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We know the bomb, but what does the timer say ?

|Includes: Bank of America Corporation (BAC), DJ

This is an article many of you have probably read, I copied it straight from the bloomberg website :

"By Dawn Kopecki

July 9 (Bloomberg) -- The $3.5 trillion commercial real estate market is a ticking “time bomb” that may lead to a second wave of losses at large U.S. banks, congressional Joint Economic Committee Chairwoman Carolyn Maloney said.

About $700 billion in commercial mortgages will need to be refinanced before the end of 2010 and “doing nothing is not an option,” Maloney, a New York Democrat, said at a committee hearing today. This “looming crisis” may lead to significant losses for banks, force shopping center and hotel owners into bankruptcy, and impede economic recovery, she said.

The response by banks to this “growing threat has been slow and inadequate,” said James Helsel, a partner at RSR Realtors in Harrisburg, Pennsylvania, and treasurer for the National Association of Realtors. “The lack of liquidity and banks’ reluctance to extend lending are also becoming apparent in the increasing level of delinquent properties.”

There were 5,315 commercial properties in default, foreclosure or bankruptcy at the end of June, more than twice the number at the end of last year, with hotels and retail among the most “problematic,’ Real Capital Analytics Inc. said in a report yesterday. Losses on commercial mortgage-backed securities, or CMBS, will total 9 percent to 12 percent of the market, or as much as $90 billion, said Richard Parkus, a research analyst for Deutsche Bank Securities in New York.

Bottom Not Near

The bottom is several years away, and it will be at least 2012 before there is “palpable improvement” in the commercial real estate market, Parkus told lawmakers at the hearing. “It’s hard to imagine fundamentals improving in an environment where we are beginning to see massive increases in defaults.”

The largest concentration of distressed properties is in New York City, Helsel said. Las Vegas, Los Angeles, Detroit, Phoenix, Chicago, Dallas and Boston also have high distress rates, he said.

A tightening in issuance of CMBS, which used to account for about 30 percent of financing, has exacerbated problems, Jon D. Greenlee, the Federal Reserve’s associate director for banking supervision and regulation, said in prepared testimony today. A disproportionately high number of small and medium-sized banks have “sizable exposure” to commercial real estate loans, and delinquency rates at around 7 percent in the first quarter are almost double from a year ago, he said.

“Market participants anticipate these rates will climb higher by the end of this year, driven not only by negative fundamentals but also borrowers’ difficulty in rolling-over maturing debt,” Greenlee said. “In addition, the decline in CMBS has generated significant stresses on the balance sheets of institutions that must mark these securities to market.”

Fed Programs

The Federal Reserve has expanded its Term Asset-Backed Securities Loan Facility, or TALF, to new and existing commercial mortgage backed securities to jump start the market. Maloney said the Public Private Investment Program, or PPIP, may also help with the problem as officials release more details of its potential use.

Maloney said the TALF program expires at the end of this year, which may short cut its effectiveness “just as it begins to ramp up.” She also said that uncertainty about the future of the PPIP has kept many investors “on the sidelines, so there’s some urgency to the Treasury providing additional clarity about the program.”"

Am I the only person who the bankruptcy of General Growth Properties Inc somehow reminds of the early stages of the sub prime debacle ? When in September 2007 Northern Rock failed, everybody looked at the lines piling in front of the bank offices with wonder. New Century financial had failed earlier that year. But soon it was back to business, the stock market turned a gear higher and don't most of us followed the mentality " I don't see a problem in the market, so there is none" ? I was one of them for sure. After all, bankruptcies are just natural for capitalism, the well known creative destruction. As early as New Century, for some even earlier, the sub prime story was out on the pages of  major newspapers and websites, but hovered in the back of peoples minds and I feel it is very similar now.Credit card related loan losses and commercial real estate losses are not a question of whether they will occur, they will, even when a slow recovery, nothing else we can expect, will rise up. In addition California has been downgraded twice now and again even my 50 year old parents here in Germany know it, it was the first thing they associated when I told them I was calling a friend in California yesterday. They have no clue about the market and work 9-5 government jobs, but I was struck by how ignorance produces the right categorization of importance.

California is not any state, but a lot of states have similar problems. It's nothing new that Rating agencies rate everybody and everything and downgrades are just part of regular business. But this time it's not about any third world country, it's the eight largest economy of the world and in the economic centre of America! Other states do not have a better looking budget either. I know, you know.

What is different now is that the government seems to try to fight the problem before it takes it's largest hit, but just the same with the current programmes, they do not take action until the problem occured, until the loan losses on the balance sheets of various banks mount. It can compensate the bank at best for it's loss, but it can not put a hotel back into business or a subprime borrower into his foreclosed home that has the value it had in 2005, it can't turn back time. It is spending trillions and all what we can expect at best is a slower drop in unemployment and a sooner recovery. But the article makes it pretty clear, that even the best case scenario will not keep commerical real estate companies and businesses from defaulting. This is a common wisdom, but the reason the market does not pay respect to it in the magnitude it deserves I think is the reason we can't read the timer and fall victim to the misconception that if nothing happens for a long time it never will. But didn't housing prices peak long before the Lehman "fall" ? I do not doubt the government wants to take care of it, but it simply can't and only after the bomb has exploded. I know I could not offer a particulary original thought, but my intention is to make us think about the way we seem not to neglect these facts in our mind but put them off in our heads because it does not yet move the markets. But can you remember what the headline was in the September 2007 ? I don't remember, but I remember the headline of September 15th, 2008.

 I am currently all in cash.