Weekly Economic Update Sept. 5, 2007

Dear Friends–
When the going gets tough, the tough know better than to write newsletters. Nonetheless, I plunge ahead, fool that I am–and I hope that these updates help a bit to make sense of the current economic crisis. Please enjoy this week’s economic update.

30-yr Fixed-rate Mortgage 6.98%

15-yr Fixed-rate Mortgage 6.65%

1-yr ARM 6.44%

[HSH average rates: 30-yr up 1 bp, 15-yr up 2 bps; ARM up 11  bps]

Weekly Commentary

Thumbnail Sketch: Few positive signs for real estate. Construction spending was up 0.4% in July, but private residence construction spending was down by 0.7%.

What we have is a very quiet, but rather negative, flow of real estate economic indicators. Indicators in other areas, however, are quite good.

This creates an anomaly. How bad can it get in the real estate sector while things continue to look rather good in other sectors of the economy? Observing this, James Grant recalled, “Benjamin Graham and David L. Dodd, in the 1940 edition of their seminal volume ‘Security Analysis,’ held that the acid test of a bond or a mortgage issuer is its ability to discharge its financial obligations ‘under conditions of depression rather than prosperity.’ Today’s mortgage market can’t seem to weather prosperity.”

The disconnect between mortgage market—or, more to the point, the entire credit/debt market—and the rest of the economy, though, is probably quite important. It is as if a couple million people jumped into the deep end of the pool, thinking they could easily keep their heads above water as the day passed…and then the level of the water rose abruptly, leaving them treading water as best they could. Perhaps the rest of the economy, though, remembered its life vests.

It is this observer’s increasingly firm suspicion that the world’s debt problem (for that is now what it is) will not let go of the economy for quite some time. We won’t be able to sweep it under the carpet with the broom of rising home values. We won’t be able to continue attracting adequate investment funds to investments whose quality and value are impossible to verify.

We will therefore have to determine how large the problem is, where it is, how much each Collateralized Debt Obligation, each hedge fund, each mortgage-backed security is worth. And we will need to devise standards and methods that create a transparency, allowing us to look at the entire paper trail for even a “tranch” that has been placed in a hedge fund. We can no longer rely on computer models. Garbage in, garbage out.

Until that is done, the economy will have a dark cloud hovering over it, and the real estate market won’t bear a very good reputation, even if it is, at bottom, simply the purchase and sale of homes to live in and rent out. And that’s the point The real estate business doesn’t have to be anything but simple. Return to that fact, and the market will almost certainly return to gradual growth and continually increasing prosperity.


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