Market Update

This is a very long email update we received from a trusted source for us. We have posted small portions of this in the past. But I read it again this weekend and it is really, really good. So I decided to post the entire thing here for you. I cannot get the graphs to show up, so just ignore that. But if you want details on the economy and what may happen then you need to read this. Props to Calvin Hamler from Assurtiy Financial Services for a great summary.

It’s been a while, folks, so I thought I would take some time today to write another market update that at least touches on some of the high points of what has come into focus in the economy and the mortgage markets the last few weeks. Economic data and headline-rocking events are happening at the speed of light these days, and it seems like volumes of commentary could be written on a single day or week’s events. In this market update, I will do my best to pull focus all the way out to the mile-high view of the economy as a whole (especially since we are headquartered in Denver!), then zero in on commentary as it relates to the mortgage markets these days. I hope you find the economic and mortgage market data, analysis, and commentary somewhat useful as we all navigate these uncharted waters together.

I realize that sometimes I provide so much information in a single market update that it is like trying to drink from a fire hose, but the flow of information is just that rapid these days, and there seems to be a tremendous thirst for answers among all of us. I’ve done my best to break up this market update into sections that you can go to and read if you only have time to digest part of it and are looking to answer a particular question you may have been wondering about. In this issue, I will cover the following:

Are we in a recession or depression, and how do we know?
Leading economic indicator of the stock market versus the lagging economic indicator of GDP
Condoms and the worst form of economic cancer, known as “Stagflation” – got your attention, didn’t I? J
Why mortgage interest rates still aren’t in the 4’s
What it all seems to suggest for the mortgage markets and outlook for rates
6. Perhaps a bright spot in all of the global economic chaos
Jump to whatever section floats your boat, or sit down and read the whole darn thing! In particular, I would encourage you all to watch the selected video clip links from Fox News and CNBC, at minimum – they’re not mine, but the two I have selected are GREAT, I promise!

Also, for those of you that are interested, you can go the Assurity Financial Services, LLC Corporate News Center on our website and subscribe to the news feed to receive market updates that we post to our website periodically, if you’re into this kind of stuff. The link to the Assurity Financial News Center is
here: It also contains archives of past market updates – you can see that I have fun with these from time to time.

Many people have given us positive feedback that they find these market updates useful in running their businesses and advising their clients, or just to keep current and have another point of view to consider. Accordingly, we will continue to write them, so feel free to pass along to a friend if you think they might enjoy it, too! The information is free to you, so take it with a grain of salt – it’s probably worth just about what you paid for it. J

So here we go . . .

It seems we throw around the terms “recession” and “depression” rather loosely these days, doesn’t it? Indeed, there doesn’t seem to be a consensus of opinion if you read various media headlines, on whether or not we are even in a recession at any given point in time, or whether it would more properly be called a depression, let alone articulating the relative severity of either event in terms we can all understand.

I’ll go ahead and simplify here – The generally accepted economic definition of recession and depression are as follows: A RECESSION is a two consecutive quarterly decline in real GDP growth. A DEPRESSION is a cumulative decline in real GDP of 10% or more. Remember that GDP (Gross Domestic Product) is that yardstick that we use to measure the health of an economy – it represents all of the goods and services produced by an economy in a given period. There are 4 main components to GDP: Consumer Spending (C), Investment Spending (I), Government Spending (G), and Net Exports (X) (what foreign countries buy of ours minus what we buy of theirs). Each of these components is assigned a variable, and therefore the composition of GDP is generally described by the simple economic equation C + I + G + X = GDP. At the risk of over-simplification here, simple math would suggest that if you want to increase or decrease the rate of growth of GDP (i.e. an economy), you simply increase or decrease one or more of the variables on the left hand side of the equation. I have written before that the only real disagreement occurs when considering which variables can and should be focused on the most, and the methods by which we might try to get one or more of those variables to move and positively impact GDP without having other negative consequences as a byproduct, like hyperinflation or world war.

So what’s been going on with the economy, as measured by GDP, and how bad is it, really? Are we in either a recession or a depression (or neither), and how do we get some perspective on where we are relative to history, anyway?

