Words from the (investment) wise for the week that was (Dec 8 – 14, 2008)

Sunday, December 14th, 2008

Despite a litany of bleak eco­nomic and cor­po­rate news con­fronting investors dur­ing the past week, global stock mar­kets digested the bear­ish fod­der with a sense of aplomb. The MSCI World Index and the MSCI Emerg­ing Mar­kets Index gained 4.4% and 10.9% respec­tively on the week, with other refla­tion trades such as gold (+9.1%) and oil (+20.4%) also putting in a strong performance.

But investor angst was never com­pletely allayed as seen from the yields on US one– and three-month Trea­sury Bills briefly trad­ing in neg­a­tive ter­ri­tory for the first time since 1940, indi­cat­ing the will­ing­ness of risk-averse investors to pay the gov­ern­ment for the “priv­i­lege” of hold­ing their money. Three-month T-Bills ended the week in pos­i­tive ter­ri­tory but barely so at a minus­cule 0.036% yield, indi­cat­ing that liq­uid­ity was still being hoarded. (Also see my “Credit Cri­sis Watch“.)

Source: Nick Ander­son, Slate

The week kicked off on a pos­i­tive note after US president-elect Barack Obama had spelled out his plans on Sun­day for the biggest infra­struc­ture invest­ment in the US since the 1950s. Accord­ing to CNN, Obama said: “We under­stand that we’ve got to pro­vide a blood infu­sion to the patient right now to make sure that the patient is sta­bi­lized. And that means that we can’t worry short term about the deficit [which might sur­pass $1 tril­lion before his spend­ing plans are included]. We’ve got to make sure that the eco­nomic stim­u­lus plan is large enough to get the econ­omy moving.”

“The resul­tant infra­struc­ture and phys­i­cal assets will be far bet­ter than endow­ing busted banks, insur­ance com­pa­nies and other finan­cial enti­ties with US tax­pay­ers’ cash, which effec­tively goes down a black hole,” remarked Bill King (The King Report).

Finan­cial mar­kets reacted neg­a­tively to the US Senate’s fail­ure to agree on a $14 bil­lion loan to the trou­bled automak­ers. The prospect of the biggest indus­trial fail­ure in US his­tory caused a sell-off on global stock mar­kets, a widen­ing of credit spreads and an onslaught on the US dollar.

How­ever, the US Trea­sury was quick to sig­nal its readi­ness to pro­vide funds to prop up the “Big Three”, as quoted in the Finan­cial Times: “Because Con­gress failed to act, we will stand ready to pre­vent an immi­nent fail­ure until Con­gress recon­venes and acts to address the long-term via­bil­ity of the indus­try.” This indi­ca­tion resulted in an improved tone on finan­cial mar­kets by the close of the week.

Next, a tag cloud from the plethora of arti­cles I have devoured over the past week. This is a way of visu­al­iz­ing word fre­quen­cies at a glance. Key words such as “credit”, “debt”, “econ­omy”, “Fed”, “gov­ern­ment”, “mar­ket”, “rates” and “stock” occur often, but “gold” is also becom­ing increas­ingly prominent.

Back to the issue of mar­kets shrug­ging off bad news for the sec­ond week run­ning. Richard Rus­sell (Dow The­ory Let­ters) com­mented as fol­lows: “On top of every­thing else, Lowry’s Sell­ing Pres­sure Index dropped sub­stan­tially yes­ter­day [Wednes­day] and is now in a def­i­nite declin­ing trend. At the same time, Lowry’s Buy­ing Power Index is trend­ing higher. Thus, the odds are say­ing that the trend of the stock mar­ket is turn­ing up.

“This is all the more dra­matic since this poten­tial upturn has arrived in the face of black-bearish news. Mar­kets bot­tom­ing and ris­ing in the face of bear­ish news are often the most prof­itable ones. I have never seen a bear mar­ket hit its low amid happy news headlines.”

On a fun­da­men­tal note, 39% of the con­stituents of the MSCI World Index sell at a dis­count to share­hold­ers’ equity. “The cash-rich com­pa­nies allow investors to pay noth­ing for future earn­ings streams,” said Jean-Marie Eveil­lard in an inter­view with Bloomberg.

A pos­i­tive for the bulls is that the period post Thanks­giv­ing through the end of the year has usu­ally been a bull­ish time for stocks, based on stud­ies by Jef­frey Hirsch (Stock Trader’s Almanac). Should the bull­ish sea­sonal ten­den­cies pro­vide a tail­wind on this occa­sion, pos­si­ble first tar­gets are the 50-day mov­ing aver­ages of 8,784 for the Dow Jones Indus­trial Index (cur­rent level 8,630) and 910 for the S&P 500 Index (cur­rent level 880).

The last word on equi­ties goes to Hong Kong-based Puru Sax­ena: “I can­not say with any cer­tainty whether we are already in the early stages of the next cycle. Under my best case sce­nario, we are in the very early stages of a new multi-year bull mar­ket. And under my worst case sce­nario, we are going to get a very strong rebound (30% move higher in the S&P 500) over a short period of time, which will prob­a­bly take the mar­kets back to their 200-day mov­ing averages.”

Before high­light­ing some thought-provoking news items and quotes from mar­ket com­men­ta­tors, let’s briefly review the finan­cial mar­kets’ move­ments on the basis of eco­nomic sta­tis­tics and a per­for­mance round-up.

Econ­omy
“Global busi­ness con­fi­dence has been shat­tered. Sen­ti­ment is equally neg­a­tive in North Amer­ica, South Amer­ica and Europe. Asian busi­ness con­fi­dence is not quite as dark, but it is falling rapidly,” said the lat­est Sur­vey of Busi­ness Con­fi­dence of the World con­ducted by Moody’s Economy.com. “Pric­ing power is quickly evap­o­rat­ing and approach­ing that which pre­vailed in 2003, the last time defla­tion was a con­cern.” Accord­ing to the sur­vey results, the global econ­omy is suf­fer­ing a severe recession.

Eco­nomic indi­ca­tors released in the US dur­ing the past week mostly pointed to a deep­en­ing recession.

BCA Research said: “The year-end spend­ing sea­son will be the biggest bust in sev­eral decades, as con­sumers have been hit by a dou­ble whammy: a melt­down in finan­cial and res­i­den­tial asset prices; and a sharp rise in lay­offs. The government’s fail­ure to deliver a fis­cal stim­u­lus plan and unfreeze the credit mar­kets imply that the reces­sion will deepen and any recov­ery will be pushed far­ther into the future.

“The con­trac­tion in pay­rolls and eco­nomic growth will per­sist until there are some signs that pol­icy actions are finally becom­ing effec­tive. The fis­cal stim­u­lus plan needed to sta­bi­lize the econ­omy will be mas­sive and pol­icy rates will stay near zero for a long time.”

The pre­car­i­ous posi­tion of the US con­sumer is illus­trated by a plunge of 21.9 points to 63.7 in the annual aver­age of the Uni­ver­sity of Michi­gan Con­sumer Sen­ti­ment Index — the largest annual aver­age decline in the his­tory of the Index which began in 1952, accord­ing to Asha Ban­ga­lore (North­ern Trust).

The Fed fund futures are pric­ing in a 76% chance of a 75 basis-point cut in rates from 1.0% to 0.25% when the FOMC meets on Decem­ber 16.

How­ever, Bill King ques­tioned the Fed’s approach: “[Effec­tive] Fed funds traded at zero late last night. We have screamed for months that the offi­cial or ‘tar­get’ Fed funds rate was irrel­e­vant because the effec­tive funds rate was much lower, and near zero. Now Fed funds are trad­ing at zero. Yet there will be pun­dits and experts that will assert that the Fed might cut its tar­get funds rate this week to 0.50% or even 0.25% — even though the cut in the tar­get rate is mean­ing­less. Now that the Fed is pay­ing inter­est to banks, why did the Fed allow the funds rate to trade at zero? Yep, they are ter­ri­fied by something.”

Also, the Fed is con­sid­er­ing issu­ing its own debt to fur­ther expand money sup­ply with­out clog­ging up bank bal­ance sheets and mak­ing it harder for the Fed to main­tain inter­est rates at the desired level. RGE Mon­i­tor said: “… there are upper lim­its to Trea­sury issuance and lower lim­its to the amount of Trea­suries the Fed can sell off from the asset side of its bal­ance sheet. One hur­dle to issu­ing Fed bills: The Fed­eral Reserve Act doesn’t explic­itly per­mit the Fed to issue notes beyond currency.”

Else­where in the world, eco­nomic reports com­pounded anx­i­ety about a severe global reces­sion. Specif­i­cally, Chi­nese exports in Novem­ber declined by 2.2% from a year ear­lier as a result of a dras­tic slow­down in demand in many of its main mar­kets. The fig­ures were far below fore­casts and the +19% fig­ure for Octo­ber. “This is the worst col­lapse in Chi­nese exports since 1999 and is prob­a­bly just the begin­ning of a pro­longed export con­trac­tion,” said Isaac Meng, econ­o­mist at BNP Paribas, as reported by the Finan­cial Times.

Week’s eco­nomic reports
Click here for the week’s econ­omy in pic­tures, cour­tesy of Jake of Econom­Pic Data.

Source: Yahoo Finance, Decem­ber 12, 2008.

In addi­tion to inter­est rate announce­ments by the FOMC (Tues­day) and the Bank of Japan (Thurs­day), next week’s US eco­nomic high­lights, cour­tesy of North­ern Trust, include the following:

1. Indus­trial Pro­duc­tion (Decem­ber 15): The 1.4% drop in the man­u­fac­tur­ing man-hours index in Novem­ber sug­gests a 1.0% decline in indus­trial pro­duc­tion. The oper­at­ing rate is pro­jected to have dropped to 75.7. Con­sen­sus: –0.8%; Capac­ity Uti­liza­tion: 75.7 ver­sus 76.4 in October.

2. Con­sumer Price Index (Decem­ber 16): A 0.7% decline in the CPI is fore­cast for Novem­ber ver­sus a 1.0% drop in Octo­ber, reflect­ing largely lower energy prices. The core CPI is expected to have moved up by 0.1% after a 0.1% decline in Octo­ber. Con­sen­sus: 1.3%, core CPI +0.1%.

3. Hous­ing Starts (Decem­ber 16): Per­mit exten­sions for new homes fell by 9.2% in Octo­ber, inclu­sive of a 12.6% drop in per­mits issued for single-family homes. These fig­ures sug­gest a sharp drop in hous­ing starts (730,000). Con­sen­sus: 740,000 ver­sus 791,000 in October.

4. Lead­ing Indi­ca­tors (Decem­ber 18): Interest-rate spread and money sup­ply are the only two com­po­nents likely to make a pos­i­tive con­tri­bu­tion in Novem­ber. Stock prices, ini­tial job­less claims, man­u­fac­tur­ing work­week, con­sumer expec­ta­tions, ven­dor deliv­er­ies, and build­ing per­mits are expected to make neg­a­tive con­tri­bu­tions. Fore­casts of money sup­ply and orders of con­sumer durables and non-defense cap­i­tal goods are used in the ini­tial esti­mate. The net impact is a 0.5% drop in the lead­ing index dur­ing Novem­ber, assum­ing build­ing per­mits fell. Con­sen­sus: –0.5 %

5. Other reports: NAHB Sur­vey (Decem­ber 15), Cur­rent Account (Q4) (Decem­ber 17), Philadel­phia Fed Sur­vey (Decem­ber 18).

Click here for a sum­mary of Wachovia’s weekly eco­nomic and finan­cial commentary.

Mar­kets
The per­for­mance chart obtained from the Wall Street Jour­nal Online shows how dif­fer­ent global mar­kets per­formed dur­ing the past week.

Source: Wall Street Jour­nal Online, Decem­ber 12, 2008.

Equi­ties
Global stock mar­kets ral­lied strongly dur­ing the past week as bargain-hunters looked past the grim eco­nomic and cor­po­rate reports. Both mature and emerg­ing mar­kets par­tic­i­pated in the rally, as shown by the gains of the MSCI World Index (+4.4%) and the MSCI Emerg­ing Mar­kets Index (+10.9%). Notwith­stand­ing the improve­ment, these indices were still down by 47.4% and 58.8% respec­tively since the peaks of Octo­ber 2007.

Par­tic­u­larly note­wor­thy, the MSCI Emerg­ing Mar­kets Index has been out­per­form­ing the Dow Jones World Index since late Octo­ber (ris­ing green line), after a period of solid under­per­for­mance from May to Octo­ber (falling line).

The chart below shows the per­for­mance of the four BRIC coun­tries since the Novem­ber 20 lows. Brazil (orange line), India (green) and Rus­sia (red) have all recov­ered sharply, but China (blue) has under­per­formed after ini­tial out­per­for­mance fol­low­ing the cli­mac­tic[MR2] Novem­ber 10 sell-off.

Click here or on the thumb­nail below for a (pleas­antly green) mar­ket map, obtained from Fin­viz, pro­vid­ing a quick overview of last week’s per­for­mances of global stock mar­kets (as reflected by the move­ments of ADR stocks).

The Dow Jones Indus­trial Index was one of the few major indices to record a neg­a­tive return dur­ing the past week, with US mar­kets in gen­eral lag­ging other bourses as shown by the major index move­ments: Dow –0.1% (YTD –34.95), S&P 500 Index +0.4% (YTD –40.1%), Nas­daq Com­pos­ite Index +2.1% (YTD ‑41.9%) and Rus­sell 2000 Index +1.6% (YTD –38.8%).

The bar chart below shows the US sec­tor per­for­mances over the week, and specif­i­cally how strongly energy and mate­ri­als have recov­ered. Nine of the ten best-performing groups were related to com­modi­ties (diver­si­fied met­als & min­ing, coal & con­sum­able fuel, alu­minum, steel, gold, oil & gas drilling, oil & gas explo­ration & pro­duc­tion, gas util­i­ties[MR3] , and oil & gas equip­ment & services).

Jamie Dimon, JPMor­gan Chase’s (JPM) chief exec­u­tive, prompted a sharp fall in finan­cial shares with a warn­ing that his bank was hav­ing a tough fourth quar­ter after a “ter­ri­ble” Novem­ber and Decem­ber. Gold­man Sachs’ (GS) earn­ings report on Tues­day is keenly awaited.

Based on the out­per­for­mance of emerging-market stocks and the sharp recov­ery of commodity-related groups, it would appear that investors are becom­ing less risk averse. Another exam­ple is the out­per­for­mance of small caps since the Novem­ber 20 lows. A study pub­lished by Bespoke on Decem­ber 8 high­lighted the decile per­for­mance of stocks in the S&P 500 Index based on mar­ket cap. As shown by the chart below, the two deciles of the largest-cap stocks in the S&P 500 increased by about 17%, while the decile of the smallest-cap stocks was 54% higher.

Fixed-income instru­ments
The yields on gov­ern­ment bonds gen­er­ally edged up dur­ing the past few trad­ing days after a record-breaking plunge since the begin­ning of November.

The UK ten-year Gilt yield increased by 17 basis points to 3.60% and the Ger­man ten-year Bund rose by 26 basis points to 3.30%. Although the US ten-year Trea­sury Note yield declined by 7 basis points to 2.59% on the week, the yield edged up from an ear­lier five-decade low of 2.48%.

John Huss­man (Huss­man Funds) expressed his con­cern about the level of Trea­suries: “The prob­lem with Trea­sury yields here is that while there are good eco­nomic rea­sons for the down­ward yield pres­sures, the lev­els are low enough to invite explo­sive spikes that can eas­ily wipe out a year or more of yield-to-maturity in a few days.”

Emerging-market bonds moved in an oppo­site direc­tion to mature bonds, with the JPMor­gan EMBI Global Index gain­ing 2.4% dur­ing the week.

US mort­gage rates were almost unchanged on the week, with the 30-year fixed rate ris­ing by 2 basis points to 5.71% and the 5-year ARM declin­ing by 1 basis point to 5.95%

The CDX and iTraxx credit indices, US Trea­sury Bills and high-yield spreads are still at dis­tressed lev­els. Some improve­ment has been seen as a result of the cen­tral banks’ actions, notably the tight­en­ing of the TED and LIBOR-OIS spreads, and lower mort­gage rates. How­ever, credit spreads need to nar­row fur­ther to indi­cate that liq­uid­ity is mov­ing freely again and credit mar­kets are start­ing to thaw. (Also see my “Credit Cri­sis Watch“.)

Cur­ren­cies
The US dol­lar fell sharply as the recent rela­tion­ship between risk aver­sion and dol­lar strength weak­ened as a result of US-specific fac­tors like the dete­ri­o­ra­tion in the US trade bal­ance and the automaker woes. The green­back plum­meted to a 13-year low against the Japan­ese yen and touched its low­est level against the euro for seven weeks.

As shown by the chart below, the dol­lar has bro­ken below its 50-day mov­ing aver­age and seems to be top­ping out. Are for­eign investors com­ing to the con­clu­sion that the US cur­rency, which briefly last week yielded a neg­a­tive yield, is no longer an attrac­tive option?

Over the week the US dol­lar lost ground against the euro (-5.0%), the British pound (-1.8%), the Swiss franc (-3.6%), the Japan­ese yen (-1.8%), the Cana­dian dol­lar (-2.0%), the Aus­tralian dol­lar (-3.0%) and the New Zealand dol­lar (-2.2%). The US cur­rency also fell against emerging-market cur­ren­cies[MR4] , like the South African rand (-2.0%).

The British pound came under renewed pres­sure as the wors­en­ing eco­nomic sit­u­a­tion trig­gered con­cerns of a cur­rency cri­sis. Sterling’s trade-weighted index fell to its low­est level since record-keeping began in 1981.

Com­modi­ties
The Reuters/Jeffries CRB Index (+8.8%) closed higher by the end of the week — only its sixth pos­i­tive week since com­modi­ties peaked early in July. The Baltic Dry Index — a bench­mark for ship­ping major raw mate­ri­als includ­ing coal, iron ore and grain — bounced by 15.2% from very over­sold levels.

The graph below shows the move­ments of var­i­ous com­modi­ties over the past week, indi­cat­ing an improve­ment across the whole com­plex (with the excep­tion of nat­ural gas) as a weak US dol­lar pushed prices higher.

The Inter­na­tional Energy Agency urged a “sub­stan­tial” cut in Opec out­put when the oil car­tel meets next week, as global oil demand this year is expected to con­tract for the first time in 25 years. The price of West Texas Inter­me­di­ate crude surged by 20.4% in expec­ta­tion of a cut of at least 1 mil­lion to 1.5 mil­lion bar­rels a day.

Gold bul­lion (+9.1%) remained in favor with investors as a result of a solid supply/demand sit­u­a­tion, store-of-value con­sid­er­a­tions and a weaker US cur­rency. The chart below illus­trates the strong inverse rela­tion­ship between gold (green line) and the dol­lar (red line). In addi­tion, gold has bro­ken above its 50-day mov­ing aver­age (blue line) and trades at about the same level it started off in Jan­u­ary 2008 — quite a feat in these dif­fi­cult mar­kets. Plat­inum (+4.9%) and sil­ver (+8.5%) improved in tan­dem with the yel­low metal.

After the storm comes the calm. With only 12 more trad­ing days remain­ing before we wish the tumul­tuous 2008 good­bye, let’s hope the calm lies just ahead. And as Richard Rus­sell reminds us: “Calm after a bear­ish trend is usu­ally bull­ish.” Mean­while, the news items and words from the invest­ment wise below will hope­fully assist in steer­ing our port­fo­lios on a prof­itable course.

That’s the way it looks from Cape Town.

Source: Dave Granlund

YouTube: The twelve days of bailouts
A bailout song for the holidays.

Source: YouTube, Decem­ber 6, 2008.

New York Mag­a­zine: Ora­cles of doom
They always knew the econ­omy would col­lapse. What do they think will hap­pen next?

FORTUNE TELLER: Ger­ald Celente
Trends Research Insti­tute founder; owner of collapseof09.com

TRACK RECORD
Pre­dicted 1987 crash, 1997 Asian cur­rency cri­sis; said in 2007 that US was headed for “eco­nomic 9/11″ in 2008.

CURRENT PREDICTION
“Prod­ucts are going to be cheaper to buy, but guess what? You’re going to need more dol­lars to buy them because your dollar’s going to be worth less. There is no fis­cal or mon­e­tary pol­icy that can save this. You can­not save it by print­ing more money.”

FORTUNE TELLER: Nouriel Roubini
NYU busi­ness pro­fes­sor; chair­man of RGE Monitor

TRACK RECORD
Pre­dicted this year’s cri­sis in 2006, point­ing to a hous­ing bust, oil shocks, and interest-rate increases.

CURRENT PREDICTION
“It’s becom­ing a global reces­sion. I expect it to be the worst US reces­sion of the last 50 years. I expect a cumu­la­tive fall in out­put from the peak of 4% and the unem­ploy­ment rate going all the way to 9%.”

FORTUNE TELLER: Peter Schiff
Pres­i­dent of Euro Pacific Capital

TRACK RECORD
Pub­lished “Crash Proof: How to Profit From the Com­ing Eco­nomic Col­lapse in Feb­ru­ary 2007″; star of YouTube video “Peter Schiff Was Right 2006–2007.”

CURRENT PREDICTION
“I pre­dicted that the econ­omy would col­lapse. The big­ger risk I saw was the government’s attempt to solve the prob­lem by doing exactly what they’re now doing. They’re going to cre­ate another Great Depres­sion, but worse, because the cost of liv­ing will go through the roof.”

FORTUNE TELLER: Richard Rus­sell
Founder of the Dow The­ory Letters

TRACK RECORD
Pre­dicted bot­tom of 1974 bear mar­ket; exited mar­ket before crashes in 1987 and 2000.

CURRENT PREDICTION
“As long as we can hold the Dow above 7,470, I think the sit­u­a­tion is hope­ful. That’s the halfway level from when the bull mar­ket started in 1982 and when it ended in 2007. My guess is that it will break that level. Most bear mar­kets have wiped out more than 50% of a bull market.”

FORTUNE TELLER: Barry Ritholtz
CEO and equity research direc­tor of Fusion IQ; blog­ger at The Big Picture

TRACK RECORD
Pre­dicted down­turn last year.

CURRENT PREDICTION
“In March, the first-quarter num­bers start com­ing out, and that’s poten­tially a prob­lem. It’s just going to be an issue of deal­ing with the mar­ket. If earn­ings con­tinue to drop and you end up with mul­ti­ple con­trac­tions, that basi­cally takes you to a really bad, ugly place, which is an S&P at 400 or 500. I don’t think that’s likely, but it’s cer­tainly possible.”

FORTUNE TELLER: Jeremy Grantham
Co-founder and chair­man, GMO LLC

TRACK RECORD
His 1998 ten-year fore­cast showed severe mar­ket declines in 2007 and 2008; warned of global bub­ble in April 2007.

CURRENT PREDICTION
“I would think, just to guess, that the period of heroic volatil­ity will end pretty soon and will be replaced by a rather 1974-ish envi­ron­ment, where you qui­etly get bit­terly resigned to your steady diet of bad news.”

Source: Jeff Van­Dam, New York Mag­a­zine, Decem­ber 7, 2008.

CNBC: Mer­rill Lynch — out­look for 2009
“An eco­nomic and invest­ment out­look for 2009, with Mer­rill Lynch’s Richard Bern­stein and Davis Rosenberg.

Source: CNBC, Decem­ber 11, 2008.

Finan­cial Times: Obama to focus on stim­u­lus not deficit
“Barack Obama on Sun­day spelled out his plans for the biggest infra­struc­ture invest­ment in the US for half a cen­tury. The president-elect argued that with the econ­omy reel­ing, his incom­ing admin­is­tra­tion could not afford to worry about a spi­ralling bud­get deficit.

“Mr Obama’s pro­pos­als for gov­ern­ment works on roads, bridges, inter­net broad­band and school build­ings, together with energy effi­ciency mea­sures and health spend­ing, are far more detailed than the nor­mal announce­ments dur­ing a time of transition.

“At a time of deep­en­ing eco­nomic gloom — with half a mil­lion jobs lost last month alone — pres­i­dent George W. Bush has been largely absent from the recent eco­nomic debate. Mr Obama is high­light­ing his con­cern at the depth of the reces­sion he will inherit, while fast-tracking his plans to counter it.

“‘Things are going to get worse before they get bet­ter,’ Mr Obama said on Sun­day on NBC’s Meet The Press. He empha­sised that his plans rep­re­sented the largest US infra­struc­ture pro­gramme since the fed­eral high­way sys­tem in the 1950s.

“‘The key is mak­ing sure we jump-start the econ­omy in a way that doesn’t just deal with the short term, doesn’t just cre­ate jobs imme­di­ately, but also puts us on a glide path for long-term sus­tain­able eco­nomic growth.’

“Not­ing the US bud­get deficit might sur­pass $1,000 bil­lion before his spend­ing plans are fac­tored in, Mr Obama added: ‘We under­stand that we’ve got to pro­vide a blood infu­sion to the patient right now to make sure that the patient is sta­bilised. And that means that we can’t worry short term about the deficit. We’ve got to make sure that the eco­nomic stim­u­lus plan is large enough to get the econ­omy moving.’

“He wanted a strong set of finan­cial reg­u­la­tions to make banks, credit rat­ings agen­cies, mort­gage bro­kers and oth­ers ‘much more account­able and behave much more responsibly’.

“‘I am absolutely con­fi­dent that if we take the right steps over the com­ing months that not only can we get the econ­omy back on track but we can emerge leaner, meaner and ulti­mately more com­pet­i­tive and more pros­per­ous,’ Mr Obama said at a sub­se­quent press conference.”

Source: Daniel Dombey, Finan­cial Times, Decem­ber 7, 2008.

Bill King (The King Report): Obama Plan one of the bet­ter plans
“The Obama Plan to spend mas­sive amounts of money on infra­struc­ture in the US is one of the bet­ter plans being prof­fered to keep the US out of a depres­sion. But it has its drawbacks.

“Other stim­u­lus plans put money or enti­tle­ments in US con­sumers’ pock­ets. Most of the money ends up in China, Japan or OPEC. Most infra­struc­ture spend­ing will remain in the US. And instead of just pass­ing out checks or larger enti­tle­ments, jobs, mostly temps, will be cre­ated and per­ma­nent assets will result.

“The resul­tant infra­struc­ture and phys­i­cal assets will be far bet­ter than endow­ing busted banks, insur­ance com­pa­nies and other finan­cial enti­ties with US tax­pay­ers’ cash, which effec­tively goes down a black hole.

“Obama’s Plan will boost blue col­lar employ­ment, pro­vided a lim­ited num­ber of ille­gals are hired. This will pro­duce an income shift to blue col­lar and lower mid­dle class house­holds. But fired employ­ees of finan­cial, high tech and other high-end jobs are unlikely to par­tic­i­pate. So the mul­ti­plier effect of increased income will be less on the econ­omy in general.

“The neg­a­tives of the plan, besides the mas­sive debt and likely cor­rup­tion, is that it does not rem­edy struc­tural prob­lems in the US econ­omy and finan­cial sys­tem. There will be few new indus­tries spawned and there­fore few per­ma­nent well-paying jobs. Noth­ing addresses the sav­ings and invest­ment problems.

“There is too much capac­ity in the world. There are hun­dreds of empty or aban­doned fac­to­ries in China alone. Until excess capac­ity is scut­tled and new indus­tries appear, sta­ble employ­ment is a fantasy.

“The real prob­lem, the one that solons will not address, is the US wel­fare state is busted. The Key­ne­sian and mon­e­tary stim­uli that were abused over many decades to paper over wel­fare state spend­ing are now being esca­lated to an unsus­tain­able degree in a last grand attempt to sal­vage the wel­fare state system.

“Like all state attempts to stave off a debt defla­tion by run­ning the print­ing press and nation­al­iza­tion, it will likely result in a mas­sive infla­tion that destroys the nation’s fab­ric and the finan­cial assets of the upper mid­dle class and elites. The mid­dle and lesser classes have few finan­cial assets.”

Source: Bill King, The King Report, Decem­ber 9, 2008.

Finan­cial Times: Trea­sury sig­nals res­cue for car­mak­ers
“The US admin­is­tra­tion was on Fri­day scram­bling to save Detroit’s trou­bled car indus­try, as Gen­eral Motors said it was clos­ing most of its North Amer­i­can man­u­fac­tur­ing plants for the month of Jan­u­ary in the wake of the Senate’s fail­ure to agree a $14 bil­lion loan for GM and Chrysler.

“The US Trea­sury sig­naled it was ready to step in with funds intended to prop up the finan­cial sys­tem to pre­vent the biggest indus­trial fail­ure in US history.

“‘Because Con­gress failed to act, we will stand ready to pre­vent an immi­nent fail­ure until Con­gress recon­venes and acts to address the long-term via­bil­ity of the indus­try,’ the Trea­sury said.

“GM’s bonds fell to a new low of 9–10 cents on the dol­lar on fears of a bank­ruptcy by America’s largest domes­tic car­maker, before recov­er­ing to 15 cents on the news that the Bush admin­is­tra­tion was look­ing for alter­na­tive financing.

“For weeks George W Bush, the US pres­i­dent, has resisted using the $700 bil­lion trou­bled asset relief pro­gram to pro­vide aid to the car­mak­ers, argu­ing that such an inter­ven­tion­ist step would be a mis­use of funds.

“How­ever, fac­ing the prospect of the col­lapse of one or more of the Detroit com­pa­nies, the White House indi­cated it had few other options. ‘A pre­cip­i­tous col­lapse of this indus­try would have a severe impact on our econ­omy and it would be irre­spon­si­ble to fur­ther weaken and desta­bi­lize our econ­omy at this time,’ said Dana Perino, White House spokes­woman, specif­i­cally not­ing the pos­si­bil­ity of using Tarp funds.

“A Chap­ter 11 bank­ruptcy fil­ing by GM, the world’s biggest car­maker, would mark the biggest indus­trial fail­ure in US history.”

Source: Daniel Dombey, John Reed and Bernard Simon, Finan­cial Times, Decem­ber 12, 2008.

Reuters: Fed mulls issu­ing own debt
“The US Fed­eral Reserve is con­sid­er­ing issu­ing its own debt for the first time, the Wall Street Jour­nal said, cit­ing peo­ple famil­iar with the matter.

“Fed offi­cials have approached Con­gress about the move, which could include issu­ing bills or some other form of debt and would pro­vide the cen­tral bank with more flex­i­bil­ity to tackle the finan­cial cri­sis, the Jour­nal said.

“The Fed can already print as much money as it wants, but issu­ing debt is largely the province of the Trea­sury Department.

“The Fed stepped in with emer­gency credit for invest­ment bank Bear Stearns in March and insurer AIG in Sep­tem­ber, and threw open its direct loan win­dow to Wall Street firms this year in a bid to sta­bi­lize finan­cial mar­kets amid a credit freeze.

“But with the credit cri­sis show­ing no signs of abat­ing, and the nar­row scope for fur­ther inter­est rate cuts from the present lev­els of 1%, econ­o­mists expect the Fed to look at new ways to boost the sup­ply and cir­cu­la­tion of money to avoid a defla­tion­ary slump.”

Source: Reuters, Decem­ber 10, 2008.

Paul Kas­riel (North­ern Trust): The credit rat­ing on a benev­o­lent counterfeiter’s debt — infin­ity A?
“Why would the Fed be con­tem­plat­ing issu­ing its own debt? To soak up in the future some of the mas­sive credit the Fed has cre­ated in the past year or so. Why would the Fed not just sell US Trea­sury secu­ri­ties from its port­fo­lio in order to soak up this excess Fed credit? Because, as shown in the chart below, the Fed’s out­right hold­ings of US Trea­sury secu­ri­ties has dropped from a shade under $800 bil­lion to about $475 bil­lion as Fed credit out­stand­ing has risen from a lit­tle over $800 bil­lion to about $2.1 tril­lion. In per­cent­age terms, the Fed’s out­right hold­ings of US Trea­sury secu­ri­ties has gone from a bit over 90% of reserve bank credit out­stand­ing to about 22–1/2%. The Fed is afraid it might run out of US Trea­sury secu­ri­ties to sell!

“I can see noth­ing sin­is­ter about all this. It is not a con­spir­acy to print money. Just the oppo­site. It is a way to destroy some of the paper the Fed already has ‘printed’.”

Source: Paul Kas­riel, North­ern Trust — Daily Global Com­men­tary, Decem­ber 10, 2008.

Bloomberg: Fed refuses to dis­close recip­i­ents of $2 tril­lion
“The Fed­eral Reserve refused a request by Bloomberg News to dis­close the recip­i­ents of more than $2 tril­lion of emer­gency loans from US tax­pay­ers and the assets the cen­tral bank is accept­ing as collateral.

“Bloomberg filed suit Novem­ber 7 under the US Free­dom of Infor­ma­tion Act request­ing details about the terms of 11 Fed lend­ing pro­grams, most cre­ated dur­ing the deep­est finan­cial cri­sis since the Great Depression.

“The Fed responded Decem­ber 8, say­ing it’s allowed to with­hold inter­nal memos as well as infor­ma­tion about trade secrets and com­mer­cial infor­ma­tion. The insti­tu­tion con­firmed that a records search found 231 pages of doc­u­ments per­tain­ing to some of the requests.

“If they told us what they held, we would know the poten­tial losses that the gov­ern­ment may take and that’s what they don’t want us to know,” said Car­los Mendez, a senior man­ag­ing direc­tor at New York-based ICP Cap­i­tal, which over­sees $22 bil­lion in assets.

“The Fed stepped into a res­cue role that was the orig­i­nal pur­pose of the Treasury’s $700 bil­lion Trou­bled Asset Relief Pro­gram. The cen­tral bank loans don’t have the over­sight safe­guards that Con­gress imposed upon the TARP.

“Con­gress is demand­ing more trans­parency from the Fed and Trea­sury on bailout, most recently dur­ing Decem­ber 10 hear­ings by the House Finan­cial Ser­vices com­mit­tee when Rep­re­sen­ta­tive David Scott, a Geor­gia Demo­c­rat, said Amer­i­cans had ‘been bamboozled’.

Source: Mark Pittman, Bloomberg, Decem­ber 12, 2008.

The Wall Street Jour­nal: May­ors get in line for US funds
“Big-city may­ors will arrive on Capi­tol Hill Mon­day to lobby for more fed­eral spend­ing to be fun­neled to urban areas that they say drive the country’s eco­nomic engine.

“The push comes after a strong Demo­c­ra­tic turnout in met­ro­pol­i­tan areas helped President-elect Barack Obama — who is set to become America’s first urban pres­i­dent in almost half a cen­tury — win by such a deci­sive mar­gin in November.

“A del­e­ga­tion of may­ors, includ­ing Michael Bloomberg of New York and Anto­nio Vil­laraigosa of Los Ange­les, plans to ask the fed­eral gov­ern­ment to dis­trib­ute funds directly to cities instead of going through state gov­ern­ments. The group is set to present a list of more than 4,600 infra­struc­ture projects that they say are ‘ready to go’.

“Tom Cochran, exec­u­tive direc­tor of the US Con­fer­ence of May­ors, which is orga­niz­ing Monday’s event, said the next admin­is­tra­tion has sig­naled that it will coör­di­nate financ­ing for projects for an entire met­ro­pol­i­tan area instead of deal­ing with cities and sub­urbs separately.

“‘I am of the opin­ion, based on our con­ver­sa­tions with President-elect Obama, that he gets it,’ said Mr. Cochran. ‘You can’t just have a trans­porta­tion sys­tem that stops at the city line.’

“Mr. Obama’s tran­si­tion office is draw­ing up plans to cre­ate a White House office on urban pol­icy, which would report directly to the pres­i­dent, to coör­di­nate fund­ing for cities from dif­fer­ent fed­eral agen­cies. Mr. Obama has pledged to pro­vide new fund­ing for job train­ing, edu­ca­tion and grants for local gov­ern­ments and organizations.”

Source: T.W. Far­nam, The Wall Street Jour­nal, Decem­ber 8, 2008.

Bloomberg: Inter­view with Mar­tin Feld­stein
“Har­vard Uni­ver­sity pro­fes­sor Feld­stein dis­cusses auto bailout, how to fix the hous­ing mar­ket as well as Fan­nie and Fred­die, and 3-month T-Bill rates below zero.”

Source: Bloomberg (via YouTube), Decem­ber 9, 2008.

Ambrose Evans-Pritchard (Tele­graph): Defla­tion virus is mov­ing the pol­icy test beyond the 1930s
“Debt defla­tion is tight­en­ing its grip over the entire global sys­tem. Inter­est rates are creep­ing towards zero in Japan, Amer­ica, and now across most of Europe.

“We are beyond the extremes of the 1930s. The fron­tiers of mon­e­tary pol­icy are being pushed to lim­its that may now test via­bil­ity of paper cur­ren­cies and mod­ern cen­tral banking.

“You can­not drop below zero. So what next if the credit mar­kets refuse to thaw? Yes, Japan vis­ited and sur­vived this pol­icy hell dur­ing its lost decade, but that was a local affair in an oth­er­wise boom­ing global econ­omy. It tells us nothing.

“This time we are all going down together. There is no deus ex machina to lift us out. Cer­tainly not China, which is the most vul­ner­a­ble of all.

“As the risk grows, offi­cials at the high­est level of the British Gov­ern­ment have begun to cir­cu­late a six-year-old speech by Ben Bernanke — at the time of its writ­ing, a gar­ru­lous kid gov­er­nor at the US Fed­eral Reserve. Enti­tled ‘Defla­tion: Mak­ing Sure It Doesn’t Hap­pen Here’, it is the man­ual of guer­rilla tac­tics for defeat­ing slumps by mon­e­tary means.

“‘The US gov­ern­ment has a tech­nol­ogy, called a print­ing press, that allows it to pro­duce as many US dol­lars as it wishes at essen­tially no cost,’ he said.

“His point was that cen­tral banks never run out of ammu­ni­tion. They have an inex­haustible arse­nal. The world’s fate now hangs on whether he was right (which is prob­a­ble), or wrong (which is possible).

“As a scholar of the Great Depres­sion, Bernanke does not think that slid­ing prices can safely be allowed to run their course. ‘Sus­tained defla­tion can be highly destruc­tive to a mod­ern econ­omy,’ he said.

“Bernanke’s cen­tral claim is that the big guns of mon­e­tary pol­icy were never prop­erly deployed dur­ing the Depres­sion, or dur­ing the early years of Japan’s bust, so no won­der the slumps dragged on.

“The Fed can cre­ate money out of thin air and mop up assets on the open mar­ket, like a sov­er­eign sugar daddy. ‘Suf­fi­cient injec­tions of money will ulti­mately always reverse a deflation.’

“Bernanke said the Fed can ‘expand the menu of assets that it buys’. US Trea­sury bonds top the list, but it can equally pur­chase mort­gage secu­ri­ties from US agen­cies such as Fan­nie, Fred­die and Gin­nie, or com­pany bonds, or com­mer­cial paper. Any asset will do.

“The Fed can acquire houses, stocks, or a herd of Texas Long­horn cat­tle if it wants. It can even scat­ter $100 bills from heli­copters. (Actu­ally, Japan is about to do this with shop­ping coupons).”

