The Economy Guy

Issue: 8/22/07

The stock market soared (up 145 points) today because the herd felt that the liquidity crisis is over, and things are back to normal. Really?????!!!!!! Here’s what’s really going on.

Four major banks said Wednesday they each borrowed $500 million from the Federal Reserve’s discount window, lending weight to its efforts to restore liquidity to tight markets. Citigroup Inc., JPMorgan Chase & Co., Bank of America Corp. and Wachovia Corp. each stressed they themselves have “substantial liquidity” and the ability to borrow money elsewhere. In a joint statement, the latter three said they decided to borrow directly from the central bank to demonstrate “the potential value of the Fed’s primary credit facility” and encourage its use by other banks. It was not clear if other banks had also decided to borrow from the Fed. In my opinion this was a staged event by the 4 banks as they were singing the Fed’s new tune of “borrow from the Discount Window until the cows come home.” Each bank borrowed the same amount of money. That can’t be a coincidence. It is collaboration at its best. If they were setting prices, it would be a monopolistic practice; but, more on that subject later….

San Diego-based Accredited, which issued $15.77 billion in home loans last year, said it will cut about 1,600 of its 2,600 positions and close 65 branches. “These difficult decisions were made out of necessity in light of the continued and widely publicized turbulence in the mortgage and financial markets, but with a heavy heart,” James A. Konrath, chairman and chief executive officer, said in a prepared statement. The company will close five of its 10 brokered loan offices and lay off about three-fifths of the unit’s workers.

Scottsdale-based 1st National Bank Holding Co. said it would close its wholesale mortgage unit and mortgage centers in Virginia, North Carolina and Nevada. The company said it will keep just one mortgage operation open in Tempe, Ariz., and will lay off 541 workers. “I have never seen a market shift as drastically as has occurred in the mortgage business over the last four months, but even more precipitous in the last few weeks,” owner and Chairman Raymond Lamb said in a statement.

Wholesale mortgage lender Quality Home Loans filed for Chapter 11 protection. The Agoura Hills-based company’s voluntary bankruptcy petition, filed Tuesday in U.S. Bankruptcy Court, lists assets in the range of $1 million to $100 million and liabilities of more than $100 million. The company has between 1,000 and 5,000 creditors and expects that funds will be available to pay unsecured creditors.

Lehman Brothers Holdings Inc. is closing its “subprime” mortgage business because of the tumult in the home lending industry, the bank said Wednesday. The Wall Street brokerage said it is shuttering its BNC Mortgage LLC subsidiary, which issues home loans to people who cannot document their income or have shaky credit histories. Lehman will lay off 1,200 workers at 23 offices. Closing this business will cost $25 million in severance pay and real estate and technology costs. Lehman Brothers will also record a $27 million accounting charge for writing down goodwill, or the value of the Irvine, Calif.-based business that Lehman carried on its books above the worth of the physical assets. Lehman Brothers will continue to issue home loans through its Aurora Loan Services LLC unit. (That’s good because I have an Aurora Loan.)

Stung by decaying credit quality and a newfound fear of risk on Wall Street, mortgage lenders across the industry have struggled to raise cash this year. More than 50 lenders have gone bankrupt this year, including two of the nation’s 10 biggest. Let’s do the math. 50 lenders laying off about 700 people each (a guess) would mean 35,000 people just lost their job this month. And, that’s just the mortgage companies. What about the knock on effect to banks and finance companies?

I have a great friend who is in the mortgage business, and has built friendships over the years with various people in all these companies. Well, they are calling her now, asking for advice on where to get a job. I find it amazing how fast a person’s job can be eliminated in no time when the financial markets hiccup.

Countrywide Financial Corp. said Wednesday that Bank of America Corp. has made an equity investment of $2 billion in the company, a deal that comes as the nation’s largest mortgage lender tries to weather a credit crunch that’s rocked Wall Street and the mortgage industry. “Bank of America, with $1.5 trillion in assets, has the largest retail banking franchise in the U.S. and is one of the most respected companies in the world,” Angelo R. Mozilo, Countrywide’s chairman and chief executive, said in a statement. “Bank of America’s investment in Countrywide represents a vote of confidence and strengthens our balance sheet, enabling us to position Countrywide for future growth and success,” he said. Under the terms of the deal, Charlotte, N.C.-based Bank of America acquired $2 billion in the form of nonvoting, convertible preferred stock yielding 7.25 percent annually, Countrywide said. The shares can be converted into common shares of Countrywide at $18 per share, with certain restrictions. It looks like BofA has confidence in Countrywide in addition to Warren Buffet.

