Market Outlook from Dave Rosenberg

At the lows in the equity market last March, the S&P 500 was de facto pricing in -2.5% real GDP and $50 of operating earnings for the year. Guess what? Far from being grossly undervalued at the lows (though some stocks were — especially the financials, which were priced for bankruptcy) the market at the lows was fairly priced on a price-to-book and price-to-earnings basis. Usually at bear market lows, the S&P 500 goes to silly cheap levels. It never did this time around, and five months and 50% later, there is yet again, in 2007-style, tremendous risk in this market. Never before has the stock market surged this far, this fast, between the time of the low and the time the recession (supposedly) ended. What is “normal” is that the rally-ahead-of-the-recovery is 20%. This market is now trading as if we are in the second half of a recovery phase and yet it is not even been fully ascertained that the downturn is over — a one-quarter spurt in automotive production and sales induced by Cash-for-Clunkers is not enough to support the widespread assertion that the recession is behind us (the odds of a fourth quarter relapse, especially in the U.S. consumer, are non-trivial). This does not mean to say that a momentum and technically driven market can't go even higher over the near-term — equity prices have already surged to levels that have taken us by surprise. The memory of the recession and credit crisis seems to have faded and greed has very quickly replaced whatever fear there was that gripped the market through last winter. Market psychology has shifted dramatically — to the point where Intel's "positive guidance" is taken as a positive even though prior estimates were lowered to the basement floor, and now payroll declines of 250k are treated with a palpable sense of relief. Housing and autos bottomed because of massive government intervention but it is unclear what the economy looks like absent all of the medication. The history of post-bubble credit collapses is replete with examples of lingering economic fragility long after the hurricane passes, and initial bursts of euphoria at the first whiff of recovery — as we saw in 1932 and 2002 in the U.S.A. and 1991 in Japan — are proven to be unsustainable. Investors are frustrated to have missed out on the rally from the March lows, but what they must appreciate is those who went long the market this year had to ride out the sharp decline in the first three months of the year and took on substantial risk to achieve their outsized capital gains. A 50% bounce off the lows — and who exactly bought at the lows — came at the cost of too many sleepless nights, in our opinion. We will take a longer term view and await either better pricing or more conclusive signs that the private sector can stand on its own two feet — or a combination of both. Buying at or near the highs is not a winning strategy. Remember — the reason the tortoise won the race is because the hare tired himself out. Housing and autos bottomed because of government intervention… but what will the economy look like absent all of the medication. Remember, Mr. Dow and Mrs. Jones are not always rational beings We have been willing to express a cyclical view more through the fixed-income market, namely our corporate bond and premium income strategies. Based on our research, Baa corporate bonds were pricing -10% at the widest spread levels, not -2.5% as the stock market was at the lows. Now that is silly-cheap and while the low-hanging fruit has ready been picked in the credit space, the corporate bond market is currently priced for 2% real GDP growth, not 4%. In other words, there is less risk in credit than there is in the equity market even after corporate spreads have been sliced in half from their depression-era levels. Remember — Mr. Dow and Mrs. Jones are not always rational beings. At the stock marker highs of October 2007, equity valuation was embedding a 5.0-5.5% GDP growth profile. What did we end up with? Try -1.8% on average over the next four quarters. In our research, we discovered that IF the stock market had priced in the true Armageddon -10% growth trajectory that the credit market had been discounting at its worst levels, the S&P 500 would have bottomed around the 315 mark. This puts the 666 diabolical low, as horrific as it appeared, into proper perspective. Flipping the analysis around, what if the stock market was pricing in the same 2% growth rate that the corporate bond market is now discounting. Answer is, 842 on the S&P 500. So, if you're asking us if we think we will see a 20% correction, the answer is yes. The next question is what peak level we correct from — or if in fact we have already seen the peak as the venerable Doug Kass has suggested (and echoed by the likes of Art Cashin today on page B1 of the NYT — “The people who know are getting out early … this rally’s a little long in the tooth”. Whether there is 100 points left in the S&P 500 from here to the upside over the near-term, it is seldom wise to chase an overvalued market to the top unless you are gifted enough to know when to call it quits. JP Morgan was fond of saying “I never buy at lows, I never sell at the highs, I play the middle 60%” (he actually told us this at a séance last week). Well, from our lens, we are well past that middle 60% point of this bear market rally. To reiterate, the equity market is overvalued and carries too much risk right now Indeed, when we look at the history books, to see what happens after the P/E multiple on trailing earnings pierces the 25x threshold, the average total return a year out is -0.3% and the median is -6.2%. The total return is negative a year later 60% of the time, so when we say that there is too much growth and too much risk embedded in the equity market right now, we like to think that we have history on our side. The next question naturally is where Baa spreads should be trading if it were to align itself with the 4% real GDP growth implicit in equity prices. The answer is, 200bps spreads over Treasuries or about 100bps tighter than they are today. To reiterate, the equity market is overvalued and carries too much risk right now. No sense paying Cadillac prices for a Ford Focus. In deflationary times, it pays to identify who has the pricing power and in the current context that means primary producers. So in addition to credit, commodities have also been an effective way to express a cyclical view this year. But commodities are more sensitive to global growth than is the case for equities, or corporate bonds for that matter, since Asia is the marginal buyer of basic materials. Our analysis shows that the CRB index is discounting between 2.5% and 3.0% global growth for the coming year, not wildly off the 2.0% consensus forecast despite oil prices more than doubling from the lows of earlier this year. In fact, the energy complex is only priced for 1.75% global growth versus 2.25-2.50% for forest products, and 3.00-3.25% for the base metals. So the oil price, followed by lumber/paper products would seem to have greater upside potential currently than say, copper and nickel.

Commercial Real Estate Lurks as Next Potential Mortgage Crisis

By LINGLING WEI and PETER GRANT Federal Reserve and Treasury officials are scrambling to prevent the commercial-real-estate sector from delivering a roundhouse punch to the U.S. economy just as it struggles to get up off the mat. Their efforts could be undermined by a surge in foreclosures of commercial property carrying mortgages that were packaged and sold by Wall Street as bonds. Similar mortgage-backed securities created out of home loans played a big role in undoing that sector and triggering the global economic recession. Now the $700 billion of commercial-mortgage-backed securities outstanding are being tested for the first time by a massive downturn, and the outcome so far hasn't been pretty. The CMBS sector is suffering two kinds of pain, which, according to credit rater Realpoint LLC, sent its delinquency rate to 3.14% in July, more than six times the level a year earlier. One is simply the result of bad underwriting. In the era of looser credit, Wall Street's CMBS machine lent owners money on the assumption that occupancy and rents of their office buildings, hotels, stores or other commercial property would keep rising. In fact, the opposite has happened. The result is that a growing number of properties aren't generating enough cash to make principal and interest payments. The other kind of hurt is coming from the inability of property owners to refinance loans bundled into CMBS when these loans mature. By the end of 2012, some $153 billion in loans that make up CMBS are coming due, and close to $100 billion of that will face difficulty getting refinanced, according to Deutsche Bank. Even though the cash flows of these properties are enough to pay interest and principal on the debt, their values have fallen so far that borrowers won't be able to extend existing mortgages or replace them with new debt. That means losses not only to the property owners but also to those who bought CMBS -- including hedge funds, pension funds, mutual funds and other financial institutions -- thus exacerbating the economic downturn. A typical CMBS is stuffed with mortgages on a diverse group of properties, often fewer than 100, with loans ranging from a couple of million dollars to more than $100 million. A CMBS servicer, usually a big financial institution like Wachovia and Wells Fargo, collects monthly payments from the borrowers and passes the money on to the institutional investors that buy the securities. CMBS, of course, aren't the only kind of commercial-real-estate debt suffering higher defaults. Banks hold $1.7 trillion of commercial mortgages and construction loans, and delinquencies on this debt already have played a role in the increase in bank failures this year. But banks' losses from commercial mortgages have the potential to mount sharply, and the high foreclosure rate in the CMBS market could play a role in this. Until now, banks have been able to keep a lid on commercial-real-estate losses by extending debt when it has matured as long as the underlying properties are generating enough cash to pay debt service. Banks have had a strong incentive to refinance because relaxed accounting standards have enabled them to avoid marking the value of the loans down. "There is no incentive for banks to realize losses" on their commercial-real-estate loans, says Jack Foster, head of real estate at Franklin Templeton Real Estate Advisors. CMBS are held by scores of investors, and the servicers of CMBS loans have limited flexibility to extend or restructure troubled loans like banks do. Earlier this month, it was no coincidence that CMBS mortgages accounted for the debt on six of the seven Southern California office buildings that Maguire Properties Inc. said it was giving up. "During most of the evolution [of CMBS] no one ever thought all these loans would go into default," says Nelson Rising, Maguire's chief executive. Indeed, many property developers and investors complain there is no way to identify the investors that hold their debt and that it is difficult to negotiate with CMBS servicers. In light of the complaints, the Treasury is considering guidance that would allow servicers to start talking about ways to avoid defaults and foreclosures sooner, according to people familiar with the matter. But investors in CMBS bonds argue that the servicers are ultimately bound contractually to the bondholders. So Maguire will soon have a lot of company. In a study for The Wall Street Journal, Realpoint found that 281 CMBS loans valued at $6.3 billion weren't able to refinance when they matured in the past three month, even though 173 such loans worth $5.1 billion were throwing off more than enough cash to service their debt. Mounting foreclosures in the CMBS sector would likely depress values even further as property is dumped on the market. And this would put pressure on banks to write down loans. "What's going on in the CMBS world is a precursor for what might be seen in banks' books," predicts Frank Innaurato, managing director at Realpoint. The commercial-real-estate market could yet be salvaged by an improving economy and bailout programs coming out of Washington. In addition, capital markets are starting to ease for publicly traded real-estate investment trusts. Since March, more than two dozen REITs have managed to raise more than $13 billion by selling shares. Still, most of the $6.7 trillion in commercial real estate is privately owned. Also, it is unlikely commercial real estate will benefit much from an early stage of an economic recovery. What landlords need is occupancy and rents to rise, and that means employers have to start hiring and consumers need to shop more. So far, there are few signs this is happening. Write to Lingling Wei at lingling.wei@dowjones.com and Peter Grant at peter.grant@wsj.com