Source: Ambrose Evans-Pritchard, Tele­graph, Decem­ber 9, 2008.

Asha Ban­ga­lore (North­ern Trust): House­hold net worth is shrink­ing rapidly
“House­hold net worth in the third quar­ter of 2008 was $56.5 tril­lion, down 4.7% from the sec­ond quar­ter. This is the largest quar­terly decline since the sec­ond quar­ter of 1962 when net worth of house­holds dropped 5.0%.

“House­hold spend­ing will suf­fer as set­back a house­hold net worth shrinks, which is already vis­i­ble in con­sumer spend­ing data, and the pro­cliv­ity of house­holds to bor­row will show a reduc­tion. The chart below indi­cates that growth of both mort­gage and con­sumer debt have fallen in the third quar­ter. The sharp drop in mort­gage debt (-2.4%) reflects the impact of mort­gage fore­clo­sures and a drop in home pur­chases, while con­sumer debt grew at a 1.2% pace in the third quar­ter ver­sus a 7.2% jump a year ago.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Decem­ber 11, 2008.

Asha Ban­ga­lore (North­ern Trust): Weak tra­jec­tory for retail sales
“Retail sales fell 1.8% in Novem­ber, after a 2.9% decline in the prior month. Retail sales have dropped for five straight months, the longest string of declines since record keep­ing for retail sales began in 1967. The wide swings of gaso­line prices influ­ence the head­line of retail sales. Exclud­ing gaso­line, retail sales dropped 0.2% in Novem­ber after a 1.6% plunge in the prior month. Retail sales exclud­ing gaso­line have recorded six con­sec­u­tive monthly declines. Unit auto sales have fallen in ten out of eleven months of the year.

“The upshot is that with or with­out gaso­line and autos, retail sales show an extra­or­di­nary weak­ness that is seen the over­all con­sumer spend­ing data and this weak tra­jec­tory for retail sales and over­all con­sumer spend­ing is pre­dicted to pre­vail in the near term.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Decem­ber 12, 2008.

Asha Ban­ga­lore (North­ern Trust): Con­sumer spend­ing in post-war reces­sions
“The chart below illus­trates the his­tory of con­sumer spend­ing dur­ing reces­sions. Con­sumer spend­ing typ­i­cally declines in reces­sion­ary peri­ods with the excep­tion of the 1948 and 2001 recessions.

“Our fore­cast includes five con­sec­u­tive quar­terly declines in con­sumer spend­ing, pos­si­bly another record for the books if our fore­cast is accu­rate. The highly lever­aged house­hold bal­ance sheet of house­holds under­lies this prediction.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Decem­ber 8, 2008.

Bloomberg: Inside look — hous­ing cri­sis
“From Hous­ing Forum in Wash­ing­ton D.C.: Inter­view with PIMCO Man­ag­ing Direc­tor Scott Simon.”

Source: Bloomberg (via YouTube), Decem­ber 8, 2008.

Busi­ness­Week: Unre­tired — retirees are back, look­ing for work
“They saved. They planned. Then hous­ing tanked and the mar­kets melted. Now they need jobs, and there aren’t any.

“Six years ago, Paul Nel­son gave up his long career in the defense indus­try for what he thought would be a peace­ful retire­ment in Tuc­son. The weather was mild, the neigh­bors friendly. He had plenty of time to vol­un­teer and garden.

“But retire­ment hasn’t worked out the way he planned. In 2006 his wife of 46 years died unex­pect­edly. He tried to swap their house for a smaller one and lost a chunk of his retire­ment sav­ings in the process. Then this year the stock mar­ket cratered, wip­ing out almost every­thing he had left. Now the 71-year-old is look­ing for work at local hard­ware stores and Home Depot and con­tem­plat­ing fil­ing for per­sonal bank­ruptcy. ‘I have noth­ing left,’ says Nel­son, a for­mer Raytheon engi­neer. ‘I am not alone, I think.’

“Far from it. An increas­ing num­ber of peo­ple who retired in recent years, con­fi­dent they had set aside enough to live on com­fort­ably, are find­ing them­selves strapped. The stock mar­ket plunge and the hous­ing down­turn have affected many Amer­i­cans, of course. But retirees have been par­tic­u­larly pinched because their homes and invest­ments are the pri­mary assets they depend on for income. As a result, many of the country’s elderly are find­ing them­selves in Nelson’s sit­u­a­tion, low on money and look­ing for work. ‘Sud­denly the rug has been pulled out from under them,’ says Ali­cia H. Munnell, direc­tor of the Cen­ter for Retire­ment Research at Boston College.”

Click here for the full article.

Source: Heather Green, Busi­ness Week, Decem­ber 4, 2008.

Asha Ban­ga­lore (North­ern Trust): Oil imports lead to wider trade gap in Octo­ber
“The trade deficit widened to $57.2 bil­lion in Octo­ber from $56.6 bil­lion in Sep­tem­ber. Dur­ing Octo­ber, exports (-2.2%) and imports (-1.3%) of goods and ser­vices fell.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Decem­ber 11, 2008.

Reuters: Jim Rogers calls most big US banks “totally bank­rupt”
“Jim Rogers, one of the world’s most promi­nent inter­na­tional investors, on Thurs­day called most of the largest US banks ‘totally bank­rupt’, and said gov­ern­ment efforts to fix the sec­tor are wrongheaded.

“Speak­ing by tele­con­fer­ence at the Reuters Invest­ment Out­look 2009 Sum­mit, the co-founder with George Soros of the Quan­tum Fund, said the government’s $700 bil­lion res­cue pack­age for the sec­tor doesn’t address how banks man­age their bal­ance sheets, and instead rewards weaker lenders with new capital.

“Dozens of banks have won infu­sions from the Trou­bled Asset Relief Pro­gram cre­ated in early Octo­ber, just after the Sep­tem­ber 15 bank­ruptcy fil­ing by Lehman Broth­ers. Some of the funds are being used for acquisitions.

“‘With­out giv­ing spe­cific names, most of the sig­nif­i­cant Amer­i­can banks, the larger banks, are bank­rupt, totally bank­rupt,’ said Rogers, who is now a pri­vate investor.

“‘What is out­ra­geous eco­nom­i­cally and is out­ra­geous morally is that nor­mally in times like this, peo­ple who are com­pe­tent and who saw it com­ing and who kept their pow­der dry go and take over the assets from the incom­pe­tent,’ he said. ‘What’s hap­pen­ing this time is that the gov­ern­ment is tak­ing the assets from the com­pe­tent peo­ple and giv­ing them to the incom­pe­tent peo­ple and say­ing, now you can com­pete with the com­pe­tent peo­ple. It is hor­ri­ble economics.’

“Rogers said he shorted shares of Fan­nie Mae and Fred­die Mac before the gov­ern­ment nation­al­ized the mort­gage financiers in Sep­tem­ber, a week before Lehman failed.

“Now a spe­cial­ist in com­modi­ties, Rogers said he has used the recent rally in the US dol­lar as an oppor­tu­nity to exit dollar-denominated assets.

“While not say­ing how long the US eco­nomic reces­sion will last, he said con­di­tions could ulti­mately mir­ror those of Japan in the 1990s. ‘The way things are going, we’re going to have a lost decade too, just like the 1970s,’ he said.

” … Rogers said sound US lenders remain. He said these could include banks that don’t make or hold sub­prime mort­gages, or which have high ratios of deposits to equity, ‘all the clas­sic old ratios that most banks in Amer­ica for­got or started ignor­ing because they were too old-fashioned’.

“‘Gov­ern­ments are mak­ing mis­takes,’ he said. ‘They’re say­ing to all the banks, you don’t have to tell us your sit­u­a­tion. You can con­tinue to use your bal­ance sheet that is phony … All these guys are bank­rupt, they’re still wor­ry­ing about their bonuses, they’re still try­ing to pay their div­i­dends, and the whole sys­tem is weakened.’

“Rogers said he is invest­ing in growth areas in China and Tai­wan, in such areas as water treat­ment and agri­cul­ture, and recently bought posi­tions in energy and agri­cul­ture indexes.”

Source: Jonathan Stem­pel, Reuters, Decem­ber 11, 2008.

CNBC: Mered­ith Whit­ney — out­look grim for banks

Source: CNBC, Decem­ber 7, 2008.

Finan­cial Times: Post-Lehman com­pany defaults to soar
“Default rates for spec­u­la­tive grade com­pa­nies are fore­cast to jump three­fold next year fol­low­ing the fall of Lehman Broth­ers, the world’s biggest bank­ruptcy, accord­ing to Moody’s, the US rat­ings agency.

“The implo­sion of Lehman on Sep­tem­ber 15 is widely regarded as a sig­nif­i­cant mile­stone, turn­ing the credit crunch into a fully blown eco­nomic crisis.

“Jim Reid, credit strate­gist at Deutsche Bank, said: ‘We are at a turn­ing point for default rates, with much big­ger monthly rises from now on.

“‘Two or three months after Lehman’s col­lapse, we are start­ing to see the impact on the real econ­omy, par­tic­u­larly for those com­pa­nies on short-term funding.’

“Euro­pean com­pa­nies default­ing on their bonds are also set to out­pace those in the US, although ana­lysts sug­gest this is because the Euro­pean junk-grade mar­ket is smaller, mean­ing any rise in defaults has a greater impact in per­cent­age terms, rather than point­ing to a deeper recession.

“Global default rates are fore­cast to rise to 10.4% by Novem­ber 2009 — from 3.1% last month — to lev­els last seen in 2001 fol­low­ing the dot­com crash. Rates are fore­cast to jump to 4.2% by the end of this year.

“A year ago, the global rate was 0.9 per cent.

“The rat­ings agency’s dis­tressed index, which mea­sures the num­ber of com­pa­nies with bonds trad­ing at more than 1,000 basis points over gov­ern­ment paper, rose to 51.8% at the end of last month, up from 48.5% at the end of Octo­ber, and the high­est level since Moody’s launched the index in 1996. This reflects the deep­en­ing prob­lems for com­pany fund­ing. Even some invest­ment grade com­pa­nies are now trad­ing at dis­tressed levels.”

Source: David Oak­ley and Paul J Davies, Finan­cial Times, Decem­ber 8, 2008.

Bespoke: 10-Year Trea­suries over­bought
“It’s an under­state­ment to say that Trea­suries are over­bought at cur­rent lev­els. We’ve been mon­i­tor­ing the spread between its price and its 50-day mov­ing aver­age, and the 10-year Note has finally got­ten to a level that is usu­ally met with sell­ing pres­sure in the near term. Since 1977, the 10-year has only got­ten more than 12% above its 50-day mov­ing aver­age on three dif­fer­ent occa­sions. As shown in the table below, the returns over the next week, month, and 3 months lean to the neg­a­tive side. The aver­age change of the 10-year over the next three months when get­ting this over­bought has been –3.23%.”

Source: Bespoke, Decem­ber 9, 2008.

Bespoke: Want to lend money to uncle Sam? It’s going to cost you
“What would your reac­tion be if you had a friend who had reached the limit on 20 dif­fer­ent credit cards and then came to you to bor­row $100? Then imag­ine that you actu­ally said yes, and when you went to give your friend the $100, he or she actu­ally asked for $101 just for the priv­i­lege of loan­ing the money. Well, that is exactly what is hap­pen­ing (to a lesser degree) in the US T-bill mar­ket. As just another exam­ple of the crazy times we are liv­ing in, the yield on 3-month Trea­suries went neg­a­tive today. There was a time when an event such as this was unimag­in­able. Today it barely gets noticed.”

Source: Bespoke, Decem­ber 9, 2008.

John Huss­man (Huss­man Funds): Unusu­ally unfavoura­bale yield lev­els for Trea­suries
“In bonds, the mar­ket cli­mate last week was char­ac­ter­ized by unusu­ally unfa­vor­able yield lev­els and gen­er­ally favor­able yield pres­sures. As I have fre­quently noted, yield lev­els are much more impor­tant than mar­ket action in dri­ving sub­se­quent total returns in bonds. This is because bonds are less sus­cep­ti­ble to ‘bub­bles’ as a result of their pay­ment stream being known, so favor­able mar­ket action can’t be taken as evi­dence of favor­able sur­prises in those payments.

“The prob­lem with Trea­sury yields here is that while there are good eco­nomic rea­sons for the down­ward yield pres­sures, the lev­els are low enough to invite explo­sive spikes that can eas­ily wipe out a year or more of yield-to-maturity in a few days.

“Cor­po­rate yields have increased sig­nif­i­cantly, but default rates tend to pick up in the later stages of reces­sions, and there isn’t much his­tor­i­cal evi­dence to sug­gest that cor­po­rate bonds reach their lows any ear­lier than stocks do. For that rea­son, cor­po­rate bonds are essen­tially equity-equivalents here, and the same con­sid­er­a­tions about qual­ity apply as well here as they do for stocks. Gen­er­ally speak­ing, cor­po­rate bonds are cur­rently priced to deliver both lower long-term returns than stocks, but as a group, will prob­a­bly have lower volatil­ity than stocks as well.”

Source: John Huss­man, Huss­man Funds, Decem­ber 8, 2008.

Bloomberg: US Trea­sury risk sur­passes Camp­bell Soup as debt increases
“The cost to hedge against losses on US Trea­suries sur­passed the price of default pro­tec­tion on bonds from Camp­bell Soup and drug-maker Bax­ter Inter­na­tional as gov­ern­ment spend­ing on stim­u­lus pack­ages grows.

“Credit-default swaps pro­tect­ing US gov­ern­ment debt in euros for five years are trad­ing at 65 basis points, accord­ing to CMA Datavi­sion, mean­ing costs 65,000 euros ($84,200) to pro­tect 10 mil­lion euros of debt. Con­tracts on Camp­bell were at 52.5 basis points and Bax­ter con­tracts were 57.5 basis points at the close of trad­ing [on Wednes­day] in New York.

“The Fed­eral Reserve’s assets have more than dou­bled from a year ago to $2.14 tril­lion as the cen­tral bank seeks to revive credit mar­kets. Econ­o­mists includ­ing Har­vard Uni­ver­sity pro­fes­sor Ken­neth Rogoff and Nobel Prize win­ner Joseph Stiglitz say President-elect Barack Obama should push for a stim­u­lus pack­age of at least $1 tril­lion to lift the econ­omy out of a year­long reces­sion. The US government’s total cost to bail out the econ­omy may exceed $4 tril­lion, accord­ing to strate­gists includ­ing Ira Jer­sey at Credit Suisse Group AG in New York.

“Con­tracts pro­tect­ing U.K. gov­ern­ment debt for five years were quoted at a mid-price of 114.75 basis points today [Wednes­day], accord­ing to CMA. Swaps on Italy are at 190, and the Nether­lands at 99.5. France was quoted at 58.75 and Ger­many at 51.5, CMA data show.

“Credit-default swaps pay the buyer face value in exchange for the under­ly­ing secu­ri­ties or the cash equiv­a­lent if a bor­rower fails to meet its debt oblig­a­tions. A basis point on a credit-default swap con­tract pro­tect­ing $10 mil­lion of debt from default for five years is equiv­a­lent to $1,000 a year.”

Source: Shan­non D. Har­ring­ton, Bloomberg, Decem­ber 10, 2008.

Jean-Paul Cala­maro (Deutsche Bank): Credit mar­kets offer stun­ning oppor­tu­ni­ties
“The cri­sis grip­ping finan­cial mar­kets has pro­duced some stun­ning invest­ment oppor­tu­ni­ties in credit mar­kets. Among the best is the returns avail­able on ‘basis trades’ between cor­po­rate bonds and credit default swaps, says Jean-Paul Cala­maro, global head of quan­ti­ta­tive credit strat­egy at Deutsche Bank.

“‘Investors buy a cor­po­rate bond and also buy default pro­tec­tion on the issuer via a CDS. When the basis is neg­a­tive [CDS pro­tec­tion costs less than the bond’s spread to swaps] this pro­duces pro­tected cash flows and fur­ther prof­its if the dif­fer­ence between the bond and CDS nar­rows, or if the issuer defaults. The basis between bonds and CDS has been at his­toric wides recently, giv­ing sig­nif­i­cant returns with­out using lever­age,’ he says.

“‘The trade works for many invest­ment grade and high yield issuers in Europe and the US, but high yield trades look most attractive.

“‘This is because investors can earn high returns more quickly when an issuer defaults and at this point in the credit cycle we think defaults are more likely. The trades also work in invest­ment grade, not because we expect defaults but because we expect the basis between bonds and CDS to narrow.

“‘The major cheap­en­ing of bonds ver­sus CDS across cor­po­rate credit has been due to the height­ened fund­ing cri­sis since the Lehman bank­ruptcy in mid-September. We believe con­di­tions will start to ease after year end, which makes these types of trades unusu­ally attrac­tive now.’”

Source: Jean-Paul Cala­maro, Deutsche Bank (via Finan­cial Times), Decem­ber , 2008.

Bloomberg: Cheap­est stocks since 1995 show cash exceeds mar­ket
“Stocks have fallen so far that 2,267 com­pa­nies around the globe are offer­ing prof­its to investors for free. That’s eight times as many as at the end of the last bear mar­ket, when the shares rose 115% over the next year.

“Bank of New York Mel­lon in New York, Danieli in Italy and Seoul-based Namyang Dairy Prod­ucts hold more cash than the value of their stock and debt as the slow­ing world econ­omy wiped out $32 tril­lion in cap­i­tal­iza­tion this year. Com­pa­nies in the MSCI World Index trade for an aver­age $1.17 per dol­lar of net assets, the low­est since at least 1995, and 39% sell at a dis­count to share­holder equity, data com­piled by Bloomberg show.

“The cash-rich com­pa­nies allow investors to pay noth­ing for future earn­ings streams, pro­vid­ing oppor­tu­ni­ties to buy­ers con­cerned about defla­tion, accord­ing to Jean-Marie Eveil­lard, whose $16 bil­lion First Eagle Global Fund has beaten 98% of com­peti­tors this year. Microsoft and Novo Nordisk, which gen­er­ate the most money com­pared with debt, can expand even if lower con­sumer demand erodes profits.

“‘Cash is king, not nec­es­sar­ily for the investor but for cor­po­ra­tions,’ Eveil­lard said in an inter­view from New York last week. ‘It’s use­ful to sit on a ton of cash, No. 1 to sur­vive, as opposed to going bank­rupt, and No. 2 to seize oppor­tu­ni­ties either to make acqui­si­tions cheaply or to squeeze competitors.’”

Source: Michael Tsang and Alexis Xydias, Bloomberg, Decem­ber 8, 2008.

Richard Rus­sell (Dow The­ory Let­ters): “I’m begin­ning to like what I see”
“If they cre­ate enough of it, will they come and spend it? That’s what Mr. Bernanke is going to find out. The gov­ern­ment has cre­ated over a tril­lion dol­lars of cur­rency. There’s now over $8 tril­lion on the side­lines in money mar­kets and T-bills — all frozen with fear and wait­ing for some­thing bet­ter and safer to come along. There’s too much money now in rela­tion to the quan­tity of goods and mer­chan­dise avail­able. This is the for­mula for infla­tion or even hyper-inflation. What’s hold­ing it all back? Lack of con­fi­dence, fear.

“What would change that? The stock mar­ket ris­ing steadily would bring back con­fi­dence. Which is why I mon­i­tor the stock mar­ket so closely. Yes, it’s quite a game, and it’s the most impor­tant and fas­ci­nat­ing game in the world. No won­der I’m in this busi­ness. I read the mar­kets, and I’m begin­ning to like what I see!

“My guess is that the mar­ket is estab­lish­ing a trade­able bot­tom with a rally that will last into the first quar­ter of next year. What we’re see­ing now might not be the final bot­tom but it will serve until the real one comes along.”

Source: Richard Rus­sell, Dow The­ory Let­ters, Decem­ber 8, 2008.

Richard Rus­sell (Dow The­ory Let­ters): Adding some selected stocks
“Up to now, our favored posi­tion has been cash and gold (prefer­ably phys­i­cal gold). Our new posi­tion is cash, gold and, for the bolder crowd, a few selected stocks (DIA if you’re a fear­less, spec­u­la­tive type).

“Back­ing off: Sub­scribers may think Russell’s lost his mind. He’s turn­ing just a bit bull­ish. The answer is that I’m report­ing exactly what I’m see­ing. And if what I see doesn’t jibe with what I’m read­ing in the news­pa­per and it doesn’t jibe with pre­vail­ing sen­ti­ment, then I think it’s that much more impor­tant. I keep hear­ing the most hor­ren­dous sto­ries about unem­ploy­ment and com­pa­nies in trou­ble, and my thought is always, ‘Has this been dis­counted by one of the worst bear mar­kets since the ’30s?’ Which is why I report every item that I see, every item that might sug­gest that the mar­ket has already dis­counted the bad news. The ques­tion always is ‘cut through the BS, what is the mar­ket saying?’”

Source: Richard Rus­sell, Dow The­ory Let­ters, Decem­ber 11, 2008.

Puru Sax­ena: Sow­ing the seeds
“This nasty bear-market is in its lat­ter stages and I sus­pect that the bulk of the declines are now behind us. Although it is pre­ma­ture to claim that the bear-market def­i­nitely ended on Octo­ber 10, it does look increas­ingly likely that the lows recorded on Novem­ber 21, were in fact a suc­cess­ful ‘test’ of the prior month’s lows.

“His­tory shows that fol­low­ing a major bear-market, it is com­mon for the major indices to retest the lows. In a recent study under­taken to review recov­ery pat­terns, JP Mor­gan exam­ined all the bear-markets going back to 1900 and it came up with a few inter­est­ing obser­va­tions. The study revealed that mar­ket bot­toms were almost always retested and that such ‘tests’ resulted in a new mar­ginal low about 40% of the time.

“The study also found that 75% of the retest­ing events occurred within 44 days of a major bot­tom; so if Octo­ber 10 marked the bot­tom of this bear-market, the retest on Novem­ber 21 was bang on tar­get from a tim­ing perspective.

“At this stage, I am only guess­ing that Octo­ber 10 was the piv­otal turn­around of this bear-market. It may well be that this mar­ket breaks below those lows in the days ahead, how­ever given the favourable tech­ni­cal and sen­ti­ment data, at the very least, there is a strong pos­si­bil­ity that we will get a multi-month rally from these over­sold conditions.

“It is worth not­ing that new bull-markets are always born amidst abject pes­simism; at a time when the major­ity are con­vinced that eco­nomic activ­ity will never pick up again. Fur­ther­more, it is inter­est­ing to note that fright­en­ing eco­nomic news con­tin­ues to sur­face, long after a new bull-market has begun. So, the time to buy is dur­ing such scary times. This was also high­lighted by War­ren Buf­fet who recently wrote — ‘If you wait for robins, spring will be over’.

“Now, I can­not say with any cer­tainty whether we are already in the early stages of the next cycle. How­ever, the recent rout in the mar­kets has set the stage for above-average long-term returns. Under my best case sce­nario, we are in the very early stages of a new multi-year bull-market. And under my worst case sce­nario, we are going to get a very strong rebound (30% move higher in the S&P500) over a short period of time, which will prob­a­bly take the mar­kets back to their 200-day mov­ing averages.”

Source: Puru Sax­ena (via Fuller­money), Decem­ber 10, 2008.

David Fuller (Fuller­money): S&P 500 at extreme diver­gence from its 200-day mov­ing aver­age
“We first posted this indi­ca­tor on Octo­ber 10 when the rel­e­vant spread­sheet was cre­ated for us by a sub­scriber. The indi­ca­tor remains at a his­tor­i­cally low level but has risen con­sid­er­ably from its early Octo­ber nadir. This has been achieved by the rel­e­vant indices hav­ing gone mostly side­ways for the last two months. The mov­ing aver­age is now start­ing to come down towards the price and while it still has a long way to go, mean rever­sion is tak­ing place.

“This is not a guar­an­tee that the mar­ket will not go lower later but, his­tor­i­cally, when the mar­ket has diverged from its mean by such a mar­gin, impor­tant stock mar­ket lows have occurred rel­a­tively soon afterwards.”

Source: David Fuller, Fuller­money, Decem­ber 8, 2008.

Bespoke: Per­cent­age of stocks above 50-day mov­ing aver­ages
“Even though the S&P 500 is in a new bull mar­ket, the per­cent­age of stocks in the index trad­ing above their 50-day mov­ing aver­ages is still at over­sold lev­els. As shown in the chart below, at 26%, this indi­ca­tor has a long way to go before becom­ing overbought.

“On a sec­tor basis, Tele­com, Util­i­ties, and Con­sumer Dis­cre­tionary have the high­est per­cent­age of stocks above their 50-days, while Energy and Finan­cials have the lowest.”

Source: Bespoke, Decem­ber 10, 2008.

Bespoke: Third worst bear mar­ket on record
“The S&P 500 finally had its first 20%+ rally in 408 days yes­ter­day [Mon­day], which means we’re cur­rently in a bull mar­ket by the stan­dard def­i­n­i­tion (20% rally pre­ceded by a 20% decline).

“… below we high­light his­tor­i­cal bear mar­kets for the S&P 500 since 1927. As shown, the bear mar­ket that ran from 10/9/07 to 11/20/08 is the third worst ever with a decline of 51.93%. The bears that ended in June of 1932 (-61.81%) and March of 1938 (-54.47%) are the only two that had big­ger declines with­out a rally of 20%.”

Source: Bespoke, Decem­ber 9, 2008.

Bespoke: US sec­tor and stock buy rat­ings
“Below we high­light the aver­age per­cent­age of buy rat­ings for stocks in each of the ten S&P 500 sec­tors. As shown, Finan­cial stocks have the low­est per­cent­age of buy rat­ings of any sec­tor at 35%, while Energy has the high­est at 63%. Con­sumer Dis­cre­tionary, Mate­ri­als, and Con­sumer Sta­ples are the three other sec­tors (along with Finan­cials) that have below aver­age buy rat­ings com­pared to all stocks in the S&P 500.

Source: Bespoke, Decem­ber 8, 2008.

David Fuller (Fuller­money): Com­modi­ties — are they the most promis­ing asset class today?
“I do think com­modi­ties have sig­nif­i­cant recov­ery poten­tial, despite the global eco­nomic slump, defla­tion threat and depres­sion fears. More­over, I believe that the fun­da­men­tals for com­modi­ties have now improved more than for all other asset classes.

“Con­sider the fol­low­ing bull points:

1. Inter­est rates have fallen, which is cur­rently bet­ter for com­mod­ity spec­u­la­tors than com­mod­ity pro­duc­ers, because con­tan­gos have shrunk con­sid­er­ably, low­er­ing rollover costs.

2. How­ever, the credit crunch means that it is now more dif­fi­cult for com­mod­ity pro­duc­ers to obtain nec­es­sary financ­ing. Con­se­quently, min­ers and oil pro­duc­ers are defer­ring devel­op­ment projects and lay­ing off work­ers, while farm­ers find it more dif­fi­cult to finance the pur­chase of fer­til­iz­ers and equip­ment. These prob­lems are not fully off­set by the lower cost of energy.

3. Prices for all com­modi­ties are much lower today than dur­ing the first half of 2008, not least because spec­u­la­tors have been shaken out and traders are actu­ally short. This is good news for those who wish to buy over­sold com­modi­ties. How­ever it is a big dis­in­cen­tive for com­mod­ity pro­duc­ers, many of whom are now reduc­ing production.

4. While the global eco­nomic slump has reduced demand for com­modi­ties some­what, these are essen­tial resources which the world can­not do with­out, unlike lux­ury goods, the lat­est fash­ions, lav­ish hol­i­days or expen­sive restaurants.

5. The US dol­lar has peaked and com­menced what is likely to be a sig­nif­i­cant retrace­ment of gains seen since July. This is bull­ish for com­modi­ties because most are priced in US dollars.

“What could sig­nif­i­cantly delay or even pre­vent a big rally for com­modi­ties? The refla­tion­ary efforts could fail, or more likely take many more months before they turn a global econ­omy that is still con­tract­ing. If so, there could be some addi­tional down­side risk and base for­ma­tion devel­op­ment would most likely be lengthy. The US Dol­lar Index could fail to main­tain its down­ward break. Improved weather pat­terns could lead to increased sup­plies of agri­cul­tural commodities.

“For these rea­sons, Fuller­money main­tains that com­modi­ties are best pur­chased fol­low­ing set­backs. Posi­tions are most safely built incrementally.”

Source: David Fuller, Fuller­money, Decem­ber 11, 2008.

Finan­cial Times: So long, super-cycle
“The sever­ity of the cri­sis has sur­prised nat­ural resources com­pa­nies’ exec­u­tives, com­mod­ity traders and Wall Street bankers alike. After all, the com­modi­ties boom of 2003-08 has been the most notable for a cen­tury in its mag­ni­tude, dura­tion and the num­ber of com­modi­ties whose prices it has lifted. The sud­den plunge poses a fun­da­men­tal ques­tion: is this just a tem­po­rary blip within an upward trend, with prices likely to rebound in the medium term, or is it the con­clu­sion of another com­modi­ties cycle of boom and bust, with a period of rel­a­tively sta­ble prices com­ing ahead?

“The com­mon belief in the indus­try itself, and among most Wall Street ana­lysts, is that the mar­ket is under­go­ing a cor­rec­tion but that the boom years have not ended. As many point out, the main dri­vers of what many have come to see as a com­modi­ties super-cycle — such as strong pent-up demand in emerg­ing coun­tries and sup­ply con­straints caused by a lack of invest­ment over the past 20 years, along with the rise in resource nation­al­ism — are intact. The cur­rent drop is, in the words of one senior min­ing exec­u­tive, a ‘reset’ of the boom, not the end of it. Prices will rebound, in this view, and con­tinue rising.”

Click here for the full article.

Source: Javier Blas and Krishna Guha, Finan­cial Times, Decem­ber 9, 2008.

Bespoke: Con­sen­sus gold esti­mates
“Below we pro­vide the con­sen­sus price tar­get for gold through 2012. These tar­get prices are based on the median of 21 gold ana­lysts sur­veyed by Bloomberg. As shown, ana­lysts cur­rently aren’t expect­ing a big rally or a big decline in gold over the next few years. By mid-year 2009, ana­lysts are expect­ing gold to be at $825/ounce, which is less than $10 from its cur­rent price of $816. At the end of 2011, ana­lysts expect gold to be down to $790, and then down to $762 by the end of 2012.”

Source: Bespoke, Decem­ber 12, 2008.

Casey’s Charts: Gold stocks — time to bot­tom feed
“The pre­vi­ous low point for the ratio of the XAU gold stock index to the price of gold was 0.16, when gold was trad­ing around $270 an ounce in Octo­ber of 2000. Today, the XAU is trad­ing a mere 57% higher than it was in Octo­ber of 2000, com­pared to a gold price that has increased by 184%. As a gen­eral rule of thumb, any­time the ratio is above the 25-year aver­age is the time to sell, and below its aver­age says gold stocks are cheap. With the ratio bounc­ing off the low­est level since the incep­tion of the XAU index, it sig­nals a SCREAMING buy for gold stocks!

“Pick­ing the bot­tom of any mar­ket is near impos­si­ble, but know­ing when some­thing is grossly under­val­ued can be easy. Gold has long been con­sid­ered a hedge against infla­tion, and with tril­lions of new gov­ern­ment bailout dol­lars ready to cir­cu­late into the sys­tem, buy­ing pre­cious metal stocks at these dis­tressed prices is the chance of a lifetime.”

Source: Casey’s Charts, Decem­ber 5, 2008.

Profit NDTV: Asia beats US in gold futures trad­ing
“Asia, which accounts for 60% of the world gold imports, has over­taken the US in gold futures trad­ing, with Mum­bai and Shang­hai exchanges grow­ing rapidly, lead­ing trade mag­a­zine Futures Indus­try has reported.

“Accord­ing to the lat­est edi­tion of the US-based mag­a­zine, data from the first eight months of this year show that the com­bined vol­umes in gold futures trad­ing at exchanges in Shang­hai, Tokyo, Tai­wan and Mum­bai reached 49.8 mil­lion con­tracts, far ahead of the 34.3 mil­lion con­tracts traded in the US.

“‘From Jan­u­ary through August this year, seven of the top 10 gold con­tracts in the world were Asian,’ it said, adding that much of that growth was in Mum­bai and Shanghai.

“‘Some of the boom is undoubt­edly dri­ven by the search for a safe haven as the value of stock invest­ments con­tin­ues to evap­o­rate,’ the mag­a­zine said not­ing that Asian investors may also have a greater cul­tural pre­dis­po­si­tion toward gold than Westerners.

“Asia imports 60% of the world’s gold and its exports 40%. India is the largest con­sumer of phys­i­cal gold in the world, fol­lowed by the US, and then China. And this year, China became the world’s largest gold pro­ducer — a title south Africa had held for more than 100 years.”

Source: Profit NDTV, Decem­ber 9, 2008.

BBC News: UK eco­nomic slow­down “wors­en­ing”
“The UK econ­omy con­tracted 1% between Sep­tem­ber and Novem­ber, the National Insti­tute of Eco­nomic and Social Research (NIESR) has estimated.

“This fall fol­lowed after a 0.8% drop in the three months to the end of Octo­ber, said the think tank. Indi­cat­ing that the rate of out­put decline is ‘accel­er­at­ing’, the NIESR now expects a fall of more than 1% in the last three months of the year.

“Offi­cial data showed that the econ­omy shrank 0.5% from July to Sep­tem­ber. But it will not be until Jan­u­ary that the Office for National Sta­tis­tics reports on the final quarter’s GDP.

“If it reports a decline for the three months to Decem­ber, then the UK will be in offi­cially in reces­sion under the gen­er­ally accepted def­i­n­i­tion of two con­sec­u­tive quar­ters of decline.

“The NIESR says it has a good track record in fore­cast­ing GDP growth in advance of the offi­cial fig­ures. The lat­est data from NIESR is just the lat­est indi­ca­tion that the UK econ­omy is most prob­a­bly falling into a recession.”

Source: BBC News, Decem­ber 10, 2008.

Vic­to­ria Marklew (North­ern Trust): Swiss rates head toward zero
“The Swiss National Bank (SNB) effec­tively lopped another 50bps off its main pol­icy rate today, low­er­ing its tar­get band for three-month Swiss franc LIBOR to 0.0–1.0% (down from 0.5–1.5%) and aim­ing for the mid-point of 0.5%. This brings the eas­ing total to 225bps since Octo­ber 8.

“The SNB warned that the sharply wors­en­ing global cli­mate will push Switzer­land into reces­sion next year. Chair­man Roth stated that growth is likely to be neg­a­tive, not just in the first two quar­ters of 2009 but for the year as a whole. The bank is now fore­cast­ing a con­trac­tion in real GDP of between 0.5% and 1.0% next year. The infla­tion fore­cast was also revised down, with the bank now see­ing the annual rate aver­ag­ing 0.9% next year and 0.5% in 2010.”

Source: Vic­to­ria Marklew, North­ern Trust — Daily Global Com­men­tary, Decem­ber 11, 2008.

Finan­cial Times: Japan con­tracts faster than expected
“Japan’s gross domes­tic prod­uct con­tracted much more rapidly in the third quar­ter than pre­vi­ously thought, offi­cial data showed on Tues­day, amid new indi­ca­tions of dis­tress in the world’s second-biggest economy.

“The revised GDP data showed a quarter-on-quarter fall of 0.5% for the three months to Sep­tem­ber, com­pared with last month’s pre­lim­i­nary esti­mate of a 0.1% decline.

“The econ­omy con­tracted at an annu­alised rate of 1.8% between July and Sep­tem­ber — a much more pre­cip­i­tous pace than the annu­alised 0.5% decline suf­fered in the same quar­ter by the US, cen­tre of the global finan­cial crisis.

“Ana­lysts said the revi­sion, though big­ger than expected, reflected rel­a­tively tech­ni­cal fac­tors involv­ing inven­to­ries and gov­ern­ment spend­ing rather than wor­ry­ing new infor­ma­tion and so would not dra­mat­i­cally change assess­ments of the economy’s prospects.

“‘The down­grade in head­line growth does not look as bad as the head­line sug­gests,’ UBS said in a research note.

“How­ever, the news the reces­sion was deeper than thought came as the Cab­i­net Office said its lat­est com­pos­ite index of busi­ness con­di­tions showed the econ­omy ‘worsening’.”

Source: Mure Dickie, Finan­cial Times, Decem­ber 9, 2008.

Finan­cial Times: China’s export fall worse than pre­dicted
“The impact of the global finan­cial cri­sis on China became clear on Wednes­day when the gov­ern­ment revealed that exports fell in Novem­ber for the first time in almost seven years.

“With demand in many of its main mar­kets slow­ing sharply, Chi­nese exports declined 2.2% from a year ear­lier. Imports also fell 17.9% from a year ear­lier, accord­ing to Chi­nese cus­toms fig­ures, prompt­ing the gov­ern­ment to announce plans to fur­ther boost the economy.

“The Chi­nese data shocked econ­o­mists. The fig­ures were far below fore­casts, even in the light of sharp slumps in exports in Novem­ber from both Tai­wan and South Korea.

“‘This is the worst col­lapse in Chi­nese exports since 1999 and is prob­a­bly just the begin­ning of a pro­longed export con­trac­tion,’ said Isaac Meng, econ­o­mist at BNP Paribas.

“The drop in imports, the biggest since the early 1990s, helped push the monthly trade sur­plus to a record $40 bil­lion, the fourth month in a row that the sur­plus has bro­ken records.

“The gov­ern­ment pledged on Wednes­day to do every­thing it could to main­tain ‘sta­ble, healthy’ growth next year. At the con­clu­sion of the three-day Cen­tral Eco­nomic Work Con­fer­ence, an annual meet­ing of top policy-makers, offi­cials said they would boost pub­lic spend­ing in order to pro­mote domes­tic demand.

“A report on state radio about the meet­ing said the gov­ern­ment had reaf­firmed its pol­icy of keep­ing the exchange rate ‘basi­cally steady’, but would take other mea­sures to deal with falling domes­tic demand.

“Until last month, China’s exports had held up much bet­ter than most observers had expected, increas­ing by 19% in Octo­ber com­pared to the same month last year.”

Source: Geoff Dyer and Jamil Ander­lini, Finan­cial Times, Decem­ber 10, 2008.

Finan­cial Times: China infla­tion falls as growth slows
“China’s con­sumer price infla­tion fell to a 22-month low of 2.4% in Novem­ber, giv­ing the cen­tral bank free rein to cut inter­est rates fur­ther to off­set an abrupt slump in the world’s fourth-largest economy.

“Econ­o­mists had expected infla­tion to mod­er­ate to 3.0% from 4.0
% in the year to Octo­ber. In the event, the read­ing was the low­est since Jan­u­ary 2007.

“Nie Wen, an ana­lyst with Huabao Trust in Shang­hai, said the plunge meant real, inflation-adjusted inter­est rates in China were now back in pos­i­tive ter­ri­tory even though the econ­omy had run into fierce headwinds.

“‘The gov­ern­ment will become more deci­sive in cut­ting rates,’ Nie said.

