Dow Drops 504 points

[Pete]

An interesting chart.

http://stockcharts.com/charts/historical/djia1900.html

Kinda shows the long term view of things.

[nmap]

Originally Posted by Penn

nmap, Is it correct to assume that this article on the governments action, forestalls a world wide depression, caused by the bad bets in the mortgage markets? And is it also true, that the sub prime mortgage market that was created is linked to the Feds willingness to lend banks money without oversight on their balance sheets? If they are both true, is it correct to assume that by creating this new agency, the Government is, in essence, buying out the debt via a guarantee on the American economy and taxpayer?
If these assumptions’ are correct; how then are those who made their bets in this market held responsible. Secondly, would not the Government take possession of the assets as well as the debt? And would the debt be sold off, a la Milkins junk bonds, which create a new market? And the hard assets, would they be sold?
Or, are we, the American people, guaranteeing a bad portfolio with no hard assets and nothing to recover or sell?

http://www.bloomberg.com/apps/news?p...B.Y&refer=home

1) It may have prevented a depression; keep in mind what Team Sergeant said about a house of cards. That house rests on some key supports, one of which is relatively cheap and available credit. If people and banks hoard cash, because they are afraid they won't get their money back, then credit ceases to be available. Without credit, business activity declines a lot. If money is the blood flowing in our commerce system, the present halt in lending is like a heart attack. It's also worth noting that Bernanke is far more concerned about deflation than inflation. Declining housing prices, the recent decline in commodity prices, and reduced business activity cause some to think that the real threat is deflation - and, from the perspective of fighting deflation, the bailout is probably a good idea. Here is a link to a speech in 2002 by Chairman Bernanke SPEECH.

The problem is a bit more troubling than just bad bets in the mortgage market - rather, the entire mortgage market was structured so that those originating the mortgages could make a great many loans, including bad loans, with minimum risk to their own capital and with most of the risk transferred to others. After a mortgage broker with no risk exposure made the loans, the loans were sold and packaged as securities few understood. Then, the underwriters (the ones who put the packages together) got bond ratings based on what the creators of those packages told the rating agencies - with NO independent analysis by the rating agencies. Brokers then sold them to investors who trusted the rating agencies. Notice that no one with direct contact with the borrower has any chance to evaluate that borrower. In fact, those who do the transactions make money no matter what the borrower does. The problem is not bad loans, it was (and is) a bad design.

The present system takes the risk away from the banks or other mortgage lenders and transfers part to the borrowers (home buyers) in the form of adjustable rate loans. It also seeks to transfer risk to people who buy packages of loans. Notice that the loan originators have zero risk - and hence, no incentive to be cautious. As long as they can find a borrower (no matter how dubious) and a buyer for the loans, they make money. In essence, the core of the problem is a group of smart people who were either too optimistic, or who bent the truth to their own ends. I suspect it was a little of both.

2) On the second assumption - Fed willingness to lend - it is my understanding that problems with the mortgage loans came first. The rapid escalation in housing prices - far above the level implied by wage rates - was ringing alarm bells some time ago. A fairly obscure paper from 2004 ( HERE ) discusses implementation of a variety of emergency policies, including what we are seeing today. It became (again, according to my understanding) a hot topic in Fed circles along about 2006. The problem is that we had a high-tech stock bubble, which crashed. Greenspan then encouraged a housing bubble to offset the effects of the failed stock bubble. Now we witness the consequences. What pulled the trigger on the housing crises? My (probably biased) suspicion is energy prices. People had trouble with gas prices, then fell behind on their mortgage payments, and the flaws in the system became manifest. That said, I strongly suspect the Fed knew there was a problem long before we did - they just did not want to deflate the bubble because the consequences were likely to be painful.

3) Third assumption - Yes, the U.S. taxpayer is about to make a big guarantee. This will involve a great deal of money; perhaps a big part of a trillion dollars.

4) Those responsible for creating, packaging, and selling these securities will never be held accountable. They have looted the economy - from the borrowers (who share some culpability), to the investment managers of pension funds and other entities that purchased the bonds. The victims include banks and other investors from Japan to Germany to the U.K., as well as in the U.S. Those who did the looting made millions and tens of millions. Were we sharing a cup of coffee, I would probably say some things about the justice they deserve. However - those who bought the securities, especially on behalf of pension funds - share some guilt. The buyer has a responsibility to do their homework. These buyers did not.

