Tuesday, August 26, 2008

Breaking News: Lehman To Be Acquired by Tooth Fairy

The market responded with enthusiasm to reports that the Tooth Fairy has agreed to acquire Lehman. The purchase price has not yet been determined and will be set by Dick Fuld wishing upon a star, clicking his heels three times, and being transported back to that magical place where Lehman still sells for over $70 per share.

In related news, Lehman has agreed to sell all of its level III capital, including CDOs, ABSs, pet rocks, baseball cards, slightly used condoms, and credit default swaps written by MBIA and Ambac. Lehman’s level III capital will be acquired for 150% of its face value by Tinkerbell, who will carry it off to Neverland to be fed to a crocodile. Lehman is financing 90% of the acquisition at an interest rate that has not been announced; Tinkerbell’s up-front payment consists of a handful of pixie dust, three crickets, and a bullfrog. Analyst Dick Bove estimates that the bullfrog could eventually be transformed into three princes and a pumpkin coach. The deal gives Lehman no recourse to any of Tinkerbell’s assets other than the Level III capital. If Tinkerbell defaults, Lehman’s successor entity will stick its hand down the crocodile’s throat and attempt to get it to regurgitate. The firm’s historical value-at-risk analysis shows that sticking your hand down a crocodile’s throat is completely safe.

Treasury Secretary Hank Paulson issued a statement: “I am delighted that SWFs (Sovereign Wealth Fairies) continue to express confidence in the terrific values represented by American financial institutions. As I have been saying since August of 2007, this shows that the crisis is now over.”

Meanwhile, the SEC has announced an investigation of mean, evil, bad short-seller David Einhorn. While out for a beer with a friend, Einhorn reportedly suggested that the Tooth Fairy does not exist and that wishing upon a star is not a wholly reliable price discovery mechanism. Christopher Cox, chairman of the SEC, said, “Vicious rumors attacking the Tooth Fairy will not be tolerated. Our entire financial system and indeed the American way of life depend on the Tooth Fairy and wishing upon a star. How else could one value level III capital appropriately?” The SEC is reportedly planning to set up re-education camps for short-sellers.
Below is Korea's response to Lehman's offer to sell itself for 150% of book value (oddly it's in chinese).

If you can't read chinese turn your head to the right and read it sideways. You'll get it.

On the Link between the Dollar and Oil

Voltron says: from my former colleagues, a more nuanced explanation of how the price of oil is linked to the dollar. The gist is that there are several factors that cause the price of oil to rise when the dollar goes down in value. This is bad but it will likely continue for some time.

By Stephen Jen & Spyros Andreopoulos | London

Summary and Conclusions

While it is difficult to establish statistical evidence of causality, we believe that the USD and oil will likely remain negatively correlated, for various reasons. Oil prices, therefore, will remain an important – though not the only – consideration for the dollar. Specifically, lower and stable oil prices should be positive for the USD, while rising oil prices should be negative for the USD.

The Oil-Dollar Link

The circle of rising oil prices and a falling dollar was vicious. In contrast, the recent reversal of these trends is virtuous and, all else equal, positive for the world. Not only will lower oil prices help to support global demand, they should also permit greater monetary flexibility to deal with lower economic growth. (There are two aspects of the nexus between oil and the dollar: their correlation and the direction of causality. We have conducted Granger Causality tests, and found that, in practice, and for the most recent period (1992-2008), the dollar tends to lead oil, rather than the other way around.)

Until around 2003, higher oil prices were correlated with a stronger dollar. This was primarily because petrodollars were not only recycled back in to the US through trade but also because of financial flows: the US was dominant in every way back then, in terms of the attractiveness of its exports and assets. However, since 2004, this correlation has evaporated, and since 2006, the correlation has turned intensely negative.

There are several possible explanations for this negative correlation between oil prices and the dollar, especially the EUR/USD bilateral cross. We have, in previous work, touched on some of these reasons (see The USD and Oil Prices: Some Conceptual Issues, August 9, 2007). We list them here, paying particular attention to the direction of causality.

