Points of Interest

Last week, the Fed kept rates unchanged.  On the other hand, growth in liquidity runs rampant.  How does this happen and what does this mean?  For the consumer (you and me) lines of credit, mortgages, car loans, and credit card rates stay high.  We are told high rates combat the prospects for inflation by wringing excess cash and therefore demand from the economy.  But there is plenty of cash sloshing around the economy.  What’s going on?

The growth in M2 has been accelerating of late.  Over the last quarter of 2006 it grew about 10%.  The monetary base is growing increasing the reserves in the banking system.  This growth fuels money-supply growth by allowing banks to grow their balance sheets (make more loans).  Where does it come from and how does this happen with the Fed keeping the “rate” unchanged?

The Fed supplies liquidity to the banking system through its open market operations.  These are purchases and sales to dealers (read that member banks and Wall St) of US Treasury and other debt securities.  These transactions can be permanent or on a temporary basis depending on the perception as to whether the liquidity will continue to need adjustment.  If the perception is that the need is short-lived, the transactions will be temporary and visa versa.  An outright purchase is called a coupon pass. Temporary purchases are called repurchase agreements and are far less common.

If the monetary supply is growing the Fed must be doing a lot of purchases.  But why add liquidity through coupon passes while holding the fed funds rate steady to battle inflation?  Don’t get me wrong, I believe unchecked inflation is disastrous.  But whose interests are these actions serving?  Banks?  Wall St?  Hedge funds doing the yen carry trade?  Is the Fed more concerned with its image as an inflation fighter than the state of the economy, holding rates steady and priming liquidity with its trading desk?  Or is it worried about something it’s not telling us?  Got some info, an opinion?  Let me know…

Sales of existing homes unexpectedly rose 3.9% in February.  This number reported by the National Association of Realtors is the highest since last April and may have been boosted by the warm weather earlier in the winter.  January's pace was revised downward.

The item that completes the story is inventories of unsold homes also rose 5.9%.  It is also the largest rise since April but because inventories are not seasonally adjusted, it is difficult to make comparisons.

Tony Crescenzi, chief bond market strategist for Miller Tabak & Co, and a regular contributor the RealMoney.com, suggests that we not be fooled.  "A major negative within the report is the figure on unsold homes." 

"The increase reinforces worries that increased foreclosures will result in additional supply, with creditors placing the homes on the market in an attempt to recover their investments," said Crescenzi. "In addition, the increase supports the idea that there is a large amount of 'phantom' inventory on the sidelines awaiting better market conditions."

There are differing opinions whether we have reached a bottom or not.  But this sort of data and the cries of agony from the sub prime sector are reminiscent of one.  There are deals to be had.  Now may be a good time to look if that is within the realm of possibilities.  Keep your eyes wide open and be sure you have been in touch with a mortgage counselor.  Many programs that were available as little as a few weeks ago are now obsolete.

I heard from the managing broker of a large real estate firm here in Fairfax County that as of last Friday there have been several instances of dual offers and at least one contemplating escaltion clauses.  Now, that is news.  There are buyers out there taking advantage of well priced listings.  Does this mean that it is now a seller's market?  By no means.  But, what it does mean is that attractive, well priced properties are interesting buyers that had been put on hold during the winter weather.  It may also have been the increase in temperatures last week.

No matter what, there is a market and it continues to work.  Today, in arm's length transactions, buyers and sellers are agreeing on price and terms.

Yesterday a colleague in the construction trade asked me about the various ways that a homeowner could go about financing a major addition or renovation.  And perhaps to his annoyance I said it depends.  I wasn’t being facetious nor trying to avoid an answer.  I was being true to reality:  everyone has a different set of circumstances, goals and sense of risk.  Trying to impose general rules of thumb on everyone is how people get hurt.

All too often we find instances where an answer is demanded too quickly.  We have instant messaging, instant approvals, instant quotes, rapid weight loss, breaking news, instant etc.  Have we become a society who requires answers without sound deliberation?

Financing an addition or renovation is straight forward but requires deliberation.  Some of the pertinent issues to be reviewed include:  1.) the rate and terms of any existing debt;  2.) the current value of the property and the assumed future value after completion;  3.) does the property have an existing line of credit or 2^nd trust financing?  4.) the nature and proposed cost of the addition and/or renovation;  5.) does the homeowner require low payments or fast debt reduction?  6.) what are the credit scores of the homeowners and their borrowing capabilities?  7.) and of course, what is the current market and prospects for future interest rates?

Notice that answers to some of these questions require assumptions by the homeowner.  As the answers and assumptions are discussed a direction usually becomes evident.  These possible directions will be discussed in a future column and a permanent page added to the website to address these issues.

I had to run to a bank today to pay my wife’s credit card bill.  It was the day the payment was due and we like to pay it in full.  It was somewhat complicated by the higher than normal balance. This was due to our use  when we were recently out of our country and in addition, it had a payment for propane on it.

The payment was made on time before the 2pm cut-off.  But then I wondered what would have happened if I hadn’t made it by the due date.  Checking the statement made me grateful for the timely payment – it also was an eye opener.

There is a 20 day grace period in which to pay the full balance to avoid finance charges on the balance and any other purchase made since the last closing date.  If you don’t pay the new balance in full, then finance charges accrue on a daily basis.  An amusing note is that “a credit balance is treated as a balance of zero”.  Of course, grace periods don’t apply to cash advances which immediately accrue finance charges at an APR of 23.240%.  That’s stiff!

I can’t find anything about the rate of the finance charges increasing because of a late payment until I locate the “card agreement” (not on the statement nor online).  The language is certain if not intimidating: “we may automatically increase your APRs on all balances to the Default APR, which equals the Prime Rate plus up to 23.99%” (emphasis mine).

I suppose 24% is considered usurious.  Makes me feel good that I have a home equity line of credit (HELOC) that’s at prime minus.

It seems that I can't read my email, listen to the news or read a periodical without hearing that another sub-prime lender has shut their doors.  Which may not be such a bad situation since many were practicing unscrupulous lending practices.  Anyone that suggests to loan officers that they can “get 4 points on the back end for a three year prepay” is not acting in a borrower’s best interest. That’s ugly!

The consequences will be felt far beyond the individual borrowers.  There are those who had nothing to do with originating loans and are now left without jobs.  Borrowers who had a legitimate need for a sub-prime loan must now do without.  Whoever ultimately invested in the defaulting loans will get crushed.  And unfortunately, some homeowners will default due to onerous terms.  That will affect home values for everyone.