The U.S. Economy

[JonPorobil]

Can someone with the appropriate background or knowledge explain to me what this all means?

[Hoblit]

I wish I could. I've been trying to read about it off and on all day and I just can't wrap my mind around it. Never have been able to and I guess I never will. I'm forced to read opinion pieces on it to even get the jist:

However, today as stated, I have read many articles on the subject and how today and the last two days affect us.

JIST: Its pretty bad but not panic time. Panic time may not actually happen because it looks like its going to be a gradual process. All the opinions seem to say "I'll tell you this summer when the boat is already under water". Today's stock drops rebounded from terrible to acceptable points down, whatever that means.

EDIT: My post was on the effect it (the fed cut) was having on the market today. Not the actual Fed cut as -M- described. Sorry 'bout that. </font>

[anti-m]

Basically the idea is this -- the lower interest rates are, the more likely people are to spend money. This is because a lower interest rate makes it cost less to spend money.

For example -- I can't buy a house if a bank can only give me an 8% interest loan -- that high a rate would push my monthly payment too high. However, I might be able to purchase one if a bank cuts me a deal for 5%.

However, cutting interest rates doesn't always work. Say the economy is so bad that it looks likely that I could loose my job. In that case, you can slash rates all you want, I aint buyin' that house!

The good news is, I'm thinking of buying a house. So the economy can't be that bad -- unless of course I'm wrong.

[Caravan Ray]

Can someone with the appropriate background or knowledge explain to me what this all means?

NB: I do not have the appropriate background or knowledge to explain this - but I will anyway:

It apears that some American banks have been lending too much money to too many people who can't afford to pay it back, but making a large profit by doing it. In turn, investment banks and superannuation funds etc. around the world have been joining in the fun and investing in American banks. Then, as the loans default and property prices drop - suddenly everbody realises that these investments really aren't worth as much as they thought they were - so investment drops, shares get sold, markets crash and the bears move in.

But the US Fed doesn't want people to stop investing - so now they are "pump-priming" - artificially lowering interest rates to encourage more investment. So it appear that the preferred solution for a problem caused by credit that was too cheap - is to make credit even cheaper. This is why you rarely hear the phrase "she's sleeping with an economist...". They are stupid little men with bad haircuts who like to pretentd that their ridiculous pseudo-science actually means something.

(Of course this is all fine so long as China and India keep increasing their consumption exponentially - lower interest rates will eventually lead to more growth. It is comforting to know that as the last piece of habitable land slips under the rising sea-level - the Dow-Jones will still be trending up.)

The bottom line - if you have any money to invest right now - buy real estate. I suspect that there probably are some bargains around right now from the "sub-prime" market.

[Billy's Little Trip]

Em, right now it's a buyers market if you are looking for a house. But it's going to get worse before it gets better, so if you aren't in a hurry, don't rush it. People that bought houses with creative loans, are losing them.

A big part of my business comes from new home buyers putting in new swimming pools. That is very weak right now. The remodel of older pools is up and the margins are pretty good. But remodels are generally a third of what a new pool is, so I'm working 2/3rds harder for the same buck, or at least it feels like it.

[roymond]

What it means is that obviously we can spend $8 billion a month on a war and cut taxes simultaneously, then give big companies tax incentives. I think this is called "making big government small again" and there are all sorts of reasons why a huge war machine isn't actually "big" government. It's like your rear view mirror, or something. They told us it would become clear soon enough, and now, by golly, it is clearing up. Remember, recession is simply an opening for new opportunities.

I just bought a building to renovate and manage. Feels good. Provided you can make the payments (and didn't do something truly stupid), real estate is rarely a bad investment deal.

[JonPorobil]

I'm hearing all this as good news from you guys: hey, loans are down! You can buy a house right now! Payments are down, the lower interest rate will stir the economy, etc.

The article and various sources seems to think that it's a very bad thing, or at least a sign of something very bad. What's the deal?

[anti-m]

Em, right now it's a buyers market if you are looking for a house. But it's going to get worse before it gets better, so if you aren't in a hurry, don't rush it. People that bought houses with creative loans, are losing them.

Well, yes, this is true everywhere except for Portland. Portland's housing market took a hit, but for various reasons Portland was spared the bottom drop out that most of the US saw. (Perhaps Portland lenders had a conscience?)

In any case, don't worry -- I plan to steer clear of creativity -- at least as it pertains to mortgages. (No ARMs or penalties for early payment etc...)

