MoneyNews
Wednesday, Aug. 10, 2005

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1. Housing: Even More Red Flags

BusinessWeek warns of more "red flags" that the housing bubble may soon bust.

Here are some key points from BW's recent editorial:

• History tells us that we can never be certain of the existence of bubbles until after they pop. But the current U.S. housing frenzy is certainly starting to pass the smell test, at least in certain markets. Existing home prices have skyrocketed 29% since 2003, with white-hot markets like Las Vegas and San Diego seeing even greater gains. According to a survey by the National Association of Realtors, last year 23% of homes were bought as investments and an additional 13% as vacation homes. That means more than a third of homes that changed hands in 2004 were not primary residences. Many of those buyers are no doubt riding a horse called price appreciation, and so far they have been richly rewarded – or simply lucky.

• More worrisome, there is growing evidence that even owners of primary residences are raising their bets by increasing their leverage. A new report by mortgage giant Freddie Mac (FRE ) shows a continuing surge in so-called cash-out mortgage refinancings, where a homeowner pockets cash while increasing the size of his mortgage principal. For instance, 74% of Freddie Mac-owned loans that were refinanced in the second quarter resulted in new mortgages with loan amounts that were at least 5% higher than the original mortgage balances, the highest such share since early 2000. In contrast, only 9% of Freddie's refinancings resulted in lower loan amounts. In other words, the current borrower strategy is to take the money and run.
  
  
• Real estate's current spate of "irrational exuberance" is fine as long as personal income growth holds up, loan-to-value ratios don't increase, and financial institutions are careful to hand off risky loans and mortgage securities (which could quickly drop in value if cash-strapped owners start to default on their loans) to other investors. But that's a lot of ifs – especially at a time when fee-hungry lenders seem fixated on near-term profits and the lure of cheap money actually penalizes people for being too cautious.
  

2. Experts Agree: Japan Back on Track

It seems we weren't the only ones who picked up on continued signs of health from Japan when we recently reported on that country's measures to improve the value of bad loans held by its banking sector. 

Barron's published an article last week in which noted economist Carl Weinberg, of Valhalla's High Frequency Economics, declared an end to his bearish posturing on the Asian nation.

He sent a note to clients declaring that "the devilish Dr. Doom of Tokyo and quintessential Japan Bear wrote that the financial conditions in Japan may be improving enough to accommodate economic recovery."

Noting the impressive reduction in non-performing loans, Weinberg says the fact that banks are attempting to get their houses in order paves the way for an expansion of credit.

Japanese shares hit a 15-month high last week despite the country's government bond yields rising in line with other global bond movements. Some of the move is the result of continued excitement following China's decision to revalue its currency, the yuan.

But the Barron's report goes further, claiming that a key driver needed for a sustained bull move is a burst northward in the Korean stock market. Korea's investors are on the brink of pushing shares to an 11-year high as Asian economies continue to expand.

Plus, the Nomura Securities economics team states that the market still perceives Japanese stocks as suffering from poor corporate governance.

Add that to the mix and there's room for higher valuations ahead.

According to Nomura, the quarter ending in June saw surprisingly strong earnings – and profits are set to continue rising. The firm also cites a shot in the arm coming to equities as companies boost their dividends.

If foreign investors continue to favor Korea and do in fact push the Kospi index to new highs, Nomura predicts a further 10% rise in that index.

Considering the similarities between the Seoul and Tokyo stock markets – and the fact that they are trading neighbors – Barron's concludes that "if Korea's outstanding performance continues, expect good things for Japan."

3. Chinese Internet a Hot Investment?

Scouring the globe for investment opportunities has led investors to conclude that there is one thing hotter than China right now.

Speculators are pouring money into Chinese Internet companies.

Witness last week's IPO of Baidu.com, the Chinese equivalent of America's Google. Baidu's shares quadrupled on the day of the launch, bringing back strong memories of how IPOs used to be during the tech bubble.

Internet-monitoring service Alexa ranked Baidu.com at No. 6 in its global 500 rankings – despite the company's 2004 revenues, which were a meager $14 million.

Companies are increasing the stakes when it comes to getting in on the Chinese economic and Internet miracle.

So it's no surprise that Yahoo! has stepped up to the plate in a bid to buy a sizeable stake in online auction and trading web portal Alibaba.com.

Alibaba – which is also included on Alexa's list of the top 40 global companies – is at an advanced stage of talks with Yahoo!, whose

35% stake in the company might be worth as much as $1 billion.

That would make this the most expensive Internet purchase by a foreigner within China.

China is pushing the envelope in terms of Internet presence.

The rising tide of Internet and mobile phone users in the Asian nation has seen the presence of e-commerce swell, making it a valuable target for growing businesses.

Like Google and Microsoft, Yahoo! has already acquired a stake in other Chinese portals.

This move, however, might thwart the ambitions of eBay, which has also been buying up assets in Chinese online auction companies. It has also made overtures toward Alibaba.com.

For Alibaba, an alliance with Yahoo! could make more sense. That union would create less of an overlap in its core business than a deal with eBay would. Plus, Yahoo's search expertise could possibly outweigh anything that eBay could offer Alibaba.

Alibaba was formed in 1999 but was able to survive the burst of the tech bubble.

From Yahoo's perspective, they could be getting a bargain in light of the rapid rise in the valuation of Baidu.com.