September 25, 2007
JustQuotes: It’s Happening With Debt, Could It Happen With Homes?
"Declines in the dollar, which fell to a record $1.4154 against the euro today, are souring some overseas investors on U.S. government debt...."We're shifting money to the euro from the U.S.'' A falling dollar brings losses to investors from outside the U.S. and it may spur inflation in the months ahead, [Satoshi Okumoto, who helps oversee the equivalent of $4.3 billion in non-yen debt at Fukoku Mutual Life Insurance Co. in Tokyo] said."
∙ Treasuries Rise as Consumer Confidence, Home Sales Decline [Bloomberg]
∙ What’s The Scoop On Foreign Investment In San Francisco? [SocketSite]
First Published: September 25, 2007 9:04 AM
Comments from "Plugged In" Readers
Keep in mind that a housing bubble causing the dollar to fall is happening in the US first because of our greater transparency in financial markets. This will happen in many other countries as the governments decide to print more money to prop up asset prices.
Posted by: wageslave at September 25, 2007 10:45 AM
You've got to be kidding me. Transparent?
the whole problem right now with the credit markets is the OPAQUE quality of all the toxic sludge put out by the investment banks over the years. the MBS and CDO and CDS and synthetic CDS and even some of the asset backed CP is all so opaque nobody knows what is in those things. (including the people that created them)
if our system is so transparent, why are people AFRAID to buy the Bear Stearns hedge fund assets? Answer: because nobody knows what's really in them.
Things rated AAA (theoretically as safe as Treasurys) are now found to be made up of subprime and Alt A garbage lent out to people who had Stated Incomes and Stated assets (or no income/no assets)
Posted by: ex SF-er at September 25, 2007 11:14 AM
To ex SF-er's point, in a transparent world we wouldn't be seeing this ...
"fraud in the form of 'double-sold mortgages', with authentic-looking closing documents, is allowing some individual loans to be sold multiple times," according to Gray, who noted that such duplicity "is made easier by the fact that investors don't talk to each other -- Fannie, Freddie, Countrywide, whoever. So long as payments are made, nobody's the wiser."
Posted by: badlydrawnbear at September 25, 2007 11:20 AM
While some investors may sour on U.S. debt, on balance, the aggregate Japanese investment in U.S. debt this year is going to increase just as it has for many years running.
The alternative for the Japanese (or for the savers and bankers of any nation running a trade surplus with the U.S.) is to import more U.S. products and/or buy other U.S. assets, such as stocks and land.
Posted by: vox at September 25, 2007 11:21 AM
You are both absolutely correct. The market has transparency issues. I'm just arguing we are more transparent than other markets. This housing bubble, liar loans, inflated appraisals - they are evident in almost every housing market in the world - but have come to the spotlight in the US because of our greater transparency. The same issues are becoming apparent in the UK now, and will show up all over the place over the course of the next year(s).
If it weren't for CDO's and a secondary debt market it is much harder to detect failure. In a country without CDO's and a secondary debt market you can hide your failing loans much longer - they don't show up in a day to day market; you just have to cook your books when you report. (Which you may not even be required to do.)
So when we consider an international perspective, let's keep in mind that all of these toxic elements in the financial system are not limited to the United States - but will probably appear in every country with a large housing run up in the last few years.
Posted by: wageslave at September 25, 2007 11:34 AM
Well said ex SF-er. What's up with this credit crunch? Interest rates are still really low, jobs and economy are doing fine (for now), everything should be hunky dory. So why isn't anybody willing to buy Wall St. manufactured debt? Like you say, it's because nobody can tell what's decent and what's just repackaged toxic sludge. Good ol' Bear Stearns liquidating in the Caymans. That's anything but transparent!
Was the 1970s auto industry suffering from a credit crunch? No, sales were low because we made crappy cars. Once we remembered how to make cars that people actually wanted to buy, sales completely recovered.
Same thing will happen for Wall St. But, like the 70s, it's going to be a painful learning experience. And Bernake's made it clear that dollar is going to to be hit pretty hard. :(
Posted by: bronson at September 25, 2007 11:41 AM
I guess I'll be advertising in London, Shabuya and Shanghai next year.
Posted by: Paul Hwang at September 25, 2007 12:52 PM
I believe you're confusing speed of failure with transparency.
it is true that the US market is showing cracks FASTER than other markets. But this isn't because we have more transparent securities... it is because our underlying economy is worse than the other major western areas... thus our price appreciation slowed before theirs did... which started the cracks in our system before theirs
I agree with you: almost every country has somewhat similar toxic garbage in their countries... it just isn't known yet.
