Scintillating stats in the latest QBP

Do you know what the initials "QBP" stand for? If so, I'm sorry. It proves that like me, you spend way too much time following arcane data on banking, interest rates, and credit quality!

Anyway, the QBP is the FDIC's Quarterly Banking Profile (warning: large PDF link) -- a document that sums up the latest trends in the U.S. banking industry. A key takeaway from the Q1 2007 report? Credit quality is starting to head south, led by deteriorating residential mortgage loan performance (see the figures I have bolded).

Take it away, QBP ...

==> "Reflecting an erosion in asset quality, provisions for loan losses totaled $9.2 billion in the first quarter, an increase of $3.2 billion (54.6 percent) from a year earlier." (Later on, the report makes clear the $3+ billion increase was the largest since Q1 2002)

==> "Net charge-offs totaled $8.1 billion, an increase of $2.7 billion (48.4 percent) from the first quarter of 2006. Charge-offs were higher in most loan categories. Net charge-offs of credit card loans rebounded from an unusually low level a year ago, increasing by $850 million (29.2 percent). Similarly, net charge-offs of other loans to individuals were $754 million (60.0 percent) higher than a year earlier. Net charge-offs of loans to commercial and industrial (C&I) borrowers increased by $470 million (78.6 percent), and net charge-offs of 1-4 family residential mortgage loans were up by $268 million (93.2 percent)"

==> "Since reaching a cyclical low of 0.70 percent at the middle of last year, the percent of insured institutions’ loans that are noncurrent (90 days or more past due or in nonaccrual status) has risen in each succeeding quarter. At the end of March, the noncurrent rate stood at 0.83 percent, its highest level in two and a half years. During the quarter, noncurrent loans increased by $4.0 billion (7.0 percent). Noncurrent levels increased in most loan categories during the first quarter, with the largest increases occurring in real estate loans.

==> "The percentage of 1-4 family residential mortgage loans that were noncurrent rose from 1.05 percent to 1.13 percent during the quarter. This is the highest noncurrent rate for residential mortgage loans in the 17 years that insured institutions have been reporting these data."

==> "Insured institutions set aside $1.1 billion more in loss provisions than they charged off during the quarter, contributing to a $993-million (1.3-percent) increase in loan-loss reserves. This is the largest increase in loss reserves since the fourth quarter of 2002 ... The increase in reserves failed to keep pace with growth in noncurrent loans, and the industry’s “coverage ratio” of loss reserves to noncurrent loans fell from $1.37 in reserves for every $1.00 in noncurrent loans to $1.30 during the quarter. This is the fourth consecutive quarter that the coverage ratio has fallen. It is now at its lowest level since March 2003."

So in short, more real estate loans are going sour ... banks are setting aside more money to cover bad loans ... but because loans are going sour at a faster rate than the banks are adding reserves, coverage ratios are slipping. Not so peachy. One last thing: The FDIC had its first bank failure since June 2004 in the first quarter, and the number of "problem" institutions climbed to 53 from 50 (assets at problem institutions shot up to $21.4 billion from $8.3 billion)

OFHEO index: Prices rise at slowest rate in almost 10 years

The Office of Federal Housing Enterprise Oversight, or OFHEO, just released its report (PDF link) on house prices in the first quarter. We've seen outright DECLINES in other price measures -- such as those put out by the Census Bureau (new homes), the National Association of Realtors (existing homes) and S&P/Case-Shiller (existing homes). How did this one differ?

* OFHEO said home prices DID appreciate nationwide in the first quarter. But the 0.45% gain from the fourth quarter was the smallest QOQ gain since Q3 1996 (0.39%) -- and down significantly from the 2.23% rate of appreciation in Q1 2006.

* Measured from a year ago, home prices were reportedly up 4.25%. That's down from a 12.61% gain in Q1 2007. It's also the lowest YOY rate of appreciation since Q3 1997 (4.12%). The chart above shows how the YOY appreciation rate of U.S. homes has changed over time.

* The highest rates of appreciation occurred in Pacific Northwest and Mountain cities, such as Wenatchee, WA (+25.6%), Salt Lake City, UT (+19.12%), and Grand Junction, CO (+16.82%). The cities that performed the worst were spread throughout high-speculation states like California, Nevada, and Florida (Punta Gorda, FL at -4.57%, Sacramento, CA at -4.41%, Modesto, CA at -4.38%, and Reno-Sparks, NV -3.97%, e.g.) A few cities in Michigan, which has been hit hard by job losses related to the auto industry downturn, also made the list.

All told, 237 of 285 cities tracked by OFHEO showed price gains, while 46 had price declines, and two showed no change in prices. A quarter earlier, OFHEO tracked 282 cities. 256 of those showed price gains, while only 25 had price declines, and one showed no change.

My take: The OFHEO numbers confirm what we're seeing in other home price indices. Price appreciation rates are coming down fast, with outright declines showing up in more and more areas. I expect OFHEO's second-quarter figures to look even more subdued, with the first negative quarterly reading since Q4 1994 (which came in at -0.25%).