There are primarily three channels through which oil prices could affect the dollar:

Link 1. Petrodollar recycling less dollar-friendly. The economic reliance of oil exporters on the US has declined over the years. Specifically, petrodollar owners now have a higher marginal propensity to consume European-made products than before. (Back in the 1970s, around 18% of OPEC’s imports were from the US. Now, this ratio has fallen to 9%, and OPEC sources 26% of its imports from the EU.) Also, they are likely to have a lower marginal propensity to invest in USD assets, simply because the array of assets in the world available to the petrodollar investors is now much wider than before. This is also related to the issue of reserve diversification by oil exporters. The establishment of the EMU has enhanced the liquidity of EUR-denominated assets, and intra-Eurozone divergence has preserved the diversification benefits of investing in EUR assets. Petrodollar owners have responded to these changing global financial markets. Thus, the higher the oil price, the more diversification takes place, and the weaker the dollar is.

Link 2. Different central bank responses to oil shocks. Investors have different opinions about how the Fed and the ECB may react to rising oil prices, one opinion being that the latter might act more aggressively than the former, because of their different mandates. Thus, higher oil prices tend to lead to general expectations of a more hawkish reaction from the ECB – an inflation targeter – than from the Fed, which has a ‘dual mandate’ on growth and inflation. In other words, rate hikes in response to oil price rises appear more ‘automatic’ for the ECB than for the Fed. This may help to explain why EUR/USD and oil are correlated on a real-time basis – a trend that cannot be satisfactorily explained by the diversification argument mentioned above. Thus, in general, a higher USD price of oil may have conveyed to the world the impression that there was more global inflation than there really was. Monetary tightening in response to this positive inflation shock had further depressed the dollar, thereby perpetuating the circle.

Link 3. High oil prices hurt the US C/A deficit. The US C/A deficit has shrunk rapidly since 4Q05, especially the non-oil portion of the C/A. (The US C/A deficit reached a peak of 6.8% of GDP in 4Q05, and has just breached the 5.0% GDP mark in 4Q07. It is likely to decline to around 4.5% by end-2008.) Indeed, trends in non-oil and oil trade balances have diverged substantially since 2005. While the former improved from U$40 billion to around U$30 billion a month, the oil trade balance – reflecting the sharp move in the US terms of trade – deteriorated from around U$20 billion to U$30 billion a month. In short, high oil prices have offset the tremendous improvement in the US external imbalance that has and continues to take place, and have prevented the dollar from being rewarded for this improving trend.

And there are three links through which the dollar drives oil quotes, in addition to the numeraire effect:

Link 4. Feedback through the de facto dollar zone. The de facto dollar zone could also help to explain the link between the dollar and oil, and the causality running from the former to the latter. While the de facto dollar zone is looser now than two years ago, many Asian and other EM currencies are still quite ‘sticky’ vis-à-vis the dollar. Dollar depreciation effectively makes Asian exporters even more competitive, and economic buoyancy in these dollar zone countries (i.e., Asia) has led to high consumption of energy products. Therefore, a weak dollar may, on balance, increase the world’s demand for energy products.

Link 5. Financial investment in commodities. There are anecdotal signs that institutional funds may be starting to treat commodities as a separate asset class. To the extent that real commodities are treated as ‘anti-dollars’, there could be a negative relationship between these two variables. Similarly, if commodities are seen as a hedge against inflation, expectations of higher US inflation will drive the dollar down and oil prices up.

Link 6. Weak dollar and the lack of oil demand destruction. Many countries have tried to let their currencies appreciate in the past quarters so as to offset the impact of oil price increases in USD. But what may make sense from an individual country’s perspective has in fact been inflationary from the world’s collective perspective. Essentially, strong currencies provided an implicit subsidy on oil, and rising oil prices have not caused the level of demand destruction they should have done. As a result, oil prices continue to march higher, the longer this strong currency policy is maintained.

