Doc posted this article at another Forum and I didn't see it here. It's an extremely important read....
Saturday, August 23. 2008
Posted by Karl Denninger at 13:37
The 2009 "Consumer Crash" Call is UNDERSTATED
I was directed this morning to a lovely article over at The Prudent Bear calling for a 2009 "Consumer Crash".
It is full of charts and documentation, and I strongly suggest you read it. All of it. It should in fact be required reading for our political entities and every high school student in the nation, along with every literate adult.
It is very heavy on charts and statistics, some of which I am going to unabashedly quote, and expand on.
Yes, expand on.
Here's the first pair:
Now this looks very bad, but in fact it is much worse than it looks. Why? For the same reason the rest of these charts are worse than they look - they portray averages, but not distributions.
And it is the latter - distribution - that is the real problem.
See, there are a very large number of people - perhaps much as 25% of America, that have no debt at all. Not even a car loan. I'm one of them, and in fact this has been, in the main, my viewpoint since I was a youngster.
Yes, I've had car loans and mortgages, but I never was one to run a credit card balance or charge plate at a store. Ever. There are quite a few people like me, some of them older, some younger, but not everyone is in debt up to their eyeballs.
This may sound encouraging. In fact, its not. Its quite discouraging, and seriously so, because for every person who is prudent, there is one who is doubly underwater to the degree depicted in the graph.
The impact of this will not sink in until you think about it. There are plenty of people, including those on Kudlow every night, who try to claim that "the consumer's debt load, while rising, is manageable."
They're looking at this same graph you are above, and while they are alarmed, they're saying "oh, yes, its a bit over 1x income, but that's not horrible given that debt service is in the low teens as a percentage."
What they're missing is that there is 20% of our population that is being utterly smashed, with debt to income ratios north of 300% and total debt service requirements in the 60% range or more!
Then there is "Joe Median" who has debt service in the teens.
And then there are people like me, who pay no interest to anyone.
Why does this matter? Because that 20% of the population is part of our "consumption lifestyle" - its the lady that I saw a few weeks ago at the opening of Dark Knight who had to pull out three credit cards before she found one that wasn't declined (over limit?) to pay for the $50 worth of popcorn for her and her brood.
For those people accustomed to spending like there is no tomorrow, the pattern of the last few years has been:
* Run up credit cards, rolling balances over from one to another "0% intro offer" as required, then opening a new line to charge up.
* When that gets to be difficult, HELOC out the money, pay down the credit cards, and repeat.
The problem is that now the HELOC window is closed, as home prices are no longer going up. We have seen an absolutely stunning drop-off in securitization of these loans, as there is simply nobody willing to buy them any more - their value on the secondary market has literally gone to zero, and those who currently hold them, including banks, are praying nightly that they don't default, as they're subordinate to the first mortgage and thus utterly uncollectable should the homeowner simply stop paying.
For that 20% of Americans who were goaded into "spend spend spend" following the 9/11 attacks and actually did so beyond their means, the train has hit the wall - we are now witnessing the "slow motion" pileup of cars as they derail.
This is bad.
But it gets much worse, because all of this "phantom home appreciation" in fact came from nothing more than speculative froth, and that translated into literally all sectors of the economy. There are now over 4,100 WalMarts in the United States alone, with almost the entire expansion over the last ten years being driven by the "McMansion boom" in the suburbs and exurbs of America. This "demand" was in fact false speculative froth, in that in 2005 we had nearly fifty percent more "home sales" than were justifiable by actual demographic demand!
Here's the next piece of bad news that you are going to like even less:
The bad news here is that the correction in prices, in inflation-adjusted terms, is only half-over. We've seen about a 20% decline thus far; another 20% is in front of us, and just as the first half took two years, the next half will probably take another two, meaning that prices are unlikely to finish correcting until some time late in 2010.
What this means for you is that if you think home prices will "bottom" in the next six to nine months you are sadly mistaken and are about to get a very expensive and nasty lesson in the reality of economics.
In addition we are likely to see an overshoot in prices - perhaps by 1/4 to 1/2 of the "height" of the bubble. If so, that would take inflation-adjusted home prices down to around $100,000, which is a decline of another fifty to sixty percent - not 30% - from today's prices.
You think this projection is "overblown"? Take a gander at this piece:
"He was selling houses for $300,000. That means a buyer would have needed a household income of about $100,000 to comfortably make the payments. But Merced’s per capita income of $23,864 ranks among the lowest for metropolitan areas in the country. “None of us paid much attention,” Mr. Glieberman says."
Now it is true that for every home that is valued at four times the sustainable maximum there are some that are much closer to a "real" price. But folks - does this not put a "face" on what's really going on, and those who claim "it will all be ok"?
What's the take-away from this?
If you owe more than 70% of today's value of your home, you will be underwater with certainty. If you owe more than half, there is at least a 50% chance you will be underwater within the next two years. 30% of all buyers in the last five years are underwater now. The other 70% of those buyers will be with nearly 100% certainty.