Two types of housing markets are getting hit the hardest, price-wise:

1) Areas with the most speculation during the boom -- These metropolitan areas are suffering because they have tons of speculators who are trying to unload losing investments. That's sending for-sale inventories through the roof, forcing sellers to cut prices to generate sales. Home price gains in those regions also exceeded income gains by a wide margin. That has left homes largely unaffordable for area residents.

2) Areas with the worst economic fundamentals -- They're experiencing a more "traditional" housing downturn -- one driven by rising unemployment, plant closings, increasing foreclosures, and more. If economic growth remains lackluster, we'll see more metros fall into this category over time.

Chicago PMI blowout! Construction spending details ...

Fasten your seat belts -- the Chicago Purchasing Manager index was a blowout!

* The overall index for May came in at 61.7, up from 52.9 in April and well above expectations for a reading of 54.

* Strength was widespread, with the employment index up sharply (to 57.3 from 50.5), the production index up sharply (69.8 from 62.2) and new orders up sharply (71.1 from 56.5)

* Inflation? That picture wasn't pretty. The prices paid index surged to 70.2 from 64.9 in April. That's the highest reading since last August.

Coupled with decent jobless claims and strong confidence figures, these numbers indicate the economy bounced back somewhat in May. Bonds are definitely on thin ice, price-wise, heading into tomorrow's May payroll and May ISM reports. In fact, they're dipping below the 109 level as I write. Ten-year yields are testing 4.9% again.

Meanwhile, construction spending gained 0.1% in April. Economists expected an unchanged reading. March's spending gain was revised upward to +0.6% from +0.2%.

Residential spending remained weak, with a 0.9% drop in April. That matched the decline registered in March. Non-residential spending, on the other hand, was up 1.1%, led by gains in spending on lodging, manufacturing, transportation, and power.

A real eye-opener of a story on subprime lending

Wow -- that's all I can say after reading this Bloomberg story. If you're interested in how subprime lending turned into the mortgage equivalent of the "Wild Wild West," then this piece is a must read.

Sorry for the lack of posts otherwise today ... I've been very busy on a special project and have been working from home to get it done. Things should be back to normal tomorrow.

Consumer confidence -- and inflation expectations -- rise

The Conference Board just released its May confidence index. Here are the details:

* Overall confidence rose to 108 from a revised 106.3 in April (originally reported as 104). Both the present situation and the expectations indices climbed.

* Inflation expectations jumped. Consumers expect 5.5% inflation over the next 12 months. That reading is up sharply from 5.1% in April and the highest since last August.

* As for housing, the percentage of respondents planning to buy a house dropped. Only 2.9% of those surveyed said they planned to buy a house in the next six months, down from 3% a month earlier and the lowest since December.

Bond prices are essentially unchanged on the news, while 10-year yields are hovering around 4.87%.

Case-Shiller home price index shows 1.4% YOY drop

It's not much of a surprise, given what we already know about the state of U.S. housing from the National Association of Realtors and the Census Bureau. But the S&P/Case-Shiller home price index (PDF link) showed further declines in house prices in March ...

* The U.S. composite index, which tracks the performance of home prices in 20 top metropolitan areas, declined 0.31% from February and 1.36% from March 2006.

* 13 of 20 metros showed year-over-year price declines, with Detroit the worst off (-8.38%) and San Diego (-5.97%), Boston (-4.86%), and Washington D.C. (-4.78%) closely behind. A pair of cities in the Pacific Northwest (Portland and Seattle at +6.98% and 10.02%, respectively) were among the strongest gainers, along with Charlotte (+7.44%).

* For the first quarter as a whole, prices dropped 1.41% from the same quarter a year earlier. As this chart shows, that's the sharpest YOY price deterioration since Q2 1991 (-2.19%)

Unlike past downturns in U.S. home prices, which were driven by economic recession or sky-high interest rates, this decline is a side effect of the bursting of a large speculative bubble. That makes the current experience unique, more akin to a "housing version" of the dot-com bust. I expect pricing to remain weak at least into 2008, given the very large inventory glut in the market right now.

Just how large is this inventory glut?

Just to follow up on the supply glut in the housing market, we had 538,000 new homes for sale as of April. Today, we learned there were 4.2 million existing homes for sale (including all varieties -- condo, co-op, single-family). In the single-family only category, we have data going back farther. There were 3.59 million SFH for sale last month.

How do these figures compare with history? Let's take a look ...

* Census data on new home inventory goes back to 1963. Prior to the latest down cycle, the highest inventory level recorded was 432,000 units in August 1973. Throughout the 1980s and 1990s, it was customary to have about 300,000 to 320,000 homes for sale, with peaks (in 1989 and 1995) of around 370,000.

This time around, supply has come down somewhat from the July 2006 peak of 573,000 units. But it's clear that we still have a major inventory glut -- something on the order of 150,000-200,000 units.

* So what about the existing home market? That 4.2 million inventory reading is quite literally off the charts. My data for combined SFH+co-op+condo inventory only goes back to early 1999. Between that year and 2004, inventory typically ran in the 2 million - 2.5 million unit range. In other words, we are potentially oversupplied to the tune of 1.7 million to 2.2 million units.

If you just look at the single-family only data (3.59 million units in April 2007), it's the same story -- a historical inventory glut. This measure typically ranged from around 1.5 million units to 2.3 million units throughout the 1990s and early 2000s.

