Thursday, October 30, 2008

The economy is weaker than it seems

A weak report...
The GDP report was weak. The report was weaker than the headline, as we warned. Only a HUGE drop in Q2 inventory made a large drop in Q3 inventories look STIMULATIVE to GDP (been down so long, looks like up to me…). Such is the way of GDP accounting.

Accounting for growth when weakness is EVERYWHERE...
Exports added about 0.8% to GDP growth and imports fell adding to growth as well. Trade adds about one percentage point overall. Another percentage point was added by the (small?) government sector where spending is ramping up (surprise surprise!!!) heading into the election. And of course the drop in inventories added to growth - I know, I know it seems illogical but any Vulcan could understand it. The drop in Q3 was a smaller drop than in Q2 so it subtracted less from the LEVEL of GDP and that adds to growth… see how it works? It’s sort of like the enemy of my enemy is my friend. It’s not a double negative. Its just that sometimes ‘bad’ is better than ‘worse’, even though it is still not ‘good.’.

Moving on…

The crumbling pillars of growth...
But the main pillars of GDP growth are crumbling. The consumer subtracted two percentage points from growth and business spending subtracted from growth as did the residential construction sector. It’s a miracle that GDP did not fall by more… an artifact of GDP accounting.

Growth prospects are extremely limited
Inventories and exports plus less importing cannot sustain growth any more than anorexia can be considered a good weight loss program. This is no lasting stimulus program

Government JUICES GDP
Government can’t continue to spend faster than private sector growth (this quarter the private sector SHRANK as government spending spurted) or the budge deficit simply balloons – (Would you like to fly in my beautiful balloon? Why not? You are paying for it…). This is not even part of the automatic stabilizers since unemployment has not yet YET gone hog wild. So far it's a spurt in military spending. Wow I didn't see that coming in Q3 did you? I guess if you are compiling the GDP numbers and they start to look too weak you can advance some that military spending to muffle the sound of the economy dropping and breaking.

There is a sense of unreality to a benign -0.3% headline in the GDP report and devastations that lies inside it - especially as regards the consumer.

This is the SPARTAN GDP report.

It swallowed its teeth rather than show you a headline that was as bad as it felt. Look at the details and see for yourself. What basis is there in the report to be optimistic about the future?


Thought so.

Assessment and outlook
It’s weak. So is the banking sector. House prices are still falling. Foreign growth is getting weaker – the overnight EMU economic sentiment index made a record drop. So US exports are about to end their strong run. GDP is bound to get worse than this…

Wednesday, October 29, 2008

The placebo: WORD

Do it
Take it
Cut it
...or not

It won't make any difference.

Rate cuts no longer can solve this problem. But sometimes placebos have an effect. Maybe this one will. But maybe just maybe the effect will be bad...

Fed should do more... or... err... well, on second thought, maybe not...
Some argue that the in time hike these the Fed should do more. But the US has a gapping hole in balance of payments that capital flows need to fill. The dollar is the important reserve assets and is is doing better than GOLD recently. I would not want to see that change. And cutting rates too deeply could lose confidence or get inflation expectations higher. The US is not Japan. We can't do what it did, we can't take the risks that it did. WE ARE the world's main reserve asset. We are the Dollar. (Sounds a bit like Denzel Washington saying 'We are the Titans!' doesn't it?)

Think ahea
We need to keep perspective and think outside the box. There are repercussions to things done for our domestic market. Had the rating agencies THOUGHT outside the box when wrapping high ratings on houses bought at high prices and no money down without income checks they should have wondered what would happen if prices started retreating? NOT thinking ahead can be really costly.

Biz as usual or not?
The economy is in a recession and so for a while bankers will find that pulling their heads under their shells will come naturally. But government capital has been inserted in banks and the government and Fed need to instill in banks the notion that something is different. This is not Biz as usual.

To what end?
Cutting rates well past prudence is not the way to go. The last Fed rate cut achieved next to nothing Prime rates did fall, money market rate scattered and some were barely lower for a while. Capital market rates and mortgage rates rose. Lowering rates to lower interest costs for banks makes no sense.

Banks as roach motels
The banking system as like the roach motel for rate cuts. Lower rates go in but they never come out. Enough has been done for banks. The Fed needs to work to get banks to cut the spreads they are lending under. That is the travesty. There is more juice to be had in getting market spreads lower that in cutting rates.


Monday, October 27, 2008

Oh Baby, Oh Baby Obama! On REDISTRIBUTION

Be careful who you vote for and why...

must hear stuff on this link below... It's news to me It may not be news to you. The clip below clearly is from a conservative group judging from the call outs it features as text as Barack speaks. But it is still telling to get past that and listen to what Barack is saying given the office he is running for... He will soon have the power to affect all those things he spoke about hypothetically in the past.

I have for some time been saying that there are things about McCain I like and Obama that I like and things about each of them I don't like. For me the process has come down to trying decide whether I will vote for some salient characteristic one them has that I really like, or against something I am really distrustful of. Each has candidates for these criteria.

The link above is to some stuff Obama said about REDISTRIBUTION. This is HOT STUFF. This is not the stuff of the recent campaign trail to be sure...

One of the things I am concerned about this election cycle is giving the democrats too much control at a time they are so angry at George Bush and mad about the financial crisis. The reason is that a lot that needs to be done to fix retirement and health care (insurance plus Medicare and Medicaid).


Democrats need to be aware that in the past four years democrats have controlled the Senate banking committee and the house financial services committee. In the Senate, Banking committee head Dodd blocked reform on Fannie and Freddie and blocked hearings on pending Fed appointments, making the Fed run on thin staffing.

Some Republicans were some of the biggest advocates of reforming Fannie and Freddie and have been for years - long before these troubles grew up. It was under Bill Clinton's Presidency that Franklin Raines 'Super-sized' Fannie Mae and that the accounting irregularities emerged. Still think it's all Republicans?

It is not so simple to blame Republicans. It may be easy but it is not so simple.

So now that we are going to have a lot of democrat influence linked to Barack, it is interesting to here his pre-candidate Law Professor views on resdistribution and his thoughts about using the courts to achieve redistribution. If you are wary of how McCain might stack the Supreme Court give Barak's views a listen.

John McCain has been in the public eye for years. We do know a a lot about him and how thinks and what he stands for. He has been involved in surprisingly few scandals of any sort (The Keating 5 stands out) This U-tube posing on Barack is just an example of little we really know about him- really not in some political slur way but really. He has not been tested and revealed to the same extent McCain has.

I have been very upset about Obama's attacks on McCain that have held that McCain wants to give tax breaks to companies that outsource. This is a clear weaseling of stuff McCain has said. It is not the high ground that Barack portrays himself as standing on.

On balance I do not give Obama the high ground in this fight and think we still don't know where he will stand- not just speak - on a number of key issues that we face.

On the other hand I am not very happy with Sarah Palin being one heartbeat away from the oval office. Its great that she can shoot and field dress a moose and is independent. But she is really so much more conservative that I am and most of the country is. I do like McCain assumption of the Bush tax plans either.

But listen to the U-Tube posting; Is Barack really that much farther out to the left than he has let on? And is Biden right about Barack being tested? If we elect him are we a target?

What about this plan by the Russians to hep Cuba set up a space launching platform?

see link below:

Are these shades of the movie 'Thirteen Days' only not starring Kevin Costner with a bad Boston accent playing JFK and without a script with a known happy ending? Will that be Barack's first test, the one Biden speaks of? And is the media cutting Biden too much slack just because Palin is such an obvious target thanks substantially to Tina Fey?

Sunday, October 26, 2008

A time for love a time for hate a time to pause and hold the rate

Now everyone is looking for another coordinated rate cut.

