October, Tuesday 04, 2011

DOW + 153 = 10,808
SPX + 24 = 1,123
NAS + 68 = 2404
10 YR YLD = 1.78%
OIL + 2.47 = 78.14
Dec Gold + 11.70 = 1627.70

Dec Silver + .27 = 30.11

You’ve probably heard that old rhyme – “Sell in May and go away”. The thinking is that May through October represents the six worst months in the market. If you took $10,000 and invested in stocks 60 years ago and you just invested from November to April, your investment would have grown to $527,288. If you invested from May through October, you would have lost $474.

So, today’s lesson is “do not invest when stocks go down, but its okay to invest when stocks go up. Wow. This investing stuff is easy.

The S&P 500 hit a high of 1370 on April 29, today it closed at 1096 – marking a 20% decline; the technical definition of a bear market.

The explanation offered daily is the European situation is what's taking a toll on Wall Street. David Goldman, the former head of credit research at Bank of America says the situation in Greece is hopeless, but not serious; yea, that’s a good line. Ha ha.

He contends this is not a rerun of the Lehman Brothers collapse in 2008. Nobody knew then what lurked on the balance sheets of major banks in terms of mortgage derivatives, least of all their chief executives, who were particularly clueless.

Really? I remember when Dick Fuld , the former CEO of Lehman went on CNBC just a couple of days before it collapsed, and he claimed he knew what was on the balance sheet and he claimed that the balance sheet was sufficiently strong to weather any storm. Dick Fuld steered lehman deep into the business of subrpime mortgages, bankrolling lenders across the country that were making convoluted loans to questionable borrowers. Lehman even made its own subprime loans. The firm then took all those loans and whipped them into bonds and passed the bonds on to investors, and now we know that all that stuff on the books was toxic assets.

Allan Schwartz, the former President of Bear Stearns went on CNBC and said the balance sheet at Bear Stearns had a strong balance sheet.

(clip)

Did Schwartz lie about the liquidity? No, not really. Bear Stearns had money on the books, it just wasn’t enough.  Bear Stearns collapsed two days later. Bear Stearns' liquidity pool started at $18.1 billion on March 10, 2008 and then plummeted to $2 billion on March 13. Ultimately market rumors about Bear Stearns' difficulties became self-fulfilling. The problem with Bear Stearns was more about confidence than capital. The challenge for banks is that their only real capital is confidence; and confidence is wearing thin these days.

Without confidence there is a very real prospect of a run on the banks – not the old fashioned run – where depositors line up on the sidewalk and demand their deposits; no, the kind of run where market counterparties – in other words, other banks – become less willing to enter into collateralized funding agreements.

After the close of trade, Moody’s cut Italy’s credit rating to A2 with a negative outlook. That is the kind of action that can spark a lack of confidence in counterparty risk.  So, before the markets closed came word that European Union finance ministers meeting in Luxembourg had issued a statement that  “There is an increasingly shared view that we need a concerted, co-ordinated approach in Europe while many of the elements are done in the member states,” and “There is a sense of urgency among ministers and we need to move on.” So, it seemed Europe was going to get serious about solving this debt problem. Really?

No, not really, but that was the rumor of the day. That is as good a reason as any for why the Dow Industrials managed to climb 420 points from the low of the day, and why that whole move took place in the final 30 minutes of trading, and why there was really no good reason for the move.

Take a look at the Big Five US Banks – this is your homework for today. If you’re in front of your computer do it now; if you’re driving, then please wait. Here is your assignment. Pull up a chart going back to March of 2009 on the Big Five banks:

BAC, C, WFC, GS, JPM

They have wiped out all the gains going back to March 2009. The chart should tell you that there is something wrong. The Big banks are trading like they did during the banking collapse.

The CEOs of Bank of America and Morgan Stanley have been making the round in recent weeks assuring analysts and investors that they're firms are basically fine despite the rash selling in their shares in recent weeks and shares keep hitting new lows. 

James Gorman, the CEO of Morgan Stanley, has been notably active even though the firm is supposed to be in a "quiet period" as it prepares to release third quarter earnings in about 2 weeks. But Gorman has been anything but quiet. He issued a statement to employees to ignore the noise; that the fear was overblown. Yesterday, Mitsubishi bank issued a very positive statement about Morgan Stanley; of course, Mitsubishi is the largest investor in Morgan Stanley.  – no conflict of interest there. In fact, the positive analysis sounds more like boiler room vintage stock touting.

We do know that Morgan Stanley had excessive exposure to Greek debt at the beginning of the year. Morgan Stanley says they have significantly lowered their exposure, but it is almost a certainty that Morgan Stanley still has some exposure.  And that raises even more questions: What did Morgan Stanley get in exchange for dumping their Greek toxic assets? Did they sell for full price to some unsuspecting rube? Did they get dinged for the toxicity of the assets they were dumping? What have they got left on the books? What about the buyer? Who was that greater fool? What is the quality of their books now? Who can we trust? Anybody? Anybody?

