Pain isn't restricted to struggling homeowners

— -- Investing: Stocks could fall into bear market's clutches

Investors have already seen some of the financial market fallout caused by indebted homeowners defaulting on their mortgages and banks losing billions of dollars from bad bets on securities tied to risky mortgages. Shares of banks, mortgage lenders and retailers have suffered their own private bear-market pain.

Neither has produced a broad stock market "correction" of 10%. A 20% decline, which is a bear market, hasn't happened in almost five years. But that's the risk. While this worst-case scenario may not pan out, it can't be ruled out, either.

"Bear markets occur during recessions," says Ed Yardeni, president of Yardeni Research. "Usually, the stock market anticipates a recession and stocks continue to decline as the economy first sinks into recession. Investors need to be prepared to absorb a 20%-plus loss."

The risk is if the broader economy takes a big hit. If that happens, it would shift the pain in the stock market from the sectors that have felt most of the pain to date — namely, financial and retail stocks — to the rest of the sectors of the economy.

Predicting tough times ahead, Michael Panzner, author of Financial Armageddon, recommends that investors buy shares of companies that sell stuff that people need to buy no matter what's going on with the economy. Companies that sell soft drinks, tobacco, prescription drugs and toilet paper, for example.

Investors, he says, should play it safe, loading up on defensive stocks, socking away more cash and moving toward the safety of U.S. Treasury notes and bonds.

Despite all the potential negatives, a recession is still a long shot, as are most of the worst-case scenarios, says Jeremy Siegel, finance professor at the Wharton School of Business. He says major banks like Citigroup and Merrill Lynch are unlikely to suffer 80% drops like tech stocks did in the late '90s.

More important, he stresses: Even if a bear market does occur, these steep market drops ultimately lead to "big buying opportunities."

As for retirement-plan investors, they should be investing for the long term, says Nicholas Nicolette, president of the Financial Planning Association. He is telling clients that if an investment is underperforming its peers, they should consider replacing it. But they shouldn't abandon a market sector altogether because of a market correction alone.

When prices are low, it's actually a good time to buy an investment, planners say, as long as the company — and the sector — have favorable prospects. The recent market downturn should also remind investors of the value of diversification, says Judith Ward, a financial planner at T. Rowe Price.

Think about how much of your company's stock you own. T. Rowe suggests holding no more than 10% in company stock in your retirement portfolio.

By Adam Shell and Kathy Chu, USA TODAY

Credit cards: Terms could change even for best customers

Turmoil in the mortgage market means that "it's a matter of when, not if" banks will change your credit card terms, says Jose Garcia, a senior research associate at Demos, a think tank in New York.

Banks' massive write-downs for their exposure to troubled mortgage securities — coupled with broader economic turmoil — mean they're more aggressively trying to boost profits, says Garcia. Traditionally, credit card operations have been a cash cow for banks.

Many institutions, to limit their exposure to bad loans, have gotten pickier about approving credit and granting high limits to new customers. Some are even raising interest rates.

Greg McBride, a senior financial analyst at Bankrate.com, says that "risk-based pricing isn't anything new," but increasingly "may be applied a little more stringently, thanks to the credit crunch" in the mortgage industry.

Overall, rates are falling for card holders with good credit and should continue to do so, McBride says. Variable-rate credit cards averaged 13.5% as of Nov. 21, compared with 14% on Sept. 12, before the Fed's first rate cut, according to Bankrate.com.

Yet consumers with poor credit or who don't pay their bills on time likely won't be seeing lower rates. Over the years, the penalty rate imposed on customers who miss a payment or go over their credit limit has crept up to 33%.

Even consumers with good credit scores won't be spared, though, as some issuers reduce credit limits to reduce their exposure.

Curtis Arnold, founder of CardRatings.com, a card-comparison site, says he's hearing more complaints from people who've had their limits lowered by as much as 50%.

Arnold had his credit limit lowered earlier this year. He carried $17,000 debt on one card — from using low-rate balance-transfer offers to finance a car purchase — when the issuer lowered his limit by a few thousand to $17,700.

The concern with lower credit limits is that it could hurt your credit score, because part of your score is based on how much debt you carry compared with your available credit. The best way to deal with a lower credit limit is to "put your card in the drawer and pay as much as you can," says Gail Hillebrand, a senior attorney at Consumers Union, an advocacy group.

Arnold says his experience "left a bad taste in my mouth" and made him not want to do business with the lender.

Delinquencies in the credit card business are inching up, though not as dramatically as with other consumer loans, according to Moody's Economy.com. A growing number of issuers are increasing their reserves for credit card losses, a sign they're anticipating defaults, the result of chronic delinquencies, to rise.

By Kathy Chu

Housing: Real estate recession won't be over soon

This real estate recession is the worst since the Great Depression, affecting almost every part of the housing market, from construction to lending. A turnaround is not expected until the second half of next year and the financial aftershocks from rising foreclosures will be felt for at least another six years.

The confidence level of home builders remains at a 22-year low, and the National Association of Home Builders repeated last week that it doesn't expect the decline in new home construction to bottom out until the second half of next year.