5) The debt is an asset. Those mortgages have some value. Perhaps it is only 22 cents on the dollar - as when Merrill Lynch liquidated some of the mortgage securities it held. Given time, the mortgages may have greater value. What if the government has to foreclose on a property? Then the government owns a property, such as a house. This all happened before, back in the late 1980's with the Resolution Trust Corporation. A certain very exclusive neighborhood and country club were owned and managed by the RTC for a time - as were a great many more modest properties.

6) The government could sell the debt, but probably will not. A mass sell-off would drive prices down to low levels, resulting in a greater loss to taxpayers. It would be wiser to hold the debt and, perhaps, repackage it or sell it off gradually. The hard assets, such as houses, will be sold over time.

We, the taxpayers, may come out of this with only (Only! I can't believe I wrote that) a hundred billion lost, and maybe less. We'll probably see some inflation. But our real problem is deeper and more insidious. The market imposes discipline through risk and loss. If an investor makes a poor decision, they lose money - and they avoid doing it again. However, if they make a poor decision and get a bailout, they learn that the risk is small, and the chance for profit is large. Therefore, they do it again. So - wait 15 to 20 years and you will see a repeat performance of the present situation. It will be more expensive and painful. At some point, it becomes too big to bailout, and then a true monetary failure occurs.

[nmap]

Originally Posted by ZonieDiver

Thanks for all your time.

And thank you, Sir, for the kind words.

I did teach computer science to undergraduates at a university in San Antonio for 12 years - perhaps I should change the description from "unremarkable" to "scruffy".

[Penn]

nmap, again, thank you so much for taking the time to help me understand this situation a bit more; it's difficult to grasp all the zero's involved, let alone the impact it is having on my small business. Our client base has always been the wall street crowd, we were less than 10% occupied M-Th this past week.
Hopefully, the bailout will stimulate the dinning scene...

[ZonieDiver]

This is purely anedcotal, but as I drove out of my neighborhood this morning at about 11 - a few hours after the President spoke - there were Realtors at TWO of the several bank-owned properties in my neighborhood. There has been NO activity at these houses for months!

[kgoerz]

Originally Posted by nmap

1) It may have prevented a depression; keep in mind what Team Sergeant said about a house of cards. That house rests on some key supports, one of which is relatively cheap and available credit. If people and banks hoard cash, because they are afraid they won't get their money back, then credit ceases to be available. Without credit, business activity declines a lot. If money is the blood flowing in our commerce system, the present halt in lending is like a heart attack. It's also worth noting that Bernanke is far more concerned about deflation than inflation. Declining housing prices, the recent decline in commodity prices, and reduced business activity cause some to think that the real threat is deflation - and, from the perspective of fighting deflation, the bailout is probably a good idea. Here is a link to a speech in 2002 by Chairman Bernanke SPEECH.

The problem is a bit more troubling than just bad bets in the mortgage market - rather, the entire mortgage market was structured so that those originating the mortgages could make a great many loans, including bad loans, with minimum risk to their own capital and with most of the risk transferred to others. After a mortgage broker with no risk exposure made the loans, the loans were sold and packaged as securities few understood. Then, the underwriters (the ones who put the packages together) got bond ratings based on what the creators of those packages told the rating agencies - with NO independent analysis by the rating agencies. Brokers then sold them to investors who trusted the rating agencies. Notice that no one with direct contact with the borrower has any chance to evaluate that borrower. In fact, those who do the transactions make money no matter what the borrower does. The problem is not bad loans, it was (and is) a bad design.

The present system takes the risk away from the banks or other mortgage lenders and transfers part to the borrowers (home buyers) in the form of adjustable rate loans. It also seeks to transfer risk to people who buy packages of loans. Notice that the loan originators have zero risk - and hence, no incentive to be cautious. As long as they can find a borrower (no matter how dubious) and a buyer for the loans, they make money. In essence, the core of the problem is a group of smart people who were either too optimistic, or who bent the truth to their own ends. I suspect it was a little of both.

