Saturday, January 12, 2008

The Invisible Recession

The economy is slowing down. The under 40 crowd has no real life experience to relate to the word “recession.” Its effects are not understood. An early sign is insufficient government tax revenues. California has a 10 billion dollar budget shortfall. How do you cut back 10% when you have already spent it? The cuts for schools, police and fire department will be felt slowly.

Countrywide is being bought out by Bank of America who gave them a two billion cash infusion last August. They figured why not buy the cow, they already paid for the milk. Their purchase would make sense at a market bottom. At a near top, it sounds more like suicide. Two dollars a share would have been a reasonable price. Seven dollars a share is shear lunacy! Another loser in play, Washington Mutual is talking to JP Morgan. Common sense suggests that neither deal is prudent. This sort of speculation reflects a complete lack of financial responsibility on the banks part, towards their shareholders.

Post Script Note added 1/14/04: [Countrywide's purchase in lieu of bankruptcy keeps six million homeowners with Countrywide mortgage payments out of bank limbo.]

American Express seems to be having problems. Wasn’t that card supposed to solve all our financial needs? Another company, Merrill Lynch claims 15 billion in losses. Give them a couple of weeks, that number will get bigger; they have a decimal point rolling around on the floor. All of this has happened in the span of four months. The "R" word is sneaking up on the economy. Most people don’t comprehend what is beginning to unfold, they have no clue. The surf is up, but this wave may be a tad too big to ride.

The amazing part of this mess, is the size of the many different problems facing the economy. The scale is beyond belief. 100 billion here, 100 billion there, and no one has lost a dime. The Fed will probably lower the Fed funds rate again. They are not creating money. If everyone wanted to draw their cash out of the bank, there is not enough printed currency. The Fed is delivering money to the banks so that the depositors can stuff their mattresses with the cash. Naturally the bank sells assets to raise cash and this reduces the cash a bank has available for new loans. This results in a contraction of the money supply. The bank borrows from the Fed to cover cash they can't raise until they sell the asset. To put it another way, it’s a run on the bank. The Fed’s logic behind this action is the hope that the market turns around soon, then things can go back to the way they were. Unfortunately three to four months more of what we have now, the game could be over.

The unforeseen problem just appearing is the credit card conundrum. If a client is over their limit and you cut them off from further purchases, what incentive do they have to pay on their bill? The card user doesn’t have to file for bankruptcy to avoid paying a credit card bill. No payment for 10 years wipes the debt off of their credit report. Credit card debt is unsecured debt. So the card issuer has a fine line to look at, either “Cut and run” or “Extend more credit.” “Cut and run,” looks like what has to eventually happen. The end result could be massive losses.

Then we have the Don Quixote of finance, Ben Bernanke, who’s going to lower the Fed’s fund rate and save the country from certain destruction. It kind of reminds me of an Inspector Clouseau, Pink Panther movie. Whatever worked, worked for all the wrong reasons.

Copyright 2008 All rights reserved


Sackerson said...

Sadly, I think you're right - and this is at a time when our industry is weak and getting weaker.

Anonymous said...

Before the public was generally aware of the S&L Crisis (problems had existed for years, but the final two years were a crisis of "hafta do something, what can we possibly do") - the year before the bailout, the government quietly negotiated sales of distressed Thrifts to stronger Thrifts.

Fast forward a decade. When Long Term Capital Management was about to implode - on borrowed money - crashing Wall Street - the government quietly engineered a buyout (massive reinvestment by LTCMs lenders and investors, then the lenders/investors took supervisory control).

The BofA deal sounds like one of these "it's not a government bailout" deals, engineered by the government, encouraged through some sort of leverage beyond "it's the right thing to do." All private transactions, all done with inducement and encouragement from the top.

Jim in San Marcos said...

Hi Anon 2:50

I agree. It looks like Countrywide was about to drop dead. Any smart banker would wait for the collapse and pick it up at a fire sale price. But that would have put 6 million monthly mortgage checks between here and nowhere. Somebody twisted an arm or two.

One of the reports I read mentioned that B of A had been going over their books for 4 weeks. So this ball started rolling back in November.

Jim in San Marcos said...

Hi Sack

How's the consumer holding up on your side of the pond? I haven't seen any news on retail Christmas sales for Great Britain

Anonymous said...

Excuse my ignorance. Are you saying that none of the firms can withstand the types of losses they have incurred? Are the losses estimated or actual? If estimated, could they be less if the real estate actually can be sold? Shouldn't lower interest rates help at least somewhat? AR

Sackerson said...

Hi Jim: it's slowing here, too, I can only give evidence anecdotally. Toys R Us were doing half price sales a couple of weeks before Christmas; the retail park car parks were pretty full but the shops still didn't seem busy. A small car fleet outfit I know says firms looking to lease cars from them are having their credit tightened. The only small business I know personally that's boasting of a really good year is one that sepcialises in exporting engineering machinery from closed-down factories. Straws in the wind.

Jim in San Marcos said...

