by Calculated Risk on 9/22/2007 02:41:00 PM

The WSJ reports: Limits on Fannie, Freddie Could Be Lifted

The top regulator for Fannie Mae and Freddie Mac said limits on both companies' investment portfolios could be entirely lifted in February if they begin filing timely and audited financial statements.
...
The Office of Federal Housing Enterprise Oversight imposed strict limits on the portfolio size at Fannie Mae and Freddie Mac last year after accounting scandals at both companies. ... Neither company has filed timely audited financial statements in several years, though both plan to do so by early 2008.

Ofheo Director James Lockhart said in an interview that much could change between now and February, but he indicated for the first time that the caps could be eased. "There's a reasonable chance that the caps will be lifted or changed significantly" by that time, Mr. Lockhart said.

This is a discussion of removing the portfolio cap limit, not the conforming limit for the size of a loan.

by Anonymous on 9/22/2007 11:59:00 AM

Um . . . because.

by Calculated Risk on 9/22/2007 12:50:00 AM

From the WSJ: Macklowes On a Wire

Mr. Macklowe and his son Billy paid $6.8 billion to buy seven New York buildings from Equity Office Properties Trust. ... the sale was one the most expensive real-estate deals in U.S. history, symbolizing the skyrocketing prices paid for buildings at a time of cheap debt and demand for office buildings.

The transaction was emblematic of the lax underwriting standards of the real-estate boom. Macklowe Properties put in only $50 million of equity and borrowed $7.6 billion, according to the documents. (Mr. Macklowe borrowed more than the purchase price to cover closing costs and other fees.) The deal also had "negative debt service," meaning that the rents from the buildings weren't expected to cover the debt payments for five years ...

Talk about a leveraged transaction: borrowing $7.6 Billion for a $6.8 Billion purchase on properties that have probably declined in value. Approximately $5.0 Billion of the debt must be paid off in February.

by Calculated Risk on 9/21/2007 07:35:00 PM

Wile E. Coyote UPDATE: Video of Paul Krugman interviewed by Georges de Menil on financial markets and global imbalances. (if this doesn't work, go to this page.)

From the Financial Times: Eurozone suffers ‘worst’ jolt since 9/11

The eurozone economy has this month suffered its biggest jolt ... with global financial turmoil hitting the services sector particularly hard, according to a closely watched survey.

The unexpectedly steep fall on Friday in the eurozone purchasing managers’ index – the third consecutive monthly drop ...

... financial markets have started speculating that the next ECB interest rate move will be downwards.

With the Euro at $1.41, and an ongoing credit crunch, it is no surprise that the Eurozone economy is slowing. Yesterday I argued that if the trade deficit has peaked - as seems likely - the dollar is probably much closer to the bottom than the top.

This would be the other side of the coin: with the weak dollar, trade from the Eurozone to the U.S. will slow, impacting the Eurozone economy (although the service sector took the biggest hit in this report). This will probably lead to rate cuts in Europe - and that would also support the dollar at the current level.

by Calculated Risk on 9/21/2007 04:25:00 PM

WSJ: Harman Says Buyout Scuttled

Harman International Industries Inc. learned this afternoon that Kohlberg Kravis Roberts & Co. and Goldman Sachs Group's GS Capital Partners VI Fund LP don't intend to complete their $8 billion buyout of Harman.
...
Harman said the private-equity companies informed [Harman] that they believe there was a "material adverse change" in Harman's business and that Harman breached the merger agreement.

Harman disagrees ...

The breakup fee is $225 Million. Perhaps that is why KKR is arguing Harman breached the merger agreement - to avoid, or at least negotiate, the fee.

by Calculated Risk on 9/21/2007 03:41:00 PM

Here are the Kennedy-Greenspan estimates of home equity extraction for Q2 2007, provided by Jim Kennedy based on the mortgage system presented in "Estimates of Home Mortgage Originations, Repayments, and Debt On One-to-Four-Family Residences," Alan Greenspan and James Kennedy, Federal Reserve Board FEDS working paper no. 2005-41.

Click on graph for larger image.
For Q2 2007, Dr. Kennedy has calculated Net Equity Extraction as $140.3 Billion, or 7.1% of Disposable Personal Income (DPI). Note that equity extraction for Q1 2007 has been revised upwards to $131.3 Billion.

