very different story. In these illiquid high-end markets, inventory is building, forced sales are on the rise, and prices are starting to head south.

And contrary to popular belief, value drops aren’t just taking place in far-off exurbs where palatial Toll Brothers (TOL) McMansions litter flattened hilltops. Established neighborhoods -- many close to job centers with top schools -- are seeing home prices fall for the first time in decades.

These high-priced markets, particularly because of the troubles in the jumbo loan market, have become dangerously illiquid. In many neighborhoods, just a handful of homes are currently listed for sale. If one seller gets antsy, loses his job or otherwise jumps at a low-ball offer, the entire market can gap down. The new, lower price sets the bar at which potential buyers begin their negotiations, putting sellers at the whims of their skittish neighbors.

Due to dramatic appreciation during the boom, many wealthy homeowners are sitting on huge equity cushions. While not something they often complain about, this could encourage quick sales, as sellers don't need to hold out for the absolute highest price like their poorer, more levered neighbors on the other side of the tracks.

All this adds up to an increasingly bifurcated market. The most distressed areas are currently going through the final, violent throws of a real-estate collapse for the ages. The process could still take months to run its course and some communities, sadly, may never recover.

Previously strong areas, on the other hand, are just now beginning to feel the pinch. Many, after decades of unfettered appreciation, have a very, very long way to fall.

eBay Slips As Bidders Balk

This post first appeared on Minyanville.

So much for selling to the highest bidder.

Online auction powerhouse eBay (EBAY) reported weak fourth quarter numbers yesterday, as revenues slipped from a year ago for the first time in the company’s history. Attributing its troubles to a stronger dollar (which hurts revenues from overseas markets) and the global economic slowdown, CEO John Donahoe is spearheading efforts to shift sales away from its core auction business, focusing instead on traditional, fixed price sales.

According to Bloomberg:

• Revenue fell 6.7% from last year to $2.07 billion.
  
  
• Earnings slipped to $367 million, or $0.29 per share from $0.39 per share in Q4 2007.
  
  
• Revenue in its mainstay marketplace business slipped 16%.
  
  
• First quarter 2009 earnings guidance of $0.32 - $0.34 per share was lower than the expected $0.39 per share.

Many investors had been hopeful eBay would thrive during the economic downturn, as consumers seek out more attractively priced goods. However, with buying activity drying up and other online commerce sites like Amazon.com (AMZN) pushing auction platforms of their own, eBay is facing an increasingly challenging environment.

As it has rotated its business away from its core auction business buy acquisitions of StubHub, PayPal, Skype and launching Kijiji to compete with free classified listing site Craigslist, eBay has increasingly exposed itself to broader economic conditions. And with 55% of its marketplace business coming from outside the US, the global economic slowdown isn't providing eBay much benefit from geographic diversification.

eBay also said its PayPal unit posted strong results, with revenues rising 11% to $623 million. Of note, the company’s online credit service, Bill Me Later saw particularly high activity. PayPal earns interest income like a credit card company if users opt for Bill Me Later, which gives them the option of deferring payments.

Deferring payments, apparenly, is a popular choice in today's economy.

Will Obama Optimism Boost Stocks?

This post first appeared on Minyanville.

Finally, a Great Depression comparison to smile about.

The months between Barack Obama's election and his inauguration on Tuesday were downright ugly for the stock market. So ugly, in fact, that the 14% drop marked Wall Street’s worst performance ever in expectation of a new president, according to Bloomberg.

During the 77-day span, markets swooned, unemployment spiked, Bank of America (BAC) was rescued by the federal government, and the country’s biggest banks fell to levels not seen in decades.

It should come as no surprise that the second worst drop took place while nervous Americans waited for Franklin Delano Roosevelt to take office in 1933. What transpired for the rest of that year, however, gives Wall Street historians hope that the sky might not actually fall in 2009.

The stock market, led by familiar names such as General Electric (GE) and Proctor & Gamble (PG), rallied as much as 75% in 1933.

In fact, a few weeks back, I posted a chart on the Buzz and Banter which showed that the market’s darkest times often yield its finest returns. Two of the S&P 500's 5 best years occurred during the 1930s, a time not widely known to have been kind to stocks.

And while myriad differences are often cited between the Great Depression and our current economic malaise, the lessons of 1933 shouldn't be lost on investors. Even if one’s long-term outlook is negative, to be blind to the possibility that stocks could rally -- for longer than may seem rational -- is to miss out on ample opportunities.

In just the past 2 days, more than a few friends, family and colleagues have said that the changing of the guard in Washington left them markedly more optimistic than before. Psychology is as essential to market actions as are dollars and cents, and the pervasive optimism Obama brings to the White House cannot be ignored.

It’s a fool’s errand to claim meaningful prescience when it comes to the movements of markets or individual stocks, but it remains useful -- and profitable -- to recall that, though history rarely repeats, it often rhymes.

Falling Rents Signal Deflation

This post first appeared on Minyanville and Cirios Real Estate.

