Historic Financial Collapse Underway?

I tend to be in hotel rooms when bubbles burst.

On January 6, 2000, I was on the 30th-something floor of the Marriott hotel across the street from the convention center in San Francisco. I was jet lagged and up working even though it was still dark outside, around 5:30 a.m. local time. Just then, Lucent Technologies announced earnings before the market opened. After beating expectations for 15 quarters in a row, Lucent missed its earnings forecast by 18¢. Much worse, it reported a $1 billion drop in revenue. You can't miss on revenues by $1 billion unless something is horribly wrong.

And something was horribly wrong. It wasn't clear until months later, but that was the morning the bull market in tech, telecom, and the Internet died. I vividly remember that morning. Believe it or not, I didn't have to look up the date or the details on the earnings miss. That morning is seared on my brain. It was the end.

I don't believe it was a coincidence I was in San Francisco that day. We financial scribblers follow the market. We cover what's hot. I visited tech capitals San Francisco, Boston, or Seattle nearly every month during the big bubble of 1998-2001. It was an incredible, exciting time. I'm glad I got to see it up close and personal.

This month, I got the same feeling I did back on January 6, 2000. It's over. And I was watching it all collapse, at the epicenter.

Recently, I was at the Four Seasons Hotel, looking down over the Las Vegas strip. Fannie Mae (FNM) and Freddie Mac (FRE) have finally cracked. While the stocks haven't gone to zero yet, it's clear the market woke up to the obvious fact equity holders of these companies are holding worthless pieces of paper. From my hotel room, I could see many of the reasons why...

Las Vegas may end up being the single-largest source of mortgage defaults. Upscale home prices here have fallen nearly 40%. The $2 billion Cosmopolitan hotel development is in default. The $6 billion Las Vegas Plaza is being delayed. Even Donald Trump has put his second tower on hold. It's a bloody mess.

Meanwhile, City Center, a $9.2 billion condominium/hotel development on the strip, is still going up.

Pre-construction sales began in February of last year – just before the financial markets shut out condo developers completely. I can see six huge cranes and the enormous steel infrastructure, half wrapped in glass. I cannot embellish on how big City Center is.

Each of its six main buildings seems bigger than any existing building in Las Vegas. This is the largest privately financed development in the history of the United States. It sits in the middle of a desert, in a city whose economy is dominated by gambling. Those two facts alone would give most reasonable investors pause.

The entire complex is five-star. One-bedroom condos here sold for $700,000. And the complex includes literally thousands of them. What will they be worth in foreclosure? I'd bet less than $200,000. And who will absorb those losses? I can't help but think in another two years we will look at those buildings and wonder, "What were they thinking?"

On a smaller scale, the same problems and the same questions are being asked of real estate buyers all over the United States. And the answers are not pleasant. By a huge margin, the largest owners of residential mortgages in the world are Fannie Mae and Freddie Mac.

Whether we like to admit it or not, the entire market for housing in the United States has been corrupted by government involvement. By subsidizing the availability of credit and by granting huge tax incentives to home speculators, the government helped finance the biggest bubble of all – the biggest bubble in history. It won't be unwound without serious disruptions to our economy and, unfortunately, a tremendous amount of pain.

I was listening carefully this week to the congressional testimony of Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson. Both insisted Fannie and Freddie have enough capital to continue their operations. Paulson sounded just like a Latin American finance minister on the eve of devaluation.

Incredibly, they both insisted all that was needed was more regulation! I felt like I was watching a kind of financial Nuremberg trial, where the main perpetrators of the crime were utterly oblivious to the evil they'd created. I was aghast.

Consider: Only 20 years ago, the U.S.'s total outstanding mortgage debt made up roughly 30% of our GDP. Homeowners held large stakes in their houses – close to 70% of the equity on average. Today, mortgage debt equals nearly 80% of GDP. The average homeowner owns less than half the equity in his home. This seismic change in the nature of home ownership and debt financing occurred nearly overnight – in less than one generation.

Fannie Mae and Freddie Mac made it all possible. Released from capital-ratio requirements and backed with a line of credit at the Treasury, they were able to buy a nearly unlimited amount of mortgages. Today, Freddie or Fannie finance more than 80% of all new mortgages in the United States. Over the last several decades, their presence in the market greatly lowered interest rates, created an endless supply of credit, and pushed housing prices higher. Meanwhile, the cost of the government guarantee, which lay behind Fannie and Freddie's power, was invisible.

Now what?

The size of the bailout of Fannie Mae and Freddie Mac could easily surpass $1 trillion. But Congress has no understanding, at all, of what's about to happen.

