Subprime Crisis #2 Coming Soon

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

It constantly amazes me that the people running the government and reporters who cover the government seem incapable of doing arithmetic at the first grade level. This is usually all that is necessary to foresee a disastrous outcome in the future. This is certainly the case with the impending FHA (Federal Housing Administration) crisis which will be blowing up soon. The FHA insures mortgages that have less than a 20% down payment. It is currently insuring four times as many mortgages daily as it did in 2006 at the height of the last subprime crisis and has 5.4 million loans on its books. A prominent congresswomen recently stated, "without the FHA there would be no mortgage market" right now.

In congressional testimony the head of this government agency recently stated that the FHA's finances were sound. Oh really? The FHA claims to have $30 billion in cash reserves. How long will that last considering that there are $675 billion in loans on the books and 24% of the loans from 2007 are troubled and 20% of the 2008 loans are troubled so far (these numbers can rise). Those percentages could be worse in 2009 and after. If more than 4.4% of the loans insured by the FHA go bad, it could be out of money, assuming (probably foolishly) that the $30 billion they claim in cash is unencumbered. If not, the percentage could be much, much less than 4.4%.

How is it possible that there be even more problem loans on the FHA books from this year and in the future? Anecdotal reports from some areas of the country say that as much as 100% of recent housing purchases are insured by the FHA. All you need to get this insurance is apparently a 3.5% down payment. A spotty employment record doesn't disqualify you, nor does having filed for bankruptcy in the past. Even more eye popping, having a previous mortgage that went into foreclosure does not keep you from getting a new loan insured by the FHA! The FHA business model is roughly equivalent to a company offering $100,000 life insurance policies for $100 to hospital patients who are on life support. Yet, the head of the agency claims that their finances are in good shape.

The FHA is only one of many new bailouts coming. A number of state and local governments are falling deeper into the red. Tax receipts are coming it at even lower levels than anything previously thought possible (another mystery of the 'recovering' economy). Small and midsized banks are falling like dominoes because of their commercial loans going sour. The FDIC insurance fund is already insolvent and the government will have to step in to prop it up. The Credit Crisis is by no means over, we have simply finished phase one and are about to enter phase two. But don't worry, the U.S. government has a printing press and can print all the money necessary to solve these upcoming problems.

NEXT: Dollar Breaks Support ... Again

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Enron Accounting and GDP; FDIC's Money Shortage

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

Second quarter GDP revisions were out this morning and they were unchanged from the down 1.0% in the first reporting. The government claims that while some components of the GDP numbers declined, increases in other components offset the losses. Components revised upward included government spending (what a surprise). State and local government spending was supposedly up 3.6% (federal spending up 11%) even though over 30 state governments are now considered to be in serious financial trouble. In a separate report, the FDIC is once again about to run out of money because of the increasing rate of bank failures that are taking place even though Fed Chair Bernanke has told us repeatedly that the financial system has been fixed.

While the state and local government spending numbers are suspicious to say the least, far more suspicious is the corporate profits component of the GDP report. Before-tax corporate profits supposedly increased $67.6 billion or by 5.7% quarterly. This was the biggest increase in four years and even larger than the 5.3% gain in the first quarter. You may be wondering how can corporate profits increase by large amounts during the worst recession since the 1930s? Quite simply, they can't. Even worse, proof of the inaccuracy of these numbers is supported by the net cash flow figures in the GDP report. These fell by $26.9 billion. Companies that are actually making money generate cash. Those who are lying about making money don't. This is what happened with Enron. It claimed to have substantial profits, but its cash flow indicated that it didn't. While this smoking gun was right there is the published figures, Wall Street and the mainstream financial media talked up the stock almost to the day that the company declared bankruptcy.

Other components from the report indicate an economy that is in extremely bad shape. Amazingly, even though corporations are making those huge profits, business investment fell 10.9% after plunging at a record depression level 39.2% annual rate in the first quarter. Another impossible statistic in the report is disposable income for consumers. The GDP report claims this went up 3.8% despite the severe recession. However, according to the report the savings rate rose 5.0%, which means that this increased fantasy income wasn't flowing into the economy. Exports, which the Fed and economists have pointed to as one of the cornerstones of the 'resurgent' economy, fell 5%. Imports fell 15.1%. Collapsing trade is a sign of a sick economy. Even though we have heard repeatedly from the media and the Fed that the U.S. real estate market has bottomed, investments in housing fell for the 14th consecutive quarter, dropping at a 22.8% annual rate -that's some recovery all right.

Also contradicting the government's 'economy is getting better' PR blitz, is the continuing failures of U.S. banks. This problem hasn't been solved, it has merely been swept under the rug. The FDIC's deposit fund will be running out of money sometime later this year. It would have run out of money last year if it had to pay off for either the Washington Mutual or Wachovia failures. Both were handled outside the system with the U.S. Treasury making guarantees for the acquiring banks. So far 81 banks have failed this year and the number of banks on the FDIC's troubled list is now 416 (up from 305 at the end of the first quarter). This is the largest number since the Savings and Loan Crisis. Banks insured by the FDIC swung to a total quarterly loss of $3.7 billion in Q2. It looks like we can expect a lot more bank failures in the future.

