Inflation fears torpedo stocks ... plus, Fannie
Mae's $9 billion bomb
Martin Weiss
The big news of the day for traders and investors was the inflation report
from the Department of Labor. They didn't like what they heard.
Don't eat ... don't drive. Wholesale prices jumped much
more than expected last month. The Producer Price Index, or PPI, surged
by 1.7% in October ó the biggest increase in 14 years. Wall Street was
expecting a 0.6% increase. Of course, Wall Street tried to downplay the
big increase by telling everybody to focus on the "core" rate, which
only rose by 0.3%. I guess that as long as you don't eat or drive a car,
inflation isn't a problem. By the way, PPI is now up 4.4% in the past
12 months. And I think that number grossly underestimates the true inflation
rate.
Supply problems keeping gas prices high. You don't have
to be a genius to know that rising oil prices were the major culprit
behind the jump in PPI. I've said many times that I expect oil prices
to stay high and ultimately go higher. The reason is that global demand
keeps rising. It also doesn't help that supply problems ó like the lack
of refining capacity ó continue to plague the world.
But there are other supply problems ... like terrorists. Iraqi saboteurs bombed
an oil pipeline in Northern Iraq in the middle of the night. The result was a
huge inferno, but Iraqi firefighters stayed far, far away because of threats
of repercussions. Attacks on pipelines, wells, and pumping stations are common.
On Sunday, four oil wells in the al-Khabbaza oilfield near Kirkuk were bombed.
The big story is ignored. What made the least sense to me today
is that Wall Street essentially ignored what should have been the biggest story
of the day: Fannie Mae's ongoing accounting woes.
One of the key drivers behind the real estate boom has been the easy availability
of mortgages. I give credit to Fannie Mae for making it possible for millions
of Americans to grab their piece of the American dream. The genius move that
Fannie Mae made was to standardize the mortgage underwriting process and make
it possible to "securitize" the mortgage market. The creation of a vibrant, active,
healthy mortgage market is directly responsible for making home ownership easier
and driving mortgage rates down. Without question, Fannie Mae is the engine of
the housing market.
Fannie Mae is sitting on roughly $1 trillion of assets (primarily mortgages)
and $1 trillion of derivatives. To put those amounts into perspective that is
equivalent to about 20% of out nation's total GDP. If Fannie Mae stumbles, the
repercussions could be very painful. Well ... Fannie Mae is about to take a big,
big fall.
Fannie Mae disclosed today that it will not file its third quarter results with
the Securities and Exchange Commission on time and admitted that it may have
to take a staggering $9 BILLION charge against earnings because of questionable
accounting practices.
The potential bomb is that this $9 billion hit would take Fannie Mae's capital
down to around $30 billion ó far short of the $41 billion it is required to carry.
Fannie Mae is facing a very real possibility of becoming insolvent.
But it gets worse.
Yesterday, I wrote about our bulging trade deficit. What do you think foreign
governments do with all those dollars we give them in exchange for VCRs, cell
phones, oil, Toyotas, and gouda cheese? They've got to do something with those
dollars.
What they do is buy U.S. stocks and U.S. bonds, particularly U.S. Treasury and
agency bonds. The last figures I saw showed that foreign central banks owned
about $244 billion of them.
Put yourself in the shoes of the European Central Bank. You've seen the Fed raise
interest rates four times in a row and eroded the value of your fixed rate bonds
and the U.S. dollar has fallen to new lows against the euro and you've gotten
clobbered on the currency translation. Worse yet, our Congress is running record
deficits and hasn't shown any inclination to do anything about it.
And now this Fannie Mae disaster comes out. What would you do? Would you keep
your Fannie Mae bonds and keep buying more of them? Would you keep the Fannie
Mae bonds you already have but not buy any new ones? Or would you start dumping
Fannie Mae bonds as fast as you could?
You can bet there is a lot of political pressure going on behind the scenes,
but if I was a foreign central banker, I would liquidate my Fannie Mae holdings
as fast as I could without disrupting the market.
But I don't see how the selling of Fannie Mae paper will be anything but disruptive.
Massively disruptive. I can't tell you how this Fannie Mae story will end or
what the ultimate outcome will be, but I can tell you that it has the potential
to bring the bond, stock, and real estate market to its knees. |
