Commercial property values in the U.S. have plummeted 36% since peaking in 2007, and the commercial real estate market is unlikely to recover before 2012, according to the quarterly PricewaterhouseCoopers Korpacz Real Estate Investor Survey, released yesterday (Tuesday).

Office rents in New York and San Francisco may drop 20% through next year, the survey found.

“The biggest problem is that commercial real estate lags what happens in the economy,” Susan Smith, who is the director of PricewaterhouseCoopers’ real estate advisory practice and editor-in-chief of the survey, told Bloomberg News. “Companies are looking for ways to cut costs, many are continuing to reduce workers and are continuing to reduce their space needs.”

That means many of the banks that made commercial real estate have only realized a fraction of their losses. And as those losses continue to mount, we’re likely to see more and more bank failures.

Roughly $530 billion in mortgage-backed securities are due for refinancing between now and 2011, according to property researcher Foresight Analytics LLC. Foresight estimates that the U.S. banking sector could incur as much as $250 billion in commercial real estate losses, enough to cause a as many as 700 banks to fail, in that time.

The FDIC’s “problem list,” or banks that run a higher risk of failure, grew to 416 in the second quarter, up from 305 in the first quarter. That’s the highest number since the second quarter of 1994, when there were 434 banks on the list.

San Francisco-based Wells Fargo & Co. (NYSE: WFC) has the largest share of the $3.1 trillion commercial debt market with 16.5% of its $821 billion loan portfolio invested. JPMorgan Chase & Co. (NYSE: JPM) is a distant second with 5.4% of its portfolio invested in commercial loans, followed by Citigroup Inc. (NYSE: C) with 3.4%.

However, smaller banks – 92 of which have already folded this year compared to 25 last year – are even more at risk because they will likely have a harder time accessing the crucial capital to offset rising defaults, according to the TARP-inspired Congressional Oversight Panel’s August Oversight Report.

“Unlike large banks that can sustain a certain number of defaults, even of large commercial loans, smaller banks may have far more difficulty in absorbing more than a few large loan losses,” the panel said. “The FDIC’s statement that ‘banks have been able to raise capital without having to sell bad assets through the LLP’ may not reflect the reality for these banks.”

Indeed, the number of smaller banks expected to seized by the FDIC (Federal Deposit Insurance Corporation) is forecast to accelerate by economists. More than 150 publicly traded U.S. banks have nonperforming loans that account for 5% of their assets, according to the report.

The panel said rising commercial real estate loan defaults may prompt the need for $12 billion to $14 billion more in TARP funds as well as well as stress tests for smaller banks.

The early 1990s saw a devastating crash of the real estate market, but this coming time around the result could be far worse. The $3.1 trillion that makes up the commercial real estate debt market is three times the size it was during the early 1990s – meaning the potential for losses is steeper than ever before.

In 1993, less than 2% of U.S. banks and thrifts had an exposure to commercial real estate that was more than five times their Tier I capital. By the end of last year, that ratio had spiked to 12%, involving about 800 banks and thrifts.

And this time around – compared to the early 1990s – banks left themselves no margin of safety in the form of “Tier I Capital” – a measure of how well a lender can navigate serious levels of losses. The higher the ratio, the less likely a lender will be able to work its way through a stretch when loans start going bad.

Source: Bank Failures Could Surge as Commercial Real Estate Losses Continue to Mount

Good day… And happy Friday! The data released yesterday morning was a mixed bag, as the leading indicators climbed for a fourth straight month and the Philadelphia fed reported a big jump in their gauge of activity, but the initial jobless claims unexpectedly rose. Unemployment in the US will continue to be a drag on the economy, slowing any recovery and possibly pushing the US back into recession (or as some predict a depression). Today we will get some news on the housing market, and while the media will pump up the fact that month on month sales continue to rise, another report released yesterday showed mortgage delinquencies hit a record high in July. The proportion of homeowners delinquent on their mortgage or in foreclosure rose to its highest levels in four decades. An ominous sign for the US economy is that the problem loans have shifted away from the subprime borrowers to those driven into delinquency by unemployment. More than half the mortgages in the foreclosure process during the second quarter were prime loans. So while this morning’s data may show a bump up in monthly home sales, the US is still far from being out of the housing problems.

The European markets took the Euro higher against the dollar after reports showed German services and French manufacturing unexpectedly expanded in August. Another report showed an index of German services industry grew for the first time in more than a year. This data confirms that the largest nation in the EU is pulling itself out of recession. The German services index rose to 54.1 from 48.1 and the French manufacturing index increased to 50.2 from July’s figure of 48.1. So both indices moved over the 50 mark which is an indication of expansion. And the composite index of both services and manufacturing for the 16 nations sharing the euro moved to 50 from 47, another strong indication that Europe is starting to grow again.

I have read a number of articles and research report which throw darts at the European Central bank for not being more aggressive with ‘quantitative easing’ and stimulus efforts. These latest reports indicate to me that the ECB may have played it ‘just right’. I know it won’t be clear sailing from here, and that the European recovery will still have some bumps, but the ECB left some powder dry and will be able to step in again if needed. And if the recovery sticks in Europe, the ECB won’t have near as much manufactured liquidity to pull in from the markets.

And I’m sure some readers will question how I can trumpet the recovery in Europe while at the same time believing the recovery here in the US won’t have legs. The main difference is what is fueling these recoveries. While many, including your current Pfennig writer, are in the opinion that the nascent recovery here in the US has mainly been driven by government stimulus; you can’t say the recovery in Germany and France is being driven by government intervention. Digging into the recent positive data here in the US shows the government is responsible for most of the spending; the private sector has largely stayed on the sidelines. The recovery in Europe, on the other hand, is being fueled by increased consumer confidence and internal private sector demand. In fact, many of the dollar bulls have continually chastised the European governments for not taking a more aggressive role in providing stimulus to their economies.