These are some explanations for why oil and the dollar have been so negatively linked since 2006. However, a further theory we have is that oil and the dollar could appear correlated only because they are driven by the same factor. We see this thesis as particularly relevant for the recent episode of oil price correction and the rise in the dollar. The dollar could have risen in the past month due to the ‘Dollar Smile’ effect. At the same time, a broad-based deceleration in global growth, on top of the oil demand-destruction that had already begun in many developed countries, should driver oil prices lower. As a result, the dollar rose at the same time as oil prices fell, not because one ‘caused’ the other, but because they were both driven by the same factor: a deteriorating global economic outlook.

Our Outlook for the Dollar, Conditional on Oil Price

We have two thoughts:

1. A strong dollar helps the world to rationalise on oil consumption. The vicious circle between a weak dollar and high oil prices was bad for the global economy. The contraction in Germany’s GDP was due to weak domestic demand, rather than exports. This raises the whole concept of ‘de-coupling’ and ‘re-coupling’, that Germany has not weakened because of a weak US or a weak world. Rather, it has weakened due, possibly, to the sharp energy shock and the credit crunch. As we argued under ‘Link 6’, a stronger dollar would force the rest of the world to rationalise energy consumption. A currency-based policy reaction to the oil price rise – such as the strong EUR policy adopted by the ECB – never made sense from a global perspective, in our view. This was a ‘negative-sum’ solution, due to the lack of oil demand-destruction. We believe that a virtuous circle of a stronger dollar and lower oil prices is what the world needs now.

2. Inflation-targeting central banks to become more dovish. Calmer commodity prices make sense if the global economy is decelerating. This should help anchor inflation expectations and permit inflation-targeting central banks to ensure that two-year forward inflation does not fall below their targets. The speed with which the RBA may make a U-turn (it last tightened in March, and may ease on September 2) on its policy and the market’s positive reaction to the RBA’s flexibility are a good example of what other inflation-targeting central banks (ECB, BoE, Sweden’s Riksbank, RBI, BoK, SARB and RBNZ) could do – though such a policy reversal may not come as soon as the case of the RBA, further supporting the dollar.

Bottom Line

The USD and oil are likely to remain negatively correlated for some time; the performance of the USD will in part be determined by the evolution of oil prices. For the global economy, a strong dollar/low oil price combination is much better than a cheap dollar/high oil price combination. Calmer commodity prices should also temper the hawkish bias that some inflation-targeting central banks have had.

Monday, August 25, 2008

Veterans Administration Loans

Voltron says: When VA and FHA loans are the only ones available, house prices will plummet and vets will be able to get great deals (i.e. mortgage payments at a steep discount to equivalent rent)

The Best Mortgage Deals Around

By Terry Savage

It's tough to get a mortgage today. But that's not news. Every financial institution is tightening lending standards, requiring a higher down payment and raising interest rates. Well, almost every lender is doing that.

If you're a veteran who has been honorably discharged from the military, you can get a great deal on a home loan.

The Veterans Administration (VA) has a mortgage guarantee program that is available to the more than 23.8 million U.S. veterans who were honorably discharged from service. But fewer than 2.1 million have taken advantage of VA loans. And they're missing out on a very good deal.

With a VA loan, veterans can get 100% financing without private mortgage insurance (PMI) and a 30-year fixed rate of 6.5%. There is a small origination fee paid to the VA, typically 2.4%, which is rolled into the mortgage itself.

The mechanics of the loan are relatively simple. Essentially, the U.S. Government guarantees 25% of a veteran's loan for a lender. So from the lender's point of view, the borrower is putting up a 25% down payment at the time of purchase. Thus, the borrower needs no cash to get the mortgage.

