by Anonymous on 8/13/2007 11:26:00 AM

. . . or, well, something. I think I skipped the "Jesus and Karma: A Cross-Cultural Perspective" unit in my continuing education course on "Business and Blasphemy: It's Better Than Turkey Metaphors."

Exhibit A, especially for lovers of schadenfreude, is those well-known theologians at Institutional Risk Analytics:

From a risk management perspective, MHP [S&P] and MCO [Moody's] look a lot more fragile when it comes to financial and reputational exposure than do leading investment banks focused on the mortgage sector like BSC or Lehman Brothers (NYSE:LEH). Unlike a financial institution, publishing companies such as MHP and MCO lack the capital cushion and access to liquidity with which to absorb large financial losses. Even though the ratings agencies reportedly charged up to three times the customary fees for CDO ratings, this compared to the fee charged for a similar size bond issue, there still is not enough money in the proverbial cookie jar to offset the added risk from these complex structured assets.

Indeed, wouldn't it be a delicious irony if one or both of the major ratings agencies were forced into bankruptcy due to legal claims made regarding CDOs? As Bloomberg noted back in May of 2007: "When it comes to CDOs, rating companies actually do much more than evaluate them and give them letter grades. The raters play an integral role in putting the CDOs together in the first place." . . .

The Almighty, it seems, does have a sense of humor. But what is the real damage to the Street from CDOs?

The illusion of an investment-grade credit rating resulted in roughly a trillion dollars worth of subprime and other non-investment grade mortgages being packaged and sold to the Buy Side. We discount the recent market upset that has seen some commentators claim, irresponsibly in our view, that CDOs have little or no value. If you consider the situation more calmly, then a haircut of 25-30% or some $250 to $300 billion in aggregate principal loss, seems reasonable to us -- at least for starts. And that's just the basic loss, not counting punitive damages and costs.

Given the above estimate of aggregate losses to the Street, the bad news coming from BSC seems just the beginning. True, the folks at BSC have been generating headlines, but there are still dozens of Sell and Buy Side firms that have yet to come to Jesus when it comes to the CDO fisasco. We are still very early in the process of unwinding the excesses of the past several years. Bottom of the first inning, to be precise.

But that does not mean that the Sell Side firms are standing still. One well-placed reader of The IRA reports that the top Sell Side firms are closing down a couple of hedge funds a day in an effort to staunch the bleeding from CDOs.

Says the Buy Sider: "I'm hearing about prime brokers shutting down hedgies, taking back collateral and then reselling the same collateral to other hedge funds without a mark to market. Is this possible?"

Of course it's possible. Whenever OTC derivatives, hedge funds and members of the Sell Side are involved, anything is possible. The great thing about CDOs and other derivative securities is that the value is set not in the public markets, but by the sales force.

So, maybe, the sales force shoulda spent some more time in church?

Exhibit B, from the Wall Street Journal (thanks, kett82!):

While many mortgage brokers screamed through the real-estate boom with blaring television ads and exotic loan structures, HomeBanc Corp. positioned itself as the good guy.

Inside the company, executives opened companywide gatherings and internal meetings with Christian prayers. Every branch office kept a chaplain on call. The company's $365,000-a-year human-resources chief, Dwight "Ike" Reighard, was the founder of a mega-church in an Atlanta suburb. He says he encouraged employees to pray, put others first and become better workers -- and also performed weddings and funerals for employees. "People who never attended church would tell me, you're my pastor," Dr. Reighard said in an interview on Saturday.

But over the past few weeks, as investors fled securities tied to mortgages, HomeBanc's sources of loan funds dried up. Unable to continue originating loans, the company staggered under the burden of its expensive sales infrastructure.

On Thursday, HomeBanc filed for bankruptcy-court protection. It fired most of its 1,100 employees on Friday and is shuttering its 22 branches and 139 kiosks . . .

Apparently counting on the Almighty's sense of humor to remain eternal and unchanging, CFC just put a bid out for that "expensive sales infrastructure." All I can say is that I'd buy tickets to the first meetings between those sleek secular suits from Calabasas and Dr. Ike's Dixie disciples of debt . . .

by Calculated Risk on 8/13/2007 08:40:00 AM

From the Census Bureau: Advance Monthly Sales for Retail Trade and Food Services

"The U.S. Census Bureau announced today that advance estimates of U.S. retail and food services sales for July, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $376.1 billion, an increase of 0.3 percent from the previous month and 3.2 percent above July 2006."

Click on graph for larger image.

This graph shows the nominal and real YoY changes in retail sales (excluding food service). Note: real prices are adjusted using the PCE deflator, and are estimated for July.

