Will Someone Please Tell Our Government You Can't Legislate High Asset Prices? 8 comments
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As it stands now, the US Federal government is the only significant buy of risky assets in this country, and outside it as well. Not only is it the only buyer of these hyper-inflated and hasteningly depreciated assets (read as 'wealth reducing'), it is now trying to force bubbled assets up in price. This is absolutely absurd. Who is in charge up there anyway?
The housing market was on an unsustainable and destructive bubbliciously unrealistic tear. The bubble popped, and prices are correcting. Let me say it again - prices are correcting. They are returning to where they should be, they are not dropping from where they should have been.
With the very strong possibility of a US auto industry bankruptcy (pre-packaged or not, somebody is going to get stiffed), combined with what will most likely be a $70 billion plus bailout - don't believe that $25 billion number any more than you can believe Treasury Secretary Paulson in public - this country is going to be a little strapped for cash. We still have the commercial real estate crash to deal with, the insurance industry will have their hands out, and municipalities are bleeding badly.
For those not familiar with my stance on Paulson, see "Is Paulson to be trusted, or is this Bush Administration Shock and Awe, 2.0?", Reggie Middleton asks, "Do you guys know who you're messin' with?", and "Reggie Middleton says don't believe Paulson: S&L crisis 2.0, bank failure redux" - Yeah, I think the man "stretches the truth" to congress and the public every now and then, but to give him a little credit, no more so than Bush, Rumsfeld and those WMDs.
Take a cursory scan of Bloomberg.com's home page from Friday and you will see nothing but good news to lighten your weekend:
- European Stocks, U.S. Futures Drop as Metals Fall, Economy Concern Widens
- Payrolls in U.S. Probably Fell by Most in 26 Years as Recession Deepened
- General Motors Chief Says He'd Accept Strict Conditions on Federal Bailout
- Trichet Under Pressure to Give Deflation Plan as Rates Get Closer to Zero
- Merrill May Be Toughest Test for Bank of America's Serial Dealmaker Lewis
- Pimco Sees Pound Bottom as BOE Cuts Rate to Lowest Level Since Churchill
- Kerviel Loses Bid to Question SocGen Chairman Bouton in Trading Loss Probe
- India Broadens Security Alert to Include Government Buildings, Refineries
- Cisco, Dell Risk Losing Sales as Bankruptcies Flood Technology Gray Market
- Galaxy, Olam Buy Back Debt as Collapse in Asia Bonds Drives Yields to 28%
- Murders Rise in Obama's Backyard as Recession Crimps Chicago Police Hiring
- Canada Economy Sheds 70,600 Jobs, Most Since 1982, on Manufacturing Slump
So, what happens when you try to artificially manipulate this correction, through administrative or legislative means? You make a big, fat, hot mess that is much worse than what you started with, that's what happens. See Paulson Considering Plan to Revive Housing by Driving Down Mortgage Rates:
Treasury Secretary Henry Paulson is considering a new plan to reduce mortgage rates in another bid to revive the U.S. housing market, a government official said.
The Treasury, which already has a program to buy mortgage- backed securities issued by Fannie Mae and Freddie Mac, could step up those purchases to drive down interest rates on some loans to 4.5 percent, the official said on condition of anonymity. The plan is preliminary and could change.
Now, I'm not an expert or anything, but wasn't this the impetus of the calamity in the first place? There used to be this urban myth circulating when I was in college. If you had a real bad hangover from partying the night before, just throw down a couple of shots of overproof rum and you will totally forget about the hangover from the night before.
It appears as if Paulson is a believer. Don't get me wrong. I make my money from unwise central banker decisions, worldwide (see "My Investment Style"). If Paulson keeps it up, I might as well start test driving that new convertible Maserati Gran Turismo S. Since I am a humble man from working class roots, I'd be quite satisfied with my Chrysler mini-van, in exchange for some fiscal prudence and practical foresight from my government. Unfortunately, I don't think it will happen, at least not in the short term and in the vein that I think is most practical. Then again, what the hell do I know? I just called this malaise with 100% accuracy from the very beginning (see performance).
