Gone In Sixty Seconds Letter 4 of 07

A recap of the scenario:

bubble, easy money, inflation in fiat money supply, inflation in commodities and hard assets, inflation, fear of inflation, rising rates, YC inverting, flattening, rising and inverting again, tightening, withdrawal of liquidity, corrections, crashes, talk of stagflation, FEAR, withdrawal of speculative funds, further corrections and crashes, demand collapse.......Deflation.

This article was originally published on the 27th June 07

So it came to pass that the power moved from the West to the East.....yeah right, enough of that blah. Its time to face some rather disturbing but relevant facts. Firstly you might find time to read the letter at this link http://www.safehaven.com/article-6324.htm as background for the following letter.

If you have debt you are bending over and picking up the soap.

Straightforward, no nonsense, in the prison block showers, soap collecting. Hopefully coffee has been spat at screens, wives/delicate husbands have been offended and stopped reading within 60 seconds. Because what I'm about to impart to you should make you feel this way. You, Joe Public, are about to be ridden into the oblivion. No one can save you, no one really cares. Big boyz, from companies like mine are going to take your possessions away. Faceless corporations are going to take your home away. All because you have debt.

Now don't get me wrong, oh offended reader, I'm on your side. I may be in the repo game but that doesn't mean I haven't got enough business already, without adding more names to the list. It'll wreck my tax returns to take on much more. So to help save me the work on my returns, I'm going to let you into a few secrets, things you should know.

Firstly lets talk inflation. As a debt owner inflation is good. It erodes the true worth of the debt over time. What you borrowed 5 years ago at twice your annual salary is now only equal to your salary.

Oh, you worked in Autos? And you worked in Real Estate? Well for most the debt has devalued as their earnings have climbed, even whilst we have low interest rates, can't be bad eh? Well except for the Auto guys and the RE people, who now earn nothing and still have debts. Oh, you have an AltA and a piggyback loan and a sub-prime mortgage? Annnnddd they all go from teaser rates to full on, hardcore top of the range (13%!!!) rates this summer? Who the hell talked you into taking that lot on as a debt Bro? Well okay, other than your own self greed and desire, who else can we blame?

Am I holding back some punches here? Yeah, like Tyson on a date I am.

I'm going to get serious now. Some people out there reading this are probably genuinely worried for their future, for their families future. A man has responsibilities, he has to look after his family. Women often don't have that man around. They have it all to do. Be that as it may, if you have large debt hanging around your neck, the love you feel, the protection you want to give to those you love will come to nought.

These are not easy words to write, this is macro-econobabble coming home to roost, to hurt ordinary men, women and children, policies laid down by almost faceless autocrats are going to ruin our way of life. Sounds strong? You need to know how this happens and then you need to know who to blame.

I failed to mention the way out of the problem? I'm not qualified to tell you that. I can only say, if it was me, that unsecured debt can take a flying , I’ll pay what little I can. They can take me to court and I'll show the best I can do is to pay back 1/100 of the debt (interest frozen) a month at a time. It shows willingness too.

If the debt is secured on property you have a few more options. I would tell them I can't pay, I want to, I'm trying to, I'm sending you every penny I've got, but its not enough. Show me a Judge in the soon to be coming hard times who would not force an agreement on a Lender to come to terms and arrange new payment strategies.....if it was me, that’s what I would do. But hey, I might be wrong, who knows?

Now, all this talk is well and good but what does this have to do with the markets? Do I have to spell it out?

Okay, I will. Merrill Lynch went to market last week with a whole bunch of top rated tranche MBS and ABS derivatives (they ain't bonds, trust me, put it this way, by basing the derivative on sub-prime they lowered the risk on the tranche. How? Because part of the risk is early pre-payment, ie you pay your mortgage off early. Not likely if you need a sub-prime mortgage eh?) ) that are based on the expected returns on your mortgages. Yes, your lender sold the return on your debt to the Institutional Cabal, the JPMs, ML, BS, Citi, Barclays etc blah of this world. And they are worried, indeed scared. Its brown trouser time in the MBS/ABS/CDO/CDS world. Hedge funds are using more toilet paper than normal too. Do you want to know why? Its because of you, deeply indebted Joe Public.

See, its like this, if you take the road to non- / reduced payment then the Cabal don't get the returns they need to service the debt they have incurred. Oh, did I not mention that to maximise returns, they borrowed against your payments by a leverage factor between 10 and 20 to raise credit (electro-money) to invest elsewhere? I didn't want to overburden you. Trouble is if you don't pay then not only is the return on the Tranche of debt they bought reduced but, in theory, the debt itself is priced lower.

Now this was okay for the Cabal as long as no one decided to attempt to sell this debt on the open market. No sales, no price, they can mark it in portfolios at the price they bought it at. If though anyone sells the debt, then a real price is set.

That’s what happened in the past 2-3 weeks. Yes, one of the Cabal grabbed the top layer of debt, the highest rated, away from a hedge fund that had reneged on it debt repayments and attempted to sell this debt to recoup its losses. They grabbed $800m. They sold $100m of this top tranche of debt and then stopped. Maybe its was because the best they could get was 50c on the $ for the top grade. Maybe it wasn't, maybe they didn't want to facilitate a bond market collapse. Who knows?

So you see, its all the fault of Joe - AltA,Sub-Prime - Public that bond markets are teetering on the brink. You, the ordinary people, will be blamed for bringing about Global Financial Armageddon because you got greedy, because you wanted a house, a car, a credit card. You should have known rates were going higher, even if Alan Greenspan said for you all to use adjustable rates and instruments of innovation to achieve your dreams, even if it was at the low point of the rate cycle. Its not his fault, is it?

If only this was the easy part but its not. Its going to get much worse than this for those in debt.

The problem is that as all these Institutions and Banks look over their books and attempt to reconcile enormous losses in the derivative portfolios and realise that the Insurance they bought to protect against default is worthless because it was itself resold as an ABS and has itself become a victim of pricing default (i.e., if you claim on it, you set a price, which will be much lower than you were sold to) then 2 things will happen, regardless of bank, institution or hedge fund collapse. Firstly they will attempt to get possession of the original asset that the derivatives are based on, i.e. the property, to offset the losses in the derivative portfolios. Secondly, they will restrict lending. They need the liquidity for themselves and to bail out any hedge fund enterprises they may have set up or any sub-prime business they bought, thinking it was cheap.

hat means no credit, no lending, nothing for anyone. That means deflation. So all those who have read though this letter feeling smug because they can afford the debt they incurred are about to see a problem looming. Their debt will not be devalued by inflation. It will, in fact, become more burdensome as time goes by. Rates may fall to new, lower levels but that will be offset by the fact that the debt itself will become worth more.

Now I’ve probably gone an alienated everyone. And its not even my fault, its yours, because you borrowed too much. You are going to destroy the wealth of a generation. Or at least, that what the Cabal would have you believe.

I was going to say I hoped you enjoyed this read, as the author I find it depressing, so it would be a facetious question. If you found it thought provoking that’s a different matter. I hope someone out there decides to get rid of as much debt as possible. That would make this scenario a lot more cheerful.

Now, anyone got a flash, fast motor that needs repossessing?

Good luck.