The disappointment is widespread
Revenues of Bharti ,RCOM and Idea were below expectations by varying degrees. Bharti and beat the EBIDTA margin estimates on consolidates basis(not for wireless).Idea suffered the pains of fast network expansion of the new and old circles and disappointed on margins too.
All companies' toplines were estimates; lower tax rate and non operating items helped Bharti and RCOM beat the net profit estimates.
Bharti
2Q08 revenue grew 7.3% to Rs 63,374 mn (below 1.9% estimates)
EBIDTA margin : 42.8 %
RCOM
2Q08 revenue grew 6.4% to Rs 45,785 mn (below 6.0% estimates)
EBIDTA margin : 42.8 %
RCOM sold 5% stake in tower subsidiary
Idea
2Q08 revenue grew 5.7% to Rs 15,622 mn (below 6.5% estimates)
EBIDTA margin : 32.7 %
Higher network expenses and higher than expected tax charge
Reduction in Minutes of Usage(MoU) and lower than expected usage has resulted in lower than expected ARPU and belief that Indian telecom sector is not infallible. Penetration to rural areas will put more pressure on ARPU.
Universal decline in MoU:
Bharti : 1.7%
RCOM: 4.0%
Idea: 5.5%
This clearly indicates that existing customers are not increasing the usage fast enough to compensate for lower-usage incremental customers.
QoQ revenue growth reduction due to falling ARPU although subscriber growth remains strong.
EBIDTA margins
Bharti & RCOM show growth of EBITDA marginsdue to economies of scalewhere as that of Idea falls due to network expantion.
Non Voice revenue
Ratio=(Non Voice Revenue)/(Mobile Revenue) is lowest in India and is declining further.
Bharti says that due to low voice tarrifs in India,non voice will take time to take off.
Estimates:
It is estimated that 354mn subscribers by FY3/09 and 452mn by FY3/10
Bharti,being an incumbent, should gain market share in near term.On the other hand,with the possibility of the GSM network, RCOM could face a slight decline. ARPU estimates go down faster than expected:
2-3% increase in Bharti
2-3% decrease in RCOM
Friday, November 23, 2007
Friday, October 26, 2007
How to spot an American recession
When we look back next year at this time, it will be clear what caused the US recession of 2007-08. It was basically a triple whammy: Housing prices kept falling, oil prices kept rising, and both lenders and borrowers grew more cautious after five years of incaution. The combination was simply too much even for the impressively resilient US economy.
The US Federal Reserve saw it coming, but couldn't move swiftly enough.
Still, Fed chairman Ben Bernanke's interest rate cuts helped keep the recession as short and mild as those of 1990-91 and 2001.
There are three rules to keep in mind when reading a recession prediction.
• Rule No. 1: Forecasters rarely call the turn in the economy accurately. Even the wisest business cycle veterans have a hard time.
"There are forecasts of thunderstorms and everyone is saying, ‘Well, the thunder has occurred and the lightning has occurred and it's raining.' But nobody has stuck his hand out the window," then Fed chair man Alan Greenspan told Fed colleagues on 2 October 1990, transcripts reveal.
"And at the moment," he said, "it isn't raining. ...the economy has not yet slipped into a recession."
Much later, arbiters at the private National Bureau of Economic Research determined a recession had begun that July.
• Rule No. 2: Once forecasters start shaving their growth forecasts, they tend to keep shaving them. At the end of August, economists surveyed by Macroeconomic Advisers, a St Louis forecaster, predict ed that the US would grow at a 2.7% annual rate in the fourth quarter; last week, they were betting on a 1.6% growth. • Rule No. 3: There are always good reasons to argue, "This time it'll be different." But "this time" is usually different in specifics, not in the overall outcome.
The housing story is painfully clear.
A June WSJ.com survey found that, by a 3:1 ratio, economists thought the worst of the housing bust was behind us.
They were wrong. Housing kept sinking. Housing starts in September were 26% below year-earlier levels.
That's a direct hit to economic growth.
Falling housing prices are a second hit. The price of the median existing home sold in September was down 4.2% from a year earlier. That is reducing household wealth, shaking confidence and increasing foreclosures.
