Bass Shorted `God I Hope You're Wrong' Wall Street (Update2)

By Mark Pittman

Dec. 19 (Bloomberg) -- J. Kyle Bass, a hedge fund manager from Dallas, strode into a New York conference room in August 2006 to pitch his theory about a looming housing market meltdown to senior executives of a Wall Street investment bank.

Home prices had been on a five-year tear, rising more than 10 percent annually. Bass conceived a hedge fund that bet on a crash for residential real estate by trading securities based on subprime mortgages to the least credit-worthy borrowers. The investment bank, which Bass declines to identify, owned billions of dollars in mortgage-backed securities.

``Interesting presentation,'' Bass says the firm's chief risk officer said into his ear, his arm draped across Bass's shoulders. ``God, I hope you're wrong.''

Within six months, Bass was right. Delinquencies of home loans made to people with poor credit reached record levels, and prices for the securities backed by these subprime mortgages plunged. The world's biggest financial institutions would write off more than $80 billion in subprime losses, while Bass, his allies and a handful of Wall Street proprietary trading desks racked up billions in profits.

Bass and investors like him saw opportunity in a range of new investment tools that banks created to sell subprime securities worldwide. These included mortgage bond derivatives, contracts whose values are derived from packages of home loans and are used to hedge risk or for speculation. The vehicles allowed hedge funds like Bass's to bet against particular pools of mortgages.

Money to Be Made

From the bankers who expanded the subprime market, to the sales companies that mass-marketed high-risk mortgages, to the ratings companies that blessed securities based on such loans with investment-grade designations, there was money to be made, and everyone charged after it.

The new subprime derivatives amplified the risks of the underlying mortgages, and now investors are reaping the consequences. An index designed to be a proxy for the lowest investment-grade subprime mortgage bonds sold in the second half of 2005, the ABX-HE-BBB- 06-01, traded as high as 102.19 cents on the dollar when it started in January 2006 and today trades at about 30 cents on the dollar.

Private Island, Racing Porsche

Bass, a former salesman for Bear Stearns Cos. and Legg Mason Inc., had struck out on his own in early 2006. He started Hayman Capital Partners, specializing in corporate turnarounds, restructurings and mortgages. Bass isn't related to the Texas billionaire Robert Bass.

Bass named Hayman for the private island off Australia where he spent his honeymoon. He drove a $200,000 500-horsepower Porsche Ruf RTurbo with a built-in racecar-style crash cage.

A former competitive diver who had put himself through Texas Christian University in Fort Worth partly on an athletic scholarship, Bass was about to take his most ambitious plunge yet: betting home values would decline for the first time since the Great Depression.

``We were saying that there were going to be $1 trillion in loans in trouble,'' Bass says. ``That had really never happened before. You had to have an imagination to believe us.''

New Tools, Deep Research

Other early converts were Mark Hart of Corriente Capital Management in Fort Worth, Texas, and Alan Fournier of Pennant Capital in Chatham, New Jersey. In his earlier sales jobs, Bass had sold securities to Fournier. Now the two joined forces to research bad loans.

On the other side of their trades would be investors chasing the high yields from securities based on subprime loans. This group included Wall Street firms, German and Japanese banks and U.S. and foreign pension funds. They were reassured by the securities' investment-grade ratings, even as foreclosures started in some parts of the U.S.

The traditional way for a speculator to wager against, or short, the housing market was to sell the stocks of major home- building companies with borrowed money and repurchase them for a lower price if the shares fell.

Bass had tried that strategy in the past and found there were limits on its effectiveness, he says. There was always a danger that a leveraged buyout firm would bid for the home- building company and cause the stock to rise, which would cost anyone shorting the stock money.

Understanding the Trades

The new, standardized mortgage bond derivative contracts created a strategy with less risk and greater profit potential.

To learn about the contracts, Bass visited Wall Street trading desks and mortgage servicers. He met with housing lenders and hedge fund analysts. He read Yale Professor Frank Fabozzi's book on mortgage-backed securities, ``Collateralized Debt Obligations: Structures and Analysis.'' Twice.

``What I didn't understand was the synthetic marketplace,'' Bass says. ``When someone explained to me that it was a synthetic CDO that takes the other side of my trade, it took me a month to understand what the hell was going on.''

Bass and Fournier hired private detectives, searched news reports, asked Wall Street underwriters which mortgage companies' loans were at risk of default and called those lenders directly. In this blizzard of research, Bass turned up the California mortgage lender Quick Loan Funding and its proprietor, Daniel Sadek.

Guy `to Bet Against'

The hedge fund traders learned from a news account that Sadek was dating a soap opera actress, Nadia Bjorlin, and using profits from his mortgage company to fund a movie about car racing, in which she starred.

``When they started catapulting Porsche Carrera GTs and he says, `What the hell, what are a couple of cars being thrown around?' I'm thinking, `That's the guy you want to bet against,''' Bass says.

Bass called Quick Loan Funding directly. He says he got on the phone with a senior loan officer, identified himself and said he was interested in the mortgage business. As Bass tells it, the conversation sealed his determination to short Quick Loan's mortgages.

For his part, Sadek says he was never told that hedge funds had asked how his firm did business. He disputes Bass's characterization of Quick Loan's mortgages.

``If my loans were so bad, why did Wall Street keep buying them to securitize?'' Sadek says.

Recruiting Investors

Armed with their understanding of the loans they wanted to short and a plan for doing so, Bass, Fournier and Hart hit the road, making pitches to potential investors that the market was about to collapse.

``My biggest fear was that it was going to happen before I could get the money,'' Bass says.

One of Bass's first investors was Aaron Kozmetsky, a Dallas investor with whom he already had a business relationship. Kozmetsky's grandfather, George Kozmetsky, was one of the founders of Teledyne Technologies Inc. While Aaron Kozmetsky had invested in almost every venture Bass had ever offered, this time Bass put a note of urgency into his pitch.

``It was the first time he's said, `Drop what you're doing. You need to meet with me on this. Make time for me,''' Kozmetsky says. Kozmetsky invested more than $1 million.

Daniel Loeb, the chief executive of Third Point LLC, a New York-based company that oversees about $5.7 billion, had put money in another of Bass's pools. He describes Bass as ``probably the most astute salesperson who covered us.'' Loeb passed on Bass's subprime fund.

``I obviously missed the boat on that one,'' Loeb says now.

Laying the Bets

Loeb still did all right. He invested in Bass's main hedge fund that specializes in turnarounds, restructurings and bankruptcies. Loeb says that fund is up 160 percent this year.

Bass and Fournier focused on single-name mortgage bond derivatives to be more certain that their bets were right. Both bought only securities rated BBB and BBB-, rather than AAA rated securities, expecting them to pay off more quickly.

Bass says he raised about $110 million and used the leveraging effect of derivatives to sell short about $1.2 billion of subprime securities. Two-thirds of it was based on BBB rated mortgage instruments, some involving Sadek's loans. One was Nomura Home Equity Loan Inc. 2006-HE2 M8, an instrument based 37 percent on loans issued by Quick Loan Funding.

The remaining third of Bass's investment involved securities rated one grade lower, BBB-, some also incorporating Quick Loan Funding mortgages.

As Bass and Fournier executed their trades in August and September 2006, foreclosures were beginning to spread across the U.S.

`Fat Pitch'

``This is the fat pitch,'' Bass says. ``This is the once-in- a-lifetime, low-risk, incredibly high-reward scenario where we're going to be right.''

In January, Bass decided he needed ``to meet the enemy'' by going to the American Securitization Forum convention in Las Vegas and listening to presentations from managers of the synthetic collateralized debt obligations that took the other side of his trades.

``I came away relieved,'' Bass says. ``They said, `We know what we're doing. We've been doing it for 10 years. Our models are robust.'''

In May, two independent researchers, Joshua Rosner of Graham Fisher & Co. and Joseph Mason, of Drexel University, concluded in an 84-page study that the U.S. ratings companies Standard & Poor's, Moody's and Fitch had been wrong to bless billions of dollars of mortgage securities with AAA and BBB ratings.

After a May 3 presentation at the Hudson Institute in Washington, Rosner stood on K Street and lit up an American Spirit cigarette.

``The ratings are just wrong,'' Rosner says. ``Completely wrong.''

For Bass and Fournier, it was validation of their trading strategy. As investors worldwide began to panic, Bass and Fournier watched the values of their short positions soar.

(TOMORROW: Moody's, S&P stoke the demand for mortgage-based securities.)

To contact the reporter on this story: Mark Pittman in New York at mpittman@bloomberg.net .

Last Updated: December 19, 2007 17:47 EST

Sales of New Houses in U.S. Probably Fell: U.S. Economy Preview

By Bob Willis

Dec. 23 (Bloomberg) -- Sales of new homes in the U.S. fell in November, signaling no end to the housing recession that threatens to stall economic growth, economists said before a report this week.

Purchases fell to an annual pace of 718,000 from 728,000 in October, according to the median forecast of economists surveyed by Bloomberg News. The 716,000 pace reached in September was the lowest since 1996.

The real-estate slump, already the deepest in 16 years, shows no sign of abating as discounts fail to lure buyers and inventories swell. The risk that the slowdown will spread through the entire economy is prompting business to rein in orders for new equipment, a separate report may also show.

``We're not in line for any good news on housing for a long period of time,'' said Mike Schenk, chief economist at the Credit Union National Association, in Madison, Wisconsin. ``It's a sector that will take a long time to turn around.''

The home-sale figures are due Dec. 28 from the Commerce Department in Washington.

The housing recession has deepened since the subprime mortgage crisis in August led to a worldwide credit shortage. Stricter borrowing standards and a freeze on subprime lending put mortgages out of reach for some buyers.

Sales of new houses probably will drop an additional 8.9 percent in 2008 after tumbling 25 percent this year, according to a Dec. 13 forecast from Fannie Mae, the largest mortgage buyer. Sales of new homes in October were already 48 percent down from their July 2005 peak.

Prices Falling

Builders and homeowners are dropping prices to try to drum up interest. Home prices fell 4.5 percent in the third quarter from a year earlier, the most in at least two decades, according to the S&P/Case-Shiller home price index released Nov. 27. The report on the October readings is due Dec. 26.

Lehman Brothers Holdings Inc. is forecasting prices will fall at least 15 percent from peak to trough.

Foreclosures are rising as prices fall and loans become tougher to get. Foreclosures rose 68 percent in November from a year earlier and may surge in 2008 as resets on adjustable-rate mortgages leave some borrowers unable to make higher payments, according to a report from RealtyTrac Inc. on Dec. 19.

Hovnanian Enterprises Inc., New Jersey's largest homebuilder, is among companies scaling back.