In 2003, chairman of the Senate Banking Committee Chris Dodd refinanced his home mortgages with Countrywide Financial (CFC), receiving a below-market interest rate that allegedly saved him $75,000 a year. He never disclosed the benefit to the Senate and claimed he was in Countrywide's VIP program because he was "a good customer of Countrywide's" – which is as bald-faced a lie as has ever been told in Washington, D.C.

In any case, the bill Dodd is getting through Congress (which was written by Bank of America (BAC), by the way) will create a new tax on Freddie and Fannie – 4.2 basis points on all mortgages they buy. That would generate about $600 million annually.

And, the money won't go into the general fund. Most of the money (65%) will go directly to the secretary of Housing and Urban Development, who will pass out the loot in the form of block grants to states. The Treasury secretary will get the rest of the money. He's allowed to give it to any nonprofit entity he chooses. And that means, whoever wins the presidency will get another $600 million (or more) each year to kick back to political backers. All for "affordable" housing, of course...

If Congress had any idea how serious the problems with Freddie and Fannie were going to become, they wouldn't mess around with a new tax or allowing a rival to Fannie and Freddie (Bank of America) to draft the bailout. Clearly, Congress has no idea how much trouble Fannie and Freddie face. Here's my estimate:

Freddie and Fannie own or guarantee $5 trillion (yes, trillion) in U.S. residential mortgages. I'm convinced mortgage losses after recoveries will exceed 10% of the total outstanding and could exceed 20%. Thus, over the next 12 to 24 months, Fannie and Freddie will likely face losses of between $500 billion and $1 trillion. That's a huge amount of money, even for Congress.

There's simply no doubt Fannie Mae's and Freddie Mac's shareholders will be wiped out. Last month, I wrote the market value of the mortgages on their balance sheets has fallen by at least 5%, wiping out all of their equity. And when you factor in the off-balance-sheet guarantees these firms have sold, it was impossible to imagine they remained economically viable...

I'm embarrassed to admit my estimate of Fannie and Freddie's viability was hugely optimistic. Both firms seem unlikely to last through the end of July. Readers who followed my advice in June are up over 70% on their short positions in Fannie and Freddie.

I'm certain the government will do whatever it takes to ensure Fannie and Freddie continue to operate – but that doesn't mean bailing out the shareholders. All the government will do is guarantee Fannie and Freddie's debts. That means a huge amount of taxpayer money is about to go into troubled mortgages. A huge amount of money the government doesn't have and won't be able to increase taxes enough to afford. And that means inflation is going to get a lot worse. The government is going to pay for guns, butter, and housing. Look out.

The value of the dollar is going to go down, and the price of everything else is going to go up. I think this sets the stage for a true inflationary crisis – as the economy can't adjust to soaring commodity prices. I also find it hard to believe our foreign creditors will continue to hold U.S. Treasury bonds if the U.S. Treasury takes on all of the mortgage losses of Fannie Mae and Freddie Mac. I think they'll dump our bonds and that will literally be the end. No more world reserve currency. No more pegs to the dollar around the world. We'll be on our way to banana republic status, in terms of credit quality.

What's the best way to protect yourself and to make money on this looming crisis?

You must buy gold and silver as a hedge against a further collapse in the value of the U.S. dollar.

Most people don't spend any amount of time thinking about the value of the dollar. It has never occurred to nine out of 10 Americans that the last 35 years mark the first time in recorded history that every major financial power in the world operated with fiat (paper) money in the absence of a World War. No monetary backstop exists anywhere – no limit in any country to the amount of paper the government can create on a whim. Meanwhile, the track record of every experiment with fiat money is 100% perfect: In every case, the currency regime was eventually destroyed by an inflationary crisis.

I believe we have begun the monetary crisis that will end the dollar standard that has governed world trade since World War II.

I can promise you, the same way I promised readers that GM (GM), Freddie Mac, and Fannie Mae were "zeros" – the U.S. dollar's strength will continue to fade.

Slowly, bit by bit, Americans will realize this. Our foreign creditors will realize it, too. The result will be a flight from the U.S. dollar into other assets – at any price. Please set up your affairs now, so you can profit from the coming panic, not be a victim of it.

Writing the most recent issue of my investment advisory – my third strong endorsement of precious metals in as many years – I can't help but feel like Chicken Little. Are things really this bad? Well, let me ask you which do you think is more likely?

Scenario one: The U.S. government recognizes its severe financial mismanagement. It allows Fannie and Freddie to collapse completely and does not assume their liabilities. Mortgage investors take huge losses. Mortgage rates soar to more than 10%. Housing prices fall 75% – which makes housing affordable for millions of Americans previously priced out of the market.

In the meantime, the government cuts spending by 30% and reduces taxes radically to encourage economic growth (which, ironically, increases tax receipts, leading to a balanced budget). It restructures Social Security, moving the age of retirement to 75. And most importantly, the government gets out of health care completely, renouncing all of its Medicare obligations. Hospitals and doctors immediately drop their fees to meet the affordability requirements of a free market.

