by Calculated Risk on 7/14/2008 12:19:00 PM

From Tom Petruno at the LA Times Money & Co. Blog: Feds to freeze IndyMac's home-equity credit lines. (hat tip Peter Viles)

Petruno outlines several key points from the FDIC news conference today on the FDIC freezing HELOCs, interest on CDs, and more (relayed by Times staff writer Kathy M. Kristof) .

For builders:

Lines of credit to commercial construction contractors also will be frozen pending a review, but construction loans made to individual consumers won’t be affected.

I predict these reviews will find mostly bad news.

by Calculated Risk on 7/14/2008 11:59:00 AM

Regional banks are getting hit hard today. As examples, First Horizon is off 19%, Downey Financial is off 11%, Zions is off 16%, and M&T is off 15%.

WaMu is off 17% too. National City is off 20% and is now halted pending news. Update: NCC statement:

"National City is experiencing no unusual depositor or creditor activity. As of the close of Friday's business, the bank maintained more than $12 billion of excess short-term liquidity. Further, as a result of our recent $7 billion capital raise, National City maintains one of the highest Tier I regulatory capital ratios among large banks."

UDPATE 2: WaMu "no unusual depositor activity".

M&T is the first of the top 20 largest banks to report quarterly results, and the news is bad.

From the M&T conference call (hat tip Brian):

Analyst: On your Alt-A portfolio, can you just comment about the trends there? I think you saw $13 million or so of losses. I think that was mostly related to Alt-A. How is that trending?

M&T: Okay, I think just to sort of clarify, if you take the way the press release was written, take the $13 million that we mentioned and the $5 million in seconds, all of that comes from our Alt-A portfolios, so the number was $18 million. That was flat with the first quarter. We have actually seen a relatively leveling off of the loss content in that portfolio. We have begun to see, in the last two or three months, a slight downtick in the delinquencies in that portfolio. So I think the best thing that we can say is that we really feel that we have got our hands around that process. We have been at it for some time now, over a year. I think we think we have got our hands around it and we have done our work there. I would expect to see a continuation of those trends. Loss estimates up or down a bit, but pretty much I would expect the loss content, the loss trends, to continue there for a number of quarters.

Analyst: On the builder book, you mentioned that you have gone through the $2 billion book quite a few times. But how far a long do you think or in terms of really recognizing the NPLs?

M&T: Let me give you a couple of points here. You saw the three charge-offs that we had. Two of those were on credits that we had talked about in the past. Really what the issue was on those two credits was that the amount of spring sales was even slower on the last couple of months than our base case was. So across the board we are seeing slower sales and that means that there have to be price adjustments down in order to hit a price point where they are going to be able to move the properties. The third, and if you look at the third -- I'm giving you color on the types of things that are in the book. The third large charge-off was really a land acquisition and predevelopment loan. So you have got unimproved -- raw and unimproved land there. Really what you are looking at on those particular cases is, if the builder doesn't have the wherewithal to support the project, then land values are pretty low these days, maybe 40% to 50%. So we have kind of taken and all of that into account. We have just completed in May our most recent review. To put that into perspective, we reviewed primarily the mid-Atlantic portfolio, which at 6/30 was $586 million of outstandings. Half of that book is criticized ... But from our perspective in going through that review in May, from our internal perspective, we didn't see a lot of new credits. It's just that a lot of things got a bit weaker. I would guess that we are going to have to see a couple of quarters like the one we have seen.

Analyst: The numbers are again 25% of the whole builder book is classified? I just want to make sure that I have that number right. You said half of mid-Atlantic is criticized.

M&T: Yes, let me be real specific on that. If you look at our about $2.1 billion of total outstandings there [builder loan book], 25% of that book is in our criticized loan book. Almost all of that is in the subset, the $1 billion that we sort of call -- that is managed out of our mortgage division, and 47% of that book I am talking about, of the criticized loan book, is in the mid-Atlantic. So it is very concentrated.

Although residential real estate is being blamed for the write downs, the real problems are in the builder book. I don't know about land values in the mid-Atlantic area, but in California some land has sold at 15% to 25% of previous values (below the 40% to 50% M&T is suggesting for the mid-Atlantic area).

by Calculated Risk on 7/14/2008 11:57:00 AM

Today is a bad day for many regional banks ...

UPDATE: NCC statement:

"National City is experiencing no unusual depositor or creditor activity. As of the close of Friday's business, the bank maintained more than $12 billion of excess short-term liquidity. Further, as a result of our recent $7 billion capital raise, National City maintains one of the highest Tier I regulatory capital ratios among large banks."

by Anonymous on 7/14/2008 09:40:00 AM

Paul Krugman has a new column on Fannie and Freddie which I think is important. I'm going to take issue with a fair amount of it, but not with the basic argument that the uproar over the GSEs is "overblown." That, I think is a point worth making.

