The Subprime Mess
Starting in the spring of 2005, adjustable rate mortgages became very popular because it allowed buyers to buy a house with an artificially low interest rate for an initial period, before resetting to a higher rate. The majority of the adjustable rates have a reset in two years. The peak of the resetting of the mortgages will be October 2007, when $50 billion will be switched to a new rate, according to Credit Suisse. The level of resets will remain above $30 billion for each month through September 2008.

In short, 12% of the nation�s total mortgages will reset for the first time this year or next.
The worst is clearly not over in the subprime mess. Some households will cut back on spending or refinance to a rate they can afford when their time comes. It is estimated that 1.7 million will lose their homes to foreclosure when their rates reset. They simply can not afford the new rates. Dr Adibi, Chapman University, informed us last year that fully 23% of all new loans in California were purchased with interest only loans as the down payment! So many of the new home buyers did not put any money down toward the purchase of their house and in a sense, have only been renting the mortgages until the bank comes to foreclose. The housing market is still a limited portion of the US economy but I still worry about the trickle down effect to consumer spending.
What can anyone do? If you want to buy a new home- wait it out. Homes prices will continue to fall as the inventory of homes for sale swells to new records. There will be very motivated sellers- some are already offering vacations, upgrades and deep discounts to sell their homes.

Do not spoil what you have by desiring what you have not; remember that what you now have was once among the things you only hoped for.
Epicurus quotes (Greek philosopher, BC 341-270)

Hedge Funds Need Attention
James Simons, the highest-paid hedge-fund manager last year who was paid $1.7 billion in compensation, could pay enough in Medicare taxes to provide health insurance for about 4,800 senior citizens. Mr. Simon�s income is largely exempt from Medicare and other payroll taxes because it is considered a capital gain. US House of Representatives have a proposal seeking to raise taxes on hedge-fund and private equity managers by changing how their income is classified. If they change this, it would raise as much as $1 billion annually and cover the cost of insuring about 98,000 people. this is one more reason I don�t like hedge funds!

The income gap is worsening. The rich are getting richer and the poorest class is expanding. Luxury items are selling well: Porsche, Neiman Marcus, Nordstrom, Tiffany and Saks Fifth Avenue all show strong sales. Wal-Mart, Costco and Target are not doing as well. As foreclosures and bankruptcies increase and consumer discretionary income decreases, sales will fall for autos, home builders, and big ticket items. Major purchases will be postponed.

The Big Cut
Well, I was surprised by the 50 basis point cut and so was Wall Street. I expected 25 points now and 25 in October. The Fed has always taken very measured steps. It also tells the future trend by the words in their statement.

�Developments in financial markets since the committee�s last regular meeting have increased the uncertainty surrounding the economic outlook.� That statement, and the 50 basis point rate cut, leaves me a little worried over the state of the economy, and the fear of a recession in the near future. I do not think they would have moved this aggressively with a rate cut if they did not foresee some sort of trouble ahead. I also believe we are only one third of the way through the worst of the mortgage mess. This makes me keep a somewhat defensive position with portfolios. On a more positive note, we are entering into a presidential election year in 2008. This is usually a positive year for the equity market. The market outlook may change if a Democrat is elected because tax and estate rate changes, and an increase in the capital gains rate will be anticipated.
September was the third straight month of moderate growth for employment. Private sector payrolls continue to grow as manufacturing and goods-producing jobs continue to fall. Many of the lost jobs were likely in the housing industry. Mortgage lenders slashed jobs nationwide and other financial related jobs will continue to be lost.

The US dollar has declined 45% against the European currency, the euro, and has hit all time lows. The dollar is also at a 30 year low against the Canadian looney. This may be the reason TD Bank Financial has purchased Commerce Bancorp. This purchase of Commerce will double TD Bank�s business in the US. TD Bank owned 58% of TD Waterhouse prior to the merge with Ameritrade. TD (Toronto-Dominion) Bank is the largest Canadian bank. I will not be surprised of an announcement if TD Ameritrade buys another brokerage company, such as e-Trade.

Summer comes to an end
Four ocean swim races (including a two mile swim from Hermosa Beach to Manhattan Beach) and a triathlon kept me busy the past quarter. I also have a new eight week old golden retriever puppy who is rearranging the landscaping in my back yard. Sleepless nights just like having a new baby! My 13� year old golden retriever is not amused that I brought a new puppy home.

Live as if you were to die tomorrow. Learn as if you were to live forever. - Mahatma Gandhi

On a Sad Note
I am writing about this here so you don�t ask me about it when you see me. Many of you know my best friend of 29 years, Gail, had been battling breast cancer for the past ten years. The cancer spread to bone, liver, lung, spine, ribs, and kidney as she fought her battle. She passed away in August, just five weeks after we returned from our cruise to Italy, Spain and France. It was her last wish to see Italy, she was determined to see it, and she did. She was the bravest and most courageous person I know to fight her battle and live life to the fullest, every day and every moment. This is something we should all live life by. Celebrate life and get out and live it!

Life is short, play hard.
Life is worth the fight!
Gail Moreno 1952 - 2007