Scenario two: The U.S. government refuses to take responsibility for causing a bubble in mortgage finance. Rather than allow the bubble to deflate quickly, it bails out Fannie and Freddie. Mortgage losses build for five years, reaching more than $1 trillion. Housing prices stabilize in good neighborhoods, but risk-averse lending practices result in widespread vacancy across broad swaths of America.

Refusing to substantially raise taxes, annual deficits surpass $1 trillion in 2010. Total government debt begins to spiral out of control as our interest costs mount. Our foreign creditors lose confidence in the dollar and begin dumping it on the world market. Inflation surpasses 20% annually and prices for energy soar. Oil reaches $250 per barrel. The president alleges an international conspiracy to destroy America and threatens to attack China if it continues to sell the dollar. Price controls are instituted.

No paper currency regime has ever lasted. No government in history has ever repaid debts as large as those already assumed by our government (in terms of GDP). A default is not likely – it is inevitable.

The answer seems obvious and urgent. Make sure you own a substantial amount of gold and silver. I prefer to own plain bullion. Buy gold and silver bullion and bury it somewhere safe. The gold won't rust. Silver is more difficult to manage, but the best way to own it is to take physical possession.

That's what I strongly recommend you do. Right now. Seriously. I wouldn't be surprised to see prices of these metals soar if Fannie and Freddie are taken over by the Feds, which is what I expect will happen.

Is there a chance I'm wrong about all of this? Is there a chance the death of Fannie and Freddie will mark the end of the crisis? That financial stocks will rise from here and gold and silver will fall?

Yes, absolutely. At some point all of the bad news will be in the market, and prices will turn before the fundamentals improve. So, yes, I might be Chicken Little. I might be dead wrong. But I don't think we are anywhere near the end of the real estate bubble collapse, and I know we haven't even begun to deal with the fiscal imbalances of our profligate politicians.

One more thing... I wish I were wrong about all of this. But I don't believe the debts of our government and many of our neighbors will ever be repaid. As a nation, we've essentially bankrupted ourselves over the last 20 years. And the consequences of those actions will be felt by several generations of Americans, at least.

I worry about the middle class, people who generally lack the financial knowledge and resources to protect their savings. They will probably believe the lies they're told by the mainstream press about "greedy" speculators and evil oil companies. They will almost surely support the policies and the politicians who are actually responsible for their increasing poverty.

I also worry about people who are retired and depending on the government to support them. They will surely see their standard of living decline substantially.

And finally, I worry most of all about my infant son. Will he grow up in a vastly different kind of America than I did? He could. And that makes me saddest of all.

Disclosure: None

Comments

[Gary Lucido]

I completely agree with everything you say. What I don't understand is why the GSE's stock is going up right now. I've been buying puts.

[buyitcheap]

Gary - your thought is correct. this is a bounce in the midst of a bear trend. you'll be able to buy ever cheaper puts until the GSE's nosedive again.

As to which scenarios play out - I truly hope it's the first, but given the cowardice of politicians and the constituencies, we'll wind up with 2.

[Melancholy Korean]

If you want to play the bankruptcy game and buy puts, let's see, the 10 delta put in FNM for September expiry, the 5 strike, looks like it's trading for .80 cents, which works out to an implied vol of 230. It's low delta, not much gamma to trade, even if the stock's realized vol the last few days has been up at crazy levels. It's more of a binary option on the equity going to zero, ok, I get that, so maybe you don't care the break-even is 4.20, but do you really want to gamble on the timing like this?

The only bankruptcy that buying puts outright is good for is the personal kind. If you want to gamble, go to Vegas. It's a hell of a lot more fun.

[sensetti]

As long as the US has the strongest military the world has ever known, strategic conflicts will be created, the dollar will remain the reserve currency, because the toughest kid on the block takes your lunch money at will. Until a viable alternative is created,the world turns on oil, who ever controls the oil, controls the game, The US has placed a strategic base in the middle East to control that oil, its that simple

[Andrew Clifford]

Fantastic article. Everyone should read it.
Sad but so true. Politicians have finally wrecked the economy. It will take a generation to recover.

[Jon T.]

So according to Sensetti, the 191 countries in the worlds that are not the United States of America are going to sit back and allow the US to throw our weight all over the world in order to control oil and manipulate the global financial system. How's that going to work out for the US? It seems totally unrealistic to think that military might alone when you are one country vs 191 countries is going to work. It's a very provivialistic and short-sighted view of the world. And, it's plain wrong. It might have been right 20 years ago. In fact, it was but that tactic has been played out completely. That's why the wheels are coming off. Time to change the game plan. Time for a fresh eye and new thinking. Obviously.