The answer is that we are very much in the middle of a VERY NASTY RECESSION, and could be pointed toward the economic definition of a DEPRESSION, but we haven’t quite arrive at depression levels yet. So, at this point, I’m going to call it, “The Great Recession”. I offer you the raw data from the United States Bureau of Economic Analysis (BEA), which we taxpayers pay to keep track of this stuff for us. The BEA is a division of the Department of Commerce, and you can visit the BEA website at the following link, where you can surf for the latest GDP numbers and other economic goodies to satisfy the econo-nerd in you:

According to the most recent numbers, 4th quarter 2008 GDP decreased at an alarming rate of 6.2%. This comes on the back of a 3rd quarter 2008 decline in GDP of 0.5%. So clearly we met the technical definition of recession (i.e. a two consecutive quarterly decline in GDP). However, we have not *yet* arrived at the technical definition of depression (i.e. a cumulative decline of 10% or more in GDP). But since even my 8-year old daughter can do the math that 6.2 + 0.5 = 6.7, you can see we aren’t too far away from that 10% cumulative drop, either. We would only need 1st quarter 2009 GDP to drop by 3.3% to say that we have technically arrived at economic “depression”. Stay tuned . . .

Now let’s talk about relative severity – just how bad is it, from an historical perspective? The answer is, pretty darn bad. I found a very cool website that will satisfy the economic curiosity of many people, and that allows you to manipulate data in chart format in a very granular way. It’s called, and below is a chart I created on that website by simply plugging in 1930 to present as the data range for quarterly GDP growth to put things into perspective.

Yikes! What you can see from this chart is a couple of things. First of all, we only started gathering GDP data in the second quarter of 1947 – so we can’t really compare GDP growth now to what happened during the Great Depression to get that relative feel of now versus the Big One (darn it!). At the same time, however, you can see that we are currently at one of the worst points in history since we have been collecting the data, approaching what some term the “mini-depression” of 1957-58 and almost on par with the second half of the “double-dip recession” of 1981-82.

Leading Economic Indicator vs. Lagging Economic Indicator: The stock market vs. GDP
Okay, so if GDP tells us the score of the game after it has already been played (i.e. is a “lagging indicator”), then what might we choose to look at to give us a forecast into the future (i.e. a “leading indicator”)? I mean, all that most of us are really concerned about is what is going to happen tomorrow versus crying over the spilled milk of yesterday, right? That is, unless you are in a dysfunctional relationship, but I won’t digress into psychoanalysis here.

The stock market is generally considered to be a pretty good leading indicator. Why? Because the nature of the market is that, at any given time, it prices in all current data, along with future expectations, discounted back to present value through the price discovery process. Supply (sellers) meets demand (buyers) for equities to establish the equilibrium point of prices, where trades are consummated for individual stocks. Various stock indexes, such as the Dow Jones Industrial Average, which consists of 30 blue-chip stocks that are considered to be leaders in their industry, show market expectations of how the economy will perform in the future based upon all of that available data plus future expectations. Charting indexes such as the Dow shows us that all important TREND, which can be used to extrapolate what may be expected to happen in the future. Generally speaking, we tend to see the performance of the stock market lead the performance of the economy, either up or down.

I don’t think I have to interpret the below chart of the Dow Jones Industrial Average for you, as it is self-evident what the market thinks about the present state of affairs and immediate future of the economy, based on its current retracement of over 50% from its highs and trend sharply lower. Not to mention, the DJIA index was started back on October 1, 1928, so this actually does give us that relative historical perspective of now versus then that we might be looking for (or not want to consider, depending upon your perspective).

It seems that some call economics “The Dismal Science” for a reason, doesn’t it? This recent trend following a path of an airplane that just ran out of fuel doesn’t look very appealing!

One more fun fact here, since we are talking about stocks, the Dow, and “blue-chip” stocks that represent “industry leaders”: We all know that General Motors didn’t have such a great year in 2008, right? Historically, you may have heard some people quip that, “As goes GM, so goes the economy”. GENERAL MOTORS LOST OVER $84 MILLION EVERY SINGLE DAY IN 2008. There is a saying on Wall Street that the worst thing you can do as a trader or an investor is to throw good money after bad. Shouldn’t that apply to the government, who is spending money that isn’t theirs? Heck, it isn’t even ours (the current taxpayers), at this point – we’re talking about spending money that hasn’t yet been earned by our children and grandchildren, many of which haven’t even been born yet!!! Enough said on that point . . .

Condoms and the worst form of economic cancer: “Stagflation”
I know, I know: When we talk about basic economic principals, we traditionally do so in terms of “guns and butter” (to describe the “production possibilities frontier”, representing the tradeoff between various items that can be produced in an economy), but I’m going to exercise some creative authorship here and go with condoms and stagflation. If you read the whole section, you’ll see how it all ties in. Take a walk with me here and open your mind . . .

