Tuesday, September 30, 2008

Now What?

Dear Friends,

Today's post sets a new record for me - three days in a row you have chosen to look at what some retired Colonel has to say about the world of arcane financial jibberish.

I believe it was Thomas Jefferson who once said, "No man or his property are safe while the legislature is in session."  Yesterday was a really good example of the truth of TJ's statement.

 By 23 votes, the House voted down the Emergency Economic Stabilization Act of 2008, meaning that we get to start all over again to save the economy.  Those 23 votes sent the markets into a 777 point tailspin, and $1.2 Trillion dollars of wealth was wiped out on Wall Street.

I know these big numbers are hard to grasp, but one trillion is a million millions.  Our entire annual economy is only 13 trillion.  Eliminating $1.2 trillion dollars worth of wealth in one day may not immediately affect you, but for those Americans now living off their hard earned retirement savings, the losses to their 401k's and IRA's, the continuing fall in the value of their homes, their inability to get a new loan to buy a downsized place , the lack of buyers to take their old, too large, home off their hands - all of these things are not paper losses. 

For those of you who see more homes for sale in your neighborhood, some from foreclosures, the value of your homes will soon decline even faster.  Smart homeowner's associations will have to start hiring landscape firms to keep neighborhoods from going to seed. 

For the small business who, for cash flow smoothing purposes, borrows regularly to make payroll or to purchase inventory, the growing inability to get credit at any reasonable rate may require them to close shop.

For those who would like a car loan or to increase a student loan, the ability to borrow is rapidly drying up.

No, the sky is not falling.  But the failure of the credit markets is not just a Wall Street problem.  It will affect all of us, some sooner than others, but ALL eventually.  One  retiree of whom I read said that the 30% loss in his IRA's over the last two months means that he will now have to plan for he and his wife to live for a 30% shorter period...

Another of my USMA classmates who is financially saavy  was spot on when he said, "If the die-hard liberals continue to stress Main Street and the die-hard conservatives continue to stress Wall Street, the result will be all of us heading down Die Hard Street."

Today's market has come back a bit, but on very thin volume.  Thank God for Rosh Hashanah, the Jewish New Year, which has given the Congress a chance to rethink their Monday vote and the markets to take a deep breath. 

I have told my family that today, tomorrow and early Thursday will be great times to buy those stocks and funds that they have been considering.  Once the Congress comes back to actually do their job, instead of pointing fingers and pontificating, the markets should show substantial increases and the "bottom fishing" opportunities will be over.  Whatever they do, I advised, DON'T SELL LOW now and then BUY HIGH later, paying brokerage fees on both ends.

Some who have read my earlier post have asked why we have to spend $700 Billion all at once.
We don't.  In fact, the plan before the House would have given the SECTREAS $350 billion to start buying the toxic securities immediately in order to get them out of the Credit Markets.  The President could then authorize another $100 billion, if he saw the need.  The final $350 billion would be authorized only if the Congress did not object after 15 days of the request.

What we most certainly DO NOT WANT is the Congress approving the spending of each dollar of this fund.  Talk about special interests and pork?  That would be a herd of gargantuan hogs!  

These buy backs will take some time, since all financial institutions cannot be done at once, prices have to be determined, perhaps a reverse auction held, and conditions of the buy backs, such as the issuance of non-voting stock to the government, have to be negotiated.

Once the Feds own the toxic securities, the government will still get the income stream from the mortgages that are being paid regularly and the value of the securities may rise over time, perhaps even making a profit for all of us to use in reducing the deficit.  Major point is that, although we have to pony up $700 Billion at the start, this program almost certainly will not cost that much once completed. 

How about oversight?  The original Paulson Plan tried to minimize it, but Paulson is an economic animal, not a political one.  The Congress was not about to give anybody that kind of money and authority without their management in some form. The final bill which was defeated had SIX INDEPENDENT oversight entities or processes to ensure the taxpayers were protected:

1. An independent oversight board appointed by bi-partisan Congressional leaders.
2. An independent inspector general to oversee solely this Treasury function.
3. The GAO to set up an office inside the Treasury just to monitor and audit this program.
4.  SECTREAS actions will be subject to judicial review.
5.  Any and all Treasury bailout transactions must be disclosed to the public within two days.
6.  Monthly reports to two Congressional committees and an additional report for each $50            Billion in assets purchased.