“Jing Ulrich, head of China equi­ties at J.P. Mor­gan agreed. ‘We believe there is fur­ther scope for the cen­tral bank to ease mon­e­tary pol­icy in an effort to avoid an exces­sive slow­down and stave off defla­tion,’ she said in a note to clients.

“‘Def­i­nitely we are going to move into a defla­tion­ary envi­ron­ment in China, prob­a­bly through the first six months of the year,’ said Glenn Maguire, chief Asia-Pacific econ­o­mist for Soci­ete Gen­erale in Hong Kong.”

Source: Finan­cial Times, Decem­ber 11, 2008.

Bespoke: Defla­tion com­ing in China?
“It wasn’t too long ago that one of the biggest wor­ries fac­ing the global econ­omy was that improved stan­dards of liv­ing in China would lead to higher wages for its work­ers. This, it was feared, would cause the coun­try to begin export­ing infla­tion around the world. As recently as August, PPI data from China showed that infla­tion was run­ning at a rate of 10.1% year over year (y/y). Since then, how­ever, pric­ing power in China has col­lapsed as evi­denced by last night’s [Tues­day] release of the Novem­ber PPI, which showed that prices are now up by just 2.0% y/y. At this rate, it won’t be long before we start see­ing minus signs.”

Source: Bespoke, Decem­ber 10, 2008.

Finan­cial Times: Rou­ble exo­dus hits Russia’s credit rat­ing
“Rus­sia on Mon­day became the first G8 coun­try since the start of the finan­cial cri­sis to have its credit rat­ing down­graded after Stan­dard and Poor’s took fright at the recent exo­dus from the rou­ble and sharp drop in oil prices.

“S&P said it had low­ered Russia’s for­eign cur­rency credit rat­ing by one notch from BBB+ to BBB because of the ‘rapid deple­tion’ of the country’s for­eign exchange reserves and the ‘dif­fi­culty of meet­ing the country’s exter­nal financ­ing needs’. It said the out­look for the rat­ing was negative.

“Russia’s reserves have fallen by $128 bil­lion since August to $455 bil­lion, as the coun­try bat­tles the cap­i­tal flight that began fol­low­ing the war with Geor­gia and esca­lated as the oil price fell and the global cri­sis worsened.

“S&P said Rus­sia could be forced to spend all $200 bil­lion now parked in its two sov­er­eign wealth funds on recap­i­tal­is­ing the bank­ing sys­tem and cov­er­ing fis­cal deficits in 2009 and 2010.

“The agency expects Rus­sia to run a cur­rent account deficit next year of 2.6% of gross domes­tic prod­uct due to the oil price fall, putting fur­ther pres­sure on the bal­ance of payments.

“‘There are a lot of lay­ers of con­cern,’ said Frank Gill, pri­mary credit ana­lyst at Stan­dard and Poor’s. ‘There are macro­eco­nomic and polit­i­cal risks … and Rus­sia has not oper­ated a cur­rent account deficit since 1997 and that was less than 1% of GDP.’

“The thought of deval­u­a­tion raises the spec­tre of the 1998 rou­ble crash that wiped out Rus­sians’ sav­ings, although econ­o­mists say any deval­u­a­tion this time would be far less severe.”

Source: Cather­ine Bel­ton, Finan­cial Times, Decem­ber 8, 2008.

Tags: Agricultural commodities, Agriculture, Aplomb, Asia, asset class, Australia, Automakers, Bail Out, Bailout, Baltic Dry Index, Bank Of Japan, Banking System, Banks, Barack Obama, Barry Ritholtz, Basis Point, Basis Points, Bear Market, Bear Markets, Bear Stearns, Bernanke, Bill Gross, Bill King, Bill Rates, Blog, Bloomberg, Bonds, Bottoms, Bps, Br, Brazil, BRIC, Bric Countries, BRICs, Brokers, Bullion, Canadian Market, CDS, Cement, Central Banks, Chart, China, Cnbc, Cnn, Coal, Collapse, Commodities, Commodity, contango, Corporate Bonds, COT, CPI, Crash, Credit, Credit Cards, Credit Crisis, Credit Default Swap, Credit Market, Credit Markets, Credit Spreads, Currency, Current, David Rosenberg, Deflation, Diffe, dig, Dollar, Dow, Earnings, Eco, Economic Activity, Economic Indicators, Economic Reports, Economic Stimulus Plan, Economics, Economist, Economists, Economy, eev, Eight Times, Emerging Market, Emerging Markets, energy, Equity Research, Euro, Failure, Fannie Mae, Fed, Federal Reserve, fertilizer, financial stocks, Financial Times, Financials, Financiers, Focus, France, Freddie Mac, FT.com, GDP, GDP Growth, Germany, Global Stock, Global Stock Markets, Gold, Gold Bullion, gold stocks, Government Bonds, government spending, Grain, Health, Hell, high yield, Hong Kong, Housing Market, Img, India, inflation, Information, Infrastructure, Infrastructure Investment, interest rates, International, interview, Investment, Investment Outlook, Investors, Iron Ore, Issuance, Italy, Japan, Jim Rogers, Leading Indicator, Lehman Brothers, Leverage, liquidity, Litany, Loc, Loom, Market Cap, Market Declines, Markets, Measures, Meredith Whitney, Merrill Lynch, Metals, Middle Class, Mining, Monetary Policy, Money, Mortgage, Msci Emerging Markets, Msci Emerging Markets Index, Msci World Index, Natural Gas, Negative Territory, Net Assets, Nick Anderson, Nouriel Roubini, Obama, oil, Oil Prices, Outlook, Outperformance, P500, People, Peter Schiff, Php, Physical Assets, physical gold, PIMCO, Platinum, President Elect, Rally, Raw Material, Recession, REW, RGE Monitor, risk, Rose, Roubini, Russia, S&P 500, S&P500, saa, Sentiment, Setback, Shareholders, Signs, Silver, Slowdown, Societe Generale, South Africa, South Korea, spreads, Squeeze, Stimulus Package, Stock Market, Stock Markets, Stock Prices, Stocks, Switzerland, T Bills, Taiwan, Target, Target Rate, Tarp, The Big Picture, Trading, Treasuries, Treasury Bill, Treasury Bills, Treasury Bonds, Treasury Note, Treasury Securities, Trillion, UK, upw, US Banks, US Dollar, Us Government, Us Senate, Us Treasury, Value, Video, Volatility, Wachovia, Wages, Wall Street, Wall Street Journal, Water, Youtube, Ytd
Posted in Bonds, Canadian Market, Commodities, Credit Markets, Economy, Emerging Markets, Energy & Natural Resources, Gold, India, Infrastructure, Markets, Oil and Gas, Outlook, Silver, US Stocks | Comments Off

World Markets Snapshot (12/10/2008)

Saturday, December 13th, 2008

Below is the World Mar­kets Snap­shot pub­lished by The Econ­o­mist, Year-to-Date to Decem­ber 10, 2008. Among the notable double-digit per­form­ers in the one-week col­umn, as mar­kets have recently ral­lied, are Hong Kong (+14.6%), India (+10.4%), Sin­ga­pore (+11.0%), Brazil (+10.5%) and South Korea (+12.0%). Also notable are South Africa (+14.7%) and Israel (+11.2%). Out of all the mar­kets sur­veyed below, Greece and Venezuela were the only losers, and in the credit mar­ket seg­ment, CDS rates rose, though marginally.

Canada's TSX 60 rose 4.1% over the week, the Dow was up 2% and the S&P500 rose 3.3%.

Tags: Br, Brazil, Canadian Market, CDS, Credit, Credit Market, dig, Dow, Eco, Economist, Emerging Markets, Greece, Hong Kong, Img, India, Israel, Losers, Market Segment, Markets, P500, Rose, S&P500, Singapore, Snap, Snapshot, South Africa, South Korea, Tsx, TSX 60, Venezuela, World Markets
Posted in Credit Markets, Emerging Markets, India, Markets | Comments Off

World Markets Bounce Off 52-Week Lows

Thursday, December 11th, 2008

The chart below high­lights the recent per­for­mance bounces off 78 coun­tries 52-week equity mar­ket lows. Its a good glimpse at which mar­kets have recov­ered the most dur­ing the cur­rent relief rally, and those that have not done as well.

Hong Kong is up 46% off of its low just a few weeks ago.  BRIC coun­tries have nice bounces off their bot­toms.  Brazil is up the sec­ond most with a 34% increase, and India and China are both up 25%.  Rus­sia has been the weak­est BRIC coun­try with a gain of 19.5%.  Of the devel­oped coun­tries, Japan's bounce is the most at 24%, then the United States (22%), the UK, and Ger­many (18.9%).  Italy and Canada have had the weak­est gains of 10.6% and 12.1% respec­tively in the G7 group­ing.  Also, not all equity mar­kets have had recov­ery ral­lies in recent weeks.  11 of them are trad­ing less than a per­cent from their 52-week lows.

Chart: Bespoke Invest­ment Group

Tags: 52 Week Lows, Bottoms, Bounces, Br, Brazil, BRIC, Bric Countries, BRICs, Canadian Market, Chart, China, Current, Developed Countries, Eco, Emerging Markets, Equity Market, Germany, Glimpse, Hong Kong, Img, India, Investment, Investment Group, Italy, Japan, Markets, Rallies, Rally, Russia, Trading, UK, United States, World Markets
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Credit Crisis Watch (December 8, 2008)

Monday, December 8th, 2008

In order to gauge the progress being made to unclog credit mar­kets and restore con­fi­dence in the world’s finan­cial sys­tem, I mon­i­tor a range of finan­cial spreads and other mea­sures. By perus­ing these, as sum­marised in this “Credit Cri­sis Watch” review, one can ascer­tain to what extent the var­i­ous cen­tral bank liq­uid­ity facil­i­ties and cap­i­tal injec­tions are hav­ing the desired effect.

First up is the LIBOR rate. This is the inter­est rate that banks charge each other for one-month, three-month, six-month and one-year loans. LIBOR is an acronym for “Lon­don Inter­Bank Offered Rate” and is the rate charged by Lon­don banks, and which is then pub­lished and used as the bench­mark for banks’ rates around the world.

After hav­ing peaked on Octo­ber 10 at 4.82%, the three-month dol­lar LIBOR rate declined sharply to 2.13% on Novem­ber 12, but the heal­ing process has since been mov­ing side­ways with the cur­rent rate at 2.19%. LIBOR is there­fore trad­ing at 119 basis points above the Fed’s tar­get rate of 1.0%, com­pared with 43 basis points at the start of the year.

Source: StockCharts.com

Impor­tantly, the US three-month Trea­sury Bills are trad­ing at a “non-existent” 0.015%, indi­cat­ing that liq­uid­ity is still being hoarded by risk-averse investors.

US three-month Trea­sury Bill yield

Source: The Wall Street Journal

The TED spread (i.e. three-month dol­lar LIBOR less three-month Trea­sury Bills) is a mea­sure of per­ceived credit risk in the econ­omy. This is because T-bills are con­sid­ered risk-free while LIBOR reflects the credit risk of lend­ing to com­mer­cial banks. An increase in the TED spread is a sign that lenders believe the risk of default on inter­bank loans (also known as coun­ter­party risk) is increas­ing. On the other hand, when the risk of bank defaults is con­sid­ered to be decreas­ing, the TED spread narrows.

Since the TED spread’s peak of 4.65% on Octo­ber 10 the mea­sure has eased to 1.75%, but has since widened to 2.18%.

Source: Fuller­money

The dif­fer­ence between the LIBOR rate and the overnight index swap (OIS) rate is another mea­sure of credit mar­ket stress.

When the LIBOR-OIS spread is increas­ing, it indi­cates that banks believe the other banks they are lend­ing to have a higher risk of default­ing on the loans so they are charg­ing a higher inter­est rate to off­set this risk. The oppo­site applies to a nar­row­ing LIBOR-OIS spread.

The move­ment in the LIBOR-OIS spread over the past few weeks is sim­i­lar to the TED spread and shows that credit mar­kets are still not func­tion­ing properly.

Source: Fuller­money

Fed actions to buy up to $500 bil­lion of mort­gage secu­ri­ties backed by Fan­nie Mae, Fred­die Mac and Fed­eral Home Loan Banks and pur­chase up to $100 bil­lion of debt issued by these agen­cies have resulted in a sharp drop in mort­gage rates. The 30-year fixed-rate mort­gage aver­aged 5.53% for the week ended Decem­ber 5, down from 5.97% the pre­vi­ous week fol­low­ing a high of 6.36% for the week ended Octo­ber 31. This is cer­tainly a move in the right direction.

As far as com­mer­cial paper is con­cerned, the A2P2 spread mea­sures the dif­fer­ence between A2/P2 (low qual­ity) and AA (high qual­ity) 30-day non-financial com­mer­cial paper. The spread has kicked up from 4.27% a week ago to its record high of 4.83%, indi­cat­ing a cri­sis environment.

Source: Fed­eral Reserve Release — Com­mer­cial Paper

Sim­i­larly, junk bond yields con­tinue to rise in par­a­bolic fash­ion, scal­ing record highs as shown by the Mer­rill Lynch US High Yield Index. The spread between high-yield debt and com­pa­ra­ble US Trea­suries was 2,074 basis points by the close of busi­ness on Fri­day — an increase of more than 750% since bot­tom­ing in June 2007. With the US 10-year Trea­sury Note yield at 2.71%, high-yield bor­row­ers have to pay 23.45% per year to bor­row money for a ten-year period. At these rates it will be prac­ti­cally impos­si­ble for those com­pa­nies with less-than-perfect credit sta­tus to con­duct busi­ness profitably.

Source: Mer­rill Lynch Global Index System

Another indi­ca­tor worth keep­ing an eye on is the Barron’s Con­fi­dence Index. This Index is cal­cu­lated by divid­ing the aver­age yield on high-grade bonds by the aver­age yield on intermediate-grade bonds. The dis­crep­ancy between the yields is indica­tive of investor con­fi­dence. A declin­ing ratio indi­cates that investors are demand­ing a higher pre­mium in yield for increased risk. A slight improve­ment has taken place over the past week, but hardly of the mag­ni­tude to indi­cate restored con­fi­dence in the economy.

Source: I-Net Bridge

Accord­ing to Markit, the cost of buy­ing credit insur­ance for US, Euro­pean, Japan­ese and other Asian com­pa­nies wors­ened con­sid­er­ably over the past week as shown by the wider spreads (basis points) for the fol­low­ing five-year credit indices (in some instances ris­ing to record levels):

• CDX (North Amer­i­can, investment-grade) Index: down from 233 to 274
• CDX (North Amer­ica, high-yield) Index: down from 1,376 to 1,461

• Markit iTraxx Europe Index: down from 163 to 216
• Markit iTraxx Europe Crossover Index: down from 869 to 1,094

• Markit iTraxx Japan Index: down from 320 to 375
• Markit iTraxx Asia ex Japan IG Index: down from 360 to 435
• Markit iTraxx Asia ex Japan HY Index: down from 1,218 to 1,300

The graphs of the CDX indices are shown below, with the red line indi­cat­ing the spreads eas­ing over the past few days.

CDX (North Amer­i­can, investment-grade) Index

Source: Markit

CDX (North Amer­ica, high-yield) Index

Source: Markit

Quot­ing Moody’s Investors Ser­vices, the Finan­cial Times reported that since the Lehman bank­ruptcy yields on BAA-rated bonds (invest­ment grade) have risen by a third while yields on equiv­a­lent US Trea­sury bonds have dropped by a quar­ter. “That means the extra yield investors need before they will lend to investment-grade com­pa­nies has gone from 2.7 to 5.9 per­cent­age points in three months. This is a cri­sis,” said the article.

Credit mar­kets are there­fore brac­ing for huge defaults. Accord­ing to Deutsche Bank, “cur­rent spreads imply a 50% default rate for high-yield cred­its and an ‘incon­ceiv­able’ default rate for investment-grade com­pa­nies.” They believe gov­ern­ment inter­ven­tion to pre­vent defaults on such a scale would be inevitable.

Next, some credit default swap (CDS) sta­tis­tics, cour­tesy of Bespoke. Since a month ago the cost of insur­ing against gov­ern­ment bank­ruptcy through CDSs has risen for all but two coun­tries (Lebanon and Argentina) in Bespoke’s list of 38 coun­tries. The table below shows the cur­rent (Decem­ber 4) CDS prices, together with month-ago and start-of-year prices. Argentina, Venezuela, and Ice­land have the high­est default risk.

Inter­est­ingly, Ger­many, Japan, and France all have lower default risk than the US at the moment. It now costs $60 per year to insure $10,000 against US default for the next five years. “While this may not seem high, it was at $8 ear­lier in the year, and $36 one month ago,” said Bespoke.

As shown in the table below, Ire­land, Aus­tria, Greece, and the UK have seen default risk rise the most over the last month. Notably, the US has risen by 68%.

Still on the issue of CDSs, Bespoke points out that even as equity mar­kets and the finan­cial group have begun to show some signs of sta­bil­ity, default risk remains ele­vated. This is seen from the graph of their Bank and Bro­ker CDS Index that mea­sures default risk for 13 global finan­cial firms. “While default risk is not nearly as high as it was prior to the ini­tial TARP plan, its inabil­ity to ease is still cause for con­cern,” said Bespoke.

In sum­mary, the CDX and iTraxx credit indices, US Trea­sury Bills and high-yield spreads are still at dis­tressed lev­els. Some improve­ment has been seen as a result of cen­tral banks’ actions, notably the tight­en­ing of the TED and LIBOR-OIS spreads, and the decline in mort­gage rates.

As long as dis­trust in the bank­ing sec­tor remains high and banks do not lend to each other, the credit sit­u­a­tion will remain tight. Credit spreads need to nar­row fur­ther to indi­cate that liq­uid­ity is start­ing to move freely again. Only then will con­fi­dence in the finan­cial sys­tem start improv­ing and the thaw­ing of credit mar­kets get under way.

Author: Prieur du Plessis, Plexus Asset Man­age­ment, Invest­ment Postcards

Tags: Acronym, Asia, Bank Liquidity, Banks, Basis Point, Basis Points, Bond Yields, Bonds, Borrow Money, Br, Capital Injections, CDS, Central Banks, Chart, Commercial Banks, Credit, Credit Crisis, Credit Default Swap, Credit Market, Credit Markets, Credit Risk, Credit Situation, Credit Spreads, Current, Current Rate, Desired Effect, Diffe, Dollar, Dow, Eco, Economy, Equity Market, Euro, Fannie Mae, Fed, Federal Home Loan, Federal Home Loan Banks, Federal Reserve, Financial Spreads, Financial Times, France, Freddie Mac, FT.com, Germany, Greece, Healing Process, high yield, Home Loan Banks, Img, Information, Investment, Investment Postcards, Investors, Japan, Libor Rate, liquidity, London Banks, London Interbank Offered Rate, Markets, Measures, Merrill Lynch, Money, Mortgage, Overnight Index Swap, Plexus Asset Management, Prieur, risk, Signs, spreads, T Bills, Target, Target Rate, Tarp, Trading, Treasuries, Treasury Bill, Treasury Bills, Treasury Bonds, Treasury Note, UK, Us Treasury, Venezuela, Wall Street, Wall Street Journal
Posted in Bonds, Credit Markets, Economy, Markets | Comments Off

Video-Rama: Market Maelstrom

Sunday, December 7th, 2008

Another week and another batch of fas­ci­nat­ing video clips about bailouts, eco­nomic woes and other crisis-related mat­ters. As to be expected, the good-news videos are in rather short sup­ply. A num­ber of the more inter­est­ing clips that have attracted my atten­tion are shared below.

Some of my favourites included in this com­pi­la­tion are: “Peter Schiff uses analo­gies to describe cri­sis” (first one up) and “Dr Doom [Marc Faber] — Buffett’s approach to invest­ing is dead” (fur­ther down). If you want to view only two of these clips, make sure to see these two.

Please post any inter­est­ing video links that you would like to share in the com­ments section.

YouTube: Peter Schiff uses analo­gies to describe cri­sis
“Ron Paul eco­nomic advi­sor Peter Schiff uses analo­gies to describe our cur­rent eco­nomic cri­sis. Top­ics include debt-financed con­sump­tion, busi­ness cycles, the Fed­eral Reserve, the cronies in Wash­ing­ton, and the mod­ern Amer­i­can ser­vice economy.”

Source: YouTube, Novem­ber 30, 2008.

CNBC: Pimco’s El-Erian on the mar­kets and pol­icy
“An expert out­look on the mar­kets and global pol­icy, with Mohamed El-Erian, Pimco co-CEO & co-CIO.

Source: CNBC, Decem­ber 1, 2008.

Cal­cu­lated Risk: Shiller — cri­sis may run for “years and years”

Click on the image below for part 1 of the interview.

Click the links for the other parts of the inter­view: Part 2 and Part 3

Source: Cal­cu­lated Risk (via YouTube), Novem­ber 28, 2008.

CNBC: Mered­ith Whit­ney on the credit cri­sis and finan­cials
“Mered­ith Whit­ney, exec­u­tive direc­tor of equity research at Oppen­heimer, dis­cusses the credit cri­sis and her out­look on the finan­cial sector.”

Source: CNBC, Decem­ber 1, 2008.

Fox Busi­ness: Green­berg on bailouts
“For­mer AIG Chair­man Hank Green­berg dis­cusses the gov­ern­ment bailouts.”

Source: Fox Busi­ness, Decem­ber 3, 2008.

Finan­cial Times: Big Three plead for bail-out
“The US auto indus­try is bleed­ing cash as the Big Three chiefs plead for a $34 bil­lion bail-out.”

Source: Spencer Jakab, Finan­cial Times, Decem­ber 4, 2008.

The Big Money: Chat­ting with Paul Krug­man
“This may be the win­ter of Paul Krugman’s con­tent. Pres­i­dent Bush, whose eco­nomic poli­cies Krug­man has derided from the begin­ning, is leav­ing office. Krug­man has been awarded the Nobel Prize in Eco­nom­ics. And Nor­ton has just pub­lished The Return of Depres­sion Eco­nom­ics and the Cri­sis of 2008, a sub­stan­tial revi­sion of the book he orig­i­nally pub­lished in 1999. Lis­ten to an exclu­sive inter­view with Krug­man by Newsweek senior edi­tor and Mon­ey­box colum­nist Daniel Gross.”

Source: Daniel Gross, The Big Money, Decem­ber 1, 2008.

Bloomberg: Wachovia’s Vit­ner sees “wide­spread weak­ness” in man­u­fac­tur­ing
“Mark Vit­ner, a senior econ­o­mist at Wachovia Corp, talks with Bloomberg about today’s reports on US man­u­fac­tur­ing and con­struc­tion spending.

“The Insti­tute for Sup­ply Management’s Novem­ber fac­tory index dropped to 36.2, the low­est level since 1982. The Com­merce Depart­ment said con­struc­tion spend­ing fell 1.2% in Octo­ber. Vit­ner also dis­cusses the out­look for US unem­ploy­ment and Fed­eral Reserve mon­e­tary policy.”

Source: Bloomberg, Decem­ber 1, 2008.

CBS News: US fore­clo­sure hits unex­pected
“A new wave of home­own­ers who pay their mort­gages on time are now fac­ing fore­clo­sure after los­ing their jobs in the slump­ing economy.”

Source: CBS News, Novem­ber 29, 2008.

YouTube: Refi­nance Index soars 203%
“Home­builder stocks rose on surge in mort­gage appli­ca­tions; Fed actions pushed 30-year fixed mort­gages to 3-year low.”

Source: YouTube, Decem­ber 4, 2008.

John Authers (Finan­cial Times): Investment-grade cri­sis
“The credit cri­sis is widely held to have begun in July last year. But for investment-grade non-financial com­pa­nies, the true “cri­sis” did not start until three months ago.”

Click here for the article.

Source: John Authers, Finan­cial Times, Decem­ber 4, 2008.

CNBC: Dr Doom — Buffett’s approach to invest­ing is dead
“War­ren Buffet’s invest­ment strat­egy of buy­ing stocks to hold for a num­ber of years is no longer viable due to the extreme lev­els of volatil­ity, Marc Faber, edi­tor & pub­lisher of The Gloom, Boom & Doom Report, told CNBC.

“‘The War­ren Buf­fett approach is dead and it’s been dead for ten years and it’s going to be dead for another ten years,’ Faber said Monday.

‘We’ve moved into an envi­ron­ment of very high volatil­ity where you will have up and down moves of like 20% all the time and that is a traders’ mar­ket,’ Faber said.

“Faber expects the S&P 500 index to rebound a fur­ther 10% to 1,000, but warns that any gains could be reversed just as quickly.

“‘We can have huge rebounds and then huge down­turns again and I think the best for the aver­age investor is to play it in rel­a­tively small amounts and not gear up and take big risks,’ he said.”

Source: CNBC, Decem­ber 1, 2008.

CNBC: PIMCO’s Gross on the stock mar­ket
“Why stocks pur­chased at the right price may be good for the long run with co-CIO and founder of PIMCO William Gross.”

Click here for the article.

Source: CNBC, Decem­ber 3, 2008.

Fox Busi­ness: IEA on falling oil prices
“Inter­na­tional Energy Agency exec­u­tive direc­tor Nobuo Tanaka explains the con­di­tions behind falling oil prices.”

Source: Fox Busi­ness, Decem­ber 3, 2008.

Fox Busi­ness: Reac­tion to OPEC’s deci­sion
“Andy Lipow, Pres­i­dent of Lipow Oil Asso­ciates dis­cusses the impact of OPEC’s meet­ing this week­end on the price of oil.”

Source: Fox Busi­ness, Decem­ber 1, 2008.

Finan­cial Times: Back to aus­ter­ity Britain
“The Bank of Eng­land on Thurs­day cut its key inter­est rate by a full per­cent­age point to 2%, the low­est level for more that three decades. Chris Giles, eco­nom­ics edi­tor, tells Richard Edgar that the Bank acted because the fis­cal mea­sures in the pre-budget report were not enough on their own and there is likely to be more rate cuts to follow.”

Source: Finan­cial Times, Decem­ber 4, 2008.

John Authers (Finan­cial Times): Fear of Chi­nese slow­down
“The Chi­nese econ­omy is far from decou­pled from Europe and the US.”

Click here for article.

Source: John Authers, Finan­cial Times, Decem­ber 2, 2008.

Tags: Analogies, Bailout, Bill Gross, Blog, Bloomberg, Br, Business Cycles, Cnbc, Consumption, Credit, Credit Crisis, Current, Desc, Doom Marc Faber, Dow, Dr Doom, Eco, Economic Advisor, Economic Woes, Economics, Economist, Economy, El-Erian, energy, Equity Research, Euro, Faber, Fed, Federal Reserve, Financial Sector, Financial Times, Financials, FT.com, Global Policy, Hank Greenberg, Img, International, interview, Investment, Investment Strategy, John Authers, Loom, Marc Faber, Markets, Measures, Meredith Whitney, Mohamed El Erian, Monetary Policy, Money, Mortgage, Nobel Prize In Economics, oil, Oil Prices, Oppenheimer, Outlook, Paul Krugman, Peter Schiff, PIMCO, President Bush, Rama Market, risk, Ron Paul, Rose, S&P 500, Service Economy, Slowdown, Stock Market, Stocks, Video, Video Links, Volatility, Wachovia, Warren Buffett, Youtube
Posted in Credit Markets, Economy, Energy & Natural Resources, Markets, Oil and Gas, Outlook | Comments Off

James Grant: Return-Free Risk

Sunday, December 7th, 2008

James Grant, founder and edi­tor of Grant’s Inter­est Rate Observer, and an edi­tor of the newly pub­lished sixth edi­tion of "Secu­rity Analy­sis,” by Ben­jamin Gra­ham and David L. Dodd, has pub­lished a col­umn at FT.com and been the sub­ject of a 24-minute Bloomberg audio inter­view (below) about the new nature of the mar­ket and gov­ern­ment securities.

Click Play for James Grant's Decem­ber 5, 2008 Bloomberg Audio Inter­view Here

Grant very suc­cinctly rede­fines the bond mar­ket as pro­vid­ing Return-Free Risk, rather than the old standby, Risk-Free Return. Here are a few excerpts:

The truth is that no invest­ment asset is inher­ently safe. Risk or safety is an attribute of price. At the right price, a lowly con­vert­ible bond is a safer propo­si­tion than an exalted Trea­sury. Watch­ing the gov­ern­ment secu­ri­ties mar­ket zoom, many mis­take price action for price.

Yes, Trea­suries might con­ceiv­ably redeem the hopes of their besot­ted admir­ers. Maybe a defla­tion­ary chasm is about to swal­low us all. Never before has the US been so lever­aged. And-just possibly-never before were lend­ing stan­dards so reck­less as the ones that brought joy to so many aston­ished mort­gage appli­cants in 2005 and 2006.

In their mag­num opus Secu­rity Analy­sis Ben­jamin Gra­ham and David L. Dodd advise that "bonds should be bought on their abil­ity to with­stand depres­sion". They wrote that in 1934. So far is that rule from being hon­oured by today's financiers that not a few bonds-and box­cars full of mort­gages — could hardly with­stand pros­per­ity. Two urgent ques­tions present them­selves. One: does some­thing far worse than reces­sion loom? Two: does that cer­tain some­thing def­i­nitely spell much lower inter­est rates?

On non-Treasury and cor­po­rate bonds:

The non-Treasury depart­ments of the credit mar­kets have crashed. No sur­prise then that prices and val­ues are deranged. Mar­ket mak­ers have closed up shop for the year, while hedge funds cower in fear of redemp­tions. You’d sup­pose that pro­fes­sional investors – doughty seek­ers of value – would be comb­ing through the debris for bar­gains. Alas, no. Most seem con­tent to lend money to Henry Paul­son (sub­se­quently to Tim­o­thy Gei­th­ner) at 2 per cent or 3 per cent.

In cor­po­rate debt and mort­gages, anom­alies and non sequiturs abound. They are espe­cially preva­lent in con­vert­ible bonds. More so than even the aver­age stressed-out fund man­ager, con­vert­ible arbi­trageurs have been through the mill. It was they—and almost they alone—who owned con­vert­ibles. Now many of these folk must sell them.

Few buy­ers are pre­sent­ing them­selves, how­ever, though extra­or­di­nary bar­gains keep pop­ping up.

"Risk‐free return" is the stan­dard tag attached to the government's solemn oblig­a­tions. An investor I know, repulsed by pre­vail­ing gov­ern­ment yields, has a time­lier descrip­tion — "return‐free risk".

Read the com­plete arti­cle here.

Tags: Admirers, Attribute, Audio Interview, Benjamin Graham, Bloomberg, Bond Market, Bonds, Boxcars, Br, Chasm, Convertible Bond, Corporate Bonds, Crash, Credit, Credit Market, Credit Markets, Deflation, Desc, Dodd, Eco, Economics, Economy, Excerpt, Excerpts, Financiers, Free Risk, FT.com, government securities, Government Securities Market, Hedge Fund, Hedge Funds, Henry Paulson, Img, Interest Rate Observer, interest rates, interview, Investment, Investment Asset, Investors, James Grant, Jim Grant, Leverage, Loc, Loom, Magnum Opus, Markets, Money, Mortgage, Mortgage Applicants, Paulson, Professional Investors, Prosperity, Recession, Redemptions, risk, Security Analysis, Timothy Geithner, Treasuries, Treasury Bonds, Treasury Departments, Urgent Questions, Value
Posted in Bonds, Credit Markets, Economy, Markets | Comments Off

Baltic Dry Index: A Valuable Leading Indicator?

Friday, December 5th, 2008

The Baltic Dry Index is a very impor­tant indi­ca­tor of the health of trade glob­ally, as it mea­sures ship­ping activ­ity in dry cargo.

Take a look at the chart below: Accord­ing to the BDI, one of the purest eco­nomic indi­ca­tors, the activ­ity of ship­ping dry bulk cargo, mainly con­sist­ing of com­modi­ties such as coal, steel, iron ore, and cement, has almost com­pletely ground to a halt, as indi­cated by the crash in the index's value.

The BDI offers a real time glimpse at global raw mate­r­ial and infra­struc­ture demand. Unlike stock and com­modi­ties mar­kets, the Baltic Dry Index is totally devoid of spec­u­la­tive play­ers. The trad­ing is lim­ited only to the mem­ber com­pa­nies, and the only rel­e­vant par­ties secur­ing con­tracts are those who have actual cargo to move and those who have the ships to move it. ^[1]

Another inter­est­ing fea­ture of the BDI, is its high cor­re­la­tion to equity mar­kets. Take a look at BDI vs. S&P500 and FXI (China 25 Index iShare), Crude Oil and Copper:

Baltic Dry Index vs. S&P 500

Baltic Dry Index vs. FXI (FTSE Xin­hua 25 Index iShare)

Baltic Dry Index vs. Crude Oil

Baltic Dry Index vs. Copper

We'll keep an eye on credit mar­kets, and the Baltic Dry Index as indi­ca­tors of the vital­ity (or lack thereof) of the econ­omy and mar­kets and keep you posted.

As goes the BDI (a lead­ing indi­ca­tor), so goes the econ­omy, and per­haps equity mar­kets (and com­modi­ties, we might add).

At the time of the pub­lish­ing of this arti­cle, the BDI stands at 663 pts.

Tags: Array, Baltic Dry Index, Bdi, Blog, Br, Bulk Cargo, Cargoes, Cement, Chart, China, Coal, Commodities, Commodities Prices, Copper, Correlation, Crash, Credit, Credit Market, Credit Markets, Crude Oil, Debacle, Dow, Dry Cargo, Eco, Economic Indicators, Economy, Equity Market, Failure, FTSE, Ftse Index, Ftse Xinhua, Fxi China, Glimpse, Grains, Health, Img, Infrastructure, Investment, Iron Ore, Ishare, Issuance, Leading Indicator, Lehman Brothers, Loc, Markets, Measures, Member Companies, oil, P500, Php, Precipitate, Raw Material, Relevant Parties, S&P 500, S&P500, Shipping Activity, Time Glimpse, Trading, Value, Vitality
Posted in Commodities, Credit Markets, Economy, Energy & Natural Resources, Infrastructure, Markets, Oil and Gas | Comments Off

Bill Gross, Investment Outlook, December 2008

Wednesday, December 3rd, 2008

In his lat­est Invest­ment Out­look, Bill Gross, head hon­cho at PIMCO, dis­cusses the advent of tran­si­tion­ing from the lev­er­ing world of pre-2008 into the delev­er­ing world we now find our­selves in. He points out that in the "new" world we should no longer apply the mea­sures of the past for con­clud­ing that stocks are cheap, and that it is a trans­gen­er­a­tional idea we need to retool for.

Gross points out the "Q" ratio and Robert Shiller's 10 year aver­age P/E ratio (above) as evi­dence that stocks are arguably cheap, but goes on to dis­credit the reli­a­bil­ity of these indi­ca­tors, saying:

"Pro­fes­sor Shiller may be on to some­thing, although even his 10-year approach may not be enough to adjust for our future econ­omy and its func­tion­ing within the con­text of a delev­er­ing as opposed to a lev­er­ing finan­cial sys­tem. Recent Invest­ment Out­looks and indeed, dis­cus­sions in PIMCO's Invest­ment Com­mit­tee and Sec­u­lar Forums for the past sev­eral years have pointed to the neces­sity to view cur­rent changes as not only non-cyclical, but non-secular. They are, in fact, likely to be trans­gen­er­a­tional. We will not go back to what we have known and got­ten used to. It's like com­par­ing New­ton and Ein­stein: both were right but their rules gov­erned entirely dif­fer­ent domains. We are now mor­ph­ing towards a world where the gov­ern­ment fist is being sub­sti­tuted for the invis­i­ble hand, where reg­u­la­tion trumps Wild West cap­i­tal­ism, and where cor­po­rate prof­its are no longer a func­tion of lever­age, cheap financ­ing and the rather mind­less abil­ity to make a deal with other people's money. Wel­come to a new uni­verse stock mar­ket investors! In this rather "sheep­ish" as opposed to "brave" new world, here are some con­sid­er­a­tions that may affect Q ratios, P/E's, and ulti­mately stock prices for years to come:

1. Cor­po­rate prof­its have been pos­i­tively affected for at least the past sev­eral decades by sev­eral trends that appear to be revers­ing. Lever­age and gear­ing ratios — the abil­ity of com­pa­nies to make money by mak­ing paper — are com­ing down, not going up. In addi­tion, the avail­abil­ity of cheap financ­ing — absent government's check­book — will likely not return. Nar­row yield spreads and low real cor­po­rate inter­est rates are gone. Last, but not least, the his­tor­i­cal declines of cor­po­rate tax rates, shown graph­i­cally in Chart 3, will not likely con­tinue down­ward in a Democratically-dominated Washington.
2. Globalization's salu­tary growth rate of recent years may now be stunted. While pub­lic pro­nounce­ments from almost all major economies affirm the neces­sity for increased trade and pol­icy coör­di­na­tion, and avoid­ing the destruc­tive ten­den­cies of one-off cur­rency deval­u­a­tions as a local rem­edy for global prob­lems, investors should not bank on the free trade men­tal­ity of recent years to sup­port his­toric growth rates. Already we are see­ing sep­a­rate ad hoc pol­icy responses with very lit­tle coöper­a­tion. Not only does the EU's approach dif­fer from that of the U.S., but France is in many ways an odd man out within its own com­mu­nity. Asia is legit­i­mately sus­pi­cious of any U.S. endorsed approach given the fail­ure of America's cap­i­tal­is­tic model.
3. Ani­mal spir­its, and with them the entre­pre­neur­ial dynamism of risk-taking has likely expe­ri­enced a body blow. Not only have dancers on the financed-based dance floor been shown the exit à la Chuck Prince, but those that remain have been pub­licly chas­tened and hand­cuffed. Golden para­chutes, options, exec­u­tive com­pen­sa­tion and bonuses them­selves are now at risk. Care to climb to the throne of this new world? Well, yes, egos will always dom­i­nate, but the rules will be changed and hor­mone lev­els lowered.
4. The benev­o­lent fist of gov­ern­ment is imper­a­tive and inevitable, but it will come at a cost. The cham­pion of free enter­prise, Ronald Rea­gan, knew that growth of the pri­vate sec­tor was in no small way depen­dent on dereg­u­la­tion and the low­er­ing of tax rates. Now that those trends have nec­es­sar­ily come to an end, no ratio­nal investors should expect inno­va­tion and pro­duc­tiv­ity to be unaf­fected. Profit and earn­ings per share growth will suffer.

My trans­gen­er­a­tional stock mar­ket out­look is this: stocks are cheap when val­ued within the con­text of a financed-based econ­omy once dom­i­nated by lever­age, cheap financ­ing, and even lower cor­po­rate tax rates. That world, how­ever, is in our past not our future. More reg­u­la­tion, lower lever­age, higher taxes, and a lack of entre­pre­neur­ial testos­terone are what we must get used to — that and a gov­ern­ment check­book that allows for heal­ing, but crowds the pri­vate sec­tor into an awk­ward and less pro­duc­tive cor­ner."

