Hampton Georgia (Pop. 5,300) Attacked by FDIC, FHA, Fannie and Freddie

The FDIC held a big auction this week of properties they own outside of Atlanta Ga. JP King conducted the auction. The FDIC put up 187 properties for sale. The results have not been released yet. I suspect that it might be an interesting story when the numbers do come out. I reviewed some of the available information and came up with some observations.

-Of the 187 properties listed by the FDIC 18 were located in Hampton, Ga. Zip 30228.

-FHA (Federal Housing Administration/HUD) is currently listing 32 properties in zip 30228.

-Freddie Mac has only 2 listings in 30228.

-Fannie Mae has 25 properties for sale in 30228.

-The total number of homes that the government has foreclosed and has for sale in Hampton Ga. is 78.

-The FDIC is auctioning off the following home at 148 Makenna Drive; while at the same time FHA is trying to off-load the same model at 202 Makenna. Note that the FHA notice suggests a Sale Pending at $84,000. I will bet that the auction price for the FDIC is far less than the price FHA got for its house. Therefore the FHA deal is going to crater.



-It is fairly clear from this that one part of the government, FDIC, is killing the REO owned by other parts of the government. That is insane. No one appears to be looking at the Federal REO problem and attempting to make sense of it.

-The For Sale signs by the Feds are all over the poor town of Hampton, Ga. What does this do to the people who live there and own homes? For them Uncle Sam is driving down local RE prices. What are those folks going to do when the price of their home drops as a result of the liquidations by the Washington crowd? They are going to default on their mortgages too. We know that the biggest source of default in the current cycle is that borrowers are so far underwater they have no economic incentive to pay. So they don’t.

-Hampton Ga. is a troubled community. It was overbuilt with fast money. What is particularly troubling for me is that FHA has a 40% share of the government owned properties in this community. That is a very big number. At the time these bad loans were made the FHA had a 10% total US market share. Therefore the REO ownership is about 4X’s higher than one would expect. Possibly the FHA just got unlucky with it’s exposure to Hampton. But if one extrapolated from this it would be easy to conclude that FHA has a very troubled mortgage book.

HUD’s head Shaun Donovan has said that the FHA does not need a bailout. Their exposure in Hampton Ga. makes that a question mark.

.01% Or .1%? A Big Difference

We will probably know if H1N1 will be a hit or a miss in the next 90 days. The range of possible outcomes is enormous. In an average year we would suffer 35,000 deaths to flu. This comes to .01% of the population. There is no indication that this year will be any different. There are some worrisome issues however.

-Swine flu has its highest mortality rates in the 5-25 age range. This is asymmetric to other flu results. Typically the very young and very old segments of the population would be most affected

-H1N1 ravages the lungs of those severely affected. It is the cause of death.

The vast majority of those who will be acutely impacted will require a ventilator. Without it they will die. The question is, “Is there enough of these machines?” The answer to that is dependant on the number people who become ill. If that number is high, then we do not appear to have the respirators that may be necessary.

To my knowledge there is no national public numbers on this topic. In 2007 New York State provided some information and analysis on this issue. I will use that data to extrapolate some estimates. From the report:


*15% of the admitted patients with pandemic influenza will require intensive care,
*7.5% of the admitted patients with pandemic influenza will require ventilators,
*There are currently 6,100 ventilators in acute care settings in New York State,
*At any given time, 85% of the ventilators in acute care settings are in use, and
*70% of deaths related to pandemic influenza are projected to occur in a hospital.

NY State has a population of 20 million. Prorate the NYS information across the total population of 330mm and you get:

-The total number of respirators is 100k.
-The number of respirators that are available net of other needs is only 15,000.

In a ‘normal’ flu season 200,000 patients require hospitalization. Using the NYS number of 7.5% needing ventilation you get to that 15,000 number very quickly. In the event of a severe outbreak, triage of ventilators will be required. If one was concerned about the, End of Life Counseling debate the discussion on how to handle a shortage of ventilators will ring a bigger bell. The first group to go will be those that are being vented and have one of the following:

Severe congestive heart failure; acute renal failure; severe chronic lung disease; AIDS with a low CD4 count; active malignancy with a poor potential for survival; cirrhosis; hepatic failure; and irreversible neurologic impairment, including persistent vegetative state.