This is a series with significant volatility month-to-month, but the trend apprears down.

YoY real retail sales are up about 0.5%, and that is very weak.

by Anonymous on 8/13/2007 07:44:00 AM

From the New York Times:

Brokers in Stockton are now increasingly offering so-called short sales, in which a seller is asking for less than the value of the house, hoping to pay off the bulk — but not the entirety — of the mortgage. Even so, sales are slow to come, leading to annoyed sellers.

“They’re not crazy about us or anybody right now,” Mr. Godi said. “They’ll say, ‘Gee, I lowered the price on my house, why haven’t you sold it?’ And we want to sell it. We don’t get paid until we sell it.”

He added, “It’s much better dealing with people if they’re going to make a profit.”

by Calculated Risk on 8/12/2007 11:29:00 PM

Controller Releases July Cash Flow Figures (hat tip ww)

“Much of the July tax revenue shortfall appears to be due to disappointing sales tax revenues,” Chiang said.
...
In July, sales tax revenues fell $465 million below (-34.2%) the Governor’s May Revise, and were $34 million below (-3.5%) sales tax revenues for July 2006.

by Calculated Risk on 8/12/2007 10:52:00 PM

Here are some excerpts from a couple of articles today on commercial real estate (CRE). First, as a reminder, in a typical cycle investment in non-residential structures follows investment in residential structures with a lag of about 5 quarters.

Click on graph for larger image.

This graph shows the YoY change in Residential Investment (shifted 5 quarters into the future) and investment in Non-residential Structures. In a typical cycle, non-residential investment follows residential investment, with a lag of about 5 quarters. Residential investment has fallen significantly for five straight quarters. So, if this cycle follows the typical pattern, non-residential investment will start declining later this year.

Right now it appears the lag between RI and non-RI will be longer than 5 quarters in this cycle. Although the typical lag is about 5 quarters, the lag can range from 3 to about 8 quarters.

From the WSJ: Commercial Building Bolsters Cities

Even though home sales in Phoenix dropped nearly 30% last year, an estimated $2.3 billion in commercial projects are planned for downtown Phoenix alone, an unprecedented amount.

Phoenix isn't alone. Commercial-construction activity has "been very strong for most of this year in most regions of the country," said Ken Simonson, chief economist at the Associated General Contractors of America.

... it isn't clear that commercial construction will continue to expand at the current pace given the increasing skittishness of banks and other lenders to extend loans to anything related to real estate. Even though most of the problems in the credit markets are related to rising defaults and foreclosures on residential mortgages, some bankers are pulling back on all types of loans, a trend that could threaten the national economy.

If the pullback in credit spreads to commercial real estate in a significant way, the economy in Phoenix and other places could lose one of its last major growth supports. Of course, with so many projects under way and years away from completion, the commercial market can't change direction as quickly as residential construction did. But the credit pullback is a threat if banks stop funding construction.

From Reuters: Lending woes hit commercial real estate market

The havoc in the credit markets could reduce prices that office, industrial, apartment and shopping-center properties have commanded over the past few years.
...
Because of the turmoil in credit markets that started in the residential mortgage sector, commercial mortgage lenders are charging higher interest rates and lending lower portions of the purchase price -- despite lower vacancy rates and higher rental rates.
...
About 40 percent of those mortgages were from the start headed for the commercial mortgage-backed securities market ... because of the volatile credit markets, issuers have had a difficult time selling the bonds at the prices they had baked in when they bought the loans.
...
It's difficult to price the deal," said Wachovia senior analyst Brian Lancaster. "Nobody wants to make a loan that they're going to lose money on. Better not to make any loan. You're not sure you can sell it."

Lancaster estimated that new loans in the CMBS pools have raised some borrowing costs 80 basis points to 180 basis points -- or as much as nearly 2 percentage points.

by Anonymous on 8/12/2007 01:48:00 PM

From the FDIC's historical project, "Managing the Crisis: The FDIC and RTC Experience":

The holiday season in Cordell, Oklahoma, did not start off on a merry note back in 1987. Just a month shy of Christmas, Farmers National Bank of Cordell failed. To make matters worse, Farmers was the third bank to fail in Cordell over the previous 18 months—this in a town that once boasted of being “the smallest town in the United States with three national banks.”

At Farmers’ closing, FDIC staff noticed an asset labeled “turkeys” on the bank’s books. When asked about the entry, bank employees directed the FDIC staff to a cold storage locker filled with frozen turkeys—literally thousands of them. The records about the turkeys’ ownership were incomplete, but bank employees assured the FDIC that the turkeys had been repossessed.