England and the US have yet to feel the inflationary impact of their budget busting ‘quantitative easing’ programs; but believe me, inflation is lurking just around the corner. While the US’s Bernanke and UK’s Darling have chosen to ignore the future consequences of these programs, Trichet and the ECB always kept a hawkish eye looking toward the future.

Currency traders got excited about these European data releases and took the Euro back above 1.43. As Chuck would say, the big dog started to move and the rest of the pack followed suit. The leaders vs. the US$ were the Nordic currencies of Sweden, Norway, and Denmark which were 1,2, and 3 overnight vs. the US$. Even the Swiss Franc showed some strength, matching the move up by the Euro.

The Norwegian currency probably benefitted a bit from an article which ran in the Economist magazine. The article was entitled “Which central bank will raise interest rates first?” and pointed out the most likely candidates were Australia and Norway. I believe the Pfenning pointed this out a few weeks ago, but for now the Economist magazine has a bit more readers than the Pfennig, so the article probably had a bit more of an impact on the markets. The article points to the brightening economic picture for both of these countries and the fact that “Because both countries primarily export staples like raw materials and food, their sales abroad have held up relatively well. Australia in particular benefits from Asian customers whose economies have remained pretty robust.” The magazine predicts that Norway will likely be the first to raise rates.

Long time readers of the Pfennig will recall that the direction of interest rates was at one time the largest determinant of currency movements. Those countries with central banks which were looking to raise rates were the favorite of investors. Nations with central banks who were ‘in front’ of the inflation curve and raising rates to combat future inflation were the best places to invest during this time period. Lately the currency markets have been trading on risk aversion, with bad economic news pushing investors toward the dollar, and positive news moving them back into higher yielding assets. As the global recession eases, I would look for the currency markets to return to past trends, and reward those currencies who have rising interest rates. Australia seems poised to benefit under either scenario, as they are already in the ‘higher yields” camp and are also predicted to move these rates even higher.

No big news out of the boondoggle in Jackson Hole, not that I expect any! There was one story which caught my eye yesterday regarding the meeting. Mohamed El-Erian, who is the CEO of bond giant PIMCO was on the news wires with suggestions for the central bankers meeting in Jackson Hole. He apparently is worried about the disjointed approach these central bankers have taken in their intervention with the markets and believes the approach will lead to volatile markets and slower global growth. He also believes we are in for a drop in the value of the US$. “The question is not whether the dollar will weaken over time, but how it will weaken,” said El-Erian. “The real risk is that you will get a disorderly decline.” According to El-Erian, the euro will rise to $1.60 by the end of 2010 and the Canadian dollar will appreciated to 1.01.

And finally, the Mexican central bank will probably keep their interest rates unchanged at their meeting today. Inflation which has been running above their target level will prevent policy makers from cutting the benchmark rates to stimulate their economy. The Mexican pesos has turned in a good month, even outperforming the popular Brazilian real and Australian dollar. But don’t get too excited, Mexico is still very dependent on a strong US market, and at least some of this appreciation has been due to rising oil prices.

Speaking of oil, crude ran through another milestone yesterday hitting the high for the year. Oil exporters such as Norway, Brazil, Mexico, and Australia should continue to benefit from these higher prices. But the other commodities we track, gold and silver, seem to be stuck in a range. Silver seems especially cheap compared to gold right now, and both are good hedges against future inflation. I have to believe both are set for a breakout on the upside at some time down the road.

Currencies today 8/21/09: A$ .8331, kiwi .6789, C$ .9229, euro 1.4329, sterling 1.6574, Swiss .9448, rand 7.8576, krone 5.9725, SEK 7.0928, forint 187.70, zloty 2.8667, koruna 17.7965, yen 93.88, sing 1.4378, HKD 7.7511, INR 48.595, China 6.8313, pesos 12.846, BRL 1.8442, dollar index 78.06, Oil $73.59, 10-year 3.46%, Silver $14.01, and Gold… $944.40

That’s it for today…Hope everyone has a Fantastic Friday and a Wonderful Weekend!!

Chris Gaffney

Source: Mortgage Delinquencies Move Higher…

Good day… And a Wonderful Wednesday to you! Another day with the medicine in my knee and it feels better yet today… I did have to ice it last night though, I guess I’m still not out of the woods here, but I can see the exit!

There was very little in the way of movement in the currencies yesterday. The euro moved to 1.4150, but was brought back down to the 1.41 handle overnight. Stocks rebounded yesterday, which gave a few risk takers the intestinal fortitude to dip their toes back into the risk assets water… But there just weren’t enough of them to give the currencies the push they deserved to get.

OK… I gone for a few minutes, but I’m back now… My all-time fave Journey song was on the radio, so I had to stop to sing along. As always it’s a good thing there’s no one else here with me in the early morning! Oh! My fave Journey song? I knew you were wondering… The Girl Can’t Help It…

Sorry about that tangent, but, you know me, I just type what’s on my mind! But, back to currencies we go!

In a classic case of “The Markets do what they’re supposed to do… Just not when” There are more than a handful of very well educated people and well respected investor types that have see the writing on the wall for the dollar… But… The markets have decided that it’s just not the right time…

This is what I always say about diversification folks… It’s the Hedge or insurance if you will that the Markets do what they’re supposed to do… Now! Or whenever it is they do it… There won’t be any tornado warning sirens, it will just happen… And you’ll either be diversified with a portion of your investment portfolio out of the dollar or you won’t… The great thing about this country is that you have the freedom to choose what goes in your investment portfolio… That is at least right now you do…

The reason this whole idea came to light for me this morning is a story that appeared on the Bloomie that was a reprint from a NY newspaper that I refuse to mention. The title line on the story goes like this: “Buffett Says U.S. Federal Debt Poses Risks to Economy, Dollar.” OK, so you know that this had to pique my interest, eh?

Calling it the “gusher of federal money”… Buffett had this to say… “The U.S. must address the massive amounts of “monetary medicine” that have been pumped into the financial system and now pose threats to the world’s largest economy and its currency.”

So… Just chalk this down to yet another Big Kahuna, that sees the writing on the wall for the dollar, but the time is not right… That makes me think of those old wine commercials that would say, “we will sell no wine before its time”…

The folks over at PIMCO (Pacific Investment Management Co), the world’s largest bond fund, also believe that the dollar will weaken as the U.S. pumps “massive” amounts of money into the economy. They even go further, in a letter to customers, saying that the drop of the dollar will come mostly against the emerging market currencies. “the greenback is losing its status as the world’s reserve currency, said Curtis Melbourne, a PIMCO portfolio-manager. He went on to say… “Investors should consider whether it makes sense to take advantage of any periods of U.S. dollar strength to diversify their currency exposure.”

WOW! Isn’t this what I always say to you… Always, always be yourself, no wait! I always say to use dollar strength as opportunities to buy at cheaper levels! But the really funny thing that I saw was this… A reader sent a link to this story from PIMCO to me… And said… “Maybe if they read the pfennig they would have had a clue before today?” HAHAHAHAHAHA! That’s absolutely correct! And I’ll tell you this… A lot of Big Houses have people in research and trading desks that read the Pfennig each day…

There’s more risk aversion creeping into the markets overnight (thus the drop back to 1.41 in the euro we just talked about), as the Shanghai Index fell -4.3% overnight… That weighed on European stocks this morning, and will carry over to U.S. stocks most likely…

The data cupboard has been emptied out and is looking to get restocked today… So the only thing besides sentiment moving the markets today will be the direction of stocks…

Talk about being tied to China… The Aussie dollar (A$) pushed to 83-cents yesterday before the rot on the Shanghai Index’s vine was exposed… And the A$ is back to 82-cents this morning…

And… Just to confirm one more time that the Risk Aversion campers have taken over the campground, Japanese yen is the strongest it has been in weeks, looking as though it will take out the 94 handle… Feeling stronger every day, I know I’m all right now…

One currency that seems to “hang in there” the most, with no upside or downside to speak of, is the Swiss franc… Wanna know why? It’s not because the Swiss National Bank (SNB) has warned the markets about franc strength… It’s because the SNB has been sell francs every time it begins to move higher… SNB member Thomas Jordan was interviewed yesterday, and he confirmed what the markets had suspected for some time now, and that is that the SNB was selling francs to stem gains…

You know… I don’t like it when a country’s Central Bank sells its own currency… You may recall that the Reserve Bank of Australia (RBA) has done this in the past to keep their currency from moving too high too fast. This is where I think Central Banks overstep their job description… They are supposed to protect the value of the currency… NOT harm the value of their currency! I understand what these Central Banks are attempting to do here, it still doesn’t mean that I have to like it!

Speaking of Central Banks… The cartel, I mean the Fed Reserve, has been keeping very quiet recently… I think that since Big Ben Bernanke told Congress that he had no idea where $500 Billion dollars that left the Fed went, he’s doing damage control… He is up for re-appointment in January, and that statement won’t be a gold star on his resume’, eh? I was reading my friend, John Mauldin’s weekly letter this past weekend, and he mentioned that some pretty important people that are “in the know” made a bet that Big Ben won’t get re-appointed by the President in January… WOW! One and done for the helicopter Ben? I’ll have to see that to believe it, as he has gone along with all the back room deals, brokerage sales, and changes to power that the administration is orchestrating… Whatever administration it was or is… Doesn’t matter folks… There’s been no change, except for the different color of lipstick on the pig…

Speaking of such a thing… That was the title of my presentation to that HUGE crowd of people in Vancouver at the Agora Financial Reserve’s Wealth Symposium last month… That presentation was so well received, that I’m using it again in San Francisco on Friday… Updating it of course! Right Jason? And that is… “Applying a different color of lipstick to the pig”… Of course long time readers know that I’ve used the term: you can put lipstick on a pig, but it’s still a pig; for a long time, and way before it became popular last fall during the election. The pigs in this case are the deficit and the dollar…

For instance… The deficit continues to grow to record levels each day, but is Washington D.C. addressing it? NO! they have decided to place all their attention on another item that’s taking all of their time and efforts. Just applying a different colored lipstick to the pig, folks… That’s all it is…

We learn these things in media training… To divert… To something you want to talk about… That’s what’s happening here…

A long time reader sent me some notes yesterday, and this one snippet I think addresses this in its entirety… “Here we are with the Japanese experience fresh on our doorstep, and we (or at least our government) is doing almost exactly the same thing. REFUSING to acknowledge weak balance sheets, denying reality, and virtually guarantying that the problems will continue and get worse.”

OK… Enough of that! I could get started down a road that would lead to by blood pressure shooting through the roof, so… Let’s not go there!

