We’ve written a lot about the US sub-prime crisis and some of the very nasty housing stats coming out of the US, but sometimes it takes ‘real life’ examples to realise just how bad the situation has become for US homeowners, and how much worse it can get. There was an excellent piece on the BBC website earlier this week, which focused on Cleveland, Ohio – “the sub-prime capital of the United States”, where one in ten homes are now vacant.

It’s not just an economic problem, it’s also become a very serious social problem. The BBC’s article includes a map of Cleveland, illustrating which areas of the city have the highest concentration of sub-prime borrowing. You can cross-reference this against the areas with the highest black population, and the correlation is extremely close. The same applies across the whole of the US. For example, nearly half of the entire black community who bought a house in 2005 and 2006 in Atlanta took out a high interest mortgage, versus just 13% for white home buyers.

There is a lot of debate about this racial disparity. Some say financial institutions have targeted ethnic groups, but most likely it is because black and hispanic people earn less on average and are therefore more likely to be sub-prime borrowers. Either way, the US sub-prime crisis could turn out to be one of the biggest drivers of racial inequality in US history.

On a slightly lighter tone, Michael Jackson might be told to ‘Beat It’ after he appeared in Santa Barbara’s Foreclosure Detail Report. Michael Jackson has missed over $200,000 in mortgage payments on a $23m loan for his Neverland Ranch. It’s not just the sub-prime borrowers who are falling ‘off the wall’.

"I phoned Camelot and they fobbed me off with some story that -6 is higher, not lower, than -8 but I’m not having it".

Not bond related, but a combination of funny and disturbing – click here to read full article.

Third hand, through the blog-o-sphere, here are a few little ratios (click to see) that might make you think that the market’s current whipping boys, Merrills and Citigroup, have been relatively conservative in their exposure to the problem asset classes (CDOs, loans, SIVs etc). Somebody has calculated the extent that the US investment banks have categorised these instruments as “Level Three” for accounting purposes, and compared this to their equity bases as a ratio. “Level Three” assets do not have to be marked-to-market, and the banks themselves can estimate fair value – a cause of much eyebrow raising amongst independent analysts. You can see that Citigroup’s ratio is 105% ($135 bn of level three assets, $128 bn of equity), whilst Merrill’s is just 38%. Compare these numbers to Goldman Sachs (185%) or Morgan Stanley (251%) and you can see why some of us fear that when the price discovery process really starts to happen in the illiquid instruments, some banks will have to declare bigger writedowns than they’ve admitted so far.

As an aside, the Financial Times’s Alphaville website referenced above is one of the most informative places for up to date views on the credit crisis. It’s well worth registering to sign up for their daily email, the 6.00am Cut.

Brazilian supermodel Gisele Bundchen, the world’s richest model according to Forbes magazine, shares our view that the dollar’s yet to bottom out. She is insisting upon being paid in pretty much any currency other than the dollar.

According to Veja, Brazil’s biggest weekly magazine, Gisele demanded to be paid in euros when she signed a contract in August to represent Pantene hair products for Procter & Gamble. She’ll also get euros for the deal she reached last October with Dolce & Gabbana in Milan to promote the Italian designer’s new fragrance.

The Fed gave markets a treat by cutting rates by 0.25% yesterday, taking rates to 4.5%. The nasty trick, though, was that the Fed said that the upside risks to inflation balances the downside risks to growth. Monetary policy is ‘neutral’, ie there is (supposedly) an equal chance of the next rate move being upwards as downwards. I say ‘supposedly’, because yesterday’s Fed cut coincided with the Fed pumpkining $41bn of liquidity into the banking system, the biggest single day of such injections since September 2001.

My job is to try to work out what ‘neutral’ and ‘balanced’ actually means. Do we have a perfectly balanced economy with minor inflationary and growth challenges? Or do we have a monster of a problem, with the threat of a severe US recession (led by the housing market), coupled with equally severe inflationary pressures (brought on by skyrocketing commodity prices and a collapsing dollar)? If the former, then one can relax for the next six months; but my fear is it is the latter and stressful times lie ahead.

The Fed has twin objectives of targeting ‘core’ inflation and supporting the economy, but if push comes to shove it will not let the inflation genie out of the bottle. After all, the Fed earned its reputation under Paul Volcker by killing inflation in the early 1980s. I think the Fed would be prepared to risk recession. 2008 could be a horror show.