Hovnanian plans to ``pare down our inventories in virtually all our markets,'' Chief Executive Officer Ara Hovnanian said on a conference call Dec. 19. ``It will be a difficult year.''

Housing's Influence

Housing starts are near a 14-year low and have fallen 48 percent since their January 2006 peak. Falling home construction has detracted from economic growth for the last seven quarters, and economists are expecting the drag to continue into 2008.

Weak home construction is rippling across the economy, reducing demand for housing materials, appliances and furniture, while also weakening job growth as builders, mortgage companies and manufacturers reduce payrolls.

Another report from Commerce on Dec. 27 may show orders for goods meant to last several years rose 2 percent in November, the first increase in four months. The gain was led by a jump in demand for commercial aircraft, which tends to be volatile from month to month, economists said.

``With orders for civilian aircraft and defense goods often skewing these figures, attention focuses on underlying details, which have been on the weak side for the previous three months,'' said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc., a New York forecasting firm.

Threat to Spending

The slump in housing also threatens to undermine consumer spending, which makes up more than two-thirds of the economy, as falling home prices leave owners with less equity to tap.

Still, a report last week showed spending remains resilient against the headwinds from housing and rising fuel prices. Purchases jumped in November by the most in more than two years, the Commerce Department said.

Before that report, economists had been saying the odds of recession were growing. The world's largest economy will probably expand at a 1 percent annual pace this quarter and at a 1.5 percent rate in the first three months of next year, according to the median forecast of economists surveyed this month.

`The probability of recession is 50 percent for next year at some point,'' Martin Feldstein, head of the National Bureau of Economic Research, which determines when contractions start and end, said in a Dec. 14 interview. ``We could see a downturn starting sometime in the spring.''



Bloomberg News

============================================================
Release Period Prior Median
Indicator Date Value Forecast
============================================================
Case Shiller Monthly YO 12/26 Oct. -5.0% -5.7%
Case Shiller Monthly In 12/26 Oct. 195.6 193.7
Durables Orders MOM% 12/27 Nov. -0.2% 2.0%
Durables Ex-Trans MOM% 12/27 Nov. -0.4% 0.5%
Initial Claims ,000's 12/27 Dec. 23 346 340
Cont. Claims ,000's 12/27 Dec. 16 2646 2630
Consumer Conf Index 12/27 Dec. 87.3 86.5
Chicago PM Index 12/28 Dec. 52.9 51.8
New Home Sales ,000's 12/28 Nov. 728 718
New Home Sales MOM% 12/28 Nov. 1.7% -1.4%
============================================================
To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

Last Updated: December 23, 2007 09:25 EST

Sales of New Houses in U.S. Probably Fell: U.S. Economy Preview

By Bob Willis

Dec. 23 (Bloomberg) -- Sales of new homes in the U.S. fell in November, signaling no end to the housing recession that threatens to stall economic growth, economists said before a report this week.

Purchases fell to an annual pace of 718,000 from 728,000 in October, according to the median forecast of economists surveyed by Bloomberg News. The 716,000 pace reached in September was the lowest since 1996.

The real-estate slump, already the deepest in 16 years, shows no sign of abating as discounts fail to lure buyers and inventories swell. The risk that the slowdown will spread through the entire economy is prompting business to rein in orders for new equipment, a separate report may also show.

``We're not in line for any good news on housing for a long period of time,'' said Mike Schenk, chief economist at the Credit Union National Association, in Madison, Wisconsin. ``It's a sector that will take a long time to turn around.''

The home-sale figures are due Dec. 28 from the Commerce Department in Washington.

The housing recession has deepened since the subprime mortgage crisis in August led to a worldwide credit shortage. Stricter borrowing standards and a freeze on subprime lending put mortgages out of reach for some buyers.

Sales of new houses probably will drop an additional 8.9 percent in 2008 after tumbling 25 percent this year, according to a Dec. 13 forecast from Fannie Mae, the largest mortgage buyer. Sales of new homes in October were already 48 percent down from their July 2005 peak.

Prices Falling

Builders and homeowners are dropping prices to try to drum up interest. Home prices fell 4.5 percent in the third quarter from a year earlier, the most in at least two decades, according to the S&P/Case-Shiller home price index released Nov. 27. The report on the October readings is due Dec. 26.

Lehman Brothers Holdings Inc. is forecasting prices will fall at least 15 percent from peak to trough.

Foreclosures are rising as prices fall and loans become tougher to get. Foreclosures rose 68 percent in November from a year earlier and may surge in 2008 as resets on adjustable-rate mortgages leave some borrowers unable to make higher payments, according to a report from RealtyTrac Inc. on Dec. 19.

Hovnanian Enterprises Inc., New Jersey's largest homebuilder, is among companies scaling back.

Hovnanian plans to ``pare down our inventories in virtually all our markets,'' Chief Executive Officer Ara Hovnanian said on a conference call Dec. 19. ``It will be a difficult year.''

Housing's Influence

Housing starts are near a 14-year low and have fallen 48 percent since their January 2006 peak. Falling home construction has detracted from economic growth for the last seven quarters, and economists are expecting the drag to continue into 2008.

Weak home construction is rippling across the economy, reducing demand for housing materials, appliances and furniture, while also weakening job growth as builders, mortgage companies and manufacturers reduce payrolls.

Another report from Commerce on Dec. 27 may show orders for goods meant to last several years rose 2 percent in November, the first increase in four months. The gain was led by a jump in demand for commercial aircraft, which tends to be volatile from month to month, economists said.

``With orders for civilian aircraft and defense goods often skewing these figures, attention focuses on underlying details, which have been on the weak side for the previous three months,'' said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc., a New York forecasting firm.

Threat to Spending

The slump in housing also threatens to undermine consumer spending, which makes up more than two-thirds of the economy, as falling home prices leave owners with less equity to tap.

Still, a report last week showed spending remains resilient against the headwinds from housing and rising fuel prices. Purchases jumped in November by the most in more than two years, the Commerce Department said.

Before that report, economists had been saying the odds of recession were growing. The world's largest economy will probably expand at a 1 percent annual pace this quarter and at a 1.5 percent rate in the first three months of next year, according to the median forecast of economists surveyed this month.

`The probability of recession is 50 percent for next year at some point,'' Martin Feldstein, head of the National Bureau of Economic Research, which determines when contractions start and end, said in a Dec. 14 interview. ``We could see a downturn starting sometime in the spring.''



Bloomberg News

============================================================
Release Period Prior Median
Indicator Date Value Forecast
============================================================
Case Shiller Monthly YO 12/26 Oct. -5.0% -5.7%
Case Shiller Monthly In 12/26 Oct. 195.6 193.7
Durables Orders MOM% 12/27 Nov. -0.2% 2.0%
Durables Ex-Trans MOM% 12/27 Nov. -0.4% 0.5%
Initial Claims ,000's 12/27 Dec. 23 346 340
Cont. Claims ,000's 12/27 Dec. 16 2646 2630
Consumer Conf Index 12/27 Dec. 87.3 86.5
Chicago PM Index 12/28 Dec. 52.9 51.8
New Home Sales ,000's 12/28 Nov. 728 718
New Home Sales MOM% 12/28 Nov. 1.7% -1.4%
============================================================
To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

Last Updated: December 23, 2007 09:25 EST

Fraud Seen as a Driver In Wave of Foreclosures

Atlanta Ring Scams
Bear Stearns, Getting
$6.8 Million in Loans
By MICHAEL CORKERY
December 21, 2007; Page A1

ATLANTA -- Skyrocketing foreclosures are a testament to how easy it was to borrow from mortgage lenders in recent years.

It may also have been easy to steal from them, to judge from a multimillion-dollar fraud scheme that federal prosecutors unraveled here in Atlanta. The criminals obtained $6.8 million in mortgages from Bear Stearns Cos., including a $1.8 million mortgage to Calvin Wright, a New Yorker who told the investment bank that he and his wife earned more than $50,000 a month as the top officers of a marketing firm. Mr. Wright submitted statements showing assets of $3 million, a federal indictment alleged.

In fact, Mr. Wright was a phone technician earning only $105,000 a year, with assets of only $35,000, and his wife was a homemaker. The palm-tree-lined mansion they purchased with Bear Stearns's $1.8 million recently sold out of foreclosure for just $1.1 million. Bear Stearns, meanwhile, posted the first quarterly loss in its 84-year history as it wrote down $1.9 billion of mortgage assets yesterday. (See related article.)

Fraud goes a long way toward explaining why mortgage defaults and foreclosures are rocking financial institutions, Wall Street and the economy. The Federal Bureau of Investigation says the share of its white-collar agents and analysts devoted to prosecuting mortgage fraud has risen to 28%, up from 7% in 2003. Suspicious Activity Reports, which many lenders are required to file with the Treasury Department's Financial Crimes Enforcement Network when they suspect fraud, shot up nearly 700% between 2000 and 2006.

In 2006, losses from fraud could total a record $4.5 billion, a 100% increase from the previous year, says Arthur Prieston, chairman of the Prieston Group, which provides lenders with mortgage-fraud insurance and training. The surge ranges from one-off cases of fudging and fibbing to organized criminal rings. The FBI says its active mortgage-fraud cases have increased to 1,210 this year from 436 in 2003. In some regions, fraud may account for half of all foreclosures. "We've created a culture where a great many people know how to take advantage of the system," says Mr. Prieston.

Yet the system itself bears blame. The evolution of mortgages into a securities instrument turned loan origination into a competition. Caution gave way to a push for speed and volume. Embroiled in an all-out war for market share, issuers reduced barriers to credit, for example, by offering so-called "stated-income" loans, which require no proof of income. "The stated-income loan deserves the nickname used by many in the industry, the 'liar's loan,' " says the Mortgage Asset Research Institute, which works with lenders to prevent fraud. A recent review of a sampling of about 100 stated-income loans revealed that almost 60% of the stated amounts were exaggerated by more than 50%, MARI says.

It didn't take a rocket scientist to steal a fortune from mortgage lenders in recent years. That much is clear from the Atlanta scheme. It was perpetrated in large part by a 23-year-old college dropout named Gregory Jerome Wings Jr., aka G-Money. His accomplices included a young nightclub owner, along with the director of an underground documentary called "Crackheads Gone Wild," a cautionary tale about drug addiction.

Their scam was garden variety: recruit borrowers with good credit to apply for gigantic loans, often of the stated-income variety, using false income and asset statements. Find a mortgage broker willing to submit false information, and find appraisers who will approve inflated values. The perpetrators line their pockets with the proceeds, using some as down payments or for future renovations. Some buyers diverted proceeds to themselves through shell companies.