Very few mortgage brokers know about this type of loan, or work for companies that are registered to make them. I'm indebted to Daniel Chookaszian, vice president of sales at American Street Mortgage Company, for bringing this program to my attention. He specializes in making these VA loans to veterans, as well as FHA (Federal Housing Administration) loans to other homebuyers.

Chookaszian, who in addition to being a mortgage broker has a Master of Divinity degree from Moody Bible Institute and serves as a volunteer chaplain at a VA nursing home, says the program is a true benefit for our veterans. In fact, he teaches other mortgage brokers how to help vets apply.

Getting a VA mortgage starts, he explains, with making a call to the VA's Certificate of Eligibility Center at 888-244-6711 to secure the certificate authorizing the mortgage. The center keeps track of whether the veteran used all or part of his or her eligibility in the past.

Previously used eligibility must be deducted from total lifetime eligibility. Those limits may have expanded since a veteran's previous use of the program, which has been in effect since World War II, so that even older vets who previously used the program may be eligible for another loan guarantee.

The government will guarantee as much as $104,250 toward an owner-occupied purchase. That is 25% of the government-sponsored enterprises' (GSE) loan limit of $417,000. Under the recently passed Housing Bill, from July 30 to Dec. 31 of this year, some areas qualify for even higher government guarantee limits. Go to the FHA Lending Limits Web page to check for the limits in your state. The VA uses the same limits as FHA loans.

There are additional benefits to using a VA loan, if you qualify. Veterans may be required to pay for the following fees: credit report, origination, discount points, the Funding Fee, recording and title insurance, all of which are typically rolled into the loan. But veterans cannot pay for the inspection, document preparation, underwriting, processing, attorney, tax service or escrow. These costs can be paid by either the seller or the lender. This may save the veteran $1,000 to $1,300 in closing costs!

After qualifying a prospective borrower, Chookaszian funds the loan through a bank. And he assures me that most banks are still more than willing to make these loans because of the government guarantee. Plus, VA loans are made with more lenient income and credit standards than banks are currently demanding of conventional borrowers.

He points out that these VA loans are not as beneficial for those seeking to refinance, because in a "refi" the loan-to-value ratio is not 100%, but only 90%. And there is a slightly larger up-front VA fee than with a purchase.

For more information about VA mortgage loans, you can speak to the VA Loan Center at 800-827-0611, although they are not brokers and do not make loans. Or contact Chookaszian at 312-376-3760 or dchooks@americanstreetmortgage.com.

Not a Vet? Don't Forget FHA

Even if you're not a vet, Chookaszian says there may be an FHA solution to your mortgage problem. He's helped homeowners refinance out of adjustable rate mortgages and into fixed-rate FHA loans, currently fixed for 30 years at 6.5%, plus private mortgage insurance (PMI), which is part of the monthly payment. With an FHA loan, there is also a requirement that property taxes and insurance be escrowed every month as part of the payment.

Despite falling home prices, the FHA mortgage might be available to many homeowners, since it requires only a 97% loan-to-value ratio (3% equity) to make the loan. Because of the government guarantee on these mortgages, some lenders will make loans to those with credit scores as low as 500.

These FHA loans fell out of favor in recent years when banks started offering low-rate, no-money-down subprime loans. But in today's market a 30-year mortgage fixed at 6.5% looks like a real bargain, even with the private mortgage insurance payment.

So, while many complain that the government isn't doing enough to alleviate the mortgage crisis, the smart money is taking advantage of some relatively good deals that still remain. And that's The Savage Truth!

Friday, August 22, 2008

Cracks appearing in U.S. commercial real estate market

Voltron: more news about Lehman and good news for SRS:


Voltron also says: don't worry about the gyrations of LEH. CFC did the same thing before the final swan dive into the abyss.

Wednesday, August 20, 2008

Moody's: U.S. Commercial Real Estate Prices Down for Fourth Straight Month

More "good" news for SRS:


voltron says: why is this not already reflected in the price of SRS? Because those companies do not need to constantly revalue their real estate portfolio. It'll all come out in the end . . .