This seems to be an easy choice. It is likely that teenagers will be competing for the equipment. But the questions arise if that is not enough. Some thoughts on that by Dr.s’ Hick and O’Loghlin, * they propose:

“the Extubation of any patient “who might be stable, or even improving, but whose objective assessment indicates a worse prognosis than other patients who require the same resource.” Thus, patient A’s continued use of the ventilator appears to depend not only on the estimated survival probability of patient A, but also upon that of newly arriving patient B, whose better health status leads to the extubation and probable death of A, and the intubation of B (at least until C arrives).”

That ‘logic’ is going to cause trouble if it comes down to it.

From the NYS report:

“Patient consent, the mainstay of ordinary medical care, will not be the determining factor in allocating ventilators. Threatened and actual legal actions are reasonable concerns in response to any emergency rationing scheme.”

At the end of the day what we are really worried about are the lawyers.

Tax Credit For Housing Now D.O.A.? What's this Mean?

The $8,000 tax credit for first time homebuyers is turning into a disaster of major proportions. According to a WSJ (and other) report fraud has been rampant in this program. Some highlights:

-“The Treasury tax-oversight office said at least 19,000 filers who hadn't bought homes claimed $139 million in tax credits and were reimbursed.”

-“Treasury oversight officials said they have found an additional 74,000 tax-credit claims, valued at $500 million, where evidence of previous home ownership could make their claims invalid.”

-“More than 500 people under the age of 18, including a 4-year-old child, also had their names on applications for the credit, which has no minimum-age requirement.”

What does this mean? In all likelihood this means that the proposal to extend and expand the tax credit is D.O.A. A major sponsor of the bill that is up for a vote next week is Senator “Johnny” Isakson (R.GA). His comments on the fraud in the program:

Sen. Johnny Isakson (R., Ga.) said he is "cautiously optimistic" that an extension -- with procedural safeguards added -- can move in the Senate next week. "Just because someone used fraud [to claim the credit] doesn't mean the credit is a bad idea, it means there are some bad folks running around," he said.

Mr. Isakson does not get it. If the bill is passed it will double the size of this subsidy. It will also double the number of tax cheats who abuse the program. There is no way that this bill will pass given the cloud that has now been revealed.

I wrote about the Administrations plans to provide an alternative to the tax subsidy this past week. In that piece I said, “I am confused”. I am no longer confused. The Administration was no doubt aware of the tax fraud and failure of the existing subsidy. They knew that the story would break in the MSM this week. They desperately need a program to support housing, but they understood that the tax subsidy was not going to work. So they came up with Plan B, and implemented it in a short period of time.

The Administration plan uses the resources of the Treasury, Fannie, Freddie and FHA. If one is concerned about the fraud and losses that the taxpayers will incur in the existing program, wait until the results of the losses from the Administrations plans are revealed a year from now. They will be spectacular.

The following is a cut and paste of the program description. You tell me, does this make sense? Do you have any idea reading this who is doing what to whom? Keep in mind that this is all going to be managed by the same folks who failed miserably in the first place. The mortgage mess will cost us more than the wars in Iraq and Afghanistan before this is over. We can’t afford it.

The full description can be found in the 10/23 Freddie 8K.





NOTE: Assume: (A) the effort to extend/expand the housing tax credit dies as a result of the fraud and (B) The Administration plan to stimulate housing is all we will get. For me that means ‘Sayonara’ to the housing recovery. Without the tax credit sales will fall flat. Look at what happened post clunkers.

The Administration on the Agencies – Step One

On a day when Keefe,Bruyette & Woods (KBW) pronounced the inevitable death of Fannie and Freddie the Administration announces a new initiative that insures that Fannie and Freddie will be around for a long time to come. I’m confused to say the least.

The plan revealed today by Treasury, HUD and FHFA is to provide assistance for first time home buyers and existing borrowers who are unable to afford their current mortgage. Some observations:


-I have not seen a joint announcement like this before. I read this to be a first step toward consolidating the very separate roles and standings of FHFA and HUD. This effort to stimulate housing is very much a team effort.

-The initiative will be directed through HFAs’. These are State and Local housing and finance agencies. Heretofore these HFA have not had a significant percentage of the total mortgage pie. It would appear that this is another example of “outsourcing.”

