Dawn Patrol

Keepin' It Real Estate: Why Housing Prices Are Essentially Meaningless

2009-07-28T15:01:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

It took the Wall Street Journal an entire survey to prove what readers of this column have known for months: The housing recovery, as it plays out, will be a localized event, varying greatly city to city, neighborhood to neighborhood, street to street.

The Journal, God bless them, compiled housing data to compare inventory changes, months supply, price drops, unemployment, and default rates across 28 US metro areas. Unsurprisingly, bubble markets like Las Vegas, Phoenix, and Miami look particularly horrid, whereas areas like Dallas (which avoided much of the housing mania) and cities like Charlotte and Seattle (which are just now seeing price declines accelerate) appear to be holding up rather nicely.

But drilling deeper into the raw data reveals a housing market that's deeply bifurcated, even within individual cities.

As low-end markets experience a sharp increase in buying activity due to supply shortages and vastly lower prices, illiquid high end markets are experiencing violent price swings -- typically in the southward direction. This much is already known, and the Journal's study simply shows what we're told ad nauseam: Real estate is, in fact, local.

What's far more applicable to home buyers and sellers around the country, however, isn't what a few broad (yet important) data points show about what's happening in a few hundred neighborhoods all lumped together. Instead, it's where individual submarkets are headed. After all, owning a home is an investment in a neighborhood, a street, a community -- not necessarily a metropolitan area at large.

Housing prices, by extension -- when measured as broadly as a metro area -- are basically meaningless.

Real estate, for all its intricacies, isn't any different than any other market: Prices are set by the interplay between supply and demand. The trick, then, is isolating the key data points within an individual micro-market that tell us who has the upper hand -- buyers (demand) or sellers (supply). This is the best short-term indicator of where prices are likely going in the near term.

Unfortunately -- and one of the reasons bottom-calling in the current housing cycle is so dangerous -- myriad behind-the-scenes deals between regulators and big banks like Citigroup (C), Wells Fargo (WFC), Bank of America (BAC), and JPMorgan Chase (JPM) are impacting markets in a material way.

There are a number of important measures of housing supply and demand. And because at Cirios Real Estate we take a bottom up approach to evaluating property values (i.e., house by house, rather than city by city), we pay close attention to the sales-price to list-price ratio.

This ratio simply measures the difference between where a home was listed and where it was sold. To be sure, this can get complicated in markets where price reductions are common. But comparing both original list price and most recent list price to the eventual sales price can yield important insights into a market's true behavior.

As can be seen in the graph below, which measures this ratio in 2 towns in the San Francisco Bay Area, this ratio tends to follow housing booms and busts fairly closely.

All things being equal, as sellers gain the upper hand and buyers become more desperate, prices are bid up over list and this ratio will rise. On the flip side, as demand weakens and sellers scramble to unload their homes, price reductions and low-ball offers drive sales.

In markets with rising sales-price to list-price ratios that have been under pressure for months, if not years -- like many distressed markets -- we'd argue stabilization could be just around the corner. The big caveat, however, is that banks keep bleeding out their shadow inventory slowly, and don't dump their massive bank-owned home portfolios onto the market. Keep in mind, also, that stabilization doesn't imply appreciation.

High-end markets, on the other hand, are seeing massive list-price drops, and any sort of bottom is indeed very far away as forced sales and foreclosures creep into well-to-do communities.

In today's market, this analysis further must be broken down between homes that are in move-in ready condition and those in need of rehab. The former, financeable by the various government-backed loan programs, is generally in short supply and high demand. The latter, which must be purchased with cash, appeal to a smaller world of buyers looking to turn a quick profit.

We find that in many areas, turn-key updated homes that pass muster with the FHA, along with Fannie Mae (FNM) and Freddie Mac (FRE), have a far higher sales-price to list-price ratio than do homes bought with cash (i.e., fixer-uppers).

This makes intuitive sense, since even if government-backed loan programs could be used to buy these rehab projects, few prospective homeowners in the current environment have the cash on hand for a down payment as well as a remodel project. Moving in with as little out-of-pocket expense as possible is of the utmost importance.

Taken together, often times the sales-price to list-price ratio in a given town or zip code hovers close to 100%. But dividing sales into "financeable" and "non-financeable" yields a far different result. In most cases, sellers of updated turn-key homes currently have a distinct upper hand over buyers, while buyers of fixer-uppers can still get low-ball bids accepted. Of course, there's still the world of homes that are wildly over-priced -- but those aren't selling anyway.

There are many other ways to look at supply-demand fundamentals in local real estate markets. But if you don't divide analysis between homes that can be financed through the FHA, Fannie, or Freddie and those that can't, you may as well be comparing bombed out duplexes in Oakland to luxury condos in Manhattan.

Wait, never mind, bad example -- those 2 markets share one unique characteristic: No one is buying.

California Closes Budget Gap -- For Now

2009-07-28T15:00:00.002-04:00

This post first appeared on Minyanville.

The Golden State appears to have eked out another nail-biter, as Governor Arnold Schwarzenegger and California lawmakers struck a deal to (hopefully) solve the state's spiraling budget crisis.

Tricky accounting, borrowing from Peter to pay Paul, and a modicum of spending cuts enabled California to close its nearly $26 billion budget gap, according to Bloomberg. The agreement still has to win approval from the state senate, but legislators are hopeful they can muster the requisite support for a vote later this week.

The plan calls for $15 billion in true spending cuts, diverting $2 billion in tax receipts intended for local governments (the money will be repaid, with interest) and shifting state employees' final paycheck to the next fiscal year. Education will see the largest spending cuts, but lawmakers promise the coffers will be refilled -- as soon as the economy turns around.

This isn't the first time California thought it had cleared the worst of its budgetary hurdles. Earlier this year, an agreement that matched spending cuts with tax breaks failed to win popular support in a May referendum. This rejection sent bureaucrats back to the drawing board, ultimately forcing the state to begin issuing IOUs to avoid going truly broke by the end of this month.

Not insignificant in forging a resolution to the crisis, last week major US banks Citigroup (C), JPMorgan Chase (JPM), Bank of America (BAC), and Wells Fargo (WFC) said they'd stop honoring California IOUs. As I wrote then, since the country's banks are defacto controlled by the White House, it appears the Obama Administration's strong-arm tactic worked to force a resolution in California.

And despite the tentative compromise, it's reasonably certain California's fiscal woes are far from history. By acknowledging the need to "give back" budget cuts when the economy bounces back, lawmakers are implicitly refusing to address the state's fundamental problems.

These are many, to be sure, but few recent stories capture California's propensity to shovel taxpayer dollars into the proverbial blender than does the plight of the San Diego seals.

For decades, tourists have flocked to sunny La Jolla -- just north of San Diego proper -- to catch a glimpse of the seals frolicking at Children's Pool, one of the 2 Southern California beaches where harbor seals give birth and raise their young. The trouble, however, is that state law requires that the beach be safe and clean for children.

Of course, removing a sizable seal population from a beach is no easy task, especially without harming the seals. The solution (truly, only in California) was to amplify the sound of barking dogs in the hope it would spook the seals into moving on to a new beach. Tack on security for the unfortunate soul doing the amplifying and other logistical efforts, and the cost for the entire project was tagged at $688,000.

Yesterday, amidst the turmoil in Sacramento, Governor Schwarzenegger signed a bill expanding the current law, penciling in a marine reserve as one the acceptable uses for Children's Pool, according to the Associated Press.

Bryan Pease, attorney for several pro-seal groups, summed the issue up nicely, and again, in true California form: "This is really the end of the road for the anti-seal forces."

Indeed.

Stimulus Stumbles -- While Economy Heals Itself

2009-07-28T15:00:00.001-04:00

This post first appeared on Minyanville.

Correlation, they say, doesn't always mean causation. Just because one event seems to lead to another doesn't mean it does -- in any complex system, the answer is unlikely to be that black and white.

Nearly 6 months after President Obama announced his $787 billion stimulus package, the economic outlook appears decidedly better than it was when he took office, at least to the casual observer. Job losses, while persistent, appear to be tapering off. Credit markets, while still gummed up, aren't nearly as frozen as they were last fall. Consumer confidence, while miserable, is no longer at its lowest.

In short, to quote Minyanville's Todd Harrison, "We've sold the car crash and bought the cancer." This is one man's way of saying that, to avoid an economic catastrophe, we've opted instead for a slow bleed, prolonging the ultimate day of reckoning in hopes that our wounds will heal in the meantime.

And each time a piece of economic data emerges that suggests the worst is behind us -- like today's positive reading on leading indicators -- Washington bureaucrats shout that it's because their particular pet policy has proved a smashing success.

To wit: In commenting on the relative effectiveness of the stimulus package, Jared Bernstein, chief economic adviser to Vice President Joe Biden -- whose office is handling the stimulus roll-out -- said that "It's working, it's demonstrably working."

But can recent economic data telling us the sky isn't falling -- but that it may fall -- be attributed to a functioning economic stimulus plan? The answer is an unequivocal no.

The stimulus was meant to be a 2-year investment package, with the bulk of the aid being doled out in the second half of this year. In fact, according to Bloomberg, just $103 billion -- or 13% of the total money allocated -- has been given out. For a country whose gross domestic product is more than $14 trillion, that figure barely registers.

At best, the stimulus provided the average US consumer, worker, and manager with peace of mind. Yes, the government is willing to throw boatloads of money at our problems -- the fact that it's our own money, of course, we're asked to quietly overlook.

To say that government intervention into financial markets hasn't helped stave off an outright meltdown, however, is to frankly ignore reality. The Federal Reserve, the Treasury, and the FDIC have jump-started certain segments of the credit markets; tax credits have pushed first-time home buyers into the housing market; and low interest rates have juiced bank earnings.

And while arguments that these measures have inspired artificial confidence in a system that's still doomed are compelling, this is our economic reality. We're left to either close our eyes and hope it goes away or to operate within its bizarre and sometimes contradictory constraints.

Meanwhile, confusion reigns in the real economy. General Electric (GE) issued a strong profit outlook. Meanwhile, Intel (INTC) and IBM (IBM) provided upbeat expectations about the future. JPMorgan (JPM) and Goldman Sachs (GS) turned in record quarters, CIT (CIT) teeters on the edge of bankruptcy, and the FDIC seems to seize a handful of failed banks every weekend .

Ultimately, the success of the stimulus package can't be measured in dollars and cents, since its true effect on the economy is far too difficult to isolate, tabulate, and report. Instead, its impact will be measured by the extent to which its message -- namely that the government has our economic back -- is well received by the American people.

The jury on that is likely to be out until sometime around November 2012.

White House Cold-Shoulders CIT

2009-07-28T14:58:00.001-04:00

This post first appeared on Minyanville.

It looks like CIT Group (CIT) may be the first failed financial institution to actually fail in a very long time.

Although the situation is, as they say, fluid, the Wall Street Journal reported that talks between CIT executives and government officials broke down, forcing the small-business lender into a fire-drill attempt to avoid bankruptcy. The company needs around $2 billion to roll over maturing debt -- which it's urging existing debtors to cough up in short order.

Of acute concern the effect CIT's failure would have on small businesses, particularly retailers. CIT not only provides small business loans, but also offers retailers cash advances to pay for inventory. The Journal points out that California may be hit particularly hard, since the state has a sizable apparel-import industry. The Golden State, embroiled in a nightmarish budget crisis, could do without another blow below the belt.

Taxpayers, too, will be smarting. The Treasury Department's $2.3 billion TARP investment into CIT is as good as gone, and any further government investment would be plowed into a company that's bleeding cash with little hope of turnaround. And although CIT is an important player in the US economy -- especially for thousands of small businesses around the country -- it certainly poses no systemic threat to the American economy.

In Washington, on Wall Street, and on Main Street, the debate rages over how the CIT situation should be handled. And now that the White House and Treasury Department have made it clear that CIT's pleas for a taxpayer-funded bailout are likely to go unheeded, Monday morning quarterbacks can begin in earnest to peddle their after-the-fact analysis.

And here's mine.

The White House had to let CIT fail. Although it risks angering Main Street, being seen as rescuing "fat cats" like AIG (AIG), Citigroup (C), and Bank of America (BAC), while small businesses are left out in the cold, the Obama Administration can do damage control by blaming those bailouts on the previous administration.

In refusing assistance to CIT and letting the natural course of bankruptcy take its course, Obama can proclaim -- as did his Chief of Staff Rahm Emmanuel -- that the financial crisis has entered a new phase of getting back to normal.

If instead the government were to step in to save CIT from the brink, the bailout floodgates would be truly flung open. CIT is no small fish, to be sure, with a balance sheet of around $75 billion, but it's no Washington Mutual (JPM) or Merrill Lynch, either -- the failure of which would have had potentially catastrophic effects on the entire world financial system.

Consumer confidence in the economy remains exceedingly weak. And if the President and his minions (not Minyans!) can argue that the country is at least strong enough to absorb the failure of CIT, we'll appear to be on the right track.

Whether we really are, of course, is an entirely different story.

CIT Puts "Too Big to Fail" to the Test

2009-07-15T15:28:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

We have truly become a bailout nation.

As regulators mull over the possibility of rescuing CIT Group (CIT) -- a small-business lender that counts over 1 million US firms as customers -- analysts debate whether the relatively small firm is deserving of a taxpayer-funded bailout. Or for that matter, a bailout at all.

After converting to a bank holding company last year, CIT received $2.3 billion in TARP money to help solidify its financial footing. Yet even this injection of taxpayer capital couldn't prevent its financial position from deteriorating further, and the company now faces the maturity of over $1 billion in bonds next month. Without government support, CIT doesn't believe it will survive the summer.

The specter for a CIT bailout is a tricky political issue: It pits those that argue Washington must step in wherever necessary to support the reeling US economy, against those who are starting to wonder when the bailouts will stop and when bureaucrats will step back and allow the free market to determine who survives.

Few would argue that CIT presents a systemic risk to the US financial system; with a balance sheet of around $75 billion, the company is one-eighth the size of Lehman Brothers, according to research firm BTIG.

CIT is, however, a key lender to small businesses around the country. This means its failure could threaten salary payments for millions of American workers if the company's customers are unable to get lines of credit with other financial institutions. Under different circumstances, banks like Wells Fargo (WFC), Citigroup (C), and Bank of America (BAC) would be eagerly serving CIT's clients. Instead, they're focused on reining in lending of their own.

If CIT were to fail, it would mark the biggest bank failure since Washington Mutual -- now part of JPMorgan Chase (JPM) -- collapsed last September.

By letting CIT fail and coordinating an orderly shuttering of its operations, the Obama administration has the opportunity to re-establish an old precedent long since forgotten in these turbulent economic times: Firms that should fail actually fail.

If, instead, the government rescues CIT, the yardstick by which we measure "Too Big to Fail" will be severely shortened. This wouldn't be a welcome development.

For the past year, government power brokers -- rather than market forces -- have picked the winners and losers as financial firms have been besieged by a massive deflationary debt unwind. Further, as Washington wades deeper and deeper into the day-to-day operations of American business, companies are starting to compete for government cash, not customers.

Moral hazard is a concept quickly brushed to the side during times of crisis, but it's precisely during these trying times that market principles should be the most firmly upheld. Sadly, over the past 24 months, the opposite has held true.

Risk Surges in Emerging Markets

2009-07-15T15:27:00.001-04:00

This post first appeared on Minyanville.

Emerging markets, we're told, are the best bet for riding out the ongoing economic storm. Investors should therefore be afraid. Very afraid.

Since global equity markets swooned this March, stocks have staged an impressive rally. And even more impressive than the S&P 500's 43% gain, developing countries, as measured by the MSCI Emerging Market Index (EEM), have leapt more than 75%.

The outlook, however, remains cloudy. According to Bloomberg, emerging market shares are more expensive than they've been since 2007, as measured by their price-to-earnings ratio. The last time developing-economy stocks hit this level, they subsequently lost half their value.

With the developed world reeling from a wicked debt-inspired hangover, emerging markets have been widely viewed as a relatively safe bet on eventual economic recovery. This viewpoint is contrary to history, as stock markets in developing countries have traditionally been far more volatile than their more established neighbors.

This time, however, was supposed to be different.

Developing nations were in some sense better-positioned to handle a deflationary debt unwind of epic proportions: Their consumers are less dependent on debt to survive, as personal credit cards and home loans are far less prevalent than in the US. As credit markets froze up and the pipelines of free and easy debt went dry, consumers in Brazil, India, Peru, and Ghana could continue their cash-wielding ways with little interruption.

Furthermore, many developing economies rely heavily on commodity exports to bigger, wealthier nations. And even though oil, copper, and wheat prices have tumbled from last year's highs, persistent demand for these essential goods should buoy emerging markets -- even as a broader economic recovery remains elusive.

As evidence of the ongoing rebalancing of the the world economic scene, Petro China (PTR) has blown past Exxon (XOM) as the biggest company in the world by market capitalization. Indeed, 5 of the 10 biggest firms in the world now hail from China.

Lastly, as developing countries, well, develop, income disparities often narrow, as a new middle class evolves into a formidable consumer group. So even as the global economy contracts, individual counties can still grow as millions of people join the mainstream economy.

This is all well and good, but this isn't the first time investors have gotten a bit ahead of themselves with optimistic expectations for emerging markets -- in mid-2007 and in 2000. What followed in both instances was not something investors would care to repeat.

And despite great strides in the development of more robust capital markets, broadly more stable governments and inflation that has run less rampant than in the past (Zimbabwe, of course, notwithstanding) , emerging economies remain on shaky ground.

Many are reliant on just a few exports -- usually commodities -- to sustain growth, which leaves their economic fate at the whims of volatile markets for raw goods. Russia, Ecuador and Venezuela have all suffered as crude oil tumbled from it's highs last summer. These and other export-dependent countries still rely largely on bigger, more developed countries to buy their wares.

Latin America has rebounded from its debt crisis of the 1980s, but Argentina seems to be sliding back to its wayward ways and Ecuador, the Andean little brother of Hugo Chavez's Venezuela, recent defaulted on some of its sovereign debt, calling it "illegal."

It is no doubt that in the past 10 years, developing nations have been the leading engine for economic growth around the world (well, that and an historic debt bubble caused by reckless monetary policy and irresponsible borrowing in developed countries). And while it is certainly reasonable to expect these emerging economies to benefit as the United States, Europe and Japan rejigger their aging, bureaucracy-laden economies, to call them a safe harbor during turbulent economic times is borderline lunacy.

With potential reward comes risk. No matter how the global economic paradigm shifts in the coming years, this won't change.

Why Should I Care: Real Estate & Price Discovery

2009-07-15T15:26:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Price discovery. It sounds simple enough, right? If you separate out its component parts, you have "price" -- the amount buyers are willing to pay and sellers are willing to accept -- and "discovery" -- the uncovering of that price.

But price discovery -- a term which is bandied about in all corners of the financial markets -- has a meaning far deeper than this cursory analysis.

In a financial sense, it's defined as the point at which the free market -- the natural interplay between supply and demand -- converge on a single point where buyers and sellers can find mutual ground. There, you have price discovery.

In a practical sense, it happens every day; each time an economic transaction occurs. Coffee at Starbucks (SBUX) costs more than, say, coffee at any other establishment on the planet, because consumers have determined they're willing to pay a premium for it. Starbucks, for its part, has generously sprinkled its stores on street corners around the world, matching supply with this persistent demand. The price, even though most of us scoff at the mere thought of forking over more than $4 for some contrived, flavored coffee-like drink, is what the market will bear.

So why then do financial-market participants make such a big deal about "true price discovery" in trying to analyze specifically when and where markets will bottom? The key is in the definition.

Let's examine the housing market to see why this distinction matters, and how the dynamics effecting price discovery are so important.

Homes, unlike cups of coffee, are rarely bought and sold -- other than when entire neighborhoods are turned over (which seems to happen with frightening regularity). But buying or selling a home typically involves uprooting one's family, hauling boxes across town (or across the country), switching schools, changing jobs, and otherwise disrupting the flow of life.

When talking about the housing market, most pundits and so-called experts typically focus on the demand side of the equation. How low are interest rates? Did Wells Fargo (WFC) just tighten its mortgage guidelines? Are property values increasing or decreasing? How is the job market doing? On a more personal level, getting married, having kids, changing jobs, seeking out a slower (or faster) pace of life, or looking to trade up into a better school district or bigger home can all lead buyers to jump into the market.

Sellers, on the other hand, are typically hard-pressed to sell. Many of the same circumstances (jobs, retirement, family, etc.) lead a seller to enter the market, but leaving a home and the emotional attachment therein, is an extremely difficult decision to undertake without a very compelling reason.

In the current housing downturn, as social mood has swung violently towards risk aversion and shorter time preferences, the decision to sell one’s home has effectively become that of necessity, or nothing at all. In other words, the vast majority of sellers on the market right now are forced sellers -- those who don’t have any choice.

So what does this all have to do with price discovery?

The destruction of a widely held economic belief -- namely, that housing prices only go up --has thrown the interplay between supply and demand out of whack. Couple that with insane leverage, abnormally low interest rates, virtually non-existent underwriting guidelines, and massive government intervention in the form of Fannie Mae (FNM) and Freddie Mac (FRE) that caused the recent boom, and in reality, the fundamentals of supply and demand have been wonky for years, if not decades.

As these imbalances are worked through and the weakest hands are forced to fold, markets are slowly starting to heal. And even though massive loan-modification efforts and foreclosure moratoria are once again throwing true supply and demand out of whack, the free market is a powerful force: Certain real-estate markets around the country are beginning to show signs of healthy stabilization.

Price discovery is emerging, as housing prices return to more traditional measures of affordability where buying begins to make just as much sense as renting. To be sure, there's a fear of losing equity as prices tumble, but the emotional pull of owning a home is, and always will be, a powerful force. Other markets, however, have a very long way to go.

Since founding Cirios Real Estate, I've spent a dizzying amount of time looking at local housing markets in California. And in trying to identify trends on a neighborhood-by-neighborhood, street-by-street basis, I've found one trend that's 100% consistent around the state. And although California is a rather unique case, I know enough about markets around the country to be confident this is true there as well.

Markets that have seen the most extreme home-price declines are the ones where owners faced massive amounts of negative equity and foreclosures ran rampant. Virtually every sale in these markets over the past 2 years has been the result of a seller being forced to sell.

On the other hand, markets where job losses have been less severe have seen prices ramp up less severely during the boom; schools are better and fundamental desirability is higher. Sellers have broadly had the luxury of holding out, hoping the market would turn before they, too, would be forced to put their home on the market.

When there are no more forced sellers in a given market -- or at the very least, the proportion of forced sellers and non-forced sellers returns to more normal levels -- healthy stabilization can occur. And in order for this to happen, years of froth and excess must first be worked off. This can happen via 2 methods, which Toddo often discusses when analyzing the stock market: time and price.

Time can heal wounds as demographics shift and new buyers enter a given market, or low prices can bring investors out of the woodwork to snap up underpriced homes.

There isn’t some magic formula or complex property-valuation algorithm (sorry Zillow) that can determine where a given markets is in the bottoming process or where the best real-estate investment opportunities currently lie (to be sure, they're out there). But with careful analysis of individual markets, trends can be identified.

Submarkets where price discovery -- that is, the process of returning to an environment where natural supply-demand fundamentals can thrive -- is further along pose a far smaller risk than those markets where sellers have been hunkering down, hoping the maelstrom would blow over their quiet streets.

So while pundits argue over whether the housing market has “bottomed,” we can all ignore their drivel, knowing this is a meaningless statement. Price discovery doesn’t happen on a national scale; the massive and disjointed real-estate market is made up of thousands of tiny micro-markets, each of which is at a different point along the highway of price discovery.

Porn Shooting Blanks

2009-07-15T15:25:00.002-04:00

This post first appeared on Minyanville.

"Regrettably, it's true, standards have fallen in adult entertainment. It's video, Dude. Now that we're competing with amateurs, we can't afford to invest that little extra in story, production value, feeling. People forget that the brain is the biggest erogenous zone."
- Jackie Treehorn, The Big Lebowski

It seems there's no escaping the structuring deflation rippling its way through the formerly consumerist underbelly of American society. Prices are falling, bling is on the decline -- and now, according to the New York Times, even porn is feeling the ill effects of shrinkage. (No, not that kind.)

Pornographic filmmakers have long debated the pros and cons of plot and character development in their movies: On the one hand, there has to be something in between sex scenes to allow actors and viewers alike to take a break. On the flip side, however, character development in porn is sort of like those personal interest stories during coverage of the Olympics: Absolutely no one cares.

Industry executives say that viewers are now demanding shorter and shorter clips, and films are increasingly devoid of plot and focus exclusively on the sex itself. This shift, in part, is in reaction to the flood of X-rated footage now available for easy viewing online.

The advent of the Internet as a medium for video distribution has been a boon for smut-peddlers, enabling even amateurs to capture their lewd acts for the world to see. And, of course, to pay for. DVD sales have been hit squarely below the belt, with some experts estimating that sales have fallen more than 50% in the past 3 years alone.

Big porn studios, like Vivid Entertainment and Digital Playground, are rapidly changing their business models to meet the thrust of consumer demand. Rather than full-length features, producers are instead opting for "vignettes," a series of sex scenes tied loosely together with a common theme. This provides for easy distribution of the clips themselves, in the likely event that viewers can't be bothered to watch the entire film.

Meanwhile, more traditional media, as it's wont to do, is following porn's lead. After all, it was the pornography industry that first capitalized on the VCR, perfected the art of pay-per-view, and pioneered the concept of premium online content.

Rhythm New Media, who delivers video content through a mobile phone-based distribution platform, recently launched an application for Apple's (AAPL) iPhone where users can splice together snippets of Family Guy episodes, creating, in effect making their own version of the show.

TiVo (TIVO) and other digital video recording services offered by cable companies like Time Warner (TWC) and Comcast (CMCSA), offer TV viewers the luxury of seeing exactly what they want, when they want it. YouTube, now owned by Google (GOOG), has likely advanced this trend more than any other online media site, as attention-deficient users comb through millions of short video clips.

Ultimately, the demise of the intricate, well-developed pornography film was sort of inevitable. I mean, let's face it, the vast majority of porn aficionados aren't looking for surprising plot twists and dramatic action scenes.

They're looking for action of an entirely different sort.

Banks Reject California's IOUs

2009-07-15T15:25:00.001-04:00

This post first appeared on Minyanville.

Apparently, IOUs issued by an insolvent state aren't as good as cold, hard cash.

Last week, after state leaders failed to find a solution to an ongoing budget crisis, California began issuing IOUs to banks and other creditors. Now, despite initially agreeing to accept the IOUs in lieu of actual payments, some of the country's biggest banks are refusing to honor the promises to pay past Friday, July 10.