That's significant because today's recessions are trig- gered more by collapsing asset prices-the bursting tech- stock bubble in 2001, for in- stance-than by the old cycle of retailers and factories react- ing to rising inventories of un- sold goods by curtailing orders and production.
"Only twice have we had this kind of housing collapse with- out a recession, in 1951 and 1967, and both times the de- partment of defence came to the rescue, because of the Korean War and the Vietnam War," Edward Leamer of the University of California, Los Angeles (UCLA), told the Fed's Jackson Hole, Wyoming, con ference in August.
Leamer and his UCLA fore casting team say this time will be different. They predict "a near-recession experience", but expect factories, aided by export orders, to avoid reces sion-inducing layoffs. (See Rule No. 2.) The energy story is less clear. Oil and gasoline prices are up and look likely to keep rising. That has hurt, but not crippled, consumer spending on other things.
But oil at nearly $90 (Rs3,555) a barrel-$30 higher than at the start of the year-doesn't seem to have had much impact on global economic growth yet.
There's good reason for that: oil prices are up partly because China's growth spurt increases its appetite for crude oil.
You can't have a recession because you have too much demand. And inflation-fearing central banks haven't panicked and raised interest rates in response to higher crude oil prices, as they once did.
But that was yesterday's story. If oil prices keep climbing because producers can't or won't increase supply or because of recurrent tensions in West Asia, the effects are unlikely to be as benign. The next $10 increase in oil could hurt consumers more than the last $10 increase.
And then there's the prospect of a credit crunch, the consequence of lenders and investors being burnt by mortgages and other loans that turned out to be much riskier than anticipated.
As the late economist Rudiger Dornbusch used to say: "The crisis takes a much longer time coming than you think and then it happens much faster than you would have thought." Rudi was right.
Commercial banks, investment banks and the market itself are tightening lending terms. That may, as central bankers argue, be a welcome reaction to excessively generous lending in years past.
But coming on top of housing and energy, the understandable desire of lenders to be a bit more tight-fisted is likely to turn what might have been painfully slow growth into recession.
Now, recall Rule No. 1.
What could prove me wrong?
Bernanke talks hopefully about a "two-speed economy" in which housing remains weak and the rest of the economy remains strong. After all, the best guesses are that the US grew at significantly better than a 3% annual rate in the quarter ended 30 September.
The continued boost to US exports from a weakening dollar and continued economic vitality in Europe and Asia could yet offset the triple whammy.
But global growth prospects, except for China, look gloomier than six months ago. And, at home, the job market could continue to be strong enough to give consumers the wherewithal to keep spending.
But that's not the story I expect to be writing in October 2008.
wsj@livemint.com
Sunday, October 21, 2007
Warren Buffet : Investing in Markets
The Indian stock market made historic moves this week, breaking the old records and making some new ones. The Sensex hit the 18,000 mark. Not only the blue chips but also the small caps have been scaling higher. However, one should not get carried away by the hype. Investment Guru, Warren Buffet has suggested some rules before making an investment. These rules fall into 4 groups, which are as follows:
Business Rules: This includes the basic characteristics of the business itself. The business tenets focus on understanding how the business operates.
The first rule to be followed before buying a stock is never to invest in a business you cannot understand. This means that time needs to be spent on understanding the business. One can make short-term gains through stock tips, but in the long run, this will not help. "Poker players are not gamblers". The good players win on their skill, temperament, and intimate knowledge of the game and do not rely on luck to win the game.
The firm should also have a stable operating history. One should know whether the company has stood the test of time. The company, which has experienced different economic cycles and competition and has survived, is a safe bet. A company can have lower profit periods and still have a consistent operating history. These low profit periods can provide a good opportunity to purchase a good business at a low price. Further, knowing the long-term prospects of the business is also necessary. Technological aspects, competition, government rules, bargaining power, raw material supplies should be considered before making an investment.
Hence, in order to achieve this high level of competency, it is necessary to limit the scope of investigation and investment to a small number of companies. This necessitates a focused portfolio instead of a diversified one.
Management Rules: This refers to the quality of management. It is essential to have a strong management as the fate of the ship.Inspite of the happenings in the economy or the market, a company with a strong management that knows how to make money, can make money, and will keep making money.
