Monday, August 4, 2008

Time For The Next Wave Of Loan Defaults And Bank Failures

Big WaveIf you thought we were almost through the subprime mess and that things are going to start getting better, you might want to consider this news: According to some financial experts, the subprime problems are only the beginning. Alt-A (low document and stated-income-type loans) and even prime mortgages are starting to see dramatic upticks in their default rates. Alt-A loan defaults have quadrupled to 12 percent from April 2007 to April 2008, and delinquencies on prime loans doubled during that same period, according to the New York Times. The chairman of JP Morgan Chase, James Dimon, called the outlook for these mortgages “terrible” and said he expected losses on the company’s prime loans to triple in the coming months, according to the New York Times. Economist and New York University Professor Nouriel Roubini went so far as to say in a Reuters article that hundreds of banks were going to fail, and the ultimate price to tax payers would likely be between $1 and $2 trillion.

If these Alt-A and even prime mortgages start to go bad, we are going to be in for financial trouble far worse than we’ve seen so far from the subprime meltdown. Subprime mortgages make up only a small percentage of total mortgage loans, and the government was hardly on the hook for any of them. If prime loans start going bad in large numbers, though, we had better watch out. Now that Fannie Mae and Freddie Mac have an unlimited line of credit--and official backing of the U.S. government--taxpayers could potentially have to foot the bill on trillions of dollars of mortgage loans. Worse, though, if either one of these companies--or any of the big banks for that matter--have to seek government assistance it will likely send a tremor through the entire financial industry and economy. How many foreign governments, or anyone, are going to feel good about buying U.S. treasuries when our financial system is falling down around us? And we have to take into account that the government has been trading U.S. treasuries for mortgage debt in order to prop up these financial institutions, so now our economy and dollar are being supported by these mortgage instruments. Not exactly the pillar of safety and security that we would like be supporting our currency.

Jobs are declining, inflation is rising, and now this. I’m not sure exactly how we are going to get out of this mess, but I’m sure the ol’ government has something up their sleeves. I’m sure it will involve some sort of bailout and printing of money, so basically some variation of the status quo. The good news for us is that the world is addicted to U.S. debt, the same way we are addicted to being in debt, and as long as we have our foreign friends paying our way, we will be good. Kind of like the former movie star or sports hero who never has to buy their own meals. We all know what happens to them when they get too old, though, and people stop remembering their greatness. How much longer our run will go on, I don’t know, but I can tell you I certainly am not buying treasuries or financial stocks right now.


Anonymous said...

You are absolutely right! I believe we are only in the second inning of the credit crisis. Things will only get worse from here. I expect massive job losses at 10+ unemployment rate, home prices and stock market to fall 50% from peak. It's not going to be pretty folks!

Anonymous said...

So much gloom and doom! Don't you know that inflation is under control and not a problem? The USA has a Strong Dollar Policy, so there is nothing to worry about. We have a strong economy too: The President said so. I don't understand why financial bloggers hate America so much!

Anonymous said...

to above: dont ya know that the usa government does not count food and energy in its inflation reports to the public. its just reality not doom and gloom. if reality is scary to you perhaps you should put your head back into the sand.

Anonymous said...

To above anonymous

I think that rather than have their head in the sand, maybe they have their tongue in cheek.

Unknown said...

LOL to the anonymous comment, you believe everything the president said?