The volatility index, VIX, is often referred to as the “fear index”. It reflects the premium built into option prices to account for the seller’s exposure to future price movement. When fear is higher, buyers are willing to pay more and sellers demand more for the risk they are taking. The reverse is true, and so the record lows indicate a complete lack of fear, in a historical context, that anything unpredicted can happen.

Economic bulls are taking heart from signs of life in housing, shown by the recent resurgence in mortgage applications (and also an uptick in ECRI’s LHPI, although one is probably the result of the other), and in retail. The housing data is real enough, but the retail data seems pretty strange given the weakness in sales tax collections and the reports from the stores, like Wal-Mart, themselves. I think the party is premature. But we’ll see.

There was a big draw in natural gas and energy was strong. The alleged economic strength boosted the dollar and weakened gold.

Kasriel: “Most people are not aware of actions the Fed took during the great depression. Bernanke claims that the Fed did not act strong enough during the great depression. This is simply not true. The Fed slashed interest rates and injected huge sums of base money but it did no good. More recently, Japan did the same thing. It also did no good. If default rates get high enough, banks will simply be unwilling to lend which will severely limit money and credit creation.”

Interview and email on Mish Shedlock’s blog.

Barron’s: “While things couldn’t be better on the top floors where the hedge-fund swells reside, down in the basement where speculative-grade mortgage borrowers live, fissures in the foundation are becoming visible….

The cracks in the subprime mortgage market may be the canaries in the coal mine for the housing downturn and further slowing in the economy. When the cracks become visible to all, the Fed then will try to plaster them over by cutting rates.”

Also, John Mauldin’s weekly newsletter has some good comparisons to previous housing busts. It is clear from his work (well actually seems to have come from an outfit called Guerite Advisors) that we are a long way from a bottom in housing. Specifically, Guerite thinks new construction has to fall as much again as it has already fallen.

The stock market bubble has never really deflated. It sagged some with the demise of the high-flying internet stocks such as Pets.com, but we never had a real bust in the broad market, down to the valuation lows normally seen at long-term bottoms. The internet bubble was largely driven by individual investors, the celebrated day-traders and so forth, supported by a chorus of IPO-pushing bankers and analysts. The retail traders predictably got their asses handed to them, and limped off to speculate in the housing market, where the same handout is now in progress. Meantime, the stock market has been making new highs, except in the NASDAQ, of course.

How come? Two main factors, so-called “private equity” - hedge funds that buy companies, replacing their stock market equity with debt, and paying themselves out of the company’s pocket - and stock buybacks. Corporate earnings are very high, and companies are flush with cash. What to do when no traditional investment opportunities - i.e. expansion - present themselves? Well, let’s issue ourselves a bunch of options and then drive the stock higher with buying funded by the corporate till, say the executives. The shareholders don’t complain because their stock appreciates too. In both cases, the driving force is a few folks’ need for loot.

The side effect is prices being driven higher by borrowed money. Just the bubble du jour. Paul Kasriel points out that at least some of this money is flowing into consumers’ hands and helping to fund their lifestyle as the housing bubble deflates.

This same sort of thing happened before, “private equity” used to be called LBOs (Leveraged Buy Outs) before. Remember Michael Milken and junk bonds? The “Predators’ Ball?” (One included a video of Madonna, decked out in trashy jewelry and little else, slinking around and singing “I’m a Double B Girl in a High Yield World-Drexel, Drexel, Drexel.”) It ended in tears with companies staggering under huge debt loads. But the new predators will be gone by then, leaving others to hold the bag.

The bottom line is it is yet another way to fund consumption from debt.

From the Denver Post: “Sebring Capital Partners, a Texas-based subprime lender with a Denver-area office, falls prey to the rising rate of defaults in another sign of the industry’s trouble. A Texas mortgage bank that employed 50 people in the Denver area abruptly closed its doors Friday, signaling more trouble in the subprime lending industry. Sebring Capital Partners notified employees of their termination Friday. The company posted a message on its website announcing the closing without giving an explanation. Carrollton, Texas-based Sebring employed 325 people, including 50 in the Inverness area of Arapahoe County. A company executive confirmed the closing Tuesday. ‘We’re in the process of orderly winding down,’ said Michael Waldron, senior vice president of legal and compliance. ‘We’re trying to get people placed. We continue to explore all available options.’”

And by the way it is not just the little guys - HSBC – a major financial institution – already reported this week slower revenue growth “attributable largely” to weakness in the U.S. housing market and forecasted “further near-term risk in its U.S. lending portfolio stemming from higher short-term interest rates having resulted in an increase in delinquencies and an unfavorable housing market.”

No canaries were harmed in the production of this blog entry.