According to the Wall Street Journal, among the newly defiant banks are Citigroup (C), JPMorgan Chase (JPM), Wells Fargo (WFC), and Bank of America (BAC). Along with an announcement yesterday by Fitch Ratings that it had dropped California's credit rating to BBB -- just a few notches above "speculative" levels, this shift in sentiment puts immense pressure on Sacramento to find a lasting solution to the state's woes.

California plans to send out $3 billion in IOUs in July alone. The IOUs mature on October 2, and promise to pay recipients 3.75% in annualized interest -- presumably, in addition to the principal. The state has said that without the IOUs it would run out of cash by the end of July.

Other 49 States Could Go the Way of California

The fear -- although there's no reason to assume this yet -- is that California's other disgruntled creditors will jump on the banks' non-acceptance bandwagon in a show of defiance. This would be a crushing blow to Governor Arnold Schwarzenegger and California state legislators, potentially forcing them to go hat in hand to Washington for a bailout.

Since 2 of the banks refusing to honor the IOUs are controlled by the federal government (and since the remaining 2 are essentially being run by Washington insiders), the Obama administration's hands-off posture suggests it may be taking one of 2 possible stances.

Obama may be taking the hard line -- sending California the message that the state's political wrangling has to cease given what's at stake. After all, if the nation's most populous state were to run out of cash, the impact on its more than 30 million residents -- not to mention the US economy as a whole -- would likely be severe.

On the other hand, Obama may have a more disturbing goal in mind. It's possible that the administration is considering making a power grab of epic proportions. After all, it's had little compunction about seizing embattled automakers General Motors (GPM) and Chrysler, and hasn't shied away from becoming deeply involved in the day-to-day management of the nation's banks.

Perhaps President Obama's true motive is to wrest control of California away from its languishing leadership, sending the other 49 states a stern message: Get your fiscal houses in order, or get absorbed by the massive bureaucratic machine that is the US government.

Naturally, this latter possibility is pure speculation on my part. But given the President's actions since taking office, and given his apparent desire to expand the reach of the federal government to an extent previously unimaginable, it's not inconceivable.

Professor Steve Smith asks:
Economic Recovery? What Economic Recovery?

States Could Face New Shortfalls as Homeowners Beg for Lower Taxes

2009-07-15T15:24:00.000-04:00

This post first appeared on Minyanville.

When the value of your house starts heading to south, there isn't a lot to be thankful for. Some homeowners, however, are looking for a silver lining.

The New York Times reports that homeowners across the country are petitioning state and local governments for lower property tax bills. The timing couldn't be worse for municipalities, many of which are already facing a cash crunch. In California, the state has begun issuing IOUs to contractors and other creditors. Some states, like New Jersey, have increased property taxes in an attempt to prop up revenue -- much to the chagrin of its homeowners.

As property values fall, homeowners face bills that can far outweigh what they would owe should the taxman keep his records in real time. This doesn't sit well with most citizens -- many of whom are already behind on mortgage payments and struggling to make ends meet.

Property taxes are assessed using myriad formulas and reassessment schedules, such that predicting exactly how much you'll owe each year can be nightmarishly complex. Historically, as home prices rose, periodic reassessments benefited homeowners, since the tax assessed value of most properties lagged their true value.

In California, for example, property taxes have increased around 1% per year since 1978 (the year in which voters enacted Proposition 13). Since then, home prices have soared -- the recent decline notwithstanding -- which means residents who have lived in the same home for decades owe a fraction of the taxes than do those neighbors who just moved in.

Requests for tax reassessment have skyrocketed as besieged consumers look for ways to trim monthly expenses. According to the Times, petitions in Ohio have increases fivefold; lines at government offices in Atlanta stretched around the block on the March 31 deadline to file reassessment requests; and in New York, municipalities had to hire extra staff to handle the influx of petitions from cost-conscious homeowners.

Meanwhile, localities are suffering from lower tax receipts across the board as job losses slam income taxes, anemic consumer spending hits sales taxes, and a weak business environment is reducing or eliminating corporate profits. This means staff cuts, wage decreases, and fewer services -- all at a time when the federal government is banking on the public sector to pull the economy out of its tailspin.

Even as Washington funnels billions into the financial industry, bailing out the likes of AIG (AIG), Citigroup (C), and Bank of America (BAC), money has been slow to reach local governments. The endgame isn't clear: Unlike the federal government, states don't have the luxury of running a budget deficit. When counties, cities, or even states go broke, they just go broke.

The next round of bailouts could be just around the corner.

Banks Balk at New Consumer Protection Agency

2009-07-15T15:23:00.000-04:00

This post first appeared on Minyanville.

Echoes ripple from the lonely barn, its doors agape, the music of rusty hinges piercing the silence. The horses, long gone, are nowhere to be seen. Yet on the dusty horizon, one can barely make out the silhouettes of badge-wielding regulators astride their trusty steeds, racing in to slam shut those hideous, open doors.

After ignoring repeated warnings about the looming dangers of predatory subprime-mortgage lending, turning a deaf ear to consumer complaints about obscenely high credit-card fees, and generally allowing the financial industry to run amok during decades of wild profiteering and debt-fueled excess, Congress is hastily piecing together a plan to protect consumers from Wall Street.

The Wall Street Journal reports that lawmakers are reviewing draft legislation proposed by the Treasury Department that would create the Consumer Financial Protection Agency, or CFPA, whose sole aim would be to protect consumers from the financial industry. The new agency wouldn't oversee securities under the ever-shrinking umbrella of the Securities and Exchange Commission (SEC) or most insurance products, but instead would play an active role in drawing up federal mortgage-disclosure requirements, as well as enforcing newly enacted credit-card rules.

And in what should come as no surprise, bankers are up in arms.

The American Bankers Association, a trade association, complained that the new agency would "stifle product innovation." According to the ABA's president Ed Yingling, "Basically, the government is deciding what every bank in every circumstance should offer." (Pssst, Ed, that's because bankers proved downright unable to decide what to do on their own without blowing up the lab.)

While one can hardly blame lobbyists for doing what they're paid to do -- lobby -- it's not likely that complaints from the likes of Citigroup (C), Wells Fargo (WFC), and Bank of America (BAC) are going to find a lot of sympathy in Washington. When an industry displays an abject inability to make good decisions to the extent that its blunders nearly bring down the entire world economy, it should take its regulatory medicine and move on.

To be sure, the agency is likely to be tough on mandate, light on enforcement. But that doesn't mean banks can't still whine about it. After all, the CFPA will be partly funded by the financial industry, so really, how tough can it be expected to be on the very firms that pay its salaries?

The new agency's task of designing regulation in our post-crisis world will be tricky. Indeed, mostly because the crisis hasn't passed.

As noted by Minyanville's Kevin Depew, although the worst of the credit crisis is likely behind us, the debt crisis remains in full swing. Washington doesn't seem to understand this, and is acting as if systemic risk is a term we won't be hearing again. Their focus then, will be to legislate aggressively until the next election cycle, in the hopes of proving to their constituency that they were tough on those Wall Street fat cats -- the AIGs (AIG) of the world that stole from the pockets of ordinary Americans.

This is a typical political response, and will likely result in a period of over-regulation --which will stifle advancements, but will do so in an industry where an overabundance of unchecked innovation ran well beyond its usefulness.

The upshot is that for the few small firms nimble enough to dance around the new rules and step in where behemoth banks are unable to tread, opportunities will be plentiful. Indeed, in the void left when banks went running from all loans that even sniffed of real estate, private lenders are reaping huge rewards.

That's as it should be: Recessions are breeding grounds for opportunity. That is, of course, if you know where to look.

California Finally Runs Out of Cash

2009-06-30T15:39:00.000-04:00

This post first appeared on Minyanville.

It's official: California is broke.

For months, the most populous US state has been in the throes of a historic budget crisis, as lawmakers have repeatedly failed to agree on how to resolve a $24 billion deficit.

What was once the country's richest state is preparing to issue IOUs to a host of creditors, according to the Financial Times. Among the dubious recipients of these IOUs: Contractors, information-technology companies, and food-service groups that cater to prisons. Funding for education and interest payments on its bonds are guaranteed by state law.

Governor Arnold Schwarzenegger is taking a hard line with legislators, accusing them of offering up a piecemeal solution to the state's woes: "I will veto any majority tax increase bill that punishes taxpayers for Sacramento's failure to live within its means. It's time for the legislature to send me a budget that solves our entire deficit without raising taxes," the Governator said yesterday.

Lawmakers appear blindsided. It's almost like the state went broke all of a sudden and they haven't had time to properly prepare a solution. Not true: The state has been in and out of financial crisis for more than a decade.

After Schwarzenegger vetoed an $18 billion budget package in January, calling it "deeply flayed [sic]," members of the California legislature pulled a literal all-nighter to try and agree on spending cuts, tax hikes, and other measures to get the state back on sound financial footing. The proposed agreement -- hailed as an eleventh-hour solution to what could have become a fiscal nightmare -- was put to a state-wide referendum in May.

Voters rejected the proposal, soundly. Of the 5 measures on the ballot, the only one that passed were new rules that cut the pay for elected officials. And for good reason.

California politicians are a woeful bunch. Despite being home to some of the most profitable and innovative companies in the world, the state is perennially short of cash. Oracle (ORCL), Google (GOOG), and Genentech (DNA) all hail from the San Francisco Bay Area, while San Diego remains a mecca for biotechnology research and is home to mobile-communications giant Qualcomm (QCOM).

The state has vast natural-resource reserves, has a booming agricultural industry, is a popular tourist destination, and has some of the most heavily trafficked ports in the world. Good weather and generally high quality of life has made California the destination for dream-seekers for more than 150 years.

Yet, despite everything it has going for it, California's political process is a complete disaster. In an attempt to allow voters to play a more direct role in governance, the state's referendum system allows citizens to collect signatures and get measures onto statewide ballots. Enough votes on election day and any Californian can see his or her whimsical dream become law.

This has created a patchwork of legislation, rules, and special interests that have hogtied what would be the seventh-largest economy, were it to be a sovereign nation.

As the calendar turns tonight on its new fiscal year, California could be the first state -- like its bailout-begging brethren on Wall Street -- to go hat in hand to Washington pleading for a rescue.

Commodities Not Ready to Roll Over Just Yet

2009-06-30T01:08:00.000-04:00

This post first appeared on Minyanville.

Despite the trillions of dollars in unprecedented stimulus we've seen in the over the past 24 months, investors are still reducing their bets on rising commodity prices.

According to Bloomberg, hedge funds and other speculators reduced commodity exposure by 23% in the 2 weeks ending June 23. Though this can be attributed, in part, to profit-taking after the first quarterly increase since early 2008, traders aren’t convinced that excess inventories will be corrected any time soon.

The effect of any future economic growth on commodity prices is likely to be mixed. Even as higher demand from consumers and businesses for raw materials expands, so too will capacity, because miners, farmers, and drillers will ramp up production.

And the debate is heating up as to whether the longest recession since World War II is on its way out. While George Soros declared the worst of the financial crisis over, and the Federal Reserve said economic contraction is slowing, the World Bank lowered global economic growth forecasts, and economist Nouriel Roubini said higher fuel costs could deepen the ongoing slump.

On Wall Street, investors have been betting on a recovery, as oil-service firms Transocean (RIG) and Schlumberger (SLB) have risen 82% and 55% from recent lows, respectively. And, despite a recent pullback, miners like Freeport MacMoran (FCX) Newpont Mining (NEM), along with steel producers ArcelorMittal (MT) and US Steel (X), have had exceedingly strong years to date after some downright abysmal months.

Well-known hedge managers have jumped on the rising-prices bandwagon: Nassim Nicholas Taleb, author of The Black Swan: The Impact of the Highly Improbable, threw his weight behind the commodity trade earlier this month, announcing that his hedge fund, Universa Investments, planned on betting on massively higher prices.

But rising commodity prices -- indeed, all rising prices -- are a result of not only constricted supply, but of higher demand. As the US and the world as a whole prepare for a future devoid of cheap and easy credit, old expectations about economic growth must be tossed aside.

We're entering a transitional period, one in which economies in both developing and developed nations must readjust to the notion that debt isn't a sustainable vehicle for growth, and that true productivity and innovation must drive any increase in the standard of living. In the long run, this return to traditional capitalistic values will result in a rising tide that lifts all boats.

Recession-Weary Consumers Desperate for Fewer Choices

2009-06-30T01:05:00.000-04:00

This post first appeared on Minyanville.

"Quality is a characteristic of thought and statement that is recognized by a non-thinking process. Because definitions are a product of rigid, formal thinking, quality cannot be defined."
- Robert Pirsig, Zen and the Art of Motorcycle Maintenance

Retailers, reacting to the ongoing structural shift away from excessive consumerism, are beginning to choose quality over quantity.

Finally.

This morning's Wall Street Journal highlights efforts by stores like Target (TGT), Wallgreens (WAG), and Wal-Mart (WMT) to reduce their product offerings, limit shelf clutter, and generally simplify the consumer's shopping experiences. Suppliers like ConAgra (CAG) and Clorox (CLX) are also trying to get ahead of the curve, and are reducing the variety of their offerings.

As shoppers become more selective, confronting a dizzying array of salad-dressing options inspires many to simply throw up their hands and go with a brand they know. As one customer told the Journal: "There are too many choices. I just went with Kraft (KFT), because I know Kraft."

This trend clearly favors dominant brands, since smaller, lesser-known varieties will be muscled out by firms able to spend millions on marketing. And while this may stifle innovation in the cutting-edge barbecue-sauce industry, stiffer competition ultimately weeds out the weak, thereby making room for real future innovation. As sales become concentrated inside big, often stodgy conglomerates, nimble upstarts have a chance to move in with new and improved products.

In eliminating superfluous brands, products, and package sizes, retailers are also slashing inventories -- a key part of rebalancing consumer demand with supply, and a necessary component of any sustainable economic recovery.

Wal-Mart, the world's largest retailer, isn't just slimming down its offerings. After analyzing sales patterns, the company discovered that, in market segments with growing sales -- flatscreen televisions, men's shaving cream, and garbage bags, for example -- increasing variety actually helped sales.

On the other hand, when consumers begin to shun certain products (toilet paper, mouthwash, and microwave popcorn, for example), fewer choices actually helped stem the decline.

And while it looks like Americans now prefer frequent shaving over the regular use of toilet paper, swapping variety for simplicity represents a healthy shift in priorities. Consumer spending, once directed towards glitzy status symbols (hey, even fancy barbecue sauce became a social marker), is now focusing on the useful and necessary.

This -- despite its grim implications for purveyors of the sleek and pointless -- is a good thing.

Keepin' It Real Estate: Just How Bad Are the New Appraisal Rules?

2009-06-30T01:03:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Appraisers just can't get it right.

During the housing boom, mortgage brokers, real-estate agents, and even borrowers sought out appraisals supporting the highest possible home price. Appraisers, fearful of losing business, inflated their valuation findings, which exacerbated the run-up in home prices.

Now, after nearly 4 years of home-price declines, appraisers are getting it wrong again -- but in the other direction.

On May 1 -- while the financial media focused on construing a blip up in housing data as signs of an imminent bottom -- little was made of new appraisal guidelines that went live and immediately began to eat away at the core of the nascent housing "recovery." To be sure, trade groups like the Mortgage Bankers Association and the National Association of Realtors (NAR) fought the revised rules, but to no avail.

Stemming from a lawsuit filed by New York Attorney General Andrew Cuomo alleging Washington Mutual (JPM) and First American Corp illegally conferred on the results of home appraisals with the goal of inflating prices, the new rules put up a Chinese wall between banks like Citigroup (C), Wells Fargo (WFC), Bank of America (BAC), and appraisers. The goal was to create an environment where appraisals would reflect an expert's unbiased assessment of a home's true value, rather than evaluations tailored to a lender's desire to make a loan.

The new rules affect loans guaranteed by Fannie Mae (FNM) and Freddie Mac (FRE), but since the 2 government-run mortgage giants effectively control the secondary mortgage market, they've become the defacto guidelines for the entire industry.

In order to separate lenders and appraisers, appraisal-management companies (AMCs), cropped up, offering banks access to a network of appraisers around the country. This makes the appraiser selection process random, preventing collusion. And while AMCs claim appraisers are selected using proprietary scoring algorithms that evaluate performance, the reality is that jobs are handed out on the basis of fastest turnaround time and lowest cost.

In short, we've traded bias for incompetence.

Readers of this column know that I have little, if anything good to say about the NAR -- which is not only the Realtors' trade organization, but a powerful Washington lobby. Nevertheless, earlier this week, when the NAR released data on existing home sales, their statement about appraisers' role in killing purchase transactions was dead on the mark:

"The increase in sales is less than expected because poor appraisals are stalling transactions. Pending home sales indicated much stronger activity, but some contracts are falling through from faulty valuations that keep buyers from getting a loan. Lenders are using appraisers who may not be familiar with a neighborhood, or who compare traditional homes with distressed and discounted sales."

Currently embroiled in this very scenario, my firm, Cirios Real Estate, is witnessing first-hand just how bad the new appraisal rules are.

Assessing a property's value in't rocket science, despite appraisers' claim that their extensive training and years of experience make them the only people qualified to determine home prices. All it takes is access to the right information, an understanding of what drives desirability, and a little pride in one's work.

That last criterion is perhaps the most difficult to find. Appraisers earn a flat fee for their services, giving them little incentive to provide the best analysis possible. Knowing they can now earn repeat business by turning around jobs in 48 hours and charging less than their competitors, there's little reason to go the extra mile to ensure appraisals take into consideration only the best information to come up with the best possible results.

Sure -- there are good appraisers out there with integrity that offer up great analysis. But as lower priced, lower quality work becomes the norm (thanks to the new appraisal guidelines), the best appraisers will seek greener pastures - as well they should.

Lawrence Yun, the NAR Chief Economist, finally got it right when he said, "Sometimes policy can lead to unintended consequences."

To Bernanke or Not to Bernanke

2009-06-30T01:02:00.000-04:00

This post first appeared on Minyanville.

It's every pitcher's worst nightmare -- or possibly their fondest dream, if they're the sort of person who thrives under pressure -- to take the mound in the final inning of a tie game with the bases loaded and nobody out. It's an almost impossible situation -- a disaster you didn't create, but have been called upon to make right.

Such was the position Ben Bernanke, preeminent scholar of the Great Depression, found himself in when he took over at the Federal Reserve in February 2006. The US housing market was just beginning to show signs of deterioration, and decades of excessive debt and mispriced risk were about to explode into the biggest financial crisis since the 1930s.

Now, as the Fed finishes up its June monetary policy meeting, Bernanke will remain on Capitol Hill to face questions concerning his role in the crisis and whether he's the best candidate to lead the Fed into the future. With the chairman's term ending in January 2010, President Obama has 6 months to decide whether Bernanke's performance under extreme duress -- and the unprecedented measures he took to save the global financial system -- are worthy of another 4 years.

Bernanke is a polarizing figure -- indeed, he has been since he first came to office. Coming in as he did after almost 20 years of authoritarian rule under "the Maestro," Alan Greenspan, Bernanke sought to downplay the role of Fed chairman. Some hail him as a savior: Who better at the helm during an historic credit crisis than the economist who's arguably spent his entire academic career preparing for just such an assignment?

Bernanke's papers, his dissertation, and the speeches he's made over the past 3 decades read almost like a script for handling the type of maelstrom he's faced during the past 24 months. Supporters argue that Bernanke prepared himself well -- that he performed admirably under wildly difficult circumstances.

On the other side of the fence, Bernanke's seen as the latest in a series of public figures who, in the words of Minyanville's Todd Harrison, "bought the cancer and sold the car crash."

In other words, Bernanke's chosen to kick the can just far enough down the road to avoid disaster -- but ignoring the inevitable day of reckoning. In expanding the Fed's balance sheet by $2 trillion -- and ballooning its obligations by trillions more in off-balance-sheet liabilities -- Bernanke has risked a complete debasement of the dollar and flung open the door to the dangers of hyperinflation.

Critics also argue that Bernanke overreached his authority when he strong-armed Bank of America (BAC) CEO Ken Lewis into completing the purchase of Merrill Lynch at the end of 2008. The chairman's role in pushing Bear Stearns into the waiting arms of JPMorgan Chase (JPM), guaranteeing hundreds of billions of dollars of Citigroup's (C) toxic assets, bailing out American International Group (AIG), and taking over mortgage giants Fannie Mae (FNM) and Freddie Mac (FRE), will all be up for debate.

To be sure, Bernanke has ben busy these past 3-and-a-half years.

Ultimately, President Obama must decide not just whether Bernanke is the right man for the job, but whether replacing him is worth the economic -- not to mention political -- cost. According to Bloomberg, the last 4 US presidents all retained the Fed chairmen from their first terms through their second. Bernanke's 2 most likely replacements, should he not be reappointed (current White House economic advisor Larry Summers and San Francisco Federal Reserve Bank president Janet Yellen) are undoubtedly well aware of this disheartening fact.

The end of Bernanke's term might seem like it's just around the corner. But if we've learned anything from this crisis, it's that 6 months is more than enough time for the world to change in a big way.

Congress Still Working Against Housing Recovery

2009-06-30T01:01:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Banks like Washington Mutual (JPM), Wachovia (WFC), and Countrywide (BAC) -- along with Fannie Mae (FNM) and Freddie Mac (FRE) -- once used mortgage underwriting guidelines that were thin at best, nonexistent at worst.

Congress, in turn, pushed for leniency for low-income borrowers and for those with spotty credit, assuring their constituencies that the American dream of home ownership would be available to all.

As a result, the housing bubble expanded -- and then it burst.

But it would appear that our elected officials have yet to learn their lesson: According to the Wall Street Journal, representatives Barney Frank of Massachusetts and Anthony Weiner of New York are urging Fannie and Freddie to loosen up qualification requirements even more.

You see, Fannie and Freddie recently limited their exposure to condominiums where a high percentage of the owners were past due on their mortgages, or where many units remained unsold. Frank and Weiner claim the tighter rules are limiting condo sales, even though prices have come down to generate material buyer interest.

To wit, condos just off the Las Vegas strip can be snatched up for less than $50,000 apiece, and downtown San Diego remains surfeited with inventory, even though prices have fallen more than 50% since the market's peak, according to MDA Dataquick.

The law of supply and demand is a beautiful thing.

A quick tour of VRBO, a vacation rental website, illustrates why snapping up Vegas condos on the cheap may not be such a great idea. The monthly loan payments may be just a few hundred dollars, but surplus supply means rents have tumbled and vacancies have soared. In coastal cities like Miami and San Diego, massive overbuilding of condo complexes will depress local real estate markets for years to come. Metrostudy, a market research firm, estimates that Miami has a more than 40-month supply of condos.

Falling prices, which can provide opportunities for savvy investors, are part of a healthy correction process. To the extent the government continues to prop up prices by transferring risk to the taxpayer, these opportunistic investors will stay on the sidelines, thereby forestalling any eventual recovery.

Homebuilders Add New Wing to Housing Crisis

2009-06-19T22:52:00.000-04:00

This post first appeared on Minyanville.

It appears even the embattled homebuilding industry is getting rosy-eyed, finding enough "green shoots" of economic recovery to stick their shovels back into the ground.

In May, US builders broke ground on 17.2% more projects than in April, far exceeding analysts' expectations. Work on new apartment buildings leaped, while single-family starts continued what's now become a 3-month rally.

Although the aggregate figure is still well off last year's rate, economists are breathing a sigh of relief that the worst of the housing market swoon could be behind us. Skeptics, however, are quick to point out that any recovery could be muted, as high levels of inventory, a weak labor market, and mortgage rates that just won't seem to stay down, could forestall any recovery.

As Kenneth Simonson, chief economist for the Associated General Contractors of America, told the New York Times, "There's a real possibility [housing starts] will just stall at a low level. If the recent jump in interest rates is sustained, that could choke off buyer enthusiasm for new homes."

For nearly 4 years, the business of building and selling homes has been, in a word, lousy. As home prices tumbled, the likes of KB Home (KBH), Toll Brothers (TOL) and Lennar (LEN) slashed prices, offered generous incentives, and otherwise bent over backwards to unload inventory. Building all but stalled, jacking up unemployment -- particularly in exurbs and sprawling communities whose economies were largely based on the construction trade. An industry that grew fat during the boom was forced to slim down, lay off workers, and hibernate, while the market's violent correction ran its course.

And although a host of small builders have closed up shop, to date, no major US homebuilder has gone under. Consolidation, too, has been scant. The only merger of note was Pulte Home's (PHM) purchase of Centex (CTX), a marriage that, once consummated, will create the country's largest builder.

The outlook for those builders that remain -- builders that are bleeding cash while pleading with creditors to extend loan terms and waive busted covenants -- is bleak. Last week, the National Association of Homebuilders/Wells Fargo Builder Sentiment Survey ticked down after rising far more than expected the month before. Higher interest rates are mostly to blame, as the specter of bigger monthly payments is quelling optimism that the housing market is on the mend.

The reality -- an unfortunate one for builders and their employees -- is that for the foreseeable future, their services aren't needed in this country; we have too many homes as it is. Demand for new ones remains weak as communities just a decade old slip into disrepair, and shoddy craftsmanship and half-finished developments scare off prospective buyers.

Builders are also fouling up the nascent housing "recovery" by turning recently completed condominium units into rentals. Even as demand wanes thanks to job losses and tighter budgets, rental inventory is rising. Rents, as a result, are falling. This is great news for tenants, eager to jump on affordable apartments, but bad news for landlords and even homeowners.

One of the most popular arguments posited by housing-market-bottom callers is that in some of the hardest hit areas, prices have gotten so low that investors can scoop up cheap homes and rent them for an attractive return. What they neglect to mention, however, is that this sort of market-clearing activity also increases the supply of rental units, further pressuring home prices. Even in the worst, most washed-out areas, a bottom remains elusive.

Credit-Card Firms to Borrowers: Let's Make a Deal

2009-06-19T22:51:00.000-04:00

This post first appeared on Minyanville.

As if the idea of blowing off those nagging, oppressive credit-card payments weren't enticing enough, now card issuers are giving struggling borrowers one more reason to let payments lapse. They're playing a few rounds of "Let's Make a Deal."

Faced with the prospect of recording a goose egg where a credit account once was, lenders are offering to partially forgive delinquent borrowers' past due balances. According to the New York Times, the practice is gaining currency in the downturn.

When times were good, big credit-card companies like Citigroup (C), American Express (AXP), and Capital One (COF) simply hiked fees, collected interest, then sold defaulted debt to the highest bidder. Now that the value of past-due accounts has tumbled -- and new legislation has restricted fee-gouging -- issuers are eager to collect something rather than nothing.

