don't have enough fingers and toes to accurately
add up the potential damage ...
>>>>>>>>>>>>>>
The lumpenhouseholder ought to be nearing the end of his
spending spree. He ought to be running out of money and
running out of time. But you wouldn't know it from the
headlines.
It is as if investors hadn't noticed.
Or had noticed and yawned. Are they blind, we wonder, or are
we? In the past several years, the consumer has been
taking money out of his house just to keep going.
Fistfuls of money. Truckloads of it.
Over the last two years alone, $1.352 trillion of equity has been extracted – an amount equal to about 10% of annual GDP.
But now, with US housing prices levelling off, the river
of ready cash is drying up. Is there some other source
of easy money that will save him? If anyone knows what
it is, he doesn't work here at the Daily Reckoning.
The consumer has squeezed himself into a tight spot, but
what got him there was the grease of phenomenally low
interest rates. And now that the inverted yield curve is
normalizing and borrowing for three months is actually
becoming cheaper than borrowing for ten, the grease is
getting a little stiff and gritty. US housing prices
aren't rising like they used to, while unsold houses are
stacking up like empty shipping containers at Long
Beach. Existing house inventories are 40% above those a
year ago.
And stuck in his tight spot, the US consumer looks up
into the mirror and sees a sucker in it.
Business Week describes the trap in greater detail:
"The option adjustable rate mortgage (ARM) might be the
riskiest and most complicated home loan product ever
created. With its temptingly low minimum payments, the
option ARM brought a whole new group of buyers into the
housing market, extending the boom longer than it could
have otherwise lasted, especially in the hottest
markets. Suddenly, almost anyone could afford a home -
or so they thought. The option ARM's low payments are
only temporary. And the less a borrower chooses to pay
now, the more is tacked onto the balance.
"The bill is coming due. Many of the option ARMs taken
out in 2004 and 2005 are resetting at much higher
payment schedules - often to the astonishment of people
who thought the low instalments were fixed for at least
five years. And because home prices have levelled off,
borrowers can't count on rising equity to bail them out.
What's more, steep penalties prevent them from
refinancing. The most diligent home buyers asked enough
questions to know that option ARMs can be fraught with
risk. But others, caught up in real estate mania,
ignored or failed to appreciate the risk.
"There was plenty more going on behind the scenes they
didn't know about, either: that their broker was paid
more to sell option ARMs than other mortgages;
that their lender is allowed to claim the full monthly
payment as revenue on its books even when borrowers
choose to pay much less;
that the loan's interest rates and up-front fees might not have been set by their bank but rather by a hedge fund;
and that they'll soon be
confronted with the choice of coughing up higher
payments or coughing up their home.
The option ARM is "like the neutron bomb," says George McCarthy, a housing economist at New York's Ford Foundation. "It's going to kill all the people but leave the houses standing."
What are we missing? We squint. We look around. We
scratch our heads. And then we look under the cushions
and behind the chairs. How can a consumer economy keep
consuming when the consumers have no more money? Or, is
there a source of revenue we have overlooked?
"With soaring stock portfolios now ancient history and
leaping house prices about to be," writes Gary Shilling,
"no other sources, such as inheritance or pension fund
withdrawals, are likely to fill the gap between robust
consumer spending and weak income growth. Consumer
retrenchment and the saving spree I've been expecting
may finally be about to commence. And the effects on
consumer behaviour, especially on borrowing and
discretionary spending, will be broad and deep."
Shilling expects house prices to drop by at least 20%,
which will cause a 'major recession.'
As usual, we don't presume to know what will happen and
we're not going to sweat too hard to try to figure it
out. We suspect that there will soon be more than enough
sweating going on.
*** First, our friend Byron King reports from the
confluence of the Monongahela and Allegheny rivers in
the US.
"True story from a lunch time conversation today (9/1):
"A Pittsburgh real estate attorney (not me, by the way)
is currently in the process of losing his Brooks
Brothers shirt because he bought into a group of condos
and houses in Florida. 'I was expecting to flip them,
just a lay up shot,' he told me.
"Now, all of his properties are under-secured, and cash-
flow negative. One of his lenders is asking for copies
of recent balance sheets and cash flow statements. They
are sending out the appraisers to do new appraisals.
Whoops. This guy is now in the process of cashing out a
lifetime worth of whole life insurance policies to get
the funds to stay afloat. Here is his summary:
'It seemed like a no-brainer. Florida real estate looked
bulletproof. The Baby Boomers are going to retire, move
to Florida and live in their condos overlooking the
beach. You could get a bankable appraisal on buildings
that had not even been constructed. Just buy, hold, sell
and pocket the difference. Now I am taking a haircut
down to my scalp. I am cashing out all of the whole life
policies that I accumulated over my entire career. This
was the kids' college money, if not my retirement nest
egg. What in the hell was I ever thinking? My wife is
furious, my kids don't know about this but they are
going to hate me, and my dad is just shaking his head,
like 'I thought I raised you better than that'. I am
probably going to have to work until the day I die, and
then my family will not have any life insurance on me.
Man, did I ever screw myself.'
"Note the last line. At this point, he is blaming
himself. Just wait. Eventually he, and others like him,
will probably figure out that they have been victimized.
We will all figure out some way to blame other people,
and then sue the class-action crap out of them. Or bomb
them back to the stone age."
*** And our old friend Francois told us another
interesting story over dinner last night.
"My father-in-law was an executive for one of the big
steel companies in France. This was back in the 1950s
and '60s. Even then, there was talk of Asian
competition. But I remember he told me that the steel
industry had nothing to worry about because steel-making
involved too much capital and too much technological
expertise. The French steel-makers thought they were
protected. They thought they had a permanent advantage.
"Well, he died several years ago but he must be turning
over in his grave. Acelor Steel, the successor to the
business he worked for and one of the prizes of French
business, was just acquired by an Indian steel magnate,
Lakshmi Mittal. He's also the richest man in Britain."
*** Francois had a look at our gypsy wagon:
"I guess you didn't have enough to do. You had to dream
up a new project. Well, this should keep you busy."
We don't seem to have much success explaining to people
why we are building a gypsy wagon. They find it odd;
they wonder what the point is.
"Are you going to change your career? Hitch up a horse
and become a vagabond?" they ask, laughing.
What is it for, they want to know.
"Nothing practical," we explain, lamely. "We just
thought it would look nice out in the garden, like a
piece of sculpture. Each summer, we will roll it out. It
will sit there and occasionally, we will wander out and
have tea in it. Or, maybe some young guests will want to
sleep in it. Look, it even has a little gas stove, so we
can heat up water for tea.
"Besides, it's been the perfect project for summer. The
boys helped with it a lot. In fact, Henry and Jules did
most of the work."
"Well, in that case, it was a good idea," conceded
Francois. "You need to keep the boys working. Otherwise,
who knows what they'll get up to, but I think it will be
nice down by the pond, especially if you hire a gypsy to
live in it, you know, like they used to do. In England,
in the 19th century, they would build rustic cabins - or
even grottos - in a grand garden, and they'd hire one of
their farm-hands to live in them and dress in a costume.
It made a delightful spectacle."
"Well, we can't afford to hire a gypsy full time – not
at French labour rates. But Maria said she'd play the
part anytime we wanted. You know she's had a lot of
practice from when she played the lead in Carmen. Yes -
that's the opera with the bull-fights. But luckily,
we're not planning to stage one of those. At least, not
yet."
>>>>>>>>>>>>>>
dailyreckoning.co.uk
Originally posted by Chispas here:
Message 22779131
note:
and where yonder those derivatives consisting of
bundled mortgages?
regards,
John |
