Credit Crunch: Part II
A: Last Tuesday, I started discussing how something was brewing underneath the surface of creditville which led me to state that, "...the street is yet to adapt fully to a world of credit restrictions...". On Thursday, I came right out and said, "Just a lot going on under the surface here folks that could lead to another round of credit woes when it reaches the top..." and "...I do know that the core of the credit markets are undergoing serious distress right now and it's got to trigger some type of adjustment in equity markets in the near future". On Friday the stock markets got killed! Let me explain to you why I had this bad feeling, so you can see that there are clear indications that round two of the credit crunch is near; ABX plunge, Mortgage Insurers Selloff, Foreclosure Index Trend ticks up.
ABX Indexes Plunge - Investors Shun Subprime Mortgage Markets
ABX Index Explained - The ABX Index is a series of credit-default swaps based on 20 bonds that consist of subprime mortgages. ABX contracts are commonly used by investors to speculate on or to hedge against the risk that the underling mortgage securities are not repaid as expected. The ABX swaps offer protection if the securities are not repaid as expected, in return for regular insurance-like premiums. A decline in the ABX Index signifies investor sentiment that subprime mortgage holders will suffer increased financial losses from those investments.
This index is in total FREEFALL; look at the chart on the right showing you the steep selloff in the past week or so! It all started around Oct. 11th, the same time that the mortgage insurance stocks (I'll get to this in a moment) started their freefall as well! Coincidence? No way! It is a clear sign that something is brewing in the credit world as investors remove bids for anything associated with subprime investments. In my opinion, the overall stock market reacted at a delay to this brewing uncertain situation.
CNBC's David Faber even started to acknowledge the plunge in the ABX markets mid-day Friday as the markets were in the process of a steep selloff. A bit too late if you ask me, as this situation could have been discussed earlier in the week, to raise concerns that a credit storm may be brewing again!
Mortgage Insurance Companies in Freefall
Holy Batman! Are you guys paying attention to what is going on with the mortgage insurance stocks; ABK, MBI, GNW, PMI, MTG, & RDN over the past week in conjunction with the selloff in the ABX Indexes? This sector is down betwen 10% - 45% in the past 5 trading days! This is important because these are the companies that are generally very highly leveraged, and may have trouble paying out claims for customers with heavy losses in the residential mortgage backed securities markets; the same market that I showed above as collapsing.
Mortgage Insurers Explained - Mortgage lenders and other institutions that buy & sell residential mortgage backed securities (RMBS) and other collateralized debt obligations (CDO's) need to have some kind of insurance in case their bets go against them. We are talking big money here and there has to be some kind of hedge for the holders of these risky assets. There needs to be credit protection. There needs to be management of credit risk. The mortgage insurers provide a financial guaranty that insures lenders against loss in the event a borrower defaults on a mortgage. If the borrower defaults and the lender takes title to the property, the mortgage insurer (MTG, for example) reduces or eliminates the loss to the lender. In effect, the mortgage insurer shares the risk of lending the money to the borrower.
OK, so now you understand the role of the mortgage insurer for the lender or holder of subprime derivative products. Here is what happened to this sector in the past week; note the right side axis that shows the percentage loss for the week ranging from -10% to -45%!
Foreclosure Index Trend Ticks Up
CoreLogic's Foreclosure Index Trend has also ticked up in the 3rd quarter of 2007.
The CMRM forecasts the relative risk of residential mortgage loan delinquencies due to fraud propensity and collateral risk, house price dynamics, and the health of the local market economy. An elevated Core Mortgage Risk Index signals the increased potential for financially disruptive and costly economic consequences for consumers, their local community, and mortgage financiers.