In a recent arti­cle we noted that the trail­ing P/E ratio of the S&P500 had ticked up in the year-to-date to Novem­ber 10, 2008, while the over­whelm­ing major­ity of global equity mar­kets had expe­ri­enced sub­stan­tial P/E com­pres­sion. This sug­gested that the E (for earn­ings) had declined as much as P (for price)in the S&P500. Is the S&P500 due for P/E compression?

You may read the Bill Gross' Invest­ment Out­look newslet­ter in its entirety here.

Tags: Advent, Asia, Bill Gross, Blog, Br, capitalism, Cement, Chart, Chuck Prince, compression, Corporate Profits, Credit, Currency, Current, Deflation, Diffe, Dow, Earnings, Eco, Economy, Einstein, Equity Market, Failure, Fed, France, Gearing Ratios, globalization, Gold, Gross Head, Gross Investment, Head Honcho, Img, interest rates, Investment, Investment Committee, Investment Outlook, Investors, Invisible Hand, Leverage, Loc, Markets, Measures, Money, New Universe, Outlook, Outlooks, P/E, P500, People, PIMCO, risk, Robert Shiller, S&P500, spreads, Stock Market, Stock Market Investors, Stock Prices, Stocks, Transitioning, Trumps, Universe, Valuations, Value, Valuing Stocks
Posted in Credit Markets, Economy, Gold, Markets, Outlook | 2 Comments »

10-Yr+ US Treasury and Canada Yields Falling

Monday, December 1st, 2008

Dur­ing the Decem­ber 1st liq­ui­da­tion of stocks, the yield on 10-Yr. US trea­sury secu­ri­ties fell to 2.81%, a level not seen since 1954. Inci­den­tally, dur­ing the 1935–1955 period, the yield on these was at lev­els far below cur­rent lev­els, this being the period fol­low­ing the col­lapse of the US finan­cial mar­ket post circa 1929.

With the bond mar­ket ral­ly­ing in the longer dura­tions, its hard to NOT see how this plays right into the hands of the US government's needs for long-term funds to pay for a trillion-dollar war and a trillion-dollar plus bailout, not to men­tion just stay­ing in business.

Bloomberg says: Yields on two-, 10– and 30-year debt dropped to lev­els not seen since the U.S. began reg­u­lar sales of the secu­ri­ties after Fed­eral Reserve Chair­man Ben S. Bernanke said the cen­tral bank may pur­chase Trea­suries and tar­get long-term inter­est rates to com­bat the deep­en­ing recession.

Which once again begs the question:

What incen­tive does the US Gov­ern­ment have for reviv­ing the equity mar­ket, except to lev­els which keep some hope alive? Not much, right now.

With investors being crowded out of equity mar­kets by con­tin­u­ing volatil­ity and losses sur­mount­ing from delever­ag­ing, it should even­tu­ally be a snap for Wash­ing­ton to amor­tize very siz­able short term oblig­a­tions by sell­ing bonds to flee­ing investors. Bernanke is merely point­ing out the obvi­ous in a round­about way.

Debt is the new equity. Why would you bet against the Fed? This is the direc­tion they have been mov­ing us in, deliberately.

Canada Long Bond Yields Falling

By the way, the 30-year Canada rates fell from 3.97% last week, to 3.76% today, in the face of the 9% drop in the TSX. Until 5 months ago, the Cana­dian econ­omy was bol­stered nicely by rich com­modi­ties prices. Now that com­modi­ties prices have fallen sharply and fairly quickly, Cana­dian investors haven't yet adjusted to the real­ity that Canada is in reces­sion too, and given that, it is likely the long-term Canada yields will fall. Our three key indus­tries are now deal­ing with a slump; autos, finan­cials, and commodities.

Which is the likely sce­nario over the next one to two years: Long-term Canada Yields go up, side­ways, or down, given that Canada is enter­ing a full-blown recession?

Bloomberg says: The yield on the two-year bond declined 12 basis points, or 0.12 per­cent­age point, to 1.59 per­cent at 4 p.m. in Toronto, the low­est since Bloomberg records began in 1989. The price of the 2.75 per­cent secu­rity due in Decem­ber 2010 rose 23 cents to C$102.29.

The 10-year note's yield fell 19 basis points to 3.13 per­cent, also the low­est since at least 1989. The price of the 4.25 per­cent secu­rity matur­ing in June 2018 climbed C$1.66 to C$109.18.

“Long-term rates are play­ing catch-up in terms of the decline in yields we have seen in short-term bonds,” said Mark Chan­dler, RBC Domin­ion Secu­ri­ties Inc. "There is lim­ited down­side in short-term yields," he said.

"The rel­a­tively greater drop in yields on long-term bonds com­pared with short-term bonds is a theme that could con­tinue into the first half of 2009," Mr. Chan­dler said. "This is known as a yield curve flat­tener," as the spread between the short-term and long-term rates narrows.

Cur­rently, Canada's yield curve is steep, defined by short term rates near zero per­cent, and 30 year rates, which closed today (12/01) at 3.761%, down 21 bps from last Thurs­day (11/27) morning.

As Hugh Hendry recently put it:

"I with­drew my hard-earned money from a bank this sum­mer. But it may sur­prise you to learn that I bought gov­ern­ment bonds of long dura­tion. Surely I should have bought gold? Except that I believe the way to make money is to seek oppor­tu­ni­ties through paradox.

And therein lies our brinkman­ship: every­one has skipped our story and read the con­clu­sion. They fear finan­cial anar­chy. Gold coins are sold out. Every­one is in. And yet the price of gold has fallen this year. So, for now, I would stick with the bonds. The 18-year British gilt yields 4.8pc but, with the Bank of Eng­land likely to fol­low the Fed and slash rates to 1pc, I believe we could see gilt yields below 3pc.

And I promise you that if bond yields broke 3pc there would be a stam­pede to buy. At this stage gold might trade close to $500, and those who missed its rally from 2002 would have the solace of schaden­freude when in real­ity they should be buy­ing the stuff and sell­ing their bonds. What deli­cious irony: defla­tion­ists and infla­tion­ists could both claim to be right. But how many will have profited?"

Tags: Bailout, Basis Point, Basis Points, Bernanke, Blog, Bloomberg, Bond Market, Bond Yields, Bonds, Bps, Br, Canada Rates, Canadian Economy, Canadian Investors, Canadian Market, Collapse, Commodities, Commodities Prices, Current, Deflation, Dollar, Dollar War, Dow, Eco, Economy, Equity Market, Fed, Federal Reserve, Federal Reserve Chairman, Financials, Gold, Government Bonds, Hugh Hendry, Img, inflation, interest rates, Investors, Key Industries, Liquidation, Loc, Loom, Markets, Money, oil, Rally, Rbc, Recession, REW, Rose, Roundabout Way, Snap, Stocks, Stuff, Target, Term Bond, Term Funds, Term Interest, Term Obligations, Treasuries, Treasury Securities, Trillion, Tsx, Us Government, Us Treasury, Volatility, Yield Curve
Posted in Bonds, Canadian Market, Commodities, Economy, Energy & Natural Resources, Gold, Markets, Oil and Gas | Comments Off

Paul Krugman: Lest We Forget

Monday, December 1st, 2008

Paul Krug­man opines that finan­cial reform and reg­u­la­tion of the shadow bank­ing sys­tem can­not wait:

Paul Robin Krug­man (pro­nounced /ˈkɹuːɡmən/; born Feb­ru­ary 28, 1953) is an Amer­i­can econ­o­mist, colum­nist, author and intellectual.[2] He is a pro­fes­sor of eco­nom­ics and inter­na­tional affairs at Prince­ton Uni­ver­sity, and a colum­nist for The New York Times. In 2008, Krug­man won the Nobel Memo­r­ial Prize in Eco­nomic Sci­ences "for his analy­sis of trade pat­terns and loca­tion of eco­nomic activ­ity". Krug­man is well-known in acad­e­mia for his work in inter­na­tional eco­nom­ics, includ­ing trade the­ory, eco­nomic geog­ra­phy, and inter­na­tional finance.

Lest We For­get, by Paul Krug­man, Com­men­tary, NY Times: A few months ago I found myself at a meet­ing of econ­o­mists and finance offi­cials, dis­cussing — what else? — the cri­sis. There was a lot of soul-searching going on. One senior pol­icy maker asked, “Why didn’t we see this coming?”

There was, of course, only one thing to say...: “What do you mean ‘we,’ white man?”

Seri­ously, though, the offi­cial had a point. Some peo­ple say that the cur­rent cri­sis is unprece­dented, but ... there were plenty of prece­dents... Yet these prece­dents were ignored. And the story of how “we” failed to see this com­ing has a clear pol­icy impli­ca­tion — namely, that finan­cial mar­ket reform ... shouldn’t wait until the cri­sis is resolved. ...

Why did so many observers dis­miss the obvi­ous signs of a hous­ing bub­ble, even though the 1990s dot-com bub­ble was fresh in our memories?

Why did so many peo­ple insist that our finan­cial sys­tem was “resilient,” as Alan Greenspan put it, when in 1998 the col­lapse of a sin­gle hedge fund, Long-Term Cap­i­tal Man­age­ment, tem­porar­ily par­a­lyzed credit mar­kets around the world?

Why did almost every­one believe in the omnipo­tence of the Fed­eral Reserve when its coun­ter­part, the Bank of Japan, spent a decade try­ing and fail­ing to jump-start a stalled economy?

One answer ... is that nobody likes a party pooper. While the hous­ing bub­ble was still inflat­ing, lenders[, invest­ment banks, and money man­agers] were mak­ing lots of money... Who wanted to hear from dis­mal econ­o­mists warn­ing that the whole thing was, in effect, a giant Ponzi scheme?

There’s also another rea­son the eco­nomic pol­icy estab­lish­ment failed to see the cur­rent cri­sis com­ing. ... [T]he cri­sis of 1997–98... showed that the mod­ern finan­cial sys­tem, with its dereg­u­lated mar­kets, highly lever­aged play­ers and global cap­i­tal flows, was becom­ing dan­ger­ously frag­ile. But when the cri­sis abated, the order of the day was tri­umphal­ism, not soul-searching.

Time mag­a­zine famously named Mr. Greenspan, Robert Rubin and Lawrence Sum­mers “The Com­mit­tee to Save the World”... who “pre­vented a global melt­down.” In effect, every­one declared ... vic­tory..., while for­get­ting to ask how we got so close to the brink in the first place.

In fact, both the cri­sis of 1997–98 and the burst­ing of the dot-com bub­ble prob­a­bly had the per­verse effect of mak­ing both investors and pub­lic offi­cials more, not less, com­pla­cent. Because nei­ther cri­sis quite lived up to our worst fears,... investors came to believe that Mr. Greenspan had the mag­i­cal power to solve all prob­lems — and so, one sus­pects, did Mr. Greenspan him­self, who opposed ... pru­den­tial reg­u­la­tion of the finan­cial system.

Now we’re in the midst of another cri­sis, the worst since the 1930s. For the moment, all eyes are on the imme­di­ate response to that cri­sis. ... And because we’re all so wor­ried about the cur­rent cri­sis, it’s hard to focus on the longer-term issues — on rein­ing in our out-of-control finan­cial sys­tem, so as to pre­vent or at least limit the next cri­sis. Yet the expe­ri­ence of the last decade sug­gests that we should be ... reg­u­lat­ing the “shadow bank­ing sys­tem” at the heart of the cur­rent mess, sooner rather than later.

For once the econ­omy is on the road to recov­ery, the wheeler-dealers will be mak­ing easy money again — and will lobby hard against any­one who tries to limit their bot­tom lines. More­over, the suc­cess of recov­ery efforts will come to seem pre­or­dained, even though it wasn’t, and the urgency of action will be lost.

So here’s my plea: even though the incom­ing administration’s agenda is already very full, it should not put off finan­cial reform. The time to start pre­vent­ing the next cri­sis is now.

Go to Source

Tags: Alan Greenspan, American Economist, Array, Bank Of Japan, Banking System, Banks, Br, Collapse, Columnist Author, Credit, Credit Market, Credit Markets, Current, Dow, Eco, Economic Activity, Economic Geography, economic policy, Economic Sciences, Economics, Economist, Economists, Economy, Fed, Federal Reserve, Focus, Global Capital Flows, Hedge Fund, Housing Bubble, Img, International, International Economics, International Finance, Investment, Investment Banks, Investors, Japan, Leverage, Loc, Long Term Capital, Long Term Capital Management, Lots Of Money, Markets, Money, Money Managers, New York Times, Nobel Memorial Prize, Ny Times, Omnipotence, Party Pooper, Paul Krugman, Paul Robin, People, Policy Establishment, Ponzi Scheme, Princeton University, risk, Signs, SMI, Trade Patterns, Trade Theory, White Man
Posted in Credit Markets, Economy, Markets | Comments Off

Words from the (investment) wise for the week that was (November 24 – 30, 2008)

Sunday, November 30th, 2008

We are very pleased to wel­come Dr. Prieur du Plessis as an edi­to­r­ial con­trib­u­tor to GreenLightAdvisor.com. Prieur du Plessis has 25 years'  of global expe­ri­ence in pro­fes­sional invest­ment research and port­fo­lio man­age­ment. More than 1,000 of his arti­cles on investment-related top­ics have been pub­lished in var­i­ous reg­u­lar news­pa­per, jour­nal and Inter­net columns. He has also pub­lished a book, Finan­cial Basics: Invest­ment. He also authors a well read blog Invest­ment Post­cards from Capetown.

Prieur is chief exec­u­tive and prin­ci­pal share­holder of South African-based Plexus Asset Man­age­ment, which he founded in 1995. The group con­ducts invest­ment man­age­ment, invest­ment con­sult­ing, pri­vate equity and real estate activ­i­ties in South Africa and other African countries.

Plexus is the South African part­ner of John Mauldin, author of the Thoughts from the Front­line e-letter, and also has an exclu­sive licens­ing agree­ment with California-based Research Affil­i­ates for man­ag­ing and dis­trib­ut­ing its enhanced Fun­da­men­tal Index method­ol­ogy in the Pan-African area.

The holiday-shortened Thanks­giv­ing week brought investors an addi­tional item to be thank­ful for when stock mar­kets closed higher for five con­sec­u­tive trad­ing days — a rare win­ning streak last accom­plished in July 2007. The S&P 500 Index gained 19.1% since the start of the rally on Novem­ber 21 and 12.0% on the week, reg­is­ter­ing the largest weekly gain since 1974.

Source: Daryl Cagle

Wor­ri­some eco­nomic reports were cast aside by equity bulls, argu­ing that the bad news had already been priced in. How­ever, US Trea­sury Note yields were less san­guine and fell to its low­est level on record, point­ing to defla­tion con­cerns and sug­gest­ing that investors remained skep­ti­cal about the government’s lat­est moves to help revive the ail­ing econ­omy. Impor­tantly, US three-month Trea­sury Bills were trad­ing at a minus­cule 0.03%, indi­cat­ing that liq­uid­ity was still being hoarded.

President-elect Obama stressed the need for quick action to expe­dite an eco­nomic recov­ery and intro­duced his administration’s eco­nomic team, includ­ing for­mer Fed­eral Reserve Chair­man Paul Vol­cker as head of a new White House Eco­nomic Recov­ery Advi­sory Board tasked to revive growth in the US. Involv­ing the 81-year Vol­cker in this way is a smart move by Obama.

A cat­a­lyst for last week’s stock mar­ket recov­ery was the announce­ment on Mon­day of the US government’s res­cue plan for Cit­i­group ©, includ­ing a direct $20 bil­lion invest­ment and $306 bil­lion in asset guarantees.

With credit mar­kets still not thaw­ing after the intro­duc­tion of var­i­ous cen­tral bank liq­uid­ity facil­i­ties and cap­i­tal injec­tions, the Fed on Tues­day unveiled fur­ther steps aimed at low­er­ing bor­row­ing costs for con­sumers and home buy­ers. The Fed will buy $100 bil­lion of debt from Fan­nie Mae (FNM), Fred­die Mac (FRE) and the Fed­eral Home Loan Banks, and also pur­chase up to $500 bil­lion of mort­gage paper backed by the agen­cies. The Fed will fur­ther­more lend $200 mil­lion to hold­ers of key asset-backed secu­ri­ties regard­ing small busi­ness and con­sumer (auto, stu­dent, credit card) loans.

Source: The New York Times, Novem­ber 25, 2008.

Com­ment­ing on the US government’s bailout actions and quot­ing from the Jerusalem Post, Bill King said: “There is one last thing that Hank, Ben and Gei­th­ner can do: ‘The country’s chief rab­bis are call­ing for a mass prayer rally on Thurs­day in the hope that heav­enly inter­ven­tion will stem the global finan­cial crisis.’”

Next, a tag cloud of the text of the dozens of arti­cles I have devoured over the past week. This is a way of visu­al­iz­ing word fre­quen­cies at a glance. The usual sus­pects fea­ture promi­nently, with “gold” attract­ing increas­ing attention.

Has the stock mar­ket reached a sec­u­lar low or is it just bounc­ing off over­sold lev­els? Accord­ing to Fox Busi­ness Net­work, leg­endary investor Jim Rogers said: “We’re ready for a rally. I mean, the mar­ket in Octo­ber and ear­lier this month has had a huge sell­ing cli­max. I cov­ered a lot of my shorts. Who knows if I’m right or not. But I expect the mar­ket to rally for some time. It may rally into next year. But … this is a false rally. It’s not going to be great. It’s not the end of the prob­lems in Amer­ica and it’s not the end of the bear market.”

A pos­i­tive for the bulls is that the period post Thanks­giv­ing through the end of the year has usu­ally been a strong time for stocks. Accord­ing to Jef­frey Hirsch (Stock Trader’s Almanac), “Decem­ber is nor­mally a ban­ner month for stocks, rank­ing sec­ond [on the monthly cal­en­dar] for the Dow and S&P 500 and third for the Nasdaq.”

Should the bull­ish sea­sonal ten­den­cies hold true on this occa­sion, pos­si­ble first tar­gets are the Novem­ber 4 highs of 9,625 for the Dow (cur­rent level 8,829) and 1,006 for the S&P 500 (cur­rent level 896). This will also result in both indices clear­ing their 50-day mov­ing averages.

“There is no doubt that time is needed for volatil­ity to set­tle down before many will have the con­fi­dence to return to invest­ing, but if one looks beyond the end of the year, 2009 will almost cer­tainly be a bet­ter year for investors than 2008,” said David Fuller (Fuller­money) from London.

Although there is not yet con­clu­sive evi­dence that we are leav­ing the corpse of the bear behind (espe­cially with Q4 earn­ings dis­as­ters loom­ing in Jan­u­ary), it would appear that the nascent rally could have more steam left. (Also read my recent posts “Is the tide turn­ing for stocks” and “Does the stock mar­ket rally have legs?“)

I am about to hit the road again — trav­el­ing to New York City — and blog posts will there­fore take a back seat for the next week as I explore the Big Apple and meet with friends, blog read­ers and busi­ness asso­ciates in the cold weather and depressed eco­nomic climate.

Before high­light­ing some thought-provoking news items and quotes from mar­ket com­men­ta­tors, let’s briefly review the finan­cial mar­kets’ move­ments on the basis of eco­nomic sta­tis­tics and a per­for­mance round-up.

Econ­omy “Global busi­ness sen­ti­ment is as dark as it has ever been, although the free fall in con­fi­dence may be over,” said the lat­est Sur­vey of Busi­ness Con­fi­dence of the World con­ducted by Moody’s Economy.com. “Pes­simism is per­va­sive across the entire globe, with the only dis­tinc­tion being that Asian busi­nesses are some­what less ner­vous than else­where. Pric­ing pres­sures are falling rapidly, although they are not yet con­sis­tent with out­right defla­tion.” The global econ­omy is suf­fer­ing a severe reces­sion accord­ing to the results of the busi­ness con­fi­dence survey.

Eco­nomic indi­ca­tors released in the US dur­ing the past week all pointed to a deep­en­ing reces­sion. Accord­ing to Briefing.com, Q3 GDP was revised down to –0.5% from –0.3%, durable orders slumped by 6.2%, exist­ing home sales fell by 3.1%, new home sales dropped by 5.3%, per­sonal spend­ing declined by 1.0%, and weekly ini­tial claims, while improved from the prior week, con­tin­ued to reg­is­ter a read­ing above 500,000.

The Chicago Pur­chas­ing Man­agers Index came in at 33.8, the weak­est num­ber since the seri­ous reces­sion of 1982. “The national num­ber due next Mon­day will be just as ugly, as durable goods were down far more than expected, by a neg­a­tive 6.2%,” added John Mauldin (Thoughts from the Front­line).

Com­ment­ing on the out­look for inter­est rates, Asha Ban­ga­lore (North­ern Trust) said: “Going for­ward, real GDP is expected to show a decline that is upward of 4.0% in the fourth quar­ter of 2008. The Fed is widely expected to lower the Fed­eral funds rate to 0.5% on Decem­ber 16.” How­ever, the Fed’s quan­ti­ta­tive eas­ing approach to mon­e­tary pol­icy now seems to be tar­get­ing the quan­tity of money rather than its price.

Else­where in the world, the People’s Bank of China (PBoC) slashed its bench­mark inter­est rates by 108 basis points and also low­ered the reserve require­ment for banks. This move indi­cates that China will be join­ing the rest of the world in a marked eco­nomic slowdown.

For the upcom­ing week, the Euro­pean Cen­tral Bank and the Bank of Eng­land are expected to reduce inter­est rates by 50 and 75 basis points respec­tively in the light of a dete­ri­o­rat­ing eco­nomic outlook.

Week’s eco­nomic reports Click here for the week’s econ­omy in pic­tures, cour­tesy of Jake of Econom­Pic Data.

Source: Yahoo Finance, Novem­ber 28, 2008.

In addi­tion to the Fed releas­ing its Beige Book (Wednes­day) and inter­est rate deci­sions by the Euro­pean Cen­tral Bank and the Bank of Eng­land (Thurs­day), next week’s US eco­nomic high­lights, cour­tesy of North­ern Trust, include the following:

1. ISM Man­u­fac­tur­ing Sur­vey (Decem­ber 1): The con­sen­sus for the man­u­fac­tur­ing ISM com­pos­ite index is 38.4 ver­sus 38.9 in October.

2. Employ­ment Sit­u­a­tion (Decem­ber 5): Pay­roll employ­ment in Novem­ber is pre­dicted to have dropped by 300,000 after 240,000 jobs were lost in Octo­ber. The unem­ploy­ment rate is expected to move up two notches to 6.7%. Con­sen­sus: Pay­rolls: –300,000 ver­sus –240,000 in Octo­ber, unem­ploy­ment rate: 6.7% ver­sus 6.5% in October.

3. Other reports: Con­struc­tion spend­ing (Decem­ber 1), auto sales (Decem­ber 2), ISM non-manufacturing, pro­duc­tiv­ity and costs (Decem­ber 3), and fac­tory orders (Decem­ber 4).

Mar­kets The per­for­mance chart obtained from the Wall Street Jour­nal Online shows how dif­fer­ent global mar­kets per­formed dur­ing the past week.

Source: Wall Street Jour­nal Online, Novem­ber 28, 2008.

Equi­ties Global stock mar­kets surged dur­ing the past week on the back of a com­bi­na­tion of bar­gain hunt­ing and short cov­er­ing, albeit on light trad­ing vol­ume as a result of the Thanks­giv­ing hol­i­day in the US.

Both mature and emerg­ing mar­kets shared hand­somely in the rally that com­menced on Novem­ber 21, as shown by the sub­se­quent gains of the MSCI World Index (+15.7%) and the MSCI Emerg­ing Mar­kets Index (+13.5%). Notwith­stand­ing the improve­ment, these indices are still down by 43.8% and 57.7% respec­tively for the year to date.

Click here or on the thumb­nail below for a (delight­fully green) mar­ket map, obtained from Fin­viz, pro­vid­ing a quick overview of last week’s per­for­mances of global stock mar­kets (as reflected by the move­ments of ADR stocks).

The US stock mar­kets all ral­lied sharply over the week as shown by the major index move­ments: Dow Jones Indus­trial Index +9.7 (YTD –33.5%), S&P 500 Index +12.0% (YTD –39.0%), Nas­daq Com­pos­ite Index +10.9% (YTD ‑42.1%) and Rus­sell 2000 Index +16.4% (YTD –38.2%).

The bar chart below, also from Finviz.com, shows the US sec­tor per­for­mances over the week, and specif­i­cally how strongly finan­cials and mate­ri­als have recovered.

As far as indus­try groups are con­cerned, the auto­mo­bile man­u­fac­tur­ing group (+82%) was the top per­former for the week. Gen­eral Motors Corp (GM) and Ford Motor (F) rose by 71% and 88% respec­tively on the expec­ta­tion that auto mak­ers will receive a gov­ern­ment bailout.

The home­build­ing group (+59%) was the second-best per­former on the prospect that the US government’s lat­est res­cue pack­age will result in lower mort­gage rates and mort­gage credit becom­ing more read­ily available.

Seven of the ten under­per­form­ing groups were from the three top-performing sec­tors for the year to date — con­sumer sta­ples, health care and util­i­ties. These sec­tors, which typ­i­cally out­per­form in a declin­ing mar­ket, tend to lag in a ris­ing mar­ket such as the one expe­ri­enced last week.

Inter­est­ingly, the per­cent­age of S&P 500 stocks trad­ing above their 50-day mov­ing aver­ages has increased from almost zero in Octo­ber to 19% on Fri­day — a promis­ing improvement.

I often get asked by read­ers about Richard Russell’s (Dow The­ory Let­ters) lat­est views. This is what the old-timer said on Fri­day: “The big ques­tion now is whether the tide is in the early process of turn­ing bull­ish. If so, we should be see­ing a series of con­struc­tive, even bull­ish days. … I won­der whether my more aggres­sive sub­scribers shouldn’t jump the gun and maybe buy the Dia­monds (DIA) at the open­ing on Monday.”

Fixed-interest instru­ments The ten-year US Trea­sury Note yield declined to its low­est level since records began in 1958, clos­ing 25 basis points lower on the week at 2.93% after falling as low as 2.82% ear­lier on Friday.

In addi­tion to eco­nomic and defla­tion wor­ries, Trea­suries also ben­e­fited from lower mort­gage rates as a result of the Fed’s deci­sion to buy GSE-insured mort­gage paper. The 30-year fixed mort­gage rate dropped by 25 basis points to 5.84%.

“The lower mort­gage rates threaten to trig­ger a wave of mort­gage refi­nanc­ing, the prospect of which has pushed investors to hedge that risk by buy­ing ten-year Trea­sury debt, a bench­mark for mort­gage rates,” reported the Finan­cial Times“.

The UK ten-year Gilt yield dropped by 9 basis points to 3.78% and the Ger­man ten-year Bund yield fell by 12 basis points to 3.26%. Emerging-market bonds also per­formed well, with the JPMor­gan EMBI Global Index gain­ing 5.1% dur­ing the week.

Although some progress has been made as a result of cen­tral banks’ liq­uid­ity facil­i­ties and cap­i­tal injec­tions, the credit mar­kets are not yet thaw­ing (see my “Credit Cri­sis Watch” of Novem­ber 28). The TED and LIBOR-OIS spreads have tight­ened since the panic lev­els of Octo­ber 10, whereas the CDX and iTraxx indices have also shown some improve­ment over the past few days. How­ever, US Trea­sury Bills and high-yield spreads are still at cri­sis levels.

Cur­ren­cies Most cur­ren­cies rebounded against the US dol­lar dur­ing the past week as the green­back came under pres­sure as a result the Fed’s new mea­sures to unclog the credit markets.

Over the week the US dol­lar lost ground against the euro (-0.8%), the British pound (-3.1%), the Swiss franc (-0.8%), the Japan­ese yen (-0.3%), the Cana­dian dol­lar (-2.4%), the Aus­tralian dol­lar (-3.7%) and the New Zealand dol­lar (-4.3).

The US cur­rency also fell against emerging-market cur­ren­cies such as the Brazil­ian real (‑7.7%), the Turk­ish lira (-6.0%) and the South African rand (-4.1%).

Inter­est­ingly, the Chi­nese ren­minbi (+6.9%) is the only major emerging-market cur­rency that has appre­ci­ated against the US dol­lar over the year to date.

Com­modi­ties The Reuters/Jeffries CRB Index (+4.7%) closed higher by the end of the week — only its fifth pos­i­tive week since com­modi­ties peaked early in July. Argu­ing against a more last­ing rever­sal of for­tune for com­modi­ties, the Baltic Dry Index — a bench­mark for ship­ping major raw mate­ri­als, includ­ing coal, iron ore and grain, and gen­er­ally an excel­lent barom­e­ter of eco­nomic activ­ity — declined by 14.5% to its low­est level since 1987.

The graph below shows the move­ments of var­i­ous com­modi­ties over the past week, indi­cat­ing an improve­ment across the whole com­plex as a weak US dol­lar pushed prices higher.

Gold bul­lion (+3.4%) remained in favor with investors as a result of a solid supply/demand sit­u­a­tion, store-of-value con­sid­er­a­tions and a positive-looking chart (see below). A research report from Cit­i­group, as reported by the Tele­graph, said gold could rise above $2,000 within two years. Plat­inum (+6.9%) and sil­ver (+7.6%) — mas­sive under­per­form­ers since March — were also in demand last week.

In the after­math of Thanks­giv­ing, may I remind you of the fol­low­ing old stock mar­ket adage: “The bears have Thanks­giv­ing and the bulls have Christ­mas.” Let’s hope for an early Christ­mas! Mean­while, the news items and words from the invest­ment wise below will hope­fully assist in steer­ing our port­fo­lios on a prof­itable course.

That’s the way it looks from Cape Town.

Hat tip: Mish (via Live Leak)

Big Think: Beyond the cri­sis — con­ver­sa­tion with Larry Sum­mers, George Soros and Robert Merton

Source: Big Think, Novem­ber 2008.

PBS News Hour: Taleb, the risk mav­er­ick “Inter­view with Nas­sim Nicholas Taleb, famous econ­o­mist and author of ‚The Black Swan’ and Dr. Man­del­brot, pro­fes­sor of Math­e­mat­ics. Both say that the present econ­omy is more seri­ous than the Great Depres­sion, and the econ­omy dur­ing the Amer­i­can Revolution.”

Source: PBS News Hour (via YouTube), Octo­ber 22, 2008.

IDD mag­a­zine: John Bogle — great expec­ta­tions “John Bogle founded the Van­guard Mutual Fund Group in 1974. He served as its chair­man and chief exec­u­tive until 1996 and remained on as senior chair­man until 2000.

“Recently, he wrote ‘Enough: True Mea­sures of Money, Busi­ness and Life’, which was pub­lished by John Wylie & Sons.

“To call it a busi­ness book — a how-to or mem­oir — would be too sim­plis­tic. In fact, it is far from the typ­i­cal busi­ness book because it offers some inter­est­ing life lessons on deal­ing with peo­ple, espe­cially clients and customers.

“Bogle spoke with IDD last week, offer­ing his thoughts on long-term invest­ing and how it may come back — as opposed to rapid-fire maneu­vers in and out of a company’s shares — and his thoughts on PE fund man­agers as well as hedge funds. Not sur­pris­ingly, they are not positive.

“As Bogle sees it ‘we have made Wall Street too much of a casino. It is totally dom­i­nated by spec­u­la­tion … we are engaged in an orgy of spec­u­la­tion the likes of which has never been seen in the his­tory of this country.’

“His rule of thumb for investors: your bond posi­tion should equal your age. ‘I’m about 80% bonds. I started 65% about 15 years ago,’ says Bogle.

“Fol­low­ing are excerpts from the interview:

“IDD: How do you think the credit cri­sis will play out?

“BOGLE: The mar­ket can’t bail itself out of this mess. Wall Street has a lot to answer for to Main Street and yet Main Street, which is really where the tax base is, is going to have to bail out Wall Street for Wall Street’s errors. And that is, of course, a tragedy — an eco­nomic tragedy. But I am per­suaded because I respect peo­ple like Larry Sum­mers, I cer­tainly respect Ben Bernanke. I am not so sure about Hank Paul­son. I sup­pose I respect him in a way, but his issue is that he is an invest­ment banker. So it should come as no sur­prise to any­body that he looks at these things from an invest­ment banker’s per­spec­tive. How else can he look at them? It [the bailout] has to hap­pen. I think it is too bad it has to hap­pen, but I think we ought to get ready for build­ing a bet­ter finan­cial sys­tem, which means build­ing a smaller finan­cial sys­tem because what is going on Wall Street is a casino and our croupier has raked too much off of the table before we get paid.

“IDD: When you say our finan­cial sys­tem gets smaller, what do you mean by that?

“BOGLE: Rev­enues will be less for a whole bunch of rea­sons. First, they are never going to be allowed — with the gov­ern­ment being part own­ers of them — to have 35-to-1 lever­age. Num­ber two, we’re going to have bet­ter dis­clo­sure about what is on that bal­ance sheet. When you think about it, if you are lever­aged 35 to 1 and all your assets are Trea­sury bills I don’t see that as much of a prob­lem. The prob­lem is that none of them are Trea­sury bills. They are toxic mort­gages and we need much bet­ter dis­clo­sure of that. The third thing is that they are going to have to be con­tent with less revenues.”

Click here for the full article.

Source: Alek­san­drs Rozens, IDD mag­a­zine, Novem­ber 17, 2008.

Spiegel Online: George Soros — “The econ­omy fell off the cliff” “George Soros, 78, has made bil­lions as a hedge-fund man­ager and investor. Spiegel spoke with him about the cur­rent finan­cial cri­sis, how he expects President-elect Barack Obama to respond to the eco­nomic dis­as­ter and the respon­si­bil­i­ties borne by speculators.

“SPIEGEL: Mr. Soros, in spite of mas­sive inter­ven­tions by gov­ern­ments and fed­eral banks the finan­cial cri­sis is get­ting worse. The stock mar­kets are in free fall, mil­lions of peo­ple could lose their jobs. More and more com­pa­nies are in trou­ble, from Gen­eral Motors in Detroit to BASF in Lud­wigshafen. Have you ever seen any­thing like it?

“Soros: Never. I find the present sit­u­a­tion dra­matic and over­whelm­ing. In my lat­est book ‘The New Par­a­digm for Finan­cial Mar­kets: The Credit Cri­sis of 2008′ I pre­dicted the worst finan­cial cri­sis since the 1930s. But to tell you the truth: I did not actu­ally antic­i­pate that it would get as bad as it did. It has gone beyond my wildest imagination.

“‘I find the present sit­u­a­tion dra­matic and overwhelming.’

“SPIEGEL: What are your fears for the com­ing months?

“Soros: I think that the dark comes before dawn. The finan­cial mar­kets are under great pres­sure because of the lack of lead­er­ship dur­ing the tran­si­tion period. In the next two months, the mar­kets will expe­ri­ence max­i­mum pres­sure. Then we will see some ini­tia­tives from the Obama admin­is­tra­tion. How long the cri­sis lasts will depend on the suc­cess of these measures.

“SPIEGEL: The mar­kets don’t seem to have much con­fi­dence in the new pres­i­dent — in stark con­trast to the enthu­si­asm in the pop­u­la­tion. Since Elec­tion Day on Novem­ber 4, stocks have fallen by almost 20%.

“Soros: I have great hopes for Barack Obama. But at the time of the elec­tion the finan­cial com­mu­nity had not yet fully grasped the mag­ni­tude of the eco­nomic decline. They did not antic­i­pate that the default of Lehman Broth­ers would cause car­diac arrest in the mar­kets. The econ­omy fell off the cliff, you begin to see man­gled bod­ies lying at the bottom.”

Click here for the full article.

Source: Spiegel Online, Novem­ber 24, 2008.

The New York Times: Paul­son on new moves in res­cue plan “CNBC cov­er­age of open­ing remarks by Trea­sury Sec­re­tary Henry Paul­son in a news con­fer­ence describ­ing new steps to ease credit markets.”

Click here for the article.

Source: The New York Times, Novem­ber 25, 2008.

Asha Ban­ga­lore (North­ern Trust): Fed insti­tutes two more pro­grams to sup­port work­ing of finan­cial mar­kets “The Fed­eral Reserve announced the cre­ation of Term Asset-Backed Secu­ri­ties Loan Facil­ity (TALF) in con­junc­tion with the Trea­sury. The pro­gram that will involve the Fed­eral Reserve Bank of New York lend­ing up to $200 bil­lion to hold­ers of AAA-rated asset backed secu­ri­ties ‘backed by newly and recently orig­i­nated con­sumer and small busi­ness loans’.

“The US Trea­sury Depart­ment, under the Emer­gency Eco­nomic Sta­bi­liza­tion Act of 2008, will pro­vide $20 bil­lion of credit pro­tec­tion to the Fed­eral Reserve Bank of New York for these non-recourse loans. The loans will involve a hair­cut based on the asset class and there is fee for participation.

“This new pro­gram is designed to address prob­lems in the auto, stu­dent, credit card, and Small Busi­ness Admin­is­tra­tion guar­an­teed loans. Loans to con­sumers have become scarce because secu­ri­ti­za­tion of con­sumer loans has come to a stand­still. Fund­ing these loans should result in a resump­tion of the work­ing of these mar­kets. A date and details are being worked out.

“The Fed also announced it will start pur­chas­ing Gov­ern­ment Spon­sored Enter­prises (GSE) — Fan­nie Mae, Fred­die Mac, and Fed­eral Home Loan Banks — this week. Spreads of these secu­ri­ties vis-à-vis Trea­sury secu­ri­ties have widened sharply in recent days. Pur­chases of $100 bil­lion in GSE direct oblig­a­tions and $500 of Mort­gage Backed Secu­ri­ties will be under­taken under this pro­gram. The objec­tive of this action is to increase the avail­abil­ity of credit for pur­chases of homes.

“These actions will raise reserves in the bank­ing sys­tem and increase the size of the Fed’s bal­ance sheet. The sum of today’s action is $800 bil­lion. The Fed’s bal­ance sheet as of Novem­ber 25, 2008 had bal­looned to 2.19 tril­lion from $995.57 bil­lion as of Sep­tem­ber 17, 2008.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 25, 2008.

Bloomberg: US pledges top $7.7 tril­lion to ease frozen credit “The US gov­ern­ment is pre­pared to pro­vide more than $7.76 tril­lion on behalf of Amer­i­can tax­pay­ers after guar­an­tee­ing $306 bil­lion of Cit­i­group debt yes­ter­day. The pledges, amount­ing to half the value of every­thing pro­duced in the nation last year, are intended to res­cue the finan­cial sys­tem after the credit mar­kets seized up 15 months ago.

“The unprece­dented pledge of funds includes $3.18 tril­lion already tapped by finan­cial insti­tu­tions in the biggest response to an eco­nomic emer­gency since the New Deal of the 1930s, accord­ing to data com­piled by Bloomberg. The com­mit­ment dwarfs the plan approved by law­mak­ers, the Trea­sury Department’s $700 bil­lion Trou­bled Asset Relief Pro­gram. Fed­eral Reserve lend­ing last week was 1,900 times the weekly aver­age for the three years before the crisis.