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

Krugman starts with a sweeping claim and a mini-history lesson:

Well, I’m going to take a contrarian position: the storm over these particular lenders is overblown. Fannie and Freddie probably will need a government rescue. But since it’s already clear that that rescue will take place, their problems won’t take down the economy.

Furthermore, while Fannie and Freddie are problematic institutions, they aren’t responsible for the mess we’re in.

Here’s the background: Fannie Mae — the Federal National Mortgage Association — was created in the 1930s to facilitate homeownership by buying mortgages from banks, freeing up cash that could be used to make new loans. Fannie and Freddie Mac, which does pretty much the same thing, now finance most of the home loans being made in America.

Because credit risk is now the front and center concern in everyone's minds, here in this bust of the bubble, I think it's very difficult for people to grasp the primary liquidity function of the GSEs. They have always been about recycling lending capital and taking long-term fixed interest rate risk off depository (and eventually non-depository) lenders much more than about merely absorbing credit risk. This goes against the grain of much current media over-simplification of "securitization" of mortgage loans that sees laying off credit risk as the main or even the only point of selling loans. The GSEs do take on the credit guarantee obligation of the securities they issue, but nobody sells loans to the GSEs just to offload credit risk--in fact, more than a few lenders work hard to negotiate contracts with the GSEs that leave quite a substantial part of the credit risk with the original lender: recourse agreements, indemnifications, servicing options that put a lot of the cost of default on the seller/servicer, not the GSE. They have historically done this because the credit risk of GSE-eligible loans has always been modest, but the benefits of getting 30-year fixed interest rate loans off your balance sheet has been substantial.

It's important to remember that, but not to overstate the case, which I think Krugman does:

But here’s the thing: Fannie and Freddie had nothing to do with the explosion of high-risk lending a few years ago, an explosion that dwarfed the S.& L. fiasco. In fact, Fannie and Freddie, after growing rapidly in the 1990s, largely faded from the scene during the height of the housing bubble.

Partly that’s because regulators, responding to accounting scandals at the companies, placed temporary restraints on both Fannie and Freddie that curtailed their lending just as housing prices were really taking off. Also, they didn’t do any subprime lending, because they can’t: the definition of a subprime loan is precisely a loan that doesn’t meet the requirement, imposed by law, that Fannie and Freddie buy only mortgages issued to borrowers who made substantial down payments and carefully documented their income.

Fannie and Freddie had about as much to with the "explosion of high-risk lending" as they could get away with. We are all fortunate that they couldn't get away with all that much of it. It is a fact that their market share dropped like a brick in the early years of this century, except of course for years like 2003, when fixed rates dropped to cyclical lows, refis boomed, and GSE market share shot up again, only to plummet in the years following during the purchase boom.

But they didn't like losing their market share, and they pushed the envelope on credit quality as far as they could inside the constraints of their charter: they got into "near prime" programs (Fannie's "Expanded Approval," Freddie's "A Minus") that, at the bottom tier, were hard to distinguish from regular old "subprime" except--again--that they were overwhelmingly fixed-rate "non-toxic" loan structures. They got into "documentation relief" in a big way through their automated underwriting systems, offering "low doc" loans that had a few key differences from the really wretched "stated" and "NINA" crap of the last several years, but occasionally the line between the two was rather thin. Again, though, whatever they bought in the low-doc world was overwhelmingly fixed rate (or at least longer-term hybrid amortizing ARMs), lower-LTV, and, of course, back in the day, of "conforming" loan balance, which kept the worst of the outright fraudulent loans out of the pile. Lots of people lied about their income (with or without collusion by their lender) in order to borrow $500,000 to buy an overpriced house in a bubble market. They weren't borrowing $500,000 from the GSEs.

Furthermore, both GSEs were major culprits in the growth of the mega-lenders. Over the years they were struggling so hard to maintain market share, they were allowing themselves to experience huge concentration risks. As they catered more and more to their "major partners"--Countrywide, Wells Fargo, WaMu, the usual suspects--they helped sustain and worsen the "aggregator" model in which smaller lenders sold loans not to the GSEs but to CFC or WFC, who then sold the loans to the GSEs. In large measure this was a function of pricing: the aggregators got the best pricing from the GSEs--the lowest guarantee fees, the best execution options--making it more attractive for a number of reasons for small lenders to sell to the aggregators.

