by Calculated Risk on 1/17/2008 03:38:00 PM

Reuters reports that S&P said today that they expect monoline insurer losses to be 20% higher than they forecast last month. See Reuters: S&P says bond insurance losses likely 20 pct higher (hat tip Michael)

More good news for the bond insurers.

This video of Cramer's comments is interesting.

Added: Excerpts from Standard & Poor's Press Release:

Standard & Poor's Ratings Services announced today that it has updated the results of its bond insurance stress test, originally published on Dec. 19, to incorporate the revised assumptions announced on Jan. 15 by Standard & Poor's RMBS surveillance group.

The new results show total projected losses for the industry to be 20% higher than those in the previous review. Individual company increases ranged from a low of 2% to a high of 36%. Standard & Poor's has not taken rating action on any company at this time.

The increased projected losses did not materially impair the adjusted capital cushions of the companies that had stable outlooks. For the other companies, the fact that their ratings either had a negative outlook or were on CreditWatch reflected uncertainty surrounding the potential for further mortgage market deterioration and the companies' ability to accurately gauge their ongoing additional capital needs. This latest round of revised assumptions is an example of the deterioration that was contemplated.
...
The revised assumptions announced by the RMBS surveillance group reflect the growing economic consensus that U.S. home price declines will be larger than previously forecasted and that the U.S. housing market slump may last far longer than previously expected. These factors, combined with the persistence of significant growth in seriously delinquent borrowers, are leading to upward revisions in loss expectations and a greater likelihood of the realization of these expectations. Specifically, the expected losses for the 2005, 2006, and 2007 vintages of subprime collateral have been revised to 8.5%, 18.8%, and 17.4%, respectively, levels meaningfully higher than the 5.75%, 15.5%, and 17.0% levels used in our December 2007 stress test.

Here are the companies ranked by percentage increase in S&P expected losses:
ACA 36% worse than expected in December.
CIFG 26%
Radian 26%
Ambac 22%
MBIA 11%
XLCA 10%
FSA 2%
AGC 2%

by Calculated Risk on 1/17/2008 02:15:00 PM

From DataQuick: Bay Area home sales drag along bottom, median price back to 2005 level

Bay Area home sales ended 2007 at a more-than 20-year ...

A total of 5,065 new and resale houses and condos sold in the Bay Area in December. That was down 1.2 percent from 5,127 in November, and down 39.5 percent from 8,372 in December 2006, DataQuick Information Systems reported.

Last month was the slowest December is DataQuick's statistics, which go back to 1988. Sales have decreased on a year-over-year basis for 35 consecutive months. Until last month, the slowest December was in 1990, when 5,458 homes sold. The strongest December, in 2003, saw 12,349 sales. The average for the month is 8,903.
...
The median price paid for a Bay Area home was $587,500 last month, down 6.6 percent from $629,000 in November, and down 4.9 percent from $618,000 in December last year. Last month's median was 11.7 percent lower than the peak $665,000 median, last reached in July.

Foreclosure activity is at record levels ...

by Calculated Risk on 1/17/2008 01:18:00 PM

The Philadelphia Fed Index was released today: Manufacturers See Weakening in Activity. Since the index was so weak, this gives me an excuse to plot a long term graph of the Philly index vs. recessions.

Click on graph for larger image.

This graph shows the Philly index vs. recessions for the last 40 years. There are a number of times the index was below zero without a recession - so the reading today doesn't mean the economy is in recession. However it is very likely that the economy is already in recession.

From the release, weaker conditions and higher prices:

Indicators Suggest Weakening

The survey’s broadest measure of manufacturing conditions, the diffusion index of current activity, fell sharply from a revised reading of -1.6 in December to -20.9, its lowest reading since October 2001 (see Chart). [footnote] Forty percent of the firms reported no change in activity from December, but the percentage of firms reporting decreases (41 percent) was substantially greater than the percentage reporting increases (20 percent). Other broad indicators also suggested declines this month. Demand for manufactured goods, as represented by the survey’s new orders index, fell dramatically, from a revised reading of 12.0 in December to -15.2, its first negative reading in 15 months. The current shipments index fell 17 points, from 15.0 to -2.3. Indexes for both unfilled orders and delivery times remained negative.

