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blue skies

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  1. Banking system on verge of new crisis, hedge fund Noster Capital warns

    The banking system could be on the brink of another crisis, according to one hedge fund manager who has taken a series of short positions against some of Europe's largest financial institutions.

    By Harry Wilson, Financial Services Correspondent

    Published: 5:30AM BST 03 Aug 2010


    London-based fund Noster Capital is betting against five major European banks, including Barclays in the UK, Spain's BBVA, and Switzerland's UBS.

    Pedro Noronha, chief executive of Noster Capital, said he thought many people still failed to understand the extent of the problems facing many banks and were "complacent" about the risks the industry faces.

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    How can we avoid the next financial crisis?

    "Two months ago everybody was in a panic about the sovereign debt crisis, and now it's like everybody is going on holiday and everything is fine," he said.

    Talking about the results of last month's stress tests of 91 major European banks, Mr Noronha was scathing, saying the process was flawed. "The point of a stress test is that you stress something until it breaks. These tests included a ridiculous definition of tier-one capital and allowed some banks with... 1.7pc to show levels above 6pc," he said.

    The other banks being shorted by Noster Capital are Italy's Intesa Sanpaolo and UBI, which Mr Noronha said faced significant dangers over their exposure to Eastern Europe and a stuttering Italian recovery.

    However, he claims the biggest danger remains the US housing market, where he said there was the potential for a new shock as more Americans default on home loans as mortgages come up for refinancing.

    Mr Noronha points to a new wave of low-quality "Alt-A" and "Option ARM" mortgages that face refinancing, which he warns could lead to a new fall in US real estate values, which could translate into a further series of losses for financial institutions still exposed to the US property market, which triggered the original crisis in 2007.

  2. Opposition says labour market in 'freefall'


    * Live Register rises again as unemployment hits 13.7% | 05/08/2010

    * Redundancies fall 16% in July | 05/08/2010

    Opposition parties and business groups have condemned the Government for failing to stem the rising tide of unemployment following the latest jump in the Live Register numbers.

    The number of people seeking employment assistance on the Live Register rose by 8,500 to 452,500 last month, signalling an unemployment rate of 13.7 per cent, the highest rate recorded in 16 years.

    The population is 4.5 mill ?

  3. Well well

    This bloke has his point.

    Do the rest of you feel so threatened you gota give him crrap?

    Any way its probably Bardon or Ozzy boy under a nother name ;)

    I wonder just what will happen next?

    Bonds are priced for deflation.

    Shares are priced for boom times.

    Houses are holding up well considering we are facing the Abiss.

    Me I am holding on hoping for finantual melt down

  4. Fast 20% Drop in Australian House Prices?


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    Tulip Flipper's Avatar

    Tulip Flipper Tulip Flipper is online now

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    Default Fast 20% Drop in Australian House Prices?

    This is a scenario I think it to be most likely... A 24 month period where national house price reductions gather momentum and reduce by about that much initially. I believe this is essentially what happened in the UK, the US, Japan, etc.

    My question is, what would this do to our economy, confidence at home and abroad in Australia, our banks, Government debt and other asset prices?

    Would the Giant Building Societies, that are some of our banks, require nationalisation? Christopher Joye recently said that our banks would be fine and our AAA credit rating would be held. What do you think?

    Would confidence be damaged so thoroughly that other Aussie asset prices plummet and we go into a significant period of deleveraging? Obviously, to do so would mean fiscal strain, political problems, etc.

    Would Government intervention bring back the 'good times' or would it be too late?

    Let me know what you think.



    If economists could manage to get themselves thought of as humble, competent people on a level with dentists, that would be splendid. - John Maynard Keynes

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    stewart stewart is offline


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    Funny you say 20%.

    Actually exactly the number i tihnk will happen in the "short term" (ie. < 2 years, and probably ~12 months, IMO).

    Then slow decreases of 1-2% per year after that, or near zero, or only slightly positive...but all less than inflation (which i think will start to get "high" on consumer items).

    IMO, once the deflation has done its job, and then after high-ish inflation has a net manifestation...once the dust has settled after probably 10-20 years, values would have dropped 30-70% in real terms (30% for higher-demand, live-in areas; up to 70 for lower-demand, investor, lifestyle areas) nationwide.

    So, yeah - agreed ~20% initial "quick" drop, then slow, grinding, recessive, painful deprecation over the next 1-2 decades.....mainly because the central bank will go to ~zero interest rate, and kill off for more than ever had to be killed off....



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    nickmakwell nickmakwell is offline

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    err...a 20% drop would bring us back to 2009 levels...not a big drop actually.

    So, in theory, it shouldn't cause any major concern.

    In practice, it would have rampaging affects throughout the system and instill a long term decline as Stewart infers.

    As many have alluded to before, the continuing business model of the banks relies upon an increase in the stock of credit.

    if people stop borrowing to buy houses and/or borrow less, the banks are in big trouble.


    Its not whether you are right or wrong that matters, but how much money you make when you're right and how much you don't lose when you're wrong - 

 George Soros.


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    ostrich ostrich is offline

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    The proposed Rismark/ASX ETF should give the answer. Up and running in August?

    At present we only have past data to use to try and work out where price will go. We use our own limited assumptions in that.

    A tradeable instrument should build consensus future expectations into the price.

    Can't wait for this.

    Does anyone have any information re. the proposed Rismark/ASX ETF and how you can trade it?

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    Tulip Flipper Tulip Flipper is online now

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    Errr... Not exactly, Chris. A 20% increase on the base value is a smaller number than a 20% decrease on the higher value.

    Using these values:

    Average Melbourne house prices | Average house prices in Sydney

    Eg. Sydney Median House Prices

    June 2009 = $490,000

    Growth = 21% / $104,000

    June 2010 = $594,000

    -20% change = $475,000

    -25% change = $445,000

    That's enough to scare just about everyone. Really though, I believe it will depend on how fast each area went up to how fast they go down. Darwin and Perth pop straight to mind.

    Government stimulates ala UK and median price pops back up to say $500,000. We're now talking years down the track and damaged confidence, probably ready for the eventual and slow decline ala Japan.


    If economists could manage to get themselves thought of as humble, competent people on a level with dentists, that would be splendid. - John Maynard Keynes

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    nickmakwell nickmakwell is offline

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    yeah I know Matt - I wasn't trying to be a smart ar#e - I well know the concept of a 50% loss requires more than a 100% gain to get back to even....

    just saying off hand that 20% is actually not that much, in theory, given the 400% increase we've had so far in this bubble.

    behaviour wise - a 20% loss is much more "emotional" than a 20% gain, I completely agree with your premise.

    Would it happen system wide? I'm not sure just yet - waiting game for next months figures I guess.


    Its not whether you are right or wrong that matters, but how much money you make when you're right and how much you don't lose when you're wrong - 

 George Soros.


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    I have to say I found the comment confusing from you of all people, whose very livelihood depends on such calculations.

    There are a huge number of variables and I certainly agree your point that given the huge run up 20% is a small figure. How much of this is due to previous undervaluing remains to be seen... Like you say, time will tell.


    If economists could manage to get themselves thought of as humble, competent people on a level with dentists, that would be splendid. - John Maynard Keynes

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    nickmakwell nickmakwell is offline

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    Yeah I know - I deal with percentages all the time, not absolute values (e.g. I don't care if WOW goes from $29 to $30 over six months, I care about a 5% drop here, a 10% rise there)

    I actually think the scenario of a say $500,000 house price deflation to $400,000 (20%) over 24 months would be something most of this country's investors could not stand...

