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8:30 AM EST Monday, November 6, 2006: Can the economy survive the housing bust? From Fortune Magazine and also on CNNMoney.com.
I added the bolding.

Real estate downturns have a way of leading to recessions and stock market slumps. So far the damage has been limited, but the numbers keep getting worse, says Fortune's Jon Birger.

Tucked away in the briefcase of Liz Ann Sonders, chief investment strategist at Charles Schwab & Co., is a chart so scary she's hesitant to show it to investors. It plots the National Association of Home Builders' Housing Market index -- a monthly measure of builder confidence -- against the Standard & Poor's 500 stock market index, with a one-year lag.

It turns out that the mood of builders is a terrific stock market bellwether: The correlation between current builder confidence and future stock market returns over the past ten years is downright unnerving.

Not only did the NAHB index presage the start of the post-1994 bull market in stocks, but its decline starting in 1999 foreshadowed the equity market collapse that came the following year. Builder confidence rebounded in November 2001 -- a year ahead of the stock market upswing that began in October 2002.

Why is Sonders worried now? Just look at the chart. Over the past year, the NAHB housing index plummeted 54 percent. Were stocks to follow suit, the S&P -- 1400 in late October - would be trading below 700 this time next year.

Sonders isn't predicting anything so apocalyptic, but she doesn't hide her concern about housing and her pessimism about stocks.

"In terms of consumer spending, I don't think we've felt anywhere near the brunt of all the adjustable-rate-mortgage resets and the massive increase in defaults and foreclosures in states like California," she says. "Housing downturns happen in a fairly slow-motion way, and I really think we're just at the beginning of the impact on the market and the economy."

The latest omen: GDP grew at its slowest pace in three years in the third quarter, hurt by the housing slump.

Such bearishness flies in the face of the euphoria now rampant on Wall Street. The Dow Jones industrial average keeps hitting new highs, and the S&P is a stone's throw away from its own record (although in inflation-adjusted terms, they're still below their peaks).

Third-quarter earnings? One report seems better than the next, with key companies like Google (92 percent profit growth), IBM (54 percent), and Bank of America (41 percent) all posting stellar numbers.

"The effects of the housing correction will be entirely contained within the housing sector," says Mike Englund, chief economist of Action Economics. Corporate balance sheets are stronger than they've been in years, with U.S. companies sitting on $600 billion in cash. Interest rates are stable, and may decline. Falling energy prices are easing the burden on energy-intensive industries like chemicals and airlines.

And as PNC chief investment strategist Jeff Kleintop points out, there have been only two midterm election years since World War II when the stock market did not stage a fourth-quarter rally. The bulls' bottom line: Housing may be a risk factor, but there's too much other good news for it to be the catalyst for a recession or stock market meltdown.

That may turn out to be wishful thinking. All the economic activity generated by home sales -- new mortgages, realtor fees, outlays to painters and handymen, the inevitable shopping trips to Home Depot and Best Buy -- played a huge part in digging the economy out of a recession in 2001 and 2002. Given the importance of home sales on the way up, it may be shortsighted to minimize their importance on the way down.

"The historical record is extremely negative in terms of what comes next," says economist Ed Leamer, director of the UCLA Anderson Forecast. "We've had 11 sharp declines in the housing market since World War II, including this one. Eight of the last ten were followed by a recession."

For now, there's little hard evidence that the housing slowdown is dragging down the economy. Construction materials like concrete, wallboard and structural steel should be the canaries in the economic coal mine, yet their prices keep climbing.

Construction-related employment has been rising too -- up fractionally from August to September and up 3 percent over the past 12 months, according to the U.S. Bureau of Labor Statistics.

But folks in the trenches paint a much darker picture, lending credence to the idea that we're living through the lag -- the period before the realities on the street show up in economists' spreadsheets.

Business is so bad for real estate brokers that Steve Murray, a realty consultant and publisher of the Real Trends newsletter, thinks the industry might end up paring 15 percent of its workforce. That equates to 200,000 agents, which is more than the total layoffs at Ford Motor Co. since 2000.

