Fannie Mae’s shareholder equity fell 27% in the third quarter in spite of what they reported. Worse, there are more problems on the way. Fannie has serious problems with corporate governance, financial disclosure and reporting. They have trouble managing their massive assets. A bad guess on the direction of interest rates has exposed a giant mismatch between maturities of assets and liabilities and demonstrates how vulnerable Fannie is to interest rate risk. They show no responsibility or remorse in their unbridled exposure to interest rate risk. It’s as if they have been told by government, don’t worry about it, we’ve got you covered. Fannie has a huge portfolio because those who manipulate our economy want it that way, so they can delay an inevitable American depression. There is always the implied government guarantee of debt so that is why they act the way they do. Currently Fannie’s debt is $800 billion. Required core capital is 2.4% of on-balance sheet assets and 0.45% of outstanding mortgage backed securities and other off-balance sheet obligations. This is well below levels necessary for FDIC-insured commercial banks, and even government securities dealers carry capital of about 5% of assets. Fannie is running a huge leverage operation at a ratio of 54-1. At the end of the third quarter debt was $1.8 trillion. Fannie’s mission is now a political, financial and economic one and that is to pump money into housing at the fastest possible rate to keep the economy from collapsing.
A growing number of borrowers are getting interest-only loans, which allow them to slash monthly payments but still build equity as long as homes continue to appreciate. The idea for some is to use the excess funds not going into equity to invest in something with a higher return and perhaps make money on an appreciating asset at the same time. On the other hand it gives those who wouldn’t normally be able to buy a house the chance to do so. The problem is the failure rate among these sub-prime borrowers is very high.
Banks are protecting themselves through credit defaults by using credit default swaps. The problem is they are acting on inside information gained in the course of their lending relations with bond issuers. Banks refuse to comment on the matter and understandably so. Banks have no conscience when it comes to illegal activity. This is why the derivative markets have to be regulated. In the past five years the overall size of the credit derivatives market has grown to $2 trillion from $180 billion. There is no question the public is being cheated and the use of credit-default swaps amid a deteriorating corporate credit environment has contributed to unprecedented volatility in high-grade corporate-bond prices over the past year. In recent years the relationship between cash bonds and credit-default swaps has become far more pronounced, with the increase in trading action of derivatives attracting hedge funds and other speculative players into the credit market. Just a year ago moves of 0.05% to 0.10% were considered large, but now 0.20% to 0.40% intra-day moves have become commonplace. Pimco directors say, "Credit default markets are the mechanism within which friendly commercial bankers and others privy to inside information can profit by betraying and destroying clients through the use of inside information." At the same time, the use of credit derivatives "protects commercial banks that have inside information and destroys the value of the corporate-bond holdings within pension funds where inside information is void." This allows banks not only to protect themselves, but allows them to profit. If a client has problems, the banks simply purchase protection that greatly exceeds the size of loan amounts. Corporations asking banks to certify the amount of credit-default insurance is not the answer. The answer is criminal and civil fraud charges. The SEC knows about it but refuses to do anything about it, because the bankers own them. If this were some small bank, insurance company or brokerage firm doing this they’d be all over them. This is another example of duplicitous conduct by Congress, the banking committees, the SEC and NASD. Let’s see if Eliot Spitzer will tackle this problem as well. No one is willing to. Plus ça Change, plus c´est la Même Chose.
The US economy has recently witnessed the largest, most aggressive, cut in interest rates ever and an equally rampant growth in money and credit, but little recovery is in view. That’s caused by a collapse in earnings, lack of investment, surging depreciation, high real interest rates, a murderous trade deficit and criminality in corporate America, banking and on Wall Street. This horrible combination has doomed any possible recovery. The world economic cycles are also out of whack. The US is leading the world into depression. This is an economy that over the last five years spent 50% more on imports than it actually earned. That was the engine that once again led the world to prosperity. It took six years for the economy to rise and by our statistics it should take nine years for it to recover. That would be 2010. Most have thought us mad for 31 months. Some seven years from now those unbelievers will say, why didn’t we listen? It was so simple to see. Of course, the Keynesians Friedman and Greenspan see us as totally daft. Then again, we’ve been right and they have not been correct. The systemic problems are beyond reach. Neither America nor the rest of the world economies have the dynamics left to overcome the coming depression, and the problems are everywhere and overwhelming. All the bubbles haven’t broken yet, and until they break there will not be recovery.