[what about gold]

So, when there is a new reserve courency and the dollar goes down big time, gold will go up big time terms of dollars. What is the likely outcome of gold prices based on a new currency system as we rebuild from the ashes?

[Piltdown Man]

Sensetti's got his head so far up his wahoo I'm surprised he's able to work his keyboard.

U.S. hegemony, economic and military, is in reverse. Like the author said, every fiat currency regime has ultimately ended in the crapper. And if a 'strategic base in the middle East' were enough to secure cheaper oil, we wouldn't be paying $130+ a barrel for it like everyone else.

Boy, you need to log off your computer and hit those GED books a bit harder.

[sensetti]

Why are we in Iraq, and why will we stay, no matter who's elected? Because oil is a vital national interest, and that tactic has not played out I argue, because at this very moment we occupy a foreign country. No one has stopped us and no one is capable at this. I simply believe we will not give up our hegemonic position as long as our mighty military is standing, history bears this out. Thank you I will consider the GED, should time allow

[Dollar Pimp]

Sensetti, you need to turn off Fox News and listen to the first hand accounts of US military personnel from Iraq Veterans Against the War -

ivaw.org/wintersoldier

Like the economy, even our "mighty military" has a breaking point.

[Jon T.]

"As long as Rome has the strongest military the world has ever known, strategic conflicts will be created, the Uncia will remain the reserve currency, because the toughest kid on the block takes your lunch money at will. Until a viable alternative is created,the world turns on spices and silk, who ever controls the spices and silk, controls the game. Rome has placed strategic bases throughout the Empire to control that spice and silk, its that simple." Anonymous Roman Emporer AD 475

[Greg from Canada]

Inflation, I run an oil company and we are evil. It cost me $1 million cdn dollars to drill a 2000 meter well in December, $1.1 million cdn dolllars to drill the same well in Feb. and $1.2 million cdn dollars to drill in April and I just saw and AFE for the next well at $1.32 million dollars. If oil were to fall below $100/bbl I would stop drilling as it would be uneconomical. Here is how it works. $1.32 million to drill means $2.0 million to complete and put on line. $100 dollar oil equates to $65/bbl after governement taxes and royalities. $15/bbl to lift and process means $50/bbl left to pay capital. 1 in 4 wells are dry & G/A costs leave $40 for net return on capital. If the well is good at 100bbls/day then we get $4000/day net. Wells run on average 250 days a year due to weather breakdown etc. The decline rate on average is 15%. This is a two year payout of capital without decline, 2.3 years with decline. This is cut off for the investors, I would have a hard time convincing people to invest if payout on capital was over 2 years due to the extreme risk. I could have a blowout (cost in excess of 10 million), failure down hole (total loss + cost of cleanup and abandonment) or loss of life, the capital is risky so investors rightfully expect returns. But I am an evil capitalist, it has to make sense as I am also an investor and if we continue down this path I am sorry for my children and their children as they are going to come up in a prefoundly different world, I hope the unwinding works for the better.

[tc399]

You can't eat bullion. If the financial markets fail completely, and that's certainly a possibility, so will the tax base. When that goes, so does the government infrastructure. When we went into Iraq I stopped buying anything I couldn't either eat or barter and I'm not going to trade my eggs and vegetables for gold bullion. I live in a place that will never run out of food or water and can switch to a completely agrarian society within days; and that is exactly what might be required for a while in a few years. I hope not. But I am a student of history as well as science. The government has been cooking the books and the rest of the world sees that we are no longer in a position to impose our will. If Mexico decides to take California back next week, there is no one available to stop them. We have become Rome and sent our armies to the far lands while the senate bickers and does not care for the needs of the citizenry. History is about to repeat.

[Sergio]

While I agree about most of your advice, I don't like the "invest in gold" advice.. gold prices depend on demand, which is partly due to people "saving" in gold, but mostly due to the industrial uses of gold.

Gold is WAY UP from where it was 5 years ago. If a US / China recession ocurrs, expect it to decrease.

Why not invest in Euros instead? They are gonna do a lot better job controlling the inflation.

[Eclealeph]

Be careful about gold and silver; normally it is the traditional hedge against fiat currency and all of its attendant miseries. But consider the following:

"Howl ye rich man...for your abundant wealth has rotted and is ruined and your many garments have become moth-eaten. Your gold and your silver are completely rusted through and their rust will be a testimony against you and it will devour your flesh as if it were fire. You have heaped together treasure for the last days." James 5:1-3

The eventual destruction of all world economies is not a result of stupidity but rather it is intentional, its purpose being to bring about a single one world fiat currency which can be controlled by a privileged few. Mayer Rothchild said,"If I control the currency of a government, I control the government." And since gold and silver are ever the enemy of fiat currency, quick work will be made of them and since it is usually the rich who can afford to hedge into them, they will be the ones doing the howling.