    However, a quick correction in a short time frame would be more emotionally palpable IMHO - i.e higher volatility - say a 10% drop in less than 12 months. and then a bottoming. This could be spun by the spruikers as a "clearing out" a "correction"....


    Its not whether you are right or wrong that matters, but how much money you make when you're right and how much you don't lose when you're wrong - 

 George Soros.


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    nickmakwell nickmakwell is offline

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    getting to the core of Tulip's question, consider this in the context of credit growth - the underlying factor in the appreciation of house prices....

    In the 12 months to June 2010, housing credit growth averaged 8.1% .

    In the year before the GFC hit, for the 12 months July 2007 to June 2008 this averaged 11.5%.

    However, aggregate housing credit stock rose $82 billion in 2007/08, whereas last year, total stock grew $77 billion...why when credit growth was some 30% slower? Because the base - over a trillion AUD - is so much bigger.

    Now, given that the total housing market is valued at something like $3.2 or so trillion AUD, a 20% drop in existing house prices would wipe out $600 billion plus in market value - and directly affect at least $200-300 billion of housing credit (which has been raised since the GFC).

    Think the banks are safe?

    NB: (I got these stats from the very sobering RBA D1 and D2 Growth and Aggregate statistics)

  5. House price paradise lost

    Steve Keen

    Published 6:52 AM, 2 Aug 2010 Last update 10:07 AM, 2 Aug 2010

    Chris Joye comments in his article on the recent RP Data-Rismark index that the news of a 0.7 per cent fall in home values in a month will be “manna from heaven for the housing market bears”. Far be it from me to disappoint him, so thanks for the manna.

    But, what adds spice to the manna is the way Joye, managing director of Rismark, has attempted to rationalise the outcome:

    “It’s sobering to remember here that we have had 17 consecutive monthly increases in Australian capital city home values. If the sharemarket rose for 17 months straight and then tapered, people would not think twice about. It might be wise to apply the same logic to our housing market.”

    That statement evinced the following comment published on Chris Zappone’s Fairfax report on the data from reader ‘Dave’: “If the share market had risen for 17 consecutive months, people would be screaming BUBBLE. Somehow this logic seems to defy Chris Joye ... Oh dear.”

    Oh dear, indeed. In a speculative market, like the stock market, much of the buying is driven by the belief that prices will continue to rise. As soon as that belief evaporates, buyers become sellers, and the price doesn’t ‘taper’, but plunge.

    A certain Irving Fisher once commented that “stock prices have reached a permanently high plateau”, only to see them (and his reputation and wealth) evaporate in the ensuing three years.

    So, the hope for Joye is not that house prices will behave like stock market prices, but precisely the opposite. Bears like myself argue that the housing market has indeed become just like the stock market – a place where leveraged speculation in the belief that house prices always rise does far more to explain house price movements than any appeals to “fundamentals” – and this is the main reason that house prices have risen so much in the last two decades.

    There is, however, one important way in which house prices do differ from shares: the first sign of trouble is not a sudden drop in prices, but a fall in the number of sales and an increase in the length of time it takes for properties to sell.

    That sign was evident in the data from the last year or so, which is why I argued that a fall in house prices was imminent in a previous post for Business Spectator.

    Now that the data is unequivocal, the following processes are likely.

    Firstly, with an increased stock of unsold houses on the market, buyers are likely to take yet more time to make a decision – which will add further to the backlog. If prices are falling, why hurry? The urgency will leave the buy side.

    Secondly, so-called investors – whom I prefer to call speculators, since 90 per cent of them have bought existing properties, rather than built new ones – will start to consider whether they should swap from the buy side to the sell side. After all, no one in their right mind buys an investment property in Australia for the rental returns – it’s capital gains or nothing Down Under. Do you capitalise on gains to date, or hang on hoping that the upward trend will reassert itself once more?

    Given the skewing of our market away from owner-occupiers and towards speculators in the last two decades, this second effect could cause a sudden increase in the number of properties on the market – just at the same time that buyers have become more relaxed about closing a sale.

    It’s this sort of process in an asset market that is why asset prices don’t ‘taper’, or ‘plateau’, to use a word from an earlier time.

    I expect these two processes to lead to an accelerating rate of decline in house prices now, as they did in the US when “flip that house” ceased being a winning trade.

  6. It will have to be a very low tide to go out by 15% this year.

    :unsure: It’s finally happened. After 17 consecutive months of solid growth, dwelling values across Australia’s capital cities recorded their first monthly decline of 0.7 per cent (seasonally adjusted) in June according to RP Data-Rismark’s Hedonic Home Value Index. This was the single largest monthly fall in home values since April 2008.

    The June outcome follows on from a clear trend in the decline in monthly seasonally-adjusted growth rates in Australia’s capital cities over February (+1.0 per cent), March (+0.9 per cent), April (+0.6 per cent) and May (+0.3 per cent).

    ;) Ok so far house prices are up 2.1%

    So it is not the 15% prices have to drop that you have stated.

    Just as you felt confident that prices go up because people buy and people buy because prices go up.

    I know that prices go down because people sell and people sell because prices go down.

  7. Death of the Housing Shortage

    Friday, 30 July 2010 – Melbourne, Australia

    By Kris Sayce

    * Death of the Housing Shortage

    * Market News This Week


    They stoped making land a long time ago.

    But they sure are sellng a lot of it.


    "And like that... he's gone."

    That was Kevin Spacey's line at the end of The Usual Suspects.

    Yesterday's vote in the Victoria State Parliament just eliminated the whole argument for a housing shortage. And so to paraphrase Mr. Spacey, "And like that... it's gone."

    Not that there ever was a housing shortage. But thanks to the new law, the land area of metropolitan Melbourne will increase by 5%.

    Doesn't sound much does it?

    Only it is. It's a lot. And over half of the area will be available for new housing. It's an extra 24,500 hectares which The Age compares to four times the size of Phillip Island.

    Or to put it another way, it's 30 times the size of the Melbourne suburb of Brighton.

    But even more importantly, according to The Age, "The expansion is to accommodate an additional 134,000 homes for Melbourne and provide 20 years of land supply for new housing."

    Well that should do it then.

    According to our pals at the National Housing Supply Council, Victoria has an underlying demand of 52,300 homes.

    This morning the property spruikers won't know whether to laugh or cry. We'll suspect they'll be crying. Seeing as there isn't a housing shortage they'll now have an extra 134,000 house and land packages to flog.

    That's on top of the nearly 40% of homes that go unsold at auctions in Melbourne each weekend.

    So thanks to the Victorian government, the non-existent chronic housing shortage has just become even more non-existent, if that's possible. And if it was alive then it's just been dealt a death blow.

    More than double - and nearly triple - the number of homes that are supposedly in demand in Victoria.

    Even better than that, the 134,000 homes helps meet the so-called underlying demand from other cities too. For instance, according to the National Housing Supply Council, New South Wales has an underlying demand of 54,200 homes, and Western Australia - we're told - has a demand for 30,100 new homes.

    And it can only be a matter of time before the pasture land in Melbourne's south east is swallowed up by housing estates:

    Plenty of room at the inn

    Source: The Age

    As the map above from The Age shows, there's a massive wedge of land east of the southern bayside suburbs that's ripe for development. We've circled the area on the map.

    We drive along the Frankston freeway every day. On one side there's housing estates, on the other there's green fields... not for long is our guess. Take a trip on Eastlink and you'll see even more green fields, all the way from Frankston to Dandenong.

    That's thousands more homes ripe for the building.

    And all within a commutable distance of the Melbourne CBD and areas to the east and south.

    But oh dear, what's this: "End of the boom? Housing industry showing sign of nerves".

    According to another article in The Age:

    "THE era of surging growth in house prices appears to be over with expectations flattening and builders warning of a hiring freeze amid slowing development activity."

    You can see why the Victorian government's move is perfect timing. Right at the top of the market it's making available 134,000 blocks of land for house building.

    At least the builders will be glad of the extra work. Even though they'll have to cut their margins to the bone in order to be competitive.

    But it's not just the spruikers who'll be happy, the banks will be too. ANZ Bank must be ****-a-hoop this morning that their campaign for an increase in housing supply has paid off.

    In a June publication for its Economics & Markets Research report the ANZ states:

    "Top-down analysis reveals the Victorian housing market is fundamentally under-supplied by around 47,000 dwellings."

    Not anymore! But it goes on. Clearly frustrated:

    "Nothing in the foreseeable future is likely to shift this pent-up demand substantially. Even a solid recovery in completions in the years ahead will only chip away at the shortage."

    Cheer up guys, haven't you seen the good news - 134,000 homes.

    Forget about chipping away at the shortage, this has strapped a tonne of Semtex to it and blown the shortage to smitherines.

    In one swoop the housing shortage for three states has been wiped out by Victoria.

    What does the inscription on the Statue of Liberty say? That's right:

    "Give me your tired, your poor,

    Your huddled masses yearning to breathe free,

    The wretched refuse of your teeming shore,

    Send these, the homeless, tempest-tossed to me.

    I lift my lamp beside the golden door."

    OK, we don't have a lamp, or a golden door, but I'm sure we could leave the porch light on to help guide the way.

    Huddled masses, to Victoria ye shall come.

    Can't afford a home in Sydney or Perth? Then to the Melbourne suburbs with you. To Sunbury, to Melton, to Cranbourne and Pakenham.

    "Oh, no-one will want to live there", shriek the toffs of South Yarra, Richmond and Middle Park. Oh yeah? Check out the maps, people already do. And funnily enough about 95% of the Melbourne population lives outside the inner city.

    We can't wait to tell the spruikers the good news. One thing's for certain, they'll be speechless. Delighted that their long campaign has finally come to pass.

    Similarly the National Housing Supply Council will be doing cartwheels too. We haven't given much airtime to their second report released a couple of months back.

    In the first report, which you'll recall we ridiculed for blaming the housing shortage on the homeless and caravan dwellers, they put the shortage at 85,000 homes. Well, now it's increased to over 200,000 homes.

    But we'll give them some credit for taking on board our criticisms. We'll have to assume it's our criticisms they've listened to because no-one in the mainstream press has dared say anything to argue against the housing shortage nonsense.

    The second report from the National Housing Supply Council states:

    "Members of the Council and some stakeholders were uncomfortable with the composite proxy measure of current undersupply used in the 2008 report. The measure used in the 2008 report has a number of drawbacks, including:

    * data on homelessness and marginal residents of caravan parks are updated only once every five years

    * data on rental vacancy rates are volatile and relate to capital cities only

    * in theory, an interaction between the extent of homelessness and scarcity of rental dwellings, could result in some over estimation of the gap

    * a host of factors influence homelessness in addition to the availability and cost of housing, including mental health, family violence and breakdown, and substance abuse

    * the extent of homelessness is likely to be a conservative proxy for the gap between underlying demand and housing supply, which may manifest in a variety of different ways, such as increased house prices relative to incomes, delays in family formation, increased household size, and growth in the number of 'group households'."

    We're particularly pleased by dot point three which addresses our claim about homelessness being an insulting way to measure a non-existent housing shortage, and the bizarre claim that a lower rental vacancy rate indicates a housing shortage.

    We countered that argument by simply pointing out a comparison. If a supermarket normally has 20 cartons of milk left over at the end of the day, but today they only have 15 cartons left over, no-one in their right mind would claim there is a shortage of milk.

    But that's one of the methods the spruikers use to claim there's a rental shortage. They claim that because the rental vacancy rate is at say 2.5% rather than 3% then there is a shortage of houses by the amount needed to take the rate back up to 3%.


    And we're also pleased by dot point four which at least admits homelessness is not caused by the price of a four bedroom home in Caulfield being too expensive.

    Homelessness is usually caused by the issues they list above. Any psychologist or social worker will tell you that.

    But look, let's be serious, the decision to allocate all this extra land to housing is just another example of government's believing their own spin. Believing in their own ability to manipulate markets for their own benefit.

    The Victorian government has bought into the idea of a housing shortage. Sorry, a chronic housing shortage.

    And for what seems like years the property spruikers have been calling for the government to make more land available. Not because they really believed there was a shortage but because it fits in nicely with their reason for Australia not having a housing bubble.

    Well, now they've got what they asked for. And not surprisingly, the silence is, well, very quiet. So far we haven't heard a peep from them.

    Doubtless an emergency meeting of Spruikers Anonymous has been called and the next excuse will be put through its paces.

    But with auction clearance rates slipping, house prices plateeeeeeeaaaau-ing, and a huge swathe of new land just waiting for the builders to move in, that good old housing bubble is now looking more unstable than it's ever looked before.

    Oh, and by the way, according to the ABC, "Australian house prices have fallen for the first time in 17 months, as rising interest rates, and the end of government stimulus payments crimp demand."

    You'll be able to check out the full details from RPData when the press release is posted on its website.

    What's that noise? We can hear the sound of something deflating. I wonder what it is...


    Kris Sayce

    For Money Morning Australia

  8. House prices now down a massive 35pc in four years

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    By Clodagh Sheehy

    Thursday July 29 2010

    THE price of the average house dropped by just 1.7pc in the last three months giving a 35pc drop in all since the peak at the end of 2006.

    Prices are now at the same levels as the end of 2002, according to figures released in the latest permanent tsb/ESRI House Price Index.

    The drop in the three months from April to June of this year is the lowest quarterly reduction since the same period in 2008.

    In the first quarter of this year, prices reduced by 4.8pc which followed a drop of 3.9pc for the last three months of 2009.


    Over the first six months of this year, prices have been cut by a total of 6.4pc which compared to 8.1pc for the same period last year.

    At the moment the average price for a house across the country is €201,364 compared with €242,593 for the same time last year.

    This is a fall from a peak of €311,078

    Dublin house prices fell by 3.5pc in April to June of this year compared to a drop of 10.3pc between January and March and 7.5pc in the last three months of 2009.

    The overall drop in the first six months of this year was 13.5pc compared to 12.2pc for the same period in 2009.

    The average price for a Dublin house between April and June this year was €242,000, compared with €250,872 between January and March.

    Commenting on the figures, Niall O' Grady, General Manager with permanent tsb said: "While prices continue to fall at different levels in Dublin versus the rest of the country, this reduction in Quarter 2 is the lowest recorded quarterly fall in almost two years.

    "This may indicate that prices are starting to find a more sustainable level after almost three and a half years of decline"

    The price of a house outside Dublin fell by just 0.8pc in the three months to June.

    This means that houses outside the capital are costing about €181,820 in June of this year compared to €183,309 in March.

  9. It must be coming close to back flip time for or those posters that predicted 10% fall in house prices for 2010. Halfway through the year and the growth is still there. I guess there is always a chance of them falling 15% from now to give us a net minus 10% for the year.

    I doubt it though.

    :lol: Hey you are claiming victory too early!

    The tide is turning

    Aussie Housing Bubble Gets Popped With Chinese Credit Crash

    July 26, 2010 - 5:24 pm


    Christopher PaveseBio | Email

    Christopher Pavese serves as President and Chief Investment Officer of the Broyhill Affinity Fund.

    Australia: Another Land Shortage

    New homes starts in Australia hit a six-year high last quarter thanks to stimulus spending on public housing. In all, home starts were almost 35 percent higher than in the first quarter of 2009, the fastest annual pace in eight years. Approvals to build new homes surged 43 percent between May and December last year, leaving a big pipeline of construction still to come. Growth in approvals has leveled off in the past few months but they still remain 37 percent above last year's low. Yet analysts still allege that far fewer homes are being built than needed to meet demand. We shall see.

    Demand for new home loans fell to a nine-year low in April as rising interest rates dampen enthusiasm for housing. The number of new home loans has fallen 26 percent since its recent peak in June 2009, a leading indicator for housing. With a lag, you would expect these numbers to flow through to building approvals, housing starts and ultimately prices. Higher interest rates are starting to bite with new home sales dropping by more than 6 percent in May 2010 and average loan prices declining, according to Australia’s Housing Industry Association (HIA). Sydney's most recent auction clearance rate fell below 50 percent and remained flat in Melbourne, with both posting their lowest rates since December 2008.

    House prices in the major cities climbed 20 percent in the 12 months to March. But activity has cooled since the First Home Owners Grant expired last year and interest rates began to rise. Since last October, new home loans have fallen for seven months straight. Pockets of stress have emerged in Western Sydney following a sharp run up in house prices. More recently there are signs of increased housing stress in southeast Queensland and Western Australia, again following sharp rises in house prices in these areas.

    Australia has gone two decades without a serious downturn, leading most to believe that house prices move in only one direction, despite historical data which clearly indicate that the ratio of home prices to income has always fluctuated around a stagnant long term average. The reason is that income acts as an anchor limiting the price homeowners are able to pay, and has always pulled prices back to earth in every instance. It is only a matter of time.

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    In a recent speech, GMO’s Jeremy Grantham explained that the average family can afford a home about 3.5 times their income. In 2005-2006, new homes in the U.S. were selling for well over 5 times median income while other real estate bubbles have grown to 6 or 7.5 times. Australian real estate is at 7.5 times family income today - twice the price it should be according to GMO data, and needs to decline by over 40 percent to return to trend.

    A more dire analysis by The Economist estimates Australian property is more than 60% overvalued based on the ratio of house prices to rents, more than any of the 20 countries the publication tracks. Six of the 10 most unaffordable cities are in Australia according to the annual Demographia International Housing Affordability Survey. It’s no wonder that many first-time buyers are already struggling to meet payments, with 40 percent of those who took advantage of government subsidies reporting some degree of financial stress.

    Initial mortgage payments for a home in Sydney or Melbourne absorb more than half of the average family’s disposable income. Yet, the potential for even a pause in ascending real estate prices is seldom considered as the local media often maintains that Australia completely dodged the Great Contraction. It appears that the great majority of home owners in major cities discount the possibility of a bubble in their own backyard, despite warnings from Jeremy Grantham, speaking in Sydney and Melbourne last month, that the housing market is a “ticking time bomb.”

    Investment Implications

    Despite the growing and increasingly obvious risks cited above, Australian banks are still trading at extremely rich multiples, particularly when compared to their US counterparts. The average price-to-tangible-book values of two major lenders on our radar is roughly 3 times, double that of their American peers. It would appear that the banks are enjoying an undeserved premium, as investors are led to believe that lower charge-off rates and delinquencies are the result of more prudent management teams and more conservative lending standards. More likely, it is simply an issue of timing.

    Take a moment to review this chart, from the FDIC’s March 2008 Quarterly Banking Profile. At the time, the report warned of high and increasing noncurrent loan growth. The main point being that the growth in reserves, while increasing, was not keeping up with the rise in noncurrent loans, so the industry’s coverage ratio was deteriorating. We all know how this story ended.

    Now tell me if you see any similarities between this chart, from the FDIC in early 2008, and this chart, which is the latest data from one of Australia’s largest home lenders. From our perspective, it is increasingly likely that the rate of loan-loss reserves is forced sharply higher just to prevent further erosion in the coverage ratio. In order to actually raise the coverage ratio, far more massive write-downs would be required, as we have learned the hard way in the states. While NPLs have inched higher Down Under, any increase has largely been driven by commercial loans so far. Not surprisingly, residential delinquencies have remained subdued as home prices have continued their ascent.

    What happens if home prices don’t go up forever? The two banks with the largest exposure to Australia’s housing market have aggressively increased housing loans in recent years, such that residential real estate exposure now represents more than 11 times tangible equity. Not exactly what we’d call a margin of safety.

    Stress tests are all the rage in the wake of the Great Financial Crisis as central banks around the globe rush to assure investors that the balance sheets of their nation’s banks are sound. We find it a tad suspect that the industry-wide tests conducted by the Australian Prudential Regulation Authority concluded that not a single bank would have breached their minimum capital requirements under their “severe but plausible” scenario.

    Upon closer inspection, perhaps this shouldn’t come as a surprise considering the very banks that are being “stress” tested, applied their own models to the tests. One particular management team even assured investors on a recent conference call that, “Nothing is likely to have an impact that would cause us to have to raise any capital.” We are not as confident. Our analysis indicates the potential for severe stress should housing prices revert to normal, let alone overshoot. We wonder how the currency would react should Aussie officials be forced to recapitalize the banking system, given investors’ current optimism on the AUD as reflected by this CSFB survey.

    Bottom Line

    A disorderly unwinding of China's credit and property bubble may well be the principal global macro risk today. While all eyes are on Europe, it would certainly have the potential to catch investors by surprise. But such an unwinding is not necessary to have a noticeable impact on its largest supplier.

    In the macro, what happens at the margin matters most. Many argue that a slowing of Chinese GDP growth from 12% toward 8% still represents an exceptional growth rate for the world’s second largest economy. We suggest that investors focus instead on the 33% decline in the rate of growth, which will have a comparable effect on China’s demand for (Australian) commodities. Any significant reduction in said demand could easily provide Australia’s property bubble with a Chinese Pin. Then again, bubbles of this magnitude often collapse under their own weight as gravity pulls valuations back to earth over time.

    One of the ways we seek to earn superior returns on our capital is by developing thoroughly researched macro themes that are different than the market’s general perception. We are often looking at the same information, but different conclusions provide us with an opportunity to position accordingly and wait for the market to play catch up. Mean reversion is always a good bet, although timing is always uncertain.

    Today, the consensus remains whole-heartedly in the bullish commodity camp based primarily on China’s insatiable and uninterrupted appetite for resources. We have invested considerable time exploring cheap hedges to profit from a speed bump in Chinese demand and another deflating property bubble (or two). While we remain constructive on the long term prospects for commodities and other real assets, buying a little insurance in the face of near term cyclical risks seems like the prudent thing to do, particularly since market participants have again forgotten that prices are capable of moving in a direction other then up. Since last October, the Reserve Bank has raised interest rates six times.

    JPMorgan and others are forecasting Australian cash rates to move from the current level of 4.5% to 6% by next year. We think this is highly unlikely in light of the risks noted above and especially while the rest of the developed world hurdles towards deflation. The odds of at least one of these bubbles bursting increase with every central bank tightening. This sequence of events would have interesting consequences for Australian interest rates, currency and highly leveraged home lenders.

  10. Still Speculating In Australian Housing: More Punch, Mate!

    July 26, 2010 - 4:11 pm


    Christopher PaveseBio | Email

    Christopher Pavese serves as President and Chief Investment Officer of the Broyhill Affinity Fund.

    “House prices have risen by nearly 25 percent over the past two years. Although speculative activity has increased in some areas, at a national level these price increases largely reflect strong economic fundamentals, including robust growth in jobs and incomes, low mortgage rates, steady rates of household formation, and factors that limit the expansion of housing supply in some areas." - Current Chairman of the Federal Reserve, Ben Bernanke, 2005

    While most investors today probably understand that Europe isn’t exactly a poster-child for prudent government spending or budget planning, we’re not sure that the consensus is bearish enough on the spillover effects from a prolonged European Debt Deflation. Exports are still the foundation of the China story, but with their largest customers still lying in intensive care, we doubt appetites for cheap Chinese goods will be quite the same.

    At the same time, strategists today are still debating whether or not the massive, credit-induced spike in Chinese real estate prices is in fact, a bubble. We’ll let investors answer that one for themselves, but consider that the ratio of residential real estate to GDP in China looks a lot like California in 2006, while levels in Beijing and Shanghai match the Japanese peak in 1990.

    China has been a rare source of strength in a fragile global economy. This year, the Shanghai Composite is among the world’s worst performing equity markets, as the government’s visible hand has taken measures to curb speculation, dampen money growth, slow loan growth, and launch an aggressive attack on housing prices. Leading indicators of Chinese growth have responded accordingly, and have been slowing along with the stock market since last fall. We view this speed bump in the high-growth China story as an important leading indicator for global markets and explore one such consequence down under, in this letter.

    Who Can It Be Now

    Leading up to Japan’s bursting real estate bubble in 1990, we were told that this time was different: house prices simply reflected the growing economic power of Japan Inc. and there was a land shortage in overcrowded Tokyo. Today, Japanese real estate prices are still less than 50% of that peak value reached more than two decades ago. During the U.K. bubble, Brits blamed zoning requirements for creating land shortages until prices crashed to the lowest multiple of income on record in 1997. Similarly, builders in Northern Ireland predicted severe housing shortages if planners did not release more land in 2003. And before America’s bubble burst, there were land shortages across the country, from Florida’s undeveloped west coast to the deserts of Nevada.

    While prices at home have already fallen 30% from their peak, they’d have to fall another 45% just to reach the long term trend, which according to Robert Shiller, has been flat in real terms for three and a half centuries!!

    The recurring theme in every case is that housing bubbles are almost always justified by “new era” thinking, land shortages and are considered unique right up until the moment they pop. Most bubbles around the world have at least partially deflated in the wake of the Great Contraction, yet the property market Down Under continues to chug along ignoring the gravitational forces of mean reversion as Aussie consumers continue their American-inspired credit binge.

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    U.S. housing prices nearly doubled in the decade leading to their ultimate peak. Australian real estate kept pace with these gains until home prices lost nearly a third of their value as homeowners deleveraged their balance sheets. Since then, Australian households have watched their home prices appreciate by at least that much, while they continue to feast at the trough of easy credit.

    Here We Go Again

    Financial deregulation in Australia began slowly in the 1970s before accelerating more quickly in the 1980s. A number of factors contributed to a shifting focus within the banking system from business towards housing in the 1990s, resulting in a doubling of the share of housing loans to banks’ total lending in the past two decades. In other words, Australia’s banks are very exposed to the bubble in household real estate. Deregulation predictably led to considerable “product innovation” in the Australian mortgage market.

    Homeowners in the U.S. understand that “product innovation” is a nice way of saying weaker lending standards. Wholesale lenders competed aggressively for market share by undercutting the banks and creating sexy new mortgage products like home-equity, interest-only and low-documentation loans. Sound familiar?

    These lenders, with no balance sheet and little capital, quickly garnered 15% of housing loan approvals. Low-doc loans accounted for 10 percent of new housing loans in 2006, compared with less than one half percent in 2000. This trend continued unabated until the credit crisis sparked a near closure of the RMBS market, and several large wholesale lenders were acquired by major banks. As a result, the market share of Australia’s major banks rose from 60 percent to over 80 percent of the entire housing market!!

    Granted, lending standards in Australia did not loosen as much as some other markets. There was little sub-prime lending of the kind we grew to love here in the states, and non-performing housing loans have remained low, for now. Yet, according to Guy Debelle, assistant governor of the RBA, low-doc loans still account for almost 10 percent of new loans and almost half of all new home owners are opting to not make any principal repayments. We also find it curious that “investor’s” (i.e. speculator’s) share of new home loans has risen almost uncontrollably, while first time buyers disappear from the market--a clear indication that affordability is declining, and a big red flag, as first time buyers represent an important link in the residential food chain.

    Standard & Poor’s recently warned that Australia's record mortgage debt could expose some borrowers to ''financial shock'' should interest rates or joblessness rise, while flagging the danger associated with the high levels of debt held by Australians.

    Australian households currently hold more than $1 trillion in debt, a record level. The ratio of household debt to disposable income in Australia was 158 percent, at the end of the first quarter. About one in seven Australian taxpayers has an investment property other than the family home. Despite all the talk about Australian lenders being more responsible than those in the U.S., mortgage debt in Australia rose three times faster since 1990, according to Steven Keen. Having started with a mortgage debt to GDP ratio that was just 40% of America’s, Australia’s ratio is now higher than ours and still increasing. No deleveraging here. More punch please.

    Whack A Banker

    A survey by Australia’s Finance Sector Union shows that nearly one-third of Australian bank employees are worried about their customers' ability to repay loans, while nearly half say they are under pressure to push more credit on customers even if customers don't ask and may not be able to afford it. In the survey, nearly 60 percent of bank workers said selling debt to customers had ''become a much higher priority and sales targets always go up''. Acting FSU National Secretary, Wendy Streets, said that bank workers uniformly reported being under constant pressure to sell more products to customers and have concerns about customers’ capacity to manage their debt. The survey found that 79% say Australia needs tougher regulations to stop personal debt getting out of control.

    Australian Bankers’ Association chief executive Steven Münchenberg claims, "Banks undertake a detailed assessment of a customer’s capacity to pay before providing a home loan. Banks’ conservative risk profiles and the rigorous assessment of the customer’s capacity to pay are reflected in the low level of banks’ loan delinquencies." We thought this was particularly interesting in light of comments by a lender in the industry that explained, “They cannot write the stuff quick enough, and despite stories of prudent lending practices down under, “Sometimes the bank just asks for a few bank or recent credit card statements before approving multi-million dollar loans.

    Another customer wrote, “I maxed my $10,500 credit card limit during my travels offshore and upon my card’s expiration I decided not to reactive the new card so that I could easily repay this huge debt. When later talking with a call centre representative not only did she offer to increase the limit on my maxed out card but also pressured me into reactivating the new card and creating further debt. Wow. Conservative risk profiles indeed.

  11. Inflation refers to a rise in prices that causes the purchasing power of a nation to fall. Inflation is a normal economic development as long as the annual percentage remains low; once the percentage rises over a pre-determined level, it is considered an inflation crisis.

    There are many causes for inflation, depending on a number of factors. For example, inflation can happen when governments print an excess of money to deal with a crisis. As a result, prices end up rising at an extremely high speed to keep up with the currency surplus. This is called the demand-pull, in which prices are forced upwards because of a high demand

    Another common cause of inflation is a rise in production costs, which leads to an increase in the price of the final product. For example, if raw materials increase in price, this leads to the cost of production increasing, which in turn leads to the company increasing prices to maintain steady profits. Rising labor costs can also lead to inflation. As workers demand wage increases, companies usually chose to pass on those costs to their customers.

    Inflation can also be caused by international lending and national debts. As nations borrow money, they have to deal with interests, which in the end cause prices to rise as a way of keeping up with their debts. A deep drop of the exchange rate can also result in inflation, as governments will have to deal with differences in the import/export level.

    Finally, inflation can be caused by federal taxes put on consumer products such as cigarettes or fuel. As the taxes rise, suppliers often pass on the burden to the consumer; the catch, however, is that once prices have increased, they rarely go back, even if the taxes are later reduced. Wars are often cause for inflation, as governments must both recoup the money spent and repay the funds borrowed from the central bank. War often affects everything from international trading to labor costs to product demand, so in the end it always produces a rise in prices.

  12. Positive Reinforcement - that's what that is

    :D A astute observation!

    So the reason for those who would argue for house increases?

    Is it just that they belive prices will rise?

    Maybe they like to argue (gives them a buzz)

    Maybe the really think prices will go up

    Or maybe like for those of us who come here it is for a lot of reasons, a important one Positive reinforcement.

    In australia house prices are still sky high

    Sometimes I wonder if my thinking is going to help me.

    So I wait and hope

  13. Bank manager on remand over alleged theft

    By Kristy Sexton-McGrath

    Updated 29 minutes ago

    Bendigo Bank manager Colin Carleton disappeared from his home at Atherton on July 13.

    Bendigo Bank manager Colin Carleton disappeared from his home at Atherton on July 13. (Queensland Police)

    * Map: Atherton 4883

    * Related Story: Missing bank manager found and charged

    * Related Story: Bank manager missing amid branch financial audit

    A far north Queensland bank manager who disappeared amid an investigation into millions of dollars of missing money has been remanded in custody.

    Colin John Carleton, 55, disappeared earlier this month after more than $3 million went missing from Atherton's Bendigo Bank branch, south-west of Cairns, where he was the manager.

    Carleton was found by police last night at a campsite at Cape Tribulation, north of Cairns.

    He appeared in the Mareeba Magistrates Court this morning charged with one count of stealing as a servant.

    He did not apply for bail and has been remanded in custody.

    :rolleyes: They got one

  14. AMA and Ireland’s Bovine Bubble

    Author: Jaedi

    4 Aug

    NAMA (National Asset Management Agency) has more in common with cows than one would imagine…

    Livestock, specifically cattle, and their produce, are by far the greatest output of the farming sector in Ireland. The bubble referred to in the title of this article, however, refers not to the cows, but the land on which they graze. With the exception of Luxembourg (an anomaly due to its diminutive size), Ireland has the most expensive agricultural land in Europe.

    Why, you might ask, is there such as wide chasm between prices for agricultural land in Ireland and its European average? Why do prices bear no relation to agricultural productivity or the income stream one would expect to achieve from such an investment?

    I present exhibit A – a listing from Henry O’Leary, a real estate agency that seems to specialise in rural plots of land. Some of these plots are already zoned for residential development (normally a single house). I draw your attention to the purely agricultural land i.e. with no planning permission for residential development.


    First up, is 114 acre property with an undisclosed guide-price. I guess they don’t want to scare off potential buyers, so we’ll move swiftly along to the second property:

    Dromore, Glandore in West Cork.

    (hover the mouse cursor over the blue boxes in the screenshots below to see the pop-up comments)

    No doubt this second property is a fine plot of agricultural land and a veritable bucolic wonderland of sea views. Ok. So the price? It comes in at a modest €1,000,000. That’s SIX zeros i.e. €1 million or approaching US$ 1.5 million at current exchange rates.

    I hope you were sitting down for that – sorry for not warning you. Once your heartbeat has managed to re-establish its normal rhythm and your grasp of conventional wisdom is sufficiently twisted to accommodate this insanity, allow me to remind you of a very important issue – the emotional welfare of the cud-chewing, methane-farting residents of those fields.

    The scenic value of those ocean views for our dear bovine friends more than justifies the 7-figure asking price of this “non-residential agricultural holding with ocean views”. You could even name it Bovine Vista!

    But wait, maybe we’ve missed something:

    “within walking distance of Glandore village, it has extensive road frontage and given the location this farm could prove an exceptional investment should planning permission be obtained even for just one house”

    An important detail indeed. No need to even consider the cows, so. You’ve got a chance that some idiot in the County Council makes a mistake in the planning application process and grants planning permission. The minor detail of actually paying to have the property developed can be overlooked for now.

    With my best wishes to the sucker who sinks his current and future life savings into Bovine Vista, I must, lamentably, continue to the next property for sale:

    Butlerstown, Bandon, West Cork

    Once again, this is land zoned for agricultural use – a whole 17 acres of it – which means only €59,000 per imperial acre (or US$85,000 at current exchange rates) or for a more internationally recognisable figure – a paltry €145,000 per hectare.

    In the case of this property, let’s consider for a moment the hypothetical (and fortunate for the buyer) circumstances of the land being rezoned by the County Council. The land would obviously be worth much more than its agricultural output would suggest. The reality is that the guide price of this agricultural holding already prices in a significant chunk of the speculative gains the buyer MAY make in the event of that improbable rezoning. There must be something I’m missing…

    “The agricultural qualities of this land which are superb no longer form the foundation upon which the valuation is based, it’s positioning adjoining Barryroe GAA Grounds and being in close proximity to Lislevane Village are far more likely to dictate the outcome of this sale.”

    Now I see – I missed the nod and the wink. I guess I was mistaken in relation to the previous property too. It was no idiot in the County Council but a wily opportunist who deftly made a slip of the pen (or more likely an openly agreed determination by collusion), resulting in the fortunate mishap of planning approval for development of the property. So with this infallible investment strategy in mind, we should consider the pricing strategy – pick a very high figure and double it.

    Is Ireland “Special”?

    Considering that agricultural markets are global, we should expect some convergence of prices among agricultural regions with similar physical and climatic conditions. Only land with similar characteristics should be compared because factors such as soil quality and climate influence productivity greatly. Ireland’s climate is, admittedly, very suitable for livestock farming, but this is insufficient to explain the valuations. In fact, the difference is so large that it cannot be attributed to domestic factors.

    The arch-nemesis of the natural environment a.k.a the Common Agricultural Policy of the European Union, is another factor that should not be disregarded. CAP subsidies, however, do not explain the disparity because they should push up agricultural land prices by similar amounts throughout Western Europe (the new EU member states will not benefit from full CAP subsidies until 2014 after the current 7-year budget expires). Even allowing for a recent drop, a recent report by Savills Ireland, a real estate company, reports that average agricultural land prices in Ireland average at about €40,000 per hectare. Even in other parts of Western Europe such as France – itself a wealthy and productive exporter of agricultural produce – the price per hectare in the more expensive regions for agricultural land averages at under €7,000 per hectare. I should mention, though, that other countries show signs of (less severe) bubbles including the UK, Denmark, Benelux and Italy.

    No, Ireland is not special and this is simply another bubble waiting to burst. The urban property bubble in Ireland was also “justified” by arguments such as the positive demographics, but that, in hindsight, was obviously was a fallacy. In fact, the Ireland of today is a country of net emigration, as young people once again leave in search of work abroad and recently arrived immigrants return home. Agricultural land will eventually return to levels corresponding to the financial return on its agricultural output just as urban rental property is dropping to a realistic level suggested by its rental yield.

    The Fallout – Last Man, NAMA and the Environment

    Obviously, the last man in will be worst hit. This is the risk that any individual takes when making an investment (especially in an asset price bubble) and, as such, does not concern me.

    NAMA (National Asset Management Agency), a.k.a the Taxpayer, the subject of much attention recently for its proposed acquisition of much of the toxic property debt of Ireland’s banks, will be exposed to this bubble. As these toxic property loans largely consist of loans to developers, it is to the property developers we should look. Their viability depends to a large degree on the valuations of their “land banks” which are often undeveloped agricultural land adjacent to urban areas. I wonder what NAMA’s bill to the taxpayer will amount to once the developers are faced with the bursting of this bovine bubble.

    The two examples above are far from any city, however, the emphasis placed on proximity to any kind of village or hamlet with the objective of inflating the price serves as a warning to accountants now attempting to place a value on the property loan bank assets that NAMA is about to acquire on behalf of the State.

    Finally a word of advice to tourists – visit Ireland while you can. Its last remaining remnants of natural coastal beauty are being destroyed thanks to the collusion of property developers and local government officials. Our only hope is that the collapse of the urban property bubble takes this rural property bubble down with it!

  15. BUDAPEST (Reuters) - Ratings agency Moody's put Hungary on review for a possible downgrade on Friday, citing increased fiscal risks after it suspended talks with the IMF and EU on its existing $25 billion aid deal.

    The new government halted the talks last weekend. Prime Minister Viktor Orban said on Thursday he would likely not renew the safety net and would row back on a commitment to cut the budget deficit to European Union-prescribed levels next year.

    "Moody's decision to initiate this review was prompted by the increased uncertainty regarding Hungary's fiscal outlook and economic prospects," the agency said.

    "This uncertainty is the result of the recent breakdown of Hungary's talks with the IMF and EU (after a disagreement over the country's 2010-11 fiscal deficit targets), which in turn led to a suspension in the next disbursement from the IMF/EU EUR20 billion loan programme for Hungary."

    Orban has spurned warnings that Hungary -- where households have a large stock of foreign currency debt -- could face market pressure and currency weakness without support from its lenders.

    He said the current EU and International Monetary Fund deal would expire in October, and while Hungary would meet its 2010 budget target under the agreement, the government would negotiate with the EU about how and when to bring the deficit below 3 percent.

    Some analysts say concerns about the scale of Hungary's current deficit are overblown given it looks set to cut the shortfall to 3.8 percent of GDP this year. But markets have been concerned by the government's rhetoric and public railing at the IMF.

    The forint slipped 0.8 percent versus the euro after Moody's warning to 286, but climbed back to 285.45 by 0808 GMT.


    Moody's said a review of Hungary's sovereign ratings would focus on the willingness of the government to formulate a coherent reform agenda that could stabilize the economy and the government's financial strength.

    But, in line with many analysts, it said it expected Hungary to resume talks with lenders after a municipal vote on October 3 which the ruling Fidesz party is expected to win -- after it swept into power at parliamentary elections in April.

    "Moody's expects the Hungarian government and the EU and IMF to come to an agreement following the local elections (scheduled for October 3), as all sides are aware of the negative consequences of a complete breakdown in the programme," it said.

    The agency is likely to confirm Hungary's current rating of Baa1 if there is a credible commitment to the IMF's previously proposed fiscal targets, it said.

    "However, if the new fiscal targets that emerge from the next round of talks imply a less rapid fiscal consolidation path, then a one-notch rating downgrade is likely," it said.

    Zsolt Kondrat, analyst at MKB said the possibility of a rating downgrade was a direct consequence of the breakdown of talks between the government and the IMF and hints from Orban that they are still looking for ways to go with a looser budget next year.

    "I think the big issue is whether the original deficit path is adhered to or not and if not what happens to the debt trajectory," he said.

  16. Stressing Out the Banks

    Friday, 23 July 2010 – Melbourne, Australia

    By Kris Sayce

    * Stressing Out the Banks

    * Why Did BP's Leak Take so Long to Fix?

    * There Ain't Nothin' Like Printing Money


    At least a third of your wealth is under imminent threat...But these two urgent evasive investments should protect you

    from the China collapse...

    Click here to find out what they are, right now.


    Right now you may be wondering who the big winners from the stimulus programmes and banking bail outs have been, because it sure as hell hasn't been you.

    Well, look no further than two articles yesterday from Bloomberg News:

    "Purchases of U.S. Existing Homes Probably Dropped as Credit's Effect Waned"

    That's the story from Main Street, USA. But it's not the full story.

    Take a look at what's happening to Wall Street, USA. Or rather Long Island, USA:

    If you don't know the Hamptons, take a look at this link from Google Maps of Southampton, Long Island. It's part of the playground for Wall Street's rich and infamous.

    Although we do find it amusing that the Google Streetview cars have somehow not found the time to drive up and down the expensive streets of Southampton, Long Island yet they appear to have covered every block of the not-so-well-off rust belt city of Detroit.

    And I have to say, they've found the time to drive down your editor's street in Frankston too! We'd have thought the Hamptons would be much more interesting for people to look at than Detroit or Frankston.

    But it's just a coincidence I'm sure.

    Anyway, all those stimulus cheques and banking bailouts that were supposed to save the economy have simply ended up in the pockets of those that helped cause the mess.

    While Ma and Pa Kettle have been scrimping and scratching away, or even maybe taken advantage of what they thought were generous government subsidies, the real winners are those that received the biggest handout of all - the bankers.

    And now these grateful bankers are helping to stimulate themselves and the pockets of other bankers by buying their big houses from them.

    All thanks to the whacking great taxpayer funded bailouts which now apparently sits at USD$3,700,000,000,000 - or to put it another way, USD$3.7 trillion.

    Now granted, a bunch of that USD$3.7 trillion has gone to Fannie Mae and Freddie Mac to help them write even more mortgages to the likes of Ma and Pa Kettle.

    But "helping" someone to hock themselves up to the eyeballs when they can least afford it is hardly the kind of help we think they need.

    However, you shouldn't think it's all plain sailing for the poor banks. Last year US banks went through an emotional stress test of their balance sheets. The upshot was that most came through with flying colours. Hurrah!

    Now it's the turn of the European banks to be stressed, sorry, we mean, stress tested. Is there any doubt they will come up smelling of roses too. We can imagine it now, "Ta-da, everything's fine, move along please, there's nothing more to see..."

    The result of the stress testing is due to be released tomorrow evening Australian Eastern Time. Although we did find it quite amusing that one of the stress scenarios doesn't include the scenario of a sovereign government defaulting on its obligations.

    That pretty much gives the game away about how European governments intend on solving their debt problems - by taxing and inflating their way out of it.

    Which by itself means another win for the banks. But as Niall Ferguson wrote in the Financial Times recently:

    "Long before Keynes was even born, weak governments in countries from Argentina to Venezuela used to experiment with large peace-time deficits to see if there were ways of avoiding hard choices. The experiments invariably ended in one of two ways. Either the foreign lenders got fleeced through default, or the domestic lenders got fleeced through inflation."

    The last sentence sums it up. The Europeans, like the Americans, have decided to plump for the coward's choice - inflation.

    Oh, and by the way, don't fall for all the guff you're hearing about the heroic new UK prime minister, David Cameron. We'll have more on that next week...

    Anyway, all this talk about the corrupt banks got us thinking. In a way, it's a flow on from what I wrote yesterday, about creative destruction.

    In late 2008 we were within a hair's breadth of seeing the banking system - and the glorious bankers within it - destroyed.

    The years of chicanery and corruption would be over and something new and, well, less corrupt could appear in its place.

    If we had been unlucky then the bankers would have come up with something worse. Although frankly, it's hard to see how that would have been possible. But not to worry, because if it was a worse system then creative destruction and market forces would eventually put paid to it too.

    But if we'd been lucky creative destruction would have seen the need for something better than the old banking system to appear. And eventually that will happen, it'll just take time. As we keep saying, the bailouts and handouts have done no more than postpone the inevitable outcome.

    I mean, think about it, if you're starting a banking system from scratch, odds are you're gonna have to make plenty of improvements.

