Gogerty NYSSA dec 3 Systemic Risk discussion
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A brief overview of the credit crunch and its context in terms of cost using data from 1830-2014. Real estate is included using price data from 400 back and the dutch to propose real estate is a positional good prone to bubbles as excess credit or incentives are created to pursue it.
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Gogerty NYSSA dec 3 Systemic Risk discussion
- 1. ThoughtfulCapital Thoughtful Capital Group NYSSA: Systemic Risk “Is it Fixed?” Dec 3. 2014 Moral Hazard & the US Residential Credit Process Nick Gogerty ngogerty@thoughtfulcapital.com
- 2. ThoughtfulCapital Goals 1. How to think about house prices & value 2. How the proper credit creation process works & how moral hazards can break it: I get paid today, risk hits others tomorrow 3. Impacts of the crisis in a historical context and where we are today
- 3. ThoughtfulCapital Disclaimer & Data sources Disclaimer: This material has been prepared by Thoughtful Capital Group. This document is for information and illustrative purposes only and does not purport to show actual results. It is not, and should not be regarded as investment advice or as a recommendation regarding any particular security or course of action. Opinions expressed herein are current opinions as of the date appearing in this material only and are subject to change without notice. Reasonable people may disagree about the opinions expressed herein. In the event any of the assumptions used herein do not prove to be true, results are likely to vary substantially. All investments entail risks. There is no guarantee that investment strategies will achieve the desired results under all market conditions and each investor should evaluate its ability to invest for a long term especially during periods of a market downturn. No representation is being made that any account, product, or strategy will or is likely to achieve profits, losses, or results similar to those discussed, if any. No part of this document may be reproduced in any manner, in whole or in part, without the prior written permission of Thoughtful Capital Group., other than to your employees. This information is provided with the understanding that with respect to the material provided herein, that you will make your own independent decision with respect to any course of action in connection herewith and as to whether such course of action is appropriate or proper based on your own judgment, and that you are capable of understanding and assessing the merits of a course of action. Thoughtful Capital Group does not purport to and does not, in any fashion, provide broker/dealer, consulting or any related services. You may not rely on the statements contained herein. Thoughtful Capital Group shall not have any liability for any damages of any kind whatsoever relating to this material. You should consult your advisors with respect to these areas. By accepting this material, you acknowledge, understand and accept the foregoing. Data sources: St. Louis Federal Reserve Bank, New York Federal Reserve Bank, BIS (Bank for International Settlements), IMF, World Bank, BEA (Bureau for Economic Analysis), GOA (Govt. Accounting Office), Thoughtful Capital Group, S&P Case Shiller indeces, 3rd party consultants and sources.
- 4. ThoughtfulCapital Housing is a positional good w/ value normalizing to inflation & income density Amsterdam home prices 1628–2009 in Real Euros. Source: Prijsbewegingen op de Woningmarkt Introductie: Harry Boumeester, Harry van der Heijden, Paul de Vries Onderzoeksinstituut OTB/TUDelft
- 5. ThoughtfulCapital Credit creation safety balance Credit creation Safety Risk Risk Normal Broken Bonus Competition ROE Politics … Lending standards Regulation Risk exposure … System design failures allow outsized credit creation due to moral hazards “heads I win, tails others lose.”
