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Wednesday, December 31, 2008

Obama's Forebears

Obama's Forebears: FDR, Lincoln . . . Gorbachev??

Talk about anticipation: political pundits are already engaged in a spirited debate about which historical leader faced circumstances most closely paralleling the financial crisis now confronting President-elect Obama.

The most obvious candidate is FDR, and the broken economy he inherited in early 1933.

Now like then, the economy is dealing with the aftermath of an enormous asset bubble caused by easy (if not promiscuous) credit and exacerbated by excessive leverage. The carnage includes millions of foreclosed homeowners; a tanking stock market; catastrophic banking and insurance failures; impoverished savers and investors; and the specter of rising unemployment.

Lincoln comes to mind because he also saved the nation from a mortal threat, albeit a political, not economic one.

Through leadership, moral clarity, and sheer resolve, Lincoln prevented the Union from being ripped apart by slavery. Lincoln also appears to be a personal hero of Obama's, who seems to be emulating Lincoln's "team of rivals" leadership style. Of course, as the nation's first Black President, it would hardly be surprising if Obama felt a special affinity for, and kinship with, the Great Emancipator.

But there's a third, more contemporary leader whose situation and challenges at least superficially evoke Obama's: Mikhail Gorbachev.

"Change Agents"

Gorbachev's policies of Glasnost (openness and freedom) and Perestroika (economic restructuring) correctly perceived that the old, Soviet-style command-and-control system required radical reform. Like Obama, Gorbachev was also a figure of great personal appeal, and evident political and intellectual gifts.

Unfortunately (at least for Gorbachev), the changes he initiated spiraled out of his control and ultimately swept away the system he was trying to save (the old U.S.S.R.).

Like Gorbachev, President Obama must preside over a very tricky transition.

His task is to repair and reform a strained system that has already left millions of Americans without homes, without jobs, and with little or no retirement savings. Even before the current financial crisis, tens of millions lacked access to decent health care. As 2009 begins, there are signs that conditions may in fact be deteriorating.

While Obama enters office with a huge store of goodwill amongst everyday Americans -- and especially African Americans -- he must surely be aware that economic desperation and patience don't easily coexist.

It's one thing to campaign on a platform of "change you can believe in." Delivering the right change-- and the right amount of change -- is entirely another.

Tuesday, December 30, 2008

Recession Hits Housing Prices

Oct. Case-Shiller Numbers:
Down 18% from '07

“People who think they’re going to lose their job don’t buy a home”
--Steven Ricchiuto, chief economist at Mizuho Securities; NY Times (12/30/08)

There's not much mystery about the most recent leg down in the national housing market: recessions destroy jobs, and people who are unemployed -- or worry they may soon be -- don't make major purchases.

For most people, there's no bigger financial commitment than buying a home.

Monday, December 29, 2008

How's this for Affordable?

129 Minneapolis Homes for < $35k!

The neighborhoods aren't swanky, and there's no guaranty that prices won't fall further. But on the eve of 2009, no fewer than 135 homes within the city of Minneapolis are for sale for less than $30,000. In many cases, that's less than the value of the land underneath the home.

--Homes under $15,000: 12

--Homes $15,000- $25,000: 64

--Homes $25,000 - $35,000: 53

Assuming you put down 3% on a $25k home and borrow the rest -- as FHA allows you to do -- principal and interest on a 30 year mortgage comes to a whopping $138 a month. Compare that with the cost of an average Minneapolis two-bedroom apartment: about $900 a month.

It gets even better. Thanks to recent legislation, qualifying first-time homebuyers receive a tax credit for 10% of the purchase price, or $2,500. The tax credit must be re-paid over the next 15 years.

After you do all the math, it's basically like living for free the first 18 months -- and not much more thereafter.

"The Case Against Case-Shiller"

Bad Numbers??

The S&P/Case-Shiller report for October (there's a one-month lag) is due to be released tomorrow, and the numbers are likely to be ugly: the Sept. numbers were down 17.4% year-over-year, and down 1.8% month-to-month, respectively, and there's plenty of anecdotal evidence that things got worse in October. So, to repeat, it's not going to be pretty.

However, whether the national housing market is actually as bad as Case-Shiller is likely to indicate is debatable.

Twin Cities realtor Pat Paulson has an excellent piece, "The Case Against Case-Shiller," which, although a year old, does a very nice job of dissecting weaknesses in Case-Shiller's methodology:

The gist of his (and others') argument is that, by exclusively focusing on "sales pairs" -- back-to-back sales of the same home -- Case-Shiller overweights homes that change hands frequently.

Which homes tend to be frequently resold these days? Foreclosures. Nationally, "lender-mediated sales" (short sales and foreclosures) account for about 50%(!) of recent sales volume -- more in particularly distressed markets like Miami, parts of Southern California, and Las Vegas.

To no one's surprise, in a down market, abandoned, neglected houses lose a lot more value, faster, than ones that are owner-occupied. Even though Case-Shiller uses a variety of techniques to adjust for foreclosures, it's not clear that they're effective.

Which leaves the question, how accurate is Case-Shiller?

Generalizing about the national housing market from a sample pool dominated by foreclosures is like estimating Americans' wealth looking only at bankruptcy filings.

Sunday, December 28, 2008

Madoff's Legacy, Cont.

Silver Linings vs. Black Linings

A silver lining is something good, usually long-term, that comes of something bad and helps redeem it, at least a little bit.

So what is a "black lining?" A residual, negative echo of something very bad that continues to reverberate long after the original calamity has faded from memory. Bernie Madoff's $50 billion swindle is likely to have three very big, black linings.

One. Increased anti-Semitism.

As Rabbi Marc Gellman notes, Enron CEO Ken Lay was never identified as a "prominent Protestant energy broker," or Rod Blagojevich as "the prominent Serbian-American governor of Illinois." Yet every single reference to Madoff notes, without fail, his religious affiliation.

Two. Diminished trust, especially in commerce. Consider:

Another thing [Madoff] did was make life incredibly more difficult for people who sell real and honorable and legitimate money products. Now every stock broker and money manager and hedge-fund operator and insurance rep who has already had a tough time convincing prospective clients that what they are selling is good and honest must now also convince them that they are not like [him].
--Rabbi Marc Gellman; Newsweek (12/23/2008)

Three. Poorer communities, long-term.

The money that vanished was earmarked not just for yachts and mansions but things like mortgage payments, college tuition, and medical bills. To the extent that Madoff victimized charities, it's not an understatement to say he also took basic necessities like food, shelter, and clothing from those without.

Some of what Madoff stole will never be replaced. The rest will have to be made up by everyone else -- society -- by giving more and getting by with less, in what for many is already a lean time.

Saturday, December 27, 2008

Bernie Madoff's Marketing Insights

"Know Your Customer (er, Mark)"

In retrospect, disgraced financier cum swindler Bernie Madoff may have been a lousy investor, but he sure was a helluva salesman. How else does one attract $50 billion from thousands of investors and financial institutions worldwide?

As best I can discern, herewith are his top five marketing insights (offered in the spirit of public service):

One. Come through the back door, not the front door.

Spam. Junk mail. Pop-up ads. Telemarketers. Embedded advertising. Interstitial ads (interstitial ads??). You'd have to be crazy to answer your front door today, or pick up your home phone anytime between 5 p.m. and 9 p.m.

The typical American consumer is so bombarded with advertising now, if Timothy Leary were still alive, he would have to update his famous advice to "turn off, tune out, and log off."

The only way to reach people who always have their guard up is to . . . figure out where they don't. Social settings. Church or synagogue. Fundraisers. The country club dining room or clubhouse.

By all accounts, Madoff was a master at insinuating himself into all of these venues.

Two. Be a tortoise, not a hare.

The stunning thing about Madoff isn't that his returns were so stellar -- it's that they weren't: about 10% annually, year in and year out, in an era when many hedge funds delivered multiples of that (it was Madoff's very consistency that was the biggest red flag).

"Smoldering" vs. White-hot

Consistent, relatively modest performance turned out to be critical for two reasons: 1) a Ponzi scheme that smolders slowly needs a lot less fuel (fresh money) -- and is therefore more sustainable -- than one that burns white hot, i.e., promises annual returns of 20%, 30% or more; and 2) people who are investing for their retirement, overseeing charitable endowments, etc. want their money managers to be stable, solid, steady.

Such investors don't necessarily want or need to treble their money -- they just don't want to lose it.

Madoff's profile -- "Uncle Bernie," "the Jewish T-bill," etc. -- played into that mindset perfectly, and showed mastery of the ultimate marketing dictum: 'know your customer, er, mark.'

Three. Cultivate an air of inaccessibility.

No, that's not an oxymoron. As Woody Allen famously observed, "no one wants to belong to a club that would have them as a member."

Well, Madoff was exclusive -- at least until the end, when his need for new money overwhelmed the exclusivity artifice. Almost like a forbidden fruit, the harder it was to hire him . . . the more people tried. Soft sell, indeed.

Four. Make the right people money.

The original viral network? It's not Facebook, MySpace, or some other product of the Internet -- it's the local country club. Who's up, who's down, who's in, who's out: all that is apparently fair game poolside or on the greens (or at least I imagine -- personally, I've never belonged).

