by Calculated Risk on 2/09/2007 09:52:00 PM

From the St. Petersburg Times: Tax shortfalls crimp budget

State taxes and fees collected were $108-million short of projections for January. That’s on top of a revenue snapshot in November that was $466-million below the expected figure.

For state officials, that is ample evidence of a tamped-down economy that could mean fewer new programs and services. It’s still too soon to tell.
...
Most of the projected revenue shortfall is in sales taxes, the largest source of state revenue. Another area of sluggishness is in taxes on real estate transactions, known as documentary stamps — further evidence of a slowdown in the once-sizzling Florida real estate market.
...
“It’s all related to housing,” said Randy Miller, executive vice president of the Florida Retail Federation. “But after years of double-digit increases in tax collections, we’re not that concerned.”

by Calculated Risk on 2/09/2007 01:25:00 PM

Cleveland Fed President Sandra Pianalto spoke today: A Policymaker's Perspective on Monetary Policy and the Economy

First, an excerpt on the long view:

"Let's consider the long-term growth factors first. Generally speaking, two main factors - labor force growth and productivity - determine our nation's long-term potential for economic growth. When the workforce grows, so too does our economic output. Likewise, when our workforce is more productive, we can generate more goods and services."

This is why I'm very positive for the longer term, especially because I believe innovation (productivity gains) will almost certainly continue.

On the short term:

"... we also know that unexpected events can temporarily push the economy off its longer-term path...

By far, the most pronounced economic shock of the past year was a contraction in the nation's housing market. The downturn in this sector has clearly pulled economic growth below its long-term potential.

Some observers think that the worst of the national housing contraction is behind us. That view may be premature, but the recent data are encouraging. Home sales no longer seem to be falling, and inventories of unsold homes have dropped a bit. And even though new homes under construction fell sharply last year following several years of strong growth, most economists expect further declines to become less steep. Some industries, such as construction and home building supplies, have clearly felt the brunt of the housing market contraction, but by and large, we have seen little spillover to other sectors of the economy."

This view is probably "premature" and any spillover is ahead of us, not behind us.

For those hoping for a rate cut, Pianalto argues the Fed will not cut rates to support the housing market:

"Unfortunately, the FOMC can do very little to directly soften the housing contraction. The supply and demand for housing must eventually come into balance on its own."

In fact, Pianalto believes "some additional policy firming may be needed":

"The national inflation picture has been clouded in the past few years by large swings in energy, commodity, and housing prices. As these markets normalize, and as we gain a clearer picture of the underlying inflation trend, we may see that some inflation risks remain. In that case, some additional policy firming may be needed - depending, of course, on the outlook for both inflation and economic growth."

by Calculated Risk on 2/09/2007 12:55:00 AM

From the NY Times: Calm Before and During a Storm.

High on Mr. Geithner’s to-do list is understanding and monitoring the $26 trillion credit derivatives market ... the fastest-growing financial market there is. Its explosive growth has greased the wheels of the global economy, increasing liquidity, spreading risk and minting money for Wall Street along the way. But it has surged at a time when volatility has been low, debt has been historically cheap and defaults have been virtually absent. When this market gets tested, no one knows for certain how it may react.

Brad Setser worked for Geithner at both the IMF and the Treasury. Setser wrote last year: Things that keep the President of the New York Fed up at night. Setser quoted Geithner:

And when innovation, such as we are now seeing in credit derivatives, takes place in a period of generally favorable economic and financial conditions, we are necessarily left with more uncertainty about how exposures will evolve and markets will function in less favorable circumstances. The past several years of exceptionally rapid growth in credit derivatives and the larger role played by nonbank financial institutions, including hedge funds, has occurred in a context of very low realized credit losses, low expectations of future default risk, a high degree of confidence in the financial strength of the major banks and investment banks, relatively strong and significantly more stable economic growth, less concern about the level and volatility in future inflation, and low expected volatility in many asset prices. Even if a substantial part of these changes prove durable, we know less about how these markets will function in conditions of stress, and the most sophisticated tools available for measuring potential losses have less to offer than they will with the benefit of experience with adversity.