This puts into stark relief the outright fraud of programs like "Hope Now" and similar game-playing, in that such a refinance, if you take it, removes the no-recourse nature of your original mortgage. That is, you will lose the ability to walk away in the future, assuming you even qualify for one of these sucker-refinance "opportunities", as the bank will gain the ability to come after you in perpetuity and garnish your wages.
Don't do it!
Instead, if you are underwater today or at risk of becoming underwater in the next two years, go talk to a good bankruptcy attorney right now and figure out what your options are when, not if, your home value declines by another 30% - and whether you might be better off accelerating what is a certain future bankruptcy so you can start rebuilding your credit and life now.
If you still have equity but won't with reasonable certainty sell the house now and rent, then buy it back at 30-50% off in two or three years.
Don't let the sucker be you!
Why is this important? Because in two years if you intentionally default and rent a home for a while you will be able to buy your house back for 30-50% less than it is "worth" today, cutting your mortgage payment by 50% permanently and winding up with a sustainable mortgage. You will also have two years to build a 20% down payment on the much lower purchase price, and that same two years to start rebuilding your credit.
Again - this isn't legal advice - and you need it if you're going to practice what is known as "efficient breach" in contract parlance. I know I've been preaching this for nearly a year now and will repeat it once more - go get that advice today and figure out if this is the right course of action for you. For a very large percentage of those who bought homes in the last five years, it is.
When you analyze all of this you come to an ugly and inescapable conclusion - we're in deep trouble as an economy, and this is not going to be a "short and shallow recession."
It is instead going to be a very deep and long one, because credit growth - not earnings power - is what has driven the economy for the last 20 years, with the worst of it - a parabolic blow-off - happening in the last six.
This is utterly unsustainable and yet, as it corrects back to sustainable levels, it must by definition impact your lifestyle in a severe, impossible-to-avoid fashion.
Unfortunately the 20% of America who "geared up" and tried to "live large" is and will be screaming for bailout after bailout from our government. If they go down this path it will be a near-exact repeat of what Herbert Hoover did in the early part of The Depression, and will lead to the same result!
If you've been prudent for the last few years your job is to ride your government officials to stop this nonsense and instead focus on ring-fencing the government's balance sheet while forcing bloated asset prices, especially housing, to contract to affordable levels.
The key point is that irrespective of the path taken, the pain and business failures will occur. We are now arguing over who gets to eat the losses - not whether they will happen - and how long it will take before we find a "clearing price" for those assets that are overextended in their valuation, whether it be McMansions or shopping mall footage.
http://market-ticker.denninger.net/
Saturday, August 23. 2008
Posted by Karl Denninger at 13:37
The 2009 "Consumer Crash" Call is UNDERSTATED
I was directed this morning to a lovely article over at The Prudent Bear calling for a 2009 "Consumer Crash".
It is full of charts and documentation, and I strongly suggest you read it. All of it. It should in fact be required reading for our political entities and every high school student in the nation, along with every literate adult.
It is very heavy on charts and statistics, some of which I am going to unabashedly quote, and expand on.
Yes, expand on.
Here's the first pair:
Now this looks very bad, but in fact it is much worse than it looks. Why? For the same reason the rest of these charts are worse than they look - they portray averages, but not distributions.
And it is the latter - distribution - that is the real problem.
See, there are a very large number of people - perhaps much as 25% of America, that have no debt at all. Not even a car loan. I'm one of them, and in fact this has been, in the main, my viewpoint since I was a youngster.
Yes, I've had car loans and mortgages, but I never was one to run a credit card balance or charge plate at a store. Ever. There are quite a few people like me, some of them older, some younger, but not everyone is in debt up to their eyeballs.
This may sound encouraging. In fact, its not. Its quite discouraging, and seriously so, because for every person who is prudent, there is one who is doubly underwater to the degree depicted in the graph.
The impact of this will not sink in until you think about it. There are plenty of people, including those on Kudlow every night, who try to claim that "the consumer's debt load, while rising, is manageable."
They're looking at this same graph you are above, and while they are alarmed, they're saying "oh, yes, its a bit over 1x income, but that's not horrible given that debt service is in the low teens as a percentage."
What they're missing is that there is 20% of our population that is being utterly smashed, with debt to income ratios north of 300% and total debt service requirements in the 60% range or more!
Then there is "Joe Median" who has debt service in the teens.
And then there are people like me, who pay no interest to anyone.
Why does this matter? Because that 20% of the population is part of our "consumption lifestyle" - its the lady that I saw a few weeks ago at the opening of Dark Knight who had to pull out three credit cards before she found one that wasn't declined (over limit?) to pay for the $50 worth of popcorn for her and her brood.
For those people accustomed to spending like there is no tomorrow, the pattern of the last few years has been:
* Run up credit cards, rolling balances over from one to another "0% intro offer" as required, then opening a new line to charge up.
* When that gets to be difficult, HELOC out the money, pay down the credit cards, and repeat.