-Mr. Geithner said of the plan, “..it will help stabilize the housing market overall.”
Mr. Donovan the head of HUD said, “it will help in getting our housing market back on track.”

The Administration is directing its effort at the lower end of the housing market. For political and economic reasons this is the only segment of the market they can influence. That makes it the only right choice. The Administration has introduced the “Trickle Up’ theory.

-Senator Isakson (R. Ga) has been a strong sponsor of legislation that would expand the existing tax cut for first time buyers. That legislation may be trumped by the decision announced today. That remains to be seen. But if it turns out that way, it will be a window into just how political the Agencies are.

-Both Fannie Mae and Freddie Mac will play a critical role in this effort. They are both going to be bankers for the HFAs’, “F/F will provide credit and liquidity facilities (to the HFAs)”. In addition, “the HFAs will issue mortgage bonds that Fannie and Freddie will bundle and Treasury will purchase them”. That’s right. Treasury will purchase the paper that comes from this. There are some restrictions but be assured this is going to happen as described. This is intergovernmental debt. It will not show up on a budget.

I thought it was interesting that F/F are going to be providing these services. It is a perfect role for them. But, it does make it a bit more difficult to declare them bankrupt and toast the stock as KBW suggests. This does not mean that the equity has value; it just means that the road to zero will be bumpy.

Targeted Mortgage Lending - Who Pays?

Edward DeMarco, the boss at FHFA made the following statement recently:

For many decades the federal government has sought to affect housing finance in ways that promoted the availability of credit for low-and moderate-income homeowners and renters. Under the current structure, the many subsidies granted the Enterprises were exchanged for various requirements, including housing goals, to ensure the Enterprises did not ignore these segments of the marketplace. Going forward, policymakers may consider alternative approaches to defining and targeting subsidies to achieve public policy objectives. For instance, subsidies intended to support the financing of affordable rental units or to assist first-time homebuyers could be more efficiently targeted through down payment assistance or other measures than by a general subsidy provided to all types of mortgage credit.

DeMarco has articulated something that I have not seen proposed before. It is important to analyze the implications of his words.

Administration after administration has used the Washington mortgage lenders as tools of social policy. The agency's respective charters confirm this. Part of their mission statements’ is to advance the nations housing objectives. This was a lovely marriage of interests for many years. It worked because RE value almost always went up. There weren’t significant losses until 2008 happened. Mixing high-octane credit with social objectives was a way of creating Federal off balance sheet financing. It was a contributor to the bubble in housing. We are paying a big price today for social policy choices that were made years ago.

Demarco has said that that policy has not worked and needs to be changed. That is a very significant acknowledgement of failure. That he goes on to propose that down payment assistance instead of 100% mortgage financing must be considered has potentially far reaching impacts.

For DeMarco to comment like this confirms that Fannie and Freddie have a lot of underwater mortgages that are tied to social housing goals. The question is, “How big is this problem?” There is no published information that breaks this out. A starting place for an estimate comes from a minor announcement from FHFA’s sister in law FHA. The announcement confirms that the “favored lending” status (Targeted Lending Initiative or ("TLI") for areas of Louisiana that were impacted by hurricane Katrina would be extended.

From that document comes the following graph. The FHA proudly points out that it has made 900,000 loans totaling $111 billion dollars that fall under their definition of a social objective mortgage. That comes to 15% of their total book.


If one uses that percentage as a proxy for all or the $7.3 trillion of D.C. mortgages it implies that the social side of this is approximately $1.1 Trillion. If this level of social lending is to be sustained and DeMarco’s suggestion that down payment assistance should replace bad lending standards then is would require an on budget expense of $50 billion a year forever.

That is not in the cards. Not by a long shot. The days where ‘social mortgages’ are made without equity are coming to an end. At some point in the future if you want a D.C. mortgage, you will have to put up 20% of the purchase price. You will have to get that from savings, friends or family. You might even get it from your Uncle Sam if you’re lucky, but don't count on it.

The long-term implications of this on the housing market will be significant. More important will be the social implications. We are not going to pay for the next Katrina with low-interest, no money down mortgages. We will have to pay up front.

It is good that DeMarco put this in front of the Senators. Now that it is out it will be difficult to withdraw. Something will have to change. The lending Agencies have been geese laying golden eggs for years. Then they morphed into a Black Swan. We are going to wish we had those geese back.

