FedUpUSA

Archive for May 15th, 2010

Solving the massive debt problem with more debt. American consumers carry as much debt as annual U.S. GDP. Credit card debt declines but auto loans and student loans go up?

Posted by mybudget360

The Federal Reserve has come to the aid of bailing out Greece.  I wonder how many Americans even know that billions of U.S. dollars are going to prop up a failing European country in Greece that got into the mess they are in because of too much debt.  In the end, the Euro is still crashing down because Greece is merely one country out of many with massive debt problems.  Middle class Americans don’t need an extensive lesson in economics to understand this.  If you take on too much debt, at a certain point you will end up paying the piper.  This doesn’t matter if you spend too much money on clothing by charging up your credit card or buying a home that you clearly couldn’t afford.  In the end, a bill comes due.  Unlike Wall Street who operates the Washington D.C. purse strings, you are small enough to fail in their eyes.  If you purchase a home that is too expensive, you will either have to pay the mortgage or end up in foreclosure.  Giant amounts of debt have ruined individuals as well as countries.

The trend of taking on too much debt has been going on for over half a century:

And you will notice that we have reached a point of too much debt in this recession.  This is actually a historical event.  Americans are on the hook for as much household debt as our annual GDP.  U.S. households currently carry $13.5 trillion in household debt.  Most of this is connected to mortgage debt.  Yet with 7 million households in foreclosure or 30+ days late, you have to ask if this debt is really even worth that much?  It actually isn’t.  One third of U.S mortgage holders are underwater on their mortgage.  So banks might be pretending that the mortgages are worth $10.2 trillion when in reality, the actual market values of the homes are closer to $8 trillion.  The only way this gets balanced out is through purging of debt through foreclosure or bankruptcies (including purging the too big to fail banks on Wall Street).  Yet banks have no incentive to mark to market any item when they can keep getting taxpayer money to fund their gambling on Wall Street.

If you break down the above household debt, it looks like this:

Home mortgages:                           $10.26 trillion

Consumer debt:                               $2.481 trillion

The consumer debt amount is incredibly problematic because this is money many Americans never had in the first place.  Think of someone making $40,000 a year with no money saved purchasing the average new car costing $25,000.  They didn’t really “purchase” it but financed the entire amount.  So for the next 5, 6, or 7 years they have committed approximately $400 per month to finance this car (we’ll use 6 years at 5%).  This is a large portion of their income:

The person just committed 16 percent of their net pay for the next few years.  This is money they never had.  Now with a stable economy, it is likely that the full loan would be paid back.  Not in a recession as deep as this one.  And during the crazy credit bubble people were able to take on incredible amounts of credit card debt with no actual verification of income.  During the boom, there were people claiming that everyone paid off their credit card off each month.  The facts showed otherwise:

We were on path to having $1 trillion in outstanding credit card debt.  That is $1 trillion that Americans spent with money they had yet to earn.  Banks were willing to lend this out because if all failed, they could call on their plutocrats to bail them out while middle class Americans were left paying bills and facing higher taxes and the prospect of inflation because of the monetization of banking debt.  This is why in recent polls and surveys Americans are increasing disenfranchised with both Republicans and Democrats alike.  Banks purchase air-time with both political parties because like the stock market, they hedge their bets in order to win even if their actions destroy the real economy.

Even though credit card debt has shrunk, people are getting deeper into debt with auto and student loans:

“WASHINGTON (MarketWatch) – U.S. consumers increased their debt in March for the second month in the past three, the Federal Reserve reported Friday. Total seasonally adjusted consumer debt rose $1.95 billion, or at about a 1.0% annual rate, in March to $2.451 trillion. The increase was unexpected. Economists surveyed by MarketWatch expected consumer credit to decline by $4.5 billion in March. On a year-on-year basis, consumer credit is down 3.4%. The increase in January was led by non-revolving debt, such as auto loans, personal loans and student loans, which rose $5.1 billion or 3.9%. Credit-card debt fell $3.2 billion, or 4.5%, to $852.6 billion. This is the record 18h straight monthly drop in credit card debt. Since the collapse of Lehman Brothers in September 2008, credit card debt is down 12.6%, while nonrevolving debt is down 0.3%.”

The student loan market has now become another subprime loan market.  Many for-profit colleges allow students to finance 90+ percent of their education through federal loans and many students come out with worthless degrees.  These for-profit schools market and advertise heavily in lower income areas where unemployment is high and promise the world if you go to their schools.  Students come out with $20,000 to $50,000 in debt and a degree that has no market value.  The schools don’t care because now the government is on the hook for the loans.  Does this sound familiar?  Do you notice how no other country has such a gigantic student loan market like the U.S.?  Now we have millions of students jumping into massive student loan debt that many will be unable to pay. Frontline on PBS estimated that nearly 40 to 50 percent of for-profit student loans end up in default (if you measure defaults accurately).  Ironically this figure is edging up to the default rates of subprime loans in the housing market.

