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8:30 AM EST Monday, February 11, 2008: Increasingly I don't like what I'm seeing or reading. My friend, a California real estate magnate, reports to me he has taken back more property in the past four months than in the past 12 years. He also tells me that that shopping space "is increasingly difficult to lease," as retailers from Rite-Aid to Starbucks are shuttering stores and curbing expansion, as consumers cut spending.

Real estate friends talk about a "tsunami" of upcoming bad debts and further writeoffs. I believe we're even looking at defaults by banks. This 1933 for some banks. Don't have more than $100,000 in cash in each bank, unless you're married when the limit is $200,000.

Earnings are plummeting. Mike O"Rourke, chief market strategist for BMT, reports, "As of Friday’s close, 73% of the S&P 500 reported their Q4 earnings. According to data compiled by Bloomberg, Q4 earnings for the S&P 500 are on pace to be $18.10, down 18.7% from Q4 2006’s earnings of $22.67. As everyone would expect, the real damage was incurred in the Financial and Consumer Discretionary Sector."

Fred Hickey, author of the newsletter The High-Tech Strategist, is his usual gloomy self, except he's ecstatic at tjhe profits he's making on gold and silver ETFs (GLD and SLV) and the puts on tech stocks. His present put options include Texas Instruments (TXN), Research in Motion (RIMM), Amazon (AMZN), Palm, Juniper Networks (JNPR), Garmin (GRMN) and Cisco (CSCO). He writes, "many of the puts that I have are longer-term put options, mostly LEAPS, with some expirations out as far as January 2009. This is the strategy I employed to capture the 2000-2002 tech stock break and so far, it's working again."

Of all the pieces I read over the weekend, none was as fascinating as a piece in the Atlantic magazine called "The Next Slum?" The article begins "the subprime crisis is just the tip of the iceberg. Fundamental changes in American may turn today's McMansions into tomorrow's tenements." Basically, the piece argues a structural change is under way in the housing market -- a major shift in the way many Americans want to live and work. The piece quotes Arthur C. Nelson, director of the Metropolitan Institute at Virginia Tech. He's looked carefully at trends in American demographics, construction, house prices and consumer preferences. In 2006, using recent consumer research, housing supply data and population growth rates, he modeld future demands for various types of housing. The results were bracing. Nelson forecast a likely surplus of 22 million large-lot homes (houses built on a sixth of an acre or more) by 2025 -- that's roughly 40% of the large-lot homes in existing today.

Weekend reading. From Bloomberg:

Joe Ripplinger took out a $184,000 mortgage in 2006 and makes his payments every month. Now he owes $192,000.

The 66-year-old Minneapolis house painter has a payment- option adjustable-rate mortgage. It allows him to write a check for $565 a month even though he owes $1,300. The difference is added to the mortgage, and when his total debt reaches $212,000, or after five years have passed, he said his monthly minimum could jump to about $2,800, which he can't afford.

"We're barely making it right now,'' Ripplinger said.

The estimated 1 million homeowners with $500 billion of option ARMs are beyond the help of interest-rate cuts by Federal Reserve Chairman Ben S. Bernanke. While subprime borrowers face an average increase of 8 percent or less when their adjustable- rate mortgages reset, option ARM homeowners may see their monthly payments double after their adjustments kick in.

"We call them neutron loans because they're like a neutron bomb,'' said Brock Davis, a broker with U.S. Express Mortgage Corp. in Las Vegas. "Three years later the house is still there and the people are gone.''

Once option ARM borrowers' loan balances reach a predetermined limit, called a negative amortization cap, usually 110 percent to 120 percent of the mortgage amount, their payment rates immediately increase. They also automatically shoot up after five years. Otherwise, increases typically are capped at 7.5 percent of a borrower's initial payment per year.

"These could be called long-fuse, exploding ARMs,'' said Kathleen Keest, former assistant Iowa attorney general and now senior policy counsel at the Center for Responsible Lending in Durham, North Carolina. ``I've heard people say they are the most complicated product ever offered to consumers. They are the real liar loans.''

The loans accounted for 8.9 percent of the almost $3 trillion in U.S. home loans made in 2006, up from 8.3 percent in 2005, according to an estimate by industry newsletter Inside Mortgage Finance. ...

One in five option ARMs packaged into bonds last year required less than 10 percent down payment and no proof of a borrower's income, according to a Jan. 22 report by New York- based analysts at UBS AG, Europe's largest bank by assets. Two percent required no down payment at all from the borrower, the analysts said.

Delinquency rates on option ARMs tend to be low in the early years, misleading some investors to think they will remain safe, said Sean Kirk, a debt trader at Seaport Group LLC, a New York- based securities firm focused on bonds of distressed or restructured companies.

