Market Predictions; Random thoughts and musing

The wit makes fun of other persons; the satirist makes fun of the world; the humorist makes fun of himself, but in so doing, he identifies himself with people –that is, people everywhere, not for the purpose of taking them apart, but simply revealing their true nature. James Thurber 1894-1961, American Humorist, Illustrator

Updated March 2023

Market Predictions: Examining the Impact of Repackaged Mortgages and Collateralised Debt Obligations

Typically, the answer would be affirmative. However, the banking industry and Wall Street have recently introduced novel methods of selling mortgages, resulting in new investment opportunities. Consequently, numerous hedge funds and other entities have heavily invested in subprime mortgages, as they were bundled and sold as collateralised instruments. Explaining the intricacies of this entire process would require an extensive market update. Nonetheless, it is important to note that things may not be as secure as they appear, as evidenced by the recent 3 billion dollar bailout of a Bear Sterns fund. In summary, banks have significantly reduced their exposure by offloading a substantial portion of these mortgage-backed securities, which is a departure from the situation 20-30 years ago.

Now, let’s consider a hypothetical scenario. The risk associated with mortgages has been dispersed, with a majority of so-called sophisticated investors, such as hedge funds and private equity funds, acquiring these newly repackaged mortgages. How did Wall Street repackage these low-quality mortgages? They introduced a financial instrument known as Collateralised Debt Obligations (CDOs). These CDOs combine a pool of assets and provide investors with interest payments based on the cash flows generated by these assets.

Market Predictions: The Vulnerability of CDOs to Subprime Mortgages

However, in many cases, the only asset backing these CDOs is subprime mortgages, and the reason many were willing to take this risk was due to the high interest rates they paid. It is estimated that 40% of CDOs are mortgage-backed securities, and out of this 40%, 75% are subprime mortgages. The remaining CDOs are backed by property and, in some cases, a combination of mortgages and real estate.

However, if the subprime mortgage market tanks, it will push more houses onto the market, which, in turn, will force the prices of existing houses lower. This will then affect the value of the CDOs fully backed by real estate. Thus, even those so-called “safe” CDOs are not really all that safe because they depend on a robust housing market. The situation can change rather rapidly, as indicated by the swift turn of events surrounding the two Bear Stearns funds. One minute they were rolling in profits; the next minute, they were swimming in a pool of red ink.

These CDOs were marketed as gold when, in fact, they were closer to rubbish.

If a significant number of individuals begin to default, the risk will be borne by many players who initially had deep pockets. This may not immediately impact the equity markets as it would spare or reduce the risk exposure of banks significantly. Many banks no longer hold mortgages on their balance sheets as they once did; instead, they have spread the risk through CDOs. The largest losers would be hedge fund players, certain mutual funds, and numerous private equity firms.

On the other side of the equation, we have homeowners (many of whom should have never purchased a house in the first place), with a majority buying their first homes within the last 2-3 years. For them, the solution is rather simple, albeit emotionally painful: when the payments become too burdensome, they can choose to walk away from the property and opt for renting instead of ownership.

Individuals with Good Credit Stretch themselves over the limit

Then we come across individuals who had good credit but pushed themselves beyond their limits. When push comes to shove, they too can bear the loss and abandon the property. While they may incur some financial loss, it often won’t be significant, especially considering that during the initial 10 years of the mortgage, over 90% of the payments go towards interest. Therefore, their actual loss will primarily be on potential profits and the minimal amount they initially invested in the house. The true losers in this situation will be the mortgage holders. However, since the risk has been widely spread, the impact might not be as severe as it would have been in the past. It’s important to note that housing prices are still likely to decline.

Market Predictions: History repeats itself over and over again

The small individual who withdrew from the stock markets in 2000 and turned to real estate may now be seeking a way to recover his losses. It’s worth noting that having bad credit doesn’t prevent one from participating in the stock market. Some may argue that there’s no way the small investor would move from one risky situation to another, but isn’t that what they did after the stock market collapse? They overlooked their losses and poured their investments into the real estate market. Therefore, it’s quite possible that they could easily return to the equity markets.

Furthermore, today’s individuals are not willing to wait; they are accustomed to instant gratification and aspire to become wealthy overnight. Gambling and speculation are on the rise worldwide, as everyone is searching for opportunities to join the so-called affluent class.

Article of Interest: Global Agenda: Embracing Independent Thinking

Secret Desire to Lose Syndrome

Here are some intriguing facts: Macau has now surpassed Las Vegas in terms of gambling revenue, and Singapore has recently allowed the construction of major casinos for the first time in its history. These developments indicate that a growing number of people worldwide are engaging in various forms of speculation.

There is a significant likelihood that the aforementioned scenario could become a reality, particularly considering that many small investors will feel that they missed out on a significant portion of the equity market’s upward movement. They are notorious for jumping on the bandwagon long after it has already departed the station.

