Question of The Day - Is Paulson Delusional?

As of mid-December Treasury Secretary Paulson was “…expecting no other major financial institution to fail…”

So, what about yesterday’s GMAC rescue?

That was $6 billion of “fresh capital” direct from the Treasury Department.

Was Paulson delusional, just trying to manage PR or is a $6 billion rescue just small potatoes at this point?

Question(s) of The Day - Paulson and Bernanke Flawed Characters?

Will Bernanke and Paulson eventually both be judged by history to be tragically flawed characters?

Bernanke… Expert on the Great Depression… possibly too much so?

Paulson… Wall Street insider… possibly too much so?

Question of The Day?

Will the Paulson’s massive “catch-all” Wall Street bailout bill do the trick in stemming the panic and breaking the credit market logjam or will this maneuver simply go the way of the “Super SIV” or, worse yet, create more uncertainty and exacerbate an already difficult problem?

The Almost Daily 2¢ - Epic Irony

By now most of you have likely already either perused the mega-bailout bill or some summarizations of its features so I won’t dwell endlessly on each individual feature but rather draw your attention to a few points of interest in the bigger, more ironic picture.

First, the “Purpose” of the proposed bill (soon to be law) sets out goals that, aside from being couched in foolish election-season populist language, declares an intention that is both pious and purposefully deceitful.

The purposes of this Act are—

(A) protects home values, college funds, retirement accounts, and life savings;
(B) preserves homeownership and promotes jobs and economic growth;
(C) maximizes overall returns to the taxpayers of the United States; and
(D) provides public accountability for the exercise of such authority.

The elites clearly take us for fools … perhaps rightly so, though I have to imagine that there is at least a small contingent among us who can see the irony, albeit subtle, in the notion of the largest taxpayer funded financial crisis bailout in human history “maximizing returns to the taxpayer”, “promoting job growth” and “preserving homeownership”.

Further irony, how about that 11th hour phone call to Warren Buffett by Congressional negotiators in desperate need of a confidence boost and reassurance that bailing out Wall Street is the right thing to do… a truly epic embarrassment.

Even further still, Senator John Kerry inadvertently hit on a great point of irony too when he suggested that ”[Voters] don’t want a bailout of Wall Street and neither do we. What we are talking about is not losing 3 million jobs in a matter of weeks.”

Yet, we have been watching unemployment simply skyrocket for eight straight months now and it will continue to skyrocket precisely for the reason that those being bailed out don’t feel even the slightest twinge of remorse about throwing workers overboard in order to maximize shareholder value.

All the more reason a taxpayer-funded bailout of private institutions is a clear perversion of our economic system.

Yet the most significant irony of all might be what happens in November.

I generally steer clear of direct political statements preferring instead to simply spur along some form of action whatever it may be and so today I ask just one thing.

Keep all of these foolish dealings fresh in your mind when you enter the voting booth … don’t vote for the incumbent and if you can’t get yourself to pull the lever for a party you oppose, simply leave the space blank.

The only way to get some balance back in the system is for tainted elitist and lazy career politicians to be sent packing.

GDP Report: Q2 2008 (Final)

Today, the Bureau of Economic Analysis (BEA) released their third and final installment of the Q2 2008 GDP report showing better than expected growth at an annual rate of 2.8%.

Looking at the report more closely though it appears that much of the growth was fueled by unusually large increases in exports, unusually large decrease in imports (inverse… declining exports adds to GDP), an unusually large increase in disposable personal income (likely fueled by the tax rebate checks) and fairly strong government consumption expenditures.

Still, fixed investment, both residential and non-residential continued to come under pressure with residential investment declining 13.3% and non-residential experiencing only tepid growth of 2.8% weighed down by a 5.0% decline in equipment and software.

The following chart shows real residential and non-residential fixed investment versus overall GDP since Q1 2003 (click for larger version).

Video(s) of The Day - Hovnanian, Levitt, Siegel and Poole

Three titans of economics join Bloomberg to weigh in on the Paulson Plan.

Arthur Levitt suggest that the plan is a bold and essential move to alleviate risk and support confidence while William Poole disagrees and remains skeptical on all counts and believes that it is unwise for the government to muck about in market mechanisms and further doesn't understand how these grand ideas will work.

Jeremy Siegel essentially agrees with Levitt though is cold on the short seller pause.

Ara Hovnanian, CEO of homebuilder Hovnanian, joins Bloomberg to discuss the state of the new home market and his outlook for the future.