“When Con­gress approved the TARP on Octo­ber 3, Fed Chair­man Ben Bernanke and Trea­sury Sec­re­tary Henry Paul­son acknowl­edged the need for trans­parency and over­sight. Now, as reg­u­la­tors com­mit far more money while refus­ing to dis­close loan recip­i­ents or reveal the col­lat­eral they are tak­ing in return, some Con­gress mem­bers are call­ing for the Fed to be reined in.

“Bloomberg News tab­u­lated data from the Fed, Trea­sury and Fed­eral Deposit Insur­ance Corp. and inter­viewed reg­u­la­tory offi­cials, econ­o­mists and aca­d­e­mic researchers to gauge the full extent of the government’s res­cue effort.

“The bailout includes a Fed pro­gram to buy as much as $2.4 tril­lion in short-term notes, called com­mer­cial paper, that com­pa­nies use to pay bills, begun Octo­ber 27, and $1.4 tril­lion from the FDIC to guar­an­tee bank-to-bank loans, started Octo­ber 14.

“William Poole, for­mer pres­i­dent of the Fed­eral Reserve Bank of St. Louis, said the two pro­grams are unlikely to lose money. The big­ger risk comes from res­cu­ing com­pa­nies per­ceived as ‘too big to fail’, he said.”

Source: Mark Pittman and Bob Ivry, Bloomberg, Novem­ber 24, 2008.

Barry Ritholtz (The Big Pic­ture): Big bailouts, big­ger bucks “When­ever I dis­cussed the cur­rent bailout sit­u­a­tion with peo­ple, I find they have a hard time com­pre­hend­ing the actual num­bers involved. That became a prob­lem while doing the research for the Bailout Nation book. I needed some way to put this into proper his­tor­i­cal perspective.

“If we add in the Citi bailout, the total cost now exceeds $4.6165 tril­lion. Peo­ple have a hard time con­cep­tu­al­iz­ing very large num­bers, so let’s give this some con­text. The cur­rent Credit Cri­sis bailout is now the largest out­lay in Amer­i­can history.

“Jim Bianco of Bianco Research crunched the infla­tion adjusted num­bers. The bailout has cost more than all of these big bud­get gov­ern­ment expen­di­tures combined:

• Mar­shall Plan: Cost: $12.7 bil­lion, Infla­tion Adjusted Cost: $115.3 bil­lion • Louisiana Pur­chase: Cost: $15 mil­lion, Infla­tion Adjusted Cost: $217 bil­lion • Race to the Moon: Cost: $36.4 bil­lion, Infla­tion Adjusted Cost: $237 bil­lion • S&L Cri­sis: Cost: $153 bil­lion, Infla­tion Adjusted Cost: $256 bil­lion • Korean War: Cost: $54 bil­lion, Infla­tion Adjusted Cost: $454 bil­lion • The New Deal: Cost: $32 bil­lion (Est), Infla­tion Adjusted Cost: $500 bil­lion (Est) • Inva­sion of Iraq: Cost: $551b, Infla­tion Adjusted Cost: $597 bil­lion • Viet­nam War: Cost: $111 bil­lion, Infla­tion Adjusted Cost: $698 bil­lion • NASA: Cost: $416.7 bil­lion, Infla­tion Adjusted Cost: $851.2 billion

TOTAL: $3.92 trillion

“That is $686 bil­lion less than the cost of the credit cri­sis thus far. The only sin­gle Amer­i­can event in his­tory that even comes close to match­ing the cost of the credit cri­sis is World War II: Orig­i­nal Cost: $288 bil­lion, Infla­tion Adjusted Cost: $3.6 tril­lion. The $4.6165 tril­lion dol­lars com­mit­ted so far is about a tril­lion dol­lars ($979 bil­lion dol­lars) greater than the entire cost of World War II borne by the United States: $3.6 tril­lion, adjusted for infla­tion (orig­i­nal cost was $288 billion).

“I esti­mate that by the time we get through 2010, the final bill may scale up to as much as $10 tril­lion dollars …”

Source: Barry Ritholtz, The Big Pic­ture, Novem­ber 25, 2008.

Casey’s Charts: Bud­get­ing your future “The Octo­ber state­ment of the US Trea­sury Depart­ment revealed that the fed­eral deficit has reached the largest level on record. Over the last twelve months, the US gov­ern­ment spent $618 bil­lion dol­lars more than it was able to collect.

“The deficit is already enor­mous and with all signs point­ing towards even greater gov­ern­ment spend­ing, the impli­ca­tions are astound­ing. Casey Research Chief Econ­o­mist Bud Con­rad pre­dicts that next year’s bud­get deficit will be closer to the tune of $1.5 trillion!”

Source: Casey’s Charts, Novem­ber 21, 2008.

Bre­it­bart: IMF chief econ­o­mist — worst of finan­cial cri­sis yet to come “The IMF’s chief econ­o­mist has warned that the global finan­cial cri­sis is set to worsen and that the sit­u­a­tion will not improve until 2010, a report said Sat­ur­day. Olivier Blan­chard also warned that the insti­tu­tion does not have the funds to solve every eco­nomic problem.

“‘The worst is yet to come,’ Blan­chard said in an inter­view with the Finanz und Wirtschaft news­pa­per, adding that ‘a lot of time is needed before the sit­u­a­tion becomes normal.’

“He said eco­nomic growth would not kick in until 2010 and it will take another year before the global finan­cial sit­u­a­tion became nor­mal again.

“The Inter­na­tional Mon­e­tary Fund on Fri­day promised to help Latvia deal with its eco­nomic cri­sis after it assisted Ice­land, Hun­gary, Ukraine, Ser­bia and Pakistan.

“But Blan­chard said the IMF was not able to solve all finan­cial issues, in par­tic­u­lar prob­lems of liquidity.

“With­drawals of cap­i­tal lead­ing to prob­lems of liq­uid­ity ‘can be so sig­nif­i­cant that the IMF alone can­not counter them’, he said, adding that mas­sive with­drawals of invest­ments from emerg­ing coun­tries could rep­re­sent ‘hun­dreds of bil­lions of dol­lars. We do not have this money. We never had it,’ he said.”

Source: Bre­it­bart, Novem­ber 22, 2008.

The Wall Street Jour­nal: Obama names his eco­nomic team “Look­ing to hit the ground run­ning on Jan­u­ary 20 and restore con­fi­dence, President-elect Barack Obama seals up his eco­nomic appointments.”

Source: The Wall Street Jour­nal, Novem­ber 24, 2008.

Bloomberg: Obama names Volker to head panel on reviv­ing econ­omy “President-elect Barack Obama named for­mer Fed­eral Reserve Chair­man Paul Vol­cker to head a new White House eco­nomic board that will pro­pose ways to revive growth as the US grap­ples with an ‘eco­nomic cri­sis of his­toric proportions’.

“‘At this defin­ing moment for our nation, the old ways of think­ing and act­ing just won’t do,’ Obama said at a news con­fer­ence in Chicago, his third in as many days.

“Vol­cker, 81, will be chair­man of the President’s Eco­nomic Recov­ery Advi­sory Board. The panel’s top staff offi­cial will be Aus­tan Gools­bee, a Uni­ver­sity of Chicago econ­o­mist who will also be a mem­ber of the president’s Coun­cil of Eco­nomic Advisers.

“The panel, which will include experts from out­side gov­ern­ment, will meet about once a month and peri­od­i­cally brief Obama with advice on how to shore up finan­cial mar­kets. Volcker’s posi­tion will be part-time.

“‘Some­times pol­i­cy­mak­ing in Wash­ing­ton can become too insu­lar,’ Obama said. ‘The walls of the echo cham­ber can some­times keep out fresh voices and new ways of think­ing, and those who serve in Wash­ing­ton don’t always have a ground-level sense of which pro­grams and poli­cies are working.’

“Vol­cker, who throt­tled the econ­omy to crush infla­tion in the 1980s, was an adviser to Obama dur­ing the pres­i­den­tial cam­paign. He was a can­di­date for Trea­sury sec­re­tary, a job that went to Fed­eral Reserve Bank of New York Pres­i­dent Tim­o­thy Geithner.

“‘He is one of the most independent-thinking guys you could find and brings mas­sive rep­u­ta­tion,’ Ethan Har­ris, co-head of US eco­nomic research at Bar­clays Cap­i­tal in New York, said before today’s announcement.”

Source: Kim Chip­man and Cather­ine Dodge, Bloomberg, Novem­ber 26, 2008.

ABC News: Sum­mers to be top white house eco­nomic adviser at NEC “ABC News has learned that President-elect Obama has decided to name for­mer Trea­sury Sec­re­tary Larry Sum­mers the direc­tor of the National Eco­nomic Coun­cil, essen­tially the president’s senior eco­nomic adviser.

“Part of the Exec­u­tive Office of the Pres­i­dent, the NEC was cre­ated for the pur­pose of advis­ing the Pres­i­dent on mat­ters related to US and global eco­nomic pol­icy. The NEC has four func­tions, by exec­u­tive order: ensur­ing that pro­grams and pol­icy deci­sions are con­sis­tent with the President’s eco­nomic goals, mon­i­tor­ing the imple­men­ta­tion of the President’s eco­nomic pol­icy agenda, coör­di­nat­ing policy-making for domes­tic and inter­na­tional eco­nomic issues, and coör­di­nat­ing eco­nomic pol­icy advice for the President.

“Sum­mers was the 71st Sec­re­tary of the Trea­sury, serv­ing from July 1999 until the end of the Clin­ton admin­is­tra­tion in Jan­u­ary 2001, hav­ing pre­vi­ously served as under­sec­re­tary for inter­na­tional affairs and deputy sec­re­tary of the Trea­sury. He also served as chief econ­o­mist of the World Bank.

“At the Trea­sury Depart­ment in the 1990s, Sum­mers worked closely with Tim Gei­th­ner, the man Obama intends to nom­i­nate to be the next Sec­re­tary of the Trea­sury. The two are said to have an excel­lent work­ing relationship.

“Some Democ­rats say that Obama and Sum­mers have an under­stand­ing that when cur­rent Fed­eral Reserve Chair­man Ben Bernanke’s term expires in 2010, Obama will name Sum­mers to take his place.”

Source: ABC News, Novem­ber 22, 2008.

Fox Busi­ness: Wilbur Ross on the next Trea­sury Secretary

Source: Fox Busi­ness, Novem­ber 21, 2008.

Richard Rus­sell (Dow The­ory Let­ters): “Inflate or die, which one will it be?” “Sud­denly, the whole invest­ment world believes in defla­tion. The TIPS (infla­tion adjusted gov­ern­ment bonds) have col­lapsed, com­modi­ties have crashed, gold goes nowhere, bonds remain near their highs, the dol­lar remains strong.

“Mean­while, Bernanke and Paul­son are bat­tling the forces of defla­tion with all the ammu­ni­tion at their com­mand. I believe Fed chief Bernanke will fight defla­tion with the last dol­lar avail­able at the Fed. Paul­son will give the US Trea­sury away before he gives in to defla­tion and eco­nomic contraction.

“How will we know whether Bernanke-Paulson are win­ning their des­per­ate anti-deflation bat­tle? If they are win­ning, the dol­lar and bonds will head down and gold will head higher. If they are los­ing the bat­tle, the Dow will break below 7,470 and the bear mar­ket will con­tinue to eat away at US stocks and the US economy.

“What we are wit­ness­ing now is the sin­gle great­est eco­nomic bat­tle of the cen­tury. ‘Inflate or die’, which one will it be?

“Remem­ber, Bernanke’s worst night­mare is deal­ing with out-of-control defla­tion. The Fed can halt infla­tion by push­ing up inter­est rates, but in the case of defla­tion, the Fed can be help­less. And I ask myself, what hap­pens if Bernanke finds that he is los­ing the bat­tle against defla­tion? In that case, we are all sur­vivors. I’ve been there before — dur­ing the 1930s. I sur­vived then, and I’ll sur­vive now, and so will my subscribers.

“If Bernanke and Paul­son are win­ning the anti-deflation bat­tle, I believe the first ‘sig­nal’ would be ris­ing gold. So far, it appears to me that gold is unde­cided. Gold cor­rected down to the 717 area, then ral­lied above 800, and now appears to be in the process of test­ing the 800 level. It would be a plus for gold if Decem­ber gold can hold above 800. Gold has never been a more impor­tant barom­e­ter for the future.”

Source: Richard Rus­sell, Dow The­ory Let­ters, Novem­ber 26, 2008.

Asha Ban­ga­lore (North­ern Trust): Q3 GDP pre­lim­i­nary esti­mate “Real gross domes­tic prod­uct declined at an annual aver­age rate of 0.5% in the third quar­ter of 2008, slightly weaker than the advance esti­mate of a 0.3% drop. Going for­ward, real GDP is expected to show a decline that is upward of 4.0% in the fourth quar­ter of 2008. The Fed is widely expected to lower the Fed­eral funds rate to 0.50% on Decem­ber 16, 2008.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 25, 2008.

Barry Ritholtz (The Big Pic­ture): ECRI lead­ing indi­ca­tors fall to low­est level ever “One of the ques­tions I seem to be get­ting all the time is ‘when is this reces­sion going to end?’ To answer that, I turned to Lak­sh­man Achuthan of the Eco­nomic Cycle Research Insti­tute (ECRI). Their lead­ing ver­sus coin­ci­dent chart pro­vides insight into that question.

“The cycli­cal turns in the lead­ing occur before the coin­ci­dent — they seem to diverge now and then, and that can be telling. The cur­rent story they tell is clearly one of a quickly wors­en­ing reces­sion with no end in sight.”

Source: Barry Ritholtz, The Big Pic­ture, Novem­ber 26, 2008.

Wachovia: US econ­omy in reces­sion mode “Eco­nomic prob­lems began to show up in our model in the fourth quar­ter of last year as the reces­sion prob­a­bil­ity rose sharply to 75%, and since then the prob­a­bil­ity has remained high. While the offi­cial reces­sion call will come from the National Bureau of Eco­nomic Research some­time next year, for decision-makers the oper­a­tional guide­line is a reces­sion out­look today.”

Source: Wachovia, Novem­ber 24, 2008.

Asha Ban­ga­lore (North­ern Trust): Durable goods orders show wide­spread weak­ness “The 6.2% drop in orders of durable goods reflects wide­spread weak­ness in book­ings of durable fac­tory goods.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 26, 2008.

Bre­it­bart: First-ever decline in online retail spend­ing “Online retail spend­ing fell four per­cent in the first weeks of Novem­ber from the same period last year, the first ever such decline in e-commerce spend­ing, online researcher com­Score reported on Tuesday.

“The Reston, Virginia-based com­pany said 8.2 bil­lion dol­lars was spent online dur­ing the first 23 days of Novem­ber, four per­cent less than dur­ing the same period last year, when 8.5 bil­lion dol­lars was spent online.

“Com­Score fore­cast that online retail spend­ing for the November-December hol­i­day period will be flat ver­sus year ago, sig­nif­i­cantly lower than last year’s growth rate of 19 percent.

“‘With con­sumer con­fi­dence low and dis­pos­able income tight, the first weeks of Novem­ber have been very dis­ap­point­ing, with online retail spend­ing declin­ing ver­sus year ago,’ said com­Score chair­man Gian Fulgoni.”

Source: Bre­it­bart, Novem­ber 25, 2008.

Asha Ban­ga­lore (North­ern Trust): Weak­ness in con­sumer spend­ing most likely to per­sist “Nom­i­nal con­sumer spend­ing fell 1.0% in Octo­ber, while infla­tion adjusted con­sumer spend­ing dropped 0.5%. Infla­tion adjusted con­sumer spend­ing has declined for five straight months, the longest string of declines since the 1981–82 reces­sion. Based on Octo­ber data and con­ser­v­a­tive assump­tions about Novem­ber and Decem­ber, con­sumer spend­ing is most likely to post a 4.0% drop in the fourth quar­ter after a 3.7% decline in the third quarter.

“The 0.3% increase in per­sonal income dur­ing Octo­ber fol­lows a 0.1% gain in Sep­tem­ber that was affected by hur­ri­canes. Per­sonal sav­ing as a per­cent of dis­pos­able income was 2.4% in Octo­ber com­pared with 1.0% in Sep­tem­ber. A small upward drift in per­sonal sav­ing is emerging.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 26, 2008.

Stan­dard & Poor’s: S&P/Case-Shiller — national trend of home price declines con­tin­ues “Data through Sep­tem­ber 2008, released today by Stan­dard & Poor’s for its S&P/Case-Shiller Home Price Indices, shows con­tin­ued broad based declines in the prices of exist­ing sin­gle fam­ily homes across the United States, a trend that pre­vailed since 2007.

“The decline in the S&P/Case-Shiller US National Home Price remained in dou­ble dig­its, post­ing a record 16.6% decline in the third quar­ter of 2008 ver­sus the third quar­ter of 2007. This has increased from the annual declines of 15.1% and 14.0%, reported for the 2nd and 1st quar­ters of the year, respectively.

“‘The tur­moil in the finan­cial mar­kets is plac­ing fur­ther down­ward pres­sure on a hous­ing mar­ket already weak­ened by its own fun­da­men­tals,’ says David Blitzer, Chair­man of the Index Com­mit­tee at Stan­dard & Poor’s.”

Source: Stan­dard & Poor’s, Novem­ber 25, 2008.

The Wall Street Jour­nal: US agrees to res­cue strug­gling Cit­i­group “The fed­eral gov­ern­ment agreed Sun­day night to res­cue Cit­i­group by help­ing to absorb poten­tially hun­dreds of bil­lions of dol­lars in losses on toxic assets on its bal­ance sheet and inject­ing fresh cap­i­tal into the trou­bled finan­cial giant.

“The agree­ment marks a new phase in gov­ern­ment efforts to sta­bi­lize US banks and secu­ri­ties firms. After inject­ing nearly $300 bil­lion of cap­i­tal into finan­cial insti­tu­tions, fed­eral offi­cials now appear to be will­ing to help shoul­der bad assets, on a tar­geted basis, from spe­cific institutions.

“Cit­i­group is one of the world’s best-known bank­ing brands, with more than 200 mil­lion cus­tomer accounts in 106 coun­tries. Its plung­ing stock price threat­ened to spook cus­tomers and imperil the bank.

“If the government’s res­cue plan is a suc­cess, it could help bring sta­bil­ity to the entire finan­cial sys­tem. If it doesn’t, even deeper doubts about the industry’s future could spread.

“Under the plan, Cit­i­group and the gov­ern­ment have iden­ti­fied a pool of about $306 bil­lion in trou­bled assets. Cit­i­group will absorb the first $29 bil­lion in losses in that port­fo­lio. After that, three gov­ern­ment agen­cies — the Trea­sury Depart­ment, the Fed­eral Reserve and the Fed­eral Deposit Insur­ance Corp. — will take on any addi­tional losses, though Cit­i­group could have to share a small por­tion of addi­tional losses.

“The plan would essen­tially put the gov­ern­ment in the posi­tion of insur­ing a slice of Citigroup’s bal­ance sheet. That means tax­pay­ers will be on the hook if Citigroup’s mas­sive port­fo­lios of mort­gage, credit cards, com­mer­cial real-estate and big cor­po­rate loans con­tinue to sour.

“In exchange for that pro­tec­tion, Cit­i­group will give the gov­ern­ment war­rants to buy shares in the company.

“In addi­tion, the Trea­sury Depart­ment also will inject $20 bil­lion of fresh cap­i­tal into Cit­i­group. That comes on top of the $25 bil­lion infu­sion that Cit­i­group recently received as part of the broader US banking-industry bailout.”

Source: David Enrich, Car­rick Mol­lenkamp, Matthias Rieker, Damian Paletta and Jon Hilsen­rath, The Wall Street Jour­nal, Novem­ber 24, 2008.

Paul Kedrosky (Infec­tious Greed): Cit­i­group — bad bank to cre­ate bad bank incu­ba­tor “I know it isn’t pre­cisely what this head­line means — ‘bad bank’ is a euphemism in bailout cir­cles for walling off from one another func­tional and non-functional parts of banks — but I still like this from the WSJ today.

“To my way of think­ing, if we’re inter­ested in cre­at­ing bad banks, it’s worth know­ing that Citi is a ver­i­ta­ble ‘bad bank’ incubator.”

Source: Paul Kedrosky, Infec­tious Greed, Novem­ber 23, 2008.

CNBC: Mobuis — attrac­tion of Trea­surys will wane with lower yields “Despite con­tin­ued woes in the US econ­omy, the green­back has seen an unex­pected surge against cur­ren­cies around the world. As investors become ever more risk averse, emerg­ing mar­kets are bear­ing the brunt of a flight to safety.

“But Mark Mobius, exec­u­tive chair­man of Tem­ple­ton Asset Man­age­ment, sees a rever­sal around the corner.

“‘As every­one is rush­ing into US Trea­surys, they need US dol­lars to do that and have there­fore sold every­thing in sight,’ Mobius told CNBC. ‘This is why emerg­ing mar­kets have gone down, why com­modi­ties have gone down as every­one is mov­ing into dollars.’

“But Mobius said that ‘as US Trea­sury rates go down to 1% or below you will see the attrac­tion of US Trea­surys waning’.

“Mobius also believes that emerg­ing mar­kets have learnt a bit­ter les­son since the Asian Cri­sis of 1997–1998. ‘One big les­son was ‘don’t bor­row in a cur­rency you are not earn­ing in’,’ he said.

“Emerg­ing mar­kets have also cur­tailed lend­ing and built up for­eign reserves, which they can call upon in almost ‘a rever­sal of 1997 where the emerg­ing mar­kets were debtors, they are now the cred­i­tors’, he added.

“But the surge in the green­back has taken a lot of investors by sur­prise, Mobius said.

“Hav­ing learned from the Asian cri­sis, com­pa­nies hedged cur­ren­cies and ‘iron­i­cally these hedges have really worked against them in some cases … as they are over-hedged and it went against them as they were expect­ing the dol­lar to go weaker and it went the other way,’ he said.”

Source: CNBC, Novem­ber 20, 2008.

Bespoke: GSE mort­gage spreads tighten “The Fed’s actions this morn­ing [Tues­day] have cer­tainly helped to thaw the credit mar­kets so far. As shown below, spreads between 10-year Fan­nie Mae bonds and the 10-year US Trea­sury tight­ened sig­nif­i­cantly today. While they are cer­tainly mov­ing in the right direc­tion, even after today’s record decline, spreads are still higher today than they were just a lit­tle more than two weeks ago.”

Source: Bespoke, Novem­ber 25, 2008.

Bespoke: 30-Year fixed mort­gage rates falling back “Talk of the 30-year fixed mort­gage rate falling back below 6% filled the air­waves yes­ter­day [Tues­day], so below we pro­vide a two-year chart of the rate. Even as the Fed funds rate has fallen from 5.5% to 1%, mort­gage rates have failed to decline along with it, which hasn’t done much to help the strug­gling hous­ing mar­ket. Econ­o­mists and investors are hop­ing that the Fed’s actions yes­ter­day will start push­ing mort­gage rates lower. This will help ease the credit cri­sis as banks will become more will­ing to lend, pro­vid­ing bet­ter inter­est rates for poten­tial home­buy­ers. 5.81% is bet­ter than the 6.4% seen at the start of the month, but the rate could still stand to drop quite a bit.”

Source: Bespoke, Novem­ber 26, 2008.

Frank Holmes (US Global Investors): Stock mar­ket rever­sal is near “Accord­ing to research from Thomas Weisel, the S&P 500 has been a ‘Buy’ since that index closed at 800 last Fri­day, based on its prob­a­bil­ity mod­els. They say a ver­i­fi­ca­tion could come in early Decem­ber, when monthly liq­uid­ity fig­ures come out — if there is extreme pos­i­tive liq­uid­ity to accom­pany the tech­ni­cal ‘Buy’ sig­nal, his­tory shows that on aver­age there’s a six-month price rally of 18.5%.

“Our oscil­la­tor tells us that, sta­tis­ti­cally speak­ing, the S&P 500 is extremely over­sold and thus due for a rever­sal toward the mean. The chart above shows that the S&P 500 is now down about four stan­dard devi­a­tions over 60 trad­ing days, which is a far more dra­matic decline than we saw in 1998, when Rus­sia endured a cur­rency cri­sis and the col­lapse of the hedge fund Long-Term Cap­i­tal Man­age­ment threat­ened the global finan­cial sec­tor, and in 2001 after the Sep­tem­ber 11 ter­ror attacks.

“The pos­si­ble turn­around that we are see­ing is not wish­ful think­ing, but it’s not a sure thing, either. Our con­fi­dence grows with every pos­i­tive data point indi­cat­ing that a rever­sal is near, and we will con­tinue watch­ing for these indicators …”

Source: Frank Holmes, US Global Investors — Weekly Investor Alert, Novem­ber 28, 2008.

Eoin Treacy (Fuller­money): Start think­ing about stocks to buy “Angst, fear and anx­i­ety are all related emo­tions which come to the fore when we feel under pres­sure and begin to doubt our abil­i­ties as investors. How­ever, when we see a mar­ket fall such as that of the last few months, we have to rein in the temp­ta­tion to suc­cumb to such emo­tions. It will prove more prof­itable over the medium to longer-term, to turn objec­tive about the oppor­tu­ni­ties we are being pre­sented with sooner rather than later.

“This does not mean one piles into the mar­ket with every spare unit of cur­rency right now, but it is a time to begin to think about the shares one wants to own in a recov­ery envi­ron­ment. From a value per­spec­tive there are a num­ber of instru­ments which have been hit par­tic­u­larly hard and some­what unjus­ti­fi­ably by the credit / sol­vency crisis.

“We now need to begin to think more about recov­ery poten­tial rather than fur­ther poten­tial losses. Stocks and cor­po­rate bonds are no longer expen­sive, some are down­right cheap. We have not reached the deep value lev­els seen in the past, but these need not nec­es­sar­ily appear at the numer­i­cal low for the mar­ket, if they appear at all. How­ever, one looks at the mar­ket, given the extent of the fall, this is not a time to become increas­ingly bear­ish, but is one in which to make pro­vi­sions and pos­si­ble pur­chases for a recov­ery scenario.”

Source: Eoin Treacy, Fuller­money, Novem­ber 27, 2008.

David Fuller (Fuller­money): Watch devel­op­ments in US rather than invest there “I believe that America’s prob­lems of debt and deficits are worse than for many other coun­tries. More impor­tantly, I will be guided by price charts, which reflect the col­lec­tive deci­sions and views of every­one else. In terms of invest­ment appro­pri­ate­ness, my cur­rent view is that I would rather watch devel­op­ments in the US than invest there.

“The credit / sol­vency cri­sis is clearly America’s biggest prob­lem at this time. This is not nec­es­sar­ily true for all other coun­tries, although all are obvi­ously affected to a greater or lesser degree by devel­op­ments in the USA. I sug­gest that the West’s credit / sol­vency cri­sis was only the sec­ond biggest prob­lem for Asia’s devel­op­ing economies.

“Asia’s biggest recent prob­lem, I main­tain, was infla­tion, not least from pre­vi­ously soar­ing energy and food prices. That cri­sis, which in com­par­i­son was the USA’s sec­ond biggest prob­lem, has largely dis­ap­peared today. I sus­pect com­mod­ity infla­tion will not re-emerge for at least the next year or two, sub­ject to sup­ply, global GDP and the USD.

“Con­se­quently, I believe that devel­op­ing Asia would be in an excel­lent posi­tion for recov­ery, were it not for the West’s ongo­ing credit / sol­vency cri­sis. There­fore, the worse the USA’s prob­lems become, the more this will be a drag on Asia’s own recov­ery. Con­versely, if the USA some­how avoids a destruc­tive defla­tion, Asia should still bounce back more quickly.

“I will invest accordingly.”

Source: David Fuller, Fuller­money, Novem­ber 26, 2008.

Jef­frey Saut (Ray­mond James): Gei­th­ner gotcha “We still think Octo­ber 10 rep­re­sented the capit­u­la­tion ‘lows’. As Barron’s notes, ‘For a bull­ish spin, though a weak one, the mar­ket has not made a sig­nif­i­cantly lower low since Octo­ber 10. The word ’sig­nif­i­cantly’ is impor­tant because some major mar­ket indexes, includ­ing the Nas­daq, have indeed been set­ting new lows. But the trend, if we can call it that, has been more side­ways than decid­edly down.

“A bet­ter, but still weak, bull­ish angle comes from trad­ing vol­ume, or the amount of money com­mit­ted to either the bull or bear side each day. All of the higher vol­ume days that have occurred since Octo­ber 10 have come on days when prices rose. The­o­ret­i­cally, when prices are going up and vol­ume increases, it means that investors are chas­ing the mar­ket higher. That’s a sure sign of demand. Sub­se­quent declines occurred with lower vol­ume, so we can con­clude that the desire to sell was not quite as strong as it was before Octo­ber 10.”

Source: Jef­frey Saut, Ray­mond James, Novem­ber 24, 2008.

Bespoke: Ana­lysts at their least bull­ish lev­els ever “While Wall Street ana­lysts are typ­i­cally known for being overly opti­mistic, based on at least one mea­sure, they have never been less bull­ish. Accord­ing to Bloomberg sta­tis­tics that track ana­lyst buy, sell, and hold rat­ings, only 36% of all rat­ings are cur­rently buys. As the chart below shows, this is the low­est level since at least 1997, and sig­nif­i­cantly lower than the 75% level we saw in 1997 and 2000. How­ever, since the Spitzer crack­down on Wall Street research and the burst­ing of the tech bub­ble, ana­lysts have grown increas­ingly shy about putting a buy rat­ing on a stock they cover.”

Source: Bespoke, Novem­ber 25, 2008.

Bespoke: Q3 and Q4 sec­tor earn­ings growth “With about 96% of S&P 500 com­pa­nies hav­ing reported third quar­ter earn­ings, cur­rent EPS growth num­bers for the quar­ter should be very close to what the final tally will read. As shown below, four sec­tors have had neg­a­tive year over year growth in the third quar­ter, while six have had pos­i­tive growth. Finan­cials and con­sumer dis­cre­tionary were once again the sec­tors that brought down the index as a whole. Finan­cials have seen earn­ings decline by 129.7% in Q3 ‘08 ver­sus Q3 ‘07. Con­sumer dis­cre­tionary has seen earn­ings decline by 41.4%. Tele­com and util­i­ties are the two other sec­tors with neg­a­tive Q3 earn­ings growth, and the S&P 500 as a whole cur­rently stands at –18.4%. The energy sec­tor has had by far the largest earn­ings growth at 57.4% ver­sus the third quar­ter of 2007. Con­sumer sta­ples ranks sec­ond behind energy at 10.9%, fol­lowed by health care, mate­ri­als, tech­nol­ogy, and industrials.

“So what does the fourth quar­ter look like? Ana­lysts are expect­ing the S&P 500 to actu­ally show pos­i­tive year over year earn­ings growth in the fourth quar­ter of 4%. This is because the finan­cial sec­tor is expected to show growth of 64.2% due to the fact that Q4 ‘07 was so bad. Util­i­ties, health care, and con­sumer sta­ples are the other three sec­tors expected to see earn­ings growth, while con­sumer dis­cre­tionary, mate­ri­als, energy, tele­com, tech­nol­ogy and indus­tri­als are expected to see earn­ings declines.”

Source: Bespoke, Novem­ber 23, 2008.

Naked Cap­i­tal­ism: Cheery chart — no cor­po­rate prof­its for two years dur­ing depres­sion “In case you are start­ing to look to past crises for clues as to how our finan­cial mess might play out, here is a Great Depres­sion fac­toid (from Levy Fore­cast, Novem­ber 2008):

“Note that the report itself argues that the US will have a ‘con­tained’ depres­sion, with deep reces­sion con­di­tions for a pro­tracted period and an ane­mic recov­ery. It does not believe the zero oper­at­ing prof­its pat­tern of the Great Depres­sion will be repeated.”

Source: Naked Cap­i­tal­ism, Novem­ber 23, 2008.

Bloomberg: Ham­bro sees “great entry points” for com­mod­ity stocks “Evy Ham­bro, who man­ages the world’s largest min­ing and gold funds at Black­Rock, talks with Bloomberg about the out­look for com­modi­ties and min­ing stocks.”

Source: Bloomberg, Novem­ber 21, 2008.

Bloomberg: Marc Faber says gold is most pre­cious asset

Source: Bloomberg, Novem­ber 25, 2008.

Ambrose Evans-Pritchard (Tele­graph): Cit­i­group says gold could rise above $2,000 next year “The bank said the dam­age caused by the finan­cial excesses of the last quar­ter cen­tury was forc­ing the world’s author­i­ties to take steps that had never been tried before.

“This gam­ble was likely to end in one of two extreme ways: with either a resur­gence of infla­tion; or a down­ward spi­ral into depres­sion, civil dis­or­der, and pos­si­bly wars. Both out­comes will cause a rush for gold.

“‘They are throw­ing the kitchen sink at this,’ said Tom Fitz­patrick, the bank’s chief tech­ni­cal strategist.

“‘The world is not going back to nor­mal after the mag­ni­tude of what they have done. When the dust set­tles this will either work, and the money they have pushed into the sys­tem will feed though into an infla­tion shock.

“‘Or it will not work because too much dam­age has already been done, and we will see con­tin­ued finan­cial dete­ri­o­ra­tion, caus­ing fur­ther eco­nomic dete­ri­o­ra­tion, with the risk of a feed­back loop. We don’t think this is the more likely out­come, but as each week and month passes, there is a grow­ing dan­ger of vicious cir­cle as con­fi­dence erodes,” he said.

“‘This will lead to polit­i­cal insta­bil­ity. We are already see­ing coun­tries on the periph­ery of Europe under severe stress. Some lead­ers are now at record lev­els of unpop­u­lar­ity. There is a risk of domes­tic unrest, start­ing with strikes because peo­ple are feel­ing disenfranchised.”

“Gold traders are play­ing close atten­tion to reports from Bei­jing that the China is think­ing of boost­ing its gold reserves from 600 tonnes to nearer 4,000 tonnes to diver­sify away from paper cur­ren­cies. ‘If true, this is a very mate­r­ial change,’ he said.

“Cit­i­group said the blast-off was likely to occur within two years, and pos­si­bly as soon as 2009. Gold was trad­ing yes­ter­day at $812 an ounce. It is well off its all-time peak of $1,030 in Feb­ru­ary but has held up much bet­ter than other com­modi­ties over the last few months — revert­ing to is his­tor­i­cal role as a safe-haven store of value and a de facto currency.”

Source: Ambrose Evans-Pritchard, Tele­graph, Novem­ber 27, 2008.

James Turk (Gold­Money): Sce­nario for gold is bull­ish “Gold soared $50 this past Fri­day. It began the day at $748 and was trad­ing at $800 when the day ended.

“It is rare for gold to achieve such a huge one-day gain. In fact, I checked my records for the past twenty years and found only one other instance when gold climbed $50 or more in a day. Inter­est­ingly, the other occur­rence was on Sep­tem­ber 17, 2008, barely two months ago. That rally also took gold back above $800.

“That these two ral­lies — unique and rare in their mag­ni­tude — occurred so near to one another is sig­nif­i­cant. Is there a mes­sage from these two events? Yes, indeed!

“Gold itself is telling us two things. First, there is an enor­mous short posi­tion in gold. Huge ral­lies occur for a rea­son, and short cov­er­ing is always a fac­tor. In order to limit their losses, shorts will bid up the mar­ket in a des­per­ate attempt to cover their posi­tion. The rule of thumb is straight­for­ward — the big­ger the short posi­tion, then the big­ger the rally.

“Sec­ond, and more impor­tantly, these huge ral­lies are sig­nal­ing that gold under $800 is too cheap. A higher price is needed to bring sup­ply and demand back into balance.

“There is other, more than ample evi­dence to sup­port this same con­clu­sion. The demand for phys­i­cal metal remains strong.

“Friday’s trad­ing action adds to the grow­ing body of evi­dence that the cor­rec­tion in gold that began after mak­ing a new record high in March above $1,020 is end­ing. The low in gold in all like­li­hood is prob­a­bly in place. The $700 level has been tested and re-tested, and the huge ral­lies launched from prices below $800 mean that other attempts to take gold into the $700s will be met with good demand.

“Gold remains in a bull mar­ket, and so does sil­ver. National cur­ren­cies are in a bear mar­ket. Get ready for the next leg in the pre­cious metal’s ongo­ing bull market.”

Source: James Turk, Gold­Money, Novem­ber 24, 2008.

The Aus­tralian: Perth Mint sus­pends orders amid rush to buy bul­lion “Fears of the unknown long-term effects from the global finan­cial cri­sis have sparked a new gold rush.

“With retail and whole­sale clients around the world stock­ing up on the pre­cious metal, the Perth Mint has been forced to sus­pend orders.

“As the World Gold Coun­cil reported that the dol­lar demand for gold reached a quar­terly record of $US32 bil­lion in the third quar­ter, indus­try insid­ers said the race to secure phys­i­cal gold had reached an inten­sity that had never been wit­nessed before.

“Perth Mint sales and mar­ket­ing direc­tor Ron Cur­rie said the unprece­dented demand had forced the Mint to cease orders until Jan­u­ary, with staff work­ing seven days a week, 24-hour days, over three shifts to meet orders.

“He said Europe was lead­ing the demand, with Rus­sia, Ukraine, Mid­dle East and US all buy­ing — mak­ing up 80% of its sales.

“‘We have never seen this before and are work­ing right at capac­ity. And we are see­ing it from clients in the shop buy­ing one ounce, right up to 30,000 ounces from over­seas clients,’ Mr Cur­rie said.”

Source: Sarah-Jane Tasker, The Aus­tralian, Novem­ber 22, 2008.

Mike Wit­tner (Société Générale): Oil prices sus­cep­ti­ble to fur­ther delever­ag­ing “Unless oil prices melt down again this week, Opec will not cut pro­duc­tion at this weekend’s infor­mal meet­ing in Cairo and instead will wait until the cartel’s gath­er­ing in Decem­ber to reduce out­put quo­tas by 1 mil­lion to 1.5 mil­lion bar­rels a day, says Mike Wit­tner, global head of oil research at Société Générale.

“Mr Wit­tner says that Opec sim­ply does not have enough infor­ma­tion on the effec­tive­ness of the pro­duc­tion cuts that it has already made, or suf­fi­cient feed­back from its cus­tomers, to pro­ceed with fur­ther reduc­tions in out­put. ‘We see (a deci­sion to main­tain cur­rent pro­duc­tion quo­tas) as a 60–40 prob­a­bil­ity and the out­come of the meet­ing could eas­ily be affected by price action this week,’ says Mr Wit­tner, who notes that sig­nals from Opec have been mixed so far.

“Mr Wit­tner says tanker track­ing data sug­gest there has been a ‘very sig­nif­i­cant cut’ in Opec’s oil pro­duc­tion in Novem­ber, down 1.2 mil­lion bar­rels a day com­pared with October.

“But Soc­Gen says fun­da­men­tals will be per­ceived to be weak until the mar­ket becomes con­vinced Opec has cut sup­plies, given that a tanker requires six weeks to travel from the Per­sian Gulf to the US. Only then will November’s cuts appear in lower crude imports and stocks, which is what the mar­ket wants to see.