NEXT: Commodities, the Dollar and More Government Fantasy

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21


This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Three Bank Monty - Monday's Global Bank Failures

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

The nationalization of the world's banking systems took a big step forward on Monday, with major bank failures happening in the U.S., England, and the European continent. In all cases, the respective governments are getting a piece of the action. While it is generally acknowledged that socializing anything will lead to inefficient operations, general dysfunctionality, and substandard practices, apparently the governments of a number of developed economies have decided that socialized banking is an important component of the solution to the current economic crisis. These are of course the same geniuses that created the government policies that allowed the current economic crisis to take place and then remained completely oblivious to them as they unfolded.

In the U.S., Wachovia now no longer exists. Only last week it was the fourth largest American bank. Over the weekend the FDIC 'facilitated' troubled financial giant Citigroup's purchase of Wachovia's banking operations. Wachovia's own demise can be traced back to its takeover of mortgage lender Golden West Financial in 2006. Citigroup is supposed to be absorbing $42 billion in Wachovia's losses, but this will not happen if the banking bailout plan passes because the bill states that the taxpayers pick up the tab in such circumstances. The FDIC is supposed to cover any remaining losses and in exchange for doing so will get $12 billion in preferred stock. Nevertheless, in a statement that seems to lack both truth and consistency, the FDIC said that the Wachovia bailout won't cost its deposit insurance fund anything. Even though Wachovia's stock fell to 91 cents in Monday's before the bell trading (under one dollar is the market's statement that a company is insolvent), the FDIC claimed the Wachovia did not fail. If you believe that, you are also likely to believe that a pile of manure is a mountain or roses. Wachovia is indeed the largest bank failure in U.S. history (at least for now).

While Wachovia was collapsing in the U.S., the Benelux countries (Belgium, Luxenbourg and the Netherlands) had to bailout Fortis NV with a $16.4 billion cash infusion. In return, the three governments will get a 49% stake in the bank. The demise of Fortis should be seen as a derivative implosion similar to that which brought down U.S. insurance giant AIG. Fortis has had to write down its credit default swaps (CDOs) by 78% so far and this essentially made it insolvent. As was the case for Wachovia, the downward spiral for Fortis was also caused by it taking over a financial company with a dicey lending book. Fortis was part of a three bank consortium that purchased ABN Ambro in October 2007 (long after the credit crisis was front page news). The lead bank in that consortium, Royal Bank of Scotland, is on New York Investing's likely to fail bank list and its stock was down 11% in early Monday trading.

England doesn't have to wait for a future bank failure however. The British government on Monday was forced to nationalize Bradford and Bingley, taking over its $91 billion mortgage operation. The Brits also paid Spain's Banc Santander $33 billion to 'facilitate' its purchase of Bradford and Bingley's savings business. Bradford and Bingley specialized in mortgages for rental properties and it was reported that there had been no income verification for at least 17% of its loans. This was the second bank nationalization in England, Northern Rock was the first, and followed the government arranged purchase of HBOS Plc by Lloyds TSB Group only nine days ago. It is quite obvious that it will not be the last either. Total mortgage lending in Great Britain has fallen 95% (yes 95%) in the previous month. A credit collapse of this magnitude makes the dislocations of the 1930s Great Depression pale in comparison.

NEXT: A Bridge Loan to Nowhere - The Wall Street Bailout Plan

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Probable Future Outlook for the United States

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Guest Blogger: Trevor Gauntlett from 'Running the Gauntlett'

What concerns me most is looking at the highly probable future outlook for the U.S. …

The government is taking over Freddie and Fannie, which will help out new, but not existing home buyers. By assuming responsibility for their debt, the gov’t is using inflation adjusted tax dollars to keep these companies operating . However, a $500 billion dollar short fall is projected this year in the budget and the U.S. national debt is already at about 9.7 trillion and growing ever so rapidly. If we tack on unfunded liabilities, we are talking anywhere from 50-70 trillion in obligations. Effectively the government is insolvent. Now what happens when government revenues begin to decline due to the slowing economy, baby boomers start to take money out of social security and access Medicare when they retire, and the continuation of the Iraq war / Afghan war / maybe Iran war?

I’m failing to see the light at the end of the tunnel.

During the housing boom, U.S. consumers purchased houses because money was cheap. Everyone felt rich so they purchased more consumables for immediate gratification. These weren't investments with productive value that would add to the economy in the future and they experienced immediate depreciation. Once U.S. consumers could no longer get money out of their homes through refinancings and HELOCs (home equity lines of credit), we started using our credit cards. Look at who is producing and who is consuming… we in the USA are primarily guilty of the latter and it is all funded through the rest of the world’s savings. At some point other countries are going to refuse to continue supporting the U.S. spending binge - this might already be taking place.

As for housing it will have to come back down to reasonable values. If we encounter a period of hyperinflation then housing could be a good asset to hold onto (although this was not the case during the hyperinflation in Wiemar Germany in the early 1920s). On the other hand, if we have a depression I could argue the opposite.

People are already losing their HELOCs because banks are worried that consumers won’t be able to afford them. Legal or not this is happening. I also heard from a Real Estate agent in Seattle that banks are asking for 25% down on new mortgages. In an earnings call in late January 2008, Bank of America executives said credit card delinquencies in California, Florida, Arizona, and Nevada—states with high foreclosure rates—increased five times as fast as in other states, suggesting that consumers struggling with their mortgage debt are also finding their credit card bills hard to pay. “We’re focused on getting paid for the risk we take,” said Joe Price, chief financial officer. - US News and World report 2/28/2008.