Four types of home buyers typically get option ARMs.

Speculators, who plan to sell the property quickly, made up 12 percent of all option ARMs packaged into bonds last year, according to UBS. That included only borrowers who identified themselves as investors and not residents, who get lower mortgage rates. Wealthy people have used the loan for its flexibility, according to Thornburg Mortgage Inc. in Santa Fe, New Mexico.

The rest either took out the loans as an "affordability'' product to buy more expensive homes, according to Standard & Poor's, or borrowers may have been misled about the terms, according to federal bank regulators.

"I never heard of a payment-option ARM before,'' said Ripplinger, the Minnesota borrower. ``We thought they were putting us on a 30-year fixed. They didn't put us on a 30-year fixed. I believe that's why a lot of people are losing their homes now.''

Borrowers who tapped home equity in refinancing represented more than 44 percent of the option ARMs underlying securities created in each of the past four years, according to UBS.

Minnesota passed legislation in August requiring mortgage brokers to act in borrowers' best interest, a law that may have made Ripplinger's mortgage illegal, said Brandon Nessen, executive director of Minnesota ACORN, a housing activist group in St. Paul.

"You can't make a loan that puts someone in a worse position than they were in before,'' Nessen said.

Sophisticated borrowers can take out option ARMs and avoid problems, said Ira Rheingold, executive director of the National Association of Consumer Advocates in Washington. It's just that mortgage sellers marketed them to people who didn't understand the terms and couldn't afford them, he said.

"It was used to cheat people,'' Rheingold said. "It helped artificially keep housing prices higher than they should have been.''

Delinquencies of more than 90 days on option ARMs increased to 5.7 percent in the fourth quarter from 0.6 percent in the same period of 2006 on loans held by Countrywide Financial Corp., the Calabasas, California-based company said in a regulatory filing last week.

Lenders hold loans in their portfolios when they don't bundle them into securities for sale to investors.

Countrywide had $28.3 billion in option ARMs in portfolio at the end of October, according to Inside Mortgage Finance. The only banks with more were Charlotte, North Carolina-based Wachovia Corp., with $117.8 billion, and Seattle-based Washington Mutual Inc., with $57.9 billion, according to the Bethesda, Maryland-based newsletter. ...

Countrywide wrote down the value of $35 million of the loans in the fourth quarter, up from $1 million a year earlier, according to a regulatory filing. The company agreed to be acquired by Charlotte, North Carolina-based Bank of America Corp. after losing as much as 89 percent of its market value.

Wachovia-originated option ARMs were higher quality than other companies' option ARMs, Chief Executive Officer G. Kennedy Thompson said in a Jan. 30 conference call. That's because the bank made sure borrowers could stay current on monthly payments at the reset amount, not just the teaser interest rate, which can be as low as 1 percent, he said.

That was a standard that regulators, including the Fed, recommended in 2006 after the total U.S. foreclosure rate climbed to a five-year high. It has since surged to the loftiest level since at least World War II, according to data compiled by the Washington-based Mortgage Bankers Association.

Tougher lending guidelines have made it more difficult to refinance into new option ARMs.

"The option ARM volume that was done was part of the excess,'' IndyMac Bancorp Inc. CEO Michael Perry said in a telephone interview from his office in Pasadena, California. IndyMac, the second-largest independent U.S. home lender, made $43 billion of the loans from 2005 through the third quarter of 2007.

"Obviously we've been through what we've all been through, there's many things we regret,'' Perry said. IndyMac no longer makes the loans because mortgage-bond buyers aren't interested, he said.

Washington Mutual also is no longer offering option ARMs to borrowers who put down little or no money or home equity as a deposit, CEO Kerry Killinger said on a conference call last week. ... The company's unpaid principal balance of option ARMs exceeded their original principal amount by $1.73 billion at the end of 2007, almost double the $888 million of a year earlier, Washington Mutual reported on Jan. 17.

Regional banks are feeling the effects of option ARM delinquencies, said Andrew Laperriere, managing director of New York-based research firm International Strategy & Investment Group.

FirstFed Financial Corp., the Santa Monica, California-based savings and loan whose net income slumped 75 percent last quarter, blamed option ARMs hitting their negative-amortization caps for higher delinquencies. More than 1,800 of its borrowers hit the limits, and 2,400 more may this year, the company said Jan. 25.

Laperriere estimates that 85 percent of option ARM borrowers owe more than their original loan balance.

"The problem is, you can refinance an option ARM to a 30- year conventional loan at a 5.5 percent interest rate, and you're still looking at your payment going up 150 percent,'' Laperriere said. ``That's pretty ugly.''

