ac,
The relationship to market cap obviously varies with the stock price. Carrying costs will include interest, taxes, insurance, maintenance and continual sales efforts... all on a product that when finally sold will produce a loss. Not pretty.

Spending May Take a Hit as U.S. Home Prices Decline

Consumer spending never goes down.

Notice that we have the same "check mark" pattern in the Dow that occurs on every day with negative economic data:

http://www.marketwatch.com/charts/big.chart?style=1036&size=1&type=256&uf=8192&time=1dy&freq=1mi&sid=&symb=US:INDU

Every day with negative economic data has resulted in a stock market rise. This is part of the reason that that the declines in the dollar match up almost exactly with the increases in the stock market:

http://bp2.blogger.com/_jX8rRb9TfOQ/RjEF_pE9V1I/AAAAAAAAABk/QlG3d0HaPb0/s1600-h/SP500vsUSDApril2007.PNG

At least the currency markets see through the ruse, but I doubt your average retail investor does.

ac wrote: "Looking at this I think you have to conclude that housing starts are ultimately going down further (once you stop crying)."

Well, I haven't stopped crying yet. There's a whole lot of misery contained in those numbers.

"Look at the previous all-time peaks on the chart. A peak in 1985---no recession. Prior to that there was a peak in about 1963---also no recession."

Uh, Sebastian, I am not sure you really want to be comparing this peak to those other peaks. It's like comparing Stone Mountain in GA to the Alps.

Not, btw, that I don't totally admire those of you who can write intelligently. My mouth is still hanging open. Based on some indicators (what seemed to me like indicators) of recovery in the NE, etc, I had expected the number to go down a bit instead of going up.

Housing is sort of the ultimate in non tradeable goods, so the strength of the non-US economy will do little to help out there. That said, housing will be less of a drag on GDP growth in the second half than it has been in the past few quarters. Still a drag and still declining, but the angle of decent is likely to become shallower. There are other headwinds out there, such as higher gas prices (we will almost certianly see $3.50 this summer, higher than that if the refining industry cant get its act together pronto). However, the economy should get a boost and be pulled along by the rest of the world's strength. In particular this will help keep corporate profits relatively strong. I think we avoid a recession, but have several quarters of this sort of anemic growth. I do see more risk to the downside in this forecast than to the upside.

Looking at this I think you have to conclude that housing starts are ultimately going down further (once you stop crying).

Sadly, yes.

I've yet to hear of a rental market that isn't weak. The quantity of 2nd homes, investment or not, has opened up seasonal and annual potential rentals to a level never seen before.

To justify salaries, companies are going to have to get more efficient and fast. Sadly, that always means a head count reduction.

I do wonder what the border flow trend currently is... I believe it is still northward, but it must be slowing dramatically. The problem is that there is always so much seasonal travel (visit mom, etc.) that its hard to distinguish in the noise.

I also wonder how CFC can hold so much inventory. That many non-performing loans is going to hit their going forward lending ability. Recall, like all FDIC insured banks, they work on an asset multiplication principle where they can always end up loaning some multiple of their base assets.

Do I think they'll fail soon? No. By start of 2009? Yes. They're in a vicious cycle.

Again, no buyers I know of are even interested in talking real estate. Its almost like they've given up. Yes, people are buying... but not in numbers sufficient enough to prop up current prices. I wonder how much of this is due to the inability to qualify for large loans?

Got popcorn?
Neil

But, why bother with the facts. Economists are amazing – Ignore the facts and hang on to the prediction, or the estimate, that belies the facts.

I've been reading this site for over a year, and I think CR provides some of the most sensible and relevant economic data and analysis out there. If he has a positive disposition, I think that only makes his bearish predictions more credible.

I'm all for beating up on shill analysts and economists, but I don't think CR is one of them.

"hat said, housing will be less of a drag on GDP growth in the second half than it has been in the past few quarters. Still a drag and still declining, but the angle of decent is likely to become shallower."

Dirk,
I just don't get your reasoning here. It is not the slope of the curve that matters, it is the y-axis value. Low numbers are a greater drag than high numbers that are declining.

barely said: "The last straw is employment. If that number weakens all the ingredients are in place for contraction..."

As one of the most-bullish posters here, I'll say this: If there was even one monthly non-farm payrolls report that showed extremely poor job-creation I'd seriously re-evaluate my position.

Until that time, however, the bears are jumping at shadows.

Sebastia

Sebastian,

Fair enough. see you in 2-3 months.

Resets are another underweighted consideration IMO. People didn't qualify for a house and then accept the lower inital payment option so they could free up cash flow for furniture and repairs. No, they took the lowest monthly payment option on the most debt they could get. The idea was to leverage appreciation and also assumed continued loose credit and rising incomes.