"Builders do not see any significant change in housing market conditions as compared to last month," NAHB chief economist David Seiders said in a statement, and special sales incentives are having limited success in attracting home shoppers.

D.R. Horton, the second-largest home builder, said last week that 48% of buyers canceled their contracts in the July to September quarter, and that housing market conditions continued to decline in that period.

But the pain is not being felt evenly across the country. Home prices fell in 17 states during the last year, but most states "continue to have stable home values," and a half dozen others even showed moderate price growth, according to an analysis of repeat sales last week by First American LoanPerformance.

Worst hit were California, Nevada, Arizona, Louisiana and Florida, where prices declined 5% to 10%.

Almost 16% of homeowners who bought in the past two years owe more on their mortgages than their properties are worth, Zillow.com says.

By Noelle Knox

Consumer spending: Auto industry may feel the pinch shortly

So far, most U.S. consumers have not taken a direct hit from the credit crunch. That could change.

When home values fall, it's harder for people to obtain home equity loans, refinance or extract money from their homes. And a decline in housing values will likely make people feel less wealthy, making them less likely to spend. "It's really kind of a key question: Does the consumer see a decline in house values of such a dimension that it causes them to become more cautious?" says Dana Johnson, chief economist at Comerica Bank in Dallas. "How that sorts out will be a very big factor of, do we get through this without a recession?"

Kevin Tynan, an analyst for Argus Research, predicts the auto industry is most likely to suffer collateral damage from the credit crunch.

In the past decade, the industry has lengthened auto loans to five and six years, up from three and four years. That gave buyers lower payments, but it also takes longer to pay off the principal of the loan.

Many consumers coming in for new cars are "upside down" in their loans, meaning they owe more than their present car is worth.

To get the deal done, dealers would often lend car buyers enough money to cover the new car and what they owed on their previous car.

Although the number of repossessions isn't going up, Ford Credit is seeing the severity of its bad loans increase. In the third quarter, the financing arm lost up to $7,500 per bad loan, an average of $1,000 more than the year before.

The credit crunch is happening at the same time as gasoline prices are rising and the job market is slowing, both factors that could sap consumer spending, says Nigel Gault, at Global Insight in Lexington, Mass.

"For the consumer, the party is over," he says.

By Barbara Hagenbaugh and Sharon Silke Carty

Municipal bonds: Downgrades could start investor exodus

Even relatively safe investments such as municipal bonds are not immune from the subprime mortgage debacle, according to industry analysts and finance professors.

Credit-rating agencies such as Fitch Ratings have warned they may downgrade the corporate ratings of Financial Guaranty, CIFG Guaranty and other U.S. bond insurers because of subprime-related losses on securities they've insured.

The insurers guarantee the repayment of principal and interest to investors in municipal bonds that are issued by local and state government bodies to raise money for everything from school buildings to sewage systems. The insurers also back the riskier investments called collateralized debt obligations, or CDOs, that include subprime mortgage assets.

If bond insurers and the muni bonds they back get downgraded, the potential economic damage could ripple from Wall Street to Main Street, hurting local governments, consumers and taxpayers, says Joseph Mason, a Drexel University finance professor.

A flood of anxious individual investors, mutual funds and other bondholders would try to sell. But the muni-bond market "doesn't have the liquidity to handle that kind of flow," says Matt Fabian of Municipal Market Advisors. "Very little would get traded, and everyone would see the market value of their bonds drop very quickly."

In a worst-case scenario, many municipalities may find it harder to raise money, says Stanford University business professor Darrell Duffie. Projects could be delayed. Services could be cut, and taxpayers might get hit by higher taxes.

Also, state and county funds have invested in an unknown amount of subprime-related securities. About 90 government investment pools hold $202 billion for thousands of school, fire and water districts, says the iMoneyNet research firm.

By Edward Iwata

Investment banks: Citigroup spotlights risks in securities

If the subprime mortgage meltdown is the Hurricane Katrina of the financial services industry, then Citigroup could be New Orleans, the biggest casualty of this catastrophic storm.

Its stock, down by a third since mid-October, sinks lower with each worsening estimate of the depth of Citigroup's potential losses from securities tied to the subprime mortgage market.

On Nov. 4, Citigroup said its losses from exposure to the subprime market could reach $11 billion, a sum so staggering that CEO Charles Prince resigned from the nation's largest bank. Last week, Goldman Sachs predicted Citi might have to write down $15 billion in this quarter and next.

The bank's troubles place it in company with homeowners struggling to pay mortgages on houses now worth much less than they paid. Both are paying now for taking greater risks than they realized.

Citigroup was a leader in packaging mortgage, credit card and other loans into securities known by names such as collateralized debt obligations, or CDOs, and then selling them to investors. The explosive growth of these securities since 2000 helped finance the housing boom.

Securitization has spread lenders' risks and "created this cheap and readily available credit environment," which has fueled consumer spending and economic growth, says Gregory Peters, chief credit strategist at Morgan Stanley.

Amid the housing turmoil, investors have been less willing to buy these securities, which are now plunging in value as mortgage delinquencies rise. As banks have been forced to keep more of these securities on their balance sheets, they're pulling back on lending to consumers, Peters says.

By Greg Farrell