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How long have you been following the breakdown in the housing finance market?

Since a bit over a year ago, as an intentional 'study' in finance and economics.

However, I knew something was wrong back in mid-2005 when friends were urging me to 'just buy a house' for no apparent reason. In fall of 2005, I actually considered buying the place I was renting, which was from the individual landlord who owned it. I looked at the price/appraisal history of the place (a condo) and it looked parabolic. I thought 'there's no way that's real value'. It also hadn't been renovated in 20 years, and I wasn't willing to do any sort of exotic financing, so I made a low-ball offer. The landlord wanted a premium over the latest comps, the highest of which had around $20k in improvements, so I said 'no'. He wouldn't budge. I moved out and continued renting somewhere else.

This turned out to happen at the peak of the bubble. My landlord didn't sell the place for almost a year, and with his carrying costs, did worse than my initial offer (not even including the effects of inflation).

That was a direct introduction to bubble psychology... and I've encountered more of that, amongst friends and family.

Anyway, through participating in the economics blogosphere in 2006, I came to realize that these were all symptoms of a huge market bubble, perhaps the largest one in history. I became very annoyed with the state of media coverage of the housing bubble, and starting commenting on other people's blogs, then writing posts and articles on my own blog at autoDogmatic and also contributing articles to iTulip. I wrote on the housing bubble and related economic topics. Then I started the Implode-o-Meter (just around the turn of the year), with the premise that imploding lenders were a sign of the bubble's collapse, from a housing finance perspective. I wanted to make sure there was a comprehensive record of that, to make it all more difficult to deny and subvert. It was (and still is) basically a real-time historical record.

What do you think about some of the comments that have been made by individuals in the biz like Countrywide Financial Corp.'s Angelo Mozilo, who says 'nobody saw this coming' when referring to the deterioration of the market?

His comments are disingenuous, for obvious conflict-of-interest reasons. Just look at his stock sales. If he believed this much in his company and in the market a year ago, why didn't he buy any stock -- not even a little bit? The 'pre-arranged sale plan' doesn't work, because presumably he'd still buy a little on market pullbacks.

The Toll brothers seem to have displayed similar 'do as I say not as I do' behavior.

Mozilo caused quite a stir recently when he announced that subprime borrowers aren't the only ones defaulting on Countrywide, that borrowers with prime loans are doing so as well. If this is now occurring at Countrywide, may we assume that this is an industry-wide problem?

Yes. That's because this isn't really a mortgage problem per se, it is a consumer debt and deteriorating incomes problem. When you cut through the specious apologetics, incomes for most Americans have been on the decline since the mid-70s. It's probably much worse than acknowledged since inflation rate estimates by the government are generous to say the least (again, for conflict-of-interest reasons), and those are what is used to normalize the relevant data series.

The trend has accelerated under the Bush admin. Interestingly, even four-year college graduates are seeing declining starting incomes. The education canard the Fed loves to use is a lie.

We as a country have been papering over the problem through the unprecedented expansion of debt. It has turned the economy into a huge Ponzi scheme, with housing at the core.

We now are in manifest trouble since we have reached the point where the real income generated by society as a whole is no longer enough to service all *that debt. This goes for individuals with their mortgages and credit cards, it goes for corporations trying to fund LBOs and M&A, and it goes for the government and general spending.

Hyman Minsky wrote about this, as did von Mises and Rothbard. Their works are all highly recommended.

You recently wrote an article for iTulip about pay-option loans/negative amortization, and noted that a number of mortgage lenders and banks are actually chalking up significant net income as a result of these loans. How long do you think it will be before their barely-concealed accounting scam comes back to bite them, and do you foresee any changes in industry practices as a result? In other words, will the organizations that dabbled in these pay-option loans be bit badly enough to learn a lesson?

I'm starting to get a feel for the lag between when us 'tin foil hatters' figure something out and when the mainstream figures it out. I would say it will be 4-6 months. Prime defaults will perhaps be the worst in that sector, and that will be noticed. Someone could get a better timing by figuring out when most of the PO-ARMS will hit their negative amortization limits. Then the inevitable can no longer be put off, and pay options turn into delinquencies.

Some people have certainly figured all of this out; I read at least two significant analyst articles on neg-am before I penned my own, one of which I think may have dated back to late last year. The shares of some of these companies are so popular with shorts so that you couldn't get more shares to short if you wanted.

The organizations in this industry will learn, at least temporarily (the ones that survive, because they weren't relying wholly on pay option income). The market, and the public, perhaps never will -- this same sort of pump-and-dump scheme is likely to resurface in another area. This is the same sort of thing that was going on with Enron and the dot-coms and telecoms in the last bubble. Look for it wherever there's some sort of bonanza or market mania; that's when buyers of securities will believe just about any story as to income generation.