The best possible advertising Madoff could have gotten was cultivating an early circle of clients who appeared to be in on the ground floor of something good. These strategically placed "disciples" attracted oodles more money than Madoff could ever have done solo.

Five. Start out honest.

Madoff originally made his name as a friend of the small investor: his computerized trading system dramatically reduced commissions, and therefore investors' trading costs. Who wouldn't trust someone like that? Madoff built on that reputation through his philanthropy, board memberships, etc. (Interestingly, money market innovator Bruce Bent (The Reserve) appears to have followed a similar path.)

If there's a silver lining to all the financial pain that Madoff has caused, it's that none of these "marketing strategies" is going to work again for a long, long time.

Mortgage Rate Disconnect

Dropping Mortgage Rates
Still "Artificially" High

Where should mortgage rates be right now? If historical relationships held, the rate on a 30 year mortgage would be 3.5%(!).

No, that's not a typo; going back a decade or more, long-term mortgages cost typically cost about 150 basis points more than the 10 year U.S. Treasury Bond yield. The yield on the latter now is barely over 2%.

An increasing number of commentators are joining the camp -- I've long been in it -- that closing that gap would do much to staunch the bleeding in the national housing market. In turn, stabilizing housing would do wonders for the broader economy.

In his blog post today, "Mortgage rates are still too high," economist and New York Times columnist Paul Krugman is only the latest to emphasize this link:

Lower rates have two, huge benefits: 1) they instantly increase prospective home buyers' purchasing power; and 2) they allow millions of existing homeowners to refinance, lowering their monthly payments and freeing up money for other things (like food, gas, and utility bills!).

The problem with mortgage rates, like almost everything else related to the credit markets, is that normal market mechanisms aren't working now. Instead, through its web of guarantees, bailouts, and cash infusions, the federal government is essentially deciding who can borrow, who can lend, and at what rates.

In such a command-and-control environment, the price of virtually everything credit-related could be said to be "artificial" (government-set), vs. market-determined.

If that's the case, Washington might as well "go all in" and make life easier for millions of American consumers -- not just Wall Street investment banks, too-big-to-fail insurers, automakers, etc.

Thursday, December 25, 2008

Public's Response to Financial Crisis

"Fear Factor" Trumps Anger, Outrage -- So Far

One of the biggest puzzles of the ongoing financial melt-down is, given the manifold examples of greed, recklessness, dereliction of duty, and sheer incompetence on display on Wall Street and elsewhere in recent years, where is the public outrage?

The most plausible explanation is that it's too soon.

Right now, most Americans are like parents whose kid just ran away from home. They're sick with fear and worry . . until the kid is safely home. Then, the parents' gratitude and relief quickly turn to . . . anger, and thoughts of appropriate punishment.

Right now, the economic "kid" is still missing.

Unemployment is rising, the economy is contracting, and the financial markets are in intensive care. Stocks and houses are down dramatically -- and still falling. Under the circumstances, most people are too focused on their precarious finances and job security (or lack thereof) to think about placing blame.

Fearful, absolutely. Angry? Not yet.

Three other factors also seem to be at play.

One. Lack of leadership.

By definition, a society whose leadership is strong, wise and responsible doesn't get into the horrific financial mess we're in. Obviously, it wasn't, and now we are. That same lack of leadership explains why there hasn't been an orchestrated, national response -- at least beyond the Treasury and Fed's ad hoc cash infusions and bailouts.

We're also in the middle of a political transition.

At the moment, it is too soon to tell whether the incoming administration truly represents a break with the past -- and has a coherent plan for the future. Given the hope, affection, and sheer regard people have for Barack Obama, it's fair to say that any plans to storm Wall Street's gates, Bastille-like, have been postponed, at least temporarily.

Two. Too complicated and big.

Few people have the background and business vocabulary to intelligently parse what just happened. Most members of Congress certainly don't. That's why AIG receiving $150 billion (and counting) of taxpayer money goes surprisingly unremarked by the general public. Meanwhile, that same company spending $400,000 on a corporate retreat provokes a tidal wave of protest and scorn.

Ditto for all the arcane financial instruments underlying the blow-up. Credit default swaps, mortgage-backed securities, collateralized debt obligations, derivatives, structured finance, debt tiers and tranches -- it goes on and on.

It's all Greek (or Latin) to laymen -- and apparently, to many of the pros, too (see next).

Three. Faceless villains.

Quick: name the heads, past or current, of Fannie Mae, AIG, Citigroup, Merrill Lynch, Lehman Bros. and Countrywide. Bonus question: describe how these companies (formerly) made their money (that's a trick question: the CEO's apparently couldn't answer that one, either).

Previous scandals have featured household names like Dennis Kozlowski (Tyco), Ken Lay and Jeffrey Skilling (Enron), and Bernie Ebbers (Worldcom). So far, the poster boys for the market melt-down are . . . Franklin Raines (Fannie Mae ex-CEO), Angelo Mozillo (Countrywide) and Richard Fuld?? (long-time Lehman Bros. CEO). Only former Fed Chairman Alan Greenspan is a name that resonates with most people. (Note: although a late entrant, Bernie Madoff's star is rising, er, falling rapidly.)

Given all the harm wrought, this is a pretty slight rogue's gallery.

Without a lightning rod, there's no place for the anger to go, even if it exists.

There's still time.

Eventually, the financial storm will pass, all the sordid details about Wall Street misconduct will be aired, and there will be faces to go with the misdeeds. At that point, the public's mood is likely to be very different. At least I hope so . .

Wednesday, December 24, 2008

Multiple Offers on X-mas Day??

Slow Market? Not for this Property!

Even in a slow market, real estate is bought and sold every day of the week. Even Christmas Day.

Don't believe me?

Check out 3253 Holmes Avenue South, a fourplex just east of Lake Calhoun that hit the market this morning (yes, Christmas Eve):

According to the listing agent, the property needs about $100k in various capital improvements, including new windows and boilers. But at $139k, it's still a screaming bargain, given the proximity to Lake Calhoun, the assessed tax value (just under $500k), and potential upside.

The agent said there's a line eight deep to see the property tomorrow (she's in FL today, and can't show it till then). She also said that she's already received multiple offers, sight unseen -- and I don't doubt it.

Best guess is that it sells as soon as the bank contact is available, presumably Friday, for well over asking price.

P.S.: I'd love to have an investor for this, but I don’t, at least at the moment. If you see this post before 5 p.m. on Christmas day and are interested . . Call me! I'd be happy to show you the property, then head straight back to my office to write an offer.

Christmas Day update (4:14 p.m.): the listing agent called to say that my showing request today was declined, because the property was sold, apparently to a Buyer who has yet to see it.

Detroit Bailout: Batteries -- er, Cars -- Not Included

Bailout by Installment Plan for Detroit?

What if, instead of bailing out Detroit, the government simply ordered every taxpayer to buy a car from one of the three American automakers. Within six months. Whether you needed one or not.

At least you'd have a car, albeit not a very good one.

Instead, the government is pouring taxpayer money into the automakers and getting what in return? Seven percent national unemployment instead of 7.3%? Maybe. Higher taxes, and a bigger national deficit? Certainly.

Not only is the quid pro quo tenuous (technically, the U.S. is getting an IOU), so is the proposed use of the bailout funds.

Detroit apparently is experiencing the mother of all cash crunches, so presumably the money goes towards keeping the lights on, at least for a little while. Practically, that means meeting payroll, paying suppliers, etc.

But just like the earlier cash infusions on Wall Street, cash is fungible, and government oversight appears to be minimal to nonexistent.

You'd think the bailout cash wouldn't end up paying for an AIG-style corporate retreat, executive bonuses, or shareholder dividends, but: 1) it's far from clear that that's prohibited; and 2) you won't be able to trace it, anyway.

Along with lousy cars, Detroit has famously sloppy accounting.

By its own terms, the $17 billion is a stopgap and short-term.

It's not much different than helping an overextended household pay the interest on its credit card bills temporarily. Notwithstanding all the political fig leaves, the aid is too little, too late to accomplish its stated goal: making an uncompetitive, money-losing industry lean and mean.

Imagine the outrage if Congress tried to coerce you into buying a car that you didn't want (and maybe couldn't afford just now!). No government could get away with that. Except that . . . it effectively just did.

Unfortunately, for their trouble, American taxpayers don't get a solitary car out of it, not even a mediocre one.

Tuesday, December 23, 2008

Lenders: Rodney Dangerfield's No More

From Rodney Dangerfield to Brad Pitt:
Tight Credit Raises Lenders' Status

When credit was flowing a few years ago, lenders were a dime a dozen. Like Rodney Dangerfield, they "got no respect" (and frequently, didn't deserve any).

Now that credit is tight, good lenders suddenly are a borrower's best friend.

The turnabout is due to three things:

One. Tighter underwriting standards.

At the market peak in 2006, securing a plain-vanilla, 30 year mortgage required perhaps six to eight steps. Now, it's more like two or three dozen. Income verification, credit history, loan-to-value ratios: all the yardsticks that lenders traditionally used to qualify borrowers -- and that were relaxed or simply skipped when standards were lax -- are now back, with a vengeance.

How fast your loan file progresses, or whether it does at all, is largely a function of how resourceful and attentive your lender is.