How does this relate to my previous comment? Well it means not only are there too many houses, the houses we have are too big/expensive. This has two consequences. First it screws comps and thus hurts people who didn't participate but were unfortunate enough to live or own similarly. Second, the next wave of rebuilding will be much more modest thus reducing the positive impacts when construction resumes.

It hath been told....the future is Goldilocks-tionary.

Greenspan sees big risk of sub-prime woes spreading

BOCA RATON, Florida (Reuters) - Former Federal Reserve Chairman Alan Greenspan said on Thursday there was a risk that rising defaults in subprime mortgage markets could spill over into other economic sectors.

Speaking to the Futures Industry Association, Greenspan conceded it was "hard to find any such evidence" about spillover from stressed mortgages yet, but added: "You can't take 10 percent out of mortgage originations without some impact."

Greenspan said the downturn in U.S. housing markets appeared to stem more from high housing prices than from a decline in mortgage quality but said he was not downplaying problems in so-called subprime loans.

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He said that subprime woes were "not a small issue" and seemed to result primarily from buyers coming into lofty housing markets late after big price run-ups that had left them vulnerable to hikes in adjustable mortgage rates.

Default rates in the subprime segment of the U.S. mortgage market have jumped in recent months as the housing industry slowed and prices fell.

At least 20 lenders in the subprime mortgage sector, which serves borrowers with poor credit histories at high interest rates, have gone out of business as a result.

The crisis has triggered broader concerns that the fallout may spread to mainstream lenders and damage the economy.

Greenspan Continued

Greenspan, whose words still move markets even though he gave up the Fed chairmanship more than a year ago, said that adjustable rate mortgages, or ARMs, have been moving up recently and that has made them a problem for homeowners who are stressed by higher monthly payments.

He also noted the problem would be quickly resolved if the housing sector regained its footing and prices moved up by 10 percent.

Meantime, though, Greenspan said much of the strength in consumer spending over the past five years can be traced to capital gains on surging housing prices, whether they were both realized or not.

That means that if home prices keep falling, there could be more of an impact on the broader economy's momentum, he indicated, since consumer spending fuels two-thirds of national economic activity.

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On other issues, Greenspan unleashed a broadside at what he termed "archaic" procedures for settling credit derivative swaps that have burgeoned in popularity.

"I was shocked to find the credit derivatives market, which was working superbly, ends up with the settlement and clearing done with 19th century technology," Greenspan told the futures conference.

"There's an insanity out there that I don't understand," he added. He called on the New York Federal Reserve Bank, which plays a crucial role in the U.S. central bank's financial settlements procedure, to get involved or "we would face a really dangerous problem."

I can understand the ability of CFC to weather the problem based on the relationship of the inventory to net worth but, again, what does that have to do with market capitalization?

404 - Page not found

The idea that there can be a housing bust not driven by high unemployment is the Mother of all "cart before the horse" arguments. I think that the asset bubble nature of the housing run-up can reasonably alter our experience in this housing decline. The hypothesis is that home ownership rate increased to an all time high based on people buying houses as investments rather than because they were well suited to being home-owners. This increase in home ownership rate occurred in spite of decreasing affordability and stagnant incomes. Exotic loans aided this process. Further, investment demand was high because people purchased houses in expectation of selling them for a profit (rather than renting them for income). These two factors drove demand to unprecedented levels. The expectation is that the popping of the asset side of the bubble and the related loan problems will lead to a decrease in the home ownership rate that will reduce demand. The inventory overhand will reduce demand. This reduced demand is expected to overwhelm increased demand due to household formation, increased affordability , and (finally) increasing incomes.

While it is a hypothesis, I do believe that it is at least as defensible as DOW 14,000.

Banker, you and I have an honest difference of opinion about how to run a financial institution. First, it's one hell of an admission to be carrying that much REO in the first place; second, it's an even bigger embarrassment to have to run to the credit markets, thereby proclaiming to the world that your reserves weren't nearly large enough to cover the losses.

I wouldn't want to enter the market on those terms. Market cap is ephemeral and can evaporate overnight. Relying on the credit markets to bail out a financial institution in this environment is, like I said, pretty thin ice.

I'm curious what positive factors you're seeing? Specifically, what sectors -- outside of REIC, government, and the consumer -- are supposed to lead us to your promised land?

Good question. Our high technology and entertainment industries have done well in recent decades. Can they keep it up? Will our increasing paranoia with regard to terrorism and immigration hurt?

if the dollar stays down, tourism will boom

That's true, but a lot of illegal immigrants are here on tourist visas. Also, if there is another terror attack here, or if our paranoia increases for some other reason, this could discourage tourism...

tj,

In case you missed it, we're not in recession, so I don't know why you're asking me what's going to lead us out of recession.