[Sultan]

I agree with the content and i also sense the same. I am more concern of India as last recession was not fully affected on india due to geographically diverse consumer country. But it is more expose to foriegn country and may affect 30 to 40 % this time. Capital account convertibility will be at halt is such crisis continues.

[you_can_call_me_Al]

"I'm convinced mortgage losses after recoveries will exceed 10% of the total outstanding and could exceed 20%."

I'd like to see a little more on this. How did you arrive at these estimates?

[Richard Neva]

Buy gold and silver, hmmmm. That fell with a thud on my hard of hearing ears. I am so far in debt I can't buy food! My car sits in the driveway, I can't leave home. I am supposed to buy gold and silver? I sold two gold wedding bands from my failed relationships for a hundred worthless dollars and that was good. Give me break, give me a Marxist Revolution will you please and dump this demonic capitalism we seem tied too. It has proven worldwide to be a failure!

[optionsgirl]

Holding oil and gas investments seems like a solid strategy. You'd think that the price of oil collapsed ( at a mere $132 a barrel) if you read all the investment newspapers.Commodities are going higher, that's the place to invest. Gold and silver are a temporary hedge. Silver is actually better than gold, it has industrial uses.

[jcordes]

Wow, sounds bad. I think you should start investing in fall out shelters and rain barrels. But just to be sure I understand your solution, you're for renouncing all health care subsidy, and hoping for house prices to fall 75%, (so everyone can afford them?). Umm! Falling prices made everything accessible during the great depression huh? Would that be card board houses next to railroad tracks?

[CLH]

Smile. This sounds like a convention of the negatives. Which hotel are you in now? --So I can stay away.

[EUARTE]

I have to assume that all that money flowing into countries like Brasil will not only stop but reverse. Although ignored by most financial reporting, the R$ is a powerful currency. Almost daily the US$ goes down against the R$.

So, if you were an American, having only US$ to live on, your purchasing power will increase. If you are on Social Security even a near destroyed US$ will be worth more that the R$ and other emerging countries currencies.

The answer is get out of the states and move to another country where the currency will be destroyed by that countries stupity. Just be careful which country you choose. You may end up in a not so nice revolution.

As for gold, I would agree to some extent that it "may" help one survive. If you do own it own it physically. I would guess that the gold issued coins, although expensive, may be the best to have for living on a day to day basis. For investment bullion will be best.

Fannie and Freddie should quitely and quickly be burried. The faster we rid ourselves of these monsters the better. NO bailout. The Secretary of the Treasury is not interested in the country but only one street...Wall Street.

At long last it should be openly said by everyone that Greenspan may be the second worst government employee ever. The first is the morally corrupt Congress who allowed him to continue in office.

[Bkraswting]

I agree that the odds of a soft landing are not very good. I have trouble however, with your forecast.

Does any one remember the "New Paradigm"? The idea that emerged in the late 90's to explain that you do not need earnings to justify a stock price?

The "New-New Paradigm" of this decade is that the global economies have decoupled and that what happens in the US no longer matters to the global economic cycle. Rubbish.

If half of what you describe takes place we are headed into a great deflation. Not inflation. It it will happen globally.

Euro land has a lot of weak economies in it. That currency is no safe have in the storm you describe. The Japanese economy has been in the tank for 20 years. The aging population limits domestic demand. In the future economy you describe there is no safety in the Yen.

China is in trouble today. It's weakness is masked by the Olympics run up. That currency will be a bust too.

So what currency do we buy? No gold. Not silver. That is like getting long oil at $150. A losing strategy.

I am not sure where the safe place to hide is. I am convinced that the logical choices, precious metals, will not prove to be a safe haven in a massively deflationary global economy.

It will be interesting to watch this unfold though. Good luck to all.

[low]

A gold recall (on the sly), is being advertised on t.v. as a selling opportunity! Don't look now but I wonder whose
ultimately behind it and why?

[bigdog1]

The next event: home in foreclosure, "lets move in", squatters occupy the empty home and when the banks get around to reclaiming the property, the squatters claim homesteaders rights and want to take it over. Does the government side with them and goodbye property and thus destroying the banking system???

[friend]

The " learned " author suggested that Fannie / Freddie due to worth zero dollar while the US dollar should slide .

The author , impressed me that salvaging Fannie / Freddie , the two government sponsored entities ( GSEs ) is like a " crime " .

I heard one said that the recent foreclosures stem from two sources :

1 ) the subprimes alleged to be fraud related ; someone organized to inflat property values by fraudulent appraisals and then mortgaged same to banks under the names of individuals with poor credit ratings ; the walking away would reap good profits for the organized criminals while leaving the banks with huge expenses and over valued properties .

