CRE Has Their Hand Out

According to the WSJ this morning we find that commercial real estate now needs free money.

Big property developers are asking to be included in a new $200 billion loan program as a surge in commercial mortgages comes due.

These firms managed to leverage up too much and now are in a world of hurt. For some property developers extensive use of leverage was the business model. The (poor) choices by the management needs to run its course. Bankruptcy moves the underlying assets to the hands of people who are more competent business managers. If bailouts are given then we, as taxpayers, are allowing profits to flow to the owners in the good times while the loses flow to the taxpayers.

This is not capitalism.

The tacit moves towards the nationalization of so many industries is making me apprehensive. This is the sure way to establish more government intervention and inefficiency. An extreme example is North Korea of what happens when the government manages resource allocation (I don't expect that for us). What this means is in the years ahead we can expect much weaker economic growth as resources are allocated poorly. The problem with this outcome, lower growth, is that you can't see the growth we didn't get.

Also expect to see substantial increases in both interest rates and inflation in the years ahead especially as more bailouts (money printing) comes. This could have a serious cost to our currency as the world's reserve currency. The temptation to print away all this borrowing by the Fed is going to be strong.

The more the government bails the more drag that puts on future growth. Keep in mind that the government cannot create jobs the way private business does. The simplified explanation is that any money the government spends must come from any of three sources which means a decline in assets for investment elsewhere. If they tax income, it comes from the productive class (aka the entrepreneurs) and results in more asset hiding and less business creation/investment. Borrowing by the Treasury takes money from what may have gone into other investments, say corporate bonds, which may have expanded plants and equipment. The last possibility is "printing" money or credit which causes inflation. High inflation is a tax on everyone but particularly those with least access to money and credit. This is much to simple an explanation of the impact but hopefully your further research will help the understanding of the bailout cycle and it's effects, intended and unintended.

17 Billion is Not Enough

The auto suppliers are already clamoring for their own bailout! The ink for the Chrysler/GM bailout is not even dry yet.

U.S. auto-parts suppliers want aid from the federal government, now that General Motors and Chrysler LLC have gotten approval for a $17.4 billion lifeline.

"The next critical phase is the supplier community, which is facing the exact same financial crisis as the manufacturers," said Neil DeKoker, CEO of the Original Equipment Suppliers Association in suburban Detroit. "We're requesting assistance from the presidential transition team."

The game to play is "Who gets the bailout?" Where the player try to guess the industry or company seeking a bailout next. My pick is the states and municipalities are next but I may be early on that. Their bailout will come in the form of the Pelosi stimulus package that Obama supports.

Too Big To Fail

I posit that if all of these firms being bailed out are all too big to fail (AIG, Citi, GM, more coming) then should there not be effects to parcel these firms into smaller units?

Ludwig Von Mises, Socialism, p45

If the State takes the power of disposal from the owner piecemeal, by extending its influence over production... then the owner is left at last with nothing except the empty name of ownership, and property has passed into the hands of the State.

Addicted to Low Interest Rates?

So the Fed is slashing interest rates to try and "stimulate" our way out of this recession, and it's not completely impossible that we'll see a Fed Funds Rate of zero percent. Then comes the news that the incoming administration wants to have the Treasury Department throw its financial support behind Fannie and Freddie, with the stated goal of lowering 30-year mortgage rates to an amazing 4.5%. Now the EU and the Bank of England have slashed their rates as well, by 0.75% and a full 1% percent, respectively. The Bank of England's rates are now at their lowest level in over four centuries.

I'm guessing that the unstated goal of all this rate-slashing is to "re-inflate the bubble" ... political and financial leaders are suddenly a lot more worried about deflation than they are about inflation. And with leverage controls certain to be tightened up in the near future (and rightfully so), lowering interest rates is the only way to prevent a collapse in the global money supply. But now I'm wondering two things. One, doesn't this mean we're trapped ... essentially, "addicted" to low interest rates? They're being pushed to such a low level that they're losing their effectiveness as a macroeconomic control. And two, is this a bad thing? Or at the very least, won't it mean a major shift in the way money, capital, and debt is allocated?