About $460 billion of adjustable-rate mortgages are scheduled to reset this year, with the next spike in resets coming in 2011, when $420 billion in mortgages will adjust to new interest rates for the first time, according to New York-based analysts at Citigroup Inc.

That's the year that Joe Ripplinger's payment will jump, provided he doesn't reach his negative amortization cap before then. "It's the worst thing we could have done,'' he said.

From The New York Times:

From Japan’s Slump in 1990s, Lessons for U.S.

In broad strokes, the parallels are alarming. After a long boom, the Japanese economy in the 1990s, as America’s today, was jolted by a sharp plunge in the real estate market.

In Tokyo, the government bankers and policy makers were slow to recognize the scope of the problem. Bad loans piled up. The financial troubles rippled through the economy as consumer spending and job growth fell.

The Japanese slump proved extraordinarily long-lived, ending only a few years ago, a stretch of stagnation known as Japan’s lost decade. It was a humbling and lasting setback for a nation once feared and admired as a model of economic dynamism.

The shadow of Japan hangs over the American economy these days. The United States is sliding into a housing-driven downturn, economists say, just as it also appears to be losing some of its global edge from the productivity-enhancing gains driven by the technology investments of recent decades. For Japan, experts point out, the housing bubble burst just as the rise of China as an export power hurt Japanese manufacturers.

A lengthy slowdown, they say, could alter the economic psychology of America, echoing the Japanese pattern, as the nation enters a period of diminished confidence that restrains consumer spending and business investment.

“I think there are a lot more similarities than people are willing to admit,” said Clyde V. Prestowitz, president of the Economic Strategy Institute, a Washington-based policy research organization that has long promoted American industry.

“The American economy is very fragile now,” said Mr. Prestowitz, who was a trade negotiator with Japan in the Reagan administration.

But the extreme Japanese experience, most analysts agree, stands less as a prediction of America’s fate than as a cautionary example. A Japan-style quagmire, they say, is an outcome that can be avoided in the United States with sound economic policy.

Japan’s central bank and finance ministry, economists say, waited far too long — years — before taking steps to revive Japan’s economy in the 1990s.

The Federal Reserve, while slow to see the credit crisis spilling into the broader economy last year, has acted much more decisively in recent weeks. The Fed has twice cut short-term interest rates sharply, lowering its benchmark rate to 3 percent, reflecting both the central bank’s anxiety and its determination to try to lift the economy despite serious concerns about the risk of higher inflation.

Ben S. Bernanke, the Fed chairman, is a former professor at Princeton University and a student of Japan’s policy missteps. And while a number of experts fault Mr. Bernanke for what they see as the Fed’s poor communications with both Main Street and Wall Street, the central bank’s recent moves suggest that he has taken those lessons to heart.

His past comments, however, indicate that Mr. Bernanke thinks that low interest rates alone are not enough to revive an ailing economy. In a 2003 speech in Tokyo, for example, he offered a prescription for Japan’s malaise: a more aggressive monetary policy and “explicit, though temporary, cooperation between the monetary and fiscal authorities” to stimulate the economy.

Washington understands that message. Congress — America’s fiscal authority — moved unexpectedly rapidly to approve a $168 billion stimulus plan that includes household tax rebates, temporary tax cuts and incentives for business investment.

“The United States is moving faster than the Japanese did,” said Charles Yuji Horioka, a professor of economics at Osaka University. “So far, so good. But American policy makers have to be ready to take further steps as needed.”

The American economy, many economists predict, will deteriorate further before things turn around. The government’s report last week that employment fell in January, the first decline in more than four years, was the latest sign of trouble. The depth and duration of the downturn, economists say, will largely depend on how much more bad news is coming from banks and other financial institutions.

Nouriel Roubini, an economics professor at the Stern School of Business at New York University, warned that the roughly $100 billion in bad loans reported by banks to date could increase nearly tenfold, as the defaults spread beyond the subprime mortgage loans to consumer loans, credit cards and corporate lending.

In his view, the American economy is already in recession and faces a lengthy downturn of a year or more, before growth recovers.

Still, even Mr. Roubini sees scant chance of the United States following Japan’s path. “I’m very pessimistic, but I don’t think it will be anything like Japan,” he said.

Compared with the boom-bust cycle in Japan, the American housing market looks positively sedate. In the major metropolitan regions of the United States, house prices rose 82 percent from the end of the last recession in November 2001 to their peak in June 2006, according to the Standard & Poor’s Case-Shiller home price index. Since the peak, house prices have declined about 10 percent, and most economists expect a further decline of 10 to 15 percent.

