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  1. #1
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    Sep 2003
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    Default Has the mortgage debt crisis finally begun?

    Has the mortgage debt crisis finally begun?

    The $3.2 billion bailout of one of its hedge funds by Bear Stearns & Co. helped Wall Street bulls breathe a temporary sigh of relief last week, but we believe the problems in this sector are far bigger than what most investors expect and a MASSIVE mortgage debt crisis (similar to the Savings & Loans fiasco of the late 1980s) may be about to unfold.

    The hedge fund blow-up at Bear Stearns was caused by a ‘sudden’ depreciation in the value of subprime
    mortgage-backed bonds held by the fund, but anyone who thinks that was an isolated example of a few bad bets made by the managers of that particular fund, is obviously missing the forest for the trees.

    To understand the true scope of this problem, one has to remember the following facts:
    1) Even as the housing bubble burst in 2005 and home prices started moving steadily lower across the U.S., most mortgage lenders continued to lend hundreds of billions of dollars with no money-down, little to no income verification and temporarily low teaser rates to any and all borrowers including those with spotty or lousy credit, 2) By some estimates, at least 20% of all home purchases in the last 3 years were made by “property flippers”, and most of those investors are now stuck with properties whose prices have already depreciated by at least 10% on average, ensuring they owe a lot more on those homes than what they can realistically hope to get by selling those homes.
    Indeed, according to the April reading of the S&P/Case Shiller index, U.S. home prices suffered their steepest decline in 16 years,
    3) The housing bubble continues to deflate as
    predicted, with the latest report from the National Association of Realtors showing that existing home sales fell to their lowest level in 4 years, even as the median home price fell for the 10th consecutive month! The inventory of unsold homes rose 5% to 4.43 million units!
    Similarly, the Commerce Department reported that new home sales fell 1.6% last month and the median price of new homes also continued to move steadily lower,
    4) Long-term interest rates are now moving higher from artificially depressed levels pushing rates on 30-year fixed rate mortgages to their highest level in several months even for prime category borrowers.
    Not surprisingly, the Mortgage Bankers Association reported that its index of mortgage applications (which includes loan applications for both refinancing and purchases), fell to it’s lowest level in four months last week,
    5) Over the last several years, the big Wall Street
    investment banks have recklessly created trillions of dollars of paper securities by pooling all sorts of high-risk mortgage loans, consumer loans, commercial loans and credit derivatives into complex financial products, packaging them as collateralized debt obligations (CDOs)
    and asset backed securities (ABS) and selling slices of those securities to institutional investors like pensions funds, insurance companies and hedge funds. It is estimated that the outstanding issuance of mortgage-backed securities is almost $7 Trillion (about 12% subprime quality), while the total asset-backed securities market is now about $10 Trillion!
    6) Unlike stocks and bonds, these CDOs and ABS instruments are not actively traded on any exchange, making the valuation of such securities an especially “tricky” and “subjective” process. As the Bear Stearns hedge fund blow-up has clearly demonstrated, a rapidly deteriorating U.S. housing market and higher mortgage default rates amongst subprime borrowers have suddenly reduced the “fair market value” of such CDOs. Now the die is cast! Every hedge fund, pension fund, insurance company and Wall Street investment bank carrying such securities on its books will most likely have to recognize the progressively lower valuations of these CDOs in coming weeks and that could lead to HUNDREDS OF BILLIONS OF DOLLARS in losses for many of these highly leveraged financial institutions! Obviously, the stakes are very high in this game and sooner or later this will have a very bearish impact on global stock markets.

    We remain cautiously bearish on stocks… Big Ben and his colleagues at the Federal Reserve must be feeling rather anxious about these recent developments in the credit markets and yet they were forced to keep rates unchanged at their meeting last week because inflation by even the under-reported official measures is still running well above the Fed’s comfort zone.

    Fed officials admitted as much in their statement by describing inflation pressures as the “predominant” risk to the economy. Despite the ongoing adjustment in housing, the Fed continues to believe that economic growth will continue at a moderate pace in coming months.

    We find that outlook more than a little optimistic, but the latest figures released by the Commerce Department did show that consumer spending grew 0.5% last month on the back of a 0.4% rise in personal incomes. We think the consumer sector will weaken in coming months as high gas prices and sharply lower home prices will take a toll on consumer confidence.

    The latest reading of the Conference Board’s Consumer Confidence Index showed exactly that as consumer confidence fell 5 points in June by that measure, and the Reuters/University of Michigan’s
    consumer sentiment index also reinforced that outlook as that index fell to a reading of 85.3 (a 10-month low).

    Another important piece of negative economic news this week was the surprisingly big 2.8% drop in durable goods orders. This report showed that even business spending is starting to weaken now and that can’t possibly be good for the economy or corporate earnings.
    Somehow,
    Wall Street managed to overlook all these negative factors and all the major indices closed pretty much unchanged for the week.

    Finally, the $USD has been holding up surprisingly well in recent weeks and we are starting to wonder if that could be indicative of an intermediate-term bottom in the greenback soon. We are not going to make any changes in our Forex Model Portfolio just yet and remain 100% Long the Falling Dollar Profund, but we may view any significant upside break-out (+2% or more) in the U.S. Dollar® index in the next few days, as a sign that the greenback has started an intermediate-term rally and make appropriate changes in our Forex Model Portfolio. In any case, continue to HOLD all “core” long-term positions in the precious metals!

    From the Capitalmultiplier's latest newsletter.
    "There's one way to find out if a man is honest-ask him. If he says 'yes,' you know he is a crook." Groucho Marx

  2. #2

    Default

    For what its worth..heres my take.

    Only the beginning of a much larger crisis looming...that of the impending wholesale collapse of the USD. All those dollars that the US has been exporting to the rest of the globe at an unprecedented rate are going to come flooding back in to the US for the simple reason that they are the only ones that are obligated to take them. (the proverbial hot potato). Interest rates will be a lot higher in 5 years time than they are today as compensation for the holding of the ccy that doesn't hold value itself. The debt laden economy will suffer drastically and there will be a crisis not only in the USD but in all paper ccy's. After all most central banks hold USD's as their principal reserve ccy. What to buy? Hmmm the Euro, swiss? Not for me thanks.

    How am I playing the game. Trade real estate day in day out...because its fun and profitable. Hold debt free real estate for cashflow and buy gold and silver.


 

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