That's especially true if your credit scores are marginal and/or the home you're trying to re-finance is "equity-challenged."

Two. With credit markets volatile and loans more segmented, the stakes are higher.

Yes, mortgage rates are dropping like a rock, but not for everyone. If you need a jumbo loan -- over $417k in most markets -- forget about 4.75%; you'll likely pay closer to 7%. That's why enterprising lenders are structuring bigger loans into two pieces: a conforming mortgage for $417k, and a non-conforming one for the balance.

Interest rates are also bouncing around more than they ever have. A few years ago, it was typical for mortgage rates to re-set a few times a week. Now, they can re-set a few times daily. The size of your monthly mortgage payment the next few decades could very well depend on whether your lender is vigilantly watching the market . . . or is out to lunch (literally).

Three. Fewer lenders.

In case you haven't been paying attention, the subprime lenders that almost took over a few years ago, at least in some markets, are gone. They were either failed and were acquired (Countrywide, Wachovia), or more often, simply failed (Indy Mac, Washington Mutual, etc.).

Who's left? In the Twin Cities, mega-banks like Wells Fargo and U.S. Bank, backed by myriad federal guarantees and insurance (Fannie Mae, Freddie Mac, FHA, etc.)

While the era of cheap (free?) money now appears to be at hand, the gatekeeper is your lender. Whether you're let in to the promised land of low(er) payments depends at least in part on how good they are at their job.

Saved by Zero?

Ben Bernanke's Theme Song

Maybe, someday
Saved by zero
I’ll be more together
Stretched by fewer

Thoughts that leave me
Chasing after
My dreams disown me
Loaded with danger

Maybe I’ll win
Saved by Zero

Holding onto
Words that teach me
I will conquer
Space around me

Maybe I’ll win
Saved by zero
Maybe I’ll win
Saved by zero

--Lyrics, "Saved by Zero"; The Fixx

Who knew? Personally, I had (Federal Reserve Chairman Ben) Bernanke pegged more as a crossover, Country & Western type.

If and when the Fed's monetary medicine starts to work, it'll be time for another song by The Fixx: "One Thing Leads to Another."*

*Thanks to Bob Riesman for all relevant musical input.

Monday, December 22, 2008

Diagnosing Capitalism's '08 Melt-Down

Capitalism's 2008 Melt-down:
Fundamental Flaw, or Defective $5 Part?

The "who-dunnit" sweepstakes are on.

According to heavyweights such as economist Joseph Stiglitz, the 2008 Market Melt-Down is due to multiple, systemic problems in modern capitalism (if not society in general) that date back decades. Others go even further, arguing that capitalism itself is fundamentally flawed, and that its current problems are both inevitable and insoluble.

However, what if the global financial melt-down can be traced to the failure of a mundane, $5 part? If true, instead of completely overhauling capitalism -- or abandoning it altogether -- then all it would need is a tweak.

In fact, the latter scenario is the more plausible one.

If 2008 Wall Street is the financial equivalent of the Challenger space shuttle explosion -- an analogy that looks more apt by the day -- the "O-ring" was a credit ratings failure on a massive scale. That places the $5 billion a year credit rating business -- the equivalent of a $5 part in today's multi-trillion, global economy -- at the epicenter of today's financial storm.


--Without Triple-A ratings on trillions in mortgage-backed securities, global banks and investors wouldn't have been willing to buy them.
--With no ready demand for its securitized loans, Wall Street wouldn't have started shoveling money into the housing market.
--Without Wall Street-fueled demand, housing prices wouldn't have begun to levitate.
--Without rising home prices, millions of marginal borrowers, using very marginal loans, wouldn't have piled into the market seeking easy riches (this was the penultimate and most damaging phase of the housing bubble).
--Without millions of toxic loans . . . there would have been no carnage once housing prices inevitably stopped rising (indeed, they never would have taken off in the first place).

Enron Cubed

Were there other, contributing factors? Absolutely.

Investment banks, with a pass from the SEC and other regulators, leveraged their bets by 30:1, 40:1 -- or more. To reduce these outsize risks, Wall Street conjured up credit derivatives, transforming a financial house of cards into something bigger and worse: an insured financial house of cards (thank you, AIG).

Democrats in Congress clearly pressured Fannie Mae and Freddie Mac to relax credit standards to marginal borrowers. Alan Greenspan dropped rates too low, and kept them there too long. Predatory lenders put millions of vulnerable borrowers into toxic mortgages with built-in detonators.

There's more . . .

Absurd (and obscene) compensation and government-insured losses made the rewards irresistible, and the risks irrelevant. Notwithstanding Enron and Sarbanes-Oxley, lax accounting standards permitted financial institutions to hide hundreds of billions in liabilities from shareholders in invisible, off-balance sheet accounts.

And still . . . none of these factors, in and of themselves, could have given rise to the astounding global credit and housing bubble now unwinding, with a vengeance. The alchemy by which Wall Street transformed the Fed's free, short-term money into high-yielding, long-term "assets" was the credit-rating imprimatur attached to securitized debt. Wash, rinse, repeat -- times trillions.

Capital Offense(s)

So just how culpable are Standard & Poor's, Moody's, and Fitch, the so-called nationally recognized statistical rating agencies ("NRSRO's") that dominate the credit rating business?

The short answer: somewhere between Morton Thiokol-culpable and Arthur Andersen-culpable (the former designed and built the shuttle "O-ring"; the latter audited Enron's books).

Like Enron, the question these companies must ultimately answer -- presumably as defendants at trial -- is whether they knew, or should have known, that the ocean of debt they blessed was doomed.

In legal terms, did they have the requisite "mens rea" (guilty mind)? If they did, they committed fraud; if they didn't, they're guilty of gross negligence.

Some Henry Blodgett-style internal emails strongly suggest the former, i.e., the credit agencies suspected their ratings were dubious, or at the very least, ill-informed guesswork. (Just as a refresher, Blodgett was the Merrill Lynch analyst tossed out of the securities business for recommending Internet stocks while privately trashing them.)

Even if they didn't know, that leaves whether they should have.

They certainly were paid to have known. In addition to rating debt-backed securities, S&P, Moody's, & Fitch made even bigger money designing them.

Of course, in both cases, payment came from the very entities whose product(s) were being rated. Just like Arthur Andersen at Enron, that conflict of interest alone was enough to compromise the rating agencies' independence and integrity -- and arguably did.

Financial Crimes & Punishment

So what punishment fits the credit rating agencies' crime?

The damages attributable to their conduct -- whether willful or negligent -- are staggering.

Whereas Enron cost investors, creditors, and employees perhaps $100 billion, the cost to taxpayers just so far for the various Fed and Treasury bailouts, guarantees, and loan facilities now potentially exceeds $8 trillion. As bloggers like Barry Ritholtz note, that's the biggest bill footed by the U.S. government, for anything, ever -- including World War II. To the extent that U.S.-style capitalism has suffered long-term, systemic damage, the real cost is incalculably higher.

In retrospect, meting out capital punishment to Enron's aider and abettor, Arthur Andersen, seems a bit draconian.

Given the organization's balkanized structure, it really was collective -- and therefore unjust -- punishment to hold Andersen partners in Atlanta, Denver, and Spokane and elsewhere accountable for the sins of their Houston brethren -- sins they likely knew nothing about. For another, the lucre that Arthur Andersen made off with was peanuts in comparison to what Enron management raked in.

Arthur Andersen Died for Less

So why have the credit rating agencies yet to receive so much as a jaywalking ticket??

The best answer may be that it's simply too soon. After all, it's hard to do financial forensics analysis while the crash debris is still smoking.

With Fed-set interest rates at zero and credit still frozen, it's far from clear that the financial melt-down isn't still ongoing. Until that's apparent, the attention and resources of all key players necessarily remain focused on limiting the damage to financial markets and the broader economy, then gradually nursing them back to health.

Eventually, however, the time for assigning responsibility and avoiding future melt-down's will be at hand.

The good news about a small part being the likely culprit is that the fix need not be exorbitantly expensive, require protracted national soul-searching, etc. (The cost of the clean-up is another matter altogether.)

The bad news is, at the moment, there's no backup vehicle.

Sunday, December 21, 2008

Bernie Madoff's Real Legacy

Madoff's Legacy: A New Generation of Bicycle Thieves?

In the post-World War II Italian movie classic, "The Bicycle Thief," the protagonist makes a moral full circle.

At the beginning, the faceless but dignified day laborer is the victim of a seemingly innocuous crime: his bicycle is stolen.

To the worker, however, his bicycle is everything: not just his lone material possession -- we earlier see his wife hocking their linen for bread money -- but his sole means of making a livelihood (working for the government plastering billboards around Rome).

As he searches the city in vain, his despair and rage palpably grows.

Finally, overcome by temptation and desperation, he succumbs to his own inner demons, and steals another's bike, marking the evolution from victim to perpetrator.

Of course, he's promptly apprehended; in one of the most poignant scenes in cinematic history, the camera cuts to the bicycle thief's sense of shame and remorse as the vengeful, (equally) hungry crowd surrounds him (they ultimately take pity and let him go).

Madoff's Legacy

For society at-large, the real legacy of the now-derailed $50 billion fraud perpetrated by New York financier Bernie Madoff is that it unleashes thousands of prospective Bicycle Thieves.

