by Calculated Risk on 9/17/2008 08:55:00 AM

From Bloomberg: Russian Markets Halted as Emergency Funding Fails to Halt Rout (hat tip Stefan)

Russian markets stopped trading for a second day after emergency funding measures by the government failed to halt the biggest stock rout ...

The ruble-denominated Micex Stock Exchange suspended trading indefinitely at 12:10 p.m. after its index erased a 7.6 percent gain and plunged as much as 10 percent within an hour.

Russia halted trading yesterday after the market collapsed 17%. Oh well, over one fourth of the markets value gone in two days ...

by Calculated Risk on 9/17/2008 08:30:00 AM

Single-family starts were at 630 thousand in August; the lowest level since January 1991. Single-family permits were at 554 thousand in August, suggesting single family starts will fall even further next month.

Click on graph for larger image in new window.

The graph shows total housing starts vs. single family housing starts.

Note that the current recession on the graph is not official.

Here is the Census Bureau reports on housing Permits, Starts and Completions.

Building permits decreased:

Privately-owned housing units authorized by building permits in August were at a seasonally adjusted annual rate of 854,000.
This is 8.9 percent below the revised July rate of 937,000 and is 36.4 percent below the revised August 2007 estimate of 1,343,000.

Single-family authorizations in August were at a rate of 554,000; this is 5.1 percent below the July figure of 584,000.

The declines in single family permits suggest further declines in starts next month.

On housing starts:

Privately-owned housing starts in August were at a seasonally adjusted annual rate of 895,000. This is 6.2 percent below the revised July estimate of 954,000 and is 33.1 percent below the revised August 2007 rate of 1,337,000.

Single-family housing starts in August were at a rate of 630,000; this is 1.9 percent below the July figure of 642,000..

And on completions:

Privately-owned housing completions in August were at a seasonally adjusted annual rate of 961,000. This is 9.8 percent below the revised July estimate of 1,065,000 and is 35.8 percent below the revised August 2007 rate of 1,498,000.

Single-family housing completions in August were at a rate of 676,000; this is 17.0 percent below the July figure of 814,000.

Notice that single-family completions fell sharply, but are still higher than single-family starts. This is important because residential construction employment tends to follow completions.

by Calculated Risk on 9/17/2008 08:27:00 AM

The NY Post reports: Feds Try to Find a Buyer for WaMu

The fate of Washington Mutual remained in question yesterday as federal regulators recently called a number of banks asking if they would consider buying the nation's largest savings and loan should it eventually falter, sources told The Post.

In recent days, federal banking regulators have reached out to Wells Fargo, JPMorgan Chase, HSBC and several other financial institutions ...

And the day begins ...

by Calculated Risk on 9/16/2008 11:00:00 PM

With the DOW off over 500 points yesterday, Lehman in bankruptcy, the Fed rescuing A.I.G. tonight, the viability of WaMu and others institutions in doubt, Fannie and Freddie placed in conservatorship, a major money market fund halting redemptions, it might seem like the credit crisis is spiraling out of control.

And there are definitely more problems to come.

Many banks will fail - especially small and regional banks with excessive concentrations in construction & development (C&D) and commercial real estate (CRE) loans. And the recession is getting worse with rising unemployment, declining personal consumption expenditures, declining industrial production and falling business investment. Economies of many other countries are in or close to recession. The Fed even cautioned on slowing U.S. exports today for the first time.

Foreign stock markets are crashing: the Russian stock market was halted today after declining 17%. The Shanghai composite index is off about 2/3 from the peak.

The situation appears grim.

This crisis might have first become visible to Wall Street and the Federal Government in August 2007, but this crisis has been unavoidable for several years. If action had been taken in 2004 or 2005 to curtail the loose lending practices, the problem wouldn’t be so severe, but the crisis would have still occurred. The damage had already been done. Unfortunately the U.S. failed to prevent this crisis, and now we have no choice but to pay the price for the cleanup.

The good news is the U.S. is finally taking the necessary steps towards eventually resolving the crisis.