Big is back

Aug 27th 2009 From The Economist print edition Corporate giants were on the defensive for decades. Now they have the advantage again IN 1996, in one of his most celebrated phrases, Bill Clinton declared that “the era of big government is over”. He might have added that the era of big companies was over, too. The organisation that defined capitalism for much of the 20th century was then in retreat, attacked by corporate raiders, harassed by shareholders and outfoxed by entrepreneurs. Great names such as Pan Am had disappeared. Others had survived only by dint of huge bloodletting: IBM sacked 122,000 people, a quarter of its workforce, between 1990 and 1995. Everyone agreed that the future lay with entrepreneurial start-ups such as Yahoo!—which in late 1998 had the same market capitalisation with 637 employees as Boeing with 230,000. The share of GDP produced by big industrial companies fell by half between 1974 and 1998, from 36% to 17%. Today the balance of advantage may be shifting again. To a degree, the financial crisis is responsible. It has devastated the venture-capital market, the lifeblood of many young firms. Governments have been rescuing companies they consider too big to fail, such as Citigroup and General Motors. Recession is squeezing out smaller and less well-connected firms. But there are other reasons too, which are giving big companies a self-confidence they have not displayed for decades. Big can be beautiful… Of course, big companies never went away. There were still plenty of first-rate ones: Unilever and Toyota continued to innovate through thick and thin. And not all start-ups were models of success: Netscape and Enron promised to revolutionise their industries only to crash and burn. Nevertheless, the balance had shifted in favour of small organisations. The entrepreneurial boom was supercharged by two developments. Deregulation opened protected markets. Some national champions, such as AT&T, were broken up. Others saw their markets eaten up by swift-footed newcomers. The arrival of the personal computer in the 1970s and the internet in the 1990s created an army of successful start-ups. Steve Jobs and Steve Wozniak founded Apple Computer in 1976 in the Jobs family’s garage. Microsoft and Dell Computer were both founded by teenagers (in 1975 and 1984 respectively). Larry Page and Sergey Brin started Google in Stanford dorm rooms. But deregulation had already begun to go out of fashion before the financial crisis. The Sarbanes-Oxley act, introduced after Enron collapsed in disgrace, increased the regulatory burden on companies of all sizes, but what could be borne by the big could cripple the small. Many of today’s most dynamic industries are much more friendly to big companies than the IT industry. Research in biotechnology is costly and often does not bear fruit for years. Natural-resource companies, whose importance grows as competition for resources intensifies, need to be big—hence the mining industry’s consolidation. Two further developments are shifting the balance of advantage in favour of size. One is a heightened awareness of the risks of subcontracting. Toy companies and pet-food firms alike have found that their brands can be tainted if their suppliers (notably, from China) turn out shoddy goods. Big industrial companies have learned that their production cycles can be disrupted if contractors are not up to the mark. Boeing, once a champion of outsourcing, has been forced to take over faltering suppliers. A second is the emergence of companies that have discovered how to be entrepreneurial as well as big. These giants are getting better at minimising the costs of size (such as longer, more complex chains of managerial command) while exploiting its advantages (such as presence in several markets and access to a large talent pool). Cisco Systems is pioneering the use of its own video technology to improve communications between its employees (see article). IBM has carried out several company-wide brainstorming exercises, recently involving more than 150,000 people, that have encouraged it to put more emphasis, for example, on green computing. Disney has successfully ingested Pixar’s creative magic. You might suppose that the return of the mighty, now better equipped to crush the competition, is something to worry about. Not necessarily. Big is not always ugly just as small is not always beautiful. Most entrepreneurs dream of turning their start-ups into giants (or at least of selling them to giants for a fortune). There is a symbiosis between large and small. “Cloud computing” would not provide young firms with access to huge amounts of computer power if big companies had not created giant servers. Biotech start-ups would go bust were they not given work by giants with deep pockets. The most successful economic ecosystems contain a variety of big and small companies: Silicon Valley boasts long-established names as well as an ever-changing array of start-ups. America’s economy has been more dynamic than Europe’s in recent decades not just because it is better at giving birth to companies but also because it is better at letting them grow. Only 5% of European Union companies born since 1980 have made it into the list of the 1,000 biggest in the EU by market capitalisation. In America, the figure is 22%. …but size isn’t really what matters The return of the giants could well be a boon for the world economy—but only if business people and policymakers avoid certain pitfalls. Businesses should not make a fetish of size, particularly if this means diversifying into a lot of unrelated areas. The conglomerate model may be tempting when cash is hard to find. But the moment will not last. By and large, the most successful big firms focus on their core businesses. Policymakers should both resist an instinctive suspicion of big companies (see article) and avoid the old error of embracing national champions. It is bad enough that governments have diverted resources into propping up failing companies such as General Motors. It would be even more regrettable if they were to return to picking winners. The best use of their energies is to remove the burdens and barriers which prevent entrepreneurs from starting businesses and turning small companies into big ones.

Banks on Sick List Top 400

Industry's Health Slides as Bad Loans Pile Up; Deposit-Insurance Fund Shrinks By DAMIAN PALETTA and DAVID ENRICH The banking industry continues to deteriorate, with federal regulators adding 111 lenders to their list of endangered banks in the latest quarter, even as the economy shows signs of stabilizing. Data released Thursday painted a gloomy picture of the state of banking. The government fund that protects consumer deposits fell to its lowest level since 1993. The continuing woes, which come despite trillions of dollars in government rescue financing and a rebounding stock market, raised questions about how quickly the economy can revive. The Federal Deposit Insurance Corp. said it had 416 banks on its "problem list" at the end of June, equivalent to about 5% of the nation's banks, up from 305 at the end of March and 117 at the end of June 2008. Problem banks had a combined $299.8 billion of assets at the end of June, compared with $78.3 billion a year ago. Landing on the FDIC's problem list means a bank is at a high risk of insolvency. State and federal regulators have already shut 81 banks this year. "It's a continuation of the deterioration across the industry," said Gerard Cassidy, a bank analyst with RBC Capital Markets. "We think there are hundreds of failures to come." The FDIC's insurance fund, which guards $6.2 trillion in U.S. deposits, fell to $10.4 billion at the quarter's end, the lowest since mid-1993. This is after the agency had provisioned $32 billion to account in anticipated bank failures during the coming 12 months. The agency is backed by the full faith and credit of the U.S. government, and depositors haven't lost a penny of insured deposits since it was created in 1933. Its fund stood at more than $50 billion last year. Bankers and analysts say the FDIC's latest figures boost the odds of the agency having to replenish its fund by imposing a new fee on banks. The fund is typically supplied that way. The FDIC data provided at least one ray of hope. The percentage of delinquent loans -- that is, borrowers who are 30 to 89 days past due -- declined modestly in the second quarter. That suggests loan defaults might be nearing their peak. The swelling of the problem list could be a harbinger of further industry consolidation, analysts said. Large, healthy banks, several of which have paid back their government-rescue funds, are "chomping at the bit" to buy failed lenders from the FDIC, and Thursday's report is likely to further whet their appetites, said Ed Najarian, head of bank research at International Strategy & Investment Group Inc. "They're looking at it as more opportunity to acquire banks." Banks are also facing extra scrutiny from state and federal officials, another reason they are cautious. For example, the FDIC said loans to small firms declined 1.9% in the past year. "That slows job creation and affects corporate spending" and could prove a hindrance to an economic recovery, said Lou Crandall, chief economist at research firm Wrightson ICAP. At a news conference Thursday, FDIC Chairman Sheila Bair acknowledged "credit problems will outlast the recession by at least a couple of quarters." Ms. Bair said FDIC officials were in discussions with the Treasury Department about ways to direct more government capital to smaller, community banks. The Treasury Department's Troubled Asset Relief Program still has $13.6 billion that can be invested in these banks. The Obama administration, in its latest budget forecasts, has indicated it doesn't intend to ask for more funds from Congress. The banking industry lost $3.7 billion in the second quarter, mostly because banks wrote off $48.9 billion in soured loans and put away $66.9 billion to cover potential future losses. But loans are souring faster than banks are stockpiling cash. The FDIC said the industry's ratio of reserves to bad loans was just 63.5%, the lowest level since 1991, amid the crisis in the savings-and-loan sector. The FDIC data underscore how the pain continues to spread beyond real-estate loans. In the second quarter, defaults on commercial and industrial loans more than doubled from a year earlier. Credit-card losses climbed to a record 9.95%. Banks are sitting on $332 billion of loans more than 90 days past due and therefore at high risk of default. That is up by $41 billion at the end of March, and the highest level since the FDIC started collecting data 26 years ago. Banks are holding more than $34 billion in repossessed real estate, according to a Wall Street Journal analysis of the FDIC data. Even as banks modify billions of dollars of mortgages, their pools of foreclosed properties keep growing, up 12% from the prior three months and 72% from a year before. They now stand at the highest level since 1993. With the U.S. jobless rate nearing 10%, even borrowers once deemed low-risk are falling behind on home payments, said Sanjiv Das, head of Citigroup Inc.'s mortgage business. While mortgage defaults had been concentrated largely among subprime borrowers, "now there's a second phenomenon, with prime rising," Mr. Das said. He said the rise in mortgage delinquencies among these less-risky borrowers is infecting a "substantially larger" pool of loans and is likely to cause more foreclosures. Mr. Das said he worries that the trend could torpedo recent gains in housing prices. Blunting bank losses are new fees and higher interest rates charged to consumers. In the second quarter, banks pocketed nearly $22 billion from service charges on deposit accounts, according to the Journal analysis, more than double the first quarter and up 5% from last year. Getty Images FDIC Chairman Sheila Bair briefs the media on the bank-and-thrift industry earnings for the second quarter of 2009 on Aug. 27. FDIC officials face a tough decision in the next few months about the dwindling insurance fund. The FDIC could hit the banking industry with a special fee, the second this year, bringing in a likely $5.6 billion. Or it could tap a pre-existing $100 billion credit line with the Treasury and pay the money back later. The FDIC borrowed from the Treasury during the savings and loan crisis, the last time the fund went into the red. Ms. Bair said Thursday that she had no plans "at this point" to seek the Treasury's assistance, but added: "Never say 'never.'" There are pitfalls either way. Executives at big banks say a second fee would amount to healthy institutions being forced to subsidize their weaker rivals. But borrowing money from the Treasury could send the unwanted signal that the FDIC needs its own bailout, fanning fears about the agency's solvency and worrying consumers -- precisely the opposite of what the FDIC is designed to do. —Maurice Tamman contributed to this article. Write to Damian Paletta at damian.paletta@wsj.com and David Enrich at david.enrich@wsj.com

China Unicom Strikes iPhone Deal

By LORRAINE LUK and AARON BACK HONG KONG -- China Unicom Ltd. clinched an exclusive deal to sell Apple Inc.'s iPhone in China, bringing the popular device to the world's largest mobile market in terms of subscribers. The country's second-largest mobile phone operator after China Mobile Ltd. said it has signed a three-year agreement to purchase iPhones from Apple on a wholesale basis. The two companies' deal doesn't include revenue sharing. China Unicom hopes the iPhone will give it a long-sought competitive edge over its larger rival, China Mobile, allowing it to attract an elite customer base in Chinese cities, where cellphones are often status symbols. China Unicom had 141 million users at the end of July, compared with 498 million for China Mobile, the most of any carrier in the world. China Unicom offers third-generation mobile services based on the wide band code division multiple access technology widely used in Europe and Asia. China Mobile is saddled with a less-mature, domestically developed 3G mobile standard. Nonetheless, it is planning to roll out several high-end phones to vigorously compete for 3G market share. On Monday, Taiwanese phone maker HTC Corp. announced plans to launch seven 3G phones with China Mobile, including at least one running on Google Inc.'s Android operating system. China Mobile has also announced plans to release 3G phones with international partners such as Nokia Corp. and Samsung Electronics Co. China's third major wireless carrier, China Telecom Ltd., is in talks with Research In Motion Ltd. to offer its Blackberry handsets in China, and with Palm Inc., maker of the Palm Pre handset. China Telecom had 42 million wireless users at the end of July. China Unicom Chairman and Chief Executive Chang Xiaobing said at a news briefing that the company will offer two versions of the third-generation iPhone in the fourth quarter. Mr. Chang said China Unicom will offer subsidies to customers who buy the handset, lowering its price, but didn't elaborate on the level of the subsidy. The phone will boost China Unicom's average revenue per user, said the executive. The company's mobile average revenue per user fell to 41.7 yuan in the six months ended June from 43.6 yuan a year earlier. Investors are eagerly anticipating details on pricing for the phone and the service package, which weren't disclosed Friday. Mr. Chang said the phone will be sold with its Wi-Fi Internet function disabled, which is required by Chinese regulations. Apple spokesman Alan Hely confirmed the deal with China Unicom, but declined to give further details. It remains to be seen how much of a hit the iPhone will be in China. China's unique, character-based language means user interfaces popular in Western countries don't always catch on with local users. There is also already an underground market for iPhones in China, which are hacked to enable them to work on any network carrier. Beijing-based research firm BDA China Ltd. estimates that there are 1.5 million such iPhones in China already. The iPhone deal comes alongside the rollout of China Unicom's new 3G network. Mr. Chang said Friday that the official commercial launch of the network will be on September 28, covering 285 cities. It plans to expand its 3G network coverage to 335 cities by the end of this year. China Unicom Executive Director and President Lu Yimin said the company aims to take more than one-third of China's 3G mobile market next year, adding the company expects 3G users will make up 20% of China's mobile market in 2010. China Unicom's announcement on the Apple deal came as the company said its first-half net profit fell 45% from a year earlier, dragged down by a decline in its fixed-line business and intensified market competition. Net profit for the six months ended June 30 fell to 6.62 billion yuan ($970.4 million) from a restated 12.09 billion yuan a year earlier. Revenue fell 6.3% to 76.32 billion yuan from a restated 81.46 billion yuan a year earlier. Chief Financial Officer Tong Jilu said the company expects its net profit to stabilize in the second half on stringent cost control and continued growth in mobile revenue. The company restated the year-earlier figures to reflect its merger with fixed-line operator China Netcom Group Corp. in October. Write to Lorraine Luk at lorraine.luk@dowjones.com and Aaron Back at aaron.back@dowjones.com