Having been wronged so egregiously, one's own inclination not to wrong others is weakened. Even though their misery may be due to one or at most a handful of cheats, all of society seems complicit: didn't everyone allow it? After the fact, what is anyone really doing about it?

Compounding matters is the real economic hardship facing many of the investors Madoff victimized.

It's no exaggeration to say that, virtually overnight, many have gone from generous givers of charity to candidates for receiving it. Like the bicycle thief, people in desperate circumstances are capable of doing desperate things.

Society's Duty

It is incumbent upon society -- the rest of us -- to check those impulses. In turn, that requires doing two things:

One. Mitigate the economic harm to the victims.

The bicycle thief lost . . a bicycle. By contrast, many of Madoff's disproportionately wealthy clientele apparently now face the loss of their homes, their possessions, and indeed, at least for some, their sole source of income.

No one is "entitled" to belong to a country club. But neither should anyone, at least in a country as wealthy as America, be consigned to go hungry, or homeless, or without basic medical care. Ironically, perhaps society finally has an incentive to create a genuine safety net now that the formerly well-to-do need it as much as the poor.

Two. See that justice is done -- both for the sake of Madoff's victims, and to prevent future ones.

Incredibly, Madoff appears to be using money taken from investors to pay a battalion of defense lawyers. He seems to be getting his (or more accurately, his investors') money's worth: Madoff's sole punishment so far, aside from public condemnation, is being confined to his Park Avenue residence.

It is simply unconscionable for Madoff to retain any spoils from an "endeavor" that cost his investors everything. Madoff's homes, boats, cars, etc. are doubtless worth far less than the $50 billion that he allegedly stole -- but it's a start. Toward that end, you'd think that there should be a New York judge with jurisdiction willing and able to put an immediate freeze on Madoff's assets, and issue an injunction preventing him from spending his victims' money on his legal defense. (Too bad the public defender's budget has been gutted).

Once Madoff is separated from his assets, comes the question of legal punishment.

In my opinion, spending taxpayers' money on prosecuting and incarcerating Madoff is simply throwing good money after bad. Once his homes have been confiscated, my suggestion is to let him live at-large, amongst the community he defrauded -- perhaps even a mendicant at one of the many charities he defrauded. He'll be much more vulnerable like that than protected from his victims in a minimum-security "Club Fed."

Finally, undertake true systemic reform.

Ultimately, the best way to honor Madoff's legion of victims is to make sure that there aren't any more. That means (re)creating a system where the financial cops haven't been co-opted by the people they regulate (Wall Street); people who save and invest have more rights than the people who manage their money; and it is rational, not foolish, to trust others.

If The Bicycle Thief has a silver lining, however slim, it is that social standards of honesty and decency still matter. It is time for our laws to reinforce, not undermine, those mores.

Changing Realtor Demographics

Changing Realtor Demographics:
Newbie's, Old-Timers and . . Hybrids

Realtors seem to be getting younger. And older.

One of the most dramatic changes in the real estate business -- now three-plus years into a downturn -- has to do with realtor demographics.

Fewer deals, at lower prices, means dramatically reduced commissions for the nation's one million-plus realtors. Not surprisingly, their ranks are thinning: from a peak of 1.2 million realtors nationally in 2006, that number is quickly headed below 1 million.

The realtors who are left increasingly seem to fall into one of three categories: Newbie's, Old-timers, and Hybrid's.

Newbie's. The "Newbie's" are typically fresh out of college -- or have never been. Their network of friends and business contacts from which to mine deals -- in realtor-speak, their "sphere of influence" -- is green and undeveloped (just like them).

So they're not selling much real estate. However, with low overhead, they don't really have to. In the mean time, real estate offers flexible hours and often, a ready-made social life (all those other Newbie's to hang out with!).

As you might expect, Newbie turnover is quite high.

Old-Timers. First, a qualification: in real estate, an old-timer is anyone who's been at it more than 5 years (like dog years, one year in real estate equals 5 in most other businesses).
Like a desert plant that has deep enough roots to survive a drought, old-timers have an established network of past clients from which to generate transactions.

However, two phenomena associated with the current market are stressing even many old-timers.

One. In many parts of the country, half or more of all recent transactions are "lender-mediated," involving either a foreclosure or short sale. While the public views these as a way to make a killing, to a realtor, unfortunately, such properties are often time and money sinks.

Two. Accelerating technological change.

Instant messaging. Blogging. Face Book. My Space. The Web. Mention any of these to many realtors over 50 and their eyes glaze over.

Real estate going forward is increasingly about technology -- and older realtors know it. The ones not investing the energy to master all the new technology tools are becoming obsolete, regardless of whether they officially stay in the business or not.

Hybrid's. As their name suggests, Hybrids combine an old-timer's contacts, maturity, and deal-making experience with a newbie's energy and technology prowess. The meek may inherit the world . . . . but the Hybrids are poised to take over the real estate business.

As a self-proclaimed Hybrid, I view the changes sweeping the real estate business with a combination of hopefulness and ambivalence.

Hopefulness, because I see real estate becoming the province of a relatively small core of highly-skilled professionals, who are valued (and paid!) accordingly. Like a good tennis match, it's also more gratifying and fun -- and yes, easier -- doing a deal when the realtor on the other side knows their stuff, too.

The ambivalence has to do with seeing many people I know and like leaving the business (to paraphrase Bill Joel, "only the nice get out"). While reduced competition is good for my bottom line, real estate is a people business, and some of the people I like best are now gone!

These realtors also represent a huge store of institutional knowledge. Losing that experience and continuity makes the field a little less interesting and rich for both the realtors who remain, as well as for the public at-large.

Thursday, December 18, 2008

Enron Just Ahead of Its Time

Is it Too Late to Bail Out Enron??

"Supreme Court Overturns Bush v. Gore"
--Headline; The Onion (12/9/2008)

Watching what's going on in Washington and on Wall Street, the Enron guys must be turning over in their . . jail bunk beds.

Consider the following:

--The audited financial statements of AIG, Citigroup, Bear Stearns, etc. obscured or omitted billions in company liabilities.
--Enron's audited financial statements obscured or omitted billions in company liabilities.

--Senior management at AIG, Citigroup, Bear Stearns, etc. reaped hundreds of millions in compensation and bonuses based on (dubious) asset values they determined.
--Enron senior management reaped hundreds of millions in compensation and bonuses based on (dubious) asset values they determined.

--Senior management at AIG, Citigroup, Bear Stearns, etc. publicly reassured investors, creditors, and employees that all was well, and exhorted them to buy "cheap" company stock, even as they dumped their own holdings.
--Enron senior management publicly reassured investors, creditors, and employees that all was well, and exhorted them to buy "cheap" company stock, even as they dumped their own holdings.

Enron's leadership is in jail (or in CEO Ken Lay's case, dead). Wall Street's senior management is . . . deciding what their 2008 bonuses should be. (My advice: go with the low end of the range, guys.)

Enron wasn't corrupt -- it just had the misfortune of being ahead of its time.

Time to Re-finance

Time to Lock in Latest Rate Drop

If you've got a knack for finding deals, you already know the basic principle: know when (and where) the sales are.

That means buying a car in August, just before the new models come out.

It means getting gas at Costco when prices rise, because they only change their prices once a day (true).

And it means refinancing around and just after the holidays, when the home lending business is slowest and rates are the most attractive.

This year, forget the part about "slowest." However, due to the extraordinary, ongoing actions taken by the Federal Reserve and Treasury to stimulate lending, rates the last 3 weeks have fallen off a cliff: from over 6% just before Thanksgiving, to well below 5% now.

The drop is so dramatic that it behooves you to consider re-financing, even if you just closed on your home six weeks ago! In fact, I've got a few clients who are precisely in that situation.

On the one hand, it's admittedly annoying to think that you just missed even better rates. On the other hand, if you're staying long-term, the drop in rates is just too good to pass up.

Taking the sting out somewhat: some of the biggest fees involved with re-financing, like the appraisal, may not be necessary, because so little time has elapsed. If you go back to the same lender who just handled your closing, my guess is that they will do their best to waive or minimize whatever fees they can (or at least they should!).

So go ahead and make the call. When you do, be sure to ask your lender if they offer a re-lock option, which lets you re-set the rate, one time, if there's a further drop in rates before your loan closes.

With interest rates so volatile at the moment, the benefit may easily outweigh the nominal cost.

Tuesday, December 16, 2008

Birds and Dinosaurs

Credit Crunch Casualties:
Publicly-Traded Builders

While Washington is focused on rescuing the financial dinosaurs, outside of Wall Street, the future appears to belong to much smaller, sleeker, and more mobile organisms. Specifically . . . birds.

Take the home construction industry.

For the last 20 years or so, size conferred a huge advantage. Big, publicly-traded builders like Toll Bros., Pulte and Lennar all enjoyed practically unlimited access to healthy (if not hyperactive) financial markets. Like REIT's ("Real Estate Investment Trusts"), they used that access to raise capital and debt (especially debt), which let them muscle out (or acquire) smaller, local competitors.

Now, size is a distinct liability, for three reasons.

