Sunday, October 07, 2007

No More Easy Money

We're pretty sure that the market is pretty pleased with itself after Friday's impressive run. With the jobs' report behind it, the market felt ready and able to charge forward and that's exactly what it did.

We have to admit, we're a little confused by the August job number revision from a negative 4K to a positive 89K in a single stroke of the pen. Some said that the number was artificially marked down early in the month in order to provide the Fed with some breathing room to justify a rate cut. While that might be true, we think the Fed rate cut was coming in any event and the jobs' number was not going to change that fact.

In retrospect, though, the stock market did manage to get everything it wanted. It got the rate cut that it didn't need and it got a fairly strong jobs' report in total. We wonder what the Fed is thinking sometimes and over the weekend was one of those times. It does seem as if the world believes the credit issues are behind us, meaning the money is free flowing to anyone who wants or needs it. As we said, the stock market is grinning about all of the nice things that it got over the past few weeks.

Skip to the news from the FDIC, where the chief there said that the ARM's should automagically just stay at the rate they are at instead of moving up as they were supposed to. Of course, we're supposed to figure out if the loan is for the person actually living in the house. We don't want to provide this benefit to those who are speculating in real estate, that might look bad.

We wonder what the investors in those bonds are thinking. Some of them have lost a lot of money already due to defaults and foreclosures and now this. What's a mortgage investor to do? Well, we submit that they don't want to invest in mortgages, especially ARM's for subprime borrowers.

That's where Fannie Mae and Freddie Mac enter the picture. Rather than trying to summarize the info from Doug Noland at Prudent Bear (check the Credit Bubble Bulletin at the Prudent Bear link to the left), we'll just reprint two of his paragraphs here:

From Doug Noland: The combined growth of Fannie and Freddie’s “Books of Business” will approach $500bn this year (nearing $5.0TN). The (also thinly capitalized) FHLB is on track for unprecedented expansion (assets surpassing $1.2TN). The money fund complex is in the midst of unparalleled growth (approaching $3TN). These key interrelated Financial Structures are at once sustaining marketplace liquidity, while laying the groundwork for a much more perilous financial crisis. They are all ballooning exposures today at double-digit rates specifically because the market risk environment has deteriorated markedly while their liabilities (and GSE guaranteed MBS) retain coveted “moneyness.”

But this does not alter the reality that this is an especially inopportune time to aggressively expand risk intermediation responsibilities. Indeed, the transformation of today’s highly risky Credits into Trillions of perceived safe and liquid debt instruments is but a seductively parlous expedient. I’ll further add that these Financial Structures comprise the greatest distortion of risk in the history of finance. Fannie and Freddie are adding significantly to their already massive exposure just as losses begin to mount – and mount mightily they will. The FHLB is aggressively lending as the risk profile of their borrowers deteriorates rapidly. And the money funds, well, I’ll just posit that the risk of eventually “breaking the buck” is rising right along with their growth in assets. In short, the money funds’ and GSE’s aggressive risk intermediation and market stabilizer roles imperil future “moneyness” – with enormous systemic ramifications.

End of Doug Noland quote.

Our stance on the fragility of the housing situation remains. We believe that the consumer will cave over the holiday shopping season. The reason is simple, there is no more easy money from the ATM, that used to be their house. Now, that will not be an easy way to get money and live well beyond their means. That is both in terms of the money that used to be taken out and the low payments that they have been able to make. Yes, we know the head of the FDIC is pounding her fist on the table to help the poor souls who might lose their homes. The consequences of a move like that are far reaching and will cause disruptions in the availability of credit, except as provided by Fannie and Freddie.

No comments: