by Calculated Risk on 6/12/2008 05:08:00 PM

From Bloomberg: BMW Buyers in U.S. See a Ford in Their Future (hat tip James)

Purchases of luxury autos were down nearly 100,000 units, or 14 percent, through May 31, compared with an 8.4 percent drop in all U.S. sales.
...
``This gas panic has extended even to luxury buyers who are deciding they'd rather step down to a Ford with all the amenities rather than get a new Mercedes,'' said David Healy, an equity analyst with Burnham Securities Inc.

Gas prices have probably played a role, but I think the decline in MEW (mortgage equity withdrawal) is a more important factor in the decline in luxury car sales.

(see previous post on MEW)

by Calculated Risk on 6/12/2008 03:00:00 PM

Here are the Kennedy-Greenspan estimates (NSA - not seasonally adjusted) of home equity extraction for Q1 2008, 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 in new window.

For Q1 2008, Dr. Kennedy has calculated Net Equity Extraction as $51.2 billion, or 1.9% of Disposable Personal Income (DPI). Note that net equity extraction for Q4 2007 has been revised upwards to $92.3 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.

MEW declined sharply in Q1 2008, however these numbers are not seasonally adjusted. MEW in Q1 2007 was $135.7 Billion, so MEW has fallen over 60% from Q1 2007.

How important is MEW?

********************

Here is what I wrote last year:

As homeowner equity continues to decline sharply in the coming quarters, combined with tighter lending standards, equity extraction should decline significantly and impact consumer spending.

So far homeowner equity has declined sharply, lending standards are tighter, and equity extraction has declined significantly.

But that still leaves the most important link; the impact on consumer spending. No one really knows how much MEW impacts consumption, and the estimates vary widely.

I've been using some estimates from Greenspan that about half of MEW flows to consumption and the other half flows to savings and investment. MEW totaled $682 billion, in 2006 and declined to $473 billion in 2007. That is a difference of $209 billion, and if half flowed to consumption - the drag on consumption from declining MEW was about $105 billion in 2007.

Since nominal Personal Consumption Expenditures (PCE) increased $510 billion between 2006 and 2007, we can estimate that if MEW had been steady, consumption would have increased about $615 billion (another $105 billion). Still, PCE increase 2.9% in real terms between 2006 and 2007 - below the average of 3.7% for the previous 10 years - but still pretty strong. Here was my estimate for 2007:

[T]he estimated drag on consumption would be $110 Billion. If we assume 2006 GDP of $13.3 trillion that would mean a drag of about 0.8% in 2007 due to the decline in MEW.

In 2008, MEW will probably decline to around $200 Billion, a decline of $273 billion from last year. So my estimate - doing the same calculation as above - is that MEW will be a drag of about $135 billion on PCE in 2008, or reduce PCE about 1%, all else being equal (of course the economic slowdown will also impact PCE).

But we also have to consider the other half of the decline in MEW; the portion that flows to investment and savings. Some of that investment went to residential investment for home improvement, and declining MEW will also impact this investment spending (I'll have more on this soon).Read on ...

by Calculated Risk on 6/12/2008 02:22:00 PM

From MarketWatch: Fed's Plosser pushes for quick rate hikes

"We need to take steps to insure that inflation does not get out of control," [Federal Reserve President Charles Plosser] said in an interview on the CNBC television network. "We need to act preemptively."
...
Plosser said Thursday the inflation threat facing the U.S. economy "is serious."

"Inflation has been gradually been creeping up and more than just in oil and food," he said. "The base of inflation is broadening."

by Calculated Risk on 6/12/2008 01:23:00 PM

Freddie Mac reported today that 30 year mortgage rates jumped to 6.32% last week, up from 6.09% the prior week.

Housing Wire has the story: Fixed Mortgage Rates Hit Eight-Month High as Inflation Concerns Mount

The following is a comparison between the 30 year mortgage rate and the ten year treasury yield. Usually mortgage rates follow the shorter duration Ten Year treasury yield (with a spread), because most homeowners either sell or refinance before 10 years. The period that a homeowner holds a mortgage does vary over time and that does impact the spread between the 30 year rate and the ten year treasury - so it's not a perfect relationship, but it is pretty close.

The yield on the Ten Year treasury jumped to 4.215% today; up sharply from early March when the yield was 3.328%. What does this mean for 30 year mortgage rates?

The following scatter graph shows the relationship since 1971.

Click on graph for larger image in new window.

The ten year treasury yield is on the x-axis. The 30 year mortgage rate (from Freddie Mac) is plotted on the Y-axis. Note: this is based on monthly data.

