bearfund

5 Steps For Saving Fannie

Congress needs to "help the ailing housing market"? How exactly? I don't know where you live, but around here housing is by no means cheap. Most of the price declines have been in areas that represent a 60 to 90 minute one-way commute, with no mass transit available, to any decent job. Given tighter lending standards, more expensive money, and the need to buy an automobile and fuel it with copious amounts of $5 gasoline to take advantage of these "fire sale prices", I daresay nothing has changed at all. The downtown condos people actually want to live in haven't got a penny cheaper. Throw in stagnant wages and higher prices for everything from milk to memory and that house in the 'burbs that's 30% cheaper than last year still looks like a stinker to the prudent would-be buyer. The bottom line is that most of the housing stock that's losing value today should never have been built at all and has very little real value; the only people who wanted it were those with inadequate income and capital to own real estate at all. Accordingly, the market is far too rosy in its predictions. I would not be surprised to see especially banal developments written off as worthless, depopulated, bulldozed, and sold back to farmers for the cost of cleaning them up. Many others will lose 80% of their peak values and become slums.

There is no force in the universe that can put things back the way they were. If the market has decided that a piece of property is worth $100k but the mortgage on it is for $200k, there are only two ways out. The "owner" can lower the price of the house to $100k and, with the lender, eat the loss; or the government can lower the value of the dollar to match the market's price and force Chinese savers (Americans no longer save) to eat the loss on an investment they never benefited from. It never ceases to amaze me that even very smart people constantly fail to grasp this basic truth and eagerly look to the government to somehow put Humpty-Dumpty back together again. At most, the government can choose how long the pain lasts. How much of it there will be is out of its hands.

Thankfully, we don't have to bother guessing which of those paths the powers that be will choose; they've already made it clear that large banks and other institutions like Fannie and Freddie will not be allowed to fail, and with leverage exceeding 50x at many of these institutions now, that means no further price decreases can be tolerated. The Fed will print more cheap money, and the Treasury will issue more notes, rather than allowing that to happen. It's an open question which will dominate; that is, how much of the increase in the money supply will be sterilised. Fortunately, that doesn't matter, either - the long gold, short Treasuries pair trade will work well at any point on that continuum. And another advantage: not having to guess which financial institutions will live and which will die. It simply doesn't matter.

Disclosure: long gold, silver, GLD, PST, TBT; short long-dated Treasuries.