Generally speaking, we spend most of our time worrying about one of two things related to our economy: Stagnant growth (decline), or inflation. I have written previously that the layman’s definition of inflation is, “Too much money chasing too few goods”. I won’t go into the technical definitions of the various measures of the Money Supply (i.e. M1, M2, etc.), coupled with discussion of the “multiplier effect” in this market update, but suffice it to say that when the government prints money, LITERALLY, with its printing press, it increases the money supply – I think we can all grasp that one. All you have to do is compare the growth in M2, for example, to the growth (or decline) in GDP, to know whether what is happening at any given point in time is inflationary or not. If the money supply grows faster than GDP, you have more and more money chasing fewer and fewer goods and services – a scenario that is defined as inflationary. See, all of this economic stuff doesn’t have to be open to opinion when you get down to the brass tacks, does it? Some of it is really fairly self-evident when you sit down and just take the time to think through it, and there are actually definitions for these terms that are thrown around in media and by politicians who generally don’t have a clue what they are talking about. It’s not all guesswork, speculation and opinion, as may first appear to be the case. Whether you find it refreshing or not, there is indeed some science to the dismal science of economics, after all!

Right now, what we are doing as a nation is printing money – quite literally manufacturing it out of thin air – and devaluing our currency in the process. Does anyone remember what happened to Germany during World War II when the German government kept printing more deutschemarks? People were bringing wheelbarrows full of money to buy a loaf of bread or even burning their deutschemarks to keep warm in the winter because the currency was so worthless. That’s what happens when you print too much money and that ever-increasing money supply is used to chase a not-so rapidly increasing supply of goods and services from a broken economy – people bid up prices because they have all of this extra money to do it with! Ever since President Nixon took us off the gold standard, the U.S. government has had the ability to print money at will, without having to tie the U.S. dollar to the price and amount of available gold in the world, which is relatively finite in supply (most of the world’s gold is believed to have already been discovered). The gun has been loaded, cocked, pointed at the head of the economy, and it feels like the slack is slowly being squeezed out of the trigger as we merrily print and spend away, thinking this is somehow the path to instant gratitude and prosperity, giving the voting public what they are so desperate for – CHANGE. Unfortunately, many people feel that there is quite possibly a generational sense of entitlement and social engineering that is getting in the way of clear-headed thinking in terms of what may be best for our nation in the long run, economically speaking. In other words, artificial short term gain, may come at the expense of long term pain. Almost everything in the world can be described in the language of economics, in one way or another.

We have to be careful what we wish for, because the wrong kind of change, especially if not founded on solid economic principals, will only serve to exacerbate the problems that are already gargantuan from an historical perspective. In some ways, rather than rushing in to “just do something”, perhaps it wouldn’t hurt us to at least pause for a moment and recognize there is also wisdom in the advice, “Don’t just do something – stand there!” during times of crisis. Especially if we don’t have a very well thought out plan (Treasury Secretary Geithner still hasn’t clued the market in to the finer details of his plan, assuming he even has one). P.S. One thing the capital markets REALLY hate, just like you and me, is UNCERTAINTY. Hence the accelerating sell-offs even after the nation’s historic election that just called for change.

There was an excellent clip on Fox News the other day that did a better job of putting the current growth in our money supply into perspective, along with the jeopardy in which we are putting future generations, than I could do here, so I would invite you to view this clip for yourself (on an empty stomach). It’s done in the same fashion as Al Gore’s “An Inconvenient Truth” and is called “Inconvenient Debt” and will make you gasp, I promise. They put up a chart based on data gathered from the Federal Reserve, and it really gives some perspective – you have to watch the whole thing. The link to this 4-minute video clip, which is now on YouTube is here:

Some economists think that, by the government printing and spending money, it will stimulate the economy in the short term. After all, recall at the “G” in the C + I + G + X = GDP equation does in fact stand for “government spending”. Many would argue that this is indeed true, provided that the spending is judicious and not wasteful, and that we have had various times in our country’s history where the government was able to step into the equation and inject short term spending to prop up the economy. But notice that I said, “judicious and not wasteful”. The increasing discontent on both sides of the political aisle these days is that more and more Americans believe the government is wasting our money (and our children and grandchildren’s money) rather than putting it to good use. Many Americans are mad that banks, insurance companies, auto-makers, wall street companies, and even consumers that made poor financial decisions are being bailed out with the money that was generated by the rest of the participants in the economy that made the opposite decisions. Many are mad and are making the argument that we are going through one of those events that in fact defined this country’s very existence and move away from the British empire – the concept of taxation without representation. Growing in popularity, this line of thinking was broadcast loudly by Rick Santelli on CNBC recently, to the chagrin of many.