In recent months, headlines have been popping up noting that rents -- finally -- are beginning to follow home prices into the abyss.

Since the housing market began to crumble, would-be homeowners were forced to become renters, keeping demand for rental units relatively strong even as home prices fell. Now, however, as landlords convert condos into rentals, supply is beginning to move in tenants' favor.

And while this is welcome news for millions of renters around the country, its impact on consumer price measurements could materially impact mounting deflation expectations.

The reason can be found in the nuances of how the US Bureau of Labor Statistics measures the Consumer Price Index, or CPI. The CPI is the most widely quoted gauge of inflation, it being the easiest to explain to the consuming public. Tally up a basket of commonly purchased items, see how their prices compared to last month, then last year and voila! consumer prices at your fingertips.

In realty, of course, it’s a bit more complicated: Just take a gander at this sophomoric equation from a recent CPI release:



Riiiiiiiiiight.

The most heavily weighted item in the CPI is something known as Owners’ Equivalent Rent, or OER, which accounts for almost 24% of the total index. OER is the government bean counters’ preferred method for measuring the cost of owner occupied housing, calculated by figuring out how much the median homeowner in the country would have to pay to rent his or her family’s dwelling.

Many observers, Minyanville’s Professor Mish Shedlock included, believe the CPI has been understating inflation for years by ignoring housing prices. Now, that rents are beginning to fall, however, inflation readings could become dire.

As Professor Kevin Depew noted last week, the December CPI registered the lowest inflation reading since 1980. And while most media outlets touted the effect of dramatically lower energy prices, OER is quietly reversing a long-standing trend and contributing to the decline.

Examining the data, available on the BLS’ website, OER has been steadily trending upwards for years. Even though the housing market peaked in late 2005, OER rose in 2006, 2007 and even 2008. The rate of change, however, is slowing. Notably, in December 2008, OER rose just 0.08% from November, breaking from the rest of the year’s trend.

And while 1 month does not a trend make, the data support stories from Manhattan to Los Angeles of landlords giving into thrifty tenants shopping for the best deal. With mounting job losses and weak economic conditions persisting, this will be an important trend to watch in coming months. Property liquidations by big banks like Wells Fargo (WFC), Bank of America (BAC) and Citigroup (C) will add to housing supply, further pressuring rents.

CPI data matter, despite their myriad of potential problems, because of their effect on inflation expectations - or in this case, deflation expectations.

Federal Reserve officials, including Chairman Ben Bernanke, are wary of these expectations because they represent future consumer behavior. In a speech last summer, as energy prices rose to all-time highs, Bernanke said “Some indicators of longer-term inflation expectations have risen in recent months, which is a significant concern for the Federal Reserve.”

Fearful of higher prices in the future, consumers increase buying now, spurring demand and pushing prices up even further. The same is true the other way. If the public thinks prices will keep falling, they will delay purchases, waiting for a better deal down the road. This weakens aggregate demand, accelerating price declines.

So as rents, the largest component of the CPI, continue to fall, pricing measurements are likely to signal deflation, even as conventional wisdom calls for hyperinflation. And as a deflationist attitude gains currency, social mood continues to darken, and consumerism is shunned, lower prices will ultimately become a self-fulfilling prophecy.

Hope in DC, Panic on Wall Street

This post first appeared on Minyanville.

The party’s over - it's time to get to work.

Amid much fanfare, President Barack Obama was sworn in yesterday as the forty-fourth president of the United States. A few short hours later, shares of the largest American banks tumbled, as if to remind the incoming Commander-in-Chief that, though America was jubilant, Wall Street remains in dissaray.

Shares of Wells Fargo (WFC), JPMorgan (JPM), Citigroup (C) and Bank of America (BAC), the backbone of what remains of the world’s financial system, reached lows not seen in decades. Investors fear what some have called “creeping nationalization,” as monetary and fiscal authorities appear content to let equity holders suffer the worst of the losses.

Obama is now expected to rush through a sweeping economic stimulus plan, which, by most accounts, could pump upwards of $800 billion into our floundering economy through a patchwork strategy of tax relief and government spending.

And while pundits, academics and bureaucrats bicker about the best way to spend our precious taxpayer dollars, an arid swath of suburban California desert could serve as a valuable test case for effective (and ineffective) public spending.

Just a few years ago, homebuilders like Lennar (LEN), DR Horton (DHI) and Centex (CTX) flocked to Riverside and San Bernadino County to capitalize on the nascent housing boom. McMansions were frantically shoehorned between strip malls and clogged freeways. The 2 counties, which together make up the Inland Empire, a vast tract of urban sprawl east of Los Angeles, are now home to more than 2 million people.

The housing bust, well into its fourth year, has crippled the local economy.

Bloomberg reports unemployment in the Inland Empire matches Detroit at 9.5% - the highest of any metropolitan area in the country. 17,400 construction jobs have been lost in the last 12 months, home prices have slid almost 40% and previously dependable employers are closing up shop.