- 6. ThoughtfulCapital US “credit creator” machine 2000’s 1. Individual Home Owners 2. Originator /Packager/Bank 3. GSEs Dominant Holder 4. Politicians & Regulators 5. Society SupplyenablersDemanddrivers
- 7. ThoughtfulCapital Credit creation 2007 1. Home Owner 2. Originator /Packager 3. GSE Ultimate Holder 4. Politicians 5. Society Credit drivers Safety limiters
- 8. ThoughtfulCapital 1836 1839 1845 1847 1853 1857 1860 1865 1869 1873 1882 1887 1890 1893 1895 1899 1902 1907 1910 1913 1918 1920 1923 1926 1929 1937 1945 1948 1953 1957 1960 1969 1973 1980 1981 1990 2001 2007 -40% -30% -20% -10% 0% 0 1 2 3 4 5 6 GDP/Businessactivitypre1926 Duration in years US recessions* impact & duration 1836-2014 *Recessions are defined as declines in aggregate GDP or business activity for 2 quarters 12 red recessions are associated with large bank failures or crisis Thenatureofvalue.com
- 9. ThoughtfulCapital Credit creation actor process 2014 1. Home Owner 2. Originator /Packager/bank 3. GSEs Ultimate Holder 4. Politicians 5. Society Credit drivers Safety limiters Common sense/ originatorHouse envy Quick returns / market share / CDO, SIVs etc. Down stream consumer / ratings
- 10. ThoughtfulCapital GreatDepression 0 20 40 60 80 100 120 140 160 180 200 1880 1900 1920 1940 1960 1980 2000 2020 Index Year Building Costs WWI 1970’sboom 1980’sboom Home Prices Home Prices 1880-2014 Source data: Case Shiller, Thoughtful Capital Group
- 11. ThoughtfulCapital Conclusion “…Title 2 of the Dodd Frank bill enshrined and institutionalized those bailouts while pretending to get rid of them.” p 502 Fragile by Design; Charles Calomiris & Stephen H. Haber
- 12. ThoughtfulCapital Appendix slides • 20 Yrs. of flat incomes: Normalized incomes are low to negative to middle and lower class at 1995 levels • 10 Yrs. rates at near record lows 1870-2014 • 10 Yrs. real rates are low
- 14. ThoughtfulCapital Incomes are back to the Future
- 17. ThoughtfulCapital Scenario game: Shock Brittle bits Policy Responses • Japanese deflation / inflation whipsaw • China slowdown >credit crash>housing bust>social unrest • France credit • Canada housing credit bubble • US domestic deflation increasing debt service burden • Large hacking attack • Other political or economic risks… • Synthetic ETFs & swaps collateral • Public & private pension funds • Lower income housing clients • Municipal Govt. debt service • Domestic hard & soft infrastructure • Swaps for liquidity responses • Negative nominal rates • Increase in Fed Asset purchases • Muni bailouts • Pension bailouts • Homeowner bailouts • Student debt bailouts
Hinweis der Redaktion
- Goals share the following information Aquarelle peinte par Léon Morel-Fatio représentant la capture de la flotte Hollandaise au Helder le 23 Janvier 1795 Capture of the Dutch fleet at Den Helder Napolean’s capture of Amsterday in 1795. Didn’t disrupt housing prices as much as the kredit crisis. The French Army captured 14 ships of the line and 880 guns. It is the only time in known military history to have seen a fleet captured by a cavalry charge
- Many misunderstandings Heads I win tails someone else may lose
- Lesson #1 housing is a positional not an absolute good. If you have create more money to chase house price it will push it up, but house values revert to an household income multiple. This chart is shown to illustrate the point globally as most of you will have seen the Case Shiller data. Inflation in the 19th century 0.7% 20th century 5.0% reinhardt rogoff. Prijsbewegingen op de Woningmarkt Introductie Harry Boumeester, Harry van der Heijden, Paul de Vries Onderzoeksinstituut OTB/TUDelft
- Enabling entities and forces are on the left with restricting and governance forces on the right. Tension between stable and abundant credit….. Fragile by design. Moral hazard involves externalities….someone else holding the bag. Concentration and instability aren’t necessarily linked linearly. Study of 69 countries 1980-97. less crisis with concentration however competition needs to be in place. Beck, demirguc-Kunt and levin e 2006 from fragile by design. The US however didn’t become more stable in the 1990-2000 period during concentration due to the political bank game involving CRA mandates traded for mergers. Designed to Fail p. 485.
