Postponing the Inevitable

Many investors, myself included, find it hard to believe that we are facing an enormous credit crunch of cataclysmic proportions. But although I’m generally an optimist, logic gets the best of me when I read from Bloomberg I read

“Executives at New York-based S&P, Moody’s and Fitch say they are waiting until foreclosure sales show that the collateral backing the bonds has declined enough to create losses before lowering ratings on some of the $6.65 trillion in outstanding mortgage-backed debt.”

What the hell does that mean? Is that another way of saying “We are not going to actually say that things are bad until people can realize they are bad”. (Sounds like the Cisco-pumpers in the late 90s to me).

I read further and the article states

“Homeowners may be delinquent on mortgage payments for at least three months before foreclosure proceedings begin, and the process can be delayed if a borrower files for bankruptcy or fights eviction. Even when lenders repossess a home, the value of the mortgage isn’t written down until the house is sold.”

Key words: Delinquent, Delayed and phrase “until the house is sold”.

Home Sales
Which raises the question. How have home sales been going? Apparently, not so good. Although housing sales have been picking up – a double edge sword – we do have record inventory and the most gullible group of home owners who still believe that this housing “slump” will be long gone come 2008.

But let me ask you. Which homeowners are the ones really eager to sell, the second-home “investors” or the poor couple with no recorded income, who bought a house because everyone else was? I’m not sure but it would seem that it’s the latter.

I have two reasons. For one, Speculators aren’t that stupid. They are the ones who get out as soon as they realize they’ve been had. They know how to get themselves out of the mess that the investors didn’t get into in the first place. Joe Sixpack on the other hand is the one who gets fried. He is the one who ends up mopping up the mess the speculating public left behind – and at a hefty price.

Secondly, besides for trying to make some money Joe Sixpack also needs a place to sleep. Thus, he is far more reluctant to sell than the well-to-do speculator across the street (all pun intended).

Mortgage Bonds
And when will the bondolders really get had?

“Bondholders see a loss only if the price of a house is lower than the loan used as collateral for debt securities.”

In other words, mortgage bonds are directly related to housing prices. When these houses fall, and along with them the collateral used to buy them, the whole house of cards comes crashing down (all pun intended once more).

“What they don’t understand about the rating process is that we don’t change our ratings on speculation about what’s going to happen.”

In otherwords what we have been telling you for ages – by time Wall Street tells you something you should know, its usually too late. For the record, S&P and Moody’s maintained their investment-grade ranking on Enron Corp until days before the Houston-based energy trader filed for bankruptcy.

Oh and if all this hasn’t freaked you out enough to realize that financial assets are in a rut, “National median home sale price is poised for its first annual drop since the Great Depression” Ouch!

The Butterfly Effect
“So,” the simple investor will ask “what does all this have to do with, say, the stock market?”. Well my curious friend, I would answer, you are obviously not familiar with the dynamics of leverage. As debt strategists at Barclays Capital reported “The worry is that this will be large enough to trigger margin calls which, in turn, will cause other liquidations and so on.”

As they say out in the country: “When one falls they all falls”.

Advertisements

Tags: , , ,

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s


%d bloggers like this: