Buyer’s Choice Realty blog

Having a great day? Here’s a bit of news to bring you back down to earth. In 1989, real estate developer Seymour Durst created a big clock that tallied our government’s debt. Durst was so amazed, dismayed, and outraged that the national debt was approaching $3 trillion (a paltry $2.7 trillion at the time), that he invented this gigantic clock and put it on display in Times Square.

Just last month, the clock ran out of space. They had to change the dollar sign to a one (1), because the debt had spiralled to more than $9.999 trillion. There was no more room!

(AP photo/Kathy Willens)

What is to be done? The Durst family (Seymour passed away in 1995) plans to replace the clock next year with one that has an additional two digits in order to keep recording the debt. Can you guess how high the new clock will be capable of going? A quadrillion dollars!

The Federal Reserve opened its coffers once again in an effort to abate the current credit crisis, at least in this country. One of the big current problems involves banks and other companies refusing to lend each other short-term money, often referred to as commercial paper.

The major problem involves lack of trust between companies. Company A refuses to lend to Company B because they are unsure of the value of assets or collateral Company B will put up for the loan. This complicated part of everyday business has been boiled down to a simple example, but this is part of the reason why pundits and politicians keep referring to the ‘credit crisis‘.

The Fed is throwing out $99 billion (for now), essentially as a third-party. Their hope? Company A will now lend to Company B because the Fed tells Company A that Company B’s assets/collateral are valid. As a result, very short-term commercial paper rates (one day to one month) should drop significantly, back to the low rates businesses have counted on for years in order to continue operations, order goods, make payroll, etc.

What does this have to do with real estate? Plenty. Almost everything in the business world is interrelated to other aspects of the economy. For example: Your client, employed by Company B, is in danger of being laid off due to their employer being unable to come up with new work, and as a result, payroll. No pay for your client equals no approval for a loan equals no ability to buy that new house.

Sure, this is a stark hypothesis, but think of other situations. Job stability is a major factor in large decisions such as whether to buy a new home, new car, or any other big-ticket item. The huge drop in the stock market that has happened as a result of the credit crisis, panic, selloff, and resulting flight to safety has caused many potential buyers huge problems coming up with an expected down payment.

Ruh-roh, Reorge!

The power brokers in Washington just met for a photo shoot and gave some brief comments about the pending bailout that has dominated the news in recent days. After negotiations between both parties, Sen. Chris Dodd announced that they have agreed, in principle, to the principal amount. Got it? Here are the vague details that Dodd, among others, provided.

• Congress will give Paulson the money he needs (assumption: $700 billion)

• They have agreed on protecting home ownership (how?)

• They have agreed on executive compensation limits (this will be part of the terms of the bailout)

• There will be taxpayer protection (likely story)

• The federal government will get equity stakes in the form of warrants from the companies that participate in this bailout. (exactly how much, how this will happen has not been disclosed, nor agreed upon as of yet)

Thus far, there has not been consensus reached regarding who exactly will be covered under executive compensation limits (not giving golden parachutes to executives). Is it only the top officials from these companies, or will it encompass all executive officers, of which there are hundreds in the large Wall Street firms.
When will Wall Street get this money? Most likely the money will be paid out in installments. The mortgages and associated securities will be sold via reverse auction to the government. Pricing these assets is the tricky thing. Companies will need to write off these assets and most likely raise new equity (here comes…. shareholder dilution!).

Whether you think this bailout needs to happen or not, your opinion does not really matter. It will happen, and they will most likely be voting on the bill Friday or Saturday, according to many reports.There are still many items to negotiate and iron out, but things are progressing at a fairly rapid rate.

Hank Paulson’s hedge fund (HPHF) has struck again. They are taking a bunch of bad debt off the hands of the U.S.’ largest financial firms. No, they’re not banks any longer, simply financial firms. Banks are not having troubles like these multinational companies are.

From my understanding, HPHF will buy MBS (mortgage-backed securities) for less than 50 cents on the dollar, sit on them for a year +, and then resell them. Hundreds of billions of dollars will be spent to do this. Luckily, HPHF has an effectively unlimited supply of funds since we are all investors, can afford to hold terrible investments for multiple years, and they do not have to provide any returns to shareholders. Some of these MBS will be bought for 20-30% of their original value. These would be many of the mortgages that originated from 2005-2007. You know the ones, where there is an exhorbitantly high default rate? Yeah, those.