2) On the second assumption - Fed willingness to lend - it is my understanding that problems with the mortgage loans came first. The rapid escalation in housing prices - far above the level implied by wage rates - was ringing alarm bells some time ago. A fairly obscure paper from 2004 ( HERE ) discusses implementation of a variety of emergency policies, including what we are seeing today. It became (again, according to my understanding) a hot topic in Fed circles along about 2006. The problem is that we had a high-tech stock bubble, which crashed. Greenspan then encouraged a housing bubble to offset the effects of the failed stock bubble. Now we witness the consequences. What pulled the trigger on the housing crises? My (probably biased) suspicion is energy prices. People had trouble with gas prices, then fell behind on their mortgage payments, and the flaws in the system became manifest. That said, I strongly suspect the Fed knew there was a problem long before we did - they just did not want to deflate the bubble because the consequences were likely to be painful.

3) Third assumption - Yes, the U.S. taxpayer is about to make a big guarantee. This will involve a great deal of money; perhaps a big part of a trillion dollars.

4) Those responsible for creating, packaging, and selling these securities will never be held accountable. They have looted the economy - from the borrowers (who share some culpability), to the investment managers of pension funds and other entities that purchased the bonds. The victims include banks and other investors from Japan to Germany to the U.K., as well as in the U.S. Those who did the looting made millions and tens of millions. Were we sharing a cup of coffee, I would probably say some things about the justice they deserve. However - those who bought the securities, especially on behalf of pension funds - share some guilt. The buyer has a responsibility to do their homework. These buyers did not.

5) The debt is an asset. Those mortgages have some value. Perhaps it is only 22 cents on the dollar - as when Merrill Lynch liquidated some of the mortgage securities it held. Given time, the mortgages may have greater value. What if the government has to foreclose on a property? Then the government owns a property, such as a house. This all happened before, back in the late 1980's with the Resolution Trust Corporation. A certain very exclusive neighborhood and country club were owned and managed by the RTC for a time - as were a great many more modest properties.

6) The government could sell the debt, but probably will not. A mass sell-off would drive prices down to low levels, resulting in a greater loss to taxpayers. It would be wiser to hold the debt and, perhaps, repackage it or sell it off gradually. The hard assets, such as houses, will be sold over time.

We, the taxpayers, may come out of this with only (Only! I can't believe I wrote that) a hundred billion lost, and maybe less. We'll probably see some inflation. But our real problem is deeper and more insidious. The market imposes discipline through risk and loss. If an investor makes a poor decision, they lose money - and they avoid doing it again. However, if they make a poor decision and get a bailout, they learn that the risk is small, and the chance for profit is large. Therefore, they do it again. So - wait 15 to 20 years and you will see a repeat performance of the present situation. It will be more expensive and painful. At some point, it becomes too big to bailout, and then a true monetary failure occurs.

So, basically if I'm greedy or an idiot. Ill be OK. If I'm responsible and don't over extend myself. I pay for people who do. What a sorry state we are in.

[afchic]

nmap what do you make of some republicans, to include McCain and Palin that think the bailout is the wrong way to go? I heard on the Neil Cavuto show today that there are quite a few republicans that are going to try and block the passage of this bailout plan.

I for one think the private companies should be held accountable, but with my limited knowledge of the intricacies of this type of thing, what happens if the bailout is blocked? What does that mean for the rest of us.

Another note, Pelosi is trying to get the POTUS to sign another $50B stimulus package. I don't know about you all, but I don't need another stimulus check at the cost of hurting the economy even more than it is right now.

[Jack Moroney (RIP)]

Originally Posted by afchic

I for one think the private companies should be held accountable.