Reading the NY Times article it appears Geithner is diligently addressing these concerns.

by Calculated Risk on 2/09/2007 12:01:00 AM

From MarketWatch: Winter's arrival warmed up sales

Same-store receipts at 55 of the nation's top chain-store retailers climbed 3.9% last month, according to Thomson Financial. That's above the 3.1% forecast. Same-store sales, considered the best measure of retail growth, are gleaned from the receipts rung up at stores open longer than a year.

At the International Council of Shopping Centers, which calculates same-store sales in a slightly different manner, the results were 3.7% higher, exceeding the 3% projection.

"Overall, the tone was pretty good," said Michael Niemira, ICSC's chief economist. "It was certainly a nice finish to the fiscal year -- and a nice start to the calendar year."

So I was asked today:

"Where is the consumer bust?"

Last month I wrote:

Professor Leamer identified two key missing ingredients for a recession: enough job losses, and a credit crunch. These are the two issues I wrestled with over the holidays, and I couldn't come to a definitive conclusion.

At the core, recessions are about jobs, and it is easy to imagine scenarios with job growth slowing to 100K per month, maybe even 50K per month. But that isn't a recession.
...
So how can the U.S. economy slide into recession in '07?

Some possible sources: a credit crunch based on bad loans in the RE sector (and possibly in CRE and C&D too), less consumer spending based on falling MEW, and another downturn in the housing market. If all of these can be avoided, a recession is unlikely.

We are now seeing a sector-specific credit crunch. However we are still waiting for a significant decline in MEW, and another downturn in the housing market.

This is just Act II. The future is uncertain, and the odds of a 2007 recession are still about a coin-flip ... but if the play unfolds as I suspect it might, Hamlet dies in Act V.

by Calculated Risk on 2/08/2007 10:47:00 AM

From the AP: Toll Brothers 1st-Quarter Building Revenue to Fall 19 Percent

Toll Brothers ... said Thursday that it expected its first-quarter home building revenue to fall by 19 percent, signaling that the housing market is likely to remain feeble early in 2007.
...
The company also expects first-quarter writedowns to "significantly exceed" previous estimates and could range from $60 million to as high as $160 million or more.
...
the first-quarter's cancellation rate fell to 29.8 percent, however, from 36.9 percent in the prior quarter. The pace of cancellations still far exceeded the builder's historical average of about 7 percent.

by Calculated Risk on 2/08/2007 12:23:00 AM

From the WSJ: Mortgage Refinancing Gets Tougher

... borrowers are getting caught short by a changing housing market -- one in which home prices have flattened and lenders are beginning to tighten their standards after a long period of making mortgages easier and easier to get. ...

These new challenges come ... when .... about $1.1 trillion to $1.5 trillion in ARMs ... will face rate increases this year ... The MBA expects borrowers to refinance as much as $700 billion of those mortgages.

"The decrease in property values, combined with prepayment penalties, is making it very challenging for people to get out of these loans," says Ed Shanks, an executive vice president with U.S. Bank Home Mortgage, a unit of U.S. Bancorp. U.S. Bank is seeing more loans fall through, particularly in markets such as Arizona, California, Colorado and Ohio, where home values have softened. It could be "the tip of the iceberg," Mr. Shanks says.

This probably explains some of the recent increase in the MBA index. Some of these loans are "falling through" and borrowers are having to apply elsewhere.

... there are signs that some lenders are beginning to tighten their standards. ... [as an example] This month, Wells Fargo & Co. will begin reducing by 5% the maximum amount it will lend to certain riskier borrowers in "declining" markets. Those markets, covering more than 150 counties in two dozen states, include parts of California, Florida, Michigan and Ohio.

The change "reflects the tighter requirements of our investors," a Wells spokesman says. "I think all lenders are experiencing this kind of tightening of credit standards."

There is no evidence yet of a general credit crunch, but there is clearly a growing sector–specific crunch in real estate mortgage lending. This credit crunch will make it harder for some people to buy a home. And it will make it harder for some existing homeowners to extract equity from their homes.