Local governments, however, are pushing ahead with over $1 billion in spending projects, from much-needed widening of freeways to a new $300 million jail. As Bloomberg notes, the projects illustrate both the potential and the limitations of government-led economic stimulus.

While infrastructure projects have helped limit layoffs, job openings are still virtually nonexistent : In one city, as many as 100 people per day may compete for a single minimum wage job. Local economists fear unemployment could reach 12%.

Outside construction, job creation has essentially stagnated. While a few intrepid entrepreneurs have sought out the region's now dirt-cheap office space and homes, anemic consumer spending is damaging traditional retailers, restaurants and other consumer-centric employers.

The biggest project -- the jail, naturally -- will create 4,500 jobs. But building new jails is hardly the economic stimulus the country should be depending on for job creation.

Obama’s strategy has shifted in recent weeks, as his plans to revive the American economy are becoming increasingly focused on tax relief, rather than on massive infrastructure projects. Tax cuts and rebate, while widely viewed as a less immediate way to jumpstart an economy, would reach into all industries, not just those tied to infrastructure.

Obama would be wise to spend a few minutes contemplating the dilapidated developments and barren strip malls of the Inland Empire. Although the area certainly represented the worst of the real estate bubble’s excesses, its woes are emblematic of the broader crisis the country now faces.

Foreclosures Sting Even Best Builders

This post first appeared on Minyanville and Cirios Real Estate.

Foreclosure: It’s not just for those “subprime” people anymore.

Besieged by collapsing home prices and frightened banks scrounging for cash, even the real-estate industry’s brightest stars are finding there’s no place to hide. According to the New York Times, small and mid-size homebuilders who thrived during the housing boom are seeing credit lines pulled even before they miss a payment.

Banks like JPMorgan (JPM) and GMAC, the financing arm of General Motors (GM), loaned builders hundreds of billions of dollars -- even as the housing market began to falter -- to buy up vacant land. Now that demand for new homes has plunged (and buyers in some areas can pick up previously constructed homes for less than it costs to build a new one), builders’ ability to turn a profit has been effectively eliminated.

It's estimated that over 20% of the nation's homebuilders have closed their doors, even as big builders like D.R. Horton (DHI), Lennar (LEN) and Toll Brothers (TOL) limp along, bleeding cash and fighting for survival.

Lenders, for their part, are scrambling to mitigate risk.

Collateral, the term used to describe the assets against which loans are given out, protects lenders in the event of borrower default. As the value of collateral rises, banks become better protected since their loans are now backed up by a more valuable asset. In a downturn, however, falling collateral values means risk increases with each passing day.

In response, banks may ask borrowers to send in cash to make up for the lost value of their investment. These margin calls, as they’re known, can quickly force small firms into insolvency.

Such was the case for Brown Family Communities, a well-known builder in the Phoenix area. The Times reports the firm’s lender, JPMorgan, demanded millions in cash for land on the outskirts of town that had fallen in value. Brown balked, since he was yet to miss a payment and had been a longstanding client of the bank with an impeccable record. Ultimately, Brown lost the property and closed his doors, complaining “The real estate market is gone.”

Other builders have suffered a similar fate, proving that despite extensive government-led efforts to minimize losses from investments gone awry, the fundamental tenets of capitalism remain intact.

Bad investments should yield losses, period. Savvy new buyers, able to handle the risk inherent in buying distressed properties, can make bets that have the potential to reap huge rewards. This cycle of profits and losses fuels economic expansion. By forestalling losses, intervention delays recovery.

The speculative buying of vacant desert land on the edges of the Phoenix city limits in 2005 and 2006 certainly qualifies as a poor use of borrowed money. That builders are being asked for cash to cover banks’ potential losses should be seen as nothing more than prudent lending -- something builders and other real-estate investors spent the boom years conveniently forgetting.

Bank of America Cries Bailout

This post first appeared on Minyanville.

Bank of America (BAC) became the latest major US bank to be rescued by the federal government, receiving a $138 billion bailout package to help complete its purchase of Merrill Lynch.

Apparently the beancounters at the Charlotte-based Bank of America misjudged the value of Merrill's toxic balance sheet by over $100 billion. Oops.

After a similar government effort to keep Citigroup (C) afloat last November, of the country's biggest banks, only JPMorgan (JPM) and Wells Fargo (WFC) have thus far avoided needing to be bailed out. (JPMorgan's Treasury-assisted purchase of Bear Stearns notwithstanding.)

According to Bloomberg, Bank of America will be on the hook for the first $10 billion in losses on a $138 billion pool of assets, most of which it inhereted from the Merrill purchase. The Treasury Department and FDIC will absorb the subsequent $10 billion, while the Federal Reserve will backstop the rest of the losses -- which appear to be preordained -- with a loan.

The assistance is on top of the already $25 billion Bank of America received from the Treasury Department in September, as part of the initial capital infusions under the TARP. And since the Senate approved releasing the second $350 billion yesterday afternoon, more help is likely on the way.