Apple, Facing Competition, Readies iPhone for Launch in Giant China Market

By LORETTA CHAO, JULIET YE and YUKARI IWATANI KANE Apple Inc. is getting closer to clearing the hurdles to start selling iPhones in China, one of the last major phone markets Apple has yet to tap. The release of the iPhone in China could turbocharge overseas growth for what is already Apple's fastest-growing product. China is the world's largest mobile market by subscribers, with some 687 million subscribers. That compares with more than 270 million subscribers in the U.S. The iPhone hasn't sold as well in some markets as in the U.S. In Japan, for example, the Apple brand isn't as strong, and regular mobile phones offer many of the same features. In China, however, touch screens are hot, and there are already a number of popular models that have no keypads. The Apple name has value as a status symbol, and Internet usage through cellphones is increasing. Steve Jobs iPhone iPhone Apps Smartphones Toni Sacconaghi, an analyst with Sanford C. Bernstein & Co., calculates Apple can sell 2.9 million iPhones in China by the end of 2011. "Ultimately, it will probably be the fastest-growing overseas market," he said. But Apple faces competition from other smart phones that are set to launch in China in coming months. And analysts say the iPhone has struggled in overseas markets, where it has faced more competition from rivals like Nokia Corp., the world's largest mobile phone maker. "Apple's brand is strongest at home, where the competition is weaker," said Edward Synder, an analyst for San Francisco-based Charter Equity Research. Apple's iPhone, which launched two years ago, has so far sold more than 26 million units world-wide in more than 80 countries, but the majority of its sales have come from the U.S. According to research firm IDC, only 7% of total iPhone sales in the second quarter, ended in June, came from the Asia Pacific, where it is sold in countries like Australia, Hong Kong and India, compared with 49% from the U.S. and 25% from Western Europe. Other sales come from markets in Japan, Latin America, Canada and the Middle East. An iPhone prototype that was modified for the China market recently received one of the technical licenses the government requires for mobile phones, according to a testing center under the Ministry of Industry and Information Technology. It is unclear how many approvals are required before the phone can be released. Apple must still complete negotiations with state-owned wireless operator China Unicom (Hong Kong) Ltd., which is expected to carry the iPhone, but analysts say those talks are nearing conclusion. Beijing-based research firm BDA China Ltd. said in a report this month that the iPhone is "now finally set to make its official debut in China in October," citing interviews with companies including Unicom. Cynthia Meng, analyst for Merrill Lynch in Hong Kong, said in a report that she also expects the iPhone to launch in the fourth quarter this year, in conjunction with Unicom's planned launch of 3G in October. A China Unicom spokeswoman said negotiations are still being finalized, and declined further comment. A spokesperson for Apple declined to comment. In an earnings call in July, Apple Chief Operating Officer Tim Cook said the Cupertino, Calif., company expects to start selling iPhones in China within a year. Competing products are already in the works in China, adding urgency to the iPhone's launch. China Mobile Ltd., the country's largest carrier by subscribers, plans to start selling smart phones with similar functions to the iPhone this year based on Google Inc.'s Android operating system. On Monday, Taiwanese phone maker HTC Corp. announced it plans to launch seven third-generation phones, including at least one Android phone, with China Mobile by next year. China Unicom, which holds the only license for the WCDMA 3G technology compatible with the iPhone, is China's second-largest carrier. Apple has faced regulatory hurdles to launching the iPhone in China, including having to comply with a government rule that requires the removal of the device's wireless Internet function. Analysts say they expect a later rollout of a Wi-Fi enabled iPhone that complies with newly revised regulations. Launching the iPhone in China would likely boost Apple's small presence in the country. Apple currently has less than 1% market share in personal-computer shipments in China. In the second quarter, Apple sold only about 36,000 units out of 11.7 million PCs shipped in China, according to IDC. One indication of the iPhone's strong potential in China is the thriving underground iPhone market that already exists there. Though the device isn't officially available, BDA estimates there are already 1.5 million iPhones in use in China, and the handset is on sale everywhere from online vendors to resellers of Apple products in sprawling electronics malls. People can use the iPhone and buy applications on Apple's iTunes store by unlocking the device with software that enables it to work with any network operator, even if they aren't approved by Apple. Jessica Wu, a 26-year-old iPhone user in Nanjing, said she bought her first-generation eight-gigabyte iPhone in Nanjing in 2008 for 4,600 yuan ($675). Other high-end phones "seemed expensive and too professional" compared with the iPhone, she said. "The [iPhone's] icons are cute." "People are paying close attention [to the release of the iPhone]," said Ms. Deng, who declined to give her first name, a saleswoman at an Apple reseller in Beijing called Dragonstar. "We've already gotten a couple of phone calls from our clients placing orders for iPhones as soon as they arrive." The iPhone will likely raise China Unicom's profile as it has for other iPhone operators that have seen their data revenue increase. In Europe, the iPhone has just 15% of smart-phone market share but represents 90% of the total data usage on networks, according to IDC. Ms. Meng of Merrill Lynch rated Unicom a "buy," saying the introduction of the iPhone and other data-intensive smart devices "will be critical catalysts for Unicom to retain and attract mid-to-high end subscribers in highly penetrated urban markets." How strongly the iPhone sells in China will depend on the subsidy China Unicom provides for it, analysts say. Chinese consumers spend an average of 1,100 yuan, or about $160, on cellphones, according to BDA. For comparison, the newest iPhone 3GS model starts at $199 in the U.S. with a two-year service contract, and $599 without any service commitment. In China, Apple and its operator partner face another challenge: most users prefer to prepay for services rather than subscribe to a monthly service. Average monthly revenue per user in China is also less than $6, in part because overall charges are lower, compared with about $60 for AT&T Inc., the exclusive iPhone provider in the U.S. Still, the payoff could be huge for Apple. Xiang Ligang, chief executive of Chinese telecommunications news portal Cctime.com, estimates 100 million mobile phone users in China change their phones every year and about 20 million of those buy high-end mobile phones. In some of the biggest cities especially, mobile phones are often seen as status symbols and high-end cellphones typically cost upwards of 3,000 yuan. Write to Loretta Chao at loretta.chao@wsj.com, Juliet Ye at juliet.ye@wsj.com and Yukari Iwatani Kane at yukari.iwatani@wsj.com

U.S. Biofuel Boom Running on Empty

By ANN DAVIS and RUSSELL GOLD The biofuels revolution that promised to reduce America's dependence on foreign oil is fizzling out. Two-thirds of U.S. biodiesel production capacity now sits unused, reports the National Biodiesel Board. Biodiesel, a crucial part of government efforts to develop alternative fuels for trucks and factories, has been hit hard by the recession and falling oil prices. The global credit crisis, a glut of capacity, lower oil prices and delayed government rules changes on fuel mixes are threatening the viability of two of the three main biofuel sectors -- biodiesel and next-generation fuels derived from feedstocks other than food. Ethanol, the largest biofuel sector, is also in financial trouble, although longstanding government support will likely protect it. Earlier this year, GreenHunter Energy Inc., operator of the nation's largest biodiesel refinery, stopped production and in June said it may have to sell its Houston plant, only a year after politicians presided over its opening. Dozens of other new biodiesel plants, which make a diesel substitute from vegetable oils and animal fats, have stopped operating because biodiesel production is no longer economical. Producers of next-generation biofuels -- those using nonfood renewable materials such as grasses, cornstalks and sugarcane stalks -- are finding it tough to attract investment and ramp up production to an industrial scale. The sector suffered a major setback this summer after a federal jury ruled that Cello Energy of Alabama, a plant-fiber-based biofuel producer, had defrauded investors. Backed by venture capitalist Vinod Khosla, Cello was expected to supply 70% of the 100.7 million gallons of cellulosic biofuels that the Environmental Protection Agency planned to blend into the U.S. fuel supply next year. The alleged fraud will almost certainly prevent the EPA from meeting its targets next year, energy analysts say. The wave of biodiesel failures and Cello's inability to produce even a fraction of what it expected have spooked private investors, which could further delay technology breakthroughs and derail the government's green energy objectives. "If your investors are losing money in first-generation biofuels, I guarantee you they'll be more reluctant to put money into more biofuels, including next-generation fuels," says Tom Murray, global head of energy for German bank WestLB, one of the leading lenders to ethanol and biodiesel makers. Domestically produced biofuels were supposed to be an answer to reducing America's reliance on foreign oil. In 2007, Congress set targets for the U.S. to blend 36 billion gallons of biofuels a year into the U.S. fuel supply in 2022, from 11.1 billion gallons in 2009. That would increase biofuels' share of the liquid-fuel mix to roughly 16% from 5%, based on U.S. Energy Information Administration fuel-demand projections. View Full Image Bloomberg News Venture capitalist Vinod Khosla. Corn ethanol, which has been supported by government blending mandates and other subsidies for years, has come under fire for driving up the price of corn and other basic foodstuffs. While it will continue to be produced, corn ethanol's dominant role in filling the biofuels' blending mandate was set to shrink through 2022. Cellulosic ethanol, derived from the inedible portions of plants, and other advanced fuels were expected to surpass corn ethanol to fill close to half of all biofuel mandates in that time. But the industry is already falling behind the targets. The EPA, which implements the congressional blending mandates, still hasn't issued any regulations to allow biodiesel blending, though they were supposed to start in January. The mandate to blend next-generation fuels, which kicks in next year, is unlikely to be met because of a lack of enough viable production. "I don't believe there's a man, woman or child who believes the industry can hit" the EPA's 2010 biofuel blending targets, says Bill Wicker, spokesman for Sen. Jeff Bingaman of New Mexico, chairman of the Senate Energy Committee. The business models for most biofuel companies were predicated on a much higher price of crude oil, making biofuels more attractive. A government-guaranteed market was also central to business plans. But once blending mandates were postponed, oil prices plunged and the recession crushed fuel demand, many biodiesel companies started operating in the red. Even ethanol producers, which have enjoyed government subsidies and growing federal requirements to blend it into gasoline, have been operating at a loss over the past year. Numerous established producers have filed for Chapter 11 bankruptcy-court protection. Critics of the biofuels boom say government support helped create the mess in the first place. In 2007, biofuels including ethanol received $3.25 billion in subsidies and support -- more than nuclear, solar or any other energy source, according to the Energy Information Administration. With new stimulus funding, this figure is expected to jump. New Energy Finance Ltd., an alternative-energy research firm, estimates that blending mandates alone would provide over $33 billion in tax credits to the biofuels industry from 2009 through 2013. Not all biofuels may be worth the investment because they divert land from food crops, are expensive to produce and may be eclipsed by the electric car. One fact cited against biofuels: If the entire U.S. supply of vegetable oils and animal fats were diverted to make biodiesel, production still would amount to at most 7% of U.S. diesel demand. Producers and investors now are pushing for swift and aggressive government help. Biodiesel makers are lobbying to kick-start the delayed blending mandates immediately and extend biodiesel tax credits, which expire in December. On Aug. 7 more than two dozen U.S. senators wrote to President Barack Obama to warn that "numerous bankruptcies loom" in the biodiesel sector. "If this situation is not addressed immediately, the domestic biodiesel industry expects to lose 29,000 jobs in 2009 alone," the senators wrote, using estimates by the National Biodiesel Board. Mr. Obama, who supported biofuels throughout his campaign, is working to roll out grants and loan guarantees for bio-refineries and green fuel projects, said Heather Zichal, a White House energy adviser. The pace of the disbursements should speed up this fall, administration officials say. Obama officials defended the delay in biodiesel mandates. The EPA in May proposed rules that penalize soy-based diesel under the blending mandates, because deforestation from soybean cultivation is thought to offset the fuel's environmental benefits. Obama officials say the EPA must perform a thorough environmental review before it can issue rules. The amount of biodiesel that was to have been blended in 2009 will be added to the amount required for 2010, so that no volume is lost, they add. Any state help might be too late for GreenHunter Energy. In 2007, the company, led by energy exploration executive Gary Evans, acquired a Houston refinery that processed used motor oil and chemicals and retrofit it to make 105 million gallons of biodiesel a year from all manner of feedstocks, from soybean oil and beef tallow to, potentially, inedible plant matter. GreenHunter's business model hinged on selling to a government-guaranteed buyer: GreenHunter has the capacity to make 20% of the 500 million gallons of biodiesel that Congress wanted to be blended into the 2009 fuel supply. Until the mandate kicked in, GreenHunter and other biodiesel makers counted on exporting their output to Europe, a much bigger user of diesel. View Full Image GreenHunter GreenHunter CEO Gary Evans speaking with the press at the opening of its biodiesel plant in June 2008. GreenHunter opened in June 2008 as oil prices skyrocketed. By then, soybean oil prices were soaring, too, pinching refiners that had banked on using soy. Mr. Evans switched to inedible animal fats. For about a month, when oil hovered above $120 a barrel and traditional diesel ran over $4 a gallon, GreenHunter says profit margins on turning animal fat into diesel rose as high as $1.25 a gallon. It wasn't sustainable. The price of animal fat soared too, cutting margins again. As the EPA continued to delay the blending mandates, the global downturn obliterated demand for regular diesel. Prices cratered. GreenHunter's plant took a direct hit from Hurricane Ike in September. By the time the plant reopened in late November, the price of diesel had dropped by more than half, and GreenHunter was losing money on every gallon of fuel. The European Union dealt the final blow this spring when it slapped a tariff on U.S. biodiesel, killing what had been the industry's main sales outlet. GreenHunter has since stopped producing biodiesel. The American Stock Exchange informed GreenHunter in May that the company was out of compliance with some listing requirements; the firm has submitted a plan to remain listed. Its stock has sunk to about $2 a share from a high of $24.75 in May 2008. Bio-refinery carcasses are everywhere. GreenHunter's lender, West LB, arranged $2 billion in ethanol and biodiesel loans, selling them to various investors beginning around 2006. Today, half of the $2 billion in loans have defaulted or are being restructured, according to people familiar with the portfolio. Publicly traded Nova Biosource Fuels Inc. filed for Chapter 11 bankruptcy reorganization in March. Imperium Renewables, a biodiesel maker in Washington, is trying to hang on as a storage depot, its founder says. Evolution Fuels, an outfit that used to sell a biodiesel brand licensed by country singer Willie Nelson, has stopped production and said in a securities filing it may not be able to continue as a going concern. The company didn't return calls for comment. Some senators have introduced a bill to extend biodiesel tax credits. A provision passed in the House grandfathers soy-based biodiesel into the blending mandates for five years. Second-generation biofuels have had their own setbacks. When seeking investors for Cello Energy in 2007, Jack Boykin, an entrepreneur with a background in biochemistry, said Cello had made diesel economically in a four-million-gallon-a-year pilot plant from grass, hay and used tires. What's more, he told investors he had successfully used the fuel in trucks, according to testimony in a federal court case in Mobile, Ala. He said he had invested $25 million of his own money. An Auburn University agronomy professor advising the Bush administration on green energy endorsed his technology. Alabama paper-and-pulp executive George Landegger and Mr. Khosla, the venture capitalist, separately invested millions in seed money into Cello and had plans to invest or lend more. A lawsuit disputing the ownership stakes of investors produced Mr. Boykin's revelation, in a 2008 deposition, that he had never used inedible plant material such as wood chips or grass in his pilot plant, despite claims otherwise. Construction of his full-scale facility in rural Alabama moved forward anyway. This year, Khosla representatives took samples of diesel produced at the new Cello plant and sent them off for testing. The results showed no evidence of plant-based fuel: Carbon in the diesel was at least 50,000 years old, marking it as traditional fossil fuel. The EPA wasn't told about the test, and continued to rely on Mr. Boykin's original claims when it asserted in the Federal Register in May that Cello could produce 70% of the cellulosic fuel targets set by Congress that are due to take effect next year. The jury returned a $10.4 million civil fraud and breach-of-contract verdict against the Alabama entrepreneur in favor of Mr. Landegger, one of the investors. Work on the plant has been suspended. Several weeks after the verdict was delivered, Mr. Boykin presented evidence that he had tested fuel from the plant and it did contain cellulosic material. He is seeking a new trial. View Full Image GreenHunter GreenHunter's biodiesel facility, built on the site of an old chemical and oil-processing refinery, opened in June 2008 on the Houston Ship Channel. Mr. Boykin declined to comment, but his lawyer, Forest Latta, said his client denies committing fraud. The carbon testing, he said, reflected only an early stage quality-control test during startup trials. It would be premature to conclude, Mr. Latta said in an email, that Cello's fuel-making process is a failure. "This is a first-of-its-kind plant in which there remain some mechanical issues still being ironed out," he wrote. Margo Oge, director of the EPA's office on transportation and air quality, says the agency is "looking into the whole case of Cello." Mr. Khosla declined to discuss Cello, but said he doubts the 2010 cellulosic fuel mandates can be met. "All projects, even traditional well-established technologies, are being delayed because of the financial crisis," he said in an interview. Write to Ann Davis at ann.davis@wsj.com and Russell Gold at russell.gold@wsj.com

