International Forecaster Weekly

How Much Real-Estate Has Fueled The Economy

How much Real-Estate has fueled the economy... car giveaways...the psychology of market changes... Market riggers accused in class action suit... stock profits stuffing pension funds, for now...

Bob Chapman | November 19, 2006

As we have seen from recent statistics real estate related jobs such as brokers, mortgage workers, appraisers and construction works are disappearing. One-third of all jobs created over the past five years have come as a result of the real estate boom. As this transpires consumer spending and confidence have fallen as well. This leveling and decent of housing prices will cause growth to fall to 1.5% or less in the coming year in spite of increases of money and credit of more than 14%.

For Sales signs continue to proliferate which is a serious situation because the wealth of consumers lies mainly in the rising values of their homes, as well as their mortgage equity withdrawals. A major decline in housing will affect the entire world economy. Many see the value of their home as their retirement savings. This perception is already dimming as tens of millions of homeowners begin to cut back on spending. If you add to this situation that consumers have no savings and are buried in debt, you have an explosive situation in a downturn. Let us also not forget inflation as prices rise relentlessly higher.

As reported some time ago, homebuilder confidence is the lowest ever and dealer car sales as a barometer of economic well being are at recession levels. This is the same pattern we saw in May 2001, in spite of manufacturers virtually giving cars away to clear mounting inventory.

Foreclosures are like a funnel cloud; they tend to create their own downward spiral once they get started. The whole psychology of the market changes in a housing market down cycle. Fear now dominates the market. Demand falls because people expect prices to be less tomorrow than today. There is little urgency to buy. Making matters worse, lenders who have a large number of foreclosures on their books will try to recover whatever they can, often by under pricing the market. That further depresses retail prices; causing more and more sellers to have negative equity on a home they want to sell. This, in turn, causes more foreclosures, puts more pressure on the lenders to dump properties, and puts more downward pressure on prices. It is a vicious cycle that feeds on itself.

Who is to blame for this problem? The Fed via the lowest interest rates since the 1930s, endless money and credit and no control over loan qualifications. The banks, S&Ls and other lenders such as Fannie Mae and Freddie Mac that threw lending caution to the winds and gave mortgages to anyone who could make his mark on a contract and lie about his income. Then in a class by themselves are the real estate agents. They created a financial death trap for one-third of all borrowers. Over the next 18 months more than $2 trillion of these loans will be re-priced and new monthly payments will be 25 to 100% higher. Most won’t be able to afford these higher payments and they will be forced into another exotic loan or go into default. If you do not have equity or cash to the equity you cannot refinance. Many will just walk away and that triggers debt relief. When a home is sold for less than is owed, it creates what is known as phantom income that the borrower must pay taxes on. That will create many bankruptcies. We can thank the Fed, banks and other lenders for this predicament. If you do not think this is serious, look at these numbers: 32.6% of new mortgages and home equity loans in 2005 were interest only, 43% of buyers put no money down, 15.2% of buyers owe at least 10% more than their homes are worth, 10% of all mortgage holders have no equity and that is growing in leaps and bounds. If we include 2006, 2007 and 2008, more than $2.7 trillion of mortgages will have to adjust to higher rates.

Kohlberg, Kravis Roberts & Carlyle Group, the manager of the biggest US buyout fund, are among 13 private equity firms accused in a class-action lawsuit of rigging the market to take companies private. The suit was filed by shareholders who contend there was a conspiracy that violated anti-trust laws.

The Justice Department has launched an investigation but we can assure you the most powerful elitist firm in America will arrange nothing to happen. Corporate America just cannot help itself.

A group of investment banks and fund managers have joined forces with Depository Trust Clearing Corp. (DTCC) to launch an institution that can record, monitor and help process trades in the credit derivative market. This is a first for the OTC derivatives sector.

The Pension Benefit Guarantee Corp. says its deficit has fallen from $22.8 billion last year to $18.1 billion as of the end of the last fiscal year on 9/30/06.

Under funding of single-employer pension plans fell to $350 billion from $450 billion for each of the two previous years. That is due to higher profits and a rising stock market.

Robert Rubin, Secretary of the Treasury under President Bill Clinton and former Fed Chairman Paul Volcker have said that foreign investors probably won’t keep increasing their dollar holdings, which raises the risk of a slump in the US economy.

Failure by the US government to shrink its budget deficit may spook the central banks and others who have been buying Treasuries said Mr. Rubin. Volcker said the borrowing requirements raise the risk of a crisis in the dollar as soon as the next 2-1/2 years.

Rubin says it seems inconceivable that this will continue indefinitely. It’s incredible that people have gone on so long holding dollars said Volcker. Foreigners now own about half of $4.3 trillion in Treasuries.