February 6th, 2014 1:55 PM by Nick Rapplean
Remember the days when lenders watched the movements of the 11th District Cost of Funds Index very closely? That was back when a lot of Adjustable Rate Mortgages were being written and the 11th District COFI was one of the most commonly-used indexes for the loans.
Few of us knew with great certainty how the San Francisco office of the Fed arrived at the monthly figure, but we were assured that the index moved slowly and smoothly. For one thing, a huge group of figures-- they were the various costs that the financial institutions paid for the use of money from varied sources that they had on hand at any moment. These figures were weighted for their terms to maturity, so one 4% cost of funds wasn't the same as another. And all the number crunching took about a month, at the end of which the San Francisco Fed published a number which had been crunched and munched and weighted and dated. Lenders used the number to arrive at the operative percentage number to be used by various ARMs throughout California, Arizona, Nevada and a few other places in determining how they would adjust their loan’s monthly payments.
Have your eyes glazed over yet? This wasn't exactly thrill-a-minute stuff.
But I was reminded of it recently when I was checking on relative recent numbers for the 11th District COFI. The percentage figures were imposing, long, and difficult to figure out. The figure for the weighted average cost of funds last November was 0.783. That figure was released, then used for the next month, when a new figure was released, creating something like a 2-month running average.
The figure released the next month, at the end of December, was 0.784.
Now, is it just me, or does that seem statistically close to impossible? A difference of one thousandth of a percent? Hello?
Believe it or not, there's a reason I bring this up. Specifically, I've found over the years that there have been figures and formulas derived in ways that are nearly impossible to understand and that result in sums that the average mind surely believes couldn’t result.
Nowhere is this more apparent than in the naming and defining of reasons for certain economic events. A great example is provided by the recent one-day declines in the Dow Jones Industrial Average and other stock figures pumped out by the financial press.
Just this last Monday, when something led all the lemmings to the edge of a cliff and the Dow dropped by 326 points-- which seems like a real number when you place it next to the COFI's plunge from 0.783 to 0.784-- most economists rushed around, calculators in hand, trying to figure out what made this happen and why.
One economist, Professor Kristin Fowler of MIT Sloan School of Management, wrote the following helpful explanation:
"Changes in expected global growth and global uncertainty-- both of which can be affected by events in emerging markets--have recently played an even more important role. The sell-off in emerging markets that began late last year, for example, was sparked by weak Chinese marketing data-- not the news of American monetary policy. The Federal Reserves announcement on Dec. 18 that it would slow its asset purchases to $75 billion a month, from $85 billion a month, had minimal effect on the markets, partly because that move came amid increased confidence in the global economy and upgraded growth forecasts for large economies such as China. The sell-off this week, which has sent benchmarked emerging market indexes to their lowest level since 2008, was sparked by weaker manufacturing data in the United States."