To my mind, not even a brilliant ex-Chairman of Goldman Sachs could pull unethical tricks with such supervision.  Yet, thankfully, the Congress was smart enough to keep themselves out of the daily details.

There were also provisions to "punish" those greedy Wall Street executives, with options for the government to own non-voting stock, requirements for firms to pay into an insurance program for earlier purchases of mortgage-backed securities, elimination of "golden parachutes" for those executives who wish to depart rather than cooperate, and bonus payback penalties for those whose bonuses were based upon results which turned out to be bogus.  There were no provisions to "punish" those lawmakers who created these "sub-prime mortgages for everyone" programs.  Hopefully, someday they will answer at the ballot box.

Finally, there were provisions in the bill to help homeowners avoid foreclosure, help local community banks, give taxpayers an ownership stake in those firms being bailed out, and putting taxpayers first in line for the remaining assets of any participating firms that go belly up. 

But the bill failed by 23 votes.  When Congress comes back on Thursday, this problem will still be with us.  It will still be very serious.  As time passes the effects on both the credit market and the stock market will grow progressively worse and at alarming speed.

We need leaders and followers in Congress who will have the courage to apply First Aid.

Stop the bleeding, clear the airway, treat for shock!

The BLEEDING is the continual bickering and finger pointing between the "wing nuts" on both sides of the aisle.  They weren't elected to simply vote their email totals.  They were also elected to use their judgment on difficult and complex issues.

The AIRWAY is the constipation we have so graphically described earlier (and which many of you loved for its clarity...)  Cleanse the credit markets and the financial system of the toxic waste of mortgage backed securities...  And for those who asked that "some strings be attached to the enema to keep it from becoming diarrhea,"  there are plenty of strings in place as outlined above.

Fast, comprehensive and effective elimination of the blockages to the airway (or any other tubing in the body) will immediately treat the financial  and credit markets for SHOCK.  Lenders, borrowers, buyers and sellers will once again be able to value the financial instruments and corporate entities in which they are interested. 

The world will still be imperfect.  But there will be time to relook our regulation of the markets and to rethink some of our "social engineering" run amuk.  But we won't have done the very worst thing ------ nothing.  

Call your Congresscritter and tell him Kernal Ken sent you.  We only need 12 of those 23 votes to get this train back on the tracks...

Sunday, September 28, 2008

For Sparcam, other Lurkers, and Friends,

Several times over the past week I have been asked to explain the financial mess we are currently in, given my past experience on Wall Street.  Here is my attempt to make it as simple as I can, not to talk down to you, but to recognize that much of what you hear on TV either makes no sense, is hopelessly filled with Wall Steet jargon, or has a distinct political bias to it.

First, this problem is very serious.  The US economy does not run on cash; it runs on credit.  Our annual Gross Domestic Product is over $13 Trillion (the value of all goods and services produced by the economy); the amount of cash and checking accounts funding that is only about $1.5 Trillion.

The difference is made up by banks lending to each other, lending to small businesses to make payroll and to farmers to buy seed and rent equipment, you and I willing to lend money to corporations in terms of buying bonds or buying into those corporations by purchasing their stock, etc.  In other words, the free flow of credit is the backbone of our economy.

But, in order for the credit markets to work, the lender must be able to value the collateral put up by the borrower.  That's where the now-famous sub-prime mortgages enter the picture - they cannot currently be valued by the market.  How did this happen?

In 1977, the Carter Administration proposed the Community Reinvestment Act which became law.  The purpose of the law was to get banks to make more loans to those on the lower end of the financial spectrum so that they too could enjoy the American Dream.  Banks were pressured to create easier loans for those otherwise unqualified to get them.  The old notions of 20% down, not more than 25% of  your income going to housing, a sterling credit record, and even proof of income, employment and current low debt all started disappearing from the normal demands of mortgage lenders.

In 1993, the Clinton Administration wanted even more such loans to be issued, many with adjustable rates, interest only payments, other gimmicks and expectations of easy refinancing.  Attoney General Janet Reno actually went on record threatening banks who declined to increase their portfolios of risky loans with refusals to allow mergers, increased regulation and DOJ investigations.  One can only presume that the Democrats were especially interested in these loans because they were going to likely Democratic voters, including a large number of illegal immigrants.