The best fit 2nd order polynominal is plotted on the graph.

Y = 2.4773 * X² + 0.6373 * X + 0.0286

With the Ten Year yield at 0.042, this equation yields a 30 year fixed mortgage rate of 6.0%, below the average rate of 6.32% reported by Freddie Mac today.

There are probably three reasons the mortgage rate is somewhat above the normal spread:

some participants believe the Fed will raise rates later this year, as Freddie Mac chief economist Frank Nothaft noted today,

investors are still risk adverse and wary of mortgages and are demanding a premium, and

some investors might believe that mortgages will be held for longer periods as the turnover in the housing market continues to slow.

Whatever the reason, mortgage rates are increasing and that will probably negatively impact sales.

by Calculated Risk on 6/12/2008 12:07:00 PM

The Office of the Comptroller of the Currency (OCC) released their annual survey of underwriting standards today. Here is the Survey of Credit Underwriting Practices 2008

This is similar to the Federal Reserve Senior Financial Officer Survey except this survey is annual and is based on examiner assessments of the institutions underwriting practices, as opposed to the opinions of financial officers:

The 2008 survey included examiner assessments of credit underwriting standards at the 62 largest national banks. This population covers loans totaling $3.7 trillion as of December 2007, approximately 83 percent of total loans in the national banking system.

As expected, the survey showed significantly tightening in most areas (except agricultural loans).

The Office of the Comptroller of the Currency released today its 14th annual Survey of Credit Underwriting Practices and reported that commercial and retail underwriting standards tightened after four consecutive years of eased underwriting standards.
...
Examiner assessments found that risk in both the commercial and retail portfolios increased over the past year and they expect portfolio risk to continue to increase over the coming year.

A key area of concern for 2008 is Commercial Real Estate:

The most prevalent tightening occurred in CRE loans, leveraged loans, and counterparty credit exposure to hedge funds.
...
CRE products include commercial construction, residential construction, and other CRE loans. These products are offered by virtually all of the surveyed banks. Net tightening, which measures the difference between the percentage of banks tightening and those easing, was greatest in residential construction, followed by commercial construction. The following [graph] provide the breakdown by each real estate type.

Click on graph for larger image in new window.

This graph is from the OCC. The blue bar shows the percent of banks tightening lending standards for each category by year.

Note that residential construction has been tightening for two years, but commercial construction just saw a significant jump in tightening.

Examiners most often cited the following as reasons for strengthening of CRE underwriting standards:

weakening economy, specifically the downturn in residential real estate markets.

Declines in market values/prices as a result of oversupply or slow-moving inventory.

Existing credit concentrations, both by type of product and by location.

Use of non-traditional terms and excessive investor speculation.

CRE remains a primary concern among examiners given the rapid growth of these exposures and banks’ significant concentrations relative to their capital. These concerns are compounded by elevated concerns over market conditions in select areas.

Although CRE concentrations are a concern at these larger national banks (with assets greater than $3 billion), most of the bank failures will probably be at smaller banks with even higher CRE concentrations. Update: The highest concentration of CRE loans are for institutions in the $1 billion to $10 billion range (so there is some overlap).

by Anonymous on 6/12/2008 11:30:00 AM

Reports Bloomberg:

June 12 (Bloomberg) -- The U.S. Federal Bureau of Investigation, confronting a surge in mortgage fraud, has ordered more than two dozen of its field offices to stop probing some financial crimes so agents can focus on the subprime crisis. . . .

The 26 field offices were told to temporarily suspend opening new cases dealing with price fixing, mass marketing, wire fraud, mail fraud and environmental crimes, Carter said. Current cases aren't being dropped, he said. The FBI has 56 field offices and about 12,000 agents.

If I weren't afraid of sounding cynical, I'd say there's a new career in mass marketing and environmental crimes for all those out-of-work mortgage bottom-feeders. So I'll just think it instead.

by Calculated Risk on 6/12/2008 10:11:00 AM

Retail sales in April (ex-auto) were strong. From the WSJ: Stimulus Checks Bolster Retail Sales

Retail sales increased by 1.0%, the Commerce Department said Thursday. ... Sales in the previous two months were revised strongly upward. Sales in April increased 0.4%; originally, Commerce said April sales dropped 0.2%. March sales increased 0.5%; earlier, Commerce said March sales rose 0.2%.

The healthy increase in May sales suggested consumers were putting to work some money the government kicked back to them in a plan to stimulate the foundering economy. ... $48 billion in payments were cut in May, Treasury Department numbers indicate.

