by Calculated Risk on 4/01/2008 10:00:00 AM

Spending declined in February for both residential and non-residential private construction. This is additional evidence that the non-residential slowdown is here.

From the Census Bureau: February 2008 Construction Spending at $1,121.6 Billion Annual Rate

Spending on private construction was at a seasonally adjusted annual rate of $826.6 billion, 0.5 percent below the revised January estimate of $831.2 billion.

Residential construction was at a seasonally adjusted annual rate of $456.9 billion in February, 0.9 percent below the revised January estimate of $461.1 billion.

Nonresidential construction was at a seasonally adjusted annual rate of $369.7 billion in February, 0.1 percent below the revised January estimate of $370.1 billion.

Click on graph for larger image.

The graph shows private residential and nonresidential construction spending since 1993.

Over the last couple of years, as residential spending has declined, nonresidential has been very strong. This is additional evidence - along with the Fed's Loan Officer Survey and other data - that suggests the slowdown in nonresidential spending is here.



The second graph shows the year-over-year change in residential and non-residential private construction spending.

From a year-over-year perspective, residential is off 19% and non-residential is still up 13%. However non-residential spending has now declined for three straight months, and will probably show a year-over-year decline by mid-summer.

by Anonymous on 4/01/2008 08:12:00 AM

Our friend PJ at Housing Wire had a nice post up the other day about Michael Perry, CEO of IndyMac, and his startling announcement that IndyMac would be changing the way it collected and presented statistics on delinquent and defaulted loans. Of course I'd say it's a nice post; I contributed around two cents' worth to an earlier draft of PJ's. Self-serving motives of my own aside, though, PJ is making a very important point about how what we choose to measure--and how we define our measurements--influences what we perceive to be the risks of mortgage lending:

But if we’ve learned anything in this credit mess, it’s that all prepayments are not created equal — and that prepayments aren’t the only reason loans in a portfolio will run off.

First off, there are prepayments that are voluntary, and those that aren’t. Think of it this way: a borrower that would have defaulted in 2006 refis into a new loan in 2006 and now defaults in 2008. That’s very different sort of prepayment than a creditworthy borrower deciding to refinance because they simply want a lower payment. The real problem with the 2006 and 2007 vintages, at the core, isn’t prepayments per se; it’s that the game of musical chairs finally stopped for those borrowers whose previous defaults had essentially been “revintaged.”

So the 2003-5 vintages end up looking great from a credit perspective, even if prepayment velocity is off the charts; analysts start making complex models that only look at the effect of prepayments in whatever static pool they’ve got, and everyone declares credit risk mostly irrelevant. In contrast, the 2006-7 vintages look horrible from a credit perspective, prepayments slow and become much more volatile, Wall Street takes a look at its models and realizes some important data was missing — and, of course, lender CEOs have to pen very public explanations explaining that prepayments are “screwing everything up.”

In my view--which I laid out a bit in our March newsletter, as you subscribers will know--the prepayment picture is also muddled if you use a very narrow definition of "default." If any loan that pays in full is treated as a simple "prepayment" unless it pays off via foreclosure or you actually took a principal loss on it (that is, it "settled for less" rather than "paying in full"), then you completely miss the problem of "revintaging" as well as missing the signs of the stress level on a pool or vintage or book of loans. That's because you treat a loan that refinances while it is delinquent, or a home that sells while the loan is delinquent, as the "same thing" as a non-distressed refi or sale. If you use a more sophisticated measure of "default" that many investors do use--one that counts loans on which you didn't take a loss, but that paid off out of a prior delinquency status--then you don't get so badly fooled by the "musical vintage" problem, because you can see it coming.

Not that taking the perspective of an investor in static pools of mortgages is always helpful: that does tend to lead to the mindset that a "prepayment" means a loan "goes away" and no longer needs to concern us. What distinguishes a "static pool" like an MBS from a dynamic book of business is that in the former, no new loans are ever added. MBS "run off" by definition. Newly-issued MBS will have new loans in them that were originated as refinances, but because we're now talking about a "different deal," there is no conceptual encouragement to see these "new" loans as the prepayments from an older pool. Even the new purchase-money loans in a new pool may represent a property that "defaulted" from an older pool.

Yet investors seem to be remarkably tolerant of a situation in which very little, if any, attention is paid to where these loans in these new pools came from. It's sort of credit risk as Groundhog Day: each pool issue is new again. Borrowers and properties have no history. Prepayment analysis is always forward-looking--attempting to model the future of this pool--rather than retrospective--attempting to account for how prepayments--voluntary and involuntary, distressed and non-distressed--generated the pool we're looking at today which has not yet experienced a "prepayment."

