The Week Ahead in the Capital Markets

August 4, 2008

“If stupidity got us into this mess, then why can’t it get us out?” – stand-up cowboy humorist Will Rogers… It was he, you may recall, who remarked that Alexander Hamilton started the U.S. Treasury with nothing, “and that was the closest the country ever came to breaking even.” And who reckoned that “an economist’s guess is liable to be as good as anybody else’s.” And who defined diplomacy as “the art of saying ‘nice doggie’ until you can find a rock.”

So how can we get out of this mess? Stabilize home prices, of course. This economic crisis is unlike those in the past. The problems usually begin in the business sector (bloated inventories, over-investment, too many employees, etc.), but not this time. The primary impact is on consumers, not on businesses. In fact, businesses outside of the financial sector are relatively well financed and conservative. Consumers, on the other hand, have been hit with a triple whammy. In what seems a weird coincidence, food prices rose 5%, oil prices doubled, and home prices fell 15% in the past year. If we can get confidence in one of the three, perhaps the economy will turn for the better. In the short term, we can’t really do much about food and oil prices – they are global problems over which we have less control. So it is all about home prices, and efforts to stop foreclosures can only help.

AN INSIDER’S VIEW FROM THE CAPITAL MARKETS COOPERATIVE TRADING DESK:

“Treasury yields fell last week amidst recession fears, but the mortgage-to-Treasury spread widened, leaving mortgage rates relatively high. The spread stands at 2.72%, the widest we have seen in several months. Economic uncertainty has increased and therefore the market expects more interest rate volatility ahead. Hence the higher yield demanded from mortgage securities. As for the yield curve, it continues to muddle along with a 1.40% difference between two- and ten-year Treasury yields.

‘If it walks like a recession and talks like a recession, it must be a recession,’ exclaims Barron’s (and we agree). Nearly a million jobs have been lost, and the industry responsible for a third of all job creation in the past few years (the housing industry, of course) is in just a bit of trouble. The unemployment rate popped to 5.7% last month and why wouldn’t it rise to 11.8% (the high in 1994)?

This in spite of the positive GDP print received last week. Sure, real GDP was positive in the second quarter, but the inflationary effect of import prices is ignored in that number (The “D” stands for “Domestic” after all.). Since import prices rose at a 28% annual pace last quarter, GDP is not a great measure of overall economic activity.

Stocks, meanwhile, are not out of the woods by a long shot. Even after the recent sell-off, stocks are closer to being expensive than cheap. The S&P 500 is trading at an inflation-adjusted P/E ratio of 22, which is more expensive than it has been 2/3rds of the time since 1965. And the brief rallies we’ve seen lately have been tepid at best. Volume has been light and breadth has been narrow. Odds favor more downside ahead.” (CMC traders price, hedge, and sell $billions of mortgages for their clients, and offer a front-line perspective on the markets.).

Hillary Clinton is trying to pay down her campaign debt. So she is giving everyone that sends a campaign donation the chance to have dinner with her. No word yet on what the winner gets. – Conan O’Brien

Thanks for your business and have a good week. – Tom Millon

About Capital Markets Cooperative
Capital Markets Cooperative (CMC) provides mortgage bankers with the economies of scale and the expertise to reduce risk and maximize profit in the secondary market. Regarded as the premiere secondary marketing specialist in the industry, CMC has worked with financial institutions nationwide to break traditional barriers in capital markets and take performance and profits to the next level. To date, CMC executives have managed more than $500 billion of mortgage volume. CMC board members are Tom Millon, Jeff Harry, and Harold Koegler.

For more information about Capital Markets Cooperative, visit www.capmkts.org or call 904.543.0052 or e-mail info@capmkts.org. This e-mail is not a solicitation or investment advice of any kind. You may change your e-mail address, or if this e-mail has reached you in error, or you do not wish to continue receiving it, please let us know by replying to tmillon@capmkts.org.