Market Predictions Conclusion

Nothing can stop a person from simply walking away from their home. Yes, they are going to damage their credit, but if you are facing the choice of literally starving or having good credit, I am sure most will be willing to sacrifice their honour. The only actual loss for these people will be the money they put down which in most cases was nothing and a potential paper profit they lost after the market turned on them. The monthly payments could be viewed as rent, and these individuals could simply pick up and rent a new place instead of owning one.

As everyone now lives in the express and get-rich-quick mode these same individuals could look back at the stock market as a means to re coup their losses just as they did with the real estate market after the stock market crashed in 2000. This could potentially drive the markets to even new highs. Is this a definite scenario? Nothing is concrete but it’s certainly a possibility and given human nature it appears to be a potentially strong one.

Please note the above is just one scenario out of the many scenarios out there. It does not necessarily mean that it will come true and has pretty much the same chance as many of the other plans that are floating out there.

Market Predictions about China lifting restrictions on the Yuan

It is utterly nonsensical to believe that if China allows its currency to float freely, it will magically reduce our enormous budget deficit. That notion is akin to attempting to extinguish a forest fire with a handheld fire extinguisher. In reality, we are the biggest currency manipulators worldwide, printing worthless paper dollars and compelling other nations to accept this worthless currency. One effective way to reduce the deficit would be for Americans, as a whole, to decrease their debt and live within their means. However, such a straightforward solution appears to be too simple for the dim-witted individuals in Washington.

Just Look at Japan

All we have to do is look at Japan for evidence. Once upon a time, one dollar used to buy over 290 yen, and back then, the argument was that if the Japanese let their currency appreciate, then the deficit with Japan would be lowered. Well, fast forward, and now one dollar buys roughly only 123 yen, yet the Japanese debt remains. The same outcome will hold for China. What these big shots should be doing is preventing the dollar from depreciating so fast; in other words, they should stop printing so many dollars.

We should also be aware that almost our entire manufacturing base has shifted to China or the surrounding neighbouring countries. Thus, if the yuan were allowed to appreciate, let’s say, another 20%, consumers would feel that impact immediately, and then the idiotic central bankers and penguins on Wall Street would start screaming that huge inflationary forces are hitting the markets.

In the end, an old adage comes to mind: first, clean up your own house before you start instructing your neighbour on how to clean theirs.

Immigration Reform

There is a significant amount of noise surrounding this potential new law, with one side in favour and the other completely against it. We won’t delve into the different arguments each side is using to support their claims. Instead, we will focus on the real story, the story within the story. What’s interesting is that this bill enjoys broad support from both Democrats and Republicans. So why would they support it when there is so much opposition and potentially negative consequences for their next elections?

Politicians are typically cautious and avoid taking unnecessary risks. However, at present, it seems that members of both parties are willing to take on a considerable amount of risk. So why are they doing it? Well, we have discussed this issue multiple times in the past: the government’s primary concern is not truly helping anyone. The reason they are pushing for this reform is that they are faced with a significant problem that will only worsen with time unless addressed. We are referring to social security. A substantial number of baby boomers will retire in the coming years, and there simply aren’t enough workers available to sustain this system indefinitely.

Social security woes

The only solution to strengthen social security is to create a sudden influx of new workers who can contribute to the system. Consequently, lawmakers are relying on the legalisation of over 12 million undocumented immigrants as the potential answer to this pressing issue. However, they cannot openly admit to the public that social security is in jeopardy, as it would mean accepting their own responsibility for its potential bankruptcy. Ultimately, this is a matter of business, as they are seeking a large group of individuals who will be ready and willing to support this unsustainable scheme. After all, very few individuals engage in activities without compensation, except for governments, which never do.

From an investment standpoint, these additional 12 million immigrants would indirectly bring more liquidity to the markets, as they would finally have the opportunity to invest through opening bank and brokerage accounts, something that most of them are currently unable to do or are hesitant to pursue.

Stubbornness does have its helpful features. You always know what you’re going to be thinking tomorrow.

Glen Beaman

Random Reflections on Investing

A winning strategy involves a powerful blend of mass psychology and technical analysis when investing. By understanding the Crowd behaviour of the market participants, one gains valuable insights into the market’s pulse. Market psychology plays a pivotal role in identifying trends; the rest becomes relatively straightforward once these trends are identified. Additionally, incorporating the fundamental principles of contrarian investing can elevate your trading skills to new heights, particularly when combined with the crowd’s wisdom and technical analysis.

Lastly, maintaining a comprehensive trading journal proves invaluable in gaining insights into your mindset and crafting a robust battle plan to confront any challenges.

This article was initially published on 27th June 2007 and has been updated in March 2023.