What happens if the United States dollar loses its status as the reserve currency? Then everyone with dollars will flood the market to get rid of them. The dollar is a commodity just like gold and silver, but unlike gold and silver any amount of it can easily be created. It has no intrinsic value and is a exchangeable commodity and legal tender because of government fiat (hence paper money is fiat money or fiat currency). If people want dollars, the price rises and as people desire them less, the price falls. Loss of reserve currency status would mean the demand for U.S. dollars would fall significantly. Why would anyone want dollars when you look at the future for the US economy except because of necessity or political reasons?

The GSE bailout will help to prolong the issues that the financial industry is facing. The United States government will do everything in its power to support the system through money creation and taxation, giving individuals and institutions more time to pull their money out of the dollar. An immediate collapse would make that very difficult and costly.

I’m getting the sense that things could get a whole lot worse than any of us imagine.

NEXT: The Banks and Brokers Most Likely to Fail - The Big Players

Daryl Montgomery

Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Exposing Fannie Mae and Freddie Mac - Origins

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.


Our video for this posting can be found at: http://www.youtube.com/watch?v=Ennn4Qq8MUY.

After the market close on September 4th, 2008, it was announced that the U.S. government would likely be taking over mortage giants Fannie Mae and Freddie Mac in what would be the biggest financial bailout in U.S. history. Congress had already passed a bailout bill a month earlier making this action possible. The New York Investing meetup had already predicted that the need for the bailout the previous fall. This topic was raised in the December 2007 meeting and in the April 2008 meeting, Fannie Mae and Freddie Mac were on our list of the dirtiest dozen financial companies.

The origins of Fannie and Freddie were innocent enough and didn't presage their ultimate blowup many years later. New Deal mortage progams actually started with the FHA, which was created in 1934 to insure mortgages that had less than a 20% down payment (most mortgages in the 1920s had much higher down payments). Fannie Mae was then established in 1938 to buy FHA mortgages, creating a secondary mortgage market. For the first 30 years of its existence Fannie Mae had limited impact on the U.S. housing market because it had acess to little credit and significant restrictions on the size and type of mortage it could back. All of that changed around 1970 however.

That year, the U.S. government ranamed the existing Fannie Mae, Ginnie Mae, and then created a new Fannie Mae that would be a quasi-govenment backed company that could purchase riskier mortgages (Fannie's charter allowed it buy even 100% mortages as long as the amount over 80% was insured). The reason for making Fannie Mae a publicly traded company was the government wanted to provide expanded mortgage services, but didn't want the debt on its own books. In tandem with Fannie Mae's creation, Freddie Mac was also created as a GSE (government supported enterprise). Its purpose was to package mortgages into bonds, known as mortgage backed securities (MBSs) and sell them to investors thereby recycling the capital available for mortages. Freddie didn't become a fully traded public company until 1989.

The scope and extent of Fannie's operations expanded greatly in the 1980s and 90s. In 1978, Fannie was allowed to back mortgages for multifamily dwellings. In 1981, it added adjustable rate mortgages to its operations and in 1983, even riskier second mortgages. At the same time, the maximum amount of a mortgage that Fannie could back was also rising going from
$108,300 in 1980 t0 $252,700 in 2000. After 2000, this amount increased at a much faster clip, reaching $417,000 in 2006 and $730,000 for awhile in 2008. By raising the mortgage caps repeatedly, the U.S government created a bubble feedback loop that made the U.S. housing bubble possible - housing prices went up; the amount of a mortgages that could be gotten by a homebuyer went up; housing prices went up again; and the amount of a available mortgage went up again and so on and so on.

Between 2001 and 2007 alone, the amount of mortgages backed by Fannie Mae went from 2.5 trillion to $5.0 trillion. U.S. housing prices approximately doubled as well during this same period. Most amazingly, all of this took place even though one of Fannie and Freddie's major purposes was to increase home ownership for the poor. Acting to constantly support higher and higher U.S. housing prices didn't seem to be a particularly efficacious approach to accomplishing this goal.

NEXT: Exposing Fannie Mae and Freddie Mac - Corruption

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

Run on the Bank 2008 - Indymac

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our video for this posting can be found at: http://www.youtube.com/watch?v=NqBhR1kkWHY.

Indymac was a large savings and loan that had split off from Countrywide, the largest mortgage provider in the United States, in 1997. Both were heavily involved in granting mortgages in the real estate bubble markets of the southwestern United States. Countrywide itself experienced a run on the bank in August 2007 in the earliest phase of the subprime crisis. Only an emergency cash infusion from Bank America, arranged by the Federal Reserve, kept it afloat. This was only a stopgap measure however and Bank America agreed to take over Countrywide in early 2008. This deal was also apparently secretly arranged by the Fed, although Bank America vehemently denied it despite the fact that it seemed to have the unusual term that Bank America wasn't responsible for Countrywide's debts (so who was?).

Although Indymac may not have been too big to fail like Countrywide, it was quite possible that the Fed would have arranged a bailout for it too, if it had had enough warning. Even though the chairman of the Senate banking committee had written a letter in late June to Indymac about its possible insolvency and the information in this letter inadvertently wound up in public hands, the FDIC seemed to be unaware of the precarious state of the bank. The FDIC is in charge of monitoring the health of the U.S. banking system and keeps a list of troubled banks. Indymac was not on that list at the time of its disastrous failure. This forced the FDIC to back peddle and claim that Indymac had really been on the list, but had only been put on it shortly 'before' its failure and that is why no one else seems to have known about it. This after the fact claim was inevitable since missing a bank failure that required the second biggest bailout in U.S. history would indicate that the FDIC hadn't the slightest idea of what was going on in the American banking system. .

