“She broke wind without breaking stride. And that’s when I knew something funny was going on in Washington, DC.” That’s one of the lines your editor used to describe his disillusionment with public policy solving all the world’s ills. But first, the markets!
In case you missed it late last week, Australian’s are re-leveraging. While most other households in the Western world are dialling back credit-financed personal consumption, the opposite seems to be happening here. This conforms to almost exactly the same pattern we saw in American in 2006. But first the facts.
The Big Four Aussie banks used the financial crisis – during which their non-traditional lending saw their securistisation model fail – to expand their control over the Aussie mortgage market from 65% to 75%, according to JPMorgan analyst Scott Manning, via Richard Gluyas in last Friday’s Australian. The banks actually grew their loan book in residential housing by $75 billion in the last 18 months.
Does this leave the Big Four exposed to just one incredibly important asset class? Well at least two of the Big Four might lose some sleep over it at night. Commonwealth Bank has 65% of its loan book tied up in household mortgages, according to Eric Johnston in the Age. Westpac/St. George comes in second with 62% of its assets in the local housing market.
Because Australian house prices always and only ever go up, this is probably not a problem. But were house prices to go up less fast, or, gasp, even go down, well then it might be a problem. To keep it from becoming a problem, the housing industry must attract a constant stream of buyers and the banks must continue offering them credit. If not, look out below.
But let’s go to the way back machine and recall how it played out in America. The Greenspan Fed panicked in 2001 and lowered the Fed Funds rate 13 times in the next three year until it was just 1% in 2003. These dirt cheap rates triggered the first wave of the U.S. housing bubble: the extension of credit to the most marginal of borrowers in the economy (the subprime and ARM vintage loans that blew up the system in 2007).
However, as you can see from the chart below, the predatory luring of bad borrowing risks into the market (begun by the Fed, blessed by the banks, and bankrolled by the GSEs) was just the first wave of the boom in mortgage originations in 2004-2006. The second wave was refinancing. You can see that low rates attracted a huge boom in refinancing from existing owners to lock in low rates while they lasted.
Now comes double-barrelled perplexing news. Just over 37% of March mortgage lending was for refinancing purposes, according to housing statistics firm AFG. The last time it reached that level in Australia was in December of 2008 – another moment when Aussies feared spiking interest rates. The AFG data also show that the Big Four reduced mortgage lending by 82% in March while non-traditional lenders doubled their lending.
Hmm. What do you reckon is going on here? First the government gooses the market with the first home buyer’s grants. The marginal borrower is “brought forward” into the market to keep it going. Then, refi reinforcements are brought into fill the breach as the first buyer’s grant expires. Finally, the non-traditional lenders use the securistisation scheme at the AOFM to sell even more mortgages and keep the boom rolling.
Does this have all the elements of the conditions that led to the peak in U.S. home prices and their eventual collapse? Yes it does! Of course, the banks would never dial back lending would they? Even if their cost of capital is increasing, they wouldn’t dare pass that on to Aussie variable rate borrowers, would they?
Why bother with housing when the market is threatening to bust out over 5,000? Its double bubble, toil and trouble. We think markets are running out of credit and sentiment to make new highs. And any external shock makes the next few months highly susceptible to a big correction.
The libertarian show in Perth was great. Your editor explained that he first knew something was amiss in Washington when, after giving a speech on the floor of the House of Representatives, a future cabinet member in the Bush administration bustled past him, breaking wind without breaking stride. Right there on the floor of the House chamber.
We knew then even as a 16-year old that something was wrong. You’ll get a full report tomorrow. There are free thinkers in Australia and they understand that ideas matter. More on those ideas soon. Until then!
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