That said, no country except perhaps England (and I doubt it) has as much financial wizardry as our dear Wall Street. Much of these esoteric securities were invented by Bear and Goldman and Lehman and so on.
as example: Citibank holds HALF of the world's SIV's.
back to transparency though: if our securities were transparent, then we could find a clearing price for them now that the cracks in our system are known. However, the clearing price cannot be found... because firms are refusing to buy the loans any longer (because they are so opaque)
For every MBS you've heard of that failed, there are COUNTLESS others that are sitting quietly in Wells Fargo, WaMu, Citibank, Morgan Stanley, Goldman Sach, Bear Stearn's vaults....
they only retain their "value" due to "mark to model" fantasies.
Posted by: ex SF-er at September 25, 2007 12:58 PM
did you see goldman made billions betting against the mortgage market?
they put a record amount (billions) aside for bonus's too
Posted by: james at September 25, 2007 1:12 PM
The Foreigners will hesitate to buy American toxic sludge for several reasons:
1. it is impossible to differentiate the toxic garbage from the good stuff, because it is all rated AAA.
2. the Foreigners were burned by American investment banks like Goldman Sachs... (Goldman sold the foreigners these securities making a handsome profit, and then at the same time made bets AGAINST the very same securities... thus they sold stuff to foreigners telling them it's "safe" while betting against it)
3. The Fed continues to inflate our dollars (in other words, make our dollars worthless). In 2002 the Euro was worth about 88 cents. Now it's worth $1.41 or so. So the dollar has lost significant amounts versus the Euro. (as well as against almost every currency that isn't pegged to the dollar)
But the dollar isn't knocked out!
The Asians peg to the dollar. so their currency is losing value as well
the Europeans are starting to squawk about their overly strong currency (they are exporters), thus I'd not be surprised if we see them debase their currency as well (look for future ECB rate cuts)
England has its own credit problems (bank runs) so expect the pound to lose value (BOE rate cuts)
Japan's central bank will likely drop back to 0%
The Gulf states (Saudi Arabia) may break their peg (highly likely) though.
so in the end: most non-Gulf State currencies will likely race to the bottom. They will not allow the US to continue to intentionally debase the dollar.
But while this happens we MAY (my crystal ball is very opaque on this) see huge increases in gold, oil, commodities, and other hard assets. (due to the currencies becoming more and more worthless)
but for San Franciscans:
don't EXPECT a return to cheap mortgages. it could happen, but is unlikely. (this is very hard to foresee)
The previous buyers of American mortgage securities were Foreigners and foreign banks and foreign central banks etc... they were burned by bad performance and bad Fed policy so won't come back for a while. (years/decades)
however, with the Fed dropping rates, they announce a war on savers. We will have higher inflation, yet lower interest rates on our savings (so our life savings lose value). thus, many savers may decide to invest in riskier assets like mortgages again, to try to hold out against inflation. I doubt this will happen, but it is possible.
Posted by: ex SF-er at September 25, 2007 1:16 PM
"however, with the Fed dropping rates, they announce a war on savers"
Savers, what savers? I thought the last saver died when Reagan left the White House. And it's been a debt party ever since. Well, looking at the USD charts, the reckoning may finally be upon us.
Without cheap money from the rest of the world, there would be no war in Iraq and no bidding wars in San Francisco.
Posted by: anon at September 25, 2007 1:34 PM
Ex-SFer is right on. But perhaps more important for the SF housing market than the issue of whether interest rates will go slightly higher or lower from recent developments, the new avoidance of toxic sludge mortgages in the secondary markets has put an end for a long time to loans without high FICOs and documented incomes and large down payments. These new requirements are even further heightened for those needing jumbo loans that Fannie Mae can't buy -- and most SF buyers will need these even if Fannie Maw limits are raised.
The number of willing and able buyers in SF has plummeted as a result of all this. Will foreign buyers wielding cash make up the difference? I doubt it -- but who knows?
Posted by: Trip at September 25, 2007 1:34 PM
we had the same idea.
you posted about Goldman while I was writing about them!
Yeah... it was genius short term... but I'd like to be in a board room when Goldman peddles their next security to foreigners!!!!