We haven’t heard the term “green shoots” from Big Ben lately either… Again, I think that once you get the taste of your foot being in your mouth, you don’t want to experience that again! Remember when I told you that Big Ben’s “green shoots” were nothing but nut grass, weeds if you will? Here’s the image I would get whenever Big Ben or the copy cat media types would mention “green shoots”… A guy feels ravenously hungry late at night and raids the fridge. All that’s in there is a plate covered with aluminum foil. He removes the foil and finds a putrid piece of meat, covered with mold. He holds his nose and takes a close look. “Great”, he says, “green shoots”… (OK, I didn’t make that up, a reader sent me that note, and I told him that I definitely would use it in the Pfennig!)

I don’t recall how long ago it was that I said this, but I do know that I said this at some point in the past… And that is that the so called recession that we’re in is really a depression, and each time it looks like we’re going to come out, we fall back… I think I even said that we could have a quarter of positive growth, only to fall back to negative the following quarter… Let’s face it folks, this is a depression, not a recession…

Yesterday’s data cupboard had the semi-stupid PPI (wholesale inflation) print for July, and the index printed a negative -.9%! Reversing June’s jump to +1.8%… Year on Year, PPI is -6.8%… That spells price deflation, folks… And just means that things should be cheaper… But wait! Do you see cheaper prices? The thing I’ve been noticing lately is that when we send out for lunch each day, that the prices of things might not have moved, but the size of what you get sure got smaller… Which means that we’re paying more for less! Not less for more! Something is awry here don’t you think?

We also saw Housing Starts and Building Permits, which I carried on about yesterday… Well, they did not expand like forecast, but fell in numbers instead. Housing Starts were forecast to be 599,000, and came in at 581,000. And Building Permits were forecast to be 577,000 and came in at 560,000… Not as lofty as the forecasts, but still… 581,000 new housing starts when we are already choking on the inventory of houses that we have… I don’t get it… I really don’t…

I’m watching the euro pop up here in the past few minutes gaining 1/4 euro, which isn’t much, I’m well aware of… I’m just marking the move up…

Currencies today 8/19/09: A$ .8220, kiwi .6705, C$ .9030, euro 1.4135, sterling 1.6430, Swiss .9315, rand 8.0750, krone 6.1325, SEK 7.2475, forint 194, zloty 2.9550, koruna 18.16, yen 94.10, sing 1.4505, HKD 7.7515, INR 48.80, China 6.8341, pesos 12.96, BRL 1.8435, dollar index 79.10, Oil $68.75, 10-yr 3.44%, Silver $13.65, and Gold… $935.25

That’s it for today…Time to go! I hope your Wednesday is Wonderful, and I’ll talk to you next on Tuesday next week!

Chuck Butler

Source: A Gusher of Federal Money…

The mainstream press would have us to believe a real estate market rebound is imminent. They keep glomming onto any data that shows the slightest sign of stability.

• For instance, Bloomberg jumped all over the July 1 report from the National Association of Realtors that showed pending sales for previously owned homes rose for the fourth consecutive month.
• Other outlets had a field day with the news out of the Mortgage Bankers Association that refinancings hit a three-month high in early July.
• And ditto for the news that foreclosures dropped 11% in the second quarter.

But these “signs of stabilization” are bogus. Or to beg, borrow and steal from value-investing legend, Whitney Tilson, they are the “mother of all head fakes.”

Fact is, these short-term improvements were fabricated. They materialized because of temporary factors like the $8,000 first time homebuyer tax credit (set to expire November 30), artificially low interest rates (remember the Fed’s been buying Treasuries, en masse, since March to suppress rates) and government and bank moratoriums on foreclosures.

In the end, all this massive intervention is doing is propping up short-term results and prolonging the inevitable. Furthermore, to turn a blind eye to all this government meddling and pretend it’s not artificially influencing demand and prolonging foreclosures, would be irresponsible.

Don’t get me wrong. I’m happy to see an improvement in the market from bad to less bad. But overall, the numbers are still crap.

Three Obstacles to a Housing Market Rebound

Over half of the homeowners who took advantage of loan modification programs, are delinquent again. They weren’t paying before they got interest rate and/or principal reductions. And go figure? They’re not paying now. Great idea Washington!

On top of that, housing prices are still too high to attract buyers yet too low for sellers who are underwater on their mortgages. Such out-of-whack supply/demand dynamics will only foster more uncertainty.

In my opinion, before any meaningful recovery in real estate prices can take root, we need to overcome three major obstacles…

• Rebound Obstacle #1: Inventory Glut. Nearly 10% of all homes built this decade are sitting vacant, compared to a historical average of 2.2%. In total, we’re sitting on almost 10 months worth of inventory versus a historical average of four months. If we factor in the “shadow inventory” – the roughly 600,000 homes that banks are withholding from the market – the problem worsens. Excess supply always erodes prices.
• Rebound Obstacle #2: Loan Resets. Forget subprime. We’ve already worked through 80% of those resets and written down $1.47 trillion in the process. Now we’re facing a $2.5 trillion mountain of Alt-A loan resets. The first big wave hits mid-2011, with the peak expected to come in early 2013. So we’ve still got time, but the early stats hardly instill confidence.More than 20% of Alt-A loans are already 60-plus days late, up from an average of about 3% for the last decade. If interest rates creep up even modestly in the next two years – a near cinch given the likelihood of inflation – payments will increase notably. In turn, so too will default rates.Bottom line, another wave of massive writedowns looms on the horizon.
• Rebound Obstacle #3: Foreclosures. One in four homeowners are now underwater. If we break it out by loan type the picture gets worse – 25% of prime loans, 45% of Alt-A loans, 50% of subprime loans are severely underwater. Add in the 6.5 million Americans out of work since the recession began and it doesn’t take an Einstein to predict where foreclosures are heading. Credit Suisse estimates that we’re in store for a total of 6.5 million by 2012.Even the Mortgage Bankers Association (MBA) concedes the obvious in its first quarter update, saying, “Looking forward, it does not appear the level of mortgage defaults will begin to fall until after the employment situation begins to improve.” Since the rosiest prediction doesn’t expect unemployment to peak until early 2010, as the MBA acknowledges, “…It is unlikely we will see much of an improvement [in foreclosure rates] until after that.”The fact that the social stigma attached with “walking away” has been severely (and sadly) diminished over the past decade only adds to the foreclosure heap. And more foreclosures will inevitably push prices lower.

The Housing Market’s Reality Bites… But We Can Still Profit

As I’ve said, a simple supply and demand equation underpins the housing market. Right now, there’s way too much supply. Thus, prices can only go lower. And in my opinion, they’ll go significantly lower.

Since the peak, home prices have dropped 34%, based on the Case Shiller Index. However, prices still rest roughly 10% above the long-term trend line.

But given the supply imbalance is so dramatic, and the fact that markets consistently overshoot resistance and support levels, I’m convinced that prices will crash right through the trend line, falling another 20% to 30% before we see a legitimate turnaround in 2011.

I’m not alone, either. Mortgage insurer PMI Group estimates that a 75% chance exists that the majority of our metropolitan areas will experience price declines through the first quarter of 2011. And if we experience a double-dip recession, all bets are off on how low prices will go.

The brave at heart can look to profit from the decline by shorting any of the major homebuilders like:

• Pulte Homes (NYSE: PHM)
• KB Home (NYSE: KBH)
• DR Horton (NYSE: DHI)
• Toll Brothers (NYSE: TOL)
• Or Lennar (NYSE: LEN)

Be warned, though. The ride will be volatile.

Otherwise, the newly launched MacroShares Major Metro Down ETF (NYSE: DMM) is an option. The exchange traded fund is benchmarked to the S&P/Case-Shiller Composite-10 Home Price Index and features three times (300%) leverage. For every 1% decline in the index (i.e. real estate prices), the ETF should increase in value by 3%.

For the truly conservative investor, I recommend the “nothing ventured, nothing lost” approach. In other words, wait to go long when buying real estate because we’re nowhere close to a bottom. At the very least, wait for the prevailing shrink-wrap frenzy to end.

Good investing,

Louis Basenese

Source: Three (More) Reasons Real Estate Isn’t Rebounding

If you need a place to live and want to own a house, why not? Prices in some areas are fairly reasonable. But if you’re speculating, our guess is that you’ll get a better deal if you wait.

Why? For the many reasons we have given you in these Daily Reckonings. House prices may be firming in some areas – that’s what the Case-Shiller numbers seem to show. But nationwide, they are probably headed down for quite a while longer.

Herewith, four reasons why:

First, as you know, this is a depression. It will probably be long. And deep. You wouldn’t know it from looking at the stock market or reading the news. The Dow went up another 114 points yesterday. Oil rose to $71. And the dollar – anticipating inflation – fell to $1.44 per euro.

But that’s what bounces are supposed to look like. They look good enough so that people mistake them for the real thing… and get suckered into more losses.

Depressions drag down asset prices. Typically, prices become much more reasonable. And then they reach UNREASONABLE levels. House prices have become reasonable. Now they will become unreasonably cheap…

Second, waves of resets and foreclosures are still washing over the housing market. As Barry Ritholz told us in Vancouver, we’re only half way through the foreclosure process. There are more than 18 million empty houses in America. A news report yesterday told of a 32-storey apartment building in Florida with only one lonely tenant.

And still coming up are more refinancings… more drowning homeowners … and more people giving up on homeownership altogether. The bubble era created new households at the rate of 1.2 million per year. Practically every one of them wanted to get in on the housing boom. Now, there are only 500,000 new households per year. And few of them still believe that housing is the route to wealth. At the current rate, it will take many years to fill up all America’s empty houses.

Third, incomes are falling. Property crashed because people with average incomes could no longer afford to buy the average house. Now, they can afford even less. Ken Rogoff estimates that the consumer needs 6-8 years to pay his debts down to a more reasonable level. Part of that deleveraging process will mean getting rid of heavy mortgage debt – one way or another.

Fourth, there are too many houses that are too big… and in the wrong places.. Big houses were a status symbol in the bubble years. Now they’re a symbol of extravagance and error. Plus, they’re expensive to own. People will want to dump them – even if they can afford them. There was far too much building in the outlying suburbs of the sand states too – Arizona, Nevada, California and Florida. Those houses may have to be abandoned as people are forced to move closer to where the work is.

There are also a couple of more technical reasons why the Case-Shiller numbers may be erring on the bright side: seasonal adjustments and a changing mix of houses sold. But our guess is that real house prices – adjusted for inflation – will continue going down for many more years.

You want to see deflation? Go to Tokyo City in London. The restaurant chain says it is going to give its food away for free. Customers will pay for drinks plus 2 pounds 50 pence for service.

Meanwhile, in Tokyo itself prices are falling – again. The Japanese have had on-again, off-again deflation for the last 20 years… ever since their stock market crashed in 1989.

Hey, what’s the matter with those Japanese? Don’t they know about stimulus?

Hold on there, pilgrim. What the Japanese don’t know about stimulus ain’t worth knowing. They’ve stimulated their economy so much that their government debt now measures 200% of GDP. And what did they get for all that stimulus? Did it get their economy moving?

Are you kidding? Now, the latest news tells us that they also have the highest jobless rate in 6 years. And the latest figures show the inflation rate NEGATIVE. In fact, never has the inflation rate been lower.

*** Nissan announced an electric car. Shares soared.

*** Jobless benefits are running out for 1.5 million unemployed Americans, says a New York Times report.

*** And here a commentary by David Pauly on what Wall Street is doing about low earnings – lying!

“Stock analysts continue to promote corporate earnings lies, insisting that net income isn’t really what investors need to know… .

“In analyst speak, Intel Corp. (NASDAQ:INTC) wasn’t hit with a $1.45 billion fine from the European Union in the second quarter for anticompetitive practices.

“After setting aside funds to cover the fine, which Intel is appealing, the semiconductor-maker had a quarterly loss of $398 million, or 7 cents a share. Disregarding the fine altogether, analysts maintain the company earned 18 cents a share, beating their average estimate of 8 cents.

“As Wall Street tells it, the employee stock options Google Inc. granted in the second quarter didn’t cost its shareholders $293 million.
“Google (NASDAQ:GOOG), according to generally accepted accounting principles, earned $1.48 billion, or $4.66 a share, in the period. Not enough for Wall Street, which prefers to say the company earned $5.36 a share, leaving out the cost of stock options.

“Viacom Inc. (NYSE:VIA.B), an entertainment company, this week reported second-quarter net income of $277 million, or 46 cents a share. Analysts had estimated profit as if money Viacom paid out in severance in the period wasn’t the real thing. On that basis, Viacom earned 49 cents a share, beating the average estimate by 1 cent.

“Time Warner Inc. (NYSE:TWX), a rival of Viacom for entertainment dollars, said it earned $519 million, or 43 cents a share, in the quarter. Analysts insist Time Warner earned 45 cents, excluding, according to Bloomberg data, costs related to litigation and asset sales. Lawyers must work for nothing.

“By similar Wall Street reckoning, the expense of cutting jobs and selling an asset that reduced McGraw-Hill Cos. (NYSE:MHP) second quarter earnings per share by 10 percent was immaterial.

“Analysts also say investors should ignore $129 million that Textron Inc. (NYSE:TXT), maker of small airplanes, helicopters and golf carts, charged against net income in the latest quarter. Included was the cost of shutting a plant for an eight-seat jet Textron decided not to build.

“General Electric Co. (NYSE:GE), which makes jet engines and electric power equipment and has a financial services arm, had a second- quarter profit of 24 cents a share. GE and the analysts emphasized earnings from continuing operations, which at 26 cents a share, exceeded their estimate by 2 cents. A $194 million loss from discarded businesses was discarded.”

And so on… and so on…

*** “As You Like It” was as we liked it – lively, bawdy, and raucous. It is not Shakespeare’s finest play – or so the critics say. But it has some marvelous dialogue. “All the world is a stage… ” is the most memorable.

Our hostess had set up a stage on the lawn and put out a hundred or so chairs for guests. But by the time we sat down it had begun to rain. The chairs were wet. A Frenchman gallantly wiped off Elizabeth’s chair. Your editor sat down in a puddle… and the play began…

The rain continued throughout the performance. Some spectators – perhaps those who listened to the weather forecast – came equipped with parkas and anoraks. We had an umbrella, which we held over our heads throughout the performance.

Despite the drippy conditions in the bleachers, a good time was had by all. The English actors who performed the play were real pros. They enlivened the set with music and acrobatics, moving the story forward 4 centuries to the days of Peace & Love and strawberry fields forever. We never quite got the connection… but it seemed to work, somehow.

After the play was over, we retired to a stone barn for soup and dessert. There, we met neighbors whom we only see once a year – in August. Among them was a dear Daily Reckoning reader.

“I’m glad I bought gold when I did,” he said. “It was $600 or so at the time. So I made a gain on the gold. But the important thing was that I wasn’t caught in that sell-off in stocks last year.

“What do you think gold is going to do now?”

“Probably, it will go down,” we replied.

“So, you’re selling your gold?”

“No… we’re holding on… It’s too risky to sell it.”

*** “Of course, that’s the big question,” Elizabeth began on the drive home.

“What’s the big question?”

“About whether the world is just a stage. It’s really a question of free will. About whether we do things because we think them through ourselves, or whether we just play our roles.

“I suppose it’s related to the ‘Great Man’ theory of history… the idea that people actually determine history, rather than play their parts in it… ”

“It’s probably like all the great questions… that is, both true and untrue at the same time. I mean, Louis 14th couldn’t have been Louis 14th if there hadn’t been a Louis 13th… and if France hadn’t been the leading country of Europe… and if it hadn’t been the peak of the monarchic age.

“And Rommel couldn’t have led a Blitzkrieg in WWII if the tank hadn’t been invented in WWI… .

“In both cases, it appears that Shakespeare was right… that the roles were already there, just waiting for someone to play them… ”

“Yes, but I wonder if that is true… or as completely true as it looks. The fellow who took over from Lenin didn’t have to be a monster, did he?”

“I don’t know. If he hadn’t been so ruthless some other guy probably would have purged him out… sent him to the gulag. Once a revolution gets started, the most violent and ruthless groups seem to take over. So, I guess you could say that even there… the role must be played… ”

“Does that apply to our personal lives, too? Are we just playing roles? You are pretending to be my husband. I am pretending to be your wife. We are pretending to love each other. Is that all there is to it?”

“No… no… that’s very different… ”

“How so?”

“I don’t know… but when I say I love you, it comes out of my soul like smoke from a sacred volcano… ”

“What does that mean?”