The mentality at the GSEs seemed to many of us to have become too focused on letting these "deep pocket" mega-players continue to push the GSEs toward low doc, "near subprime," interest-only ARMs, low-down loans with iffy subordinate financing, etc. If you were Podunk National, you weren't going to get a master commitment with the GSEs to sell "fast and easy" doc-lite ARMs with a razor-thin guarantee fee. But if you were HSBC, you got that, and so Podunk either lost market share or made those loans and sold them to HSBC, who sold them to the GSEs. From the GSE's side it looked like they had the balance sheet and servicer strength of HSBC--or CFC or WFC or BAC or whoever--on the other side of those loan sales. From Podunk's side it often looked like you could take advantage of the GSEs' power to keep the mortgage market liquid only by consolidating the gargantuan servicing portfolios of the 800 pound gorillas, whose seemingly endless appetite for higher and higher-risk products made it hard for you to compete with conservative vanilla offerings.

I think we can give Fannie and Freddie their due share of responsibility for the mess we're in, while acknowledging that they were nowhere near the biggest culprits in the recent credit bubble. They may finance most of the home loans in America, but most of the home loans in America aren't the problem; the problem is that very substantial slice of home loans that went outside the Fannie and Freddie box. But Krugman is right to focus on the fact that it was the regulatory and charter constraints of the GSEs that kept that box closed. In the schizoid reality of the GSEs, when they had their "shareholder-owned private company" hats on they did plenty of envelope-pushing. When they had their "affordable housing" hats on, they rationalized dubious theories of credit quality--like the fervent belief that low or no down payment can be fully offset by a pretty FICO score--to beef up their affordable housing goals, often at the expense not of the poor put-upon "private sector" but of FHA, whose traditional borrower pool they pretty thoroughly cherry-picked. Nonetheless, the immovable objects of the conforming loan limits and the charter limitation of taking only loans with a maximum LTV of 80% unless a well-capitalized mortgage insurer took the first loss position, plus all their other regulatory strictures, managed fairly well against the irresistible force of "innovation." If there has ever been an argument for serious regulation of the mortgage markets, the GSEs are it.

So, as Krugman asks:

In that case, however, how did they end up in trouble?

Part of the answer is the sheer scale of the housing bubble, and the size of the price declines taking place now that the bubble has burst. In Los Angeles, Miami and other places, anyone who borrowed to buy a house at the peak of the market probably has negative equity at this point, even if he or she originally put 20 percent down. The result is a rising rate of delinquency even on loans that meet Fannie-Freddie guidelines.

Also, Fannie and Freddie, while tightly regulated in terms of their lending, haven’t been required to put up enough capital — that is, money raised by selling stock rather than borrowing. This means that even a small decline in the value of their assets can leave them underwater, owing more than they own.

Well, that and the fact that the minute it looked like the party was over, Congress and the administration both fell all over themselves to push the GSEs into jumbo markets they had at least managed to stay out of during the worst of the boom, cheerfully lifting their portfolio caps at the same time. How do you go on a stock-selling binge at the same time you have just become the official lender of last resort (along with FHA), handed the mandate to take out all those toxic ARMs with too-large loan balances into "safe" 30-year fixed that the borrowers in question still can't afford? If credit risk wasn't, heretofore, mostly the GSEs' problems, it will be now.

Krugman concludes:

And let’s be clear: Fannie and Freddie can’t be allowed to fail. With the collapse of subprime lending, they’re now more central than ever to the housing market, and the economy as a whole.

I actually buy the idea that they can't be allowed to fail. I also agree with Atrios:

Actually, Fannie and Freddie can be allowed to fail. Their shareholders can eat shit, and they can be reconstituted as a wholesale federal entities. There are zero reasons that I can think of that we should have shareholder owned entities which "probably but not necessarily" are going to get a government bailout every time they need it.

Both short and long term we might think that having such creatures exist to be mortgage backstops is a good idea. I probably agree with that. But there is no reason for them to be publicly traded companies.

Fannie Mae didn't start out as a "GSE," it started out as a government agency. It can go back to being a government agency if the government needs to further the economic goals of liquidity in the home mortgage market--and maybe it can go back to doing business with Podunk National, rather than lavishing its capital on mega-lenders who aren't going to be subject to regional liquidity crunches. All this uproar over "nationalizing" the GSEs seems to me the part that is really overblown. If they can't raise enough capital as shareholder-owned entities to prevent the necessity of periodic bailouts, then let's end the experiment with "GSEs" and make them agencies of the government. Any "rescue" that doesn't wipe out the shareholders is simply making a bad thing worse.