Increasingly, lender representatives are offering to cut deals with late payers, wiping out as much as half a borrower's outstanding balance -- provided the borrower agrees to pay the remaining amount in full.

That is, of course, assuming that the borrower has shown a tendency to default in the past, thereby creating a perverse incentive for those struggling to get by to finally throw in the towel.

While the new trend may sound like a godsend for the vastly over-indebted American consumer -- we now owe credit card companies almost $1 trillion -- it's evidence of a more widespread -- indeed global -- trend: The repudiation of debt.

As Minyanville's Kevin Depew noted last month:

"Payment defaults and delays in Germany more than doubled in the 6 months ending March 31, compared with the prior year. Bottom line: Debt cancellation is increasing, and spreading."

Companies Compete for Government Cash, Not Customers

2009-06-19T22:50:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

It's the government, stupid.

As Washington expands its role in managing the day-to-day operations of American business, companies are increasingly turning their strategic focus to tapping federal cash and lending programs. And despite the strings often attached to government money, many are finding that Uncle Sam is the only game in town during these troubled economic times.

This morning's Wall Street Journal highlights just how essential lawmakers and regulators have become in America's new breed of government-directed capitalism. Hunting retailers, farm-equipment manufacturers, and, of course, banks (Bank of America (BAC), Citigroup (C), Wells Fargo (WFC)) and insurance companies are all sidling up to the government trough.

And even as public opinion slowly turns against bureaucrats' massive intervention into the private economy, Washington insiders are raking in piles of cash. According to the Journal, spending on lobbyists in 2009 could reach $3.3 billion, equal to the total during the 2008 election year. And for good reason: Without representation in Washington, companies just can't compete.

After the financing arm of Deere & Co. (DE) tapped the FDIC to guarantee $2 billion in debt last December, the Equipment Leasing and Finance Association, a trade group, leapt into action to protect other members. Deere rivals, including Caterpillar (CAT) and a host of smaller firms, weren't eligible for government-supported debt issuances, so the group's president asked the Federal Reserve to expand the Troubled Asset Lending Facility to include sales of farm equipment and other machinery.

The Fed acquiesced; the agricultural industry must also be too big to fail.

But not every company has the ear of the Washington power brokers, leaving those forced to go it alone at a distinct disadvantage. Credit is already precious for small businesses, and what little they do have is far more expensive than that of their larger, better-connected rivals. This doesn't bode well for an economy struggling to drag itself out of recession, since small businesses account for the lion's share of job growth on the other side of a downturn.

The eventual recovery, which a growing number of optimists predict is just around the corner, could yield a bitter pill for corners of the economy still heavily dependent on government handouts. Although lawmakers vow to support systemically vital companies and industries for as long as needed, at some point Washington must try to take back what it has so generously given.

Witness the market for home loans, where government purchases of mortgage-backed securities have helped keep rates abnormally low. Even without the Fed dumping its Fannie Mae (FNM) and Freddie Mac (FRE) bond portfolio onto the market, rates have risen sharply in the past month, threatening to forestall the nascent "recovery" in the housing market.

Were the Fed to pull back its support of the housing market, rates would skyrocket. This would be politically -- not to mention economically -- unacceptable.

And while the ideological debate rages over whether Washington bureaucrats are becoming too entrenched in the American economy, businessmen and -women still must get up each morning, head to work, and try to stay above water. And -- insofar as lobbying for government money outstrips developing new technologies or innovating, producing and otherwise generating economic output -- the economy suffers.

And green shoots or no, this economy already has enough cards stacked against it.

Keepin' It Real Estate: Where Have All the Houses Gone?

2009-06-19T22:49:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Where have all the flowers gone, long time passing?
Where have all the flowers gone, long time ago?
When will they ever learn, when will they ever learn?
-Pete Seeger

There's an odd refrain cropping up in some of the nation's most troubled housing markets -- those where real estate professionals can't help but raise their pom-poms in unison and declare this "the best buying opportunity, maybe ever."

Here's how it goes: Where have all the houses gone?

For months, buyers have been told the time to buy is now, what with interest rates at all-time lows, prices down in some markets more than 50%, and generous tax credits for first-time home buyers. These factors -- along with aggressive advertising by the National Association of Realtors -- have driven up demand, even as prices have continued to fall. Supply, meanwhile, has been severely limited for the past 6 months by foreclosure moratoria that were enacted at the end of 2008.

And as tends to happen when demand outweighs supply, many homes have been selling above their list prices as multiple-offer scenarios led agents around the country to wax lyrical about the boom days of yesteryear.

This cursory analysis of the nation's housing market -- while sufficient for the financial punditry complex, which is eager to call a bottom (again), and certain real-estate agents looking to make a quick sale -- is woefully inadequate for any buyer interested in buying an actual home rather than a data point.

Take these 2 California markets for example -- a pair that couldn't be more different if one were located on the moon:

Bakersfield, a Central Valley farming and oil town best known for jockeying with Fresno for the right to be called "the armpit of California," was besieged by the housing-market crash early on.

Subprime lending flourished here during the boom, as home builders like Lennar (LEN), Centex (CTX), and DR Horton (DHI) showered once-quaint communities with sprawling suburban developments. The town made national press for one of the worst real estate markets in the country -- prices have fallen an astounding 48% since just last year.

http://ciriosvaluations.com/2009/06/09/homebuyers-crash-into-appraisal-roadblock/

2009-06-19T22:47:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

In early 2006, when subprime powerhouse New Century went bust, vulture investors began to salivate at the opportunities a collapsing mortgage market would offer up like manna from the trading gods. They started raising money. And lots of it.

Billions were poured into so-called "mortgage opportunity funds," which planned to pick through the wreckage of the once-high-flying housing market. Some investors aimed to focus on mortgage-backed securities, hoping to buy in at pennies on the dollar so just a few bond payments would reap sizable returns. Others, however, delved into the realm of whole loans, buying troubled mortgages from floundering banks.

As noted in the Wall Street Journal this morning, an investment strategy that seemed like a slam dunk on paper -- buying distressed mortgages on the cheap, and working out equitable arrangements with borrowers -- has proven extremely difficult to execute.

The prevailing wisdom was that, as delinquencies rose, and banks amassed a seemingly limitless portfolio of troubled loans, the likes of JP Morgan Chase (JPM), Bank of America (BAC) and Citigroup (C) would be forced to unload assets at firesale prices. Because they were buying at super-low prices, investors expected to have the necessary cushion to forgive principal, lower interest rates, or otherwise get borrowers back on track. They would, of course, earn a hefty profit for the effort.

But the housing market, which tumbled further and faster than all but the most pessimistic experts thought possible, had other plans.

Throughout 2007, any player that dipped a toe into the market lost a foot. Property value declines accelerated, securities prices tumbled, and economic conditions continued to deteriorate. Sellers, hoping for a rebound, were reluctant to accept lowball prices. Few trades were executed, and the lack of liquidity drove the market to new lows.

Then, in 2008, as delinquencies began to spread from the subprime to the prime market, home prices continued to slide, and it became clear there would be no easy fix to the housing market's woes, big banks recognized their need to raise capital by selling assets.

The market for distressed loans began to flourish as liquidity entered the market: Sellers accepted painfully low prices, and investors started deploying more capital. Prices for pools of mortgages in various stages of default began to stabilize, typically around $.50-$.60 on the dollar.

Homebuyers Crash Into Appraisal Roadblock

2009-06-19T22:46:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Mortgage guidelines have become increasingly strict -- not to mention regimented -- as the private secondary-mortgage market has all but disappeared in the past 24 months. But according to the Wall Street Journal, appraisals are increasingly becoming one of the biggest hurdles for new purchase and refinance transactions.

In the wake of the recent collapse in home prices, appraisers have come under fire for bowing to lender demands during the boom, offering up property values more aligned with lenders' wishes than with reality. In 2007, the state of New York sued Washington Mutual -- now owned by JPMorgan (JPM) -- for colluding with a subsidiary of First American Corporation to overinflate home values.

Collusion between appraisers and mortgage brokers, real-estate agents, banks, and borrowers helped fuel runaway price appreciation. In response, Fannie Mae (FNM) and Freddie Mac (FRE) -- the 2 government-owned giants that control around two-thirds of the mortgage market -- issued new guidelines dictating how lenders can select and evaluate appraisals. The new policies went into effect May 1.

To help facilitate the new, tighter rules, lenders are using appraisal management companies, or AMCs, which employ networks of appraisers around the country to provide what purport to be unbiased value analysis. All this, of course, comes at a cost which is ultimately borne by borrowers.

And, in what could be considered ironic if it weren't so repellent, appraisers are crying foul.

This from a group whose moral backbone during the housing boom most closely resembled that of a jellyfish - one seemingly incapable of preventing its members from being wooed by banks into committing fraud.

An appraisal is simply one person's opinion of a home's value on a given day. And although that person is licensed to provide such an opinion, the very nature of an appraisal renders its usefulness as a true risk management tool questionable at best.

The growing use of AMCs, opponents argue, reduces appraisal quality even as it increases costs. Appraisers are selected based on proprietary quality scoring mechanisms employed by each AMC, which may or may not be a good measure of reliability. And since AMCs take on average a 40% cut on the total appraisal fees and lenders demand quick turnaround, appraisers are working for less on a tighter timeline.

Sure, fraud may be reduced, but incompetence could more than make up for that as AMCs scramble to employ barely capable appraisers in order to ensure complete geographic coverage for their clients.

The real losers in all this -- as is the case when poorly conceived regulation is aimed at making up for past mistakes without proper consider for the root cause of those mistakes -- are homeowners, who must now pay more for a property valuation mechanism that isn't likely to be much better than the old one.

Airline Profits Hit Turbulence

2009-06-19T22:45:00.000-04:00

This post first appeared on Minyanville.

Airlines just can't catch a break.

Last summer, as fuel costs rose skyward, US carriers scrambled to dream up new fees and hidden charges to try to stay afloat. A few -- like Aloha, ATA, and Frontier -- didn't make it, and a new wave of bankruptcies slammed the industry.

Then, as crude-oil prices eased earlier this year -- and airlines very quietly left baggage, food and other junk fees in place -- many hoped the industry would soon soar back to profitability. But the deepening global recession, steadily rising oil prices, and the swine flu "epidemic" may have grounded their nascent recovery.

According to Bloomberg, the International Air Transport Association, or IATA, a trade group, doubled its loss estimates for the world's biggest airlines. After forecasting a total loss for the industry of around $4.7 billion as recently as March, the group now expects losses to top $9 billion in 2009. In fact, North American carriers could blow through as much as $1 billion.

And the depression in demand isn't just coming from fewer vacationers -- or from frightened international travelers forgoing those Mexican vacations. Business customers are also leaving expensive business-class and first-class seats in droves, opting to economize. Cargo demand, the IATA says, could tumble 17% this year as less "stuff" is sent around the globe.

Ticket price competition is stiffer than ever, despite drastic cuts in such perks as bringing along luggage on that 3-week vacation -- as well as on meals (while we appreciate that Continental (CAL) is the last US airline to give out more than a 3-pretzel munchie mix, its week-old cheeseburgers entombed in plastic can hardly be called a "meal"). Online travel sites like Orbitz (OWW), Travelocity and Kayak keep airlines honest, rewarding travelers who take the time to seek out the lowest fares.

Air travel, now that frills have been all but removed from the flying experience, has been commoditized. Differences between airlines are barely perceptible, with the notable exception of upstarts like JetBlue (JBLU) and Virgin America, which offer travelers an alternative to the truly banal experience of flying American (AMR), or the feeling of being herded like cattle courtesy of Southwest (LUV).

While the industry struggles to realign partnerships, cut costs and lobby governments for more subsidies, major carriers would be well to learn from those few intrepid entrepreneurs seeking out opportunity amidst the storm. As Virgin Group founder and president Sir Richard Branson, said when he convinced investors to pony up more than $300 million to launch the company in early 2008, "We're going to shake up the market."

Indeed. Let's hope he succeeds.

Keepin' It Real Estate: The Fed Loses the Mortgage-Rate Battle?

2009-06-19T22:44:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Despite the best efforts of the Federal Reserve and the Treasury Department, the free market is winning the battle over mortgage rates. Tens of trillions of dollars in support for the financial system can't change the stark reality: Giving out home loans remains risky business.

Borrowers looking to take advantage of rock-bottom interest rates are seeing the opportunity slip through their fingers, as rates have risen by more than 0.50% in the past few weeks.

According to the Wall Street Journal, the pop in rates is due to expectations of economic recovery, combined with fears that the mounting pile of debt incurred by Washington's central economic planners may not be sustainable. As the government prints money and plunges the country into an ever-deeper deficit, holders of US Treasuries (e.g. China) are getting skittish. These investors are quietly demanding a higher return on their bet that our economy will pull out of its current tailspin.

This, in turn, is pushing up mortgage rates, which doesn't bode well for nascent signs of recovery. Big lenders like Wells Fargo (WFC), Bank of America (BAC) and JPMorgan Chase (JPM) -- despite offloading nearly all default risk to taxpayers via Fannie Mae (FNM), Freddie Mac (FRE), or the Federal Housing Administration -- are asking prospective borrowers to pony up hefty points up front to get the lowest rate possible.

And this at a time when pundits and performance-chasing portfolio managers are latching onto the absurd notion that the nation's housing market is making some sort of fundamentally sound turnaround. A contributor to CNBC actually said with a straight face that our economy can't grow with mortgage rates this "high," and that the Fed is derailing the recovery by letting rates move up.

To say that our economy is undergoing some sort of legitimate recovery, and at the same time assert mortgage rates a hair above 5% are too high is to confirm that those declaring the recession in our rear view mirror are delusional at best, talking their book at worst.

As renewed fears of inflation percolate and investors begin to snatch up commodities in expectation of future prices, pressure will mount on the Fed to keep rates of all kinds low to ensure the economy doesn't remain mired in its current malaise. This means more printing press activity, more "quantitative" easing, and more social-welfare programs packaged as "progressive" economic policy.

Battle lines are being drawn: Washington bureaucrats on one side, advancing the theory that money can be printed seemingly without limit to generate legitimate economic growth - and the market on the other. And each time the Fed takes its foot off the dollar-debasement accelerator, we get a peek into what will happen when the printing presses finally run out of ink.

GM Tails Chrysler Into Bankruptcy

2009-06-03T16:32:00.000-04:00

This post first appeared on Minyanville.

It's official: General Motors (GM), the world's largest car company for more than 75 years, will drag its $82 billion in assets and $173 billion in liabilities into bankruptcy court.

The long-awaited move leaves the US government as GM's majority owner. Washington is betting more than $50 billion in taxpayer money that its turnaround plan can transform GM into a slimmed-down, dynamic powerhouse in the rapidly changing global automotive industry - despite mountains of debt, labor disputes, high fuel prices, and anemic sales.

The GM bankruptcy will allow its new public-employee chieftains to more quickly downsize the bloated firm, shuttering dealers, ditching struggling brands like Hummer and Saturn, as well as rapidly renegotiating labor contracts. According to the Wall Street Journal, the protection of Chapter 11 bankruptcy will also enable the company to rid itself of nearly $80 billion in debt.

And although GM’s bankruptcy filing may speed its way through the courts, as did Chrysler's (and the company could emerge from bankruptcy as early as this week), the 2 failed automakers’ cases couldn't be more different.

First, the sheer size of GM -- with nearly 3 times the assets and a fraction of the debt Chrysler had when it filed for bankruptcy protection April 30 -- will make its proceedings infinitely more complex. Pacifying a web of creditors, dealers, labor groups, and investors will be no easy task.

In addition, when GM eventually does emerge from bankruptcy, around 60% of its equity will be owned by Uncle Sam, since more than $50 billion in government loans will be converted to equity.

By contrast, Chrysler used bankruptcy protection in part, to cement a sale of key assets to Italy’s Fiat, which will own the new Chrysler in conjunction with labor unions, while the government holds a small, less-than-10% stake. Congressional meddling into its new Detroit-based Frankenstein's monster could hold up decisions at GM, as major as which brands to scuttle to trivialities like which brand of paperclips to use.

The Obama Administration reiterated that government ownership will be transitory, predicting that GM could once again be a public company within 6 to 18 months. During that time however, competitors like Ford (F), Toyota (TM) and Hyundai can leap ahead as GM focuses on cleaning up old messes and charting a new path for the future. Analysts say, however, that a new government-enhanced GM could emerge with an unfair advantage over companies like Ford that didn’t need to be bailed out.

Finally, and perhaps more importantly, GM must regain the trust of a country whose loyalty to the brand was based not on quality craftsmanship or reliability, but on patriotism. Without a dedicated client based in the United States that buys its cars because they are superior to those manufactured by its foreign competitors, the restructuring of GM will fail in even its most modest aims.

The automobile may have been invented in the United States, but its construction was perfected elsewhere. The turning of that tide will be the ultimate test of this brave new era in American car-making.

Keepin' It Real Estate: The Sellers Are Coming - Be Very Afraid

2009-06-03T16:31:00.000-04:00

This post first appeared on Minyanville.

Imagine you own a home.

Chances are, at some point in the past 3 years, you’ve heard that nagging voice in the back of your head - the one that whispered, “sell, sell, sell.” You watched as prices tumbled and buyers evaporated like morning dew.

But then you opened the paper, and there, in plain black ink, you saw that virtually everyone in both mainstream and financial media called this the worst time to sell a house in over 80 years.

What’s a seller to do?

The days of holding are past. The time to sell is upon us.

After a seemingly endless cascade of truly horrific news out of the US housing market, the last few months of quasi-positive data have proven to be a much-needed respite from the storm. Sales activity is up, price declines are moderating, and confidence appears to be returning to the market. That ever-elusive bottom in housing, despite being widely misunderstood by the vast majority of commentators, could finally be upon us.

Imagine you own a home. What would you do?

It’s only logical that given (perceived) renewed strength in the housing market -- driven by lower prices, rock-bottom interest rates and generous tax rebates -- buyers are wading back into the fray.

Of course, conventional wisdom says it's indeed a great time to buy. The National Association of Realtors, that cheerleading mouthpiece and chief lobbyist for commission-hungry real-estate professionals everywhere, concurs. The National Association of Homebuilders -- a group representing the likes of Toll Brothers (TOL), whose CEO, Robert Toll, and his brother Bruce pocketed more than $770 million during the boom -- says we’re experiencing “some of the best home-buying conditions of a lifetime.”

After years of abysmal conditions in which to sell a home, finally, there’s some demand and confidence returning to the market, they tell us. Willing and able buyers are pouring back into the market. And as they do, sellers -- buoyed by newfound confidence -- are prepping their homes for the market.

Washington, the media, and indeed, the financial markets are focusing on the demand side of the housing equation. Meanwhile, back on Main Street, far away from contrived efforts to prop up the housing market with spin, the sellers are coming.

What comes next won't be pretty.

Sayonara, SEC

2009-06-03T16:30:00.000-04:00

This post first appeared on Minyanville.

The horses, pigs, cows, goats, sheep, llamas, ostriches, dromedaries and rhinos have all left the barn, yet the US Securities and Exchange Commission (SEC) still thinks it should be minding the door.

In light of its woeful inability to perform even the simplest of tasks -- like making sure the biggest hedge fund in the world, I don't know, makes a trade once every 13 years -- the Obama administration is looking to strip the SEC of certain regulatory responsibilities.

And rightly so.

According to Bloomberg, plans could be announced as early as next week outlining just how watered down the SEC's role in the new Obama regulatory regime could be. It's expected the Federal Reserve may take over the SEC's oversight of firms deemed "too big to fail." Keeping tabs on mutual-fund operations could become the domain of certain banking regulators.

The SEC, for its part, under the new leadership of 20-year veteran of the agency, Mary Schapiro, is fighting back. Shapiro says she's frustrated the SEC isn't more involved in high-level negotiations with financial firms like Citigroup (C), Bank of America (BAC) and Goldman Sachs (GS), and is making great strides in repairing the regulator's tattered image.

Commendable, but too little too late.

The SEC is widely viewed as having committed the biggest regulatory bonk in modern financial history, turning a blind eye to Bernie Madoff's $65 billion Ponzi scheme, and failing to, even in the remotest way, protect investors from the implosion of the market for mortgage-backed securities and other structured financial products stemming from rampant fraud, scant disclosure and blatant conflicts of interest.

Oh, and just days before Bear Stearns collapsed into the waiting arms of JPMorgan Chase (JPM), then SEC Chairman Chris Cox went on national television, assuring the country Bear was in good shape. Oops.

The SEC is a case study in regulation gone bad. It's one thing to have openly unregulated markets, where participants understand there's no one guarding the hen house. But when markets are purportedly policed by a powerful government body, investors assume some level of basic integrity and honesty.

By violating this trust, the SEC proved that weak regulation -- and more specifically, weak regulators -- do more harm than any amount of deregulation could ever do.

The looming restructuring of the financial regulatory complex will be a messy, political, imperfect process. But if the first step is dismantling the SEC's web of incompetence, then we're off on the right foot.

R.I.P. Free Credit

2009-06-03T16:29:00.000-04:00

This post first appeared on Minyanville.

Remember the good old days? Back when you and the credit crunch were young, and only those "subprime" people over on the other side of town -- you know, the ones living wildly beyond their means, dependent on credit for the very necessities of life -- had to deal with the harsh reality of life without free and easy credit?

Those happier times are long since passed, as the malaise continues to seep its way up the economic spectrum. Now, even the most creditworthy consumers who haven't missed a payment in years are seeing credit lines cut, interest rates raised and finding it increasingly difficult to get a mortgage. They'd better get used to it - the free lunch is over.

Up in Washington, where economic rationale and populist rhetoric seem to be more mutually exclusive than ever these days, the Senate is voting on a widely debated new set of rules for the credit card industry.

According to the New York Times, although the legislation doesn't cap the rates companies like Capital One (COF) and American Express (AXP) can charge their customers, they'll be forced to up rates more slowly -- and with more disclosure -- meanwhile making it tougher to impose late fees on borrowers that can't keep up. This will reduce lenders' earning power, not to mention their inclination to give out credit lines to questionable borrowers.

While risky borrowers will bear the brunt of late fees, over-limit charges and slashed credit lines, the well-to-do are in for the biggest shock. Banks are considering curtailing or doing away entirely with rewards programs, grace periods before interest charges kick in and accounts without annual fees. Gone are the days when paying your bills on time was a path to free credit.

The country's biggest banks, JPMorgan (JPM), Bank of America (BAC) and Citigroup (C) have already told Congress the new rules will force them to limit credit availability and increase fees. While this may bode well for profit margins in the near term, not so for the broader economy.

In light of the financial implosion wrought by too much debt supported by not enough real income, it's hard to argue credit card companies shouldn't be a bit less free-wheeling when handing out plastic. But analysts are quick to point out that paring down consumer credit will have a dastardly effect on our consumption-based economy.

For a country whose economy is two-thirds consumer spending, and whose consumer is (still) addicted to credit, the new legislation is like pumping the economy full of Xanex - everything will just slow down.

And while in the long run, less dependence on cheap and easy credit will help prevent the sorts of credit crisis like the one we're experiencing right now, we'll likely look back with 20/20 hindsight and say this legislation went too far, constricted credit too much. This is a shame, since before Congress even cooked up the idea of the new rules, the natural deleveraging cycle was already restricting credit on its own.

Debt isn't in and of itself, bad. As Minyanville's Kevin Depew wrote today, "real lending and economic activity will only improve when real savers see real value at the right level of risk. That will only occur in the short-run with vastly lower prices, or in the long run with stagnant prices and the benefit of time." Indeed.

Credit allows a transfer of risk from those who want to take it, but can't, to those who can take it, but need to be appropriately compensated for putting their cash on the line. This can foster healthy economic growth - when used properly.

That day will come again, but that day isn't today.

Deflation Still Clear and Present Danger

2009-05-18T15:46:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Deflation, the economic beast many feared would devour the next decade, appears to have been vanquished.

Or has it?

Superficial signs of renewed inflation are everywhere: Oil prices appear to be stabilizing, and concern is growing about future supply shortages (which, by extension, could lead to higher prices at the pump). The stock market has staged an impressive rally, with expectant bulls and former bears finding for "green shoots" of economic growth everywhere. Home prices, if you look purely at the data and ignore fundamentals, are starting to slow their fantastic decline.

Even the consumer price index, or CPI, is looking tame. Well, except for last month's drop, the largest in more than 50 years.

And herein lies the problem.

The CPI, the market's favorite inflation gauge, has been masking the structural deflation in our midst since the housing market fell of its wheels almost 4 years ago. Given the precipitous drop in property values, one would naturally expect the housing component of the CPI to fall in kind. Not so.

The statistical alchemists, err, experts, at the Bureau of Labor Statistics use something called "owners equivalent rent," OER, to measure consumer housing expenses. OER tries to approximate the cost to rent the country's typical home, and according to the Wall Street Journal makes up 24% of the CPI and 31% of the core CPI, which backs out food and energy costs.

And since even as property values have slid in record-breaking fashion rents remained buoyant, OER has vastly understated the drop in home prices. This means the CPI -- were it to reflect some sort of economic reality -- would have fallen more than it actually has.

As the housing slump rolls on, the pain is increasingly being felt by landlords, not just owner occupiers. Rents in big cities like New York and San Francisco are already dropping, as would-be tenants demand concessions from property owners. Vacancies are increasing, as even those driven from the housing market by foreclosures and the tight mortgage market can't fill up empty apartments, condos and track homes.

Drive around suburbia and "For Rent" signs are nearly as common as "For Sale" signs.

Rents are likely to keep falling and as a result, OER could begin to drag down the CPI. Of course, statisticians can and likely will play games with adjustments for volatile energy prices (renters often don't pay for utilities, so energy costs are backed out of OER). Further, government bean counters are even considering adapting OER to reflect new, high levels of home ownership (just in time for a reversion to the historic mean, thanks for being ahead of the curve guys).

As long as construing economic data in a way that makes it seem more likely for effectively insolvent financial institutions like Bank of America (BAC) and Citigroup (C) to raise capital and remain in business, that will remain the status quo.

Meanwhile, back in reality, saving is now en vogue, deleveraging is ongoing and the repayment (and destruction) of dollar-denominated debt will keep inflation in check for the foreseeable future. More importantly, the recognition that smaller can be better and less can be more are becoming entrenched in the lives of ordinary Americans.

Don't believe the hype: Deflation isn't going away any time soon.

Advertising Enters the Age of Ire

2009-05-18T15:45:00.000-04:00

This post first appeared on Minyanville.

The days of a blissful toucan crooning over a rainbow of fruit flavors appears to be gone: Advertising has entered the Age of Ire.