Rules Eased on Bank Buyouts

Hurdles Lowered for Private-Equity Firms in Bid to Drum Up New Rescuers By MICHAEL R. CRITTENDEN and PETER LATTMAN WASHINGTON -- Federal regulators approved watered-down guidelines for private-equity firms seeking to snap up failed U.S. banks, in a bid to tap a new and controversial source of capital for financial institutions. Sheila Bair The new rules still impose significant restrictions on private-equity ownership of banks, but after a ferocious lobbying effort by the buyout industry, the Federal Deposit Insurance Corp. backed away from an initial set of tough proposals that would have imposed heavy capital requirements. The five-member board of the FDIC voted 4-1 in favor of rules that would require buyout firms to hold on to failed banks they purchase for at least three years. Investors would also be required to maintain larger amounts of high-quality capital at their acquired banks. In both cases, the rules are substantially tougher than those for regular banks competing for the same spoils. The special standards for private-equity firms highlight a dilemma facing regulators: They need to find buyers for failed banks while ensuring that investors aren't playing the game to turn a quick profit, potentially imperiling again already-weak institutions. Regulators have shut 81 banks this year, the largest number since the savings-and-loan crisis, and the FDIC's deposit-insurance fund has become strained by expensive and frequent failures. The FDIC's costs are much higher when a bank fails without a ready buyer. The FDIC's deposit-insurance fund stood at $13.3 billion as of the end of March, and since then 60 banks have failed at an estimated cost of roughly $19.3 billion to the federal government. The FDIC has already provisioned for the current losses, but is considering levying additional fees against the banking industry to help cover the cost of future failures. Acknowledging that regulators need to find new sources of capital, Comptroller of the Currency John Dugan said investors need to be deemed appropriate. FDIC Chairman Sheila Bair agreed: "We do want people who are serious running banks." The lone vote against the deal was from Office of Thrift Supervision's acting director, John Bowman, who said he didn't think regulators should single out private-equity firms for tighter restrictions than other investors or buyers. For private-equity firms, the vote is a mixed result. The industry lobbied hard against rules proposed by the FDIC in July, flooding the agency with comment letters, and was successful in rolling back some of the more restrictive standards. The changes didn't go far enough for some. "Requiring us to have effectively twice as much capital as another bidder puts us at a competitive disadvantage," said longtime bank investor Gerald Ford, a general partner at private-equity firm Flexpoint Ford. Given the opportunities, however, a number of executives at private-equity firms, including Mr. Ford, said they would still seek deals. "We will continue to look," he said. The proposal approved Wednesday would require private-equity firms to maintain high-quality capital -- known as Tier 1 common equity -- equivalent to 10% of the bank's overall assets. That is lower than the 15% Tier 1 leverage-ratio level proposed in July but higher than the 5% requirement for traditional banks. The FDIC could also impose higher capital requirements in some instances. The FDIC rules will prevent the private-equity-owned banks from extending credit to private-equity firms' investors and some affiliates, in essence preventing firms from using their acquisitions as a piggy bank. The agency, however, abandoned language requiring private-equity firms to act as a "source of strength" for purchased institutions. The FDIC has only twice this year arranged deals with private-equity buyers. In March, a group of investors including J.C. Flowers & Co. acquired IndyMac Federal Bank, which has since been renamed OneWest Banks. And a consortium led by WL Ross & Co. and Blackstone Group LP purchased Florida's BankUnited Financial Corp in May. Private investors still feel that even with the eased restrictions, the FDIC rules treat them unfairly. They argue the regulations favor existing U.S. and foreign banks over private investors. They also argued that struggling banks are in desperate need of private capital that they, unlike many other financial players, are in a position to offer. "There is virtually no evidence of regulatory abuse, excessive risk taking, or increased costs for the FDIC due to private-equity control of financial institutions," wrote Guhan Subramanian, a Harvard Business School professor retained by a buyout firm to weigh in on the issue, in a lobbying paper to the FDIC. The Service Employees International Union, a longtime critic of the buyout industry, pushed for even more-stringent rules. Buyout firms "have leveraged and sometimes drained the value out of their portfolio companies and left them in precarious financial situations," a union official wrote. Write to Peter Lattman at peter.lattman@wsj.com

All the President’s Zombies

By PAUL KRUGMAN Published: August 23, 2009 The debate over the “public option” in health care has been dismaying in many ways. Perhaps the most depressing aspect for progressives, however, has been the extent to which opponents of greater choice in health care have gained traction — in Congress, if not with the broader public — simply by repeating, over and over again, that the public option would be, horrors, a government program. Skip to next paragraph Fred R. Conrad/The New York Times Paul Krugman Go to Columnist Page » Blog: The Conscience of a Liberal Washington, it seems, is still ruled by Reaganism — by an ideology that says government intervention is always bad, and leaving the private sector to its own devices is always good. Call me naïve, but I actually hoped that the failure of Reaganism in practice would kill it. It turns out, however, to be a zombie doctrine: even though it should be dead, it keeps on coming. Let’s talk for a moment about why the age of Reagan should be over. First of all, even before the current crisis Reaganomics had failed to deliver what it promised. Remember how lower taxes on high incomes and deregulation that unleashed the “magic of the marketplace” were supposed to lead to dramatically better outcomes for everyone? Well, it didn’t happen. To be sure, the wealthy benefited enormously: the real incomes of the top .01 percent of Americans rose sevenfold between 1980 and 2007. But the real income of the median family rose only 22 percent, less than a third its growth over the previous 27 years. Moreover, most of whatever gains ordinary Americans achieved came during the Clinton years. President George W. Bush, who had the distinction of being the first Reaganite president to also have a fully Republican Congress, also had the distinction of presiding over the first administration since Herbert Hoover in which the typical family failed to see any significant income gains. And then there’s the small matter of the worst recession since the 1930s. There’s a lot to be said about the financial disaster of the last two years, but the short version is simple: politicians in the thrall of Reaganite ideology dismantled the New Deal regulations that had prevented banking crises for half a century, believing that financial markets could take care of themselves. The effect was to make the financial system vulnerable to a 1930s-style crisis — and the crisis came. “We have always known that heedless self-interest was bad morals,” said Franklin Delano Roosevelt in 1937. “We know now that it is bad economics.” And last year we learned that lesson all over again. Or did we? The astonishing thing about the current political scene is the extent to which nothing has changed. The debate over the public option has, as I said, been depressing in its inanity. Opponents of the option — not just Republicans, but Democrats like Senator Kent Conrad and Senator Ben Nelson — have offered no coherent arguments against it. Mr. Nelson has warned ominously that if the option were available, Americans would choose it over private insurance — which he treats as a self-evidently bad thing, rather than as what should happen if the government plan was, in fact, better than what private insurers offer. But it’s much the same on other fronts. Efforts to strengthen bank regulation appear to be losing steam, as opponents of reform declare that more regulation would lead to less financial innovation — this just months after the wonders of innovation brought our financial system to the edge of collapse, a collapse that was averted only with huge infusions of taxpayer funds. So why won’t these zombie ideas die? Part of the answer is that there’s a lot of money behind them. “It is difficult to get a man to understand something,” said Upton Sinclair, “when his salary” — or, I would add, his campaign contributions — “depend upon his not understanding it.” In particular, vast amounts of insurance industry money have been flowing to obstructionist Democrats like Mr. Nelson and Senator Max Baucus, whose Gang of Six negotiations have been a crucial roadblock to legislation. But some of the blame also must rest with President Obama, who famously praised Reagan during the Democratic primary, and hasn’t used the bully pulpit to confront government-is-bad fundamentalism. That’s ironic, in a way, since a large part of what made Reagan so effective, for better or for worse, was the fact that he sought to change America’s thinking as well as its tax code. How will this all work out? I don’t know. But it’s hard to avoid the sense that a crucial opportunity is being missed, that we’re at what should be a turning point but are failing to make the turn. • In my column last Monday, I made a joke about the Swiss that fell flat with some readers. Also, the Swiss don’t wear lederhosen.