Financial Rules:This refers to the various financial parameters that should be considered for evaluating a stock. Profit margins: According to Warren Buffet, the companies, which are able to earn higher margins along with high volumes, are a better bet. Falling volumes may indicate higher competition or the fact that the company has responded late to market changes. Further care should also be taken on the leverage factor. Higher interest costs reduce the margins. Mr. Buffet considers return on equity (ROE) as a better measure of annual performance as it takes into consideration the company's capital base. By looking at ROE, one is able to determine how efficient the company is at using both shareholder's capital and debt to produce income. He uses the modified version of what he called owner earnings. This is the cash flow available to shareholders, or the free cash flow to equity. It is defined as net income plus depreciation and amortization (i.e. adding back non-cash charges) minus capital expenditures minus additional working capital needs. This indicates the company's ability to generate cash for shareholders. One-dollar premise is also an important measure. Buffet's goal is to select companies in which each rupee of retained earning is translated into at least one rupee of market value. If retained earnings are invested in the company and produce above average return, there would be a rise in the company's market value. It is far better to buy a wonderful company at a fair price than a fair company at a wonderful price. Buying a stock on basis of the price that is well below its book value; but without considering its margin, return-on-equity, owner earnings and profitability history may prove to be a bad choice.This is from the market perspective.
Value of a business: Buffet's rule is to purchase the business only when its price is at a significant discount to its value. The value of the business is determined by the estimated cash flows expected to occur over the life of the business discounted at an appropriate interest rate. Use of conservative estimates of earnings and the riskless rate, as the discount rate is always a safe bet. Though calculating the value of the business is not difficult, estimating the cash flows may create problems. Hence selecting businesses, which are simple to understand and stable would help. Further, having margin of safety would minimize risks.One should stop trying to predict the direction of the stock market. Mr. Market is unpredictable and moody. If shares of good businesses are owned, market action on a day-to-day basis becomes inconsequential. What matters is the big picture trend of the company's operations, management and culture.
Market rules: This is from the market perspective.
Value of a business: Buffet's rule is to purchase the business only when its price is at a significant discount to its value. The value of the business is determined by the estimated cash flows expected to occur over the life of the business discounted at an appropriate interest rate. Use of conservative estimates of earnings and the riskless rate, as the discount rate is always a safe bet. Though calculating the value of the business is not difficult, estimating the cash flows may create problems. Hence selecting businesses, which are simple to understand and stable would help. Further, having margin of safety would minimize risks.
One should stop trying to predict the direction of the stock market. Mr. Market is unpredictable and moody. If shares of good businesses are owned, market action on a day-to-day basis becomes inconsequential. What matters is the big picture trend of the company's operations, management and culture.
Business Rules: This includes the basic characteristics of the business itself. The business tenets focus on understanding how the business operates.
The first rule to be followed before buying a stock is never to invest in a business you cannot understand. This means that time needs to be spent on understanding the business. One can make short-term gains through stock tips, but in the long run, this will not help. "Poker players are not gamblers". The good players win on their skill, temperament, and intimate knowledge of the game and do not rely on luck to win the game.
The firm should also have a stable operating history. One should know whether the company has stood the test of time. The company, which has experienced different economic cycles and competition and has survived, is a safe bet. A company can have lower profit periods and still have a consistent operating history. These low profit periods can provide a good opportunity to purchase a good business at a low price. Further, knowing the long-term prospects of the business is also necessary. Technological aspects, competition, government rules, bargaining power, raw material supplies should be considered before making an investment.
Hence, in order to achieve this high level of competency, it is necessary to limit the scope of investigation and investment to a small number of companies. This necessitates a focused portfolio instead of a diversified one.
Management Rules: This refers to the quality of management. It is essential to have a strong management as the fate of the ship.Inspite of the happenings in the economy or the market, a company with a strong management that knows how to make money, can make money, and will keep making money.