The brazenness of the scheme is illustrated by the case of Mr. Wright, the New York telephone worker who posed as a highly paid executive to obtain a $1.8 million mortgage from Bear Stearns. Recruited into the scheme by an acquaintance in Atlanta, Mr. Wright, with the help of ring leaders, diverted hundreds of thousands of dollars from that Bear Stearns mortgage to himself, to Mr. Wings and to others in the scheme, according to a federal indictment.

In the very same week, Mr. Wright obtained a $1.9 million mortgage on a second value-inflated mansion near Atlanta, this time from BankFirst, a unit of Minneapolis-based Marshall BankFirst Corp. This deal also brought enormous spoils to Mr. Wright, Mr. Wings and other accomplices.

"It was so easy, it's incredible," says Akil Secret, attorney for Mr. Wright, who has pleaded guilty to bank fraud and is awaiting sentencing.

'Seemed Clean and OK'

As profits from the scheme fattened their wallets, these young men became the envy of their peers, especially since their actions involved none of the dangers of street crime. "You see a guy who is 23 and he's driving a fancy car. You go into clubs and everyone seems to know him, and you kind of want to be like him," says defense attorney Rickey Richardson, explaining how his client, Daryl Smith, got involved in the scheme. "This wasn't drugs. This wasn't guns. This seemed clean and OK."


Residents of some fancy Atlanta suburbs spotted the scheme. They became suspicious when new homes in their neighborhoods sold for sky-high prices, then remained vacant. After the same individual bought several such homes in one ritzy development, neighbors alerted authorities. One homeowner who helped expose the fraud and other schemes in his neighborhood now carries a loaded handgun in his truck. "This is serious stuff," he says. "We are putting people in prison for many, many years."

Since federal authorities issued an indictment in April 2006, Mr. Wings, Mr. Smith, Mr. Wright and about 10 others have pleaded guilty to various counts, including bank fraud, and are awaiting sentencing. Another ringleader was convicted in federal court last month. Their sentences could be lengthy: In an unrelated case, an Atlanta attorney with no prior criminal record was sentenced in August 2005 to 30 years in federal prison on a mortgage-fraud conviction. Mr. Wings declined to comment for this story, as did Messrs. Wright and Smith.

In the wake of their downfall, debate has been intense about how such an unaccomplished group could defraud top-tier financial institutions out of millions.

Prosecutors call the scheme sophisticated, noting its reliance upon forged and falsified documentation.

Lenders agree. Bear Stearns says the scheme evaded its antifraud efforts by supplying false information at every step of the application process. "We as an industry cannot eliminate fraud entirely," Tom Marano, head of mortgages and asset-backed securities for Bear Sterns, said in a statement about the Atlanta ring. "We can and do continue to develop systems and detection techniques that evolve with the complexity of criminal schemes.'"

But others contend that the Atlanta case illustrates the recklessness with which lenders were issuing mortgages in recent years. "This case should have been an indictment of the mortgage industry," says Patrick Deering, an Atlanta defense attorney involved in the case.

In an eye-opening setback for prosecutors, Mr. Deering and other defense attorneys successfully defended three home builders against charges that they had participated in the scheme. Prosecutors had attacked the home builders for failing to raise red flags when they witnessed mortgages being issued far in excess of what the builders were being paid.

On the Offensive

But some defense attorneys went on the offensive and attacked lenders for failing to guard against fraud. Particularly illuminating was the testimony of Lucy Lynch, a former vice president of mortgage operations at BankFirst.

"Fraud was not really a consideration in our world," Ms. Lynch testified, according to a trial transcript.

Ms. Lynch said the bank relied on an outside "loan officer" at a reputable mortgage broker to serve as its "eyes and ears" in the real-estate transactions. As it turned out, that person was indicted as part of the fraud ring. Ms. Lynch stressed that the bank took measures such as running all loan applications through a software program designed to detect fraud. "And things that didn't seem quite right, an underwriter could quickly pick those things out," Ms. Lynch said, according to a trial transcript. "So as far as having an actual policy or procedure around fraud, we didn't think it was necessary, quite frankly."

A total of $4.9 million in loans from BankFirst were used by the Atlanta fraud ring. In some cases, the bank gave its blessing to closing documents that showed unexplained payments of hundreds of thousands of dollars to obscure companies that turned out to be owned by the fraudsters. On three different Atlanta-area homes over a three-month period starting in late 2005, closing documents approved by BankFirst showed large payouts to the same companies.

Ms. Lynch said the bank assumed that the cash was going to subcontractors for construction work. But the bank never asked for invoices. In an interview, Ms. Lynch says the bank was primarily checking to make sure the borrower wasn't being charged any additional fees or debt. "We didn't do anything different from the rest of the industry,'' she said, adding that she believes her testimony helped convict three perpetrators of the fraud -- two borrowers and a real-estate agent who helped lead the ring.

Asked in court why the pattern of payouts didn't raise any red flags, Ms. Lynch responded: "Do you have any idea how many loans came into BankFirst during that time period?" She said BankFirst typically allowed a "15-minute window" from the time it received closing documents by fax to the time it released the loan proceeds to the borrower.

Ultimately, prosecutors failed to convict any of the three home builders. Charges against one were dropped. Another was the subject of a mistrial. And the third was acquitted before the case went to the jury. "These were the wrong people on trial," says Mr. Deering, whose client, home builder Randall Tharp, was acquitted.

One of the biggest losers in the Atlanta scheme was Bear Stearns. A total of $6.8 million in Bear Stearns loans were used by the enterprise. The fourth-largest mortgage that Bear Stearns originated in 2006 went to a borrower in the Atlanta scheme. That involved a mansion on which Bear Stearns lent nearly $3 million. Today, that mansion is in foreclosure and listed at $1.75 million.

Bear Stearns says falsified income and asset documents are difficult to detect "if they are part of a sophisticated fraud ring." In the case of the $1.8 million loan that Bear Stearns issued to Mr. Wright, the New York telephone worker, the company says it verified Mr. Wright's employment and assets.

But Mr. Wright's attorney, Mr. Secret, says, "Bear Stearns certainly couldn't have verified any of the assets or any of the money. It simply wasn't there."

A relative newcomer to the mortgage-origination business, Bear Stearns in 2005 created Bear Stearns Residential Mortgage to focus on "Alt-A" mortgages, a category between prime and subprime loans. Bear says its Alt-A loans included stated-income mortgages that required verification of assets.

During its first full year of business in 2006, Bear Stearns Residential Mortgage originated 19,715 mortgages for a combined $4.37 billion, according to data compiled by the Federal Reserve and analyzed by The Wall Street Journal.

Bear Stearns Residential Mortgage rejected about 13% of applications, compared with an average denial rate of 29% nationally, according to the Fed data. Bear Stearns says that it had a lower denial rate because all of its applicants had already been screened through its "on line pre-qualifying" site before they submitted a formal application.

Since the scheme, Bear Stearns says it has enhanced its monitoring of payouts listed on closing statements. BankFirst stopped issuing residential mortgages altogether, citing the declining market.

Some banks victimized by the Atlanta ring say they depended in part on a party called the closing attorney to protect their interests. But often, lenders neither choose nor pay for the closing attorney: The buyer does. In this case, the closing attorney was part of the fraud ring. The 58-year-old lawyer, Raymond Costanzo Jr., known in the ring as "Uncle Joe," signed off on several fraudulent sales, and collected $250,000 from the scheme, the indictment alleges. In 2006, Mr. Costanzo pleaded guilty to bank fraud and is awaiting sentencing.

Of course, the Atlanta scheme wouldn't have worked if not for appraisers willing to approve values far in excess of what builders were charging for new homes. Indeed, Bear Stearns and BankFirst say they ordered multiple appraisals of the homes they financed. Yet no evidence has emerged of appraisers receiving kickbacks. And no appraisers got indicted.

Artificially Raised Values

In some neighborhoods, the fraud scheme itself may have artificially raised values. Another explanation is that the appraisal market is fiercely competitive. Experts say some appraisers may offer inflated values in exchange for their standard fee of several hundred dollars -- a strategy that can win business without exposing an appraiser to charges of fraud. "Appraisers get sucked into these schemes because they are starving for work and many of them don't know what the heck they are doing," says Carl Heckman, co-founder of the Georgia Real Estate Fraud Prevention and Awareness Coalition, composed of appraisers, lenders, mortgage brokers and residents.

In the neighborhoods where the Atlanta scheme operated, values have plummeted. Many homes associated with the scheme are now in foreclosure. Some have sold for as low as 50% of what buyers in the fraud ring paid. "The banks are getting more and more aggressive in their pricing because they don't want to own these homes," says Warren Lovett, a real estate agent with Coldwell Banker in Atlanta.

Mr. Lovett has taken listings for about 60 foreclosed properties this year. He estimates that half of the foreclosures he's encountered are due to fraud.

--Mark Whitehouse, Rick Brooks and Stephanie Chen contributed to this article.

Write to Michael Corkery at michael.corkery@wsj.com

Fears mount over bond insurers

Published: December 20 2007 17:42 | Last updated: December 20 2007 17:42
The Financial Times

The crisis of confidence around bond insurers deepened on Thursday after MBIA revealed larger-than-anticipated exposure to risky complex bonds linked to faulty mortgages.

Shares in MBIA, which guarantees payments on nearly $700bn of debt, were nearly 23 per cent lower in midmorning trade at $20.84 after the details came to light. MBIA revealed the figures by linking to a table late on Wednesday in statement about its credit ratings.

EDITOR’S CHOICE
MBIA is the largest of the so-called monoline insurers, companies which use their top triple-A credit ratings to guarantee bonds issued by municipalities such as cities and towns. In recent years, these insurers have branched out to insure structured or securitised debt, including bonds backed by mortgages and other assets called collateralised debt obligations, or CDOs.

MBIA said its total exposure to bonds backed by mortgages and collateralised debt obligations is about $30.61bn. This includes exposure of about $8.14bn to CDOs backed by a combination of other CDOs and mortgages, called “CDO-squared”, which are regarded as potentially riskier.

These types of bonds have a much higher rate of default than municipal bonds, which are backed by predictable income streams such as payments of utility bills or tax income.

Indeed, the rate of default for structured bonds has risen further owing to their exposure to sub-prime mortgages, where lending has soared to such an extent that the risks taken have increased too and the number of people failing to repay loans has risen hugely.

“We are shocked that management withheld this information for as long as it did,” said Ken Zerbe, analyst at Morgan Stanley, in a note. “We continue to recommend investors avoid the financial guarantors until we can get better visibility into the ultimate losses they will take...as well as their ultimate capital raising plans.”

