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Rate Watch #811 Models, Beliefs and Data
January 20 , 2012
Existing Home Sales (December 2011)
- Existing Home Sales - 4,610,000 (seasonally adjusted annual rate)
- Previous was 4,420,000
- Month/Month +5.0 %
- Year/Year +3.6 %
All cash transactions were 31% of the market. The issue may be that many foreclosures are in condition not up the FNMA lending standards. Distressed sales were 32% of the market. 21% of the sales were to investors.
This trend is healthy because it is only investors buying homes they will fix and rent who can provide the buying capacity to absorb the present supply (which was down to 6.2 months from 7.2 months at the end of November) as well as the shadow inventory of distressed sales which will be created by foreclosures this year. The folks who buy, repair and rent out these homes are helping stabilize values and also creating cash flow for themselves which will be a plus for the economy.
I do not see this as a story indicating that the housing market is in significant recovery. It is, however, a necessary step to recovery. It also shows that recovery is accomplished by letting the market work rather that by taxpayer funded incentives which add to an already massive national debt. The supply of existing homes for sale - both actual listings and shadow inventory - must be cleared before Housing Starts return to the natural level of 1,500,000 annual.
Fundamentals so far this new year have been weak. We may see very slower growth or a decline in 1stQ2012 GDP. The increase in Existing Home Sales, while modest, is at least a step in the right direction.
Rick Davis on Models, Beliefs and Data
This is by Rick Davis of Consumer Metrics Institute.
For those of us who track the macro-econometric behavior of consumers, the past six or seven months have been (at best) challenging. Just teasing out a "macro" behavior has been difficult, with wildly conflicting signals proving to be the norm. In retrospect, even the time-honored surveys of holiday retail activities are now proving to have been somewhat optimistic -- suggesting incidents of wishful cheer-leading.
What's going on? Why do we have such mixed signals?
Model Disconnect
Our answer to those questions is relatively simple: mixed signals generally indicate models that are no longer working; where paradigm shifts have rendered the underlying assumptions inaccurate -- if not irrelevant. Extreme or historically unprecedented circumstances can break any model, and persistent extremes can even challenge the underlying economic dogma.
(One of the more glaring examples of a model breaking down is a popular economic "leading index" which has been premised (and heavily weighted) for years on the assumption that the money supply (M2) and the yield curve manipulations of Messrs. Volcker/Greenspan/Bernanke accurately presage changes in economic growth -- an assumption that even the publisher of that index now admits had flaws.)
Our Beliefs
We believe that the situation with U.S. consumers is to some extent too complex for "macro" modeling. At the heart of the complexity are 100 million households that are each uniquely impacted by circumstances and who react uniquely to their various plights. We believe that the past five years have not been a fully shared experience, and that the policy responses of government over that time span have only amplified that disparity.
Furthermore, we believe that the ongoing acceleration of the speed with which cultures evolve or people communicate and transact have caused economic paradigms to shift faster than even the most nimble survey or model can handle. Among the obvious questions: what currently constitutes the paradigm for the household that a "household survey" is designed to sample? (And how do you reach a full cross-section of those households -- especially if some only communicate via Twitter?) Or perhaps more importantly for certain key statistics: what is the distinction between being unemployed and "going back to school"? Between unemployment insurance and student loans? For five years this economy and society have been in flux and turmoil in ways that don't lend themselves to "macro" treatments or generalizations.
At the Consumer Metrics Institute we have been fortunate enough to be able to measure the aggregate behavior of a certain demographic: consumers who are purchasing discretionary durable goods on the Internet. Several years ago we were confident that such data could serve as an adequate proxy for the "macro" behavior of U.S. consumers -- and for the larger part of the U.S. economy as a whole, since consumers represent some 70% of that economy. For the reasons outlined above, we are now far less certain that any "macro" behavior actually exists or can be extracted from the economic turmoil.
But for exactly those very same reasons -- particularly the rapidly evolving nature of households, communications and marketplaces -- we believe now more than ever that our data comes closer to documenting the real-time economic turmoil than any of the orthodox surveys or governmental data series.
Our Data
For whatever reason, our data for aggregate consumer demand for discretionary durable goods surged during June and July, plateaued for a couple of months before retreating slightly at the end of the year:
When we say "whatever reason" we know that there are roughly 100 million variations on those reasons, representing the 100 million or so U.S. households that are to some extent economic "loose-cannons" doing whatever makes the most sense for them. We also know that our data is early (i.e., far "upstream" from an economic standpoint), and we suspect that the early third quarter surge we saw explains the stronger consumer expenditures reported in the 3Q-2011 GDP reports.