Perhaps a concrete example will help. Shnaps directed my attention to this one in yesterday's Chicago Tribune, largely because the example given doesn't make any sense. So it's an imperfect example; I'm going to have to "make up" a couple of details in order to illustrate my point. You may reflect on why we so often seem to have to do that when reading the newspapers. I'm after other fish to fry this morning:

Janice Lee fears she will lose her 1,400-square-foot Wilmette home next month.

Lee, a former pharmaceutical representative from Minneapolis who owns Chinoiserie restaurant in Wilmette, found herself heading for trouble after she was diagnosed with lymphoma in 2003. To keep pace with her medical bills, Lee sought a $70,000 equity line on her home in 2004. Two years later, she sought a second line.

Nearly half of her $130,000 loan, or $60,000, went toward her mortgage and property taxes. But that pushed her monthly payments to $4,000 from $2,500 in two years.

In January 2007, she refinanced, pushing her monthly payments to more than $6,000, she said. She missed her first payment last March and received a foreclosure notice in June.

We do not know when Ms. Lee bought that home, or even if she borrowed money to buy it, although we have to suspect that she already had a first-lien mortgage on this loan when the HELOC series began. Otherwise we can make no sense of the payments indicated (which have to be combined first and second lien payments, or else they're payday loans.)

For the sake of example, then, I'll make up the idea that Ms. Lee bought the house in 2002 with a first-lien purchase-money loan. Why 2002? Well, cognoscenti of matters vintage will know that 2002 was once considered one of the cruddiest mortgage vintages ever to disgrace the earth. Heh. After 2005-2008, of course, old 2002 makes us all nostalgic for the "good old days." But that's kind of my point in building out this example.

So we have, in Ms. Lee's case, the following appearances in the following vintages:

2002: A new purchase-money first-lien loan
2004: A new cash-out HELOC second-lien loan
2006: A new cash-out HELOC second-lien loan that pays off the loan in the 2004 vintage
2007: A new cash-out first-lien loan (I think) that pays off both the 2002 loan and the 2006 loan and that is in FC. It was also, you note, an EPD (early payment delinquency), since it seems to have missed either its first or its second payment and was in FC by payment 5 or 6.

If you do a certain kind of simple-minded "vintage analysis" of the kind PJ is complaining about, you would get the following:

2002: A good vintage, since the loan never defaulted and paid in full
2004: A good vintage, for the same reason
2006: Ditto
2007: A very bad vintage

But what, really, about those earlier vintages was so "good"? Were these "good loans," or did we get lucky by having another lender around willing to "revintage" the loans via refinance? From hindsight, the lender in the earlier vintages looks like it got lucky, because someone else was holding this bag in 2007 when the music finally stopped (it's obligatory to mix metaphors in this context). At the time, of course, they might well have been complaining bitterly about prepayments erasing their yield on those pools (or their servicing income). In fact, they might have been so bitter about it that they developed these noxious "prepayment penalty" things to keep those apparently "good" loans in place. Yeah, that looks like a good idea now, doesn't it?

The Tribune article, of course, doesn't tell us whether Ms. Lee was ever delinquent on those earlier loans. I suspect she was, since it looks like she was paying real subprime interest rates on at least the last two, and that might well have been because her prior mortgage history wasn't good. If that's true, then the earlier vintages really dodged a bullet here: they escaped a loss on the loan only because a greater fool stepped in to refinance it.

Thus, as PJ notes, the problem with our most recent vintages: the greater fools got run over by a truck, and so loans aren't "moving" any longer. They stay where they are until they finally fail. It will undoubtedly take a long time until we get another vintage as ugly as 2007-2008, but that's not just because (we hope) it will take a while for memories to fail and lending standards to become as stupid as they have been. It's because the lack of an "exit" means that those vintages will be forced to "show" the real defaults.

It is also important to really notice the implications of a point PJ makes here: if you look not at individual pools of loans but at the entire outstanding "book" of subprime and Alt-A loans in the aggregate, you are going to see "rising" delinquency numbers even if "nothing gets worse" than it already is. That is because, until further notice, no or extremely few new subprime or Alt-A loans are being made. The whole "book" is in "run-off" mode. That means, if you use a "current balance" to calculate delinquency and default, the "current balance" just keeps getting smaller and smaller, because no new balances are added to it. The average loan age just keeps getting older, for the same reason. In other words, we really do, for once, have a "prepayment" situation in which liquidated loans just do "go away." You can think of lender REO inventory as exactly that: the old loan for the old owner "went away," but since there's no new buyer wanting a new loan, there is no new "loan vintage," just a nasty REO inventory in a kind of "limbo."

