Five Things You Need to Know: Fannie Mae Inadvertently Predicts Housing Bottom
Kevin Depew's daily Five Things You Need to Know to stay ahead of the pack on Wall Street:
1. Fannie Mae Executives Only Ones Surprised by $2.19 Billion Quarterly Loss
Fannie Mae (FNM) this morning reported a wider loss than many analysts estimated, cut its dividend to 25 cents a share and said it will raise $6 billion in capital before it eventually burns to the ground while the Office of Federal Housing Enterprise Oversight plays a fiddle. We're paraphrasing... but only slightly.
Even as Fannie Mae reported a wider-than-expected (for Fannie Mae executives at least, the rest of us seemed to know better) $2.19 billion first quarter loss, the Office of Federal Housing Enterprise Oversight (OFHEO), the regulator that oversees the government-sponsored mortgage giant actually lowered... yes, lowered... the amount of capital Fannie must hold.
The OFHEO said it will lower requirements for surplus capital to 15% from 20% once the $6 billion in capital is raised, and may reduce it even further to just 10% by September. The move by OFHEO to relax capital surplus requirements for Fannie Mae essentially enables the mortgage-finance company to buy more mortgages and take on even more risk.
"The lowering of the prudential cushion was appropriate in line with the company’s progress and with the need to maintain safe and sound operations," OFHEO Director James Lockhart said in a statement, presumably to guard against not being able to maintain a straight face. For if there is one thing we know with absolute certainty, it is this: Fannie Mae is the antithesis of any operation that one could consider "safe and sound."
But more on that in a moment, let's take a look at Fannie Mae's 2008 housing market projections...
2. Fannie Mae Inadvertently Predicts Housing Bottom
Here is what Fannie Mae is projecting for the remainder of the year for the housing market:
First, the company said its credit loss ratio increased to 12.6 basis points in the first quarter versus 8.1 basis points last quarter, a larger increase than the company expected. Fannie Mae now expects a full-year 2008 credit loss ratio of 13 to 17 basis points.
And on what do they base that projection? This morning on the conference call, FNM President and CEO Daniel Mudd said, "In the first quarter, home prices, national average home prices, fell by about 3%. Given that decline, which was accelerated from the prior quarter, we changed our outlook for home price declines for the whole year. Instead of a 5 to 7% decline, or an ensuring 13 to 17% peak to trough, which is what we talked about the last time, we now see home prices falling about 7 to 9% for the year, which would then lead to a 15 to 19% peak-to-trough decline in the average national home prices."
But, as Minyanville Professor Scott Reamer points out, the only problem with that projection is that the Case-Shiller Home Price Index is already down 5% nationally from the beginning of the year. If we annualize that we get a 30% decline for all of 2008. Even if we keep the same slope as present for the home price index we get a 26% decline for 2008. So, for Fannie Mae to see their projected 7-9% declines we would need to have an abrupt and marked change in home prices now.
In other words, Fannie Mae has inadvertently called the bottom in the housing market. And by extension, by allowing Fannie Mae to increase its leverage, so has the OFHEO. Ah, but wait. Fannie Mae anticipated this objection...
3. Fannie Mae Says: "Not So Fast, Mr. Smarty-Pants Case-Shiller Index Lover"
Fannie Mae anticipated this objection to their projections using their own index, and said (again, paraphrasing slightly): "Not so fast, Mr. smarty-pants Case-Shiller Index lover."
Below is a chart from the investor summary slideshow that accompanied the conference call:
The fine print at the bottom of the slide is important because it speaks to the use of the case-Shiller index versus Fannie Mae's own index upon which their price projections are based. According to Fannie Mae, because the Case-Shiller index is value-weighted, it places greater weight on higher cost metropolitan areas. Fair enough.
Using the Case-Shiller index methodology, Fannie Mae says its projections would move from a 7-9% home price decline for 2008 to 10-13%, and from 15-19% peak-to-trough to 20-25%. There's just one catch with those projections increases. They strip out the impact of foreclosure sales. As Fannie Mae observes, "Foreclosure sales tend to depress the S&P/Case Shiller index relative to the Fannie Mae index."
4. Where Are We Losing Money?
It's a good question. With home prices, according to Fannie Mae, down nationally 6-9% from the second quarter of 2006, which areas are hardest hit?