BofA/BONY Versus AIG – No Winners

It would appear that an important court case may go in favor of BofA and Bank of NY in a suit brought by AIG’s wholly owned subsidiary United Guaranty Mortgage Indemnity Co. If that is the final outcome it will set a dangerous precedent for the Mortgage Insurance industry. It could destroy what is left of an already broken part of the mortgage market.

This fight is headed for a conclusion in the next few weeks. I think the MI industry has been a significant part of the collapse of the mortgage market, housing market and therefore the US economy. But, in this case I have to side with the MI industry. I have some insight on this that is apparently not in the court’s hands at this time. If and when this information becomes public it could change the outcome of this important case. Some background:

In March of 2009 United Guaranty (UG) sued Countrywide Financial (“CWF”) (BofA now owns CWF). The lawsuit accused CWF of misrepresenting underwriting standards on loans UG insured. Specifically, UG claimed that most mortgages covered by policies for asset-backed securities were either underwritten in violation of Countrywide’s own guidelines or contained defects, such as missing documents, misrepresented credit scores or false social security numbers. The mortgages in question were bundled into junk MBS. The Agent for these securities was Bank of NY. Investors who lost money are suing BONY/CWF-BofA. UG insured the mortgages and is now trying to walk on that promise.

A US District Court issued a ruling on 10/5/09 in favor CWF. While there is still some wiggle room it looks like UG is going to have to pay. If that is the case it will set a dangerous precedent.

Historically MI companies have paid claims in situations where there has been fraud committed by the borrower. However they do not pay claims where a loan officer, appraiser or real estate agent has committed the fraud. The critical issue is therefore who committed the fraud. If it is the borrower, then UG and the other MI companies are forced to pay. If the fraud is perpetrated by the lender (or their agents) UG can walk on its obligations.

The question that needs to be examined is how many of the defaulted mortgages in question were the result of fraud by the borrower or fraud by the lender. In this regard consider an (as of now) unrelated matter in Illinois. This concerns a Countrywide office in Chicago. That office under a program called Optimum originated approximately 1,000 loans. Substantial percentages of these loans have gone into default. An investigation has determined that 90% of the busted loans had the following ‘coincidences’:

-The same loan officer.
-Same RE agent.
-Same appraiser.

All of the loans had credit references from the same sources:

-A boot company.
-A linen shop.
-A restaurant.

The FBI is involved with this case. I will leave it to the reader to conclude if lender fraud was involved or not.

If the Court’s decision in California stands, the MI companies losses will explode. Their ability to survive this is already in doubt. Approximately 20% of the mortgages held by Fannie Mae and Freddie Mac are insured by the MI industry. Therefore the taxpayer will suffer the losses. If the California court reverses it’s decision (unlikely) then BofA and Bank of NY stand to lose. In this outcome the taxpayers will also suffer.

The President has proposed regulations that would protect consumers from predatory lending tactics. That is sorely needed. What is needed even more are some regulations that protect the taxpayers from footing the bill for everything that goes wrong. There is plenty of evidence that fraud has been committed by all involved. The lenders, the borrowers and Wall Street are all dirty. But it is our grandchildren that will get stuck with this bill.

FHFA's DeMarco Speaks - Ouch!

FHFA’s Acting Director Edward DeMarco provided written testimony to the Senate today. I would give his presentation a B+. There is little room for optimism in this story. Mr. DeMarco did not gloss that fact over. A few snips from that speech:

-From July 2007 through the first half of 2009—combined losses at Fannie Mae and Freddie Mac totaled $165 billion. In the first half of 2009, Fannie Mae and Freddie Mac together reported net losses of $47 billion.

-Since the establishment of the conservatorships, the combined losses at the two Enterprises depleted all their capital and required them to draw $96 billion. The combined support from the federal government exceeds $1 trillion.

-The short-term outlook for the Enterprises remains troubled and likely will require additional draws under the Senior Preferred Stock Purchase Agreements.

That’s funny; I thought things were going so well. From the WSJ 8/8/2009:


Some random comments on credit conditions:

-Among subprime adjustable-rate mortgages, nearly 40 percent are seriously delinquent.