Hovnanian suggests that any turn in the very challenging environment is too early to call and renews his call for more federal aid for his industry.

The Almost Daily 2¢ - The Greenspan-Bernanke-Paulson Wreck

Make no mistake, today’s stock market plunge was as much the result of the bailouts of Bear Stearns, Fannie Mae and Freddie Mac as the absence of a bailout for Lehman Brothers and now for AIG.

Further, just as Bernanke-Paulson grossly underestimated the severity of the housing decline, their immediate socialization of the initial losses should unequivocally confirm their total lack of understanding of the depth and breadth of this crisis with behemoth disasters continuing to fall like dominos.

The bailouts that were nearly immediately doomed to irrelevance in terms of prevention will now wreak havoc on average Americans for decades to come.

Given our current circumstances, can everyone plainly see the absurdity of bailing out Bear Sterns in order to prevent the dreaded ripple effects?

It should come as no surprise, though I suppose with some irony, that a nearly two decade run of “Easy Al” monetary policy would give way to crisis and to even more irresponsible and unethical Federal Reserve mismanagement of our economic system.

It should be perfectly obvious to all that both Bernanke and Paulson need to resign immediately in order provide even the slimmest possibility for their replacements to implement measured, effective and fair policy.

Question of The Day?

CNBC is reporting that sources close to Treasury Secretary Paulson indicate that there will be NO government money available (no explicit bailout) for the resolution of the Lehman Brothers collapse given that the market has had time to prepare, having been aware of Lehman’s troubles for at least six months, and that the Federal Reserve's credit facilities are available for liquidity and an orderly unwind.

Are the Feds about to learn a nasty lesson of the downside of creating a “moral hazard”?

The Almost Daily 2¢ - 5 Reasons Why Paulson’s Fannie Freddie Bailout Will Fail

In no particular order…

1. Raging unemployment and the true economic malaise have only just begun and already 9% of U.S. home-debtors are either delinquent on their mortgage payments or currently facing foreclosure.
2. The “actual” free market clearly indicated that it has absolutely no faith in the ability of U.S. home-debtors to pay back their massive, misguided and misappropriate housing debt when the private market collapsed last year never to be seen or heard from again.
3. FICO scores mean nothing… period. The world will soon find out (as “prime” borrowers go belly-up or walk away at historically significant rates) that attempting to crunch the sum total of a human beings ability and/or willingness to make good on a startling debt-load into a single ranking score was foolhardy at best and never will it again pass as a proper risk management technique.
4. “Housing is contained” gave way to “Subprime implosion” gave way to “Jumbo market collapse” gave way to “Bear Stearns Bailout to stabilize market” gave way to “Fannie Freddie tools that Paulson didn’t plan to use” gave way to “Paulson used the Fannie Freddie tools”.. you get the picture.
5. The full bailout will cost many hundreds of billions of dollars. Where will the money come from? If from taxpayers… the economy will go much further into the dumper… if from national debt expansion, the U.S. will have its debt rating downgraded and the empire will truly be over… You can’t get something for nothing.

Also, although the details are, as of yet, to be fully disclosed, you can bet that the accounting misdeeds perpetrated by Fannie Freddie executives will be shown to have been extensive and possibly even shocking.

Ticking Time Bomb?: Fannie Mae Monthly Summary July 2008

With the signing of the housing “relief” act, the process has now officially begun in what will be not only the largest taxpayer bailout of private enterprise in history but the largest legislative blunder as well.

Allowing the Treasury Department of an immensely debt-laden country carte-blanche to utilize taxpayer money to engineer an essentially unaudited unwind of the GSEs, the two massive risk-laden failures, seems to smack of the essence of the times and further, at least in my mind, marks a decisive push into the absurd that would likely precede a wider scale collapse of our economic system.

Given the sheer size of these government sponsored companies, with loan guarantee obligations recently estimated by Federal Reserve Bank of St. Louis President William Poole of totaling $4.47 Trillion (That’s TRILLION with a capital T… for perspective ALL U.S. government debt held by the public totals roughly $4.87 Trillion) and the “fuzzy” interpretation of their “implied” overall Federal government guarantee should they experience systemic crisis, these changes are reckless to say the least.

The following chart (click for larger) shows what Fannie Mae terms the count of “Seriously Delinquent” loans as a percentage of all loans on their books.

It’s important to understand that Fannie Mae does NOT segregate foreclosures from delinquent loans when reporting these numbers and that should they report the delinquent results as a percentage of the unpaid principle balance, things would likely look a lot worse.