If the followers of my blog think my performance has been impressive over the last year and a half, just wait until this Global Macro Experiment really starts to kick in. You ain't seen nuthin' yet! In an attempt to avoid taking the proper medicine for the last two bubbles blown, the central bankers around the globe are huffing and puffing, inhaling and exhaling (quite hard, may I add) in a concerted attempt to blow up the mother of all bubbles!.
My team and I rode the last bubble up, we're riding it down (and documenting it meticulously in real time through this blog via 20 page research reports) and trust me, we will take full advantage of the mess the central bankers have made (are still making, won't stop making). The revolution will not be televised. No need to fret or worry. I will continue to manipulate this new media and medium to blast the truth to all who want to, or wish to, hear it.
Asset prices must be allowed to correct, and the insolvent must be allowed to fail so the solvent can continue and investors can have confidence in the market pricing mechanism. Thus far we have no investor confidence, and as for the insolvents - well the walking dead are all over the place, and I'm talking some pretty big bodies.
It is not as if asset prices are not going to fall anyway. You cannot legislate, or administrate, high risk prices in a market-based economy (that is, if we still have a market-based economy - the socialism is creeping in). Yes, the government buys everything risky from everybody else, but what about the second transaction? In order for prices to maintain that level or rise higher, someone must make a purchase at an equal or higher price. It ain't gonna happen for at least a decade, and that may be optimistic.
The deliberations come as President-elect Barack Obama pledges fresh action to help American homeowners, and follow a $600 billion initiative announced by the Federal Reserve last week to buy mortgage debt. Mortgage applications surged by a record last week and the average rate on a 30-year fixed-rate loan dropped to 5.47 percent, the lowest level since June 2005, the Mortgage Bankers Association said yesterday.
“Lower mortgage rates will allow households to fortify their balance sheets, and we will likely see consumer spending come back a little quicker than it would otherwise,” said Mark Vitner, a senior economist at Wachovia Corp. in Charlotte, North Carolina. At the same time, “it’s not going to be an instant panacea for what ails the economy,” he said.
Maybe, and maybe not. Lower monetary rates also spur imprudent speculation when taken to the extreme, and this can be considered extreme. Mortgage rates are already flirting with historical lows, so I really don't think rates are the problem. Imprudent financial behavior and low savings and real investment rates coupled with sparse real income is the problem. Hey, instead of dropping rates to a 100 year low, let's keep them at a 98 year low and try to spur employment and productivity. That way people can actually pay their debt service and buy assets the old fashioned way, as in work for it.
While lowering mortgage rates to 4.5 percent would allow most homeowners to refinance into a cheaper loan, far fewer will actually qualify, said Rajiv Setia and Nicholas Strand at Barclays Capital in New York.
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This article has 8 comments:
As to the article, I agree with your position on the size of the auto bailout and the price correction comments. But there's some fear-mongering going on here as well:
"Yes, the government buys everything risky from everybody else, but what about the second transaction? In order for prices to maintain that level or rise higher, someone must make a purchase at an equal or higher price. It ain't gonna happen for at least a decade, and that may be optimistic."
--- a decade? Do you really stand by this? You think that MBS prices are still so overvalued that 10 years of cash flows on the 95% of paying mortgage holders won't create positive cash flows? The math says these securities will pay off.
Also...
"Mortgage rates are already flirting with historical lows"
- not in relation to Treasuries; on that more important measure they are actually quite high.
My published record coincides with my publishing research through the blog. The blog started during a down market. What is to be expected? In addition, despite the difficulty of doing so, if you read through the links, Bear Stearns was "called" long from $3 to over $10. I don't bother to mention it because long or short is absolutely irrelevant. It's about profit or loss.
Why are you waiting for a long call? If you read the links in the article, you will realize that my goal is absolute performance, not "calls". As long as I am producing, it is is absolutely irrelevant whether the "calls" as you call it are long, short, fat, or tall. I think you are confusing me with a trader or a soothsayer.
Going short is significantly harder than going long. In general, you are swimming against the tide. If your statement rings true, " a short theme at the most optimal time in history", then why are so many people having a problem succeeding with it? If it was really that easy, then every Tom, Dick and Harry who knew how to pull the sell trigger would be raking in the dough, now wouldn't they? Quite the contrary, the volatility, investor redemptions, incorrect valuations and second guessing when to "go long" seems to be producing more institutional losses then before "the most optimal time in history". Take a look at the hedge fund, institutional investor and mutual fund results in the links.