"I don't think the macro statistics reflect accurately what's going on in many local markets," says Bruce Karatz, CEO of national home-builder KB Home. In many once-hot regions, order cancellation rates are running above 40 percent, new-home sales volume has dropped 50 percent, and new-home prices are down 10 percent to 25 percent. Karatz says the current downturn is worse than any he has seen -- even the early 1990s market that left so many big builders reeling.

If housing starts and sales were the only casualty, the economy probably wouldn't be in such peril. Gary Gordon, an executive vice president at mortgage investment firm Annaly Capital and a former chief U.S. equity strategist at UBS, expects construction to fall to 4 percent of gross domestic product from 6 percent today -- itself not enough to push the economy (now growing at a 2.6 percent annual rate) into recession.

The big risk is the ripple effect. Consider Annamarie and James Vasiloff, a New Castle, N.Y., couple who until recently had been shopping for a bigger home. Had they found the right one, Annamarie says, they were prepared to spend a few thousand dollars on new furniture. But frustrated with high prices and worried that real estate was about to crash, they put their home search on hold.

Housing turnover is a leading indicator of furniture sales, which is why analysts keep trimming earnings estimates for home furnishing retailers like Pier 1 and Ethan Allen.

Another big concern is what happens if consumers can't keep using their homes as cash machines. By Gordon's estimate, U.S. homeowners pulled more than $450 billion in equity out of their homes last year and are on pace for a similar bonanza in 2006.

But with home values falling, homeowners may lose that source of ready spending money. Should cash-out refinancings fall back to 2001 levels, he estimates, it would drain $300 billion from the economy -- which would have roughly the same impact as a $60 jump in the price of a barrel of oil.

And that doesn't include the added bite when homeowners who took out adjustable-rate mortgages a couple of years ago face rate resets that raise their payments.

It's hard to overstate the damage of losing so much potential buying power. Merrill Lynch economist David Rosenberg has argued that cash-out refis were the only reason the economy weathered the gas-price hikes this year and last. Gordon is so worried about the disappearance of cash-out refi money that he's predicting a recession in 2007 or 2008.

When stock investors hear dire warnings like this, one natural response is to get defensive. That's tricky when some signals -- namely equity markets hitting new highs -- are bullish.

The smartest (and safest) way to protect a portfolio against a real-estate-fueled slowdown may be to shift some assets to intermediate-term bonds (which would benefit if the Federal Reserve starts cutting rates next year to spur growth.

A more aggressive tactic would be to start bargain hunting among troubled housing stocks. ...

All this is very scary. We know the upturn in housing boosted the economy, got us out of the Tech Wreck of 2000-2002 and lifted the value of our shares. Now it's happening in reverse. Will it cause stocks to fall? Undoubtedly yes. Is it time to head for the exit? The answer is YES -- a call that's ultra difficult to make because it flies in the face of optimism on Wall Street. Does that mean you should sell ALL your stocks today and go 100% to cash? Absolutely NOT. But it is time to examine every stock you own for any blowback from the housing slump. You'll be surprised how many are likely to be affected.

The perils of investing in a private "family" company: Many, many years ago I invested in a private company. With my partner, we own 51%. The company has done OK, not brilliantly. It's been difficult times in its industry. What's interesting is that the company has never paid me or my partner a nickel in dividend or return. And every year the company's profits are erased by changes in the salaries of the family members the family company employs. There are several obvious solutions -- including taking over the company and running it myself.

Had it been a private equity or venture capital deal, the "exit" strategy would have been clearly defined -- up front. The moral of this story is clear. Private companies need the same strategy discussions and goals that larger companies do. Benign neglect and occasional prayers don't work. Obviously my predicament would be more difficult if we didn't own a majority.

Microsoft's Office Live appeals: I have not used it. I'm making a recommendation based on favorable reports in the computer press. The fact is few small businesses (yours as well?) make full use of computers and the Internet. The owners lack computer skills. They are afraid of screwing up. They're afraid of losing all their data. They've heard the stories.

I'm not a huge fan of Microsoft, but I do like what I read about Office Live, their new online "business management" service which they're testing and giving away for free at present. Here's Microsoft's description:

Office Live Essentials provides customers with the essentials for establishing and managing a small business online, including: company domain name, Web site space, and 50 e-mail accounts with their own domain names. It also provides WYSIWYG (what you see is what you get) Site Designer and Microsoft FrontPage support to assist in expertly creating your Web site.