Weakness was also evident in replies about employment and hours worked. The percentage of firms reporting a decrease in employment (22 percent) was slightly greater than the percentage reporting an increase (21 percent), and the current employment index declined four points, to its first negative reading since September 2003. Weakness was most evident in average hours worked this month: 31 percent reported declines in average hours worked, 15 percent reported increases, and the average workweek index fell from 7.4 in December to -16.1.


Firms Report Higher Prices

A sizable share of firms reported higher prices for inputs this month. One-half of manufacturers reported higher input prices this month, and the prices paid index jumped from 36.5 in December to 49.8 in January, its highest reading since May 2006. Price increases for the manufacturers’ own products were more widespread. Thirty-six percent of the firms reported increased prices for their own goods, and the prices received index increased from a revised 15.2 in December to 32.0 this month, its highest reading since October 2004.

by Calculated Risk on 1/17/2008 12:06:00 PM

Last July, OFHEO economist Andrew Leventis wrote: A Note on the Differences between the OFHEO and S&P/Case-Shiller House Price Indexes. The OFHEO note suggested that the primary reason for the difference between the national Case-Shiller and OFHEO price indices is geographical coverage (not the loan limitations for OFHEO).

Now Leventis has completed a more thorough analysis removing the geographical coverage by focusing on 10 MSAs: Revisiting the Differences between the OFHEO and S&P/Case-Shiller House Price Indexes: New Explanations

The results are surprising, and the implications significant. Leventis found:

The empirical estimates suggest that, while the causes of divergence may have differed in previous periods, most of the current gap is generally attributable to three factors: OFHEO’s use of home price appraisals, differences in how much weight is given to homes that have lengthy intervals between valuations, and variations in price patterns for inexpensive homes with alternative financing.
emphasis added

Leventis analyzed the inclusion of non-agency financed medium and high prices homes, but this didn't have a large impact. This is contrary to the common view that the difference between OFHEO and Case-Shiller is because of the conforming loan limit.

OFHEO provides a Purchase Only index that eliminates the first factor (the use of appraisals). The second factor - the differences in weighting certain homes - is somewhat technical. But the third factor is clearly important:

The depressing effect of the inclusion of low-priced houses without Enterprise-related financing raises many questions. Some of these houses were undoubtedly financed with subprime mortgages and thus one might wonder whether some of the effect somehow relates to turmoil in that market. For example, subprime homes may be clustered in neighborhoods with relatively intense recent foreclosure activity. While this analysis attempted to rule out such “neighborhood effects” at the zip code level, zip codes are large areas and analysis of smaller geographic regions (e.g., census tracts) might reveal more localized differences. Another plausible explanation is that borrowers with subprime loans may not have spent as much on home improvements, maintenance or repair. If these types of expenditures were lower for subprime borrowers, then deprecation rates may have been greater for the homes with subprime financing.

A review of the impact of adding the low-end, non-Enterprise properties to OFHEO’s dataset suggests that, during the latter part of the housing boom, these properties may have appreciated significantly more than Enterprise-financed properties. Accordingly, it seems these properties are different from Enterprise properties in ways that are correlated with price trends.

This suggests that one of main differences between OFHEO and Case-Shiller was that Case-Shiller included many non-agency homes financed with subprime loans. These homes saw more appreciation during the boom, and are now seeing larger price declines.

Whatever the reasons, the Case-Shiller index seems to more accurately reflect the current price declines in the housing market, as opposed to the OFHEO index. And this has significant implications for the economy.

The Fed uses the OFHEO index to calculate the changes in household real estate assets. If the OFHEO index understated appreciation during the boom that means households have MORE real estate assets, and more equity, than the current Flow of Funds report suggests.

That sounds like good news, but ... that also means that during the housing boom, the wealth effect was larger, and the impact on GDP greater, than current estimates. This also means - if OFHEO understated appreciation - that the negative wealth effect, and the drag on GDP, will be probably be greater than expected during the housing bust.

by Calculated Risk on 1/17/2008 10:33:00 AM

From Fed Chairman Ben Bernanke's Testimony to Congress: The economic outlook. Here are his comments on possible fiscal stimulus:

A number of analysts have raised the possibility that fiscal policy actions might usefully complement monetary policy in supporting economic growth over the next year or so. I agree that fiscal action could be helpful in principle, as fiscal and monetary stimulus together may provide broader support for the economy than monetary policy actions alone. But the design and implementation of the fiscal program are critically important. A fiscal initiative at this juncture could prove quite counterproductive, if (for example) it provided economic stimulus at the wrong time or compromised fiscal discipline in the longer term.