It's no secret Americans are seething over the seemingly endless parade of frauds, scams and blowups emanating from the narrow streets of lower Manhattan. Wall Street is under siege, both in headlines and in living rooms across the country. And in a trend that kicked off last summer with a Harley Davidson (HOG) ad campaign that decried corporate greed, advertising is becoming increasingly reflective of public outrage.

The New York Times chronicles a series of companies tapping into America's pervasive fear and outrage in order too woo customers.

Jetblue (JBLU) is offering mock sympathy and soft leather seats to CEOs who can no longer afford to scoot about in corporate jets. Eastman Kodak (EK), long known for it's friendly, non-abrasive image, is highlighting the $5 billion wasted each year overpaying for ink cartridges. Sales, according to the company's chief marketing officer, are up.

That marketing comes to reflect changing social mood should be no surprise to Minyans, as Professor Kevin Depew has long advanced the notion that media follows mood, not the other way around.

Socionomics is the study of the interplay between public sentiment and economics, postulating that groups of people act as crowds in measurable patterns that emerge over long periods of time. These shifts drive not just what appears on TV and print, but our perception of it.

In terms of economics and as measured by the stock market, when social mood is positive, people are happy and optimistic about the future, eager to empty their pockets and take on risk. This buoys profits and drives up stocks. When mood darkens, however, consumers retrench, risk is shunned and the economy -- and by extension the stock market -- heads south.

The current shift in social mood isn't transitory - this isn't merely passing outrage at bonuses paid to American International Group (AIG) traders or Merrill Lynch (BAC) executives; a quarter-century of debt-fueled excess doesn't get reversed in a matter of months.

No, the new economic reality of paying with cash and making ends meet sans cash advance from Capital One (COF) will be around for a while.

We had better get used to it.

America: Home of the (Debt) Free

2009-05-18T15:44:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Freedom is back in vogue: Americans are finally growing tired of living in the shackles of debt.

According to the Wall Street Journal, government-led efforts to jumpstart lending are being derailed by weak demand for new loans. As the recession rolls on, an increasing percentage of consumers are opting to pay with cash or (gasp) save their hard-earned money.

Initiatives like the Term Asset-Backed Securities Loan Facility (TALF) aim to free up consumer credit by supporting the market for asset-backed securities. The Federal Reserve and Treasury Department hope their efforts will enable American consumers to start spending again.

During the boom, fixed-income investors snatched up bonds backed by all types of debt - credit cards, auto loans, and, of course, mortgages. High demand for these seemingly safe investments pushed down interest rates, which stretched consumers' budgets to the brink - and beyond.

But now that investors have been badly burned by such investments, they're shying away from the market almost entirely. Without Wall Street's securitization machine, there's simply nowhere to put new consumer loans.

After years of gorging on cheap credit, Americans are reverting to more responsible fiscal lifestyles. Savings are up, spending is down - which is as it should be. This is reducing the urge to borrow and thwarting Washington's plans to pass the bailout buck down to taxpayers.

Every dollar we don't spend or don't borrow is another that could potentially be handed over to effectively insolvent financial firms like Citigroup (C), Bank of America (BAC) and American International Group (AIG), or failed automakers like General Motors (GM) and Chrysler.

That task is growing increasingly dicey, as it becomes clear that using debt to fix a system already crippled by debt is patently absurd. And even as the US government loads up on borrowing, consumers are doing the right thing: getting out of hock.

Government Reduces Risk - But Also Reduces Reward

2009-05-18T15:43:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

In its ongoing attempt to rewrite the rules of what's quickly becoming our quasi-capitalist nation, the Obama Administration is weighing options that would expand compensation restrictions to all corners of the financial-services industry.

According to the New York Times, well-publicized efforts to rein in executive pay at firms that accepted TARP money could extend to companies that have thus far stayed off the government dole. In other words, the spottily regulated world of hedge funds and private equity could be subject to some of the same restrictions faced by their government-subsidized competitors.

However unpleasant, firms like Citigroup (C) and Bank of America (BAC) (both in hock to the US taxpayer for hundreds of billions of dollars) have lost their right to be the masters of their own executive compensation destiny. On the other hand, pay at hedge funds that haven't touched a penny of government money should be determined by the firms themselves.

Since he took office, President Obama has been a loud advocate for pay that's closely tied to performance. The prevailing view in Washington is that Wall Street traders were able to take on massive risk -- either their firm's or their clients' -- without feeling much pain if the bets went sideways. This led to excessive risk-taking, and the kind of near-criminal alchemy that ultimately blew up the financial lab.

And while this is true to an extent, the result of this typical government overreaction will be a system reduction of risk - and by extension, of reward. Financiers, entrepreneurs and businesspeople of all types engage in risky behavior every day - which is what keeps the economy humming.

Systematically reduce the incentive to take risks, and economic output will slow. It's simple math.

Already, even as Washington bumbles its way towards legislation on executive pay, what's left of the free market is sorting things out on its own.

Raising capital is well-nigh impossible for upstart hedge funds, as even management teams with strong credentials are struggling to get off the ground. Existing funds, most of which remain below their so-called "high-water mark" (the level at which juicy performance incentive fees kick in), won't see big bonus payouts until well into 2010.

This is the market at work, punishing bad actors -- even ones that were just marginally bad -- and creating an environment where only the most astute, talented, and driven can succeed.

By contrast, as policymakers look to make up for years of ignoring their fiduciary responsibility to safeguard the public interest, we're witnessing the development of an economic system that benefits only the most well-connected.

Needless to say, this is an unwelcome progression.

Goldman Posts Bail for Subprime Crimes

2009-05-18T15:41:00.001-04:00

This post first appeared on Minyanville

File this in the "too little, too late" category.

Goldman Sachs (GS) is being forced to pony up $60 million as part of a settlement with the Massachusetts attorney general, who was investigating the firm's role in predatory subprime lending in its state. Under the terms of the agreement, Goldman agreed to reduce principal by as much as 30% for first liens and up to 50% on second-lien mortgages it holds directly, or those being serviced by Litton Loan Servicing Inc., of which it is part owner.

The settlement will help around 700 residents of Massachusetts, and according to the New York Times, is the first settlement involving Wall Street's role in subprime lending.

Goldman isn't the first lender do be punished for perceived wrongdoings during the mortgage boom. Countrywide, whose operations were purchased by Bank of America (BAC) last year, had to pay more than $8 billion as part of a settlement with California, Illinois, and Florida over its predatory lending practices. Washington Mutual (JPM) and Wells Fargo (WFC), other big issuers of subprime loans, are contending with legal battles of their own.

And while much ire is being directed at the banks handing out the loans -- especially Goldman -- the Massachusetts settlement is a scantly punitive slap on the wrist.

For Goldman Sachs -- a firm that received more than $10 billion in payouts from soured bets placed with American International Group (AIG) -- $60 million is the change that's leftover when the company empties out its laundry-room lint catcher; a mere rounding error on a balance sheet made up of hundreds of billions of dollars of assets and liabilities.

The agreement is yet more evidence that regulators, besieged by their inability to control the lending institutions it was their charge to keep tabs on, are now resorting to cheap public-relations ploys under the guise of legal culpability to prove their worth.

If Massachusetts really wanted to make a statement about Goldman's role in the subprime crisis -- which was not insignificant, given it was not only a packager of securities but a lender to subprime-mortgage firms of all shapes and sizes -- it would decry Goldman's attempt to get off so easy.

It's a little like catching a bank robber, and so abhorred at his amoral actions, you ask to borrow a couple bucks in bus fare, send him on his way, then laud your crime-fighting and prosecutorial prowess.

Those truly at fault for our financial crisis will likely never be brought to justice, partly because culpability must be spread across so many disjointed actors - big and small fries alike. The important task for regulators and lawmakers now -- and one w they seem destined to fumble -- is ensuring the system is built on a stronger foundation moving forward.

This doesn't mean overzealous restrictions on a bank's each and every expenditure. It doesn't mean capping interest rates and loan terms so banks hand out credit cards to only the most credit-worthy borrowers, leaving a huge swath of the population without proper banking services. Nor does this entail trashing the currency to reinflate our way out of a mess caused by dollar debasement and too much access to credit.

The right solutions require not just good planning, but political will to spurn the Washington political machine and its desire to usurp the power of the free market for the benefit of an ever-shrinking group of the privileged, well-connected elite.

Mortgage Rates Still Not Allowed to Return to Normal

2009-05-11T14:38:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Despite Herculean efforts, the Federal Reserve is losing its battle to keep mortgage rates at all-time lows.

As fear that we're headed for imminent collapse slowly wanes, investors' appetite for risk is coming back. This renewed confidence has helped buoy stocks, and the major equity indices have rallied more than 30% from their March lows. The shift, however, has come at the expense of the Treasury market, which has been in a 7-week slump.

According to Bloomberg, big money managers like Blackrock (BLK) are betting the Fed will step in to support the Treasury market (again), as regulators hope renewed Treasury purchases will push down mortgage rates (again).

Bond prices and yields move in opposite directions. When investor demand falls, so do prices, pushing up yields. And as investors shun the safety -- but relatively low return -- of government-backed debt, the impacts are felt throughout the credit markets. Of concern to the Fed, and what has led Chairman Ben Bernanke to increase Treasury purchases in the past, is the effect this dynamic has on mortgage rates.

A mortgage is nothing more than a long term bond, given to a borrower to purchase a home. So when lenders get fearful they're not being compensated for tying up money for as long as 30 years, they increase rates. Further, as the specter of inflation rises, lenders demand bigger interest payments to keep up with higher prices. In other words, when dollars in the future are worth less than dollars today, banks demand higher payments to make up the difference.

Keeping mortgage rates low has been a cornerstone of Washington's efforts to jump start the flagging housing market. But with rates at the highest level since April, the "smart money" is betting the Fed may return to the Treasury market en masse.

Paradoxically, even as the Fed tries to keep interest rates low -- which are rising in part due to the expectation that higher prices loom in the years ahead -- its actions increase the likelihood of future inflation. Running its printing presses around the clock has consequences, even if Fed officials are loathe to admit it.

Minyanville's Mr. Practical often discusses the fallacy that credit markets are improving. As he points out, only in corners of the market where the government has stepped in to support lending is any so-called "normalcy" returning.

So too in the mortgage market.

Loans backed by Fannie Mae (FNM), Freddie Mac (FRE) and the Federal Housing Administration account for the lion share of mortgages currently being issued in this country. Aside from the occasional jumbo loan written by banks like JPMorgan (JPM) or Wells Fargo (WFC), government mortgages are the only game in town. Coupled with the Troubled Asset Lending Facility (or TALF), which funnels money into the market for mortgage-backed securities, the home-loan market remains completely dependent on government support.

This is one reason recent "strength" in the housing market will provide transitory. There's a limit on how much government can control markets, as evidenced by mortgage rates that move persistently higher every time the Fed eases its aggressive intervention. Fundamentals, not subsidies, will provide a true floor in prices.

And as banks prepare to unleash a firestorm of foreclosure inventory into the market, fundamentals will remain pointed south, thereby pushing down prices. And as foreclosures continue to infect higher end real-estate markets, these price declines will be felt by a growing -- and more prosperous -- segment of the population.

Mortgage rates, left to their own devices, would be far, far higher without government support. This is the message of the market - one bureaucrats in Washington seem unwilling to learn.

Keepin' It Real Estate: Subprime Lending Is Back With a Vengeance

2009-05-11T14:36:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Just when you thought it was safe to go back in the water... Subprime lending has come roaring back.

But this time, reckless financial innovation isn’t being hatched on Wall Street. Instead, state governments are angling to “monetize” first-time homebuyer tax credits so borrowers can purchase homes with little or no money down.

If this sounds eerily similar to the type of lending practices that got us into this mess, well, it should.

The federal government, as part of the recently passed economic stimulus package, will refund first-time homebuyers up to $8,000 if they meet certain eligibility requirements. The program is frequently cited as one of the myriad reasons a bottom in the housing market is imminent.

Critics, however, argue that rebates don't end up in a buyer’s pockets until his or her 2009 tax returns are filed - even though rebates are credits, not just deductions.

Homebuilders like Pulte Home (PHM), Lennar (LEN) and KB Home (KBH), along with their lobbying arm, the National Association of Homebuilders, have thrown their full weight behind the rebate program, but say it still doesn't go far enough.

In an effort to boost home buying -- even for marginally qualified borrowers -- a number of states are finding creative ways to advance the tax credit to buyers on the day they get their new keys, rather than having to wait for next year's refund check. This allows buyers to pay for things like closing costs, mortgage points - or even the down payment.

States are employing schemes whereby they offer prospective buyers low or no-interest loans for the amount of the tax credit, due upon of receipt of their money from Uncle Sam. If the borrower doesn’t make good, the loan becomes a junior lien on the property, with an interest rate that is far from usurious - usually just a bit over the prime lending rate.

Missouri was the first state to launch such a program, and has since been joined by Delaware, New Mexico, Pennsylvania, Tennessee and others. States are even lobbying the IRS to deposit the refunds directly to the states, rather than to the home buyers, in order to circumvent non-payment. The IRS, for its part, “is reviewing” this idea.

In Washington, the state Housing Finance Commission runs a tax credit bridge-loan program, which it hopes will grow in the coming months. Not surprisingly, local real-estate professionals are behind the initiative. Washington Association of Realtors president Bill Riley told the San Francisco Chronicle he believes around half of would-be first-time buyers in his state “cannot save enough money for the down payment and closing costs.”

Exactly. That’s the point. This is precisely what differentiates a “would-be” home buyer and a home buyer. And that’s the way it should be.

If the federal government wants to subsidize home ownership, fine. It's already proven unwilling to learn the lessons of Fannie Mae (FNM) and Freddie Mac (FRE) about the costs of jamming borrowers into homes they can't afford. But these rebates should at least be limited to borrowers that meet even the most modest requirements to buy a home in a responsible manner.

The Federal Housing Administration -- another vehicle for government-backed mortgages where taxpayers bear all the risk -- gives out loans that require borrowers to post a meager 3% down payment. If a “would-be” homeowner cannot scrape together this amount of cash, that person should rent and save their pennies. They should not receive a no-interest loan from the state government. This is not discrimination, this is not redlining, its common sense.

In a rush to prop up home prices and delay the ultimate day of reckoning for the vast majority of US real-estate markets, the federal government -- and now state governments as well -- insist on coercing taxpayers to over-leverage themselves and take on a debt burden they cannot truly afford.

From the looks of it, Washington is leading by example.

Will the US Dollar Survive?

2009-05-08T02:41:00.000-04:00

This post first appeared on Minyanville.

Battle lines are being drawn. Sides chosen. Allegiances cemented.

But this war won't be waged with bullets; instead, it will be fought with words and ideas. The dollar wars are heating up.

Just a few weeks ago, the governor of the People's Bank of China, Zhou Xiaochuan, made unambiguous comments about his country's desire for a single, international currency. Gone, he said, were the days when the money of choice for global trade was that of a single sovereign nation. Russia, along with a host of other nations only moderately friendly to the US, expressed similar sentiments.

Today, firing back against the single-global-currency crew, Saudi Arabia, Bahrain and Qatar reaffirmed their support of the dollar. Bloomberg reports the 3 Gulf nations have no plans to abandon their US dollar pegs, applauding its resilience in the face of crisis.

Last summer, as the dollar tanked and inflation soared, experts feared these and other countries would push the dollar from its place atop the currency hierarchy. But amid signs that the US economy may no longer be in freefall -- and the rapid repayment of dollar-denominated debt -- the greenback has rallied more than 10% off its July 2008 lows.

Geopolitical grandstanding aside, the fate of the dollar and American corporate profits are inextricably linked. Corporate profits and jobs are also closely linked.

Big multinationals like Wal-Mart (WMT) and IBM (IBM) earned windfall profits by converting international revenue into dollars at favorable rates. As the greenback lost value over the last decade, those euros, pesos and reals earned abroad translated into bigger and bigger numbers when tallied here at home.

The dollar's recent strength has turned a windfall into a headwind. In the past month, MasterCard (MA) and McDonald's (MCD) blamed weak profit figures, in part, on the strengthening US currency.

And that's the high-wire act currently being performed by Federal Reserve Chairman Ben Bernanke and other US monetary and fiscal bureaucrats: A weak dollar buoys corporate profits, even as it keeps prices rising at home. Strengthen the dollar to combat inflation, and exports -- along with profits -- slump.

We've reached the critical juncture. After 18 months of running the printing presses around the clock to keep our economy out of the morgue, the relative wisdom of the Fed's ways will become increasingly clear.

At stake isn't just bragging rights on the global economic stage, but the integrity of the little green bills that keep the global economy running - the same ones each of us still uses to buy bread.

Wall Street Brokers Seek Out Greener Pastures

2009-05-08T02:35:00.000-04:00

This post first appeared on Minyanville.

Wall Street securities brokers are having a tough go of it.

With nearly $7 trillion in US equity value wiped out since the bear market began, assets under management -- a key component of brokers' earnings -- are down sharply. Trading activity has slowed too, and with it, the fees they generate to arrange transactions.

Some brokers are leaving firms like Morgan Stanley (MS) and Merrill Lynch (BAC) on their own accord, seeking the freedom of trading their own account. Others are being shown the door or leaving Wall Street altogether. Low producers are faring the worst - at Swiss banking giant UBS (UBS) 600 brokers that bring in less than $260,000 in annual fees are losing their jobs. According to the Wall Street Journal, 2009 is on pace to see the biggest exodus of brokers in 15 years.

And of the myriad headwinds facing today's broker, the greatest is perhaps the public's growing aversion to risk.

Money has been moving away from stocks and bonds -- the typical broker's cash cows -- and into the relative safety of money-market funds and secured deposits. These low-risk investments carry paltry fees, much to brokers' chagrin. But with our economic future still highly uncertain, the investing public is coming to appreciate Mark Twain's adage that the return of investment trumps the return on investment.

This isn't just some transitory shift away from risk that will swing back as soon as the economy gives the all-clear (as if such a definitive message even exists). Americans' education on the perils of too much risk-taking without enough reward is ongoing, and those that believe we're at the bottom of this economic cycle have a fundamental misunderstanding of how we arrived at this juncture in the first place.

Decades of easy money and a government complicit in bailing out the most reckless risk-takers fostered a generation of economic actors with no frame of reference for truly challenging economic times. This mindset -- the entrenched belief that "what goes down must then go up" -- is still pervasive. It's changing, to be sure, but these are time-intensive structural shifts that can't be measured in tweets.

As risk aversion grows, savings increases, and thrift becomes mainstream, the old way of investing and spending is beginning to seem like the distant past. Make no mistake, this is a positive change; one that will enable our economy -- and indeed our country -- to build a stronger foundation from which real, sustainable economic expansion and an increase in our standard of living can grow.

401k's to Clients: No, You Can't Have Your Money

2009-05-08T02:33:00.001-04:00

This post first appeared on Minyanville.

Remember all that money you socked away in your 401(k)? As financial markets continue to reel after 2 years of turmoil, pulling out your cash may be no easy task.

The Wall Street Journal reports certain 401(k) fund administrators are limiting and even blocking withdrawals, due to mounting losses and the illiquidity of underlying assets. The restrictions come at an inopportune time for investors, as job losses and general financial hardship are forcing many to tap retirement savings earlier than they'd hoped.

Investment funds tied to real estate are having more troubles than most.

The Principal US Property Separate Account -- a fund that invests in office buildings in other properties managed by Principal Financial Group (PFG) -- is restricting withdrawals. According to a company spokesman, selling assets into an illiquid market to generate cash for client requests would cause losses for all fund participants. And while investors claim they knew the fund was riskier than your standard diversified equity fund, few expected their principal to be tied up for an indeterminate period of time.

To complicate matters, certain plan administrators who invested in more traditional securities lent out portfolio holdings to other investors in exchange for collateral that was supposed to be safe and secure. They did this to earn a small profit to cover administrative fees, purportedly for the benefit of their clients. But when credit markets went haywire, collateral -- such as the Lehman Brothers debt some funds had received -- plummeted in value or became otherwise hard to trade.

Similarly, selling securities into a distressed market isn’t an attractive option for money managers billing themselves as stern guardians of their clients’ money. Even State Street (STT), one of the country’s most prudent banking operations, has limited client withdrawals in some of its securities-related funds.

As policy-makers cross their fingers that stimulus efforts will work their magic, the damage wrought by this unprecedented market dislocation is still migrating from Wall Street to Main Street. As Minyanville’s Kevin Depew wrote back in July of last year: “As the echoes of Wall Street's drunkenness trickle down to Main Street, the real impact of a consumer-led slowdown will begin to appear, and the vapidity of the 'all is well' chorus from bankers and brokers on The Street will be revealed.”

Thirty years of gluttony, in which our country (indeed, the world) feasted on cheap and easy credit, aren’t worked off in a mere 18 months of government-induced economic “recovery.” As time rumbles on, the smoke and mirrors that maintain our illusory financial strength will collapse, revealing the wreckage underneath.

Rather than fear this eventuality, we should rejoice in it. Hardship will be an arduous path to a truly stronger foundation.

The Five Questions You MUST Ask Your Realtor

2009-05-04T15:26:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

As a growing number of economists, pundits and real-estate professionals assure us the housing market's worst days are over, prospective home buyers need a trusted advocate to make sure they don't end up on the wrong side of someone else's trade.

More often than not, that person will come in the form of a real-estate professional working on the buyer's behalf and earning a commission for their trouble. Below are 5 simple questions you can ask to gauge whether a given candidate is looking out for your best interests - or his or her own.

But first, a word on terminology.

The terms "agent," "broker" and "realtor" are often thrown around interchangeably. This isn't exactly right. While laws differ from state to state, acquiring a broker's license typically requires a series of courses on real estate practices, principals, finance, law, appraisal and the escrow process. A broker can use his license to form a brokerage, and the company can then perform services as a licensed entity.

In many states (like California) a licensed broker can not only conduct real estate transactions, but earn commissions for arranging mortgages and other types of real estate-related loans. For this reason, a brokers license offers the holder huge potential earnings power.

An agent is a step below a broker. While requiring a license, an agent is normally treated as an employee of the broker and thus the broker is responsible for the actions of the agents under his charge. If an agent screws up, his reputation (and license) as well as his broker's is on the line. Agents can typically conduct the same transactions as a broker, but must do so under the supervision of their boss.

Finally, the term "Realtor" is used to specifically identify a real estate broker or agent who is a member of the National Association of Realtors, or NAR. The NAR is a nationwide trade group that collects member dues, lobbies in Washington and runs marketing campaigns urging Americans to buy homes. The NAR is conspicuous in its role as national housing cheerleader, as it's chief economist Lawrence Yun has been predicting an imminent bottom in prices since early 2006.

1. Is it a good time to buy?

Of any question a buyer is likely to ask his broker (or agent), this may be the first. And the most important. The answer itself isn't nearly as important as how the broker responds.

Any broker that says definitely that yes, this is a great time to buy, should be eyed with skepticism. Without knowing a buyer's specific circumstances, understanding localized market trends and the underlying value of a specific home, saying it is a great time to buy is a sales pitch, pure and simple.

Brokers will often cite low interest rates, high levels of affordability, low replacement costs and home prices that have fallen precipitously from their peaks as reasons its never been a better time to buy. But ask yourself, all those conditions were true six months ago -- was it a great time to buy then?

The proper response to this question from a responsible broker is to answer the question with a question, or questions. How much money have you saved? How long do you plan on owning the home? How much money do you make? How much is your other debt service? What are your contingencies if you lose your job? How is your credit? What are your other motivations for wanting to buy?

Only armed with answers to these and other questions can a broker -- or a buyer for that matter -- determine whether its the right time to buy.

Banks Spurn Government Aid

2009-05-04T15:24:00.001-04:00

Fool me once, shame on you; fool me twice, shame on me.

American banks are tired of playing the fool.

Results from the so-called stress tests -- administered by regulators to determine the health of 19 key lending institutions -- are being leaked to the press, even as the official announcement of the findings has been delayed for a third time.

Banks -- specifically Citigroup (C), Bank of America (BAC), and Wells Fargo (WFC) -- aren't happy with the results. According to the New York Times, early indications are that certain key institutions will be forced to raise capital, sparking renewed backlash against government intrusion into the banking industry.

As confusion reigns, rules continuously change, and federal lending programs produce decidedly lackluster results, the refrain among this country's banks is that they'll solve their problems without Washington's "help," thank you very much.

To be sure, certain firms are already in too deep.

Bank of America and Citi, for example, have already accepted tens of billions in capital and hundreds of billions in federal backstops against loan losses. They have little choice but to submit to Washington's will. To wit: Citi -- having learned a hard lesson from the AIG (AIG) bonus debacle -- is now asking for government permission before handing out any money.

Smaller banks, and those that aren't in nearly such dire straits, see government money as tainted. JPMorgan Chase (JPM) CEO Jamie Dimon said last month that his bank wouldn't "borrow from the federal government, because we've learned our lesson about that."

Bryan Jordan, who runs First Horizon National (FHN) out of Memphis, Tennessee, said his bank was better off working through troubled assets rather than selling them on the open market.

Regulators, engaged in aggressive ad-hockery for the better part of 2 years, have lost credibility. Congress, engaged in egregious political grandstanding, has lost what little trust it had to begin with. Banks, engaged in a fight to remain solvent as well as independent, want to avoid both.

The more Washington insists on influencing the day-to-day operations of the firms it props up, the less inclined banks will be to accept help. Those that can afford to go it alone will do so - even if it means shrinking their operations. This, in turn, could prolong the recession - even as government efforts strive to do the opposite.

Go figure: Central economic planning doesn't work.

Government to Banks: We Recommend Throwing Good Money After Bad

2009-05-04T15:22:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Every month, it seems, Washington dreams up new and fantastic ways to funnel taxpayer money towards a growing list of undeserving recipients.

Now, in the latest attempt to coerce banks into modifying delinquent mortgages en masse, the Treasury Department plans to offer cash incentives to lenders who lower interest rates or forgive principal on second liens (so-called "piggyback" loans). According to Bloomberg, the new program aims to simplify the modification process and help struggling borrowers avoid foreclosure.

The subprime second lien was a highly profitable, nearly usurious loan product that proliferated during the housing boom. Once reserved for high-quality borrowers and those with sufficient equity in their homes, seconds became an easy way to jam borrowers into homes they couldn't otherwise afford.

If a homeowner wants to take out a first mortgage for more than 80% of the home's value, he or she is typically required to take out mortgage insurance, issued by firms like Radian (RDN), MGIC Investment Corp (MTG) and the PMI Group (PMI). For years, the cost of insurance -- plus the required down payment -- limited home ownership to those who, by and large, could afford to buy responsibly.

But as housing demand ballooned from 2002 to 2005, banks discovered they could just loan borrowers the down-payment money - and charge a hefty fee to do so. Without those pesky requirements -- and by bypassing the sometimes strict credit guidelines of mortgage insurers -- banks were able to open up their loan products to a whole new group of unqualified borrowers.

Second liens, by virtue of being subordinate to first liens, carry additional risk, and thus a higher interest rate. In other words, if a borrower defaults, the holder of the second lien has to wait until the first mortgage holder is made whole before getting paid.

And since seconds carried super-high interest rates, securities backed by this type of loan offered juicy returns for investors. It should come as no surprise that the second-lien market was dominated by Bear Stearns (now JPMorgan (JPM)), Countrywide (now Bank of America (BAC)), and Citigroup (C) (now in hock to Uncle Sam for a cool $300 million).

Now, the Obama Administration wants to give billions to not only the banks who wrote these loans, but the borrowers who accepted them. The program is destined for failure.

In fact, it's already failed.

A little over a year ago, Fannie Mae (FNM) and Freddie Mac (FRE) introduced an initiative called the "HomeSaver Advance." Under the program, borrowers behind on their mortgage payments could take out an unsecured line of credit to get current. Under this program, Fannie and Freddie lent out $462 million over the course of the next 12 months.

Now, based on current market prices, the loans are worth a whopping $8 million, or $0.017 cents on the dollar. Talk about throwing good money after bad.

The President's initiative to modify seconds is no different: It takes a situation destined for foreclosure and simply prolongs the agony. This prevents the borrower from getting out from under his mountain of debt and starting anew. Meanwhile, homes become ever more dilapidated, and banks further delay their own days of reckoning.

The rationale for this program is obscure - though it does provide yet another way to hand taxpayer money over to the very banks who got us into this mess in the first place.

Chrysler Down, Not Quite Out

2009-05-04T15:21:00.000-04:00

This post first appeared on Minyanville.

Chrysler isn't going down without a fight.

Just days after major media outlets reported a Chapter 11 bankruptcy filing was imminent, the struggling automaker appears to have made headway in negotiations with key labor unions. The breakthroughs offer a glimmer of hope for a company many wrote off months ago.

According to Bloomberg, cost-saving agreements are essential if Chrysler is to merge with Italian-based Fiat and qualify for more government aid. As the Washington-imposed April 30 deadline to cement a deal with Fiat looms, the last-minute negotiations represent Chrysler's last hope to avoid bankruptcy.

The Canadian Auto Workers have already ratified money-saving measures, while the United Auto Workers (UAW) is set to vote on new terms already agreed to by union leaders. The UAW stands to pick up a 20% ownership stake in the new, restructured Chrysler, in exchange for letting the company contribute around $10 billion less to it's health-care trust fund.

The race to save Detroit is reaching a crescendo: If government demands aren't met, bankruptcy nears for not only Chrysler, but General Motors (GM). GM, for its part, isn't finding its offer to swap debt into equity terribly popular with the owners of that debt.

Ford (F) is still hanging on -- despite record losses in the first quarter -- without the egregious government support afforded its floundering competitors.

In defense of its decision to bail out GM and Chrylser last December, the Bush administration told us bankruptcy wasn't a viable option, as such an event would result in millions of job losses. For an economy already hanging on by a thread, the implications were too dire to consider.

Detroit -- despite its fortuitous NFL draft over the weekend -- is on life support. And now, after the changing of the Presidential guard, bankruptcy appears to be not only acceptable, but the Obama administration's preferred outcome. And if we've learned anything in the first 100 days of President Obama's term, it's that where government control of industry is involved, always bet on Washington.

In memory of our fallen friend and trusted colleague, Bennet Sedacca, 100% of the donations made to the RP Foundation through April will be channeled to philanthropic endeavors consistent with the RP mission, working closely with the Sedacca clan in the distribution of those funds. We thank you kindly for your support as we strive to effect positive change in the lives of children.

Nobody Move!

2009-05-04T15:20:00.000-04:00

This post first appeared on Minyanville.

Shipping 21 boxes and over 700 pounds of clothes, books, sheets, spoons, blenders, blankets, old letters, photographs, and half-written, sure-to-be-Pulitzer-Prize-winning novels isn’t cheap.

(FedEx (FDX) shareholders, you’re welcome, by the way - I single-handedly supported your bottom line.)

But I’m in the minority: Moving across the country just ain’t what it used to be.

According to the New York Times, Americans are staying put as the souring economy drains us of any inclination toward mobility. The Census Bureau reported Wednesday that people who changed residences reached the lowest number since 1962 - even though 120 million more people live in this country now than did 47 years ago.

And while this trend doesn’t bode well for FedEx, UPS (UPS), and other companies that move stuff around, it poses a greater threat to the economy as a whole. Our country has benefited mightily from the mobility of its labor force, as employees willing to travel to new job opportunities help spread skills around in the most efficient manner possible.

This is a good thing, as capital and resources are allocated more effectively throughout the economy. And while many are hoping our economy is looking up and Americans will return to their move-happy ways, longer-term structural shifts are unfolding that indicate this may be wishful thinking.

Minyanville’s Kevin Depew often discusses risk and time preferences when explaining social mood. When people are happy and optimistic, they're willing to take risks and examine choices with a long-term outlook. On the other hand, when social mood darkens and pessimism reigns, decisions are made by examining a time horizon that becomes increasingly short, as uncertainty clouds even the most near-term economic outlooks.

Take moving. Sure, schlepping out to New York (then back to California, then back to New York, then back to California) is dicey, but when jobs abound, it's worth the risk. On the other hand, when employment is scantly available and cash is scarce, even moving for a promising job causes the risk-inclined to think twice.

This unwillingness to move, to uproot, or to add uncertainty to an already uncertain life, isn’t just some transitory phenomenon. As noted in the Times, a dual-income family has a much harder time relocating than the traditional single-earner household, since 2 jobs rather than one must be found anew. And even though home prices are tumbling throughout the country, it's still pretty hard to make ends meet without doubling up on income.

After decades of unprecedented “prosperity” created in part by debt-fueled excesses, the US is retrenching back towards a more sustainable, rational way of life. This is a positive development, however painful it is during the transition.

And as for me and my boxes, I’m emptying out my storage locker -- much to the chagrin of Pubic Storage (PSA) -- and adding to the clutter of a friend’s crowded basement. Let's hope those beat-up boxes are up for another 3,000-mile journey - I'm due in exactly 23 months.

Chrysler Down, Almost Out

2009-05-04T15:17:00.002-04:00

This post first appeared on Minyanville.

It was only a matter of time.

What began months ago with the big 3 automakers -- Ford (F), General Motors (GM) and Chrysler -- begging for federal assistance as car sales dried up and credit markets froze, may soon be slogged out in bankruptcy court.

The Wall Street Journal reports Chrysler LLC is preparing to file for Chapter 11 bankruptcy as early as next week. The company's fate has been hanging in the balance since the Obama Administration ousted General Motors CEO Rick Waggoner last month and told Chrysler it had precious little time to merge with Fiat or find some other way to remain solvent.

Now, it appears, time has run out.

According to the Journal, the bankruptcy plans will be put in place irrespective of whether the embattled car company can come to terms with lenders or get Fiat to swoop in for the rescue. Ultimately, the resolution may involve bankruptcy as to wipe out certain debt and give Fiat the opportunity to sort through its various operations and pick the ones it wants.

Notably, the United Auto Workers union appears to support the plan, as it would end up owning a chunk of a rejiggered Chrysler.

And now that the US government is so intensely involved in managing the affairs of the Auburn Hills-based company, any Chrysler bankruptcy filing will ultimately have the stamp of approval of President Obama and his Treasury Department minions.

According to Bloomberg, in a statement issued after Michigan's Congressional contingent met with Obama's closest advisors, the group said "The administration and the companies must continue to prepare contingency plans to avoid liquidation or a protracted restructuring process."

We have entered an era in which corporations are terrified of going anywhere near our nation's capital. Even as the federal government doles out hundreds of billions of dollars, the strings attached are simply too strangulating for the money to be truly attractive.

Just look at Bank of America (BAC) CEO Ken Lewis, now embroiled in a fierce battle over details of the Merrill Lynch takeover: All that cozying up to Washington to support that lousy Countrywide purchase doesn't seem like such a great idea now, does it?

The Foreclosure Epidemic: The Bulldozers Cometh

2009-04-23T17:35:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Simply put: There are too many homes in America.

Travel to the outskirts of Phoenix, California's inland empire -- or even suburban Washington, DC -- and you'll find scores of vacant homes, for-sale signs, and soon-to-be ghost towns. Sprawling Lennar (LEN) cookie-cutter developments, Pulte Home (PHM) condos jammed against freeway sound barriers, mostly vacant strip malls - these are not the relics of dynamic social progress.

There are many who believe that superfluous developments in the so-called exurbs must be razed for housing supply to return to anything like sustainable levels.

But few expect the bulldozers to reach the urban downtown. Just as the "subprime" mortgage problem began in areas where economic fundamentals fell hopelessly out of sync with home prices, so too will urban renewal rise from the ashes of these communities.

Take Flint, Michigan, a city looking to shrink itself just to stay alive.

This once-proud industrial town 65 miles north of Detroit is embracing a trend which may eventually spread to cities throughout the United States: In response to seemingly endless economic woes, government officials in Flint are considering hastening the town's decline in order to rebuild anew.

The New York Times reports that city leaders have floated a plan whereby certain dilapidated neighborhoods would be razed to the ground, consolidating residents and businesses closer to downtown. The aim is to reorganize the population around fewer, more sustainable communities, thereby pushing run-down homes and empty lots to the outskirts of town.

While uprooting citizens is a prickly political topic, the county Treasurer and advocate of the shrinking of Flint grimly noted that "Not everyone's going to win. But now, everyone's losing."

Foreclosures, the latest in a series of economic epidemics to sweep Flint, are causing formerly vibrant communities to turn to dust. Genesee County, of which Flint is the largest town, in addition to Indianapolis and Little Rock, Arkansas, are tackling the foreclosure issue with county land banks. These publicly-funded institutions buy unwanted properties and rehabilitate them before squatters and vandals can take over.

Contrast this government-led form of community development with the policies now operative at Wells Fargo (WFC), Citigroup (C) and Bank of America (BAC) to leave bank owned homes vacant and ripe for vandalism, and you have an example of government policy that can speed up the recovery of a local real estate market.

And while Flint's situation may be unique in that it faces the twin headwinds of the auto industry's demise and the ongoing housing market collapse, it's root troubles are emblematic of towns across the country: Cities, expectant of growth that never came, supported development that proved unsustainable.

Myriad solutions have been proposed to solve this country's housing nightmare, but the simplest, and indeed the most effective may be to simply reduce supply the old-fashioned way, with bulldozers.

Keepin' It Real Estate: Beware The False Bottom in Housing

2009-04-23T17:34:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Residential real estate is about to get very weird.

In the coming months, housing-market data is likely to show price stabilization in many of the country’s hardest hit areas. Pundits, government officials and real-estate professionals will loudly proclaim the worst of our real estate woes are behind us. Back in reality, however, this data will simply reinforce the axiom that there are lies, damn lies, and statistics.

The lion share of home price declines have, thus far, been focused in low-end markets -areas where property values became the most detached from housing-market fundamentals. Even though the high end is now declining, sales activity is still heavily concentrated in the country's most distressed markets.

Taking a look at the data below compiled by my firm, Cirios Real Estate -- which depict sales transactions for the part of the San Francisco Bay Area between San Francisco and San Jose known as the Peninsula -- one can see how rising home prices from 2003 to 2007 shifted sales transactions towards more expensive properties. This makes intuitive sense, and should naturally push up both average and median home prices.

Click to enlarge

Since the market peaked, however, notice how the percentage of sales of homes under $400,000 shot up to more than 50% of sales in the first quarter of this year, from as low as 9% in 2007.

Conversely, sales over $1,000,000 that accounted for almost a quarter of transactions in 2007 now make up less than 9% of total sales so far in 2009.

This heavy concentration of sales in low-end markets is skewing home price data to the downside, exaggerating the impact of depressed markets on broad measures of prices.

As the foreclosure epidemic spreads outwards to more well-to-do areas, and job losses force previously stable homeowners to sell into a weak high-end market, more expensive homes will begin to make up a greater percentage of total transactions. This dynamic -- not an overall rise in property values -- is likely to push up average and median home price measures.

In other words, high-end markets will be falling as price discovery rears its ugly head, while low-end markets are flat at best, as price declines reach exhaustion levels and investors step in to buy. High levels of supply and looming shadow inventory of foreclosures will prevent meaningful appreciation in these distressed areas for the foreseeable future.

Meanwhile, data will show a housing market on the rebound.

No doubt, banks like Wells Fargo (WFC), Citigroup (C) and Bank of America (BAC) will cheer the end of the real-estate slump. Real estate professionals will pound the table that now's the time to buy (just like they said back in 2007). Government officials will proudly assert their mortgage-relief efforts were a success.

Nothing, however, could be further from the truth.

Consumers to Campbell's: No Soup For You!

2009-04-23T17:33:00.000-04:00

This post first appeared on Minyanville.

Given that Americans are embracing thrift, cutting corners and getting by on less, one could logically conclude canned-soup sales would be booming, as families opt to eat in rather than out. Logic, however, often fails.

According to the Wall Street Journal, consumer spending on food fell an inflation-adjusted 3.7% in the fourth quarter of 2008, the biggest drop since World War II. And it’s not just that consumers are turning to lower-priced options - they’re buying less, period.

Campbell’s Soup (CPB), a classic recession play for its affordable dinner options, is scrambling to realign its product offerings with changing consumer preferences. For example, a sales campaign offering 10 cans of condensed soup for $10 didn't boost sales as much as the company hoped. Research showed that while buyers liked the per-can price, they were reluctant to shell out more than was necessary for meals in the immediate future. In short, making rent takes priority over stocking the pantry.

Campbell’s, along with Kraft Foods (KFT), is trying to appeal to a clientele that wants to save a few pennies without settling for the same old boring fare every night. The Journal reports Kraft now has an iPhone (AAPL) application to help users manage shopping lists and search recipes, and Campbell’s is coming out with fancier canned soup options to appeal to a broader array of potential buyers.

This trend away from bomb-shelter grocery shopping and general extravagance may not just be some passing fad. Shoppers are stretching budgets further - not just by buying cheaper items but by simply spending less. And with the economic future cloudy at best, a swift return to gastronomic luxury is unlikely.

Budgets are back in vogue, and purchasing in bulk to save a few bucks isn’t as viable a grocery strategy as it used to be. This doesn’t bode well for Costco (COST), which banks on customers buying more soap, cereal or frozen chicken breasts than any normal family could possibly consume in months.

Credit, once the lifeblood of consumer spending, is well-nigh impossible to find. Coupled with the broadening repudiation of debt in general, frugality could be here to stay.

Pass the Spam.

Consumers to Banks: Give Us a Little Credit

2009-04-23T17:31:00.000-04:00

This post first appeared on Minyanville.

Even the Treasury Department's best attempts at statistical obfuscation can't hide the truth that credit remains off limits for most Americans. Banks -- despite billions in government handouts -- still aren't lending.

A Wall Street Journal study of lending data supplied by the 19 biggest recipients of TARP funds paints a decidedly less-rosy picture than does the Treasury's analysis of the same information.

New lending, as measured by aggregate loans made in February compared to last October -- which was the month then-Treasury Secretary Hank Paulson poured tens of billions of dollars into Goldman Sachs (GS), Bank of America (BAC), Citigroup (C) and other big American banks -- is down 23%. This tally, arrived at by the Journal, contrasts Treasury Department figures that measure the change in lending by looking at the median amount of new loans made by the same group of banks.

No surprise, government methodology arrives at numbers that make things markedly better.

And while no one data point can truly claim to be the best measure of the entire US lending environment, that government officials chose the method that supports their claim that borrowing is still possible for the most creditworthy Americans, shouldn't be surprising.

Even as the Treasury, Federal Reserve, FDIC and even Congress urge banks to make new loans, loudly assuring the American people the government has their best interests in mind, the borrowing public isn't listening: Americans continue to shun credit.

A spokesperson for JPMorgan Chase (JPM) said the bank aggressively made credit available "despite the fact that loan demand has dropped dramatically." This assessment is consistent with reports from community banks that consumers simply don't want to take on new debt.

About the only corner of the lending market that's booming is mortgages. Artificially low interest rates, falling home prices and aggressive marketing from the National Association of Realtors has led to a spike in new home loan originations.

Yet, as property values continue to spiral downward, banks like Wells Fargo (WFC), who tout their mortgage division as a strong earnings driver, are lending against an asset class that continues to tumble in value.

Increasingly, Americans are reassessing their own personal income statements. And with an economic future that's cloudy at best, taking on more debt isn't sounding like a great idea.

Not convinced? Examine the lengths to which automakers like Ford (F) are going to get buyers to open their wallets: payment insurance against job losses.

These sorts of marketing tricks are not dissimilar to teaser rates and no-money-down loans that were so prevalent during the mortgage boom. And we see how well that turned out.

Until Washington accepts the new reality -- that credit is driven not just by supply, but also demand -- we'll keep reading suspect analysis of data ostensibly supporting crackpot theories that credit markets have thawed, and a return to the go-go years of unsustainable economic growth is just around the corner.

Guns: A Better Buy Than Stocks

2009-04-23T17:28:00.003-04:00

This post first appeared on Minyanville.

Forget stocks and bonds, the real money's in guns.

The Wall Street Journal reports artillery enthusiasts are stocking up on guns and ammo, not necessarily ahead of widespread civil unrest resulting from our ongoing economic swoon, but as an investment. These trigger-happy speculators are betting President Obama will institute a ban on assault rifles, which would crimp supply and send prices, well, shooting up.

For it's part, the Obama Administration says it has no plans to enact such legislation and supports the Second Amendment right to bear arms.

During the federal ban on semiautomatic weapons from 1994-2004, prices soared. Recent buying has reached almost a frenzied pitch, creating backlogs for popular models and enabling resellers to list certain guns well above suggested retail prices. AK-47s doubled in price between September 2008 and the end of last year.

Ammo, as well, has become a hot commodity. As one supplier said, "[Ammunition] beats the hell out of money markets and CDs. You can double your investment in ammunition in a year."

Equity investors, too, are betting on Americans arming themselves to the teeth. Smith & Wesson (SWHC), maker of Dirty Harry's weapon of choice -- the .44 Magnum -- has seen its stock jump from around $2 per share to over $6 since Inauguration Day. Still, shares are off around 70% from highs seen as recently as late 2007. Sturm Ruger (RGR), another gun manufacturer, has seen a rise of almost 100% in 2009.

As Minyanville's Kevin Depew is apt to say, "These are heady times we are living in." The Journal running a front-page story on buying guns rather than stocks is indicative of just how strange things have become.

Recent volatility in financial markets is driving Americans to seek alternative ways to protect -- and even grow -- their money. And while we're yet to see widespread construction of bunkers, protective trenches or armed militias patrolling the streets, the country is on edge to an extent not witnessed since September 2001.

I mean, pirates are all over the news for god's sake. Pirates!

Banks Rev Up Foreclosure Machine

2009-04-23T17:27:00.000-04:00

This post first appeared on Minyanville.

For almost 2 years, we've been told government-backed loan modification efforts and foreclosure moratoriums would help ease the pain of the ongoing housing crisis. It's not working.

Despite recent calls to the contrary -- this morning's came courtesy of real-estate mogul Sam Zell -- residential home prices are still in free fall, and the bottom will remain elusive.

Picking up a trend noted weeks ago by housing blogs and other real-estate analysts, the Wall Street Journal reports banks and mortgage-servicing companies are pushing through foreclosures at the fastest rate in more than a year.

JPMorgan Chase (JPM), Citigroup (C) and Wells Fargo (WFC), 3 of the country's biggest loan servicers, scaled back foreclosure efforts in recent months at the request of the Obama Administration. Now, with the bans lifted, a new wave of repossessions are simply a matter of time. In California, notices of default and trustee sale, which precede foreclosures, spiked in March as moratoriums expired and lenders returned to "business as usual."

Banks, especially those collecting payments on behalf of Fannie Mae (FNM) and Freddie Mac (FRE), say they're doing everything they can to keep borrowers in their homes. But according to GMAC (GM), as few as 10% of struggling homeowners qualify for the Obama Administration's highly touted foreclosure prevention program.

The logical conclusion is that this new wave of bank owned homes being dumped onto the market will put even more downward pressure on housing prices. And while this is true on a localized, market by market level, widely monitored home price indicators may not tell the whole story.

As noted by the Field Check Group, a real-estate analysis firm, delinquencies on jumbo loans are rising at an alarming rate. This is consistent with trends we have been seeing over the past 6-9 months as prime defaults are now rising faster than subprime.

Currently, low-end, inexpensive homes dominate sales data, dragging down median and average prices. Foreclosures, however, are creeping into high-end markets, and coupled with high levels of inventory and weak demand, prices are tumbling. As forced sales become more prevalent and transactions rise in these well-to-do areas, expensive home sales will begin to represent a larger portion of transactions used in broad measures of prices.

In the coming months, we could see home price measures falling at a less severe rate as the data mix becomes less skewed towards the low end. The bottom will be cheered, recovery will be lauded by the spin machine known as the National Association of Realtors, and buyers around the country will be lured into a false sense of security that housing has finally hit rock bottom.

Meanwhile, back in reality, property values -- actual homes, rather than statistics -- will keep sliding.

Fannie, Freddie: Lights Are On, But No One's Home

2009-04-23T17:25:00.001-04:00

This post first appeared on Minyanville.

Who knew that working for a quasi-nationalized bureaucratic nightmare -- with the added bonus of becoming a national scapegoat -- was such a lousy gig?

At Fannie Mae (FNM) and Freddie Mac (FRE), high-level employees are leaving in droves, and replacements are proving to be few and far between. According to the New York Times, candidates are turned off by heavy scrutiny and the burden of having to answer to over 300 million taxpayer-shareholders.

Fannie is on the market for a general counsel, chief risk officer and chief technology officer; Freddie, on the other hand, is truly a rudderless ship, currently managing a cool $6 trillion in mortgages without a chief executive officer, chief financial officer or chief operating officer.

The Obama Administration faces an ongoing challenge: Finding knowledgeable financial professionals willing to take on the truly thankless job of cleaning up after the orgy of financial greed and excess of the last 2 decades.

Treasury Secretary Tim Geithner, working with a skeleton crew, is suffering delays in implementing key initiatives. Neel Kashkari, former President Bush’s choice to head up the Treasury’s financial rescue plan, is stepping down as soon as a suitable replacement can be found. Ironically, President Obama’s top choice is Herbert Allison Jr., who's currently running Fannie Mae.

James Lockhart, director of the Federal Housing Finance Agency, the group overseeing Fannie and Freddie, is concerned about his staff: “Everybody is stretched very thin. We’re very worried, not only about the vacancies now, but also about future holes,” which could impact risk management, technology and limit the firms’ ability to implement aggressive loan-modification plans.

And after the unabashed fury hurled at American International Group (AIG) chief Ed Liddy just weeks ago, it’s no wonder Wall Street’s top brass isn’t jumping at the chance to get aboard the sinking ships that are Fannie Mae and Freddie Mac.

Such is the problem with a centrally planned economy. Corporate chieftains may be brash, offensive or downright mean, but managing hundreds of thousands of employees is no simple task. Being a CEO isn't for the faint at heart, and few executives in the country -- or the world, for that matter -- are up to the task.

To be sure, the system as it stood as of early 2006 was far from perfect. But to expect that government -- with an aptitude for incompetence that more than surpasses that of the private sector -- will do much better is downright foolish.

Aren't politicians supposed to work for us, not the other way around?

GM: One Step Closer to Nationalization

2009-04-14T12:58:00.000-04:00

This post first appeared on Minyanville.

The great modern American nationalization experiment is underway: General Motors (GM), once the largest automaker in the world, has become a sort of Frankenstein's monster for the US government.

Bloomberg reports the Obama Administration is stepping up pressure on management, unions and creditors to make further concessions, and is considering taking a sizable equity position in the once-proud Detroit firm. The move, which would swap out some of the outstanding $13.4 billion in government loans for stock in a new, slimmed-down, cleaned-up version of GM, is the latest in a series of steps toward outright nationalization.

Analysts say the swap would diminish the rights of creditors, to whom the company offered around 90% ownership in a recent restructuring plan - a plan rejected by government officials. Under the Obama Administration's preferred tact of temporary state ownership, employees owed pension benefits would end up faring better than bondholders.

The government aims to take an ownership interest in GM, then quickly use the cover of bankruptcy courts to hack off the 'bad' parts of the firm. With a fresh start, free of legacy obligations and under performing divisions, Washington says it would quickly divest of it's stake and let the restructuring process continue.

We've by now become almost numb to government-led bailouts of failed companies, most notably American International Group (AIG), Fannie Mae (FNM) and Freddie Mac (FRE). The details are almost an afterthought, as the complexity of each scenario renders casual analysis almost a waste of time. The GM situation, however, could be a blueprint for future intrusion of the federal government into private enterprise.

Secured lenders, as is the government in the case of GM, often prefer a bankruptcy filing when companies get into trouble since it can enable the quickest repayment of their loans in full. Unsecured creditors and equity owners are left holding the bag.

The Bush Administration before him and now Obama have set a precedent: Emergency, secured loans are a likely precursor to state ownership. Notably, the huge bailouts of Citigroup (C) and Bank of America (BAC) were executed through portfolio guarantees and capital injections, not secured loans to the company itself. Not yet, anyway.

Despite efforts on the part of officials to play down the government's role in running GM, or AIG, or Citigroup, or Bank of America, we have entered an economic reality where business success, rather than relying on vision, strategy and good practices, is becoming increasingly reliant on political acumen.

By adding layers of red tape and palm-greasing to our already politicized economy, we move closer and closer to an economic system directed not by the collective will of the many, but rather one controlled by an ever-shrinking group of power brokers and political puppeteers.

This, despite loud proclamations of an impending return to economic vibrancy, is not a welcome development.

Inflation vs. Deflation: Endgame Approaches

2009-04-14T12:54:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Of the myriad highbrow economic debates currently raging throughout the world of punditry, academia and government policy, few are as contentious as the one over the future of prices: Inflation vs. Deflation.

Indeed, the endgame for this issue is not insignificant, as many believe our economic future hinges on the Federal Reserve’s ability to deftly engineer a return to steady, manageable inflation. To say the least, this is no easy task.