The Fossils Know How to Save the Dinosours

So Detroit can't make it without a bailout.  Congress proposes voting on a rescue once they see the Detoit automakers' magnificent plan before December's decision to bail them out.  This implies that Congressional career politicians with less business experience than the average Americans know what a good plan is.  First Daimler and then  Cerberus bought Chrysler and could not make it work.  This firmly cements to me, it is just not plausible that Congress would know a good plan from a bad.  Pardon my cynicism but their track record is less than admirable.  

The Ant and the Grasshopper

Imagine your political leader proposes setting up a system that rewarded the people who squandered everything and penalized those who saved? Sounds like a real winner doesn't it?

If you were one of the to be penalized, how quickly would you sign up for such a program? How long would you stay in? You would be better advised to pursue the path of the squanderer. No penalty for risk since you can lay the cost of failure on those foolish enough to expect a raining day. I would not expect a program like this to last very long and I truly hope we stop before the penalties get too high.

Where Do I Sign Up?

All these great loan modification programs and I keep getting turned down. I was reading about this great program from the FDIC about loan principal forbearance and reduced interest rates. I was thinking, "That sounds fantastic!". So I was looking for the registration link to get my deal but you can't but help to notice all the criteria for this special deal. Let us go through those criteria:

* Eligible Borrowers: The program will be limited to loans secured by owner-occupied properties.

CHECK

* Exclusion for Early Payment Default: To promote sustainable mortgages, government loss sharing would be available only after the borrower has made six payments on the modified mortgage.

OK Loss sharing after 6 payments - ok but I plan on paying so NOT APPLICABLE


* Standard NPV Test: In order to promote consistency and simplicity in implementation and audit, a standard test comparing the expected net present value (NPV) of modifying past due loans compared to the strategy of foreclosing on them will be applied. Under this NPV test, standard assumptions will be used to ensure that a consistent standard for affordability is provided based on a 31% borrower mortgage debt-to-income ratio.

OK have better then a 31% debt-to-income ration - GOOD


* Systematic Loan Review by Participating Servicers: Participating servicers would be required to undertake a systematic review of all of the loans under their management, to subject each loan to a standard NPV test to determine whether it is a suitable candidate for modification, and to modify all loans that pass this test. The penalty for failing to undertake such a systematic review and to carry out modifications where they are justified would be disqualification from further participation in the program until such a systematic program was introduced.

This applies to servicers so NOT APPLICABLE

* Reduced Loss Share Percentage for "Underwater Loans": For LTVs above 100%, the government loss share will be progressively reduced from 50% to 20% as the current LTV rises.1 If the LTV for the first lien exceeds 150%, no loss sharing would be provided.

CHECK - my LTV is well less than even 100% - this sure would be a horrible deal for the government (i.e. taxpayers) if they were crazy enough to take on loans with LTV rations even near 100%. Government isn't that stupid right?


* Simplified Loss Share Calculation: In order to ensure the administrative efficiency of this program, the calculation of loss share basis would be as simple as possible. In general terms, the calculation would be based on the difference between the net present value of the modified loan and the amount of recoveries obtained in a disposition by refinancing, short sale or REO sale, net of disposal costs as estimated according to industry standards. Interim modifications would be allowed.

Again, this applies to servicers and I plan on paying so NOT APPLICABLE

* De minimis Test: To lower administrative costs, a de minimis test excludes from loss sharing any modification that did not lower the monthly payment at least 10 percent.

Sweet, looks like I am going to be getting at least 10%. That sounds to good to be true!

* Eight-year Limit on Loss Sharing Payments: The loss sharing guarantee ends eight years of the modification.

Well in eight years - unless you modified loans in Las Vegas, California, or Florida how could there even be a need for loss sharing? NOT APPLICABLE

So, where is the sign up link? Weird! No Link. Hmmm, look at the "fine print" - you have to be 60-90 days past due! I am not past due. What a crappy deal for the people who pay their mortgages and anyone crazy enough to pay their taxes.

This is insane even for the government.

The FDIC thinks it is going to take on 2.2 million crappy loans and only lose 5%. Those sure are favorable estimates considering the median price is (was) well over $200,000. This is a great deal - for the imprudent.

And the really annoying thing is, that as a taxpayer, I get stuck with the (woefully underestimated) loss sharing.