What will help whittle down this supply mountain? Higher demand, perhaps spurred by a renewed easing in the mortgage lending environment (unlikely), lower interest rates (also unlikely, at least for now) or ... lower prices. Guess which I'm going with?

April Existing home sales sink to an almost 4-year low; Inventory rises to a record

We just got our second report on the state of the housing market in April -- existing home sales. Here's the data, with my take on what the numbers mean:

* Existing home sales dropped 2.6% to a seasonally adjusted annual rate of 5.99 million from a revised 6.15 million SAAR of sales in March. That's the lowest reading since June 2003. Economists expected sales to dip an ever-so-slight 0.1% from an originally reported 6.12 million in March. On a year-over-year basis, home sales dropped 10.7% from the April 2006 SAAR of 6.71 million.

Regionally, sales fell in all four quarters of the country, with the Northeast leading the way at -8.8% on the month. Single-family sales dipped 2.4%, while condo and co-op sales dropped 3.8%.

* On the inventory front, there were 4.2 million existing homes for sale as of last month. That was up a hefty 10.4% from 3.806 million in March and up 23% from 3.415 million units in April 2006. On a months supply at current sales pace basis, we had 8.4 months of inventory. That was up from 7.4 in March, and up from 6.1 in April 2006.

It's worth noting that single-family inventory (on a months supply basis) is now the highest since 1992. The raw number of SFH for sale is the highest on record (I've included a chart from Bloomberg showing the raw numbers going back to 1989).

* Median prices climbed 1.6% month-over-month to $220,900 from $217,400 in March. But prices fell again year-over-year -- by 0.8% from last April's reading of $222,600.

Existing home sales put in a poor showing last month. Sales fell by a larger margin than expected and prices extended their losing streak to a record nine months. Most importantly, the supply glut got worse. Raw inventory of homes for sale surged 10% in just one month while the months supply indicator blew out to 8.4 months. Both readings are a cycle high.

The bottom line: We're swimming in supply. Unrealistic sellers. Stuck flippers. Stretched borrowers. Foreclosures. They're all contributing to a surge in homes on the market. Until sellers get realistic and start cutting prices aggressively -- like the new home builders clearly are -- the market will remain oversupplied. That, in turn, will keep the pressure on sellers and give buyers the upper hand.

New home sales: Activity surges as prices plunge

We just got the latest snapshot of the U.S. housing market -- April new home sales. Here's the data, with my take on what the numbers mean:

* New home sales soared to a seasonally adjusted annual rate of 981,000. That was up a hefty 16.2% from a revised 844,000 units in March, the biggest monthly gain since April 1993. Economists were expecting sales to rise only slightly -- 0.2% to 860,000 from an originally reported 858,000 units in March. On a year-over-year basis, home sales were still down 10.5%. The April 2006 sales rate was 1.097 million.

* On the inventory front, there were 538,000 new homes for sale as of last month. That was down 1.5% from 546,000 in March and down 4.8% from 565,000 in April 2006. On a months supply at current sales pace basis, we had 6.5 months of inventory. That was down sharply from a revised 8.1 in March, but up from 6.2 in April 2006.

* Median prices? Fasten your seat belt. They plunged 11% to $229,100 from $254,000 in March. That was also off a sharp 10.9% from last April, when prices hit a record (to date) of $257,000. This was the worst year-over-year drop in prices going all the way back to December 1970, as shown in this chart from Bloomberg.

When you slash prices and pile on the incentives, you move product. That was the lesson the auto industry taught us post-9/11, and that's the lesson in today's new home sales report. Sales surged by more than 16% and inventory levels fell because builders lopped thousands off the price of their homes. In fact, median prices showed the sharpest year-over-year drop in April in almost 37 years!

The good news: There's still housing demand at the right price. Plus, inventories are slowly coming down. The bad news: Supply remains at very high levels, historically speaking. And if you're looking to sell your house, you're up against some extremely aggressive competition from the new home industry.

The Mortgage Industry Blame Game

There's a real blame fest going on in the mortgage sector right now ...

Mortgage bankers are blaming mortgage brokers for writing loans for the commissions and not caring one whit about how those loans perform.

Mortgage brokers are blaming mortgage bankers for essentially the same thing. Their argument: That lenders sell most of their loans into the secondary market anyway, so they don't care either.

Congress is blaming the industry for carelessly originating and underwriting high-risk loans.

Consumer groups are blaming them for the same thing.

Appraisers are blaming brokers and bankers for pressuring them to inflate values in order to make loans work.

And you know what? They're all right. Practically every party with an interest in the mortgage sector needs to share blame for allowing this ridiculous bubble to get so out of control. I would include greedy speculators, borrowers, and flippers in the pool of those who need to share blame, as well as the Federal Reserve Board. Strangely, no one seems willing to blast these guys for running a ridiculously loose monetary policy in order to "fix" one popped bubble (the dot-com meltdown) by inflating another in housing. I've had plenty to say about that matter in recent posts, so there's no need to re-hash here.

Bonds at last ditch support

You know those old submarine movies? The ones where the captain would shout "Dive, dive, dive!" That's what things look like in the bond market right now. This "quiet" economic week sure is turning out to be anything but quiet for bond traders. We are at what I would deem last ditch technical support on the long bond futures, shown here in this chart.