Financial Rules:This refers to the various financial parameters that should be considered for evaluating a stock. Profit margins: According to Warren Buffet, the companies, which are able to earn higher margins along with high volumes, are a better bet. Falling volumes may indicate higher competition or the fact that the company has responded late to market changes. Further care should also be taken on the leverage factor. Higher interest costs reduce the margins. Mr. Buffet considers return on equity (ROE) as a better measure of annual performance as it takes into consideration the company's capital base. By looking at ROE, one is able to determine how efficient the company is at using both shareholder's capital and debt to produce income. He uses the modified version of what he called owner earnings. This is the cash flow available to shareholders, or the free cash flow to equity. It is defined as net income plus depreciation and amortization (i.e. adding back non-cash charges) minus capital expenditures minus additional working capital needs. This indicates the company's ability to generate cash for shareholders. One-dollar premise is also an important measure. Buffet's goal is to select companies in which each rupee of retained earning is translated into at least one rupee of market value. If retained earnings are invested in the company and produce above average return, there would be a rise in the company's market value. It is far better to buy a wonderful company at a fair price than a fair company at a wonderful price. Buying a stock on basis of the price that is well below its book value; but without considering its margin, return-on-equity, owner earnings and profitability history may prove to be a bad choice.This is from the market perspective.
Value of a business: Buffet's rule is to purchase the business only when its price is at a significant discount to its value. The value of the business is determined by the estimated cash flows expected to occur over the life of the business discounted at an appropriate interest rate. Use of conservative estimates of earnings and the riskless rate, as the discount rate is always a safe bet. Though calculating the value of the business is not difficult, estimating the cash flows may create problems. Hence selecting businesses, which are simple to understand and stable would help. Further, having margin of safety would minimize risks.One should stop trying to predict the direction of the stock market. Mr. Market is unpredictable and moody. If shares of good businesses are owned, market action on a day-to-day basis becomes inconsequential. What matters is the big picture trend of the company's operations, management and culture.
Market rules: This is from the market perspective.
Value of a business: Buffet's rule is to purchase the business only when its price is at a significant discount to its value. The value of the business is determined by the estimated cash flows expected to occur over the life of the business discounted at an appropriate interest rate. Use of conservative estimates of earnings and the riskless rate, as the discount rate is always a safe bet. Though calculating the value of the business is not difficult, estimating the cash flows may create problems. Hence selecting businesses, which are simple to understand and stable would help. Further, having margin of safety would minimize risks.
One should stop trying to predict the direction of the stock market. Mr. Market is unpredictable and moody. If shares of good businesses are owned, market action on a day-to-day basis becomes inconsequential. What matters is the big picture trend of the company's operations, management and culture.
Saturday, October 20, 2007
portfolio insurance
A strategy of hedging a stock portfolio against market risk by selling stock index futures short or buying stock index put options.
Saturday, October 13, 2007
Monday, October 8, 2007
Sunday, October 7, 2007
Saturday, October 6, 2007
Friday, October 5, 2007
Government is liberalising SLR mechanism
An ordinance is on the cards to reduce Statutory Liquidity Ratio (SLR) ceiling limits so as to free up more funds for the industry. The ordinance would amend the Banking Regulation Act, 1949 to give RBI freedom in fixing the floor and ceiling levels of the SLR – now the floor and ceiling are stipulated in the Act itself. Presently, the Act stipulates 25% floor and 40% ceiling rates for SLR. According to these statutory SLR requirements, banks must keep a stipulated proportion of their total demand and time liabilities, in the form of liquid assets, namely cash, gold and approved securities. Investment in these securities amounts to mandated lending to the government, leaving that much less to the banks for advancing loans.
Present growth in off-take of loans at 25% is still running ahead of the 20% projected by the central bank earlier this fiscal. But, the growth in deposits is not commensurate with the scorching pace of loan growth. Over the last year or so, the high credit growth was financed by banks partly by offloading part of their investments in government securities in excess of SLR norms. During the current fiscal also the banks are following same procedure but are now close to the minimum statutory requirements. This implies that the banks can lend more in future provided accretion to their deposits is substantial. With banks finding it difficult to mobilize deposits in short term, relaxing the regulatory norms for reserves seems to be the only option left for the government. Paring the SLR would fit in with the planned liberalization of financial sector. However, with a reduction in SLR, the cost of borrowing may go up as the government will have to borrow from the market at higher rates, which will have a impact on the fiscal discipline of the government. Hence, such a reduction in SLR holdings would have to be consistent with a lower fiscal deficit.