I agree, this is not something that should be about regulation as much as it should be about accountability. This is a major step towards becoming a social society and folks need to understand that capitalizism has its ups and downs. This is a down side whose sole answer is not more regulation but more accountability. Let's see how creative some of the MBAs can be making license plates, breaking rocks, and rebuilding the country's infrastructure. Do you know what the term GAAP means? It is the field manual that financial management wizards go by and it stands for Generally Accepted Accounting Principles. Now that alone should make you wonder that if they operate by Generally Accepted Principles and not by something a little more concrete that there is an awful lot of leeway for creative financing-just a thought. I also get a chuckle out of the term "goodwill" in annual financial statements that pops up in many big companies reports. Essentially this is means that because they are thought to be just a bunch of folks who have a solid reputation that the value of their balance sheet is allowed be higher than the actual dollar value of their assets. Now I do not know about you but the last time I obtained a mortgage no one told me because I was tall, good looking, neat, articulate, and had a full head of hair that reflected goodwill I should be able to handle a loan greater than my ability to repay. I am with you, we need to see a whole lot of jail time and before someone redistributes what little "wealth" I have those who go to jail over this need to have the wealth that they amassed at the expense of those that followed the rules siezed and put back in the treasury to pay down the debt we have just increased by not holding folks accountable.

[afchic]

Originally Posted by Jack Moroney

I agree, this is not something that should be about regulation as much as it should be about accountability. This is a major step towards becoming a social society and folks need to understand that capitalizism has its ups and downs. This is a down side whose sole answer is not more regulation but more accountability. Let's see how creative some of the MBAs can be making license plates, breaking rocks, and rebuilding the country's infrastructure. Do you know what the term GAAP means? It is the field manual that financial management wizards go by and it stands for Generally Accepted Accounting Principles. Now that alone should make you wonder that if they operate by Generally Accepted Principles and not by something a little more concrete that there is an awful lot of leeway for creative financing-just a thought. I also get a chuckle out of the term "goodwill" in annual financial statements that pops up in many big companies reports. Essentially this is means that because they are thought to be just a bunch of folks who have a solid reputation that the value of their balance sheet is allowed be higher than the actual dollar value of their assets. Now I do not know about you but the last time I obtained a mortgage no one told me because I was tall, good looking, neat, articulate, and had a full head of hair that reflected goodwill I should be able to handle a loan greater than my ability to repay. I am with you, we need to see a whole lot of jail time and before someone redistributes what little "wealth" I have those who go to jail over this need to have the wealth that they amassed at the expense of those that followed the rules siezed and put back in the treasury to pay down the debt we have just increased by not holding folks accountable.

Sir, you hit the nail on the head. What really has my blood boiling is some of these azzhats are walking away with millions of dollars. I heard the guy from AIG is getting $68M, and the guy who worked at either freddie or fannie is walking away with $7M and he was only there for about three months. If the government would prevent these guys from obtaining their "golden parachutes" then would we need $1T to bail out the industry. I don't know about you but I think the $75M mentioned would go along way towards this problem, not to mention what all the other "leaders of industry" have walked away with.

I am truly glad McCain believes these guys should be held accountable and not be bailed out. And what is Obama's plan??? Oh I forgot, he doesn't have one and once again has essentially voted "present" instead of taking a tough stand that might anger some people, notably his rich friends, who are willing to pay $28K a plate for the luxury of having dinner with him. That is more than my son makes and he has spent the last 2 years of his life getting his butt shot at in Iraq. Makes me sick.

[greenberetTFS]

Originally Posted by Jack Moroney

I agree, this is not something that should be about regulation as much as it should be about accountability. This is a major step towards becoming a social society and folks need to understand that capitalizism has its ups and downs. This is a down side whose sole answer is not more regulation but more accountability. Let's see how creative some of the MBAs can be making license plates, breaking rocks, and rebuilding the country's infrastructure. Do you know what the term GAAP means? It is the field manual that financial management wizards go by and it stands for Generally Accepted Accounting Principles. Now that alone should make you wonder that if they operate by Generally Accepted Principles and not by something a little more concrete that there is an awful lot of leeway for creative financing-just a thought. I also get a chuckle out of the term "goodwill" in annual financial statements that pops up in many big companies reports. Essentially this is means that because they are thought to be just a bunch of folks who have a solid reputation that the value of their balance sheet is allowed be higher than the actual dollar value of their assets. Now I do not know about you but the last time I obtained a mortgage no one told me because I was tall, good looking, neat, articulate, and had a full head of hair that reflected goodwill I should be able to handle a loan greater than my ability to repay. I am with you, we need to see a whole lot of jail time and before someone redistributes what little "wealth" I have those who go to jail over this need to have the wealth that they amassed at the expense of those that followed the rules siezed and put back in the treasury to pay down the debt we have just increased by not holding folks accountable.