The daily version of the above chart shows the normal holiday patterns:
 (Click on chart for fuller resolution)What the charts don't show, however, is the surge of returns experienced by brick-and-mortar retailers. Anecdotal reports in the media indicated that the returns were prompted both by shoppers trying to cash in on deeper discounts as the season progressed and by "buyer's remorse" when the euphoria of the "Black Friday" deals turned into budget realities. We expect that another form of "buyer's remorse" will be felt during the first quarter of 2012, when the reality of contracting real pay will result in 4Q-2011 gains that were merely moved forward from a weakening 1Q-2012 consumer sector.
Dick Lepre
RPM - SF Van Ness
Phone: (415) 244-9383 | Fax: (866) 488-2051
1400 Van Ness Avenue, San Francisco, CA 94109
CA DRE # 01143973 | NMLS # 302379
California Department of Real Estate - Real Estate Broker License #01818035, NMLS #9472. Equal Housing Opportunity.
Rate Watch #809 Jobs Market Much More than 2 Pieces of Data
January 6 , 2012
BLS Employment Situation Report
-Headline Nonfarm jobs was +200,000. Consensus was 150,000.
- Unemployment Rate was 8.5% down from 8.6%
- average hourly wage $23.24 up from $23.20
- average work week was 34.4 hours up from 34.3
- private jobs were +212,000. Government jobs were -12,000.
Reading beneath the surface:
- Good producing jobs were +48,000. The largest gain in a while.
- the size of the civilian labor force fell from 153,937,000 to 153,887,000.
- the labor participation rate (percent of adult non-institutionalized population who are part of the labor force) stayed at 64.0%. It was 64.3% a year ago.
This is the part I find interesting.
According to the 4 week moving average of Initial Jobless Claims 1,493,000 people lost their jobs in the last 4 weeks. That normalizes to 1,617,000 loast jobs in a month (there are about 13 4 week periods in a 12 month year). The question is if 1,617,000 people lost their jobs last month and we gained 200,000 jobs how did that happen. The answers are in the Household Survey.
In December 2011 BLS measured 4 sets of people entering or leaving the jobs market:
- Job losers and persons who completed temporary jobs was 7,602,000 (up 3,000) from previous months and down 1,275,000 from December 2010.
- job leavers was 953,000. This includes anyone who retired or voultarialy left working. This was -52,000 from previous month and +33,000 from December 2010.
- Reentrants was 3,399,000. Reentrants are people who were looking for a job a found one. This was +44,000 from previous month and -7,000 from December 2011.
- New entrants were 1,280,000. Unemployed persons who never worked before and who are entering the labor force for the first time. This was +4,00 from previous month and -26,000 from December 2010.
What does all of this mean? It means that the economic and social factors associated with the jobs market are vastly more complex than just the 2 pieces of data: change in jobs and unemployment rate. There are demographic factors (people retiring and young people entering the jobs market) which are as significant as the changes in the set of people continually part of the labor force.
The jobs market is a more complex thing than simple totals reveal. From month-to-month most people have the same job they had the month before but some workers die, some retire, some get laid off and some get rehired. In addition the market ideally should absorb young people who are seeking to enter the jobs market.
If people defer retirement because they do not have enough savings then total jobs may be higher than otherwise and while that is good because they are still earning and spending this could be contributing to fewer people at the other end of the age spectrum getting hired. That $7 trillion in lost value in household wealth which yesterday's Federal Reserve report mentioned may well have shifted the demographics of the jobs market.
Analysis of the monthly report is but another example of the inability or unwillingness of the media to try to understand and explain a complex topic. The average newspaper has 10 times more analysis of a professional football game than it does of the jobs market.
Dick Lepre
RPM - SF Van Ness
Phone: (415) 244-9383 | Fax: (866) 488-2051
1400 Van Ness Avenue, San Francisco, CA 94109
CA DRE # 01143973 | NMLS # 302379
California Department of Real Estate - Real Estate Broker License #01818035, NMLS #9472. Equal Housing Opportunity.
Rate Watch #808 2012
December 30 , 2011
by Dick Lepre
2011 was a great year for folks invested in Treasuries because prices rose driving yields down. What happened this year and what will continue in 2012 is flight to quality buying of U.S. Treasuries as investors flee Euro denominated assets especially EU government debt. The problem is gigantic and politicians are unwilling or unable to forge a solution and sell it to their voters. The ECB and the Fed has backstopped the EU banking system to provide liquidity but two thing have to happen: 1) losses most be taken and some entities recapitalized and 2) EU members need to decide if they are willing to have nations with no responsible fiscal policy to remain part of the Union. These are not easy choices.