"Welcome to Phase II of the housing bust."
ac in the comments, Feb 7, 2007

by Calculated Risk on 2/07/2007 08:33:00 PM

From Reuters: HSBC warns 2006 bad debt charge jumps to over $10 bln

Europe's biggest bank, HSBC Holdings, said its charge for bad debts would be more than $10.5 billion for 2006, some 20 percent above analysts' average forecasts, due to problems in its U.S. mortgage book.

HSBC said in a shock trading update late on Wednesday that slowing house price growth was being reflected in accelerated delinquency trends across the U.S. sub-prime mortgage market, particularly in more recent loans.

Analysts had expected HSBC's 2006 loan impairment charge to be $8.8 billion, according to the average of 11 analysts' forecasts, the bank said.

That figure is now expected to be about $1.8 billion higher, or near $10.6 billion.

Also from Reuters: NetBank sees 4th-qtr loss steeper than expected

Online bank and mortgage lender NetBank Inc. said on Tuesday it expected to post a much steeper than expected fourth-quarter loss as it moved to shut down its subprime mortgage business.

NetBank had previously forecast an aftertax loss of 74 cents to 87 cents in the quarter, but now expects the result to fall "far below" that estimate, provided on Dec. 18, it said in a regulatory filing.

As a result of its shutdown of the mortgage business, which was completed in the fourth quarter, NetBank has been forced to buy back from investors the loans that were defaulted, leading to $26 million more in provisions than it was expecting, the bank said.

by Calculated Risk on 2/07/2007 05:53:00 PM

Via MarketWatch (hat tip Tanta!)

New Century Financial Corporation (NYSE: NEW), a real estate investment trust (REIT), today announced that it will restate its consolidated financial results for the quarters ended March 31, June 30 and September 30, 2006 to correct errors the company discovered in its application of generally accepted accounting principles regarding the company’s allowance for loan repurchase losses.

The company establishes an allowance for repurchase losses on loans sold, which is a reserve for expenses and losses that may be incurred by the company due to the potential repurchase of loans resulting from early-payment defaults by the underlying borrowers or based on alleged violations of representations and warranties in connection with the sale of these loans. When the company repurchases loans, it adds the repurchased loans to its balance sheet as mortgage loans held for sale at their estimated fair values, and reduces the repurchase reserve by the amount the repurchase prices exceed the fair values. During the second and third quarters of 2006, the company’s accounting policies incorrectly applied Statement of Financial Accounting Standards No. 140 – Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities. Specifically, the company did not include the expected discount upon disposition of loans when estimating its allowance for loan repurchase losses.

In addition, the company’s methodology for estimating the volume of repurchase claims to be included in the repurchase reserve calculation did not properly consider, in each of the first three quarters of 2006, the growing volume of repurchase claims outstanding that resulted from the increasing pace of repurchase requests that occurred in 2006, compounded by the increasing length of time between the whole loan sales and the receipt and processing of the repurchase request.

Importantly, the foregoing adjustments are generally non-cash in nature. Moreover, the company had cash and liquidity in excess of $350 million at December 31, 2006.

Although the company’s full review of the legal, accounting and tax impact of the restatements is ongoing, at this time the company expects that, once restated, its net earnings for each of the first three quarters of 2006 will be reduced.

In light of the pending restatements, the company’s previously filed condensed consolidated financial statements for the quarters ended March 31, June 30 and September 30, 2006 and all earnings-related press releases for those periods should no longer be relied upon. The company expects to file amended Quarterly Reports on Form 10-Q for the quarters ended March 31, June 30 and September 30, 2006 as soon as practicable, with a goal to file by March 1, 2007. The company also expects that the errors leading to these restatements constitute material weaknesses in its internal control over financial reporting for the year ended December 31, 2006. However, the company has taken significant steps to remediate these weaknesses and anticipates remediating them as soon as practicable.