This graph shows the net equity extraction, or mortgage equity withdrawal (MEW), results, both in billions of dollars quarterly (not annual rate), and as a percent of personal disposable income.

It is very likely that MEW will collapse in Q3 2007, based on the tighter lending standards and falling home prices, leading, most likely, to less consumer spending.

by Calculated Risk on 9/21/2007 12:57:00 PM

From the WSJ: HSBC to Close U.S. Mortgage Unit

HSBC PLC will close its standalone U.S. subprime-mortgage business and take $945 million in related charges ...

The London banking giant will close Decision One Mortgage, which originates nonprime mortgages through brokers. Instead, the company will focus on loan origination and servicing through its HFC and Beneficial bank branches.
...
Approximately 750 people will lose their jobs ...

The beat goes on.

by Calculated Risk on 9/21/2007 11:48:00 AM

From Fed Vice Chairman Donald L. Kohn: Success and Failure of Monetary Policy since the 1950s. An excerpt on the causes of the housing bubble:

"... it is far too soon to pass judgment on what went wrong in the U.S. housing market and why. I suspect that, when studies are done with cooler reflection, the causes of the swing in house prices will be seen as less a consequence of monetary policy and more a result of the emotions of excessive optimism followed by fear experienced every so often in the marketplace through the ages. To some extent, too, the amplitude of the housing cycle was heightened by the newness of the subprime market, the fragmentation of regulatory oversight responsibility for that market, and the complexity and opacity of the newer instruments for transforming and distributing risk. Low policy interest rates early in this decade helped feed the initial rise in house prices. However, the worst excesses in the market probably occurred when short-term rates were already well on their way to more normal levels, but longer-term rates were held down by a variety of forces. And similar, sometimes even sharper, trajectories of house prices have been witnessed in some economies in which the central banks said they were paying more attention to asset prices."

Many very lengthy papers will be written on the causes of the bubble. Agree or disagree, Kohn touches on a few key points: monetary policy definitely contributed to the initial surge in prices, lax oversight - Kohn says because of "fragmentation of regulatory oversight responsibility" - allowed the bubble to expand, and speculation played a key role. I'll post on what I consider the key causes this weekend.

by Calculated Risk on 9/21/2007 02:19:00 AM

Another private equity LBO is in trouble.

From the WSJ: Harman's Suitors Sour on Buyout

The private-equity buyers of Harman International Industries Inc. are balking at completing the $8 billion purchase of the audio-equipment maker, people familiar with the matter said, as yet another leveraged buyout falls into a hostile tête-à-tête between buyer and seller.
...
Should KKR and Goldman choose to break the deal, they would have to pay a $225 million termination fee, according to corporate filings. That fee is about 2.86% of the deal's value, which is somewhat lower than other transactions of a similar size, according to an analysis by MergerMetrics.com.

Based on previous reports, the average loss on recent LBOs has been about 4% of the deal debt value, so a $225 million breakup fee is might be a bargain depending on the percentage debt. Whatever it takes to avoid more pier loans!

As an aside, the Harman business has recently underperformed expectations, probably as a direct result of the housing bust.

by Calculated Risk on 9/20/2007 09:55:00 PM

Floyd Norris writes at the NY Times: Inside the Mind of the Fed

Six weeks ago, the Federal Reserve thought the American economy would easily weather problems in the credit market. One week ago, the Bank of England warned against the risks of bailing out those who had made risky loans.

This was a week to say “never mind.”

Norris notes that the Fed and the BoE changed course, but ...

By yesterday ... the markets were moving in ways that cannot have made the Fed happy. The dollar fell — an expected result from cutting short-term interest rates — but long-term rates rose, and so did mortgage rates.

“Alan Greenspan’s conundrum is becoming Ben Bernanke’s calamity,” said Robert Barbera, the chief economist of ITG, recalling that when the Fed raised short-term rates under Mr. Greenspan, long-term rates did not follow. Now the opposite is happening, a fact that will make it that much harder to stimulate the economy.

This was my concern when I outlined a possible vicious cycle that could occur as the Fed cut rates: Watch Long Rates.

Norris goes on to highlight two recent Fed papers that we've discussed before:

Those wanting to understand the Fed’s reversal can profit from reading two papers by Fed officials, released this summer as the credit squeeze was worsening.

In total, they constitute an admission that the Fed was surprised by the housing and borrowing boom on the upside, and now fears it will be surprised on the downside.

emphasis added