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Lowering Interest Rates is Different This Time



January 22, 2008 – Comments (4)

Many investors have been trained that rates drop, the economy booms as does the market, but I think there is little thought into why.

1)  People can refinance debt at a lower rate and free-up cash flow.  Right now a lot of people already have debt at reasonably low rates.  As the interest rates were stepped down, there were a lot of people able to benefit from this along the way.  Rate have been lower and many people are already maxed out at low rates.

2)  Credit has tightened up.  People were borrowing up to 100%.  That isn't happening any more.  The losses have been felt and lending standards that price risk into them are being re-established.  You want to buy a half million dollar home?  Now you need at least $100k down.  People who could afford their homes with nothing down have been walking away because it is in their interest to do so.  You want to buy a house, you need a stake in it now.

3)  People are afraid to over pay for a home.  Demand will be down for years.

4)  People are grossly over extended.  Lowering rates might help them keep up with costs if they can refinance, but it won't help them get ahead.  Costs are going up faster than wages.

On my reading today "I have a lot of Problems with You People!"  The graphs all show how bad of shape households are in and no lowering of rates is going to change that.  What changes it is actually working to pay back the debt and reduce the debt servicing burden.

Banks are not going to be making as much money has they have.  They will not be making such drunken loans and will not be able to package it up and sell it on the markets like did.  This is an enormous loss of revenue that isn't going to come back.  Banks have had to raise equity so they are diluted.  Less income to be spread between more shares is what happen after the losses have worked their way through the market.  I don't see how income levels come back.  Banks were priced to have huge earnings on junk, sold off mortgages.  This chunk of earnings isn't coming back.  And now that they've sold to foreign investors, less of those dividends will make it home to be spent locallys.


4 Comments – Post Your Own

#1) On January 22, 2008 at 8:30 PM, camistocks (66.08) wrote:

Don't underestimate the creativity of banks to find new ways to earn money! Especially in combination with lower interest rates...

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#2) On January 22, 2008 at 10:26 PM, Imperial1964 (94.07) wrote:

For the short-term, banks have more big writedowns coming this quarter.  But many of you already know that.  Beyond this quarter, who knows. 

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#3) On January 23, 2008 at 3:07 AM, DemonDoug (31.48) wrote:

fed cuts = pushing on a string.

the bigger issue are the evergreen loans, and really, the biggest issue we will face as a nation and with dollar currency is if the Fed starts taking mark to model CDO's at full model value.  As I understand it this has not happened yet.

Until then, they are just pushing on a string, it's basically a facade to show the US and the world that they are "doing something."  It's a PR maneuver more than a fundamental help, due to the reasons you have outlined. 

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#4) On January 23, 2008 at 8:58 AM, dwot (29.01) wrote:

I think banks will find it far more difficult to scheme camistocks.

 Imperial I think mortgage reset come for another 2 years or so and we just don't see the extent of the write-offs until the harsh realities of how these things work through the lives of the people involved set in.

DemonDoug, if the Fed starts taking mark to model CDO's you better hope you own gold.  It would be the ultimate bail out of the banks and an incredible redistribution of wealth in how it would slaughter the value of the dollar.  The strong US dollar has given Americans the opportunity to see the world.  That opportunity would not be so apparent if it started costing 2 and 3 times the amount, which I think is what would happen to the US dollar relative to other currencies if they started to do that.

I was in Costa Rica this summer and my taxi driver was talking about his one month trip to Europe a few years earlier.  He saved for that trip for 10 years and he said it is something most people from Costa Rica don't even think about doing because it is so expensive.


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