"I think there will be criminal actions," says Eliot Spitzer, whose investigation into the fraudulent analysis, spinning and laddering of IPO’s is ongoing. "We are examining documents at various investment houses that lead us to believe that these are agreements," he says. This is what we have contended all along. This is what is going to break in December. This is what the media refuses to report. This is what Eliot Spitzer is hoping to avoid, but can’t. If he refuses to file criminal charges it could ruin his career because we’ll make sure the public is aware of what he has done. Pushing the issue is former Cramer Company employee Nicholas Maier who says manipulating stocks was widespread and he was asked to participate in it by most of the major brokerages. "I know for a fact that it became such a commonplace activity that I did the same thing with most of the major investment banks." This was total market manipulation. Issue the IPO (pump) and run it up (dump). We have been writing and complaining about this for 25 years but no one would listen; now finally these crooks hopefully will be dragged before the courts of justice. The worst of the cartel is JP Morgan Chase and Goldman Sachs. Thus, not only do they have dummy offshore deals, in which they partnered fraud with Enron and others, they also have this IPO problem as well as a crushing derivative problem, particularly in gold derivatives. JP Morgan Chase is doomed. The scandals will be legion and once the gold manipulation cartel is exposed gold will seek the stratosphere.
We are happy to report the CNBC viewership is down during the first half of this year by 23%. That is off 45% from March of 2000. Perhaps, if they reported news on an unbiased basis they wouldn’t have such problems. We predict another 50% drop over the next year as the market tanks, and then perhaps GE will be forced to be a real news organization. We must admit that Bloomberg is only slightly better due to its censoring of material. We need rip and read reporting not propaganda and cheerleading. We seldom hear that this year the S&P is off 23% and NASDAQ 31%, nor do we ever hear that the dollar is off 14%, and that gold prices are up 20% and the gold shares are up 85%.
Inflows of capital into the US are no longer helping to support America’s current account deficit. Foreign portfolio investors have also lost their appetite for US equities. Asians are probably the only groups increasing US bond positions. The dollar and yields are both unattractive. The euro zone and the E-countries with non-oil current account surpluses all have falling prices and/or production levels. They account for 70% of global industrial production. They also control 80% of the global foreign exchange reserves. These economies are as dependent on the US current account deficit as the US is on external financing. It’s now only a question of when foreigners will break and run and the whole charade comes unglued. The catalyst for that could be a war in Iraq, its $200 billion plus price tag, is for a one to three week war and the reconstruction cost of $1 to $2 trillion. The CIA might even repeat its performance in Afghanistan and give away millions of dollars in $100.00 bills, most of which ended up in the bordellos of Pakistan. Foreigners own over 41.9% of all US Treasuries.
You ask how do the elitists take care of those who serve them well? Arthur Levitt, former chairman of the SEC, and on whose watch all the recent scandals were hatched, is an investment banker with the Carlyle Group. When Levitt was a brokerage executive he was a loser and still is, always tending to the needs of his masters. Arthur Levitt is a gutless windbag and we are being generous.
Med Diversified has filed a $1 billion lawsuit against National Century Financial Enterprises, which is also aimed at JP Morgan Chase and Bank One, who Med Diversified says breached certain fiduciary duties that will gravely affect patient care across the country. Morgan and Bank One denied the company the right to seek alternative funding by refusing to release its unpurchased and future accounts receivable. The situation caused Med Diversified to put its Tender Loving Care unit into Chapter 11. What JP Morgan and Bank One did was cover up the poor financial condition at National Century.
Big Brother gets bigger every day. The FBI has put software in the computers at the Hartford Public Libraries that allows them to copy a person’s use of the Internet and their E-mail messages. The fascist suppression continues.
President Bush has allowed US troops to be put under UN command in the former Soviet Republic of Georgia, which violates his campaign promises not to do so and the 2000 Republican platform. Our troops take orders from Major/General Kazi Ashfaq Almed of Bangladesh. Let’s resurrect Rep. Tom Delay’s bill to stop this nonsense. You talk about being sold out. Napoleon Bush is a real piece of elitist work.
John Templeton, the 90-year old stock guru of Lyford Cay, says that the current account deficit, because of the risk that it poses to the US dollar, is the greatest threat imperiling the American Economy. It will reach $600 billion in 2003 or 5.5% of GDP. That makes the US account for 70% plus of the total global deficit. The deficit is an accident waiting to happen. Foreigners finance most of this financial profligacy. Over the last eight years foreign ownership of Treasuries is over 42% and the same is true of US stocks and corporate bonds. The foreign ownership share of Fannie Mae and Freddie Mac is up over 100% to some 15%. The US owes 20% of GDP, while savings are at 4.4%. Obviously it’s fun to spend and that’s why bankruptcy claims are up 15% this year.
