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The Two Greater Fools Theory.
by Professor von Braun
June 14th, 2005
There is a subtle difference between the stock market bubble, especially the NASDAQ market that peaked in March of 2000, and the current real estate bubble that is being given much press of recent times.
This bubble is occurring not only just in the US, but in other countries such as Australia, New Zealand and the United Kingdom. Low interest rates, silent seconds, interest only loans, no deposit purchases, etc. We hear all about what the buyers are doing and receiving as inducements to purchase a house, anything it seems to keep the 'bubble' going. That is of course the greater fool theory at work with 'agusto'.
But in this wonderful day and age, we hear very little about the other side of the transaction, as in 'who is buying these mortgages?' Banks and other financial institutions are not offering these inducements without the knowledge of the fact that they can be packaged and flipped fairly quickly, which means they have a buyer, a buyer best described as greater fool number two. Perhaps it's the Japanese pension funds looking for a return on their cash. Obviously, without a market for the mortgages, the market would come to a halt very quickly.
We know of course that in the US the mortgage giant is Fannie Mae and Freddie Mac, but they are not responsible for Australia, New Zealand and the United Kingdom real estate markets. So who could be the backstop for those markets?
It's safe to say that both Australia and New Zealand have the same banking system since nearly all bank ownership in both countries is headquartered in Australia. They have not had the benefits enjoyed by the US banking system, in the form of some very aggressive GSE's, swallowing a large share (40%+) of all housing mortgages, with the US taxpayer holding the tab if things go wrong.
So who has been the buyer for packaged mortgage debt out of these three countries? Could it have been the Europeans seeking higher returns on their investments? If this is the case, then the 'NO' vote out of France and Holland may have just thrown a spanner in the works. Certainly the Australian and New Zealand dollars have sold off some in the last week, but the real question is how dependent on Europe are the Aus/NZ banks for packaged mortgage buyers?
Should there be a decline in buyers for these 'deals' then two things will happen, 1) the currencies will weaken as demand for them will erode, and 2) each countries respective real estate markets will begin to weaken, not so much because of a lack of actual house buyers but because the market of the mortgage buyers will dry up.
Time will tell, but I would expect that as the 'discussion' coming out of Europe these days becomes more confusing with talk about countries going back to their 'old' currencies, leading to more confusion as large holders of Euro notes get nervous, we may see a surprise event, as the aforementioned real estate markets begin to unwind.
This also may have another surprise which will be a strengthening US dollar, since there may be no where else for holders of Euro notes to go, except into the dollar. Of course they will have to sell them first, which suggests a declining Euro market. If they don't want US dollars then there is gold as one option, with the Swiss franc being another.
It would be amusing if the Euro, once touted as the alternative to the dollar, has begun a decline that results in the dollar strengthening, as well as putting pressure on the physical market as savvy Europeans decide that owning physical gold may well be a necessary component of an individuals reserves. It would also be interesting if the long awaited collapse in real estate prices began in the South Pacific.
The Prof can be contacted by email at firstname.lastname@example.org
Copyright by Professor von Braun. All Rights Reserved. Reprinted at USAGOLD by permission.
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