U.S. retail and food services sales for May were $385.4 billion, up from $381.6 billion in April. That is an increase of $3.8 billion - a small amount compared to the $48 billion in stimulus checks.

This graph shows the year-over-year change in nominal and real retail sales since 1993.

Click on graph for larger image in new window.

To calculate the real change, the monthly PCE price index from the BEA was used (May PCE prices were estimated based on the increases for the last 3 months).

Although the Census Bureau reported that nominal retail sales increased 2.1% year-over-year (retail and food services increased 2.5%), real retail sales declined 0.8% (on a YoY basis).

So despite the strong sales in May, the YoY change in real retail sales is still negative.

by Calculated Risk on 6/12/2008 09:33:00 AM

From Bloomberg: Lehman's Callan, Gregory Step Down, Lowitt Named Finance Chief

Lehman Brothers Holdings Inc. replaced Chief Financial Officer Erin Callan and President Joseph Gregory ...

by Calculated Risk on 6/12/2008 01:40:00 AM

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. After falling to 2772 in Feb 2007, the SSE composite index more than doubled!

Click on graph for larger image in new window.

Now the index has fallen back below 3,000 - still above the close after the one day sell off - but 50% below the peak.

This is some serious cliff diving.

This sell off could be in anticipation of a slowing Chinese economy, and I wouldn't be surprised to finally see a slowdown in China after the Olympics this summer. And a Chinese slowdown might lead to lower oil prices - something else to watch later this year.

by Calculated Risk on 6/11/2008 09:24:00 PM

Press Release: MBIA Issues Letter to Owners.

Most of the news stories today focused on MBIA's announcement that it won't make a planned $900 million capital contribution to MBIA Insurance Corporation. But I also found this comment in the letter interesting:

[B]ased on our discussions with the rating agencies and in trying to think about their challenges, what I believe has really changed in the past three months is that both Moody’s and S&P have far less comfort in forecasting a worst case housing-related stress case loss scenario ...

I'm not surprised that Moody's and S&P feel less comfortable forecasting a worst case for housing - every time they've made a forecast, the housing market has surprised to the downside.

by Anonymous on 6/11/2008 06:40:00 PM

The OCC has inaugurated a new report, which will be issued quarterly, on mortgage delinquency, loss mitigation, and foreclosure activity drawn from the servicing databases of nine large banks:

The report analyzes data submitted on each of the more than 23 million loans held or serviced by these nine banks from October 2007 through March 2008. The $3.8 trillion portfolio represents 90 percent of mortgages held by national banks and about 40 percent of mortgages overall. The participating national banks are Bank of America, Citibank, First Horizon, HSBC, JPMorgan Chase, National City, USBank, Wachovia, and Wells Fargo.

Of this aggregated servicing portfolio, about 90% of loans are securitized either through the GSEs or private label issuers. The mix is 62% prime, 9% Alt-A, and 9% subprime, with the remaining 20% "other" being largely loans with insufficient or missing data that does not allow assignment into one of the three categories. The OCC indicates that data scrubbing will continue, and hopefully future reports will have a smaller "other" bucket.

It's a big database, and the OCC has made a real effort to standardize its own definitions, based on reported data elements rather than servicer descriptions, so that the credit and loss mitigation categories are consistent across all nine servicers.

The full report is available here. From the summary:

• The proportion of mortgages in the total portfolio that was current and performing remained relatively constant during the reporting period at approximately 94 percent.
• Serious delinquencies, defined as bankrupt borrowers who are 30 days delinquent and all delinquencies greater than 60 days, increased just one-tenth of a percentage point during the period, from 2.1 percent to about 2.2 percent.
• As in other studies, the report confirms that foreclosures in process are plainly on the rise, with the total number increasing steadily and significantly through the reporting period from 0.9 percent of the portfolio to 1.23 percent. Interestingly, the number of new foreclosures has been quite variable. While one month does not make a trend, new foreclosures in March declined to 45,696, down 21 percent from January’s high and down about 4.5 percent from the start of the reporting period last October.
• The majority of serious delinquencies was concentrated in the highest risk segment – subprime mortgages. Though these mortgages constituted less than 9 percent of the total portfolio, they sustained twice as many delinquencies as either prime or Alt-A
mortgages.
• Consistent with other reports, payment plans predominated, outnumbering loan modifications in March by more than four to one. But loan modifications increased at a much faster rate during the period.
• Although subprime mortgages constituted less than 9 percent of the total portfolio, subprime loss mitigation actions constituted 43 percent of all loss mitigation actions in March.
• The emphasis on loss mitigation for subprime mortgages corresponds to the nationwide focus on this higher risk sector. Total loss mitigation actions exceeded newly initiated foreclosure proceedings by a margin of nearly 2 to 1.

by Calculated Risk on 6/11/2008 05:37:00 PM

From the WSJ: Foreclosures Make Up Majority of Sales in Sacramento

The Sacramento Association of Realtors says that a whopping 65.5% of 1,654 homes sold by Realtors in May were bank-owned, foreclosed, homes.
...
In Las Vegas, for example, about half of recent sales have been lender sales.