    After all, if you're a saver who's just lost a bunch of savings because ANZ Bank, Commonwealth Bank, NAB and Westpac have just collapsed under the weight of excessive and manic lending to the housing market, you'll want to make sure your money is safer this time.

    Wouldn't you?

    That's all very well and good, but what improvements?

    We've argued previously about the case for a gold backed currency.

    Simply put, the case for a gold backed currency is that the gold coins are a physical store of value. Gold is widely recognised commodity. Due to its qualities it retains its value and is easily divisible and exchangeable.

    Even paper money backed by gold - providing there is a 100% reserve held by the issuer of the paper money - is preferable to a system of fiat money where like here in Australia the money in your wallet is backed by nothing more than the trust in the government and central bank.

    The only problem with paper money backed by gold is when the issuers of the paper begin issuing more paper than the gold they have in reserves.

    But that doesn't mean that a gold backed currency is a bad idea, it simply means that should an issuer of paper money issue more than the gold they have in reserve then they should be charged with counterfeiting.

    That, you would hope, would prevent most honest issuers (let's call them banks!) from issuing counterfeit paper money. Furthermore, the bankers would be loathe to even try as should customers become aware that the bank is counterfeiting by issuing excess paper money there would soon be a run on the bank as depositors rush to exchange their paper notes for gold.

    And the idea of individual banks issuing their own notes backed by their own reserves isn't as crazy as you may think.

    For years, until the central banks became omnipotent, this was pretty much how many banking systems operated.

    Banks could issue their own notes, much like you see today in the United Kingdom where three Scottish banks - Royal Bank of Scotland, Bank of Scotland, and Clydesdale Bank - all have the ability to print their own bank notes.

    The same applies in Northern Ireland where The Bank of Ireland, First Trust Bank, Northern Bank and Ulster Bank print their own notes.

    Those notes are widely circulated and accepted alongside Bank of England printed notes. It's proof that a multi bank note system can work.

    However, in the case of the UK, under the current banking system, having multiple note issuers is actually pretty pointless, because in effect Bank of England issued notes act as a reserve currency for the notes issued by the Scottish and Northern Ireland banks.

    When the Bank of Scotland for example, prints Bank of Scotland bank notes, it can only do so if it holds an equivalent amount of Bank of England notes.

    Plus all the notes - English, Scottish and Northern Irish - are exchangeable for the same face value with no potential for one to trade at a premium or discount.

    Under a private banking system backed by gold reserves this would be the same. The only difference is that should a bank begin issuing more notes than the gold reserves held, and should the market become aware of this, notes issued by that bank would begin trading at a discount to other notes, to take into account the shortfall in reserves.

    And in extreme cases people and businesses may refuse to accept them. Hence the incentive for the banks not to issue more notes than reserves.

    Now, getting back to the stress tests, how easy would that be to do a stress test on private banks? Two simple questions - How much gold do you have in the vaults? How many notes have you issued against the gold?

    Stress test over.

    Compare that to this description from Reuters about what is involved with the European bank stress testing:

    "The test scenario will assume a 3 percentage point deviation of the EU's gross domestic product from the EC's forecasts over a two-year horizon. It will also assume a "sovereign risk shock" in which some government bond prices would be marked down further from the depressed levels of early May. The size of such haircuts has not been officially announced and conflicting reports about them suggest national regulators may not be applying them consistently. A banking source told Reuters on Tuesday that the haircut on Greek sovereign bonds was 23 percent off "current market prices".

    "Banks will be tested on how their so-called Tier 1 capital, a key measure of financial strength, bears up. The ECB wants to see if the ratio of this capital to assets stays above a minimum benchmark of 6 percent of assets in the tests; although this is higher than the 4 percent legal minimum, it is lower than most bank shareholders are happy with. Deutsche Bank, for example, now has more than 11 percent."

    As we've shown before, the current banking system is so complex, even top banking analysts struggle to make sense of what state the banks are in. If you don't believe me, listen in on the next bank earnings conference call.

    But to be honest we don't know what to expect from the stress tests. We can only guess that the results will be well stage managed...

    All the big UK, French and German banks will most probably receive glowing reports.

    All the banks from the medium sized economies will get a tick of approval, perhaps with a small comment about something unimportant.

    Then almost all of the banks from the smaller economies will get a good report card too. Again with perhaps a comment offering helpful suggestions... but nothing to panic about of course.

    Finally, we wouldn't be surprised to see one bank from one really tiny economy get the book thrown at it. Just so they can say to the markets, "Look, see, we vigorously and transparently applied the stress test and only the Bank of Whatever from the Republic of Where's-That has any problems... but even that's fixable."

    In other words, the word whitewash springs to mind.

    The reality is, the stress test means nothing because you can see from yourself just by looking at the Tier 1 capital how insolvent the banks are.

    According to the comments by Reuters above, "The ECB wants to see if the ratio of this capital to assets stays above a minimum benchmark of 6 percent of assets in the tests."

    In other words, for every $100 in assets (loans, etc) held by banks, the European Central Bank is happy for banks to have just $6 on their books. And considering Tier 1 capital can include government bonds and other securities, the actual cash reserves held by the banks is much less.

    For example, as we pointed out with the Commonwealth Bank several months ago, the CBA only has around $2 of cash in reserve for every $100 deposited by customers. Despite that the banks tell their customers that all at-call deposited funds are available immediately.

    Now you know the real reason why banks set daily maximum limits on things such as ATM withdrawals and bill payments and why you need to notify them if you intend taking out a large amount of cash from the bank branch.

    They've got to make sure they can jiggle the books so there's some cash in the till when you come a-callin'.

    But already the markets are looking on the brightside on the prospects of a positive outcome from the stress tests. Quite frankly, as far as we see it, it's just another false dawn.

    It's doing little more than adding to the volatility in the markets, and delaying what is inevitable - the collapse of an unsustainable and insolvent banking system.

    The European stress tests are a sham just like the American stress tests were a sham.

    We can only hope that when the banking system eventually collapses, it's replaced by a system of sound money rather than an attempt to revive the failed experiment of fiat currencies.


    Kris Sayce

    For Money Morning Australia


    Slovenia's NLB bank needs fresh capital and will seek to raise EUR400 million through a rights issue, the bank's supervisory board said in a statement posted Friday, ahead of the publication of European banking sector stress tests.

    Shareholders will be asked to vote on the capital injection in September, the statement said.

    NLB, which has acknowledged the need for capital all year and has been reported as likely to fail the so-called stress tests, said it needs additional capital due to higher regulatory requirements expected in coming Basel 3 regulations and to be a strong retail and corporate banking presence in Southeast Europe.

    NLB is Slovenia's largest bank by assets. Its main shareholder is the Slovenian government with a 43% stake, followed by Belgium's KBC Group NV (KBC.BT) with 31%.

    Company web site: http://www.nlbgroup.si/

  18. Several Spanish savings banks fail stress test

    23 Jul 2010, 0006 hrs IST,AGENCIES

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    * Bank of Spain

    * El Pais

    MADRID: Several of Spain's 18 savings banks, including some of those which have been involved in recent mergers, have failed to pass tests to see how strong they would be if economic circumstances were more adverse, newspaper El Pais reported on Friday citing financial sources.

    The Bank of Spain is due to publish the results of so-called stress tests later on Friday, and similar tests will be published across Europe.

    The tests had been expected to show that some of the unlisted savings banks would need a capital injection under certain scenarios.

    The newspaper said a small group of savings banks would need more capital if economic conditions were to worsen severely and there were a sovereign debt crisis in several countries. Amongst these, some have already received funds from the Spanish State's Fund for Orderly Bank Restructuring (FROB), it said, without providing further details.

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