"--- a decade? Do you really stand by this? You think that MBS prices are still so overvalued that 10 years of cash flows on the 95% of paying mortgage holders won't create positive cash flows? The math says these securities will pay off."
Yes, I do stand by this. The government has bought, or put money behind a whole lot more than MBS. Much of the stuff was highly levered and written on top of a bursting bubble. Just like the NASDAQ and the dot.com values haven't come back 10 years later, expect the out of whack real estate stuff to perform the same way. You should be careful when using models.
The "math", according to some says these securities were AAA rated.
The "math" said that HPA (housing price appreciation) would increase in perpetuity.
The "math" as you call it, is responsible for untold losses to an untold amount of investors and stakeholders.
The "math" made clear that MBIA, Ambac and the other monolines and mortgage insurers, had "adequate reserves". How many mortgage insurers are left?
The "math" is no better than the assumptions and the people making those assumptions (along with whatever conflicted interests may be driving said people) behind which it stands.
Also...
""Mortgage rates are already flirting with historical lows"
- not in relation to Treasuries; on that more important measure they are actually quite high."
But I did not say in relation to Treasuries, did I? I said mortgage rates are flirting with historical lows. To have the government suppress rates below market values during the bursting of the biggest market bubble probably since the Gold Rush in the West is a recipe for disaster. That is my opinion and I stand by it.
It is good that you see fit to agree with the rest of my article. Welcome to the blog.
As usual you and Mish and Noriel are RIGHT ON!
We are in the mist of a "Santa Claus Ralley", which is an oportune time to SHORT (which I am too fearful to do) or buy reverse ETFs like SKF or SRS (which I am more inclined to do).
You should sell your boat now, as by next summer you can buy a much bigger one. If you go to 65 feet, you can U.S. register it and escape NY taxes.
If you do, I will fly to NYC and help you check it out.
Best of Luck,
fedwatcher
"To have the government suppress rates below market values during the bursting of the biggest market bubble probably since the Gold Rush in the West is a recipe for disaster."
What can I say to that? What are "market values" and what suppression method do you speak of? Fed Funds are already (nominally) above implied market rates, and the government hasn't been proactive (i.e. causing change) but rather reactive.
There are two types of models. There are those created by people who have an inherent desire to see a specific outcome (i.e. credit ratings agencies, investment banks), and there are those created objectively, with no expectation for any specific result. I try to always use the latter...and you?
As to everything else, I'll just agree to disagree with you...except for the "shorting is hard" thing. I know plenty of people that have made a fortune this year; it's been the easiest strategy ever, or in other words, it has been the tide.
Unremittent price declines in nearly every asset class in the world, at a rate that hasn't occurred in a century? Um, yeah, that's called an easy investment strategy. It's just reverse dartboard theory.
Best of luck...As with all things, time will tell.
I am referring to mortgage rates, which was the crux of my entire article. The government is trying to artificially suppress rates in an inane attempt to manipulate residential real asset prices. The market rates are no 4.5%, if they were then we would arrive at that rate without government intervention.
As for models, I create them with the expectation of a very specific result. To ascertain the truth in valuation. My models are what have allowed me to achieve above broad market returns in up and down markets. They are aIso what allows me to see foolishness on the part of imprudent or dishonest corporate management. Feel free to take a look at my work before being so critical. Here is some old GGP stuff that never received the attention it deserved - boombustblog.com/index...
That research was the result of extensive modeling that took many man months. A little more than a year later, those that use the models you refer to are now dropping ratings and issue sell recommendations. See online.wsj.com/article...
I shorted at $60 and it went down to $0.40. Many were long on this company. My modeling told me the exact opposite of what the Street;s models told them, the ratings agencies models, and a lot of buys side institutions. That is what I do for a living.
Even many that were short were losing money due to volatility. If you know many people who made a lot of money, then good for them, but the numbers don't seem to say that your friends are the majority. The vast, and I mean vast marjority of hedge funds who are allowed to short have lost money for the quarter, YTD and for the year.
I am not saying I am smarter than anybody else, maybe just a little luckier and humble at the right times. I definitely don't want to boast, since we all have our days. I have had my down periods in the past and I am sure I will have some in the future, but net - net, I have done better than average.