THE BROKEN RUNGS OF THE HOUSING LADDER

Last week was a tough one for the markets. Oil rose over $88 and the Dow got clobbered. It fell 366 points on Friday. The euro (EUR) rose to almost $1.43.

The Boston Globe gives us a quick update on the housing picture:

"'You can see that it's a crisis,' said John L. O'Brien, registrar of deeds for southern Essex County, based in Salem [Massachusetts]. 'It's starting to take on a life of its own.'"

Foreclosures in the yankee state are running three times last year's level. And losses are working their way up the socio-economic ladder. Goldman Sachs' (NYSE:GS) Trust 2006-S3 is a sophisticated investment instrument containing 8,274 mortgages. One out of every six of those mortgages is in default - only 18 months after the thing was put together. When that many people stop paying, it wipes out the entire capital value of the derivative. And since speculators usually take leveraged positions, the losses can go much further.

We don't know whose mortgage is going unpaid…or who invested in the trust…but according to former colleague Adrian Ash, after Goldman created the derivative and sold it to its customers, it then sold its own monster creation short in order to protect itself.

Goldman is a smart operator. The typical fellow has no obvious way to protect himself. His house falls in value…his earnings go down in value…his living costs go up…and he's out of luck. And not all the big players are as smart as Goldman. There always has to be someone on the other side of these trades. Also last week, two major financial companies - one in London, the other in Düsseldorf - defaulted on $7 billion worth of debt.

What is going on? Time will tell.

"It's funny because you can see it is a big problem," said our cousin yesterday. "People have bought these huge houses. They don't really need so much house, and they never intended to pay for it. They just figured that they'd stay in it for a few years…and then sell out at a big profit. The bigger the house, the more money they'd make. So they bought these McMansions, which really aren't very well built. Everybody thought the same thing, so everyone was buying more house than he needed. That's why the whole housing market went up…people were all pushing up to the next level.

"But now, no one is coming up. The pressure from the bottom has gone away. And these people are left with a lot more house than they can really afford, or that they even want. They have to keep it clean…and maintain it…and pay taxes on it. And property taxes are so high in Maryland now…especially for waterfront property…that you never really own your house; you just rent it from the government. I was going to build a house down on the bay…but the property taxes alone would have been between $15,000 and $20,000 per year. I said, 'Forget it'."

What will happen next? What happens when people say 'forget it' to new purchases? What happens when the bottom rung of the property ladder breaks? When happens to an economy that depends on consumer spending when consumers have no more money to spend?

We don't know, dear reader, but we don't think it'll be pretty. And if you'd like to spare yourself from the ugliness that will ensue, you might want to check out this report.

For the moment, time is keeping its mouth shut. We have our opinions, of course. You can probably guess what they are. But we'll keep our mouth shut too - at least until we get back from the ranch.

In the meantime, we pass along this from Julian H. Robertson, one of the smartest people in the hedge fund industry. The economy is headed for one "doozy of a recession," says he.

Colleague Steve Sarnoff adds his two cents on the latest market happenings, saying, "Stocks slipped sharply on Friday and this morning, as disappointment, worry, and fear over housing, credit, currency, recession, and inflation spread like southern California wildfire. The financial media fans investors' fear through the markets like Santa Ana winds funneling fire through dried out coastal sage and chaparral canyons.

"Prices move naturally from resistance to support and that is simply what is going on here. The pressure is on over the near-term, but watch how the news will change (sudden easing of fears) once technical support (demand) comes in."

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Here's our old Fed chief, Alan Greenspan, commenting on the effects of the credit bubble that he, more than anyone, created:

"The financial crisis that erupted on August 9 was an accident waiting to happen," Greenspan said in a speech yesterday. "Credit spreads across all global asset classes had become suppressed to clearly unsustainable levels.

"Something had to give."

Well, yes. Something has to give. We've said as much ourselves. Then again, we didn't control short-term interest rates during the long period in which pressure was building up. We weren't the ones with our hands on the credit throttle, shifting the lever to 'Full Speed Ahead' - even as the rivets began to pop. And we weren't the one who reassured the public that all would be well, either.

