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Eric Fry, reporting from somewhere near the housing
bubble...

A good friend of mine has a beautiful home for sale at what
would seem to be the going price...but it's not going
anywhere. Everyone who looks at this charming residence
seems to love it, but no one is buying it.

Suddenly, in my neighborhood, cautious "home-lookers" seem
to greatly outnumber eager home-buyers. Is this the
beginning of the end of the housing boom? Is this, as many
of us have been dreading, the end of the house party?
If it is, we might be cleaning up the after-party mess for
a very long time.

That's because the precarious state of the U.S. housing
market is not simply a result of leveraged speculation; it
is a result of NAÏVE leveraged speculation. Very few
homebuyers seem to appreciate the risks they are assuming.
Because prices have been rising for so long, many home-
buyers believe prices will continue to rise. And because
they believe prices will continue to rise, they devise
ever-more-creative ways to control as much real estate as
possible with as little starting equity as possible. And
even after buying, they continue to suck equity out of
their homes.

In such an environment...Prudence seems idiotic, while
idiocy masquerades as prudence.

"If you paid your mortgage off, it means you probably did
not manage your funds efficiently over the years," said
David Lereah, chief economist of the National Association
of Realtors and author of "Are You Missing the Real Estate
Boom?" "It's as if you had 500,000 dollar bills stuffed in
your mattress."

Lereah scorns such fiscal conservatism as "very
unsophisticated."

"If you own your own home free and clear," another
mortgage-industry executive related, "people will often
refer to you as a fool. All that money sitting there, doing
nothing."

Call us old-fashioned (and "unsophisticated"), but we
suspect that paying off debts is much more prudent than
acquiring them...

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CHIHUAHUAS OF THE SERENGETI
By Eric J. Fry

Asset bubbles are never merely financial; they are the
love-children of leveraged speculation and warped
perception. Sadly, even though these offspring seem so full
of life in the flower of their youth, they cannot survive
adversity...especially the sort of adversity that includes
rising interest rates.

That's why the U.S. housing bubble will very soon perish.
Rising interest rates will claim the housing bubble,
promises Bill Gross, the nation's preeminent bond fund
manager, just like rising interest rates have claimed
nearly every bubble that has gone before it.

No mortal may ever know death's appointed hour, but Gross
believes a few specific telltale signs will portend the
last days of the housing bubble. Indeed, he believes the
first of these telltale signs may already have come to
pass: A 300-basis point jump in short-term interest rates.

"I think it's pretty clear," Gross relates, "that real
housing prices have peaked on average four to six quarters
after the central bank first raises interest rates and
following what appears to be 200 basis points of short-term
rate hikes. The tightening then continues (too much
exuberance!) another two quarters thereafter for what looks
like a total cyclical increase of 300 basis points or so."

Guess what? The Fed's rate hike last Wednesday brought the
"total cyclical increase" in short-term rates to 300 basis
points since June of 2004. (In other words, the Fed has
hiked the fed funds rate from 1% to 4%). "That's dead on
the average point where real housing prices have peaked
over the past 35 years," Gross notes.

Americans are enjoying a growing economy, says Gross, "but
one which is acutely dependent on housing continuing to go
up, equity continuing to be extracted, and consumption
continuing to be motivated by what seems to be an endless
chain of paper prosperity.

"Wiser and more experienced counsel know that such a
foundation for wealth generation is really a castle built
on sand instead of granite, and the only question is when
the tide will rush in to wash it away...let me summarize my
sequence for house bubble popping or froth skimming:

1) Housing prices will cool/stop going up very much/even
go down in some cities, WHEN...

a. Interest rates rise to a high enough level to
make the purchase of a new home a burden
instead of a boon for first time buyers.

b. Mild regulatory pressure begins to reduce the
amount of funny-money lending.

c. Speculators sniff the beginning of the end.

2) Home equitization should retreat shortly thereafter.

3) Consumption/the U.S. economy will then weaken when
the house ATM starts running out of fresh new
$25,000/$50,000/$100,000 home equity loan dollar   
bills.

4) The Fed will cut interest rates in order to start   
the game all over again.

"Make no mistake about it," Gross ominously concludes, "the
froth in the U.S. housing market is about to lose its
effervescence; the bubble is about to become less bubbly.
If real housing prices decline in the U.S. in 2006 or 2007,
a recession is nearly inevitable."

Gross fears a recession...we fear a catastrophe. Because
the housing boom seems more bubble-like than not, the
effects could be much more devastating than most
prognosticators, including Gross, would anticipate.

"Operating in bubble markets, many people lose their
bearings," observes James Grant, editor of Grant's Interest
Rate Observer. "They become disoriented, financially and
morally. As most investors shrugged off the preposterous
high-tech valuations of early 2000 (they had become used to
them), so they are prepared to explain away the risk-
fraught mortgage-lending practices of 2005 (they have grown
used to them to)."

Indeed, the crazy excesses of the U.S. housing boom have
become so utterly commonplace that they seem about as
threatening as a snoozing kitten. Unfortunately, a pride of
snoozing lions might be a more appropriate metaphor. As
long as the lions are sleeping, of course, even a three-
legged Chihuahua could roam the Serengeti unmolested. But
the Chihuahua would never be truly safe. It would simply be
oblivious to its perilous circumstance...just like many of
today's homebuyers.

