by Calculated Risk on 1/18/2010 11:05:00 AM

In late 2008 we discussed that the dramatic decline in oil prices would lead to a sharp decline in domestic investment in petroleum exploration and wells. Sure enough domestic investment was cut by 50% in the 2nd half of 2009 ...

The following graph compares real oil prices (data from the St. Louis Fed, adjusted with CPI) and real investment in petroleum exploration and wells in the U.S. (data from the BEA).

This doesn't include investment in alternative energy sources.

Click on graph for larger image in new window.

Not surprisingly there is a strong correlation between oil prices and investment. With oil prices now around $80 per barrel again, domestic investment will probably increase in 2010.

The increase in oil prices is also concerning. Notice that large increases in oil prices have frequently been followed by recessions. This is a topic that Professor Hamilton has researched and discussed several times over the years, see: Will rising oil prices derail the recovery? Of course oil prices are still far below the peak.

Note: right scale doesn't start at zero to show the correlation between the series.

by Calculated Risk on 1/18/2010 08:46:00 AM

A couple of quotes from an article by James Hagerty in the WSJ: Is Slashing Mortgage Principal the Answer?

... Assistant Treasury Secretary Michael Barr ... suggested that there would be a risk that such a [principal] program would change a lot of borrowers’ behavior. “Most people, most of the time, make their mortgage payments ... even if they’re underwater,” Mr. Barr noted. “You have to be quite careful not to design a program that induces more people to walk away” ...

This is a major concern. A couple weeks ago I wrote: New Research on Mortgage Modifications and Principal Reduction

Imagine what would happen to Wells Fargo or Bank of America if their borrowers found out that the banks would substantially reduce their principal if they were 1) underwater (negative equity), and 2) stopped making their payments. The delinquency rate and losses would skyrocket!

Because of this risk, a macro principal reduction program is very unlikely.

And another quote from the WSJ:

Tom Capasse, a principal at Waterfall Asset Management LLC, a New York-based investor in mortgages, says it’s too late to prevent a “seismic shift” in borrower behavior ... “There used to be a scarlet D on your forehead if you defaulted,” says Mr. Capasse. “Now it’s a badge of honor.”

Not quite a "badge of honor", but the widespread acceptance of "walking away" has been one of the greatest fears of lenders for some time.

by Calculated Risk on 1/17/2010 10:06:00 PM

From Eric Dash at the NY Times: Wall St. Weighs a Constitutional Challenge to a Proposed Tax

In an e-mail message sent last week to the heads of Wall Street legal departments, executives of the lobbying group, the Securities Industry and Financial Markets Association, wrote that a bank tax might be unconstitutional because it would unfairly single out and penalize big banks ... [and]has hired a top Supreme Court litigator to study a possible legal battle ...

Privately, executives at several large banks said they believed a legal battle was doomed to fail in Washington and risked escalating public rage over the bailouts of the banks.

The fee is imposed only on banks with "more than $50 billion in consolidated assets", and on the liabilities "excluding FDIC-assessed deposits and insurance policy reserves". It is hard to imagine that would be unconstitutional.

by Calculated Risk on 1/17/2010 06:22:00 PM

Since the NAHB Housing Market Index for January, and Housing Starts for December will both be released this week, here is a graph showing the relationship between the two series:

Click on graph for larger image in new window.

This graph compares the NAHB HMI (left scale) with single family housing starts (right scale). This includes the December release for the HMI and the November data for single family starts.

This shows that the HMI and single family starts mostly move in the same direction - although there is plenty of noise month-to-month.

I know I'm a broken record, but residential investment is one of the best leading indicators for the economy, and the best indicators for RI are the NAHB HMI, housing starts, and new home sales. And these indicators are moving sideways (at best).

Note: The largest components of residential investment are new home construction, and home improvement. This includes brokers' commissions and some minor categories.

by Calculated Risk on 1/17/2010 01:00:00 PM

The last half of every month is filled with real estate related data, and this week the NAHB Housing Market Index (builder confidence for January) will be released on Tuesday, Housing Starts for December and the ABI Architecture Billings Index on Wednesday, and the Moodys/REAL Commercial Property Price Index for November will be released sometime this week.

Expectations are for housing starts to be essentially flat in December, from MarketWatch:

The consensus forecast of economists surveyed by MarketWatch calls for a 3% decline in starts to a seasonally adjusted rate of 555,000 from 574,000 in November.

In other economic news, the Producer Price Index will be released on Wednesday, the Philly Fed survey on Thursday, and the DOT's estimate of vehicle miles for November will be released this week.

The markets will be closed on Monday for Martin Luther King Jr. day.

And a summary of last week ...

BLS: Near Record Low Job Openings in November

Click on graph for larger image in new window.