The Fed is not the ECB's leader dog for the blind
But the Fed has much lower rates that those at the ECB and the BOE. The Fed already is far ahead of those banks in cutting rates. The last coordinated rate cut gave some cover the ECB, a single-mandate central bank (and for inflation, not growth) that still has inflation well over its ceiling rate. But having broken the ice with one coordinated cut it should not need the Fed to hold its hand for subsequent cuts.

Aren't the risks now clear? Why does the ECB have to play follow the leader with the Fed?

It may be good for you but it is RIGHT for ME?
Moreover why should the Fed cut rates any more at all? Is it really a good idea or just something left over from the Alan Greenspan Gee-I-thought-that-was a-good-idea-era?

Rate cuts are not all sunshine and roses
The last Fed rate cut did not exactly lower market rates. Long term rates are higher on balance. Mortgage rates to consumers are higher. Some cut...

And, get this: the impact on consumer incomes will be negative. This is even more of an issue as more investors move OUT of stocks into interest-bearing instruments. Why lower rates that lower income to consumers especially when banks are not passing through the rate reduction to borrowers? I dunno... I don't buy the idea that it is to help or to re-liquify banks since so much already is being done for them.

Hey! How about doing something for someone else that might make a difference?

With junk bond yields 1,000 to 1,500 basis points above comparable maturity tresaury yields isn't it more to the point to do something to impact spreads?

ABOUT LENDING SPREADS.......................
Out-sized lending spreads mean banks aren't lending. If they were firms would borrow from banks instead of suffering under such large spreads in the securities markets. Has the risk in the economy really ballooned that much, or it it only that bad if BANKS DON'T LEND? So, is that a self-fulfilling aspect of the crisis? By lending banks are making the economy riskier and that is cause for higher spreads.

Aren't spreads more of an issues at 10% points to 15% points than interest rates at just under 4% for 10-Yr T-notes and at 1.5% for Fed funds? You don't need a PhD to see that.

There is much more to be gained if banks can be cajoled to lend than if rates are cut by some minor amount (1.5pct points at most - at MOST) AND...with the fruit of that cut unshared. Besides, the more you cut the Fed funds rate, the closer you get to the infamous zero bound. At some point the fact that you have cut by so much with no effect (or negative effect, as happened last time) and that you have almost run out of room to cut any more, could become bigger problems than lower rates are a help. Think ABOUT THAT...

Still think the Fed should cut?

I don't.

COC just is not the problem (cost-of-credit)...

Just stringing us along?
It's time to put the focus elsewhere. We have done/are doing a lot for banks. It's time to give them incentives to lend maybe to help house-owners or to stem foreclosures. More rate cuts are just more of the same medicine that has not yet worked. Are we pushing on a string? If so, should we push harder or do something to stiffen the string so the pushing will have effect?

Thursday, October 23, 2008

Horton hears a who, Greenspan finds a flaw

Greenspan thinks what he used to believe is flawed. At least that is a partial admission that he got something wrong. So let's look at what he said.

Let me decode the Greenspan testimony for you non Fed speaking novices:

Greenspan said today,

"We are in the midst of a once-in-a century credit tsunami". Translated that means DON'T BLAME ME for a once in lifetime occurrence.

Addressing the House Oversight Committee he said, "You, importantly, represent those on whose behalf economic policy is made, those who are feeling the brunt of the crisis." Translation: I feel your pain but DON'T BLAME ME.

G-Man said, "In 2005, I raised concerns that the protracted period of underpricing of risk, if history was any guide, would have dire consequences". Translation: In other words although I'm about to say I didn't see it coming, I told you so.

Next Alan says "This crisis, however, has turned out to be much broader than anything I could have imagined." Greenspan goes on for about 250 words telling us how bad it is and is going to be (thanks Alan). He then mumbles something about being shocked that something called counter-party surveillance failed.

He then goes on to make the most facile pea-brained assertion about what went wrong. He blames originators and excess demand for these securities. Originators only originate what they can sell. Saying that they are at fault is like killing the messenger for bring the wrong news. Saying that demand was the problem is like saying the bullet is what killed the man. But who held the gun and pulled the trigger? Greenspan has nothing deep to say about this at all. He vaguely blames using market pricing from a period with too much good news and backhandedly blames a paucity of capital. He is too busy crying at the funeral of Ayn Rand to delve deeper.

His solution? He tearfully says that securitizers should be forced to keep a portion of what they securitze- as if anybody is going to be securtizing anything anytime soon. But what about his proposed solution? I swear isn't that solution the very thing that was the problem? Didn't the banks that generated these things buy and hold them too? Isn't that why they are in such trouble? So why is that a solution? It didn't stop anything.

I don't think that Greenspan begins to grasp the enormity of the problem. In the Q&A session, however, he danced around allegations he was at fault while He was Fed Chairman. He disputed the facts of a well-known account of how a Fed Governor, Ned Gramlich told him of mortgage problems that he told Gramlich to ignore. The committee did not press him on it. Greenspan said he disputed the facts and went on a tangent about the lines of authority at the Fed. One thing we know is how anti regulation and against government interference he was; he dominated all those lines of authority at the Fed. Things did not happen that he did not want to happen.

In the end Greenspan cannot see that he was the most visible public regulator of his day. He went around the country and the world preaching deregulation. He did not attend to his own regulative duties at the Fed and THAT is why things ran amok.

There is nothing more dangerous to a system than to think it is being monitored and regulated when it isn't. I don't think people on Wall Street were any more greedy at this turn of the century than at the last one. But having regulators who were, not just asleep at the switch, but telling you that they did not believe in pulling the switch makes for a dangerous situation. In the end there was no counter-party surveillance because all participants drank the same Kool-Aid. They did not see anything that needed surveillance. There were no regulators to pose a contrary view. Every bank held too many of these too risky securities. And it happened because guys like Alan Greenspan the Great non regulator glued the switch open. He was not asleep. He was watching it and he was applauding. I see him as the poster boy for what went wrong. many others were at fault. Many of the checks didn't clear and the balances didn't balance. But in the end it was the regulators who refused to regulate.

Greenspan's testimony does not speak to that issue at all. But he can mourn the passing of his ideal. When I was in High School, I read Atlas Shrugged and The Fountainhead. They were interesting stories about people I thought had a certain sickness and obsessiveness. I like the books 'as a good read' but not the ideology. Yet I became an economist and markets are glorified by that science.

Even the financial markets need oversight. Believe in markets if you like, but they are not the stuff of fairy tales. Was there really a King Arthur and Knights of the Round-table whose hearts were pure? Yeah, right. But a good read. Markets are real-world real-life entities and they need to be modernized on occasion and they need oversight. The people in those books do not exist. Greenspan should shed tears for real people and real events and for a philosophy he took real far- too far.

Wednesday, October 22, 2008

Let me spell it out T-I-G-H-T-E-N-I-N-G

That's right.

The Fed is pumping in tons, gallons, cubic meters, miles, square yards, light-years of liquidity- however you want to measure it. But it's still as if the Fed is tightening. Yes, I said 'tightening'.

Am I out of my mind?

Perhaps, but I think not.

Are you ready for a FOOOTBALLL? - an example
Dallas just lost its starting QB to an injury. It is starting a 40-Yr old as a back up QB. Why aren't Dallas fans HAPPY? They now have a QB again - problem solved.

Fail to see the parallel?

I thought so.

You don't have to be a Dallas Cowboy fan or a knowledgeable football fan to see it. When your front line guy goes down -in any sport or endeavor- and you replace him, there is a fall off in what you can do.

Ah...I know what you are thinking...BUT THIS IS THE FED! It is the Fed, THE BEST OF THE BEST, not some past-his-prime over-the-hill substitute. THIS IS THE FED, stepping in to close the gap in the financial markets. The GOVERNMENT is now backstopping things. It's like taking down a chicken wire fence and replacing it with concrete. It's like turning to Superman as a 'last resort.' THIS IS BETTER THAN IT WAS? Whoa? Who thinks THAT? BETTER? Anyone?