Mantra of the day: Out of bonds, into stocks ...

I'm seeing an interesting trend again today -- the fingerprints of a big "out of bonds, into stocks" asset class trade. Specifically, bonds started tanking within the past several minutes ... and stocks started rising sharply. Is it significant? Maybe, maybe not. This is short-term stuff. But we saw similar intraday moves during the day on May 18 (stocks up, bonds down). And the cumulative weight of these moves has pushed long bonds down to 109 21/32.

That leaves us dangerously close to the low end of the technical support area I outlined a few days ago. Yield-wise, we've broken above 4.80% to 4.82% on the 10s. If 4.9% gives way, it's a straight shot to 5% and beyond.

The interesting thing is that this is happening on a light economic week, with little fundamental guidance to drive trading. That tells me the bias in the market is to sell bonds, perhaps because of China diversification fears or perhaps because it's sinking in (for something like the 572nd time) that the Fed will not be cutting interest rates any time soon.

Fed: Trying to cure the subprime market, not kill it

Another Federal Reserve official, Sandra Braunstein, testified today on subprime lending. She said at a House subcommittee meeting that the Fed is trying to cure the subprime mortgage industry, not kill it off. The Fed wants to curb abusive lending but still allow "responsible" lenders to make money giving mortgages to borrowers with bad credit. That echoes comments made by legislators and other interested parties.

All well and good, I suppose. But how do you do that? The problem right now is that the securitization system has incentivized lenders to deliver volume, not quality, in terms of mortgage production. When many of the top quality borrowers were exhausted back in 2005 and 2006, lenders had every incentive to keep churning out worse and worse loans because there were end buyers for the paper out there. It effectively didn't matter to the loan originator whether those loans eventually failed or not. Whatever system we adopt to "fix" this mess should somehow link the originating entity to the loan's ultimate resolution.

Of course, it's worth pointing out the only reason the Fed is being forced to deal with this mess is because it refused to nip it in the bud. It all goes back to the ridiculous, "see no asset bubble, hear no asset bubble, prick no asset bubble" policy I blogged about a few days ago.

Bonds trading sloppy...

For the past few days, Treasury bonds have been trading sloppy. I'd attribute it to slightly stronger-than-expected U.S. economic data, rising yields overseas, and the news that China is starting to diversify its reserves and allowing its currency, the yuan, to appreciate at a faster rate. Those moves could reduce demand for U.S. bonds.

Technically speaking, we're approaching what I would call a critical support zone in the Long Bond futures. Let's call it 109 16/32 to 110. Ten-year note yields are testing 4.8%, an area of key resistance. If we eclipse that level -- and then take out 4.9% -- it could be "look out above" time for interest rates.

Dispatches from the Florida front

We're #1 down here in Florida! Unfortunately, I'm talking about being top-ranked in terms of mortgage fraud. That's the conclusion of a new report from MARI, the Mortgage Asset Research Institute. The company tracks incidents of mortgage scams and fraud.

Overall, MARI says fraud reports on 2006 loans were up about 30% from fraud reports on 2005 loans. And the number of so-called "Suspicious Activity Reports" related to mortgage fraud (which are collected by the Treasury Department's Financial Crimes Enforcement Network) soared to 28,372 in fiscal 2006 from just 3,515 in 2000, before the boom got underway.

If you want to read more, here's a link to MARI's report. And here's a Tampa Tribune story, with some of my comments on the subject.

Meanwhile, the latest local sales, inventory and price figures are in for my area (Southeast Florida). The local brokerage firm Illustrated Properties says that in April ...

* Sales dropped 24.7% year-over-year

* Median home prices dipped just over 4%

* Inventories climbed 14%

If there's a bright spot in this report, it's that the number of homes for sale actually dipped a bit from March. Too early to call it a trend, considering inventories rose the previous few months. But it bears watching. If enough sellers "get it" and lower their prices to close deals, it will eventually ease the very large supply glut we're facing.

The Fed's faulty approach to asset bubbles

I want to follow up on my Bernanke/subprime mortgage post with some bigger-picture thoughts. We have now seen a massive, easy-money fueled tech/dot-com bubble and bust AND a massive, easy-money fueled housing/mortgage bubble and bust within a span of just of 10-12 years.

In both instances, many private analysts practically begged the Fed to step in and do something before the booms inflated into outright bubbles. But in both instances, the Fed failed to wield its interest rate or regulatory hammers hard enough or early enough to get things under control. We are all suffering the consequences of those failures.

Why has the Fed failed? I believe it's because policymakers are still clinging to this outdated notion that they shouldn't do anything to attack asset bubbles preemptively. Fed Governor Frederic Mishkin tried to defend the logic of that approach back in January (you can read my rebuttal here, if you like). And just yesterday, Fed Vice Chairman Donald Kohn reiterated roughly the same thing.

Kohn's speech really got my blood boiling. In short, he said the Fed shouldn't target asset prices ... unless, of course, we have a "systemic event." In plain English, that's when asset prices go down and credit seizes up. If that happens, Kohn asserts, the Fed should just throw its "no asset intervention" principle completely out the window and flood the markets with easy money. These are his comments (with my emphasis added):

"Before discussing what we are doing and what we should be doing, I want to take a few minutes to call attention to some limits and constraints on our actions. We need to accept that accidents will happen -- that asset prices will fluctuate, often over wide ranges, and those fluctuations will be driven in part by trading strategies, by the cycles of greed and fear that have always been with us, and by the ebb and flow of competition for market share. The fluctuations will result in redistributions of wealth and, on occasion, will confront us with financial crises. But we cannot and should not try to prevent this process through a monetary policy that puts special emphasis on stabilizing asset prices or through regulatory policies that limit access to markets by qualified participants or that attempt to restrain competition materially. Monetary policy that proactively leans against asset price movements runs a considerable risk of yielding macroeconomic results that fall short of maximum sustainable growth and price stability. Regulatory policies that try to prevent failures of core participants or others under all conceivable circumstances will tend to stifle innovation and reduce our economy's potential for long-run growth.

"Systemic events in market-based financial systems are perhaps more likely to involve price fluctuations and abrupt changes in market liquidity than are systemic events in depository-based financial systems. But that is not really bad news because such events can more readily be countered by macroeconomic policy instruments than could old-fashioned crises of depository intermediation. Supplying additional liquidity and reducing borrowing costs can greatly ameliorate the effects of market events on the economy, and those types of macroeconomic interventions will carry less potential for increasing moral hazard than would the discount window lending that was a prominent feature of crisis management when depositories funded more credit."

How can you possibly argue ... with a straight face ... that flooding markets with easy money whenever things go wrong doesn't cause "moral hazard?" How can you possibly just stick your head in the sand whenever asset prices are exploding, credit growth is getting out of control, and lenders are taking excessive risk -- due to a principle of non-intervention in the asset markets -- then turn around and intervene when asset prices go down? AAaarrrggghhhhh. I need to go for a walk.

Bernanke tackles the subprime meltdown

I'm back in the office today, so hopefully I'll have more time to post. One big development today I'd like to blog about is Fed Chairman Ben Bernanke's speech about the subprime mortgage market. His basic points (I'm paraphrasing here because the actual language, like that found in most Fed speeches, might put you to sleep):

* Subprime mortgage lending has been around for a couple of decades, but really began to explode in the mid 1990s.

* Credit scoring and the ability to offload risk to end investors helped fuel the boom. It made it cheaper to originate loans and easier to shunt the credit risk of high-risk loans elsewhere into the financial netherworld.

* There are roughly 7.5 million subprime mortgages in first-lien position, 14% of the overall market. Alt-A/near prime loans are another 8% to 10% of the market.

* Giving higher risk loans to a bunch of people who couldn't previously buy homes helped drive the homeownership rate to 69% last year from 65% in 1995. But ... oops ... a lot more of those borrowers actually can't afford those loans, so they're defaulting.

* Now, even more borrowers than you might expect are defaulting. That's because ...

A) These extremely risky loans are starting to season (in non-jargon terms, they're getting older and entering the age bracket where defaults typically rise anyway)

B) House price appreciation has ground to a halt in some places. In other markets, prices are falling outright.

C) Interest rates have risen.

D) More homes are in the hands of investors. Those owners are more likely to walk away when the going gets tough.

E) The overall economy has slowed, with certain sectors like the automobile business, particularly hard hit.

F) Lenders began to give mortgages to anyone with a pulse once all the better-credit borrowers had been tapped out.

* While subprime lenders are dropping like flies and lending conditions have tightened up, Bernanke maintained the meltdown hasn't threatened the broader banking industry. The Fed is encouraging lenders to work with borrowers, by modifying loan terms or taking other steps, to help them avoid foreclosure and minimize losses.

What about possible policy responses? Here I'll quote Bernanke directly:

"Looking forward, the Federal Reserve, other regulators, and the Congress must evaluate what we have learned from the recent episode and decide what additional regulation or oversight may be needed to prevent a recurrence. In deciding what actions to take, regulators must walk a fine line; we must do what we can to prevent abuses or bad practices, but at the same time we do not want to curtail responsible subprime lending or close off refinancing options that would be beneficial to borrowers.

"Broadly speaking, financial regulators have four types of tools to protect consumers and to promote safe and sound underwriting practices. First, they can require disclosures by lenders that help consumers make informed choices. Second, they can prohibit clearly abusive practices through appropriate rules. Third, they can offer principles-based guidance combined with supervisory oversight. Finally, regulators can take less formal steps, such as working with industry participants to establish and encourage best practices or supporting counseling and financial education for potential borrowers."

* As for the housing market itself, Bernanke admits that things aren't so hot. Sales are down big, inventories of unsold homes have surged, and starts of new homes have slumped sharply. Since subprime and nonprime loans accounted for a fair share of home purchases in 2005 and 2006, tighter credit standards will "be a source of some restraint."

Lastly, Bernanke wrapped things up by saying ...

"Credit market innovations have expanded opportunities for many households. Markets can overshoot, but, ultimately, market forces also work to rein in excesses. For some, the self-correcting pullback may seem too late and too severe. But I believe that, in the long run, markets are better than regulators at allocating credit.