To be useful, a fiscal stimulus package should be implemented quickly and structured so that its effects on aggregate spending are felt as much as possible within the next twelve months or so. Stimulus that comes too late will not help support economic activity in the near term, and it could be actively destabilizing if it comes at a time when growth is already improving. Thus, fiscal measures that involve long lead times or result in additional economic activity only over a protracted period, whatever their intrinsic merits might be, will not provide stimulus when it is most needed. Any fiscal package should also be efficient, in the sense of maximizing the amount of near-term stimulus per dollar of increased federal expenditure or lost revenue. Finally, any program should be explicitly temporary, both to avoid unwanted stimulus beyond the near-term horizon and, importantly, to preclude an increase in the federal government's structural budget deficit. As I have discussed on other occasions, the nation faces daunting long-run budget challenges associated with an aging population, rising health-care costs, and other factors. A fiscal program that increased the structural budget deficit would only make confronting those challenges more difficult.

Some legislators have been using the current economic slowdown to argue for making the Bush tax cuts permanent. Bernanke just said he doesn't think that would be appropriate.

by Calculated Risk on 1/17/2008 09:49:00 AM

PR from Ambac:

Ambac Financial Group, Inc. (NYSE: ABK) (“Ambac”), the parent company of Ambac Assurance Corporation, today commented on a January 16, 2008 announcement by Moody’s Investors Service that it has placed Ambac Assurance Corporation’s ‘Aaa’ insurance financial strength rating on review for possible downgrade.

In view of the uncertainty generated by Moody’s surprising announcement, Ambac is assessing the impact of this action on the Company’s previously announced capital plan.

Translation: You thought 14% was a steep yield for MBIA to pay on the surplus notes (See: "How many other AAA rated companies are raising money at 14%?"). With this possible downgrade, we might not be able to raise capital even at 20%!

Also note, from Merrill this morning, the $3.1B credit valuation adjustments related to hedges with financial guarantors (ACA financial). There is no party in counterparty. (thanks to BR!)

by Calculated Risk on 1/17/2008 09:32:00 AM

From the WSJ: Merrill Lynch Swings to Loss Amid Deep Write-Downs

Lynch & Co. matched Citigroup Inc.'s massive fourth-quarter net loss, as the company recorded a total of $16.7 billion in losses related to subprime mortgages and complex debt instruments ...

The losses include, among others, a $9.9 billion write-down on collateralized debt obligations, or CDOs, a $1.6 billion write-down in subprime, and a $3.1 billion write-down related to exposure to shaky bond insurers.

From the conference call (Brian's notes):

$11.5B write down related to ABS CDOs and sub-prime residential mortgage mortgages

$3.1B credit valuation adjustments related to hedges with financial guarantors (only ACA – 100% reserved vs ACA exposure)

Net exposure to US ABS CDO totaled $4.8B, down from $15.8B q/q reflecting $9.9B of writedowns and $1.1B of other changes – majority of writedowns were related to high-grade, super senior ABS exposures primarily with 2006 collateral. They are assuming 16-21% cumulative loss assumptions on the underlying loans. Made a comment that a number of the CDOs values were approaching IO value. On average mezz CDOs valued in the mid 20 cents on the dollar vs low 60s at 9/30.

Remaining US ABS CDO Net Exposure:

Super Senior:

High Grade $4.4B

Mezz $2.2B

CDO^2 $271MM

Less:

Secondary Mkt Hedges $(2.0)

Total Net exposure $4.8B

Their gross supersenior long exposure to CDOs (ex hedges) is $30B

They have $13B of notional credit default swaps with AAA (for now) rated Financial Guarantors – there is a chart which lays out adjustments that I don’t understand. There is a foot not that says they have bought $2B of CDS on the Financial Guarantors themselves.

Residential mortgage exposures (excluding securities):

Subprime $2.7B

Alt –A $2.7B after $400M write downs vs 9/30 value of $3.0B – a 13% haircut on the mortgages themselves!

