It Is In the Cards

I posted this morning briefly a piece by John Mauldin and noted it is a must read, which it is. One link in the piece I have since read is one of the more entertaining posts I have seen for a while.

http://www.thereformedbroker.com/2010/06/24/econ-gangs-of-new-york/

Reading it, I am with John Mauldin in the New Normalers gang following the folks at PIMCO. The way I think of it is a college student graduating and being given multiple credit cards (some years back that was the norm, not today). That student uses the cards to furnish his apartment, buy a new car, take some vacations and the like. This becomes this graduate's reality, his or her "normal," even though he or she does not yet have a job or perhaps has one paying not nearly enough to do all this fun stuff. Anyone can tell you this is not normal, it is living off debt. Well, that is exactly what this country - and apparently many others - has been doing for a decade or two.

So debt has over the past couple of decades become the new normal. That, in itself, is not normal. Living off debt is not normal or reality, it is problematic. Now I am not saying debt, in and of itself, is evil. It is a vital component to our economy on both a commercial and individual level. But we took debt to new extremes, on a personal, governmental and company level, and that cannot be sustained. Reality is not living off debt or building a life or country on debt. That folks, is fantasy!

And so I agree with the folks at PIMCO that we are returning to the new normal. I disagree a bit with the nomenclature, because what we have lived in was not normal, but I agree with the concept that the economy going forward will be significantly subdued compared to the past decade or so, which was built on debt and bubbles.

The new normal - or reality as I have called it - is not a bad thing. I realize for those losing jobs or struggling to get by this does not hold true, but on a general economic level for the country, reality is a pretty good thing I believe. Indeed, ignoring reality brought us to our current problems so a dose of reality should be a good thing.

What we have here is a good old fashion correction on a very grand scale. Corrections are called that for a reason; there is a problem and the markets naturally correct it. This correction is going to be long and painful, I suspect. The first dip was very fast and painful and I suspect the next dip which we are entering into will be equally painful but not nearly as fast. The last one took a lot of people by surprise, so the drop was fast and furious. This time I suspect the markets are somewhat ready for it so the drop will be slower, but I think no less severe in the long term. Unfortunately, it will also take a long time for us to come out of it for various reasons.

First, it is a correction and corrections take time especially when the problem being corrected took decades to build. In this case personal debt is still very high, despite saving rates rising to 4% last month (a promising sign in my book). I truly hope personal saving rates increase significantly. It will depress spending and GDP in the short term but it will also decrease debt and better prepare folks for the future. We can and will get through this but it will take, I fear, years of what most people would label a recession.

Second, the government has a big shovel and has been in this debt hole shoveling for the past two years increasing government debt and they are still shoveling. Governments in the EU are now realizing that they are simply digging a bigger hole by supplanting individual or corporate debt with government debt. The U.S. needs to put down its shovel (other than measures essential to avoid extreme problems or depression and measures aimed at helping those in need of necessities). It has not said it will yet, but the failure to pass an extension of unemployment benefits last week is a sure sign that a lot of additional stimulus is no longer in the cards. And so we will likely over time - at least after the coming elections - switch to an austerity bent. This will slow or negate stimulus, but in my book that is a good thing, with the qualifications noted above.

So I see a double-dip recession that will be long and painful but in the long term good for us if we simply let it happen with certain safety nets to avoid catastrophe. It will take several years to unfold and we will have a very subdued economy during that time, as will most of the world, but it is a correction and things will be better at the end. At the end, which could be a long time off, there is, I believe, light at the end of the tunnel. This is what I hope will happen as I fear that any other alternative will in fact be much worse.

Now we can all hope I am wrong and too pessimistic, and I hope that proves true. I truly do as I will and I have a load of realtives who have and will suffer the longer this continues.

Disclosures; None.

A MUST READ

I do not have time for a full post and do not need it as I am linking an important piece by John Mauldin that tells you a lot more than I ever could. Please read it. You may not understand all the stats - I didn't - but the message is pretty clear.

http://seekingalpha.com/article/211983-the-risk-of-recession?source=email

1.2 Million Without Funds And More To Come

Legislation that would have extended unemployment benefits six more months failed to pass today. Now it would have ballooned the deficit $33 billion, but that is a great deal less than we provided to save AIG alone and, this week alone, it would have kept 1.2 million folks from losing benefits (as in probably their sole source of income), with millions more to lose such benefits in months to ocme. That shows where the priorities are, trillions to save Wall Street but let those on the street with mouths to feed figure something else out. Let's just say I am a bit disgusted.