But Alan Greenspan is a marvel. We admire him. Who else would have the chutzpah…the gall…the cheek?

He continued: "If the crisis had not been triggered by a mispricing of securitized U.S. subprime mortgages, it would eventually have erupted in some other sector or market."

He makes it sound as though he played no part in it…as if it were an act of God when a credit expansion comes to an end. And then, he adds a warning:

"If the pernicious drift toward fiscal instability is not arrested and is compounded by a protectionist reversal of globalization, the current account adjustment could be quite painful for the United States and our trading partners."

That Greenspan! What a character! If the authorities don't get control of this thing, he says, it could hurt.

We've come to the ranch to count the cows. Unfortunately, the cows are spread over thousands of acres.

But let us back up and tell the new, dear readers how we got here.

Until we were nearly 50 years old, we scarcely ever left home. We lived only a mile or two from where we were born…and where our mother's family had lived since the 17th century. We assumed we would die there too.

But in our 48th year, we began to wonder. Our area had completely changed. Rural Maryland was not nearly as rural - or as nice - as we remembered it from our childhood. The landscape had changed; tobacco fields had been replaced with housing developments. The roads were full of commuters. The people changed too - gone were all the old families with their local accents and local customs. The new people spoke in different tongues and worshipped different gods.

It was not so much that we disliked this new world. It's just that we had no attachment to it. We had stayed put. But the world we knew and felt close to had left us. We looked around and realized that we weren't at home anymore.

So, we decided to leave too.

At first, it was mostly curiosity that turned us into exiles. We wanted to know how other people lived…what they ate…and what they thought. So, we moved to France. We only intended to stay for a few months; but while we weren't looking, Elizabeth put down roots. Soon, we were speaking French…going to church…and school meetings…and weddings. Our youngest children - who had spent most of their childhoods in France - actually began to seem more French than American.

We stayed in France for more than 10 years. We still have a house there and still spend vacations in France. But then, your editor realized that it would cost him a fortune in taxes if he remained in the land of the frogs; he was forced into exile again - this time in England, where he lives with his two daughters in a tiny apartment full of shampoo and young women's underwear.

And now, because our anchor has been hauled up, we are adrift. Taking advantage of this little break in normal family life, for example, we exile ourselves to an even more remote region - out to the ranch, far beyond the pale of normal, civilized life…out in a high valley in the Andes mountains, about a 24-hour drive from Buenos Aires, Argentina.

"Don't worry, Don Bill," said Francisco. "Everything is all right here. We have had a very bad drought, but the rain should be coming in a couple of months. We have enough hay to last us until then. And if the rains don't come, well…"

Francisco laughed. The ranch depends on water. If the water doesn't come, the ranch will cease to exist. What could he do but laugh; he'd spent his whole life on the ranch. What does a gaucho do when his ranch disappears? Francisco could only laugh at the possibility. Unlike Maryland, nothing has changed at the ranch for a very long time. Three hundred years ago, the ranch supported 984 cows, according to a census conducted by the Spanish governor. Now, it is supposed to have about the same number.

The sun rose bright and hot yesterday. We went over to Maria's kitchen for breakfast. Maria used to teach school. Now, she doesn't mind correcting our Spanish while she cooks eggs.

"No, it's 'tenga' not 'tiene'…you need to use the subjunctive, Señor Bill."

After breakfast, our friends mounted up on horses and went to have a look around. We sat down at the dining room table with Jorge and Francisco.

"How many cows do we have?" we asked.

"One thousand and twenty," came the answer.

"Where are they?"

Jorge and Francisco looked at each while we studied their faces carefully. Jorge looked puzzled.

"What do you mean, Don Bill?"

We realized that we had just asked what must have seemed to them as the stupidest question they could imagine. The cows were not in the house. They were not in the church. They were not in the car. They were where they always were.

Jorge looked at your editor as though he might look at a lunatic, not knowing whether to call a doctor or a policeman:

"They are in the fields."