Beginning to get the picture? I started to notice the unraveling of the ABX markets on Monday, about 4 days after the fall began, and the collapse of the mortgage insurers on Wednesday. That led me to write about my 'paranoia' as I stated on Thursday. Now, I don't know how all this will end, but I do know that investors are pulling bids fast from the ABX markets and the mortgage insurance companies. These are NOT normal moves people and it's clear something is going on! Expect another round of uncertainty and media reports on the credit crunch, and the secondary mortgage markets to seize up again leaving no place for holders of these distressed assets to sell positions; which leads me to be very concerned about those entities that are forced to sell to meet debt requirements! I would also expect to hear more bad news from brokerages, hedge funds, banks, and other entities with uncertain exposure to these markets.
For consumers, this probably means that lending rates will tick higher again (or not fall as much as expected with bond yields or future fed rate cuts), lenders will demand higher quality borrowers, underwriting standards will continue to tighten, and fewer loan options will be at your disposal! These are all unavoidable side effects of a credit squeeze, and I'm trying my best to convey to you the warning signs that I am noticing in the tradable markets which may be a clue to the next credit storm.
Next week will be a very interesting week to say the least. Watch out for how the above noted markets follow through on last week's selloff, and whether or not we see some stablization or rebound.
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Comments (18)
Hey Noah,
Good recap of the week- there's a lot more to come.
Watch for the disassociation between gold and the equities market. In August, gold took a dive along with the equities market in the 'initial panic' stage- a counter-intuitive scenario as gold is normally viewed as a hedge for uncertainty. Look or this link to be broken this time around.
Sang
Posted by Sang | October 20, 2007 2:46 PM
Hey Sang - Thx! So you expect Gold to soar as credit jitters continue to rattle markets this time?
Posted by Noah | October 20, 2007 2:50 PM
Noah,
While I appreciate your views on the financial markets,
I really come here for the news on the NYC housing market. That is what you offer that is unique. Financial news I get elsewhere. I am sorry that you have left the area that your contribution was unique.
Posted by sam | October 20, 2007 3:31 PM
Sam - didnt leave it. For the past 4-5 months, I have been putting TONS of my time into the next upgrade version of urbandigs.com.
http://www.urbandigs.com/test
Very tedious work to put together tools and partnerships, a new design, and functionality so you guys can enjoy more transparency for NYC real estate.
You must understand, i am an equities trader by heart! Not a real estate agent! I do have a passion for re, but not nearly as much as I do for macro economics and for understanding how markets relate to each other. Ive gotten much more feedback from readers of this site that they come here for the macro economic commentary and updates, then the great deals, or price reductions.
As for as tips, well I covered so many of them its hard to comment on more. But I do as I expereince them out in the field with clients.
Anyway, the new site will be more geared towards macro economics, with new tools for monitoring manhattan re market. I'll try to mix up content, but its hard to change who you are and what you truly love; after all this is very time consuming.
I hope you continue to read the new site though!! Im sure I will lose a few readers, but too many people dont understand WHY things are happening, or WHY their rates are going up, or WHY standards are tightening. Staying at the forefront of these changes to me is vastly more educational than reporting on new stores, or open houses, or 2nd ave subway updates, or price cuts.
Financial news elswhere is lagging, straightforward, and non creative. Sites like The Big Picture and Calculated Risk are at the cutting edge, and its why those sites get 25,000+ unique visitors a day or so and such great reader particpation. That is where I am trying to take this site, with a focus on Manhattan RE.
Posted by Noah | October 20, 2007 4:17 PM
SAM - oops, forgot the most important question!
WHAT SPECIFIC TYPE OF COMMENTARY DID YOU APPRECIATE THE MOST, AND WANT TO SEE ME DISCUSS AGAIN MORE FREQUENTLY?
Thx!
Posted by Noah | October 20, 2007 4:42 PM
to Sam,
If you are a serious real estate investor or potential buyer in Manhattan, the financial news is absolutely VITAL to the health of real estate here.