Yeah, on closer thought, not quite.

Never metaphor I didn't like...
(1)It's a bit more like getting babe Ruth to fill in at quarterback (QB). I use 'The Babe' because he is so well known. He is (was) great. But he did not play pro football. Who knows if he is any good (or would have been) as a QB? It's the same thing with the Fed. The Fed is filling in. Yes it is a brute as a as a central bank. But now it is wading into markets providing some 'sporadic and limited ' backstop services.
(2) It's a bit more like getting an official who knows the game so well to take off the stripped shirt and put on a jersey. Will he be as good as a number one draft choice?
(3) The Fed is not barging into markets aggressively to replace commercial bank lending or to coup CP issues. It's there, but so are the usual principals. And they are as wary as you were calling your (hoped for) girl friend for a first date with your Mom listening in over your shoulder.

It's all about the rates and END -USER credit!
To get more specific, junk bonds are spread - SPREAD - at 1,000bps (or more) over treasuries...Spread? I never heard of a spread like that. It's like saying I'm going to SPREAD some toast on my butter. Isn't that backwards" Isn't the base rate usually large and rate spread small instead of versa vice? Developing economies are seeing their cost of credit rise. Burger King warns that its franchisees are having trouble getting loans to refurbish their stores. Credit is tighter on all venues.

DO NOT THINK that the Fed has pumped all this NET liquidity into markets. The Fed has swapped more-liquid for less-liquid paper in many cases. That is more liquidity by definition, but no net new credit. There is some direct net liquidlty provision. But, because the private sector has drawn back so sharply, there is actually little if any stimulus even from that. In fact, look at rates in financial markets and tell me -WITH A STRAIGHT FACE- that this does not look like a tightening? Do not look at the Fed balance sheet or at Fed funds levels; look at market interest rates being paid in the US and being paid around the world.

If the Fed and other central banks have pumped in all that liquidity, why isn't anything acting like it is WET?

The real baseline...
Some are gratified and reassured that central banks are so active. And it is better that they are involved now than not. But the comparative counterfactual is not 'what if they were not involved' but 'what if they were not needed?' Then markets and lending would be quite different. But rest assured this is not their thing. Central banks are backstopping and they are not as good as the frontliners they are replacing. The Phillies or Rays will win the World Series this year but neither would do well in the super bowl. Different sport. Different skills. Central bank ≠ Commerical bank. As for investment bank... (please see 'Funk and Wagnalls' under 'extinct').

We would be much better off if we did not need the central banks. People forget that. THAT is the baseline. Relative to that we are much worse off even with the special assistance.

Looking ahead to...
So while some are very worried about inflation and think that the economy is poised to react after being drown in liquidity I say look instead at conventional credit market measures. The credit the Fed gives to the banks counts for naught if the banks don't pass that credit (and capital) on in the form of lending. And the market rates are telling us that they are not doing that.

Credit is hard to get, not easy. It is NOT YET like the Fed is easing. It just may have to push a lot harder on that string.

Much better to count from 'this date' forward expecting the economy to react as if the Fed had raised rates than to expect the economy in the period ahead to act as if the Fed had cut them. This is why the recession is going to get deeper and darker.

I'm not just a pessimist. I am simply looking at the right facts in the right way and not blindly assuming how things will turn out because the Fed has showed its hand. The more you think the less happy you will be too. Sorry for that.

Think and believe.


Tuesday, October 21, 2008

Even more government

More liquidity enhancing market saving schemes
Putting capital into the banks was not the end of it. The Fed today announced it is ready to buy holdings from money market funds, extending liquidity to the sometimes pressured industry. If MMMFs can't sell shares when redemptions come in they are in trouble. The Fed took steps that will help funds with liquidity and in turn support the short term money markets for the instruments that money market funds buy and hold. This is another good safety valve for markets.

More stimulus again
In addition we are revving up for Halloween II err I mean Stimulus Plan II. The first one was such a success we are back in line to formulate another one with the economy in even worse shape.

Still Bernanke supports it and Alice Rivlin thinks we should have really big one.

Something for the neediest?
If the economy is going to slide a cushion for the poorest would be a good idea but we should get used to the idea that these things do not resurrect the economy. They cushion the blow for the recipients and often money goes to the not so needy. Still the die is cast and something will be done. Once again: no panacea.

One idea:
If we are looking to hand out money I suggest doing it via FICA. FICA tells you not income but wages earned. Based on FICA paid you could design payments to low income workers - not tax payers. Many low income workers pay not taxes. Still that would not help the generally not employed but it would help the unemployed as long as they are recently dislocated since they would have paid FICA in the last 12 months or so. The trouble with tax rebates is that some people don't pay taxes. So just make FICA based payouts and get money into the hands of workers, low paid workers.

Ford has a better idea?
But the economy is not doing so well on its own. I don't know if Ford has had many good ideas recently but Kirk Kirkorian had a better idea as he dumped a bloc of Ford shares. He still has a bundle of them though but the signal is clear. Kirk is is giving up since Ford has no plan to get back to profitability on any fixed horizon. Ford did have a good idea but it was not corporate. A few weeks ago Ford Snr. did fire Matt Millen the General Manager of the Detroit Lions and put his football franchise out of part of its misery.

With all this news in tow earnings have been coming out and we do have some seeming winners. But let's remember that earning estimates have been cut. In new estimates, guidance is being cut again. So be careful about crowing that firms are beating their estimates. Beating things is not always good news. In the case of earnings estimates you need to know what you are beating and what it was. You also need to know where your sights are set next. For the most part the answer is that sights have been set lower.

Monday, October 20, 2008

On Dasher, on Dancer, on Donder, on Blitzen...

On Horses:
You can lead a horse to water, but you can't make it drink - traditional

On Horticulture:
You can lead a Hor-ti-culture, but you can't make her read - Dorothy Parker

On Banking
You can stuff banks full of capital but you can't make them lend - Ben Bernanke
Corollary: But if you stuffed them full of it, why wouldn't they lend?

On Lending:
OK so maybe Ben Bernanke did not really say 'exactly' that. But he clearly did imply it. When asked about forcing banks to lend during the budget committee testimony on Monday, Bernanke was really quite disdainful that force or guidance would be needed. He took the position that once capitalized, of course, banks would lend. It's as though he said, like, what else would they do? It's the natural order. Fish Gotta swim, bird gotta fly, bank gotta lend 'til it's capital run dry...but didn't that already happen? And isn't 'this' the result of 'that?'

On Cycles:
The economy is weakening. In this part of the cycle lending less is normal for those four-letter-named denizens of the financial sector (i.e Banks). What if normalcy interacts with this crisis mentality and lending IS cut back more sharply- capital be damned? What if you were to lead your horse to water and he refused to drink? What would you do? Shoot him? They shoot horses don't they? What about banks? Bankers? Well, perhaps that's a bit too strong. But you can bet that in the eventuality banks are sitting on a pile of capital and just 'feelin' groovy', the Fed/Feds will find a way to motivate them to mobilize it. For now it is useful to pretend that such a fear could not be farther from the Fed chairman's mind (fiddle dee dee)- even if that very thought is keeping him up at night.

On Drugs:
Because if he did not have such fears he wouldn't be doing his job and he'd have to be ...on drugs.

On Confidence:
But the Fed Chairman's job is also to inspire confidence when things are bleakest. With the President and the Treasury Secretary falling all over themselves to apologize about putting capital in banks, Bernanke has gone for the clear confidence builder instead of the backhanded complement that brings you down. In the end he is doing his job, he is not just being a Pollyanna. It's his job to act that way.

