From Volume 5, Issue Number 52 of EIR Online, Published Dec. 26, 2006

U.S. Economic/Financial News

Economist Warns of Impact of U.S. Housing Bubble Blowout

In an interview with the Germany daily Frankfurter Allgemeine Zeitung published Dec. 19, Morgan Stanley's chief economist Stephen Roach recalled the bursting of the IT bubble in 2000, which wiped out 50% of the profits of the U.S. 500 leading companies. Roach underlines that the U.S. stands only at the "beginning" of the bursting real estate bubble, which he says, will have a major effect on the U.S. construction sector, the furniture industry, household machine production, mortgage financing, and realty companies. The effects of the crisis in the U.S. will be particularly felt in Asia and Europe.

2.2 Million Families Facing Foreclosure

In a Dec. 19 report that still understates the damage to be wrought by the popping of the Greenspan housing bubble, the Center for Responsible Lending (CRL) forecasts:

"As this year ends, 2.2 million households in the subprime market either have lost their homes to foreclosure, or hold subprime mortgages that will fail over the next several years." The study also shows that the worst failure rates (21-24%) will occur in the states which experienced the highest rates of appreciation, such as California, New York, Maryland, and Virginia.

A humanitarian disaster, "worse than Katrina" in the words of one speaker on a Dec. 20 telephone conference call about the new report, is about to hit.

Subprime loans, primarily made to black and Hispanic buyers, made up nearly one quarter (in dollar value) of all mortgages originated this year. The majority of these loans are not for an initial home purchase, but for a refinancing of a mortgage already gone bad. Prior to the recent housing market crash, many subprime borrowers were able to hang on by refinancing on the basis of appreciating equity paying their loans "in distress." With the general collapse in real estate values, many of these will now go into default.

But even without the collapse in values, the subprime market was designed with a built-in time bomb. In testimony to the Senate Banking Committee in September, Michael Calhoun, the President of the CRL, showed an example of the most typical subprime loan, known as a 2/28, with an "exploding ARM" (adjustable rate mortgage). Buyers can qualify for this type of loan if the original ("teaser") monthly payment is not higher than 61% of their after-tax income. At the end of two years, even without a rise in interest rates, the payment will typically rise to 96% of the purchasers monthly income! No wonder then, that the study conservatively forecasts that one-third of families who received a subprime loan in 2005 and 2006 will ultimately lose their homes!

The collapse of this market is already creating anger in the black and Hispanic community which was sucker-punched into the scam. A reporter from a Hispanic news service asked on the teleconference: "Will you now go back to those minority organizations who were told 'Hey, it's great to buy homes,' and take responsibility for what's happened?"

Millions of higher-income families who qualified for standard mortgage financing will soon also be facing catastrophe, as the collapse of housing values puts them into what the President of the National Association of Realtors called an "upside down" (negative equity) position.

New-Housing Market Keeps Tumbling

November housing permits were down 31% form November 2005, and year-to-date housing permits are down 14%, the Commerce Department reported on Dec. 19. November housing starts are down 25% from November 2005, while year-to-date housing starts are down 12.5%. November housing completions are essentially flat, but year-to-date housing completions are 3.1% above 2005 to this point.

Foreclosures Jump at 'Ground Zero' of the Housing Bubble

In the third quarter of 2006, 125 Loudoun County, Virginia property owners were forced into the foreclosure process, a dramatic increase over the first quarter of 2005, when there were only two, according to California-based firm RealtyTrac, in large part, due to rising interest rates on adjustable-rate mortgages. Seeking to avoid a "foreclosure tsunami," mortgage companies are offering more traditional loans with additional incentives to bring in new home buyers, as many homeowners are unable to sell their properties otherwise. According to a home mortgage consultant in Leesburg, especially hard-hit by the housing market collapse are homeowners using the "minimum payment" option, which could lead to having negative equity—owing more than the original mortgage.

Sub-Prime Mortgage-Backed Securities Fall

The Financial Times reported on Dec. 22 that 100 major issues of sub-prime mortgage-backed securities have been downgraded in the past six weeks by the Fitch ratings agency alone, and that investment banks are also taking losses in these markets. "Subprime mortgages have been big business for investment banks," says the FT, and $500 billion of securities based upon those mortgages—which have shown a 50% increase in serious delinquencies and defaults since June—have been issued in the United States in 2006.

Hedge Funds Fight Over Control of Delphi

Delphi's No. 2 shareholder, Highland Capital Management, has proposed a takeover-investment of $4.7 billion for Delphi. This announcement came just two days after Cerberus offered Delphi $3.4 billion. Highland sent a letter to the shareholders stating that theirs is a superior offer. These firms are betting they can profit by buying Delphi cheap and cutting costs.

The International Union of Electrical Workers has asked the bankruptcy judge to block the proposed $3.4 billion deal between Delphi and Cerberus. The DUE is saying that Cerberus has not announced its plans regarding the company to the unions.

The bankruptcy judge is to review the offers on Jan. 5, 2007.

Private Equity Funds Target Auto-Parts Makers

The Dec. 21 Wall Street Journal details how New York-based KPS Special Situation Funds and other private equity funds are circling the auto-parts industry like vultures. The Journal highlights KPS and how it has turned a big profit out of a collapsing auto-parts maker named Jernberg Industries in Illinois, that once made metal stampings for the big three auto makers. After KPS took over the company, it fired the upper management, and pressured the management to lay off or fire 125 employees out of the 700 employees they had before the takeover. KPS also shortened the work week and cut overtime pay. One of the founders of KPS is Eugene Keilen who was a restructuring banker at Lazard Ltd., where he advised steel companies and the union at United Airlines. The article offers this takeover as a model for how private equity funds should "turn around" the auto parts industry.

Hunger Continues To Rise in Most Major Cities

The U.S. Conference of Mayors (USCM) and Sodexho, Inc., released their 2006 Hunger and Homelessness Survey on Dec. 14. "This survey represents real people with real needs in cities all across our nation," insisted USCM president, Trenton, New Jersey Mayor Douglas Palmer. "The results of this report shed light on a very real challenge facing this nation," asserted Des Moines, Iowa Mayor T.M. Franklin Cownie, co-chair of the UCSM task force on hunger and homelessness.

Among the findings of the survey of 23 major metropolitan areas:

* Overall requests for emergency food assistance increased by an average of 7% compared to a year ago, with 74% of the cities surveyed recording an increase. Moreover, all of the cities reported that families and individuals relied on emergency food assistance facilities both in emergencies and as a steady source of food over long periods of time. The largest increases were in Phoenix, Los Angeles, and Philadelphia.

* On average, 23% of the requests for emergency food assistance went unmet during the last year. In 26% of the cities, facilities had to turn away people in need due to lack of resources.

* Some 37% of the adults requesting food assistance were employed.

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