The chart of the U.S. below, which Fannie presented during their conference call this morning, shows where we are losing money on our homes.
That doesn't look so bad, although the Q2 2006 start date is a little convenient. Perhaps it's true; all real estate is local. Well, hidden in that chart, what it does not show, are inventory builds nationally while overall transactions decline, mortgage lending standards tighten and consumers cut back. We'll revisit this chart next year for some different colors.
5. Socionomic Datapoint: Reduce, Reduce, Reduce
Fifteen years ago saw the introduction of the 20-ounce soda container, the king of soft drink-to-go packaging. Not long after, the 7-11 Big Gulp soda container was replaced with the porta-potty-sized Super Big Gulp checking in at a whopping 44 ounces. My how times change.
With soft-drink volume down 4.8% in the first quarter, according to Nielsen, both Coca-Cola (KO) and Pepsi (PEP) are testing 12- and 16-ounce containers at prices as low as 99 cents in hopes of reviving growth, according to USA Today.
Jeff Dahncke, a spokesperson for Pepsi, told the newspaper the new, reduced-size packaging is a way to offer "desirable prices" in a tough economy.
Economic hardship makes reduction more attractive. Social mood embraces this concept and applies it to many different aspects of life, from home size, to car size, to food and beverages. Deflation comes in many forms.
R.I.P. Super Big Gulp
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Yes, the progression of losses now enables the Company to have lower capital ratios so it can now meet the lower hurdles. Way to go "regulators". The lying and deception is coming from all corners of DC, wall street and corporations. Plus people around me are doing the same.
Conclusion: if kool-aid is being consumed, a lot of money-folks have been invited to the party. I can only read the price action as bullish, although I admit I have no idea why, in the face of their news. Still, as the man says, you've gotta respect the price action.
EXACTLY!
what i don't get is the complacent, kind of ho-hum approach to all this
me, i'm not taking this stuff sitting down
according to wikipedia, "even items that have no intrinsic value can be monetized"
the obvious inference is that banknotes are intrinsicly worthless
the banks in costa rica are collecting their monedas of 20, 10 and 5. they have a high nickel content. these are being replaced w/ "pot" metal. i have been told that i can still get the "doradas" from my bank. these have a high copper content. rather than mess around w/ the bank, i can just go down to casino alley. the C25 coins weigh 6.9g while the C100 ones weigh 9.3 g. these are the two denominations available in the casinos. therefore, i will feed the machines an intrinsicly worthless C10,000 banknote and i will receive 400 C25 "doradas" weighing of 2.77kg
i will also open up a goldmoney account, and i will also buy bullion and stash it in a bodega
i will also buy up a bunch of large propane cylinders (full, of course)
the think that FOR SURE i don't want is intinsicly worthless paper
Some areas have a portion of their local economy tied to people from the big metros cashing out and moving to "the sticks" then living on their savings while they learn that there aren't any jobs to be had out there, then eventually returning to the city to start over. This dynamic might be altered somewhat now that there are more ways to make a living from anywhere with internet access without necessarily needing to show up at an office every day.
Also, when looking at percentage changes, keep in mind that the basis for those percentages is far from even. 6% of the average house in MT is probably wouldn't cover the closing costs on an average house in southern CA (and the MT house is likely 500-800 sq-ft bigger with twice the yard space).
1) Deflation: cash is king, I win!
2) Hyper-Inflation: all that copper has got to be worth something!
Now storage costs for all those pennies may be an issue...
Which gets back to the Case-Schiller weighting vice the FNM unweighted housing price trends discussed in the article.
In terms of people drawing down their home equity to support their standard of living, and the effect of that on GNP, the weighted average is what matters. In terms of local trends the weighted national numbers are not much of a guide.
Most of the cash-outs I knew when I lived in California were retiring and using their equity, plus a pension from a California wage-scale job, to retire quite nicely in Oregon or Arizona or Nevada. As you point out, California is still ridiculously overpriced, which is why I now live in Colorado.
If the Fed ignores energy and food prices, inflation is not as high.
If the BLS ignores real job losses in actual industries, unemployment is not as high.
If Fannie Mae ignores foreclosure sales, than home prices do not drop as much.
I sense a theme here and I want to get in on it.
So, if I ignore my income on my tax return, then . . .
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