Debt has been the engine of growth in the last decade.  The fact that credit card debt has been contracting fiercely since the recession started is good.  What isn’t good is banks used the pretense for the bailouts that they needed extra money to keep lending to Americans.  This has not happened.  In fact, banks are sitting on large chunks of that money:

Now why would banks sit on over $1 trillion in excess reserves?  Because they know what they have on their balance sheet.  And more trouble is down the road.  Why would they lend to a middle class America with less money when they can gamble on the stock market and make bigger profits in one quarter?  Debt access for middle class Americans has become restricted but debt access to Wall Street is alive and kicking.  And the amount of debt in the U.S. is stunning:

Corporate debt:                                                               $7.2 trillion

State and local governments:                                    $2.3 trillion

Federal government:                                                     $7.8 trillion

Even though it isn’t openly stated, we are trying to solve a problem of too much debt with more debt.  How is that working out for Europe?

The Euro has fallen 20% in five months even after they announced a $1 trillion bailout.  We all know that more debt is never the answer to a problem that started out with too much debt.

Ten Things For 2010

Posted by Karl Denninger

Following-up and expanding on my previous “Ten Things” Ticker

First, go read the original again.

Now consider what Greece was subjected to the risk of.  Specifically:

The risk of a “sudden stop” event where the bond market tells the government to “piss off” has never been higher.  A ratcheting up of the yield curve, when the average maturation of government debt is now just under 4 years, could easily double interest expense in the budget.  This would put the government in a nasty box: either curtail spending by twice that much (that is, roughly $800 billion) immediately or the addition to the deficit could force another ratchet higher in yield.  This is a “death spiral” that can happen with amazing speed.  If it does, everything you think the government should provide will disappear and asset prices – all of them – will collapse along with the economy.

You saw the preview in Greece where exactly what I said could happen did.

Yes, I know they got “bailed out.”  Or did they?  Where’s the money going to come from?  We now know that there was plenty of threat-mongering involved (gee, this is a surprise after what we saw here with TARP?)

Yes, I expected the game to end in 2009.  I did not believe that our government could sell a net $1.5 trillion of new issuance (debt) for more than a year or so, nor could they roll over some $600 billion every month to keep the Ponzi going for long.  They got away with it for two years, one more than I thought they would, but now cracks are appearing in this facade globally, not just here in the US.

The “powers that be” have done a fine job of trying to give the appearance of solvency.  But you can’t create solvency where it doesn’t exist, and appearances don’t last forever.  We are now in the phase of this mess where recognition of the Ponziconomy of the 2000s is showing up not in bank stocks (bad) but in nations (ruinous.)

So with that behind us, let’s update for 2010:

CNBS and other “media moguls” will not tell you the truth.  They didn’t in the “flash crash” of last Thursday and they won’t next time.  Remember that CNBS was running with a “fat finger” explanation for the collapse within minutes of the market stabilizing.  That was utter and complete crap and anyone watching the markets knew it.  I knew what happened immediately, and so did they.  Listen to those who refuse to report the facts as they occur at your peril.

If you’re not out of debt by now, you’re about out of time.  No, it is not a good time to buy a new car.  No, it is not a good time to buy a new house (or an old house!)   It is an especially bad time to crank up the credit cards.  The illusion you have been given by the media and banksters that “all is well” is exactly what a shark would want as he entices you into the water after eating two of your best friends!  I have warned for more than three years now to get out and stay out of debt, especially unsecured debt.

If you’re a youngster graduating from high school or in college, do not, under any circumstance, take debt to continue your education.  The collapse in the Ponziconomy for education has barely begun.  But it will come and with it will come severe devaluation of your college education and tuition.  If this means you have to go to a cheaper college or work while attending, then do so.  Perform a strict cost:benefit analysis of your educational expenses .vs. expected earnings improvement .vs. a different career path.  If it does not pencil out where you can recover the entire booked expense of college within 5-10 years, don’t do it!  Why 10 years at the outside?  Because you must build in a risk premia and this is the easiest way to do so.  Remember that the years you put into education are years you can’t put into becoming entirely self-sufficient.  If you bypass an economic downturn and come out the other side when the economy is recovering, you win.  But if you come out of college with $40, 50 or $100,000+ in debt and can’t get a job at anything close to enough to make the payments and remain solvent you are screwed.  Further, be aware that student loans are the most-toxic debt of all, as they cannot be discharged in bankruptcy and as such the arrears of interest will be capitalized if you default, meaning the PRINCIPAL will grow without boundary, they WILL garnish your wages, intercept tax refunds and in general make your life a living hell.  High Schools, Colleges and their “counselors” will not tell you this as they are fully-invested in feeding themselves.  They’re salesmen, not counselors, and you had best never forget that.