(clip – Bueller, Bueller)

Anybody? Anybody?

The late afternoon rally stinks to high heavens of another rumor without any resolution. Even when we hear of a resolution – the deal will have to be sold to the Germans, and the French, and the Greeks, and don’t forget the Slovakians – they could throw a monkey wrench in the entire Eurozone. Meanwhile, the Greeks are on strike again, students, teachers, cab drivers. The police have been mobilized again. In planes in Spain remain largely on the tarmac. Only about a=one-third of scheduled flights actually make it into the country. Protests in Portugal draw 200,000. And Portugal is not a really big country.

And even if everything gets to some sort of resolution, Europe’s credit woes are expected to shave more than one percentage point from U.S. growth in 2012. Weaker export growth, tighter financial conditions and reduced availability of credit will constrain the U.S. economy next year. Europe will slip into recession as global growth slows – and that’s a best case scenario.

Fed Chairman Bernanke went before congress today to testify before the Joint Economic Committee. Bernanke warned the U.S. economic recovery was "close to faltering," but said it was a "shared responsibility" for all Washington policymakers and not solely up to the central bank to respond. Bernanke's wants Congress and the White House to do a better job with fiscal policy to shrink the federal budget deficit in the long-run without cutting too aggressively right away. Bernanke wants lawmakers to find tax and spending policies that encourage long-term growth and to fix a budget process that leads to the kind of tumultuous debates about government debt that unsettled markets in August.

Mr. Bernanke went further, saying Congress needed to find new ways to jumpstart the housing sector, promote trade and improve an overly complex tax code. "Fostering healthy growth and job creation is a shared responsibility of all economic policy makers, in close cooperation with the private sector," he told the committee.

While fiscal policy is critical, "a wide range of other policies—pertaining to labor markets, housing, trade, taxation, and regulation, for example—also have important roles to play.”

In other words, Bernanke said, I got nothin’. We’re out of bullets. We got no more tools in the tool belt.

Of course, the Fed still has some ammo. They could start another round of bond purchases – Quantitative Easing Part 3, but Bernanke said he has no immediate plans for that. I would say that the main reason we haven’t seen QE3 is because the Fed realizes it might need to respond to a Europ[ean meltdown. Bernanke said Americans were "innocent bystanders" to Europe's problems. If there is another financial crisis, Mr. Bernanke said the Fed would try to keep markets stable by providing abundant short-term credit to banks that need it and also make dollars available to other central banks as it has been doing since the 2008 crisis. But he said there wasn't anything the Fed could do to fix Europe's problems. Without full monetisation and an explicit backstop or defaults,  now claiming Franco-Belgian bank Dexia will continue – and get worse. Frankly, there aren’t any palatable solutions. The Europeans need to pick one, full monetisation or default and recapitalization, and see it through.

Really? Nothing the Fed can do.  Here’s what they’ll do -  they’ll throw money at Europe but they don’t expect it will fix Europe’s problems.

We are slowly but surely working our way to what might happen – very simple we are going to get the Fed jumping on the liquidity train. Helicopter ben is going to fly his chopper over to Euroland and start throwing dollar bills out of the helicopter as it hovers over the French, German, Italian, and English banks.

So, the setup is essentially the same as the post-lehman drop – and that’s why we saw intervention – a serious short squeeze today. The way to play the post lehman drop is to short the market, and the only way to stop the shorts is to squeeze – quick and tight. That’;s what we saw today.

So, what is the right play? Short, but short aggressively and with tight stops. Also, be aware that there will be a huge injection of liquidity – meaning the bull market of the past decade – gold remains very much in a long term bull market.

(Bernanke quotes)

America has now officially closed the books on the 2010-2011 fiscal year. It is only fitting that the last day of the year saw the settlement of all outstanding and recently auctioned off debt. The result: a surge of $95 billion in total government debt overnight, and a fiscal year closing with the absolutely unprecedented $14,790,340,328,557.15 in debt. Net net, in the past fiscal year, the US has issued a total of $1.228 trillion in new debt and has accelerated over time. At a rate of $125 billion per month, total US debt to GDP will pass 100% in just over a month. Incidentally, one may inquire about the benefits of centrally planned fiscal stimulus (cough Solyndra cough): the US economy added over 3$ trillion in debt in the past two years and the stock market is almost back to where it was back then. Perhaps it is about time someone demanded that all those lunatics who say that issuing debt for the sake of growth (and pushing the S&P higher of course) be finally locked away in perpetuity, and the key dropped into the deepest volcano in Mordor.