The death blow to Indymac was a run on the bank which included long lines of suffering elderly and angry account holders who got so out of control that the police had to be called in. The similarities to bank runs in 1930s Depression U.S. were quite obvious. Banks failed then just as Indymac did in 2008 because they were insolvent. Contrary to popular belief, a run does not mean a bank will go under. U.S. banking history has numerous cases of banks surviving runs because their finances were in good shape. Insolvency is what destroys a bank, not the visible run that frequently gets the blame. Indymac management tried to take advantage of this mistaken belief to deflect blame for the banks failure by citing the letter from the chairman of the senate banking committee as the cause. Certainly they weren't going to say it was management incompetence that granted huge numbers of mortgages to people who were unlikely to ever pay them back that destroyed Indymac's finances..

One of the first things the FDIC did when it took over Indymac was stop foreclosures on its bad housing loans. Putting more of them on the books would make Indymac's finances look even worse. How this action was going to be paid for wasn't clear. It was already estimated that the Indymac failure would use up between 10% and 18% of the FDIC's $53 billion deposit insurance fund. One bigger bank failure, such as Wachovia or Washington Mutual, or a number of smaller ones, would wipe this fund out completely. Considering that financial rot permeated the U.S. banking system, nothing was more inevitable than the FDIC itself would require a future government bailout because of its own insolvency.

NEXT: Exposing Fannie Mae and Freddie Mac - Origins

Daryl Montgomery

Organizer, New York Investing meetup

http://investing.meetup.com/21

Muriel Siebert Discusses the Credit Crisis

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

At the January 9, 2008 meeting of the New York Investing meetup, I had the pleasure of interviewing stock market legend Muriel Siebert. In 1967, Siebert became the first woman to have a seat on the New York Stock Exchange. In the mid-1970s, she was appointed Superintendent of Banking for New York State. No bank failed under her tenure. In her more than 50-year career on Wall Street, Muriel Siebert had personally witnessed almost the entire post World War II financial era. She had seen it all and had done it all.

Highlights of the this historical interview with Muriel Siebert have been condensed to three eight minute videos, which can be seen at:
http://www.youtube.com/watch?v=UHxRCNd0HSI
http://www.youtube.com/watch?v=bZLsD2DHvLw
http://www.youtube.com/watch?v=_tL2bOmkMwo

In the interview, Siebert indicated that things had changed considerably since the 1970s, the last period of high U.S. inflation. The U.S. had lost its dominant economic status and emerging economies around the globe were not as dependent on it as that had been previously. She also pointed out how their growth was creating a voracious demand for commodities and the wealth transfer from rising commodity prices enabled the takeover of major U.S. financial institutions by commodity producing countries like the Gulf states. She was not sanguine about the prospects for the U.S. dollar, pointing out that the U.S. needed to cut the deficit considerably to support it and the consequences of doing so would be severe.

Siebert said the she had seen nothing like the subprime crisis during her long career on Wall Street. She thought the abuses had been so extreme and damaging that some people involved in creating the problem should go to jail. Siebert asked, "Where were the regulators?; "Where were the rating agencies?"; and cited mortgage brokers as being key players in generating the large quantity of irresponsible loans. The subprime crisis wasn't the only thing she thought we had to worry about either. She mentioned the collapse of private equity and how this had helped juice the market up and that its loss would cause the stock market to fall.

Siebert pointed out the similarity between how Enron hid its financial activities and the banks had done so in the 2000s by pushing their subprime activities off-shore and off-balance sheet. She stated that under Sarbanes-Oxley that audits should be complete by March 31st and a clearer picture of just how extensive the damage was would begin to emerge. Her opinion was that no one really knew how big the problem was. Siebert mentioned the large amount of derivatives that now exist and the complete lack of regulation for them. She thought the we need global security regulation that should be instituted on a similar model as global banking regulations that are now in place. Siebert thought that there was too much leverage in the system and said this was what really scared her, although she concluded that she didn't see a 'total' collapse of the financial system.

NEXT: Central Bankers Gone Wild

Daryl Montgomery

Organizer, New York Investing meetup

For more about us, please go to: http://investing.meetup.com/21

Economic Predictions for 2008

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

The December 12, 2007 meeting of the New York Investing meetup focused on the likely economic scenarios for the coming year. A video, entitled 'Economic Predictions for 2008' summing up these predictions can be found on You Tube at: http://www.youtube.com/watch?v=bZLsD2DHvLw.

The most important themes cited for 2008 were inflation and recession. Even though inflation is and has been under reported by the U.S. government since the 1980s, it was our opinion the even the manipulated numbers, let alone the real ones, would start to become noticeably higher. We predicted that as inflation was climbing, that the U.S. economy was likely to be gripped by recession (with negative job creation in each of the first 3 months of 2008, it now looks like the U.S. economy was in recession in the first quarter of the year). We also pointed out that it was unlikely the government would be reporting that we were in recession (the government GDP figures are unreliable, just like the inflation figures) until the recession was well under way or even over.

A widening out of the credit crisis with credit card debt, car loans and student loans being impacted was also mentioned in the talk (defaults in all of these loan types were rising significantly in the first quarter of 2008). A big drop in commercial real estate and a continuing weakness in residential real estate were also predicted (foreclosures continue to hit multi-year highs).