"We at the Federal Reserve will do all that we can to prevent fraud and abusive lending and to ensure that lenders employ sound underwriting practices and make effective disclosures to consumers. At the same time, we must be careful not to inadvertently suppress responsible lending or eliminate refinancing opportunities for subprime borrowers. Together with other regulators and the Congress, our success in balancing these objectives will have significant implications for the financial well-being, access to credit, and opportunities for homeownership of many of our fellow citizens."

MY TAKE? Once again, the Fed is a day late and a buck short. Where were these guys when private analysts, myself included, were shouting from the rooftops about a housing bubble? Why didn't they go further than just issue weak-kneed guidance? Why didn't they jawbone the heck out of mortgage lenders and speculative real estate investors in 2003, 2004, and 2005? Or jack up interest rates by more than 25 points at a time when it became clear to everyone involved that housing prices had gone parabolic? The failure of policymakers and regulators to attack the housing and lending bubbles before they got out of control is simply unconscionable.

A bounce in starts, a swoon in permits

We just got our latest look at home construction activity. In the month of April ...

* Housing starts rose slightly -- by 2.5% to a seasonally adjusted annual rate of 1.528 million units. Regionally, starts were up sharply in the Northeast (+31%) and less so in the West (+7.8%). They fell 14% in the Midwest and were off an ever-so-slight 0.1% in the South.

* Multifamily construction led the way with a 6.3% rise, while single family construction increased by a smaller 1.6%.

* Don't start doing cartwheels just yet, though. The reason: Building permit issuance fell off a cliff. Permits dropped 8.9% (the largest one-month decline since 1990) to an annual rate of 1.429 million. That's the lowest in almost a decade (since June 1997).

What story are these numbers telling? That the home construction market remains mired in the mud. It's true that starts are up slightly from their nadir of a few months ago. But leading indicators of home building and home sales activity -- like today's permit data and yesterday's National Association of Home Builders index -- suggest this bounce will be short-lived. And considering how much excess housing inventory is floating around out there, it makes all the sense in the world for builders to pull in their horns.

Yet another disappointing housing report

You know, it's hard work coming up with fresh blog headlines pertaining to housing. After all, how do you say "The latest numbers stink" in a different way every few days. Maybe I should try a foreign language (although my French is a little bit rusty).

Anyway, the ugly numbers I'm referring to today were from the National Association of Home Builders. The group's housing sentiment index did not stay flat as expected. Instead, it dropped to 30 in May from 33 in April. That matched the decade-and-a-half low we saw in September. All three sub-indices, which measure buyer traffic, present sales, and expectations for future sales, dropped.

Meanwhile, National Association of Realtors figures show prices are still slumping. The median price of an existing home fell for the third quarter in a row -- by 1.8% to $212,300. That's the lowest level since the beginning of 2005. Prices dropped in 62 of 145 nationwide metropolitan areas.

I said months ago that the "bottom" in housing was still some way off. These figures only confirm that fact. I don't see a lasting recovery until later in 2008 because inventories remain bloated, demand remains weak, and mortgage financing is becoming harder to obtain.

April foreclosure showers

When it rains, it pours on the foreclosure front, or so the latest numbers suggest. Foreclosure filings surged 62% year-over-year in April, according to RealtyTrac. The increase stems from stagnant-to-declining home prices, slumping home sales, and tighter lending standards. If there's a silver lining among the clouds, it's that April filings (147,708) were down slightly from the record high of 149,000 in March.

Banks tightening the lending screws

The Federal Reserve just released its latest quarterly survey on loan demand and lending standards. The so-called "Senior Loan Officer Opinion Survey on Bank Lending Practices" may sound like a mouthful, but it contains extremely important information on lending conditions. Some key standouts from the latest survey:

* The Fed broke out its residential mortgage statistics by type of loan for the first time. Lending standards on prime loans didn't change all that much. But a whopping 45.5% of the lenders polled reported tightening standards on "nontraditional" loans, while an even greater 56.3% were cracking down on subprime lending.

* We're seeing more tightening of standards in the commercial real estate lending market. Some 30.2% of survey respondents said they were tightening CRE standards, up from 1.8% a year earlier. That's the second-highest reading (behind Q4 2006) in five years. Demand for CRE financing is dropping as well. A measure of loan demand dropped to -35,8, the weakest since Q1 2002.

As I've mentioned before, a lot of higher-risk commercial mortgage financing has been handed out in the past couple of years. Now, it appears banks may be starting to worry that they went too far, just like they did in the residential market between 2003 and2006.

The skinny on today's data deluge

We just got inflation report #1 for April -- import prices. The details:

* Overall import prices gained 1.3% from March, above expectations for a 1% rise. However, the previous month's gain was revised down to 1.5% from 1.7%. Prices are up 1.9% year-over-year.

* If you strip out fuels, you get a monthly gain of 0.2% and a YOY increase of 2.6%. We saw sizable gains in industrial supplies (+1%, ex fuels), agricultural imports (+2.1%), unfinished and finished metals (+2.8% and +2.2%, respectively).

In other economic news, we saw a sizable drop in weekly jobless claims -- they came in at 297,000, the lowest since the week of January 12. And we got a larger-than-expected reading on the trade deficit in March. It jumped more than 10% to $63.9 billion from $57.9 billion in February. Higher oil prices drove a chunk of the deficit's gains.