One. Short-term debt isn't available from the credit markets anymore. That's why all the investment banks -- plus entities like American Express and GMAC -- have rushed to turn themselves into bank holding companies (that, and to be eligible for government bailouts).

If you can't tap the credit markets, you either have to find another way to access capital (from depositors, operations, etc.) -- or go on a diet, quick.

Two. Highly-leveraged builders are poor credit risks.

Eventually, the credit markets will thaw. But that still doesn't make the national builders a good credit risk.

Their assets -- raw land and unsold, finished new homes -- are declining in value; their cash flow is dropping; and they have crushing debt service, courtesy of their long, expansionary period. Not a very promising business model!

Three. In a lean environment, small is more nimble and sustainable.

Small, local builders ("birds") don't need tons of fresh meat or vegetation every day to live. They can subsist on worms -- and go to wherever they are. With the inventory of unsold homes at record highs, "worms" may be all there is to eat for awhile in many beleaguered housing markets.

Fortunately, there is ample evidence that decentralized industries not only may be more efficient, but are healthier for the economy (and less expensive to taxpayers).

They could hardly be more expensive. Fannie Mae, Freddie Mac, AIG, Citigroup, Goldman Sachs, the "Big Three" automakers -- the complete list is quite a bit longer and growing -- have cost taxpayers more than $1 trillion just to date because they were all putatively "too-big-to-fail."

Far from realizing economies of scale or "operational synergies," they appear to have been bloated, oblivious to risk, and, at least in retrospect, shockingly fragile.

"Small is beautiful" -- again.

Balky Buyers, Borrowers

Combating a Deflationary Mindset

One of the unintended consequences of falling prices -- for new homes, existing homes, mortgage rates, etc. -- is that would-be Buyers get out of the way, and wait for even bigger drops. There's some anecdotal evidence that that's the psychology behind many Buyers' reluctance to buy or even refinance at the moment. (Of course, a weak economy and rising unemployment have their own chilling effect.)

To pick just one example in the housing market, 30 year mortgage rates are now at 5%, the lowest they've been in more than 50 years, and significantly below the rates that prevailed during the market peak in 2006. However, many Buyers' reaction is to wait and see if rates improve even more.

On a national scale, when this "wait for better prices tomorrow" mindset takes hold, it's called deflation, and quickly becomes self-reinforcing. The need to combat this is one of the organizing principles underlying recent Fed and Treasury action(s).

At least in the housing market, there are steps you can take to mitigate the "risk" of missing out on even better prices tomorrow. For a nominal fee, many mortgage lenders offer a "re-lock" option that lets borrowers switch to a lower rate while their application is pending.

Monday, December 15, 2008

Risk of Stroke

Credit Crunch Analogous to Blocked Artery

If you don't have a Ph.d in economics and have been a bit mystified by the urgent tone in Washington and on Wall Street, here's a good analogy:

The ongoing credit crisis (and freeze) is to the economy what a blood clot is to a person. If the clot goes to a particularly important organ, like the brain or heart, the lack of oxygen can quickly cause serious, permanent damage -- even if the affected organ was perfectly healthy before.

So, too, a a credit crunch can threaten even sound companies. In a broad contraction -- which is what a recession is -- sales fall, accounts receivable rise, and credit becomes more expensive -- if it's available at all. At the household level, unemployment rises; credit cards get maxed out and new ones aren't available; and home equity becomes tougher to borrow against.

The government's job, then, is to bust the clot. Quickly.

One way to do that is to prescribe blood thinner (print more money). Another is to recapitalize the lenders (blood transfusions), so they'll lend again. That's what TARP ("Troubled Asset Relief Program"), in all it guises, has been about.

Credit is to capitalism what oxygen is to the body. At the moment, the U.S. economy is slowly turning blue . .

Saturday, December 13, 2008

"The Market Has to Clear"

Friedman's Prescription:
'Painful and Quick' Action

Add Tom Friedman to the very short list of commentators who: a) understand what just happened in -- and to -- the global financial system; and b) actually have some sort of coherent proposal about what to do about it.

According to Friedman, we have just witnessed a "nuclear financial explosion." That's what happens "when you take this much leverage and this much globalization and this much complexity and start it in America, and then blow it up."

Friedman gets that, in the Internet age, it's all about the network. You don't save a damaged network by pouring resources into the parts that just malfunctioned. Instead, you bolster the parts that are still (relatively) strong:

Do a real analysis of what the major banks are worth in a worst-case scenario. Then determine, if, on that basis, they have viable, survivable equity-to-asset ratios.

Those that do should get more government investment. Those that are close should be forced to find new investors and merge. And those not viable should be shut down and have their bad assets bought by a government-owned body (which would sell them over time) and their deposits shifted to healthy banks to make those banks even healthier . . .

This process will be painful, but probably by the end of a year the market will clear, investors will come in, and the surviving banks will be ready to lend to each other and you and me . . . "

--"Cars, Kabul, and Banks"; The New York Times (12/14/08).

Just one year, albeit "excruciatingly painful"? Where do I sign up??

Free Foreclosure Info!

Cashing in on Foreclosures . .
. . . One Gullible Subscriber at a Time

Judging by the incoming email pitches I'm receiving -- plus some of the "spam" posts this blog is now attracting -- there's a ton of money to be made in foreclosures. No, not buying and flipping them. Rather, selling information about foreclosures.

For $19.99 a month (or $29.99 or similar), (fictitious, or at least I hope) will supposedly give you the scoop on the best deals in town, plus a "heads up" on upcoming deals only "they" know about.

Yeah, right.

First, it 'aint that easy.

For every supposed $300k house selling for $100k that "just needs cosmetics," there are dozens of formerly $150k houses selling for $120k that, inconveniently, need to be gutted and put back together. Estimated cost: $50k - $100k or more.

Second, just like all the companies that will sell you credit reports that you can obtain for free, these companies typically offer less -- and staler -- info than any realtor can access, any time on the local MLS ("Multiple Listing Service") database.

So, if you want to know what's really going on with foreclosures . . . talk to your realtor. It won't cost you a dime.

Selling or Renting?

"For Sale" or "For Rent" -- But not Both

A small -- but growing -- percentage of single-family homes on the market locally now have a second sign in their front lawns: one that says, "For Rent."

I have no statistics backing me up -- I doubt any exist -- but I'd estimate the number is 5%, up from maybe 1% a few years ago. Clearly, many frustrated (desperate?) Sellers are exploring their options, including anything that helps defray their monthly holding costs.

Unfortunately, sporting dual "For Sale" and "For Rent" signs may deter both prospective Buyers and renters.

Rental Stigma?

For Buyers, a "For Rent" sign is a turn-off because, frankly, rental properties are seldom in the same condition as owner-occupied homes. Just as nobody ever washes a rental car, few renters invest the kind of TLC that owners do.

That's why, on the Multiple Listing Service ("MLS") database, owner-occupied duplexes call attention to that fact, or, if the property is in especially good condition, tout their potential for owner-occupancy. (Truth be told, many not-so-great duplexes also claim to be perfect for owner-occupants.)

In the conservative, apple pie Midwest, owners simply occupy a higher place in the social pecking order than renters. So it's usually a mistake for Sellers to associate their single-family home with renting.

As a realtor, I have a second association with dual "For Sale/Rent" signs: they usually indicate an overpriced property that has been on the market awhile.

Motivated Sellers don't use language like "Must Sell!," "Make an Offer," etc. Rather, they get their home in the best possible condition, stage it well, and hire a good realtor to position it in the marketplace. A key part of market positioning is choosing an appropriate list price.

In my experience, when Sellers do all of those things, their homes invariably . . . sell, regardless of market circumstances.

When you see two signs in the lawn instead of one, it's a good bet that one -- or more -- of the foregoing steps has been skipped.

Renter Turn-off's

Meanwhile, prospective renters can't help but notice the "For Sale" sign. Even though leases survive a title transfer, renters seldom know that. At the very least, they may reasonably wonder how a prospective change in ownership will affect them.

Exiting owners have little incentive to invest serious money in a property they're selling, or even stay on top of garden variety maintenance. In fact, financial duress may be why they're selling.

In today's market, you have to at least consider the possibility that the current owner's circumstances may be so dire that the property will go into foreclosure, further clouding the status of any renter.

Even if the new owner is an individual rather than a bank, it remains to be seen what kind of landlord they'll be.

All of these considerations inject uncertainty and distractions into a process that is already stressful enough.

For prospective Buyers and renters alike, simplicity sells. That's why owners should decide whether they're Sellers or Landlords -- but not both.

Friday, December 12, 2008

Hot Pockets

Edina Neighborhood Defies Downturn

Investors like to say that "it's not a stock market, it's a market of stocks."

In real estate, that translates to, "it's not a housing market, it's a market of houses -- and neighborhoods."

Anyone who wants evidence that there are plenty of pockets of strength in an otherwise soft market should check out Halifax Ave. in East Edina. In particular, a three block stretch that backs up to Minnehaha Creek has seen per square foot prices appreciate a whopping 84% in the last five years. Perhaps just as significantly, the price gains there appear to have accelerated the last two years.

What's so special about Halifax?

Besides proximity to the Creek, the lots are especially deep -- anywhere from 200 to 300 feet; the neighborhood is just south of the prized Country Club area; and there are still a handful of older, undersized homes that are ripe for redevelopment ("tear-down" is now officially out-of-fashion).