It’s called destroying evidence, it’s a criminal act, yet five securities firms get to only pay fines of $8.3 million for failing to keep damaging E-mails and produce them in regulatory investigations. The miscreants are Goldman Sachs, Morgan Stanley, Citigroup, US Bankcorp and Deutsche Bank. The destruction of these E-mails neutralized a probe by the NASD and SEC into alleged wrongdoing during the stock market bubble that they helped to create. No evidence, thus no corrections. To point out how important E-mails are, take a look at the Salomon-Citigroup-Grubman-Weill episode involving an AT&T upgrade and the admittance of Grubman’s twin children to an exclusive NYC pre-school. An $8.3 million fine is an absolute insult to Americans. It is a reward for criminality. These firms stole billions of dollars from investors by spinning and laddering and producing bogus research. This may be the biggest rip-off of the American investor in history. None of these firms are being investigated. This is being swept under the rug. Who’s to blame, Pitt and the SEC? These cases all should have been referred to the US Attorney’s Office. Some of these firms destroyed every E-mail since 1997. E-mails are to be kept for three years. This whole episode is a disgrace. Every one of these criminals will walk and they should all be in jail.
Major Wall Street brokerage firms and analysts continue to bury their clients. Only eight of fifteen firms in the WSJ Quarterly stock picking managed to beat the minus 17.6% return on the S&P 500. The Dow fell 17.9%, the sharpest quarterly decline since 1987, yet no short recommendations. It defies logic that Wall Street brokerage firms should always only recommend long positions especially in what probably will be the biggest bear market in modern history. Are they stupid or are they crooks with a vested interest? You figure it out, we have our own ideas. Who were the worst? They were Lehman Bros –25.2; AG Edwards -21.5; Morgan Stanley –19.3; Smith Barney –19.2; Bear Stearns –18.2 and Raymond James –18.1. To these scavengers of Wall Street goes the booby price for gross incompetence. Investors, you don’t need consistently bad advice like this. Make your own decisions. Wall Street has been dead wrong for 31 months straight, how can anyone listen to them? Believe us they know what’s going on.
During October Fannie Mae reduced its duration gap from a negative 14 months in August to six months in October. The gap suggests that cash flow from assets will drop more quickly than the stream of payments it owes to its debt holders. Fannie bought mortgage securities to adjust its portfolio duration. By buying mortgages, Fannie Mae took cash flows of faster prepaying mortgages and reinvested it in newer, lower coupon mortgages. The newer mortgages, which carry lower rates and are more dangerous, aren’t likely to be refinanced soon and that helped narrow the generation gap. Fannie’s outstanding portfolio commitments rose to a record $119.3 billion at the end of October from $84 billing in September. Retained commitments for the mortgage portfolio hit a record $67.3 billion for October with portfolio purchases at $32.9 billion. We believe in spite of Fannie’s efforts the duration gap will stay at six months in November and may widen somewhat again. The result of Fannie’s market purchases will be higher interest rates. These are part of the miracles you can create with derivatives.
Interest-only mortgages are a deathtrap for borrowers as well as lenders. The benefits are: payments are 100% tax deductible and there are lower monthly payments in the initial years. The problem is the buyer makes no headway repaying principal and could have to refinance at a later date at higher rates. If the price of the home increases the buyer does very well due to no-down leverage. If the price of the home falls in value the buyer walks away and leaves Fannie holding the bag. The buyer takes on interest rate risk and the principal must eventually be paid. The use of these mortgages badly distorts the market because payment of principal begins in two to five or ten years and the buyer may not be able to pay the increased payment. If they can’t they can sell if there is a profit. If not Fannie owns the property in a declining market. These kinds of loans presently make up 5% of all loans, but the demand is growing, particularly in areas where home prices have risen the most. That is also where the greatest risk exists for both the borrower and the lender. The risk of falling prices. People are buying homes that they could never otherwise afford, because they have maxed out their credit. The greedy banks are more than eager to cooperate. They just sell the paper to Fannie. In most instances the credit standards are less than prime or sub-prime. We find it of interest that Freddie Mac doesn’t buy conventional, or less than jumbo, interest-only mortgages, but they say it’s because not enough are being produced.
THE INTERNATIONAL FORECASTER 23, November 2002 (#4)
An international financial, economic, political and social commentary.
Robert Chapman, Editor Vol. 6- No. 11- 4 ( 60pgs.)
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