A tsunami of new money from the Fed will produce higher rates of inflation and, hence, higher interest rates and higher mortgage rates during 2009. During this period of rising interest rates, 30-year bond prices will decline dramatically as yields rise to at least 7 percent. Mortgage rates could reach 9 percent. Stocks and commodities will return the best profits during 2008 to mid-2009.
IS THE U.S. BANKING SYSTEM INSOLVENT?The largest credit bubble in history has burst. Smart analysts are not forecasting a market bottom because no one knows how much level three debt (off-balance-sheet debt) the banks and financial institutions must still write-off. Star bank analyst Meredith Whitney of Oppenheimer & Co. correctly forecast Wall Street’s banking sector crisis.
Fortune Magazine asked Whitney what she sees ahead: “Whereas her peers keep searching for some sort of light at the end of the tunnel, Whitney thinks the tunnel is about to collapse. Bank stock investors will get crushed if they jump back in now, she contends, because the banks are facing much, much bigger credit losses than what they’ve reported so far.
“Moreover, Whitney is convinced that the economy is about to sink into an ‘early 1980’s-style’ recession that will devastate the ten percent of the population that became overextended during the housing boom. ‘It feels like I’m at the epicenter of the biggest financial crisis in history,’ says Whitney.
“Whitney warned last year––and continues to warn today––that the ‘incestuous’ relationship between the banks and the credit rating agencies during the real estate bubble will have a long-lasting impact on banks’ ability to recover.
“With Moody’s and Standard & Poor’s now trying to make-up for past wrongs, the pace of downgrades on mortgage securities shows no sign of slowing: There were $85 billion in mortgage securities downgraded in the third quarter of 2007, $237 billion in the fourth quarter of 2007, $739 billion in the first quarter of 2008, and $841 billion in the second quarter of 2008.
“This is a problem because every time their portfolios are hit by significant credit downgrades, banks are forced to improve their capital ratios. Often that means issuing reams of new stock, which leads to serious dilution, something shareholders at Citi, Merrill Lynch, and Washington Mutual can unhappily attest to. ‘You’re going to have this stealth pressure on bank balance sheets until you start to see the ratio of downgrades to upgrade change,’ says Whitney. ‘It’s something people don’t talk about.’”
NYU economist Nouriel Roubini also shared his view of the future. In 2005, Roubini said home prices were riding a speculative wave that would soon sink the economy. His current forecast is equally apocalyptic: a protracted recession, with up to $2 trillion in credit losses and a systemic banking crisis. “The FDIC spent ten percent of its reserves to bail-out IndyMac, and that was the first in a wave of failures,” Roubini says. “Will we soon have to bail-out the FDIC?” Eleven federally insured banks have failed in 2008, with many more to come, according to the FDIC.
You are already seeing a shift to fears of a deflationary meltdown on Wall Street. Total derivatives debt amounted to $596 trillion ($596,000,000,000,000) according to the December 2007 report issued by the Bank For International Settlements (www.bis.org). $596 trillion is a very large number that is far greater than all of the assets of all of the banks around the globe and the combined resources of all of the central banks! No one knows how much worthless mortgage paper the banks and financial institutions are hiding in level-three asset accounts. Who is holding $596 trillion in depreciating derivatives paper? Who is holding $62 trillion in credit default SWAPs (CDS) insurance contracts?
The U.S. Treasury and the Federal Reserve do not have the resources to purchase enough of this debt to prevent a financial meltdown! The gross domestic product for the U.S. is $14 trillion; global GDP is only $53 trillion. |