This following graph shows job openings (yellow line), hires (purple Line), Quits (light blue bars) and Layoff, Discharges and other (red bars) from the JOLTS. Red and light blue added together equals total separations.

Notice that hires (purple line) and separations (red and light blue together) are pretty close each month. When the purple line is above total separations, the economy is adding net jobs, when the blue line is below total separations, the economy is losing net jobs.

According to the JOLTS report, there were 4.176 million hires in November, and 4.340 million separations, or 164 thousand net jobs lost. The comparable CES report showed a gain of 4 thousand jobs in November (after revisions).

Option ARM Recast Update

The following data is from Amherst Securities:

This chart shows the expected payment shock coming in 2010 and 2011 from Option ARMs. This chart includes projected increases in LIBOR (if LIBOR stays low, the shock will not be as high), and the recast due to reamortizing the loan over the remaining period.

For more details, see: Option ARM Recast Update and More on Option ARMs

On negative equity, this graph from Amherst shows the CLTV for various mortgage products. Note that subprime and Alt-A had a somewhat higher percent of borrowers with negative equity than prime - but Option ARMs (red) borrowers are mostly in negative equity!

As Laurie Goodman at Amherst Securities noted, Option ARM borrowers were a self selecting group (people stretching to buy homes) and that is why most have negative equity in their homes.

Industrial Production, Capacity Utilization Increase in December

This graph shows Capacity Utilization. This series is up from the record low set in June (the series starts in 1967), and still below the level of last year.

Note: y-axis doesn't start at zero to better show the change.

Industrial production is still 10.7% below the level of December 2007.

Here is the report from the Fed: Industrial production and Capacity Utilization

Trade Deficit Increases in November

This graph shows the monthly U.S. exports and imports in dollars through November 2009.

Both imports and exports increased in November. On a year-over-year basis, exports are off 2.3% and imports are off 5.5%.

Overall trade continues to increase, although both imports and exports are still off significantly from the pre-financial crisis levels. Net export growth had been one of the positives for the U.S. economy - but now imports are growing faster than exports.

Here is the Census Bureau report on trade.

Other Economic Stories ...

From Fitch: U.S. CMBS Delinquencies up 42bps; Peak Not Until 2012

HUD Probes FHA Lenders: HUD Inspector General Probes Morgage Companies with Significant Claim Rates

Rail Traffic in 2009: Lowest since at least 1988

From RealtyTrac: 2009 was Record Year for Foreclosure Filings

From Tom Petruno at the LA Times: California's debt rating cut to A-minus by S & P on budget woes

From The Times: Britain's recession the steepest for 88 years

And from Statistischen Bundesamtes Deutschland: Germany experiencing serious recession in 2009

Retail Sales decline slightly in December

From Treasury: Fact Sheet: Financial Crisis Responsibility Fee

Unofficial Problem Bank List Increases to 582

On Q4 GDP: Q4 GDP: Beware the Blip and from Professor Krugman: Blip

Best wishes to all. My thoughts are with the people of Haiti.

by Calculated Risk on 1/17/2010 09:43:00 AM

From Kenneth Harney at the LA Times: Mortgage lenders exploit a loophole in HUD's new 'good faith estimate' rules

Starting Jan. 1, mortgage lenders nationwide were required to begin issuing new "good faith estimates" [GFE] to applicants covering loan fees and settlement charges.

Under the regulations issued by the Department of Housing and Urban Development, the estimates that lenders provide upfront must be accurate -- the same or nearly the same as the fees that are later charged at closing.
...
So how have the first two weeks of the reforms been going? Not exactly as planned. Many loan officers and lending institutions are sidestepping the new, price-bound GFE by giving shoppers "work sheets" and "loan scenario" forms that come with no legal requirements for accuracy, and were not even contemplated under the reforms.

In effect they are substitutes for the new GFEs but, in the wrong hands, they are open to lowballing and bait-and-switch games.

The work sheets purport to contain much of the information provided by a GFE. Typically they are issued only when shoppers do not provide -- or are asked not to provide -- key information that constitutes an "application" under HUD's definition in the rules.

In certain circumstances this makes sense, although it is open to abuse. As Harney notes, some lenders used to low ball the estimate of fees, and then surprise the borrowers with higher costs at closing. The GFE was intended to eliminate this practice.

Perhaps HUD could add an additional rule that says "worksheets" must require: 1) a description of what a GFE is, and 2) a clear statement that the worksheet is not a GFE, and 3) what additional information the borrower needs to provide to get a GFE. Who could object to that?

by Calculated Risk on 1/17/2010 12:51:00 AM

Here is the link to the Colbert video.

The Colbert Report	Mon - Thurs 11:30pm / 10:30c
The Word - Honor Bound
www.colbertnation.com
Colbert Report Full Episodes Political Humor Economy

by Calculated Risk on 1/16/2010 09:08:00 PM

Even with occupancy rates at record lows since the Great Depression, there are still a number of hotel projects being completed. It takes a number of years to build a new hotel, and all these projects were planned during the bubble years.