The problem is that now the HELOC window is closed, as home prices are no longer going up. We have seen an absolutely stunning drop-off in securitization of these loans, as there is simply nobody willing to buy them any more - their value on the secondary market has literally gone to zero, and those who currently hold them, including banks, are praying nightly that they don't default, as they're subordinate to the first mortgage and thus utterly uncollectable should the homeowner simply stop paying.
For that 20% of Americans who were goaded into "spend spend spend" following the 9/11 attacks and actually did so beyond their means, the train has hit the wall - we are now witnessing the "slow motion" pileup of cars as they derail.
This is bad.
But it gets much worse, because all of this "phantom home appreciation" in fact came from nothing more than speculative froth, and that translated into literally all sectors of the economy. There are now over 4,100 WalMarts in the United States alone, with almost the entire expansion over the last ten years being driven by the "McMansion boom" in the suburbs and exurbs of America. This "demand" was in fact false speculative froth, in that in 2005 we had nearly fifty percent more "home sales" than were justifiable by actual demographic demand!
Here's the next piece of bad news that you are going to like even less:
The bad news here is that the correction in prices, in inflation-adjusted terms, is only half-over. We've seen about a 20% decline thus far; another 20% is in front of us, and just as the first half took two years, the next half will probably take another two, meaning that prices are unlikely to finish correcting until some time late in 2010.
What this means for you is that if you think home prices will "bottom" in the next six to nine months you are sadly mistaken and are about to get a very expensive and nasty lesson in the reality of economics.
In addition we are likely to see an overshoot in prices - perhaps by 1/4 to 1/2 of the "height" of the bubble. If so, that would take inflation-adjusted home prices down to around $100,000, which is a decline of another fifty to sixty percent - not 30% - from today's prices.
You think this projection is "overblown"? Take a gander at this piece:
"He was selling houses for $300,000. That means a buyer would have needed a household income of about $100,000 to comfortably make the payments. But Merced’s per capita income of $23,864 ranks among the lowest for metropolitan areas in the country. “None of us paid much attention,” Mr. Glieberman says."
Now it is true that for every home that is valued at four times the sustainable maximum there are some that are much closer to a "real" price. But folks - does this not put a "face" on what's really going on, and those who claim "it will all be ok"?
What's the take-away from this?
If you owe more than 70% of today's value of your home, you will be underwater with certainty. If you owe more than half, there is at least a 50% chance you will be underwater within the next two years. 30% of all buyers in the last five years are underwater now. The other 70% of those buyers will be with nearly 100% certainty.
This puts into stark relief the outright fraud of programs like "Hope Now" and similar game-playing, in that such a refinance, if you take it, removes the no-recourse nature of your original mortgage. That is, you will lose the ability to walk away in the future, assuming you even qualify for one of these sucker-refinance "opportunities", as the bank will gain the ability to come after you in perpetuity and garnish your wages.
Don't do it!
Instead, if you are underwater today or at risk of becoming underwater in the next two years, go talk to a good bankruptcy attorney right now and figure out what your options are when, not if, your home value declines by another 30% - and whether you might be better off accelerating what is a certain future bankruptcy so you can start rebuilding your credit and life now.
If you still have equity but won't with reasonable certainty sell the house now and rent, then buy it back at 30-50% off in two or three years.
Don't let the sucker be you!
Why is this important? Because in two years if you intentionally default and rent a home for a while you will be able to buy your house back for 30-50% less than it is "worth" today, cutting your mortgage payment by 50% permanently and winding up with a sustainable mortgage. You will also have two years to build a 20% down payment on the much lower purchase price, and that same two years to start rebuilding your credit.
Again - this isn't legal advice - and you need it if you're going to practice what is known as "efficient breach" in contract parlance. I know I've been preaching this for nearly a year now and will repeat it once more - go get that advice today and figure out if this is the right course of action for you. For a very large percentage of those who bought homes in the last five years, it is.
When you analyze all of this you come to an ugly and inescapable conclusion - we're in deep trouble as an economy, and this is not going to be a "short and shallow recession."
It is instead going to be a very deep and long one, because credit growth - not earnings power - is what has driven the economy for the last 20 years, with the worst of it - a parabolic blow-off - happening in the last six.
This is utterly unsustainable and yet, as it corrects back to sustainable levels, it must by definition impact your lifestyle in a severe, impossible-to-avoid fashion.
Unfortunately the 20% of America who "geared up" and tried to "live large" is and will be screaming for bailout after bailout from our government. If they go down this path it will be a near-exact repeat of what Herbert Hoover did in the early part of The Depression, and will lead to the same result!
If you've been prudent for the last few years your job is to ride your government officials to stop this nonsense and instead focus on ring-fencing the government's balance sheet while forcing bloated asset prices, especially housing, to contract to affordable levels.
The key point is that irrespective of the path taken, the pain and business failures will occur. We are now arguing over who gets to eat the losses - not whether they will happen - and how long it will take before we find a "clearing price" for those assets that are overextended in their valuation, whether it be McMansions or shopping mall footage.
http://market-ticker.denninger.net/
