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Three Lingering Issues Draining the Punchbowl

Despite a very strong rally in all asset prices, there are a few news items that should be sending a shockwave through the system.  We all want to be optimistic and hope for sustained growth, but ignoring the negative only sets us up for disappointment later.

Foreclosure rates hit an all time high

RealtyTrac reported “Foreclosure filings — default notices, scheduled auctions and bank repossessions — were reported on more than 932,000 properties in the quarter. That means one in every 138 U.S. housing units received such a filing“.  As terrible as 1 in 138 homes sounds, the worst hit states are even scarier.  They reported that Nevada is experiencing a foreclosure rate of 1 in 33 homes.  I guess it is time to buy a vacation spot in Vegas.   The other perverse aspect of this foreclosure rate is that many are speculating that people who are not paying their mortgages are juicing up consumer spending.  By not having a mortgage payment, they have freed up cash to spend on other things.  The number floating around is $8B, which is a big number.  How does that make you feel?  That your neighbor who is being foreclosed upon, who you are going to pay for because ultimately taxpayers will get the brunt of it through fannie, freddie, and ginnie, has extract cash to spend on toys.

Regardless of the moral hazard, the importance is that housing prices will not increase anytime soon.  This means that losses must flow through the banks and the Government will continue to pass on losses to taxpayers through support for the agency programs.  Housing will not lead an economic recovery and the news today that housing starts has increased more than expected just means that more inventory is going to come into an already over-supplied market.

Europe is not Fixed

Despite enthusiasm over a lot of talk over relief for Greece, the problem has not been fixed at all and some markets know this.  The credit default swap levels on Greece are still at the highs and we will not see it subside until they get a definitive bailout.  If you do not want to take it from me, then take it from George Soros: “Euro, EU Will Collapse if Germany Doesn’t Make Concessions” … Billionaire financier George Soros thinks the euro and the European Union itself are at risk of breaking up.

I still have my short on the Euro.

Or take it from Mr. Market through CDS implied default probabilities

Debt has shifted from private to public hands

Governments around the world have supported banks, companies and consumers through many different mechanisms.  The overall effect has been to transfer debt from private companies and individuals to governments.  The debt (problem) has not gone away, it has just been transferred.  The stimulus and support has definitely propped up the markets, but the question truly is: are we just re-inflating.  By keeping interest rates artificially low, we are effectively inflating asset prices and possibly igniting further speculation into poor investments which just means that we are setting ourselves up for an even bigger crash.

The issue with this scenario is that we would be starting off from a much weaker position.  Many governments are saddled with debt and have terrible fiscal positions.  If we are merely re-inflating another bubble then governments would be powerless to “fix” the coming crash with further stimulus because they will not have access to debt at attractive levels.  In this doomsday scenario we could see the utter demise of our fiat currency system.

Again, you can take it from Soros instead:

“The success in bailing out the system on the previous occasion led to a superbubble, except that in 2008 we used the same methods,” he told a meeting hosted by The Economist at the City of London’s modern and impressive Haberdashers’ Hall.

Unless we learn the lessons, that markets are inherently unstable and that stability needs to the objective of public policy, we are facing a yet larger bubble.

“We have added to the leverage by replacing private credit with sovereign credit and increasing national debt by a significant amount.”

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Continuing the Discussion

  1. Web of the PIIGS’ Debt | SurlyTrader linked to this post on May 4, 2010

    […] As I have said, we need a very large bailout and then we can think about giving up the Eurozone. Share and Enjoy: […]



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