We really ought to string someone up over this number. A 40% default rate is not bad judgment. It is a crime. It is what kicked us over the top.

-We remain concerned and recognize the risk associated with increasing numbers of seriously delinquent loans and higher forecasted foreclosures. In particular, we are concerned with the continued increase in serious delinquency rates, even among prime mortgages.

Read this to mean, “The next shoe to drop will be prime mortgages.” It was always perceived that prime mortgages were money good. They are not.

On the issue of REO (real estate owned from repo/default)

- Currently the Enterprises are managing a real estate owned (REO) inventory of almost 100,000 properties, a number expected to grow.

The government can’t sell this crap. If they did, it would just tank the RE market and cause more Prime defaults. Uncle Sam is going into the rental business big time. But that does not look too promising either. Some sobering thoughts on that market:

-As of mid- year 2009, rental vacancy rates hit their highest level since the U.S. Census Bureau began tracking vacancy rates in the 1950s.

That does not sound like a plus for CRE either.

There are obvious problems at the FHLB’s. Do these words trouble you?

-The most important financial development among the FHLBanks in 2009 is the deterioration of the PLS portfolios held by the FHLBanks.

How big a problem is this? Big. I smell bailout. The question that must be asked and answered is, “Why were the FHLBs buying private label mortgages? What were the rules on that? Someone made out big on the sale of those securities.

-Total retained earnings were $6 billion, but negative accumulated other comprehensive income (AOCI) exceeded retained earnings at the six FHLBanks with the greatest PLS exposure.

A good number of people were paid a fair amount of money to come up with the term AOCI. What would be a better description of "Negative Accumulated Other Comprehensive Income"? The word "loss"comes to mind.

You have to give DeMarco some credit for the following. The accountants may be lying but he is not:

-The decline in the carrying value reflects impairment charges of almost $8.2 billion, however, a change in accounting rules resulted in only $953 million charged against income.

On the issue of interest rate risk management at Fannie and Freddie DeMarco gives a ‘tell’.

-The Enterprises’ investments in mortgage assets expose them to market risk. Given the uncertainties in the marketplace, managing market risk continues to be a challenge.

There was a spike in interest rates earlier this year. At that time someone did very big amounts of ‘duration’ trades. I believed then that it was the Agencies puking it out at the bottom of the market. I think Demarco confirmed it. Look for big derivative losses in the third and fourth Q’s for both F/F.

On the complicated issue of mortgage insurance (PMI) comes this from DeMarco:

-The Enterprises will refinance those mortgages (ones in default) without requiring additional private mortgage insurance. If there already is mortgage insurance on the existing mortgage, that coverage will carry forward to the new mortgage.

This is a flat out subsidy for the PMI providers. When a loan goes into default and a loss is realized the insurance that is there should cover a significant portion of the loss. By rolling the loans the loss is avoided, and so is the necessity to pay up on the claim. This is keeping the PMI folks alive and well. One of the larger players in this space is AIG. We wouldn’t want to do anything that would hurt them would we?

The following warmed my heart. Finally someone is owing up to how we got into this mess:

-The markets relied upon an implicit government guarantee of Enterprise securities.

Who created and sold the lie that the US Government was behind $5.3 trillion in dodgy MBS paper? It was a few dozen politicians, folks at Treasury, the entire mortgage industry, most of Wall Street and everyone at Fannie and Freddie.

Finally, a confirmation from DeMarco that there is a plan coming. Of interest is that the timetable seems to have been accelerated. This was supposed to be a March 2010 issue. The Director suggests it may be here in time for Santa. I can’t wait.

-I know the Administration has committed to addressing (the GSE’s) in the coming months.

September - Another Stinker for SSTF

The Social Security Trust Fund ran another deficit in September. This time it was $4.13 billion. This is the third month in a row that the Fund has run a deficit. The July –September 2009 shortfall was $10.4 billion. This compares with a surplus for the same period in 08 of $6.8 billion and $12.0 billion in 2007.

The full year 2009 surplus is, as of 9/30, $85 billion. This compares with $128 billion and $132 billion in 2008 and 2007 respectively. So far this year we are running 40% below 2007.

I anticipate that October and November will also be deficit months. The total could be an additional $10 billion. December will be a surplus. Possibly $35 billion. If that pans out the surplus for the year will be $100-110 billion.