President Obama’s remarks Wednesday

CHILMARK, Mass. — Below is the text of President Obama’s remarks Wednesday in Chilmark after the death of Sen. Edward M. Kennedy, as transcribed by the White House: I wanted to say a few words this morning about the passing of an extraordinary leader, Senator Edward Kennedy. Over the past several years, I’ve had the honor to call Teddy a colleague, a counselor, and a friend. And even though we have known this day was coming for some time now, we awaited it with no small amount of dread. Since Teddy’s diagnosis last year, we’ve seen the courage with which he battled his illness. And while these months have no doubt been difficult for him, they’ve also let him hear from people in every corner of our nation and from around the world just how much he meant to all of us. His fight has given us the opportunity we were denied when his brothers John and Robert were taken from us: the blessing of time to say thank you — and goodbye. The outpouring of love, gratitude, and fond memories to which we’ve all borne witness is a testament to the way this singular figure in American history touched so many lives. His ideas and ideals are stamped on scores of laws and reflected in millions of lives — in seniors who know new dignity, in families that know new opportunity, in children who know education’s promise, and in all who can pursue their dream in an America that is more equal and more just — including myself. The Kennedy name is synonymous with the Democratic Party. And at times, Ted was the target of partisan campaign attacks. But in the United States Senate, I can think of no one who engendered greater respect or affection from members of both sides of the aisle. His seriousness of purpose was perpetually matched by humility, warmth, and good cheer. He could passionately battle others and do so peerlessly on the Senate floor for the causes that he held dear, and yet still maintain warm friendships across party lines. And that’s one reason he became not only one of the greatest senators of our time, but one of the most accomplished Americans ever to serve our democracy. His extraordinary life on this earth has come to an end. And the extraordinary good that he did lives on. For his family, he was a guardian. For America, he was the defender of a dream. I spoke earlier this morning to Senator Kennedy’s beloved wife, Vicki, who was to the end such a wonderful source of encouragement and strength. Our thoughts and prayers are with her, his children Kara, Edward, and Patrick; his stepchildren Curran and Caroline; the entire Kennedy family; decades’ worth of his staff; the people of Massachusetts; and all Americans who, like us, loved Ted Kennedy. Filed under: Edward Kennedy · Obama · Politics · Remembrances

Where Consumers Fail, Can Businesses Lead?

By MARK GONGLOFF If consumers aren't going to lead a strong economic recovery, businesses might have to. But they mightn't be up to the job. One measure of business demand will come Wednesday morning with Census Bureau data on July durable-goods orders. Economists estimate orders for long-lasting goods made in U.S. factories surged 3% from June. July's jump will likely be due mainly to a surge in orders for Boeing airplanes and the restart of automobile manufacturing after bankruptcy-related closures. Excluding transportation goods, some economists estimate orders rose a milder 0.5%. To gauge business spending, economists further winnow the durable-goods data to one awkwardly named indicator called "nondefense capital goods excluding aircraft." This roughly measures what companies spend on factory equipment and the like. It has edged higher for the past three months after plunging to a 14-year low in the first quarter, though it is still down nearly 22% from a year ago. Part of the decline in durables demand was a massive shelf-clearing by U.S. businesses amid fears of an economic collapse. That inventory clearance seems to be over, which should help the economy. What the economy needs now is a business spending spree that will lead to a hiring boom and rising consumer incomes. Businesses clearly have the cash. In the first quarter, nonfinancial companies had some $14.1 trillion in financial assets, according to Federal Reserve data, or 100.1% of gross domestic product, a record high. But after the 2001 recession, businesses accumulated cash, rather than spending it, because of the spending glut during the tech boom. They mightn't have much appetite for spending this time around, either. They owned more than $4 trillion in equipment and software in the first quarter, about 29% of GDP, not far from the 30% that prevailed during the tech boom. Meanwhile, the nation's factories, utilities and mines in July ran at 68.5% of their production capacity, near a record low, giving them little reason to build out more capacity. At this point, it isn't even clear that business spending will be strong enough to make the recovery self-sustaining. A business-led boom seems unlikely. Email: tape@wsj.com

REITs Are Poised to Pick Up the Pieces

By ANTON TROIANOVSKI Overleveraged private real-estate funds are gasping for money, but public property companies have been chugging down cash from the capital markets. Now, they are poised to emerge as more-dominant players when the commercial-property-market starts to recover. Many expect the landscape change to be as profound as it was in the early 1990s, when many real-estate developers went public to avoid bankruptcy and helped turn real-estate investment trusts into a major force in the property market. Most of the leading private real-estate funds during that time vanished from the scene. REITs are poised once again to pick up the pieces from the commercial-property bust. This year, they have tapped the stock market for nearly $15 billion in new equity and, this month have raised $2 billion in unsecured debt. The equity deals diluted shareholders' ownership stakes, but positioned many REITs -- such as mall owner Simon Property Group Inc. and warehouse landlord ProLogis -- to avoid loan defaults and have buying power when distress hits the market. Few of the private-equity funds that became Wall Street stars during the boom can say the same thing. An increasing number are trying to raise cash to recapitalize existing investments. But the strategy has been a hard sell. The Townsend Group's Martin Rosenberg, who consults institutions on their real-estate investments, says he has seen 16 funds make such proposals since late last year, but only one has raised all the equity it asked for. Two others raised part of what they were seeking, and two more are on track to succeed, Mr. Rosenberg adds. Funds also are having trouble raising money to take advantage of distressed opportunities because their traditional investors -- pension funds and other institutions -- have little to invest after going on a real-estate binge in the mid-2000s. The country's 50 biggest public pension plans are on pace to commit only $5 billion to real-estate investment vehicles this year, according to trade publication Real Estate Alert. That would be the lowest total since 2003, compared with $17 billion last year and a peak of $36 billion in 2007. In all, property funds raised $370 billion from 2003 to 2008, according to Probitas Partners, a San Francisco research firm. They were seen by many investors as being more nimble than public REITs, and they goosed returns with mountains of cheap debt. All that debt has led to a spate of bankruptcies at companies taken over by private-equity funds -- such as Morgan Stanley Real Estate's Crescent Resources LLC and Colony Capital LLC's Station Casinos Inc. -- and huge markdowns across the industry. Even Prudential Financial Inc.'s $11 billion PRISA fund, with a reputation as one of the most conservative in the industry, told investors last month to expect a 55% peak-to-trough loss by the beginning of next year. Private-equity funds invest money from pension funds and other institutional investors to buy properties or entire real-estate companies. They collect part of the profits and earn management fees. Shares of publicly traded REITs, meanwhile, can be bought and sold by rank-and-file investors. REITs, under closer scrutiny from analysts and shareholders, didn't take on as much debt as their private counterparts and proved to be astute sellers as the market peaked. In 2006 and 2007, as values skyrocketed and private-equity funds and institutional investors were net buyers of $134 billion of property, public REITs sold $94 billion more in real estate than they bought, according to Real Capital Analytics data cited by Green Street Advisors. Several publicly owned landlords, including Equity Office Properties and apartment giant Archstone-Smith Trust, went private in huge buyouts. Their more-conservative strategy is now paying off, and REITs' lower leverage and greater transparency is attracting investors rattled by the downturn. Investors rushed into the sector this spring after REITs fell 75% below their February 2007 peak. A survival-of-the-fittest storyline that many expected turned into a much broader rally as at least 48 successful stock offerings injected cash into the REITs. "Everyone was predicting a have-and-have-not scenario, and that didn't play out at all," says Debra Cafaro, chief executive of health-care REIT Ventas Inc. "What happened was indiscriminate access to capital, which has buoyed the whole sector." REITs, to be sure, are still suffering, and no one can tell when the commercial real-estate market will start to recover. The Dow Jones Equity All REIT Index is still at about half its February 2007 peak. The dilutive effect of the REITs' equity offerings has dismayed many investors, and some are wary of how volatile REIT stock prices have become. Some private-equity funds, meanwhile, still have "dry powder" -- cash commitments from investors that haven't yet been put to use. But most agree that public companies now have the best access to capital, the lifeblood of real-estate investing. Starwood Capital Group LLC, which operates several private-equity property funds, recently raised $810 million in the public market to buy distressed debt, and other firms have said they will try the same thing. "I think there are times when the public market is the better solution for a greater variety of strategies and a greater variety of assets, and I think that's more true right now than it's been in a while," says Randy Rowe, the chairman of Green Courte Partners LLC, a Chicago private-equity real-estate firm. Write to Anton Troianovski at anton.troianovski@wsj.com

Durable Goods Post Biggest Gain in 2 Years

By TOM BARKLEY WASHINGTON -- Demand for long-lasting goods rebounded sharply in July, staging their biggest gain in two years on the back of big orders for planes and capital goods. Manufacturers' orders for durable goods jumped 4.9% last month to a seasonally adjusted $168.43 billion, the Commerce Department said Wednesday. That was the largest increase since 5.4% in July 2007. Economists surveyed by Dow Jones Newswires had projected a 3% gain in July orders. Overall durable goods orders for June were revised up, estimated to have declined 1.3% instead of the 2.2% drop previously reported. Transportation-related durables climbed 18.4% in July, the biggest gain since September 2006. Orders for commercial planes soared 107.2%, following a 30% drop the previous month. Motor vehicle orders increased 0.9%, with General Motors joining Chrysler to emerge out of bankruptcy and both firms getting a boost from the "Cash for Clunkers" program. Excluding the transportation sector, orders for all other durables climbed 0.8%. Demand ex-transportation had gained 2.5% in June. Orders for all durables except defense goods increased by 4.3% in July, also a two-year high, after rising 0.7% in June. Orders for non-defense capital goods excluding aircraft -- a key barometer for capital spending by U.S. businesses -- fell 0.3%. That follows a 3.6% gain in June. Overall capital goods orders rose 9.5% in July. Nondefense capital goods -- items meant to last 10 years or longer -- gained by 8.6%. Defense-related capital goods orders went up by 14.8%. Durable goods are products designed to last at least three years, such as cars, planes and computers. While the monthly figures tend to be volatile, such big ticket items provide an indication about the health of U.S. manufacturing and domestic demand. Data out earlier this month showed a 0.5% pickup in U.S. industrial production in July, for the first monthly gain since October 2008 and only the second since the recession began in December 2007. On Thursday, second-quarter gross domestic product is expected to be revised down to a 1.5% contraction, instead of the 1% decline in the preliminary estimate. That's due in part to expectations that businesses liquidated more inventory than initially thought. Still, most economists believe that the recession is at or near its end. Wednesday's report showed that manufacturers are still reducing inventory, however, with inventories of durable goods registering their seventh straight month of declines at 0.8% in July. Unfilled manufacturers' orders for durables, a sign of future demand, decreased 0.1% for the tenth consecutive decline. Write to Tom Barkley at tom.barkley@dowjones.com

