That's more like it

Good article on Bloomberg today... some of the better tidbits:

``The sad truth,'' [Charles R. Morris] writes, ``is that subprime is just the first big boulder in an avalanche of asset writedowns that will rattle on through much of 2008.''

Expect the landslide to cascade through high-yield bonds, commercial mortgages, leveraged loans, credit cards and -- the big unknown -- credit-default swaps, Morris says. The notional value for those swaps, which are meant to insure bondholders against default, covered about $45 trillion in portfolios as of mid-2007, up from some $1 trillion in 2001, he writes.

It goes on to talk about how we got into this mess, and looks at possible responses. That's actually the best part of the article:

Morris points to two previous episodes of lost market confidence.

The first was the 1970s inflationary trauma that prompted investors to suck money out of the stocks and bonds that finance business. Confidence returned only after Fed chief Paul Volcker slew runaway inflation by ratcheting up interest rates.

The other precedent is the popped 1980s Japanese asset bubble. In that case, politicians and finance executives tried to paper over their troubles. Two decades later, Japan still hasn't recovered, Morris writes.

We should be as bold as Volcker, he suggests: Face the scale of the mess, take a $1 trillion writedown and shore up regulatory measures. His recommendations include forcing loan originators to retain the first losses; requiring prime brokers to stop lending to hedge funds that don't disclose their balance sheets; and bringing the trading of credit derivatives onto exchanges.

What he fears is that the U.S. will instead follow the Japanese precedent, seeking to ``downplay and to conceal. Continuing on that course will be a path to disaster.''

He's right... we need to take the lumps, sooner rather than later. But, it doesn't seem likely to happen. BOHICA.

On Inmates and Asylums

The Treasury Department will propose on Monday that Congress give the Federal Reserve broad new authority to oversee financial market stability, in effect allowing it to send SWAT teams into any corner of the industry or any institution that might pose a risk to the overall system.

Don't for a second imagine that this is a good thing. Free markets work best when market forces are allowed to act. When the housing bubble was expanding out of control, there were no calls to stop the gains. People raked it in hand over fist. But now that its popped, all anyone wants to do is stop the losses.

Why?

The very act of trying to minimize these losses will result in the eventual destruction of the system. You can't have a market that only expands. Contraction is necessary. Vital, even.

You know what it is called when something just grows and grows out of control? It's called cancer. And the housing bubble cancer has metasticized into the global economy. Do you think that preventing it from shrinking is going to help the host organism? Absolutely not. Instead, it is more likely to speed its demise.

I don't understand why this is so complicated. People...

1) used money they didn't have
2) to buy things they couldn't afford and now they
3) can't pay for it.

How is anyone surprised by this?

Protecting people from the consequences of bad behavior only encourages more bad behavior. The only way to make things better is to let people suffer the consequences of their actions regardless.

Evolution is a hell of a theory, and survival of the fittest is a hell of a sieve. If we just let these forces work in the market, the people that got us into this mess would get eliminated and those that remained would be wiser and stronger as a result.

California Dreaming

Finally, some good news...

Signs of distress are piling up in the California housing market, where prices are falling at three times the national rate of decline.

--Statewide, median sales prices fell by a stunning 26% in February, with home prices dropping at a rate of nearly $3,000 a week, the California Association of Realtors reports. Further, the CAR says the Fed's interest rate-cutting campaign "will have little near-term direct effect on the housing market."

I've been waiting to buy a house here in Cali since I moved here from Hawaii in 2005. Hopefully that 3k a week dip will persist for a while so I can buy something at a reasonable price.

Good News Amidst Turmoil, or, The Dairy Queen of 2k10

Back when I was a kid, Dairy Queen was the shizzle. I remember singing that song, "Let's all goooooo.... to the Dairy Queen!" and getting all excited about getting a dipped cone. Ah, the magic of childhood.

Unfortunately, the magic didn't last. Fast forward in time, most of the Dairy Queens I saw as an adult were shells of their former glory. Anachronisms painted the wrong shade of brown.

I bring it up because I've often hoped that Starbucks would someday share Dairy Queen's fate. I walk around these franchises, oh so cool, and I think, in 20 years, these things will be like Dairy Queen's. Embarassing reminders of a pretentious past, set in dated shades of forest green.

Looks like that time is coming.

Starbucks share's have been dropping faster than a Starbuck's addict's bank account lately. Which is great, because amidst all of the bad news regarding the economy, it's nice to finally have a ray of light.

People act like depression, recession, and inflation are all bad things. But if the economic trouble that we are facing ends up killing Starbucks, they might just be worth it.

Inflation

It's happening right now. By reducing rates, the Fed is in effect printing more money to save these companies. By printing more money, they are devaluing the currency. And by devaluing the currency, they are accelerating the decline.

There's no easy way out.

The years of bullshit in the housing market have come due, and now its time to pay for it. But the fundamental mistake is thinking you can pay for make believe gains with more make believe money. This quote sums it up best:

Former US Treasury secretary Lawrence Summers says the Fed's shower of liquidity cannot cure a bankruptcy crisis caused by a tidal wave of property defaults.

"It is like fighting a virus with antibiotics," he said.

Exactly. Continuing that line...

But even if you think the Fed has no choice other than to take dramatic action, the critics are also right in warning that this comes at a serious cost and it may backfire.

The imminent risk is that global flight from US Treasury and agency debt drives up long-term rates, the key funding instrument for mortgages and corporations. The effect could outweigh Fed easing.

Overall credit conditions could tighten into a slump (like 1930). It's the stuff of bad dreams

...

The race to the bottom must soon begin. Half the world will be slashing rates this year to stave off credit contraction. The dollar will have a lot of company. Small comfort.

And that is the point. No amount of inflation is going to stave off reality. The race to the bottom must begin SOON. So, stop wasting time with half measures and get on with taking the dose. The sooner this thing crashes, the sooner we can start rebuilding.

Let Stearns Burn

The shit is starting to hit the fan now, and Bear Stearns is the latest turd to make impact.

"Bear Stearns Cos., teetering on the brink of collapse from a lack of cash, got emergency funding from the Federal Reserve and JPMorgan Chase & Co. in the largest government bailout of a U.S. securities firm."

This really pisses me off.

If these companies freely take profits when times are good, then they should freely take the lumps when things go bad. If it puts them out of business, so be it. Maybe the next crop of companies will take note and make wiser decisions.