The uncertainty around the creditworthiness of monoline insurers is one of the factors weighing on the credit markets and making it difficult or expensive for banks, companies and countries to borrow.

Rating agencies this week said the triple-A credit ratings MBIA, Ambac and other bond insurers would be retained but warned of the uncertainties facing the companies. S&P said both MBIA and Ambac faced a negative outlook due to the difficulties of the insurers to assess capital needs amid uncertainty about the state of the mortgage market.

S&P said it had factored in the exposure revealed by MBIA into its ratings analysis. Moody’s, which also asigned a negative outlook to MBIA’s triple-A ratings, also said it had factored in exposure revealed by MBIA.

Investors Considering Retirement Opt for Property Investments

By Kemba J. Dunham
From The Wall Street Journal Online

After his mother died a few years ago, Mark Larson "realized mortality" and came to a big decision. He wanted to amass enough wealth to leave something behind for his children.

So, he and his brother started investing -- but not in stocks or mutual funds. Instead, they began buying properties like office buildings and retail space.

"With the stock market, you're investing in faith," says the 56-year-old Mr. Larson, national director of the private-capital investment group at real-estate services firm Grubb & Ellis Co. "But with commercial real estate, you can quantify the location, quantify the rent, and drive by and look at it every Saturday to make sure it's still there."

More investors are following Mr. Larson's logic as they think about retirement. They're looking to build nest eggs that could last 30 or even 40 years -- and commercial real estate seems like a stable investment compared to stocks.

For one thing, commercial real estate delivers regular income -- whether from rent checks or dividends from a real-estate investment trust, or REIT. And the sector has traditionally kept pace with inflation and provided "sufficient risk-adjusted returns," says Grant Conness, a financial adviser at 1031 Alternatives Group, a division of Costa Financial Securities Inc. in Hollywood, Fla.

Indeed, while the residential housing market is struggling, commercial real estate is showing solid fundamentals in many markets -- with occupancies high, increasing rent growth and supply under control.

On top of that, commercial real estate has gotten increasingly sophisticated and transparent as an investment vehicle in the past 20 years. In part, that's because of the emergence of the market for REITs. These publicly traded companies invest in real estate and pay out 90% of their income as dividends to shareholders.

Here's a look at some of the ways to invest in commercial property -- starting with some important caveats.

Get Some Help

Investors who want to consider commercial real estate as an investment shouldn't try to go it alone. Many experts recommend finding a broker who can analyze regional markets, how the various commercial property types are performing in those markets and the kind of rents these assets can capture at any given time.


Dean Shapiro, executive managing director at real-estate services company CBRE, talks with Paul Lin about the market for housing and commercial real estate in New York and the growth in downtown Manhattan.
It's also important to work with an expert to figure out what kind of investment would make you feel most comfortable. For instance, an older property that needs renovation may be a riskier bet than a newer one that doesn't need much work, says Harvey Green, chief executive of Marcus & Millichap Real Estate Investment Services, an investment real-estate broker in Encino, Calif. Unless you can find tenants to pay higher rent -- and cover the costs of renovation -- you may not be able to get a good enough return on your investment. Another example would be a strip shopping center with no anchor tenants, which has a much higher risk level than a neighborhood center with a grocery-store or drug-store anchor tenant, adds Mr. Green.

Finally, bear in mind that commercial real estate, like other types of real estate, can go down in any particular location, says Michael Kitces, director of financial planning at Pinnacle Advisory Group, in Columbia, Md. The local economy might slow down, big area employers might cut lots of workers and the government might raise taxes.

Now let's look at some ways to buy property.

Direct Ownership

The basic choice in property investing is whether you'll invest directly in a property or do it through a third-party vehicle. Buying a property directly offers a couple of big advantages. You can deduct part of the purchase cost of the building from your taxes for many years. And if the property goes up in value, you don't have to share the gains with any partners.

This approach also means you can do a "1031 exchange." This allows you to defer, or sometimes avoid, paying capital-gains taxes when selling the property, if you plan to use the money to buy another property of equal or greater value. "As long as the investor keeps moving into another investment, they virtually never have to pay the tax on their gain," says Marsha Slotten, a Las Vegas-based commercial real-estate broker.

Still, the thought of managing tenants and dealing with building upkeep might scare off many baby boomers who are gearing up for retirement and are looking for a hassle-free investment. So, many people hire a management company to deal with those headaches. Typically, local management companies charge anywhere from 5% to 10% of the gross rent, depending on the duties they perform. Larger commercial companies might charge between 4% and 6%.

When hiring a management company, check out its references and see how well it is regarded locally. For instance, interview local vendors that have worked with the company, such as plumbers, painters or carpenters.

Sponsored Investment Properties

Investors who don't have the money or inclination to go it alone can turn to sponsors, who buy commercial properties on behalf of small investors for a fee. In most cases, you don't have to seek out a sponsor; they typically market investment products directly to financial advisers, who in turn present them to their clients as options.

To figure out if a sponsor is trustworthy, you can check court or state records to see if the sponsor has had any problems. You can also ask for references from investors who have done business with the sponsor.

Kraig Kast, chief executive at Atherton Trust, a provider of trustee and wealth-management services in Redwood Shores, Calif., offers another piece of advice: "I would invest small -- $30,000 to $250,000 -- then if the results are there, invest more over a period of time with that sponsor."

There are a number of ways of investing with a sponsor. One is tenants-in-common, or TIC, ownership. A TIC typically involves a group of investors who each buys a fractional interest in a commercial property, such as an office building. The investors receive the benefits of ownership -- rental income and profit on any future sale -- but leave the day-to-day details to professional managers.

"TIC properties are usually buildings that most small to midsize investors couldn't otherwise afford to purchase on their own," says Mr. Conness of 1031 Alternatives Group. Experts say qualified individuals can invest in a TIC with as little as $100,000.

One drawback of the TIC is that once you invest, you're probably locked in until the property is sold. You could sell your fractional share, but there's a limited market for such a purchase.

Smaller investors can also team up with other investors to form a limited partnership. Usually, there's a general partner who puts the partnership together with the help of an attorney, and gets paid a fee for managing the property and a share of the profits, says Lou Weller, a principal at Deloitte Tax LLP in San Francisco.

What's the main distinction between the two options? The big difference is that you can exchange into or out of a TIC interest in a 1031 exchange. But in an LP, the limited partnership can't exchange its interest in such a fashion. Also, in a TIC structure, investors each get a deed to their share of the property. But with a limited partnership, the property title is held by the LP entity.

This leads to differences in the legal consequences, says Mr. Weller. If someone owns a TIC interest directly, he or she can be sued directly. But the LP structure itself limits legal exposure of the limited partners.

A third type of sponsored investment vehicle is the REIT. If you're put off by the recent volatility in actively traded REITs, you might consider public, nontraded REITs. These offer all the benefits of regular REITs -- such as monthly distributions -- but they don't trade actively, so they're often much more stable. (A REIT's monthly distributions often are about the same as income from TIC or LP offerings.)

Triple Net-Lease Properties

Finally, there are "triple net-lease properties," which you can buy as an individual investor or as part of a group. In these deals -- typically used for retail, office and industrial properties leased to a single tenant -- the lessee handles expenses such as taxes, insurance and maintenance.

The appeal for tenants is that they typically get a long-term lease -- sometimes 30 years -- with limited increases in rent. The advantage for owners is that all they have to do is pick up the check from the mailbox, says Grubb & Ellis's Mr. Larson. And because the tenant usually holds a long-term lease, owners feel they can count on the income for years. Mr. Conness adds, "The ability to relate to a well-known tenant like Walgreen's gives many investors some piece of mind."

A caveat: Because of the long leases, net-lease properties can be very illiquid. "Be cautious about tying your money up in an investment vehicle that is not liquid if there's a risk you'll need the money sooner rather than later," says Mr. Kitces of Pinnacle Advisory Group.

-- Ms. Dunham is a staff reporter in The Wall Street Journal's New York bureau.

Data fail to dispel US housing gloom

The Financial Times
By Daniel Pimlott in New York

The US housing slowdown accelerated last month, cutting deeper into economic growth, as the number of new single family homes starting construction fell to a 16-year low.

Housing starts fell 3.7 per cent last month to an annual rate of 1.187m after unexpectedly rising by 3 per cent in October, the Commerce Department said on Tuesday. The drop was smaller than the 4.3 per cent decline forecast.

But overall starts were boosted by a small rise in multi-family building. The key single family number fell 5.4 per cent to its lowest since 1991. Single family starts are 35 per cent lower than in the same month last year and at less than half their level of two years ago.

“We are probably coming to a bottom in the housing slump. This doesn’t mean you are going to see anything get better, but it means things aren’t going to get any worse,” said Drew Matus, economist at Lehman Brothers.

A combination of stricter lending standards and falling house prices have deterred people from buying houses, and homebuilders from building them. There is also a record glut in the inventory of new homes.

The drop in homebuilding “is actually a positive at this point because we want the market to come back into balance,” Mr Matus said.

Housing starts are the biggest contributor in the housing sector to economic growth. Falling housing construction cut 1.1 per cent from gross domestic product in the third quarter.

“The accelerating drop in starts means that the direct impact of the housing crash on GDP will be bigger in the fourth quarter,” said Ian Shepherdson of High Frequency Economics. “With foreign trade and inventories also likely to be much less supportive of growth, and consumption slowing, we look for GDP growth of only about 1 per cent.”

A dramatic 16.3 per cent drop in starts in November in the north-east helped pull down the national figures.

Building permits, which indicate future homebuilding activity, fell by 1.5 per cent to a fresh 14 year low, after a huge 6.6 per cent drop in October.

The National Association of Home Builders/Wells Fargo confidence index stayed at a record low of 19 for a third month in December, indicating that builders do not expect an upturn in their fortunes any time soon.

Rating Subprime Investment Grade Made `Joke' of Credit Experts

By Kathleen M. Howley

Dec. 20 (Bloomberg) -- As storm clouds gathered over New York on July 10, Standard & Poor's started a 10 a.m. conference call to discuss why the credit rating company was about to take its most dramatic action in more than two years.

S&P analysts said they might cut ratings on $12 billion of the world's worst-performing subprime mortgage bonds, some of them less than a year after they had been given investment-grade designations. Not since 2005, when it downgraded Ford Motor Co. and General Motors Corp., had S&P generated so much attention.

S&P Chief Economist David Wyss, 63, and Managing Director Thomas Warrack, 45, made a 20-minute presentation and then opened the line for questions from investors and analysts.

``I'd like to understand why now, when you could have made this move many, many months ago,'' said Steven Eisman, 45, who manages the $1.5 billion FrontPoint Financial Services hedge fund for Morgan Stanley in Greenwich, Connecticut. ``The paper just deteriorates every single month.''

