The Bottom Line

China to the Rescue?

Volume III Issue XII – Wednesday December 18, 2007

A monthly newsletter of financial commentary for our friends

Perhaps every decade (or more often than that) we experience a financial crisis of some sort. In the 70’s it was the commodity crises. In the 80’s it was the S&L crises, in the 90’s it was the foreign currency crises, and in the early 00’s is was the tech crash. This year has inaugurated a whole new crisis – a housing crisis. For the first time since the great depression, housing values are turning negative. Easy money, lax underwriting, and greed have always been the ingredients of any crises or crash. I’ll try and elaborate on the this crisis using those three ingredients:

The first ingredient was easy money. People in hot markets like California and Florida were doubling their money in real estate in as little time as a month. Condos were being flipped for thousands of dollars within days. When you have that kind of euphoria driving prices up at a pace that is illogical, it is only a matter of time until the bubble bursts. What goes up must come down. So now that the euphoria is wearing off, housing prices are coming back down.

The second piece of our debacle is lax underwriting. This means that people were given loans that either couldn’t afford the house, or that wouldn’t be able to once the rate adjusted in the future. So loans are defaulting left and right. This means more foreclosures. This means more supplies of houses. This means housing prices go down.

The third and final nail in the coffin was good old-fashioned greed. Investors in a hunger for high yielding investments began demanding to own mortgages. The industry bought mortgages from banks, sliced them up into investments that anyone could buy, and sold them in the open market. Corporations and individuals bought these mortgages purely for the high yield, without paying any attention whatsoever to the risk. Greed drove some to take more risk than they would normally take. More risk equals more potential loss. Loss equals falling house prices. 

Do you feel it? Do you drive down your street only to see a plethora of ‘for sale’ signs. Have you recently sold your home for less than your mortgage payoff? Has your house sat on the market for months and months with no bites? It is anyone’s guess how long and how deep this crisis will reach. It’s impossible to quantify. But I do have some good news. The rest of the world might be the ones to save the day. That’s right. It may just be that people from the Middle East, India, and the China will provide the capital that has dried up domestically. According to the Wall Street Journal, the following major foreign investments have been made in the last few months: Abu Dhabi invested $7.5 billion in Citigroup, Inc. An investment arm of Singapore’s government invested $9.72 billion into UBS AG. China Investment Corp. will be acquiring up to 9.9% of Morgan Stanley’s common stock. The list goes on and on. The US economy has been the lynchpin of the world economy for so long. 2007 has already proven that is not the case anymore. We might as well face it. We are living in a global economy. The World is getting flat. So regardless how you feel about investors from other countries owning pieces of US firms, they are providing capital that is much needed. It may even be that the countries that some Americans love to hate will be the ones to save us from recession.

Chad P. Wilson, CFP

Foundation Bank – a division of McKenzie Banking Company - 731-554-2423          

The above is strictly informational commentary and does not constitute any sort of recommendation. Please consult your own financial advisor for specific tax, loan, or other investment advice.