First, whether you agree or disagree with the FHFA and Treasury Secretary Paulson placing Fannie and Freddie in conservatorship, it has been obvious for some time that the U.S. Government had to explicitly guarantee the debt of Fannie and Freddie, or face a complete shutdown of the housing and mortgage markets. At least this guarantee was accomplished with the shareholders (both common and preferred) taking losses before the U.S. taxpayers. Since I have viewed a guarantee as inevitable, I consider this a necessary step toward the eventual resolution of the credit crisis.

Second, Secretary Paulson's no bailout approach to Lehman removes some moral hazard from the process. Although the fallout from Lehman's bankruptcy has just begun, this liquidation is probably a positive for the market. It appears this approach has already reaped some benefits with John Thain of Merrill Lynch calling Ken Lewis of BofA on Saturday morning to propose a buyout. Clearly Thain could read the writing on the NY Fed's wall.

BofA CEO Ken Lewis' self described "gamble" could fail, and BofA could find itself facing insolvency too. There are always risks in these situations.

It's true that the rescue tonight of A.I.G. suggests there are still moral hazard issues, but an A.I.G. collapse posed significant risks to the system, and the Fed was stuck with a dilemma and no good alternatives. I believe a collapse of A.I.G. would probably have been worse than the rescue.

Third, one of the reasons the credit crisis has lingered (in addition to house prices still being too high) is that a number of financial institutions have been unwilling to adequately mark down their assets. The reason for this reluctance is obvious as Lehman just discovered; too many write downs can lead to bankruptcy.

To Lehman's credit, they were getting close on their house price forecasts:

"[The Lehman] base case assumes national home prices drop 32% peak to trough, vs. 18% to date, with California down 50% vs 27% to date."
Ian T. Lowitt, Lehman CFO, Sept 10, 2008

I think Lehman's new house price forecast is probably in the ballpark. Analyst Meredith Whitney thinks prices will fall over 40% from peak to trough (see video):

"The underlying root of all evil, if you will, has been U.S. house prices. ... The futures market indicates that a peak to trough house decline will be somewhere 33%. I think it will be well north of 40% to 45%."

No one knows for sure how far prices will fall, but based on fundamentals, we can be pretty sure there is still a ways to go. (For a discussion of Price-to-rent, price-to-income, and real prices see: Housing: It's about prices ... ). Until the institutions get realistic on their house price forecasts, the write downs - and the credit crisis - will continue.

In addition, the economic problems will exacerbate the credit problems for some time - probably all through 2009 as Ken Lewis noted yesterday:

[A]ll of next year will be a relatively tough time for the financial services industry. ... I don't see the clouds parting as I would like them to in 2009.

And Lewis is probably overly optimistic.

But progress is being made.

Along these same lines, here is what Brian Horey, President of Aurelian Managment, LLC wrote to his partners Monday night (posted with permission):

While it is unsettling to watch a major broker dealer such as Lehman be liquidated, I am viewing the events of the weekend as a constructive development in the process of reestablishing equilibrium in the capital markets. The most encouraging aspect is that the Fed and Treasury have finally recognized the futility of trying to prop up asset prices and removed the "Fed/Treasury put" ... from the marketplace. (note: written before the A.I.G. rescue)
...
This change in approach will hasten the processes of deleveraging, capital raising and asset price discovery which are needed to stabilize financial institutions and get capital flowing back into the sector again. A large number of investors sat on the sidelines throughout the crisis as financial institutions have been unwilling to come clean about the value of their assets. I expect the liquidation and repricing process that Lehman's bankruptcy will catalyze should help facilitate the recapitalization process.

But even the A.I.G. rescue will help with price discovery since it appears A.I.G. is required to sell certain assets as part of the deal.

Clearly we are closer to the eventual bottom today, than say in 2005 when very few people believed a housing bust and credit crunch were on the horizon. Unfortunately the bottom still isn’t in sight.

Horey concluded his letter with:

[W]e should not expect smooth sailing from here ... [however] I believe we have taken the first concrete steps toward putting in a bottom in the financial sector and that is the first glimmer of light of a recovery that I have seen since the mortgage market started to deteriorate two years ago.