Now I am a big fan of not doing a lot more stimulus and I was always a big fan of wasting less money on Wall Street, but times are desperate and people need to eat. And these are people who have no choice but to spend what little the government gives them on necessities, so they support the economy and a lot of what they are given recycles to benefit others in our economy. Of course those in need will find some other form of relief, probably tied to state programs that are already strapped, so it will still come back to the taxpayers to fund, but at least some folks in Congress were able to beat their chests today and say they are not adding to the deficit. Where was the chest beating when we needed to defeat TARP, where was it when AIG should have been dismantled, where was it when Goldman Sachs was given billions in taxpayer money from the funds we gave to support AIG? While I am not at all pleased with Obama or his performance and decisions to date, this was an issue where I squarely agreed with the Democratic majority. The richest nation on earth should not let people flounder like this and not know how they will take care of their families. I could not fathom waking up tomorrow, unemployed, knowing there is no money in the pipeline. For those in this situation with children, my heart goes out to you. And it is not like these folks are not seeking jobs. The jobs market is terrible right now and the average time to find new employment is at extremes, so you can hardly blame the unemployed for their situation (well, at least most of them). It is a truly sad state of affairs.

http://thehill.com/blogs/healthwatch/politics-elections/105445-senate-dems-fail-to-advance-tax-extenders-bill-for-the-third-time

And think about food banks. They are already stretched to the limit. Their funding is down, those needing food is up and kids are now home for the summer and needing lunch every day. Now they will have millions more foisted upon them to feed at the worst possible time. Beat your chest about that folks.

Disclosures: None.

Shocking!

I just had to add this on real estate this morning. New home sales are at a record low in May after the government stimulus ended, and this was well below the average 19% drop expected from surveyed economists. The drop was 33% to the lowest level - 300,000 homes - since record keeping began in 1963. Of the 79 economist surveyed by Bloomberg, apparently one got it right predicting 300,000. I would like to know his or her name.

http://noir.bloomberg.com/apps/news?pid=20601087&sid=aFryYpgGDKpY&pos=1

Add to that that April's number was revised down 59,000 and months of supply is now up to 8.5 months and you have a fairly ugly scenario.

http://www.calculatedriskblog.com/2010/06/new-home-sales-collapse-to-record-low.html

Let's not forget that mortgage rates are in record low territory, around 4.7-4.8%, so that should inspire sales. With prices down and mortgage rates low folks should be able to afford to buy. My sense is that most first time buyers who could afford to buy have already done so and there are not many families currently being added to that list as unemployment is high and young couples are strapped. So buyers need to come from those now owning homes, but they cannot buy a new home unless they sell their old one and make enough for the down payment on the new one, which is very difficult these days. Accordingly, we just paid if forward big time on home sales with the tax credit and I would not expect much in this area for months to come. Indeed, since the tax credit expiration, new purchase mortgage applications continued to decline this past week, suggesting the numbers for June will be as ugly as May or uglier.

http://www.calculatedriskblog.com/2010/06/mba-mortgage-purchase-applications_23.html

And commercial real estate, which was showing signs of stabilizing is perhaps not as stable as we thought. Architectural billings, which lead commercial RE construction by several months, are down fairly significantly in May. Once again, ugly.

http://www.calculatedriskblog.com/2010/06/aia-architecture-billings-index.html

Disclosures: None

Obama is an Idiot - Confession of a Democrat

Does Austerity Equal Prosperity?

The international debate that is all the rage is whether austerity or stimulus is the right solution for governments around the world. Certainly to some extent it will depend on the country. In the past couple of years I think it is safe to say that most economically troubled countries around the world chose stimulus. The U.S. did big time, as did the EU, Great Britain and elsewhere. But as the PHIIGS have show, stimulus has its logical limits. And then comes the groveling for support for countries unable to pay or finance their debt at accptable rates and this financial support is followed by arcane austerity measures. And then there are countries not yet in severe debt crunches (at least in terms of financing their debt) deciding what to do. What to do indeed. The following Bloomberg article notes, the debate will likely escalate soon at the upcoming G-20 Conference, with the U.S. at odds with much of Europe:

http://noir.bloomberg.com/apps/news?pid=newsarchive&sid=aCDrh.AWJbC8

So, you might ask, where do I stand - okay I am pretty sure no one asked this but play along for a minute. My take is that John Mauldin, another contributer at Seeking Alpha, has it right.

http://seekingalpha.com/article/210910-be-careful-what-you-wish-for

It is pretty much the Goldilocks approach - not too much and not too little. To date pretty much all countries in trouble have gone with deficit spending and stimulus or support for failing financial institutions. In my book this was overdone and more institutions should have been dismantled. Certainly we should have not supported "too-big-to-fail" institutions taking over other "too-big-to-fail" institutions, but we did and actively asked them to do so. So my preferred plan is already toast and we have to deal with what we have been dealt. Now we have made our bed, so we need to decide what to do with it.