That said, I'm not sure how much of it is genius when your ex-boss is the Treasury Secretary (Hank Paulson, Treasury Secretary, ex-Goldman exec... I'm sure there's no leaking going on there)
Posted by: ex SF-er at September 25, 2007 1:50 PM
Savers, what savers? I thought the last saver died when Reagan left the White House. And it's been a debt party ever since. Well, looking at the USD charts, the reckoning may finally be upon us.
Since Reagan left? The 80's was the START of the debt party, not the end of saving. At least the Federal government was paying down a little debt in the late 90's - that's been the only blip in 25 years.
Posted by: anon checker at September 25, 2007 2:12 PM
Just to chime in with the above, in the UK housing prices have risen much more over the last decade than in the US - like %250. Twice our rate.
We may be lucky we had the mortgage sludge, because it is in effect bursting the housing bubble. If in other inflated markets in Europe prices fall back to historic levels relative it income, it will be bloody indeed.
Posted by: dissent at September 25, 2007 2:13 PM
i wonder if the uk appreciation has anything to do with their commission structure for realtors only being 1-3%.
Posted by: james at September 25, 2007 2:36 PM
Let marc come over to the UK and halt all housing construction. That will clearly solve the problem.
Posted by: dissent checker at September 25, 2007 2:53 PM
"That said, I'm not sure how much of it is genius when your ex-boss is the Treasury Secretary (Hank Paulson, Treasury Secretary, ex-Goldman exec... I'm sure there's no leaking going on there)"
Goldman's strong third quarter results stemmed from investment banking activity and the sale of a stake in Horizon Wind Energy worth $1 billion. They had significant losses on subprime loans and mortgage-backed securities.
So just how did Goldman profit on this alleged "leaking?"
Posted by: KK at September 25, 2007 3:34 PM
Goldman Sachs Group Inc. reported the third-best profit in its 138-year history after betting against the mortgage bonds that roiled credit markets and left Bear Stearns Cos. with its biggest earnings decline in more than a decade.
The world's largest securities firm said net income rose 79 percent in the third quarter to $2.85 billion, or $6.13 a share, beating the highest analyst estimate by more than 20 percent. Earnings at Bear Stearns fell 61 percent to $171 million, or $1.16 a share.
Goldman said mortgage profits rose ``significantly,'' after wagering correctly that prices of securities tied to home loans would decline. While Chief Executive Officer Lloyd Blankfein also doubled revenue from equities and reaped record investment- banking fees, his counterpart at Bear Stearns, James ``Jimmy'' Cayne, floundered in the market turmoil as bad mortgage bets saddled the firm with $200 million of hedge fund losses.
Posted by: james at September 25, 2007 3:37 PM
So Goldman, the one firm that appears to have been convinced that housing would tank, is setting aside record amounts for bonuses.
It's every NYC realtor's worst nightmare: the only people with money are those most convinced housing will fall.
Posted by: tipster at September 25, 2007 3:42 PM
We never should have let Wall Street I-Bankers hire kids from the Math Club.
Those toxic sludge CDOs are one way to acquire US real estate (in the form of foreclosures) in bulk. It will be interesting to see who our new landlords are once the smoke clears.
Posted by: Emmett_Brown at September 25, 2007 3:47 PM
you must be confused.
Goldman took significant losses on some of their subprime loans and MBS products. Paulson couldn't help them much with that.
But they more than made up for it with their hedging strategies- in which they bet BIG against their own securitizations. (a bold move)
They reaped huge profits on the latter strategy... which is why Bear and Lehman had bad quarters, and goldman had one of its best ever (I believe 2nd or 3rd best ever)
They also made HUGE profits on trading in the equity markets and fixed income arena. The equity markets have been EXTREMELY sensitive to Fed adjustments. (explosive jumps after Fed cuts to the discount window or funds rate)
There have been some very peculiar large movements in the stock markets that occur IMMEDIATELY (seconds) before key fed decisions, such as the 25basis drop in the Discount Window, and also the 50basis drop in the Discount and fed window. (the first "headfake" move in the "wrong" direction and then a blowout move in the right direction)
There is no way to know who made those huge jumps in the market at such key times... but there is huge possibility for enormous profits.
And make no mistake, the 50 basis point cut in the fed funds rate slaughtered a lot of people who were short the market, and handed the investment firms a HUGE present.
The "President's Working Group on Financial Markets" (commonly called the PPT) includes the Treasury Secretary and the federal reserve board chairman. thus, Hank Paulson was intimately aware of future Fed Policy. He also is best friends with Goldman.
I'm sure he honorably didn't say anything.