On Pollyanna:
Can Pollyanna wear a beard?

What I learned on Wall Street in the past two decades

Learners: fill your thimbles...

As cowardly old world overtakes brave new world

Ken Lewis still has it wrong
Ken Lewis, CEO of Bank of America, who says a golden age of banking has ended somehow does not seem to have captured the 'magic' of the moment. The perspective of history has been so rudely thrust upon us he has not yet let it sink in to absorb its lessons. He will. That was no golden age. That was the age of septic tank filler. Fools gold at best.

When Greenspan ruled Camelot
Perhaps we can go back to that thrilling day of yesteryear by referencing Alan Greenspan as the best central banker ever (the best of the best of the best). Well, at the time he may have seemed to have been that. And some did designate him as such. But history is a dangerous thing to play with. And just as creators of fancy-pants securities thought they had licked the issue of risk some thought Greenspan had helped us to usher in a new age of prosperity built on less government and more reliance on the private sector and the discipline of the market. For a while it played as a first run movie in Peoria as the trailers were a smashing success and built anticipation. But the full feature film fell short of its promise. It fell way short. The free popcorn and soda that filled the theaters only left a bigger mess when everyone finally walked out in disgust.

When Greenspan sold camels in an empty lot...
Now, with everything we have discovered, the praise for Greenspan is turning to criticism or outright scorn. He is trying to defend his clearly bad decisions instead of taking his medicine. The plaudits for financial engineering (once called Zai-tech by the Japanese) have tuned to lessons of what not to do. The government has come to seize banks or to take a large stake in them. Greenspan's world has ended even as he tries to explain and defend his actions. AND he is not alone in being left alone... So many drank the Kool-Aid. They are now just backwash in another of those Schumpeterian waves of creative destruction. The last one was really creative and boy was it destructive.

Cheating history
We find that heaping praise on something we are doing while we are still doing it is cheating history out of its perspective. And history does not like to be cheated. So now history is teaching us a lesson. Many of the things we knew and that we learned and that we came to depend upon have turned out be not just flawed but totally wrong. It's as though we have been told in no uncertain terms that the world really is FLAT and all our advances in finance are similarly wrong.

Stealing time for our own
We are back to square one with heavy regulation and the burden of (help from??) government involvement everywhere. It is not a brave new world. It is no golden age of finance and it never was. It was a golden age of excess; an age of over-promising, an age of over-paying and an age of under-delivering. It was aided by computers that moved so fast we did not give time a chance to render its verdict. But that's OK since we could always SIMULATE what we could not or did not wait to see. Cyber investing, cyber sex, cyber EVERYTHING... Who needs reality anymore? Who needs the test of time when you have STATISTICS (all kneel, bow or face East, as your respective preference dictates). Statistics can SIMULATE the travails of TIME. Thus they can save time and money and make bigger profits. Or maybe not...

Cheating time
You can never cheat time. Time has plenty of time since that is all it is. It will always catch up, no matter how much you try to rush ahead of it. Like in the tale of the tortoise and the hare you, like the hare, might gain on it, or seem to, but it will always be there in the end. We only have time warps, well, in cyberspace. Greenspan, financial innovation, Zaitech, nothing, beat time. Time ruled all. AND when time restored order we were back where we had started with the lessons of the past unlearned. All the books on investing and the 'learning' of the past 15 years or so are now officially rubbish.

No Degree On Line
You cannot get a PhD on line from the university of close-cover-before-striking in what I learned from the markets' collapse. The conservative movement has been dealt a severe blow by this collapse. But not even liberals are chortling too much since no one wants the heavy hand of government to run things. Government intervention is a stop-gap policy. Getting government OUT eventually out will be delicate. In the meantime a lot of energy will be spent in designing the new financial architecture. In the meantime there is a big mess to clean up and some people's lives -literally - have been destroyed in the process. It is not clear what this period of time has taught us other than what we thought we learned was wrong. At least that is something. We may have gotten to a point where central banks will no longer ignore bubbles. I'm not sure it is a lesson we have learned. But I do think it is a promising place to start.

End: what I think I learned in the markets in the last two decades.

Sunday, October 19, 2008

'So far no good' meets THE FUTURE

AN UNSETTLING ECONOMIC PICTURE - The economic data were very unsettling last week yet they took the markets’ mind off the financial sector woes. And while that let markets rise, it wasn’t because of any good news - just a different kind of bad news:

  • Retail sales fell again and are dropping at a 4% annual rate in the quarter.
  • Consumer sentiment fell by a record amount, month to month, and to a very low level (fifth lowest since January of 1978)
  • the current conditions index for consumer sentiment reached its lowest point since at least 1978 when the data series went monthly.
  • Inflation was well contained.
  • Housing starts fell to near a 40-Year low while permits hit a 25 year low.
  • Industrial output fell by 2.8% month-to-month.
  • The home-builders survey for October hit a record low, a series that goes back to 1985.
  • The Philly Fed index hit a point so low it has only been weaker 1.5% of the time in the last 38 years.
Any questions?

Putting weak economic signals in context

Recession Probability
Since Recession Mos Total Mos % Recession
2000 9 105 8.6%
1990 18 225 8.0%
1980 42 345 12.2%
1970 70 455 15.4%
1960 82 585 14.0%

Is it done yet or are we? Recently recessions have occurred about 8% of the time or so (see table above). But historically the incidence of recession is nearly double that. An eight percent chance of recession is roughly a recession lasting one year out of every twelve. A recession occurring 14% of the time implies a one-year long recession about every seven years. So when we are getting economic measures that are the lowest we have seen in twenty to thirty years, we are definitely seeing weakness that is recession-caliber weakness and probably deep recession caliber weakness.

CONTEXT!! Readings that are the weakest in eighteen years only get us comparison with the relatively mild or 'U-shaped' 1990 and 2001 recessions. In going back another decade we pull in the severe "V-shaped" 1980 and 1981 recessions. So when we are seeing reports that have never been weaker since 1978 or weaker only 1.5% of the time in 38 years we are really saying something in terms of the sort of weakness that is being felt today. This is not 'garden variety' economic weakens and it is not yet reflecting the worst damage from the financial crisis that has hit us. There is much worse stuff to come...

Just a heads up on that.

While there is a lot that has been written on the subject of credit crunches, I only wish to make the point that credit crunch recessions tended to be severe and were more associated with “V-shaped” rather than “U-shaped” recessions.

The hybrid recession - In 1980 with inflation surging and some of the market-changing end runs around credit-rationing from the interest rate ceiling era incomplete, the economy was in distress for an extended period. It was a very severe recession with the worst elements of the “V-shaped” and “U-shaped” recessions combined (a steep drop off in activity coupled with an extended bottom). The impact of the traditional credit crunch via dis-intermediation was being blunted by new vehicles for savings and capital markets that were changing rapidly under the crush of high interest rates and fast-changing deregulation. In this period a proliferation of new mortgage products some of which have since become familiar were offered up. One was the variable rate mortgage especially as 30-yr US Treasury bond yields touched 16%.

Bank reluctance to lend: What is relevant to our case is not the high inflation that kept the Fed squeezing interest rates so tight for so long in 1981 and 1982. Nor is it regulation that prevented (in the 1980s and before) markets from getting funds to lend into banks that could on-lend them. Rather it is an intrinsic reluctance on the part of banks to lend due to their weakened financial state and to the ongoing threat to their asset quality from a still-deteriorating housing market. The cause of the ‘crunch’ in 2008 is different but it is still palpable.

Risk is still present Some worry that banks will remain reluctant to lend to housing despite their recapitalization by the government. That argument seems correct. The Treasury Secretary has continued to warn that more banks could fail even after announcing there might be a capitalization plan and after the $700bln bail-out bucks were awarded by Congress. Sovereign Bank Corp. has decided to let itself be acquired by the giant Spanish bank, Santander. Previously Goldman Sachs and Morgan Stanley found refuge as commercial banks giving up on their independent investment banking status, while Merrill Lynch had jumped into the arms of B of A. There is reason to expect banks to remain wary of lending and of the potential for losses in such an environment.