Special mention was made of the problems with bond insurers (monolines) and how their condition would continue to deteriorate, but the rating agencies might fail to lower their ratings appropriately because of political pressure (the official lowering of the ratings of these companies could lead to financial chaos). Bond insurer SCA's credit rating was lowered substantially in March 2008, but the rating agencies were still mostly maintaining ratings on the industry leaders MBIA and Ambac.

More bailouts of banks and broker-dealers with the assistance of the Fed was also predicted. The behind the scenes purchase of Country Wide Financial by Bank of America as the secret behest of the Federal Reserve (something denied by Bank of America) was given as an example. The Sovereign Wealth fund purchases of parts of major U.S. financial institutions, certainly with the knowledge and approval of the federal authorities, was also cited as a type of bailout that would continue to take place. Citibank in fact received just such a bailout (for the second time) in mid-January. Of course, the Bear Stearns bailout in mid-March was the most spectacular example of the of the accuracy of this prediction.

Finally it was predicted that the U.S. dollar would continue to drop and this would eventually lead to some form of currency intervention by the G7 countries (most likely late in the year, particularly after the election). Unless the Fed choices to raise rates substantially, this intervention will fail.

NEXT: The First Four Trading Days of 2008

Daryl Montgomery
Organinzer, New York Investing meetup

For more about us, please see our web site: http://investing.meetup.com/21.

The Fed's (long) Term Auction Facility

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

On November 28, 2007 the Federal Reserve started a massive year end injection of liquidity into the financial system. On December 11th, the Fed once again lowered the funds rate a quarter of a point (for a total of 100 basis point drop since the half point cut on September 18th). While neither of these events were extraordinary, what happened the next day was.

On December 12th, the Fed announced the creation of its Term Auction Facility . The TAF program was open to any bank or depository institution, which would be allowed to bid for one-month loans up to the total amount of funds being auctioned off. The winners had a wide-choice of what they could pledge as collateral, including mortgage-backed securities that could not be traded and had no market price. In exchange for their possibly worthless securities, banks and brokers could get cash from the Fed. This new program represented a sea change in Fed operations.

First, the Fed would be offering up sums of money in auctions to banks and depository institutions instead of having them come to the Fed to get a loan. Using the Fed's discount window was usually only done by institutions teetering on insolvency and was carefully avoided by any institution that wanted to preserve its reputation. The Fed finally found a way around this impediment to getting money to struggling banks by offering the money at auction, guaranteeing an injection of liquidity into the system at the amount auctioned off and removing the stigma for those who got the money.

The second major change the TAF introduced was that the Fed was willing to take even worthless paper as collateral for a loan. During its history the Fed usually only accepted treasuries as collateral. With the TAF, it effectively began engaging in subprime lending itself . By doing so, it was bailing out the banks that had foolishly engaged in this practice - and who might have become insolvent if they couldn't get rid of their subprime paper.

When the TAF was announced in December, the original auctions were for $20 billion each. By January 2008, this amount was raised to $30 billion. By March each auction was for $50 billion and two additional Fed lending facilities would be introduced (the TSAF and the PDCF) - breaking even newer ground for Fed operations.

Next: Economic Predictions for 2008

Daryl Montgomery
Organizer, New York Investing meetup

For more about us, please see our web site: http://investing.meetup.com/21

What Banks and Enron Had in Common

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

The Subprime Crisis began to take a serious toll on bank and broker earnings by the third quarter of 2007. Merrill Lynch led the pack with a $8.4 billion dollar write down. Citibank reduced its earnings by $5.9 billion, UBS by $3.4 billion, and JP Morgan by $3.1 billion. Deutsche Banks had $3.1 billion in write downs, but still amazingly managed to post a rise in earnings (one wonders who did their accounting). There was of course a lot of chatter from the talking heads in the media about whether or not these write downs were the final word in the impact of the Subprime Crisis on financial company earnings. Even the most casual knowledge of stock market history would have provided the answer - 'no they were not!' Whenever earnings in a group of stocks start to fall apart, the first write downs are never the last and usually aren't even the biggest for that matter. This was the pattern when the tech bubble burst only a few years earlier and yet many media commentators couldn't seem to remember even that far back.
Even without a knowledge of history, there was more than enough evidence to indicate that financial company write offs might get much bigger and go on for a long time. SIVs - structured investment vehicles - had already hit the news many weeks before November of 2007. These off-balance sheet items (think Enron) were so obscure that most people on Wall Street had never heard of them. Suddenly, there were an extra $400 billion of possibly bad debt that was not on the balance sheet of the banks, but would be winding up there eventually. Citibank alone had $100 billion in credit exposure to SIVs. This new wrinkle in the Subprime Crisis was viewed as so serious by the U.S. Treasury Secretary that he attempted to organize a bailout (how he had the authority to do so is unclear) by getting a number of large banks and brokers to create a pool that could buy up SIV assets and thereby support their prices. While much ballyhooed by the press, this effort went nowhere and was eventually abandoned by December.

While the Treasury Department's plans for SIVs fell through, the Federal Reserve created an alternative that could help out the big banks. It allowed them to borrow against their (highly questionable) assets, but this necessitated bringing the assets onto the books. In December, Citibank indeed brought $49 billion in SIV assets onto it balance sheet. It is presumed that the other $51 billion the Citi had originally in SIVs had disappeared because of reductions in value. Indeed, it was reported in December that the total value of SIVs was then only $298 billion (it was quite possible that even this was a significant overstatement of their actual worth). If Citi had lost approximate $50 billion in its SIV investments, it was not fully (if at all) reflected in write offs in its first quarter 2008 earnings report.