In the mean time, Government wants to introduce fiscal incentives so to make bank deposits attractive for middle class, who are increasingly diverting their funds from traditional investments to other green pastures like real estate, stocks and mutual funds. Recently, government has allowed income tax deduction for the interest earned on fixed deposits with maturity period of five years or more, subject to the total ceiling of Rs. 1.50 lakhs for all eligible investments. The government is also thinking to exempt the interest income on deposits to the extent of Rs. 15,000 per annum per person. This proposal may come through in our next budget to be presented in the Parliament on February 28,2007.
Glossary :-
Demand Liabilities
'Demand Liabilities' include all liabilities which are payable on demand and they include current deposits, demand liabilities portion of savings bank deposits, margins held against letters of credit/guarantees, balances in overdue fixed deposits, cash certificates and cumulative/recurring deposits, outstanding Telegraphic Transfers (TTs), Mail Transfer (MTs), Demand Drafts (DDs), unclaimed deposits, credit balances in the Cash Credit account and deposits held as security for advances which are payable on demand. Money at Call and Short Notice from outside the Banking System should be shown against liability to others.
Time Liabilities
Time Liabilities are those which are payable otherwise than on demand and they include fixed deposits, cash certificates, cumulative and recurring deposits, time liabilities portion of savings bank deposits, staff security deposits, margin held against letters of credit if not payable on demand, deposits held as securities for advances which are not payable on demand, India Millennium Deposits and Gold Deposits.
Statutory Liquidity Ratio (SLR)
In terms of Section 24 (2-A) of the B.R. Act, 1949 all Scheduled Commercial Banks, in addition to the average daily balance which they are required to maintain under Section 42 of the RBI Act, 1934, are required to maintain in India,
a) in cash, or b) in gold valued at a price not exceeding the current market price, or c) in unencumbered approved securities valued at a price as specified by the RBI from time to time.
an amount which shall not, at the close of the business on any day, be less than 25 per cent or such other percentage not exceeding 40 per cent as the RBI may from time to time, by notification in gazette of India, specify, of the total of its demand and time liabilities in India as on the last Friday of the second preceding fortnight,
At present, all Scheduled Commercial Banks are required to maintain a uniform SLR of 25 per cent of the total of their demand and time liabilities in India as on the last Friday of the second preceding fortnight which is stipulated under section 24 of the B.R. Act, 1949.
Present growth in off-take of loans at 25% is still running ahead of the 20% projected by the central bank earlier this fiscal. But, the growth in deposits is not commensurate with the scorching pace of loan growth. Over the last year or so, the high credit growth was financed by banks partly by offloading part of their investments in government securities in excess of SLR norms. During the current fiscal also the banks are following same procedure but are now close to the minimum statutory requirements. This implies that the banks can lend more in future provided accretion to their deposits is substantial. With banks finding it difficult to mobilize deposits in short term, relaxing the regulatory norms for reserves seems to be the only option left for the government. Paring the SLR would fit in with the planned liberalization of financial sector. However, with a reduction in SLR, the cost of borrowing may go up as the government will have to borrow from the market at higher rates, which will have a impact on the fiscal discipline of the government. Hence, such a reduction in SLR holdings would have to be consistent with a lower fiscal deficit.
In the mean time, Government wants to introduce fiscal incentives so to make bank deposits attractive for middle class, who are increasingly diverting their funds from traditional investments to other green pastures like real estate, stocks and mutual funds. Recently, government has allowed income tax deduction for the interest earned on fixed deposits with maturity period of five years or more, subject to the total ceiling of Rs. 1.50 lakhs for all eligible investments. The government is also thinking to exempt the interest income on deposits to the extent of Rs. 15,000 per annum per person. This proposal may come through in our next budget to be presented in the Parliament on February 28,2007.
Glossary :-
Demand Liabilities
'Demand Liabilities' include all liabilities which are payable on demand and they include current deposits, demand liabilities portion of savings bank deposits, margins held against letters of credit/guarantees, balances in overdue fixed deposits, cash certificates and cumulative/recurring deposits, outstanding Telegraphic Transfers (TTs), Mail Transfer (MTs), Demand Drafts (DDs), unclaimed deposits, credit balances in the Cash Credit account and deposits held as security for advances which are payable on demand. Money at Call and Short Notice from outside the Banking System should be shown against liability to others.