Crowding out? Some also worry that the large government presence in the capital markets will lead to ‘crowding out’ of private sector investment. Here the calculus is rarified since the government is doing this to facilitate what it sees as a too-dormant private sector; one that if left to its own devices might even contract. It sees itself as stepping into the void, not crowding out the shrinking violets we now call banks. Nonfinancial corporations already have cut back on capital spending - they will not be tapping capital markets as much in this climate. It will be hard to disentangle cause from effect in this cycle for those wishing to prove the case of crowding out. Moreover, the elastic supply of funds from abroad makes crowding out less likely overall. But rest assured that there is a fertile ground of historic precedent to mine for possible percussions in this period. Just be careful how you apply the lessons of the past under the new rules of the game.

Things change and remain the same - In this cycle the international economy allows for a much freer flow of capital than it in the past, especially older cycles. And, bear in mind, too, that in 2008 the credit crunch is of a different sort, being imposed more by banks on themselves than by government through a pernicious interaction of market conditions with regulation. The impact on the economy may be nonetheless damaging for that difference, however. We have yet to see how deep the recession will be. That will be an important element in banks' deciding how much to lend again. At the same time the banks' decision's themselves will have an important impact on how weak the cycle is. It is precisely these sorts of interaction effects that make recessions potentially so dangerous. Nothing is set, established or sacred.

Friday, October 17, 2008

Markets up on ether-not fundamentals

Markets are up on Warren Buffet's optimism and on Google's earnings...

But isn't the easiest thing to do in a bad economy to sit there and click on internet sites triggering ad income?

And didn't Warren Buffet lock up preferred shares with high fixed returns in two of the safest ( in one case Fed-protected) companies of our time: GE and Goldman?

Warren isn't out there bottom fishing buying up troubled banks- he's cream-skimming.

On the other hand what did happen is this;
  • The U of M consumer sentiment index fell more sharply month-to-month than it ever has before in any month going back to 1978.
  • The U of M current conditions index fell more strongly month to month than ever before and reached lowest monthly level ever.
  • Housing starts fell to one their lowest levels ever; permits is a 25 year low. AND this is before the financial sector came unglued.
  • On Thursday, the Philly Fed MFG index fell to a point that it is so low that it is lower only 1.5% of the time over the past 38 years.
  • Earlier this week, consumer spending (retail sales) showed that it is falling at a 4% rate in 2008-Q3.
  • Industrial production fell by 2.8% in one month.
Really makes you want to buy stocks eh?

Why are you so bullish Warren? Going to scoop up some more preferred shares by helping out more ailing US blue chip companies?

It can't be the optimism over the economy...or over earnings, not with economic benchmarks like that.

Thursday, October 16, 2008

They not only don't have a plan, they don't have a clue

Presidential debates...what are they good for? Absolutely nothin'

Doctrine for their established bases
What we can see is that neither candidate really has a clue about how the economy works. The idea that buying foreclosed mortgages helps housing is an idea that is way over my head. I fail to see the connection.

Giving other people money 'I' earned and you are taxing away is no road to prosperity either.

Avoiding backlash
The right answer to the question, "what are you doing for the economy?" is probably, "nothing , nothing at all." But that is hardly a popular response. Its particularly vexing after you have introduced over $1trillion in plans to help the financial sector and various financial firms. The man in the street would rather see those bankers in pinstripes wearing horizontal stripes behind bars instead of getting billions in government largess for their checkered past.

What did our 2008 stimulus plan do???
Despite all this fiscal policy is just not a good cyclical demand management tool. That should be apparent after the failure of the last $150bln or so plan. What did it do? It gave us a positive GDP quarter in Q2 so that the Q3 drop-off could be more severe. It did not change the trend of the economy in any constructive way. Simple lump sum tax cut give-aways are to the economy what sugar-heavy energy drinks are to your metabolism. You get one quick burst then you crash and burn.

Good politics meets bad economics: Objective? GET ELECTED
Of course history tells us that being inattentive to the economy's problems can cost you. George Bush senior lost his re-election bid to wild Bill " it's the economy stupid' Clinton over apparent neglect of the economy. Bush senior refused a stimulus program for an economy that did not need one. He was right. But he was DUMPED out of office. Only the revised data now show that the economy was not as weak as Clinton portrayed it (as did the data at that time) and he sold the American public on Bush as out-of-touch. This was despite Bush Senior's amazing success in the Gulf War and what will can now treasure as his amazing military restraint as well.

"I WANT MY MAYPO!" Meets where's the beef?
But tax payers want a government response. Right now government is fixing what it can fix. It should not fix what can't be fixed, in other words it should not meddle. But one man's meddling is another's stimulus plan and one man's refusal to meddle is another man's reason to call him out of touch. But there is a difference in being out of touch with the politics Vs the economic realities. Unfortunately during the election season this distinction is lost.

What we can fix is housing. But instead government attention has focused on banks. They do need to be fixed, but they are only one aspect of the problem. Once government gets around to finding a a way to help those paying mortgages they will have hit on something that is really helpful. It will not avert recession, but it can help to keep this recession from getting to be really nasty. Helping those with troubled mortgages will be a tough job. But there are a number of plans to choose from.

Choose wisely. But don't delay too long. The price of procrastination will be steep. Do some now or more later.

Tuesday, October 14, 2008

Mixing the message

Hank Paulson, "'s actions are not what we wanted to do.."
I bet the consequences aren't either...

Rich getting richer?
So the government is putting capital into banks and while the Treasury says the program is voluntary we have heard some stories of arm twisting behind the scenes. We are told that these are good banks apparently that means that the tax payer money is safe. But does it also mean that the tax payer money is being wasted? if the Fed is putting money into good banks (...and Merrill is being acquired by B of A) what good is it doing?

Moreover, if that is true what about the banks the Fed is NOT putting money into? Aren't they the ones that need stabilizing? And won't not putting money in them de-stabilize them further?

Is this the law of unintended consequences at work again? It is not what the Plan is doing that is dangerous but what it is not doing. By saying that the banks that are getting money are safe the implication is that other banks are not as safe. And there are a lot of banks in the US and its hard to get capital into all of them at once.

Special fairy dust capital from the Government
Of course, if Treasury did inject capital into all of them what would be the message about bad banks? Do good and bad banks get capital or just good ones? Can banks fail once they have been injected with special government fairy dust capital? Or is that injection a signal to markets that all these banks are good? If that is the case what is going to done with BAD BANKS?

Heads I win tails you lose
So this program, while promising, and, while much faster than reverse auctions, is not without its problems. Who decides who gets capital and who does not? The plan is picking and making winners and losers.

The FDIC part of the plan to insure bulk demand deposits is a very good spin on a real world problem. It is justified and helpful.

But we still have a long way to go just to stabilize the banks.

Meanwhile the economy is getting weaker and is on automatic pilot on the way to a deeper recession. And so is the housing market, along with it..

A stimulus plan won't avert recession but a housing plan could help homeowners and keep bank assets from deteriorating much further. Is one in the offing?

Monday, October 13, 2008

It has come to this...THE RED BADGE OF COURAGE

Things are so bad no one is even worried about moral hazard...

Remember that is where this whole thing STARTED with Bernanke and Paulson asking for $700 bln BOB (Bail out Bucks) with no strings attached. A plan that promised to be the mother of all moral hazard. ..

At the time no one thought that was a good idea. It was a nonstarter. But that plan helped to precipitate these events.