Although SIVs were considered a serious threat to the stability of the banking system, little did the public know in the fall of 2007, that they were not the sum total of all off-balance sheet items that the banks were holding. After all, why would a company have off-balance sheet items unless it wanted to hide what it was really doing? Since there purpose is secrecy, how does anyone know how many off-balance sheet items a company has, what assets they contain, and how much those assets are really worth? While it would be reasonable to assume that if there was one type of off-balance sheet item on a companies books, there could easily be others, there was little if any speculation on this matter by the financial media. Only in February of 2008 was it reported that SIVs were actually only one type of off-balance sheet items held by the banks - and the possible losses were much greater than had been previously imagined. The accountants who did Enron's book must have been envious.

Next: Mortgage Insurer Meltdown.

Daryl Montgomery
Organizer, New York Investing meetup

For more information about us, please see our web site: http://investing.meetup.com/21.

Subprime Housing Leads to Subprime Financial Institutions

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

The housing reports released in October 2007 which indicated the state of the market in September were even more dismal than those of the prior month. Nationally, foreclosures had doubled year over year and they had gone up as much as 500% to a 1000% in the worst hit bubble areas of the housing market. Existing Home Sales were down 23% nationally. Although also down substantially, New Home Sales were nevertheless reported as increasing (huh?).

The September 2007 New Home Sales report was a classic example of how the financial media frequently reports bad news as good and hopes people only read the headlines and not the fine print. The New Home Sales report originally indicated that there had been 795,000 houses sold in August. The report then indicated 770,000 houses sold in September. This drop of 25,000 was heralded by the media as a increase of 4.8%. This happened because the sales figures for August were revised downward to 735,000 (by almost 8%, an incredible error for a statistical report) and the September figure was above this number, so this indicated that sales were going up! The first thought of any rational person should of course have been, 'if the numbers for August were actually much lower, why shouldn't the ones for September be much lower as well?' Even a casual look inside the September report lent substantial support that this was indeed the case. Sales in the West, probably the worst hit housing area in the U.S., were supposedly up 38% - a completely absurd number and an indication that the September numbers were being overstated just as the August numbers had been.

Despite the complete devastation in housing sales., median house prices were reported up 2.5%. The statistical tricks that led to this impossible outcome were discussed previously in this blog in the posting, "Housing Market Collapses, but the Statistics Hold Up".

House sales were falling off a cliff because mortgage money was disappearing. By October 2007, 183 mortgage lenders had already closed their doors since the previous December. One that didn't was Countrywide, the largest mortgage lender in the United States and therefore presumably too big to fail. What kept Countrywide afloat was a $2 billion capital infusion in August from Bank of America. Barron's reported that there were rumors that this bailout had been secretly arranged by the U.S. federal government. If so, it would only be the first of many bailouts that the Feds would have to arrange to prop up failing American financial institutions. Shortly thereafter, one of the major British mortgage lenders, Northern Rock, experienced a run on the bank - the first in England since the 19th century. Northern Rock had been known for it 125% mortgages and when word got out that it needed an emergency loan from the Bank of England, depositors queued up for blocks desperate to get their money out. While the Bank of England directly provided capital to keep Northern Rock going, this approach would prove to be no more successful than the more circumspect American one. Both Countrywide and Northern Rock would barely survive into 2008.

Next: What Banks and Enron Had Common

Daryl Montgomery
Organizer, New York Investing meetup

For more about us, please go to: http://investing.meetup.com/21

Bubble, Bubble, Toil, and Trouble

The 'Helicopter Economics Guide Investing' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

The Subprime Crisis that began causing turmoil in the U.S. markets in July 2007 was merely a small part of a massive and pervasive credit bubble that reached into every nook and cranny of the U.S. financial system. A huge excess in credit had been extended and utilized everywhere and to almost everyone. Government, consumers, market players, and businesses had borrowed beyond the hilt to maintain a system that required an ever-increasing amount of credit to sustain itself. Subprime debt was merely the weakest link in this credit chain, so it broke first.

The origins of the subprime bubble can be traced back to events in the 1980s, Early in the decade the idea that less regulation of financial institutions was a good idea took hold. The Savings and Loan industry was deregulated and it turned into a monumental failure that wound up costing the U.S. taxpayer $200 billion because of the out of control corruption, theft, and financial incompetence that deregulation allowed to occur. Nevertheless, deregulation of the financial industry continued and regulation of financial instruments such as derivatives or new industry players, such as hedge funds did not take place because 'regulation was too costly'. Federal Reserve chair Alan Greenspan was generally opposed to regulation and not only did everything possible to prevent new regulations, but didn't utilize the Fed's existing powers to regulate during the years he controlled the Fed from 1987 to 2006.

Decreasing regulation was then combined with a huge increase in liquidity provided by the Federal Reserve. This process began during the 1987 stock market crash, which Alan Greenspan handled successfully with a sharp drop in interest rates and by pumping money into the financial system. This set the tone for the next 19 years of the Greenspan Fed. In order to bailout the U.S. banking system from the Savings and Loan Crisis, interest rates were lowered
too much and for too long in the early 1990s. This excess in liquidity in turn led to the stock market bubble later in the decade. When the tech-stock bubble collapsed, interest rates were eventually lowered to one percent and this inflated a real estate bubble - something that Greenspan continually denied existed.