The refrigeration system in the locker box was not too reliable, so there was concern that the turkeys would spoil before they could be sold. With the holidays drawing closer, the FDIC staff decided to spread some good cheer by donating the turkeys to a homeless shelter and food pantry in Oklahoma City. Christmas was certainly much brighter for many homeless people that year.

FDIC staff later determined that the turkeys were actually collateral for a loan on the failed bank’s books. The FDIC gave the borrower credit for the collateral’s value and settled the debt.

by Calculated Risk on 8/12/2007 12:53:00 PM

David Streitfeld writes in the LA Times: Foreclosures may spur price drops

Major lenders are repossessing homes in Southern California much faster than they can sell them, a development that could set off a downward spiral of price cuts and more foreclosures.

At some point -- maybe this fall, maybe in 2008 -- the lenders' inventories will grow so large that they will have no choice but to start aggressively cutting prices, many agents and analysts predict.

That, in turn, will put more pressure on individual sellers, who will have to reduce their own prices if they want to find a buyer.

As values fall, more people could lose their homes, which would swell the lenders' inventories anew.

This potential downward spiral - price cuts leading to more foreclosures leading to more price cuts - is a real possibility.

Not mentioned in the article is the probable negative impact on new home sales and housing starts when the lenders start cutting prices. Right now the homebuilders are being more aggressive than the lenders with price cuts (and incentives), while the lenders are playing catchup:

[Jason Bosch, president of Home Center Realty, an Inland Empire firm] cited one house in Perris that a lender listed for $427,000. Home Center received an offer of $419,000, but the lender said it wouldn't budge. The would-be buyer moved on to a more flexible seller.

Ten days later, the lender lowered the price to $417,000, where it still sits.

The lenders move slowly, but eventually they will cut their prices.

by Anonymous on 8/12/2007 09:05:00 AM

Businessweek asks the question: "Did Big Lenders Cross The Line?"

A quibble about this part:

The most common ploy, inflating a borrower's income, accounts for 25% of all incidents of mortgage fraud, according to Fannie Mae. Fraud like this has been made easier by the emergence of a new breed of mortgages called "stated-income" loans, in which borrowers merely sign papers certifying their income, with banks verifying only the source of that income, not the amount. These risky loans carry greater interest rates—and therefore higher potential profits for the banks that underwrite them.

No. The "higher profits" do not come in because of a rate add-on for the stated income feature. First, the rate adjustment for stated income is supposed to be a matter of "risk-adjusted return" or risk-based pricing. In other words, the theory, at least, is that the increased probability of default on these loans makes up for that higher yield. The practical reality is that in the overwhelming majority of these cases the rate adjustment was ludicrously low. It was typical there in the boom years to see an adjustment of 0.25-0.50 in points for Alt-A stated. If you don't pay points in cash, that adds less than 0.125% to your note rate. The "higher profit" business was a simple question of making the loan or not making the loan. Verify income, no loan, therefore no profit of any kind; inflate stated income, make loan, make profit.

An observation about this part:

Elouise Manuel's story shows how shaky stated-income loans can be even if the lender doesn't commit fraud. In March, 2004, Manuel, a 67-year-old retired cafeteria worker from Atlanta, applied for a $25,000 loan to pay off some credit-card debt and other bills. She says she gave her independent mortgage broker, a relative, proof of her income and its source. But loan documents show that her monthly income was reported to be $1,100, more than twice the real amount. A letter from the Social Security Administration served as backup documentation, but the amount of income had been blacked out. A conditional loan approval letter from her lender, Pasadena (Calif.)-based IndyMac Bancorp Inc. (IMB ), notes: "Need [Social Security] benefit letters for last two years with income blacked out." Now Manuel says she can afford to pay only the interest on her loan, $210 a month.

IndyMac says it followed standard procedure to document the source of Manuel's income and adds it is not policy to verify the amount of income in that type of loan. It relies on the broker and the applicant, who signs the document, as Manuel did, to submit accurate information. IndyMac also says it believes Manuel is better off now because the payments on her loan are lower than those on her previous bills. IndyMac remains open to restructuring the loan—an offer it says Manuel's lawyer has rejected. As for IndyMac's direction to black out the income, company spokesman Grove Nichols says it was the action of an individual underwriter and not company practice: "It was an error of judgement." BusinessWeek could not identify the employee. Multiple calls to Manuel's brokerage firm were not returned.