2 ) the severe drop in price of the financials since October , 2007 have left traditional investors broke and unable to make mortgage payments . Foreclosures thus extended to the real people .

The " naked " short sellers intensified the damages on the economy .

Judging from the history of loss incurred by Citigroup ( C ) , the subprime issue can be speculated as over or almost over ; loss from over 10B in the 4th Q , 2007 to the 2.5B in the 2nd Q , 2008 .

The main hurdle now is the foreclures inflicted with the traditional investors or the good guys who lost all by confronting the unreasonably sharp drops in bank prices since October , 2007 .

Say , Regional Finance ( RF ) , a profitable regional banking network which has little or no exposure to the subprime , went down from $ 23 to $ 7 from April to July or in just three months .

Oh , RF has about 1.5% non performing assets ( NFA ) which are lands good for home construction purposes .

The real estate maxim tells us that land by nature , appreciates in value . Such NFA is in fact valuable asset to the bank and the same leaps when the real estate market becomes normal .

Investing into the future and thereby invest in financials .

When financials go back up to a reasonable level , the good guys would have their savings back to update their mortgage payments .

As a result , foreclosures would be reduced and the real estate market would be back to its normal functioning .

Some article indicated that Fennie / Freddie were told by the US government to loosen up their policy in accepting mortgages at the time when the subprime problem had surfaced while banks then generally raised their standards .

Such " startegy " was an attempt by the US government to boost up the real estate market at the time .

That attempt failed for the loose rules would naturally , invite more fraudulent subprimes .

Fannie / Freddie ended up with mortgages that they would not accept under their own policy .

On viewing the year 2001 / 2002 downturn , Fannie / Freddie flared better than or comparable to strong pretigeous banks like Bank of America .

Fannie / Freddie have proven themselves to be effective and profitable when being allowed to use their own standards in assessing mortgage applications .

Even being handicapped , the combined loss to date for the two GSEs is about 10B which is about the same as what Citigroup has lost in its 4th Q , 2007 .

Such quantity of loss is obviously manageable under today's standard .

Freddie's CEO has repeatedly told the media that their retained earnings are sufficient to finance the GSE through this crisis .

The shoring up by the US government is more for gaining back public confidence since half of the US mortgages are guarenteed or owned by the two GSEs .

Yes , substandard policy attracts frauds and eventual mortgage failures .

Published articles indicated that the substandards were used by subsidaries of investment banks and not regional banks .

The two GSEs straddled into these substandards reluctantly on a demand by the government to salvage the real estate market .

One would trust that the two GSEs would be more than happy when being allowed to go back to their own lending practice proven to be effective and profitable .

The " learned " author accepts that the economy would completely collapsed should the two GSEs fail .

The shoring up of the two GSEs would avoid such collapse .

The author however , suggested that a complete collapse in economy would best serve the US people as oppose to the backers' claim that the US people would benefit when the two GSEs or economy being uplifted .

People do have difference in opinions .

[notsosmart]

the safest investment is cans of tuna.you cant eat silver,gold,etc.you eat the tuna,drink the tuna juice & hope your neighbor wont know so he can kill you for it with the blessing of the supreme court(everyone can be armed).oh, this cant happen here.maybe not as long as most are at the stadium swilling (now)belgium beer.

[Synergizer]

This has been a long time coming. People didn't want to listen to guys like Robert Kiyosaki and Donald Trump who have been telling people we're heading for the biggest collapse in history as well as the end of the middle class as we know it. One of the things they recommend is to start a home based business in Network Marketing. Historically, in times such as this, the Network Marketing industry has boomed. How much more so during this long hard slog through the economic murky future? Get yourself familiar with the business model and do your due diligence. You can't afford to scoff at this anymore or remain in ignorance of it. Ignorance is definitely not bliss. Economist Paul Zane Pilzer has said, despite this economic trouble, that 10,000,000 new millionaires will be created through Network Marketing over the next 10 years. Where do you want to be in that picture? Contact me to get a free video that will educate you about this industry and the business model. Don't sit there and say you didn't know. Because that excuse has now been taken away from you.

[gollwoods22]

whatever.. economy is a mess people have no money after gas fill ups small business is going under from high prices and lack of customers, the jobless will be hungry and pissed off in the cities and cold too this winter. you better buy bullets and now.

[Marty]

Great article! I wanted to add some stuff .

- In 1999 the Nasdaq was 5000 its 2200 or so now. In 1989 as the Japanese real estate bubble burst the Nikeii Average was 40,000 its 18,000 now 20 years later. Their real estate market retraced 20 years of gains as well. I feel it is not totally out of the realm of possibility that a much longer recovery trend like that in Japan can happen here.