In any event, this plan has just been formulated, and many of the details are still in the minds of HPHF bigwigs. Updates will be a-plenty over the next week, and you can be sure you will receive my next HPHF newsletter.

Have you heard about Fannie Mae and Freddie Mac? Most likely you have, but in case you haven’t, here’s a quick recap…

These two government sponsored enterprises that own, sell, insure, and generally slice-and-dice our mortgages were helped out by the U.S. government almost one week ago.

Helped out? Well, a couple hundred billion of our tax dollars may potentially have to go to work for them. Fannie and Freddie’s accounting methods combined with the lack of public knowledge regarding their current fiscal situation is a detailed subject that deserves its own post. Some see this as a positive sign. Mortgage rates are at their lowest levels in months, the government wants us to think that confidence should be restored in the housing market and that home prices should stabilize soon. Basically, this step is seen as a bottom in home prices, at least during this cycle.

Others see this as a ridiculous maneuver that defies the logic of our free market economy. They feel that our government is one step away from becoming socialists or, more drastically, communists.

The upshot of this entire deal? Our Treasury Department and many others are protecting a large part of our economy, and Fannie and Freddie, at least in their current forms, will cease to exist in a short while. They have moved to conservatorship status, and are now under control of the Federal Housing Finance Agency (FHFA). The CEOs from both companies have been dismissed, and the FHFA has installed new ones - both new executives have extensive background and track records of success in management at large financial entities TIAA-CREF and US Bancorp.

On to the meat of this post. Many have said, written, etc., that these companies were, and are, too big to fail. It’s become a bit of a buzzword recently, starting with the Bear Stearns situation.

I thought I would ask myself the same question. Am I too big to fail? To save you from any more consternation, you should know that I am not, unfortunately, too big to fail.

• The assets that determine my current underlying value, according to GAAP (generally accepted accounting principles), are less than $100,000. No, it’s none of your business how much less.  Fannie and Freddie? Billion$, trillion$. No one knows exactly, as their assets are never static due to foreclosures, whereas mine are static unless I’m driving my car or using my golf clubs.
• I do not sell things that I own to foreign countries’ central banks, nor to huge multinational institutional investors. There was one time where someone from Nigeria tried to get me to ship them the hip video game system I had listed on Ebay, after which they would send me payment via money transfer, but I digress. Fannie and Freddie? Fannie just completed, within the past few days, another debt offering. Freddie is finding it harder to sell their debt at the moment, but they succeeded in the past.
• My continued success is not vital to the United States’ economy as a whole. I might like to think so, but it just ain’t that important if I go bankrupt or not. Fannie and Freddie? They win this one as well.
• There are many more reasons, but this post is too long already. If you made it to the end, thanks for your time. As your reward, look at that meat again. Mmmmm.

As a post script, if you are too big to fail, by all means let me know your reasons why.

I wrote recently about the troubles that Fannie Mae and Freddie Mac are facing currently. Increased foreclosures and uncertain finances are dogging these two GSEs. Jonathan R. Laing reported in Barron’s that both companies may well be on their way to becoming extinct, at least in their current forms. To wit,

“Heaven knows, the two government-sponsored enterprises, or GSEs, both need resuscitation. Soaring mortgage delinquencies and foreclosures have led the companies to gush red ink for the past four quarters, and their managements concede the outlook is even grimmer well into next year.”

As if Laing’s statement isn’t harsh enough (sometimes the truth hurts!), he goes on to write,

“What’s more, the fair-value figures reported by the companies may overstate the value of their assets significantly. By some calculations each company is around $50 billion in the hole.”

Yes, you read correctly. Although these folks insure, own, guarantee, etc., trillions of dollars worth of U.S. mortgages, they are, for all intents and purposes, bankrupt and worthless.

What will happen? Even if the Bush administration doesn’t take over, the next administration most assuredly will. That will mean that your taxpayer dollars will be used to ‘recapitalize’ Fannie and Freddie. Although they won’t be added to our country’s deficit, we will still essentially be footing the bill for their indiscretions in purchasing Alt-A (read: subprime) mortgages to increase their market share. Greed and lack of solid management are partly to blame, as are many Americans who got in over their heads with mortgages they couldn’t afford. Speculators/flippers/rehabbers, you name it, they are a serious part of the problem.