The irony of the "subprime" situation, it seems to me, is that we probably all would have been better off if the GSEs had gotten into it in a big way. If the GSEs had been able to create a market in "vanilla" subprime--fixed rates, no prepayment penalties, careful documentation requirements, competitive pricing--and forced their seller/servicers into a "subprime box," the subprime loan market would have been a lot better off. The "pseudo-Maes and Macs" have never really been very good at providing the kind of market discipline within their purview that the real Mae and Mac have. But we wanted "innovation" and "choice" and "flexibility," not domesticated subprime and "alt" financing with low margins, uniform loan terms, and front and side airbags.

What we certainly don't need is the GSEs to continue to flirt with the dark side of the mortgage market in the booms in the name of chasing "market share" and then have to clean it all up willy-nilly during the busts.

However . . .

by Calculated Risk on 7/14/2008 01:30:00 AM

The WSJ has a feature story on Steve and Barry's: Retailer's Collapse Hits Mall Owners. This is the retailer that used tenant improvement payments to fuel their growth.

The WSJ reports that Steve & Barry's received $380 million in tenant improvement payments for fiscal years 2004 through 2007. In fiscal 2006 alone, the company received $122 million in payments, but only used $59 million to build out stores. Although these payments were for "tenant improvements", most malls apparently didn't monitor how the money was spent.

Steve & Barry's was occupying large anchor spaces usually occupied by department-stores. These anchor spaces draw shoppers to the mall, and some mall owners are willing to lose money on these spaces:

On some deals, the upfront payment exceeded the total rent to be paid on the life of the lease, according to one executive at the retailer.
...
One mall owner says he talked to Steve & Barry's about leasing space, but the terms they demanded were absurd. "Leasing to them would have been like bringing prostitutes to a party to look popular," he says. "They might look good, but you're paying for it."

So the collapse of Steve & Barry's could hit mall owners in several ways:

The bankruptcy proceeding is likely to saddle a bunch of mall owners with empty stores. Mall owners that paid the company millions of dollars to open stores that may now go dark are unlikely to recoup any of that money ...

Also, the WSJ article notes that leases for many smaller tenants contain clauses that lower their rents if the anchor tenant goes dark.

There is much much more in the WSJ article ...

by Calculated Risk on 7/13/2008 10:02:00 PM

There have now been 5 FDIC insured bank failures in 2008, the most since 2002 (11). But this is nothing compared to number of failures during the S&L crisis in the '80s and early '90s.

Click on graph for larger image in new window.

To put the 2008 failures into perspective, here is a graph of bank failures since the FDIC was created in 1934. The 5 failures this year hardly show up on the graph.

Note: thousands of banks failed during the Depression, and bank failures were very common even before the Depression, with about 600 banks failing every year during the Roaring '20s. And, yes, there is a Bank Implode-O-Meter that includes credit unions and other banking problems too.

One of the interesting aspects of the IndyMac failure was the average size of the insured deposits. According to the FDIC, there were $18 billion in insured deposits and "over" 200,000 depositors. If we divide $18 billion by 200 thousand, this gives an average deposit of $90,000. This average seems very high; I'd expect most banks would have many depositors with just a few thousand dollars - and, therefore, a far lower average insured deposit size.

***********

This suggests that many of these deposits were from conservative investors chasing the highest FDIC insured yields. Banks that rely on this type of deposit (and pay the highest yields) would seem to be the most susceptible to online bank runs. These relatively high yield FDIC insured deposits are an example of moral hazard.

In the insurance context, the term "moral hazard" refers to the tendency of insured parties to take on more risk than they would if they had not been indemnified against losses. ... The moral hazard problem is particularly acute for insured depository institutions that are at or near insolvency but are allowed to operate freely because any losses are passed on to the insurer, whereas profits accrue to the owners. Thus problem institutions have an incentive to take excessive risks with insured deposits in the hope of returning to profitability.

Although I believe deposit insurance is an important safety net - because many depositors cannot fully evaluate the safety and soundness of their bank - I'm not convinced this is working properly when investors can easily place just under the FDIC limit at multiple banks and chase yield.

Note: the reason investors usually deposit under the limit (say deposit $95,000) is to keep the earned interest insured too.

From Robin Sidel, David Enrich and Jonathan Karp at the WSJ: Bank Fears Spread After Seizure Of IndyMac

[Banks] wooed customers with new high-yield savings accounts and certificates of deposit, and special Internet-only promotions. ... Regional and specialized institutions that have been battered by soured loans have been among the most aggressive in luring new money. Last week, IndyMac was offering 4.35% interest on a one-year online CD.