Warrack and Managing Director Susan Barnes, 42, explained S&P's view of the time needed to accurately judge the performance of securities. Eisman cut them off. ``You need to have a better answer,'' he said.

As the five-year real estate boom approached its peak in 2005, Wall Street marketed a new type of security backed by high-interest subprime mortgages issued to the least credit- worthy homebuyers. Blessed by the biggest credit rating companies as safe investments, these instruments offered higher returns than government bonds with the same ratings.

`God-Like Status'

Investment banks including Bear Stearns Cos., Deutsche Bank AG and Lehman Brothers Holdings Inc. sold $1.2 trillion of these securities in 2005 and 2006, said Brian Bethune, director of financial economics for Global Insight Inc. in Waltham, Massachusetts.

None of this could have happened without the participation of Wall Street's three biggest arbiters of credit -- Moody's Investors Service, S&P and Fitch Ratings. About 80 percent of the securities carried AAA ratings, the same designation given to U.S. Treasury bonds.

This implied the investments couldn't fail, says Sylvain Raynes, 50, a former Moody's analyst who now is a principal at R&R Consulting, a structured securities valuation firm in New York.

``The rating agencies had an almost God-like status in the eyes of some investors,'' Raynes says. ``Now, that trust is gone. It's been replaced with a feeling of betrayal.''

Guidance to Issuers

The companies' ratings underpinned Wall Street's expansion of the global market for securities based on high-risk subprime loans. Driven by the innovations of a group of Wall Street bankers, the subprime securities markets expanded quickly in 2005 and 2006, reaching into every corner of the world's investment community and winding up in the portfolios of banks and public investment pools from Europe to Asia.

Many institutional investors' own rules, in addition to state or national laws, bar them from buying securities that don't carry investment-grade ratings.

Issuers got guidance from rating companies on how to shape their subprime securities to win the ratings, says Joshua Rosner, managing director of the New York-based research firm Graham Fisher & Co. Investment banks used software distributed by the ratings companies to show them how to meet the requirements, then paid the companies to have the securities rated, he says.

Reaching `Desired Rating'

``The idea that the rating agencies are impartial in the world of structured finance is a joke,'' Rosner says. ``The issuers use the publicly available model to structure a pool and then sit down with the rating agencies to fine-tune it until they reach the desired rating.''

Distributing the criteria and discussing them with issuers is a matter of transparency, says Claire Robinson, Moody's senior managing director of asset finance and public finance.

``We do not structure transactions,'' Robinson says. ``We do not provide consulting services in terms of assembling transactions or choosing assets or pools or anything of that nature. We comment on credit quality.''

Moody's raised ``credit enhancement'' requirements for bonds in 2006 as analysts noted the deterioration of lending standards, she says. The practice requires additional collateral or insurance to protect investors who purchase the higher-rated levels, or tranches, of a security.

Rating Sadek's Loans

One $720 million loan pool created by Tokyo-based Nomura Holdings Inc. was rated Baa3, an investment-grade rating, by Moody's when issued in 2006. Now, it's rated Caa1, seven levels deep into junk-bond territory, and priced at 32 percent of the original value after 29 percent of the mortgages defaulted.

Almost 40 percent of the loans in the pool were originated by Costa Mesa, California-based Quick Loan Funding, run by Daniel Sadek, a broker who started the subprime company in 2002 with the motto: ``You can't wait. We won't let you.''

It wasn't the first misstep by Moody's, founded in 1900 by former Wall Street errand runner John Moody. Nor was it a first for Standard & Poor's, started in 1860 by Henry Poor, a Maine farm boy turned journalist known for citing ``the investor's right to know.''

The raters faced vitriol and lawsuits in 2001 when they were slow to downgrade Enron Corp. and WorldCom Inc. as accounting discrepancies emerged. In Enron's case a downgrade would have put the Houston-based energy company into default because of so-called rating triggers on its bonds. The rating companies were also criticized in 1994 for keeping bonds sold by Orange County, California, at investment grade even as the county filed the nation's largest municipal bankruptcy.

`Cultural Shift'

Colorado's Jefferson County School District sued Moody's in 1995 claiming the company issued a negative rating after the district refused to hire Moody's to evaluate its bonds. While the suit was dismissed in 1996, the dispute set off a three-year antitrust investigation by the Department of Justice that ended in 1999 with no action.

The probe led to the ouster of Thomas McGuire, Moody's chief of corporate ratings, and started a ``cultural shift,'' as Moody's prepared to go public, says Ann Rutledge, an analyst who left in 1999 after four years. In early 2000 the board of Dun & Bradstreet Corp., Moody's parent, voted to split into separate publicly traded companies. Employees were required to take a six-week class on ``issuer relationships'' with listening exercises, Rutledge says.

Customer Service

``There used to be a strong sense that we weren't a touchy, feely company,'' says Rutledge, who is now a principal at R&R Consulting, along with her husband, Raynes, a fellow Moody's alum. ``Our attitude used to be: We're not here to be your friend. We're here to look at credit quality. But that began to change.''

Initiatives such as the listening exercises were part of the company's emphasis on customer service, says Warren Kornfeld, managing director of Moody's.

``We care very deeply what people think,'' Kornfeld says. ``We want to have a dialogue with investors, and we want to have a dialogue with issuers. Our value to the market is our accessibility.''

The lure of profits as the housing market began a run of five record-breaking years in 2000 fueled the change, says Graham Fisher's Rosner.

``They went from looking at companies that already existed to having a role in structuring securities,'' Rosner says.

Regulator Sounds Warning

S&P, a unit of New York-based McGraw-Hill Cos., issued ratings for about 98 percent of all new subprime mortgage bonds created last year, according to the industry newsletter Inside B&C Lending. Moody's, whose parent is New York-based Moody's Corp., provided ratings on 97 percent, while Fitch assessed 51 percent.

Fitch, owned by Paris-based Fimalac SA, declined to comment, according to spokesman James Jockle.

One regulatory voice was issuing warnings. In a June 2006 speech at a Mortgage Bankers Association conference in Half Moon Bay, California, Susan Bies, the Federal Reserve governor in charge of regulation, urged the bankers to tighten credit standards for adjustable subprime mortgages. Bies said borrowers might default because of ``payment shock'' when interest rates rose.

``The recent easing of traditional underwriting controls and the sale of non-traditional products to subprime borrowers may contribute to losses on these products,'' Bies said.

Lowering Standards

The bankers didn't listen. The Fed's survey of senior loan officers issued the following month showed that 10 percent of U.S. lenders had lowered standards to qualify customers for mortgages.

In September 2006, Congress passed the Credit Rating Agency Reform Act, after hearings and investigations that began in the wake of the Enron meltdown. The measure gave authority to the Securities and Exchange Commission to designate, regulate and investigate rating companies.

The law also prohibits notching, the threat of unsolicited bad ratings unless an agency is hired to assess a security. It also requires the rating companies to disclose any potential conflicts of interest.

On Sept. 26, SEC Chairman Christopher Cox told the Senate Committee on Banking, Housing and Urban Affairs that his agency was investigating whether the rating companies were ``unduly influenced'' by asset-backed issuers and underwriters who paid for ratings.

`Tainted' by `Conflict'

The same day Cox testified in Washington, Teamsters Local 282 Pension Trust Fund sued Moody's in U.S. District Court in New York alleging that the company's ratings misled investors and caused losses on bonds backed by subprime mortgages. The suit defied conventional belief that rating opinions are protected by the free-speech provisions of the First Amendment to the U.S. Constitution.

``This goes beyond the realm of protected opinion,'' says Ira Press, the Kirby McInerney LLP attorney in New York representing the pension fund. ``There's evidence that in some cases the ratings were something other than pure opinion. They were tainted by an economic conflict of interest.''

Anthony Mirenda, a spokesman for Moody's, says the Teamsters' suit ``is entirely without merit, and we expect it to be dismissed expeditiously.''

Less Transparency

In October, Connecticut Attorney General Richard Blumenthal issued subpoenas to Moody's, S&P and Fitch Ratings as part of a fair-trade investigation into practices including alleged notching. All the companies have said they are cooperating with the investigation.

``The essential conflict is they are being paid by the people that they rate, they are working with the people they rate,'' says Arthur Levitt, former Securities & Exchange Commission chairman, a Bloomberg LP board member and a senior adviser to the Carlyle Group, a Washington-based hedge fund.

One remedy suggested by New York Democratic Senator Charles Schumer and others would be to have investors, not bond issuers, pay for credit assessments.

Paul Coughlin, S&P's executive managing director, says that would reduce transparency by giving some investors information others don't have. In the current arrangement, rating actions are announced via press releases and reports posted on the company's Web site.

``With the issuer-pay model the information is widely known and freely available,'' Coughlin says in an interview. ``The other option is to do it by a subscription-pay model, which reduces transparency in the marketplace.''

S&P's president, Kathleen Corbet, resigned in August after lawmakers and investors criticized the company for failing to judge the risks of subprime securities.

Jose Sepulveda's Pension

In coming months, subprime losses will reach into almost every home in the U.S. as pension funds reveal setbacks, the former Moody's analyst Raynes says. Some funds won't show the extent of their subprime losses until they issue reports for the current fiscal year, some as late as September 2008.

``The smallest investor, not Wall Street, is the one who will pay the ultimate price because he trusted the fund managers who blindly followed the rating agencies,'' Raynes says.

Jose Sepulveda, 57, worked 34 years as a reading teacher and elementary school principal in southern Texas towns along the banks of the Rio Grande, the border between the U.S. and Mexico. Now retired in Weslaco, Texas, he says he thought he was as far as he could be from the mortgage crisis roiling markets in New York, London and Tokyo.

He wasn't far enough. The Austin-based Teacher Retirement System of Texas, the manager of Sepulveda's retirement money, holds $6 billion of securities backed by assets that include subprime mortgages, most of it rated AAA, according to a report on the fund's Web site.

``How could anyone think that investments backed by subprime loans were safe?'' Sepulveda says.

To contact the reporter on this story: Kathleen M. Howley in Boston at kmhowley@bloomberg.net .

Foreclosure Filings Surge 68 Percent

Reprinted from MoneyNews.com
Wednesday, Dec. 19, 2007


LOS ANGELES -- U.S. homeowners increasingly failed to keep up with their home loan payments in November, as the number of foreclosure filings surged 68 percent nationwide compared with the same month a year ago, according to a mortgage research company.

In all, 201,950 foreclosure filings were reported last month, compared with 120,334 in November 2006, Irvine-based RealtyTrac Inc. said Wednesday.

Last month's filings fell 10 percent from October's 224,451.

The last time there was a sequential drop in foreclosure filings was between August and September, when they fell 8 percent.

"It's a little bit of good news in the otherwise murky real estate market right now," said Rick Sharga, RealtyTrac's vice president of marketing. "The fact that we're seeing a 10 percent decrease is significant. It's a good thing."


The U.S. had one foreclosure filing for every 617 households in November, RealtyTrac said.

The filings include default notices, auction sale notices and bank repossessions. Some properties might have received more than one notice if the owners have multiple mortgages.

Forty-three states saw an increase in foreclosure filings over last year.

The decline in filings from October to November likely corresponds with a lull in adjustable-rate mortgage resets, Sharga said.

Such loans typically have a low introductory interest rate, then reset sharply higher after a set period. The number of borrowers who took on adjustable-rate mortgages offering a teaser rate for just two or three years rose sharply in the last couple of years of the housing boom, particularly in high-priced states such as California.

But many borrowers have been unable to afford the increased payments that come with the resets, and falling housing prices have made it harder to refinance or sell.

A flood of rate resets for such loans has helped drive up the number of home loan defaults in the last few months.

"We'll see another fairly big spike in (foreclosure) filings in early '08," Sharga said. "Then there's another group of loans that's due to reset in May and June, so we'll see another wave of defaults probably in the fall."

Experts estimate some 2 million adjustable-rate mortgages are due to reset at higher rates in the next seven months.

Nevada, Florida and Ohio had the highest foreclosure filing rates in the country last month, RealtyTrac said.

Nevada reported one foreclosure filing for every 152 households, earning the state the highest rate in the nation for the 11th month in a row. The state had 6,694 filings in November, up 1 percent from October and up 167 percent from November 2006.

Florida had one foreclosure filing for every 282 households. The state reported 29,238 filings last month, down more 3 percent from October, but up 212 percent from November last year.

Ohio reported one foreclosure filing for every 307 households. The state had 16,308 filings last month, down nearly 6 percent from October and nearly double the number from November 2006.

California had 39,992 foreclosure filings last month, up 108 percent from a year earlier and the most in the nation. Its foreclosure rate was one filing for every 325 households.

The state's filings fell 21 percent from October's total.

Rounding out the states with the top 10 foreclosure filing rates in November were Colorado, Michigan, Georgia, Arizona, Indiana and Illinois.


© 2007 Associated Press.

Deal With Devil' Funded Carrera Crash Before Bust (Update3)

By Bob Ivry

Dec. 18 (Bloomberg) -- One week in 2002, Daniel Sadek was $6,000 short of covering the payroll for his new subprime mortgage company, Quick Loan Funding Corp. So he flew to Las Vegas and put a $5,000 chip on the blackjack table.

``I could have borrowed the money, I suppose,'' Sadek says.

That wouldn't have been his style. With his shoulder-length hair and beard, torn jeans and T-shirts with slogans such as ``Where is God?'' Sadek looked more like a guitarist for Guns N' Roses than a mortgage banker.

Sadek says he was dealt a jack, then an ace. Blackjack. He would make payroll. Quick Loan Funding, based in Costa Mesa, California, would survive and, for a while, prosper as one of 1,300 mortgage lenders in the state vying to satisfy Wall Street's thirst for subprime debt.

As home prices rose and hunger for high-yield investments grew, Sadek found his niche pushing mortgages to borrowers with poor credit. Such subprime home loans grew to $600 billion, or 21 percent, of all U.S. mortgages last year from $160 billion, or 7 percent, in 2001, according to Inside Mortgage Finance, an industry newsletter. Banks drove that growth because they could bundle subprime loans into securities, parts of which paid interest as much as 3 percentage points higher than 10-year Treasury notes.

``I never made a loan that Wall Street wouldn't buy,'' Sadek says. He worked hard to build the business, he says, and the company did nothing illegal.

U.S. Pays the Bill

In 2005 and 2006, New York bankers expanded the market for mortgage-backed securities by creating new subprime derivatives contracts. The derivatives, which amplified the risks of the underlying mortgages, were sold to banks and institutional investors. When borrowers started to default on high-yield, high- risk subprime mortgages by the thousands, the values of these leveraged securities plunged.

An index of subprime loans made in the second half of 2005 fell to as low as 21.83 cents on the dollar from a high of 102.19 cents. It's now at about 30 cents.

Nearly one in six subprime borrowers has missed a monthly payment, sending home prices to their first annual decline since the Great Depression. The Federal Reserve cut its main interest rate three times to fend off recession, and Wall Street firms that posted record profits the last three years have written down more than a combined $80 billion on subprime-related losses.

Sadek, now 39, got into the lending business in 2002, just as home prices were in the early stages of a record five-year surge. Staked by banks including Citigroup Inc., Sadek and others in his industry tripled the subprime market in five years.

Lamborghini, McLaren, Soap Star

``I was working every day, all day, from dusk to dusk,'' says Sadek, who pumped gas and sold cars before creating Quick Loan Funding. ``I slept in my office sometimes. I worked about 80 or 90 hours a week.''

Sadek collected a fleet of cars that included a Lamborghini, a McLaren, a Ferrari Enzo, a Saleen S7 and a Porsche, frequented casinos and was engaged to soap opera actress Nadia Bjorlin.

``Daniel was charismatic, crazy, unconventional and passionate about his company and his borrowers,'' says Lisa Iannini, a former employee.

Sadek would try to help Bjorlin break out of TV's ``Days Of Our Lives,'' co-writing and spending $35 million to produce ``Redline,'' a feature film about illicit car racing, starring Bjorlin as a daring leadfoot.

The movie's climactic line, delivered by actor Angus Macfadyen: ``Do you believe in destiny?''

Sadek did.

Wiping the Slate Clean

When homeowner Christopher Aultman, a mechanic for Union Pacific Railroad, called Quick Loan Funding in July 2005, a man identifying himself as Tim answered.

``He was friendly and he sounded like he knew what he was talking about,'' Aultman says.

Aultman wanted to refinance the 30-year fixed-rate mortgage on his four-bedroom home in Victorville, California, 80 miles northeast of Los Angeles. He needed to tap $20,000 in equity to pay off mounting debts, and he wanted to build a backyard play area for his three children.

His average credit score was 465 out of a possible 850, according to Aultman's loan documents. That is well below the U.S. median of 720, according to Fair Isaac Corp., whose software measures consumer creditworthiness.

Quick Loan Funding was the only lender that would talk to him, Aultman says.

``We'd been struggling and running away from bills, and I was tired of living that way,'' says Aultman, now 35. ``I wanted to be responsible and take care of my debts and wipe the slate clean.''

Passed Officer to Officer

A year earlier, Aultman had paid $204,000 for the house. Quick Loan Funding's appraiser said it was worth $360,000. When Aultman called back later with questions, he says he was told Tim no longer worked there.

``I was passed from loan officer to loan officer,'' Aultman says. ``It just didn't feel right. But I was praying it was going to come through. I was desperate.''

Loan officers were hired and fired all the time at Quick Loan Funding's 26,000-square-foot call center in Irvine, says Bryan Buksoontorn, who joined the company in 2004. By then, Irvine had become a hotbed of subprime lending companies.

``We were motivated by fear,'' says Buksoontorn, 28, who is now an independent mortgage broker. ``It was a boiler room. You had to make your numbers.''

Buksoontorn's job: get the caller's credit card and charge $475 for an appraisal, he says.

``You told the callers what they wanted to hear and you got the credit card,'' says Steven Espinoza, 39, an employee from 2003 to 2005.

`Close 'Em, Close `Em'

Sadek and his managers would berate the sales staff, many of whom had no experience or training, Buksoontorn says.

``They would get in your face,'' he says. ```Why aren't you ordering appraisals? Why aren't you selling?' ''

Sadek brought a car salesman's mentality to mortgages, Espinoza says.

``It's the same type of hard sell,'' Espinoza says. ``Close 'em, close 'em, close 'em.''

Iannini, who was vice president for compliance and risk management, says she tried to make sure the hard sell didn't result in bad loans.

``I went to work every day as an uninvited hall monitor at a fraternity party,'' Iannini says.

Sadek says 95 percent of Quick Loan Funding's mortgages were made to subprime borrowers.

``If we had a prime borrower on the line, we hung up on them,'' Buksoontorn says. ``We were geared toward subprime because they were easier to close. We were giving them money no other bank would dare to give them.''

Citigroup's Backing

Sadek says that with the support of Citigroup, which funded the loans, he pioneered lending to homebuyers with credit scores of less than 450.

Citigroup spokesman Stephen Cohen said the bank doesn't comment on its relationships with clients.

``We made most of our money from selling loans to banks,'' Sadek says.

Quick Loan Funding, like many subprime companies, specialized in 2/28 loans -- 30-year mortgages that start with lower ``teaser'' interest rates and ratchet higher after two years.

A key selling point was the 50 percent rise in home prices nationally from 2001 to 2006, according to the National Association of Realtors. Mortgage salespeople told homeowners that as long as values continued to increase, they could refinance or sell before their interest rates jumped.

`They Believed'

It wasn't a lie. Year over year, prices hadn't fallen since the 1930s, according to the Realtors group. The belief that values would form a stairway even seduced Quick Loan Funding employees who took out 2/28 loans themselves, says Marcus Bednar, 32, a former sales manager.

``They believed everything the borrowers believed, that the market was going to go up,'' Bednar says. ``It wasn't just something we were pushing because we tried to rip people off.''

Bednar adds, ``We were never encouraged to do anything shady.''

Borrowers with subprime adjustable-rate mortgages are seven times more likely to default than those with prime fixed-rate mortgages, according to the Mortgage Bankers Association.

Quick Loan Funding, like most subprime lenders, wrote so- called stated-income or ``no doc'' loans that don't require the borrower to document income with pay stubs or tax forms. They are also known as ``liar loans.''

The Federal Reserve staff today recommended a ban on such loans.

Reviewed, Rejected

In 2004, Bohan Group, a due diligence underwriting company, was hired by a bank to double-check the suitability of mortgages written by Quick Loan Funding that the bank was looking at buying and turning into securities. Bohan sent Nicole Singleton, 39, to the Irvine office. She reviewed 40 loans and rejected every one, she says.

Sadek says he fostered a competitive selling atmosphere, and underperforming workers ``either quit because they're not making money or they're fired because they don't work.'' He says Quick Loan Funding ``thrived on customer service, so the idea of hanging up on callers is not right.''

``If the loans were so bad, why did Wall Street keep buying them?'' Sadek says.

In July 2005, Espinoza, Buksoontorn, Bednar and other employees sued Quick Loan Funding in federal court alleging various workplace abuses, including failing to pay overtime and not providing adequate lunch breaks. Sadek later settled with the employees, agreeing to pay them more than $3 million, says Jon Mower, an Irvine attorney who represented the loan officers.