What will the economy see in 2012?
1) Since 2012 is a Presidential election year we will see massive amounts of b.s. from the candidates and the media which back them. Objective interpretation of the data will be difficult to find.
3) It is actually worse than that. It is difficult to objectively interpret that data when the data is bogus. Well, it isn't really more difficult it is more a waste of time. We recently say NAR (National Association of Realtors) revise the last 5 years of Existing Home Sales downward. Did anyone believe NAR before that? Does anyone believe NAR now?
GDP data is released each quarter with, essentially, two months of real data and one month of guesstimates. Why? This is very important data. Why not wait until BEA has three months of data and then make the first release. Why do the deflators used by BEA to correct for inflation not the same as inflation data from BLS? Why does BEA refuse to explain how they get these numbers?
The media concentrates on the Unemployment Rate when a better measure of economic health is the percentage of the population which is working (Labor Participation Rate.) The fact that the Unemployment Rate went down this month was more due to the large number of people who stopped looking for jobs rather that the number of people who actually found jobs. In November 120,000 found work and 315,000 gave up looking for a job. Is that supposed to be good news?
It is my view that we do a poor job of collecting and reporting economic fundamantals. I am going to talk about this a lot in the coming year and suggest alternate sources of data. That is why, for example, I have often handed over analysis of GDP to Rick Davis of Consumer Metrics Institute.
4) Fiscal vs. Monetary Policy vs. Politics
We try to make believe that fiscal policy "taxes and spending" and monetary policy (interest rates and size of the money supply) are separate domains but it is obvious that they no longer are. The collapse of the housing bubble still has a pervasive effect on: the banking system, the deficit, and the jobs market. Massive injections of liquidity on the part of the Fed staved off disaster but with the consumer still struggling to make his payments the effects of increased money supply and Keynesian stimulus have been minimal.
On top of this, the fact is that politicians do not make fiscal decisions for any economically rational reason but solely to increase their own power and their probability of reelection.
There is a connection between bad data and bad fiscal policy. Economist William Barnett makes that case that because of the complexity of financial instruments such as MBS, simple sum money aggregates do not give an adequate measure of money supply. Barnett has created a new measure of money supply called M4- or the Divisa Monetary Index. This weighs the various components of money supply. Just a few weeks ago the St. Louis Fed started reporting the Divisa Monetary Index calling it MSI (Monetary Services Index) . I will write about this some time in the next few months. This is a link to the St. Louis Fed's explanation of MSI.
5) A Continued Miserable Housing Market
The worst of the housing crisis is in the past but values are still falling. They will continue to do so until the excess inventory created by foreclosures and the delay of foreclosure is cleared. There are a lot of houses out there which can be had for low prices if one puts the time into it and picks up smoothing from a foreclosure sale. Last week there was celebration because New Home Sales for November were 315,000 (annualized.) While 315,000 is larger that the previous month's 307,000 it is still pathetic. And this is with 30 year fixed rates at 4%!
6) Continued Mistrust of Wall Street and Business
While it is easy to be dismissive of OWS because it mixed together a stew of things the fact is that the grievances are well-based. Investment bankers do too little investing and job creating. Corporate executives are too little concerned about the well-being of their companies and their customers and too much concerned about rewards from short term profits and management of the stream of data which affects the price of the company's stock. Investment banks which make buy/hold/sell recommendations are laughable. They refuse to make any significant number of sell recommendations because that would not be conducive to doing business with those companies in the future.
I do not see this so much as "something is wrong with the system" as something is wrong with the players. Corporate ownership is too spread out for anyone to able to offer a sort of moral guidance. In my view there are a lot of entities which should not even be corporations. Wall Street worked better when the investment banks were not public companies but partnerships. Is the solution reverting these to partnerships? Maybe. At least then would be no value in misrepresenting income or net worth.
7) EU
It will most likely be the case that interest rates here are driven not by any of the substantial issues above but rather by what happens in the EU. Concern over European banks will drive money to dollar denominated assets and perhaps send the 10 year yield closer to 1.5%.
Dick Lepre
RPM - SF Van Ness
Rate Watch #805 Who Got Bailed Out?
December 9 , 2011
Before we try to understand what bank bailouts are let's first ask a simple question: what exactly is a bank?
I think it is best if we regard a bank by looking at it as three sets of people 1) the stockholders 2) the customers who a) place deposits in the bank - these are liabilities to the bank and b) borrow money from the bank - these are the assets 3) the employees.