Time Liabilities
Time Liabilities are those which are payable otherwise than on demand and they include fixed deposits, cash certificates, cumulative and recurring deposits, time liabilities portion of savings bank deposits, staff security deposits, margin held against letters of credit if not payable on demand, deposits held as securities for advances which are not payable on demand, India Millennium Deposits and Gold Deposits.
Statutory Liquidity Ratio (SLR)
In terms of Section 24 (2-A) of the B.R. Act, 1949 all Scheduled Commercial Banks, in addition to the average daily balance which they are required to maintain under Section 42 of the RBI Act, 1934, are required to maintain in India,
a) in cash, or b) in gold valued at a price not exceeding the current market price, or c) in unencumbered approved securities valued at a price as specified by the RBI from time to time.
an amount which shall not, at the close of the business on any day, be less than 25 per cent or such other percentage not exceeding 40 per cent as the RBI may from time to time, by notification in gazette of India, specify, of the total of its demand and time liabilities in India as on the last Friday of the second preceding fortnight,
At present, all Scheduled Commercial Banks are required to maintain a uniform SLR of 25 per cent of the total of their demand and time liabilities in India as on the last Friday of the second preceding fortnight which is stipulated under section 24 of the B.R. Act, 1949.
Why the US FED rate cut influences our currency?
Typically, when US lowers interest rates, FIIs begin looking for greener pastures like India and China, where they can earn a higher return. When dollar inflows rise into these countries, local currencies in these markets begin to grow stronger. Hence, as a result of US FED rate cut by 50 basis points and also hardened interest rates in India combined with strong capital market, there will be a spurt in FII inflows in short term which will increase the demand for rupee and thereby, rupee will appreciate further. If the dollars coming into India are not compensated by the requirement of importers, the RBI has to intervene into the forex market by buying dollars so as to maintain the current level. But, it has side effect, the increase in money supply and thereby, inflation. Keeping in view the general elections in 2009, the Government cannot afford to neglect inflation management. As the role of RBI is limited in the present circumstances, the Rupee will appreciate further and I expect the rupee to appreciate to a level of Rs. 35 towards the end of current fiscal.
The appreciation of rupee during the current financial year already effected many sectors like IT, textiles, leather industry, pharmaceuticals. This new phenomenon has forced many mid sized software and other exporters to hedge against the foreign currency fluctuations.
With the appreciation of rupee and also acceptability of rupee increasing in the Gulf and South East Asian markets, trading in rupee futures is picking up. In Dubai exchange, rupee futures trading is already picking up.
Is the credit crisis over? Not so fast
NEW YORK: The audacious rise in the Dow industrials to a record will do little to prevent the millions of new For Sale signs likely to dot US lawns soon.
Fears of mounting foreclosures and predictions of a lacklustre holiday season remain even in the face of Dow 14,000, which has removed some, but not all, uncertainty about the faltering US housing market.
At the root of investors’ anxiety are so-called subprime loans made to borrowers with shaky credit. Delinquencies are rising on subprime mortgages and defaults are piling up at record rates as home prices sink, pressuring consumers’ desire to spend.
The ripple effect from the slump in housing doesn’t stop there. Strains still exist in the US credit markets even though there are signs of easing in the global liquidity squeeze, which was triggered by a lack of confidence in financial markets as sub-prime mortgage defaults soared.
Already, the housing slowdown has subtracted about 1 percentage point from growth in inflation-adjusted gross domestic product so far this year.
“I don’t think the worst is over,” said Robert Arnott, chairman of Research Affiliates LLC, a Pasadena, California-based investment management firm.
“We are coming off the greatest lending bubble — not housing bubble! — in US history. We will feel its impact for a very long time.”
Falling home prices are leaving sub-prime borrowers who took out adjustable-rate mortgages with a major dilemma. Millions with sub-prime mortgages, which go to borrowers with checkered credit histories, are faced with negative equity in their homes that could make it increasingly unlikely they will qualify for new mortgages in an environment of tighter lending standards.