Regarding the economy at large, Roymond is right. This fallout has been a long while in the making. Any time the economy is bolstered by false confidence, the market eventually corrects itself -- sometimes violently in the opposite direction.

It could get bad -- as it was circa 2001 when the technology bubble busted, and suddenly all my friends and I were unemployed. It could get worse. Will it be October of '29? I sure hope not. If it gets that bad, I vote we restart the WPA.

[mkilly]

Em, right now it's a buyers market if you are looking for a house. But it's going to get worse before it gets better, so if you aren't in a hurry, don't rush it. People that bought houses with creative loans, are losing them.

Well, yes, this is true everywhere except for Portland.

Yeah, the real estate market sucks everywhere except anywhere someone would want to live. Seattle, PDX, NYC, LA: good luck finding a bargain. Of course, in LA/SF you could probably find a bargain relative to last year's prices, which were 800% above what they should be. Now we're back down to 675% above where they should be.

[Caravan Ray]

For example -- I can't buy a house if a bank can only give me an 8% interest loan -- that high a rate would push my monthly payment too high. However, I might be able to purchase one if a bank cuts me a deal for 5%.

Just a word of warning - there are a lot of people in Australia who borrowed at 5% or lower in 2004/05 who are now defaulting on loans at 8% (our interest rate is currently about double yours, and rising - thanks to a resources boom, and inflation exacerbated by the drought, oil prices and record low unemployment).

Historically - rates rarely go below about 5%, so go for a fixed rate loan of 5 years or more at 5% if you can get it.

[Billy's Little Trip]

I personally think that 08 is going to be a very humbling year, economically. I don't think it'll be the next "big depression", but I don't think we'll see things get any better until 09. People and businesses that are going to go belly up, will this year. It's unfortunate, but it will stimulate our economy and we will do as we always do, which is rebuild.
And yes, real estate is still a safe and sound investment as long as you don't buy more than you can afford. People need a roof over their head.

[melvin]

It's a sign that the US is heading into a recession. A radical interest rate cut indicates that the Fed is currently in the same headspace as stock market investors -- sheer panic. They're trying to keep people and businesses borrowing and spending by making borrowing cheaper. But in the opinion of many, the prices of assets (such as stocks and real estate) have already risen too high on the back of borrowed money, and helping people borrow more money to bid these assets even higher is, at best, just delaying the inevitable adjustment in debt levels and asset valuations.

History: Japan endured a long recession throughout the 1990s, and their central bank ultimately cut the interest rate to zero. ZERO! Yet, even with the ability to borrow money for free, people were not willing to invest in businesses or real estate until the bad debt worked its way out of their economy and inflated assets came back down to more reasonable values.

Lesson: You can't solve a fundamental economic imbalance with interest rate cuts.

Prognosis: When all the defaulted mortgages in America are settled, when all the over-leveraged families and businesses have gone bankrupt, when all the banks are finished writing off their bad loans, and when a small bungalow in California goes back to costing $500,000 instead of $1 million, we will be back to good times.

Advice: Pay down your debts and save your money now, and get ready to buy things a lot cheaper in a year or two.

[Caravan Ray]

...explaining things far better than I possibly could have....

Yeah - what Melvin said.

[melvin]

...explaining things far better than I possibly could have....

Yeah - what Melvin said.

But if only I had your wit!

[anti-m]

Just a word of warning - there are a lot of people in Australia who borrowed at 5% or lower in 2004/05 who are now defaulting on loans at 8% (our interest rate is currently about double yours, and rising - thanks to a resources boom, and inflation exacerbated by the drought, oil prices and record low unemployment).

Historically - rates rarely go below about 5%, so go for a fixed rate loan of 5 years or more at 5% if you can get it.

Yes, as I was saying -- I am not in favor of creativity in Mortgages. I would only do a 30-year fixed rate deal. Don't worry, Songfight, I've done my homework.

Oregon also has this*:

http://www.oregon.gov/OHCS/SFF_OregonBondHome.shtml

Which means that banks in Oregon have to compete with those rates. The banks I've talked to have 30 year fixed loans that are competitive with the Oregon Bond.

Melvin's advice is good whether or not the country is headed for recession. Saving now is paying yourself later, etc.


*There are, of course a few catches --
1. You have to be making under a certain amount of money per year to qualify.

2. There is a cap to the amount they'll lend you

3. There is the possibility of a penalty if you sell the home within a 9 year recapture period.

But really, it's a great program. I hope it sticks around. Viva the independent republic of Cascadia!

[Lord of Oats]

It seems Melvin is well on his way to winning not only a Grammy and an Oscar, but also a Nobel Prize in Economics.

