Not only is the British economy about to get really nasty, but our personal finances have now fallen into even worse disrepair than at any time in our national history. Which means that the upcoming recession will bite a lot harder, and for a good while longer, than most peoples’ worst fears…

UK personal debt mountain has been growing at £254m per day

By the end of July this year, total UK personal borrowing had surged to an eye-watering all-time time high of £1.45 trillion, of which just over £1.2 trillion was mortgage debt, according to the money education charity Credit Action. The overall total has risen £93 bn – almost 7% – over the last 12 months. Another way of looking at it is that the loan mountain has been growing at £254m per day (including Sundays).

Source: Credit Action

In fact personal debt has now pulled well clear of Britain’s GDP of just over £1.4 trillion. In other words, the country no longer produces enough each year to pay off what its citizens owe personally, let alone all the debt the government’s racking up.

And though the growth in household borrowing has showed signs of slowing, Credit Action tells us that the average debt, including mortgages, has risen to over £30,000 per UK adult. Over the past 12 months the average interest bill paid by each household was some £3,900 – all out of an average wage of less than £25000 per annum, according to National Statistics.

This is where that debt mountain starts to look very menacing. Over the last 15 years personal debt has soared 260%, massively outstripping the growth in average wages of ‘just’ 75%. That didn’t seem too painful when the economy was going well, and of course interest rates are lower these days than they were in 1993. But as we’ve said at Moneyweek many times, the good times are very much at an end. Now Messrs Mervyn King and Alistair Darling are singing off the same hymn sheet.

Read the full article

Source: Our Personal Finances Are the Worst They’ve Ever Been

Turns out – would you believe – that the Newcastle-based lender, a pioneer of 125% mortgages and one of the most dominant lenders right at the peak of the market in early 2007, is getting clobbered by much higher-than-average default rates. Surprise, surprise!

Sarcasm aside, the Rock is just the tip of the iceberg, if you’ll forgive the slightly mangled metaphor. The rest of the UK banking system, or certainly the bit that isn’t effectively bust already, is getting set to slam down the loan window shutters as it runs shorter and shorter of money.

It all promises to be a very unhappy 2009 for borrowers…

Northern Rock is suffering much higher-than-average default rates

There’ve been probably more column inches within the last year devoted to the sorry Northern Rock nationalisation saga than to any other company in the country, so I’m not going to add to them by talking about the right and wrongs of what the financial authorities did or didn’t do.

We’re stuck with it. But if anyone’s looking for any further evidence that offering 125% mortgages is a completely brainless idea, particularly if the lenders responsible proceed to scatter their cash around like confetti, the latest news serves that up on a plate.

It turns out that from what The Telegraph calls “previously unseen documents” that Granite, the £40bn so-called ‘off-balance sheet securitisation vehicle’ which holds many of the mortgages issued by the Crock, is anything but rock-solid.

Payment arrears of 90 days or more on mortgages on Granite’s books rocketed by two-thirds between this year’s first and second quarters, according to the credit monitors at Standard & Poor’s. That adds up to £508m-worth of dodgy home loans, even though rival banks saw relatively small increases in delinquencies. What’s more, repossessions soared by 163% between the first and second quarters, again much worse than virtually every other lender.

The loan-to-value (LTV) ratio is another potential disaster. Average LTVs were 77% for Granite compared with 60% typically elsewhere, with almost 30% of Granite’s loans at LTVs of 90%. That means a large chunk of borrowers will soon be dropping into negative equity territory as the housing market gets worse.

Today’s Nationwide survey said that UK home values have already plunged 10.5% over the last year after a further 1.9% fall in August, while the Bank of England’s governor Mervyn King this month forecast “a significant adjustment” downwards in house prices.

Read the full article

Source: Northern Rock, Yet More of Your Cash Down the Drain

Sometimes it’s the most innocuous-looking headlines that spell the most trouble. With most papers leading on “here comes the recession”-type stories, it would be very easy to overlook the report on page five of yesterday’s FT that the “ECB is to tackle abuse of liquidity aid”. And no wonder. The story sounds either a) very technical or b) something about the financial equivalent of binge drinking.