Finally, the following chart (click for larger) shows the relative movements of Fannie Mae’s credit and non-credit enhanced (insured and non-insured) “Seriously Delinquent” loans.

The Almost Daily 2¢ - The Next Three Shoes

Here’s my crack at Nostradamusian macroeconomic analysis.

In my estimation the next three systemic shocks will come in the form of job loss, the foreclosure driven and fiscally irresponsible government bailout of Fannie and Freddie and a prolonged secular bear market meltdown of the stock market.

All of these events, if fully materialized, would likely combine to present the most significant test of Americans’ faith and confidence in their institutions and way of life seen in many generations.

First, although it has been generally the consensus opinion that the job market will hold up better during this recession as a result of the weak job growth seen during the last expansion (i.e. less jobs gained = less jobs to lose), I beg to differ.

My model (simple extrapolation of 90s recession with some tweaks) puts the unemployment rate at roughly 7% by next March and where we go from there will depend largely on the other two shoes.

I believe the real job loss from the 90s-era consumption boom and bust was simply postponed by the 2000s-era credit-debt boom.

Having no other alternative, Americans will now have to face the reality and own up to their personal fiscal irresponsibility and tighten belts causing business confidence to erode and inevitably leading to substantial job loss.

Next, in what has to be the worst fiscal policy blunder in our history, the federal government has now positioned itself directly in the line of fire of the largest financial meltdown of modern times.

Fannie and Freddie are insolvent and, having operated as an essentially absurd and fraudulent arbitrage scam in conjunction with sham co-conspirator mortgage originators like Countrywide Financial for over a decade, are essentially dead guarantors walking.

Foreclosures are on the verge of explosive growth as near-prime and prime underwater households relent to the weight of the current economic crisis.

Treasury Secretary Paulson’s promise of bailout of the GSEs will carry a tremendously high cost for taxpayers and further exacerbating the economic malaise and erosion of Americans’ confidence and sense of social fairness.

Finally, I believe that there is a good chance that the S&P 500 will re-test and drop below the lows set after the collapse of the dot-com era.

This would represent a logical, yet truly significant, failure of the private sector as the expansion of the 2000s fully gives way, blending into the dot-com meltdown forming a secular bear market trend the likes of which we have not ever seen.

This would, in a sense, be a GM-ization (NYSE:GM) of the broader stock market and result in a blaring spotlight being shined on the ludicrousness of constructing a multi-decade economic expansion based almost entirely on discretionary consumption and technological hysteria.

The Almost Daily 2¢ - Just Can’t Stop Bailin’

I suppose one of the downsides of bailouts is that once you start, you just don’t know when to stop.

First, its liquidity injections… then, under the cover of darkness, you throw $50 billion over the wall to Countrywide….then leap dramatically to the rescue of Bear Stearns account holders… now you’re really getting going!

Next up… Fannie and Freddie, only this time things are a little more difficult so you don’t talk too much about how you’re going to do it… Just keep it between you and Congress… particularly those congressmen sitting on the House Financial Services Committee and Senate Banking Committee… you know the ones (except Ron Paul) who get all the financial services campaign donations and special treatment.

Now though you're exhausted, you start to get a bit sloppy… any opportunity to talk to the public and you blurt out some new bailout plan… all you see is financial crisis and ripple effects.

Or so it seems with Treasury Secretary Paulson.

This morning Paulson spoke at the New York Library on “Reinforcing Market Stability” during which he suggested that WE need “additional powers to manage the resolution, or wind-down, of large non-depository financial institutions, such as larger hedge funds, so as to limit the impact of a failure on the broader financial system”

Larger Hedge Funds?

Anyone want to guess what “manage the resolution, or wind down” means?

The Daily 2¢ - Jackson’s Yuppies

The Bush administration has got to get its story straight.

On several occasions now, including as recently as last Thursday’s hearing in front of the House Financial Services Committee, Housing and Urban Development Secretary Alfonso Jackson has explicitly stated that administration policy is not intended to help so called “Yuppies”.

Yet, with their now uniform acceptance of the “temporary” conforming loan limit increase, that’s exactly Senator Schumer, Representative Frank and a reluctant Bernanke, Paulson and Jackson seem bent on doing.

In an interview with Bloomberg last July, Secretary Jackson initially made his anti-yuppie bailout position.