So here's my big question for anyone, especially anyone who thinks all my assets are going to take a big shit. Is it safe to buy stocks now at all, or are they all going to be a puddle in a couple years? Aren't they pretty cheap right now? And aren't certain stocks very profitable to own in a recession? Like the "boredom" stocks: tobacco, alcohol, entertainment, etc. Sales in these areas have been shown to stay put or even go up during economic hard times. Gone With the Wind, anyone? That said, I'm not sure if I'm willing to parse through entertainment conglomerates to try to find the winners. Tobacco looks like a good place for me.

I'm actually tempted to buy Bank of America. The yield is great, thanks to the stock price getting hammered while the company continues to turn a profit. If you ask me, banks are in the business of money, and know how to make money in any environment. I think BofA is pretty well diversified, as well. If only it weren't for that stupid investment in Countrywide...but then, I have no idea what I'm talking about. And people have been saying you're nuts to try to guess the bottom on the financials. So maybe I am nuts.

But how about the recession performers? What do you say, Melvin? Am I better off having my money in cash?

[Caravan Ray]

I would only do a 30-year fixed rate deal.

You mean a rate fixed for 30 years!! WTF! I've never heard of anything like that. Surely no lenders would fix a loan for 30 years at 5%? If they are - I'll have half a dozen of them!

5 years fixed should be plenty. As long as you survive the first 5 or so years - after that you should have enough equity to be able to ride the ups and downs of the market

[HeuristicsInc]

Yeah, the "standard" mortgage is whatever rate you agreed on, fixed through the life of the loan. I've currently got 6%.
-bill

[Caravan Ray]

Yeah, the "standard" mortgage is whatever rate you agreed on, fixed through the life of the loan. I've currently got 6%.
-bill

Wow - that's very different to here. Ignore everything I say Anti-M!

Here are the current rates at my bank:
http://www.westpac.com.au/internet/publ ... rest+Rates

Here a "standard" mortgage means variable rate. Your repayments go up and down with the tide. Or - you can "fix" for a certain period - anything up to 10 years - usually at a rate higher than the current variable rate.

So you have a choice - play it safe and pay a bit more interest, or take a punt and hope rates stay low.

A 30 year loan at 5 or 6% really sounds too good to be true. Your market must be quite different to ours. Are there big penalties if you pay off early?

[roymond]

Its rare to get a 30 year fixed rate under 7. Typically you pay fees to get it down there, but that's a one time fee, then if you saty a long time, you have a great rate and it saves tons in the end.

If you plan on moving or flipping something faster, adjustable rates are lower, and they can only raise by a certain amount annually. Also, there are interest-only loans. A combination of these is also possible, or a fixed rate with no interest the first couple years, along with an interest only rate at first. I don't like playing games with this stuff, but it isn't a straight forward market.

For your own house a long term fixed rate is best, steady and secure. Unless the bank goes under and it changes hands. You're usually protected in that case but special deals may not carry over.

[anti-m]

So here's my big question for anyone, especially anyone who thinks all my assets are going to take a big shit. Is it safe to buy stocks now at all, or are they all going to be a puddle in a couple years?

Personally, I'm not much on risk-taking -- so I'd say your best bet investing-wise is to play it safe. I think now is an excellent time to start investing if you haven't already. If you're looking for long-term (retirement type) investing, I say start making a regular contribution to an account investing in a broad-spectrum mutual fund -- something that emulates the S&P 500 Wilshire 5000 etc.

Yes, the markets will likely plummet for a while, but the idea is that over time the market in general expands. Ride it out, and you'll eventually start making money. (Unless, of course, the economy really does DIE, then we're all fucked anyway.)

Of course, this means you should only put money in this type of savings that you wont need right away -- that way you can ride out the downhill thrill ride. Check out Roth IRA options at your local bank or haus of investment.

[melvin]

What do you say, Melvin?

I think certain sectors (like smokes, booze and junk food) tend to be more resilient than others during a recession, but I'm not sure they can buck the trend of a falling market. It's more like they may not fall as sharply as their more economically sensitive counterparts.

But I definitely agree that there's wisdom in buying good companies (like solid, well-diversified banks) when their prices are artificially depressed by all the gloom.

Prudent strategy: Make regular monthly investments into either a variety of quality stocks or mutual funds. As prices keep falling, you'll keep buying in at cheaper and cheaper prices. When the market finally turns around, you'll have amassed an AVERAGE cost of investment that's about as low as you can get without taking on the considerable risk of trying to call the bottom.