With the unemployment marching upwards, credit markets still largely frozen and global trade grinding to a halt, the American economy is in desperate need of a monetary jolt. The trouble for Fed Chairman Ben Bernanke is that with interest rates already at zero, he’s being forced to rely on so-called “quantitative easing” to pump money into our badly bruised financial system.

These efforts are being managed through the alphabet soup of new lending programs like TALF, TAF, CPFF and others.

Meanwhile, a glut of savings from the developing world coupled with reckless financial alchemy caused debt loads to skyrocket to unsustainable levels. The ongoing destruction of that debt, discussed often by Minyanville's Kevin Depew and Mr. Practical, is now raging at full speed, as assets of all types have come screaming back to earth.

Bloomberg highlights the debate by focusing on 2 highly regarded economists with divergent views on inflation and its causes.

John Maynard Keynes, a 20th century British economist gained notoriety for his thesis that inflation was controlled by supply-demand fundamentals within an economy. He advanced the view that well-directed government spending could help a country balance economic growth with a moderate, healthy rise in prices.

Western politicians jumped on the Keynesian bandwagon during much of the last century to support a vast expansion in government spending and intrusion into the private sector.

Opposing Keynes was Milton Friedman, who instead believed that “inflation is always and everywhere a monetary phenomenon.” Friedman’s focus on monetary policy, that is, interest rates and controlling the flow of money through a country’s economy, clashed with the Keynesian view that inflation could be controlled with fiscal measures and legislation.

Bernanke is doubling down on Keynes, evidenced by recent lending initiatives, bailouts of financial institutions like American International Group (AIG) and his support of President Barack Obama's massive fiscal spending program. The Fed’s involvement in cleaning up the balance sheets of Citigroup (C) and Bank of America (BAC), along with efforts to jumpstart the mortgage market have also diminished its ability to remain apolitical and tend solely to the needs of the economy.

The Fed's gamble is a bold one, as inflating our way out of a deflationary debt unwind could lead to a rapid, uncontrollable rise in prices should the economy rebound sooner than expected.

For example, big oil companies like Exxon Mobil (XOM) and Chevron (CVX) will be reticent to invest in new technologies or drill new wells should crude prices remain low. Limited production capacity could squeeze supply when demand picks back up, leading to a rise in prices.

This trend of firms retrenching in response to rapidly waning demand for goods is being mirrored throughout the economy. And although the Fed promises to take back the monetary stimulus when the economic growth returns, the timing and political implications of such a move are anything but a slam dunk.

And unlike other more esoteric debates over economic ideology, the result of the inflation vs. deflation slugfest has real implications for all Americans.

Inflation, while generally viewed as a necessary evil for economic growth, lines the pockets of those invested in financial and other economic assets at the expense of those on the lower rungs of the economic ladder. If real incomes rose at the same rate prices did since the Fed was created in 1913, they would currently stand at $300,000 per year, six times the current median household income of around $50,000.

In other words, Americans earn about 80% less, in real terms, than they did 100 years ago.

Deflation, while causing a drag on the economy at large, benefits those making less money as each additional dollar they earn stretches further. Meanwhile, at the top of the economic spectrum, the wealthy dislike deflation since their stocks, bonds, commodities, homes and Rolexes all fall in value.

As calls for a stock market bottom and impending economic recovery gain momentum, so too will predictions of rampant inflation. Ironically, Bernanke and fellow central bankers around the world are counting on the hangover from the financial crisis to be bad enough to forestall a resurgence in demand and enable them to slowly, carefully withdraw their monetary steroids.

Whether that will be possible, or even politically acceptable is anybody's guess.

Keepin it Real Estate: The Stabilization Fallacy

2009-04-14T12:53:00.000-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Despite recent reports to the contrary, the impending stabilization of the housing market is a myth. While declines in certain markets are coming to an end, real estate, in general, is still in freefall.

Last November, amidst a great deal of media fanfare, Fannie Mae (FNM) and Freddie Mac (FRE) enacted a temporary foreclosure moratorium, angling to give renewed loan modification efforts a chance to work. All the major financial news outlets jumped on the story, loudly proclaiming the mortgage giants were doing their part to give the housing market a chance to lick its wounds.

Then last week, without so much as a nod from the Wall Street Journal, Bloomberg or CNBC, the foreclosure ban was quietly lifted, right on schedule. A nod to the Washington Independent and Calculated Risk for picking up the story.

This is a not-insignificant development in the round of bottom-calling that's gripped the world of real-estate punditry and prognostication.

Two datapoints are to blame for this misplaced optimism: A month-over-month increase in February new home sales, and one in existing home sales. In addition to rising transactions in the most depressed markets, many cite the eagerness of big banks like JPMorgan Chase (JPM), Citigroup (C) and Wells Fargo (WFC) to get foreclosed properties off their books a a sign supply is quickly being eaten through.

Meanwhile, reality tells a very different story.

In yesterday's San Francisco Chronicle, Carolyn Said revealed a phenomenon familiar to real-estate insiders, but little appreciated by the financial world at large: phantom supply. Also known as "shadow inventory," phantom supply represents homes banks have repossessed, but have yet to sell. In other words, it's the pipeline of foreclosures still to come on the market.

According to data from RealtyTrac, a foreclosure monitoring service, banks are selling less than half the homes they take back from borrowers. This analysis is echoed by courthouse auction results, which show the vast majority of foreclosures are delayed, rather than being taken back by banks. Even fewer are being sold to third parties, which means asking prices are still too high.

Couple banks' unwillingness to take back, market and sell properties with Fannie and Freddie's recent lifting of their foreclosure ban, and improving housing data could prove to be short-lived. As one well-informed California real estate broker and Minyan writes, "There is a huge logjam [of foreclosures]. With Fannie and Freddie’s recent announcement, the logjam may be coming undone."

To be sure, being negative on the housing market is beating a very, very dead horse. However, with the spin experts at the National Association of Realtors flooding the market with ads -- and with media cries of "stabilization" -- prospective homebuyers should be skeptical of anyone who says the best deals will pass them by if they don't act now.

The Great SUV Baillout?

2009-04-07T14:49:00.000-04:00

This post first appeared on Minyanville.

The double standard continues.

There seems to be no limit to the amount of money the federal government is willing to spend to prop up our broken financial system. But when it comes to putting money in the pockets of average Americans, or support policies that will foster energy independence, Washington cries broke.

The Wall Street Journal reports that Congress is throwing weight behind a so-called "cash for clunkers" program, whereby owners of SUVs and trucks can receive a kickback for scrapping their gas-guzzlers in favor of more energy-efficient vehicles. The catch: The handout is likely to be capped at far less than the clunkers' trade-in value.

To be sure, the program is a step in the right direction. The fewer Escalades (GM) and old Suburbans clogging up our freeways and spitting out carbon dioxide, the better. Not to mention, cars aren't exactly flying off the lot at American dealships - a few new purchases wouldn't hurt the forturnes of GM, Chrysler and Ford (F).

But the initiative would be a lot more effective if it made economic sense. In an environment where making the mortgage payment, putting food on the table, and paying the bills on time are the top financial priorities, eating a few grand to save the trees is barely on the radar.

Sure, a policy that paid full trade-in value for pollution-spewing trucks wouldn't be cheap - but neither is dumping hundreds of billions of dollars into insolvent banks. And it might actually do some good. I mean, insuring more than $300 billion of Citigroup's (C) bloated balance sheet is nice - but my credit line still got cut.

There's clear lesson here: If you want to get on the government dole in a meaningful way, make sure to come as close as possible to bankrupting the entire country. Anything less just won't cut it.

Take GM, whose former CEO Rick Wagoner was fired by the Obama Administration for poor strategic decisions and a turnaround plan that wasn't up to snuff. Meanwhile, Bank of America (BAC) CEO Ken Lewis ran his firm into the ground so thoroughly that he would have taken the entire financial system down with him - had Washington not stepped in with over $200 billion in bailout money and federal guarantees.

The government doesn't seem to have a problem overpaying for toxic financial assets -- in fact, it's encouraging pension funds to do just that -- but when it comes to handing over taxpayer money to, well, taxpayers... The well suddenly runs dry.

Malls Pull Out All the Stops; Shoppers Yawn

2009-04-07T14:26:00.000-04:00

This post first appeared on Minyanville.

It's a tough time to own a mall.

The credit spigot has been turned off: Americans are cutting credit cards, shunning debt and generally spending less. Retail vacancies are at highs not seen in decades. Mall owners are beginning to get desperate.

So desperate, in fact, that some are shelling out $2 million to install Flowriders.

Flo-whats?

The Flowrider -- the retail extension of a nascent craze currently sweeping cruise ships and water parks -- is a wave-making machine that lets city dwellers feel the rush of shooting the curl. The device is the creation of Adenalina, an extreme sports store hawking gear for the brave-at-heart.

The New York Times reports that a half-dozen malls around the country are paying to install Flowriders to pull in foot traffic and keep shoppers entertained enough to, hopefully, spend.

Mall owners aren't just contending with weak demand; supply is piling up as stores contract their operations. Big-box retailers and department stores like Sears (SHLD), Macy's (M) and Dillard's (DDS) are closing stores in response to the ongoing economic slump. Others, like Linens 'N Things, are just going under.

According to the Times, from 1990-2005, retail space per capita more than doubled, while consumer spending grew just 14%, adjusted for inflation.

Take a drive around suburban America, and it's easy to see the challenges facing malls and retailers alike. Strip malls sit empty next to the waving flags of the latest Toll Brothers (TOL) development; Starbucks (SBUX) does brisk business in a shopping center that's half vacant.

Even big cities are struggling to fill commercial space. At the bottom of my building in downtown San Francisco, 3 of the 10 storefronts are empty. Our building, a historic landmark recently purchased by private equity firm Thor Equities, has stepped up an ad campaign to try and attract tenants.

Who knows - maybe instead of braving the frigid, shark-infested waters of the north Pacific to catch some waves, I'll be able to wander down to the swanky Westfield Mall and paddle into a few lefts before I hit up the food court.

PPIP Gets a Facelift

2009-04-07T14:25:00.001-04:00

This post first appeared on Minyanville.

The Public-Private Investment Program, or PPIP, is already getting a facelift.

In response to mounting criticism that the latest government-backed attack on toxic assets is simply another way to transfer risk from banks to taxpayers, the Treasury Department announced plans to expand the program to smaller investors and service providers.

According to the Wall Street Journal, a firm must have at least $10 billion in eligible assets under management to qualify as a potential PPIP fund manager. The Treasury may relax these limits, which would make room for smaller players.

Treasury Secretary Tim Geithner’s plan has been harshly rebuked for handing out business to a few well-connected firms like Goldman Sachs (GS), BlackRock (BLK) and Pacific Investment Management Co., or PIMCO. These firms stand to earn huge fees managing assets; most hedge funds, valuation providers or asset managers are being locked out of the program.

Meanwhile, big banks like Citigroup (C), JPMorgan Chase (JPM) and Bank of America (BAC) are patiently waiting for both the PPIP and recently announced mark-to-market accounting changes to help clean up their balance sheets.

Toxic mortgage assets are either being dumped into exclusive, government-directed investment pools or left on balance sheets to be written up to higher values. As a result, vast quantities of capital -- raised to take advantage of distressed loans -- are now looking for a home. Investors -- enticed in by returns that looked too good to be true -- allocated tens of billions of dollars to buy non-performing loans, mortgage-backed securities, and a host of other so-called toxic assets.

Already at a disadvantage, competing against big firms using cheap government leverage to bid up prices, boutique distressed investors are fighting for an increasingly small piece of what remains a very, very large pie.

Calpers Doubles Down on Distressed Debt

2009-04-06T18:42:00.001-04:00

This post first appeared on Minyanville.

The country's largest pension fund keeps pouring money into losing bets.

According to Bloomberg, the California Public Employees' Retirement System, or Calpers, dumped $1.7 billion dollars into Leon Black's private equity giant Apollo Management LP last year, hoping to profit from ongoing credit market dislocation. Calpers, which mangages pension money for 1.6 million public employees in California, has invested more than $3.5 billion with Apollo since 2006.

Apollo, which focuses on private equity investments as well as distressed debt, has shown investors outsized returns for the past two decades: 25% annually. Recently, however, as the economy has turned south, Apollo is facing mounting troubles with investments gone bad: Linens 'N Things and Harrahs Casino, 2 of its biggest profile private equity deals, are either bankrupt or struggling to restructure debt, respectively.

Meanwhile, Calpers is smarting from more than a few ill-advised bets of it's own, having effectively top-ticked the New York City real estate market in 2006. Together with developer Tishman Speyer, Calpers dumped $500 million into Peter Cooper Village and Stuyvesant Town, a massive residential housing project just south of midtown. The deal now faces cash flow and valuation issues, as the New York real estate markets has officially cracked.

Closer to home, displaying its aptitude for buying at the top, Calpers invested in a speculative land deal on the outskirts of Los Angeles in early 2007. The partnership, LandSource Community Development LLC, filed for bankruptcy a little more than a year later. Lennar (LEN), the developer that sold Calpers the land, recently bought it back for a song.

Pension funds as a whole are reeling from ongoing turmoil in the financial markets. It's estimated that funds are short $237 billion nationwide, according to a recent study. Never fear; Treasury Secretary Tim Geithner is working on a solution.

The recently announced Public-Private Investment Program, or PPIP, is encouraging pension funds to spot the cash to buy distressed assets from the likes of JPMorgan (JPM), Citibank (C) and Bank of America (BAC).

In other words, the federal government is asking money managers with a fiduciary responsibility to safeguard the retirements of millions of public employees to plunk down tens of billions of dollars to clean up the collective balance sheet of the American banking system.

And people are up in arms over AIG (AIG).

Keepin' It Real Estate: Jumbo Prime R.I.P.

2009-04-06T18:39:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Countrywide was to subprime lending what Thornburg Mortgage was to jumbo-prime.

Now, both are out of business.

Thornburg said it expects to file for Chapter 11 bankruptcy protection, ending a nearly 2-year struggle to fend off creditors and survive the credit crunch. The company, once the country's second largest independent mortgage lender, specialized in making jumbo loans to borrowers perceived to have little credit risk. Ever since the market for its mortgage-backed securities evaporated in the summer of 2007, however, Thornurg has been under siege.

In what now seems like ancient history, Countrywide nearly collapsed as its short-term commercial papers seized up, and investors fled Thornburg in droves. The Federal Reserve stepped in and shocked the market back to life, but the revival was short-lived. Enough damage had been done that any financial institution holding even highly rated securities backed by residential mortgages had a target on its back.

Thornburg's stock was delisted last December as a series of last-ditch efforts by CEO Larry Goldstone failed to save the company. With investors buying nothing by government-backed Fannie Mae (FNM) and Freddie Mac (FRE) mortgages, Thornburg’s bread and butter -- jumbo loans -- became virtually worthless.

Although Thornburg’s demise was a foregone conclusion months ago, the fate of a company many once believed immune illustrates how far we’ve come from what began as a “subprime” problem.

High-end real estate is now fully engaged in the nation’s housing slump. Prime loans are souring faster than subprime ones as job losses spread up the socioeconomic ladder. Manhattan’s real-estate market is in the news again, as sales continue to plunge and prices follow suit.

Here in the San Francisco Bay Area, where expensive homes dominate many markets, high-end buying activity has slowed to a trickle. The chart below, from Cirios Real Estate shows purchases over $1,000,000 since the broader housing market peaked in 2005. Even without the statistical wizardry of seasonal adjusting the data, the trend is clear: America’s wealthy aren't buying.

click to enlarge

Sales figures don't look much better in the first quarter of this year, even though broad sales activity is up month-over-month. The bifurcation of the real-estate market continues, as troubles in the high end are picking up the slack while low-end markets grope for a bottom.

Foreclosures are even happening in some of the country's wealthiest communities. In many of these markets, denial reigns as owners clong to the belief that the slump is temporary, their paper losses transitory. But as deleveraging continues, asset prices continue to fall, and forced liquidations creep towards the very wealthy, reality is slowly setting in.

Fannie, Freddie to Steal Banks' Crutches?

2009-03-31T13:17:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

With mortgage rates at historic lows, housing prices plummeting, and Washington throwing billions at housing-market recovery efforts, why is it still so damn hard to get a loan?

And while the easy answer is that banks are flat-out broke, the real answer may lie in an esoteric corner of mortgage finance which has all but disappeared: warehouse lending.

In the heyday of the housing boom, small mortgage companies were able to compete with huge financial institutions by tapping so-called warehouse lines of credit. Using cash from their warehouse lender to fund loans at the closing table, as big banks do, these smaller mortgage shops could often provide better service than their bigger competitors, though at the same low rates.

Warehouse lenders, often big banks themselves -- remember Washington Mutual and Countrywide (Bank of America (BAC))? -- held onto loans until they were sold in the secondary market. Turnaround time could be anywhere from a few days to a few months for larger, more complex transactions.

The benefits to being able to finance one's own loans rather than just acting as a broker were numerous. Having a warehouse line gave mortgage bankers better control over the closing process, enabling them to beat out big banks in terms of response time and customer service.

By aggregating loans on a warehouse line, bankers could bundle them together and sell packages at a premium, rather than selling them off one by one. And since they could sell loans to any bank on the street, most such originators offered loan programs just as varied as those of even the biggest institutional lenders.

At the height of the boom, it was estimated that almost half of the over $3 trillion in annual loan production was first funded on a warehouse line.

As the mortgage market began to collapse, big purchasers stopped buying, and warehouse lines filled up with unwanted loans. Warehouse lenders began margin-calling clients, cutting off funding capacities, and capturing every penny they could from the few sales that actually went through.

The result, which can be plainly seen on websites like The Mortgage Lender Implode-o-Meter, was that hundreds of small bankers closed up shop.

Now, as banks scramble to handle the flood of requests for refinances at super-low interest rates, the mortgage industry is once again facing a credit crunch. By one estimate there's only $25 billion in available warehouse lines to support the $2.8 trillion in mortgages expected to be written next year.

Mortgage bankers I speak with say the only thing holding them back from giving out more loans is a lack of warehouse capacity.

According to the Wall Street Journal, one solution being floated by the Mortgage Bankers Association (or MBA) is for Fannie Mae (FNM) and Freddie Mac (FRE) to provide government-backed warehouse lines to the few intrepid mortgage bankers still eking out a living in this nightmarish market.

The MBA argues that, since big banks like JPMorgan (JPM), Citigroup (C) and Wells Fargo (WFC) don’t need access to warehouse lines, they’re pushing out the smaller guys and stymieing competition. There's little incentive for a Chase or a Citi to reopen its warehouse lending group, since the move would just allow competitors to grab market share from the very profitable business of originating loans.

While it makes logical sense for regulators to allow Fannie and Freddie to prop up this segment of the market, it may run contrary to other bank-friendly initiatives. Fees generated by writing new mortgages may be the only thing keeping the likes of Bank of America and Citigroup from tapping even more government support to stay afloat.

Homebuilders Hoping Size Doesn't Matter

2009-03-30T13:10:00.002-04:00

This post first appeared on Minyanville and Cirios Real Estate.

After nearly 3 years of bleeding cash, US homebuilders are on shaky ground.

The market for new homes is being decimated by rampant overbuilding during the boom, and by the flood of bank-owned properties now being sold on the cheap. Prices remain in free fall. Even as labor expenses and materials costs hover around recent lows, the business of building new homes is still broken.

But after 2 “positive” datapoints last week, and KB Home's (KBH) narrower-than-expected loss, many are wondering if the worst is now behind the beleaguered industry. Government-backed efforts to keep mortgage rates low and encourage home buying could save the builders. Maybe.

New home construction, for all its complications and intricacies, is a rather simple business: Sell homes for more than it costs to build them.

New homes have traditionally carried a premium to “used” ones; the median sale price of a new home is currently about 20% higher than that of one that's been previously owned. Builders relied on this premium to cover their construction and financing costs, not to mention to generate a healthy profit. But now that buyers can buy barely used houses at fire-sale prices, the allure of the brand-new is on the wane.

Here in the San Francisco Bay Area, banks are said to literally be giving land away for free: Builders will have nothing to do with it. The costs associated with owning improved lots (in other words, lots ready for the construction of a house) are too high for - even if they're offered for free. Building just isn’t an economically viable option - and it won’t be until housing prices rebound.

And that could take years.

Meanwhile, homebuilders like KB Home and rivals Centex (CTX), Lennar (LEN) and DR Horton (DHI) are struggling to rid themselves of unsold homes. Builders large and small are slashing prices, trimming staff, hawking vacant land for pennies on the dollar, and doing anything else they can think of to stay alive.

Many face an additional headwind this year: Tax rebates from previous operating losses will be drying up. Debt remains high, and cash is barely trickling in.

Ultimately, some big builders won't make it. The market, both for equities and default protection in the form of credit default swaps, is betting on Hovnanian (HOV), Beazer Home (BZH) and Standard Pacific (SPF) to be the first of the big dogs to fail.

Those hoping to survive are rapidly adjusting their strategies to adapt to the changing demands of the American homebuyer. As Minyanville's Terry Woo noted on Friday, KB Home's better-than-expected earings were partly a reflection of a switch to smaller, cheaper homes.

This is a positive trend: it's yet another indicator that Americans have a newfound love affair with thrift. And while we may lose a few builders along the way, I doubt we'll miss all those identical, pre-fabricated houses that had come to litter our landscape.

In memory of our fallen friend and trusted colleague, Bennet Sedacca, 100% of the donations made to the RP Foundation through April will be channeled to philanthropic endeavors consistent with the RP mission, working closely with the Sedacca clan in the distribution of those funds. We thank you kindly for your support as we strive to effect positive change in the lives of children.

GM Runs Out of Road?

2009-03-30T13:08:00.001-04:00

This post first appeared on Minyanville.

Taking money from the US government isn't just risky; it can cost you your job.

Just ask Rick Wagoner, the now former Chief Executive Officer of General Motors (GM). After accepting billions in aid from the Treasury Department -- but failing to produce an acceptable restructuring plan -- Wagoner was forced out of the beleaguered automaker over the weekend.

The Wall Street Journal reports that, in addition to removing Wagoner, the Obama administration’s auto-industry team floated the notion that bankruptcy may be the best option for Chrysler and GM. Although the government said it doesn’t have plans to oust Chrysler CEO Robert Nardelli, it did suggest that it's growing tired of propping up the struggling company.

The shakeup at GM didn’t end with Wagoner: A large part of the board of directors was also asked to leave, and Chief Operating Officer Frederick “Fritz” Henderson was named Chief Executive. He, along with a new-and-improved board and management team, will receive a 60-day credit lifeline by which to devise a more rigorous turnaround plan.

After the AIG (AIG) bonus debacle, financial firms are scrambling to return TARP money, lest they be subject to similar scrutiny (or similar witch-hunts). Goldman Sachs (GS), JPMorgan Chase (JPM) and others have suggested they’re working on plans to repay billions in government aid.

Whether its bonuses at AIG, corporate jets at Citigroup (C), or executive-suite redecoration at Merrill Lynch (BAC), the federal government is taking a rather more active role in any company that's required federal money in order to stay afloat.

The US government now controls some of the biggest companies in the world. And if this weekend's actions are any indication, it plans to fully wield that power.

In memory of our fallen friend and trusted colleague, Bennet Sedacca, 100% of the donations made to the RP Foundation through April will be channeled to philanthropic endeavors consistent with the RP mission, working closely with the Sedacca clan in the distribution of those funds. We thank you kindly for your support as we strive to effect positive change in the lives of children.

Keepin' It Real Estate: Housing Recovery? What Housing Recovery?

2009-03-29T16:34:00.003-04:00

This article first appeared on Minyanville and Cirios Real Estate.

This week, 2 data points led optimistic market-watchers to declare the bottom in the housing is nigh: Indeed, one widely read trader-writer proclaimed, “The oversupply of housing that so plagues the market at present will be a figment of our memory a few months hence.”

The first: On Monday, the National Association of Realtors said existing home sales jumped 5.1% in February compared to the previous month, largely due to the high number of foreclosures being dumped onto the market by big banks like JPMorgan Chase (JPM), Bank of America (BAC) and Wells Fargo (WFC).

While indicative of buyers gingerly dipping their toes back into the market, existing home sales are still down 13.4% from a year ago.

The second: On Wednesday, the Commerce Department released data on February new home sales which showed a similar trend: Transactions bounced 4.7% from January, but remain a whopping 41% below sales this time last year. Nevertheless, shares of beleaguered homebuilders like Centex (CTX) and Lennar (LEN) had stellar performances this week, capping a nearly 100% gain since the beginning of the month.

Prices, however, continue to slide for both existing and new homes. And while median (and average, for that matter) price data is skewed to the downside due to the mix of homes sold in a given period -- in this case, more cheap houses than expensive ones -- property values remain in a decidedly downward trend.

But since transactions typically find a bottom prior to prices, the number of people who believe prices should stabilize in the near future is growing.

Examining the data, unfortunately, tells a different story. Below is a chart produced by my firm, Cirios Real Estate, showing home prices and sales transactions in for the eastern part of the San Francisco Bay Area. The East Bay is a fairly representative sample of California housing markets: A little high-end, a little middle-class and a little low-rent all mixed in.

Click to enlarge

The red line shows average home prices, while the blue line shows sales transactions, as measured by their change from a year ago. Notice how, even as sales have spiked from the previous year, prices continue to plunge.

Two things jump out at me on this graph (aside from the massive increase in transactions and precipitous decline in prices):

First, transactions began to ramp up as prices moved down toward levels where borrowers could get government-backed loans to buy homes. That means Fannie Mae (FNM), Freddie Mac (FRE) and the FHA have financed a whole swath of homes in the past 18 months that are now severely underwater.

Second, transactions bottomed in September 2007, not long after the market peaked. 18 months have passed and prices have dropped more than 50% since that time.

With that in mind, the current “euphoria” over housing data -- after a single month-over-month increase in sales, when year-over-year measures remain well behind even last year's weak totals -- seems a bit premature.

This is not to say prices will never stabilize, or that increased sales are a bad thing. In fact, the more sales we have, the quicker price discovery happens and the faster a true bottom can be found. Nor is this some proclamation that this part of California is a perfect proxy for home prices nationwide.

But given the backlog of foreclosed homes sitting on the books of the major American banks, continued price declines across the country and tight mortgage market conditions, calls for the devouring of supply by voracious home buyers causing an imminent housing bottom is downright premature.

To be sure, we may be one step closer to a housing bottom, but that’s one step on a very, very long path.

In memory of our fallen friend and trusted colleague, Bennet Sedacca, 100% of the donations made to the RP Foundation through April will be channeled to philanthropic endeavors consistent with the RP mission, working closely with the Sedacca clan in the distribution of those funds. We thank you kindly for your support as we strive to effect positive change in the lives of children.