Separately, the FDIC announced it would further support the banking system by extending it's bond insurance program to debt maturing in 10 years, up from the current 3 years.

Quietly, the financial system has crept back to the edge of the precipice from which it retreated 2 short months ago. And, as it has done consistently for the past 18 months, the federal government has seen fit to step in to avert crisis, preventing the country from experiencing that moment of recognition it so sorely needs.

And with news circulating that President-Elect Obama's crack team of financial gurus is cooking up the bailout to end all bailouts, that trend is likely to persist for some time.

These bailouts are now well beyond the reach of any plausible explanation: Tens of billions have become hundreds of billions, almost as a rounding error. Taxpayers, meanwhile, are left scratching their heads, wondering where our elected officials learned to vaporize money with such skill.

To claim these moves are in any way stabilizing the financial system would laughable, if it weren't so tragic. Lawmakers and regulators have lost all credibility; even the boy who cried wolf has grown tired of rhetoric he knows to be just that - rhetoric.

Libraries Boom as Banks Swoon

This post first appeared on Minyanville.

Recessions aren't bad for everyone, just ask your local librarian.

Even as Bank of America (BAC) and Citigroup (C), 2 of the biggest banks in the world and the erstwhile pillars of our economy fight for survival, the business of handing out information for free is booming.

The Wall Street Journal reports public libraries around the country are experiencing a spike in attendance, confounding skeptics who thought the Internet would render these time-honored community centers obsolete.

The recent increase in library use isn't necessarily surprising: Free Internet and other resource materials attract the unemployed and others long on time, short on income-producing work. Libraries often see attendance spikes during recessions. Library administrators, eager to retain their position as a public media source, have also begun carrying videogames and DVDs to attract younger patrons.

Libraries offer a quiet place to work, away from the clutter and distractions of home. My younger brother, for example, recently completed the challenging task of finding a job in an abysmal market. After a morning gym session, he schlepped his computer to the local library for a few hours of diligent job hunting. The change of scenery (let's face it, even hanging out at the library is better than living at home at 26) allowed him to focus on the task at hand, leaving the rest of the day to enjoy the freedom unemployment affords those deft enough to seize it.

The flood of new patrons is straining library staff, as already tight budgets are hacked away by municipalities' financial troubles. This is a trend we are only beginning to witness, as our economic woes chew into public funds at a time when coffers are running dry.

Our federal government is aggressively ramping up its support of our economy, asking public employees to implement a mountain of new programs and initiatives, despite the need to slim down payrolls in the face of weak tax revenues. Government is already notoriously lousy at implementing, well, anything, so to say the execution of President-Elect Obama's ambitious economic stimulus package will be challenging in the current environment is an understatement.

A return to the library is also evidence of the broader deflationary forces at work in this country, and indeed around the world. Libraries are the ultimate deflation trade: They're free. Consumers are trading down in their purchasing options - the only difference between choosing McDonald's over the Cheesecake Factory and playing Wii at the library instead of at home is the increased calorie count.

Keepin' It Real Estate: Buyers' Market? Beware

This post first appeared on Minyanville and Cirios Real Estate.

Is it a buyer's market?

Ask most real-estate professionals the above question, and the response will almost certainly be an emphatic "Yes!"

After all, they quickly explain, inventory levels are at all-time highs, sellers are desperate to get out from under their rapidly depreciating homes, and mortgage rates are at historic lows. What more could buyers ask for?

How about not losing their shirts, for starters.

The traditional definition of a buyer's market is one where supply outstrips demand, pushing down prices: Buyers have the upper hand. As the bull market begins to wane, however, buyers lose their enthusiasm and become concerned about price. The market cools down and buyers shy away, forcing sellers to make concessions and lower prices. This, in turn, creates an environment where buyers can shop around, be picky, and patiently waiting for their dream house to come on the market.

As demand returns, sellers start upping their list prices, refusing to pay for closing costs and holding out for a better offer. Buyers, fearful they might miss out on the next boom, bid up asking prices and ask for fewer concessions. Now that sellers have the upper hand, the market favors sellers as prices move upward. Such is the cyclical nature of real estate.

This story has played out for decades as real estate plodded along, homebuilders like DR Horton (DHI), KB Homes (KBH) and Toll Brothers (TOL) supplied the market with new construction and home prices marched steadily upward, outpacing inflation by the narrowest of margins. A little more than 10 years ago, however, that relationship started to come unglued.

The recent housing bubble turned the prevailing view of real estate on its head. Homes, long viewed as the most stable of all assets, became a speculative tool for even the most unsophisticated investor. The mania, fueled by lax monetary policy and Wall Street alchemy, helped contributed to the financial crisis currently gripping our country. As property values have careened back to earth, real estate assets of all kinds have become toxic.