The market reaction has been largely muted -- long bonds were recently up 4/32, while 10-year note yields were down ever so slightly to 4.66%. One likely reason is that oil prices have come back down in the past several days. Relatively weak April sales data from major retailers is also keeping the pressure off bonds.

Fed follow up ...

No change in rates ... no real change to the Fed statement. I don't have time to post more as it's a crazy last few days before I head out to the Las Vegas Money Show.

But just to follow up to the comments and chart in my last post, the bonds did get clocked. Ten-year notes failed right at the resistance I highlighted, while long bonds shed a half-point. Yield-wise, the 10s are still right in the middle of the recent range at 4.67%. What caused the sell off? The Fed did NOT eliminate its inflation bias, choosing instead to reiterate that "the committee's predominant policy concern remains the risk that inflation will fail to moderate as expected."

It's Fed meeting day -- but does anybody care?

It's funny, but Fed meeting days just don't provoke the same level of excitement and angst for the market as they did in recent years. The prognosis is that officials will do nothing with rates and won't significantly change their post-meeting statement. Sure, there will be the usual parsing of every new syllable in the release. But it's just a bunch of noise, as far as I'm concerned, until it becomes clear the Fed is going to hike or cut -- and we're just not there yet.

That said, we should keep a close eye on how the bonds react (if at all). Treasuries have been trading largely sideways since last August. But 10-year T-Note futures are butting up against a long-standing technical downtrend line that dates back to early 2003. Multiple "tests" of that downtrend have failed ... so a high-volume break or failure here could be significant, purely from a technical standpoint.

A mish-mash of mortgage news

I'm seeing several minor developments in mortgage land today, including ...

* Standard & Poor's is going to require more protection on bonds backed by second mortgages, known by their touchy-feely name "home equity loans." Many of these seconds have been used as down payment substitutions -- the "20" or "10" portion of 80/20 and 80/10/10 home purchase financing structures. Predictably, many of these borrowers (who have little or no skin in the game, equity-wise) are defaulting. More seconds were given to subprime borrowers in recent years than in the past, too. That's called risk-layering (giving a borrower with bad credit -- risk factor 1 -- a loan that helps them buy a house with little or no money down -- risk factor 2).

* HUD (the Department of Housing and Urban Development) is going after so-called "down payment assistance" programs offered by several nonprofit groups. While these programs sound good in principle because they allow more renters to become homeowners, HUD maintains they have contributed to an increase in foreclosures. Loans with down payment help go into foreclosure twice as often as traditional FHA loans.

This story explains the way these programs work, and why they can boost foreclosures. Suffice it to say that a buyer may not need to come up with a down payment under one of these programs. But he typically ends up paying an inflated price for the house. That increases the mortgage size and required monthly payment and essentially puts him underwater from day one -- meaning, he owes more than the true value the home would fetch in an open market sale.

The nonprofit groups active in the market maintain the programs work. But regardless of who's right, the fact remains that the elimination of down payment assistance programs would have a small impact, at the margin, on housing demand. Bloomberg points out that more than 100,000 home buyers used these kinds of programs in 2006. HUD's proposal will be put out for public comment shortly, after which time interested parties will have 60 days to submit their views.

* The perennially optimistic folks at the National Association of Realtors have lowered their housing forecast ... again. The NAR now expects median home prices to drop 1% this year, down from a previous forecast of -0.7% and a forecast of +1.2% before that. Prices haven't declined on an annual basis since the group started tracking them in 1968.

* Last but not least, the debate continues in Congress about what, if anything, legislators should do to sort out the mortgage mess. Time permitting, I hope to have much more to say on this front in the coming couple of weeks.

consumer credit thoughts

I don't usually pay a heck of a lot of attention to the consumer credit figures that are published each month by the Federal Reserve. They're released on a pretty extensive delay and they usually don't contain any fireworks. But the March figures were a real whopper ...

* Consumer credit jumped $13.5 billion, versus expectations for a $4 billion gain. The February gain was revised up to $5.6 billion from $3 billion.

* The March increase equates to 6.7% at a seasonally adjusted annual rate -- 9.2% for revolving debt (think credit cards) and 5.2% for nonrevolving debt (auto loans, etc.). Those are some pretty hefty numbers compared to what we've seen recently.

* What's behind the gains? Tough to say for sure. But it could be that the housing ATM has been shut down. Free-spending Americans, no longer able to count on an endless supply of home equity to liquidate, are once again turning to credit cards to finance spending.

Oh and yes, the snoozefest continues in Treasuries. Range-bound prices ... range-bound rates. The next potential catalyst for a breakout would have to be the April inflation reports. We get import prices on 5/10, producer prices on 5/11, and consumer prices on 5/15.

We now return to your regularly scheduled blogging

You've probably noticed a dearth of postings these past couple days (If you haven't, I'll try not to take it personally!) That's because we're getting our house painted -- no more white walls everywhere, but no computer for a while either -- and because I've been working on a big landscaping/yard project.

Basically, I had to expand the landscaped area in the picture on this page, and do a separate landscape "island" in a different part of the yard. Hard work, but definitely worth it. Things will be back to normal this coming week, at least for a few days. Then it's off to Las Vegas for the Money Show.