What Perry of IndyMac is up to, of course, is deciding to quit reporting "raw delinquencies" on current balances right at the time when that kind of statistic is going to just keep looking worse for a long time, and substituting an alternative kind of reporting that will look better. That doesn't mean that the alternative reporting is "false." It means, in the most generous case, that we're looking at the part of the cup that's half-full. But switching measurements (and universes of loans to be measured) at the beginning of the unwind is going to play havoc with our ability to understand history. Those of us not looking forward to being doomed to repeat it do care about that.

by Calculated Risk on 4/01/2008 07:38:00 AM

From the WSJ: Deutsche Bank Faces Writedowns Of About $3.95 Billion

Germany's largest bank by market value issued a statement before market opening stating that "conditions have become significantly more challenging during the last few weeks."

"Reflecting this environment," the Frankfurt-based bank expects around [$3.95 billion] in write-downs in the first quarter 2008 related to "leveraged loans and loan commitments, commercial real estate, and residential mortgage-backed securities (principally Alt-A)."

The write-downs were across the board - we are all subprime now - but perhaps even more concerning was the comment that "conditions have become significantly more challenging during the last few weeks". Ouch.

by Calculated Risk on 4/01/2008 01:24:00 AM

From Bloomberg: UBS Seeks SF15 Billion Capital Increase, Has First-Quarter Loss

UBS AG ... will seek to raise 15 billion francs ($15.1 billion) in a capital increase after writing down $19 billion in debt securities.

Chairman Marcel Ospel will step down ...

by Calculated Risk on 4/01/2008 01:06:00 AM

From Reuters: Centex sells 8,500 U.S. housing lots for a loss

Centex Corp ... sold a portfolio of real estate to a group of investment funds for $455 million, which represents a discount to the properties' $528 million book value.

Dallas-based Centex said it sold 8,500 developed, partly developed and undeveloped lots in 11 states ... Most of the properties are in Nevada and California.

Centex said its proceeds include the $161 million purchase price and an anticipated $294 million tax refund.

The tax refund made the deal work. The buyers paid $161 million, and the actual cost to Centex was higher than $528 million (these properties had already been written down significantly).

by Calculated Risk on 3/31/2008 07:56:00 PM

Update: According to the Financial Times, the latest writedowns are expected to be released Tuesday or Wednesday (hat tip sk)

From the Financial Times: UBS set for further writedowns (hat tip crispy&cole)

UBS is poised to reveal further writedowns of up to $18bn and seek a capital increase of about SFr13bn ($13.1bn) ...

Details of the latest writedowns and capital-raising are expected to be released alongside the agenda for the bank’s annual meeting on April 23, which is to be published on Tuesday or on Wednesday.

Just a reminder that the confessional is still open, and the numbers will be huge.

by Calculated Risk on 3/31/2008 05:18:00 PM

From Bloomberg: Lehman to Sell $3 Billion of Shares to Institutional Investors (hat tip Tim)

Lehman Brothers Holdings Inc. ... is selling at least $3 billion of new shares to U.S. institutions to reassure investors it has ample access to capital.

Here are the details from the press release: Lehman Brothers to Offer 3.0 Million Shares of Convertible Preferred Stock (hat tip Dwight)

The non-cumulative dividend rate, conversion rate and other terms are yet to be determined.

TBD?

Update from Reuters: Lehman converts seen having 7-7.5 percent dividend

Lehman Brothers Holdings Inc's $3 billion of convertible preferred shares are seen having a dividend of 7 percent to 7.5 percent and a conversion premium of 30 percent to 35 percent ... The deal is expected to be sold by Tuesday before market close ...

by Calculated Risk on 3/31/2008 02:07:00 PM

Remember when the Shanghai stock market declined 9% on Feb 27, 2007? That caused shock waves around the world, including a 400 points decline in the DOW index the following day. Well, that was nothing and hardly shows up on the following graph.

Click on graph for larger image.

After falling to 2772 in Feb 2007, the SSE composite index more than doubled! Now the index has fallen back to 3,472 - still well above the close after the one day sell off - but 43% below the peak.

Is this sell off in anticipation of a slowing Chinese economy? Or is this sell off just giving back some of the "irrational exuberance" of the last year?

There are some concerning signs. From the WSJ last week: Tables Turn Quickly on Chinese Developers

Just six months ago, Chinese property developers were on a shopping spree ... borrowing heavily to snap up more, and more expensive, pieces of land.

How quickly things have changed.