Stimulus Creates Jobs... For Lobbyists

2009-03-29T16:34:00.001-04:00

This article first appeared on Minyanville.

As details emerge about how the private sector can tap into President Obama’s new spending programs, companies are scrambling to line up at the government teat.

And lobbyists are wringing their slippery paws with delight.

Of the $787 billion to be doled out as part of Obama’s economic stimulus package, $77.6 billion is earmarked for clean-energy projects. In the San Francisco Bay area, the country’s venture-capital hub, green startups are pouring money into lobbying efforts to get their share. According to Bloomberg, hiring a Washington insider is now essential for new companies.

The lobbyists work both sides of the trade, so to speak. On the one hand, they help companies write grants and figure out which government programs they're qualified for; on the other, they sidle up to federal employees and convince them to design grants to suit their clients.

This shift in focus -- from private money to public -- reflects the old accounting axiom: Follow the cash. With private capital hard to come by, government funding is fast becoming the only game in town.

Companies that lack the resources or will to pander to federal and state initiatives will be at a severe disadvantage to those willing to navigate maze-like government bureaucracy.

Case in point: The recently announced Public-Private Investment Program, or PPIP.

Investors able to get cheap government leverage can bid more aggressively for distressed assets, pushing up prices. Meanwhile, those without access to federal programs can't afford the new, higher levels - and are summarily pushed out of the market.

This works out well for big banks like JPMorgan (JPM), Bank of America (BAC) and Citigroup (C), all of whom are eager to unload their "toxic assets" at favorable prices. Then again, that's the way the system was designed.

As the government takes an ever-growing role in our economic affairs, companies must become ever more nimble in order to tap into this program or that to optimize capital.

The President's new initiatives are ironically (or sadly) creating more work for the very insiders he promised to boot out of Washington. Lobbyists, it appears, aren't just here to stay - they're in higher demand than ever before.

Too Big to Fail: Let’s Make it Law

2009-03-29T16:32:00.000-04:00

This article first appeared on Minyanville.

Bankruptcy is just such a pain in the ass. Who needs it?

In an attempt to institutionalize the concept that certain “systemically important” firms are too big to fail, Treasury Secretary Timothy Geithner and Federal Reserve Chairman Ben Bernanke are petitioning Congress for expanded federal powers to seize and dispose of certain non-bank financial institutions if they get into trouble.

The 2 top US regulators argue that important lessons have been learned in the wake of the disastrous federal takeover of American International Group (AIG). Bankruptcy laws, they say, don’t adequately protect public interests when fallout from the collapse of a big financial firm would do substantial damage to the system at large.

Geithner and Bernanke agree the power should rest within the federal government, but don’t see eye-to-eye on who that regulator of last resort should be. Bernanke suggests the responsibility could be handed over to the FDIC, already a specialist in dealing with failed banks. Geithner, on the other hand, thinks his Treasury department should handle such messy events.

Barney Frank, House Financial Services Chairman and always one to offer up valuable solutions to important problems, said this morning “We need to give somebody, somewhere in the federal government the power” to put failing non-banks “out of their misery,” according to the Wall Street Journal. Thank you Mr. Frank - the specificity of your suggestion is truly remarkable.

Ever since Bear Stearns collapsed just over a year ago, snatched up by JPMorgan Chase (JPM) for a song, courtesy of a $29 billion federal backstop, the Fed and Treasury have become skilled in the dark arts of ad-hockery to protect the battered American financial system. Scantily disclosed and hugely complex bailouts, rescues and guarantees have become the norm as officials scramble to prevent the collapse of certain key institutions.

As the world’s financial system has become more interconnected, big banks and other financial firms have grown increasingly dependent one on another for survival. Derivatives and round-the-clock trading have rendered the likes of Morgan Stanley (MS), Goldman Sachs (GS) and formerly AIG, as essential to the well-being of the global economy as big banks like Citigroup (C) and HSBC (HBC).

Meanwhile, outside the world of high finance, companies operating in the rest of the economy still live in what's left of the free market. Failure, a natural part of the capitalist system, means declaring bankruptcy and closing up shop. The system for disposing of failed firms may not be perfect, but allows for a healthy, needed cleansing of firms that didn't make it.

Allowing the government to control this process lends itself to immense political influences, likely dragging out rescues years longer than necessary. And as we're now seeing with AIG, once bureaucrats get involved in managing a business, contracts and other legal obligations become mere suggestions.

As Washington salivates at its ongoing power grab, taking increasing control over our economy, the free market dies - bit by painful bit.

Geithner Plan Puts Taxpayers on the Hook

2009-03-24T14:08:00.000-04:00

This post first appeared on Minyanville.

The phrase “taxpayers will share in any upside” always makes me shudder.

And with good reason: Last September, as Fannie Mae (FNM) and Freddie Mac (FRE) crumbled under the weight of their massive loan portfolios, the US taxpayer ponied up $2 billion to rescue them, along with $200 billion in guarantees for future losses.

We were told that our investment would be well-protected, since the companies barely played in the subprime space: Their $5 trillion portfolios consisted of only the finest prime mortgages. One Wall Street Journal columnist even called Fannie and Freddie “a gold mine.”

Six months later, Fannie and Freddie have chewed through almost half their taxpayer-funded safety net. With delinquencies on prime loans rising, and home prices tumbling in high-end markets, losses are likely to keep growing - as will the taxpayer's obligation.

Then, just a week after the Fannie and Freddie rescue, insurance giant American International Group (AIG) took the national stage. Federal Reserve Chairman Ben Bernanke promised he had struck a hard bargain with AIG, and that taxpayer money had been shrewdly invested. The company was strong, we were told, and it was being unloaded at a bargain.

Three bailouts later, we’re collectively out almost $200 billion - and public outcry has reached a fever pitch.

$13 billion to Goldman Sachs (GS), $12 billion to Deutsche Bank (DB), and hundreds of millions to AIG executives: Not exactly what we signed up for.

Yesterday morning, in a long-awaited announcement, Treasury Secretary Tim Geithner said his Public-Private Investment Program “will ensure that private-sector participants share the risks alongside the taxpayer, and that the taxpayer shares in the profits from these investments.”

According to Geithner, private investors, alongside Treasury capital and Fed leverage, will jumpstart the market for the so-called “toxic assets” clogging up the financial system. Many hope the initiative will place a floor beneath the loans and securities that banks are unwilling to sell at prevailing market prices.

Geithner is encouraging private investors -- including pension funds -- to aggressively participate in the program. The assumption is that these distressed assets are trading well below their intrinsic value, and that buying delinquent loans and esoteric mortgage-backed securities at pennies on the dollar is an astute investment.

To be sure, certain well-connected private investors and the money managers chosen to coordinate the trades will make out famously. Meanwhile, Americans are being asked to blindly toss their tax dollars and pension money at the riskiest, most leveraged, least transparent securities the financial system has ever dreamed up.

If the federal government's track record as a steward of public funds is any indication of future performance, I'd welcome an opportunity to take the other side of whatever investments my tax dollars are about to be thrown toward.

Fed Fumble: Lots of Cash, No One to Spend It

2009-03-24T14:07:00.000-04:00

This post first appeared on Minyanville.

With the Federal Reserve seemingly hell-bent on inflating its way out of this recession -- pumping an additional $1 trillion into the market -- the specter of hyperinflation necessarily looms large.

But not so fast: While the Fed’s announcement might seem alarming, Chairman Ben Bernanke is fighting a forest fire with a water weenie.

Back in reality, the ongoing debt destruction and shift back toward savings is having a far greater effect on the American economy than a paltry few hundred billion dollars of “liquidity.” The Wall Street Journal reports that, although M2 money supply has increased 10% in the past year, the cash isn’t really going anywhere.

The more significant number -- what’s known as the “velocity of money” -- fell to its lowest level since 1991. The velocity of money simply means how quickly money is spent: It measures the amount of gross domestic product, or GDP, generated for each dollar of cash sloshing around the system.

When confidence is high, credit is loose, and spenders are running rampant, money flows quickly through the system, boosting GDP. When social mood turns, however, and savers hoard their cash, the velocity of money slows down - and GDP grinds to a halt.

So even though the Fed is injecting more money into the system, consumers are socking it all away in savings accounts or paying down debt. Banks, for their part, aren't doing anything with the money, either. Big banks like Citigroup (C), Bank of America (BAC) and JPMorgan Chase (JPM), still reeling from mounting losses on bad debt, are hording what little cash they have.

Until the bad debt can be destroyed -- and until savers can receive attractive returns -- higher prices will remain merely hypothetical.

Inflation, like other economic entities, is controlled by supply and demand. The velocity of money is one way to represent the demand for “stuff” - when it goes up, prices tend to follow.

Fears about inflation are based partly on the assumption that, as consumer demand picks back up, empty store shelves and warehouses will create shortages that could lead to rampaging inflation.

Maybe - all in due time.

As the Journal points out, consumers jumping back into the spending game en masse depends on people not only having actual money to spend, but on having the desire to spend it. And while consumption certainly won't stop altogether, this slowdown may be something more than a run-of-the-mill recession: It may be a structural shift away from the consumerist leanings of the past 30 years.

Maybe, instead of stockpiling oil and gold, we should focus on stockpiling cash.

Keepin’ It Real Estate: Going Green on Uncle Sam’s Dime

2009-03-24T14:05:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

It’s starting to make economic sense to go green.

Last summer, with gas prices topping $4 per gallon and commodities of all kinds becoming more expensive, renewable energy advocates thought their day in sun -- so to speak -- had finally arrived.

Investors flocked to industry leaders like First Solar (FSLR) and SunPower (SPWRA), whose stocks leapt to new highs. On July 8, 2008, renowned investor T. Boone Pickens announced an ambitious plan to wean America off its dependence on foreign oil. Later that week, crude touched an all-time high of $147.02 per barrel.

Since then, oil -- along the rest of the commodity complex -- has plunged, dashing hopes that renewable energy would soon be as cheap, if not cheaper, than traditional, dirty fossil fuels. But now, with the economy in free fall and Washington scrambling to boost productivity, renewable energy has been taken off life support.

Part of the recently passed $797 billion economic stimulus package gives incentives to homeowners to adopt energy-saving appliances, solar panels and other eco-friendly add-ons. Increased tax credits for qualifying expenditures can reduce tax bills by thousands of dollars a year. The catch (and there’s always a catch when the government is involved): Benefits only arrive if you shell out big bucks for pricey green gear.

Tax credits are applicable on new expenditures, and since solar-panel systems run in the tens of thousands of dollars, the 30% tax credit isn’t exactly like socking money away in the bank. Still, green construction firms and solar panel installation outfits like Akeena Solar (AKNS) are eager snatch up new business.

Before the credit crunch and the ensuing financial meltdown, Akeena had actually partnered with Comerica Bank (CMA) to offer low interest loans for buyers of new solar-energy systems, a portion of which could be backed by the value of the home. Since monthly loan payments were easier to stomach than plunking down cash to buy a new system, these new lending programs could have made solar available to the masses.

But now that home values have plummeted and lenders are reticent to part with their precious dollars, such borrowing programs are nearly impossible to find. Still, for those homeowners intrepid enough to take the plunge, tax credits offer an attractive reason to get off the green fence.

While solar power isn’t as economically efficient as traditional electricity sources, the more money that’s pumped into new technologies -- even if it’s through a combination of private and public investment -- the sooner we’re likely to reach the parity solar advocates have been promising for decades.

And the sooner that happens, the better.

Commercial Real Estate: Time to Buy?

2009-03-18T21:04:00.000-04:00

This post first appeared on Minyanville.

For what seems like forever now, we’ve been hearing calls for the impending collapse of the commercial real-estate market. Well, here we are.

Valuations, finally, are coming back to earth.

Commercial real-estate values are driven primarily by future cash flow expectations, rather than speculation on rising prices (like residential properties). Most tenants are locked into long-term leases, so evidence of the challenging business environment took longer to show up in vacancies and commercial defaults. Companies like Equity Residential (EQR), Vornado Realty Trust (VNO) and Boston Properties (BXP) could be hard hit.

Rents are now tumbling at record paces, vacancies are skyrocketing and retailers are closing up shop at an alarming rate. Sellers face a vacuum of buyers, as only the savviest of investors are in a position to take advantage of fire sale prices.

Buying in this market takes a strong stomach and patient -- very patient -- capital. A real-estate recovery, despite upbeat expectations based on 1 or 2 hopeful datapoints, is highly unlikely.

Nevertheless, the few investors out there with capital to deploy can pick through an endless stream of distressed, quasi-distressed and downright terrifying assets. It will be a wild ride, but for the few that can identify the proverbial diamond in the rough, buying now may be the best long-term decision they'll ever make.

GE: We Don't Believe in the Housing Crisis

2009-03-18T21:03:00.000-04:00

This post first appeared on Minyanville.

At a time when commercial real-estate investors are scrambling to unload properties, General Electric (GE), the world’s biggest landlord, is looking at 2009 through rose-colored glasses.

Tomorrow, when the company releases details of its finance arm’s real-estate holdings, investors may get a better sense of just how exposed they are to tumbling rents and rising vacancies. According to the Wall Street Journal, GE owns about $34 billion in commercial real estate, which it believes may slip in value this year by a mere 1.5%.

Compared to a 60% decline in the Dow Jones REIT Index over the past 12 months, that forecast seems unusually optimistic.

The trick here -- like that at the heart of the mark-to-market debate -- is how GE classifies its property holdings. Since they were primarily bought with cash (and thus aren't subject to the whims of creditors), the company views its assets as long-term holdings. Cash flow, not resale price, determines the value it slaps on assets for accounting purposes.

But with the market for commercial real estate essentially frozen, tenants demanding better lease terms, and the company scrambling to raise capital, GE may find dumping properties onto an illiquid market is an unpleasant experience.

Commercial real-estate losses went a long way toward sinking Wachovia -- ultimately purchased by Wells Fargo (WFC) -- and Lehman Brothers, which ultimately collapsed under the weight of housing bets gone wrong.

GE is hoping its conservative use of leverage can save it from a similar fate.

Looking for a Job? Start a Bank

2009-03-18T21:02:00.000-04:00

This post first appeared on Minyanville.

Now's the time to put that old cliché, “necessity is the mother of invention,” to the test, because we desperately need banks. Lots of them.

Most of the ones we have are essentially insolvent, surviving primarily on generous donations from the American taxpayer. Outraged about the AIG (AIG) debacle? How about Bank of America (BAC), which made 2 horrendous buyout decisions that nearly torpedoed the bank - Countrywide in late 2007, then Merrill Lynch just a year later. Nevertheless, B of A still received hundreds of billions in government guarantees, cash, and loans - and CEO Ken Lewis still has his job, despite running the company into the ground.

Meanwhile, banking clients are seeing credit lines chopped, fees increased, services suspended, and interest rates reduced to just a shade more than a slap in the face.

As a result of the competition just to stay alive, opportunities in the banking sector are substantial. So substantial, in fact, that both Goldman Sachs (GS) and Morgan Stanley (MS) morphed into bank holding companies late last year. The move was partly to allow the struggling firms to tap government-backed debt markets, but also to take advantage of the impending void in the country's banking system.

Far away from the ivory towers of lower Manhattan, a few intrepid bankers are seeking to profit from these troubled times by founding small community-focused lenders. And although just 78 banks opened their doors in the past 12 months, compared to 173 the year before, demand for their services is through the roof.

The public’s growing wariness of Wall Street and large, impersonal banks is a boon for local banks and credit unions, where familiar faces, not fine print, greet customers at the door. Likewise, upstart banks can begin fresh, not only with customer relations but with squeaky clean balance sheets, devoid of the toxic assets weighing down most of their more established competitors.

But opening a bank is far more difficult than just renting some cheap retail space and buying a couple ATMs. Regulators, under heavy fire for their failure to perform even the most modest oversight duties, are making it well nigh impossible to get a new bank up and running. Capital requirements in particular are tough to meet, since most potential investors reflexively seize up at the sound of the words “invest” and “banks” when uttered in the same sentence.

Further, seasoned management must be brought in, preferably with a clean resume. Try finding an experienced banker these days who won't have to explain why he or she played no part in his or her former employer's demise.

Recessions, despite their lousy reputation, foster creativity, innovation and entrepreneurship. Risk-takers can separate themselves from the herd and create real productivity in an environment where merely surviving is seen as pretty damn good.

The opportunities in banking are just a few of the many currently being made available to those willing to take the plunge. It isn't easy -- in fact, it's a neverending slog -- but these are times when fortunes can be made.

Thrift Takes Hold, Rich Take Cover

2009-03-18T01:10:00.000-04:00

This post first appeared on Minyanville.

While AIG (AIG) isn’t the only company eager to send its executives to swanky retreats at lavish resorts, other firms have taken note of the decidedly negative press generated by its transgressions.

As a result, they're scaling back expenditures, canceling conferences, and generally demanding their employees adopt a lower profile in the T&E (travel and entertainment) department.

Goldman Sachs (GS) recently announced its business travelers would no longer be put up at the Ritz Carlton. BB&T (BBT), a recipient of $3.1 billion in bailout money, also shunned the Ritz, canceling a March event for top sales people.

This trend bodes ill for states like Florida, a popular vacation destination for firms looking to reward star employees. According to the Wall Street Journal, in the last quarter of 2008, Florida tourism dropped more than it has at any point since the period following September 11. Hotels are receiving cancellation requests from companies wary of showering employees with expensive trips as others lay them off in droves.

Stranger still, this new allergy to perks extends even to language. One client of Amelia Island Plantation, an upscale resort north of Jacksonville, even told the hotel it wouldn’t consider a location whose name had the word “spa” or “resort” in it. Another bold customer even asked the hotel to drop the word “Island” from its moniker. (Oddly enough, the word "plantation" didn't sound any alarms.)

Welcome to the Age of Austerity, the polar opposite of our recent love affair with bling for the sake of bling.

Already, we're hearing anecdotes of shoppers uncomfortable with carrying bags emblazoned with the logo of high-end stores like Saks (SKS) or Nordstroms (JWN). Leering onlookers, disgusted at such lavishness, are shaming the well-to-do into buying their overpriced trinkets online. 2009's version of the "walk of shame" isn't down Frat Row on a brisk Sunday morning, but down Madison Avenue during the midtown lunch rush carrying bags from Prada or Coach (COH).

Purveyors of the inessential are hoping this is just a passing fad, that fast times and big budgets will be back faster than you can say AmEx Black Card.

Others, however, are shouting paradigm shift, as credit has distinctly disappeared from the American spending arsenal. Just how long it will be unavailable is anyone's guess. But as the rich are scorned and public displays of wealth are decried, the Age of Austerity rambles on, gaining momentum.

The next thing you know, that little blue box from Tiffany (TIF) will cease to carry the near-magical power to make up for that really really stupid thing you did once you were 12 beers in.

Biotech Startups: Nothing Ventured, Nothing Gained

2009-03-18T01:09:00.000-04:00

This post first appeared on Minyanville.

It’s a rotten time to be raising money. And for small biotechnology companies, most of which have little or no revenue and are dependent on investor capital to stay afloat, times are tough indeed.

According to the Wall Street Journal, 120 of the 360 publicly traded biotech firms have less than 6 months of cash on hand. And while this isn’t an entirely foreign position for industry upstarts to be in, the challenging fundraising environment means many of these companies could go under.

The business of developing experimental drugs, procedures and devices has always been one of high risk and high reward. Investors, often venture capitalists, are willing to lose their entire outlay many times over for the chance of hitting it big.

During their initial years, biotech startups undertake research, complete lengthy drug trials, and navigate the labyrinthine bureaucracy that is the Federal and Drug Administration, with investors pouring in more cash all the while.

The lucky few either get swallowed up by one of the industry heavy hitters or go public.

As noted in the Journal, the biotech business as a whole had its first profitable year in 2008. As fledgling companies blow through cash, giants like Genentech (DNA), Amgen (AMGN) and Gilead Sciences (GILD) rake in mountains of profits.

The fundraising troubles these startups face are emblematic of the broader difficulties for small businesses. Despite promises of help from the Obama Administration, investors are reticent to back nascent ventures. With investor cash drying up, getting by on a shoe string is becoming increasingly challenging.

This also reflects a sift in time and risk preferences, something discussed at length by Minyanville's Kevin Depew. With a decidedly cloudy economic outlook, investors are drawn to more certain, lower risk bets. Biotech startups represent the pinnacle of investor speculation, as evidenced by their challenge to find fresh backers.

One positive, and something many in the scientific community are pointing to hopefully, is President Obama's support for stem cell research and increased funding for the National Institutes of Health. Greater government assistance, they expect, could give fledgling companies the time and resources they need to make the next big breakthrough.

AIG: Contractually Obligated to Spit in Face of Taxpayers

2009-03-18T01:08:00.000-04:00

This post first appeared on Minyanville.

The AIG (AIG) rabbit-hole keeps getting deeper.

Reports of the $165 million in bonuses shelled out to executives (the ones the New York Times said were "at the very heart of AIG's worldwide conflagration") are eliciting fresh cries of outrage from the public.

Lawmakers, intent on demonstrating their aggressive stewardship of taxpayer money, are up in arms about bonus payments AIG is making to retain top executive “talent.” Barney Frank, chairman of the House Financial Committee, questioned the wisdom of the bailout, saying "clearly there was a mistake from the beginning."

AIG's chief executive Edward Liddy, for his part, argues the payments are not only a legal obligation but essential to retaining key employees -- in his words, "the best and brightest talent" -- and maximizing the value of business units it aims to unload in an effort to repay taxpayers.

The Wall Street Journal reports $450 billion has been paid to employees of the company’s Financial Products unit, the group responsible for much of the trading losses that torpedoed AIG in the first place. In addition, more than $700 million in bonuses and retention payments are being paid to another roughly 10,000 employees.

Liddy, the CEO, said he found the arrangements “distasteful,” but that they were set up before he took the job last year. In defense of the payments, he argued, “Honoring contractual commitments is at the heart of what we do in the insurance business.”

Meanwhile, the company and its government shareholders are facing increasing pressure as we learn just where our $170 billion in bailout money has gone. Trading counterparts have reaped big payments on credit default swaps gone bad: Goldman Sachs (GS) got almost $13 billion, Deutsche Bank (DB) received around $12 billion, and tens of billions more was doled out to trading clients and other banks.

As AIG executives and regulators struggle to untangle the truly nightmarish mess that was once the largest insurance company in the world, the public will demand further retribution against those it holds responsible.

No matter that some, like Liddy, weren't even there when the troubles started. Others, like Congressman Frank, Treasury Secretary Tim Geithner and Federal Reserve Chairman Ben Bernanke are being tasked with the cleanup of a mess they were very much complicit in creating.

Perhaps elected and non-elected government officials alike will acknowledge their role in this mess by refusing both salaries and lobbyist money from the financial sector until the problems are sorted out.

Hey, a guy can dream, right?

Keepin' It Real Estate: Foreclosure Wheel Keeps on Turning

2009-03-18T01:07:00.001-04:00

This post first appeared on Minyanville and Cirios Real Estate.

Despite herculean efforts to stop the foreclosure juggernaut, Americans are still losing their homes at near-record pace.

According to RealtyTrac, a firm that sells default data, foreclosure filings rose in February to nearly 300,000, up 6% from the month before. This figure is the third highest for any month since the housing market turned south in 2005.

As property values fall, more borrowers are finding themselves underwater - owing more on their homes than they're worth. This, coupled with job losses, means homeowners are missing payments at an alarming pace.

Sky-high foreclosures are even more astounding when myriad loan-modification efforts and short-term foreclosure moratoriums enacted by big lenders like Fannie Mae (FNM), Freddie Mac (FRE), JPMorgan (JPM) and Bank of America (BAC) have been taken into account.

And while President Obama’s hotly debated $275 billion housing-relief package is barely a month old, its becoming clear that no cleverly worded press release or inspiring oratory can reverse the trend that’s firmly in place: Housing supply remains elevated, with buyers sitting on the sidelines awaiting better deals. Prices, as a result, will keep falling for the foreseeable future.

In fact, Rick Sharga, executive vice president at RealtyTrac, told Bloomberg he believes the country’s biggest lenders have yet to list over 700,000 bank-owned homes.

This “phantom supply,” as its known in the real-estate world, paints a bleak picture for the housing market in the near term. Even though strong sales activity in distressed markets is pushing aggregate inventory data back towards historical norms, phantom supply is patiently waiting to punish those bold enough to prematurely call a bottom.

Further, well-to-do areas, formerly immune from home price declines, are starting to follow their more bubbly counterparts over the proverbial cliff. In the San Francisco Bay Area, for example, 15 homes had sold for over $5 million by this time last year. This year: Just one.

Many of the most distressed markets are in their last gap of depreciation. And while material appreciation is simply fantasy, high-end markets will pick up where they left off and keep broad measures of property values under pressure.

But as this dynamic plays out -- and the depreciation torch is passed from the "subprime" people to those who are "prime" -- opportunities will emerge in markets that stabilize first. Just as housing prices overshot to the upside, they will likewise overshoot to the downside.

The opportunities are currently few and far between. But with each day that passes, the world of possibilities grows, if only ever so slightly.

Local Governments Bail Themselves Out

2009-03-18T01:06:00.001-04:00

This post first appeared on Minyanville.

Washington promised cash, in due time, but cities need help - now.

Reeling from rising unemployment and the shuttering of local businesses, municipalities are enacting mini-stimulus packages of their own. According to the Wall Street Journal, some are taking the traditional approach: Tax breaks and public works. Others are getting creative, rewarding shopping sprees with gift cards, giving no-interest loans to small businesses, and offering discounted office space for entrepreneurs.

New York City, where much of our current economic malaise originated, even earmarked $15 million of its $43 billion budget to help out-of-work investment bankers start their own companies.

Meanwhile, states like Ohio and Iowa are floating bond issuances to raise funds to put their citizens to work. Governors expect to generate tens of thousands of new jobs from bridge building, road improvements and other public-works projects that President Barack Obama’s $797 billion stimulus package aims to cover. But rather than wait for the funds, or deal with strings inevitably attached to federal money, states are acting now.

This trend isn’t likely to subside any time soon.

With the federal government running a massive deficit -- the Treasury Department spent almost $200 billion more than it took in this February -- states, counties and cities are reluctant to rely on aid from Washington. And with mind-boggling sums being siphoned off by the growing list of firms suckling at the government teat, AIG (AIG), Fannie Mae (FNM), Freddie Mac (FRE), Citigroup (C), and Bank of America (BAC) the worst offenders, it’s no surprise local governments aren’t confident they’ll get theirs any time soon.

Further, as taxes rise to cover massive spending on tap for the next few years, those who had little to do with the housing bubble, Wall Street's collapse, or the credit crisis may begin to wonder why they're being asked to pick up the tab.