AND eventually as 'everyone' has come to see things as so terribly bad after huge losses on global stock exchanges finally bailouts without regard to 'moral hazard' are palatable.

It has some to this...
The UK: The UK has announced plans to place up to $63 billion into three institutions: Royal Bank of Scotland Group, and HBOS and Lloyds TSB Group, which are set to soon merge. In exchange for that help, Britain's Treasury is insisting that these institutions CANCEL dividends this year to have more funds on hand to lend.

Germany: Germany, a country that insisted its banks were not bads as America's banks with all those mortgage securities (because vee do not do real estate like zat) now is doing a bail out of 400bln EUROS (537bln DOLLARS) and some 80bln EUROS in capital injections. That's quite a switch from: " Vee Hass none of Zees Problams..."

Mean-vile Zee euro is in zee dumpster...
A broader deposit guarantee in Europe and the unlimited availability funds that the US is offering to the BNS, ECB and BOE assures funding of troubled banks in Europe. But only something more to the point like capital injections will remedy the issue over bank viability.

Sacre black and blue - the new colors of the euro-Zone
France: The French are expected to announce a plan that would provide up to $402.39 billion in needed funding through the end of next year, Le Monde reports.

Paulson was been soooo far behind the curve
Paulson is said by Barney Frank to have thought two weeks ago that the worst of 'it' was behind us. Frank (never above beating his own drum) says the power to inject capital was thrust upon the Treasury by Congress. Treasury did not think it was necessary and was wary of using that power. Now that power might save the system.

Meanwhile, back at the ranch...

Anointing the banks, ignoring borrowers the RED BADGE of COURAGE
Note that the Treasury presentation this morning by Interim Assistant Secretary for Financial Stability Neel Kashkari went on and on about what is being done FOR BANKS with one 'throw away line' at the end about trying to keep people in their homes.' The newest wrinkle in bank aid is that capital will be injected in a way that does not harm existing shareholders- this is a 180-degree shift from prior policy. It says MORAL HAZARD BE DAMNED. Moreover, the plan for capital injections is aimed at HEALTHY banks. Participation in the programs will probably come to be viewed as an anointment by the government as being a GOOD BANK. A veritable RED BADGE OF COURAGE. For those excluded? Good luck!

I particularly like the RED BADGE OF COURAGE comparison because in the story the soldier's wound was self-inflicted.

Meanwhile: Fiddle Dee Dee, homeowner.

The Treasury is focused on the existing STOCK of assets and the problem that their weak and weakening prices means for banks and has so far spent little effort on comfort to the troubled housing market itself.

But then there is this report:
Federal regulators are now directing Fannie Mae and Freddie Mac to start purchasing $40 billion a month of under-performing mortgage bonds as the Bush administration expands its options to buy troubled financial assets. F&F began notifying bond traders last week that each company needs to buy $20 billion a month in mostly sub-prime, Alt-A and non-performing prime mortgage securities (the plans are still confidential; but some have spilled the beans). So now the government is buying the worst of the worst of the worst and thereby encouraging banks to generate more of the same...apparently. The purchases would be separate from the U.S. Treasury's $700 billion mandate and would come under the Fed's operating of Fannie and Freddie. This will help banks. Possibly it will help with new originations but it is NOT a help to homeowners with mortgage value in excess of their house price. But it does have some anti-further-weakness effect as it will encourage banks to keep lending and to sell the resulting loan product to F&F.

and in the end...
Until the capital infusions are made or the auctions to lift bad paper from the balance sheet are conducted questions about banks will linger. New names keep coming up. RBS is being seriously bailed out in the UK and Sovereign Bank, in the US, appears to be about to become part of Spanish bank, Banco Santander. Some of the names that have been problems names in interbank lending are being revealed in this way. As to the efficacy of the remedy, all we know is that something is coming and it may be good (sufficient). But the steps to help BOOST housing prices and to stop or mitigate further erosion in the housing sector or arrest the trend to more foreclosures still has not really been assembled. That still needs to be an important part of the plan.

Big Chill
Help the 'man on the street' while that expression is still a euphemism and before he is actually living there in the box his refrigerator came in..

Friday, October 10, 2008

Low spark of high heeled boys or G-7

The G-7 met.
Paulson gave his recitation.

What are we to believe?
Are these guys really this stupid?

Hey Mr Fantasy, play a tune, one that will make us all get short...
Is that the plan:
to get market players short and selling stocks then to reveal a real plan?

It is hard to believe that anyone who worked on Wall Street could witness what has happened over the past week and not go into the G-7 meeting with a sense of purpose. Of course, these guys and their 'sherpas' have been communicating all week long. And THIS is all they have to show for it?

'We are still working on it' hardly cuts it does it?

So are they low-balling us?
Are they clueless?
Are they at loggerheads with one another?

And if THEY are, explain Paulson's nonchalance.

This does not seem not like a meeting that is coming in the midst of a tempest as it really is. It seems more like an academic soiree held in the semi wilderness of Jackson Hole Wy.

I am pessimistic on the face of what the G-7 wrote and what Paulson did.

Am I wrong?


When they don't 'Get it'... We do

A good workman never blames his tools
The President spoke to us today assuring us that the he has ample tools to fix the problem. But does the government know how to use those tools? Anyone can buy the tools of a builder. But does that mean that they can build a house- one that wills and be durable...pass code? What has the government shown us? Sadly it is only that whatever tools it has arranged it has not used them well.

The Mistakes By Episode----
The President's talk today is another mistake. He tries to assure us about the adequacy of the tools when we just arranged for $700 billion in Bail-Out Bucks ($700bln BOB) and have not used one penny of it. Events continue to overtake us. The tools are still in the tool kit.

The day of the coordinated rate cuts he stepped up to the mike to tell us that more banks could fail. Hey, that's a real confidence booster Mr Treasury Secretary. Any feel-good effect from the coordinated global rate cut was wiped out by his telling us it would do 'no good.'

The request for $700bln with no strings, no oversight, no recourse, no nothin' attached was a non starter and confidence-crusher all by itself. My God! Was he serious? After such a request, of course, we felt the situation was serious. But the request was a non-starter. It made us wonder about two things (1) are things really that bad, or (2) are these guys' judgment to ask for monies like this an example or proof of their poor judgment?

After the $700 Bln BOB was passed Paulson tired to re-spin his offer as a different, saying he knew all along there would be oversight. And he continued, that it would be presumptuous of him to have tried to dictate the details. But he did not offer this in his proposal he and Bernanke argued STRENUOUSLY for NO STRINGS. This sort of after-the-fact recasting of events is not healthy. We all know what he did and now in trying to say he didn't he make things worse. This kind of thing takes a toll in terms of credibility lost.

Their approach was fundamentally flawed. Put aside he bad P-R they get in asking for no strings $700bln BOB. The requested this money with no infrastructure for the program they envisioned in place. That meant that they put us on notice and Congress on notice very PUBLICLY for the need for Speed (and Size) then stuck that money in their back pocket and did nothing. Yet passing the Bill for $700Bln BOB did not have any impact on the markets or on the banks. Treasury is only now hiring staff to do the reverse auctions. They have never run reverse auctions before. Meanwhile the markets unravel. And, just to make things worse... Remember that Bernanke had argued that you need no strings to get firms participating in these auctions to make them work. NO ONE has comments on how the efficacy of this approach is now severely damaged due to the presence of strings.

The Super SIV becomes a sieve
When his whole thing broke out Paulson tried to set up a Super SIV to contain these troubled securities and the plan just could not get off the ground. It failed. The Super SIV became sieve and all the assets drained out of it.

There are other things we could add to the list. Paulson/Bernanke seem to have been unprepared to deal with the fallout from Lehman. Since it looks like Lehman actually had no value whatsoever, the decision to let it go seems vindicated. But Paulson/Bernanke seem to have been unprepared to deal with the consequences.