When everything else is in massive deficit why should we care about Social Security? After all, they are still running multi-billion dollar surpluses. The answer is that the rate and direction of these surpluses have significant implications for the Fund. This is going to dramatically foreshorten the day of reckoning when annual receipts are less than disbursements.

There is little hope of a turnaround. We have a surge of new beneficiaries that are driving up costs. Interest rates will remain low for a long time to come; this is a drag on the Funds earnings over time. But the most critical factor is employment. The Fund is suffering from the recession. They need more workers that contribute payroll taxes. The prevailing view from most economists is that unemployment will remain high for another year. There will be no significant job creation until 2011. That is too far off for the Fund. By then they will be running deficits, once that starts it is very difficult to turn around.

There are two significant implications to this. One is social, the other economic. They are interconnected.

-The only viable solution is significant cutbacks in benefits. There has to be a long lead-time for this process. There are many people who are approaching retirement on the assumption that they will receive specified benefits. We can’t let this process go to the 11th hour and then drop a bomb on 15 million retirees. It is not fair, and there will be hell to pay when it happens.

The end result will be that there will be less money and the age for benefits will be extended. The people who will be most effected deserve a few years of notice. We are getting near to the point where that might not be an option. A plan for SS needs to come on the table sooner versus later. The idea that, “SS comes after we fix health care,” is wrong. This is all a jumble of entitlements. Both of these problems are promises that simply can’t be paid for.

We will commit more riches to health care. That means the cupboard will be bare when SS sticks its hand out. About 20% of all our citizens will be 65+ when this happens in a few years. They are also 30% of the voters.

-Zero Hedge had a piece today that is relevant. There was a letter to investors from Kyle Bass of Haywood Advisors. The following is from the letter. The similarities of the US situation to Japan are striking. We are not far behind them on this time line. Between two and four years by my calculation.

"Interestingly, the Government Pension Fund ("GPIF") Japans public pension fund and historically the biggest individual net buyer of JGB's, said in June that it may become a net seller of securities this fiscal year (ending March 2010) in order to pay benefits."

The SSTF has wracked up surpluses totaling $2.5 trillion. They own the biggest chunk of America’s IOUs. They have funded the deficits in the past. Over the next ten years, when we most need them to buy more, they are going to turn into sellers.

Schumer and Cornyn - "We Agree on Tax Credit"

There was a love fest on ABC’s This Week. The odd couple was Senators Schumer (D.NY) and Cornyn (R.TX).

When Schumer says, ”We have to extend the housing tax credit” Cornyn says, “Chuck and I agree”.

Cornyn went on to make a plug for Senator Isakson’s (R.GA.) bill. This would expand the $8,000 tax credit to $15,000. I t would also make it available to all comers. The existing bill is only for first time buyers.

While Cornyn is talking, Chuck is shaking his head, Yes, yes, yes.



The clip is here. The discussion on the tax credit is at -9.55.

Read this to mean that it is certain that the existing subsidy will be extended. In my view these two making nice on TV means that a form of the Isakson bill is what we are going to get. This is a very significant development.

For the sake of discussion assume we do get a $15k credit. Assume also that the FHA makes available 90% mortgages at low rates (they are currently doing 96.5% LTV, so this is a conservative assumption). The question is how many will take advantage of this and what might be the consequences.

On September 17th the IRS came out with this headline:

First-Time Homebuyer Credit Provides Tax Benefits to 1.4 Million Families to Date, More Claims Expected

There is a backlog on these deals today. It is reasonable to assume that the $8,000 credit could result in 2mm homes being sold in just nine months. Based on this what is an estimate for the number of homes sold with the $15k incentive that is open to all? I think 4 million is a good number. Let’s use 3 million to be conservative.

The average price of a home is $200,000 (also conservative). Using all of these assumptions you get some very big results.

-This translates into a total sale value of $600 billion.

-The direct cost to the government would be $45 billion.

-The total equity required by the private sector net of the subsidy would be $15 billion. The equivalent of only 2.5% down.

-FHA would guaranty an addition $540 billion in new mortgages.


Based on the assumptions the following positives may occur:

-This would be a back door bailout of the GSE’s. It would give them an opportunity to off load some of their REO. It would also reduce costs of short sales that will come in the next year. This only lessens the loss however.