叶檀：不是银行拯救股市 而是股市拯救银行

金融类上市公司是政策保护的堡垒，事实也确实如此，今年上半年宽松的信贷政策挽救了金融机构，不良贷款率与不良贷款余额出现双降。有人说，金融机构拯救了股市。错，是股市拯救了银行。 　　半年报显示，包括工商银行、中国平安、中信证券在内的16家金融类企业，今年上半年共实现营业总收入4860.25亿元，合计创造净利润则高达1641.3亿元，占1057家上市公司2495.05亿元净利润的65.78％。但与以往的业绩相比，银行业绩平淡中略有下行，不是股市的什么大利好。截至8月24日，14家上市银行中，已发布半年报的有8家。其中，仅有5家银行实现了利润微幅正增长，其余3家均为负“增长”。 　　现在银行要靠股市来拯救。在信贷急剧扩张后，金融类股票的命门在资本充足率，如果不能尽快补充资本金，银行将无米下炊。 　　银行股的一季报显示（没有进行专项披露的银行外），除了建设银行的资本充足率从2008年底的12.16％提高到今年一季度的12.47％外，其他银行都有所下降，尤其是深发展A、浦发行等中小银行，资本充足率仅为8.53％与8.72％，触及8％的底线。今年第一季度银行业新增信贷4.58万亿元，在当期补充了约500亿资本的情况下，银行业加权资本充足率依然由2008年末的12％，下降到了一季度末的9.9％。华夏银行、交通银行和民生银行的半年报显示，这3家银行2009年上半年资本充足率分别为10.63％、12.57％和8.48％，均比上年度末有所下降。 　　火上浇油的是，有媒体报道称，为了严防风险，银监会要求各银行将持有的其他贷款机构发行的次级债和混合债从补充资本中扣除。银监会此举是为了防止各银行之间交叉持有次级债，让风险在银行体系内部循环，报表漂亮而风险依旧。 　　今年以来，14家上市银行中已有11家提出了次级债发行计划，发债计划达到数千亿元，其中中行一家就提出1200亿元的次级债发行计划。据中金公司统计，当前银行体系的核心资本净额在2.35万亿元左右，银行间互持的次级债估计已达3000亿元左右，若采取追溯过去法，则14家上市银行中浦发、民生、深发展的资本充足率将低于8％（分别为7.05％、7.91％、6.93％），招行、华夏低于10％。 　　如果银监会关上次级债阀门，银行不外乎三个办法解决资本金瓶颈：提高利润，减少信贷和再融资。由于1个百分点的资本充足率约可支持2.3万亿元的新增信贷投放，减少信贷可以提高资本充足率。而大幅减少信贷可能影响宏观经济，影响银行快速做大，因此这个消极办法银行大多不会采用；提高利润谈何容易，银行进行的自营、向企业压榨式的中间业务收入增长很高；而扩大净息差比率在短期内难以实现。可见，短期内补充资本金的唯一方式就是利用资本市场融资，进行IPO、增资扩股或者定向增发。 　　可爱的资本市场是阿里巴巴的神奇宝库，银行家们口中念念有词：芝麻，开门吧。 　　今年7月份，深发展通过定向增发，补充资本金5.85亿元；8月13日晚，招商银行宣布计划通过A、H股同时配股融资150亿到180亿元人民币；8月19日，民生银行发布公告，8月18日收到中国证监会行政许可申请受理通知书，发行H股已经正式获得证监会批准。据悉，民生银行拟发售H股最多不超过38.18亿股，募集资金约200亿元人民币左右；浦发行也拟募资不超过150亿元。 　　其他银行利用资本市场募资也将联袂而来。根据申银万国的测算数据，若要达到12％的标准，则包括招商银行在内的7家A股上市的股份制银行共需筹集资金近800亿元。 　　岂止补充资本金，中国银行业之所以能在短期内做大做强，多亏剥离、注资、上市的改革三部曲。今年2月，全球银行排名榜，中国首次4家中资银行一同跻身前10，排在首位的工行的市值已经相当于9个花旗银行，目前工商银行与“老二”汇丰之间的市值差距已扩大一倍多，达到410亿美元。 　　而中国的银行业还在海外布局，虽然代价不菲，就在8月份，建设银行香港全资子公司建行亚洲拟收购美国国际信贷（香港）有限公司（AIGF）全部股份。资金从何而来？是巨大的盈利，还有取之不尽的资本市场。 　　对于A股市场的投资者而言，唯一可以松口气的是，幸亏这些银行不全在内地市场吸血，他们是国际性公司。货币注水是全球现象，不是吗？如果这些银行都是如金融危机之前像汇丰这样年年分红的诚实大笨象，A股的投资者实在是太幸福了。可惜，梦想照不进现实。等吧

Brazil Field Puts Shell in a Good Spot

By GUY CHAZAN Royal Dutch Shell PLC is the latest in a small group of Western energy companies pumping crude out of Brazil amid intensifying international interest in the country's deepwater oil reserves. The official launch of Shell's BC-10 oil field Tuesday, off Brazil's southeast coast, comes as the country prepares to approve long-awaited laws on how to regulate its subsalt reserves, a vast resource that has emerged as a kind of El Dorado for the global energy industry. Brazil has been seen as one of the most promising new oil sources ever since the massive Tupi field was discovered under a thick layer of salt in the offshore Santos Basin two years ago. More finds have followed, and it is thought the area could contain tens of billions of barrels of oil. View Full Image Shell The production and storage infrastructure aboard Shell's Espirito Santo at the BC-10 block off Brazil as interest intensifies in the nation's oil reserves. Marvin Odum, director of Upstream Americas at Shell, said he believes BC-10, which is not in the subsalt, should open up more opportunities in Brazil. "I think the government will be pleased with what we're doing there," Mr. Odum said in an interview. But observers said it is unlikely Shell will be able to expand its presence in the subsalt beyond the three exploration licenses it already holds. Several other Western oil companies had licenses for the subsalt area before Tupi was found, but Brazil said it won't grant more licenses until it has established new laws regulating the area. The laws are expected to reinforce the role of the national oil company Petroleo Brasileiro SA, or Petrobras, in opening up areas like the Santos Basin. They are also likely to channel Brazil's bonanza from the new fields into a new state fund aimed at lifting millions of Brazilians out of poverty. Mr. Odum said there was a "significant degree of uncertainty" regarding how Brazil's deepwater resource would be developed. But he denied that oil companies like Shell are frustrated at the government's slow pace. The important thing isn't the timing, Mr. Odum said, but "making sure they develop a system that's globally competitive and that will attract investment." Since Brazil opened its oil sector to foreign energy companies in the late 1990s, only a few have found oilfields and successfully brought them onstream. In June, a joint venture between Chevron Corp. and Petrobras produced the first oil from the offshore Frade field. Shell started pumping crude at BC-10 in July, but the field will be commissioned officially Tuesday. BC-10 is another example of how the international oil companies are beginning to make an impact on oil exploration and production in Brazil, said Ruaraidh Montgomery, an analyst at the oil consultancy Wood Mackenzie. In 2008, he said, foreign oil companies accounted for less than 5% of hydrocarbon liquids production in Brazil. That will rise to just under 20% by 2015, he said. But it hasn't been easy for Big Oil in Brazil. British natural gas producer BG Group PLC said Tuesday that testing on a well it and Petrobras drilled in deep water offshore Brazil didn't confirm hydrocarbons, despite signs of natural gas during drilling. It was the second high-profile failure in the subsalt in as many months: In July, Exxon Mobil Corp. and Hess Corp. also announced a dry well at the Guarani prospect. With BC-10, also known as Parque das Conchas, Shell has scored a number of industry firsts. Oil and gas produced at the field will be separated on the seabed, rather than on a rig or onshore. It will then be driven up nearly 6,000 feet to the surface using electric submersible pumps, each with the horsepower of a Formula 1 car engine. —Jeff Fick contributed to this article. Write to Guy Chazan at guy.chazan@wsj.com

Slump Spurs Grab for Markets

By LESLIE SCISM, MATTHEW DOLAN, ANN ZIMMERMAN and MICHAEL CORKERY After spawning legions of victims, the recession is forging a class of winners. J.P. Morgan Chase & Co. is raking in money from depositors -- a bank's lifeblood -- as weaker institutions teeter. Golub Capital, a little-known lender to smaller corporations, has zipped to the front of its field ahead of flailing CIT Group Inc. and General Electric Co.'s GE Capital unit. Ford Motor Co. is luring car buyers away from General Motors Co. and Chrysler Group LLC. Bed Bath & Beyond Inc. hung Linens 'n Things Inc. out to dry. Companies like these haven't "won" yet, with the economy still in the wringer. But the firms prevailing so far tend to share a few traits -- including a cushion of cash relative to their peers, a readiness to spend it and a willingness to go for the jugular -- that give them an edge for the moment at least. New York Life Insurance Co. took a sizable hit from the financial crisis, losing $3.5 billion on its investment portfolio last year, triggering a loss for the year. However, because of its relatively conservative investments, it fared much better than rivals like giant American International Group Inc., which took a huge U.S.-taxpayer bailout. New York Life executives went on the offensive. As the crisis raged, they told the firm's 11,000 insurance agents they had a "moral obligation" to explain the firm's strength to clients. The company gave agents a document ticking off rivals' woes and loaded them with materials describing New York Life's fat pile of rainy-day capital and triple-A ratings. In the first quarter, New York Life leapfrogged over AIG, Hartford Financial Services Group Inc. and Lincoln National Corp. as one of the nation's top sellers of life insurance and annuities. Market share grew to 5.4% in the quarter from 3.6% a year earlier, according to data from ratings firm A.M. Best Co. analyzed by The Wall Street Journal. "In normal times, you would not see those type of market-share gains," says Larry Mayewski of A.M. Best. Recessions routinely upend industries. Downturns "are very fertile fields of opportunity," says Nancy Koehn, a business historian and professor at Harvard Business School. Winners are the ones better at "walking into the space vacated by rivals," she says, and at tracking how customers behave in tough times. In the Great Depression, Campbell Soup Co. launched new lines that are still big today, including chicken-noodle soup. Revlon Inc. nail polish, also launched in the 1930s, showed that shoppers will embrace small, affordable luxuries in tough times. Bain & Co. analyzed 750 companies just before and after the 2001 recession, ranking them on sales growth, profit margins and shareholder returns. It found more companies showed major change (gains or declines) from 2000 to 2002 than from 2003 to 2005, a relatively stable period. Related Reading Golub Takes Lead in Leveraged Buyouts Vanguard Funds Find Buyers Winners aren't "crazy risk takers," says Darrell Rigby, a Bain partner, but are prepared to "take prudent risks." As the economy tanked last year, Bed Bath & Beyond launched an attack on Linens 'n Things, a major rival. Linens 'n Things had a weak spot: Back in 2005 it took on heavy debt, amid the leveraged-buyout boom, to become a private company. Around that time, it also announced a growth strategy focused on 100 key stores. Bed Bath & Beyond "figured out what 100 stores Linens was focusing on, and decided to destroy them," says Gary Balter, retail analyst at Credit Suisse. The chain matched Linens' deals and discounts dollar-for-dollar. It issued coupons galore, mimicking a Linens strategy. It was a costly bet, especially as demand for home furnishings shriveled amid the housing crash. Bed Bath & Beyond's advertising costs grew to 3.7% of sales last year, from 3% in 2006. The payoff: Linens 'n Things went out of business this past winter. After Linens closed its stores, Bed Bath & Beyond cut back on flooding the market with coupons, says Colin McGranahan, retail analyst at Sanford C. Bernstein. Bed Bath & Beyond executives declined to be interviewed. "We will be able to look back at this period as one which afforded us an exceptional opportunity to continue to gain market share," Chief Executive Steven Temares told analysts in a June conference call. In eliminating a weak competitor, the company claimed a bigger bite of a smaller pie. For the quarter ended May 30, sales at Bed Bath & Beyond rose 2.8%, compared with a drop of 13% for the home-furnishings sector. One key to surviving any recession is to have ready access to cash, a fact amplified the past year as lending dried up. Both Chrysler and GM entered the downturn in tough financial shape, despite some cost-cutting, and Ford didn't seem far behind. Last October, all three sent their CEOs to Capitol Hill to plead for a taxpayer rescue. A few months later, however, Ford broke from the pack and ditched its request for a $9 billion government credit line and set out to restructure its debt. Ford's advantage: Back in 2006, it had borrowed $23.5 billion by basically mortgaging almost everything of value -- including the Ford "blue oval" logo -- a radical move that showed just how dire the auto industry looked. However, having that cash when credit markets froze two years later, in late 2008, is the main reason Ford avoided the bailouts and bankruptcy filings that hit GM and Chrysler, analysts say. Amid widespread unpopularity of taxpayer bailouts for car makers and banks, Ford launched a campaign trumpeting its self-reliance. On the day GM said it would file for bankruptcy, Ford said it was boosting car production, a public demonstration of relative strength. Ford's share of U.S. light-vehicle sales in July was 15.9%, up 2.2 percentage points from a year earlier, while GM's fell 1.6 points to 18.8%, said Autodata Corp. Chrysler's share edged up slightly, to 8.9%, aided by rebates it offered on top of the government's "cash for clunkers" program. The top vehicle sold in the clunkers program in July was a Ford Focus compact. Overall, Ford's market share among regular car buyers (as opposed to fleet sales) has grown in nine of the past 10 months. As with Ford, the survivors in the home-building industry so far tend to be the ones that -- for whatever reason -- reacted a bit earlier than their peers. Now, a few of the surviving home builders are cautiously starting to feed on their dead rivals. "It was not a feat of strength to survive,'' said Robert Toll, the 68-year-old chief executive of Toll Brothers Inc., who led the company through three previous downturns. "It was following the experience we had gained in past housing recessions." Toll Brothers and a few other builders stopped buying land in mid-2006, as the market showed early signs of strain, even as others plowed ahead. This let Toll stockpile cash by eliminating a major expense. Miami-based builder Lennar Corp. also accumulated cash by slashing home prices relatively early. Now, Lennar, Toll and others are in the market to snap up land at deep discounts. Lennar, for instance, recently bought back a stake in a huge parcel of California land that it had sold two years ago -- at the top of the market. The deal values the land at about 18% of its value when Lennar sold it in 2007. Toll, too, has bought land in recent months. Mr. Toll says he's being cautious in case housing slumps further. "We would rather be safe than sorry,'' he said in an interview last week. Another lesson of the downturn: Surviving home builders financed their operations with debt that matured five to seven years out, providing them some breathing room. By comparison, struggling builders often had loans tied to specific real-estate developments now in default. That will likely force them to sell off the land at fire-sale prices. "That's one of the places where we will pick up [land] in the future," Mr. Toll said. Credit Suisse analyst Dan Oppenheim estimates that over the next few years the largest firms, led by a dozen or so publicly traded builders, will control as much as 35% of the new-home market, up from about 25% before the crisis. The business of mortgage lending is also seeing a dramatic power realignment, partly due to bank acquisitions hammered out when housing-crisis fear was at its highest. Last fall, as stocks plummeted, Wells Fargo & Co. agreed to snap up Wachovia Corp. And in January 2008, Bank of America Corp. agreed to buy ailing mortgage lender Countrywide Financial Corp. for a fraction of its peak value. Bank of America and Wells Fargo controlled nearly half of all mortgage originations in the first six months of this year, according to Inside Mortgage Finance. By contrast, in 2007, the top three lenders accounted for 37% of all mortgage originations. Countywide, the top mortgage lender for much of the boom, never crossed 20%. Wells Fargo's market share jumped to 24% at the end of June, from 11% two years ago. Bank of America's share rose to 21% from 6.8% two years ago. Lenders like Bank of America and Wells that didn't depend as heavily on exotic mortgage loans -- tongue twisters like pay-option adjustable-rate mortgages with negative amortization -- are now "picking up market share because the market has moved in their direction," says Fred Cannon, an analyst at Keefe, Bruyette & Woods. The acquisitions may not prove to be home runs. Wachovia had certain risky mortgages and a significant portfolio of commercial loans that could leave Wells vulnerable if business stays bleak. A Wells spokeswoman said Wachovia's loan portfolio "has been performing within our expectations." Bank of America's mortgage and insurance arm lost money in the second quarter, but mortgage-refinancing volume was up significantly. Countrywide "has made a positive contribution to the company's financial results in the first half of the year," said spokesman Jerry Dubrowski. New York Life entered the financial crisis with one of the insurance industry's fattest capital cushions, along with a traditional, if boring, product line. It had eschewed more profitable but riskier offerings, such as annuities with investment-performance guarantees tied to the stock market, which some rivals sold. Last year, as stocks tanked world-wide, rival insurers took a major hit. Some were forced to boost their reserves and capital to assure regulators they could make good on these investment guarantees. And AIG took a major U.S.-government bailout due to souring bets on particularly exotic investment products. With AIG's and other insurers' woes in the headlines, it suddenly became easier for New York Life to sell its reputation for caution. In good times, a message of financial stability "falls on deaf ears," says New York Life President Ted Mathas. "But in times of stress," he says, "people are listening." On Sept. 24, as Congress debated a bank-bailout plan, Mr. Mathas called an emergency meeting of the company's 13-person executive-management committee. Among other things, they talked about the fact that some clients were fretting whether even the strongest life insurers could be dragged under. Mr. Mathas recalls saying to the group, "We're built for times like these." The phrase became a sort of corporate rallying cry. The insurer changed its marketing message. For much of the prior year, its ads -- full of ice-cream cones and teddy bears -- urged people to buy coverage to protect loved ones. In the crisis, the message shifted to emphasize the firm's financial footing. The company upped its 2009 advertising budget by 24% over 2008. Meanwhile, as insurance agents talked to clients, they found many "in panic mode" with questions about investments from places other than New York Life, says Chris Blunt, a top executive. The company, which is owned by its policyholders, armed its agents with talking points specifically to address issues like these. By the second quarter, many clients were putting extra money into their insurance policies, viewing it as a safe haven, Mr. Blunt says. In the first quarter, New York Life jumped to second place, from ninth, in revenue from life-insurance premiums and annuity deposits. MetLife Inc. held on to first place while expanding its market share, and AIG tumbled a few spots to sixth, according to the A.M. Best data. "This is a crazy environment," Mr. Mathas says. "We probably never had a period where we could show our relative differentiation better."