“I don’t know… I just like the sound of it… ”

Source: More Empty Houses in America

So far, not a single major university has asked us to make the commencement address. Nor a minor college. Not even a school of cosmetology or taxidermy. But here at the Daily Reckoning headquarters in London, protected by a broad ocean and a narrow reading of the First Amendment, we will give them – and UK graduates too – advice no one asked for.

“Plastics,” was the advice given to college graduates in Mike Nichols’ ’67 film. But that was when there was still hope for America’s manufacturing sector. Even then, it was too late. The percentage of GDP from the manufacturing sector fell for the next four decades, from over 20% in the last ’60s to barely 12% last year. Better advice would have been ‘derivatives.’ They stank just as bad, but they were much more profitable. While only 8% of GDP, finance accounted for 40% of corporate profits in 2007. And derivatives grew from nothing to a face value of 16 times the GDP of the entire planet.

But your elders are always giving you bum advice.

“You cannot decline the burdens of empire and still expect to share its honors,” said Pericles to the class of 430BC. He lived during a time not unlike your parents’ era in the USA – when Athens was on top of the world. But vanity got the better of him. He launched an attack on Sparta that backfired badly. He soon died of plague and Athens was not only ruined, but enslaved. Athens’ ‘golden age’ turned to lead. Young Athenians should have shrugged off the burden rather than accept it. You should do the same.

When you were born 20-some years ago, the nation’s total debt per person was less than $90,000 – adjusted to ’09 dollars, of course. While that was a lot of money, it was nothing compared to what was coming. Now it’s $186,717 per person – more than twice as much, in real terms. Fortunately, private debt is not inheritable. But it comes to you as a lien against property. Instead of paying off their mortgages and leaving you a house, free and clear, the baby boomer generation spent the ‘equity’ in their houses even faster than they got it. House prices rose. But mortgage debt rose faster. While your grandparents owned 80% of their houses, by 2007, the typical homeowner only really owned 4 rooms of an 8-room house. And then, when house prices fell, so did his remaining equity…to the point where one out of six homeowners in America is now underwater. You could still eventually inherit a house, but you may have to scrape the barnacles off the front porch.

But that’s not even the half of it. While your parents had control of the US government they allowed themselves a little larceny. Add the unfunded retirement and healthcare benefits they voted for themselves to the official national debt, and together they are scheduled to cost your generation 4 times the total annual output of the US. This is over and above the private debt they accumulated.

Some of this debt can be carried. Some will have to paid down. But as it stands, as much as $77 trillion of post-’09 earnings must be stolen from the future in order to pay for the liquor your parents drank…the bombs they dropped on god-forsaken foreigners…and the interest on their debts. So, forget about saving for a European vacation or a house of your own. Even if every penny of your savings – and every other American’s savings – are put to the task you will still be paying for your parents’ expenses all your life.

But wait, there’s more! The burden is getting heavier. Federal budget projections show an additional $7 trillion in deficits over the next 10 years. Described as the cost of fighting recession, the present generation buries its own mistakes under cash that the next generation hasn’t even earned yet. Today’s bankers, businessmen and speculators are being bankrolled by you – tomorrow’s bankers, businessmen and speculators. Today’s homeowners get a helping hand…from whom? Tomorrow’s homeowners – you. Today’s employees get a boost too. Same story. Where do you think the money came from to pay Wall Street bonuses this year? How do you think GM stays in business…and Fannie Mae…and AIG… Who pays those salaries? Who pays to keep troops all over the world and keep old people supplied with new drugs? Who pays for hundreds of billions’ worth of ‘shovel ready’ boondoggles? You will. At least, that’s the plan.

The luck of one generation is the curse of the next. Like Pericles, your parents inherited a dollar; they leave you a peso. They took over the strongest, richest, most competitive nation in the world. And like Pericles they minded everyone’s business but their own. Now, not only does the US owe money all over town, its government puts out trillions more in IOUs every year – each one with your name on it. You’re not even out in the real world yet, and you’re getting the bill for 50 cents of every dollar the feds spend – almost none of it earmarked for you. But that is the thing about the real world your teachers probably forgot to tell you about. It is more unreal and fantastical than anything you studied.

Here’s what’s real: You’ve been dealt a bad hand. From the bottom of the deck…your parents have slipped you some nasty cards. Our advice? Fold ’em. Get up from the table before they clean you out.

Enjoy your weekend,

Bill Bonner

Source: Class of ‘09: You’re Screwed

This is a good analogy for the economy and markets. Our capitalist society is a beautiful thing that rewards entrepreneurs and intelligent risk takers and investors. But for the past few years, we’ve got ourselves into quite a tangle with the housing bubble and credit contagion.

And with such a big mess, it will be a while longer before we can straighten it all out and see an economic recovery. Here are the key areas to keep an eye on for clues as to when we’ll emerge on the other side…

An End To The Recession This Year? Don’t Bet On It…

A recent survey showed that the vast majority of economists believe we’ll come out of the recession in the second half of this year.

I’m not convinced. I think that’s a little too optimistic.

But regardless of my opinion, there are three crucial factors that will tell us that the economy is back on solid footing, regardless of the “technical” definition of recession.

Look To These Three Areas For Signs Of An Economic Recovery

~ Jobless Claims
Last week, the number of initial jobless claims fell to 631,000. While that’s certainly better than the 643,000 the week before, it’s still a horrendous number.

The national unemployment rate stands at 8.9% – and if you take into account the number of people who’ve given up looking for work, or those who are under-employed, that figure nearly doubles.

Speaking of the latter, while at Starbucks (Nasdaq: SBUX) last week, I heard the girl behind the counter tell a friend that she’s making one-third of what she made at her last job. At that rate, she’s probably just barely keeping her head above water, yet she isn’t counted in the official unemployment figures.