In Japan, housing prices in the major metropolitan regions nearly tripled from 1985 to 1991, then proceeded to lose two-thirds of their value over the next 14 years. Today, prices have risen slightly, according to Japanese government statistics. Still, Japanese house prices last year were only slightly higher than the level before the boom, more than two decades ago.

In Japan, government officials not only tolerated the housing price bubble, economists say, they actively encouraged it. Fearful that a strengthening yen was hurting Japanese exporters, the Ministry of Finance urged banks to lend to real estate developers so that a building boom and increased consumer spending would lift the economy.

Japan’s post-bubble recession should have lasted from 1992 to 1994, according to Adam S. Posen, a senior fellow at the Peterson Institute for International Economics in Washington. But Japanese officials were too conservative and too protective of failing banks, he said, and thus prone to policy steps that were counterproductive, like the decision in 1997 to raise Japan’s sales tax to 5 percent, from 3 percent.

“What kept Japan down was repeated macroeconomic policy mistakes,” Mr. Posen observed.

Japan’s close-knit business and government culture, economists say, slowed its response to the crisis and prolonged the slump. The industrial groups, or keiretsu, had tight links with banks, so when a bank got in trouble it was often quietly bailed out temporarily with loans or investments from other members of the corporate group. Japanese bank regulators, economists note, tended to be friendly and permissive.

Eventually, Japan experts say, banking regulation and disclosure rules were tightened up.

“In America, we force the bad news out faster than the Japanese did, and we deal with it faster,” said Edward J. Lincoln, an economist and director of the Japan-U.S. Center for Business and Economic Studies at New York University. “That should limit the damage from the economic shock instead of drag it out, as they did in Japan.” ...

How to buy a new laptop: In coming weeks, Intel will release will faster laptop processors and the makers will release a whole new batch of new faster machines. The "problem" is that laptop makers have suddenly become obsessed with "widescreen" machines -- laptops that are much wider than they are tall. This has appeal if you spend your entire life messing with big Excel spreadsheets. But it's a disaster if you spend your time doing other things -- like writing emails, checking out the Internet, doing PowerPoints, etc. What happens with widescreen laptops is that your favorite web site (e.g. the Wall Street Journal) clings to the left side of your laptop's screen, while the right hand side is completely blank. I have a widescreen laptop sitting on my desk (it's on loan). A gigantic 30% of the screen is blank (i.e. waster) as I check the Wall Street Journal, Bloombergs and the New York Times. What's worse is that it shows less of their websites than other older machines. I pulled out a bunch of laptops and checked their screens, based not on the physical size of the laptop, but on the number of pixels they show. Then I divided the horizontal pixels by the vertical pixels to get an aspect ratio. If you spend your entire life surfing the Internet and writing emails and letters, the "ideal" aspect ratio would be 0.63, not 1.60. You'd want 900 x 1440 or 1050 x 1680. You're, of course, not going to get that. The closer you get to 1.00, the better. Be wary of upcoming widescreen hype.

Please teach Mr. McCain about sunk costs. On his web site, John McCain writes, that "there are simply not enough American forces in Iraq." He has stated that he would be willing to keep troops in Iraq for 100 years if that is what it would take for victory.

Sunk costs are the monies, people and resources you've already thrown at a problem. Your decision is now: what about the next monies, people and resources? You need to figure your return on the next investment, not the past one. Will the next one have any chance of success? If not, don't make it. The previous resources have gone. You shouldn't be "saving" them with new resources.

The BIG mistake is throwing good monies, people and resources after bad ....

Hugo Chavez of Venezuela is certifiably nuts:

+ After the recent outbreak of dengue fever, which reached into his cabinet to infect Culture Minister Francisco Sesto, Chavez did not shake up the public health system. Instead, he called for an investigation of claims that the disease may have been altered into a more virulent strain as part of an attack on Venezuela by unidentified enemies.

The bank robber and the hostage
A man robs a bank and takes hostages.

He asks the first hostage, "Did you see me rob the bank?"

The hostage answers, "Yes."

The crook promptly shoots him.

Then he asks the second hostage if he saw him rob the bank.

The hostage answers, "No, but my wife did."

I wish I had thought of this.

At a high School in Wisconsin a group of students played a prank on the school. They took three goats, painted numbers on their sides: 1, 2, 4. They then let the three goats loose in the school.

Local school administrators spent most of The day looking for #3.

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads on this site. Thus I cannot endorse, though some look interesting. If you click on a link, Google may send me money. Please note I'm not suggesting you do. That money, if there is any, may help pay Michael's business school tuition. Read more about Google AdSense, click here and here.
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