That last attribute, scarcity, is the most important of all.

The home buyers who've fared best the last few years are the ones who bought something that doesn't --and won't -- have a lot of near-substitutes.

P.S.: Are you a prospective Buyer looking for a "Halifax"? Give me a call!

Are People Smarter than Dogs??

Jealous Dogs

"Scientists in Austria report in The Proceedings of the National Academy of Sciences that a dog may stop obeying a command if it sees that another dog is getting a better deal."

--"A Jealous Streak? With Treats, Dogs Seem to Know What's Fair," The New York Times (12/9/08)

Just two questions: anyone else see any parallels here? And the big one: are people smarter than dogs??

Financial Crash Instructions

Four Steps to Arresting a Financial Crash

If the economy was a commercial airline flight, we'd now be approaching the point where the flight attendants would be dropping the oxygen masks and instructing passengers on how to use them.

Instructions -- and preparedness -- are no less important during a financial crash. In roughly the order of priority, here are the four most important steps to take:

One. Make sure you've got the best possible pilot and co-pilot flying the plane.

The jury's necessarily out on President-elect Obama and Vice President-elect Joe Biden, but . . . so far, so good. Some would have preferred a new(er) crew -- Rahm Emanuel, Hillary Clinton, and Lawrence Summers et al are not exactly fresh faces. However, what's most important is that they know their jobs well and follow the pilots' direction. Again . . . so far, so good.

Two. Make sure the aircraft is as aerodynamic as possible until the engines can be re-started.

While the economy has certainly lost a great deal of altitude since the financial crisis began 18 months ago, it's still at a comfortable 20,000 feet or so and traveling at an acceptable -- if rapidly slowing -- cruising speed. (At least in the U.S.; emerging economies clearly have much less cushion).

Most people have jobs. Most mortgages are not in default. The dollar, at least for now, is holding up.

And yet . . the stalled, and now, descending plane is still dangerously heavy. Debt-heavy. At every level. That includes the government, the Federal Reserve, the too-big-to-fail banks, as well as many, many U.S. households.

Just as a plane preparing for a rough landing needs to dump fuel, a falling economy needs to jettison excessive debt. Fortunately, the U.S. bankruptcy system is the world's most established and sophisticated at lawfully doing just that. Now is the time to make use of it.

Three. Re-start the engines.

It is normal for there to be swings in economic activity.

During booms, animal spirits run high -- arguably, too high. Consumers become complacent, careless about risk, and apt to frenetically, well . . consume.

During a bust, the opposite is true. People are loathe to take chances, become defensive, hoard cash.

The government -- er, pilot's -- job now is to push the pendulum back toward the middle.

If you prefer, think of it as Alien in reverse: lurking inside a dysfunctional, steroid-stuffed "monster economy" is a healthy, sustainable, and yes, market-driven one struggling to get out -- albeit a smaller, slower-growing, and certainly simpler and more transparent economy.

Four. Make sure that the people on the ground are ready.

In turn, that means two things: 1) preparing the runway for a rough landing; and 2) lining up emergency fire, medical care, etc. to deal with any aftermath.

The equivalent of spreading foam on the runway -- monetary easing -- has already been done (arguably, overdone).

That leaves evacuating survivors and providing them with medical care, while making sure the fuselage doesn't burn.

Those tasks necessarily fall to the first responders in an economic crisis: state, and especially, local governments. Far better to use billions in federal aid to bolster their ability to provide food, shelter, and clothing to the truly needy, than to bail out Wall Street, Detroit, or any other special interest group. Providing for unemployment benefits, job (re)training, health insurance and the like come next.

Once the plane has landed -- with or without engine power -- it will be timely to take up an arguably even more important task: charting an altogether new course.

Thursday, December 11, 2008

"Flying" After a Crash

New Mortgage-Backed Debt A Good Investment?

A lot of people subscribe to the notion -- I'm one of them -- that the safest time to fly is right after a crash. That's when everyone is at their most vigilant, and when everyone is at their most vigilant . . . bad things are a lot less likely to happen.

By that standard, investors buying mortgage-backed debt now are probably going to do just fine.

The U.S. government, which looks like a (very big) drunk on a spending spree, is currently offering short-term savers no return on their money. After subtracting fees, you're actually paying for the privilege.

Things are hardly better long-term. If you're willing to park your money with the government for ten years . . . your rate of return jumps to almost 3% annually. That will pay for the hikes in food, taxes, energy, medical care, prescription drugs, etc. that may very well be in the inflation-tinged pipeline (not).

By contrast, the interest rate on mortgage-backed debt is now around 6%.

"Clean up on Aisle 4 (and 7 and 12 and . . )"

In their belated haste to clean up underwriting standards, lenders nationally have arguably overcompensated in the other direction. According to a senior Edina Mortgage official, there have now been more than 300 credit policy changes just since the beginning of the year.

While the changes pertain to everything from loan-to-value ratios to selecting comp's to verifying income, the net effect is a much more thorough screen (some might say "gauntlet") of loan qualifiers than 2-3 years ago. In fact, it's probably fair to say that loan underwriting standards have never been stricter.

Borrowers who make it through are likely good for the money. That may be more than can be said of Uncle Sam . . .

Wednesday, December 10, 2008

Recommended Reading

Stiglitz Article Deconstructs Financial Mess

It's still early for a postmortem, but an article by Joseph Stiglitz, "Capitalist Fools," is one of the best pieces I've seen so far dissecting the current financial mess:

Stiglitz was a senior economic advisor in the Clinton Administration, a Nobel laureate (economics), and is simply an outstanding writer and thinker. Most important of all, he's on a very short list of "wise men" -- Warren Buffett, Paul Volcker, and John Bogle come to mind -- whose integrity is beyond reproach.

Tuesday, December 9, 2008

"Show me the Money!"

Credit Markets Waiting for Deeds, not Words

Thirty-year mortgage rates, which looked poised to make a run at 5% last week, now are heading the other direction. As of this morning, long-term rates for qualified borrowers are hovering around 5.5%.

What happened?

It's more like, what didn't.

The Federal Reserve and Treasury, to try to jump start housing, basically floated a trial balloon that they intended to commit hundreds of billions to buying mortgages directly from Fannie Mae and Freddie Mac. The credit markets promptly rallied in expectation of that happening.

Replay of TARP 1.0

However, 10 days later, it's not clear when -- or even if -- the money will be committed. This is more than a little reminiscent of Troubled Assets Relief Program 1.0 ("TARP"), in which the Treasury loudly lobbied Congress for hundreds of billions in emergency funds to buy banks' toxic debt, only to abandon that plan in favor of taking direct equity stakes in said banks.

If the Fed set long-term rates, market psychology -- and specifically, expectations about interest rates -- wouldn't matter.

But the Fed only controls short-term rates. Until skeptical markets actually see government money deployed, rates are likely headed north, not south.

Sunday, December 7, 2008

Routing Around Damage: Wall St. vs. the Internet

Damage Control

"No problem can be solved from the same level of consciousness that created it."
--Albert Einstein

Consider the very different responses to damage on the Internet-- widely considered to be one of the all-time, most successful networks -- with that of modern-day Wall Street, quickly taking its place as one of the worst.

On the decentralized Internet, traffic spontaneously routes around a damaged node, reconstituting itself with minimal loss of function.

On Wall Street, a damaged "node" seemingly attracts unlimited resources, threatening the viability of the entire system.

Ironically, in their resolve not to repeat the monetary sins of the Great Depression -- a too late, too tepid response -- today's financial generals (Bernanke, Paulson, Geithner) have committed a far greater blunder: they've flooded the market's damaged parts with capital at the expense of the healthy parts. In so doing, they've betrayed their "mainframe mindset" and violated three cardinal principles of today's distributed, Internet-era networks.

"Main Frame" Thinking in a PC Age

One. Isolate the source of the damage.

Until you know what malfunctioned and why, any good system operator's first instinct is to take the damaged part(s) off-line. Think of it this way: when the 35W bridge in Minneapolis collapses, the first priority is setting up roadblocks and routing traffic away from the wreckage, to minimize future casualties. Next, you attend to the injured.

Contrast that approach with the Treasury and Fed's response to Wall Street's melt-down: lavish capital on the failed financial components, with no thought to their design flaw(s), while seemingly leaving the plight of the injured -- foreclosed and financially distressed homeowners -- for another day.

Two. Reinforce the non-damaged parts of the network, to bolster their capacity to absorb more traffic and otherwise compensate for the damaged parts.

As evidenced by last Friday's disastrous employment numbers, Wall Street's melt-down is quickly causing severe, collateral damage in the non-financial parts of the economy. That is where the focus should be. Specifically, ensure that sound, going-concern businesses and households continue to have access to credit, either via solvent financial institutions, or, if need be, directly from the government.

Secondarily, scarce capital should be preserved for things like unemployment benefits, job (re)training, and foreclosure mitigation.

Three. Invest in decentralization.

The overriding goal of the Department of Defense ("DOD"), the Internet's original patron, was system survivability. Toward that end, the Cold War-era DOD designed a decentralized system that could withstand the loss of one or even multiple nodes, should the unthinkable happen.