-Regardless of the economy there are other factors -HUGE outflow of investment funds to baby boomers retiring. These people were able to save more than the next generations AND had the benefit of company pensions (also invested) that will now be coming out of the market just as new money in gets tougher as people cant save.

-Additional Risk - State and Local revenue -People are not driving on toll roads as much and they need to raise tolls. Property taxes are going to be a nightmare to collect, and sales taxes are down. There are some serious risks in that environment to state and local Govt spending (and related bonds etc)

-Not sure if I agree on the gold thing. The last year has shown you might have been better off buying food that you can store , things like rice , flour etc LOL But there is a valid argument in the currency collapse market.

THOSE THINGS SAID...

As a CPA in the northeast part of the country I have seen this mess coming for over 2 years. Just like the signs were clear to me 2 years ago I am seeing some limited signs of the seeds of recovery taking place. It could very well be far off but let me tell you about the few positive things I have seen..

1- The small business credit crunch seemed to ease when the Fed lowered rates. I dont know why but between Oct 07-March 08, it seemed like noone had money, now people seem to be hanging in there .

2- Some clients are reporting better sales (surprising even themselves). In the last 2 years I have not had a handful of people telling me anything good the same day but I am starting to get those reports.

3- Some new business formation is going on.

4- Looked into details of some financial stocks reports. IT appears to me that places like Citibank and Merrill Lynch are 6 months away from a turnaround. For example, Merrill has reported 40 billion in some odd losses already. They only have 4 billion or so left in CDOS in total.

5- Private people (like Boone Pickens for example with the Energy plan) are starting to step up to the plate with ideas.

There is an all bets off death scenario though. That is if we get involved in another war. Then I think its over.

Id like to state one more thing..

from a year ago to about 6 months ago the Govt essentially lied about inflation, unemployment and the jobs market.

Now the facts are out there. At least people are playing cards with the reality deck now. The risks are out there. Just articles like this one might show a bottoming process.

I have been very negative on things but call it as I see it. I do see some things moving in the right direction. It might be a dead cat bounce as they say but I am hopeful that we are wrong and things will turn, everyone makes out better that way and ill eat crow anyday over not having anything to eat!

Marty

[sr9web]

Sensetti, don't listen to those dummies - your explaination for why USA is in Iraq and why the world will keep (fearfully) respecting us, is 100% correct and totally spot-on.

[joyful alternative]

The government should cut taxes so its revenues increase? Didn't GW already do that more than once? And where has that taken us?

It's still voodoo economics, almost three decades later.

[unimpressedpragmatist]

The economy will experience a miraculous recovery when the price of oil falls to reasonable levels. Then, all the pundits, analysts, and politicians will proclaim how they solved the problem. Over time, even more nonsense will emerge from these and other sources of, in their opinion is, profound wisdom.

The market place that encourages egregious greed is now, and always will be, the source of economic unrest and destabilization. Until we ascertain how to control this without damaging capitalism, we will, always, be in danger of the debilitating effects of outrageous avarice.

All other opinions are just an excuse to make a living from, apparent, wisdom and insight. Simplicity resulting in real insight will never be in vogue. Otherwise, all those who blather about things they obfuscate with excessive verbiage would have to get real jobs.

The market place that encourages egregious greed is now, and always will be, the source of economic unrest and destabilazation. Until we ascertain how to control this without damaging capitalism, we will, alwasy, be in danger to the debiliating effects of outrageous greed.

All other opinions are just an excuse to make a living from, apparrent, wisdom and insight. Simpiicity resulting in real insight will never be in vogue.

[contender]

I always find it hard to believe in extreme scenarios. The truth almost always ends up being somewhere in the middle.

That said, I think the number of perps...err... goldman sachs...err.. governemtn officials they are trotting out to tell us that we worry too much is another 'tell' that things are worse than normal.

It all hinges on housing. What breaks the downward spiral ? Its a degenerative feedback loop, and what breaks it -- especially as the government offshores our jobs and devalues our dollar so there will be fewer and fewer solvent families and individuals to sop up the excess inventory and stabilize prices ?

What breaks the cycle ?

[LiquidSoapDispenser]

Very interesting article. One thing I wonder about is how you (and others) think high mortgage rates and very low housing prices are such a good thing (makes housing affordable). But there's no mention of the problems this would cause. If the value of most people's homes fall far below what they owe on them, we will see people walk away from them at a scale that makes today's foreclosure rate look like nothing. You think that won't be it's own catastrophe? You're gonna have to explain to me how this could possibly be a good thing, rather than just seeing the "affordable housing" side of that equation.