Keep this in mind: a bank's assets consist of the loans that it owns and whatever physical assets it may own (real estate, for example.) A bank liabilities consist of shareholder equity and its deposit liabilities. There are rules which regulate the relative size of the two classes of liabilities. A bank can only take in deposit liabilities which are a certain multiple of its shareholder equity. These rules are international and are set by the Bank for International Settlements.
On September 15, 2008 Lehman Brothers filed for Chapter 11 bankruptcy protection. Lehman had made large investments in mortgage backed securities. Worse yet, there were highly leveraged. Lehman was not a bank but an investment bank and was allowed by SEC to leverage itself almost 31:1. A 3.5% loss in the value of its mortgage assets could wipe out all of the equity in the company.
The Lehman BK let out of the bag the fact that all the large investment banks and many large commercial banks were holding a ton of mortgage debt which was going to see a much higher default rate than anticipated. The mortgage mess/liquidity crisis was launched. Potential retail buyers of these mortgage backed securities made up of crappy loans stopped buying them and the folks who held them - the investment banks and large commercial banks were stuck. This created a massive liquidity problem on top of the capital problem created by the losses.
Let's go back to the statement "A bank liabilities consist of shareholder equity and its deposit liabilities." Deposit liabilities consist of the deposits of the regular customers (individuals and businesses) and also interbank lending. Interbank lending is short term (one day to one week) lending from one bank to another. The need for this can arise at the end of any bank's business day. It may find that it has insufficient cash to cover its reserves. Banks with excess cash lend it to banks which are cash short every day. In general, banks face the task of funding long term loans with short term deposits. Some of these loans are things such as HELOC's, commercial lines of credit and credit cards where the borrowers have control over the balances.
Post-Lehman what happened is that no one trusted anyone else and interbank lending dried up. Since interbank lending was the normal solution to any bank's liquidity problem, business as usual was not an option. Banks were not concerned about making money. They were concerned about not suffering contagion from another bank's ills.
At that point there were two serious problems with banks 1) because the real value of their mortgage assets was a lot less that they thought they suffered a capital shortfall problem and 2) the mutual distrust created a liquidity problem.
The risk at this point was enormous. Two thing were done to help. One was TARP which addresed bank capital and the other was the liquidity programs put together by the Federal Reserve. TARP (Troubled Assets Relief Program) was passed by Congress and signed by Bush II. It authorized the expense of up to $700 billion of which $432 billion was ever disbursed. This was originally intended to shore up bank capital but banks rather quickly got their own capital and paid back TARP loans. Then TARP morphed into a bailout for AIG, FNMA, FHLMC, Chrysler and GM - none of which is a bank. Treasury has collected about $13.7 billion in interest or dividend on TARP and the eventual loss is estimated to be less than $20 billion.
Banks were bailed out but quickly repaid Treasury. But the populist myth misses the point. Bank stockholders were massive losers. Some such as Washington Mutual were totally wiped out while others were merely heavy losers. The bailout benefited the public in general. Absent a bailout, if banks had become insolvent then either depositors would have lost money or the FDIC (the public) would have made up the difference.
The most significant support when the liquidity crisis occurred came from the Federal Reserve in the form of a number of programs which provided a gigantic amount of money to a massive array of entities. These were broker dealers, banks, credit unions, and corporations.
This is a detailed blog piece I wrote explaining the various Fed liquidity programs.
The liquidity providing provisions of the Federal Reserve saved the economy from much larger disaster. They costs the taxpayers nothing and, in fact, earned a profit 95% of which went to Treasury. The bailout was more to everyone who had a bank account and lost zero than it was to banks per se. Some bank shareholders lost all the value of their equity. Other merely took large hits.
Preservation of the banking system benefited everyone. Letting almost the entire banking system fail was not an option. If these interventions had not occurred the losses to Treasury (the taxpayers) would have been much more massive and many businesses and jobs would have been destroyed. The message that somehow only banks were bailed out and the public was ignored misses the point as to what the functions of a bank are. It is the taxpayers and the depositors who were bailed out. The bank equity owners took large losses.
Dick Lepre
RPM - SF Van Ness
Phone: (415) 244-9383 | Fax: (866) 488-2051
1400 Van Ness Avenue, San Francisco, CA 94109
CA DRE # 01143973 | NMLS # 302379
California Department of Real Estate - Real Estate Broker License #01818035, NMLS #9472. Equal Housing Opportunity.
The EU Debt Crisis
This past Wednesday was an excellent example of just how clueless investors are. There was a coordinated announcement by all major central banks that they would provide dollar liquidity to EU banks. The Dow went up 490.