The European Central Bank, which has repeatedly pumped extra funds into European money markets for two weeks, said Wednesday it plans to auction supplementary three-month funds valued at $53.97 billion to provide more liquidity to cash-hungry markets. Who says the liquidity crisis is over???

The move prompted a new debate whether the bank would move forward in raising its benchmark interest rate, a decision that will be announced Sept. 6. The bank offered no real clues as to whether an increase in its benchmark rate from 4 percent to 4.25 percent was likely at its meeting in September, but in a statement referred to comments made by the bank president earlier this month.
ECB President Jean-Claude Trichet said three weeks ago that the bank was maintaining “strong vigilance” toward inflation, possibly signaling a rate increase. That’s what the Fed said too. Given the market turbulence since then, however, analysts have said that any rate increase may churn up more unease. But Michael Schubert of Commerzbank AG said that given the market turmoil, any forecast of the ECB’s move is uncertain at best. “Comments by central bankers like the one from (Bundesbank President Axel) Weber made last Friday suggest that the bank is willing to delay any rate hike as long as the market uncertainties continue,” he said. “Therefore, any forecast about possible rate changes has to make an assumption about the further development of the market crisis.”

On Tuesday, the ECB provided more cash for banks that have been clamoring for money, injecting 275 billion euros ($371B) in its normal weekly refinancing. Central banks worldwide have injected billions of dollars into money markets this month in efforts to calm nervous investors.

Here is a fun story for you to think about. The question for you today is “Why are gasoline prices so high????” Here’s where we get back to that ugly word – monopoly, and I don’t mean the Parker Bros. game.

Nearly two dozen gas station owners in California sued Shell Oil Co., Chevron Corp. and Saudi Refining Inc., on Tuesday, claiming the companies conspired to fix prices for 23,000 franchise owners nationwide. The plaintiffs in this case say chairmen of the three oil companies met privately nearly every month starting in March 1996 for the “purpose of forming and organizing a combination.” The lawsuit alleges executives destroyed documents from the meetings, and a now-defunct joint venture violated U.S. antitrust laws and caused artificially high wholesale gas prices in nearly every state from 1999 to 2001.

The lawsuit hinges on a marketing deal that, plaintiffs say, allowed former rivals to collude on prices starting in 1998, when Shell and Texaco Inc. formed Equilon Enterprises LLC to market gasoline in western states. They formed Motiva Enterprises LLC later that year for the eastern half of the country. Houston-based Saudi Refining also joined Motiva. Equilon and Motiva began operating when inflation-adjusted crude oil prices hit their lowest levels since the Great Depression. Yet gas prices soared for franchise owners, forcing them to pass on the cost to consumers or cut profit margins. “These executives get together and say, ‘Okay, we’re going to raise Texaco’s price to Shell’s price, then we’re going to raise both of them 50 to 75 percent, and we’re going to do it after we’ve already had all these cost savings,’” Alioto, the litigating lawyer said. Alioto argues wholesale prices were higher by at least 20 cents a gallon and possibly as much as 40 cents per gallon from 1999 to 2001.

Well, that should make you think about our friendly, capitalistic, free-market system, when it’s broken. Sometime in the future, I’ll share another view that I hold about gasoline prices, and why they are so high. This game supposedly raises the prices only 20 to 40 cents. I think I can explain the rest of the increase, and it isn’t an increase in the oil price.

Here are Today’s closing details:

DJ30 – 13,236 (up 1.1%). The market thinks the liquidity crisis is over.

10 year US Treasury Bond – 4.62% (up 0.03%)

US Dollar - $1.3550/Euro. The Euro is coming back into vogue.

Gold closed at $669 per ounce. (Up $3)

Oil Closed at $69.26. (Down .31)

Gasoline is $1.89, (up .03)