But there’s a bombshell being delivered here – the European Central Bank is about to stop bailing out eurozone commercial banks. And that could mean another big lender going ‘bust’. Time to reach for your tin hat again…
The ECB is about to stop bailing out eurozone commercial banks

The European Central Bank has said nothing official as yet about its plans to take a closer look at its support for European banks. In true eurozone style, the ECB’s thoughts are being carefully leaked in a dull bureaucrat-ese that’s easily ignored and designed not to prompt a panic.

ECB policymakers have agreed a “certain amount” of refinement to the central bank’s rules,” said the governor of Luxembourg’s central bank, Yves Mersch, at the weekend. The changes under consideration weren’t “a broad-based revolution”, he added. However, as markets evolved, “we have to adjust our framework regularly to market practices” which would “concern some instruments”.

Hardly a “stop the press!” moment. But fortunately, Not Wellink, the Dutch central bank chief and a major figure on the ECB council, has been a bit more specific. He said that banks were becoming addicted to the Frankfurt ‘liquidity window’. That’s where the ECB has been providing cheap funding for eurozone banks by lending against the collateral of a whole range of so-called asset-backed securities (ABS).

Let me explain. A number of European banks weren’t able to borrow enough cash to keep their balance sheets balanced because other investors weren’t prepared to lend them the money. The only way they’ve managed to keep their heads above water recently has been to shovel the dodgy loans they have made onto the ECB – a sort of financial pass-the-parcel. Without it, those banks would have gone bust, a la Northern Rock.

But the bad news for these lenders is that it looks like the party’s over. “If we see banks dependent on central banks, then we must push them to tap other sources of funding”, Mr Wellink told Dutch financial daily Het Finacieele Dagblad. “There’s a limit how long you can do this. There is a point where you take over the market”.

Exactly. I can’t think why it’s taken the ECB so long to work out that it’s storing up problems for the future. After all, it was prepared to hike interest rates two months ago when worried about too much inflation. Perhaps it was because the Bank of England and the US Federal Reserve had to put in place their own panic measures – sorry, emergency funding arrangements – while the ECB already had something suitable in place.

But this is where the second part of the problem arises. Though its policy buys time, the ECB ends up with a shed-load of assets whose value is highly debatable at best. That’s bad enough in itself, but there could be much more fallout. The Maastricht Treaty – one of the EU foundation stones – formally prohibits long-term taxpayer support of this kind for the EMU banking system.
“The ECB is in an unenviable situation”, says Paul McCulley of Pacific Investment Management. “The lender of last resort should be just that, not a permanent provider of funds.”

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Spanish banking sector could be facing collapse

So it’s starting to look like the game could be up for a large chunk of the Spanish banking system. We’ve written before about the parlous state of the Spanish property market and, as a result, the hole into which the country’s banks have dug themselves. The latest Bank of Spain data shows that the country’s banks have increased their ECB borrowing to a record €49.6bn (£39bn). “A number have been issuing mortgage securities for the sole purpose of drawing funds from Frankfurt”, says Ambrose Evans-Pritchard in The Telegraph. “These banks are heavily reliant on short-term and medium funding from the capital markets. This spigot of credit is now almost entirely closed”.But the ECB will have to end this bailing-out soon. Now it’s possible – just – that the central bank can deal its way out of this mess, and somehow avoid the carnage that a Spanish bank bust would cause. But as the world’s banking glitterati gather in Jackson Hole, they’ve got plenty of hard thinking to do. After all, if Spain’s banking sector collapses, it would result in even tighter credit, less lending and less spending.

One – admittedly unorthodox solution – could be for the ECB to simply pretend that Spain doesn’t exist. If that sounds silly, that’s because it is. Yet, that hasn’t prevented British buy-to-let lender Paragon from trying to disown an entire sector of amateur landlords who have fallen on hard times.