Is it any wonder pending home sales clicked up a little?

by Calculated Risk on 6/11/2008 04:21:00 PM

You know it's bad when ... (hat tip Brian)

From WaMu: WaMu Statement Regarding Rumors of Regulatory Action

While it is the policy of Washington Mutual not to comment on speculation and market rumors, the company released the following statement to address recurring speculation about regulatory activity:

"Neither our primary federal regulator, the OTS, nor any other bank regulatory agency has taken any enforcement action against WaMu that we have not previously disclosed. Further, the company is not currently in such discussions with any regulatory agency."

We are in denial season.

by Calculated Risk on 6/11/2008 03:07:00 PM

A few headlines via Dow Jones with comments from Merrill CEO Thain (hat tip Brian):

Click on image for larger headlines in new window.

Hmmm ... 'hasn't decided to raise more capital'? I think we've heard that one before.

The last headline is funny: "Merrill could be coming down with Mono exposure".

by Calculated Risk on 6/11/2008 02:44:00 PM

From AP: Economic stimulus payments push May budget deficit to an all-time high of $165.9 billion.

The economic slowdown is definitely impacting receipts.

A key question is how much those stimulus checks are boosting consumer spending in May and June. According to the Fed's beige book, consumer spending was weak in May.

And yet the WSJ reported last week: Some Chains Posts Strong Sales Despite Gas Prices, Low Confidence

Retailers posted stronger-than-expected same-store sales for May [despite a] surge in gasoline prices and tumbling consumer confidence.

With the conflicting reports on consumer spending, the Census Bureau's retail sales for May might be interesting (to be released tomorrow).

It definitely appears the budget deficit will set a record this year - and this is the unified deficit - the General Fund deficit will be significantly worse (excludes the Social Security surplus).

by Calculated Risk on 6/11/2008 01:58:00 PM

From the Fed's Beige Book.

Reports from the Federal Reserve Districts suggest that economic activity remained generally weak in late April and May. ... Consumer spending slowed further since the last report.

The last report was fairly negative on consumer spending, so to say "spending slowed further" is significant.

On Real Estate and Construction:

Residential real estate markets were generally weak across most of the nation. ... Inventory levels of new and existing homes remained high or were rising in New York, Philadelphia, Cleveland, Richmond, and San Francisco. Home sales prices decreased somewhat in Boston, Atlanta, Kansas City, and San Francisco, but remained relatively stable in Richmond and Chicago. The New York and Chicago Districts noted that some potential buyers had difficulty in obtaining financing. ... Richmond and San Francisco noted an increase in home foreclosures.

Commercial real estate conditions varied in April and May, with some Districts reporting that activity had softened. Leasing activity eased in Boston, New York, Philadelphia, Richmond, and San Francisco. Minneapolis, however, reported that market activity was up modestly, while activity was mixed across the St. Louis District. Vacancy rates edged higher in Boston, Kansas City, and San Francisco, as well as in pockets of the Richmond and St. Louis Districts. Absorption was negative in Boston and in Minneapolis for both office and manufacturing space. Overall rents were on the rise in New York, but were stable or beginning to slip in Boston, Philadelphia, Richmond, and Kansas City. Sales trended downward according to the New York, Philadelphia, and Kansas City Districts.

Commercial Real Estate (CRE) is just starting to slump, and the residential bust is continuing.

On rising prices:

Business contacts in most Districts reported increases in input prices since the last report, especially prices for energy, petroleum derivatives, metals, plastics, chemicals, and food. Manufacturing contacts in several Districts reported some ability to pass along the higher costs to customers and contacts in the Cleveland District noted that they are considering additional price increases in the near future if input costs continue to rise.

Overall this is a pretty negative Beige Book with a weakening economy and rising prices.

by Calculated Risk on 6/11/2008 11:55:00 AM

Important note: Reuters has corrected the story. It now reads:

Home prices may fall 25 percent to 30 percent from their peak in 2006 and not hit bottom until 2010 ...