Surprisingly the WSJ reports that the percentage of uninsured deposits has been growing rapidly:

[T]he percentage of uninsured deposits has doubled since 1992, climbing to about 37% of the nation's $7.07 trillion in deposits at the end of the first quarter, according to an analysis of data reported to the FDIC.

And from Louise Story at the NY Times: Analysts Say More Banks Will Fail

[T]he troubles are growing so rapidly at some small and midsize banks that as many as 150 out of the 7,500 banks nationwide could fail over the next 12 to 18 months, analysts say.

“Everybody is drawing up lists, trying to figure out who the next bank is ...” said Richard X. Bove, the banking analyst with Ladenburg Thalmann, who released a list of troubled banks over the weekend. ... In his “Who Is Next?” report ... Mr. Bove listed the fraction of loans at banks that are nonperforming ... He came up with what he called a danger zone, which was a percentage above 5 percent. Seven banks fell in this category.

Jane Wells at CNBC has Bove's list: After IndyMac, Who's Next?. Here is Bove's list of banks in the 'danger zone' according to Wells: Downey Financial, Corus Bankshares, Doral Financial, FirstFed Financial, Oriental Financial, and BankUnited Financial.

Then Bove ran a second set of numbers dividing a bank’s non-performing assets by its reserves plus common equity. ... You have all the same names as listed before, PLUS WASHINGTON MUTUAL.

And just today, from MarketWatch on Downey Financial:

Downey Financial said Sunday that its nonperforming assets hit 14.33% of its total assets in May, up from 10.75% at the end of February. A year ago, Downey's nonperforming assets were 1.3%.

Going forward, I expect many more bank failures, although probably far fewer than in the '80s and early '90s. Unlike IndyMac that failed mostly because of bad Alt-A mortgage loans, most of the coming bank failures will probably be small regional banks with too much exposure to Construction & Development (C&D) and Commercial Real Estate (CRE) loans. Clearly there is the possibility of a huge failure too. FDIC Chairman Sheila Bair told a Senate Banking Committee in early June:

"There is also the possibility that future failures could include institutions of greater size than we have seen in the recent past."

Maybe she was thinking of IndyMac.Read on ... there is much more.

by Calculated Risk on 7/13/2008 07:14:00 PM

Update2: NY Times report: Rescue Sought for Fannie and Freddie

WSJ report: U.S. Announces Rescue Plan For Fannie Mae, Freddie Mac

Update: From the Fed Board grants Federal Reserve Bank of New York the authority to lend to Fannie Mae and Freddie Mac should such lending prove necessary

From Bloomberg: Paulson Statement on Freddie Mac, Fannie Mae: Full Text

... I have consulted with the Federal Reserve, OFHEO, the SEC, Congressional leaders of both parties and with the two companies to develop a three-part plan for immediate action. The President has asked me to work with Congress to act on this plan immediately.

First, as a liquidity backstop, the plan includes a temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.

Second, to ensure the GSEs have access to sufficient capital to continue to serve their mission, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.

Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer. Third, to protect the financial system from systemic risk going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator's process for setting capital requirements and other prudential standards. ...

The two keys points are: "temporary authority for Treasury to purchase equity", and an "increase in the line of credit". I think we need more specifics.

by Calculated Risk on 7/13/2008 04:25:00 PM

From the FDIC: FDIC Chairman Sheila C. Bair Issues Statement on IndyMac Federal Bank, FSB, Conservatorship

FDIC Chairman Sheila C. Bair said, "Over the past weekend, I have seen news reports which have fairly and accurately reported on the conversion of Indy Mac Bank into a conservatorship operated by the FDIC. I have also seen inaccurate and inflammatory reporting which could well cause needless, unnecessary worry and angst among bank depositors throughout the country.

That fact is that for insured depositors, IndyMac's conversion has been largely a non-event. The more than 200,000 customers of IndyMac with deposits of $18 billion are fully protected. It's important to keep in mind that the small percentage of uninsured are still covered for their insured amounts and half of their uninsured money. As assets of IndyMac are sold, they may receive even more. They have had continued access to their funds through ATMs, debit cards, and writing checks over the weekend, and on Monday morning, it will be business as usual.

All bank depositors should understand that their insured deposits are safe. IndyMac is only one of 8,494 depository institutions operating throughout the country and represents only .2 percent of banking industry assets. The overwhelming majority of banks in this country are safe and sound. The chance that your own bank will be taken over by the FDIC is extremely remote. And if that does happen, you will continue to have virtually uninterrupted access to your insured deposits. ...