"The first glimmer of light" written by an investor who has been correct on the credit crisis. Just a glimmer ...

There will be more grim news, perhaps for another year or more. And there is definitely some possibility of a systemic financial collapse (see Professor Roubini’s excellent discussion of the downside risks). But unlike observers that believe this only marks the end of the beginning, I believe there is a chance that these events mark the beginning of the end of the crisis.

by Calculated Risk on 9/16/2008 09:09:00 PM

From the Fed: (hat tip Nemo)

The Federal Reserve Board on Tuesday, with the full support of the Treasury Department, authorized the Federal Reserve Bank of New York to lend up to $85 billion to the American International Group (AIG) under Section 13(3) of the Federal Reserve Act. The secured loan has terms and conditions designed to protect the interests of the U.S. government and taxpayers.

The Board determined that, in current circumstances, a disorderly failure of AIG could add to already significant levels of financial market fragility and lead to substantially higher borrowing costs, reduced household wealth and materially weaker economic performance.

The purpose of this liquidity facility is to assist AIG in meeting its obligations as they come due. This loan will facilitate a process under which AIG will sell certain of its businesses in an orderly manner, with the least possible disruption to the overall economy.

The AIG facility has a 24-month term. Interest will accrue on the outstanding balance at a rate of three-month Libor plus 850 basis points. AIG will be permitted to draw up to $85 billion under the facility.

The interests of taxpayers are protected by key terms of the loan. The loan is collateralized by all the assets of AIG, and of its primary non-regulated subsidiaries. These assets include the stock of substantially all of the regulated subsidiaries. The loan is expected to be repaid from the proceeds of the sale of the firm’s assets. The U.S. government will receive a 79.9 percent equity interest in AIG and has the right to veto the payment of dividends to common and preferred shareholders.

by Calculated Risk on 9/16/2008 08:18:00 PM

From the NY Times: Fed Readies A.I.G. Loan of $85 Billion for an 80% Stake

In an extraordinary turn, the Federal Reserve was close to a deal Tuesday night to take a nearly 80 percent stake in the troubled giant insurance company, the American International Group, in exchange for an $85 billion loan, according to people briefed on the negotiations.
...
Without the help, A.I.G. was expected to be forced to file for bankruptcy protection.

WSJ article: U.S. Plans Rescue of AIG to Halt Crisis;
Central Banks Inject Cash as Credit Dries Up

The primary option being hammered out involved the Fed providing AIG with a short-term "bridge" loan of $85 billion ... In exchange, the government would receive warrants in AIG representing the right to buy its stock, under certain conditions. That could put the government in a position to potentially control a private insurer, a historic move, especially considering that AIG isn't directly regulated by the federal government.

From Bloomberg: AIG May Get $85 Billion U.S. Loan in Return for Majority Stake

by Calculated Risk on 9/16/2008 07:10:00 PM

See the headline at the WSJ.

by Calculated Risk on 9/16/2008 06:20:00 PM

Form the NY Times: Federal Reserve May Act Alone in Rescuing A.I.G.

The fate of the American International Group now lies with the Federal Reserve ... If the Fed decides not to intervene, A.I.G. will likely file for bankruptcy by Wednesday, these people said.
...
A.I.G.’s collapse seemed so likely on Tuesday that the company hired the law firm Weil, Gotshal & Manges ... to draw up bankruptcy papers.

Something will probably happen tonight.

by Calculated Risk on 9/16/2008 05:35:00 PM

From MarketWatch: Money market giant freezes redemptions

One of the ... largest money market funds has put a seven-day freeze on redemptions after the net asset value of its shares fell below $1. Primary Fund [from The Reserve] ... $62 billion fund ... the value of the fund's share is 97 cents.

This is because of investment in Lehman bonds. I suspect this will be more common if AIG fails.

by Calculated Risk on 9/16/2008 05:20:00 PM

From Bloomberg: Treasury Said to Be Considering AIG Conservatorship

The U.S. Treasury is considering taking over American International Group Inc. under a conservatorship as one option to address the insurer's crisis, according to two people briefed on the discussions.

I doubt this will happen, but who knows these days ...