FAT FANNY FALLS OUT OF BED
Jim Willie CB February 23, 2005
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Fanny Mae's bloated condition might represent an accurate reflection of the protruding haunches of many US citizens, either male or female. The Federal National Mortgage Agency just has a feminine nickname. The handle could easily have been named after Fat Albert of the Cosby Kids. Fanny was depicted in my January piece entitled "Queer Eye for the Bond Guy" as the canary in the bond coal mine. It justifiably stands as the weakest link in the vast bond chain of USDollar-based debt securities, that is, of bonds held internationally. Its foundation has in all likelihood vanished. Its operational cash flow might be fractured, vulnerable to rising rates and vulnerable to falling rates. Its integrity is as compromised as per diem accounts in state legislatures, or credit card accounts in households, or political campaign funds for losing candidates. Its portfolio is as cluttered and confusing as any attic or basement or garage. Its officers are as clueless or corrupt as those of Enron, WorldCom, Tyco, or Adelphia. What remains to be seen is if Fanny babysitters go to prison for fraud which is as clear as day.
To say the FNM share price looks sickly would be a generous assessment. It has fallen out of bed, her massive hind haunches having rocked the bond world upon impact with credit market floors, some floorboards broken to be sure. It will be difficult to replace the bond mine canary with a mechanical chirping device, made in China. Shock waves are sure to hit the housing market in delayed reaction, later, perhaps much later than would be its due. Confirmation is offered as scattered debris. Critical support had held at 60-61 for two years, now shattered with a close on Tuesday under 58. We have the breakdown seen from the 50week moving average (in blue) turning below the 100week MA (in red), a strong signal of downward momentum. A memorable event came in March 2003, when St Louis Fed Governor Poole warned of economic meltdown if Fanny Mae were to collapse. He warned that its capital foundation was inadequate, and was curiously criticized. It is my belief that its capital foundation is non-existent, and now operates merely as a financial centrifuge, in Doug Noland's keen words. FNM recovered to 75 per share in the ensuing two months after Poole's warning, an exercise in total denial of its deteriorated fundamentals.
What seemed to have precipitated the breakdown (call a spade a spade) is Chairman Greenspan's commentary last week before the Senate Banking Committee. He gave stern notice that rates will continue to rise, as the Fed continues its tightening cycle. In 1996, our incompetent Federal Reserve Chairman defied his own best judgment. He issued the alarm that stock investors were reacting with undue excitement in his "Irrational Exuberance Speech." Yet he behaved like a monetary drug dealer in the following months and years to betray good judgment. His gain was icon status, declaration as maestro, hailed by clowns in the US Congress such as Sen Phil Grahm as "the best central banker in history." He has had his boots licked by Congressional Reps and Wall Street honchos for years in a disgusting regular display. Why? Because he supplies the magic elixir. Before the senators last week, Greenspan admitted that despite his 150 basis point rate hikes at the last six FOMC meetings, the long maturity bonds are unaffected. He admitted his confusion and described the puzzle which has confused him. Let this be known, NEVER IN THE HISTORY OF THE FED HAS THE LONG END FAILED TO REACT WITH SHOCK TO HIKES IN THE SHORT END. Welcome to the Kondratiev Winter. Attempts to call back the tide will fail in all respects except in the financial sector, and in there for only a limited timespan.
We have made modern history. Last week Greenspan called the refusal of long rates to rise a "conundrum." The flattening yield curve has him and many others perplexed. This is unprecedented, and will surely go down as the "Yield Curve Conundrum Speech." Our Fed Chairman essentially admitted his ignorance of what he has done, and how the world financial system has not reacted to the maestro cue. The Fed Reflation initiative, to promote price inflation, to manifest debt as inflated away, to stimulate with financial amphetamines, it has failed miserably, whether the Fed and financial markets recognize it or admit it. We have stimulated Asian economic growth, factory buildup, and job creation.
We have flat job growth, unless you maintain childlike acceptance of official statistics. We have a high jobless rate, unless you maintain childlike acceptance of official statistics. We have very poor (if any) economic growth, unless you maintain childlike acceptance of official statistics. We have negative productivity, unless you maintain childlike acceptance of official statistics. We have negative savings, unless you maintain childlike acceptance of official statistics. We have utter capital hemorrhage in trade gaps, noted but not recognized in childlike denial of importance. We have massive federal budget deficits from the costly drain of war and lowered tax schedules, noted but not recognized in childlike denial of importance. WE HAVE THE FIRST RECESSION LABELED AS ECONOMIC GROWTH IN MODERN HISTORY. Welcome to the Age of Orwell, where almost every single economic statistic is a total and complete lie. The economic reporting apparatus is as described for former Treasury Secy Paul O'Neil a "show business" devoid of substance or credibility.
Even as irrational exuberance marked 1996 as the top for stocks, this conundrum comment will mark 2005 as the top for bonds. The Fanny Mae breakdown confirms it. The 30 basis point rise in the 10-yr TNote yield from just below 4.0% to almost 4.3% accentuates the point. The long-term picture might indicate a move in the FNM share price back to pre-bubble days seen in the year 2000, like the 48-50 range. Would such a dreaded move foretell residential real estate prices reversing back to year 2000 levels, 30% to 40% lower ??? Look next for extreme heterogeneity and unevenness in US housing market, as some areas like north Miami, Hawaiian islands, inner loop Boston, northern Chicago, Orange County, Georgetown & Alexandria, to remain firm in price. Expect softening prices in areas without remarkable advantages, where appreciation has been at least 30% in the last four years. Where the uplift has been greatest will come the biggest falls. In Podunk and East Hilljack, don't expect much of a housing price fall. Funding might get difficult in the coming months, surely by next year.
A bear market in bonds has been the missing link for the gold bull market to crank into the next higher gear. There are other missing links, significant to be sure. The other glaring omission on the landscape has been rising Asian currencys. Unless and until the Japanese yen is permitted to lift, unless and until the Chinese yuan currency peg is released, price inflation WILL NOT be unleashed in its full fury within the US Economy. In essence, Asia (in particular China) has blocked with near total interference the reflation initiative program. They have prevented pricing power in consumer products. They have prevented as a result a return to profitability in all sectors outside the financial sector. The end result has been pathetic job growth. The gold community would do well to identify China as the biggest obstacle to the gold bull charge. Trade war will change that though.
Beware as foreign central banks diversify out of USTBonds. Let's not forget that garbage paper known as "Agency Debt" which Fanny Mae so successfully panders across the globe. It is as though Asian central banks purchase our mortgage bonds in order to keep the US consumer going like the Energizer Bunny. You gotta love the word "diversify" which is euphemism for "get the hell out of US$-denominated debt." The latest is South Korea, who announced that $67 billion in US$-based reserves is enough, maybe too much. They join China, Russia, India, Indonesia, and others who have begun to see the writing on the walls. Their foreign exchange reserves are in jeopardy.
How much longer can the Bank of Japan do the US Fed's bidding in secret overnight transactions in the largest carry trade operation the world has ever known ??? Is the BoJ the Far East outpost for the Fed ??? Is intervention their M.O. ??? Anyone who claims there is no inflation cannot define the term, nor notice the monstrous inflation at work in Tokyo.
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Jim Willie CB is a statistical analyst in marketing research and retail forecasting. He holds a PhD in Statistics. His career has stretched over 23 years. He aspires to thrive in the financial editor world, unencumbered by the limitations of economic credentials. Visit his free website to find articles from topflight authors at www.GoldenJackass.com.
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