Contrast that with the handful of financial Godzilla's emerging from today's carnage: Citigroup, JP Morgan Chase, BankAmerica, and Wells Fargo, all rapidly swelling their opaque, multi-trillion dollar balance sheets, and now truly deserving of that dreaded epithet, "too-big-to-fail." Of course, the biggest balance sheet of all -- and arguably the one with the most dubious assets -- now belongs to . . the Federal Reserve.

In retrospect, it does seem unrealistic to expect enlightened government policy in the midst of the worst financial crisis in decades.

Failing that, Washington would have done better to have simply heeded that old financial policy nostrum: 'feed a credit crunch, starve a Wall Street melt-down.'

Saturday, December 6, 2008

Hot New Lake Calhoun Listing!

New List: Tudor-Style Cottage
Two Blocks to Lake Calhoun

Looking for a charming home in a great location? Check out 3929 Washburn Avenue South this Sunday between 1 and 3 p.m., when I'll be holding the first open house.

This Tudor-style cottage features a dramatic Living Room with fireplace, cove moldings, and hardwood floors; a first floor master bedroom (and three more up!); and a lower level, walkout Family Room with a private entrance.

Click here to see more info, including photos:

Another highlight of this home is the first floor office. If you want to see a textbook case of staging, check out today's Star Tribune real estate section:

Lori Matzke, the stager, discusses how she took an overlooked space and turned it into a showcase.

Friday, December 5, 2008

"Hard, Hometown Assets"

Bear Market Winners: First-Time Buyers

Two of the half dozen or so first-time buyers profiled in today's New York Times just bought . . . in Minneapolis (the journalist must have a local connection). The *article, titled "Maybe it's Time to Buy that First House," explores the mindsets of various first-time buyers who have just taken the plunge.

Here's the link:

The Times makes the undeniable point that housing bear markets have winners, too: first-time buyers.

A sharp drop in prices, accompanied by abundant housing choices, is practically a gift to first-time buyers, who by definition have no existing real estate to sell. Add to that the prospect of truly cheap financing on the horizon -- the government is floating a plan to drive rates to 4.5% -- and suddenly the risk-reward calculus doesn't seem so daunting.

Encouragingly, the buyers profiled by the Times all seemed like sober, disciplined consumers. None of them had illusions of making a quick killing, or even a big profit; several were resigned to the possibility that, at least in the short run, their local housing markets might actually experience more declines.

However, they still bought.

One of the two Minneapolis buyers cited a desire not to mark time in a sterile rental, and observed -- quite correctly, I think -- that the rental and purchase markets don't really overlap. Others noted the impossibility of exactly timing the bottom and their long time horizon. A few others, while anxious about housing, were even more anxious about other, less tangible investments (like bank stocks??).

Just as blind enthusiasm is the sign of a top, such consumer sobriety and caution is more characteristic of a market bottom.

*Don't know what "flaming" is? Look at the comments readers posted at the end of the article. About 95% unload on the author for a variety of real or imagined sins: hyping real estate's upside, minimizing the downside, blithely assuming that people are sitting on cash waiting for the right time to buy, etc. In that vein, one of the most poignant posts was from a would-be buyer who lamented that her real estate nest egg was necessarily now a financial "parachute."

There's no gainsaying any of the above -- and probably better not trying. However, it's worth noting the self-selection operating here: people who have been burned by real estate are understandably a lot more negative and outspoken than those who haven't.

Wednesday, December 3, 2008

Choosier Realtors

More Realtors Say "No" to Unrealistic Sellers

I am seeing and hearing anecdotal evidence that realtors are becoming more selective about the listings they are willing to take.

Although the public doesn't ordinarily think of realtors declining listings -- empty cabs don't turn down fares, do they? -- good realtors can and do pass on listings that they think aren't likely to sell all the time.

By far the most common reason is price.

An unrealistically priced home, in a slow market, is the realtor kiss of death. It will consume your attention, energy, and worst of all, your money. More subtle is the opportunity cost: while you're busy trying to push a boulder up hill, you're missing out on other deals and clients with more realistic expectations.

"Behind the Scenes" Prep

Good realtors do far more than stick a sign in the front yard, then wait for qualified buyers to show up.

As readers of this blog know, the realtor's involvement and direction begin weeks -- if not months -- before a home hits the market. My "to do" list includes orchestrating the staging and suggesting cost-effective cosmetic improvements; guiding the Seller's compliance with municipal point-of-sale and Minnesota seller disclosure requirements; and arranging professional photography and desktop publishing to make sure the marketing literature is as flattering as possible.

Only once all those things are done, do I switch to the more "public" tasks typically associated with selling a home: placing eye-catching ads, holding Sunday and broker open houses, networking the home to realtor colleagues, neighbors, etc.

And pricing.

While clients ultimately choose their asking price, the realtor will provide the market data that frames their choice.

Pricing Guidance

I typically characterize the likely selling range for any given house as a bell curve: the fat part, in the middle, is where most Buyers are likely to fall. The "right tail" is every seller's dream: the relocation from Tokyo who has unlimited funds, no time to shop . . . and falls in love with your home. The "left tail" is the opposite: a disappointing sales price, obtained months (or years) after first hitting the market, multiple price reductions, etc.

I'll also typically characterize the "comp's" (comparable sold properties) as being "tight" or "loose": when three identical homes have sold nearby in the last few months, the comp's are tight, and the likely selling range for the subject home is narrow. By contrast, when the subject home is more unique, and nothing similar has sold nearby recently, the projected sales range is wider.

Because of these pricing nuances, and variations among Sellers in how aggressive, patient (or impatient), etc. they are about getting a deal, the decision about initial asking price is necessarily theirs.

However, when a prospective client completely discards your analysis and selects an asking price that is literally off the charts, it's time to rethink whether you have the time and money to wait for them to become more realistic

Sunday, November 30, 2008

The Coming Bank Bailout Backlash

Boycott Citigroup . . .
Pay Higher Taxes?

How do ordinary citizens disgusted by serial government bailouts of Wall Street register their displeasure?

Assume that you are not prepared to join the ranks of the posse comitatus, and mail in your 1040 next April with just an expletive scrawled in crayon at the top, no payment enclosed.

Further assume that you do not have the ear of anyone in a position of authority, either on Wall Street or in Washington, and therefore are powerless to stop extremely good money -- trillions of money -- from being thrown after merely very good money.

Finally, assume that you have neither the inclination nor the aptitude (let alone the time!) to become a latter-day Howard Jarvis (of Proposition 11 fame in 1970's California); a Frank Capra-style Mr. Smith, bent on cleaning up a corrupt system; or even a Howard Beale ("Network"), decrying its ills.

What's left?

The one course of action remaining to the "little guy" would seem to be to vote with your consumerist feet. In other words: commit acts of financial civil disobedience.

Financial Civil Disobedience

Purely hypothetically, say the object of your displeasure is Citigroup. (Unfortunately, AIG has fewer retail lines of business.)

You could cut up your Citigroup credit card and replace it with one issued by another bank; withdraw your (diminishing) savings from Citigroup branches and open up an account across the street; and vow not to apply for a mortgage from Citigroup (not that you'd get one, anyways).

After all, it's supposedly a free country, and a free marketplace. What better way to punish an especially irresponsible financial scofflaw than to pull all of your business, modest as it may be?

Unfortunately, there are at least three problems with such an approach.

One. It might boomerang.

Imagine that such financial civil disobedience actually caught on, and Citigroup's business began to suffer as a result (the term's relative).

Citigroup would lose even more money, bringing it close to collapse (again). To prevent that, the government might very well feel compelled to inject yet more of your money into Citigroup to save it.

Perversely, the greater the public's resolve to kill Citigroup . . . the more expensive the government rescue.

"To Tell The Truth" -- Banking Version

Two. No good alternatives.

What if the bank across the street is just as bad? That is, what if every bank did what Citigroup did, and is now getting federal bailout money?

Imagine for a moment that you run a bank, and all your competitors who screwed up are getting cheap -- or free -- no-strings-attached, government money. Wouldn't you grab some, too, even if your bank was run conservatively (and profitably)?

Given that you compete with the "bailee-banks" for loans, deposits, etc., your competitive position would suffer if you didn't.

Now imagine that the government purposely obscured the distinction between "bad banks" and "good banks," by forcing the latter to accept bailout money. (Unfortunately, you don't need to imagine this -- it just happened.)

The result would be a surreal game of "To Tell the Truth," in which millions of ordinary consumers-cum contestants have to figure out which banks are genuinely virtuous, and which are impostors.

Three. Financial temptation/co-option, or, "cutting off your nose to spite your face."

The reason that Fannie Mae and Freddie Mac, so-called government sponsored entities ("GSE"s), had such spectacular access to cheap money was that its lenders believed -- correctly, it turned out -- that the federal government guaranteed their loans.

Now, the government is not only guaranteeing a big chunk of Citigroup's debt -- it's a shareholder! To protect its investment (and Citigroup's market share), the government logically should now make sure that Citigroup's rates on everything from mortgages to car loans are competitive. Perhaps too competitive.

Calling Howard Jarvis

If 30 year mortgages are available from Citigroup for 5%, and Hometown Bank for 5 1/2%, which are you going to choose? Ditto for CD's yielding 4% vs. only 3% at the competition. H-e-l-l-o . . . Citigroup!