“‘Oil prices will remain sus­cep­ti­ble to fur­ther delever­ag­ing (by hedge funds) and cau­tion remains the order of the day,’ con­cludes Mr Wittner.”

Source: Mike Wit­tner, Société Générale (via Finan­cial Times), Novem­ber 25, 2008.

Finan­cial Times: EU’s stim­u­lus plan met with doubts “The Euro­pean Union’s pro­posal on Wednes­day for a €200 bil­lion eco­nomic stim­u­lus plan for the bloc was met by imme­di­ate doubts on whether mem­ber states would back the mea­sures aimed at avoid­ing a deeper recession.

“The pro­posal envis­ages that about €170 bil­lion would be con­tributed by the bloc’s 27 mem­ber states through tax and infra­struc­ture plans. The Euro­pean Com­mis­sion and the Euro­pean Invest­ment Bank would pro­vide the remain­ing €30 bil­lion, partly through the accel­er­ated pay-out of selected spend­ing programmes.

“The pack­age, which is larger than expected, rep­re­sents about 1.5% of the EU’s gross domes­tic prod­uct. It needs to be reviewed by EU finance min­is­ters next week and by gov­ern­ment lead­ers in mid-December.

“Econ­o­mists and politi­cians quickly ques­tioned whether all mem­ber states would step up as required or whether indi­vid­ual gov­ern­ments’ responses would diverge from the Commission’s sug­gested measures.

“Ana­lysts at Cap­i­tal Eco­nom­ics, the con­sul­tants, said: ‘The pro­posed boost has yet to be agreed by mem­ber states and would sadly not do enough to bring Euro­pean economies out of the gloom for some time anyway.’

“Busi­ness Europe, the main busi­ness lobby group in Brus­sels, agreed with the pro­pos­als but said a ‘clear com­mit­ment from EU mem­ber states’ was needed to imple­ment stim­u­lus pack­ages of at least 1.2% of GDP.”

Source: Nikki Tait, Finan­cial Times, Novem­ber 26, 2008.

BBC News: Boost for Span­ish and Ital­ian economies “Spain and Italy have announced plans worth bil­lions of euros to kick-start their economies.

“Italy approved an 80 bil­lion euro emer­gency pack­age that included tax breaks for poorer fam­i­lies, pub­lic works projects and mort­gage relief.

“Spain unveiled an 11 bil­lion euro plan aimed at cre­at­ing 300,000 jobs.

“The announce­ments are the lat­est in a series of attempts by EU gov­ern­ments to shore up their economies as the finan­cial cri­sis bites.

“Ital­ian Prime Min­is­ter Sil­vio Berlus­coni called on to Ital­ians to keep on spend­ing. ‘We have helped cit­i­zens, the less well off, so that they can con­tinue to con­sume,’ he said. ‘The inten­sity and dura­tion of the cri­sis depends on all of us.’

“Spain’s Prime Min­is­ter, Jose Luis Rodriguez Zap­a­tero, said the money will be mainly invested in infra­struc­ture and pub­lic works.

“Spain’s unem­ploy­ment reached 12.8% in Octo­ber — the high­est in the eurozone.”

Source: BBC News, Novem­ber 28, 2008.

BBC News: Ger­man busi­ness con­fi­dence dives “Busi­ness con­fi­dence in Ger­many fell in Novem­ber to the low­est level since 1993, accord­ing to the key Ifo eco­nomic cli­mate index. The index, based on a poll of 7,000 com­pa­nies, has dropped for six con­sec­u­tive months, the Munich-based Ifo insti­tute said.

“The index stands now at 85.8, down 4.4 points from October.

“‘The down­turn has wors­ened and will now have an impact on the labour mar­ket,’ Ifo said in a statement.

“Germany’s exports have been hard hit by falling demand world­wide, with some auto mak­ers seek­ing state help to main­tain production.

“On Fri­day another key indi­ca­tor, the Markit pur­chas­ing man­agers’ index, revealed that busi­ness activ­ity in the 15 coun­tries shar­ing the euro had fallen in Novem­ber to a ten-year low.”

Sources: BBC News, Novem­ber 24, 2008 and Vic­to­ria Marklew, North­ern Trust — Daily Global Com­men­tary, Novem­ber 24, 2008.

Finan­cial Times: Euro­zone set for rate cut of at least 50bp “Euro­zone offi­cial inter­est rates are almost cer­tain to be slashed again next week by at least half a per­cent­age point after a sur­vey on Thurs­day showed the region fac­ing its worst down­turn since the reces­sion of the early 1990s.

“Eco­nomic con­fi­dence in the 15-country region crashed this month to its low­est point since August 1993, the Euro­pean Com­mis­sion reported. With infla­tion also falling rapidly, the Euro­pean Cen­tral Bank has not sought to stop finan­cial mar­kets assum­ing its main inter­est rate will be cut next Thurs­day from 3.25% to 2.75% or below.

“Pub­lic ECB com­ments show the bank remains cau­tious about the pace of cuts, point­ing to a half-point reduc­tion next week — the same as in Octo­ber and this month. But eco­nomic news has been con­sis­tently gloomier than expected, strength­en­ing the case for a larger cut.”

Source: Ralph Atkins, Finan­cial Times, Novem­ber 27, 2008.

Finan­cial Times: UK tax hit to fund £20 bil­lion fis­cal stim­u­lus “Tax­pay­ers face six years of aus­ter­ity, pay­ing for the con­se­quences of reces­sion and a £20 bil­lion fis­cal stim­u­lus unveiled on Mon­day by Alis­tair Dar­ling as he detailed the most dis­mal Bud­get out­look seen since 1993.

“National insur­ance con­tri­bu­tions for both employ­ees and employ­ers will rise by 0.5%. Those earn­ing more than £100,000 will pay more income tax — with those on £150,000 fac­ing a new higher tax rate of 45% — and pub­lic spend­ing faces its biggest squeeze for 15 years — although all these mea­sures will not kick in until 2011, well after the next elec­tion. The tax claw­back would leave some­one earn­ing £150,000 pay­ing an extra £3,040 in tax.

“Mr Dar­ling detailed the planned tax rises and spend­ing restraint as he sought to show the City and for­eign investors that Britain had a clear plan to restore pru­dence to the pub­lic finances after truly shock­ing fore­casts for pub­lic bor­row­ing in the next two years.

“Pub­lic bor­row­ing will hit a record level of £118 bil­lion in 2009-10 and will fall to a level the gov­ern­ment con­sid­ers pru­dent only in 2015–16, far later than City fore­casts had expected.

“Gov­ern­ment debt will blast through the cur­rent 40% of national income limit, rac­ing to 57% in 2012–13, when it will top the £1,000 bil­lion mark for the first time.

“Britain’s out­put will con­tinue to fall until the sec­ond half of next year, the chan­cel­lor added, as he pre­sented a gloomy fore­cast with the reces­sion mit­i­gated only in part by the fis­cal boost deliv­ered pre­dom­i­nantly through a 2.5 per­cent­age point cut in value added tax from next week and last­ing until the end of 2009.

“Over the next year, the cut in the VAT rate to 15% will be aug­mented by £2.5 bil­lion of addi­tional cap­i­tal expen­di­ture projects brought for­ward from 2010-11, a £60 pay­ment to every pen­sioner, an ear­lier increase in child ben­e­fit and a defer­ral in the planned increases in vehi­cle excise duties.

“Mr Dar­ling also used the cri­sis to stage a series of tac­ti­cal retreats from ear­lier deci­sions, announc­ing a rethink of his plans to reform air pas­sen­ger taxes and an exemp­tion from tax for the div­i­dends of UK com­pa­nies’ for­eign subsidiaries.

“Together the Trea­sury assumes the £20 bil­lion pack­age — about 1% of national income for a lit­tle over a year — will pre­vent the econ­omy sink­ing by a fur­ther 0.5%, although Mr Darling’s fore­cast was for a con­trac­tion of 0.75% to 1.25% in 2009.”

Source: Chris Giles and George Parker, Finan­cial Times, Novem­ber 24, 2008.

James Pressler (North­ern Trust): China — get­ting seri­ous about the slow­ing econ­omy “The People’s Bank of China (PBoC) slashed its bench­mark one-year loan and deposit rates by 108 basis points apiece today [Wednes­day], reduc­ing them to 5.58% and 2.52%, respec­tively. This dra­matic move comes well after the indus­tri­al­ized economies coör­di­nated a major mon­e­tary eas­ing — most cen­tral banks have already turned their atten­tion toward liq­uid­ity con­cerns and an even­tual global reces­sion. Only three months ago, Bei­jing had a proac­tive mind­set, think­ing about eco­nomic stim­u­lus to com­pen­sate for the post-Games lull and a gen­eral slow­down in global pro­duc­tion. The first ques­tion that comes to our mind is why does the gov­ern­ment sud­denly seem to be lag­ging in its response?

“One fact worth not­ing is that the imme­di­ate eco­nomic impact on the Chi­nese econ­omy has not been as clear-cut as in the indus­tri­al­ized coun­tries. The Olympic Games threw in plenty of dis­trac­tions and had wide­spread effects on eco­nomic indi­ca­tors. Retail sales were pos­i­tively impacted from the many tourists flood­ing into the coun­try, but con­versely, indus­trial pro­duc­tion fell off as many fac­to­ries closed in response to tem­po­rary anti-pollution mea­sures. The con­clu­sion of numer­ous infra­struc­ture projects shifted flows of goods and inputs, and plenty of other one-off fac­tors added a lot of noise to China’s eco­nomic sta­tis­tics. Only after the Games passed and some of those fac­tors fell from the cal­cu­la­tions did a clearer pic­ture emerge, and the trends are not promis­ing. Indus­trial pro­duc­tion con­tin­ues to fall, and monthly export growth is show­ing signs of weakness.

“To be fair, the PBoC issued minor rate cuts over the past three months, and the gov­ern­ment did offer a sup­ple­men­tary fis­cal stim­u­lus pack­age. Today’s more dra­matic move sug­gests that PBoC offi­cials are now firmly con­vinced that China will be join­ing the rest of the world in a sig­nif­i­cant eco­nomic slow­down. Some fore­casts recently sug­gested that after GDP growth of nearly 12% in 2007, the econ­omy could slow to below 10% this year and per­haps 7.5% in 2009. While the growth rate itself is still envi­able, offi­cials in Bei­jing real­ize all too well that a decel­er­a­tion of over four per­cent­age points will not go unno­ticed, and they will likely be tak­ing more action before the year is up.”

Source: James Pressler, North­ern Trust — Daily Global Com­men­tary, Novem­ber 26, 2008.

Bloomberg: China reserves to pass $2 tril­lion; Russia’s fall “China’s foreign-exchange reserves may top $2 tril­lion for the first time by the end of this year, giv­ing the world’s most-populous nation more fire­power to stim­u­late its econ­omy dur­ing a global recession.

“China’s hold­ings increased 25% in the first nine months of the year to stand at $1.906 tril­lion on Sep­tem­ber 30. Reserves shrank in Japan and Rus­sia, the nations with the sec­ond– and third-largest stock­piles. Rus­sia drained a quar­ter of its cur­rency and gold assets in less than four months to prop up the ruble, which has dropped 14% since June 30.”

Source: Lee J. Miller and Zhang Ding­min, Bloomberg, Novem­ber 28, 2008.

Bre­it­bart: Ana­lysts — India econ­omy will be OK despite attacks “The ter­ror attacks that rocked India’s finan­cial cap­i­tal may depress stocks, dampen tourism and slow new invest­ment, but are unlikely to inflict long-term dam­age on the nation’s econ­omy, ana­lysts and busi­ness peo­ple said Thursday.

“‘This is a chal­lenge for the gov­ern­ment to main­tain law and order in the coun­try,’ said Takahira Ogawa, direc­tor of sov­er­eign rat­ings at Stan­dard & Poor’s in Sin­ga­pore. ‘At this stage, I don’t think there will be any major impact on the macro­eco­nomic or fis­cal posi­tion of the government.’

“The attacks, which began Wednes­day night when gun­men invaded two posh hotels, a restau­rant and sev­eral other sites in down­town Mum­bai, came as India was strug­gling to con­tain fall­out from the global finan­cial crisis.

“For­eign investors have already pulled $13.5 bil­lion out of the nation’s stock mar­ket this year, dri­ving the bench­mark Sen­sex index down 57% and pun­ish­ing the rupee. Liq­uid­ity has dried up, eco­nomic growth is slow­ing and peo­ple are spend­ing less money.

“The attacks are ‘a chal­lenge to the eco­nomic resur­gence in India’, said Habil Kho­raki­wala, chair­man of Wock­hardt, an Indian phar­ma­ceu­ti­cal company.

“‘The tar­gets iden­ti­fied clearly demon­strate that the inten­tion is to cre­ate panic and shat­ter the con­fi­dence in the minds of investors in India and global investors com­ing to India,’ he said in a state­ment. ‘This war has to be fought together by all across, to pro­tect the safety of Indian peo­ple, for eco­nomic resur­gence and growth of the Indian nation.’”

Source: Bre­it­bart, Novem­ber 27, 2008.

BBC News: Saudi Ara­bia cuts inter­est rate “Saudi Ara­bia has cut a key inter­est rate and taken steps to encour­age lend­ing as it faces the slow­down. The cen­tral bank reduced the repo inter­est rate from 4% to 3%, in an attempt to boost liq­uid­ity. It also reduced the cash reserve require­ments for banks, seen as a way to improve the avail­abil­ity of credit.

“The move came a day after the bench­mark Tadawul All Share Index fell to its low­est level in five years, hit by the global slow­down and falling oil prices. The index shed 9.2% on Sat­ur­day, the start of its trad­ing week. Since the start of the year the index is down more than 60%.

“The Gulf region has been hard hit by a huge fall in oil prices, a key export. Oil prices are around two thirds lower than they were in July when they hit a record above $147 a barrel.”

Source: BBC News, Novem­ber 23, 2008.

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'Encouraged by a wicked wizard, Greenspan, Bernanke toils at his printing press'

Friday, November 28th, 2008

The Guardian has pub­lished below, an insight-full essay by Hugh Hendry, CIO, Eclec­tica Asset Man­age­ment. Hendry's brash and elo­quent com­men­tary has earned him a rep­u­ta­tion which he best per­son­ally describes as heresy, as many in the City of Lon­don have tried at times to dis­miss his bold and con­tro­ver­sial views.

Again, Hendry closes in on his deci­sion to be long the long gov­ern­ment bonds, as he con­tends that long term rates will come down as cen­tral banks glob­ally, have lit­tle choice but to fol­low the Fed to lower inter­est rates over the next year or two.

As mar­kets liq­ui­dated in the delever­ag­ing fer­vour that has pro­lif­er­ated this year, investors have piled into short term trea­sury bills and money mar­ket instru­ments. As sen­ti­ment for equity mar­kets and com­modi­ties con­tin­ues to wane, its start­ing to appear more likely that short term bond money will go in search of yield fur­ther along the yield curve, and as it does the rather steep yield curves should flatten.

Here's another thought. What incen­tive does the US gov­ern­ment have for reviv­ing the stock mar­ket? After all, where else are they going to get the money to pay for a trillion-dollar war and a trillion-dollar bailout, but the bond mar­ket? It would serve gov­ern­ment if an entire seg­ment of investors fled into the longer (dura­tion) end of bond the mar­ket for cap­i­tal safety so as to indem­nify those at the print­ing presses.

The Wiz­ard of Oz must be one of the creepi­est sto­ries ever told.

"The past 30 years of eco­nomic his­tory may have pro­duced a daunt­ing sequel to the orig­i­nal Wiz­ard of Oz, writ­ten by Frank Baum.

By Hugh Hendry
Last Updated: 10:59AM GMT 27 Nov 2008

Fol­low the yel­low brick road to get a pic­ture of where we are

Peo­ple blame this cri­sis on cheap money and greedy bankers. They cer­tainly can­not be exempted. But I take a more fatal­ist point of view. There has to be a rea­son for humans to die off in their 70s and 80s. I believe it is so that the mem­ory of a generation's mis­takes is erased, allow­ing future ages to repeat the folly of greed and fear.

Because of this, I spend a lot of time reflect­ing on social mood and behav­iour. Pop­u­lar fic­tion is a par­tic­u­lar fas­ci­na­tion; I believe it pro­vides a mind map of the social con­science. The Wiz­ard of Oz is a per­sonal favourite. I would con­tend that bull­ish mar­kets pro­duce feel-good films, like Dis­ney ani­ma­tion; that bear mar­kets pro­duce depic­tions of hor­ror and fore­bod­ing (think Ham­mer House of Hor­ror in the 1970s and SAW, its mod­ern equiv­a­lent); and that social mood is linked to stock mar­ket patterns.

The orig­i­nal Frank Baum story was writ­ten as a polit­i­cal alle­gory of America's entry on to the gold stan­dard in 1879. The stric­tures of sound money coin­cided with a vibrant post Civil War econ­omy. The result was defla­tion: prices fell by 1.7pc pa between 1875 and 1896. The farmer, as depicted by the scare­crow, was held cap­tive by falling agri­cul­tural prices and mort­gages owed to the big banks, the wicked witch of the east. The spell of tight mon­e­tary pol­icy cast a pall over the poor tin woods­man: every time he swung his axe, he chopped off part of his body. It was a depic­tion of the economy's shut­tered and rust­ing factories.

The easy-money crowd, Bernanke and Greenspan's great grand­fa­thers per­haps, argued the respon­si­bil­ity for the economy's woes lay with an insuf­fi­cient mon­e­tary response. The gold mar­ket had a scarcity that choked the US econ­omy into serfdom.

Instead, the pop­ulists' man­i­festo called for the read­mis­sion of more plen­ti­ful sil­ver coinage into the sys­tem – a point cap­tured by Dorothy's sil­ver slip­pers (Hol­ly­wood changed them to ruby) as she skipped along the yel­low brick road (the gold stan­dard). Print more money and remove us from penury. Con­sec­u­tive pres­i­den­tial elec­tions were con­tested on such a return to bimet­allism in 1896 and 1900. Sur­pris­ingly, the easy-money crowd, proved unsuc­cess­ful; they were defeated by pow­er­ful bankers such as JP Mor­gan. How­ever, the story ends with the good witch of the south (the pop­u­lace) proph­esy­ing that Dorothy's sil­ver slip­pers (easy-money pol­icy) are so pow­er­ful they can ful­fil her every wish. This utopia was made pos­si­ble just 13 years later with the for­ma­tion of the Fed­eral Reserve. The tin man and the scare­crow would have a more for­giv­ing lender of last resort after all and 71 years later the wiz­ard, called Nixon, went one step fur­ther and abol­ished the need for gold and sil­ver ounces (Oz) when the US reneged on its Bret­ton Woods com­mit­ment to sound money.

Of course, today we could be watch­ing a com­pa­ra­ble para­ble unfold. The past 30 years of eco­nomic his­tory may have pro­duced a daunt­ing sequel. I would sug­gest tomorrow's fic­tion will prove much darker, per­haps in the image of Goethe's Faust.

The story would fea­ture an appren­tice printer called Bernanke. Encour­aged by a wicked wiz­ard, Greenspan, he toils at his print­ing press night and day pro­duc­ing reams of paper money. At first his mon­e­tary accom­mo­da­tion seems to bring unbri­dled pros­per­ity. Boom fol­lows boom, as the busi­ness cycle is seem­ingly abol­ished, house prices grow to the sky and his polit­i­cal stock rises. In time, the scare­crow is bought-off by crop sub­sidy; the tin man vaca­tions in Vegas, hav­ing refi­nanced his mort­gage for the 13th time. And the sorcerer's appren­tice is pro­moted to top wizard.

How­ever, Greenspan, now in retire­ment, finally reveals his scheme has brought only "bogus riches". The print­ing presses have cre­ated a "zero-sum game" where dol­lars lose their pur­chas­ing power against God's brew of pre­cious met­als. The pop­u­lace begins to save. Spend­ing is reined in. Even the cor­po­rate sec­tor suf­fers. With con­sumers no longer spend­ing, there are no prof­its. Shares slump and the fiat king­dom col­lapses in anarchy.

And that is pretty much where we are today.

I with­drew my hard-earned money from a bank this sum­mer. But it may sur­prise you to learn that I bought gov­ern­ment bonds of long dura­tion. Surely I should have bought gold? Except that I believe the way to make money is to seek oppor­tu­ni­ties through paradox.

And therein lies our brinkman­ship: every­one has skipped our story and read the con­clu­sion. They fear finan­cial anar­chy. Gold coins are sold out. Every­one is in. And yet the price of gold has fallen this year. So, for now, I would stick with the bonds. The 18-year British gilt yields 4.8pc but, with the Bank of Eng­land likely to fol­low the Fed and slash rates to 1pc, I believe we could see gilt yields below 3pc. And I promise you that if bond yields broke 3pc there would be a stam­pede to buy.

At this stage gold might trade close to $500, and those who missed its rally from 2002 would have the solace of schaden­freude when in real­ity they should be buy­ing the stuff and sell­ing their bonds. What deli­cious irony: defla­tion­ists and infla­tion­ists could both claim to be right. But how many will have profited?

Hugh Hendry is the co-founder of Eclec­tica Asset Management."

Tags: Agricultural Prices, Bailout, Banks, Bear Market, Bear Markets, Bernanke, Bond Market, Bond Money, Bond Yields, Bonds, Br, BRIC, Central Banks, Cheap Money, City Of London, Collapse, Commodities, Controversial Views, Deflation, Desc, Disney Animation, Dollar, Dollar War, Dow, Eclectica, Eclectica Asset Management, Eco, Economy, Eloquent Commentary, Equity Market, Fed, Federal Reserve, fiat, Frank Baum, Gold, Good Films, Government Bonds, Greed And Fear, Hugh Hendry, Img, inflation, interest rates, Investors, Loc, Market Patterns, Markets, Metals, Monetary Policy, Money, Money Crowd, Money Market Instruments, Mortgage, oil, People, Political Allegory, Post Civil War, precious metals, Printing Presses, Prosperity, Rally, REW, risk, Scarcity, Sentiment, Silver, SMI, Social Conscience, Social Mood, Sound Money, Stock Market, Stuff, Term Bond, Tight Monetary Policy, Tin Woodsman, Treasury Bill, Treasury Bills, Trillion, UK, Us Government, War Economy, Wicked Witch Of The East, Wicked Wizard, Wizard Of Oz, Yellow Brick Road, Yield Curve, Yield Curves
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Credit Crisis Watch (November 28, 2008)

Friday, November 28th, 2008

For the world’s finan­cial sys­tem to start func­tion­ing nor­mally again, it is imper­a­tive that con­fi­dence in the credit mar­kets be restored. In order to gauge the progress being made to unclog credit mar­kets, I reg­u­larly mon­i­tor a range of finan­cial sec­tor spreads and other mea­sures. By perus­ing these one can ascer­tain to what extent the var­i­ous cen­tral bank liq­uid­ity facil­i­ties and cap­i­tal injec­tions are hav­ing the desired effect.

I am plan­ning on updat­ing this “Credit Cri­sis Watch” reg­u­larly as I believe a grip on the credit sit­u­a­tion will be key to deter­min­ing the appro­pri­ate invest­ment strategy.

First up is the three-month dol­lar LIBOR rate. After hav­ing peaked on Octo­ber 10 at 4.82%, the rate declined sharply to 2.13% on Novem­ber 12, but the heal­ing process has since expe­ri­enced a set­back with the rate edg­ing up to 2.18%. LIBOR trades at 118 basis points above the Fed’s tar­get rate of 1.0%, com­pared with 43 basis points at the start of the year.

Source: StockCharts.com

Impor­tantly, the US three-month Trea­sury Bills are trad­ing at a minus­cule 0.071%, indi­cat­ing that liq­uid­ity is still being hoarded.

US three-month Trea­sury Bill rate

Source: The Wall Street Journal

The TED spread (i.e. three-month dol­lar LIBOR less three-month Trea­sury Bills) is a mea­sure of per­ceived credit risk in the econ­omy. This is because T-bills are con­sid­ered risk-free while LIBOR reflects the credit risk of lend­ing to com­mer­cial banks. An increase in the TED spread is a sign that lenders believe the risk of default on inter­bank loans (also known as coun­ter­party risk) is increas­ing. On the other hand, when the risk of bank defaults is con­sid­ered to be decreas­ing, the TED spread narrows.

Since the TED spread’s peak of 4.65% on Octo­ber 10, the mea­sure eased to 1.75%, but has since wors­ened to 2.10%.

Source: Fuller­money

The dif­fer­ence between the LIBOR rate and the overnight index swap (OIS) rate is another mea­sure of credit mar­ket stress.

When the LIBOR-OIS spread is increas­ing, it indi­cates that banks believe the other banks they are lend­ing to have a higher risk of default­ing on the loans so they are charg­ing a higher inter­est rate to off­set this risk. The oppo­site applies to a nar­row­ing LIBOR-OIS spread.

The move­ment in the LIBOR-OIS spread over the past few weeks is sim­i­lar to the TED spread and shows that credit mar­kets are still not func­tion­ing smoothly.

Source: Fuller­money

As far as com­mer­cial paper is con­cerned, the A2P2 spread mea­sures the dif­fer­ence between A2/P2 (low qual­ity) and AA (high qual­ity) 30-day non-financial com­mer­cial paper. Although the spread has declined from a record high of 4.83% to 4.27%, it remains at an ele­vated (i.e. cri­sis) level.

Source: Fed­eral Reserve Release — Com­mer­cial Paper

Sim­i­larly, junk bond yields con­tinue to scale new highs as shown by the Mer­rill Lynch US High Yield Index.

Source: Mer­rill Lynch Global Index System

Another indi­ca­tor worth keep­ing an eye on is the Barron’s Con­fi­dence Index. This Index is cal­cu­lated by divid­ing the aver­age yield on high-grade bonds by the aver­age yield on intermediate-grade bonds. The dis­crep­ancy between the yields is indica­tive of investor con­fi­dence. A declin­ing ration indi­cates that investors are demand­ing a lower pre­mium in yield for increased risk, show­ing wan­ing con­fi­dence in the economy.

Source: I-Net Bridge

Accord­ing to Markit, the cost of buy­ing credit insur­ance for US and Euro­pean com­pa­nies eased some­what over the past week as shown by the nar­rower spreads (basis points) for the fol­low­ing credit indices:

• CDX (North Amer­i­can, invest­ment grade) Index: down from 267 to 233
• CDX (North Amer­ica, high yield) Index: down from 1,546 to 1,376
• Markit iTraxx Europe Index: down from 183 to 163
• Markit iTraxx Europe Crossover Index: down from 915 to 869
• Markit iTraxx Japan Index: down from 350 to 320
• Markit iTraxx Asia ex Japan IG Index: down from 452 to 360
• Markit iTraxx Asia ex Japan HY Index: down from 1,375 to 1,218

The graphs of the CDX Indices are shown below, with the red line indi­cat­ing the spreads eas­ing over the past few days.

CDX (North Amer­i­can, invest­ment grade) Index

Source: Markit

CDX (North Amer­ica, high yield) Index

Source: Markit

Lastly, some CDS sta­tis­tics as at Novem­ber 26, cour­tesy of Markit. These prices rep­re­sent the cost per year to insure $10,000 of debt for five years. For exam­ple, Italy is in most trou­ble among the G7 coun­tries with a cost of $139 per year to insure $10,000 of debt.

It is note­wor­thy that the US and UK CDSs are trad­ing at record lev­els as unease over the level of national debt takes its toll on their sov­er­eign credit risk.

The TED and the LIBOR-OIS spreads have eased (i.e. nar­rowed) since the panic lev­els of Octo­ber 10, whereas the CDX and iTraxx indices have also shown some improve­ment over the past few days. How­ever, US Trea­sury Bills and high-yield spreads are still at dis­tressed levels.

In sum­mary, although some progress has been made as a result of cen­tral banks’ liq­uid­ity facil­i­ties and cap­i­tal injec­tions, the credit mar­kets are not yet thawing.

Tags: Asia, Bank Liquidity, Banks, Basis Point, Basis Points, Bond Yields, Bonds, Br, Capital Injections, CDS, Central Banks, Chart, Commercial Banks, Credit, Credit Crisis, Credit Market, Credit Markets, Credit Risk, Credit Situation, Desired Effect, Diffe, Dollar, Dow, Eco, Economy, Euro, Fed, Federal Reserve, Financial Sector, Healing Process, high yield, Img, Information, Investment, Investment Strategy, Investors, Italy, Japan, Libor Rate, liquidity, Markets, Measures, Merrill Lynch, Mining, Money, Overnight Index Swap, risk, Setback, spreads, T Bills, Target, Target Rate, Trading, Treasury Bill, Treasury Bill Rate, Treasury Bills, UK, Us Treasury, Wall Street, Wall Street Journal
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Bill Ackman: Pershing Square Q3 2008 Letter

Thursday, November 27th, 2008

Per­sh­ing Square Q3 2008 Investor Let­ter
by Bill Ack­man, Novem­ber 15, 2008 at 11:44 pm

These are extra­or­di­nary times par­tic­u­larly for active par­tic­i­pants in the cap­i­tal mar­kets. While I do not nor­mally choose to write about macro and reg­u­la­tory events, I thought it would be use­ful for you to under­stand how we think about recent events and their impact on our portfolio.

We are cur­rently wit­ness­ing the great­est delever­ag­ing event in his­tory. What began as a credit bub­ble burst­ing has now spread to the equity mar­kets as banks, invest­ment banks, hedge funds, struc­tured prod­ucts, mutual funds, pen­sion funds, endow­ments and other lever­aged and unlever­aged mar­ket par­tic­i­pants have been forced to liq­ui­date assets by their coun­ter­par­ties, lever­age providers, redeem­ing clients, and as a result of down­grades, other debts or other com­mit­ments that need to be funded.

These actions have led to forced and indis­crim­i­nate sell­ing in secu­rity mar­kets around the world, which in turn has caused other investors to panic or sim­ply to sell, to get out of the way of other forced sellers.

As a fund which is gen­er­ally sub­stan­tially more long than short, we have also suf­fered large mark-to-market declines in our long invest­ments. Year to date, how­ever, our per­for­mance has sub­stan­tially exceeded that of the broader equity mar­kets, which at this writ­ing have seen a more than 34% decline. Our out­per­for­mance is largely due to large gains on our invest­ments in Longs Drugs and Wachovia Cor­po­ra­tion as well as prof­its on our credit default swap and other short expo­sures. Our mar­ket losses have been fur­ther mit­i­gated because we oper­ate unlever­aged and have sub­stan­tial cash bal­ances. Cur­rently, we have cash and near-cash (Longs Drugs and Wachovia/Wells Fargo long/short) equal to approx­i­mately 39% of our capital.

When, you might ask, will the sell­ing end? While I don't pro­claim to be a mar­ket prog­nos­ti­ca­tor, I will make a few obser­va­tions. Unlike the delever­ag­ing that takes place when banks and other finan­cial insti­tu­tions sell assets to meet reg­u­la­tory require­ments, which is typ­i­cally a longer term process, the forced delever­ag­ing that is now tak­ing place in the equity mar­kets is being imple­mented largely by the prime bro­ker­age firms and mar­gin account man­agers at bro­ker deal­ers around the world. Prime bro­kers are not known to be lag­gardly in their approach to liq­ui­dat­ing an account that no longer meets mar­gin require­ments. This is likely to be even more true in the cur­rent envi­ron­ment. As such, it may be rea­son­able to con­clude that the forced liq­ui­da­tion that is now tak­ing place may not be a pro­longed process.

Secu­rity prices around the world have come down tremen­dously. In the larger cap­i­tal­iza­tion U.S. mar­kets, which are the focus of our strat­egy, the reduc­tions have been sub­stan­tial. As of the mar­ket close on Octo­ber 31st, the S&P 500 is down 34.0%, year to date, and down by 37.5% from its high on Octo­ber 31, 2007; and this is after last week's rally in which the S&P 500 rose more than 12% from the lows. Unlike the bear mar­ket of 1973 and 1974, in which stocks declined by 45% from the highs, this bear mar­ket was not pre­ceded by the "Nifty 50" bub­ble in which large cap­i­tal­iza­tion growth stocks traded at extra­or­di­nary val­u­a­tions. While val­u­a­tions were not cheap one year ago, in a long-term his­tor­i­cal con­text, the mar­ket as a whole (par­tic­u­larly if one were to exclude finan­cials) was not par­tic­u­larly expen­sive either.

As such, in today's mar­ket, we are find­ing extra­or­di­nary bar­gains, the kinds of oppor­tu­ni­ties that are nor­mally asso­ci­ated with mar­ket bot­toms. While there are still weak and poorly cap­i­tal­ized busi­nesses that are likely still over­val­ued, the high qual­ity, well-capitalized, larger cap­i­tal­iza­tion busi­nesses which are the focus of our strat­egy look very cheap to us.

While this means that now is likely to be a much bet­ter time to be a buyer rather than a seller, it does not mean that the mar­ket will not con­tinue to decline, even sub­stan­tially, from cur­rent lev­els, par­tic­u­larly in the short term. In fact, because of tax-loss sell­ing over the next 60 or so days, there will likely be addi­tional sell­ing pres­sure. At some point, how­ever, the forced sell­ing will come to an end. Large amounts of cash are sit­ting on the side­lines wait­ing to be deployed when investors feel the coast is clear. In the event the mar­ket were to start to rise again, it would not be a sur­prise to see insti­tu­tional, retail, and hedge fund investors rapidly deploy cap­i­tal so as not to miss a, per­haps, explo­sive mar­ket rally.

What does this all mean for Per­sh­ing Square? Despite the fact that we occa­sion­ally have an opin­ion, we spend lit­tle time try­ing to out­guess mar­ket prog­nos­ti­ca­tors about the short-term future of the mar­kets or the econ­omy for the pur­pose of decid­ing whether or not to invest. Since we believe that short-term mar­ket and eco­nomic prog­nos­ti­ca­tion is largely a fool's errand, we invest accord­ing to a strat­egy that makes the need to rely on short-term mar­ket or eco­nomic assess­ments largely irrelevant.

Our strat­egy is to seek to iden­tify busi­nesses and occa­sion­ally col­lec­tions of assets which trade in the pub­lic mar­kets for which we can pre­dict with a high degree of con­fi­dence their future cash flows — not pre­cisely, but within a rea­son­able band of out­comes. We seek to iden­tify com­pa­nies which offer a high degree of pre­dictabil­ity in their busi­nesses and are rel­a­tively immune to extrin­sic fac­tors like fluc­tu­a­tions in com­mod­ity prices, inter­est rates, and the eco­nomic cycle. Often, we are not capa­ble of pre­dict­ing a busi­ness' earn­ings power over an extended period of time. These invest­ments typ­i­cally end up in the "Don't Know" pile.

Because we can­not pre­dict the eco­nomic cycles with pre­ci­sion, we look for busi­nesses which are cap­i­tal­ized to with­stand dif­fi­cult eco­nomic times or even the nor­mal ups and downs of any busi­ness. If we can find such a busi­ness and it trades at a deep dis­count to our esti­mate of fair value, we have found a poten­tial invest­ment for the port­fo­lio. Next we look for the fac­tors that have led to the busi­ness' under­val­u­a­tion, and judge — based on our assess­ment of the company's gov­er­nance struc­ture, man­age­ment team, own­er­ship, and other fac­tors — whether we can effec­tu­ate change in order to unlock value. When the price is right, the busi­ness is high qual­ity, the man­age­ment is excel­lent, and there are no changes to be made, we are will­ing to make a pas­sive investment.

Our assess­ment of the short-term sup­ply and demand for secu­ri­ties plays almost no role in our deter­min­ing whether to invest cap­i­tal, long or short. If we believed that it was pos­si­ble to accu­rately pre­dict short-term mar­ket or indi­vid­ual stock price move­ments and we had the capa­bil­ity to do so our­selves, we might have a dif­fer­ent approach. Below I quote War­ren Buf­fett in his 1994 Let­ter to share­hold­ers where he per­haps says it best:

We will con­tinue to ignore polit­i­cal and eco­nomic fore­casts, which are an expen­sive dis­trac­tion for many investors and busi­ness­men. Thirty years ago, no one could have fore­seen the huge expan­sion of the Viet­nam War, wage and price con­trols, two oil shocks, the res­ig­na­tion of a pres­i­dent, the dis­so­lu­tion of the Soviet Union, a one-day drop in the Dow of 508 points, or trea­sury bill yields fluc­tu­at­ing between 2.8% and 17.4%.

But, sur­prise — none of these block­buster events made the slight­est dent in Ben Graham's invest­ment prin­ci­ples. Nor did they ren­der unsound the nego­ti­ated pur­chases of fine busi­nesses at sen­si­ble prices. Imag­ine the cost to us, then, if we had let a fear of unknowns cause us to defer or alter the deploy­ment of cap­i­tal. Indeed, we have usu­ally made our best pur­chases when appre­hen­sions about some macro event were at a peak. Fear is the foe of the fad­dist, but the friend of the fundamentalist.

A dif­fer­ent set of major shocks is sure to occur in the next 30 years. We will nei­ther try to pre­dict these nor to profit from them. If we can iden­tify busi­nesses sim­i­lar to those we have pur­chased in the past, exter­nal sur­prises will have lit­tle effect on our long-term results...

Stock prices will con­tinue to fluc­tu­ate — some­times sharply — and the econ­omy will have its ups and down. Over time, how­ever, we believe it is highly prob­a­ble that the sort of busi­nesses we own will con­tinue to increase in value at a sat­is­fac­tory rate.

I believe we will look at the cur­rent U.S. stock mar­ket val­u­a­tions for high qual­ity mid and large cap­i­tal­iza­tion busi­nesses as pre­sent­ing per­haps the best invest­ment oppor­tu­ni­ties of our lifetimes.

Port­fo­lio Update

The last quar­ter and, in par­tic­u­lar, the last few weeks have been an extra­or­di­nar­ily busy and pro­duc­tive time for Per­sh­ing Square. Dur­ing this time, we have made con­sid­er­ably more buy and sell deci­sions than usual, tak­ing advan­tage of the liq­uid­ity of our hold­ings, the enor­mous volatil­ity of the mar­ket, and new oppor­tu­ni­ties that have pre­sented them­selves in recent weeks.

In the third quar­ter, we dis­posed of our invest­ments Cad­bury PLC, Cana­dian Tire, and Aus­trian Post at prices gen­er­ally higher than cur­rent lev­els. We also dis­posed of the sub­stan­tial major­ity of our invest­ment in Sears Hold­ings. We hold a resid­ual inter­est in Sears (which rep­re­sents approx­i­mately 1.5% of fund cap­i­tal) as its price declined to a level at which it made no sense to con­tinue to sell. We rede­ployed the cap­i­tal from these sales into Wachovia Cor­po­ra­tion, which I will dis­cuss fur­ther below, as well as a new invest­ment in which we are in the process of accu­mu­lat­ing a position.

