Tuesday, July 10, 2007

Why I’ve warned about the spread of the subprime fallout

Home Depot expects its earnings per share this year to fall 15-18 percent from last year. It expects total retail sales to take a first-ever 1-2 percent drop.

Likely fallout? Well, HD is engaged in a massive stock buyback to lessen outside pressures. Will that be enough? If not, what’s next? Probably layoffs at Home Depot stores. Given consumer complaints about lack of service at Home Depots, though, the company could be putting itself in a vicious circle if it cuts too many employees.

And, there’s this:

And in yet one more sign of housing trouble, credit rating agency Standard & Poor’s said it's closely watching $12 billion in bonds backed by subprime mortgages, and could cut ratings because the agency does “not foresee the poor performance abating.”

In a published report on its Web site, S&P said the housing market is still struggling:

“We expect that the U.S. housing market, especially the subprime sector, will continue to decline before it improves, and home prices will continue to come under stress. Weakness in the property markets continues to exacerbate losses, with little prospect for improvement in the near term.

“Furthermore,” the report continued, “we expect losses will continue to increase, as borrowers experience rising loan payments due to the resetting terms of their adjustable-rate loans and principal amortization that occurs after the interest-only period ends for both adjustable-rate and fixed-rate loans.”

This last graf is key to why we haven’t reached bottom yet on the housing bubble.

The number of mortgages set to reset is nowhere near peaking yet. In fact, as the chart below shows, we have an increase of 60 percent, and a full year to go, before it crests. (Click on graphic for enlarged version.)

Cross-posted at Socratic Gadfly