These conundrums (and more) are exactly why government shouldn't decide which financial institutions should live and which should die, and why doing so leads to absurd and potentially disastrous outcomes.

In a market economy, the marketplace -- and the millions of consumers who comprise it -- make those decisions.

Sadly, the expression, "you can run, but you can't hide" now describes the futility of trying to shield your wallet -- and your descendants' -- from a federal government bent on ever-more expensive and wrongheaded bailouts.

Wednesday, November 26, 2008

14 Offers!

Fern Hill Foreclosure Goes Fast

Yes, the home was priced $200k below tax value. And, yes, it was located in a strong neighborhood (Fern Hill) near Cedar Lake, and sat on a one-third acre lot. Still, it was a bank-owned foreclosure with zero curb appeal and more than a little rough around the edges, being sold "as is, where is" (as they say) -- no contingent offers entertained.

Don't believe me about the curb appeal? Take a look for yourself:

So what happened after 4221 Cedar hit the market late last Friday?

It touched off a mini-feeding frenzy, attracting a total of 14(!) offers. The deadline for submitting something was yesterday noon, so presumably the bank has either accepted an offer by now, or is working with a handful of finalists.

What happens now? Thirteen would-be buyers go back to the drawing board, looking for the next opportunity. When they find it, you'd guess that they bid a little -- if not a lot -- more aggressively.

It may not make headlines, but such is the stuff of market bottoms . . .

Upcoming: Are there really multiple offers? How to tell.

Mortgage Rate Rally Continues

Turning a Corner??

Mortgage rates barreled lower a second straight day today, dropping from 5 5/8% to 5 3/8% for thirty year loans.

That brings the two-day drop to almost a full point, roughly equivalent to a 1,000 point rally in the Dow Jones average -- which, not coincidentally, is what the stock market gained the last few days.

While it's true that lower rates don't help homeowners with negative equity or wrecked credit, they're a boon for millions of other Americans.

Consider who benefits:

--Virtually overnight, prospective home buyers have 10% more purchasing power.
--Home sellers suddenly have a bigger pool of buyers who can afford their home.
--Existing homeowners with mortgages above 6% can refinance, using the savings to buy other things. In turn, strengthened consumer demand helps bolster an economy in recession.
--Banks and loan officers have a wave of new business to accommodate (I'd much rather see banks make money the usual way -- making loans -- than need bailout money from taxpayers).

Thanksgiving, indeed.

Mentioned in NY Times

Check Out Floyd Norris' Blog
in The New York Times!

In a column today titled, "Accelerating Falls," Floyd Norris, The New York Times business columnist, made a rare mistake in his analysis of the latest S&P/Case-Shiller housing numbers.

Specifically, he reported that, according to Case-Shiller, the Minneapolis market peaked in 2003. I emailed him to tell him that the actual peak here was much later, and questioned whether the market peaks for other cities were wrong, too.

He revisited his data, caught the mistake, and posted a correction very graciously acknowledging me and this blog.

Here's the link:

The gist of his post, which like everything Mr. Norris writes is excellent, is that prices in most markets nationally have rolled back to where they were several years ago.

Tuesday, November 25, 2008

Big Mortgage Market Rally

Big Drop in Mortgage Rates

I don't know what button the Fed or Treasury pushed today -- I've been mercifully out of the news loop* all day, doing what realtors do -- but clearly something happened to drive mortgage rates dramatically lower.

Rates fell from around 6% yesterday to 5 5/8% at the end of today. That may seem like a trivial drop, but it's the mortgage market equivalent of a 500 point gain in the Dow Jones.

Given all the complicated proposals to aid the housing market, what's been overlooked is that the single biggest -- and simplest -- way to spur demand for housing is to make it cheaper.

In turn, there are really only two ways to do that: 1) Sellers drop their prices; or 2) financing becomes cheaper (the vast majority of residential housing is purchased with borrowed money). There is actually a third way -- consumers make more money -- but that's off the table during a recession.

After all the cash pumped into banks this Fall, it's about time for a little of it to actually reach the housing market in the form of lower rates.

*Here's the missing link explaining the rate drop:

"The mortgage markets were electrified by the Fed’s announcement that it would swoop in and buy up to $600 billion in debt tied to mortgages guaranteed by Fannie Mae and Freddie Mac. Interest rates on 30-year fixed-rate mortgages fell almost a full percentage point, to 5.5 percent, from 6.3 percent." -- The New York Times (11/26/08).

Banking Bailout Trivia Quiz

Name that Bank Executive!

You helped lead one of the country's biggest banks for a decade, during which time you collected hundreds of millions in compensation. Now that bank needs an open-ended cash infusion from U.S. taxpayers to stem the bleeding. First installment: $300 billion, with more (perhaps much more) to come.

What do you do for an encore?

a. Renounce your worldly possessions and head to the slums of Calcutta to minister to the poor.
b. Hit the golf course!
c. Head to prison
d. Forfeit your fortune to U.S. taxpayers, as a down payment on what they're putting up to bail out your bank.
e. Join the new administration as a senior advisor.

Answer: (e)

Bonus round questions: 1) name the official; 2) name the bank.

Sunday, November 23, 2008

Leaf-raking Slackers

Hubcaps for Plates & Banjo-picking Albinos

I always thought that the worst that could happen to you if you didn't rake your leaves is that your neighbors would glare at you, and you might get some sort of citation. Clearly, I lacked imagination.

According to Garrison Keillor, worse -- much worse -- potentially lies in store:

"Those unraked leaves of slackers will freeze and form a hard crust and kill the grass. In the Spring, they'll seed and lay sod but grass will never grow there again, due to powerful toxins created by unraked leaves, and as a result those homes will lose half their value and the nonrakers will go bankrupt . . . Those families will be forced to migrate south and pick cotton and live in shotgun shacks and eat biscuits and gravy with hubcaps for plates and be tormented by red-eyed evangelists and banjo-picking albinos and clouds of horseflies and cottonmouth snakes slithering into the bedroom at right."

--Star Tribune (11/23/08)

So, according, to Keillor, how does one find salvation, if it isn't already too late? Snow-shoveling.

Stuck (Broken?) Elevator

Case of the Missing Equity . . times Millions?

As a realtor, I think of housing as an escalator that roughly corresponds to people's life stages.

In your 20's, you buy a condo or starter home. When (and if) you get married, you and your partner buy a small family home. When (and if) you have more money and start having kids, you move up to a bigger home.

A couple decades later, after the kids have moved out and you're an empty-nester, it's time for less space, often a town home or condo.

Finally, when health issues predominate in later life, assisted living may be appropriate.

What's that got to do with today's housing market?

In many markets, the housing escalator is stuck -- or broken. Just as global economies and equity markets are now interconnected, a malfunction in one part of the escalator has consequences for all the other parts.

Broken Escalator

Until now, by far the most attention has been focused on the escalator's beginning rungs. That's where first-time Buyers with marginal credit made their first step onto the housing escalator -- and promptly got thrown off, or stuck.

The reasons and fallout have dominated the news for well over a year now: aggressive, "gotcha" loans to people with marginal credit; loose lending standards; overheated housing markets that are now plagued with an overhang of both existing inventory and new housing.

However, much less remarked is what's happening at the escalator's more advanced rungs. In particular, many elderly home owners are also suffering fallout from a broken escalator.

The New York Times just ran an excellent story exploring this phenomenon titled, "In Housing Slump, Elderly Forgo Assisted Living" (11/21/08):

As a realtor, I just witnessed something similar in the course of selling a Minnetonka town home.

The town home was a perfect downsizing choice for someone who no longer needed a big, single family home -- exactly my client's circumstances when she and her husband purchased it 20 years earlier. Now, as a widow approaching 80, it was time for the next "rung" on the elevator: a condo in a new, full service building with nice amenities, true one-level living (vs. stairs), and less living space.

The Case of the Missing Equity

As a listing agent, I tailored my marketing to prospective downsizers, and had no trouble generating traffic at my numerous open houses. Although I heard the occasional negative feedback, by far the most reaction was a wistful, "this is exactly what I'm looking for. I just wish I could afford it."

Given that most of these people had been homeowners for decades, and the townhome's relatively modest price, my reaction was a dumbfounded, "hunh??" Weren't their homes long paid off?

The surprising, all-too-frequent answer was, "no." Many, many of "The Greatest Generation" had taken equity out of their homes, to the point where their ability to finance even a less expensive property was jeopardized. Even if they hadn't taken equity out, they were concerned about what their homes would fetch in a soft (and deteriorating) market.

(Just as an aside, if the home equity had gone towards expensive toys and consumption, I didn't see it: most of the 60-something's coming through my open houses were conservatively dressed, driving older model cars, etc.).

My client's town home finally did sell, but the market time was relatively long, and the price, although consistent with the new market reality, disappointing. As I told my client, it's one thing to wonder if you sold too low when it sells in a week. However, after 8 months on the market, 7 Sunday open houses, 3 broker opens, print ads, volleys of mailings to the neighborhood, and more than 50(!) showings . . . you don't have to worry about that.

Multiply my client's experience by a couple million and you have today's real estate market.