Friday, August 15, 2008

Market Update

Voltron says: The market has been very volatile the last two weeks with no clear trend. I think it's indicative of an inflection point and a breakout is coming.

Here is an article that explains the current market psychology and why you should not give up on foreign stocks and gold: http://www.europac.net/externalframeset.asp?from=home&id=13709

Here's a great article on Wells Fargo and why it's still a great shorting opportunity: http://mrmortgage.ml-implode.com/2008/08/14/wsj-wells-fargo-cheated-on-earnings-again/

Friday, August 1, 2008

Why DKA, DBN and DBU are down

Voltron says:  Looks like wisdom tree has some competition for foreign sector funds.  State Street’s new funds have slightly lower fees so people may be switching from the wisdom tree ETFs.  If that’s the case, it’s over done.  The fees are less than 1/10 of 1% lower.  Besides, wisdom tree’s funds are dividend weighted which is more in keeping with Peter Schiff’s philosophy of earning foreign dividends.

Investor's Business Daily
State Street Launches Foreign Sector SPDRs
Friday July 25, 6:13 pm ET
Trang Ho

State Street Global Advisors has unleashed a cluster of SPDRs that track the 10 sectors of the S&P World ex-U.S. Broad Market indexes. The new ETFs in the SPDR S&P International family are:

Consumer Discretionary (AMEX:IPD - News)

Consumer Staples (AMEX:IPS - News)

Energy (AMEX:IPW - News)

Financial (AMEX:IPF - News)

Health CareI (AMEX:IRY - News)

Industrial (AMEX:IPN - News)

Materials (AMEX:IRV - News)

Technology (AMEX:IPK - News)

Telecommunications (AMEX:IST - News)

Utilities (AMEX:IPU - News)

These compete with the iShares and WisdomTree international sector ETFs. The SPDRs charge 0.50% each in annual expenses, while their iShares counterparts charge 0.48% and WisdomTree 0.58%.

SPDRs Vs. IShares

The main differences between these and iShares S&P Global sector indexes: Unlike the iShares, the SPDRs don't include U.S. stocks. But they're much broader in scope.

They're a subset of the entire world index and hold companies with market caps of at least $100 million. The iShares family subdivides the narrower S&P Global 1200 index, though its offerings include companies with even less than $1 million in market cap.

The largest one by holdings, SPDR S&P International Industrial Sector, includes 1,200 stocks; iShares S&P Global Industrials (NYSEArca:EXI - News) has just 180 holdings.

SPDR S&P International Financial Sector includes more than 1,000 names. SPDR S&P International Telecommunications , with just 70 stocks, has the fewest holdings.

The iShares ETFs offer small exposure to emerging markets stocks, while the SPDRs includes only developed markets.

SPDRs Vs. WisdomTree

WisdomTree international sector ETFs also exclude U.S. stocks. The main difference is they're dividend weighted, while the SPDRs are market-cap weighted.

ETF experts expect these to perform similarly. Which you choose is just a matter of preference, says Gary Gordon, president, Pacific Park Financial.

"One person might be a stickler for fees," Gordon said. "That person should go with a State Street version over WisdomTree's. On the flip side, a long-term holder may prefer the higher dividend reward from the WisdomTree approach."

The worst hit U.S. sector as represented by iShares Dow Jones U.S. Financial (NYSEArca:IYF - News) plunged 35% in the past 12 months and 25% year to date. Foreign financials, as represented by WisdomTree International Financials (CDNX:DRK.V - News), sank 24% in the past year and 19% year to date.

Few U.S. sectors have outpaced foreign. But iShares Dow Jones U.S. Basic Materials (NYSEArca:IYM - News) returned 8% in the past year while WisdomTree International Basic Materials (NYSEArca:DBN - News) shed 5%. These are down 3% and 8%, respectively, year to date.

These additions bring State Street's total number of ETFs to 80.