[adan]

re: "...I felt like I was watching a kind of financial Nuremberg trial...."

i've remarked on other articles on seeking alpha that the stuff going on in re to fannie and freddie, and selective enforcement of existing naked shorting rules reminds, not exactly, but in tone, etc, reminds me of pre-wwii germany - not good

but a probable very negative future for your son, or my granddaughters, is not necessary -

fuels alternatives are already available and, in ten yrs, could replace dependence on oil;

the tax structure could be overhauled (i personally like the flat tax, despite it's con's, 'cause of its psychologically promoting quality of a sense of fairness and incentive equal for all);

and a way to provide at least the level of health care available to the rest of the industrialized world currently not available to us, could be found

a lot of could's - i know

but then, who would've thought, in the late 1700's, the world would even see a country such as ours even existing to possibly squander such an improbable "could" ?

[the blindly optomistic pessimist]

HI all,

I have read the article, and many of the comments. For the most part I agree with everything in the article. Despite this, there have been many times in the past where one would have thought that the american ecomony surely cannot simply rise from the ashes of its economic stupidity. We are heavily indebted, some assets have become extremely overvalued, and so on and so forth. This has yet to be the case. Every market decline EVER has been a buying oppertunity. And while I was short seller of many differant assets over the last two years, I am now a buyer. do I feel comfortable about it? no. do i even agree (aside from a rather large yeild in financial stocks, no i think there are many more shoes to drop), and yet I am a buyer. We can argue and banter numbers and statistics all day. and there are reasons on both sides to be both extremely bearish, and yet very bullish. All i would remind others of, is by some measures, the american economy is not as indebt as our EU allies, or Japan, and so if we had to take on another trillion dollars to bail out freddy and fanny, theoreically we could.

I have a hole in the back yard where I keep a few hundred cans of food, lots of water, toothpaste, soap and several hand guns, with lots of amunition. I also am long the XLF, and the USD.

I hope I never have to fire a gun.

[Regina]

I am a single black mother, make 52,000 a year, owned my own house for 15 years. Have a retirement plan and small savings. I don't have an extra 1000 for an ounce of gold, I can't buy stocks because you have to buy an incredible amount (look at Google) to make it worth it or have had to have been bought 25 years ago to be making money now. (in a lot of cases)
Walmart is complaining demand is down (don't make us mad we are going to sell the bonds if you don't shop at our stores) CNN is telling you to plant a garden. Cities are going to raise the price of public utilities to balance the city budget because so many houses are in foreclosure. Medical costs are out of the roof because doctors want patients to pay for their student loans and privledged lifestyles. No one wants to vote for Obama because they say he has no experience, but look at the mess BUSH got us into. So experience has little to do with anything except if you want to use it against someone. I am being sucker punched every time I go fill up 4.50 a gallon for 12 gallons of gas in a plymouth neon 1998 at that 58.00. To keep gas in the car cost more than the car is worth. No SUV's for me, and I"ve got no credit cards.
So why am I worried about my future because it's people who short the stocks, buy the stocks, scream for more dividends. The World Bank is trying to hoard the money for the few rich people who think "let them eat cake", I keep asking the money was there once, how can you loose what you never had so where is it now and I who have done nothing why am I paying for the sins of others. I bought my house with a 20/80. I never went for one of those crazy loans, I didn't buy a house before selling the one I am in, and I didn't refinance every time I wanted to go on a cruise or buy Prada or Rolex.
Who cares about what the government is gonna do because I am paying now and I am getting resigned to more pain later for something I did not do. Buying gold, arguing about Fannie Mae and Freddie Mac and future bank closings will not help me fill my tank, buy food, keep my lights on all I know is I am screwed regardless and I hope my job doesn't fold.
I just need to know where the food banks are, homeless shelters, and can I qualify for food stamps if necessary. Should my whole family move into my house so we can make sure we can cover the light bill. My brother can mow the lawn so I don't have to give money to a illegal mexican immigrant who bought a 500,000 house with "Landscaper" on his loan application. We can clean up our own messes and not hire a mexican housekeeper because we are to busy to clean our own house who by the way bought a 350,000 house with "Domestic" on her application. We can have a garden in the back yard and my sister can spend her weekends canning food so that we can have some food to eat when gas gets so high the truck drivers can't afford to bring the food to the grocery store. How do you dry out meat so when beef goes to 10.00 a pound for hamburger we can buy in bulk and have it ready for the winter when it goes up to 15.00 per pound.
Buying gold and shorting stocks will not help the average person with day to day needs. That's the article I would be more impressed with. Oh by the way I want that electric car next week when the price of gas is going up, not in ten years when people may not be driving at all. Oil is 250 a barrel and all commerce has stopped. Greed has caused this mess and a slice of humble pie will end it. Although it will take a while, people have a way of not taking ruin easily read the stories about investors in Karachi distroying their stock exchange because they were loosing too much money. (hence the stocks must have been purchased 25 years ago to weather any storms now)
Tell me what to do in a survivalist sort of w