According to The Guardian, Paragon now says that investors in the kind of overpriced city-centre apartments which are now virtually unlettable and unsellable should not be classed as buy-to-let investors. “These properties were targeted by speculative purchasers who thought they could make a quick buck by flipping them. That is not the buy-to-let market. Buy-to-let investors do not own a property unless they can demonstrate that there is tenant demand”.

It’s an interesting solution to the housing bubble implosion – just stick your fingers in your ears and pretend it’s not happening. But somehow we don’t think it’ll catch on.

Source: Why Spain’s Banking Sector Could be Facing a Death Blow

Well, as well as being the name of a Baltimore ‘deathgrind’ band (don’t ask me, that’s just what Google says) the Misery Index is a very simple economic indicator. It’s a financial pain barometer, measured by adding the rate of inflation to the unemployment level.

Hardly super-scientific. Yet when the Misery Index goes up, we all feel it hurting. And in Britain right now, with consumer prices rising at 4.4% year-on-year and unemployment up to 5.4%, the index has just hit 9.8, its highest point for almost 12 years…

Why the Misery Index is making a comeback

The Misery Index was created by American economist Arthur Okun. It was frequently quoted by the Democratic candidate Jimmy Carter during the 1976 US presidential election campaign. At the time, the index in the States stood at over 13.5. Carter rather piously claimed that no one responsible for imposing that degree of misery on the country had a right even to stand for president.

The peanut farmer duly won that election, but his comments rebounded on him four years later when he tried to get re-elected. By then, the index had soared to a staggering 22, and Carter was roundly trounced by Ronald Reagan.

Yet, if the American populace was feeling gloomy, at least they had the consolation of not being British. In the summer of 1974, the UK Misery Index climbed well into the 30s, as annual inflation – in those days measured by the Retail Price Index (RPI) not the Consumer Price index (CPI) as today – topped 26% and the country was hit by the three-day week. Then after a respite to a low of 13 by mid-1978, the index took off again after the Winter of Discontent, reaching 26 in the early months of Margaret Thatcher’s reign.

The rest is history. Monetarism – control of the amount of money in the system – came in, and inflation went out. And the Misery Index plunged to just six or so until 2004, and was still only just over seven a year ago. Bank of England governor Mervyn King has coined this the NICE – Non-Inflationary Consistent Expansion – decade. But now misery is making a come back.

On the prices side, the Bank warned in this month’s inflation report that CPI inflation is heading for 5%. But the sages of Threedneedle Street reckon it should then drop back sharply. Yet that’s not a view shared by most of the British people, according to Barclays Capital. The bank’s survey, released this week, indicated that expectations for future inflation have now climbed to their highest in 16 years, and that UK consumers expect inflation to still be 4.8% in two years’ time. What’s more, just 13% of respondents expect the CPI rate to be at, or below, 3% within two years.Read the full article

Source: The Misery Index Is Set to Make a Comeback

After all, it was the US banks that kicked off the global carnage last year, when all those subprime mortgage woes began moving out of the internal audit departments and onto the front pages.

So does the bounce mean that we can all breath a bit easier now?

No. Here’s why…

How Merrill Lynch has made life harder for other banks

US financials have rallied sharply in the past month. But trying to get to grips with what’s really been going on in Wall Street’s banks isn’t easy. Sure, some banks are ‘fessing up to their lending sins. Merrill Lynch (MER) last month cleared its books of a massive $30bn of dodgy debt, for just $6.7bn – a huge write-down to just 22 cents on the dollar.

But while Merrill’s move may seem a step towards getting over the credit crisis, it is in fact muddying the water for everyone else.

That’s because Merrill has set a new low-ball benchmark that its peers may be very reluctant to follow. Take Citigroup (C) for example. In July, it said it was valuing its CDOs (collateralised debt obligations – packages of assets backed by loans such as mortgages) at about 61 cents on the dollar, clearly a much higher level than the Merrill clearout price.

As Goldman Sachs analyst William Tanona points out, if Citigroup were to write down its own $22.7bn of CDOs to similar levels, it’d need to take a $16.2bn hit.