``I don't think Quick Loan Funding was much different than many of the other subprime companies,'' Mower says.

`I Can't Do This'

Sadek denies the charges, adding that it's the type of lawsuit a jury would never decide in the employer's favor.

``They see me as a rich guy and who do you think they are going to believe?'' he says.

To get $20,000 in cash from the Quick Loan Funding refinance, Aultman was told, his monthly payments would rocket to $2,264 from $1,464.

``I said I can't do this,'' Aultman says. ``They said take the mortgage, make the payments and once everything is paid off, within 30 days your credit will shoot up 150 points and we'll get you a better rate and everybody wins.''

They convinced him, he says. The company sent a notary to his house with the documents to sign. It was 9:30 p.m. Aultman was worn out from work and the rest of the family was in bed.

Aultman says he didn't see the pre-payment penalty in his contract. If he refinanced within two years, he'd have to pay six months interest.

Crying in Son's Room

He also says he didn't notice his income on the contract: $5,950 a month. At the time Aultman says he made $3,420.

Sadek says he watched employees closely and anyone caught falsifying information would be ``fired on the spot.''

For a $247,500 mortgage, Aultman paid Quick Loan Funding $10,813, including origination fee, application fee, processing fee, underwriting fee and quality control fee, according to his loan documents.

The average closing costs for a mortgage of that amount in California is about $5,000, according to Pete Ogilvie, president of the California Association of Mortgage Brokers.

Sadek defends charging those fees by saying he took more of a risk by lending to people with such lousy credit. If legislators want to limit fees, they ought to pass laws against them, he says.

Aultman received $21,674.70 in cash, according to the documents.

The monthly payments proved too steep and he fell behind.

``I feel burned,'' Aultman says. ``There's a lot of nights I've gone into my son's room and watched him sleep and I've cried.''

Reining in Loan Officers

Quick Loan Funding's survival, like that of other non-bank mortgage lenders, depended on a stream of new borrowers like Aultman. To fund the mortgages, the company had $400 million in short-term credit from Citigroup. To pay that off, Quick Loan Funding sold the mortgages to securitizers as soon as it could.

By August 2005, Sadek was spending most of his time working on his movie, ``Redline.'' He hired Iannini to upgrade the company's risk management.

``My biggest problem day to day was reining in uneducated loan officers,'' Iannini says. ``You have to almost use police force tactics and threaten brutality on a sales floor of a lending institution and have that whip ready to crack, because you never know what employee will be pressured by what influences on any given day.''

Iannini had worked at two other mortgage lenders before joining Quick Loan Funding. She says Sadek's firm was the most committed of the three to maintaining lending standards.

Ferrari Crash

Asked about borrowers who have trouble making their payments, Sadek quickly leafs through a mortgage application. He stops, folds over the pages and points to the line that says, ``Cash to borrower.''

``Who's getting ripped off?'' he says.

Sadek was featured on TV newscasts in March. During a publicity event for ``Redline'' at an Irwindale racetrack, comedian Eddie Griffin, a star of the movie, drove Sadek's $1.2 million Ferrari Enzo into a concrete barrier, wrecking it.

Sadek, who appears in ``Redline'' as a poker player, also intentionally trashed two of his own Porsches in the making of the movie. In one scene, a Carrera is catapulted high in the air before it crashes.

Aultman, meanwhile, says his credit score hasn't climbed and he has received two notices of foreclosure since refinancing with Quick Loan Funding in November 2005.

`Everything's Not OK'

``You go to soccer games, and everything's great with the other parents,'' Aultman says. ``Nobody knows it, the wife doesn't know it, the kids don't know it, but their old man is in trouble. I put up a façade that everything's OK. Everything's not OK.''

Aultman is trying to sell his house, but three others within sight of his driveway also have for-sale signs.

``I'm embarrassed,'' Aultman says. ``I made a deal with the devil. I didn't know what I was signing.''

Sadek may be in trouble, too. The California Department of Corporations wants to revoke his lending license. The state says he tried to use the bank account of his escrow company, Platinum Coast, to apply for markers, or gambling loans, at three Las Vegas casinos in April and May.

``It was a bank error,'' Sadek says. ``No money ever left the account.''

Sadek holds up a copy of the marker application. It has his name at the top and his signature at the bottom. In the middle of the page is a bank-account number. He says he thought it was his personal account. It wasn't. It turned out to be Platinum Coast's, Sadek says.

He says he didn't know what he was signing.

To contact the reporter on this story: Bob Ivry in New York at bivry@bloomberg.net .

Last Updated: December 18, 2007 13:35 EST

Pimco's Gross Says U.S. Headed for `Mild' Recession (Update2)

By Kathleen Hays and Daniel Kruger

Dec. 18 (Bloomberg) -- Bill Gross, manager of the world's biggest bond fund, said the U.S. is headed for a ``mild'' recession in 2008 amid the worst housing slump in 16 years.

The economic contraction will be ``a mild one based upon housing and its ultimate handoff, I suppose, to the consumer,'' Gross said in an interview on Bloomberg Television. The U.S. economy will grow as little as 1 percent on average next year, he said.

Most analysts are more bullish on the economy than Gross. The economy will grow at a 2.3 percent rate on average next year, according to the median forecast of 62 analysts surveyed by Bloomberg from Dec. 3 to Dec. 10.

Gross reiterated his forecast that the Federal Reserve will have to keep lowering interest rates, after three cuts since Sept. 18, bringing the overnight benchmark rate to 4.25 percent.

Tomorrow's release of the results of the Fed's auction of $20 billion in 28-day funds will be a gauge of how much further the central bank needs to lower borrowing costs, he said. The Fed on Dec. 12 said it planned four such auctions to add cash to the banking system.

``You want to look at the amount that was bid for,'' he said. Should that tally reach $50 billion to $100 billion or more, ``that's a sign that conditions are tight.''

Auction Rate

At the same time, the higher the rate is that the banks offer for the loans, the greater the sign of distress in the financial system, Gross said. The minimum accepted bid set by the Fed was 4.17 percent.

Should the rate approach 4.75 percent, which is the level banks can borrow at directly from the Fed, it's a ``sign that in the United States we've got real liquidity problems,'' Gross said. The Fed cut its discount rate, as that direct lending rate is called, by a quarter-percentage point to 4.75 percent on Dec. 11.

Pimco, a unit of Munich-based insurer Allianz SE, manages about $721 billion.

Gross's $108 billion Total Return Fund has returned 7.43 percent this year through yesterday, according to Morningstar, the Chicago-based research firm. That return is ninth-best among the 352 distinct portfolios, excluding multiple share-classes, in the intermediate bond fund category, according to Morningstar. The average return for the group this year is 3.72 percent.

`Value' in Mortgages

The fund held 47 percent of its assets, weighted by duration, in mortgage-related debt as of Sept. 30, its largest concentration, according to Pimco's Web site. Debt maturing in less than a year accounted for 41 percent of assets. Bonds with a longer duration tend to be more sensitive in price to changing interest rates than shorter-duration securities.

Mortgage-backed securities guaranteed by government- chartered companies such as Fannie Mae and Freddie Mac ``offer very compelling value,'' Gross said yesterday in an interview posted on the firm's Web site.

The difference between the yield of 10-year Treasury notes and the 30-year current coupon Fannie Mae bond widened to 1.76 percentage point on Nov. 20, the most since January 2001, according to data compiled by Bloomberg.

In May Gross said he had made a ``mistake'' in the previous 12 months forecasting the Fed wouldn't lift rates as high as 5.25 percent, as the central bank did, and then again in predicting in October 2006 that the Fed would start cutting borrowing costs in the first half of this year.

To contact the reporter on this story: Kathleen Hays in New York at Khays4@bloomberg.net ; Daniel Kruger in New York at dkruger1@bloomberg.net

Last Updated: December 18, 2007 16:12 EST

Single-family housing starts hit 16-year low

Tue Dec 18, 2007 12:00pm EST WASHINGTON (Reuters)

Housing starts fell 3.7 percent in November, with construction of single-family homes sliding to the lowest level in more than 16 years as builders scrambled to cope with a deep drop in sales.

Home building projects started fell to an annual rate of 1.187 million units, the Commerce Department said on Tuesday in a report that was in line with expectations on Wall Street.

Starts on single-family homes tumbled 5.4 percent to an annual pace of 829,000 units, the lowest since April 1991. It was the eighth straight monthly drop in single-family starts.

In addition, permits for future building slipped 1.5 percent to their lowest level since June 1993.

Economists said the data underscored the degree to which the deep housing sector slump was weighing on the economy, which some analysts fear is teetering close to recession.

"The fourth quarter ... is going to have a substantial drag from the second leg down in construction, but the bright spot is that it's unlikely that we're going to see this rate of decline continue," said Michael Darda, chief economist at MKM Partners in Greenwich, Connecticut.

Prices of U.S. government bonds fell after release of the data, but traders largely focused on efforts by central banks to unfreeze credit markets, which have been drying up as defaults on U.S. mortgages have risen. U.S. stock markets were up slightly in late-morning trade.

Darda and other economists said the pullback in construction was needed for builders to work off a glut of unsold homes, a necessary step to the sector's recovery.

"The direct drag of housing on the economy will greatly diminish in 2008, but the (financial) market is more concerned on its indirect impact," said Richard DeKaser, chief economist at National City Corp in Cleveland, referring to the tightening of credit as U.S. mortgage defaults have risen.

RECESSION RISKS RISING

A Reuters poll released on Tuesday showed analysts see an increasing risk of a U.S. recession. The survey of 88 analysts put the chances of a recession in the next 12 months at 40 percent, up from 35 percent in a November poll.

The consensus view was that the economy would expand at a meager 0.9 percent pace in the fourth quarter, after moving ahead at a sprightly 4.9 percent clip in the third quarter. The economy was seen expanding a sluggish 2 percent in 2008.

The report on home construction showed single-family starts in both the Midwest and Northeast fell 20 percent. They dropped 6.8 percent in the West, but rose 5.4 percent in the South.

Over the past year, starts on both single and multiple-family units have plummeted 24.2 percent, while permits are down 24.6 percent.

Separate reports on chain store sales presented a mixed view on sales last week, but suggested holiday shopping was still subdued.

"Unfortunately, retailers were battered by several forces this past week, including storms and a procrastinating consumer," said Michael Niemira, chief economist for the International Council of Shopping Centers.

A joint report from ICSC UBS Securities said chain store sales slowed to a 2.1 percent year-on-year gain last week from 2.3 percent a week earlier.