In 1995, Republicans in Congress, to include John McCain,  saw a danger in this lending process and proposed much more stringent regulation of banks lending practices.  The bill never got out of committee, with complete Democratic opposition which they said, "would dry up affordable housing opportunities for millions of Americans."

To address the banks' growing concerns of the risk of the assets they held, Fannie Mae and Freddy Mac agreed to buy up their sub-prime mortgages.  The more mortgages held by these Government Sponsored Enterprises (GSE) the more their profits - and bigger their bonuses.

The GSE's then "sliced and diced" these mortgages into a "fruit salad" of many mortgages and sold the salad packages as securities known as"Collateralized Debt Obligations" (CDO's).  Those mortgage backed securities were bought in great quantities by pension funds, investment banks, commercial banks, foreign governments, and mutual funds, to name but a few investors.  In each CDO there were good mortgages, mediocre mortgages and some real rotten ones, but - these were all backed by Freddy and Fannie, so the US Government stood behind them, right?  Wrong.

The GSE's were chartered by Congress to provide mortgage lending, but their products were never insured by the "full faith and credit of the US", such as are Treasury bonds.

But home builders loved the program as much as the GSE's and Democrats.  Everyone could now afford a home, even if they couldn't...  And home prices were rising every year, so many looked upon house buying not just as a place to live, but as a quick road to easy riches.  This led builders to build as fast as they could to take advantage of increased demand and higher prices.

This is now known as "the housing bubble."  Soon, supply of homes exceeded demand, home prices began to fall and adjustable rate mortgages started adjusting.  Many of those less affluent folks who had been talked into buying much more home than they could actually afford discovered that the value of their home had suddenly dropped below the amount of their mortgage.  They were now "upside down" and defaulted on their loans.

The CDO securities spread throughout the economy were now deemed "toxic."  The value of those fruit salad securities, the collateral which many put up to secure new lending, could no longer be valued.  Credit began to dry up and the economy would soon grind to a halt unless those securities were removed from the system.

To think of it in simplest and gross terms, the lending markets became constipated and needed an enema fast, before the whole body shut down.  Enter "The Loan Arranger", Hank Paulson, SEC TREAS, and his sidekick, Ben Tonto Bernanke, FED Chairman,  with a proposal to have the Government buy up all the suspect CDO's to clear the system of that which could not be valued, then hold onto most of them, believing that most owners would continue to pay their mortgages, and the Government may eventually make most of its CDO outlay back.

But $700 BILLION isn't chump change, so the Congress has now jumped into the act to propose giving the Treasury one Milk of Magnesia tablet at a time, holding continuous hearings on how the credit market patient is doing, and claiming that they are watching out for the American taxpayer.

Problem is, if the credit markets don't get rid of the toxic mortgage CDO's quickly, then the markets will continue to parcel out needed continuous credit in little packets, a sure recipe for rapid economic slowdown, increased unemployment, further devaluation of the US dollar and lack of confidence that the US Government has the courage to take strong and immediate action.  What is need is a "high colonic enema," not Congressionally administered Milk of Mag tablets one small dollar amount at a time.

So, was this all about greed?  To a degree.  There were the "needy greedy" who wanted more home than they could afford and wanted it now.  There were the "politically greedy" who saw the chance to create a new government prograsm which would buy them votes and make the government more responsible for everything.  There were the " lending greedy" whose purchase of suspect mortgages created more volume for them and bigger paychecks.  There were the "building greedy" who slapped up houses like crazy and loved the increased demand and easy mortgages which made them rich.  And there were the "Wall Street greedy" who trafficked in CDO's and even built "insurance derivatives" called "Credit Default Swaps" which were designed to insure investors against their CDO's going bad by swapping out part of their portfolio risk for other risks in different investment areas - all for a hefty price, of course.  These were the demise of AIG, the world's largest insurance company.

So, there you have it.  It's a big problem requiring a big solution, not tentative measures.  But, knowing our Congress, they will never take any of the blame for the "failed social engineering" of the "affordable housing laws."  Instead, they will administer small doses of medicine and wonder why the patient isn't getting better.  And, of course, they will point their fingers at anyone except in the mirror.

Hope this makes some sense out of what is a very complex subject...

Saturday, September 27, 2008

The Back Country

Hi all,

I guess the title should actually be "Back From the Country."