Nevertheless, the National Association of Realtors (or NAR) and its dedicated minions have tirelessly peddled their lies that ours is a buyer's market. Let's take a quick jaunt back in time to some recent headlines and where that traditional assessment of a buyer's market got us:

Las Vegas: It's Definitely a Buyer's Market
USA Today: July 5, 2006
"Real estate looks like one of the biggest gambles in Las Vegas."

How true. Property values in Vegas have fallen 33% since summer 2006. Not to be outdone by their peers at USA Today, ABC ran this piece just weeks later:

Take Advantage of Real Estate's Buyer's Market
ABC News: July 31, 2006

"The National Association of Realtors said that the number of homes for sale has reached new heights, which is good news for buyers. After years of a seller's market, it's finally a buyer's paradise in Phoenix, AZ."

Anyone who bought in that "buyer's paradise" in Phoenix has seen their home's value fall by more than 30%.

The point isn't to criticize realtors for arguing it's a buyer's market: After all, one should expect nothing less from a group whose entire existence is based on convincing buyers it's a great time to buy - irrespective of the truth. Just ask Gary Keller, whose new book, Shift: How Top Real Estate Agents Tackle Tough Times, advises agents to "find every way possible to overcome the media-driven real-estate malaise."

The traditional definition of a buyer's market needs a bit of a makeover. A more sensible definition is a market where buyers have ample opportunity to make good investments. To be sure, a home is more than just an investment; it's a place to raise one's family, to grow old, to spend time with loved ones. However, as far too many American families have learned in the past three years, homes can become a debilitating burden if bought at the wrong price.

In today's market, there certainly exist attractive investment opportunities. But to label the market as a whole as one where buyers should be rushing out in search of the American Dream is borderline lunacy. Throughout much of the country, home prices are still too high: Real incomes don't support prevailing property values, even after the historic declines we've already seen. Supply, despite remaining at record levels, is likely to remain so for the foreseeable future. Home prices are undergoing a much-needed correction, and will continue to do so until fundamental demand catches up with supply.

This isn't to say every home on the market is overpriced, or that every buyer in the past 36 months has gotten a raw deal. There are deals to be had if one knows where and how to look - and, most importantly if the purchase makes good financial sense. To borrow a theme from Toddo, "financial staying power" should be at the forefront of any prospective buyer's mind.

So ignore the hype, both good and bad. As often is the case, not until the most ardent bulls turn in their horns will the bears return to hibernation. So, as soon as realtors concede it may not be a buyer's market after all, voila! A bottom we will have.

Bank of America Huddling Under TARP

This post first appeared on Minyanville.

The phrase "buyer beware" no longer applies in the American banking system.

Last September, as the financial markets skidded out of control, Merrill Lynch CEO John Thain sought to keep his firm from going the way of rival Lehman Brothers by selling out to Bank of America (BAC). At the time, B of A chief Ken Lewis was touted as a shrewd opportunist who seized upon a desperate rival.

Now, it appears, Lewis is the one groping for a helping hand.

According to the Wall Street Journal, the Treasury Department is preparing to offer up billions of dollars to help Bank of America complete the transaction. As in Citigroup's (C) recent bailout, where the federal government assumed the risk for a pool of distressed assets, taxpayers are about to buy Merrill's book of truly toxic debt.

Bank of America approached the Treasury Department in December, claiming it might have trouble closing the sale after learning Merrill's fourth-quarter losses would be larger than expected. Fearing the deal's collapse could inflict irreparable damage on the already wounded financial system, the Treasury is continuing to spend TARP money it doesn't have. With the first $350 billion already allocated, Treasury Secretary Hank Paulson is dipping into funds earmarked for a second round of capital allocation that hasn't yet been authorized.

The fact that Bank of America needs yet more money -- on top of the $25 billion it received just last October -- is evidence that, once again, regulators and bank executives have underestimated the scope of the debt crisis gripping the country's financial system. Deleveraging is underway - and it's gaining momentum. Nevertheless, lawmakers and regulators alike insist on using taxpayer money to try and slow down the accelerating juggernaut of bad debt.

To quote a recent op-ed in the Journal, which likened the government response to the current financial crisis to the circumstances described in Ayn Rand's Atlas Shrugged,

"Politicians invariably respond to crises -- that in most cases they themselves created -- by spawning new government programs, laws and regulations. These, in turn, generate more havoc and poverty, which inspires the politicians to create more programs . . . and the downward spiral repeats itself until the productive sectors of the economy collapse under the collective weight of taxes and other burdens imposed in the name of fairness, equality and do-goodism."

The similarities are so striking, it almost seems like regulators are using Atlas Shrugged as a playbook for their policy response to the crisis. They must not have waded through all 1,000 pages to see how the story ended.

Citigroup Gets Dismantled

This post first appeared on Minyanville.

John Mack, CEO of Morgan Stanley (MS), has certainly made good use of the $10 billion his firm received courtesy of US taxpayers last October.

Citigroup (C), under pressure to shrink its massive global finance operations, announced last night it sold its Smith Barney brokerage to unit to Morgan Stanley for $2.7 billion. Citi will retain a minority stake in the newly formed joint venture, Morgan Stanley Smith Barney, and will book nearly a $10 billion accounting gain for writing up the value of the deal.