I have seen several news stories today where an 'expert' made statements along the lines of: we could move toward a recession if housing does not stabilize.

Now, there is a big difference between 'stabilize' and 'return to where it was when it was unsustainable'.

I wonder which term they really meant?

I fail to see the word recession anywhere in my question.

Umm...

The REIC, government and the consumer led us out of the last recession by contributing above their historical norms, but those are all out of gas.What other sectors are poised to contribute outsized gains to offset the declines elsewhere?

I don't know where to begin when you say things like the consumer is out of gas, especially given today's GDP report.

And if your whole argument is based on some sort of mean reversion expectation, wouldn't you have to say the same from sectors that are negative?

With the latest April news on retail and autos, the US is probably entering recession ... right now.

Banker,
Items keeping inflation in check has been both technological advances as you cited and also the effect of inexpensive imports from China and Indonesia.

"Normal" job & wage growth would be fine, provided everything else was also "normal". Given that the GDP growth is currently below what would "normally" considered healthy, something else is "abnormally" low. Therefore, higher than "normal" job & wage growth is necessary to compensate.

If you're expecting trend growth anytime soon, yes, but I'm not. I've said many times that I expect growth to be remain below trend this year.

"Sandy" and "Jamie" are studs?

mp, is it time to test the Purity Law again?

Steve,

I'm skeptical about the conventional wisdom regarding real wages. From John Mauldin's April 13 newsletter:

The Bureau of Labor Statistics does a monthly survey of employment, calling roughly 50,000 businesses to get an estimate of the number of jobs created or lost over the preceding month. It is an estimate. They have a statistic to account for jobs they miss in the survey called the birth/death rate, based upon past trends. If you are going to have to make an estimate of employment, it is as good a method as any.

They just released the data for the third quarter of 2006. It looks like actual job growth was 1.5%, somewhat lower than the estimates. But the real eye opener was that wages grew an anemic 0.9% on a year over year basis. Given that inflation was in the 2.5% range, this means household income did not keep up with inflation.

ac, I'm still crying too. Eventually I'll get my jaw wired shut or something.

"3,000,000 manufacturing jobs went since 2000"

This is the beginning of the end, Worried, not the end of the beginning.

"Firms are pursuing cost cutting by locating overseas and indeed are announcing that they will accelerate this."

They are accelerating. It's not a case of "will" accelerate.

"Joe 6pack is being marginalised"

Joe 6pack was marginalized when Reagan busted the air traffic controllers union and showed industry the way.

"Somewhere along the way it seems somebody had the bright idea of empowering Joe 6pack by giving him home ownership"

You may be thinking of FDR, God rest his soul, but he's dead.

"From my point of view the system needs a few adjustments"

Man, you're an optimist.

"Those adjustments are very very simple to make but it has to be done in an atmosphere of cooperation"

Not in this life.

Worried, believe me, I feel your pain and have been preaching about this since 1973. No one listened. No one. And no one will until no one has a decent job. It's called "globalization." My advice: take care of yourself because the ones you love are going to need your help.

All of this, by the way, comes from a former Goldwater Republican. End of rant. Good luck.

To Worried and mp:

Keep in mind that every dollar that goes out of the US to purchase an imported good or pay an offshore worker has to come back to the US some way -- if they don't buy something from us, then they have to loan it back to us.

In the case of the Asians, they have to loan it back to us, because they have manipulated their exchange rates such that almost nothing we make is price-competitive with their domestic sources. Some are afraid that someday they'll call in their loans, and we'll be screwed. But they can't, because they'd be even more screwed -- by subsidizing exports, they've induced their exporters to build up far more production capacity (both factories and people) than their domestic markets could ever absorb (especially with the unemployment that would result if they not only stopped lending us the money to buy their stuff, but even demanded we pay it back!).

Although people in US businesses that directly compete with the imports are unfairly injured by this, and in the long term a significant part of the benefit will be negated by the unnecessary disruptions involved, on the whole, the US loses less on this than the Asians, and probably comes out ahead overall.

Again, every dollar that goes out comes back, so income lost in manufacturing will be gained in some other part of the economy. And again, alas, this will be little comfort to someone in a small town where the manufacturers go out of business, and they can't move to jobs elsewhere because no one's going to move in to buy the house they'd need to sell. But somewhere else, another American is living better than they otherwise would have.