JM,

As usual your right on target.....

GB TFS

[nmap]

Originally Posted by afchic

nmap what do you make of some republicans, to include McCain and Palin that think the bailout is the wrong way to go? I heard on the Neil Cavuto show today that there are quite a few republicans that are going to try and block the passage of this bailout plan.

I for one think the private companies should be held accountable, but with my limited knowledge of the intricacies of this type of thing, what happens if the bailout is blocked? What does that mean for the rest of us.

I think there are some real issues about the free market, risk, and fundamental principles. There is a question about how much risk actually exists.

If the bailout is blocked, it seems likely that some banks will fail, and that the flow of credit to businesses and individuals will slow substantially. In addition, regulated companies, such as insurance companies, that include the troubled securities in their portfolios could fail. This implies less economic activity, both in the U.S. and globally. That can lead to business failures, increased levels of unemployment, and, perhaps, increased rates of default on mortgages and other debt instruments. In the process, more homes will be foreclosed on and more people evicted. This could result in further declines in the value of debt securities, stocks, houses, and so forth. Thus, we might see a cascading effect that could expose a great many people to a lot of discomfort. From a political perspective, this might not be a viable solution.

Could the situation be less serious than I've outlined? Of course. However, given the statements and actions by Secretary Paulson, Chairman Bernanke, and others, it seems that matters may be fairly serious.

McCain and Palin may think the consequences are overstated. Perhaps they think some financial distress now lets the market correct excesses without burdening the taxpayer. Or, they may think this bailout is merely the first step in a series of bailouts that will load the taxpayer excessively. There is also the issue of incremental socialism versus free markets. Inherent in the free market is "creative destruction". Existing allocations of resources, such as money and labor, are changed to better (more profitable) uses. By keeping inefficient organizations alive, we prevent the movement of resources to better, more productive organizations. Thus, the pain today leads to gain tomorrow. This vision of tomorrow contrasts with people losing their jobs, homes, and businesses today.

So - as a policy maker, what is best? At what point should there be interventions and bailouts? Add to this that no one really knows how matters will develop, so decisions are made based on ambiguous data. I do not see this as an easy decision for any leader.

Then we have the companies and accountability. Colonel Moroney makes the point that individual accountability needs to exist - not just corporate accountability. In the case of Fannie Mae, shareholders have been devastated. The same is true of Lehman, AIG, and others. Those responsible may lose their jobs, but little else. Without a doubt, some individuals should learn the finer points of license plate production.

Deep down, though, I think the real problem is implicit assumptions - the assumptions we make without thinking. We've all heard the idea that house prices always go up, and that they never go down. Now, consider - if that is true, then creating a mortgage with nothing down, and that the buyer cannot support, is NOT risky. The property may be foreclosed on and resold, the original mortgage will be paid off with the proceeds, and the securities based on the mortgage will remain viable. It gets worse. For awhile, houses were increasing in value rapidly. An unqualified borrower could borrow the entire sum, make a few payments, then get an additional loan on the appreciated value. The borrower had a bigger loan, but had the house, cash in their pocket, new cars, luxury vacations, and so forth. This is a classic case of expecting something for nothing. But notice - no one disputed the assumption that houses always go up. Greenspan did not. No politician or businessman stepped forward. No one argued against the accepted viewpoint. Thus, we come to grief. Can we blame unsophisticated borrowers for believing what so many repeated? Perhaps not. The more intelligent and better educated investment bankers should, perhaps, have known – but going against commonly held beliefs is never easy.

One might be tempted to ask what other implicit assumptions we depend on, and where they might be leading us. But that is something for another time.

[nmap]

The provisions of the bailout have been reported, and are available at: LINK

Of particular interest:

Sec. 6. Maximum Amount of Authorized Purchases.

The Secretarys authority to purchase mortgage-related assets under this Act shall be limited to $700,000,000,000 outstanding at any one time


This seems to imply no absolute limit. Thus, the entire $5 trillion dollar portfolio of Fannie Mae and Freddie Mac might be acquired in $700 Billion pieces.