Bernanke: Economy on Cusp of Recovery

Reflections on a Year of Crisis By the standards of recent decades, the economic environment at the time of this symposium one year ago was quite challenging. A year after the onset of the current crisis in August 2007, financial markets remained stressed, the economy was slowing, and inflation–driven by a global commodity boom–had risen significantly. What we could not fully appreciate when we last gathered here was that the economic and policy environment was about to become vastly more difficult. In the weeks that followed, several systemically critical financial institutions would either fail or come close to failure, activity in some key financial markets would virtually cease, and the global economy would enter a deep recession. My remarks this morning will focus on the extraordinary financial and economic events of the past year, as well as on the policy responses both in the United States and abroad. One very clear lesson of the past year–no surprise, of course, to any student of economic history, but worth noting nonetheless–is that a full-blown financial crisis can exact an enormous toll in both human and economic terms. A second lesson–once again, familiar to economic historians–is that financial disruptions do not respect borders. The crisis has been global, with no major country having been immune. History is full of examples in which the policy responses to financial crises have been slow and inadequate, often resulting ultimately in greater economic damage and increased fiscal costs. In this episode, by contrast, policy makers in the United States and around the globe responded with speed and force to arrest a rapidly deteriorating and dangerous situation. Looking forward, we must urgently address structural weaknesses in the financial system, in particular in the regulatory framework, to ensure that the enormous costs of the past two years will not be borne again. September-October 2008: The Crisis Intensifies When we met last year, financial markets and the economy were continuing to suffer the effects of the ongoing crisis. We know now that the National Bureau of Economic Research has determined December 2007 as the beginning of the recession. The U.S. unemployment rate had risen to 5-3/4 percent by July, about 1 percentage point above its level at the beginning of the crisis, and household spending was weakening. Ongoing declines in residential construction and house prices and rising mortgage defaults and foreclosures continued to weigh on the U.S. economy, and forecasts of prospective credit losses at financial institutions both here and abroad continued to increase. Indeed, one of the nation’s largest thrift institutions, IndyMac, had recently collapsed under the weight of distressed mortgages, and investors continued to harbor doubts about the condition of the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac, despite the approval by the Congress of open-ended support for the two firms. Notwithstanding these significant concerns, however, there was little to suggest that market participants saw the financial situation as about to take a sharp turn for the worse. For example, although indicators of default risk such as interest rate spreads and quotes on credit default swaps remained well above historical norms, most such measures had declined from earlier peaks, in some cases by substantial amounts. And in early September, when the target for the federal funds rate was 2 percent, investors appeared to see little chance that the federal funds rate would be below 1-3/4 percent six months later. That is, as of this time last year, market participants evidently believed it improbable that significant additional monetary policy stimulus would be needed in the United States. Nevertheless, shortly after our last convocation, the financial crisis intensified dramatically. Despite the steps that had been taken to support Fannie Mae and Freddie Mac, their condition continued to worsen. In early September, the companies’ regulator placed both into conservatorship, and the Treasury used its recently enacted authority to provide the firms with massive financial support. Shortly thereafter, several additional large U.S. financial firms also came under heavy pressure from creditors, counterparties, and customers. The Federal Reserve has consistently maintained the view that the disorderly failure of one or more systemically important institutions in the context of a broader financial crisis could have extremely adverse consequences for both the financial system and the economy. We have therefore spared no effort, within our legal authorities and in appropriate cooperation with other agencies, to avert such a failure. The case of the investment bank Lehman Brothers proved exceptionally difficult, however. Concerted government attempts to find a buyer for the company or to develop an industry solution proved unavailing, and the company’s available collateral fell well short of the amount needed to secure a Federal Reserve loan of sufficient size to meet its funding needs. As the Federal Reserve cannot make an unsecured loan, and as the government as a whole lacked appropriate resolution authority or the ability to inject capital, the firm’s failure was, unfortunately, unavoidable. The Federal Reserve and the Treasury were compelled to focus instead on mitigating the fallout from the failure, for example, by taking measures to stabilize the triparty repurchase (repo) market. In contrast, in the case of the insurance company American International Group (AIG), the Federal Reserve judged that the company’s financial and business assets were adequate to secure an $85 billion line of credit, enough to avert its imminent failure. Because AIG was counterparty to many of the world’s largest financial firms, a significant borrower in the commercial paper market and other public debt markets, and a provider of insurance products to tens of millions of customers, its abrupt collapse likely would have intensified the crisis substantially further, at a time when the U.S. authorities had not yet obtained the necessary fiscal resources to deal with a massive systemic event. The failure of Lehman Brothers and the near-failure of AIG were dramatic but hardly isolated events. Many prominent firms struggled to survive as confidence plummeted. The investment bank Merrill Lynch, under pressure in the wake of Lehman’s failure, agreed to be acquired by Bank of America; the major thrift institution Washington Mutual was resolved by the Federal Deposit Insurance Corporation (FDIC) in an assisted transaction; and the large commercial bank Wachovia, after experiencing severe liquidity outflows, agreed to be sold. The two largest remaining free-standing investment banks, Morgan Stanley and Goldman Sachs, were stabilized when the Federal Reserve approved, on an emergency basis, their applications to become bank holding companies. Nor were the extraordinary pressures on financial firms during September and early October confined to the United States: For example, on September 18, the U.K. mortgage lender HBOS, with assets of more than $1 trillion, was forced to merge with Lloyds TSB. On September 29, the governments of Belgium, Luxembourg, and the Netherlands effectively nationalized Fortis, a banking and insurance firm that had assets of around $1 trillion. The same day, German authorities provided assistance to Hypo Real Estate, a large commercial real estate lender, and the British government nationalized another mortgage lender, Bradford and Bingley. On the next day, September 30, the governments of Belgium, France, and Luxembourg injected capital into Dexia, a bank with assets of more than $700 billion, and the Irish government guaranteed the deposits and most other liabilities of six large Irish financial institutions. Soon thereafter, the Icelandic government, lacking the resources to rescue the three largest banks in that country, put them into receivership and requested assistance from the International Monetary Fund (IMF) and from other Nordic governments. In mid-October, the Swiss government announced a rescue package of capital and asset guarantees for UBS, one of the world’s largest banks.1 The growing pressures were not limited to banks with significant exposure to U.S. or U.K real estate or to securitized assets. For example, unsubstantiated rumors circulated in late September that some large Swedish banks were having trouble rolling over wholesale deposits, and on October 13 the Swedish government announced measures to guarantee bank debt and to inject capital into banks.2 The rapidly worsening crisis soon spread beyond financial institutions into the money and capital markets more generally. As a result of losses on Lehman’s commercial paper, a prominent money market mutual fund announced on September 16 that it had “broken the buck”–that is, its net asset value had fallen below $1 per share. Over the subsequent several weeks, investors withdrew more than $400 billion from so-called prime money funds.3 Conditions in short-term funding markets, including the interbank market and the commercial paper market, deteriorated sharply. Equity prices fell precipitously, and credit risk spreads jumped. The crisis also began to affect countries that had thus far escaped its worst effects. Notably, financial markets in emerging market economies were whipsawed as a flight from risk led capital inflows to those countries to swing abruptly to outflows. The Policy Response Authorities in the United States and around the globe moved quickly to respond to this new phase of the crisis, although the details differed according to the character of financial systems. The financial system of the United States gives a much greater role to financial markets and to nonbank financial institutions than is the case in most other nations, which rely primarily on banks.4 Thus, in the United States, a wider variety of policy measures was needed than in some other nations. In the United States, the Federal Reserve established new liquidity facilities with the goal of restoring basic functioning in various critical markets. Notably, on September 19, the Fed announced the creation of a facility aimed at stabilizing money market mutual funds, and the Treasury unveiled a temporary insurance program for those funds. On October 7, the Fed announced the creation of a backstop commercial paper facility, which stood ready to lend against highly rated commercial paper for a term of three months.5 Together, these steps helped stem the massive outflows from the money market mutual funds and stabilize the commercial paper market. During this period, foreign commercial banks were a source of heavy demand for U.S. dollar funding, thereby putting additional strain on global bank funding markets, including U.S. markets, and further squeezing credit availability in the United States. To address this problem, the Federal Reserve expanded the temporary swap lines that had been established earlier with the European Central Bank (ECB) and the Swiss National Bank, and established new temporary swap lines with seven other central banks in September and five more in late October, including four in emerging market economies.6 In further coordinated action, on October 8, the Federal Reserve and five other major central banks simultaneously cut their policy rates by 50 basis points. The failure of Lehman Brothers demonstrated that liquidity provision by the Federal Reserve would not be sufficient to stop the crisis; substantial fiscal resources were necessary. On October 3, on the recommendation of the Administration and with the strong support of the Federal Reserve, the Congress approved the creation of the Troubled Asset Relief Program, or TARP, with a maximum authorization of $700 billion to support the stabilization of the U.S. financial system. Markets remained highly volatile and pressure on financial institutions intense through the first weeks of October. On October 10, in what would prove to be a watershed in the global policy response, the Group of Seven (G-7) finance ministers and central bank governors, meeting in Washington, committed in a joint statement to work together to stabilize the global financial system. In particular, they agreed to prevent the failure of systemically important financial institutions; to ensure that financial institutions had adequate access to funding and capital, including public capital if necessary; and to put in place deposit insurance and other guarantees to restore the confidence of depositors.7 In the following days, many countries around the world announced comprehensive rescue plans for their banking systems that built on the G-7 principles. To stabilize funding, during October more than 20 countries expanded their deposit insurance programs, and many also guaranteed nondeposit liabilities of banks. In addition, amid mounting concerns about the solvency of the global banking system, by the end of October more than a dozen countries had announced plans to inject public capital into banks, and several announced plans to purchase or guarantee bank assets. The comprehensive U.S. response, announced on October 14, included capital injections into both large and small banks by the Treasury; a program which allowed banks and bank holding companies, for a fee, to issue FDIC-guaranteed senior debt; the extension of deposit insurance to all noninterest-bearing transactions deposits, of any size; and the Federal Reserve’s continued commitment to provide liquidity as necessary to stabilize key financial institutions and markets.8 This strong and unprecedented international policy response proved broadly effective. Critically, it averted the imminent collapse of the global financial system, an outcome that seemed all too possible to the finance ministers and central bankers that gathered in Washington on October 10. However, although the intensity of the crisis moderated and the risk of systemic collapse declined in the wake of the policy response, financial conditions remained highly stressed. For example, although short-term funding spreads in global markets began to turn down in October, they remained elevated into this year. And, although generalized pressures on financial institutions subsided somewhat, government actions to prevent the disorderly failures of individual, systemically significant institutions continued to be necessary. In the United States, support packages were announced for Citigroup in November and Bank of America in January. Broadly similar support packages were also announced for some large European institutions, including firms in the United Kingdom and the