(before you say that Paulson can't affect what Bernanke does... answer this: why did Paulson fly to Britain to meet with officals at the Bank Of England then?)
I profited handsomely from the Fed's rate cut. Although I hoped they wouldn't do it, I set myself up accordingly, and all of my stock exposure was long on Sep 18th... so I made good money that day (neglecting the rapid fall my life saving's value due to dollar destruction)
there is no proof that Goldman is doing anything illegal... but something smells fishy over there... quarter after quarter after quarter of smashing the ball out of the ballpark, despite some of the worst headwinds ever...
Posted by: ex SF-er at September 25, 2007 3:59 PM
Watch this space, saving incentives from the Bush Whitehouse...the ultimate u-turn, coming in next year state of the union. If you have any money left, the government will pay you to save it! They are going to call it the 'Money08' program.
Until we all starting managing our finances the way Buffett does we are going to hell in a handbag, skip the latte and put the money in the bank instead.
Posted by: Observer at September 25, 2007 4:47 PM
No, I'm not confused. I'm just not drinking your koolaid. Goldman's subprime loans and MBS losses were essentially offset by hedging. No one is debating whether or not GS employed saavy trading strategies. But to insinuate in was improper and tied to leaking at the government level is irresponsible unless you've got evidence to back it up - and no, a meeting b/w the secretary of the US Treasury and officials of the Bank of England proves nothing other than collaboaration to address market turmoil. Good policy most would argue.
Sooooo, GS investment banking produced record net revenues of $2.1 billion in the quarter. Third quarter advisory revenues were a record $1.4 billion, nearly double last quarter's performance. The results were 64% better than their previous record and reflect contributions from a significant number of deals that closed during the quarter.
But of course I'm sure Ben and Hank hand a hand in that as well.
Posted by: KK at September 25, 2007 10:37 PM
"No one is debating whether or not GS employed saavy trading strategies"
actually, yes many people are.
what many of us are asking is precisely this:
1. why did the fed cut? and why 50 basis points? did it cut to bail out the Investment Banks (e.g. Goldman Sachs) or to save the general economy? (the answer could also be "both"). There is no way to know this, as only the members of the FOMC have the data used to decide on the 50 basis point cut. Sure, Goldman and Bear and the rest all took big subprime losses... but they would have taken even BIGGER Losses had that cut not come when it did. Few were helped more than the Investment banks and the Retail banks.
So those of us peons ask, why the cut? why 50 basis points? why in September? (it was rumored that one of the big investment banks was insolvent, as well as Countrywide had a cut not happened).
Regardless, it came as a surprise to most (the 50 basis point part) because of the posturing done by many a Fed official in the days/weeks leading up to the cut. They spoke about "transparency" all the while hiding the fact that they were going to cut 50 basis points. (I was watching CNBC when the cut happened... go to YouTube and pull up Maria Bartiromo's face when it happens...)
2. Did someone know about the cut beforehand? The market reacted strongly BEFORE the rate cut announcement. This is atypical. (not that there was movement, but such strong movement)
it's not my "koolaid". I ask questions to which I will never have answers.
I have no proof, nor will I ever had proof (I've already said as much) about Goldman Sachs and Mr. Paulson... but I have good questions.
It is not too dissimilar to Halliburton getting a no-bid contract for Iraq while their ex-CEO is the Vice President. There is no PROOF that the connection helped or that there was any inpropriety... but that doesn't mean we can't ask about it.
Posted by: ex SF-er at September 26, 2007 6:17 AM
How would Goldman have hedged against the mortgage-related securities? What kind of trades would accomplish this?
Posted by: anon at September 26, 2007 6:35 AM
you ask a very complicated question, and I am not competent to truly answer it. But first lets be clear about something: Goldman did NOT make the majority of its money 3rd quarter HEDGING. It made the money TRADING. Big difference.
Now on to Hedging:
There are many ways to hedge, I'll just talk about 2 very common ones.
1. Goldman can buy a CDS (Credit Default Swap) from another party. It's basically an insurance policy. Goldman must pay for this insurance policy. If the MBS doesn't lose value, then Goldman keeps it, and the other company keeps the "insurance premium". If the MBS loses value, then the CDS seller must make Goldman "whole" again. (the terms of how this will happen vary by CDS contract)
Also, you can hedge by trading Treasurys (specifically by shorting Treasurys of specific durations to match your MBS).
if you own an MBS or a CMO (mortgage securities) you face INTEREST RATE risk and EXTENSION risk
(I am using a made up example here)
Let's say you own an MBS made up of mortgages linked to the 10 year treasury. If the 10 year treasury drops, then mortgage rates will go down. The newer lower mortgage rates will cause households ON AVERAGE to refinance (which means they get a different mortgage from someone else and pay off the mortgage in your MBS). If the 10 year treasury goes UP, then households in general WON'T refinance, so they keep their mortgage in your MBS pool.