We sold these posi­tions not because we thought they would be poor invest­ments, but rather because we believed that we could rede­ploy the cap­i­tal in invest­ments that offered a more attrac­tive risk-reward pro­file. As we have often stated, we are always will­ing to sell an exist­ing hold­ing at a profit or a loss, if we can find a bet­ter use for the funds. For our tax­able investors, sales at a loss have the addi­tional ben­e­fit of off­set­ting tax­able gains.

Our sales were also moti­vated by the fact that three of the above com­pa­nies — Sears, Cana­dian Tire, and Aus­trian Post — each have a con­trol­ling share­holder. Because we believe that one of our impor­tant com­pet­i­tive advan­tages is our abil­ity to effec­tu­ate change at com­pa­nies in our port­fo­lio, other than in spe­cial cir­cum­stances, we do not expect to make invest­ments in con­trolled com­pa­nies in the future.

As a result of recent changes in the port­fo­lio and strate­gic devel­op­ments with respect to Longs Drugs and Wachovia Cor­po­ra­tion, our long port­fo­lio is now com­prised of higher qual­ity, more eco­nom­i­cally resilient busi­nesses, com­pa­nies for which we can be a cat­a­lyst to cre­ate value, and a large amount of cash and soon-to-be cash that we can rede­ploy in new opportunities.

On the short side of the port­fo­lio, we have been oppor­tunis­tic in unwind­ing single-name credit default swaps in cases where spreads have increased sig­nif­i­cantly, and have cov­ered cer­tain short posi­tions where stocks have declined sub­stan­tially as a result of company-specific as well as market-related events. We recently repur­chased CDS on the invest­ment grade credit index as cer­tain tech­ni­cal fac­tors have made this investment/hedge attrac­tive once again.

Longs Drugs

In last quarter's let­ter, I alluded to a new posi­tion on which we expected to file a Sched­ule 13D shortly. That posi­tion was Longs Drugs, a West Coast based drug­store retailer. While Longs' was val­ued in the mar­ket as an under­per­form­ing drug store retailer, we val­ued the busi­ness based on its com­po­nent parts which included: (1) owned and long-term, below-market, lease­hold real estate, (2) RxAm­er­ica, a rapidly grow­ing phar­macy ben­e­fit man­ager ("PBM") which gen­er­ated more than 20% of the company's trail­ing oper­at­ing income, and (3) an under­per­form­ing, low-margin drug­store retailer. At our cost, we believed that Longs real estate value alone more than cov­ered our pur­chase price and we were get­ting the PBM and the retailer for less than free. We esti­mated the fair mar­ket value of the com­pany to be $85 to $95 per share assum­ing each of the company's assets was sold to the buyer who could pay the high­est price.

Unlike many of our pre­vi­ous active invest­ments, we con­cluded that Longs had reached the end of its strate­gic life and should be sold to one of its larger com­peti­tors, namely CVS or Wal­greens. While it has been rare for us to buy a stake in the com­pany with a view that a strate­gic sale was the right exit oppor­tu­nity, we have done so in the past. For exam­ple, our orig­i­nal invest­ment in Sears Roe­buck & Com­pany was pred­i­cated on a strate­gic out­come at the com­pany which was ulti­mately achieved when it was acquired by Kmart.

In the cur­rent weak (to use a euphemism) credit envi­ron­ment, we are par­tic­u­larly wary of invest­ments which are pred­i­cated on a sale. How­ever, in this case, we were com­forted by the fact that Longs Drugs would be a must-have acqui­si­tion for CVS and Wal­greens and that both com­pa­nies, which are many times the size of Longs, could eas­ily finance the acqui­si­tion. Even in the event a sale did not go through, we had pur­chased Longs at an attrac­tive price which offered a sub­stan­tial mar­gin of safety against a per­ma­nent loss of capital.

Within one week of our 13D fil­ing, Longs announced that it had entered into a trans­ac­tion to be sold to CVS for $71.50 per share in a cash ten­der offer, an approx­i­mately 44% pre­mium to our aver­age cost. While we were happy with the deal, we were some­what unhappy with the pur­chase price, par­tic­u­larly when we learned that the com­pany had not run a com­pet­i­tive auc­tion. There­after, we hired the Black­stone Group with whom we have worked suc­cess­fully in past trans­ac­tions in an attempt to achieve a bet­ter out­come for all shareholders.

We and Black­stone were suc­cess­ful in attract­ing a bid of $75 per share from Wal­greens; how­ever, the greater reg­u­la­tory risk and poten­tial time delay in a trans­ac­tion with Wal­greens led Longs' board to reject the trans­ac­tion in favor of the CVS offer. Wal­greens sub­se­quently with­drew its offer cit­ing mar­ket con­di­tions, and a day later, the CEO of Wal­greens stepped down. We antic­i­pate that we will be fully cashed out of our invest­ment in Longs' by the close of trad­ing today.

Wachovia Cor­po­ra­tion

Wachovia is a good exam­ple of the types of oppor­tu­ni­ties that have emerged in the cur­rent highly volatile envi­ron­ment. On Mon­day morn­ing Sep­tem­ber 29th, Wachovia Cor­po­ra­tion announced that it had entered into an agree­ment in prin­ci­ple to sell its bank­ing sub­sidiaries to Cit­i­group. The trans­ac­tion was struc­tured in an unusual man­ner. In the deal, Citi was pay­ing $2.1 bil­lion of its own stock to Wachovia Cor­po­ra­tion (the pub­licly traded hold­ing com­pany for the Wachovia bank­ing sub­sidiaries) and assum­ing $53 bil­lion of senior and sub­or­di­nate hold­ing com­pany debt in addi­tion to the debt and other lia­bil­i­ties of the Wachovia bank­ing sub­sidiaries. The descrip­tion of the trans­ac­tion was lim­ited to a sev­eral para­graph press release and a con­fer­ence call pre­sen­ta­tion by Cit­i­group that morn­ing. Wachovia stock opened later Mon­day after­noon at approx­i­mately $1.80 per share, down 82% from Friday's close.

The market's reac­tion to the Citi trans­ac­tion was severe, par­tic­u­larly as the trans­ac­tion was announced only four days after Wash­ing­ton Mutual's sub­sidiary banks were seized by reg­u­la­tors and sold to J.P. Mor­gan. In that trans­ac­tion, WaMu's hold­ing com­pany filed for bank­ruptcy, wip­ing out share­hold­ers and mate­ri­ally impair­ing hold­ing com­pany creditors.

The Wachovia trans­ac­tion, how­ever, was struc­tured in a mate­ri­ally dif­fer­ent man­ner from the WaMu seizure. It appears that the gov­ern­ment, in order to pro­tect bank hold­ing com­pany bond­hold­ers from los­ing their invest­ment and per­haps to avoid trig­ger­ing a CDS credit event, struc­tured this deal so that Citi would assume the hold­ing com­pany debts. Inter­est­ingly, as part of the Citi trans­ac­tion the gov­ern­ment pro­vided an excess-of-loss guar­an­tee on Wachovia mort­gages to pro­tect Citi, which the gov­ern­ment could likely have avoided if it had not required Citi to assume $53 bil­lion of hold­ing com­pany debt. It appears that the gov­ern­ment had con­cluded that addi­tional bank hold­ing com­pany debt defaults would cre­ate sys­temic risk or reduce the abil­ity for bank hold­ing com­pa­nies to access this impor­tant source of cap­i­tal, and there­fore chose to pro­tect the Wachovia bank­ing sub­sidiary and the hold­ing com­pany bondholders.

The unusual struc­ture of the trans­ac­tion cre­ated an inter­est­ing invest­ment oppor­tu­nity. By remov­ing the hold­ing com­pany debts, Wachovia Cor­po­ra­tion, now orphaned from its bank sub­sidiaries was left with some very attrac­tive assets. Based on our read­ing of the pub­lic fil­ings, con­fer­ence call tran­scripts, and inter­net research over the course of Mon­day morn­ing and after­noon, we esti­mated that Wachovia was left with the fol­low­ing assets: approx­i­mately $2 bil­lion or more of cash, $2.1 bil­lion of Cit­i­group Stock, the Wachovia Secu­ri­ties wealth man­age­ment oper­a­tion, A.G. Edwards (which had been pur­chased one year ago for approx­i­mately $7 bil­lion), Ever­green Asset Man­age­ment (a mutual fund man­ager with $245 bil­lion in assets under man­age­ment), Wachovia Insur­ance Ser­vices, and other ancil­lary assets.

In light of the Citi debt assump­tion, the only mate­r­ial lia­bil­ity of Wachovia Cor­po­ra­tion was $9.8 bil­lion of non-cumulative, per­pet­ual pre­ferred stock. Because this pre­ferred is both non-cumulative and per­pet­ual, Wachovia has no oblig­a­tion to ever pay a div­i­dend on these secu­ri­ties mak­ing these lia­bil­i­ties effec­tively a free form of equity financ­ing. These types of pre­ferred secu­ri­ties are typ­i­cally struc­tured to qual­ify as an attrac­tive form of bank hold­ing com­pany equity which gets favor­able reg­u­la­tory and rat­ing agency treat­ment. Now that they were orphaned by the trans­ac­tion, at best these lia­bil­i­ties were worth less than 50 cents on the dollar.

We also deter­mined that the struc­ture of the trans­ac­tion would cre­ate a large tax asset for the hold­ing com­pany. By sell­ing the bank sub­sidiaries for less than their net tan­gi­ble asset value, we esti­mated that a $26 bil­lion tax loss would be cre­ated. This tax loss could by car­ried back two years enabling the hold­ing com­pany to recover approx­i­mately $7.5 bil­lion of cash taxes that had pre­vi­ously been paid.

Our con­ser­v­a­tive esti­mate of value of New Wachovia was in excess of $8 per share even assum­ing that the pre­ferred stock was redeemed or val­ued at par. We began buy­ing the stock shortly after it opened on Mon­day after­noon. My instruc­tions to our traders Ramy Saad and Erika Kreyssig were to buy every share we pos­si­bly could, includ­ing pre– and post-market trad­ing. They did a superb job.

Between Mon­day after­noon and late Thurs­day we acquired 178 mil­lion shares, or approx­i­mately 8.3% of the com­pany, at an aver­age price of $3.15. On Fri­day morn­ing before the open, Wells Fargo announced a defin­i­tive agree­ment to acquire Wachovia for 0.1991 shares of Wells com­mon stock, or more than $7.00 per share based on Friday's trad­ing price. We began sell­ing our Wachovia stock on Fri­day. We could not, how­ever, hedge the Wells Fargo stock price because the short sell­ing ban was still in effect.

Citi, which thought it had an exclu­sive to com­plete the trans­ac­tion with Wachovia, brought lit­i­ga­tion later that Fri­day to enjoin the Wells Fargo deal. By late the fol­low­ing week, Citi, likely as a result of pres­sure from the gov­ern­ment, had agreed to allow the Wells trans­ac­tion to go for­ward while retain­ing their law­suit for dam­ages against Wells Fargo.

As of this date, we have hedged 100% of our expo­sure to Wells Fargo shares, and have been oppor­tunis­tic in unwind­ing a sub­stan­tial por­tion of the posi­tion. Assum­ing we waited until trans­ac­tion clo­sure and tak­ing into con­sid­er­a­tion Wachovia shares already sold, we have locked in a 67% profit on this $560 mil­lion investment.

The gov­ern­ment and all of the par­ties appear to be doing every­thing they can to con­sum­mate the trans­ac­tion promptly. The trans­ac­tion received HSR approval in one day and the Trea­sury and bank­ing author­ity approvals over the fol­low­ing week­end. Wells has been issued 39% of the vot­ing stock of Wachovia and trans­ac­tion clo­sure is antic­i­pated by year end. The trans­ac­tion requires the recently filed form S-4 to be approved by the SEC and the com­ple­tion of the mechan­ics of the share­holder meet­ing in order to be con­sum­mated. It is an excel­lent deal for Wells Fargo and for Per­sh­ing Square.

A Mis­take

While most of our long invest­ments are com­prised of great busi­nesses or assets at fair prices with a cat­a­lyst to cre­ate value, we occa­sion­ally are will­ing to invest a small amount of fund cap­i­tal in sit­u­a­tions which offer the poten­tial for a many-fold profit at the risk of a large or near-total loss of cap­i­tal invested. I typ­i­cally call these invest­ments mis­priced options. Our CDS invest­ments fit this pro­file. While not all mis­priced options will be prof­itable for the funds, I expect our col­lec­tive expe­ri­ence in these com­mit­ments to be quite favor­able over time.

We pur­chased stock in Amer­i­can Inter­na­tional Group, Inc. (AIG) after the announce­ment of the gov­ern­ment bailout. In sum­mary, we did so because at the price paid, we pur­chased AIG at a sub­stan­tial dis­count to book value, and we believed that book value was a con­ser­v­a­tive esti­ma­tion of the value of AIG's under­ly­ing busi­nesses net of deriv­a­tive losses. We also believed that there was the poten­tial for a rene­go­ti­a­tion of the government's extremely harsh financ­ing com­mit­ment to AIG which pro­vided for 80% dilu­tion, enor­mous com­mit­ment fees, and a high inter­est rate.

In par­tic­u­lar, we believed that if AIG could pay back the gov­ern­ment promptly through a com­bi­na­tion of asset sales, ter­mi­na­tion of cer­tain CDS con­tracts at poten­tially less than fair mar­ket value, and equity invest­ments from exist­ing and poten­tially other investors, that there was a chance to rene­go­ti­ate the 80% zero-strike war­rant pack­age to the gov­ern­ment. If the war­rant dilu­tion could be mit­i­gated, it would be pos­si­ble for AIG share­hold­ers to make a many-fold return on invest­ment. Ini­tially, we believed that the poten­tial for return out­weighed the risk of loss. Because of the inher­ent lever­age of AIG, the risk of a per­ma­nent loss of cap­i­tal on this invest­ment was mate­r­ial. As such, we lim­ited the size of our invest­ment to 2.5% of fund capital.

After acquir­ing our posi­tion, we met with other large hold­ers, pol­i­cy­mak­ers and con­tacted Berk­shire Hath­away and other poten­tial investors about a pro­posed recap­i­tal­iza­tion of AIG. Unfor­tu­nately, the col­lec­tion of share­hold­ers that were attempt­ing to restruc­ture the gov­ern­ment deal was exceed­ingly dis­or­ga­nized and some large hold­ers were con­flicted by a desire to buy cer­tain assets from the company.

We ulti­mately con­cluded that the return on invested brain dam­age from this invest­ment exceeded the probability-weighted oppor­tu­nity for profit, and we decided to fold the tent. We sold our stock and incurred a mod­est loss to the funds.

Our Busi­ness Model

In order to achieve long-term suc­cess, Per­sh­ing Square must make good invest­ments and oper­ate with a robust busi­ness model. With much media atten­tion focused on hedge fund fail­ures, I thought it would be worth­while review­ing the char­ac­ter­is­tics of our busi­ness model and explain­ing why we will with­stand industry-specific and over­all envi­ron­men­tal threats to the invest­ment and hedge fund busi­nesses. The prin­ci­ple fac­tors which con­tribute to the robust­ness of our busi­ness model are as follows:

* Our port­fo­lio man­age­ment approach is inher­ently low risk (where risk is defined as the prob­a­bil­ity of a per­ma­nent loss of cap­i­tal), par­tic­u­larly when com­pared with other hedge fund busi­ness mod­els. An impor­tant dis­tin­guish­ing fac­tor about Per­sh­ing Square com­pared to most other hedge funds is that we do not gen­er­ally use mar­gin lever­age in our invest­ment strat­egy. The lawyers pre­fer that I put in the word "gen­er­ally" to give us the flex­i­bil­ity to use mar­gin to man­age short-term cap­i­tal flows, but, to-date, we have not used any but an imma­te­r­ial amount of mar­gin, and only for a brief period of time, and we have no inten­tion of chang­ing this approach,
* We gen­er­ally invest in higher qual­ity busi­nesses with dom­i­nant and defen­sive mar­ket posi­tions that gen­er­ate pre­dictable free cash flow streams and that have mod­estly or neg­a­tively lever­aged (cash in excess of debt) bal­ance sheets. We buy these busi­nesses at deep dis­counts to our esti­mate of intrin­sic value giv­ing us a mar­gin of safety against a per­ma­nent impair­ment of cap­i­tal. I say "gen­er­ally" again here because we do make excep­tions in cer­tain lim­ited cir­cum­stances; that is, we may buy a more lever­aged or lower qual­ity busi­ness if we believe the price paid suf­fi­ciently dis­counts the risk.
* We often seek invest­ments where we can effec­tu­ate pos­i­tive change to cat­alyze the real­iza­tion of value. This serves to accel­er­ate the recog­ni­tion of value, helps us avoid "dead money" sit­u­a­tions, and pro­tects us some­what from man­age­r­ial actions which can destroy value.
* We are diver­si­fied to an ade­quate but not exces­sive extent. This has fur­ther ben­e­fits for risk and oper­a­tional man­age­ment which I will dis­cuss below.
* There is an inher­ent bal­ance to our long/short invest­ment approach. His­tor­i­cally, when equity or credit mar­kets weaken, our shorts become more valu­able, and occa­sion­ally mate­ri­ally more valu­able, off­set­ting some­what the mark-to-market declines in our long port­fo­lio. If we choose to unwind these short posi­tions dur­ing mar­ket down­turns, we can gen­er­ate cap­i­tal to invest in a now less expen­sive mar­ket. These short invest­ments gen­er­ally stand on their own in that they do not typ­i­cally require a stock mar­ket or credit mar­ket decline to be suc­cess­ful. That said, they have served as a use­ful hedg­ing tool dur­ing peri­ods of dra­matic mar­ket declines.
* We have been para­noid about coun­ter­party risk since the incep­tion of the firm. First, we trade with coun­ter­par­ties which we believe to be cred­it­wor­thy. Sec­ond, we have nego­ti­ated ISDA agree­ments which pro­vide us with daily mark-to-market cash and U.S. Trea­surys equal to the pre­vi­ous day's mar­ket value of our deriv­a­tive con­tracts. In cases where we are required to post ini­tial mar­gin and there­fore have some expo­sure beyond the mar­ket value of our deriv­a­tive con­tracts, we have typ­i­cally pur­chased CDS on our coun­ter­par­ties to fur­ther mit­i­gate coun­ter­party risk. While our approach to coun­ter­party risk has pro­tected us from any coun­ter­party losses to date, please be fore­warned there is no per­fect approach to avoid­ing coun­ter­party risk.

Our sim­ple approach to invest­ing also allows us to avoid com­pli­cated approaches to risk man­age­ment. Our invest­ment strat­egy does not require us to open offices all over the globe. As such, we don't need traders work­ing around the clock. We can go to sleep at night and sleep. Our week­ends are largely our own (Ok. I admit it. I am writ­ing this let­ter in the office on Sun­day.) Our risk man­age­ment approach is to: (1) put our eggs in a few very sturdy bas­kets, (2) store those bas­kets in very safe places where they can­not be taken away from us and sold at pre­cisely the wrong time due to mar­gin calls, and (3) to know and track those bas­kets and their con­tents very care­fully. We call this approach the sleep-at-night approach to risk man­age­ment. If I can't, we won't.

I am extremely skep­ti­cal of more auto­mated, algo­rith­mic, Value at Risk, and other busi­ness school sanc­tioned approaches to risk man­age­ment. None of these approaches saved Lehman, Bear Stearns, Fan­nie, Fred­die, AIG, WaMu, Wachovia or any of the other insti­tu­tions that used these and other osten­si­bly more sophis­ti­cated risk man­age­ment strategies.

Our invest­ment strat­egy and approach to coun­ter­party risk serves to limit the risks inher­ent in our indi­vid­ual invest­ment selec­tions, our coun­ter­party risk, and the port­fo­lio as a whole. There are, how­ever, other impor­tant risks to our busi­ness, prin­ci­pally oper­a­tional, rep­u­ta­tional, and reg­u­la­tory risk.

Oper­a­tional Risk

Our invest­ment approach is largely straight­for­ward and rel­a­tively sim­ple. This, cou­pled with the con­cen­trated nature of the port­fo­lio, allows us to run our busi­ness with a lim­ited num­ber of per­son­nel. We have five senior invest­ment pro­fes­sion­als includ­ing myself. Shane Din­neen, still offi­cially a junior invest­ment pro­fes­sional, is fast earn­ing his stripes as an even­tual senior mem­ber of the team.

We could man­age our port­fo­lio with less human tal­ent than we have. For mem­bers of the invest­ment team read­ing this let­ter, don't be con­cerned because I have no inten­tion of shrink­ing the team, but I make the point nonethe­less. Sim­plic­ity in our invest­ment approach allows for a sim­pler back office and a smaller over­all staff. We have 31 peo­ple total at Per­sh­ing Square. It could be fewer, but one of Tim Barefield's (our COO) impor­tant risk man­age­ment prin­ci­ples pro­vides for back-up tal­ent for every role in the firm.

Our Noah's Ark approach to per­son­nel dupli­ca­tion makes for a good anal­ogy for the ship we have designed. We have worked hard to build a busi­ness that can with­stand the Great Del­uge, and this goes beyond coun­ter­party risk. For exam­ple, it is not yet clear this year whether there will be any incen­tive allo­ca­tion to be shared at the firm. That said, whether or not the funds' fin­ish the year in the black, it will be extremely unlikely that a mem­ber of our team leaves by choice, and I have no inten­tions of let­ting any­one go. This is due to sev­eral factors:

* Per­sh­ing Square's large amount of assets under man­age­ment per invest­ment prin­ci­pal and per over­all employee are impor­tant ratios to con­sider when eval­u­at­ing the sus­tain­abil­ity of Per­sh­ing Square or any hedge fund for that mat­ter. The eco­nom­ics of a high Asset per Employee ratio attract and allow for the reten­tion of top tal­ent. Our team can be com­pen­sated appro­pri­ately even in times of short-term under­per­for­mance. Hedge funds which barely (or don't even) cover their costs with man­age­ment fees are inher­ently unsta­ble enter­prises because in an unprof­itable year they can­not pay their peo­ple and are likely to lose their most tal­ented pro­fes­sion­als to other firms.
* Per­sh­ing Square is a nice place to work. While this sounds like an obvi­ous approach to retain­ing tal­ent, many and per­haps most hedge funds don't fit this descrip­tion. We are big believ­ers in tak­ing care of our team not just finan­cially and with attrac­tive ben­e­fits, and we have those in spades. We con­sider every employee at the firm a mem­ber of our extended fam­ily, and we treat and care for them appro­pri­ately. We do this not for busi­ness rea­sons, but it has impor­tant long-term busi­ness ben­e­fits.
* Per­sh­ing Square is an extremely excit­ing place to work. We believe our work cre­ates value beyond the prof­its we his­tor­i­cally have gen­er­ated for our investors. Our approach to value cre­ation at busi­nesses has cre­ated enor­mous value for investors who hap­pened to own com­pa­nies to which we con­tributed to the cre­ation of value. Sim­i­larly, investors and coun­ter­par­ties who lis­tened to our views on the bond insur­ers, Fan­nie Mae and Fred­die Mac, etc. saved them­selves from large losses or per­haps prof­ited by short sales. The fact that our work cre­ates value for the mar­kets as a whole pro­vides addi­tional moti­va­tion to the team.

Bot­tom line, we are built to last, and we will con­tinue to work hard to deserve your con­tin­ued support.

Rep­u­ta­tional and Reg­u­la­tory Risk

Rep­u­ta­tional risk is one of the key risk fac­tors for a busi­ness that is sub­ject to a high degree of reg­u­la­tory scrutiny in an indus­try that seems to gen­er­ate con­sid­er­able pub­lic scorn. Our approach to assess­ing rep­u­ta­tional risk is to apply the New York Times test. We ask our­selves whether we would be com­fort­able hav­ing our fam­ily and friends read a front page New York Times story about actions taken by Per­sh­ing Square writ­ten by a knowl­edge­able and intel­li­gent reporter who has access to all of the facts. If we are com­fort­able with such an arti­cle being read by our close friends, our fam­i­lies, and the pub­lic at large, our action passes the test. If not, we recon­sider our poten­tial action.

More recently, I have decided to par­tic­i­pate in the pub­lic dia­logue about hedge funds, agree­ing to occa­sional appear­ances on tele­vi­sion or oth­er­wise talk­ing to the press, speak­ing at indus­try events, meet­ing with Con­gress­man, Sen­a­tors, and other offi­cials. I do so not for any desire for pub­lic recog­ni­tion, but rather because I believe that it is impor­tant for the hedge fund indus­try to come out of the shad­ows and defend the impor­tance of our work. If we and oth­ers (that includes hedge fund investors in addi­tion to the man­agers) don't do so, the indus­try, in my view, is at even greater risk of fur­ther reg­u­la­tory, tax, and other legal changes that will mate­ri­ally harm our busi­ness mod­els and industry.

One does not need to look fur­ther than the recent short sell­ing ban which was an extremely ill-advised reg­u­la­tory change that con­tributed to mar­ket tur­moil and the recent mar­ket decline. By impos­ing a ban on an invest­ment approach that has been legal for gen­er­a­tions with no warn­ing or oppor­tu­nity for pub­lic debate, the SEC caused a short squeeze and sub­se­quent mar­ket dis­ar­ray that wiped out large amounts of hedge fund cap­i­tal, caused forced sell­ing as long/short, mar­ket neu­tral, quan­ti­ta­tive, and other man­agers had to sell long posi­tions to rebal­ance their books. More sig­nif­i­cantly, it cost the U.S. cap­i­tal mar­kets its highly respected posi­tion as an exem­plar free mar­ket­place where the rule of law pre­vailed. It also con­tributed to hedge fund under­per­for­mance, thereby lead­ing to investor redemp­tions, fur­ther reduc­ing indus­try capital.

I believe the short sell­ing ban also con­tributed to con­tin­ued mar­ket declines since the ban was put into place. In that hedge funds are among the most oppor­tunis­tic investors in the world, destroy­ing large amounts of hedge fund cap­i­tal likely con­tributed to mar­ket declines because of a dearth of oppor­tunis­tic hedge fund buy­ers who would nor­mally step in and pur­chase the com­pelling val­ues cre­ated by falling markets.

Even though the restric­tion on short sell­ing has been elim­i­nated, the longer-term con­se­quences of pop­ulist reg­u­la­tory actions will con­tinue to be felt by the mar­kets and its par­tic­i­pants until such time as our secu­ri­ties reg­u­la­tor makes clear that the U.S. will never again change the rules of the game mid play.

Specif­i­cally, the short sell­ing ban was harm­ful to Per­sh­ing Square because we lost the oppor­tu­nity to lock in even greater gains on our Wachovia invest­ment by not ini­tially being able to hedge our Wells Fargo expo­sure. I esti­mate this loss at approx­i­mately 3% to 4% of fund per­for­mance. This loss was some­what off­set by our abil­ity to sell cer­tain invest­ments into the short squeeze at higher than antic­i­pated prices. We were oth­er­wise not mate­ri­ally affected because short sell­ing equi­ties has not been a mate­r­ial part of our invest­ment pro­gram, although we did cover one large equity short at a loss which is now trad­ing at a more than 40% lower price, another 4% to 5% poten­tial loss of profit assum­ing we had not cov­ered at higher prices.

Hedge fund investors — the pen­sion funds, state plans, char­i­ta­ble, health­care and other insti­tu­tions and the indi­vid­u­als who invest in hedge funds — are a much more appeal­ing con­stituency to defend the indus­try than the man­agers them­selves. I encour­age you to con­sider becom­ing part of the pub­lic debate on the indus­try. We col­lec­tively need one another's support.

Investor Risk

The sta­bil­ity of a hedge fund's cap­i­tal base is crit­i­cal to its long-term suc­cess. We have endeav­ored to attract high qual­ity investors who have a deep under­stand­ing of our invest­ment approach. We do our best to con­tin­u­ally inform you of the progress of our hold­ings and busi­ness, and remind you of the inher­ently volatile nature of our con­cen­trated strat­egy. Our invest­ment strat­egy is also trans­par­ent. The nature of our approach requires most of our hold­ings to even­tu­ally be dis­closed pub­licly. As such, it is eas­ier for you to under­stand how we have made and lost money over the years, and to assess our abil­ity to repli­cate our his­toric strat­egy and performance.

Over the last nearly five years, we have deliv­ered very lit­tle of the volatil­ity that investors are con­cerned about, that is, down­ward volatil­ity. As such and with strong his­tor­i­cal per­for­mance, we have not "tested" our investor base. We hope never to "test" our investor base.

While we have con­sid­ered a longer-term lock-up struc­ture, we chose not to mod­ify our exist­ing liq­uid­ity terms because we did not want our terms to be overly bur­den­some to investors and to present a hur­dle to the rein­vest­ment of cap­i­tal, par­tic­u­larly dur­ing a period of tem­po­rary under­per­for­mance. Year to date, we have had min­i­mal redemp­tions. New com­mit­ments have exceeded our redemp­tion requests by approx­i­mately 3 to 1. We have a pipeline of new prospects that are in the process of com­plet­ing their due dili­gence. That said, the con­ti­nu­ity of our investor base is a long-term suc­cess fac­tor for the funds and for this we are rely­ing on you.

Is Now a Good Time to Invest in Per­sh­ing Square?

I have never before sug­gested that one time or another would be a bet­ter time to invest in Per­sh­ing Square. I am going to take the risk of doing so now. At the risk of sound­ing pro­mo­tional, I believe that now is per­haps the best time in our his­tory to increase your invest­ment in Per­sh­ing Square. A few thoughts to consider:

When one invests in Per­sh­ing Square today, with respect to our cur­rent port­fo­lio and poten­tial oppor­tu­ni­ties in the mar­ket, the spread between price and value is the widest it has been since the incep­tion of Per­sh­ing Square and likely over the last 30 or more years in our opin­ion. Invest­ments like Tar­get Cor­po­ra­tion which we pur­chased ini­tially in the mid to high $50s per share now sell at approx­i­mately $40 per share and there has been no mean­ing­ful diminu­tion in the per-share value of Tar­get since our ini­tial pur­chase 18 months ago. In fact, the prob­a­bil­ity of Tar­get and other Per­sh­ing Square hold­ings imple­ment­ing a value-creating trans­ac­tion are higher today than before because of man­age­ment and share­holder frus­tra­tion with cur­rent share price lev­els. Con­sider that Tar­get man­age­ment options are nearly all out of the money, and a mean­ing­ful num­ber of vested options will soon likely expire worth­less if there is no change in the sta­tus quo.

An addi­tional invest­ment in Per­sh­ing Square today also pur­chases a pro rata inter­est in our cash and near-cash invest­ments. While pur­chas­ing cash indi­rectly is not an inher­ently attrac­tive propo­si­tion, we are cur­rently ana­lyz­ing a num­ber of long and short invest­ments that appear extremely inter­est­ing, and sub­ject to com­ple­tion of our due dili­gence, may become large new com­mit­ments. While for the first nearly five years of our busi­ness, we found only a lim­ited num­ber of inter­est­ing oppor­tu­ni­ties, albeit a suf­fi­cient num­ber to gen­er­ate attrac­tive returns, we are now pre­sented with tens of intrigu­ing sit­u­a­tions that are wor­thy of care­ful review. One could rea­son­ably con­clude that the greater spread between price and value and a wider selec­tion of attrac­tively priced oppor­tu­ni­ties will lead to higher rates of return on these com­mit­ments than dur­ing pre­vi­ous peri­ods of greater mar­ket effi­ciency which char­ac­ter­ized the first four years of the funds' existence.

While many have por­trayed the cur­rent envi­ron­ment as a highly risky time to invest, these indi­vid­u­als are likely con­fus­ing risk with volatil­ity. We believe risk should be deter­mined based on the prob­a­bil­ity that an investor will incur a per­ma­nent loss of cap­i­tal. As mar­ket val­ues have declined sub­stan­tially, this risk has actu­ally dimin­ished rather than increased. Risk is high now for the lever­aged short-term investor, but actu­ally much lower for the unlever­aged, long-term investor in high qual­ity, mid and large cap­i­tal­iza­tion, mod­estly lever­aged businesses.

Unlike lev­ered hedge funds whose risk increases as NAV declines, Per­sh­ing Square's risk has declined with the recent decline in the value of our port­fo­lio. Why? This is due to the fact that a lever­aged manager's prob­a­bil­ity of being sold out by its prime bro­ker increases as its portfolio's equity declines. Many hedge fund strate­gies are con­fi­dence and credit sen­si­tive because they require con­tin­ued access to low-cost financ­ing. Recent declines may also require lever­aged hedge funds to post addi­tional col­lat­eral on trades which did not require an ini­tial down pay­ment. Because our invest­ment strat­egy does not require lever­age to oper­ate, recent increases in financ­ing costs and reduc­tions in lever­age afforded to hedge funds have no impact on our cur­rent or future prospects. In our case, the mar­gin of safety of our invest­ments actu­ally increases, the greater the decline in our hold­ings' share prices. We, of course, also have no mar­gin lever­age cre­at­ing the risk of a forced sale. So yes, I believe now is a good time.

Per­sh­ing Square Advi­sory Board Addition

Matt Paull joined the Per­sh­ing Square Advi­sory Board on Sep­tem­ber 1st. For some of you, Matt's name may be famil­iar for he was for­merly the CFO of McDonald's Cor­po­ra­tion before his retire­ment ear­lier this year. I have known Matt for about 10 years, and inter­acted with him inten­sively in mid to late 2005 and in early 2006 when Per­sh­ing was advo­cat­ing for change at McDonald's.

As CFO of McDonald's, Matt was one of the most highly regarded pub­lic com­pany CFOs in the coun­try. Share­hold­ers were the ben­e­fi­cia­ries of superb cap­i­tal allo­ca­tion and strong share price appre­ci­a­tion dur­ing his tenure as CFO. I con­sider it one of Per­sh­ing Square's great­est accom­plish­ments that we were able to gar­ner Matt's respect and friend­ship even though there were occa­sion­ally con­tentious moments dur­ing our engage­ment with McDonald's.

Matt has already proved enor­mously help­ful in our inter­ac­tions with Tar­get Cor­po­ra­tion. As a for­mer CFO, par­tic­u­larly one that has been on the other side of one of Per­sh­ing Square's most sig­nif­i­cant engage­ments, Matt brings a uniquely valu­able per­spec­tive to the firm and to the man­age­ment teams of our port­fo­lio companies.

In addi­tion to his Per­sh­ing Square advi­sory role, Matt is cur­rently serv­ing on the busi­ness school fac­ulty of Uni­ver­sity of San Diego.

Orga­ni­za­tional Update

We com­pleted our move to the 42nd floor of 888 Sev­enth Avenue in August. The sec­ond time round, we really got it right. The space is beau­ti­ful, pro­motes com­mu­ni­ca­tion, and is extra­or­di­nar­ily well orga­nized and efficient.

After the move, we made sev­eral addi­tions to the team. Court­ney Leonardo and David Robin­son joined the IR team in admin­is­tra­tive roles, roles which had pre­vi­ously been filled by tem­po­rary employ­ees. Alex Song joined us from Gold­man Sachs as the newest junior mem­ber of the invest­ment team. Amy Stern joined the Finance and Account­ing team from Tiger Global, and will focus her efforts on man­age­ment com­pany account­ing. Amy is also attend­ing the NYU Stern School of Busi­ness where she is work­ing on a busi­ness school degree. Jill Skousen replaced Whit­ney Stodt­meis­ter as the admin­is­tra­tive assis­tant for the invest­ment team after Whit­ney moved to Santa Bar­bara. Helena Tun­ner joined us to work with Dianna Baitinger at front desk reception.

On other news, Alex Kauf­mann of our IR team will be attend­ing Colum­bia University's Exec­u­tive MBA pro­gram on Fri­days and week­ends. We are big believ­ers in con­tin­u­ing edu­ca­tion for our personnel.

As always, we are extremely appre­cia­tive of your sup­port, par­tic­u­larly dur­ing uncer­tain times. If there are any ques­tions I have failed to answer above, please call Doreen, Alex, Ash­ley or myself.

Sin­cerely,
William A. Ackman

Tags: 10 Years, Analogy, Array, Bailout, Banks, Bear Market, Bear Stearns, Bill Ackman, Blackstone, Bondholders, Br, Brokers, Canadian Market, Cash Balances, CDS, Cement, Citigroup, Columbia University, Commitments, Commodity, Commodity Prices, Counterparties, Credit, Credit Bubble, Credit Default Swap, Credit Market, Credit Markets, Current, Desc, Diffe, Dollar, Earnings, Economics, Economy, Extraordinary Times, Failure, Fannie Mae, Financials, Focus, Freddie Mac, Gold, Health, Hedge Fund, Hedge Funds, Img, interest rates, International, Investment, Investment Banks, Investment Strategy, Investor Letter, Investors, Letter To Shareholders, Leverage, Liquidation, liquidity, Loc, Longs Drugs, Market Declines, Market Losses, Market Participants, Markets, Mining, Money, Mortgage, Mutual Funds, New York Times, Ny Times, oil, Outperformance, Pershing Square, Portfolio Management, Prognosticator, Rally, Real Estate, Redemptions, Regulatory Events, REW, risk, S&P 500, saa, Security Markets, Shareholders, Short Selling, Short squeeze, spreads, Squeeze, Stock Market, Stock Prices, Stocks, Structured Products, Substantial Cash, Systemic Risk, Target, Trading, Treasury Bill, Valuations, Value, Volatility, Wachovia, Wachovia Corporation, Warren Buffett, Wells Fargo
Posted in Bonds, Canadian Market, Credit Markets, Economy, Energy & Natural Resources, Gold, Markets, Oil and Gas | Comments Off

The Mother of All Bear Market Rallies?

Wednesday, November 26th, 2008

Bar­ton Biggs at Traxis Part­ners believes that equi­ties could be set­ting up for ‘the mother of all bear mar­ket rallies.’

The piece, writ­ten Nov. 24 by Bar­ton Biggs for the Finan­cial Times, is timely — Here are some excerpts:

... there is com­pelling evi­dence that investors, hedge funds, pen­sion and mutual funds, and the pub­lic are not just talk­ing bear­ish, they have raised astound­ing amounts of cash.

... I’ve never seen capit­u­la­tion and despair like this. We must be pretty close to max­i­mum bearishness.

... Sec­ond, val­u­a­tions are cheap. There’s no point in going into an elab­o­rate dis­ser­ta­tion; it’s an inex­act science.

... If emerg­ing mar­ket equi­ties, where the growth is, at six to eight times earn­ings are not cheap I don’t know what is.

... His­tory shows that even in endur­ing, sec­u­lar bear mar­kets there are not just 20 per cent bounces but usu­ally one 30 to 50 per cent rally. We should be due.

... I would like to see the credit mar­kets unclog and spreads come in more. At the bot­tom of a panic, the news doesn’t have to be good for stocks to rally, it just has to be less bad than what has already been discounted.