A Chronic Mis-diagnosis
While I generally give Bernanke good marks for his innovative and timely action at the Fed, the Fed does seem to have had one thing consistently wrong. It treated this as a liquidity problem and 'solved' the liquidity puzzle again and again. Yet we know that banks were shying away from counter-party transactions. That smacks of a SOLVENCY ISSUE. If left unchecked illiquidity can breed solvency issues so the Fed tried to make things as liquid as it could and let those who could save themselves do so: the classic Badgehot prescription. But that has not been enough. We have been here before. In the late 1980s banks got certificates of capital to allow them to continue to operate. This is the sort of problem in a period of deep shock, such as we have now, that may require the authorities to color outside the lines. But we have not seen that - yet.

Innovation out of London and From the Fed
The most innovative thinking has come from London. THE FSA (their SEC) put the first ban on short selling; our SEC followed suit. The Brits injected capital directly into banks. Now that option may move up in priority in the US since the TARP auctions are taking too long to develop. The Fed has been the most innovative central bank by far. THE ECB has been the slug of international banking. It needed the cover of a global rate move cut rates by 50bp.

G-7 meeting: low expectations
As we look forward to the G-7, it is with low expectations. Juncker of the EC Commission lauds the British for their bank bail out but said it was not for EMU. Juncker said each country had different circumstances and would need a home-grown solution. I don't see how the G-7 can come up with a plan if it is about 20 different plans that are needed. They can lunch from a Japanese Bento box but not make policy out of one. For all the troubles in the markets no one seems any closer to breaking down the regional dogmas that have stood in the way of a more aggressive approach. Clearly a more aggressive approach is what is needed.

Thursday, October 9, 2008

The cost of freedom

I'll take Manhattan
It is Yom Kippur and in Manhattan the impact is quite apparent. I's Upper West Side is one of the the few places outside Israel where the Jewish population exists in such numbers that it is at near-parity with the rest of the population. My daughter goes to an Episcopal school that is 40% Jewish. We are of neither faith. This is New York. Every sort of person is everywhere. It remains the American melting pot, thankfully where some things melt slowly. The diversity is the source of Manhattan's true vitality.

So on such a day it naturally makes one somewhat reflective.

Reflections and their cause
This process of being reflective was moved along today when I went to a scheduled TV appearance at the NASDAQ and encountered a young man (black) with a sandwich board slung over what was left of his arms. The each arm terminated just about at its elbow. In truth I did not stop to read his sign. Having just had knee surgery I am walking with a cane and I limped past him feigning an obsession with my own problems - as did most who passed him that day. But the more I thought back on him, the more something bothered me. I gave money to a beggar on the train on the way home but I did not give any to the nearly armless guy at Times Square whose very presence made me feel uneasy... It brought it all home to me:

What is the cost our freedom? How do we treat those who bear the bulk of our burden? Do we choose leaders who make the right choices for us? My musings on these subjects gave me little solace... Here are some of them.

War: what is it good for? ...and who thinks so?
As we consider our next president it is important to remember that the cost thrust upon us by the duplicitous agenda of George W. Bush - and this is no anti-Republican rant. It's just trying to come to terms with the past and learn from it. Go back and spin it as you will. But that invasion was not justified on the terms as presented. Some still defend it on other grounds - but revisionism does not sit well with me. Here's a thought: Isn't it chilling to think that we killed more than Saddam would have if we had 'left him alone?' The costs of this war were far worse than were postulated. Laurence Lindsey, an economist at the Treasury at the time spoke out and said that much higher costs were likely; He was let go for his forecast and analysis because it was unpopular at least with in the administration. But he was right.

Learning from our own mistakes as well the mistakes of others -or
BOY are we ever smart now!
We should not be fooled into thinking that we get anything objective out of this administration. It's analysis and spin is all self-serving and is never reflective. The analysis itself may not even be deep. As we consider who to vote for remember that John McCain is not George W. Bush. Nor should we hasten to elect Barack Obama because he tries to tar McCain with an association with Bush. The truth is that military men are often the least likely to want to go to war. They know the Hell that war is. No wonder Bush and Cheney loved it; Rice promoted it and they misled Colin Powell, the lone military man who was then Secretary of State. Powell was later drummed out of the Administration or simply left because of his own broken heart.

Foreign policy matters more than ever B4
Upshot? Foreign policy matters. Everyone loves Barack. He is young and vital and reminds some of JFK. But the Russians slipped missiles into Cuba under JFK's watch after the failed Bay of Pigs invasion. JFK had to find a way to face them down. That 'strong public stand' that we remember as one of America's strongest most decisive moments, cost us our missiles in Turkey and came about because of a young president's mistakes. Now once again the Russians want to help Cuba this time to put 'an international launching station for spacecraft' (wink wink) into Cuba. I wonder what McCain and Obama think of that one?

Financial crisis, the Pinocchio factor and contemporaneous revisionism
As to our current financial crisis I see all this happening again but in slow motion. Paulson promotes some blank check plan (One he probably got from some bank lobbyists) that is the economic equivalent of the Gulf of Tonkin resolution ( He fought hard for it even getting Fed Chairman Bernanke to push for the Muppet-like plan (no strings on me!) to be adopted. Bernanke argued passionately for the independence and the lack of strings or accountability and recourse that Paulson plumped for! I was shocked! In the event it was with heavy changes and lots of strings and oversight that the bill finally passed. Paulson's ex-post spin is that he never expected to get by with no oversight and that he did not think it was a good idea to try to thrust all the details on Congress. He calls that presumptuous. Huh? Is this the same guy who I saw testify in favor of something even more presumptuous: $700blillion with NO outside control or oversight or recourse? And he is not even an ELECTED official! So what was Bernanke in this - his complicit stooge? Did Bernanke know that he was being Lamb Chop to Paulson's Sherry Lewis? No wonder they took turns talking!

Paulson: the Great White Disappointment
It's time to stop worrying about hurting 'friend's' feelings or 'making enemies' or even impeding our own careers. Paulson has been a disaster. While he may 'get it' better than did John Snow, he does not 'have it'. He is no astronaut. Tom Wolfe will never write about him as one with all-the right stuff. He can't even get all the stuff right.

All the right stuff? Huh? Stuff what? The Manchurian Candidate?
Paulson was ushered into the treasury amid such hoopla but has been a bust. First, he was supposed to be an expert on the Chinese. He had gone to China so many times supposedly he knew where all the graffiti was written on the Great Wall and presumably what it meant. He knew so many key Chinese officials. He knew how to deal with 'them.' In the end he was the best 'hire' China had in the US Treasury. His 'acumen' amounted to using his 'credibility' to get us to understand why 'we' had to be patient in dealing with China. Thanks Hank.

Paulson as Financial Genius - Or Wall Street Insider?
As the financial crisis broke out he proposed a Super SIV to collect the 'bad assets. The plan was a flop. The Fed took the lead in most of the market actions. When things got tough it was the FSA in the UK that banned short selling. The SEC followed their lead. Next it was the British that proposed capital infusions into banks. And now after pushing the $700bln bailout out with Fed-inspired reverse auctions as the centerpiece, it looks like capital infusions for banks may become plan 'A' instead of the foot-note remedy that appeared in the boiler plate of 'what we will try to do' that finally passed as the bail out plan. In short, treasury's idea of leadership has been pure follower-ship. Or it's make it up as you go along.

Walk-Over-Ya story: Not a fairy tale What you know or who you know?
Paulson brought his former Goldman colleagues into all this. Steele came to treasury and the new trader to head the mortgage/CDO/whatever auction process is a former Goldman trader. Now Bob Steele is the head of Wachovia and Wachovia is the subject of a bitter Citibank-Well Fargo battle over assets. Citi was going to get Wachovia real cheap as the FDIC was prepared to make what now looks like a sweetheart deal so sweet Citi may have contracted diabetes from it. Then, suddenly, Wells Fargo emerged with a bid to buy the whole firm and put the tax payers on the hook for nothing! This was far superior to the Citi plan for Wachovia and for the American Taxpayer (remember him/her?).