Stories like this are everywhere – people who’ve been able to keep their jobs, or stay employed somewhere, but needing to take a pay cut to do so.

It’s quite simple: The economy won’t be meaningfully better until those numbers come way down. At the very least, we need to see jobless claims under 500,000 before it looks like we’re even headed in the right direction.

But in the end, though, we want to see jobs created, not just fewer jobs eliminated. If people don’t have jobs, or don’t feel secure in their jobs, the economy isn’t going to get the injection of consumer spending (keep in mind that this accounts for about two-thirds of economic growth) that it needs to recover.

~ Housing Prices
As long as U.S. real estate prices are falling off a cliff, taking homeowners’ equity with them, consumers will feel poorer.

In March, for example, the average national home price collapsed by 18.7% from a year earlier. A CNBC story actually tried to put a positive spin on it by saying, “Some relief appeared to be in sight as, for the second month, prices did not slide at a record rate as they had been doing since 2007.”

Are you kidding me?! An 18.7% decline is relief? That’s like saying banging your head against a wall is “relief” after hitting yourself in the head with a Louisville Slugger.

Unlike the job market, we don’t necessarily need housing prices to rise to lift the economy… just to stabilize. If people have a sense that their largest asset is not going to decline in value, that should help ease anxiety. Until then, homeowners will be skittish.

And finally…

~ The Stock Market
The stock market is a forward-looking indicator and typically leads the economy by about six months.

Having climbed by 40% from the lows in March, it’s at a crucial juncture where it now needs to stay up. As I’ve said before, I don’t believe it will, but if it does manage to hold these gains and build a base, that would be a good indicator that things are turning around.

On the other hand, a decline to recent lows would suggest that the economists are wrong once again.

Good thing we don’t take our lead from economists. The best way to gauge the economy’s health right now is to look at these three simple, common sense data points. And so far, two of them are pointing in the wrong direction.

Marc Lichtenfeld

Source: When Will The Economy Recover? These Three Key Areas Will Tell You…

Tilson says there will be “a headwind of continued losses for the better part of five years.” That’s because banks are facing more losses on residential and commercial real estate.

Tilson and Tongue expect additional losses at banks of more than $1 trillion. They also say US home-price drops could overshoot fair value of about 40%, to a decline of 50%.

T2 is selling selected bank stocks. Despite the “green shoots,” we advice readers invested in banks to consider doing the same.

Speaking to Reuters, Tilson said he really liked his bets that will profit when stocks drop, especially MBIA Inc (NYSE:MBI), which he says is so under reserved for losses that it will be seized and placed in runoff this year.

I guess the theme of the day is “circular logic.” It does not matter whether we look at the real estate industry or the banking sector, as long as the government is involved, things just won’t make sense.

As if the nation’s bankers do not already have enough on their plates, the FDIC’s chief, Sheila Bair, is telling the nation her agency’s insurance reserves could run out later this year. That could be a major Great Depression-era problem.

But have no fear. She has an answer.

The FDIC merely tends to force the nation’s banks to put more into the reserves. That’s right, ask the companies that are failing to pay more for the insurance that protects them.

Needless to say, the industry is going ballistic. Just as the Obama administration wants to increase taxes during the worst recession in many of our lives, Bair wants to raise the price of doing business for the nation’s most-desperate industry.

Read the full article here: Source: Banks going broke? Charge them more

It’s not that I take issue with his opposition to the Obama housing plan:  Absolutely, responsible homeowners who kicked in a hefty down payment on a 30-year fixed mortgage should not have to bail out those who bought more house than they could afford.

But I won’t be taking part in any “Chicago Tea Party” he might plan for this summer.

Santelli has walked straight into a trap, one I daresay Obama aides David Axelrod and Rahm Emanuel cleverly set.

For all the popular support The Rant has garnered for Santelli, a backlash has developed.  “Watching Rick Santelli’s embarrassing diatribe at the expense of the American people made me realize that these Wall Street frat boys still don’t get it,” writes John Amato at the Huffington Post, echoing much of the left blogosphere.  “America is sick and tired of the riches they have manipulated out of the system and then be lectured by people who make more money than 100 middle class workers put together.”

That’s pretty hard to respond to — unless you actually opposed the Wall Street bailouts, thus proving your laissez-faire bona fides.

But as near as I can tell, Santelli comes up way short on this measure.  Where are the YouTubes of him calling for a taxpayer revolt when the banks were getting bailed out?  He’s a colorful enough speaker, he’d surely have eclipsed the guys we know did criticize the bank bailouts like Peter Schiff, Jim Rogers, and Marc Faber.

And so, Santelli finds himself boxed in — billions for bankers, but not one cent for homeowners.  That’s an impossible box to get out of.  Then Chris Matthews gets Santelli to fess up he voted for McCain (who like Obama, voted for TARP I).  So The Rant now looks less like a courageous stand for personal responsibility and more like a petty partisan thing, red meat for the red states.

That’s exactly how the White House planned it.  Obama didn’t announce his housing program until more than a week after Tim Geithner released the TARP II turkey.  The banksters got theirs first.  Anyone who then turned around and opposed help for “the little people” without having first opposed help for the big boyz could be portrayed as cruel and heartless.  (Never mind that by cutting monthly payments, all the housing plan will accomplish is putting homeowners in further hock to their lenders.  So the banksters get theirs on this one too.  They always do.)

“Chicago Tea Party”?  Please.  Santelli insults the memory of Samuel Adams.

Source: Why I’ll Sit Out the Chicago Tea Party