The Queen and I recently travelled to Music City for a chance to visit with our friends Dan and Sandy McG.as well as to accomplish one of my cancer goals, to make it to the annual mini-reunion of the West Point Class of 1966.  For those possibly not "in the know," Music City is sometimes known as Nashville.

First good deal of the trip was that we got to try out my new Acura TL on the highways of America.  It got 30 miles to the gallon and accelerates like crazy compared to the Honda Accords that I have been driving for the last ten years.  A very comfortable, quiet ride with all sorts of extra technology such as hands free devices and XM Satellite Radio, a trip computer, tire pressure indicators and a whole lot more.  It was my birthday present.

Second good deal was to stay in Castle McG (last name omitted in honor of the Anderson Zoo who always reminds us about Personal Security).  Theirs is a truly beautiful home of over 9000 square feet, four garages, two full kitchens, a theater, a wine cellar, an elevator and rooms/baths to house the better part of an Army battalion.  Staying with them was like visiting with the real Queen in Windsor Castle.

Next treat was to reach my goal of hanging with my classmates around some great food and music as well as on the golf course.  My two best friends from West Point, Jim D. and Mike F., made it to this reunion, both saying that they wanted to see how I was doing. Mike brought his wife, Mary, shown with the Queen below, while Jim's wife, Jeanette, an ordained minister, had other obligations and couldn't join us.  Jim is the CEO of Action Ministries while Mike is the retired CEO of Sprint Local.

Golf with Dan was at the very exclusive Governor's Club, while Reunion golf was on a Tom Fazio course as well as a  Jack Nicklaus signature course.  All three places were what we golfers call "superb tracks."  My golf game was less so, but I can still hit the ball, something that was in serious doubt before my neck surgery.

My classmates who set this reunion up did a wonderful job, renting the entire Country Music Hall of Fame for a catered dinner, getting a top Nashville song writer and background player for our entertainment and even a private concert by Vince Gill.  We didn't pay all the freight for a lot of this, and the generosity of our local classmates underwrote much of the golf and entertainment expenses.  These guys are Great Americans!

Sorry I've been absent for a while, but thought you might like to know where I've been.
High ground indeed!  Thanks for your prayers and support.

Friday, September 5, 2008

One Year Closer To The Grave, Think Of All The Food We'll Save!

(I'll leave it up to you to explain to your dear readers about this title.)

Dear Daddy,

Hey there big guy! There are so many things I love about you, that I could start my own little blog about it called:

"My Dad Is Above Average In More Than Five Billion Ways".

You and I would enjoy that, but other people might tire of me telling you how truly fabulous you are day in and day out. So instead of doing that, I'm hacking into your blog to tell you just a few things I love about you, with supporting photographic evidence. (If you read this every day, it will be like I'd done that blog thing I mentioned above.)

Aren't you ADORABLE in this little jumpsuit snuggled up next to your mom?! What a good boy you were for staying right by her for the picture and letting her protect you from falling with her arm. You have protected me my entire life in various ways, and for that, I love you.

Hey there Lady Killer! Even though you look super serious in this picture, I am imagining that your hand we can't see is pinching this nice girl in the tush to get her to smile. (You would NEVER . . . ) My point is, I just love your wacky sense of humor! I love how we'll all hang on the edge of our seats to hear you deliver the punch line of a joke - even when it's no good - because you're so good at it. You make me laugh and sometimes that is just what I need.

I see in this young (handsome!) cadet, the face of a man who is dedicated to serving his country and fellowmen and who isn't afraid to work hard to reach a goal. You have given me a great pride in our country, our Armed Forces and the military heritage that is a part of our family as well as taught me the value of work and I love you for that, too.
I love the smile you wear in this picture. It makes me think of your friendly, outgoing nature. This is the look I love to see on your face. This is the smile you have when we talk with one another and share stories and it makes me feel so loved because I know you are listening.

Here you are with my beautiful mom. When I saw this picture again, I cried, because it reminded me of you suffering through something really hard. And even though I hated every minute of it, I can see now that it has made us closer. I have a new and greater respect for you and I love you even more after it than I did before.

So, dearest Daddy, I just wanted to wish you the happiest of birthdays and tell you how very grateful I am to have had yet another year with you. And I need to let you know I am counting on many, many more.