So it seems fair to suggest that there’s still a good deal of ‘blue sky thinking’ in a lot of bank asset valuations. As Tony Jackson says in the FT, “in spite of improved disclosure by the banks, the picture of their liabilities is still quite fuzzy”. And Deutsche Bank analyst Mike Mayo is putting it politely when he says that Merrill’s action “raises ongoing credibility issues for the industry”.

This is far from being the only outstanding problem for banks to deal with. There’s the small matter of ‘mis-sold’ bonds. Merrill, Citigroup and UBS have together repurchased $40bn of auction-rate securities (I won’t go into these securities here, but suffice to say they were meant to be both liquid and risk-free, and turned out to be neither) from disgruntled investors, against a backdrop of lawsuits and fines – another recipe for extra balance sheet damage.

Then of course, there’s the knock-on effect on bank balance sheets of further house price falls. Also, there’s business debt. Last week, Moody’s Investors Service said that the global corporate bond default rate could reach 10% if the US sinks into a protracted recession. And there’ll be more credit card defaults as consumers run out of cash and lose their jobs. You get the picture – things look grim.

Read the Full Article

Source: Buy US banks – Once They’ve Fallen Another 40%

But in today’s politically correct day and age, with the demise – legally at least – of fox hunting, it’s almost a miracle that thousands of heavily-armed grouse hunters still take to the moors of Scotland and northern England each August.

Yet while hunting opponents have been unable to negotiate a ceasefire, the cold realities of economics may prove more successful in silencing the guns…

Grouse shooting is big business. The industry is worth £1.6bn to the UK economy. It generates the equivalent of 70,000 full-time jobs, while ensuring the management of two-thirds of the UK’s rural land.

But like almost every other British business, it’s under pressure. Costs are rising. Both fuel and ammunition are getting more expensive. What’s more, the weakness of the US dollar – even allowing for the recent bounce – has pushed the cost of a day’s grouse shooting in Scotland to around $13,300. That’s enough to make even high-rolling American hunters think twice about whether they can afford another trans-Atlantic trip.

However, the real concerns in the grouse shooting world run rather deeper. Much of the demand for shooting comes from the City and corporate business. So if the Square Mile’s hot shots aren’t gunning for a day on the moors, that could be bad news for shoot organisers.

This year’s season will probably be OK, says Christopher Graffius, director of communications for the British Association for Shooting and Conservation. Most bookings were paid for at the beginning of the year, “before the credit crunch really hit.”

Yet a study by specialists Fox Harris has found “some signs of softness in the market”, says Martin Waller in The Times. One unnamed banker told him that “in today’s climate, taking large numbers of clients to shoots costing as much as £30,000, was probably a non-starter on PR grounds”. Another agent spoke of a dearth of corporate customers, and warned that some who’ve paid deposits may walk away. “We’re aware of shoots normally full and difficult to get into that are now offering days. There will be some days coming back on the market discounted.”

“It’s not going to make any difference for the guys that come in their own private jets, but certainly at the lower end of the market there seems to be a bit of a slow-down”, says Russell Hird, who runs grouse-shooting expeditions on the Isle of Lewis.Read the full article

Source: Why the Credit Crunch is Good News for Game Birds

There’s one sector you should watch more closely than any other – including banks and retailers – for early warning signs on just how bad a downturn is going to be. That’s advertising.

Ad spending gives a strong clue as to what companies really believe is going to happen within their businesses in around 12-18 months’ time. And the bad news is that the long-term view for British business is as poor, if not worse, than some of these surveys suggest

Want to know just how bad things will get? Look at advertising

Anyone unfortunate enough to be a shareholder in ITV (LON:ITV) has lost a lot of money this year. The price is down nearly 60% in the past 12 months, compared to a wider market fall of 15%. And the shares shed 6% on Wednesday alone after first-half results got a poor reception from investors.