What the banks promised were U.S. dollar swap liquidity facilities. This is being done because U.S. banks are reticent to provide short term loans to EU banks. The situation is nearly identical to the liquidity crisis of 2008. If interbank lending stops because banks don't trust that other banks are solvent then the central banks must take over.
This is akin to putting foam on the runway when a plane with landing gear trouble is about to land. The fact that the foam is there may be good news but the bigger picture is that nothing good is about to happen. The damages are being mitigated but in the present EU situation the underlying causes are fiscal and are not being addressed.
The goal is to get U.S. dollars into the hands of EU banks. Note that the U.S. Federal Reserve is not lending dollars to European banks. It is lending dollars to foreign central banks and those banks are responsible for the loans. Here is the Fed's reasoning as to why it is exposed neither to default not changes on currency values:
Dollars provided through the reciprocal currency swaps are provided by the Federal Reserve to foreign central banks, not to the institutions obtaining the funding in these operations. The foreign central bank receiving dollars determines the terms on which it will lend dollars onward to institutions in its jurisdiction, including how the foreign central bank will allocate dollar funds to financial institutions, which institutions are eligible to borrow, and what types of collateral they may borrow against. The terms governing these loans of dollars are in all cases released to the public by the foreign central banks. As the Federal Reserve's contractual relationship is exclusively with the foreign central bank and not with the institutions obtaining dollar funding in these operations, the Federal Reserve does not assume the credit risk associated with lending to financial institutions based in these foreign jurisdictions. The provision of dollars and receipt of foreign currency, and the receipt of dollars and return of foreign currency at the swap’s maturity date, both occur at the same foreign exchange rate so that the Federal Reserve is not exposed to movements in foreign exchange rates.
The Fed would lose money only if the ECB collapsed.
The fact is that this is an omen of recession in Europe. So we have impending EU recession, serious slowing of China's growth and +2.0% GDP growth here. This is what is driving a +490 point day for the Dow.
Some of the EU nations need to clean up their fiscal acts. So does the U.S.
Does Increasing Bank Capital Requirements Destroy Money?
Over the past few years one of the people whose views on the economy I have come to respect is Steve Hanke of Johns Hopkins University.
I want to quote here from an article Hanke wrote for the November 2011 issue of "Globe Asia." Steve's case here is that increasing bank capital destroys money and consequently liquidity and asset prices. I have differences of opinion with Steve as to how this plays out but since monetary policy is his field I think it best to hear his case.
The remainder is quoted from Hanke's article.
As part of the money and banking establishment’s blame game, the accusatory finger has been pointed at commercial bankers. The establishment asserts that banks are too risky and dangerous because they are “undercapitalized.” It is, therefore, not surprising that the Bank for International Settlements located in Basel, Switzerland has issued new Basel III capital rules. These will bump banks’ capital requirements up from 4 percent to 7 percent of their risk-weighted assets. And if that is not enough, the Basel Committee agreed in late June to add a 2.5 percent surcharge on top of the 7 percent requirement for banks that are deemed too-big-to-fail.
The oracles of money and banking have demanded higher capital-asset ratios for banks. And that is exactly what they have received. Just look at what has happened in the U.S. Since the onset of the Panic of 2008-09, U.S. banks have, under political pressure and in anticipation of Basel III, increased their capital-asset ratios.
The establishment has erupted in cheers at the increased capital-asset ratios. They assert that more capital has made the banks stronger and safer. While at first glance that might strike one as a reasonable conclusion, it is not. For a bank, its assets (cash, loans and securities) must equal its liabilities (capital, bonds and liabilities which the bank owes to its shareholders and customers). In most countries, the bulk of a bank’s liabilities (roughly 90 percent) are deposits. Since deposits can be used to make payments, they are “money.” Accordingly, most bank liabilities are money.
To increase their capital-asset ratios, banks can either boost capital or shrink “risk” assets. If banks shrink their “risk” assets, their deposit liabilities will decline. In consequence, money balances will be destroyed.
The other way to increase a bank’s capital/asset ratio is by raising new capital. This, too, destroys money. When an investor purchases newly-issued bank equity, the investor exchanges funds from a bank deposit for new shares. This reduces deposit liabilities in the banking system and wipes out money.
So, paradoxically, the drive to deleverage banks and to shrink their balance sheets, in the name of making banks safer, destroys money balances. This, in turn, dents company liquidity and asset prices. It also reduces spending relative to where it would have been without higher capital/asset ratios.
By pushing banks to increase their capital-asset ratios to allegedly make banks stronger, the establishment has made their economies (and perhaps their banks) weaker. This is certainly the wrong medicine to prescribe when the economy is weak.
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