Sec. 8. Review.

Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.


This seems to give a great deal of power to the Secretary.

Will this result in a decline in the dollar? Quite possibly. Will it increase the national debt? Sure.

However, in time, the Treasury might sell the securities at a profit.

(The Politico) How much will the Mother-Of-All-Bailouts cost U.S. taxpayers?

Here's a very quick sketch gleaned from the info available:

It could be $500 billion to $1 trillion, says Ala. Sen. Richard Shelby, among the most skeptical of the Congressional Republicans briefed last night by Fed chief Ben Bernanke and Treasury Secretary Hank Paulson.

That's roughly the price range of the Iraq War, which has cost taxpayers about $500 billion so far - plus $600 million in interest payments -- and another $280 million to replenish military equipment, according to estimates by economists earlier this year.

So much for President Bush's dream of eradicating the nearly $500 billion budget deficit by 2012.

But there's a possible platinum lining. The mortgage-backed securities likely to be bought by Treasury (which is likely to be the initial purchaser, according to reports) are not without value. They are just impossible to value by a panicky, pessimistic market. When (or if) the market stabilizes, prices might actually rise and the government could actually profit from the most innately valuable of the securities that are bought.

Of course, that could take years -- and the massive borrowing required to backstop the markets could spike inflation in the near or medium term, economists say.

Stay tuned.

LINK

Interesting times.

[nmap]

It seems that banks in the Middle East hold some of our bad paper, and will gain from the bailout.

LINK

Emaar Properties PJSC, the Middle East's biggest publicly traded real-estate company, had its biggest gain since listing in March 2000, data compiled by Bloomberg show. National Bank of Abu Dhabi PJSC rose the most in almost eight months and Zain gained after raising $4.49 billion through a capital increase.

``The Fed's bailout will write off bad debt which is great news and gives banks the opportunity to recover,'' said Haissam Arabi, a Dubai-based managing director of asset management at Shuaa Capital PSC who oversees $1.8 billion.

[Guy]

Originally Posted by afchic

Sir, you hit the nail on the head. What really has my blood boiling is some of these azzhats are walking away with millions of dollars. I heard the guy from AIG is getting $68M, and the guy who worked at either freddie or fannie is walking away with $7M and he was only there for about three months. If the government would prevent these guys from obtaining their "golden parachutes" then would we need $1T to bail out the industry. I don't know about you but I think the $75M mentioned would go along way towards this problem, not to mention what all the other "leaders of industry" have walked away with.

I'm pretty sure the execs from Freddie, Fannie and AIG will NOT be leaving with their "Golden Parachutes" (severance packages)...

On February 6, 1996, the Federal Deposit Insurance Corporation (FDIC) issued a final rule that restricted troubled banks, thrifts, and holding companies from making golden parachute payments. Exceptions to the rule are allowed for individuals who have qualified for pension and retirement plans. Other exceptions permit the FDIC to enforce the spirit of the law by allowing legitimate payments but stopping payments that might be considered abusive or improper. The rule also prevents FDIC-insured institutions from paying the legal expenses of employees who are the subject of related enforcement proceedings. The rule went into effect on April 1, 1996.

Stay safe.

[nmap]

It seems that the bailout is going to be modified. It will now be larger, and cover additional classes of debt.

The U.S. Treasury submitted revised guidance to Congress on its plan a day after first submitting it, as lawmakers and lobbyists push their own ideas. Officials now propose buying what they term troubled assets, without specifying the type, according to a document obtained by Bloomberg News and confirmed by a congressional aide.

The change suggests the inclusion of instruments such as car and student loans, credit-card debt and any other troubled asset. That may force an eventual increase in the size of the package as Democrats and Republicans in Congress negotiate the final legislation with the Bush administration, analysts said.

``The costs of the bailout will be significantly higher than originally considered or acknowledged,'' said Josh Rosner, an analyst with independent research firm Graham Fisher & Co. in New York. ``How, given these changes, can the administration and Federal Reserve believe they are being forthright in their unrevised expectation of future losses?''



LINK

Car debt? Student loans? Credit card debt?

I begin to wonder whether this is a joke, or some strange insanity that has gripped the nation's capital.