-The FHA would have an explosion of new activity. This premium income would dramatically increase their cash cushion. It would temporarily avoid a bailout of FHA. It would insure that the ultimate bailout costs will be much higher.

-The economic activity related to the sale of 3mm homes will contribute to GDP. For example; the RE commissions will be $30 billion, the mortgage brokers will get $6 billion, The lawyers will collect another $6b in closing costs. This is how America makes money. This class of beneficiaries just takes commission as part of the creation of debt. There is zero residual value to this. It is just pumping up current consumption.

-You have to assume it would benefit the big, publicly traded, homebuilders. How much clout does this group have? Plenty. Senator Isakson’s family owns one of the largest private RE brokerages in the country.

-This could be beneficial for holders of busted MBS. Additional demand for the underlying collateral will create better exit opportunities. While this does not make any of the old crap money good, some smart folks are going to make some dough off of this. It might even benefit the zombies. You can be sure the GS’s of Wall Street will make a buck. More clout.

There are some negatives:

-There is an on budget cost of $45 billion. A very big number. There will be some who appose it. But I think it will pass. Congress is looking for a new stimulus package. This is going to be a part of that. The ‘Bear Hug’ on TV today convinced me.

-In my example 97.5% or about $585 billion will be debt issuance by either Treasury or Ginnie Mae. This would increase the 2010 funding requirement by about 30%. No one cares about this issue. Bernanke still has $500b of Agency buy back power. If they want to do more, there is nothing stopping them.

-This program will have the same effect as the Clunkers program. While the window is open that stimulus is powerful. The existing housing tax credit has been very successful. It is reasonable to assume that a larger, broader program would also bring results.

But as with Clunkers, when the music stops demand stops as well. Given the magnitude of this potential bill the impacts would be very substantial when the program is ended. There will be a great sucking noise in the months that follow the end of this and the other ‘fixes’. We will not QE ourselves out of that one. The sucking noise will be heard around the world.

My guess is that the Isakson bill will come out of the Senate. Congressman Barney Frank (D.NY) has a big say in this. He would do anything that would help the Agencies. He enabled them. So this will come down to the WH.

-Geither and Goolsbee will say yes.

-Summers will carefully describe the pros and cons. He will lean toward a more modest proposal.

-Volker will say no to this.

-Bernanke will end up supporting it. (He doesn’t have a say)

-The political advisors will say, “pedal to the metal”.

Someone will say:

“Do a $12,000 cap deal. Sell the lower number as a measure of your fiscal conservatism. Low-ball the estimate of homes sold but leave the door open until 12/1/2010. The old $8k tax credit will be double over budget. Same with this credit. Worry about that later. This plugs some deep holes. It will look like progress is being made. The Dems will carry the mid terms in both Houses and you will have two years of grace.

This debt will be off of Treasuries balance sheet so no one will notice. Anyway, no one cares about that."

It’s a pretty compelling case. This is going to pass.

FHFA Makes a Big Bet

There were several releases from the Federal Housing Finance Agency (FHFA) this past week including:

-A speech by acting FHFA Acting Director Edward DeMarco.
-A report on the efforts by Fannie and Freddie regarding restructuring exiting mortgages.

First consider this from the restructuring report:

Trial loan modifications under HAMP more than tripled from June to August, from 66,200 to 202,200.

In addition, the Agencies restructured 58,000 outside of HAMP. The average loan is close to $200,000. That means that the GSE’s have restructured $52 billion in loans. $39 billion of that was in the three months ending in August. Their rate for September must have been close to $20 billion. The total is north of $70 billion. As a percentage of their total book this comes to 1.25%, or 5+% annually.

From the speech this slide:


On numerous occasions the FHFA has used this type of graph to demonstrate how well they are doing. They point to the relatively low default rate they are experiencing compared to the private sector and other government lenders. DeMarco said in his speech:

Fannie Mae and Freddie Mac have a combined 57 percent share of mortgages Outstanding, that accounts for only 25 percent of serious delinquencies.

The FHFA is blowing smoke at us. Their default rate looks good by comparison because they are not recognizing losses. They are just rolling them forward. They have done $70billion already and now that they have it figured out they will continue the process. How much of the 5% annualized rate should go on top of their stated numbers? Over time, more than half . The Agency default rate is understated in the report as a result.