Office Live Essentials provides Web site reports analyze the resulting traffic, and a range of hosted small-business applications automate daily business tasks, such as the managing customers, projects, and documents. These hosted services can work on their own or enhance the experience of customers using the Microsoft Office System of products, servers, and services, such as Microsoft Office Word, Outlook, and Excel.

Both Microsoft Office Live Essentials and Microsoft Office Live Collaboration include more than 20 business management applications that provide the business owner with a comprehensive set of tools to help run a successful company.
These include the following business applications::

* Company management
o Asset Tracker. For administration, management, and accounting: track and watch current and fixed assets as well as asset requests.
o Calendars. Schedule events and meetings in this group calendar, add associated documents, and make important company dates and activities visible.
o To Do. Assign, track, and manage tasks and task lists.
o Company Documents. Create or upload company documents for sharing with others in a customizable list.
o Microsoft Office Small Business Accounting (SBA) Backup. Use SBA's new sharing and backup features to share, view, and access accounting files from SBA.

* Sales and marketing management
o Campaigns Create and manage multiple campaigns, with summary tools to track success rates and return on investment (ROI).
o Competition. Tracker Use this as a central location to keep competitor profiles, product information, and industry news.
o Marketing and Sales Collateral. Assemble your marketing materials in this repository and track and store every stage of their lifecycles.
o Product & Service List. Create and manage a catalog of items for internal inventory tracking or to list products for sale.
o Estimates. Respond to customer requests for requests for proposals (RFPs) and quotes.

* Customer management
o Contact Manager. Organize your customer information, track accounts and contacts, generate reports, and create quotes and invoices.
o Customer Support. Give your customers a place where they can easily access documentation, ask questions and find solutions.

* Project management applications
o Project Manager. Quickly set up projects and collaborate with your team to standardize processes, handle issues, and track and mark milestones.
o Tasks. For managers and employees to create task lists, assign them, update the status of items, and easily track progress.

* Employee management
o Employee Directory. Use this list to view all your employee contact information.
o Work Hours. Track work hours to your projects and tasks, record how much time employees spend per project or client, use a team calendar, and track events.
o Training. Manage all your training activities, by list or by calendar, including enrollments.
o Expense Tracking. Employees can report reimbursable costs to accounting and company administration easily sees expenses for budgeting.
o Jobs & Hiring. Use this job requisition tool as you open positions, interview candidates, and follow the hiring process.

For more info on Microsoft Office Live, Click here.

Make yourself your very own Jackson Pollock: Here's mine. I'm sure you can do better.

Click here: http://JacksonPollock.org. You start with a blank canvas. Use your mouse to make shapes and lines and your left-click button to change color. Here is endless amusement for the marginally bored.

Officer claims wife put pot in meatballs. From Associated Press

NEW YORK - A detective suspended after testing positive for drugs says his wife served him meatballs spiked with marijuana because she wanted to keep him out of harm's way by forcing him into retirement. An administrative judge believed him, and recommended this week that Anthony Chiofalo be reinstated. Police Commissioner Raymond Kelly has yet to decide what to do.

"We can't comment because the matter will still come before the police commissioner for a final determination," said spokesman Paul Browne.

Chiofalo, a 22-year-veteran assigned to the Joint Terrorism Task Force, was suspended without pay last year after a random drug test found marijuana in his system. The officer denied ever using drugs and demanded a hearing. During an investigation, his wife said she had substituted marijuana for oregano in her meatball recipe in hopes of forcing him to leave police work. The detective's lawyers also presented evidence that she had passed a lie-detector test, and offered testimony from a toxicologist that the excuse was valid.

How much I know about art: Obviously not much. This is the real Gustav Klimt portrait of Adele Bloch-Bauer II. In June, Ronald Lauder paid $135 million for it.

The wife and the husband
A couple drove down a country road for several miles, not saying a word.

An earlier discussion had led to an argument and neither of them wanted to concede their position. As they passed a barnyard of mules, goats, and pigs, the husband asked sarcastically, "Relatives of yours?"

"Yep," the wife replied , "in-laws."

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. Thus I cannot endorse any, though some look mighty 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 Claire's law school tuition. Read more about Google AdSense, click here and here.
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