In December 2008, Bernie Madoff owned up to having defrauded his ethnic mates of billions of US dollars using a “Ponzi Scheme”. He took in investment money and paid high returns consistently over many years to all of his investors. One analyst told the market and even the Securities Exchange Commission (SEC) in the US that the returns were too good to be true – but nobody believed him. No one else was making Madoff’s returns consistently, so when the Global Financial Crisis (GFC) hit around September 2008 (with the collapse of Lehmann Brothers), Madoff’s investors became nervous and wanted their money back and the whole house of cards fell to a heap. Madoff had been paying his high returns out of his ever increasing new money.
It is the largest financial investor fraud of all time with losses estimated to be over US$21billion. According to Wikipedia, the first person to defraud large numbers of people was Charles Ponzi, an Italian who migrated to the USA in 1903. He did not invent the scheme however, because Charles Dickens described such a scheme in his novel ‘Little Dorrit’ decades before.
So what does the Ponzi scheme have to do with Ponzi borrowers? Not much really, particularly as a Ponzi scheme is fraudulent. But it does create a sensational headline for The Australian on August 8th, 2010 in an article suggesting investors in property are in danger of inflating a housing bubble.
Apparently Morgan Stanley’s chief strategist, Gerard Minack believes that “investors are riskily relying on capital gains to repay their loans and interest.” No bank however is going to lend more than 100% of loan valuation. It is true, all banks know that historically inflation has made loans (over their 20-30 year lives) look small compared to house value. Nevertheless, at loan signing and in most cases for many years the only way to repay a loan is through blood, sweat and tears. Only this week though the Commonwealth Bank was very pleased to point out that by far the majority of its borrowers are ahead on their repayments. Jonathon Chancellor too wrote this week that “peddlers of house-price doom were off the mark” (Sydney Morning Herald 16th August, 2010) especially when you compare the Australian situation with that in the USA.
The number of foreclosures in the US reached 325,229 in July 2010 alone (a new record) with lenders seizing a staggering 92,858 properties. NSW had approximately 200 repossession actions lodged in July (1198 in the first 6 months of 2010). If you multiply 200 by 55 (US population compared with that of NSW) you get 11,000 seizures vs 92,858 in the US. Then you begin to realise how bad things really are in America right now.
When you add US public debt of US$14 trillion against a GDP of US$15 trillion (Australia’s public debt is AUD$150 billion with a GDP of AUD$1,300 billion) you have to wonder how the US dollar can continue to defy gravity. Conversely the Australian dollar is surely going to keep rising, certainly later this year.
Unfortunately, with an historic hung parliament comes political instability which will lead to softness in the Australian Dollar (AUD), the stock market and possibly the real estate market until the situation stabilises. Hopefully the independents will be true to their word and work in the national interest.