There are all sorts of estimates of how many people will likely be facing foreclosure in 2007 and 2008 as a result of their bad loans. Do you have an estimate of your own?

I'm sure the CRL's estimate is pretty good; but as things have been playing out, it seems that worst estimates are routinely being surpassed. So I wouldn't be surprised to see about twice that, which would be about 4 million individuals in foreclosure situations.

The big curve ball here is job loss. Most observers are assuming that the current historically-optimal employment situation will continue. But why would it? The housing sector is contracting, and that alone was responsible for about 1 million jobs added in the last five years (documented jobs, that is). Then there's the threat of a general recession, which I think we're going into. There's already talk of a number of states tipping into recession. I think the country overall is essentially in recession already. The government econometrics cover this up (though not very well).

The big fear of course, is that surging foreclosure activity will push down housing values, and it has started to do this already in certain areas. But with prices so disconnected from fundamentals (median incomes, rents, etc.) in bubble states like California and Florida, it's pretty obvious that prices need to come down quite a bit anyway before they can logically start to go back once more. Do you think all of the foreclosure activity will expedite this correction?

Oh yes. And you haven't seen anything yet. A couple months ago one of the posters on the forum at ml-implode noticed that, judging by one region he sampled in California, Countrywide had yet to put 75% of its REOs on the market.

Lenders and banks don't have the luxury of stubbornly holding out, like many individual sellers of existing homes. When these foreclosures begin to dominate the market, things could get very ugly.

Which states do you think will have the slowest recoveries?

I see California and Florida having a tougher time. California has severe public infrastructure problems. Companies and individuals are fleeing the state. Its hard to run a vibrant economy when you have those dynamics. California is a crowded trade.

Florida has insurance problems. Suddenly the hurricane risk was priced in. People are leaving the state. It will be much harder to recover, and prices will have ways to go.

A reasonable basis of comparison may be Houston, subsequent to the US's oil peak, de-embargoization, and subsequent oil market collapse in the 80s. I looked at a chart recently and arguably Houston still is undervalued. The two lessons here are (1) there are still a few places in the US that are valued more reasonably (though probably not for long), and (2) when the bottom drops out of a local economy, it may take unusually long to revert back to the historical mean. Like a generation.

There has been a great debate among those who follow the markets as regards to Fed intervention. Some say it is the Fed's responsibility to do something. Others say we will be better off in the long run if the Fed doesn't intervene at all. What's your stand on this situation?

Assuming the Fed continues to exist, I think they need to get their act together and really start controlling monetary growth. They pretend that nothing matters but M1 and M2, and as long as growth in these don't show up in retail prices, everything's hunkey-dory. That's not correct. The dot-com bubble and housing bubble have proven that this money-and-credit-ignorant approach is profoundly wrong. Not only do M1 and M2 matter, but M3 matters, and beyond this, consumer credit matters. And derivatives matter (derivatives essentially act as credit and encourage more financial speculation). All these things go into asset and retail prices, and have the potential to create bubbles and economic turmoil and misery if not controlled. The Fed discontinued its M3 reporting this past spring. They think 'see-no-evil, hear-no-evil' will somehow absolve them. I think a lot of people aren't buying it.

However, I think the best solution would be to simply dissolve the Fed. They've failed. They have proven they can't be trusted to responsibly manage the US dollar and the banking system. No matter what happens, they expand credit, or they allow it to expand, and then blame catastrophes on external factors. They're now hard at work blaming the lending collapse on fraud perpetrated at the mortgage origination and securitization levels. Fraud did of course happen, but it is a symptom of the bonanza of credit expansion, not the root cause.

We've had one Great Depression, and arguably another lengthy depression in the 70s and 80s, all under the Fed. We had no major depressions prior to the Fed. The word 'recession' was not in popular use, if it even existed. The Panic of 1907 was created by the same people who created the Fed. The long-running results of the Fed, besides these, and besides rolling asset bubbles, has been the dollar's dramatic devaluation and the concentration of wealth. That concentration is coincidentally towards the same class that created the Fed: the bankers, the financial sector, the industrial plutocrats. We now have a higher concentration of wealth than we did during the Robber Baron age. Think about that.

A Central bank was created twice in the US before the Fed. The second time, it was liquidated by Andrew Jackson, who knew it was unconstitutional central planning. Jackson was right: this sort of central planning has utterly failed.

We need to go back to a competitive money and credit system, where the imprudent will fail at a small scale before the problems become systemic.

Final Question: You've recorded on your website a total of 103 lender implosions since late 2006. Do you have a guess as to how many more may implode by the end of 2008?

At the rate we are going, I wouldn't be surprised if it were another 50 this year; maybe as many as 100 through next year. Maybe we'll run out of companies/operations before then. Presumably things will stabilize at some point, at least as far as the housing finance sector. The housing market itself has a ways to go.

I have something like 3-5 companies that need imploding tonight, in fact.