We interrupt this update on Australia’s protracted electoral standoff with news that hangover from the global debt binge of the last 30 years just got a lot worse. Bad headaches. Indigestion. A rumbling from below.
Our story begins today in Ireland. Ratings agency Standard and Poor’s has lowered its long-term sovereign credit rating on the Emerald Isle to AA- from AA. S&P said, “The downgrade reflects our opinion that the rising budgetary cost of supporting the Irish financial sector will further weaken the government’s fiscal flexibility over the medium term.”
To be sure, to be sure, you get the feeling S&P could be saying that about a lot of governments in the next few years. Financial sectors in the Western world are still burdened with high levels of debts backed by commercial and residential real estate. To prevent those firms from failing, governments have assumed or backed their debts.
But that transfers the ultimate liability for failed private sector investment to the public sector. And the question then becomes: how much debt can the government guarantee before government debt itself comes into doubt? In Ireland, net government debt is headed toward 113% of GDP by the end of 2012. That’s too high, according to the S&P.
Stocks in Europe reacted as you’d expect. Most of the big indexes were down over one percent. And then came the very unwelcome news that the collateral underlying so many bank assets is under massive attack. Well, that’s how we’d put it. Technically, it was U.S. existing home sales. And officially, they were awful.
The U.S. National Association of Realtors reported yesterday that existing home sales in July were down 27% versus June and 26% from the same month last year. That’s about twice as bad as “the experts” had predicted and the lowest annual rate since the NAR began keeping track of such day.
The fact that there is now enough existing home inventory to meet demand (at this pace) for the next 12.5 months may not seem like it has any significance at all to Australia or Australians. But it does. To be sure, to be sure, one aspect of the U.S. housing bubble was a massive inventory expansion by homebuilders to meet the bogus “demand” created by cheap credit.
That inventory expansion never happened here in Australia. Hence the constant repetition of the idea that there’s a housing “shortage.” Blah blah blah. This is one of the facts cited by the bulls that apparently proves a crash cannot happen here.
But what yesterday’s U.S. numbers really reveal is that not even low interest rates can spur demand for credit when an asset class is in a bear market. The U.S. managed to “bring forward” housing finance demand with a tax credit for first time buyers that expired in April. That goosed demand for a bit.
It’s gone now, though. And what’s left is a market where the only buyers for houses are speculators. All these easy money tricks have exhausted any potential demand that might be out there. No, the prudent thing to do is wait for prices to do what they always do when demand flat lines: crash.
This is the possibility that spooked equity markets yesterday: that America isn’t growing in the second half of this year at all. In fact, the housing numbers indicate that the American household sector is in a world of hurt and could see more of its net worth wiped out.
Unless Australian share markets start tracking China and stop tracking America, this U.S. housing wipe-out part II is going to be a big fat negative for shares. And more importantly, investors are now realising that the huge household and sovereign debt problems in the West are nearly impossible to simply grow out of.
What are we looking for on the ASX/200? Keep 4,180 in mind. That is about the year-to-date intra-day low for the index. It reached those levels once in June and once in July. If the index breaches them in the next month, look out below.
But wait! What if all that is doomer porn and balderdash? Last night we ventured out to Flinders Lane to hear an alternative and intriguing presentation on what’s moving the markets and where they’re headed. During that presentation we were warned to keep our eye on one specific day: September 7th. Tomorrow, we’ll tell you why. Until then!
for The Daily Reckoning Australia