The Economy Guy

Issue: 11/15/07 Thursday

By Global Economy Guru, Tom Harvey…

The purpose of these daily articles is to highlight those events that are shaping your economic reality in a way that you can understand the fundamental things that are moving the markets up and down.  Through this educational process, I sincerely hope that you can make more intelligent investment decisions from today forward.

The stock market went down a lot today because people were afraid that the sub-prime mortgage meltdown (currently exhibited by multi-billion dollar write-downs by banks and financial institutions) was still around.  Last Tuesday, the market skyrocketed because the entire problem was solved.  Does this sound like insanity to you?  Well, it’s just the way the market works from one day to the next – learn that lesson.

The reality of the situation is that the “meltdown” is NOT over yet.  The big banks and financial institutions, both domestic and international, are trying to find a way to MINIMIZE their write-downs in a legal (??) fashion.  So, they are dribbling out the amount of their write-downs a little at a time.  “A little” is a relative term as the numbers are in the billions of dollars.  Remember the now defunct idea of creating an $80B fund so banks could sell those mortgage packages for a known price??  That was one attempt that failed.  The problem is that it is still difficult (or impossible?) to value those mortgage packages because no one can predict how many of those mortgages will actually go to foreclosure – in the future.

Here is some recent news that has a definite bearing on the markets.

A federal judge in Ohio has ruled against a longstanding foreclosure practice, potentially creating an obstacle for lenders trying to reclaim properties from troubled borrowers and raising questions about the legal standing of investors in mortgage securities pools.  Judge Christopher A. Boyko of Federal District Court in Cleveland dismissed 14 foreclosure cases brought on behalf of mortgage investors, ruling that they had failed to prove that they owned the properties they were trying to seize.

The ruling was issued Oct. 31 by Judge Boyko, and relates to 14 foreclosure cases brought by Deutsche Bank National Trust Company. The bank is trustee for securitization pools, issued as recently as June 2006, claiming to hold mortgages underlying the foreclosed properties.  On Oct. 10, Judge Boyko ordered the lenders’ representative to file copies of loan assignments showing that the lender was indeed the owner of the note and mortgage on each property when the foreclosure was filed. But lawyers for Deutsche Bank supplied documents showing only an intent to convey the rights in the mortgages rather than proof of ownership as of the foreclosure date.  Saying that Deutsche Bank’s arguments of legal standing fell woefully short, the judge wrote: “The institutions seem to adopt the attitude that since they have been doing this for so long, unchallenged, this practice equates with legal compliance. Finally put to the test, their weak legal arguments compel the court to stop them at the gate.”

Here is how to interpret this case.  The financial industry in its haste to create mortgage securities (bundles of mortgages to be sold) did a very bad job in transferring legal ownership of those mortgages to the buyer of the securities.  I think it is just very sloppy management by the financial institutions in its haste to make a buck.

Here’s another story of interest….

The issues over at GE with the Trust Enhanced Cash Trust (really, trust us) are symbolic of what else is probably out there.  According to Bloomberg they “returned money to investors at 96 cents on the dollar after losing about $200 million, mostly on mortgage-backed securities”…although they claim no mortgage backed exposure (gulp).  As of Wed, “All outside investors, who together held ’several hundreds of millions of dollars” in the fund, pulled their money,” said a GE Asset Management spokesman.  There is little question that the tentacles of the sub-prime octopus have pushed deeper into the financial industry than had been assumed.

Here’s an interesting story from Europe about HSBC (the old Hong Kong and Shanghai Bank Corp).  This shows the dribbling method of reporting mortgage losses.

HSBC Holdings PLC, Europe’s biggest bank, reported another big hit from exposure to the U.S. mortgage crisis Wednesday and warned that bad debts could increase if the U.S. housing market weakens further.   The charge was higher than anticipated by analysts and significantly above the $1.9 billion and $2.2 billion booked in the first and second quarter respectively. The division also added $3.4 billion to its credit loss reserves.  ”If the housing market continues to weaken and if it has a broader impact on the underlying real economy then charges will stay elevated and could increase,” said HSBC Finance Director Douglas Flint.  (My comment - This looks like official HSBC Policy where the bank isn’t looking into the future and trying to project the loss that is coming down the road toward them.)

Here is an interesting story on Oil.  Firstly, OPEC is not our friend.  Secondly, supply/demand is not driving the price of oil – greed is driving it.

Oil prices would probably not fall even if OPEC raises production when it meets in December, since the market is being supported by factors other than supply, the oil ministers of Algeria and Iran said on Thursday.  Oil ministers have made clear they will not discuss output policy at the heads of state summit now underway in Riyadh, adding that they believe factors beyond OPEC’s control — such as speculation and geopolitical anxiety — are driving prices.  ”Supply and demand are in equilibrium.”

Here are Thursday’s closing details:
DJ30 – 13,110 (Down 121 points) - tomorrow should be just as interesting
10 year US Treasury Bond – 4.16%  (Down 0.11%) - another amazing drop in the interest rate.  Watch this spot.  It could be significant.
Euro $1.4622 – moving sideways
Gold closed at $787 per ounce. (Down $27) - lots of profit taking in gold
Oil Closed at $93.43 (Down $0.66)
Gasoline is $2.34  (Down $.03)