The conditions that led to these bubbles were no different than the ones the created all bubbles throughout history. Declining yields combined with an excess of capital (both are created simultaneously by the Fed), lack of regulation which allows for widespread fraud and corruption, and a technical or financial innovation. In the case of the tech stock bubble, the Internet was the technical innovation and for the real estate bubble, it was packaging subprime loans into bonds which could be sold, transferring the risk to other parties and providing capital to make more loans. As more and more loans were made, the quality of those loans by necessity deteriorated.

Bubbles always have feedback mechanisms as well and once started they become almost impossible to stop until they burst. Once they burst however, an anti-bubble forms with the original feedback mechanism operating in reverse. This anti-bubble in itself becomes almost impossible to stop until it exhausts itself. The feedback mechanism is what allows prices in bubbles to go way beyond anything reasonable or even imaginable when they start and then to the drop on the downside to levels that are incredibly low.

Ben Bernanke was desperately trying to reflate the real estate centric bubble with his rates cuts in the fall of 2007. This was a hopeless task, since once a bubble begins collapsing it usually takes many, many years before it can be reflated. What does occur is another bubble gets created elsewhere in the financial system. The Bernanke bubble would turn out to be in inflation.

Next: China's Olympic Size Bubble

Daryl Montgomery
Organizer, New York Investing meetup

Please see our web site for more about us: http://investing.meetup.com/21

More Collateral Damage from the Fed's First Helicopter Drop

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

The impact of the Fed's September 18, 2007 rate cut was not limited to the panic sell off in the dollar and the incipient bubble in gold, silver, oil, and food commodities. The lower rates that were supposed to help the housing market didn't materialize. By the end of the month, mortgage rates were actually higher than they had been before the Fed's action. Instead of helping the beleaguered housing industry and homeowners , the Fed's rate cut was actually ineffective at best and did nothing to decrease costs for those struggling to deal with ballooning mortgage debt.
Of course, in reality it was the big banks and broker-dealers that were stuck with increasingly worthless securities backed by subprime loans that were the real target of the Fed's beneficence. It would prove to be too little too late however. By October, the first of a series of multi-billion dollar quarterly write offs would start - $5.5 billion for Merrill Lynch, $3.4 billion for UBS, $3.3 billion for Citibank, and $3.1 billion for Deutsche Bank. As bad as these write offs looked at the time, they were not nearly as bad as what was to come.

The Fed cuts also gave the Wall Street Pollyannas ammunition to game up the market, since Fed cuts were traditionally bullish for stocks. The financial media had wall to wall coverage of talking heads urging viewers to buy stocks now because they were at fantastic bargain prices (of course at a real bottom no one appearing in the media urges viewers to buy stocks). Any experienced trader looking at the market rally that ensued knew something was terribly wrong however. While the market had sold off in heavy volume in late July and the first half of August, it rallied on light volume and then hit new highs on even lighter volume. Trends on low volume are usually soon reversed and the September rally would prove to be no exception.

Next: The U.S. Government Goes from Lying with Statistics to Just Lying

Daryl Montgomery
Organizer, New York Investing meetup

For more about us, please see our web site: http://investing.meetup.com/21

Bernanke Shoots Down the Dollar; New York Investing Predicts Out of Control Inflation

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

After the Federal Reserves surprise discount rate cut on August 17, 2007, oil and wheat hit all time highs. The U.S. dollar hit an all time low against the euro. Even though these markets were screaming rising inflation to anyone who would listen, two Fed governors gave speeches emphasizing that "inflation is under control". One talking-head economist after another made appearances in the financial media supporting the Fed's reality denying view. Spokesmen for Wall Street's special interests and politicians of both political parties started to loudly demand a flood of easy money from the Fed to 'save the economy' (and more importantly, their own personal skins). The Fed gladly complied and lowered both the funds rate and the discount rate by 50 basis points on September 18th.

It was clear to the New York Investing meetup that the Fed had chosen to try to save the economy in the short-term, no matter what the cost to the U.S. dollar and no matter how much inflation resulted from their actions. At the meeting held the very evening of the rate cut, it was stated flatly that, "The Fed lowering interest rates will cause the U.S. dollar to drop further and inflation to get out of hand" and "Lower Fed rates mean higher gold and oil prices" going forward (see: http://investing.meetup.com/files). This was followed up by an impassioned plea to get out of the U.S. stock market, get out of the U.S. dollar, and get into gold and silver.

While the New York Investing meetup had little confidence in the Fed's ability to rescue the economy or hold up the stock market, it was convinced that the Fed's liquidity binge would be the death knell for the reserve currency status of the U.S. dollar (Please see our video about this, "Saving the Economy be Destroying the Dollar" at: http://www.youtube.com/watch?v=s9K1lSA9AHE). The long-term implications for inflation hedges such as gold, silver, oil and food commodities were obvious. Even though the Fed and many mainstream economists were worried about potential deflation from collapsing housing prices and the stalled bond market, New York Investing staked out a clear position that the falling dollar was highly inflationary (also denied by many mainstream economists) and that this was the important investment theme for well into the future.