To repeat from last year: Save 10% or more of your gross income.  We’re not looking at hyperinflation folks, in my view – we’re looking at a deflationary collapse.  Cash is perfectly fine but make damn sure it’s really cash and not some exotic “cash equivalent” that can get gated.  This means, unfortunately, money market funds are no longer safe with recent changes to SEC regulations.  If you fear hyperinflation do not look to Gold, instead buy a small (5% of your total portfolio) position in far out of the money LEAP CALLS on the major indices, spread across them.  Why?  Because (1) the tax structure on gold is unfavorable, (2) gold has never performed well on a contemporary basis .vs. inflation and (3) you can’t eat it.  If you try to get around the tax man structure you’re going to get creamed; governments can and WILL prevent that from working.  My recommendation thus is to buy insurance against a hyperinflationary event using instruments that do not try to evade the formal financial structure, are levered (to get around the tax hit) and are defined risk (so as to avoid losing your ass if you’re wrong.)

If you’re wondering if you have enough liquidity to survive you don’t.  The common “chestnut” is to have a couple of paychecks to three months worth.  I have repeatedly said that I believe you need to be able to survive six to twelve months or more with no income of any sort.  I meant it then and I mean it now, and those are minimums.  Yes, I know this will draw guffaws.  Ask those people who are rolling off 99 weeks of unemployment whether I was full of it or not when I said to have a year or more worth of liquid funds in 2007!

Last year I said to “sell or hedge risk” in the stock market.  This year I say just sell and pocket the damn money.  If you hedged, you forfeited the hedge cost but are WAY ahead on balance.  If you sold at 950 you may be complaining of the 20% (to 1138) you didn’t make from 950 but you booked a 42% profit off the 666 low.  Who’s complaining about a 42% return when you only had your money at risk for three months?  If you hedged you got the entire thing but forfeited 5 or 10% of the profit for the price of the hedge.  Again, what’s to complain about?  There is a possibility we may bounce again to another high, but you saw last Thursday, right?  That risk is not only not gone it’s not going to be gone.  The claim of market “depth” and “liquidity” off the 666 lows was and is a lie.  I have written extensively about this – about machines passing the same 100 or 1,000 shares back and forth, making it appear that the market is more liquid and deeper than it is.  Lots of people laughed at me.  Who’s laughing now?

Get those “sudden stop” plans in place – NOW.  If you’re in a big city you’re in big trouble.  Find friends or relatives that aren’t and see what you can do about a place to go where you have a reasonable shot at avoiding the worst of this.  Look, all-out civil unrest (or worse) is a low-probability event but if you get trapped in a big city and the worst comes that city will go feral within hours and become a free-fire zone.  What’s worse, many of these cities are openly hostile to citizens having and using effective self-defense; the bad guys don’t give a damn about laws – that’s why they’re called criminals.  There really are bogey men in the world – they’re called gangs folks, and they would love the opportunity that a breakdown that would come with such an event.  In such a circumstance the only way to win the game is not to play.  This is all about where you are, not what you have.

If you haven’t acquired the means of lawful self-defense in whatever form or fashion you deem prudent at this point, the time to do so was yesterday.  You need time and practice as you need competence – the biggest component of self-defense is the thing found between your ears, not the thing in your hand(s)!  I know I’ve harped on this before but if you think you can go buy a gun when things get dicey and be “protected”, having invested nothing in practice and/or training you are very likely to have that weapon taken from you and then be shot with your own gun.  That’s a crappy way to die; if you’re unwilling or unable for whatever reason (including legal restrictions where you live) to acquire the means of defense then being concerned about the above (where you’re going to go, how you’re going to get there, and what you’ve got for supplies) becomes even more important.

About those friends I referenced in the last message on this topic: How many of them laughed at you?  Seriously folks – questioning and belief is one thing, ridicule is another.  An honest evaluation of who you can trust and who you can’t is, in coming years, likely to be the most-important decision you will make, and you will make it time and time again.  Being wrong over the last 20 years has cost you some money.  Being wrong in the coming decade may throw you into rank destitution at best and cost you your life at worst.  This is no laughing matter and there is no way around the facts.

This is a somber message on a day when order is being lost in the FX markets, and those, my friends, underpin literally everything.  As I post this the same scenario that set up the collapse last Thursday in the FX is presenting itself again.

There is no guarantee it will produce another crash, of course, and in fact odds are it won’t.

But the yellow light is on, and if we get another one of these things it is unlikely we will bounce at all – the market will just go straight down the toilet instead.

Forewarned is forearmed.