This latter situation is called "Extension risk". The reason: the borrowers have a locked in mortgage that they will keep when current interest rates are HIGHER in the general marketplace (called Interest Rate risk)
(to give you an example: I have a 5.25% FIXED 30 year mortgage. It would be better for the bank if I refinanced into a current 7% 30 year mortgage or a 6.5% 5/1 ARM... but I won't because it doesn't make sense!)
Thus, to hedge against extension risk and interest rate risk, Goldman could short the Treasury market. There is math as to why this works, but I don't feel it is important.
(here's a paper from the Federal Reserve some time ago about the Treasury shorting method)
"Mortgage security hedging and the yield curve"
as a side note, wouldn't it be wonderful for your hedging practices if you had just a little bit of extra knowledge about what the Treasury market was going to do??? I mean, like if you knew the Treasury Secretary or something??? (again I have absolutely NO proof... just questions)
Posted by: ex SF-er at September 26, 2007 7:47 AM
"Regardless, it came as a surprise to most (the 50 basis point part) because of the posturing done by many a Fed official in the days/weeks leading up to the cut. They spoke about "transparency" all the while hiding the fact that they were going to cut 50 basis points. (I was watching CNBC when the cut happened... go to YouTube and pull up Maria Bartiromo's face when it happens...)"
While many expected the Fed to cut by 25 bp, there had been talk of the possiblity of a 50 bp cut for months. This didn't come out of left field. And while I don't mind an opportunity to look at Maria, her reaction is irrelevant. I've spoken with analysts and portfolio managers and many were not surprised.
The fact that financials and the housing industry benefited from the cut is also no surprise. Analysts had projected that for weeks. So what's more likely, that the Treasury Secretary, with no whiff of past improprietary and a lot more to lose from passing along inside information than he has to gain tipped his hand or that one of the most successfull I-banks with a reknown trading desk placed astute hedges and trades? A strategy based on information that was based on public information (deterioriating fundamentals in the housing sector going back a year) not to mention their own internal data that.
It's easy to lob an accusation at someone and harder to disprove a negative. I'm not saying it's true but it's possible you wear ledierhosen, roll around on a pile of cash and bark when Maria Bartiromo's Market Week comes on CNBC.
Posted by: KK at September 26, 2007 8:58 AM
You can hedge through the ABX markets (different indices). And please, enough with all the conspiracy theories regarding the Fed action.
Posted by: rut at September 26, 2007 9:23 AM
My original comment about Paulson and Goldman (related to "leaking") was offhanded and irresponsible, I retract it...
I do believe that Goldman has advantages due to Paulson's position, but I actually doubt most of those advantages are illegal... (like true leaking of info)
More instead along the lines of Halliburton and Cheney. there was nothing illegal... only an advantage. but that advantage can be key.
An example of the advantage: The Fed Chairman and President and Congress all listen to the Head of the Treasury.
Is it not conceivable that personal friendships with Goldman could influence how he speaks to the Fed and the President? Is it not conceiveable that this could affect policy?
Similar to how the current medicare plan was made after consulting drug company CEOs and Insurance CEOs... could those consultations not have given drug companies an advantage?? (even though it wasn't illegal)?
none of this is illegal... it is simply advantageous. it happens ALL the time. (why do you think most lobbyists are ex-government, like ex-senators/representatives... why do you think PIMCO snapped up Greenspan?)
Those who have the ear of those in power also have power. (think Karl Rove, Dick Cheney, Hillary Clinton as wife of President Clinton, Eleanor Roosevelt).
I am not the first, nor will I be the last to have such claims of Goldman's "silent power". MANY people question Goldman's nonending "skill" and "luck" since they rarely if ever are on the wrong end of a trade.
Here is (as example) an article written last year about Goldman's seemingly lucky fate. (they are suggesting you sell Goldman). Look at the list of people in various world governments that came right from Goldman! It's amazing.
What I've learned in my very short life:
never fight the fed.
never trade with Goldman.
Posted by: ex SF-er at September 26, 2007 9:34 AM