I'm not trying to say this situation is good, only that (overall) it's not as bad as you think.

jm, seems oblivious to something called the trade deficit or 'the savings glut in China'

Uhhh, calmo, I first set foot in Japan in 1971, lived there from 1974 thru 1980, read and speak the language fluently, and have been watching the trade deficit accumulate -- and vociferously criticizing the Japanese currency manipulation policies that produce it -- ever since. As I wrote above, currency manipulation subverts the mechanisms by which trade should lead to maximum overall well-being for all involved, and in particular injures people (like the small-town manufacturing people I wrote of) who in the absence of that manipulation would not be injured.

Because economic systems are so complex, it's impossible to quantify just how much any one person or small group has lost or gained from the effects of this, but we do know that the Asians have shipped us several trillion dollars worth of useful stuff and accepted in return dollars that can't buy anywhere near as much useful stuff (unless spent in another Asian country that will likewise just have to lend them back to us). That some Americans (CEOs, etc.) have benefited more than others does not mean that most others have lost. The biggest losers overall are Asian workers. China's dollar reserves -- loans to the US -- amount to nearly a thousand dollars per person, more than a year's income for many Chinese. Japan's per-person loans to the US are many times that -- a major reason why the Japanese standard of living is so much lower than ours.

... it is also creating the problem where loans produced in the US are passed to a foreign investor who has some benefit in overlooking the risks involved because the money he lends was never created by him in the first place but was only a tool to enable him to grow and modernise his own economy.

Note that as I mentioned above, part of the dollar recycling process is (taking China as the example) creation of sufficient yuan to buy the dollars from the exporters at the target exchange rate.

The reason that the government has to create the yuan to do this is that no private holder of yuan would pay 8 yuan for a US dollar, for the quintessentially fundamental reason that a dollar isn't worth 8 yuan. You just can't buy 8 yuan worth of anything for a dollar.

Thus the currency manipulation scam forces the Chinese government to expand its domestic money supply, and is giving them serious headaches as they try to suppress the price inflation this fuels. (I suspect the reason why this isn't such a serious problem for Japan at present is that there are so many offsetting deflationary factors at work - one of them being the presence of low-wage China next door.)

Worried,

... If i have no money and i go to a bank with a title deed for my house for which there is no mortgage then the bank creates via FRS most of the money i receive....

(I've seen some misinformation about this elsewhere on the net, so perhaps you've been misled on this point -- see this Fed reference for a reliable description.)

A bank can't just create money out of thin air -- although I discovered today (my curiosity about current reserve requirements piqued by your questions) that reserve requirements have for several years now been zero for all but checking account deposits, that still means only that a bank can lend out every dollar in time deposits it has on hand. To lend more, it has to borrow the money from some other source.

I dont agree with this for all cases. Money is only real or at full value when it represents something of value. If a fraudulent loan is created that has insufficient assett backing then that money created is not backed by value. Its effect therefore is entirely inflationary I would argue.

Hmmm. In the case of a non-fraudulent mortgage loan for an existing home, some part of the money paid for the house repays the existing mortgage, and the rest (which in bubble times may include a large profit) is available to the sellers to use as they please. In the case of a fraudulent mortgage, the situation is the same. All that differs is that the collateral backing the loan is inadequate, and there'll eventually be a loss equal to the amount of the fraud.

Presumably, if the bank had not lent the extra money (corresponding to the amount of fraud) on that mortgage, it would have lent it somewhere else, so I can't see how the fraud is inflationary. I would opine, rather, that in the long run the fraud -- and foolish-but-honest bubble overpricing -- are potentially deflationary, exactly because I agree that money backing fraudulent deals (and honest-but-foolish ones as well) is not real, and ultimately is going to wink out of existence when the fraud (or honest loss) is recognized.

Worried,

The point is that any one bank has to get a deposit* from someone before it can lend money, and it can't lend more than the amount of the deposits.

The fact that that money is multiplied some number of times as it is spent by the borrowers and then redeposited in other banks that then fund more loans does not mean that an individual bank can create money at will.

Since in fact the reserve requirement is now zero for time deposits (non-checking accounts), one could argue hypothetically that despite any one bank not being able to lend more than the amount of its deposits, the fractional reserve mechanism could allow the banking system in aggregate to create an infinite supply of money. That that doesn't happen is strong evidence that there are other limiting factors, and clearly it is due to the presence of those limiting factors that the Fed has reduced reserve requirements to zero on time deposits, and has chosen to regulate the money supply through other means. (In fact it doesn't directly target the money supply nowadays, it targets interest rates, which indirectly reflect both money supply and velocity.)

*Or a loan from the money market -- same thing -- your deposits are loans from you to the banks. The money market can't create money at will, either. It, too, is limited to lending only the amount of its deposits.