Obama is clearly of the more stimulus school. Some would call this the Keynesian school but I consider this an insult to John Maynard so I will not call it that. I might call it the Krugman school and suspect he would not mind. Either way, stimulus these days is wasted in my opinion. I say this as we are facing a new reality, something I have written about here for a couple of years and something that the folks of PIMCO tout. The world and U.S. economies have spent about a decade living in unsustainable and foolish bubbles that should be popped. They need to go away and we need to return to reality. Reality is a lower level of spending and economic activity. So in my book the stimulus should only be designed to stabilize things, which we have already done. After that, stimulus is not needed other than in spot situations to avoid problems. We do not need to and should not promote false economic activity. A bubble/false economy built on stimulus serves no one. Yet that is what the current Administration is after.

I believe the current Administration has fools - other than Volcker - leading the ship- and if Obama does not wake up and correct the course and fire the idiots he will be a one term President who history will portray as a man with great expectations and potential but no follow through on execution. He made superbly major mistakes on Summers and Geithner and has refused to give up on them. I am a life-long Democrat (among a family of Republicans, so this was no easy course) who voted for Obama but I am switching to Independent and truly regret voting for Obama. He has proven himself an idiot in my book.



I am told by some commenters that my remarks are too general and I should stick to the law, yet others tell me to keep posting. I am posting for the latter, so if I am too general for you, please move on. Between a more than full time job and a 3 and 6 (and a half) year old, I do not get the time I would like to devote to this endeavor and I have always been focused on macro-economic ideas, so if you do not like it, tough.

Real Estate Again

Let me return for now to my choice topic of late - real estate. New stats came out today and economists where surprised - yes surprised - that existing home sales were down. I personally am surprised that they are surprised. Tax incentives ended for those not signing by the end of April, purchase mortgage applications are at a 13 year low and freakin' economists are surprised that existing home sales were down last month. How surprising is that. If you are truly following this stuff - and economists commenting on it should be - there should be no surprises here.

Once again I must refer you to my favorite real estate oriented blog - Calculated Risk. This site reports all the stats the day they come out and has very very relevant commentary that I have found unbiased and not overstated in either direction. I highly recommend it. So today, Calculated Risk had a number of noteworthy posts on real estate, which I am happy to link as follows:

The author believes given current trends that the months of supply number for real estate will undoubtedly go to double digits later this year and I have no reason to disagree: http://www.calculatedriskblog.com/2010/06/how-high-will-existing-home-months-of.html

As the author notes, generally, months of supply over 6 typically leads to price declines and under indicates increasing prices. Right now we are at 8.3 months and could well increase to over 10 or 11 months going forward. Not good.

http://www.calculatedriskblog.com/2010/06/existing-homes-months-of-supply-and.html


http://www.calculatedriskblog.com/2010/06/existing-home-sales-decline-in-may.html

Each of the linked Calculated Risk articles are well worth your time.


Disclosures: None

Wait for Late August or September

A couple of months ago I made a rather generalized prediction that the markets would suffer a lot this fall. I based this largely on option ARM resets but there are a lot of other factors at play here. For one, the markets often do well in the summer only to collapse in the fall, especially in October. I personally do not think we will make it that far. I suspect by mid-to-late August and early September at the latest things will come to a head and we will see markets retesting their lows in March of 2009. So why, you ask.

I return to real estate first. Things seemed pretty good through the first quarter this year but folks were taking advantage of a rather significant tax credit (don't get me started on how much this benefit cost the rest of us). That credit is gone now and we front loaded a lot of sales. Don't take my word for it, purchase mortgage applications were at a 13 year low last month after the expiration of the credit and lumber prices this past month are down 30%. Not signs that real estate is on a sustained recovery.

Still on real estate, we have a lot of adjustable rate mortgages (ARMsO) resetting this fall. Now I know that a lot of people who could, refinanced to a fixed rate, that the resets for most will not be that bad as rates are low and many of those with ARMs have already defaulted, so the impact is muted, but there are still plenty out there and the defaults will likely peak in the last half of this year. Some option ARMs allowed buyers to only pay interest so even with low rates the resets will now require payments on principal, which will increase payments. Between that, homes under water, and high unemployment in a lot of states where the option ARMs were pushed, you have a toxic mix.

Let's go beyond real estate. In the U.S. the stimulus in many sectors is ending about now and the impacts of that will really start to hit home this fall. Now I suspect the administration may seek to prime the pump a bit more with more stimulus but the soveriegn debt problems in the EU will lead to a lot of second thoughts on that and, at a minimum, will lead to less drastic stimulus. Governments have a new focus on deficits after the problems in the EU and rightly so. The economy in the U.S. and a good part of the world for the past year or so has all been stimulus, so when it is gone we will have to face reality and reality is not real pleasant just yet. I suspect it will not be approaching pleasant for a generation or two, but what do I know.

