Boyz with BB Guns

April 3, 2007

By Russ Winter

A sound banker, alas, is not one who foresees danger and avoids it, but one who, when he is ruined, is ruined in a conventional and orthodox way along with his fellows, so that no one can really blame him”.
- John Maynard Keynes

The whole Milky Way question of who owns the subprime and CDO blow ups reminds me of an incident with BB guns I was involved in as a ten year old. The neighborhood I grew up in was lopsided with boys about my age. One activity we engaged in is what we called “rapid fire”. This involved lining up bottles and cans which were faced down by about ten boys with BB guns (a more innocent era, with no “bad kids” on the scene). We then unloaded pellets at them as fast as we could. This idea of fun had worked just fine a dozen times in the past, but unfortunately was conducted in a field “safely” in back of residences. And the problem was that nobody amongst us had thought through or mentioned the concept that we were firing in the general directions of those houses. Some how, some way, a BB hit a neighbor’s back window. Who’d da thunk? Must have been a ricochet?

To this day I have always felt this incident was the work of one of my pals, but to this day nobody ever fessed up. Plus our stupidity was nicely smoothed over by the fact that we were in group mode, all pleading innocence at least to intent. For our parents this group stupidity and reckless behavior was surely much easier to defend than individual recklessness. The following article describes the Boyz with BB guns concept nicely. It’s a long read but here’s a short version. My advise to even the slightly prudent holding the Boyz (financials) would be to sell all the usual suspects, at least until somebody throughly fesses up. Baby out with the bath water makes complete sense when you are dealing with BB gunners. Typical of what will happens AFTER the windows have holes in them, we see Grant Thornton resigning as the auditor to Fremont General and Accredited Home Lending. Elsewhere Moodys is pressured into new assumptions on bank credit ratings.

Most experts say it’s almost impossible to know. Sales teams at investment banks and other firms that offered CDOs won’t talk and no one else contacted by MarketWatch has kept track. The Federal Deposit Insurance Corporation, which monitors risk in the banking system, tracks holdings of MBS, but not the different tranches. It has no information on who holds CDOs.

Many experts point vaguely to Asian and especially Japanese investors who have been hungry for any assets yielding more than the almost-nonexistent interest rates offered by the world’s second-largest economy in recent years. But that’s where the trail ends, which is a big problem, according to some. “It’s pathetic, but it’s almost impossible to find out, which is no good for the system or anyone really,” Josh Rosner, a managing director at research firm Graham Fisher & Co., said. “On the CDO side we know even less and regulators know even less because there aren’t very clear reporting requirements.”

March’s full Daily Treasury Statement is in and may give some clues about collecting Bubble taxes as well as taxes from real working people. Taxes for wages withheld checked in at a modest 3.2% year over year at 156,986 versus 152,102. The corporate wash, rinse, repeat tax machine checked in at a decent enough 43,315 versus 38,493, that’s up 12.5% but has backed off from the overall robust 16.3% growth seen for the fiscal year as a whole. Individual taxes not withheld which is a measure of capital gains paid on Bubbles and other assets actually dropped year over year to 10,762 versus 11,553. Might be an ominous sign but the big month to watch will be April when taxes are due.

The Dallas Fed just put out an economic update that offers clues about manufacturing job prospects going forward. I have already discussed residential construction jobs and offer that chart again showing the correlations. I believe an average of 75,000 to 100,000 jobs in that sector will be lost per month in 2007. To eyeball this take February’s housing starts of 1.525 million and the completions of 1.664 million and it lines up with 2.5 million residential construction jobs in August (after shifting six months). That’s about 750,000 lost construction jobs from January and ultimately housing starts need to shift even lower to around 1.2 million.

The chart on manufacturing shows new orders shifted back five months and overlaid against that sector’s jobs. This hints at a waterfall on the order of 53k a month over the next six months, or 318,000. Add back in 51k for the last three months and combine with construction that’s 1,119,000 lost jobs. Add on other construction, mortgage, retailing, services and I can visualize two million jobs gone by Labor Day. Final chart is cash on hand to cover liabilities and emergencies.