“We have very educated people that decided that they wanted to live above their means, and we call them yuppies… young people who wanted a Mercedes Benz but at the same time wanted a $600,000 home. So, they go in and make a loan that is basically interest only wake up the next morning and they can’t cover the note because the house has not increased [in value]… In those cases, we are not willing to bail those people out. But low and moderate income people, fireman and police who didn’t read the fine print, we will be able to help them stay in their home.”

Again, during the press conference preceding the “bailout” conference with all the national homebuilders that occurred earlier this month, Jackson reiterated his anti-yuppie stance.

“… this is a limited market we are trying to save. We’re not here to save those persons who made those huge exotic loans, which I call yuppies, We’re here to look at middleclass Americans.”

Then again, at last week’s committee hearing, Jackson stated that yuppies were not on the list to be saved.

“Let me say this to you mister chairman, clearly there are some people that we are not going to be able to help. Especially, as I always say, the yuppies who had this extravagant decision to have two or three cars, and a huge house they can’t afford but the people we are looking at are basically middle income people, fireman… police, teachers, nurses.”

So, I would think the point has been made very clearly… No Yuppie Bailout!

Yet, with the proposed conforming loan limit increase to $625,000 for the more expensive “urban” areas, it’s obvious that, by its definition, the yuppie and his or her lender is being bailed out.

Who else lives in the expensive metro markets and borrows $625,000 toward their home purchase anyway… fireman, police and nurses?

It’s important to keep in mind that the main proponents of the conforming loan limit increase are Senator Charles Schumer (D-NY) and Representative Barney Frank (D-MA), both of whom receive the overwhelming majority of their campaign contributions from the real estate and financial service sectors (hat tip Frothy).

It seems obvious that, in the name of helping the common American, and even with numerous public statements to the contrary, the government will plow ahead and bailout Wall Street.

One good turn deserves another as they say!

The Daily 2¢ - The China Solution

Seeing Housing and Urban Development Secretary Alphonso Jackson sitting next to Treasury Secretary Paulson at yesterday’s lender bailout summit jogged my memory of Jackson’s recent trip to China that, although covered in the traditional media, didn’t seem to garner the attention it deserved.

In early July, Jackson appeared in a very candid Bloomberg interview in Hong Kong as he was passing through on his way to meetings with Chinese People's Bank of China governor Zhou Xiaochuan, Construction Minister Wang Guangtao, and other Chinese officials.

In the interview, Jackson showed no hesitation when revealing that the purpose of his visit was to attempt to persuade China to participate in the “very lucrative” market of American mortgage backed securities.

Specifically citing both FHA and Ginnie Mae, Jackson’s intention was to lean heavily on the explicit federal guarantees that both of these programs provide when making his case to Chinese officials who, as he stated, had already showed some interest in the investment.

“The best argument that we can make is that they have the full faith and credit, and backing, of the US government. “

This was the precise message he pressed during the delivery of his speech as well stating “They are a sound, solid investment, a win/win situation for the investors and for the American people. These securities are attractive because they have no credit risk and are backed by the full faith and credit of the U.S. Government. Also, most Agency Mortgage-Backed Securities even have a higher yield than the Treasury Securities.”

The result of the meeting was a lengthy “Memorandum of Cooperation” that was signed on August 30 between the two governments that established many areas “of mutual interest”.

Given that the federal government now seems bent on dramatically expanding its role in the mortgage market, I thought it was important to recount the events surrounding the Jackson visit to China.

Keep in mind that all mortgage related programs and agencies of our government (Fannie Mae, Freddie Mac, Ginnie Mae, various FHA programs etc) require some form of private investment in order to function.

With a reeling and risk averse Wall Street now pulling back from mortgage securities, possibly even including government agency investment, China may inevitably pick up the demand for agency securities and even drive an expansion.

It seems to me that a more sensible approach, considering that compensation for failed government agency securities would be funded by the US taxpayer, would be to let the turmoil in the US housing markets play itself out before looking for additional fuel from foreign investors.

More private investment will likely equate to a broadening of these programs possibly putting them further in jeopardy of overreaching.

This would be especially risky considering the uncertain state of the housing markets at the moment.

The Daily 2¢ - Federal Nonconformists

I can't think of a more preposterous and irrational example of exuberant upside bias on the part of the Federal government then that of the recent toiling over the OFHEO conforming loan limit.

For those of you that are not yet familiar, the Office of Federal Housing Oversight (OFHEO) is the government agency that is responsible for regulating the two primary Government Sponsored Enterprise (GSE) mortgage giants, Fannie Mae and Freddie Mac.