The company’s fourth quarter and full-year 2006 earnings announcement, originally scheduled for February 8, 2007, has been postponed to an undetermined future date, which will follow the company’s filing of its amended Quarterly Reports on Form 10-Q for the quarters ended March 31, June 30 and September 30, 2006.

And on developments in the fourth quarter:

The increasing industry trend of early-payment defaults and, consequently, loan repurchases intensified in the fourth quarter of 2006. The company continued to observe this increased trend in its early-payment default experience in the fourth quarter, and the volume of repurchased loans and repurchase claims remains high.

In addition, the company currently expects to record a fair value adjustment to its residual interests to reflect revised prepayment, loss and discount rate assumptions with respect to the loans underlying these residual interests, based on indicative market data. While the company is still determining the magnitude of these adjustments to its fourth quarter 2006 results, the company expects the combined impact of the foregoing to result in a net loss for that period.

by Calculated Risk on 2/07/2007 04:50:00 PM

"Real home-price gains, adjusted for inflation, will be negative this year, next year and possibly the year after that."
David Berson, Fannie Mae Chief Economist, Feb 7, 2007

From MarketWatch: Housing still on down slope

"I don't think we've seen the bottom," said David Berson, chief economist for Fannie Mae. "We're going to see a much bigger drop in investor demand this year. But by the second half of the year the market will stabilize, if investors pull out quickly."

Berson said he expects the home-price index calculated by the Office of Federal Housing Enterprise Oversight will show a nationwide decline in values for 2007, the first time that will have happened since the data began being collected in 1975. Unlike other measures, the OFHEO data measure the price changes on the same homes over time, meaning the index is less likely to be skewed by the types and locations of sales.

"It won't be a big decline, maybe 1%. And the declines will be far more centered in areas that have had the most investor activity," he said. "Real home-price gains, adjusted for inflation, will be negative this year, next year and possibly the year after that."

My forecast that "prices will fall nominally by 1% to 3% nationwide" is similar to Berson's.

Here are a few more recent forecasts:

Home prices will fall 10% on average in 2007
UBS analyst Margaret Whelan, Nov 6, 2006

"We believe nationwide home prices -- as measured by the federal OFHEO repeat sales index -- will be roughly unchanged in 2007. ... The risk to our price forecast is to the downside."
Saumil Parikh, PIMCO Portfolio Manager, Dec 27, 20062007

"Whether prices go down or stay the way they are, you can pretty much guarantee that whatever the value of your house now, that's going to be the value of your house in 2011."
Dr. Christopher Thornberg, October 19, 2006

"I expect at least a 20% decline in median single-family house prices nationwide, and that number may be way understated."
A. Gary Shilling, August 29, 2006, for the entire bust, not 2007.

[Orange County] house prices this year will increase 7 percent
Broker Gary Watts, Feb 7, 2007

by Calculated Risk on 2/07/2007 03:56:00 PM

From Northern Trust: The Fed Probably Thinks It Is On Hold for All of 2007

We don’t. We continue to believe that the Federal Reserve’s next move is to cut the federal funds rate. However, the first interest rate cut now appears likely later in the year, perhaps on August 7, than we had been forecasting in recent months. The trigger for the Fed to decrease the federal funds rate will be the combination of lower inflation and persistent below-potential economic growth.

On housing:

We believe that the bottom of the current housing recession lies quarters ahead. An average post-WWII era housing recession entails about a 25% peak-to-trough decline in real residential investment expenditures. As of the fourth quarter of 2006, these expenditures were down about 13% from their Q3:2005 peak. So, unless this is a milder-than-average housing recession, the trough lies ahead.

And on tighter lending standards:

Click on graph for larger image.

... effective housing affordability is likely to fall as federal and state financial regulators clamp down on “exotic” mortgage products as well as the mortgage market itself. In the past couple of months a number of exotic mortgage lenders and brokers have closed their doors as intermediate buyers/securitizers of this product have pulled back. The Fed’s latest survey of bank lending standards shows a sharp rise in the number of banks tightening their lending standards for residential mortgages (see Chart 2). In other words, credit conditions in the mortgage market are tightening.