Are we learning yet?
All this SHOULD really make you wonder about the reverse auctions that never have been conducted before as a 'solution' to the removal of 'bad' assets from bank balance sheets (i.e. see dictionary under word "problem" as in 'the solution is the problem' or it soon will be). But the plot thickens. Now after a more thorough asset inspection, Wachovia appears to have more junk on its books than 'they' thought. A certain calm has been cast over the haggling process for Wachovia. Is it stalemate or just Yom Kippur?

Who will get reflective next?

Wednesday, October 8, 2008

Rate cut not a great cut

Surprise!! Rate cut jumps out of cake...
In a surprise move the Fed, the BOE, the ECB, the central banks of Canada, Sweden and Switzerland took their lead from the Reserve Bank of Australia that had cut rates just a day before. The Reserve Bank cut rates by a percentage point while the coordinated move on Wednesday morning embraced a cut of 50bp. Its a step in the right direction, but only a modest one. It was a relatively larger step for the ECB, however, that joined a global effort despite domestic inflation being so far over its ceiling.

Hunt to avert a Red October
Markets rallied sharply in reaction to the rate cut. Then during the session stocks gave up ground. Prices become volatile they regained ground in the afternoon before the Dow closed lower by nearly 200 points. So while the reaction has been largely positive markets had the good sense to conclude that a 50bp reduction in rates does not solve the problem. This is the central banks getting in the hunt, not the end of the chase.

I have no problem with the Taff, nor the Tarp. The $700 bln asset buy-back is just great. Having the Fed as the lender of last resort for the short term market of first resort (CP) is terrific. Rate cuts tell us central banks are with the program. Rate cuts from around the world tell us all the central banks see it. BUT... In his own testimony Henry Paulson had said that housing was at the bottom of the problem. If housing weakness continues to deepen the securities linked to housing will weaken further as well. AND that has been where the problem is. So until we do something for housing the basis for the financial crisis continues to get worse - not better despite all the moves we have made above.
We all know the story of the little Dutch boy who stuck his finger in the dam. Suppose he had a bucket and simply let it fill and threw the water back over the top of the dam? In time the leak would have gotten bigger. He would have had to have bailed faster and faster but as he did the hole would get bigger and the flow would increase. Of course unless help came very soon the Dutch boy himself would be washed away.

So we too need to FIX THE FOUNDATION rather than just bailing out firms around the perimeter. Direct assistance for housing is needed.

The G-7 is meeting this weekend. So what will it do? We have the answer. Bold moves made like this coordinated rate cut right ahead of a major collaborative meeting tell you that each country has decided to do what could ahead of the meeting. There will be no new initiatives from the G-7. Don't get your hopes up.

Tuesday, October 7, 2008

S&P 500 VS the Dow -500

Let's see the DJIA, maybe the most closely-watched stock index in the world, -even if not the most reliable- has done what?

Down FIVE days in a row
Looking backward in time:
Down by 508 points, by 369 points, by 157 points, by 348 points, and by 19 points.
an up day (+485 points)
then down day of 777 points.

That, my friends, is our recent history. No spin. No lies. No Mavericks. Just cold hard facts. No debate.

The WSJ documents 5-days and minus 13%. Over seven days the Dow is down by 15% and the S&P 500 by fewer points but by a larger percentage at -17.9%. In seven days The S&P has almost made a bear market all by itself.

What did this?

Was it the acrimony in Congress?
Was it the bailout bill that did not pass?
Was it the bailout bill that did passed (hint: can't be both)
Or was it REALITY?

Reality bites... or sometimes it sucks...

America loves reality TV but but not reality economics. When the economic data looked bad on Friday the market sold off despite that silly bail-out bill passage. Then, on Tuesday, when Bernanke said that weakness was going to be with us thorough early next year markets sold off even more.

Even the talk of a Fed rate cut being considered did not put a bid under this market. Investors are RIGHTLY afraid of weak growth and not just that but what weak growth will do to our economy.

The FACT that the Fed jumped in to lend in the new issue CP market for three months secured or unsecured suggests strongly that the FED not Ford Motor credit or GMAC will be funding your next auto loan. The Fed is worried about credit markets seizing up and it is taking the right steps. This is the FIRST time the Fed is taking steps to DELIVER credit directly to those who need it. The bail out plan merely restores bank balance sheets to health. There is no lending imperative. So the trick of turning bank lending back on remains a mystery.

All of these intercessions have spooked markets. Even the UK is now saying that its plan to inject capital into banks is on track. The plan was floated as an idea on Tuesday morning and then seemed to wither. Interestingly Barclays had said it did did not need any such help. So what happens in the UK tomorrow? Does this action restore confidence or spook markets?

There is a lot of disappointment with growth and the growth outlook in the US. You can interpret it as disappointment with the Fed, but I think that would be wrong. People are afraid and rightly afraid that things are MUCH worse than they thought and that spillover effects will be sizable. That they may be.

It is hard to disagree with that especially as the Fed is agreeing..

Certainly this weak economic data foreshadow a much weaker housing market. And that is bad for builders and for banks. Bernanke's new talked-about rate cut could even hurt banks. And that is where we are. Some of the solutions don't even look so good.

Monday, October 6, 2008

Fine tuning our pessimism

As we argued they would, markets are now paying attention to the economy. Boy are they. The prevalent question has become, 'how far is down?" And that's not an Expedia question about the location of Australia.

Europe in Spotlight's glare
Markets fell very sharply in the wake of a weaker-than-expected job report on Friday despite the US bailout package passing. But Monday was not so much 'US news day' or even 'react to Friday's US news day', as it was a day of chaos spreading to Asia but mostly to Europe.

The Europeans are trying a minimalist strategy since they can't agree on a real plan. It's a start but it may not be a good one. The EMU countries do have one currency. And EU countries have a lot rules harmonized. But when it comes to spending money, it's: to each his own. That's the problem in trying to put up a a safety net. They don't seem to be able to agree who will hold it or pay for it.

Ire for Ireland
Ireland put a specific deposit guarantees schemes in place and has been criticized for taking a stand that could commit it to expenditures that might widen its deficit and bust the Maastricht criteria. SOORRRY! But protecting people against loss...isn't that the point of it?

Coordinated rate cuts?
But Germany, France the UK and Italy have other issues. They can't agree what to do. Merkel made a statement about protecting depositors, then after seeing how the EC commission treated Ireland and after some anxious talks with UK officials that did not want to have to launch a formal plan of their own, Merkel declared her promise to be a political statement rather than a formal guarantee.

Tricks or Treats?
In the US when Paulson tried that TRICK with Fannie and Freddie he wound up having to seize them both. Verbal assurances when in a crisis mode usually do not work.

Leaderless Europe
Europe seems adrift. Policymakers want to do something but their structure is not conducive to it. There is talk of a coordinated rate cut, and given the global stress it is quite possible they will find a way to accomplish it. But it would be a hard thing for the ECB to do. At 3.6% headline inflation is just too far above its ceiling rate of 2%. The credit crisis is a clear and present world problem but a coordinated rate cut, that was the rumor that helped bring the US stock market back from the abyss on Monday is a bit of a stretch. But then at -800 points in one day the DJIA was a bit of a stretch, too. One thing we learned is that while the mood is poor and investors are selling they have an appreciation that value nonetheless lurks and with the right program in place...and they are right. The fight over Wachovia also cements that notion.

So while pessimism is stalking the markets so is opportunity.

Price your pessimism carefully.