The sale comes amidst Citigroup's efforts to shed assets: Mounting losses are putting increased pressure on CEO Vikram Pandit to break up the storied bank. Next week, Citi will announce plans to more aggressively spin off underperforming business units (along with its abysmal fourth-quarter earnings).

The urgency has only increased in recent weeks, as many experts believe the federal government is acting behind the scenes to protect its investment. Late last year, the Treasury Department, Federal Reserve and FDIC teamed up to rescue the ailing bank, pouring in new equity and backstopping losses on over $300 billion of the firm's assets. Now, unconvinced that Citigroup can survive in its current form, officials may be pushing for a break-up.

The Wall Street Journal reports Citi will refocus its business on wealthy individuals and corporate accounts, which means unloading units of its consumer finance division, as well as its private-label credit-card business. There are concerns, however, that potential buyers will use the bank's desperation to their advantage, forcing Citi to sell assets below their long-term intrinsic value.

For Pandit, who replaced former CEO Chuck Prince after the firm lost billions on bad mortgages and corporate debt, this marks a distinct change in strategy and rhetoric. Since he took the helm in late 2007, the former Morgan Stanley banker has vowed to keep Citi together, resisting calls to carve up the bank. The internal fight over the strategic direction of the firm came to a head last week, as Robert Rubin, former Treasury Secretary and influential Citigroup senior counselor and director, announced he was leaving the firm. Rubin had long opposed the idea of breaking up Citi.

For the banking system at large, Citi's new strategy is indicative of the kind of dramatic reshuffling our financial system sorely needs. Bank of America (BAC), JPMorgan (JPM) and Wells Fargo (WFC), perceived to be the strongest banks in the country, are all struggling to assimilate now-defunct rivals. These behemoths have grown too large and unwieldy to manage; their fingers are in nearly every corner of the US economy, not to mention in hundreds of countries around the world.

The inevitable downsizing, shrinking and deleveraging of our banks is a necessary, albeit painful, step on the path to a stronger financial system. And as bank executives focus on layoffs and shedding assets, adept entreprenuers will step into underserved markets, capitalizing on the turmoil gripping the nation's economy.

Such is the nature of recessions, panics and manias gone bust - such are the workings of capitalism.

Congress Forces Mortgage Modifications

This post first appeared on Minyanville and Cirios Real Estate.

The road to over-regulation has begun.

In an effort protect struggling homeowners, Senate Democrats are advocating new bankruptcy laws that allow judges to alter mortgage terms, known as a "cramdown," during a Chapter 13 bankruptcy filing. Lawmakers hope the new rules will prevent foreclosures, help borrowers in danger of losing their homes, and begin to stabilize the reeling housing market.

Despite good intentions, however, these efforts will raise the cost of borrowing for everyone, reduce the availability of mortgage credit and prolong the housing market's recovery.

According to the Wall Street Journal, the proposal's backers won a major victory when Citigroup (C), which has received $45 billion government capital since last fall, withdrew its opposition. Big mortgage lenders like Citi, Wells Fargo (WFC), JPMorgan (JPM), and Bank of America (BAC) have been resistant to the changes, since courts would gain the power to force losses on altered loans. But with the government snatching up pieces of the country's biggest banks, their ability to resist such regulation is diminishing.

Democrats now hope to include the bill in President-Elect Obama's $800 billion economic stimulus package.

The proposed rule-change applies to Chapter 13 bankruptcy filings, which allow individuals to gradually repay debts as the work their way out of economic trouble. Under the current laws, judges are provided leeway to alter the terms and payment schedules of credit cards, auto loans and other consumer debt. First mortgages, however, are off limits. Even though courts can't wipe out home-loan debt or reduce interest rates, a homeowner doesn't necessarily lose his house in a Chapter 13 filing. As long as the borrower can keep making payments, the bank can't take the house.

Advocates of the bill believe relaxing cramdown restrictions will shelter homeowners who otherwise would lose their homes by effectively forcing loan modifications. And since the success of government-backed modifications programs have thus far been disappointing, bureaucrats are eager to press the issue.

Mortgage rates, when compared with other type of consumer debt, have historically been kept low because lenders are secured by a home: When the homeowner defaults, the bank gets the house. Miss too many car payments, on the other hand, and a bank is left looking for an asset that's far tougher to chase down. For as painful as foreclosure is for the borrower, this lender protection keeps mortgage money flowing to the rest of the economy.

The proposed rule change, which lawmakers also hope will encourage lenders to modify mortgages on their own before courts get a chance to hack up a loan's terms, greatly reduces a bank's financial incentive to giving out mortgages at low rates. If borrowers have the ability to file for bankruptcy and plead their case to a judge for lower payments, banks will be reticent to lend. If they do give out loans, they'll charge higher rates for the privilege.