The plunge isn’t the stock market’s revenge on ITV for pumping out televisual treats such as “I’m a Celebrity… Get me out of here,” much as it would be richly deserved. And in fact, the top line results weren’t that bad. Group revenue for the six months to June 30th nudged up an unexciting but respectable 3%, which was a little better than the City had expected.

The real problem was a massive £1.6bn charge, which turned last year’s £105m interim profit into a £1.5bn loss, and saw the dividend cut in half. This was all down to sharply reduced advertising revenue forecasts for this year and next.

As if the raw numbers weren’t bad enough, the words of ITV chairman Michael Grade were even scarier. “We estimate that September advertising revenue will be down 20%… and we have limited visibility on revenues beyond September.”

That’s corporate-ese for “we haven’t a clue what’s going to happen.” But it tells you all you need to know about how much uncertainty and fear there is in the business world about the outlook for the British economy.

It’s a similar story in the newspaper world. At the end of last week, Trinity Mirror reported that overall year-on-year revenues were down 15% in July. The worst of the damage was done in regional newspapers – which rely heavily on classified advertising – which saw a 17% annualised drop in revenue. But the nationals weren’t spared – they suffered a 13% fall, twice the rate of decline recorded in the first half of the year.

Read the full article

Source: The First Sector to Feel the Pain as Recession Grips

And the picture that’s emerging isn’t very pretty. Not only have the numbers so far been worse than expected, there seems no end in sight to the sorry tales of credit write-down losses. It looks like there’s a shedload of more bad news on the way.

Today it was the turn of HSBC to face the music, and it duly coughed up another telephone number credit write-down. Last week, Lloyds TSB and HBOS turned in the sort of results that would have been seen as quite unthinkable until recently. Another round of write-offs, totalling a combined £1.7bn, blitzed the income statements and slashed profits by more than 50%.

But HSBC has just unveiled write-downs three times as large. The bank, which reports in US dollars, has set aside another $10.1bn (£5.1bn) this year for its ‘loan-loss reserves’, i.e. a charge against the bank’s capital to allow for losses on assets that have gone bad.

Read the Full Article

Source:  Why There’s More Bad News to Come From the Banks

“When things get back to normal…” How many times do you hear people saying that?

We all crave normality, particularly after a bit of a shock. “Business is back to normal and residents are breathing a sigh of relief,” the San Bernadino Sun reported earlier this week, after Tuesday’s mini-earthquake in Southern California which thankfully resulted in no casualties. But the paper also warns: “City leaders say the quake is a good wake-up call for all to start planning for the Big One”.

The financial markets have had plenty of wake-up calls in the past year or so. Yet markets adapt rapidly. We’re growing to accept things as normal which once would have seemed unthinkable. Massive bank bail-outs, property prices crashing at their fastest rate in decades – and after each new shock, the optimists raise their heads again, and say that we must surely be near the end of the bad news. Things might be bad, but they can’t get any worse. All the bad news is priced in.

This attitude is dangerous. Because rather than kidding on that things can’t get any worse, smart investors should be getting themselves ready for the Big One…

More dreadful results coming from every corner of the economy

Any hope that this financial crisis will all be over by Christmas should by now be dead in the water.

For starters, UK house prices declined the most in almost two decades in July, reported Nationwide yesterday. Prices fell 1.7% from June and are now 8.1% down on a year ago.

It looks like the pace of decline is accelerating. And it’s having a big impact on our attitudes. British consumer confidence has now hit its lowest point since records began in 1974, according to GfK/NOP, having plunged again last month. It’s now well below even the worst level reached in the early 1990s recession. “With the growing spectre of the UK going into recession”, says GfK researcher Donna Culverwell, “people are pessimistic and concerned about their future”.

The survey’s measures of people’s feelings about the general economic situation and the climate for major purchases like houses also slipped to their worst levels on record. Perhaps in the wake of this week’s revelations that the CBI’s retail sales index for July plummeted to its lowest point in 25 years, and the 72% collapse from the peak in UK mortgage approvals, that’s no shock. But again, all this doom and gloom, which just a year ago would have been unthinkable, is fast going mainstream.