Let's talk about banks. We bailed out the big players that delivered us to this mess and that in my book was a major mistake. I am of the Austrian school and believe we should have dismantled the culprits (I was tempted to use a less family friendly word). Nonetheless, despite all the government support and the big press about how the key players have repaid the government we nonetheless have some facts to face:

• First, the big banks are looking good financially because the government has sanctioned them hiding a lot of the debt on their balance sheets. If they truly had to reflect assets at value - even difficult to value assets like mortgage backed securities - they would be screwed;
• Second, local and regional banks that were not the recipients of government support are aching, in part because of government support of their corrupt competition. Some have significant commercial real estate loans, which are still peaking in terms of defaults, and virtually none have the government BS support the big boys received. Between 2000 and 20006 only 24 banks failed in the U.S., with none failing in 2005 or 2006. This year to date -as of today - we are up to 83. These are local and regional banks, but it shows the banks lending to small businesses and individuals are having problems. Indeed, the problem bank list continues to grow significantly, which cannot be a good sign. http://www.calculatedriskblog.com/2010/06/unofficial-problem-bank-list-increases.html What I have seen is that banks, big and small, are really not lending a lot of money. Credit continues to be frozen in many sectors. The big players who got all our support to start lending are locked shut for anyone less than stelllar wanting credit.. ;
• Third, is the EU. It is going to melt down late this year or next year. I am not expecting this to reach peak this fall but it well could in the fourth quarter or early next year. There are just too many issues there for them to continue as a union. I predicted the EU having these issues a year and a half ago and I still stand by my original prediction;
• Fourth, to the limited extent that China has been a safe harbor in this storm, it is certainly entering into its own storm. It's GDP has always been too small in this economic crisis to have much impact but what little impact it has had - largely emotionally for the markets - is soon going the disappear as it lacks the real, sustained, economic activity it needs to continue; and
• Fifth, debt! I keep going back to this. Debt in the U.S. on a personal level and government level is way too high, even before you factor in Social Security and Medicare. Debt on a personal level and sovereign level in the EU is obviously too high for the vast majority of countries there. The economy for a generation was built off debt and it will take a generation or two to get us off of our addition.

This list is a lot longer than I have posted but I am tired and these are enough to chew on for now. I am sticking by my prediction that the markets are in for a world of hurt this fall

Disclosures: None.

Real Estate Bubble - China?

You have heard it before, there is a real estate bubble in China. Now you would think that a country where the government calls the shots would be able to stop bubbles in their tracks. Well, apparently it cannot. This is not to say the government in China will not eventually be successful, but their initial measures have fallen short so far. And the fear is that enacting measures that might be needed will be overkill and lead to the very result China is trying to avoid, i.e. a popping of the bubble.

http://www.bloomberg.com/apps/news?pid=20601087&sid=aHmZ.NWuCybc&pos=4

So let's step back. We have an economy that many have thought to be the saving grace for the world - our crutch, if you will, as the rest of the world labors to recover economically. Well, I read an article last week showing that the GDP of China is a relatively small percentage of the U.S. and EU GDP, showing even a hot economy in China has no real chance of leading to a global rebound. So let's not put our chips on that bet. And even for those making that bet, the inevitable popping of the China real estate bubble will lead to the opposite result, as other real estate bubbles around the world have proven well in the last few years.

Now we all know what happens when a real estate bubble pops as most the folks in the U.S. and Europe have seen it first hand. Thank goodness all that is past us here in the U.S. Well, then again, perhaps not. I posted a couple of weeks ago on how new mortgage applications fell to a 13 year low after the government tax incentive ended. Most builders were somewhat up beat in the past month or two. Now, at least one builder has changed its tune recently. Apparently things since May have been a tad worse than last year (a very bad year) for Toll Brothers. They seem to blame it in no small part on the oil spill situation in the Gulf, which they fail to note was in full swing when they were rather up beat toward the end of May.

http://www.calculatedriskblog.com/2010/06/toll-brothers-demand-choppy-sales-down.html

BP Coming to the Confessional

And talking about the oil spill situation in the Gulf, I have not read all the articles but it appears BP is maybe about to do something right. It is a long time past due for BP to come to Jesus and save what little is left of its image. It could be the stock price, folks avoiding their stations or other problems but they finally have decided to do what they should have done a long time ago and made their peace with Obama. They are suspending dividends and agreeing to a $20B fund for the cleanup. Dollar short and a day late, as they say.

Disclosures: None.