One of the main, if not THE main, role of OFHEO is to set the “conforming loan limit”, a maximum loan value that is used to act as the threshold between a “safe” loan that Freddie Mac and Fannie Mae are allowed to purchase and an “unsafe and unsound” loan “running contrary to statute”.

This is how the “conforming” vs. “Jumbo” loan is defined… below the limit is “conforming” above is non-agency “Jumbo”.

Currently, the limit for a single family home is $417,000, pretty frothy when you consider that, only as far back as 2000, the limit stood at $252,700.

Keep in mind that this means that an average home buyer can go to a mortgage broker, bank or other lender and borrow as much as $417,000 of home loan principle and still remain eligible for GSE underwriting that carries a lower rate of interest since GSE loans are assumed to be backed by the full faith and credit of the federal government (this assumption is really a bit of a myth… but that’s a post for another day when things really start to quake!).

So how is it, you ask, that the limit nearly doubled in roughly 5 years (keep in mind, it was set to $417,000 in November 2005)?

Easy, when the home prices went up, they simply raised the value (for more detailed information on how they change the limit, see my prior post on the subject).

But now comes the sticky part… now that home prices are going down, what are they doing to the limit?

The answer is surprise… OFHEO is coming up with all sorts of oddball ways of keeping from having to lower the limit (see my past two posts on the subject)

In fact, in 2006 when home prices declined which, according to their prior inflating methodology, should have resulted in a reduction of the conforming loan limit, OFHEO revised their guidelines and left the limit unchanged.

Now in 2007, home prices are going to fall again, only this time by a likely far more significant percentage and what has OFHEO done in response?

They have revised the guidelines once again, effectively postponing any decrease until certain conditions are met (again, see my prior post on the subject).

After soliciting public comment in June and July about the proposed changes to the guidelines, OFHEO received a number of respondents, particularly the National Association of Realtors (NAR), the National Association of Home Builders (NAHB) and the Mortgage Bankers Association (MBA) as well as Fannie Mae, Freddie Mac and a whole raft of two-bit mortgage lenders who expressed clear opposition to the changes NOT because they would leave the limit unchanged BUT because they feel OFHEO should NEVER LOWER THE LIMIT!

ONLY UP... NEVER DOWN!

If that weren’t outrageous enough, there has been much talk for the last few days coming from Congressional figures such as Representative Barney Frank (D-MA), the Chairman of the House Financial Services Committee, who actually prefers that the limit be INCREASED, even in the face of two years falling home prices!

The point of this, obviously, would be simply to force Fannie and Freddie to effectively “re-liquefy” the now totally stalled Jumbo market.

Apparently though, both Treasury Secretary Paulson, and Senate Banking Chairman Dodd (D-CT) have expressed that it will take specific legislative action in order to allow OFHEO to raise the conforming limit above the current level.

Now, I’m not very sure why they have concluded this as OFHEO just modified its procedures for lowering the value without any legislative debate whatsoever, but it really makes no difference.

If you listen closely to Dodd, Frank and Paulson, they are all saying the same thing namely it will take legislative action and the legislation is on the way.

This is one of the most egregious examples of a dimwitted Congressional-Federal assault on the “free” markets I have ever seen.

They, in the supposed well meaning attempt to help “average” Americans, are essentially attempting to control the market price of residential real estate.

Don’t underestimate the severity of this fumbling.

To put it in better perspective, it has recently been estimated (in Dean Bakers latest excellent paper... hat-tip HousingPanic) that there is anywhere between $4 to $8 TRILLION of housing equity that will be lost in the process of deflating (re-pricing) the housing bubble, bringing prices back to hundred year historical averages.

That’s nearly 2 – 4 times larger than the entire 2008 Fiscal Year Federal Budget.

This means the by finagling with things like the conforming loan limit, mortgage bailout funds and foreclosure timeouts, the Federal government is attempting to use both taxpayer dollars and the full faith and credit of our government in order to maintain absurdly inflated housing values and the artificial wealth this boom created.

This would clearly create a moral hazard of unparalleled proportions.

Remember, Jumbo loans were most frequently used by upper middle class affluent home buyers, and for the ones that are now in trouble, the ride down will be painful.

But that is the price you pay for taking a risk in a “free” market.
And who better to take this hit than Americans with generally good incomes and employment opportunities.

If the government is smart it will allow this natural correction to take place unfettered, permitting scores of Americans to learn a valuable life lesson.