This is much more in line with my thinking. Note that nominal prices are off 16.1% according to Case-Shiller, so we are about half way to JPM's forecast.

Here was the orginal post:

From Reuters: US home prices may dip 30 pct, junk bonds weaken-JPM

[Peter Acciavatti, credit analyst and managing director at JP Morgan Securities Inc, said] Home prices may fall another 25 percent to 30 percent over the next four years, with greater drops still in subprime mortgage debt markets, he said.

In a separate interview, the analyst said junk bond spreads will push past 800 basis points and may top 900 basis points as the crisis drags out.

I think we will see price declines for several more years, but this seems a little too bearish to me. An additional 25% to 30% decline in nominal prices over four years would be close to an additional 40% decline in real prices - and that would put real prices at the lowest level since the Case-Shiller Index started in 1987. Note that real prices are already off 21% according to the Case-Shiller national index.

Wow. And I thought I was bearish on housing!

Note: My comments were based on the original article forecasting an additional 30% decline in prices.

by Calculated Risk on 6/11/2008 10:18:00 AM

It appears the MBA Purchase Index might be useful again. Note: the index wasn't useful when lenders were going out of business because of the method used to calculated the index.


The MBA reports that the Purchase Index increased 12.8 percent to 376.2 from 333.6 one week earlier. The four week moving average (removes the weekly noise) declined, and is at the lowest level since early 2003. Because of the changes to the index, we can't compare directly to 2003, but clearly the index is weak.

Click on graph for larger image in new window.

This graph shows the MBA Purchase Index, and four week and twelve week moving averages.

Although we can't compare directly to earlier periods because of the changes in the index, this does suggest that sales of homes are continuing to decline.

by Calculated Risk on 6/11/2008 09:52:00 AM

From Professor Duy: Fed Watch: Between a Rock and a Hard Place

Fedspeak turned decidedly hawkish this week, and market participants responded accordingly, moving up expectations for a rate hike to as early as this August. But is Federal Reserve Chairman Ben Bernanke really ready to follow through? The answer could make or break the Dollar in the coming weeks.

Tim covers the current situation, the recent Fedspeak, the arguments for and against raising rates and keep rates steady - and the politic issues. Duy concludes:

Bottom Line: The Fed has no one to blame for their predicament but themselves. Bernanke & Co. cut rates too deeply, fighting a battle against deflation that never was. Now they are backed into a corner; either raise rates and risk upsetting a very fragile economy, or stay the path and risk the inflationary consequences. If the Fed is truly concerned about the Dollar and commodity prices – and their open talk about currency values implies real and serious concerns – Bernanke will have to follow through with his newfound hawkish side. The bluntness of Fedspeak looks to signal a dramatic shift in thinking on Constitution Ave., and that argues for a rate hike by September, earlier than I had previously expected, and I cannot rule out an August move. Such a move is not without considerable risk for the economy.

The Fed is still data dependent, and unless the economic numbers improve, it seems unlikely the Fed will raise rates. But, as Tim notes, the Fedspeak has turned decidedly hawkish.

by Calculated Risk on 6/10/2008 11:04:00 PM

From the WSJ: Some Buy a New Home to Bail on the Old

Next month, Michelle Augustine plans to walk away from her four-bedroom house in a Sacramento, Calif., subdivision and let the property fall into foreclosure. But before doing so, she hopes to lock in the purchase of another home nearby.

"I can find the same exact house as what I live in right now for half the price," says Ms. Augustine ...

In markets hit hardest by falling home prices and rising foreclosures, lenders and brokers are discovering a new phenomenon: the "buy and bail," in which borrowers with good credit buy a new home -- often at a much lower price -- then bail out of the "upside down" mortgage on their first home.
...
The mortgage industry is starting to wise up to the practice and is scrambling to fight back. Buy-and-bail is "certainly fraudulent and unfortunately on an uptick," says Gwen Muse-Evans, vice president for credit policy and controls at Fannie Mae.
...
Under revised Fannie Mae guidelines, which could take effect next week, loan applicants who claim they will rent out their first home will have to produce supporting evidence, including an executed lease agreement. Borrowers also will have to prove that they can pay the mortgage, property taxes and insurance for both residences.

So far there are only a few anecdotal reports of "buy and bail", so this might be much ado about nothing. This is certainly fraud (if they sign a false loan document). But just like fraud for housing (when people lie about their income to buy a home), this type of fraud is almost never prosecuted - and extremely difficult to prove, unless someone tells a reporter what they're going to do.