I haven't seen the "inaccurate and inflammatory" reports. According to the FDIC, there are about $1 billion in uninsured deposits held by about 10,000 depositors. These depositors will receive all of their insured deposits, plus 50% of the amount over $1 billion (with some possibility of receiving more).

The FDIC has estimated the cost to the Insurance Fund is between $4 and $8 billion. Those are the key numbers.

Why anyone had more than the insured limit at IndyMac, with all the negative news, is definitely baffling. It looks like government officials are working on Sunday again ...

by Calculated Risk on 7/13/2008 02:41:00 PM

From the WSJ: Treasury to Issue Statement Supportive of Mortgage Giants

The Treasury is expected later today to make a statement supportive of beleaguered mortgage giants Fannie Mae and Freddie Mac ...

Here is the Treasury News page.

by Calculated Risk on 7/13/2008 02:35:00 PM

"No flooring ... let's see, a little mountain view looking that way, but no flooring ... no kitchen!"

by Calculated Risk on 7/13/2008 10:46:00 AM

From Jeffrey Birnbaum and Steve Mufson at the WaPo: Freddie Mac's Next Hurdle: Raise Cash (hat tip SS)

Treasury Department officials were working the telephones yesterday to make sure that Freddie Mac ... will be able to sell $3 billion of its securities tomorrow in a previously scheduled sale that has now become a crucial test of investor confidence.
...
Treasury officials were considering several options to backstop the sale in case they discover that interest in the securities is flagging ... Under one alternative, the Treasury or Fed would purchase the securities directly.

Other possibilities are allowing the Federal Reserve Bank of New York to buy the debt indirectly through private brokers or asking private firms to purchase the debt while extending to them either a public or private assurance that the government would back the securities if Freddie were ultimately unable to cover its obligations.

This is a previously scheduled debt sale, and should be very doable.

More concerning is the planned stock offering.

by Calculated Risk on 7/13/2008 01:18:00 AM

From The Times: US Treasury rescue for Fannie Mae and Freddie Mac

US TREASURY secretary Hank Paulson is working on plans to inject up to $15 billion of capital into Fannie Mae and Freddie Mac to stem the crisis at America’s biggest mortgage firms.
...
Under the terms of the proposed move, the US government would receive a new class of shares in exchange for the capital, which would be hugely dilutive to shareholders.
...
The capital injection would also see both lenders granted permission to use the Federal Reserve’s discount window - a short-term emergency funding source.
...
Some in Wall Street believe a rescue plan may be announced ahead of tomorrow’s US market opening to calm nerves and support the debt auction.

Note: I just got back from a great hike in the Sierras and I'm definitely a little tired. Wow, I knew the news would be exciting while I was gone (with breaking news on IndyMac, Fannie and Freddie). Thanks to Tanta and everyone who sent me emails.

If this story is accurate, this bailout will be announced Sunday evening or Monday morning. The Bear Stearns announcement was on a Sunday around 7PM ET, so I would expect a Sunday announcement this time too (if this is going to happen).

by Anonymous on 7/12/2008 03:49:00 PM

My somewhat tenuous attention was captured this morning by this little parenthetical in the NYT story on the IndyMac failure:

The bank, once part of the Countrywide Financial Corporation, is the first major bank to shut its doors since the mortgage crisis erupted more than a year ago. (IndyMac is not related to Fannie Mae and Freddie Mac, the big mortgage finance companies that alarmed the stock market this week.)

Are we worried that the public will think all Maes and Macs are the same? And whose reputation would be more endangered by this, IndyMac's or Freddie Mac's?

The ironies of history. Trivia buffs will know that once upon a time there were three "agencies": the Government National Mortgage Association, the Federal National Mortgage Association, and the Federal Home Loan Mortgage Corporation. It didn't take all that long for market participants to start coming up with pronunciations for the abbreviations GNMA (Ginnie Mae), FNMA (Fannie Mae), and FHLMC (Freddie Mac, which makes no sense whatsoever except that nobody liked "Filly Mac." I once overheard an old hand in the loan delivery department helpfully explaining to a new recruit how to remember the difference between Mornet (FNMA) and Midanet (FHLMC), the GSEs' pool delivery software systems. "It's easy to remember," she said. "Midanet has a 'd' in it, just like 'FHLMC.'"). Old farts whose favorite childhood treat was a box of Pixies will remember the old-time candy company Fannie May, whose name is said to have inspired the whole thing, probably in the throes of a major sugar rush.