Not everyone is all that excited to give GM the next $84 million to get through today, followed by another $84 million to get through tomorrow and another $84 million the day after that, or to pay for their neighbor’s mortgage on a house they couldn’t afford and perhaps should not have bought in the first place. If you haven’t already seen it, and even if you don’t agree with this line of thinking, you can hear the argument put very bluntly and succinctly by Mr. Santelli, who riskily broadcast on national television a call to action for a modern day Boston Tea Party by throwing derivative securities into Lake Michigan, by going to the following link: Even if you don’t agree with Santelli’s political views, the guy is very bright when it comes to analysis of the fixed income markets and capital markets in general, which is what he comments on for CNBC daily (from the floor of the Chicago Board of Trade), before he went off on this tangent that is being called in some circles, “The Rant of the Year”. He’s a pretty energetic Italian guy, and this was shocking to see someone being so bold on national television! At least freedom of speech seems somewhat alive and well for the time being!

Further to the idea that congress and others in government are wasting our hard earned taxpayer dollars and not exactly being on the up-and-up with their actions, I brought to light a point a couple of market updates ago that I am told is going to be published in the Wall Street Journal soon (stay tuned). That point was that, even though the Federal Reserve said they were going to step into the markets to purchase mortgage-backed securities, they have done so in a rather surreptitious and insincere fashion. What I mean here is THEY HAVE INTENTIONALLY BOUGHT, AND CONTINUE TO BUY, THE WRONG SECURITIES!!! Go see for yourself!!! You can go to the New York Federal Reserve website,, and see that the vast majority of what they bought over the past few weeks was NOT the 4.00% coupon mortgage-backed securities that contain mortgage note rates generally from 4.25% to 4.875% they all told us they were committed to American’s having. Oh, no – they bought a lot of 5.5%’s 5.0%’s, and a few 4.5%’s, all of which are actually backed by – you guessed it – mortgage note rates primarily north of 5%. THAT IS A LARGE PART OF THE REASON THAT WE DO NOT HAVE MORTGAGE RATES WITH A “4” HANDLE. Want to know why they did this? Think about it – you give the market a head-fake like you are going to buy mortgage-backed securities the support mortgage rates of 4.5%. The market then rushes in ahead of you and does the work for you (i.e. EVERYONE ELSE starts to buy those securities). Rates go down as a result of these broader-based market purchases. You actually buy the higher coupon mortgage-backed securities yourself to keep up the charade of making MBS purchases, but the ones YOU are buying actually pay off when the underlying mortgagors refinance due to the lower rate environment created by the other participants you faked-out in the market and YOU get your money back. At the end of the day, you haven’t committed to do anything other than try to talk the market down so you could get your money back in a few short months – hardly the long term commitment to use MBS purchases to drive interest rates to 4.5% that we were all sold back in November and December. Wall Street sniffed this one out the minute one hand of the government didn’t talk to the other hand and they posted the trade tickets on the New York Federal Reserve Website in the middle of January for all of us to see. Anyone remember exactly when the dead-low in mortgage rates was?!? It wasn’t an accident. It is unconscionable that the government could have tried to get away with this and to have deceived the taxpayers and tried to deceive the markets like this – no wonder the markets are in a heightened state of turmoil and mistrust these days!!!

Coming full circle here to the concept of “Stagflation”, this is about the worst kind of cancer an economy can experience. Stagflation is the simultaneous occurrence of stagnant growth and inflation in an economy. If you just arbitrarily print and spend money to stimulate the economy, but rather than making it really count you just squander the money, or you give the economy “too much of a good thing” by over-doing it, you have both stagnant growth (or decline) AND inflation. Ouch – that’s what happened to the U.S. economy in the 1970’s, and it wasn’t fun. Many people are afraid that’s exactly where we are heading with the most recent stimulus bill from the current administration, on the back of the TARP and TALF bailout funds authorized by the previous congress and administration. Out of the Democrat controlled congress + Republican President George Bush frying pan and into the Democrat controlled congress + Democrat President Barack Obama fire? Perhaps. It seems that politicians on both sides of the aisle have gotten this wrong and keep getting it wrong, at our expense. I know one thing – the constant in both equations is congress, and it’s congress that spends our money. It is indeed hard to link many of the line-items in the recently passed stimulus bill, such as the $200 million Nancy Pelosi put in for condoms for sex education in California, to anything stimulatory unless one were to make a particularly lewd and arguably morbidly humorous reference. Of course, it just wouldn’t be my style to do such a thing, so I won’t make that link. J