Noah usually ties the financial data and how it relates to the RE market here... keep up the great work, this info if vital for forward thinkers who do not just "follow the herd"
Posted by uwsider | October 20, 2007 5:22 PM
I do not understand many of the things that Noah discusses on this site, but I will tell you one thing, I understand far more now than I did before I started reading this blog. At first I thought that the economic discussions had very little to do with real estate in new york city, but I quickly realized that it has plenty to do with it.
I agree with the comment above. I think they are worthy reads and I appreciate the time that is put into it. With that said, I have noticed a trend away from tips for buyers and sellers, and I think that is what Sam is talking about.
Posted by Janine | October 20, 2007 5:40 PM
uwsider - thanks boss!
janine - I try my best to simplify a very complex world so that the average investor can understand and learn what is going on. Its hard because Im no expert on RMBS, CDO's, SIVs, but doing my best to learn every chance I get! I have great connections with hedge fund managers, and people I consider very connected with these markets. So, that helps. But fact is that this complex world is what lies at eth core of what is really going on!
We can choose to accept that or simply believe that things just happen randomly.
Posted by Noah | October 20, 2007 10:06 PM
SUE - Sorry, your post accidentally went into my JUNK folder and I just deleted. Can you repost your comment please?
Posted by Noah | October 21, 2007 11:08 AM
Noah Keep up the gord work. The RE world does not exist in a vacuum we are part of this whole economic and financial soup. It seems like the blogs are one of the best sources of information and comment . Unfortunately the TV/Cable News especially the financial side is generally similar in quality to information provided by the rating agencies when they issued A ratings to some of the suspect pools of mortgages. Anyway my company is in the RE development business in NYC and we constantly trying to make decisions as to timing, price points, size, acquisitions etc. and a lot of these decisions are affected by mortgage availability, interest rates, jobs, exchange rates, wall street and how the government acts or reacts to whatever is going on in the economy. Anyway I look forward to watching your posts if see any evidence in the field that seems relevant i will pass it on. It unsusual to see a blog from a RE Broker thats more than wishful thinking or general cheerleading. good luck m
Posted by Marshall | October 21, 2007 4:13 PM
Noah - for the life of me, I can't understand why folks are critical of your blog, which is very thoughtful and intelligent on fundamental macro issues and quite relevant to real estate here and elsewhere. We may not all agree, but these are the issues that I think about as well from an investment and real estate standpoint.
Keep posting your thoughts and generating interesting discussions. If it means that some folks who expect simpler curbed-like sensationalism end up dropping off, so be it.
Posted by anon | October 21, 2007 7:22 PM
Noah,
It is nothing important. Just want to support your blog and article. They are very informative and educational. Keep up the good work!
Posted by Sue | October 22, 2007 8:21 AM
great to hear all! We share very similar views on topics to be covered. The new site will have real estate data tools that should provide more dynamic analysis of thereal estate market here in Manhattan, allowing me to post on what I know best; macro.
Posted by Noah | October 22, 2007 8:50 AM
I think the criticism is not geared so much towards the content but the "I told you so tone" and the self referential nature of the analysis. That took me a while to get past but I did because the content is valuable and I admire the effort this blog must take.
Posted by Anonymous | October 22, 2007 2:39 PM
Anon - I appreciate the honest comment! Thanks! Sometimes I dont realize the tone of the post Im writing. I hope it doesn't come off the wrong way, but I can see how it may.
I'll try to keep the tone more objective for future.
Again, thanks for honesty.
Posted by Noah | October 22, 2007 3:41 PM
Hey Noah,
Thanks for the great insight into these indicators. You can bet I'll be watching them this week!
Posted by Bob Fortner | October 22, 2007 4:11 PM
This is awesome. Just like in September, the junk is hitting the fan right before the Fed meeting.
Interesting timing.
Posted by Dan Green | October 22, 2007 11:13 PM
Dan - Markets need more drugs!
Dealer Ben better have the stuff for the wall street junkies!!
Posted by Noah | October 23, 2007 8:24 AM