Anyway, the players long ago accepted the nicknames to the extent of actually legally changing their names to Ginnie Mae, Fannie Mae, and Freddie Mac, which was great for those of us who had to type Assignments of Mortgage. At some point the student loan corporation climbed on board and we got Sallie Mae, plus the agricultural loan guarantor known as Farmer Mac. By the mid-80s, if you were a government agency or GSE involved in the secondary loan market, you were almost always a Mae or a Mac of some kind. The Federal Home Loan Bank Board never did accept "Freddie Bob," which some of us thought was unsporting but there it is.

This started a fashion for private companies to put a Mae or Mac in their names, signifying that they were major players in the secondary loan market, too. Independence Mortgage Corporation named itself IndyMac. There was Ginger Mae for dicey home equity loans in the great subprime boom of the 90s. ResMae just declared bankruptcy last year, but Charlie Mac (which pools credit union loans) is still functioning as far as I know.

I don't think any private loan buyer has named itself Mac or Mae since 1998 or thereabouts; in this last boom the new entrants, mostly REITs, gave themselves sparkling fresh names like New Century and Luminent and Novastar as if to maintain a light-year's distance from the old gold standard of the Maes and Macs.

And just when it might have been useful to shed the boom-era designer names and huddle up to a solid, staid, boring old Mae or Mac again, we've got the media worried that we won't be able to keep our failing Macs straight.

by Anonymous on 7/12/2008 08:48:00 AM

Which is not the name of a band but probably should be.

Via Big Picture, we find this at Bloomberg:

July 11 (Bloomberg) -- The Federal Reserve has not had any discussions with Fannie Mae and Freddie Mac about access to direct loans from the central bank, Fed spokeswoman Michelle Smith said.

``Federal Reserve officials are following the situation closely,'' Smith said in a telephone interview today. ``However, there have been no discussions'' with the companies ``about access to the discount window,'' she said.

This is what Reuters reported yesterday afternoon:

WASHINGTON (Reuters) - Federal Reserve Chairman Ben Bernanke told Freddie Mac chief Richard Syron that his company and Fannie Mae could take advantage of the emergency discount window, according to a source familiar with the conversation.

The source said that Bernanke and Syron spoke by phone Thursday afternoon and the central bank chief said in that call he intended the discount window to be opened if necessary to the two largest U.S. mortgage finance companies.

I got my first email on the subject Friday morning at 10:20 a.m., the burden of which was that opening the discount window was one of a number of proposals the Fed was "considering." I gather it took only a few hours for an anonymous source to have recollected overhearing a phone conversation between Bernanke and Syron on Thursday for Reuters that made it a done deal.

This morning, the Washington Post has managed to construct a narrative that makes it all true, you see:

Senior government officials prepared emergency steps yesterday to rescue troubled mortgage giants Fannie Mae and Freddie Mac but stopped short after a campaign of public statements eased immediate concerns about the stability of the institutions.

In this version, apparently, the Fed was ready to open the discount window but Hank Paulson's masterful calming of the waters yesterday made it unnecessary. I think. The Post story stops attributing its knowledge of Fed thinking and planning to any source rather early in the story, and having read it twice now I'm still not sure I exactly follow the bouncing ball. But it sure sounds better than saying the press credulously printed an unfounded rumor, doesn't it?

by Calculated Risk on 7/12/2008 08:00:00 AM

Note: I'm hiking in the Sierras, but I thought I'd leave some thoughts on employment. I'll be back Saturday night or Sunday morning.

I'm pessimistic on employment - I think problems in the labor market will linger - but I do not think unemployment will rise to 8% (a severe recession) during this economic downturn.

Note: just because unemployment doesn't rise to 8% doesn't mean many more people aren't hurting. Many people will probably be underemployed, and real wages (purchasing power) will decline for many employed Americans.

There are several reasons for my optimism (if you can call it that!). One of the reasons is the makeup of U.S. employment.

Click on graph for larger image in new window.

The first graph shows the year-over-year change in employment for manufacturing, construction, and everything else. Manufacturing and construction employment are more susceptible to large swings year-over-year, as these areas typically experience booms and busts.

It is reasonable to expect that construction employment will continue to decline significantly - perhaps another 1 million construction workers will lose their jobs as Commercial Real Estate (CRE) construction declines later this year and into 2009.

However manufacturing employment will probably only decline slowly for two reasons: 1) the weak dollar is helping with exports, and 2) manufacturing employment never recovered from the bust of a few years ago. So the decline in manufacturing employment will probably not be severe.

And these two volatile areas of employment make up much less of the total U.S. employment than during earlier recessions.

The second graph shows the percent of total U.S. non-farm workers employed in manufacturing and construction. Manufacturing employment has been declining steadily - and will probably continue to decline as a percent of total employment. The same percentage swing in manufacturing employment now will have a much smaller impact on total employment than during previous recessions.