What more can I say that hasn't been said about the recent market action? The bonds rallied on the weaker-than-expected jobs news. But longer-term, they remain stuck in a range. The dollar has been tame for a change. And stocks? Well, they've been up for something like a bazillion out of the last bazillion-and-1 days. The exception on Friday was ... you guessed it ... the home builders. More bad earnings news there clipped most sector names for a couple of percentage points.

See you all on Monday...

A random walk down IRR street ...

It's been a busy day for this Interest Rate Roundup blogger -- in my real job, that is. So I haven't had any time to post. Now that I can exhale, let's take a random walk down IRR street (In plain English, here's the stuff that I've been reading and that I think is worth commenting on) ...

* The Mortgage Bankers Association's purchase index has gotten a bit frisky right along with Treasuries. It popped up to 427.30 in the week of April 27, the highest since the week of January 5.

Every other recent indicator has pointed to poor April home sales -- March pending contracts, April builder confidence, etc. Does this recent rise indicate that a big rebound is in store? Color me skeptical. I would bet dollars to donuts that even if mortgage APPLICATIONS are up, mortgage APPROVALS (and therefore, actual purchase agreements) are rising by a smaller amount, if at all. That's a side effect of the tighter lending standards we've seen companies implement since the subprime meltdown began.

* All of that said, if bonds were to REALLY break out of their recent coma to the upside, it could help support the housing market. The long bond has been trading in a range roughly bounded by 110 on the low end and 114 on the high end since September 2006.

In yield terms, let's call it 4.5% to 4.8% on the 10-year Note. A significant move below 4.5% -- and especially 4.4% -- would likely lead to a sharper spike in purchases. The problem: I don't see that happening with inflation still elevated and liquidity pouring out of every nook and cranny here in the U.S. and abroad.

* Speaking of excess liquidity, anybody catch the New York Times story today about commercial mortgage lending? Titled “A Warning on Risk in Commercial Mortgages,” it basically pointed out that lenders are doing the same stupid things with commercial mortgages that they did with residential mortgages! A key quote:

“Low interest rates and an abundance of investment capital have led to heady times for buyers and sellers of office buildings, hotels and other income-producing property. Buildings have traded at record prices and loan terms have become increasingly generous, with many buyers putting little or no equity into the deals."

The story goes on to talk about how ratings agencies that grade bonds backed by pools of commercial mortgages are seeing several warning signs in commercial deals. Among them:
Lenders are handing out many more interest-only loans than in the past … building owners are making overly optimistic forecasts of future rent growth ... and landlords aren’t setting aside large enough reserves for taxes, insurance, and other costs.

Jim Duca, a Moody’s managing director, put it this way: "Underwriting has gotten so frothy that we have to take a stand ... The industry was heading to Niagara Falls."

Am I the only one who thinks these lenders must be dumber than a bag of hammers? I mean, residential mortgage defaults are soaring, residential foreclosures are skyrocketing, and residential subprime firms are going out of business left and right. The reason: Companies made too many high-risk residential mortgages on properties whose values were wildly, artificially inflated by all the easy money.

Yet commercial lenders are apparently doing the same thing in their arena ... and expecting things to work out just fine. What's that famous quote? That the definition of insanity is doing the same thing over and over and expecting different results?

* Rising tax collections are allowing the U.S. Treasury to scrap 3-year Treasury Note sales. The 3-year note disappeared in 1998, then was resurrected in 2003, and now, is going away again. Three-year note yields reacted by ... not reacting. They were recently up 1.2 basis points, little changed from where they were before the news came out.

* ADP says the economy didn't create much in the way of jobs in April -- just 64,000. That's the lowest level since July 2003. The consensus for Friday's "official" jobs report is a gain of 100,000. My take: It doesn't matter which indicator you look at. They all basically point to the same trend: The U.S. is currently the global economic caboose rather than the global growth engine it was during the 1990s.

* Lastly, Bloomberg published a great story today called "Rents Peak in Housing Glut; New York Escapes Decline." In a nutshell, the story details how a glut of units in both the for-sale and for-rent market is causing rental growth rates to slow and apartment REIT stocks to slump.

Why do we have such a large glut of rental property? Because speculators snapped up hundreds of thousands of condos, town homes, and single-family properties during the boom. Their, ahem, ingenious, well-thought-out plan was to flip them quickly for thousands of dollars in profit.

Unfortunately, the bubble popped, leaving many stuck with property they couldn't sell. They've been bleeding cash month-in and month-out ever since. So they're now dumping those properties on the rental market to bring in some cash, even if it's not enough to cover their monthly mortgage payments.

I've been forecasting this trend to unfold for some time. Here's a piece on the subject from last fall. Here's a separate New York Sun piece from several weeks back that resulted from a conversation with Dan Dorfman. And here's a post I put up the other day on the latest vacancy stats. Enjoy.

March pending sales take a dive

I hate to sound like a broken record, but the housing data continues to disappoint. The latest example: March pending home sales. Sales tanked 4.9% from February and 10.5% from March 2006. Activity is now running at its lowest level in four years. Throw in the ugly April home builder confidence index, and you have plenty of proof that the spring selling season is shaping up to be a dud.