It’s only a matter of time before local lawmakers begin to ask the serious question: Do we really want to go down with this ship?

Americans Stop Living in the Past, Say No to Self-Storage

2009-03-18T01:05:00.001-04:00

This post first appeared on Minyanville.

When times were good, self-storage firms made brisk business out of junk repositories.

Now, with consumers eager to cut monthly expenses, paying to keep useless bric-a-brac just doesn't seem like that brilliant an idea. The Wall Street Journal reports that self-storage companies, many of which are organized as real-estate investment trusts, or REITs, are seeing customers flee en masse.

As KeyBanc analyst Jordan Sadler told the Journal, “Consumers are having to choose between a mortgage payment, a car payment and a self-storage payment. It’s an easy one to get rid of.”

When the economy began to sour, storage firms were actually highlighted as a potential pocket of strength. After a strong performance during most of 2008, the sector followed the broader equity markets down the proverbial rabbit hole last fall. Public Storage (PSA), the largest storage company in the country, fell from over $100 per share in September 2008 to below $50 last week.

U-Store It Trust (YSI), Sovran Storage (SSS) and Extra Space Storage (EXR), the other 3 publicly traded storage companies, fared slightly worse. Margins are dwindling as tenants vacate, defaults rise, and the industry is forced to increase advertising to replace its shrinking client base.

Investors also fear that the big storage companies may have a hard time rolling over their debt when it comes due, since, as REITs, they're heavily dependent on borrowing against real-estate assets.

In recent years, as new electronics and furniture piled up in the homes of American consumers, demand for storage facilities jumped. After all, we had to make room for the latest models of those "essentials" we just couldn't live without. Real-estate developers, snapping up land with cheap debt, found erecting and filling up storage units a simple, profitable business.

Old photos, antique sewing machines and other reminders of years long past don’t notice freeway noise; they don't require curb appeal. As long as the sites were accessible, location didn’t really matter. Land was cheap, and revenue -- the average lease currently sits at over $80 per month -- more than made up for the minimal upkeep and paltry debt service.

But now that budgets are stretched, customers are parting with the past in favor of the future. Indeed, in many cases, the future be damned - making it to next month is good enough.

US to G20: Spend, Spend, Spend

2009-03-18T01:04:00.000-04:00

This post first appeared on Minyanville.

4 months ago, as financial markets spun out of control, the world’s brightest economic minds engineered a coordinate global cut in interest rates. Their aim: Save the financial system from imminent collapse.

The move sparked a sharp 20% rally in the S&P 500. The index has since tumbled more than 30% to lows not seen since the 1990s.

If markets are jittery once again, it’s not without justification: In just under a month, global leaders will once again put their heads together, this time to hash out the best way to solve the deepening economic malaise. Hopes are high lawmakers will dream up new (and better) ways to get the world's largest economies back on track.

On April 2, in London, the US is expected to encourage its counterparts at the Group of 20 Summit to increase government-spending efforts to revitalize flagging economies. According to the Wall Street Journal, President Obama and Treasury Secretary Tim Geithner are expected to butt heads with European officials, who would prefer to shift the focus onto crafting stricter financial regulations.

The European Union, many believe, is facing an even worse economic outlook than the US. But those across the pond could need fewer new spending initiatives, since they have further-reaching social programs already in place. In addition, the European Central Bank, or ECB, is far more hawkish (read: concerned) about inflation than is our Federal Reserve.

Digging ourselves out of this mess with more borrowing could spark renewed inflation.

The ECB took longer to lower interest rates last year despite deteriorating economic conditions, citing worries about rising prices. In contrast, Fed Chairman Ben Bernanke aggressively reduced borrowing costs in the hope that companies would borrow to jumpstart new growth. Frozen credit markets didn’t cooperate, plunging the financial system into widespread disarray.

Of the countries that make up the G20, only Saudi Arabia, Spain and Australia plan to spend more propping up their economy than the US, according to data compiled by the International Monetary Fund. Of course, that doesn’t include the hundreds of billions already wasted - um, injected into the likes of Goldman Sachs (GS), Morgan Stanley (MS), JPMorgan (JPM), Citigroup (C), Bank of America (BAC) and Wells Fargo (WFC).

Also left out of these figures are the trillions of dollars the Fed has pumped into the financial system to keep credit flowing -- however reluctantly -- throughout the economy.

The upcoming meeting marks President Obama's first chance to woo world leaders on the global stage. And while his social programs may gain favor among certain European lawmakers, his country's role in creating this mess certainly won't.

The rest of the world increasingly feels its being forced to clean up a problem that was largely American-made.

Moody's List of Riskiest Companies Forgets to Include Moody's

2009-03-18T01:02:00.001-04:00

This post first appeared on Minyanville.

Make-up calls belong in basketball, not finance.

In an attempt to render itself useful, Moody’s Investors Services (MCO) is issuing a list dubbed “The Bottom Rung,” cataloguing the riskiest 15% of all companies it tracks. The effort, which the company claims is an attempt to get ahead of the looming mountain of corporate defaults, has already ruffled a few feathers.

According to the Wall Street Journal, Eastman Kodak (EK), which appeared on the list, issued a harsh rebuttal last night, saying “Any speculation, however informed, suggesting that Kodak is less than financially sound is irresponsible.”

Among the list of allegedly shaky companies: Familiar names like Ford (F), General Motors (GM) and Chrysler made the cut, along with airlines AMR Corp (AMR) and US Airways (LCC). Retailers, restaurants and even a few energy firms also appeared in this corporate hall of shame, in addition to chipmaker Advanced Micro Devices (AMD) and chemical manufacturer Georgia Gulf Corp (GGC).

Moody’s, along with fellow ratings agencies Standard and Poor’s (MHP) and Fitch Ratings Services, played a major role in the recent financial market meltdown. Conflicts of interest with debt issuers, faulty models and lax internal controls all led to credit ratings that were unreliable at best, deceptive at worst.

Unfortunately for Moody’s, gone are the days when investors valued haphazard assessments of credit risk. The Bottom Rung, while generating ample work for Moody’s customer-complaints department, isn’t likely to reclaim any of the company’s lost glory.

When a firm that specializes in assessing whether borrowers will repay their debts fails to see the biggest wave of defaults in a generation, it’s safe to say that company isn’t very good at its job.

Minyanville's Jeff Macke said it best last week:

In an environment in which DC is creating and changing the laws of corporate governance on a daily basis, it’s simply lunacy to allow 3 groups complicit in the creation of the underlying problem to go on their merry ways while members of the House endlessly lambast bankers for being bankers. Take the gun away from the 5 year old; suspend the ratings authority of Moody’s, S&P and Fitch.

Consumers Still Not Consuming

2009-03-09T12:50:00.000-04:00

This post first appeared on Minyanville.

As lawmakers busily laud their own efforts to unlock credit markets and jumpstart lending, consumers yawn. They just don’t want to spend.

And it’s not just those out of work who are paring back expenditures. According to the Wall Street Journal, even the dwindling ranks of the employed are getting thrifty. Computer users are enduring slow machines rather than buying new ones, clothes-shopping trips are being delayed, and coupon clipping is once again the vogue.

Discounters like Wal-Mart (WMT) are benefitting from bargain hunters looking to save a couple bucks, while AutoZone’s (AZO) stock sprinted to a 52-week high last week, as drivers opt to do it themselves.

Politicians, rushing to restore the “prosperity” we so recently enjoyed, are confident this is just a passing fad, and that we’ll soon return to our spend-happy ways. Indeed, the viability of President Obama’s new $3.4 trillion budget is predicated on the US economy's skipping along at a 3.4% growth rate next year - and expanding even faster in 2011.

This optimism -- idealistic at best, delusional at worst -- ignores the extent to which Americans are embracing a new, sustainable way of making ends meet: Spending less.

Meanwhile, the Federal Reserve, busy waving its magic wand over reeling credit markets, is similarly out of touch with reality.

As noted by our friends at BTIG, new federal lending initiatives aimed at funneling money to credit-starved consumers are undersubscribed. In his speech last Friday, New York Fed President Bill Dudley pointed to weak demand as evidence that financial markets were in better condition than many believed, and that investors could be willing to start taking risk again.

Not likely.

As I noted a few weeks back, consumers are roundly rejecting the idea that more debt is a good thing. Even small community banks that have money to hand out can’t find any takers. (Wells Fargo (WFC), Bank of America (BAC) and Citigroup (C) are quietly thanking their lucky stars, since they’re out of cash anyway.)

The ongoing foreclosure crisis, rising bankruptcy filings and tumbling equity values, though they do cause meaningful hardships for millions of Americans, do have a silver lining: The realization that unbridled consumerism does ultimately come at a cost. This is fostering a renewed understanding of the importance of fiscal responsibility.

Most media outlets report this in terms of increased savings, which is almost universally viewed as bad in the short run, if good long-term.

But saving now is good. Period. The notion that spending what you don’t have is somehow the patriotic thing to do is absurd. The only way out of this mess is through saving, not spending.

That is, of course, if one's time horizon extends beyond the 2, 4 or 6-year election cycle.

Foreclosure By Design

2009-03-07T23:56:00.002-05:00

This post first appeared on Minyanville and Cirios Real Estate.

Many months ago, long before bureaucrats dreamed up their massive, ill-conceived loan-modification programs, the free market found a solution to the mortgage mess.

Specialists in handling distressed debt amassed tens of billions of dollars to buy up bad loans at steep discounts. The offending institutions who had bought the stuff in the first place would be forced to own up to their mistakes, take their lumps and move on. Meanwhile, those deft enough to clean up the problems would reap their just deserts.

Alas, it was not to be.

Sometime around the middle of 2006, some regulator woke from a decade-long slumber and decided to hazard a look at the balance sheets of America’s largest financial institutions. To his horror, just about every bank in the country would be insolvent, given the going prices for delinquent mortgage debt.

He raced off to tell his boss, who alerted his superior, and so on up the chain until then-Treasury Secretary Hank Paulson got wind of the coming tsunami of losses. Paulson barely flinched, for Wall Street’s top brass was well aware their collective predicament. After all, it was the likes of his former charge, Goldman Sachs (GS), who designed and sold the toxic assets in the first place.

The choice then was simple: Step back and let markets sort out the mess, risking the lives of storied firms like Citigroup (C), Bank of America (BAC) and JPMorgan Chase (JPM) - or latch onto the absurd notion that these institutions were “too big to fail,” and begin a process whereby the American taxpayer's hard-earned nest egg would be used to forestall the inevitable day of reckoning.

We now know how that sad story ends.

To prevent the market from clearing these assets at their true value -- sometimes just pennies on the dollar -- lawmakers, bureaucrats and big bank executives huddled together and devised ingenious schemes like the Super-SIV, HOPE NOW, Project Lifeline, TARP, and other utterly contrived “solutions” that, despite their claims to the contrary, were simply ways to extend the lives of these zombie banks.

Two pieces today, one run by Bloomberg charting the failure of myriad modification programs to address the problem of negative equity, and one in the New York Times documenting the exploits of former Countrywide executives buying distressed debt from the FDIC on the cheap, evidence the abject failure of government efforts to stem the rising tide of foreclosures.

Private investors, the ones best suited to forgiving principal or lowering interest rates to keep a family in their home, were handcuffed by political bumblings. But these programs, by preventing true price discovery in the housing market, have likely achieved their goals of their designers.

Our banking system has buckled, but not broken. The eventually recovery, however, has been pushed well down the line and the cost shoved onto future generations. Those responsible have by in large retained their posts at the institutions deemed “too big to fail,” save a couple token scapegoats tossed to the media wolves.

Meanwhile, the responsible few who did not speculate on their home, did not use credit as a vehicle for illegitimate economic growth and never thought they’d be asked to pick up the tab for those that did, have now been asked to shoulder the burden.

It should come as no surprise that housing prices keep falling -- indeed they must in order for true stabilization to occur. But the slow bleed, the persistent drag on the fundamentals of our economy, is doing more damage under the hood than our wise leaders would care to admit.

Still, they insist the more economic control centralized in Washington, the better. After all, the ones that drove us off this cliff certainly should know how to break the fall.

Keepin' It Real Estate: How to Play the Housing Rebound

2009-03-07T23:48:00.000-05:00

This post first appeared on Minyanville and Cirios Real Estate.

There isn’t an economic forecaster or media pundit alive who isn’t angling to be the first to (correctly) call the bottom in housing. Many have tried; they all have failed.

But what happens when one’s right?

At some point in the future, broad home price indicators will cease to slide, then stabilize and even begin to move back up. When, and in what shape that trajectory will be, of course remains a mystery. As I've written in the past, the eventual recovery in housing will be a prolonged, localized event. The rising tide will not lift all boats, as the fundamentals of the old cliché “location, location, location” will be truer than ever.

And although predicting the date of this event is a fool’s errand, savvy home buyers will be ready to jump in ahead of those who remain in their shells long after the best bargains are behind them.

Here are 5 simple things you, the future home buyer can do now, without putting your nest egg at risk, to be ready for the coming opportunities in real estate:

1. Have patience.

There will be false bottoms, dead-cat bounces and treacherous pitfalls on the path to a recovery in real estate. Be patient. Don’t believe the hype - a couple months of strong sales numbers don’t foretell and imminent rebound in prices. Let the beginnings of a trend develop before you begin your home search in earnest. Future appreciation will come slowly, as tightened mortgage guidelines and fear of the collapse we’re now experiencing will not be soon forgotten.

2. Find a market, do your homework.

Had your eye on that classic Victorian around the corner from your kids’ future grade school, and hoping the elderly couple living there knock off just in time for you to swoop in at the estate sale? Expand your search.

Pick a couple of areas you could be happy in - look in multiple cities even. By focusing too narrowly on a single street, or even a single neighborhood, you could be missing out on what could be a fantastic opportunity on the other side of town. Don’t compromise, but play with your list of priorities to give yourself the most “exposure” to localized markets that may become increasingly attractive.

Tour the schools, scope the neighbors - hang around on Halloween to see who gets egged. RealtyTrac.com is a great resource for watching foreclosure activity all over the country and in your backyard. Their free site provides a great overview of cities and neighborhoods, but you have to pay for the house-by-house detail. Unfamiliar with an area? Use RealtyTrac to eyeball major neighborhood dividers (railroad tracks, highways, main roads, etc.) and examine foreclosure activity on either side.

3. Find a broker and start a housing “tracker”.

Real estate brokers can be a valuable tool in your home search - use them.

An aside: The commonly used term “realtor” denotes an association with the National Association of Realtors, or NAR, the lobbyists who have been predicting a bottom since the downturn began over 3 years ago. Tread carefully with anyone proudly bearing an NAR pin. Contrary to what many tell you, you don't need to be a realtor to have access to MLS. But I digress.

Today, with transactions down in all but the most distressed areas, any broker worth his (or her) salt should be out prospecting for future clients, not proclaiming the time to buy is now. Collect referrals, test drive a broker or 2 and find one you’re comfortable with. Your broker should not just understand the local market but be up to speed on the macro-level events affecting the real estate and mortgage markets. Ask him what a CDO (collateralized debt obligation) is - watch for a flinch. For better or for worse, understanding the state of Wall Street is as important these days as understanding the state of your street.

Ask your broker to help you develop a “housing tracker,” a simple tool that allows you to watch homes as they come on the market to see when and for how much they sell. Watching the life cycle of homes in a given market will give you a sense of how desperate sellers are, when asking prices drop and what concessions buyers are able to receive from sellers. As concessions begin to swing in favor of the sellers, the bottom may be nigh.

4. Start saving money.

If there’s one sure bet in the housing market, it’s that mortgage requirements will remain tight for the foreseeable future. Banks -- Citigroup (C), Bank of America (BAC), JP Morgan (JPM) and Wells Fargo (WFC) being the obvious examples -- are hoarding cash and reticent to lend even to the most qualified buyers. Unless a loan falls within guidelines set by Fannie Mae (FNM) and Freddie Mac (FRE), rates remain elevated and approvals elusive. This isn’t likely to change any time soon.

Save for a down payment and be able to point to liquid reserves (i.e. money in the bank) during the application process. Think about this as the lender’s cushion should you fall on hard times - and banks will need all the cushion they can get.

5. Think of your home as an investment, not just a place to raise your kids.

This may seem counter-intuitive, since speculation on housing prices played a huge role in creating the recent housing bubble. But speculating and investing are not the same thing.

A home, in addition to being a place to raise kids, is a massive financial obligation. Becoming emotionally attached to a house, rationalizing the financial realities away and hoping paychecks keep coming simply isn’t a viable home-buying strategy. As un-romantic as it may be, treat a home as you would a stock: Examine it, turn it upside down, run the numbers. Love it every day you’re there, but financial responsibility and emotional attachment don’t need to be mutually exclusive.

The time to buy may not be today -- and it may not be tomorrow -- but we’ll be closer to that day tomorrow than we are today. However, just as prices overshot to the upside, they'll likely overshoot to the downside - be ready when that day comes.

Preparation, not hoping, will be the key to taking advantage of the opportunities that will present themselves on the other side of this mess.

When Good Credit Goes Bad

2009-03-07T23:47:00.002-05:00

This post first appeared on Minyanville.

An impeccable credit score was once a source of pride for bill-paying, fiscally responsible Americans. Now, as card issuers slash lines, up minimum payment requirements and raise interest rates seemingly at random, a stellar credit rating is rare indeed.

Besieged by mounting losses on all types of consumer debt, banks and credit-card companies are scaling back: According to Bloomberg, 45% of all US banks reduced credit card limits for new or existing customers in 2008's fourth quarter.

Issuers are attacking the problem in various ways, but the net effect is the same: Americans are using less plastic. Citibank (C) is lowering credit limits, Capital One (COF) is charging new customers higher rates, JPMorgan Chase (JPM) is upping minimum monthly payments from 2% to 5% on certain accounts, and American Express (AXP) is awarding $300 to select clients if they close their accounts entirely.

The trouble isn’t just that formerly credit-dependent consumers are having a tougher time making ends meet. FICO scores -- the most common measure of a person’s credit-worthiness -- heavily weigh total credit utilized compared to total credit available.

So as lines are cut, outstanding balances as a percentage of total credit lines rise. This in turn dings a consumer’s credit rating, making it harder to get a new card, and in some cases causing existing creditors to jack up interest rates. The vicious cycle continues, and even borrowers with heretofore unblemished credit histories are finding their FICO scores drop for the first time ever.

The solution, as evidenced by dismal earnings reports from the country’s biggest retailers, is simple: Spend less, save more.

Even as lawmakers are making herculean efforts to revitalize the economy by injecting money into the banking system and lowering taxes, reality is moving in the opposite direction.

An anti-spending, anti-consumerist mindset is taking hold across the socioeconomic spectrum. This shift cannot be stopped by flowery talk from Washington - or by vilifying Wall Street in Congress. Spending, the hobby of choice for nearly 3 decades, is becoming the thing not to do. Saving, which had begun to seem positively un-American, is once again in vogue.

This isn't some transitory fad we'll soon forget when the good times roll once again. The current crisis will be felt in the American psyche for decades to come.

Who knows - for our generation, cutting up credit cards may be our answer to the burning of bras.

Desperately Seeking Dollars: Greenback Catches a Bid

2009-03-07T23:47:00.001-05:00

This post first appeared on Minyanville.

The phenomenon has many market observers scratching their heads: The US dollar is marching steadily upwards, despite the fact that the American banking system is on the ropes, the Federal Reserve is printing money at a record pace, and Washington wants to increase our already multi-trillion dollar deficit.

And while the answer to this conundrum is indeed complicated, its roots lie in how economic participants react to economic crisis and, ultimately, to deflation.

According to Bloomberg, in banking panics past, lenders tended to focus on doing business at home, rather than abroad. This makes logical sense: Bankers want to begin by helping those in their own backyards. The ongoing spat between Western and Eastern Europe, with the latter begging the former for help, is evidence that saving one’s own skin tends to take precedent when times get tough.

As a result, countries heavily reliant on foreign lending tend to fare poorly when such currency “protectionism” takes hold. Despite profound troubles at Citigroup (C), AIG (AIG) and Bank of America (BAC) -- to name but a few US financial institutions swimming in shark-infested waters -- many believe our banks, and indeed our economy, will fare better than those around the world.

Furthermore, as an economy spins out of control, politicians respond by firing up nationalistic rhetoric, urging a country’s citizens to band together. The widely-discussed “Buy American” provision in President Obama’s economic stimulus plan is but one example of lawmakers asking the electorate to “turn inward” in the face of danger.

Returning to the dollar, in addition to investors betting on the American economy to outperform its international counterparties, ongoing deleveraging favors the American currency. Dollar-denominated debt must be repaid with dollars, and as debtors scrounge up greenbacks to pay back their creditors, dollars become more scarce, driving their value upwards.

Deflation, which goes hand-in-hand with deleveraging, encourages consumers to hold on to cash, since as prices fall their dollars stretch further tomorrow, than they did today. Housing is a perfect example -- why buy a home today that will be worth less tomorrow?

The dollar is now approaching a near-term high not seen since the last time equity markets plunged to new lows (last November). This echoes Toddo's persistent theme of "asset class inflation vs. dollar devaluation." It's no doubt policymakers and the Plunge Protection Team are acutely aware of this relationship -- it's now a question of when, and how, they'll act.

Stay tuned, as Mr. Practical is apt to say: Risk is high.

Titanic Blunder for Royal Caribbean

2009-03-07T23:45:00.000-05:00

This post first appeared on Minyanville.

Think its tough to get a mortgage these days? Try financing the biggest cruise ship ever built.

Royal Caribbean (RCL), the second largest cruise-ship operator in the world, is currently scrounging up money to purchase the Oasis of the Seas, a 5,400-passenger, 16-deck, $1.2 billion monstrosity under construction by STX Europe’s Finnish shipyards. In normal times, the company would have no trouble assembling a team of lenders to finance the purchase. But now, with credit markets frozen solid, loans are more difficult to navigate than an ocean strewn with icebergs.

According to Bloomberg, Royal Caribbean is petitioning the Finnish government for help. Already, state-owned Finnerva has agreed to guarantee 80% of the loans needed to buy the Oasis and its sister ship, Allure of the Seas. The Finnish government says its given out larger guarantees in the past, but isn’t terribly keen on this one unless circumstances are "exceptional."

Meanwhile, Royal Caribbean and rival Carnival Cruise Lines (CCL), are reeling from the economic slump and the worldwide decline in tourism. And with the likes of Citigroup (C) and Bank of America (BAC) becoming increasingly reliant on government funds for survival, extravagances like the biggest cruise ship ever built will be increasingly hard to justify.

The Finnish government's dilemma underscores a growing dilemma for countries all over the world: Prop up industries begging for federal assistance, or preserve funds and maintain the integrity of the sovereign balance sheet? Volatility in the foreign exchange markets (the yen's recent tumble, for example), is evidence that investors are becoming increasingly worried that government is getting out over its skis.

With tax revenues falling, trade grinding a halt, and social-program obligations ballooning, lawmakers are opting to take a more active role in economic governance. Many, in fact, are moving toward central economic planning.

This is an unwelcome shift, but one we're being told is necessary to stave off some unnamable economic catastrophe.

The similarities between the Titanic's moniker -- "unsinkable" -- and the belief that certain banks are too big to fail would be ironic, if it weren't so sad. Given that ill-fated vessel, we should be wary of the notion that anything is invincible - especially when the path through the icebergs is growing increasingly difficult to find.

Banks Brace for Stress Tests

2009-02-24T19:06:00.000-05:00

This post first appeared on Minyanville.

As financial markets reel, equities probe lows unseen in over a decade, and optimism wanes on Main Street, President Obama and Treasury Secretary Tim Geithner are rolling out a series of so-called “stress tests” to firm up confidence in the country’s banks.

The tests, designed to ensure banks will survive even if economic conditions continue to deteriorate, focus on the books of 20 of the country’s largest banks. According to Bloomberg, the stress tests begin today.

The approach harkens back to tactics used during the Great Depression - yet another reminder of just how bad things have gotten for the US banking system.

Last week, Federal Reserve Chairman Ben Bernanke explained how a similar approach in 1933 solidified confidence in the nation’s banks:

“Roosevelt shut down the banks for a week and said we are just going to check the books and open them up only when we think they are solvent. And a lot of the banks opened up pretty quick. So, it's not really clear how much they really looked through the books, but when they opened them up again, people felt much more comfortable, and more confident in the bank.”

The current plan doesn’t just aim to “check the books.” Instead, regulators will evaluate the strength of banks like Citigroup (C), Bank of America (BAC) and JPMorgan (JPM), already up against the ropes, based on how the'll perform if put through a more “stressful” economic test.

In other words, what happens if the wheels really fall off the wagon.

For example, let’s assume most economists believe housing prices, which have already corrected more than 20%, will stabilize after having fallen 30%. The last 10% of declines would have a certain effect on residential mortgage losses (among other assets), so Treasury bean-counters try to estimate whether banks could withstand the losses such a scenario would create.

The next step is to assume things get worse than expected - say, a 40% peak-to-trough decline in property values. More losses would ensue, and, after tallying each bank’s projected losses, officials can try to determine how much capital banks need to to remain solvent through this “worst-case scenario.”

After injecting the requisite capital to keep banks alive if things get really, really bad, newfound confidence could entice private capital back into the market. At least, that's the theory. If instead they find out certain banks wouldn't survive without massive amounts of capital, they could then become targets for nationalization.

Myriad troubles arise with this approach, bold as it may be. A few to consider:

First, selecting the “worst case” is problematic, particularly since conditions during this crisis have gotten worse than almost anyone expected. Anyone in Washington, that is, since many private commentators had been saying the sky is falling for years. Still, regulators have to make guesses about how bad things could possibly get, and their guesses could be wrong.

Second, any assumptions about future losses are based on guesses based on assumptions based on guesses based on assumptions based on wild stabs in the dark. In short, the complexity of the global financial system, the unintended consequences of various government actions, and a general difficulty predicting the future, make predictions exactly that - predictions.

Third, and possibly most importantly, regulators have lost almost all credibility over the past 18 months.

Some may argue that the guys in charge are different, but that’s just not the case. Ben Bernanke still runs the Federal Reserve, Tim Geithner ran the New York Fed for the past 5 years, Lawrence Summers is back at the economic helm, and Barney Frank and Chris Dodd are still mouthing off on Capitol Hill. Sure, there's a different face in the White House - but by and large the same folks who got us into this mess are now trying to get us out.

The American public recognizes this, investors recognize this, and the world recognizes it.

Even if the stress tests go off without a hitch and Geithner and Obama loudly proclaim the banking system is safe and sound, the market may simply, quietly shrug - and continue heading south.