Prime $28B

Int’l $9.6B after $500M write down vs 11.8B value at 9/30

Mortgage Securities Portfolio (including assets in conduits that are not on balance sheet – so these will not foot with totals)

Subprime MBS $4.1B

Alt-A MBS $7.1B

CMBS $5.8B

Prime MBS $4.2B

$18B CRE net exposures, $230MM writedowns this quarter – Thain said they were “very comfortable” with the portfolio

$18B leveraged finance commitments vs $31B at 9/30. Writedowns of $126MM this Q. Thain said the leveraged loan portfolio was one of the positive surprises since he came on board.

Thain says it is “not likely” that ABS CDO values are likely to recover.

by Calculated Risk on 1/17/2008 09:19:00 AM

The Census Bureau reports on housing Permits, Starts and Completions.

Seasonally adjusted permits fell:

Privately-owned housing units authorized by building permits in December were at a seasonally adjusted annual rate of 1,068,000. This is 8.1 percent (±1.7%) below the revised November rate of 1,162,000 and is 34.4 percent (±2.2%) below the revised December 2006 estimate of 1,628,000.

Single-family authorizations in December were at a rate of 692,000; this is 10.1 percent (±1.6%) below the November figure of 770,000. Authorizations of units in buildings with five units or more were at a rate of 322,000 in December.

Starts fell sharply, with starts for all units and single family units at the lowest level since 1991:

Privately-owned housing starts in December were at a seasonally adjusted annual rate of 1,006,000. This is 14.2 percent (±8.3%) below the revised November estimate of 1,173,000 and is 38.2 percent (±4.9%) below the revised December 2006 rate of 1,629,000.

Single-family housing starts in December were at a rate of 794,000; this is 2.9 percent (±8.7)* below the November figure of 818,000. The December rate for units in buildings with five units or more was 196,000.

And Completions declined sharply:

Privately-owned housing completions in December were at a seasonally adjusted annual rate of 1,302,000. This is 7.7 percent (±10.3%)* below the revised November estimate of 1,411,000 and is 31.0 percent (±5.8%) below the revised December 2006 rate of 1,887,000.

Single-family housing completions in December were at a rate of 1,009,000; this is 12.0 percent (±10.5%) below the November figure of 1,146,000. The December rate for units in buildings with five units or more was 278,000.

Click on graph for larger image.

Here is a long term graph of starts and completions. Completions follow starts by about 6 to 7 months.

Look at what is about to happen to completions: Completions were at a 1,302 million rate in December, but are about to follow starts to below the 1.1 million level. I'd expect completions to fall rapidly over the next few months, impacting residential construction employment.

Even with single family starts at the lowest level since the '91 recession, when you look at inventories and new home sales, the builders are still starting too many homes ... but they are getting there. I'll take a look at how much further starts will probably fall soon.

by Calculated Risk on 1/16/2008 11:16:00 PM

From the WSJ: Las Vegas Default Highlights Commercial-Property Crunch

The credit crunch ... is starting to bite commercial projects, too.

Yesterday ... the developer of a twin-tower casino resort in the heart of Las Vegas, defaulted on a $760 million loan from Deutsche Bank AG ... Moody's Investors Service warned last week that the corporate default rate for the construction and building industry could reach 12% this year and predicted a 6% default rate in the hotel, gaming and leisure industries.
...
Around April of last year, commercial lenders started to get nervous about the lax underwriting standards that developed during the property boom. Bankers began to raise interest rates and required borrowers to put in more of their own money into deals.

At this point in the investment cycle, a CRE slump would be expected. For more see Investment Patterns. The final graph in the referenced post shows the typical relationship between Residential and non-residential investment:

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. The normal pattern would be for investment in non-residential structures to have turned negative now.

The strong investment in non-residential structures has been one of the keys to avoiding recession through Q3 2007. Now that commercial real estate appears to be slumping, it looks like non-residential investment will slump too - putting the economy into recession.

by Calculated Risk on 1/16/2008 11:05:00 PM

From Moody's (no link): Moody's has placed the ratings of Ambac Assurance Corp. and Ambac Assurance UK on review for possible downgrade. Moody's has also placed the ratings of Ambac Financial Group, Inc. (the holding company) and related trusts on review for possible downgrade. Also under review for possible downgrade are Moody's-rated securities that are guaranteed by Ambac.