Netherlands.9 Although concerted policy actions avoided much worse outcomes, the financial shocks of September and October nevertheless severely damaged the global economy–starkly illustrating the potential effects of financial stress on real economic activity. In the fourth quarter of 2008 and the first quarter of this year, global economic activity recorded its weakest performance in decades. In the United States, real GDP plummeted at nearly a 6 percent average annual pace over those two quarters–an even sharper decline than had occurred in the 1981-82 recession. Economic activity contracted even more precipitously in many foreign economies, with real GDP dropping at double-digit annual rates in some cases. The crisis affected economic activity not only by pushing down asset prices and tightening credit conditions, but also by shattering household and business confidence around the world. In response to these developments, the Federal Reserve expended the remaining ammunition in the traditional arsenal of monetary policy, bringing the federal funds rate down, in steps, to a target range of 0 to 25 basis points by mid-December of last year. It also took several measures to further supplement its traditional arsenal. In particular, on November 25, the Fed announced that it would purchase up to $100 billion of debt issued by the housing-related GSEs and up to $500 billion of agency-guaranteed mortgage-backed securities, programs that were expanded substantially and augmented by a program of purchases of Treasury securities in March.10 The goal of these purchases was to provide additional support to private credit markets, particularly the mortgage market. Also on November 25, the Fed announced the creation of the Term Asset-Backed Securities Loan Facility (TALF). This facility aims to improve the availability and affordability of credit for households and small businesses and to help facilitate the financing and refinancing of commercial real estate properties. The TALF has shown early success in reducing risk spreads and stimulating new securitization activity for assets included in the program. Foreign central banks also cut policy rates to very low levels and implemented unconventional monetary measures. For example, the Bank of Japan began purchasing commercial paper in December and corporate bonds in January. In March, the Bank of England announced that it would purchase government securities, commercial paper, and corporate bonds, and the Swiss National Bank announced that it would purchase corporate bonds and foreign currency. For its part, the ECB injected more than €400 billion of one-year funds in a single auction in late June. In July, the ECB began purchasing covered bonds, which are bonds that are issued by financial institutions and guaranteed by specific asset pools. Actions by central banks augmented large fiscal stimulus packages in the United States, China, and a number of other countries. On February 10, Treasury Secretary Geithner and the heads of the federal banking agencies unveiled the outlines of a new strategy for ensuring that banking institutions could continue to provide credit to households and businesses during the financial crisis. A central component of that strategy was the exercise that came to be known as the bank stress test.11 Under this initiative, the banking regulatory agencies undertook a forward-looking, simultaneous evaluation of the capital positions of 19 of the largest bank holding companies in the United States, with the Treasury committing to provide public capital as needed. The goal of this supervisory assessment was to ensure that the equity capital held by these firms was sufficient–in both quantity and quality–to allow those institutions to withstand a worse-than-expected macroeconomic environment over the subsequent two years and yet remain healthy and capable of lending to creditworthy borrowers. This exercise, unprecedented in scale and scope, was led by the Federal Reserve in cooperation with the Office of the Comptroller of the Currency and the FDIC. Importantly, the agencies’ report made public considerable information on the projected losses and revenues of the 19 firms, allowing private analysts to judge for themselves the credibility of the exercise. Financial market participants responded favorably to the announcement of the results, and many of the tested banks were subsequently able to tap public capital markets. Overall, the policy actions implemented in recent months have helped stabilize a number of key financial markets, both in the United States and abroad. Short-term funding markets are functioning more normally, corporate bond issuance has been strong, and activity in some previously moribund securitization markets has picked up. Stock prices have partially recovered, and U.S. mortgage rates have declined markedly since last fall. Critically, fears of financial collapse have receded substantially. After contracting sharply over the past year, economic activity appears to be leveling out, both in the United States and abroad, and the prospects for a return to growth in the near term appear good. Notwithstanding this noteworthy progress, critical challenges remain: Strains persist in many financial markets across the globe, financial institutions face significant additional losses, and many businesses and households continue to experience considerable difficulty gaining access to credit. Because of these and other factors, the economic recovery is likely to be relatively slow at first, with unemployment declining only gradually from high levels. Interpreting the Crisis: Elements of a Classic Panic How should we interpret the extraordinary events of the past year, particularly the sharp intensification of the financial crisis in September and October? Certainly, fundamentals played a critical role in triggering those events. As I noted earlier, the economy was already in recession, and it had weakened further over the summer. The continuing dramatic decline in house prices and rising rates of foreclosure raised serious concerns about the values of mortgage-related assets, and thus about large potential losses at financial institutions. More broadly, investors remained distrustful of virtually all forms of private credit, especially structured credit products and other complex or opaque instruments. At the same time, however, the events of September and October also exhibited some features of a classic panic, of the type described by Bagehot and many others.12 A panic is a generalized run by providers of short-term funding to a set of financial institutions, possibly resulting in the failure of one or more of those institutions. The historically most familiar type of panic, which involves runs on banks by retail depositors, has been made largely obsolete by deposit insurance or guarantees and the associated government supervision of banks.13 But a panic is possible in any situation in which longer-term, illiquid assets are financed by short-term, liquid liabilities, and in which suppliers of short-term funding either lose confidence in the borrower or become worried that other short-term lenders may lose confidence.14,15 Although, in a certain sense, a panic may be collectively irrational, it may be entirely rational at the individual level, as each market participant has a strong incentive to be among the first to the exit. Panics arose in multiple contexts last year. For example, many financial institutions, notably including the independent investment banks, financed a portion of their assets through short-term repo agreements. In repo agreements, the asset being financed serves as collateral for the loan, and the maximum amount of the loan is the current assessed value of the collateral less a haircut. In a crisis, haircuts typically rise as short-term lenders attempt to protect themselves from possible declines in asset prices. But this individually rational behavior can set off a run-like dynamic: As high haircuts make financing portfolios more difficult, some borrowers may have no option but to sell assets into illiquid markets. These forced sales drive down asset prices, increase volatility, and weaken the financial positions of all holders of similar assets, which in turn increases the risks borne by repo lenders and thus the haircuts they demand.16 This unstable dynamic was apparent around the time of the near-failure of Bear Stearns in March 2008, and haircuts rose particularly sharply during the worsening of the crisis in mid-September.17 As we saw last fall, when a vicious funding spiral of this sort is at work, falling asset prices and the collapse of lender confidence may create financial contagion, even between firms without significant counterparty relationships. In such an environment, the line between insolvency and illiquidity may be quite blurry. Panic-like phenomena occurred in other contexts as well. Structured investment vehicles and other asset-backed programs that relied heavily on the commercial paper market began to have difficulty rolling over their short-term funding very early in the crisis, forcing them to look to bank sponsors for liquidity or to sell assets.18 Following the Lehman collapse, panic gripped the money market mutual funds and the commercial paper market, as I have discussed. More generally, during the crisis runs of uninsured creditors have created severe funding problems for a number of financial firms. In some cases, runs by creditors were augmented by other types of “runs”–for example, by prime brokerage customers of investment banks concerned about the funds they held in margin accounts. Overall, the role played by panic helps to explain the remarkably sharp and sudden intensification of the financial crisis last fall, its rapid global spread, and the fact that the abrupt deterioration in financial conditions was largely unforecasted by standard market indicators. The view that the financial crisis had elements of a classic panic, particularly during its most intense phases, has helped to motivate a number of the Federal Reserve’s policy actions.19 Bagehot instructed central banks–the only institutions that have the power to increase the aggregate liquidity in the system–to respond to panics by lending freely against sound collateral.20 Following that advice, from the beginning of the crisis the Fed (like other central banks) has provided large amounts of short-term liquidity to financial institutions. As I have discussed, it also provided backstop liquidity support for money market mutual funds and the commercial paper market and added significant liquidity to the system through purchases of longer-term securities. To be sure, the provision of liquidity alone can by no means solve the problems of credit risk and credit losses; but it can reduce liquidity premiums, help restore the confidence of investors, and thus promote stability. It is noteworthy that the use of Fed liquidity facilities has declined sharply since the beginning of the year–a clear market signal that liquidity pressures are easing and market conditions are normalizing. What does this perspective on the crisis imply for future policies and regulatory reforms? We have seen during the past two years that the complex interrelationships among credit, market, and funding risks of key players in financial markets can have far-reaching implications, particularly during a general crisis of confidence. In particular, the experience has underscored that liquidity risk management is as essential as capital adequacy and credit and market risk management, particularly during times of intense financial stress. Both the Basel Committee on Banking Supervision and the U.S. bank regulatory agencies have recently issued guidelines for strengthening liquidity risk management at financial institutions. Among other objectives, liquidity guidelines must take into account the risks that inadequate liquidity planning by major financial firms pose for the broader financial system, and they must ensure that these firms do not become excessively reliant on liquidity support from the central bank. But liquidity risk management at the level of the firm, no matter how carefully done, can never fully protect against systemic events. In a sufficiently severe panic, funding problems will almost certainly arise and are likely to spread in unexpected ways. Only central banks are well positioned to offset the ensuing sharp decline in liquidity and credit provision by the private sector. They must be prepared to do so. The role of liquidity in systemic events provides yet another reason why, in the future, a more systemwide or macroprudential approach to regulation is needed.21 The hallmark of a macroprudential approach is its emphasis on the interdependencies among firms and markets that have the potential to undermine the stability of the financial system, including the linkages that arise through short-term funding markets and other counterparty relationships, such as over-the-counter derivatives contracts. A comprehensive regulatory approach must examine those interdependencies as well as the financial conditions of individual firms in isolation. Conclusion Since we last met here, the world has been through the most severe financial crisis since the Great Depression. The crisis in turn sparked a deep global recession, from which we are only now beginning to emerge. As severe as the economic impact has been, however, the outcome could have been decidedly worse. Unlike in the 1930s, when policy was largely passive and political divisions made international economic and financial cooperation difficult, during the past year monetary, fiscal, and financial policies around the world have been aggressive and complementary. Without these speedy and forceful actions, last October’s panic would likely have continued to intensify, more major financial firms would have failed, and the entire global financial system would have been at serious risk. We cannot know for sure what the economic effects of these events would have been, but what we know about the effects of financial crises suggests that the resulting global downturn could have been extraordinarily deep and protracted. Although we have avoided the worst, difficult challenges still lie ahead. We must work together to build on the gains already made to secure a sustained economic recovery, as well as to build a new financial regulatory framework that will reflect the lessons of this crisis and prevent a recurrence of the events of the past two years. I hope and expect that, when we meet here a year from now, we will be able to claim substantial progress toward both those objectives. Source: The Federal Reserve