THE CREDIT CRUNCH, NOT

Maybe a little bite but no crunch, at least not this time. All debt is securitized, meaning loans are wrapped up into bonds and then resold in the markets. High interest debt is sold and all buyers of the debt know the risks because they are professionals. The way all securitized debt works is that when there is a default, that default is “replaced” by another loan. Two things:

1. the “security” is often “resecuritized” into an even larger amount (ten million bond to a hundred million; a hundred million to a billion) so that it would take an enormous number of defaults to affect the underlying security. Sometimes the process will have high risk consumer loans mixed with corporate and so on. What you have to understand is that nobody but the worst managed of the companies carry their own debt, as is probably the case with New Century. This is because all they had was the absolute worst possible risks and nobody "reputable" would take it. But this is not a big part of the market.

2. In a worst case scenario, let us say a ten percent default rate or higher, you have to keep in mind that these huge portfolios are hedged, usually with short positions or commodities, or gold, or anything. The losses almost cannot spread through the enitre portfolio.

The reports right now indicate a six and a half percent default rate; serious but hardly catastrophic. The real problem for the economy is that all defaulting loans are in one key industry and it is here that the trouble lies. These loans are all "seconds" or in some cases "thirds." By definition people taking on seconds and thirds are not solvent. Construction is the largest employer in the country and as more housing defaults go onto the market it will be increasingly difficult to move all the homes in inventory.

What is not being discussed is the “insurance crises” brought on by catastrophic disaster losses; this means that buyers cannot afford the payments, the taxes, and the insane insurance premiums. Remember, we have three hundred million people living in the same space as one hundred million just fifty years ago, the time in which all actuarial studies were originally made. Storms are hitting in places where once there was nobody and now there are thousands. What nobody wants to look at is the possibility that the Federal Government may have to underwite total disasters. The crisis will be in construction; employment; and then the entire economy.

So we have two huge employers in trouble: the car business which will be ruined or else by the UAW; and now the construction industry which will be hit hard by a capital crunch and high inventories.