The lions will awaken eventually. These ferocious excesses
of the housing bubble – soaring prices, shriveling home
equity, vanishing affordability and idiotic lending
practices – will doom the many three-legged Chihuahuas that
have accumulated neither home equity nor anything else
resembling savings.

When the bubble bursts, the primal nature of the housing
bubble's excesses will become frightfully evident. They
will quickly cull the homeowner herd of its weakest
participants...Only the fittest will survive.

"As they happily watch their houses swell in value," writes
David Streitfeld in the L.A. Times. "Americans are changing
their attitudes toward mortgage debt. Increasingly, a home
is no longer a nest egg whose equity should never be
touched, but a seemingly magical ATM enabling the owner to
live it up or just live."

Homeowners borrowed a staggering $600 billion against their
houses last year – a sum equal to 7% of disposable personal
income. "This spend-now-rather-than-save-for-later
phenomenon has produced undeniable benefits," Streitfeld
concedes, "Experts attribute much of the nation's economic
growth to cash-out refinancings, home equity loans and
other methods of tapping rising home values. And additional
real estate investments financed by home equity have
contributed to the rising home prices that bring owners
such pleasure."

Just listen to the tales of delight!

Doug Levy, a university administrator in San Francisco,
sucked $25,000 out of his Marin County condo to pay a few
bills and to take a modest skiing vacation in British
Columbia. "It's like I'm sleeping in my piggy bank," Levy
gushes. "In this market, real estate is a liquid asset.
There is no longer an incentive to paying off your
mortgage. The only way I'll ever pay mine off is if I win
the lottery."

The flip-side of this borrowed prosperity as Levy admits,
is that the leveraged homeowner becomes a kind of long-term
renter, never really accumulating much equity in the house
he purports to own. "I'm never going to be able to retire,"
Levy says, "because I'll never have enough money in the
bank"...And neither will the millions of other American
homeowners who have mortgaged away their home equity.
In the old days, a mortgage was something that started off
big and slowly shrank. Now it does just the opposite.

Because so few Americans posses so little home equity, they
possess no capacity to withstand adversity. That's why a
reversal of fortunes could prove so devastating...and why
the next recession could be surprisingly ferocious.

The reversal may be upon us already, to the detriment of
the nation's many leveraged homeowners...and to the entire
American economy.

We have adored out vivacious little housing bubble...We
will miss him dearly when he is gone.

[Joel's Note: It truly has been a house party to remember.
You might recall that holiday you took, that extra car in
the driveway or the kid's tuition tab that was graciously
picked up by the "house ATM". Unfortunately, it is almost
time to get to kick all the guests out and start the
massive clean up. Some homeowners will have bigger messes
to clean up than others. Make sure you aren't stuck in the
kitchen with the dirty dishes. Read the special report here:

The Hidden Drop In Home Prices
http://www.agora-inc.com/reports/DRI/EDRIFB05   

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[Joel's Note: As you read this, the finishing touches are
being added to your Rude Awakening website. You will be
able to sort through your favorite issues, discuss current
events with other Rude readers, check the latest additions
to the Rude Marketplace and much more. Keep an eye out over
the weekend, as I'll be posting you the address along with
the inaugural Rude Weekend Edition.

And now for the storming of Capital Hill!

As you may be aware, our own founding father, Bill Bonner
and his crusading partner, Addison Wiggin, have been
amassing a sizable arsenal of statistics to launch at our
wayward politicians and monetary policy makers. Now, at
last, the Empire of Debt has arrived, the book containing
all these nuggets of information.

So here is the battle plan: We're going to ship 567 copies of
Empire of Debt to Washington...one earmarked for each and
every Congressman, Senator - and a special package for Mr.
Bush at 1600 Pennsylvania Avenue. We'll send another next
door to the Federal Reserve for good measure.

Let us know what you think and be sure to grab your copy to
be onboard as the strategy unfolds. We'll be calling to
make sure the congressmen are keeping up with their
reading. Grab your copy in advance here:

http://www.amazon.com/exec/obidos/ASIN/0471739022/dailyreckonin-20/

As always, send suggestions and comments, of request
updates on the battle plan from me here at:
aussiejoel@the-rude-awakening.com and keep an eye out for
your Rude Awakening website address coming soon.

Cheers,

jOEL

And the Markets...
 

	Thursday	Wednesday	This week	Year-to-Date
DOW	10,523	10,473	307	-2.4%
S&P	1,220	1,215	40	0.7%
NASDAQ	2,160	2,144	78	-0.7%
10-year Treasury	4.65	4.61	26.00	4.61
30-year Treasury	4.84	4.80	24.00	4.79
Russell 2000	659	657	26	1.1%
Gold	$461.10	$462.95	-$5.79	5.4%
Silver	$7.58	$7.53	-$0.08	11.2%
CRB	321.28	316.45	-1.23	13.2%
WTI NYMEX CRUDE	$61.75	$59.78	$1.12	42.1%
Yen (YEN/USD)	JPY 117.17	JPY 116.84	-1.28	-14.2%
Dollar (USD/EUR)	$1.1943	$1.2069	6	11.9%
Dollar (USD/GBP)	$1.7701	$1.7765	-26	7.7%