Eight Thought on Our Fragile Debt Markets

It’s early morning now, after two days on the road.  It is good to be home, and it will be good to get back to “regular work” once the workday begins.  A few thoughts:

1) Here are two Fortune articles where Colin Barr quotes me regarding Buffett’s offer to reinsure the muni liabilities of the financial guarantors.  He correctly quotes my ambivalent view.  I am not willing to take Ackman’s side here, nor that of the guarantors and rating agencies.  This is one of those situations where I don’t think anyone truly knows the whole picture.  My thoughts are limited to Buffett’s offer.  He’ a bright guy, and he is hoping that one of the guarantors is desperate enough to take him up on his offer.

2) Personally, I found this note from the WSJ economics blog worrisome.  Ben Bernanke is probably a lot smarter than me, but I can’t see amelioration in the residential real estate markets in 2008.  We still have increases in delinquency and defaults at present.  Vacancy is increasing. Inventory is increasing.  The market is not close to clearing yet.

3) I like the “quants.”  Are they a big force in the stock market?  Yes.  But they are an aspect of Ben Graham’s dictum that in the short run the stock market is a voting machine, but in the long run it is a weighing machine.  “Dark pools” sound worrisome, but to long-term investors they are a modest worry at best.  Traders should be concerned, but that is part of the perpetual war between traders and market makers/specialists.

4) There are two aspects to the concept of the rise in housing prices.  One is the scarcity of desirable land near where people want to live.  The second is that financing terms got too loose.  Marginal Revolution says there is/was no housing bubble.  They are focusing on the first issue, and downplaying the second issue.  My view is that there are legitimate reasons for housing prices to rise, but we built more homes than were needed, and offered financing terms to buyers that were way too generous.  To me, that is a bubble, and we are still working through it.

5) Auction-rate securities have always seemed to me to be micro-stable, but subject to macro-instability.  What do I mean?  Small fluctuations get absorbed by the investment banks, but large ones don’t.  As an old boss of mine used to say, “liquidity is a ‘fraidy cat.”  It’s around for minor jolts, but disappears in a crisis.

6) Muni bond insurance is thought insurance.  Most municipal bonds are small.  What credit analyst wants waste time analyzing a small municipality?  With a AAA guaranty, the bonds get bought in a flash, and they are liquid (so long as the guarantor continues to be viewed positively).  So, I still view municipal guarantees as having value.  Not everyone else does.

7)  Intuitively, I can feel the dispute regarding the recycling of the current account deficit.  The two sides boil down to:

  • When are they going to stop buying depreciating assets?
  • What choice do they have?  They have to do something with all the dollars that they hold.

It’s a struggle.  In the short run, supporting the US Dollar makes a lot of sense, but the build-up of continual imbalances is tough.  Why should we buy into a depreciating currency in order to support our exporters?

8 ) Privatize your gains, socialize your losses.  It’s a dishonest way to live, but many press their advantage in such an area. Personally, I think that losses need to be realized by aggressive institutions.  They took the risk, let them realize the (negative) reward.

That’s all for the morning.  Trade well, and be wary of things that work in the short run, but are long run unstable.