Here are some quick facts about the mortgage and housing markets that you should have on the tip of your tongue:
Commercial and multi-family originations are down 80% from a year ago, according to the Mortgage Bankers Association.
Warehouse lending capacity is down 90% from 2007, according to the Mortgage Bankers Association
There are fewer than 30 wholesale mortgage lenders left in this country funding more than $100 million in residential mortgage loan originations per quarter. Assurity Financial is one of them.
As mentioned above, the U.S. government is buying the WRONG mortgage backed securities to support mortgage rates of 4.5% – STRIKE ONE FOR LOWER MORTGAGE RATES
Continued asset price (housing prices) deflation is bad for mortgage rates because investors are worried about deteriorating collateral – STRIKE TWO FOR LOWER MORTGAGE RATES

If the economy were to begin to recover, the surge in demand voted through all of the extra dollars that we just printed and pumped into the system will most likely be highly inflationary – STRIKE THREE FOR LOWER MORTGAGE RATES.
Since there are fewer lenders left, and investors are scared to death, everyone is demanding a higher return on capital to justify the investment. Hence, lenders aren’t passing on all of the lowering in mortgage-backed securities rates to the consumer – they are padding their margins and building loan loss reserves. STRIKE FOUR FOR LOWER MORTGAGE RATES.

Foreign investors, China in particular, are getting cold feet when it comes to purchasing our debt. They can see the printing press is glowing red-hot and we aren’t doing so well. STRIKE FIVE FOR LOWER MORTGAGE RATES.
If the stock market were to suddenly turn around and rally, that would make equities an attractive investment relative to fixed income investments such as mortgage bonds. The money going into the stock market has to come from somewhere, and one of those places could very well be from the funds already committed to the mortgage markets. STRIKE SIX FOR LOWER MORTGAGE RATES.
I’m not sure how many strikes we get in this game, because it’s never been played before. And I don’t know about you, but it almost makes you want to take your ball and go home, doesn’t it? Unfortunately, folks, the house is burned down, too, so massive reconstruction is needed for any kind of security, even at the subsistence level.

Is there any bright spot in all of the global economic chaos???
Of course!!! Now that I’ve gotten you to buy into all of the doom and gloom arguments that the dismal science of economics seem to suggest, I will offer you a couple of rays of hope. First of all, we live in the greatest country on earth, the United States of America, and while she may be a bit tattered and torn at the moment, the possibility that hope springs eternal and that tomorrow can be a better day will always ring true provided that we continue to move more toward that social value of FREEDOM that we Americans hold so near and dear to us. Of course, that value is in inherent conflict with another value we all hold, EQUALITY, hence the division among party lines and constant back-and-forth political struggles that have shaped our country’s history.

In other words, we can always CHANGE – as often as we choose to do so! Isn’t that what this last election was all about? After all, change is a process, not a destination, and I think one thing everyone agrees upon these days is the need for change because the status quo isn’t cutting it, and throwing good money after bad isn’t the kind of change we need.

Secondly, as a contrarian that hopes to be worth my salt, I would offer that the kind of market action across all markets in all categories of asset types might be suggesting CAPITULATION. Think of capitulation as vomiting – or an overreaction from eating too much or being too excessive in general. Technically, when most declining markets reach a bottom, they experience an event of capitulation (massive, irrational sell-off) right at the very end when it feels as if all hope is lost. When you think about it, that actually makes a lot of sense; the people that are going to sell will have already sold, so there won’t be as much downward pressure on prices from sellers! Fundamentally speaking, in order for markets to move higher, ownership of the underlying assets has to go from WEAK OWNERSHIP to STRONG OWNERSHIP (this process usually causes a market to trade in a sideways fashion as is called CONSOLIDATION if it takes a while to turn over the inventory). Perhaps we are almost there in the housing markets and the mortgage markets, along with some of the other capital markets. Hope springs eternal!

Oh, and on the topic of rate locks, I sure would advise you to LOCK ‘EM IF YOU’VE GOT ‘EM. That is, unless you are the one person on Earth right now with a perfect crystal ball. If you are, please drop me a line – it could be the beginning of a beautiful friendship!

Happy Hunting, and keep your chin up – it’s always darkest before dawn!!!

Calvin Hamler, AMP – Managing Member, Assurity Financial Services, LLC

About Two Bald Mortgage Guys

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