- Lets take a look at the The credit creation process of 2000’s. Roughly speaking it has 3 elements that act demands drivers and 2 elements that supply enablers of credit liabilities
- Home owners want a home in 2006 46% of first time buyers 0 down. Median down payment 2% pinto(2011) from fragile by design p. 19 Originators underwrite mortgages to make a buck. Ratings agencies were outsourced credit verifiers from the govt with a quasi monopoly structure. Private revenue/ public risk. NRSRO written into standards. Gse standards applied to everyone. Regulatory merger process in 1990 meant cra compliance quid pro quo. Low Gse standards are a hidden tax that shows up later.
- For the US so far it hasn’t been too bad. 38 recessions are shown. 12 are associated with banking crisis. Recessions are like busses, they come along every 4.7 years. Banking crises every 15 years. Between 1970-2011 the average countries banking crisis csot %6.2 of gdp, the resolution was 6.8% the increase in indebtedness was 12.1% Median lost output was 23% of GDP. Current forgone growth 31% of GDP Laeven and valencia 2012. equivelant to $5.8 trillion. This doesn’t mean this is the “only cost”, lost growth is estimated at 31% of GDP so far. The total cost is TBD in terms of mal-formed regulation and other distortions.
- Good regulation, is simple, transparent, cheap and effective. Short term pursuit of abundant credit leads to instability and less credit in the long run. Home owners want a home Originators underwrite mortgages to make a buck Dodd frank liquidation title unlikely. Little help. Liviing will 2 yrs later 11 of 11 rejected as impractical. Regulatory feeding frenzy saw the FED, FDIC, SEC, CFTC etc. all fighting for new powers and oversight, emergence with bewildering levels of new acronyms, filing and paperwork. The same group that didn’t see it coming last time. Shifting losses onto taxpayers has increased costs. The literature shows deposit insurnace and other garuntees accelerate chances of systemic failures and costs. Since 1945 developed countires have become far more leveraged. Fragile by design. Studies also indicate deposit insurance post crisis is more pooly implemented leading to greater crises. 44k today 1934=$2,500 now unlimited. Fragile by design. P 461. deposit insurance and bailouts tend to create instability. Canada has never had a banking insolvency crisis. Most of it history no deposit insurance. Only started in 1967. canada $357k median home price $76k 4:61. $1.87 trillin GDP. Close to india and australia. China 60^2m * $1,742= $104,000 / $10,220
- Home prices are still far above normal prices. This impinges the stability of real-estate assets, depresses bank ROE’s due to increased collatoral requirements, and raises the costs and risks for new housing entrants and lower income families.
- The US averages a recession every 4.7 years and a bank crisis every 15 years. We have had the perfect “dream” deleveraging for 5 years, 4 out of 4: low inflation, strongish currency, low interest rates and growing economy.
- For now debt service is feasible and GDP is expanding. Both of these have been significantly boosted by QE pushing interest rates down. So far a miracle appears to have occurred. Rates are low, credit is plentiful, inflation is low and GDP is expanding while un-employement is falling, a truly remarkable outcome. The question is who and when do we pay the billl? Inflation tax, skipped GDP of %31 which is just about the same cost as WWII. In present dollars Social security is estimated to be $8.6 trillion short. Medicare cost $580 billion in 2013. Social security costs $813 billion
- 1995How Much things cost in 1995 Yearly Inflation Rate USA 2.81% Year End Close Dow Jones Industrial Average 5117 Interest Rates Year End Federal Reserve 8.50% Average Cost of new house $113,150.00 Average Income per year $35,900.00 Average Monthly Rent $550.00 Cost of a gallon of Gas $1.09 US Postage Stamp 32 cents Average cost of new car $15,500.00 Loaf of Bread $2.02 Ground Coffee per IB$4.07 Loaf of Bread $1.15 Dozen Eggs 87 cents . Windows 95 was released.
- Real Rates have bounced back a bit.
- We can’t events, much less there direct impacts on things or our responses.