Most of the restructured loans are from seriously delinquent borrowers. Those in payment default by 90 days. When these loans are restructured they go off of the Delinquent list. Therefore the more the Agencies restructure, the lower their delinquency rate looks. Mr. DeMarco said this about his ability to restructure dead mortgages:

With HARP, these barriers have been addressed. Fannie Mae and Freddie Mac today will refinance mortgages they currently hold, even up to a current loan-to-value of 125 percent.

The ‘barriers’ he is referring to are prudent lending standards. Recent data shows that one half of these loans will re-default.If real estate prices do not make a significant recovery, the very high re-default rate will continue.

Also from the speech this slide on the balance sheets of the Agencies:


The funded portfolio at the Agencies has been static. This is because there are limits on the size of the portfolio. These were mandated as a result of the conservatorship. But there are no limits on the amount of MBS that is guaranteed. They are using that loophole to maximum advantage. Who owns this guaranteed MBS? Increasing it is the Federal Reserve through their non-stop POMO buys. The Fed is mixing its QE monetary policy objectives with support for bad credits. Agency MBS is not money good at par unless Treasury funds the losses. Agency MBS is still not full faith and credit paper. With the absence of a full guaranty the Fed would normally have to haircut this paper. The Fed typically requires ‘two ways out’. (1) The promise to pay by the borrower and (2) the collateral that backs up that promise. As of today there is only one certain way out of this MBS. And that is not worth par.

The Fed's POMO buys have facilitated HAMP. That is well outside of traditional monetary policy.

Finally, from the speech, a comment by Mr. DeMarco:

There is an opportunity today to help many more homeowners strengthen their own balance sheets by taking advantage of the HARP program.

How can lending someone 125% of the value of their home improve a balance sheet? At best it improves cash flow for the borrower for a short period of time. This is at the expense of a larger principal obligation. Underwater borrowers are bad credits. Rolling over bad loans is a bet on the come. The FHFA is playing at the big casino on the hope of a RE recovery. It isn't an even money bet.

H2SO4 – LEI?

We use sulfuric acid in just about everything we consume. It is used in batteries, paint, fertilizer, ore processing, steel production and water treatment. It is a building block for a number of products like nylon, we pickle our food with it. By volume, it is the largest industrial chemical produced in the US.

There is no futures market that tracks this important commodity. This graph is of selling levels for bulk delivery at Gulf ports.


This is a boom and bust story. If you want evidence of how out of whack things got over the last year and a half this chart is a good place to look. Prices for sulfuric acid rose 700% in just 18 months. This was when oil was 180 and scrap steel was gold. Now it is 70% below the prices before the bubble. It has been a tough recession.

When the economy tanked the market value of this acid went with it. Prices through August 2009 have held their lows. It would appear that government economic intervention can impact GDP, but it does not seem to have much impact on demand in the industrial sector.

The Chicago PMI report caused a bit of a hiccup yesterday. The report showed a seasonally adjusted drop from 50 to 46.1. This lines up with the information on sulfuric. There is not much demand for ‘stuff’ that we use to make other ‘stuff’. This does not jive with the current notion that the economy is benefiting from a significant inventory correction.

Sulfuric acid looks like a high beta Nat Gas chart. Gas is a principal ingredient in production of this acid. So in this case gas is the dog and sulfuric is the tail that gets wagged around. But sulfuric is a very big tail and its demand (or lack thereof) may also cause the dog to shake a bit. For those who follow NG keeping an eye on sulfuric prices could be helpful.


There is another reason to follow this commodity price. One can be sure that the Fed watches it. This is one of many pipeline sources of inflation. Looking at it today you could say that there is little ‘cost push’ inflation from this. But if in four months this commodity price recovers it will be one of those data points that the Fed will have to consider. For what it is worth the price of Gulf sulfuric acid was back up to $30 at the end of the month. From the Chicago PMI:

Business Activity:
• Prices Paid continued to firm;
• New Orders, Production, and Order Backlogs suffered reverses;
• Employment index continued to retreat at the August rate;

While the overall report was negative, the Prices Paid component showed cost-push pressures. Sulfuric acid was just a part of that increase.

The data on sulfuric acid pricing comes from PentaSul Inc. Hat Tip Fiona.