As is typical of recent government-sponsored economic initiatives, lawmakers ignore long-term implications in favor of immediate good press. This over-aggressive consumer protection directly counteracts efforts by the Federal Reserve and Treasury Department to push down interest rates - and further illustrates bureaucrats' ineptitude at effectively managing an economy. As soon as they actually manage to get mortgage rates moving down, another wide-eyed economic simpleton tries to start them in the opposite direction.

But such are the pitfalls of a planned economy - and this, unfortunately, is just the beginning.

Porn Tries to Get a Rise Out of Congress

This post first appeared on Minyanville.

Finally! Congress gets a chance to bail out an industry it understands: porn.

With Washington seeming even easier than a starlet on a casting couch, even smut peddlers are clamoring for their share of the bailout pie.

Triple-X DVD sales have gone limp, tumbling 22% since last year. Hustler magazine founder and smut icon Larry Flynt, along with Girls Gone Wild creator Joe Francis, are now petitioning Congress for $5 billion to help prop up the business of selling sex.

Myriad websites, quasi-reputable news sources and witty bloggers report the pair are arguing that theirs is an industry worthy of support. According to Francis, who recently did time for alleged child abuse and prostitution charges:

"Congress seems willing to help shore up our nation's most important businesses, (and) we feel we deserve the same consideration. In difficult economic times, Americans turn to entertainment for relief. More and more, the kind of entertainment they turn to is adult entertainment."

Lawmakers must be asking themselves why they bothered rescuing Citigroup (C), General Motors (GM) and AIG (AIG) when that money could have been so much better spent.

For a fraction of what it cost to bail out the entire financial system, Congress could focus its efforts on saving a line of work even more essential to political life. The collapse of the porn industry, in addition to eliminating the entire curriculum of certain community colleges in southern California, would wreak havoc in Washington, DC.

Congressmen and lobbyists alike would spend the weekends wandering the DC streets like lost puppies in search of a teat.

And while reports indicate Flynt and Francis have thus far been unsuccessful in their money shot, they aren't likely be deterred. Most experts expect they'll they'll be coming back to Capitol Hill.

China Shuns Treasuries

This post first appeared on Minyanville.

China, now the biggest holder of US government debt, is going on a buyer's strike.

As a flight from risky financial assets pushed Treasury yields close to nil -- and as the once-red-hot Chinese economy dried up -- China's appetite for Treasuries has waned. If the trend persists, it could lead to higher borrowing costs at a time American consumers can barely afford the mountanous debt they already have.

The New York Times reports China's government is keeping more of it's vast cash reserves at home, choosing to invest in its own infrastructure rather than plow money into an investment earning them virtually nothing. Chinese banks, once encouraged to invest money abroad and actively lend to foreign borrowers, are now being urged to keep that money within their own borders.

Lower demand for US debt would lead to lower bond prices, pushing up yields. And since the Treasury market typically sets the benchmark for private borrowing, this would translate into higher rates for mortgages, credit cards and other types of consumer debt.

It's no coincidence that as Chinese appetite for American debt dried up last year, the Federal Reserve began to aggressively buy the assets China no longer wanted. Heavily invested in Treasuries, along with mortgage-backed securities issued by Fannie Mae (FNM) and Freddie Mac (FRE), China's voracious appetite for US debt is being supplanted by that of our own government.

Few experts however, expect China to abandon Treasuries altogether. Such a drastic move would effectively destroy the US economy, which would in turn be disastrous for China, not to mention the rest of the world. Still, each time the government bails out a company like General Motors (GM), Citigroup (C) or AIG (AIG) its standing with debt holders slips.

The timing couldn't be worse for the incoming administration. Promising to keep the deficit upwards of a trillion dollars for the foreseeable future, President-Elect Obama is counting on new debt issuances to finance his aggressive stimulus plan.

Without Chinese demand, Obama will be forced to rely on the Federal Reserve to be the buyer of last resort. As the Fed prints money to buy our own debt, however, each of the precious dollars Obama is pumping into the economy is worth less and less.

If this all sounds eerily familiar, it should.

A certain financial deviant, now a household name, ran a massive Ponzi scheme by repaying early investors with the money of the most recent suckers. His actual holdings were worthless - much like debt issued by a country teetering under the weight of its own massive, bloated balance sheet.

Keepin' It Real Estate: Rich Get Stuck in Subprime Slime

This post first appeared on Minyanville and Cirios Real Estate.

From expansive estates in the Hamptons to mansions on the Malibu cliffs, the rich are watching their vast real-estate wealth evaporate before their eyes.

Perhaps no market epitomizes the ultimate surrender of high-end real estate than the island of Manhattan, where housing prices had held relatively stable until quite recently, despite broad declines across the country.

Turmoil on Wall Street, the collapse of Lehman Brothers, and layoffs at big employers like Citigroup (C), JPMorgan (JPM), Morgan Stanley (MS) and Goldman Sachs (GS) have finally taken their toll on the once-proud market for overpriced, undersized refuges from the concrete jungle.

