Maniac in Motion

3 Reasons Why the U.S. Will Avoid a Recession: I'm Skeptical

You bring up good points. We don't have savings to absorb any more shocks. Foreigners are evidently not inclined to buy more US assets, and we should be fearful that we begin seeing outflows of T-bill securities.

Moreover, the guy writing that article misses the point. The rally recently compensated for passing over the crisis. What's still priced into the market is decelerating cash flows from losses of jobs. Less jobs available, less income, less cash flow to pay debt.

The expansionary forces assume we still are irrationally exuberant to buy more Garmin GPS units for all out friends. With the news tossing out the R-word and the F-bomb (foreclosure, people) on a nightly basis, it's pretty safe to say consumers are more carefully watching how they spend their money right now.

The affordability index naturally assumes current incomes and cash flows. And you know what happens when you assume. If jobs are declining, overall incomes are declining, and the affordability index rises. We evidently won't see that change until the National Association of Realtors stops saying, "It's always a good time to buy a house," and revise the median income they use to calculate their indices.

Closer Look At The ARMs Reset Problem

I think the article is right on with the 2 major problems: ARM Resets and "Limited or No Doc" liar loans. However, I think liar loans will go to foreclosure now and ARM resets will go to foreclosure slowly through 2011. Here's why.

Buyers of liar loans were predominantly speculative investors or self-employed business types who were after one thing: ROI. With a keen understanding they are upside down, and the likelihood they've likely already done well with previous trades, they have no incentive to hang on to a property where they might be 30, 40, 50,000 in the hole in an immediate time horizon. These types will likely make a conscious decision to stop making moretgage payments on a house they can't flip to cut their losses.

Meanwhile, some folks with ARM'a resetting were unfortunately duped to buy their home with an ARM instead of a fixed rate mortgage, and will likely slowly fall to foreclosure. They will try their best to keep the one home they dreamed of buying, but if house prices don't recover in time, will fall to foreclosure.

Sooner or later, one thing will have to give. The Fed will either see no choice but to raise rates, or we'll see the greatest hyperinflation in American history by keeping rates low like Japan did in the 90's. I imagine Bernanke is VERY AWARE of what repercussions would be experienced by keeping rates too low for too long AGAIN. I think we may likely see Fed hikes immediately following the election.

With Fed rate hikes, we'll see the 1 year Treasury rise, once again hiking up mortgage rates on folks with ARM's. Homeowners will likely have no choice but to foreclose if they are still upside down on the home, which they likely will be upside down. The consensus is it would take 10 years to see home prices recover. This will further deflate values from the 2006 highs.

To sum up, I think the article's right on the 2 major housing problems. But I think it's backwards. Liar loans are the immediate problem today, and folks with ARM's resetting will be the lingering problem tomorrow.

Market Sentiment: Eye-Poppingly Bearish

We continue to see W curves moving to lower lows. Until we see some sign of recovery and resolve with financials by the Fed, i.e. swallow the MBS pill, the threat of meaningful US asset class deflation still remains.