CHESSNOID

We have heard a lot about the housing bust and all the negative implications that come with it. Foreclosures at an all time high and sales are down for the first time in 6 years. The news media now covers it on a daily basis because it is affecting everyone directly or indirectly. Even the federal reserve has made an unusual move to lower the rates at a time that many countries are now not following our lead for the first time.

The question is it really here yet, has it already begun, or are we in the recovery phase?

The housing boom started in 2001 and continued all the way into 2006 with annual returns of over 20% . Only until recently in 2007, did main stream America take notice what was happening in the housing market. I must admit I have been reading about the housing bubble since 2005 when it was really just a theory. Now that the beginning has arrived, it is hard to believe. All the major cities have taken a serious decline in sales activity and have skyrocketing inventory of foreclosures. Unfortunately, I believe this is part of the business cycle when you have euphoric buying of properties by speculators.

The recent federal reserve move in lowering interest rates by half a point was definitely a good morale booster to investors on wall street judging by the positive activity last week in the market indexes. My belief is that it won’t deal with the problem on hand and may actually contribute to another problem on the horizon. I know the federal government also put into place the start of a refinance program to help those in foreclosure, but that has guidelines that borrowers must qualify for. In both instances, lowering the rate and instituting a bailout plan doesn’t deal with the real problem that the people or investors in the “special subprime loans” simply can not afford the monthly payments at all. Many bloggers argue that the market should be left alone to adjust accordingly, to pass through the normal business cycle, and to let prices of houses adjust to the incomes that support the mortgages.

Below is a picture of when the adjustable loans reset.  Judging by the graph below, it looks like the market for subprime loans peaked in March 2006 and the biggest reset on the number of loans will take place in March 2008. If this is true, the aftermath of foreclosures and their worse ill effects on our economy will be felt after 3-6 months when borrowers/investors/speculators start to lose their investments. Of course, they are not the only ones hurt. The banks and mortgage companies who loaned them 80-100% of the loans will be punished worse. That is the domino effect waiting for our economy in the future. This was a 5 year problem in the making and can’t be expected to be fixed overnight.

source: Calculated Risk

The problem on the horizon is regards to interest rates and how that affects the foreign currency market. Now that the US has lowered interest rates, we have affected the value of the dollar on the world currency market in a negative way.

Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East….

….Mr Redeker said the biggest danger for the dollar is that falling US rates will at some point trigger a reversal yen “carry trade”, causing massive flows from the US back to Japan.

Jim Rogers, the commodity king and former partner of George Soros, said the Federal Reserve was playing with fire by cutting rates so aggressively at a time when the dollar was already under pressure.

The risk is that flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, the driving the property market into even deeper crisis.

“If Ben Bernanke starts running those printing presses even faster than he’s already doing, we are going to have a serious recession. The dollar’s going to collapse, the bond market’s going to collapse. There’s going to be a lot of problems,” he said.

The Federal Reserve, however, clearly calculates the risk of a sudden downturn is now so great that the it outweighs dangers of a dollar slide.

The subprime loans is a problem that will correct itself over time in the business cycle when left alone. When you try to manipulate it without taking the market into consideration, the market will re-adjust accordingly. In this case, it probably means a more severe recession on the horizon.

Some international companies recognize what is on the horizon and taking the necessary actions to survive long term.

HSBC shuts wholesale lending arm

By David Wighton in New York

Published: September 21 2007 19:30 | Last updated: September 21 2007 19:30

HSBC continued the restructuring of its US mortgage business, which has suffered heavy losses on subprime loans, by announcing the closure of its wholesale lending arm with the loss of 750 jobs.

HSBC, which is under pressure from activist shareholder Eric Knight to review its strategy, said the move reflected the strategy of focusing on providing mortgages through its 1,300 consumer lending branches in the US.

Northern Rock borrows £3bn

By Chris Giles, Jane Croft, Kate Burgess and Gillian Tett

Published: September 21 2007 21:40 | Last updated: September 21 2007 21:40

Northern Rock has been forced to borrow about £3bn from the Bank of England over the past week, it emerged on Friday in the first official estimate of the extent of its funding crisis.

The scale of the taxpayer-funded loans were revealed as Northern Rock said it intended to press ahead with a dividend payout to shareholders even though the company had acknowledged it was not legally obliged to do so.