Three months into 2008, China's property developers are under siege. Property prices are showing signs of weakness in many of the country's key markets, and capital markets have all but seized up for these -- and other -- offerings. The Chinese government is on a high-profile campaign to clamp down on new bank loans, hoping to curb inflation, rising at its fastest clip in a decade.

Another concern for foreign manufacturers is the new labor laws in China. Over the weekend I spoke with an executive of a U.S. based company that manufactures in China. He told me the new Chinese labor laws, combined with other factors, have increased their manufacturing costs in China by 30%!

Here is an article from Crain's Manchester Business: Made in China

Manchester-based importers who source in China are about to pass on price rises of between 10 and 15 per cent. They say that currency fluctuations, Chinese wage inflation, raw material cost increases and higher freight charges mean that stable or falling prices of manufactured goods are now a thing of the past.
...
“Four of the factories that we do business with in China won't take dollars now,” said [Stuart Illingworth, managing director of Widdop, Bingham & Co, the Oldham-based giftware importer]. ...

Meanwhile, new labour laws came into force in January which have restricted Chinese workers' hours and led to an increase in labour unit costs.

I've always been skeptical of the decoupling argument, so I wouldn't be surprised to finally see a slowdown in China after the Olympics this summer. In the long run, this rebalancing of the world economy, and these new labor laws are healthy - but in the short term this might lead to more inflation in the U.S.

Note: a slowing Chinese economy might have a positive impact on the U.S. economy by leading to lower oil prices, as I speculated in Petroleum Prices and GCC Spending

by Anonymous on 3/31/2008 11:51:00 AM

UPDATE: I don't have time to spend the day deleting racist trolling. I have therefore closed the comments on this thread. We simply are not here to host such things.

Alphonso Jackson resigned as Secretary of HUD today. And not a moment too soon. Think Progress has the list:

A look at Jackson’s tenure of incompetence and corruption:

Loyalty Over Merits: During a speech on April 28, 2006, Jackson recounted a conversation he had with a prospective contractor who had a “heck of a proposal.” This contractor, however, told Jackson, “I don’t like President Bush.” Jackson subsequently refused to award the man the contract. A former HUD assistant secretary confirmed that Jackson told agency employees to “consider presidential supporters when you are considering the selected candidates for discretionary contracts.”

Political Retaliation: In 2006, Jackson allegedly demanded that the Philadelphia Housing Authority (PHA) “transfer a $2 million public property” at a “substantial discount” to Kenny Gamble, a developer, former soul-music songwriter, and friend of Jackson’s. When PHA director Carl Greene refused, Jackson and his aides called Philadelphia’s mayor and “followed up with ‘menacing’ threats about the property and other housing programs in at least a dozen letters and phone calls over an 11-month period.”

Contracts For Golfing Buddies: In October 2007, federal investigators looked into whether, after Hurricane Katrina, Jackson lined up an emergency “no-bid contract” at the HUD-controlled Housing Authority of New Orleans for “golfing buddy” and friend William Hairston. According to HUD, the emergency contract paid Hairston $392,000 over a year and a half; Hairston’s partner companies also received “direct contracts” with HUD. One of the companies which received a contract in New Orleans, Columbia Residential, had “significant financial ties to Jackson.” Jackson’s wife also had “ties to two companies that did business with the New Orleans authority.”

Awarding Corrupt Companies: Shirlington Limousine and Transportation Inc. is the firm that defense contractor Brent Wilkes used to “transport congressmen, CIA officials, and perhaps prostitutes to his Washington parties.” The firm’s president had a “lengthy history of illegal activity,” detailed in his 62-page rap-sheet, and his limo company “operates in what looks to be a deliberately murky way.” Despite all this, Jackson’s HUD awarded Shirlington a contract worth $519,823.

Lucrative Salaries For Cronies: Atlanta lawyer Michael Hollis, another Jackson friend, “appears to have been paid approximately $1 million for managing the troubled Virgin Islands Housing Authority,” despite having “no experience in running a public housing agency.” A “top Jackson aide” reportedly made it clear to officials within HUD that “Jackson wanted Hollis” for the job. Hollis received more than four times the salary of his predecessor.

Let's hope someone gets this taken down before the end of the day.

by Anonymous on 3/31/2008 11:11:00 AM

Forbes, via Atrios.

Thornburg, which is based in Santa Fe, N.M., has been beset by "margin calls," or lenders demanding their money back.

The company reached a deal under which its lenders would stop issuing margin calls if Thornburg raised $948 million.

A bond sale arranged to raise money at a 12 percent interest rate failed, and now the company is trying to sell $1.35 billion in bonds at an 18 percent interest rate.