This has significant implications for non-residential investment and construction employment in 2010. As these large projects are completed, there will be more construction job losses, and less investment in non-residential structures.

And it definitely doesn't help the occupancy rate to have more rooms!

From the LA Times: New L.A. luxury hotels face tough debuts

The newest downtown hotel complex buzzed with activity this week as carpenters, electricians and gardeners hustled to put the finishing touches on the $970-million skyscraper that rises over the Los Angeles Convention Center and the L.A. Live entertainment center.

But when the glass-sheathed tower that houses the JW Marriott and Ritz-Carlton hotels opens next month, it will face one of the worst slumps in years for the hospitality business.
...
In 2009, hotel revenues took their steepest decline in more than two decades, and the occupancy rate in Los Angeles now hovers at a meager 65%.
...
Other upscale hotels are also opening in Los Angeles under economic clouds this year, all aiming to survive the steep drop in demand.

The $360-million W Hollywood Hotel & Residences at the corner of Hollywood and Vine is scheduled to open Jan. 28.

by Calculated Risk on 1/16/2010 06:21:00 PM

As a followup to my previous post, Professor Krugman points out that Q1 2002 GDP growth¹ was originally reported as 5.8% with rising unemployment. Good point.

Although Q1 2002 GDP growth was later revised down to 3.5%, it is another good example of a "GDP blip" driven by changes in inventory (inventory changes added 2.63% to the final 3.5%), with weak underlying demand (PCE was 1% in Q1 2002 - and stayed weak into 2003).

Krugman notes "at the time there was much unwarranted celebration (unemployment didn’t peak until summer 2003)."

I expect some unwarranted celebration this time too - and the unemployment rate to continue to increase.

Note: I don't have a crystal ball, but I'm not just being bearish - I called the 2nd half recovery in GDP pretty early and I've been consistently concerned about 2010.

¹GDP growth refers to the headline BEA number. That is the seasonally adjusted annualized real rate of GDP growth.

by Calculated Risk on 1/16/2010 02:24:00 PM

In a research note released last night, Goldman Sachs raised their estimate of Q4 GDP from 4.0% to 5.8%. They cautioned that the "headline will be an eye-popper", but that this growth is mostly due to inventory changes: "More than two-thirds of our estimated increase comes from a sudden stabilization in inventories". They also noted "anything between 4½% and 7% is possible given the volatility of the inventory data".

The rest of the note cautions on 2010, and Goldman still sees sluggish growth of just under 2.0% with the unemployment rate peaking in early 2011.

This is what we've been discussing - GDP boosted by inventory changes in the 2nd half of 2009, followed by sluggish growth in 2010.

San Francisco Fed President described the impact of inventory changes back in September: The Outlook for Recovery in the U.S. Economy

I expect the biggest source of expansion in the second half of this year to come from a diminished pace of inventory liquidation by manufacturers, wholesalers, and retailers. Such a pattern is typical of business cycles. Inventory investment often is the catalyst for economic recoveries. True, the boost is usually fairly short-lived, but it can be quite important in getting things going. ...

But what if this doesn't "get things going"?

When was the last time we saw 5%+ GDP growth, due mostly to inventory changes, and increasing unemployment? It was in Q1 1981.

The 1980 recession ended in Q3 1980, and inventory changes boosted Q4 GDP by 3.8%, and Q1 1981 GDP by an amazing 6.4%! However underlying demand remained weak (as defined by GDP ex-inventory changes, and PCE) as shown in the following table:

	1980-IV	1981-I	1981-II	2009-III	2009-IV1
GDP	7.6%	8.6%	-3.2%	2.2%	5.8%est
GDP ex-Inventory Changes	3.8%	2.2%	0.8%	1.5%	2.0%est
PCE	3.4%	1.5%	0.0%	2.0%	1.7%est
Change in Unemployment Rate	-0.3%	0.2%	0.1%	0.3%	0.2%

Look at the blue period, and notice the boost in GDP from inventory changes in the Q4 1980, and Q1 1981. But PCE was only 1.5% in Q1 1980, and fell to 0.0% in Q2 1980. Since there was no pickup in underlying demand, the economy slid back into recession in July 1981.

Now the causes of the current recession are very different from the early '80s, but once again we are seeing a transitory boost from inventory changes and underlying demand remains weak. With the huge overhang of existing home inventory and record rental vacancies, and the ongoing repair of household balance sheets, I expect underlying demand to remain weak in 2010.

The blip in the 2nd half from inventory changes was expected, and I expect Q4 to be the best quarter for GDP for some time.

¹ Q4 2009 is estimated. GDP is from Goldman Sachs, and ex-inventory and PCE is from my own estimate.