A whole lot of lenders must have been employing that same rogue underwriter, because your Tanta has seen "blacked out docs" all over the place. This stems from the essential incoherence of "stated income" loans: the lender claims to verify the source of income but not its amount. For wage earners, one can call the HR department and get a "verbal verification" that the borrower works there. For self-employed borrowers, Social Security recipients, trust fund babies, day traders, and that special class of "real estate investors," you can't verify source of income with a phone call. So some enterprising lenders got the idea that a copy of a tax return or award letter would be used to verify source of income, but since it was a "stated" loan the borrower would black out the numbers, so lender and broker could pretend that they "didn't know" that something was a mite squirrelly here. (Since any innocent borrower will look at you like you just fell out of a tree if you ask for this, the broker just gets the doc and does the Sharpie trick him or herself, of course.) That whimpering you hear coming from the baseboards is the slow, pathetic death of the "stated income is for people who cannot easily provide us with documents" excuse.

But a first year law student's roommate's brother's kid the Cub Scout could probably tell you that asking for a blacked-out doc is a violation of rep and warranty on any known loan sale, such sales always including a general rep that the lender did not omit a material fact, and the verbiage of "known or should have known" tends to prevent anyone from claiming they had no idea that someone was trying to hide something. There are oh, so many repurchases underway (or completed, on the road to bankruptcy for the lender) involving those blacked-out docs. The borrowers' attorneys are now helping that repurchase become even more painful for the loan originator. Yours truly would like to see a small army of FDIC examiners rooting through loan files in search of those "conditional loan approvals," because it would be useful to know how many depositories that one rogue underwriter works for.

(Hat tip, jb!)

by Calculated Risk on 8/11/2007 11:03:00 PM

Short sale. In real estate, a property being sold for less than ("short of") what is owed on the mortgage. Sometimes called "preforeclosure" sales in ads. While it is marketed by the homeowner, ultimately the decision on selling is up to the mortgage holder (or holders).definition is from article

From the San Francisco Chronicle: Short sales, long wait for buyers

... short sales are making a comeback as a way out for cash-strapped homeowners who can't keep up on their mortgage payments.
...
For beleaguered homeowners, a short sale is better for their credit rating than going through a foreclosure. Still, they may end up owing extra taxes on the deal. In many cases, if you owe $600,000 on your mortgage and the lender allows a short sale for $500,000, the IRS expects you to pay taxes as if you "earned" the $100,000 forgiven on the loan. Legislation is pending in Congress that could change that rule.

For buyers, short sales may yield some bargains, albeit minor ones. Banks are not in the business of giving away money, so they want to be assured that short-sale properties are going for their true market value. Still, short-sale properties are priced to move. ...

For banks, short sales represent a way to cut their losses on a soured mortgage more quickly than going through the protracted foreclosure process. ...

Of course the situation is complicated these days because the mortgage is frequently owned by investors, not the bank servicing the loan.

The biggest stumbling block ... is that two-thirds of all mortgages in the United States are owned by Wall Street investors. The banks that "service" loans -- collecting the mortgage payments -- cannot decide about short sales. That adds in a layer of complexity.

Banking giant Chase services $500 billion of home mortgages for other institutions. Chase spokesman Tom Kelly said Chase seeks approval from the investors who own a mortgage when a short sale is requested. It takes 45 to 60 days to get a decision, and each investor has separate rules about how it handles short sales, he said.

If you are interested in how mortgage servicing works, see: Tanta: Mortgage Servicing for UberNerds.

And on foreclosures: Tanta: Foreclosure Sales and REO For UberNerds

Read those two posts, and you will know more than most people in the real estate business (and probably laugh while you learn).

by Anonymous on 8/11/2007 10:12:00 AM

Our own central_scrutinizer sent me this a few days ago, and it's much too good not to share with you all. Any of you who wish to see your anonymous handle in print, right there on the front page of Calculated Risk, is welcome to send me your own artistic endeavors for SRB. You need to include a YouTube link. All submissions will be judged by my own idiosyncratic standards, which are inscrutable. Remember that federal regulators and policy-makers regularly read our blog, so please do not include submissions with obscene words in them. You don't know what kind of financial or monetary chaos you could set in motion.

Without further ado, then, "Dead Cat On The Rise" by central_scrutinizer:

I see a dead cat a risin'
I see trouble on the way
I see copper thieves obligin'
I see more flat screens on Ebay

Don't go long tonight
Cause you'll grab a fallin' knife
there's a dead cat on the rise

I hear pension funds implodin'
I know the end is coming soon
I'll see my short funds overflowin'
Bloomberg proclaiming rage & ruin

Don't go long tonight
Cause you'll grab a fallin' knife
there's a dead cat on the rise ... oh yeah

Hope you got your cash together
Hope you are quite prepared to die
Kudlow will soon be tarred and feathered
One eye is taken for an eye

Don't go long tonight
Cause you'll grab a fallin' knife
There's a dead cat on the rise