Construction employment will probably decline sharply, but this only accounts for just over 5% of total employment.

The next most volatile area is retail sales employment, and the current downturn will probably see a significant decline in retail employment. And many service employees will be underemployed - and that is painful too.

But over all, total employment probably won't decline enough to cause unemployment to rise to 8%.

by Calculated Risk on 7/11/2008 10:00:00 PM

Hiking in the Sierras ...

by Anonymous on 7/11/2008 08:16:00 PM

Full press release here:

IndyMac Bank, F.S.B., Pasadena, CA, was closed today by the Office of Thrift Supervision. The Federal Deposit Insurance Corporation (FDIC) was named conservator. The FDIC will transfer insured deposits and substantially all the assets of IndyMac Bank, F.S.B., Pasadena, CA, to IndyMac Federal Bank, FSB. Brokered deposits will be held by the FDIC and those insured deposits will be paid off when the insurance determination is complete. IndyMac Bank, FSB had total assets of $32.01 billion and total deposits of $19.06 billion as of March 31, 2008. As conservator, the FDIC will operate IndyMac Federal Bank, FSB to maximize the value of the institution for a future sale and to maintain banking services in the communities formerly served by IndyMac Bank, F.S.B.

Insured depositors and borrowers will automatically become customers of IndyMac Federal, FSB and will continue to have uninterrupted customer service and access to their funds by ATM, debit cards and writing checks in the same manner as before. Depositors of IndyMac Federal Bank, FSB will have no access to on-line and phone banking services this weekend. These services will be operational again on Monday. Loan customers should continue making loan payments as usual.

by Calculated Risk on 7/11/2008 04:00:00 PM

It's Friday. Time to check with the FDIC.

Here is the FDIC Failed Bank List.

Please send any stories to Tanta.

by Anonymous on 7/11/2008 02:00:00 PM

I hate prepayment penalties and always have. In theory, they work just like an early withdrawal penalty on a certificate of deposit: you are paid a higher rate of interest in exchange for giving up liquidity for a stated period of time. In the case of mortgage loans, you are (presumably) offered a lower interest rate in exchange for giving up liquidity for a stated period of time.

In reality, few borrowers are, in my experience, capable of calculating the relative savings of the penalty loan accurately, or fully assessing the risk they take by accepting the penalty. This is without even getting into issues of predation or steering or failure to disclose adequately.

Case in point, from the Sacramento Bee:

When Carol Wallace sold her Sun City Roseville home two years ago, she got an expensive reminder from her lender.

She owed $5,964. Why? She had paid off her adjustable-rate mortgage early.

The lender offered to waive it, Wallace said, if she'd buy another house with one of their loans. But here was the point: She had cancer and didn't intend to buy again. She had to pay up.

Two years later, still ill, Wallace still fumes.

"It's written in my paperwork when I die to remind my kids," she said. "It says if there's a class action lawsuit, to remember me, to get my $6,000." . . .

Wallace said she knew she had a prepayment penalty. "But I didn't think it would be a problem because I didn't think I would have to move," she said.

Very few people, I suspect, make any decision about buying or financing a home, including but not limited to the prepayment penalty option, based on their fear that they might be diagnosed with a disabling disease in the next three years. We tend to think that people who obsess about very low-probability, very high-severity events are, well, obsessives.

Wallace was, unfortunately, the one it happened to. I suspect she thought--perhaps we all think--there should be some sort of "hardship exclusion" in her case. But there isn't one, and people sign these things all day without worrying that there isn't one. Perhaps they think to themselves, as Wallace did, that they would only move if they were forced to. By a hardship. Which isn't excluded.

And Wallace thinks she should be part of a "class action." I am trying to imagine how large a "class" of borrowers who suffered a very low-probability event would be.

I have myself come to the conclusion that prepayment penalties should be banned entirely. Not because Ms. Wallace's logic makes any sense to me, but because it doesn't make any sense to me but I suspect it does to most people with a prepayment penalty. And that is evidence enough that consumers cannot understand them.

by Anonymous on 7/11/2008 11:11:00 AM

This clears things up:

Secretary Henry M. Paulson Jr. made the following comment today on news stories about "contingency planning" at Treasury:

"Today our primary focus is supporting Fannie Mae and Freddie Mac in their current form as they carry out their important mission.

"We appreciate Congress' important efforts to complete legislation that will help promote confidence in these companies. We are maintaining a dialogue with regulators and with the companies. OFHEO will continue to work with the companies as they take the steps necessary to allow them to continue to perform their important public mission."