Hi Anon 10:16

Your question " none of the firms can withstand the types of losses they have incurred? Are the losses estimated or actual?" is not really what I am getting at. What we are looking at are many different firms mis-stating their losses. Enron was here one day and gone the next.

Most of what I am examining is the obvious and glaring mis-statements made by some of these institutions.

People don't give the world 6 months notice that they are going into bankruptcy. A lot of what we are finding out has been well hidden.

Anonymous said...

Some of us under 40 have experienced a recession before. My father was a developer in Dallas in the 1980's. All of his deals went south and he was forced to work out the deals the S&L's. He settled all but one for .20 to .30 on the dollar. The last bank got nothing as bankruptcy was the final 'payback.' In the end we had lost all of our cars to the bank (loan collateral) except my POS mazda that I had driven in high school, $30k worth of possessions, and our house (Texas state law protects the homestead) when bankruptcy came in 1991. I was in college at the time and paying my own way as a result of this. I remember that the graduate schools were stuffed with people that had been laid off. The only way the I survived was that tuition at the University of Texas was only $650 a semester at the time.

Jim in San Marcos said...

Hi Brooksh

There isn't much difference between a Recession and a Depression to the individual. Experience is a cruel teacher, but a fair one. This could be a very interesting year.

If you are set right, the future could be very profitable and quite painless. Good luck to you.

Anonymous said...

I"m not much under 40, as I will be 38 next week. I remind my business partners each week about the looming problems. Ironically, I am an architect with a primarily commercial focus. I've seen the multi-family for sale market fall off a cliff. One builder I know has 17 houses finished with no buyers in site. We have hedged our commissions over the last 6 months, taking on work in areas that have not been hit so hard, and have thus far done just fine. We have chosen clients that do not rely on traditional sources of funds (read bank loans). I did have a client call me last week to tell me that a tenant (major national sandwich chain, not subway, quizno's or Jimmy John's, though) was halting their expansion and not completing a location (4000 sf). I won't name names, however.

Jim in San Marcos said...

Hi Brooksh

A lot of what is happening is happening very slowly. You don't wake up in a recession/depression it is very gradual.

Thats the theme of this blog, it isn't apparent until after the fact.

I hope things work out OK for you

JimAtLaw said...

One thing credit card companies can do when it's worth it is to obtain a judgment & enforce it, either directly or, more commonly, through a collection agency.

Unlike a home loan in single-form-of-action states, they can come after & seize other assets, garnish your wages, etc., and you can expect this business to really pick up soon (if not already).

Anonymous said...

With all of this fallout—due to we the people allowing a government to become huge, authoritarian, corrupt and act in such egregious violation of our constitution and natural economic law—we all become over stressed and absorbed. This greatly hinders our personal production and pursuit of happiness and prosperity. Not an optimal scene. I'm not happy with this, but I'll deal with it. I will learn how to prosper in a downtrending market, recession, depression. Study and hard work.

I'm studying and learning about economics. Mostly concerned about wealth preservation now, due to current events. I've got a considerable amount of cash in CapOne FDIC Money Market Accounts (not MM funds). Need to keep liquid because have to pay some taxes out of it; need it as seed money for my next startup business; and I need the interest to help pay my living expenses until my business is bringing in earnings. Am I at risk of losing this money? What is the best thing I can do to stay liquid yet preserve it? Any ideas? Thanx.

Jim in San Marcos said...

Hi Jim At Law

Your right, I let that slip by. I was thinking of the silver foxes. Once you reach 65 there isn't much they can get out of you on a judgment. Eight or nine cards will supplement your social security very nicely. My dad did that. He died at the age of 81 owing 50k to the banks. There has to be a bunch of morons in charge of issuing credit cards. He lost everything in the crash of '87, so he had to wait 10 years for his credit to improve to even get the cards(at the age of 77).

Jim in San Marcos said...

Hi Here to Learn

I really don't give investment advice. There are too many variables, luck being one of them. Investing is like learning to play poker. Nobody is really sure of what will happen or when it will happen. Your bank could advise you better than I could. That is what they do for a living and it won't cost you a dime.

ProblemWithCaring said...

Yesterday my kid sister applied for a job at WaMu Home Lending - in the collections department. She was hired this morning. The recruiter told her to send in friends. They foresee a need for these type of workers over the next 2 years at least.

My brother in law does security at a strip club in Van Nuys. He said the manager turns away young girls everyday looking for work: the men aren't spending like they use to.

The Longs Drugs in Beverly Hills had a sale on eggs last week (1.49/dz): when I stood in line with dozen, I could see lots of other middle class folks were starting to act like me - counting those pennies, watching those dimes.

Yea, what did Rev. Greenspan say? I think the likliehood of a recession is still about 50/50...

Jim in San Marcos said...

Hi Problem with caring

I know what you mean. I'm one of those people in line at Longs for eggs. They were 99 cents three months ago.

I don't go and buy what I want to eat anymore, I see what's on sale and buy that to eat.

Thanks for your comments