Separately, Redbook Research said the year-on-year gain slipped to 1.3 percent from 1.6 percent in the prior week, well off last year's sales pace.

(Reporting by Joanne Morrison; Editing by Dan Grebler)

Rupert Murdoch Sees Recession, 5 Years of Real Estate Woes

Sunday, Dec. 16, 2007 10:10 p.m. EST

Rupert Murdoch, media tycoon and new owner of the Wall Street Journal, predicts that the U.S. faces a recession that will hit the overall economy and could undermine real estate for five or six years.
Appearing on Fox News' "Your World with Neil Cavuto," Murdoch admitted that he’s worried about the economy.

"I think we are in for a recession, probably. How bad it will be, I don't know. But I think there's a lot more bad news to come ...”

When Cavuto asked where the bad news will come from, Murdoch responded "European banks, insurance companies, pension funds."

He added that current woes "always start with housing booms."

"And it takes some time, a year or two, for an economy to come right through it, probably five or six years for the real estate market to come through it.”

Cavuto's asked, "Five or six years?"

Murdoch explained, "That has sort of been the history of these things in the '60s and the '80s.”

Murdoch suggested that banks will be back to normal in the near future. "I think in terms of banks cleaning up their balance sheets and getting back into lending and so on, I think that's only about a year or so," he said.

"The problem at the moment is, there is plenty of money everywhere, but the banks are frightened to lend it. And, therefore, it is harder for small-business men to get started. That's what have to watch, and the price of money. The banks are being so sort of super careful. They have had a big fright.”

Cavuto noted that prospective borrowers have also been frightened - that even those who would normally qualify relatively easily, are backing off, too.

Murdoch wasn't so sure.

"We just borrowed some money the other day," he said. "We're an investment grade company. And it was done on the telephone for $1 billion dollars. It was no trouble.”


Ending on a positive nore, Murdoch said "People talk. I was seeing the debates today, about jobs going overseas and so on. I thought disgraceful things. There is no one in America who wants a job who can't get one. We have got a state of very near full employment here. The country is doing pretty well.”


© NewsMax 2007. All rights reserved.

U.S. Homebuilder Confidence Unchanged at Record Low (Update1)

By Bob Willis

Dec. 17 (Bloomberg) -- Homebuilder confidence in the U.S. was unchanged at a record low in December, signaling falling home prices and a glut of unsold properties will extend the housing slump into 2008.

The National Association of Home Builders/Wells Fargo index of builder confidence was 19 as forecast for a third month, matching the lowest since records began in 1985, the Washington- based group said today. Levels lower than 50 mean most respondents view conditions as poor.

Builders are scaling back construction plans as falling sales cause inventories to pile up and foreclosures rise. Some potential homebuyers are holding out for bigger price declines, suggesting construction will continue to limit growth.

``There are not a lot of incentives for homebuilders to improve their outlook,'' said Douglas Smith, chief economist for the Americas at Standard Chartered Bank in New York, who forecast no change. ``In the near term, we shouldn't have a lot of high hopes.''

The forecast was based on the median estimate of 38 economists surveyed by Bloomberg News. Projections ranged from 17 to 21. The index averaged 42 last year.

Another report today showed the deficit in the U.S. current account, the broadest measure of trade because it includes transfer payments and investment income, narrowed to the smallest in two years, according to figures from the Commerce Department.

Asset Purchases

International buying of U.S. financial assets accelerated at the fastest pace in five months in October, the Treasury Department also announced.

The builder survey asks members to characterize current sales as ``good,'' ``fair'' or ``poor,'' and to gauge prospective buyers' traffic. The survey also asks participants to assess the outlook for the next six months.

A gain in perceptions of present and future sales was offset by a decline in the number of buyers visiting projects. The group's measure of single-family home sales rose to 19 from 18 the prior month. A measure of sales expectations for the next six months rose to 26 from 24. The index of buyer traffic declined to a record-low 14 from 17.

``There clearly are signs of stabilization,'' said David Seiders, chief economist at the National Association of Home Builders, in a statement. ``Many builders are bracing themselves for the winter months, when home buying traditionally slows.''

Regional Breakdown

Regionally, builders in the Northeast became more pessimistic, while sentiment improved in the Midwest and South.

The housing recession has taken a second leg down since the subprime-mortgage turmoil in August led to a worldwide credit shortage. In the third quarter, new foreclosures hit an all-time high, the Mortgage Bankers Association said in a report Dec. 6, putting more homes back on the market.

Senate passage of two bills last week improved some builders' outlook, the report said. One piece of legislation protected mortgage borrowers in foreclosure from getting a surprise tax bill, while the other made more Federal Housing Administration loans available to subprime borrowers threatened with losing their home.

Those actions ``are definitely a step in the right direction,'' Brian Catalde, president of the group and a builder from El Segundo, California, said in a statement. Combined with President George W. Bush's plan to freeze some subprime mortgage rates, ``these are essential measures for improving credit liquidity, restoring consumer confidence and reviving the overall housing market and economy,'' Catalde said.

Starts Forecast

A Commerce Department report tomorrow may show builders broke ground on new homes at an annual rate of 1.176 million in November, according to a Bloomberg survey. That would be the fewest since March 1993 and down from 1.229 million in October.

Housing starts in October were 46 percent below their Jan. 2006 peak, while new-home sales were down 48 percent from the record reached in July 2005. Sales and construction are likely to continue falling as long as inventories hold near record levels and prices tumble, economists said.

Home prices in the U.S. fell 4.5 percent in the third quarter from a year earlier, the most in at least two decades, according to the S&P/Case-Shiller home price index released Nov. 27. Lehman Brothers is forecasting prices will fall at least 15 percent from peak to trough.

Falling home prices leave Americans feeling less wealthy and thus less likely to spend or borrow against the equity in their homes. As declining home construction detracted from growth for the past seven quarters, falling prices may now weaken consumer spending. That is prompting some economists, including Richard Berner at Morgan Stanley, to project a recession next year.

Homebuilders are bracing for more bad news.

``This looks like it's going to be the deepest correction of any housing correction since World War II,'' Timothy Eller, chief executive officer of Centex Corp., the fourth-largest homebuilder, told a housing conference in Las Vegas on Nov. 27.

To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

Last Updated: December 17, 2007 13:28 EST

Fed Rate Cut Isn't Enough to Ease Housing Woes: John F. Wasik

Commentary by John F. Wasik


Dec. 17 (Bloomberg) -- The Federal Reserve's quarter-point cut of its benchmark rate to 4.25 percent last week looks like a big lump of coal in the stocking of the U.S. housing market.

While some buyers and refinancers may benefit, home prices may be headed for more declines in the most overheated markets, no matter what the Fed does.

As with most things in the financial world, home prices eventually had to regress to a historical rate of return. This realignment may eventually translate into a 15 percent nationwide decline, and even more in the markets with the highest appreciation and greatest supply.

Buried in the middle of the Office of Federal Housing Enterprise Oversight home-price report for the third quarter is an article on the relationship between areas that experienced the highest gains over the past half-decade and those facing higher-than-average foreclosures. Ofheo is the regulator of mortgage giants Freddie Mac and Fannie Mae.

As the U.S. housing market experienced its first quarterly decline in 13 years, Ofheo analysts observed that ``prices fell approximately 5.4 percent over the latest four quarters in the most foreclosure-prone areas, more than double the pace of price declines elsewhere.''

What happened in the most volatile markets? Home appreciation passed the threshold of economic reality, something the Fed can't restore by itself.

Rapid Descent

In 2004, Ofheo's Home Price Index exceeded a 30-year historical average price trend, eventually outpacing it by about 15 percent at the height of the bubble.

Where they were most out of line with average household income, home values are plummeting. The reasons for the rapid descent vary.

-- States such as Arizona, Nevada and Florida were boosted by overbuilding, cheap land, retiree relocations, population growth and rampant speculation.

-- California was burned because thousands of desperate homeowners did anything they could to buy houses in an already expensive market.

-- Ohio and Michigan were hurt by cutbacks in the U.S.- based auto industry.

Then there's the question of liquidity. Nothing will change in housing markets until prime borrowers have full access to credit and until the inventory of about 4.5 million listed but unsold homes drops significantly. Foreclosures also need to be curtailed.

Foreclosures Continue

Many bankers are shell-shocked. They don't want foreclosed properties on their books and have to sell them at steep discounts. That makes the housing market even more prone to price falls.

``As banks' capital needs increase, some may be forced to fire-sale the assets, further pressuring land prices,'' according to a November homebuilding survey by Zelman & Associates, a New York-based research firm.

The worst-rated areas, according to Zelman, are Atlanta; Detroit; Fort Myers, Jacksonville, Tampa and Southeast Florida; and Los Angeles, San Diego, San Bernardino and Riverside counties in California.

Little relief is on the horizon. New foreclosures reached a 20-year high in the third quarter, according to the Washington- based Mortgage Bankers Association.

One in five adjustable subprime borrowers fell behind on payments. That number may worsen as more resets are triggered next year.

Subprime Subterfuge

The five-year rate freeze on a minority of subprime loans proposed by President George W. Bush and Treasury Secretary Henry Paulson two weeks ago will buy some time for a fraction of the estimated 2 million homeowners facing foreclosure.

There's little substance to the Bush plan. It lacks force of law because it's voluntary. It does nothing to change federal-bankruptcy and mortgage-disclosure legislation or pave the way for unrestricted refinancing.

Only about 145,000 households are expected to be helped by the administration's plan, according to the Durham, North Carolina-based Center for Responsible Lending, a consumer group that monitors predatory lending.

Those whose mortgages have already reset to unaffordable monthly rates are trapped. Investors in those loans may not even agree to modifications.

``The heart of the problem,'' said Julia Gordon, policy counsel for the center, ``is securitization. Interests that were formerly aligned are not aligned now and there's no accountability.''

Fractured Dream

Since the highest-risk mortgages created little or no equity, borrowers and lenders had little financial stake in them.

Unless strong legislation gives borrowers the power to modify their loans, refinance, avoid prepayment penalties or stretch out payments, there's no reason to believe that the foreclosure crisis will end soon. These properties will continue to glut afflicted markets, lower prices and ruin neighborhoods.

Ultimately, the Fed's move will do little to restore equity to borrowers stuck in adjustable loans they can't afford, making homeownership a fractured dream.

Without equity creation -- which is essential in building real-estate wealth -- all you have is a very expensive place to rent.

(John F. Wasik, author of ``The Merchant of Power,'' is a Bloomberg News columnist. The opinions expressed are his own.)

To contact the writer of this column: John F. Wasik in Chicago at jwasik@bloomberg.net .

Last Updated: December 17, 2007 00:32 EST