Lake County News

Gary Shilling’s Insight

And as far as mortgage lenders are concerned, they continue to leave the business one way or another with gay abandon. A recent one was American Home Mortgage Investment, a large REIT that specializes in prime and near-prime loans and accounts for 2.5% of the U.S. mortgage market. When it said it could no longer fund home loans and may liquidate assets, its stock promptly dropped 87%. This was clear evidence that credit markets were tightening as lenders, after the Countrywide bombshell, feared that the subprime slime was moving to the prime arena.

Now, it’s widely expected that Wachovia Corp., which entered into the adjustable-rate mortgages business when it acquired Golden West Financial Corp. two years ago, will announce that it is getting a capital infusion of several billion dollars from outside investors. It could be similar to Washington Mutual’s announcement earlier this month that it was getting a $7 billion infusion from private equity firm TPG which will receive warrants to purchase more than 57.1 million WaMu shares to help recapitalize the company. Meanwhile, the company is shutting down many of its mortgage lending offices.I foresee a 25% peak-to-trough decline in median single-family house prices nationwide. Remember, the earlier leap in prices was so exuberant that it would take a 50% fall to return them to the post-World War II norm, after adjusting for inflation and the increasing size of houses. I’m also forecasting a 60% peak-to-trough decline in existing house sales, a forecast that many view as extreme. But between November 1978 and May 1982, sales fell 55% in what was a much less severe housing slump than is ongoing today. The global recession that I expect to result from the spreading subprime slime, global de-leveraging and speculative bubble-breaking will benefit stocks by reducing inflation fears and thereby Treasury yields, aided by the usual Fed ease. But as is normal early in the recession, plummeting profits will more than offset those salutary effects to the detriment of stocks. Stocks at home and abroad are suggesting that worldwide problems lie ahead. Meanwhile, the leap in expected stock volatility indicates a newfound appreciation for investment risk, another drag on equities. I suspect that a full-blown bear market is starting, or soon will.

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