Next: The Markets React to Helicopternomics and so does the New York Investing meetup

Daryl Montgomery
Organizer, New York Investing meetup

For more information about the New York Investing meetup, please go to: http://investing.meetup.com/21

Bernanke Gets in His Heliocopter and Does His First Money Drop on Wall Street

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

On August 17th 2007, one hour before stock futures expired, the Fed announced a surprise cut in the discount rate beginning a new cycle of easing. While allegedly meant to help the financial system, which was reeling from the fallout from the subprime crisis, the immediate purpose of the Fed's action was to prop up a teetering U.S. stock market (it was not clear that even at this
point Bernanke and the FOMC realized how serious the subprime contagion was). There had been a mini-crash in Japan the night before and stock futures were pointing to a large drop in the U.S. markets.

The Fed's announcement of it's discount rate cut had the desired impact. Stocks futures on the Dow rallied multi-hundreds of points by the opening, wiping out the profits of the shorts and transferring that money to the sellers of the future's contracts (could this huge transfer of wealth have been a gift from Bernanke to the broker-dealers?). If the Fed had waited one hour for its announcement, there of course would have been no difference in the impact of the discount cut on the economy, but the impact on markets would have been considerably different. The message to market participants was quite clear, from now on the Fed will be trading against the shorts and its actions can wipe you out whenever we chose to do so. By February 2008, the New York Investing meetup would document approximately a dozen times when the Fed engaged in similar extralegal activity in the U.S. stock markets ( put on video , which can be found at: http://www.youtube.com/watch?v=Sobq7wCXjUw). This of course leads to the obvious question, "When a powerful government agency like the Federal Reserve acts outside the law, who is going to stop it?" Based on recent history, apparently no one.

The U.S. Federal Reserve under Bernanke was not the first central bank to try to manipulate the stock market, nor was Bernanke the first Fed chair to engage in this behavior. Greenspan himself was not above using Fed policy to drive the markets up, but he would let the markets reach some clearing price first before stepping in. He would not try to use Fed policy to prevent the markets from selling off, the crude approach clearly being used by Bernanke, realizing how risky this this could be for the financial system. It was in fact, Greenspan's policy of doing away with Fed secrecy that opened the way for Federal Reserve manipulation of the U.S. stock market. Once the markets knew instantly what the Fed was doing, traders would adjust their actions just as quickly instead of over a longer period of time as people gradually figured out that the Fed had made a significant rate move as had been the case in the past.

Perhaps the most egregious example of stock market manipulation in the recent times was by the Japanese financial authorities in the late 1980s and early 1990s. While interference in the free operation of the stock market, was beneficial in the short-term, the consequences in the long-term proved disastrous. A buy and hold strategy in Japanese stocks would have earned an investor nothing from 1992 to 2007. A similar result in the U.S. stock markets from 2007 to 2222 would mean the huge population of Baby Boomers retiring in that time period and counting on stock market gains to fund their retirement would be in for a very rude awakening.

Perhaps, the ancient Greeks had it right after all, when those in power acted like the gods, a tragic ending was always inevitable.

Next: Bernanke Shoots the Dollar Down; New York Investing Predicts Out of Control Inflation

Daryl Montgomery
Organizer, New York Investing meetup

For more about the New York Investing meetup, please go to our web site: http://investing.meetup.com/21

The New York Investing meetup predicts the current bear market in Aug 2007

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

After having warned its members that the subprime crisis would soon start impacting the stock market in July 2007 (days before it actually happened), the New York Investing meetup followed this up in the August 8, 2007 meeting with a prediction of a crash or Bear Market. By January 23, 2008 both the Nasdaq and the Russell 2000 had fallen over 20% and were officially in Bear markets.

The August meeting emphasized that the Bull Market was over, that earnings wouldn't save the Market (a common claim by the financial media pundits at the time), the hardest hit sectors would be the bubble sectors of the Bull Market, real estate and financials, and short-covering rallies would be the key to profits on the long side in the future. It was even predicted that one or more broker-dealers would fail, with Bear Stearns name mentioned. The most important point made in the talk "Crash or Bear Market" (http://investing.meetup.com/21/files/) was that the Federal Reserve would not be able to save the stock market with its usual liquidity injections into the financial system. It was emphasized quite strongly that the U.S. dollar was in precarious shape and that any attempt to save the U.S. stock market with rate cuts would ultimately fail because of the damage it caused to the dollar. Future events would more than bear out this prediction.

Next: Bernanke Get in His Helicopter and Does His First Money Drop on Wall Street

Daryl Montgomery

For more information about the New York Investing meetup, please see: http://investing.meetup.com/21

The New York Investing meetup predicts the subprime disaster in July 2007

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.


While Federal Reserve chairman Ben Bernanke was making repeated announcements that the subprime problem was contained and wouldn't have far reaching effects, the New York Investing meetup had other thoughts.

In his now famous June 5, 2007 speech to the International Monetary Conference, Bernanke stated, "... at this point, the troubles in the subprime sector seem unlikely to seriously spill over to the broader economy or financial system." The New York Investing meetup, which doesn't automatically accept any pronouncements from Washington or Wall Street, quickly came to
the opposite conclusion. Cyberspace was filling up with stories of rapidly rising foreclosures, dropping housing prices, faltering hedge funds, and problems in the debt market. In the July 11, 2007 meeting, the New York Investing meetup warned its membership that the subprime crisis was about to explode and would cause serious damage to the stock market. In less than two weeks, the accuracy of the New York Investing meetup's take on the subprime crises was vindicated. The stock market would fall until mid-August.

Daryl Montgomery

Next: The New York Investing meetup predicts a crash of bear market in August 2007

For more information about the New York Investing meetup, please go to:
http://investing.meetup.com/21