The Wall Street Journal reports housing inventory in Manhattan jumped 39% in the fourth quarter as sales plunged - even as prices managed to eke out a 3.1% gain from a year ago.
Meanwhile, condominiums and cooperative apartments currently under contract to be purchased are selling at a whopping 20% below the prices paid just last summer. As sales data reflecting those transactions emerge in the coming months, Manhattanites may finally wake up to the reality that their housing market is no longer immune from the afflictions the rest of the country knows all too well.

Compounding the effects of an abysmal bonus season throughout the financial industry, ongoing job cuts, and generally weak economic conditions, lenders continue to scale back the availability of so-called jumbo mortgages. These loans, too big to fit within the ever-narrowing lending guidelines of Fannie Mae (FNM) and Freddie Mac (FRE), don’t qualify for a government guarantee.

Banks take on more risk by originating these loans, and charge higher rates for the pleasure. Bankrate.com (RATE) reports jumbo rates remain more than 1.5% higher than their smaller, conventional counterparts.

Since most Manhattan condos and co-ops are purchased with jumbo loans, these persistently high rates mean prices on the island are being only marginally supported by recent, aggressive moves by the Federal Reserve and Treasury Department to spur home buying.

Wells Fargo (WFC), now the nation’s largest mortgage lender after completing its acquisition of Wachovia, isn't helping matters for high-end buyers. The California-based bank announced yesterday it would stop offering jumbo loans through its wholesale (or broker-originated) channel. MortgageDaily.com reports Wells cited low market demand and higher risks in its decision to suspend jumbo offerings for mortgage brokers.


The ongoing financial crisis, which arguably originated in the narrow winding streets of Wall Street, has now come full circle. The same bankers, traders and financiers who levered houses up beyond all rationality are now seeing the dark side of structured finance gone awry.

Some will wisely sell now, while they still can, take their lumps and move on. Others, stubbornly clinging to their former glory, are likely to go down with the ship.

Quick Hits: No Swag for the Stars?

This post first appeared on Minyanville.

Dour economic conditions are giving new meaning to the expression “you can’t even give it away.”

At a time when A-list celebrities are lining up in droves for free swag in anticipation of award-show season, 2009 is turning into a nightmare for event organizers. In a world 99.9% of Americans will never see, peddlers of the non-essential like Coach (COH), along with everyday retailers like CVS Caremark (CVS) pay big bucks to foist their brands on Hollywood's biggest stars.

According to Variety -- which, for those of us who get celebrity news at our supermarket checkout counter (or from the perpetually grinning Mary Hart), is a major industry magazine -- gift-giving suites are struggling to find vendors for this year’s Golden Globe Awards. Sponsors fear celebrities flashing expensive threads they didn’t pay for could anger potential customers, many of whom are lining up at the Buffalo Exchange to hawk their old Levi’s just to make rent.

To counteract this potentially negative press, a few big give-away lounges are raising money for charity, hoping to capitalize on the perceived benevolence of their big-name attendees.

If the ploy doesn’t work, however, some of these companies will have to resort to the time-honored -- and recently abandoned – tradition of manufacturing a product customers actually -- gasp! -- need.

Apple Revamps iTunes

This post first appeared on Minyanville.

Ripping music just keeps getting easier.

With online-sales growth slipping, the music industry is being forced to stay dynamic in a space it was reluctant to enter in the first place. Yesterday, Apple (AAPL) -- the world's leading music retailer -- announced that it would adopt a new 3-tier pricing structure for iTunes.

According to the Wall Street Journal, songs will now cost $0.69, $0.99 or $1.29, with the most actively downloaded songs landing in the highest price bucket as Apple tries to prop up revenues in a tough economic environment.

Nevertheless, the Apple said the changes will be "great for customers."

In addition, the House of Jobs also plans to relax copy restrictions on music downloads. So-called digital-rights management, or DRM, restricts customers from copying and sharing songs at will, making iTunes purchases tough to play on competing music devices. By dropping its strict limitations, Apple is trying to compete with rivals like Amazon (AMZN), which allows customers to copy songs as many times as they like.

Apple will charge customers who purchased songs prior to the switch $0.30 to upgrade to the new, more shareable version of their favorite tune.

Apple, along with competitors like Wal-Mart (WMT), is searching for ways to maintain high sales volume even as their customers struggle to make ends meet. Tight credit markets and drastically weakening employment conditions are forcing consumers to cut back on non-essential purchases (like ZZ Top's entire back catalogue, for example).

The shift in pricing strategy mirrors broader changes in retail, as consumers find themselves lured by flashy sales and big discounts. Once inside, however, they're often disappointed to find that the things they actually want still cost just as much as they did before.

Apple's reliance on having the simplest, coolest music platform simply won't cut it in an environment where consumers are becoming increasingly discriminating with their discretionary dollars. And as its competitors begin to catch up in the world of portable music, the company will be forced to keep innovating - or risk losing the edge it worked so hard to secure.