Then there are the bank results. Earlier in the week, Lloyds TSB (LON:LLOY) kicked off the reporting season with a 70% first-half profit slump, after a £585m asset write-down and a warning about rising mortgage bad debts. And yesterday it was HBoS’s turn, serving up numbers a mere 56% lower.

No doubt there’ll be more of the same as the rest of the results roll in. Loads more write-offs due to stupid lending decisions from the people who used to think they could lecture you about financial rectitude. Yet, despite the dreadful results, the market thinks that it’s got the bad news priced in.

Hargreaves Lansdown analyst Richard Hunter said the HBoS results contained no negative surprises. Indeed “the actual profit figures were slightly ahead of expectations, suggesting that another contribution to the beginning of the end of the credit crunch may have been made”.

This blithe acceptance of once-unthinkable financial carnage is not restricted to us Brits. Across the channel, the eurozone’s in the same boat.

Spanish banks are in big trouble as the country’s house prices crash even faster than the UK’s – they’re down 34% from the peak, according to this week’s official data. So Spain’s banks needed almost to triple their borrowings in the last year from the European Central Bank to $74bn, said Bloomberg this week.

That’s the fastest increase in Europe. And what’s the ECB done? Answer: happily coughed up the cash to the Spaniards.

Read the full article

Source: Don’t Be Fooled, the Bad News Isn’t Priced in Yet

Or to be more precise, 24 July 2007 was when the world’s stock markets finally cottoned on to what was being brewed up in the murky world of US sub-prime mortgage derivatives. From within 1.5% of its high, the FTSE 100 dropped 6% in three days. By the end of the month, everyone working in the financial markets knew far more than they’d ever wanted to about the alphabet soup of CDOs, CLOs and SIVs.

Many of the supposed ‘experts’ said it would all be sorted out within a few weeks. But not only was that not even close, it was just about as wrong as you can get. Because what we’ve seen so far is just the starter.

In fact here in Britain, the real credit crunch is only just about to begin…

We may think things are tough now, but they’re about to get tougher.

So far, ‘all’ we’ve seen is a so-called liquidity squeeze in the money markets, as well as lots of banks incurring plenty of heavy credit losses. OK, property prices have tanked, but as we’ve been saying at MoneyWeek for longer that we can remember, the UK housing market meltdown is hardly a huge surprise, because prices rose so far into fantasyland they had to crash at some stage. The liquidity squeeze simply provided the pin to burst the bubble.

And while there have been loads of media tales about consumers cutting back and their borrowing limits being reduced, here in Britain our credit card borrowings are still up by 7.5% over the last year, according to yesterday’s figures from the British Bankers Association.

But now things are set to turn ugly.

It’s often said that credit is the lifeblood of capitalism. The amount of credit sloshing around in the system depends on two things. Firstly, the level of bank capital – broadly, that’s the total of money raised through share sales, etc., added to profits made – and secondly, the ‘credit multiplier’: somewhere between £8 and £10 of credit is created, i.e. lent out, for every £1 of banks’ risk-free capital.

Early estimates of credit crunch losses were a complete joke

Here’s where all those credit losses come in. We now know that the early estimates of the overall damage were a complete joke. The first guess from US Federal Reserve chairman Ben Bernanke was a ‘mere’ $50bn. Now we’re already up to over $400bn and counting. And we haven’t seen the half of it yet.

Globally, “banks and brokers will destroy somewhere between $1,000bn to $1,400bn of their own risk-free capital owing to losses on all forms of credit in this crunch”, says David Roche of Independent Strategy. This means that in theory, the planet’s credit should contract by something like 8-10 times the amount lost. In reality, it’s not quite that bad, because capital will be boosted by future profits and fund-raising exercises like rights issues, but even then, “you are left with a reduction of 5%-7% in global credit”.

That may not sound too horrendous. But Mr Roche reckons that for every $1 of GDP growth, we need $4-$5 of new credit, “so even a standstill in total credit outstanding is a credit crunch”.

Read the full article

Source: Why Your Bank Manager May Be About to Turn Nasty