At current home prices, about $693 billion in ARMs are “already under water,” according to Stephanie Pomboy, financial economist at MacroMavens in New York.
That’s frightening news for banks that already have absorbed losses on their balance sheets due to delinquent sub-prime borrowers. The losses so far amount to about 10% of the forecast of $100 billion in losses. “The disturbing number here isn’t 10% ... but the $100 billion,” Pomboy said.
With nearly $700 billion in ARMs in negative equity facing interest-rate resets, “depending on how much lenders can ultimately recover, this implies (bank) losses will be more like $210 billion to $346 billion,” she said.
“And that’s assuming the situation doesn’t get worse.”
In July, Federal Reserve chairman Ben Bernanke had estimated the losses at $100 billion at the most.
But it appears Bernanke had underestimated those figures and their effects on the consumer.
In September, the Fed took the benchmark federal funds rate, which governs overnight loans between banks, down an aggressive half-percentage point to 4.75%, its lowest since May last year. The Fed also cut the discount rate it charges for direct loans to banks by a half-percentage point to 5.25%.
“With the reset wave about to gather intensity and ‘For Sale’ signs dotting the lawns of 5.1 million homes across the country, the credit hit parade has only just begun,” Pomboy added.
Aside from the resetting of interest rates on home mortgages and falling home prices, both leading to a slowdown in consumer spending, Arnott of Research Affiliates is concerned about slumping home construction.
Fears of mounting foreclosures and predictions of a lacklustre holiday season remain even in the face of Dow 14,000, which has removed some, but not all, uncertainty about the faltering US housing market.
At the root of investors’ anxiety are so-called subprime loans made to borrowers with shaky credit. Delinquencies are rising on subprime mortgages and defaults are piling up at record rates as home prices sink, pressuring consumers’ desire to spend.
The ripple effect from the slump in housing doesn’t stop there. Strains still exist in the US credit markets even though there are signs of easing in the global liquidity squeeze, which was triggered by a lack of confidence in financial markets as sub-prime mortgage defaults soared.
Already, the housing slowdown has subtracted about 1 percentage point from growth in inflation-adjusted gross domestic product so far this year.
“I don’t think the worst is over,” said Robert Arnott, chairman of Research Affiliates LLC, a Pasadena, California-based investment management firm.
“We are coming off the greatest lending bubble — not housing bubble! — in US history. We will feel its impact for a very long time.”
Falling home prices are leaving sub-prime borrowers who took out adjustable-rate mortgages with a major dilemma. Millions with sub-prime mortgages, which go to borrowers with checkered credit histories, are faced with negative equity in their homes that could make it increasingly unlikely they will qualify for new mortgages in an environment of tighter lending standards.
At current home prices, about $693 billion in ARMs are “already under water,” according to Stephanie Pomboy, financial economist at MacroMavens in New York.
That’s frightening news for banks that already have absorbed losses on their balance sheets due to delinquent sub-prime borrowers. The losses so far amount to about 10% of the forecast of $100 billion in losses. “The disturbing number here isn’t 10% ... but the $100 billion,” Pomboy said.
With nearly $700 billion in ARMs in negative equity facing interest-rate resets, “depending on how much lenders can ultimately recover, this implies (bank) losses will be more like $210 billion to $346 billion,” she said.
“And that’s assuming the situation doesn’t get worse.”
In July, Federal Reserve chairman Ben Bernanke had estimated the losses at $100 billion at the most.
But it appears Bernanke had underestimated those figures and their effects on the consumer.
In September, the Fed took the benchmark federal funds rate, which governs overnight loans between banks, down an aggressive half-percentage point to 4.75%, its lowest since May last year. The Fed also cut the discount rate it charges for direct loans to banks by a half-percentage point to 5.25%.
“With the reset wave about to gather intensity and ‘For Sale’ signs dotting the lawns of 5.1 million homes across the country, the credit hit parade has only just begun,” Pomboy added.
Aside from the resetting of interest rates on home mortgages and falling home prices, both leading to a slowdown in consumer spending, Arnott of Research Affiliates is concerned about slumping home construction.
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