Go to Article

Tags: Barton Biggs, Bear Market, Bear Markets, Bounces, Capitulation, Compelling Evidence, Credit, Credit Market, Credit Markets, Despair, Dissertation, Earnings, Eight Times, Emerging Market, Excerpts, Financial Times, FT.com, Hedge Fund, Hedge Funds, Inexact Science, Markets, Mutual Funds, Rally, spreads, Traxis Partners, Valuations
Posted in Credit Markets, Emerging Markets, Markets | 1 Comment »

ScotiaMocatta: Precious Metals Forecast 2009

Wednesday, November 26th, 2008

Sco­ti­aMo­catta has put out an an infor­ma­tive report, pub­lished Novem­ber 20, 2008, "Pre­cious Met­als Fore­cast 2009."

Here is the Exec­u­tive Summary:

• Prices are falling fast as finan­cial insti­tu­tions cut expo­sure across all markets
• The cur­rent tur­moil in the finan­cial mar­kets is cre­at­ing enor­mous con­fu­sion and demand for dol­lars is ris­ing as investors head for cash, all of which is weigh­ing on Gold
• Expect Gold to attract more invest­ment buy­ing once the dust starts to set­tle as con­fi­dence will be rock bot­tom and investors will want a safe haven
• Hard to imag­ine given the cur­rent per­for­mance, but Gold prices could rise to new record highs once the dis­tressed sell­ing has fin­ished and investors realise the dol­lar may not be the safest place to take shelter

Tags: COT, Dollar, Gold, Markets, Metals, oil, precious metals, risk
Posted in Energy & Natural Resources, Gold, Markets, Oil and Gas | Comments Off

McCulley: The Paradox of Deleveraging will be Broken

Monday, November 24th, 2008

Paul McCul­ley, Man­ag­ing Direc­tor and Port­fo­lio Man­ager, PIMCO, ear­lier this year wrote a land­mark dis­cus­sion piece titled, "The Para­dox of Delever­ag­ing," in which he pos­tu­lated that the delever­ag­ing of the credit mar­ket would have a pro­foundly neg­a­tive impact that only a gov­ern­ment spon­sored plan could sub­due, as no other party could be big enough to slay the afflic­tion of credit abuse in the hous­ing, invest­ment and bank­ing indus­tries. Here is the fol­low up:

I've only writ­ten this essay once since the Kansas City Fed's annual sym­po­sium in late August.1 But it hasn't been because I've been lazy. Rather, I've been work­ing vir­tu­ally around the clock ever since, in my day job as head of PIMCO's Money Mar­ket and Fund­ing Desk. On Wall Street, this desk is fre­quently viewed as a back­wa­ter, a tem­po­rary home for new MBAs get­ting their feet wet before mov­ing on to higher-value-added desks, or a retire­ment home for those with more senior moments than fresh ideas.

That's never the case here at PIMCO, even though a num­ber of now PIMCO part­ners spent their first days traf­fick­ing in the money mar­kets and I, of ever-graying hair, still make my home here in the early hours of the day. Money mar­kets fre­quently are a back­wa­ter, except when they are not, in which case they are cas­cad­ing rapids. Liq­uid­ity pres­sures inevitably are the pre­cur­sor of sol­vency and/or going-concern prob­lems. Just ask Wall Street's inde­pen­dent invest­ment banks.

We here at PIMCO have always known this. Accord­ingly, we've always been con­ser­v­a­tive beyond con­ser­v­a­tive in our money mar­ket oper­a­tions, on both sides of the bal­ance sheet — no asset-backed com­mer­cial paper (ABCP) for us, and no tri-party repo with­out regard to col­lat­eral types or hair­cuts either. Meat and pota­toes only, no fancy gar­nishes nec­es­sary. But the meat and pota­toes must be cooked properly.

Hence, the work load of PIMCO's money mar­ket and fund­ing desk. My new deputy, Jerome Schnei­der, hit the ground run­ning in early August, a most pro­pi­tious time, just before the global money mar­kets became not just cas­cad­ing rapids, but roar­ing water­falls. The finan­cial world will never be the same after the U.S. Trea­sury and Fed­eral Reserve's fate­ful deci­sion of the week­end of Sep­tem­ber 13–14 to stand aside as Lehman Broth­ers plum­meted to death on the rocks below.

Whether that deci­sion was the right one or not, we will never know. Yes, I know that many are quick to take the Trea­sury and the Fed­eral Reserve to task, main­tain­ing that the on-going global finan­cial cri­sis — and, thus, growth cri­sis — would not be nearly so severe if Lehman had been tossed a life line. I sim­ply don't know. What I do know is that the global finan­cial sys­tem was fun­da­men­tally bro­ken long before Lehman's watery death.

Thus, I believe the pow­er­ful, sys­temic pol­icy responses that have unfolded in the post-Lehman world were des­tined to come about. Lehman was but the unfor­tu­nate tip­ping point. My heart still aches for the pain suf­fered by my many friends there. Fate is not always fair and at times, is arbi­trary and capricious.

But what ailed Lehman was but a man­i­fes­ta­tion of what ailed, and ails the global finan­cial inter­me­di­ary sys­tem: the pre­sump­tion that grossly lev­ered posi­tions in illiq­uid assets can always be funded, because those doing the fund­ing will always assume the bor­rower is a going concern.

To under­stand the nature of this sys­temic mal­ady, we need to return to first prin­ci­ples. Bear with me, please; this is going to be a bit aca­d­e­mic. But, I sub­mit, it was the loss of under­stand­ing of first prin­ci­ples that lies at the heart of the on-going para­dox of delever­ag­ing, which is the prox­i­mate cause of the on-going down­ward spi­ral of asset and debt deflation.

The Nature of Bank­ing
When I stud­ied the ori­gins of bank­ing in col­lege, we started with the Medici Fam­ily of 15th cen­tury Italy. I'm quite sure bank­ing existed long before then, just that I haven't stud­ied it. But regard­less of the ori­gins of bank­ing, its found­ing premise has always been the same: In nor­mal times, the public's col­lec­tive, ex ante demand for access to at-par, immediately-available bank money is always greater than the sum of the public's indi­vid­ual, ex post demand for access to such liquidity.

Thus, the genius of bank­ing, if you want to call it that, is sim­ple: a bank can take more risk on the asset side of its bal­ance sheet than the lia­bil­ity side can notion­ally sup­port, because a goodly por­tion of the lia­bil­ity side, notably deposits, is de facto of per­pet­ual matu­rity, although it is notion­ally of finite matu­rity, as short as one day in the case of demand deposits.

It's the same alchemy that per­mits mutual funds to com­mit to next-day redemp­tion at tonight's NAV, even though all rea­son­able peo­ple know that a mutual fund — with the pos­si­ble excep­tion of a money mar­ket fund — could not pos­si­bly liq­ui­date all assets on the wire tomor­row at tonight's NAV marks. Sys­tem­i­cally, it's the illu­sion of liq­uid­ity, as so ele­gantly described by John May­nard Keynes:

"The spec­ta­cle of mod­ern invest­ment mar­kets has some­times moved me towards the con­clu­sion that to make the pur­chase of an invest­ment per­ma­nent and indis­sol­u­ble, like mar­riage, except by rea­son of death or other grave cause, might be a use­ful rem­edy for our con­tem­po­rary evils. For this would force the investor to direct his mind to the long-term prospects and to those only. But a lit­tle con­sid­er­a­tion of this expe­di­ent brings us up against a dilemma, and shows us how the liq­uid­ity of invest­ment mar­kets often facil­i­tates, though it some­times impedes, the course of new investment.

For the fact that each indi­vid­ual investor flat­ters him­self that his com­mit­ment is ‘liq­uid' (though this can­not be true for all investors col­lec­tively) calms his nerves and makes him much more will­ing to run a risk. If indi­vid­ual pur­chases of invest­ments were ren­dered illiq­uid, this might seri­ously impede new invest­ment, so long as alter­na­tive ways in which to hold his sav­ings are avail­able to the indi­vid­ual. This is the dilemma.

So long as it is open to the indi­vid­ual to employ his wealth in hoard­ing or lend­ing money, the alter­na­tive of pur­chas­ing actual cap­i­tal assets can­not be ren­dered suf­fi­ciently attrac­tive (espe­cially to the man who does not man­age the cap­i­tal assets and knows very lit­tle about them), except by orga­niz­ing mar­kets wherein these assets can be eas­ily real­ized for money."2

Yes, liq­uid­ity for all at last night's marks is an illu­sion. But for banks, unlike mutual funds, it's not so much an illu­sion after all, for two sim­ple rea­sons: banks have access to deposit insur­ance under­writ­ten by fis­cal author­i­ties and to a dis­count win­dow under­writ­ten by the mon­e­tary author­ity (and one step removed, the fis­cal author­ity). Thus, banks are unique insti­tu­tions, pro­vid­ing a "pub­lic good:"

*
Liq­uid­ity on demand at par for their depos­i­tors, because of the safety net under­writ­ten by the sov­er­eign, yet
*
The abil­ity to invest in longer-dated, more risky, not-always-at-par loans and secu­ri­ties, because the exis­tence and cred­i­bil­ity of the pub­lic safety net sys­tem­i­cally ren­ders the public's ex post demand for liq­uid­ity at par below the public's ex ante demand.

Yes, bank­ing with a sov­er­eign safety net against deposit runs is a really cool busi­ness. Indeed, the dif­fer­ence between the public's ex post and ex ante demand for at-par liq­uid­ity could be called the bank­ing system's "float," sim­i­lar to that of a Buffet-style insur­ance company.

But since it's a really cool busi­ness and since the sov­er­eign pro­vid­ing the liq­uid­ity safety net is a de facto equity part­ner in the busi­ness, the sov­er­eign quite ratio­nally wants a say in how the busi­ness is run — the degree of lever­age, cor­po­rate gov­er­nance, risk man­age­ment con­trols, etc. Kinda like I do when I pay the insur­ance pre­mium on my 19-year old son's car. Jon­nie doesn't like it, and nei­ther do bankers. Or would-be bankers.

Thus, both bankers and would-be bankers have, from time immemo­r­ial, sought to get the ben­e­fits of the sovereign's liq­uid­ity safety net with­out shoul­der­ing the asso­ci­ated reg­u­la­tor nui­sance. And I'm sure that 19-year old sons and daugh­ters, too, have been doing the same for just as long.

Over the last three decades or so, the growth of "bank­ing" out­side for­mal, sovereign-regulated bank­ing, has exploded, in some­thing that I dubbed the Shadow Bank­ing System.3 Loosely defined, a Shadow Bank is a levered-up finan­cial inter­me­di­ary whose lia­bil­i­ties are broadly per­ceived as of sim­i­lar money-goodness and liq­uid­ity as con­ven­tional bank deposits. These lia­bil­i­ties could be shares of money mar­ket mutual funds; or the com­mer­cial paper of Finance Com­pa­nies, Con­duits and Struc­tured Invest­ment Vehi­cles; or the repo bor­row­ings of stand-alone Invest­ment Banks and Hedge Funds; or the senior tranches of Col­lat­er­al­ized Debt Oblig­a­tions; or a host of other sim­i­lar fund­ing instruments.

The bot­tom line is sim­ple: Shadow Banks use fund­ing instru­ments that are not just as good as old-fashioned sovereign-protected deposits. But it was a great gig so long as the pub­lic bought the notion that such fund­ing instru­ments were "just as good" as bank deposits — more lever­age, less reg­u­la­tion and more asset free­dom were a path to (much) higher returns on equity in Shadow Banks than con­ven­tional banks.

And why did the pub­lic buy such instru­ments as though they were "just as good" as bank deposits? There are a host of rea­sons, not the least of which was lust for yield. But most fun­da­men­tally, Keynes again gives us the sys­temic answer (his ital­ics, not mine):

"In prac­tice we have tac­itly agreed, as a rule, to fall back on what is, in truth, a con­ven­tion. The essence of this con­ven­tion — though it does not, of course, work out quite so sim­ply — lies in assum­ing that the exist­ing state of affairs will con­tinue indef­i­nitely, except in so far as we have spe­cific rea­sons to expect a change. This does not mean that we really believe that the exist­ing state of affairs will con­tinue indef­i­nitely. We know from exten­sive expe­ri­ence that this is most unlikely.

The actual results of an invest­ment over a long term of years very sel­dom agree with the ini­tial expec­ta­tion. Nor can we ratio­nal­ize our behav­ior by argu­ing that to a man in a state of igno­rance errors in either direc­tion are equally prob­a­ble, so that there remains a mean actu­ar­ial expec­ta­tion based on equi-probabilities. For it can eas­ily be shown that the assump­tion of arith­meti­cally equal prob­a­bil­i­ties based on a state of igno­rance leads to absurdities.

We are assum­ing, in effect, that the exist­ing mar­ket val­u­a­tion, how­ever arrived at, is uniquely cor­rect in rela­tion to our exist­ing knowl­edge of the facts which will influ­ence the yield of the invest­ment, and that it will only change in pro­por­tion to changes in this knowl­edge; though, philo­soph­i­cally speak­ing, it can­not be uniquely cor­rect, since our exist­ing knowl­edge does not pro­vide a suf­fi­cient basis for a cal­cu­lated math­e­mat­i­cal expec­ta­tion. In point of fact, all sorts of con­sid­er­a­tions enter into the mar­ket val­u­a­tions which are in no way rel­e­vant to the prospec­tive yield. Nev­er­the­less the above con­ven­tional method of cal­cu­la­tion will be com­pat­i­ble with a con­sid­er­able mea­sure of con­ti­nu­ity and sta­bil­ity in our affairs, so long as we can rely on the main­te­nance of the convention.

For if there exist orga­nized invest­ment mar­kets and if we can rely on the main­te­nance of the con­ven­tion, an investor can legit­i­mately encour­age him­self with the idea that the only risk he runs is that of a gen­uine change in the news over the near future, as to the like­li­hood of which he can attempt to form his own judg­ment, and which is unlikely to be very large. For, assum­ing that the con­ven­tion holds good, it is only these changes which can affect the value of his invest­ment, and he need not lose his sleep merely because he has not any notion what his invest­ment will be worth ten years hence.

Thus invest­ment becomes rea­son­ably "safe" for the indi­vid­ual investor over short peri­ods, and hence over a suc­ces­sion of short peri­ods how­ever many, if he can fairly rely on there being no break­down in the con­ven­tion and on his there­fore hav­ing an oppor­tu­nity to revise his judg­ment and change his invest­ment, before there has been time for much to hap­pen. Invest­ments which are "fixed" for the com­mu­nity are thus made "liq­uid" for the individual.

It has been, I am sure, on the basis of some such pro­ce­dure as this that our lead­ing invest­ment mar­kets have been devel­oped. But it is not sur­pris­ing that a con­ven­tion, in an absolute view of things so arbi­trary, should have its weak points. It is its pre­car­i­ous­ness which cre­ates no small part of our con­tem­po­rary prob­lem of secur­ing suf­fi­cient investment."4

And so, Keynes pro­vides the essen­tial — and exis­ten­tial — answer as to why the Shadow Bank­ing Sys­tem became so large, the unrav­el­ing of which lies at the root of the cur­rent global finan­cial sys­tem cri­sis. It was a belief in a con­ven­tion, under­girded by the length of time it held: Shadow Bank lia­bil­i­ties were viewed as "just as good" as con­ven­tional bank deposits not because they are, but because they had been. And the power of this con­ven­tional think­ing was aided and abet­ted by both the sov­er­eign and the sovereign-blessed rat­ing agencies.

Until, of course, con­ven­tion was turned on its head, start­ing with a run on the ABCP mar­ket in August 2007, the near death of Bear Stearns in March 2008, the de facto nation­al­iza­tion of Fan­nie and Fred­die in July, and the actual death of Lehman Broth­ers in Sep­tem­ber 2008. Maybe, just maybe, there was and is some­thing spe­cial about a real bank, as opposed to a Shadow Bank!

And indeed that is unam­bigu­ously the case, as evi­denced by the on-going par­tial re-intermediation of the Shadow Bank­ing Sys­tem back into the sovereign-supported con­ven­tional bank­ing sys­tem, as well as the mad scram­ble by remain­ing Shadow Banks to con­vert them­selves into con­ven­tional banks, so as to eat at the same sovereign-subsidized cap­i­tal and liq­uid­ity cafe­te­ria as their for­mer stodgy brethren.

The new con­ven­tional wis­dom: lev­ered cap­i­tal­ism is good, and made even bet­ter with a bit of social­ism to pro­tect the downside.

Well Maybe
I'm quite sure that last sen­tence is not going to sit well with some of you. It's not sup­posed to sit well. It doesn't sit well with me, I must acknowl­edge, nay con­fess. Like most of us, I've always had a sep­a­ra­tion in my mind between strictly cap­i­tal­ist activ­i­ties and strictly pub­lic activ­i­ties. Not that the demar­ca­tion is always clean. But it's a use­ful way of thinking.

As far as I know, the place where I buy my fish­ing tackle is a cap­i­tal­ist out­fit. If we cus­tomers don't buy enough rods and reels, the owner will go broke; his oper­a­tion is sim­ply not sys­tem­i­cally impor­tant enough to be bailed out by the tax­pay­ers, includ­ing my neigh­bors who don't fish. In con­trast, the local Depart­ment of Motor Vehi­cles, some­times called the DMV, is unam­bigu­ously not a cap­i­tal­ist out­fit, but a pub­lic out­fit. It can­not go broke, as evi­denced by our tol­er­ance of its fluc­tu­at­ing ser­vice level, because it pro­vides a pub­lic ser­vice that the pri­vate sec­tor can't pro­vide. To be sure, AAA can get you new plates for your car, but you can't renew your driver's license at the AAA; for that, you have got to go to the monop­oly called the DMV.

Well actu­ally, that's not entirely true, either. The DMV is actu­ally an oli­gop­oly, with offices in many sur­round­ing neigh­bor­hoods. And rumor has it here that the ser­vice is a lot quicker at the San Clemente office than the Costa Mesa office, which serves New­port Beach. So the con­sumer does have the choice of dri­ving to San Clemente, a form of time arbi­trage ver­sus going to the Costa Mesa office. How­ever, rumor also has it that this rumored bet­ter ser­vice in San Clemente is so wide­spread that, as Yogi Berra might say, the San Clemente office has become so pop­u­lar nobody goes there anymore.

But you get the point: there is pri­vate enter­prise and there is pub­lic enter­prise. And then there is bank­ing, a hybrid of the two. There is no way ‘round this, for good or bad, because frac­tional reserve bank­ing depends upon the sovereign's safety net against lia­bil­ity runs, a safety net that the pri­vate sec­tor def­i­n­i­tion­ally can't uni­ver­sally sup­ply. In this sense, the safety net is like national defense: we all need it, but since nobody indi­vid­u­ally has the incen­tive to pay for it, we col­lec­tively tax our­selves to pay for it.

Yes, some­times we col­lec­tively end up pay­ing $800 for mil­i­tary toi­let seats, as was the case about 25 years ago. But that doesn't change the propo­si­tion that pub­lic goods do exist, and a sta­ble sys­tem of inter­me­di­a­tion of pri­vate sav­ings into pri­vate invest­ment is indeed a pub­lic good. The matu­rity trans­for­ma­tion power of a frac­tional reserve bank­ing sys­tem pro­vides an unam­bigu­ous ben­e­fit to soci­ety and as such, must be under­writ­ten by society.

Bot­tom Line
I could regale you yet again about the power of the ana­lyt­i­cal think­ing of Hyman Min­sky, com­plete with his For­ward Jour­ney turn­ing into his Moment, fol­lowed by his Reverse Journey.5 But I don't need to do that any more: we've col­lec­tively lived it and are now caught in the debt-deflationary patholo­gies of "the para­dox of deleveraging."6 Not every­body in the pri­vate sec­tor can delever at the same time with­out cre­at­ing a depres­sion. Accord­ingly, the sov­er­eign must go the other way, lev­er­ing up the pub­lic bal­ance sheet. And Wash­ing­ton has finally started to do so with appro­pri­ate vigor and enthusiasm.

It's not a pretty pic­ture. In fact, it's repug­nant, giv­ing proof to the propo­si­tion that break­ing the para­dox of delever­ag­ing does involve social­iz­ing the down­side of pre­vi­ously prof­itable pri­vate sec­tor activ­i­ties. In a recent speech, I called it "creep­ing social­ism" and was inter­rupted by an irate, older man in the back of the room bel­low­ing, "It ain't creep­ing social­ism, it's gal­lop­ing social­ism!" I really didn't have a sooth­ing come back, not­ing that many things are what they are only in the eye of the beholder. But his point wasn't lost on me or any­body else in the room.

And it is not lost on Wash­ing­ton, DC either, I can assure you. If the sov­er­eign must back­stop a pri­vate sec­tor activ­ity that pro­duces a pub­lic good, then the sov­er­eign will, at least in a democ­racy, right­fully demand both bottom-up and macro-prudential rules to har­ness the greed that lubri­cates the invis­i­ble hand of cap­i­tal­ism. Yes, the vis­i­ble fist of gov­ern­ment and the invis­i­ble hand are presently engaged in a mas­sive arm wrestling con­test in the pro­vi­sion of finan­cial ser­vices. And the fist is winning.

At least for now. Cap­i­tal­ism, and espe­cially finan­cial mar­ket cap­i­tal­ism, brought this out­come upon itself through greed and hubris. Cap­i­tal­ism is now re-grouping and learn­ing how to play by new rules, which are still being writ­ten. And ulti­mately, I'm sure, cap­i­tal­is­tic bankers will once again bend those rules in the pur­suit of higher prof­itabil­ity. And that's okay, I think. In the end, we really don't want to turn our bank­ing sys­tem into the DMV. At the same time, we also don't want our bank­ing sys­tem to be noth­ing more than a bet­ting parlor.

Or, in the famous words of Keynes again:

"Spec­u­la­tors may do no harm as bub­bles on a steady stream of enter­prise. But the posi­tion is seri­ous when enter­prise becomes the bub­ble on a whirlpool of spec­u­la­tion. When the cap­i­tal devel­op­ment of a coun­try becomes a by-product of the activ­i­ties of a casino, the job is likely to be ill-done."

Paul A. McCul­ley
Man­ag­ing Direc­tor
Novem­ber 13, 2008

You can down­load a com­plete PDF here.

Tags: Banking System, Banks, Bear Stearns, Blog, BRIC, capitalism, Credit, Credit Market, Desc, Fed, Federal Reserve, Focus, Hedge Fund, Hedge Funds, Investment Banks, Italy, Journey, Lehman Brothers, liquidity, Market Cap, Markets, Mutual Funds, oil, Paul McCulley, PIMCO, risk, Valuations, Value, Wall Street, Water, wisdom
Posted in Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

Jeremy Grantham: Alan Greenspan is My Nemesis, and More

Monday, November 24th, 2008

Here is the first at-length TV inter­view we have ever seen GMO’s Jeremy Grantham do. We could not fig­ure out how to embed it, so here’s the link.

The co-founder and chair­man of global invest­ment man­age­ment firm, GMO, Grantham over­sees invest­ment strate­gies for the firm's more than one hun­dred bil­lion dol­lars in assets for mostly insti­tu­tional investors. The Econ­o­mist recently described Grantham as a Cas­san­dra of the invest­ment com­mu­nity for his bear­ish and accu­rate ten year fore­casts. The British born investor writes a widely read quar­terly let­ter but until now has avoided television.

Def­i­nitely a must see inter­view. Click for the video:

Here is a very small excerpt of this provoca­tive interview.

CONSUELO MACK: So let me ask you about that, you call it the curse of the value man­ager, that you could be quite early.

JEREMY GRANTHAM: Could be, almost invari­ably are, if you are a value man­ager. Because a value man­ager could be described that we are paid to buy cheap assets, we are paid to get out of expen­sive assets; but if you are paid to buy cheap assets when they are very cheap indeed, typ­i­cally you have owned them for quite a while and are regret­ting it. And simul­ta­ne­ously on the other side you have paid to get out of expen­sive assets and when they've become glo­ri­ously over­priced like 2000, we are long gone and look­ing like idiots.

CONSUELO MACK: Now, let me ask you because one of your themes of the last past three years, up until recently, was avoid risk, avoid risk, avoid risk. Do you have a mantra now? 

JEREMY GRANTHAM: Not as clear-cut as that. We were blessed with a great oppor­tu­nity there, to be nearly cer­tain that we were right. Now it's much more one of cre­ative ten­sion. Regret min­i­miza­tion. I've had lots of regrets, and I'm the czar of regret min­i­miz­ing at GMO. Which means, for exam­ple, if we buy too soon now, and the mar­ket goes down– as I really think it will, two to one, it will be down quite a lot next year– and we put the clients' money to work, they're going to say, "Jeremy, you of all peo­ple, why did you put our money in when you thought the mar­ket was going down?"  And we'll have bit­ter regret and we'll be very unhappy. 
If, on the other hand, we rec­og­nize the mar­ket is cheap and in some parts of the world very cheap, and we don't buy, and the mar­ket goes, as it might, scream­ing up, barely paus­ing for breath, we have ter­ri­ble regrets, the clients are thor­oughly upset and they say, "Jeremy, you told us they were cheap and you didn't put our money in, what were you think­ing about?" And of those two, I think that is the shoot­ing effect. As I like to say, you not only look like an idiot, you really are an idiot if you do that. And our deci­sion is to step our way as best we can, bal­anc­ing the two regrets. And how we do that is start­ing four weeks ago, we started to put money back fairly quickly, but only into the very cheap­est areas of the mar­ket– very high qual­ity U.S. blue-chips and emerg­ing mar­kets, and per­haps Japan. And then hav­ing done that and closed the gap towards neu­tral weight, then mov­ing very slowly indeed into the more diver­si­fied areas that are merely cheap, not spec­tac­u­larly cheap. So we're tak­ing some risk the mar­ket will run away. I don't think we'll hit neu­tral against our bench­mark and posi­tions in equi­ties until the mid­dle of next year.

Read the com­plete tran­script here.

Hat Tip: Infec­tious Greed, Paul Kedrosky

Tags: Alan Greenspan, CPI, Desc, Dollar, Emerging Market, Emerging Markets, interview, Investment Management, Japan, Markets, Php, risk, Value, Video
Posted in Emerging Markets, Markets | Comments Off

Hendry: Going long on government bonds

Monday, November 24th, 2008

By Hugh Hendry

Pub­lished: Novem­ber 19 2008 16:03

Some­one once said there are cer­tain things that can­not be ade­quately explained to a vir­gin, either by words or pic­tures. It is there­fore with some trep­i­da­tion that I attempt to out­line our invest­ment pol­icy. We are bull­ish on agri­cul­ture and bear­ish on the finan­cial com­mu­nity. For 10 years we have con­tended that equity mar­kets can, and do, stag­nate for peri­ods as long as a quar­ter of a cen­tury. Accord­ingly, we have refused to fol­low the mar­ket, choos­ing instead to invest in unlever­aged sec­tors which have endured long bear markets.

How­ever, there are com­pli­cat­ing cycle con­sid­er­a­tions. A process of debt liq­ui­da­tion is under way that resem­bles a turn­ing point herald­ing weaker global growth. This under­mines almost all risk tak­ing, includ­ing agri­cul­ture, and for this rea­son we presently favour only gov­ern­ment bonds.

Accord­ing to Prada: "There is a rejec­tion of fak­e­ness — the fake avant-garde." And the infla­tion scare that took the price of oil to almost $150 per bar­rel, and cre­ated a hawk­ish cen­tral bank­ing com­mu­nity, was per­haps the biggest head-fake of all. Cer­tainly, the mar­ket for 10-year gov­ern­ment bonds is begin­ning to think so. It is trad­ing near a record high.

And today, even those regional Fed gov­er­nors and hawk­ish Euro­pean cen­tral bankers seem to see it as well. As I say, this is the time to own gov­ern­ment bonds. But we are aware of just how out of sync we are with our heroes. Can the com­bined intel­lec­tual weight of Mark Faber, George Soros and James Grant all be wrong? Why do they insist on short­ing Trea­suries dur­ing the worst finan­cial cri­sis since the Depres­sion? I blame the Romans.

Monty Python's Life of Brian famously asked, "What have the Romans ever done for us?" In a sim­i­lar vein, one might enquire: "What did the cen­tral banks do to con­tain infla­tion in the 1970s?" As in most things, fate and chance play an impor­tant part. Let's con­sider the facts. The Fed reacted to the first oil shock 36 years ago by dri­ving its rate up from 3.5 per cent in Feb­ru­ary 1972 to 13 per cent in the sec­ond quar­ter of 1974. Such high nom­i­nal rates were unheard of and at the time ranked as the high­est in Amer­i­can eco­nomic his­tory. The aver­age US stock lost 74 per cent of its value from its 1968 high. The real econ­omy went into reverse and con­tracted in both 1974 and 1975.

Per­versely, I would attribute the decade's infla­tion to the lack of lever­age in the econ­omy. The bank­ruptcy of so many banks dur­ing the 1930s encour­aged the politi­cians to de-risk the sec­tor. For more than 40 years, the bank­ing sec­tor grew mod­estly, attracted mod­est peo­ple and pro­duced mod­est returns. The emer­gence of today's cadre of cav­a­lier banker was only detected by Soros, Rogers et al in their 1972 report, The Case for Growth Banks, some 43 years after the stock mar­ket peak in 1929.

If a tree falls in a for­est and no one is round to hear it, does it make a sound? Like­wise, if house prices fall but mort­gage debt is low, does it really mat­ter? This was the case in the mid 1970s and, in the absence of today's unprece­dented lever­age, house prices did not fal­ter, repos­ses­sions never soared and there was no major bank insol­vency. I would con­tend there­fore that it was the phe­nom­ena of low asset prices and a con­ser­v­a­tive bank­ing sec­tor that ensured that the Fed's mon­e­tary pol­icy response failed to tame inflation.

Con­trast with today and the prospect of con­tain­ing infla­tion should be high. Thirty years of unfet­tered mon­e­tary expan­sion has left the bank­ing sec­tor fully lever­aged and vul­ner­a­ble to insol­vency. For instance, the mere act of hold­ing UK inter­est rates at 5 per cent from April through to Octo­ber of this year has guar­an­teed a sharp con­trac­tion in the econ­omy which has the Bank of Eng­land reach­ing for the "D" word.

Don't get me wrong, I think Soros, Faber and Grant are right to fear the infla­tion­ary con­se­quences of our present breed of cen­tral banker. But my para­dox­i­cal rec­om­men­da­tion is to buy bonds. Many scoffed, but this pol­icy is work­ing. A para­dox, remem­ber, is a self– con­tra­dic­tory state­ment based on a valid deduc­tion from accept­able premises. Here is another: the smartest investor in Lon­don is short bonds. I'm long bonds, yet we share the same vision of the future. I'll let you decide.

The writer is chief invest­ment offi­cer and found­ing part­ner of Eclec­tica Asset Management

Source: FT Alphav­ille

Tags: Agriculture, Banks, Bear Market, Bear Markets, Central Banks, Eclectica, Eclectica Asset Management, Economy, Euro, Faber, Fed, FT.com, Government Bonds, Hugh Hendry, inflation, interest rates, Markets, Monetary Policy, Mortgage, oil, REW, risk, Trading, UK, Value
Posted in Bonds, Economy, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

Words from the (investment) wise for the week that was (November 17 – 23, 2008)

Sunday, November 23rd, 2008

A new bout of fear gripped finan­cial mar­kets dur­ing the past week, caus­ing the slide in global stocks, com­modi­ties and emerging-market assets to deepen. As investors’ angst esca­lated, posi­tions in risky assets were liq­ui­dated in exchange for per­ceived safe havens such as the US dol­lar, gov­ern­ment bonds and gold bullion.

“We have seen fun­da­men­tal sell­ing, tech­ni­cal sell­ing, forced sell­ing (delever­ag­ing), short sell­ing, capit­u­la­tion sell­ing and sell­ing due to ennui,” com­mented David Fuller (Fuller­money).

Fuel­ing the sell-off were mount­ing con­cerns that the eco­nomic reces­sion could not only be more intense than pre­vi­ously feared, but also fall into a cor­ro­sive defla­tion­ary phase. Addi­tion­ally, sen­ti­ment was under­mined by renewed ques­tions about the effec­tive­ness of the US government’s bailout plans.

A clear sign of dis­tress and fear was the US three-month Trea­sury Bill rate falling to zero on Thurs­day, before nudg­ing up to (a still minus­cule) 0.10% by the close of the week. “The finan­cial sit­u­a­tion at the moment is so bad that women are now mar­ry­ing for love,” quipped an e-mail doing the rounds.

After the S&P 500 Index breached the grim mile­stone of the Octo­ber 2002 lows and fell to lev­els last seen in 1997 — thereby threat­en­ing to wipe out the entire 2002 to 2007 bull mar­ket — Wall Street regained some con­fi­dence late on Fri­day. The trig­ger for a strong turn­around arrived just in time for the 15:00 witch­ing hour and came in the form of Tim­o­thy Geithner’s (pro­nounced GYTE-ner) nom­i­na­tion as new Trea­sury Sec­re­tary, result­ing in the S&P 500 recov­er­ing from an intra­day loss of more than 1% to a gain for the day of 6.3%.

On the bailout front, the Detroit automak­ers sought $25 bil­lion from the Trea­sury to avert bank­ruptcy. How­ever, Con­gress with­held finan­cial aid for the time being, giv­ing the com­pa­nies until Decem­ber 2 to sub­mit a “viable” recov­ery plan.

“Don’t be mis­led, though — the some­thing that is rot­ten in the auto indus­try has noth­ing to do with the credit crunch, and every­thing to do with years of mis­man­age­ment, shoddy prod­ucts and bad choices,” said Bloomberg colum­nist Mark Gilbert. “Con­sider the credit-rating his­to­ries of GM and Ford. For both com­pa­nies, the rot started all the way back in August 2001, when Stan­dard & Poor’s put the A grades they enjoyed for a decade on review for down­grade. In Octo­ber of that year they each suf­fered a two-level cut to BBB+ that left them just three moves away from junk status.”

I received the fol­low­ing note from an Amer­i­can friend a few days ago: “…even the chil­dren in my son’s sec­ond grade class are depressed about the auto indus­try. I had to answer my son’s ques­tions about bank­ruptcy since the kids are talk­ing about it …” This com­ment says it all!

Else­where, Citigroup’s © share price plunged by 60.4% over the week to a 16-year low as the com­pany wres­tled the finan­cial cri­sis and planned to slash 50,000 jobs. Accord­ing to The Wall Street Jour­nal, “Cit­i­group offi­cials have been talk­ing in recent days to Trea­sury Depart­ment and Fed­eral Reserve offi­cials, and those dis­cus­sions are expected to con­tinue through­out the weekend …”

A pointed com­ment regard­ing the prin­ci­ple of bailouts came from Jim Rogers, as quoted by the Finan­cial Times: “What they’re doing is tak­ing the assets away from the com­pe­tent peo­ple, giv­ing them to the incom­pe­tent peo­ple and say­ing to the incom­pe­tent: ‘Okay, now you can com­pete with the com­pe­tent peo­ple, with their money.’ I mean this is ter­ri­ble eco­nom­ics. This is out­ra­geous economics.”

Next, a tag cloud of the text of the plethora of arti­cles I have read since a week ago. This is a way of visu­al­iz­ing word fre­quen­cies at a glance. Key­words such as “banks”, “econ­omy”, “mar­ket” and “prices” occur often, but words such as “gold” and “defla­tion” have also started creep­ing into the tag picture.

The fol­low­ing update on the stock mar­ket out­look arrived on Fri­day from Ben­net Sedacca (Atlantic Advi­sors): “We have been barely invested, mostly void, in equi­ties, since May. We went ½ long today near the lows for a rally that could last longer than some think. Mostly large cap, high-quality, excel­lent bal­ance sheet com­pa­nies with a lit­tle tech and finan­cials thrown in. We must remem­ber, buy when you can, not when you have to.”

Over­sold con­di­tions are bound to result in ral­lies from time to time (and pos­si­bly around Thanks­giv­ing), but these should not be trusted at face value. For a more last­ing mar­ket turn­around to hap­pen, I would like to see evi­dence of base for­ma­tions on the charts, a 90% up-day, and rel­a­tive out­per­for­mance by the finan­cial sector.

I am also closely mon­i­tor­ing the surges in the US dol­lar and Japan­ese yen — low-yielding cur­ren­cies pre­vi­ously used for fund­ing risky invest­ments — as a break of the uptrends in these two cur­ren­cies will be a good indi­ca­tor of the forced delever­ag­ing sell­ing start­ing to sub­side. Once this sit­u­a­tion has played itself out, we should see a return to lower volatil­ity lev­els and a return of con­fi­dence. (Also read my recent posts “Eco­nomic woes tor­pedo stock mar­kets” and “Panic-crash sen­ti­ment causes extreme volatil­ity“.)

Before high­light­ing some thought-provoking news items and quotes from mar­ket com­men­ta­tors, let’s briefly review the finan­cial mar­kets’ move­ments on the basis of eco­nomic sta­tis­tics and a per­for­mance round-up.

Eco­nomic reports
The Ifo World Eco­nomic Cli­mate has wors­ened fur­ther in the fourth quar­ter of 2008 with the indi­ca­tor falling to its low­est level in more than 20 years, accord­ing to the Ifo World Eco­nomic Sur­vey. Not only the major eco­nomic regions of North Amer­ica, West­ern Europe and Asia are affected, but also Cen­tral and East­ern Europe, Rus­sia, Latin Amer­ica and Aus­tralia. On the whole, the sur­vey data point to a global recession.

Eco­nomic reports released in the US dur­ing the past week con­firmed an increas­ingly dire situation.

• The US moved closer to defla­tion ter­ri­tory as the CPI decreased by 1.0% from Sep­tem­ber to Octo­ber (the largest monthly decline since the 1930s), leav­ing the CPI 3.7% higher com­pared with a year ago and sig­nif­i­cantly down from September’s 4.9% rate. The con­tin­u­ing decline in US eco­nomic activ­ity is push­ing down infla­tion­ary pressure.

• Because of weak demand, pro­ducer prices for fin­ished goods gave up ground for the third month in a row, falling by 2.8% in Octo­ber largely as a result of much less expen­sive energy products.

• On par with expec­ta­tions, res­i­den­tial con­struc­tion slowed again in Octo­ber, with a 4.5% month-on-month decline in total hous­ing starts. At 791,000 annu­al­ized units, starts have hit another record low as excep­tion­ally weak demand was con­strain­ing homebuilding.

• The NAHB hous­ing mar­ket index fell fur­ther in Novem­ber, set­ting a record low.

• Slump­ing demand is hit­ting US indus­try hard, although pro­duc­tion bounced back in Octo­ber from hurricane-related declines in Sep­tem­ber. Total indus­trial pro­duc­tion increased by 1.3% after hav­ing fallen a down­wardly revised 3.7% in Sep­tem­ber, but the indi­ca­tor fell around two-thirds of a per­cent in Sep­tem­ber and Octo­ber when exclud­ing once-off effects.

• Ini­tial claims for unem­ploy­ment insur­ance ben­e­fits increased by 27,000 to 542,000 for the week ended Novem­ber 15, putting claims at their high­est point since the early 1990s. This is a seri­ous warn­ing sig­nal about the health of the labor market.

• The Con­fer­ence Board Index of Lead­ing Eco­nomic Indi­ca­tors declined by 0.9% in Octo­ber, led by a sharp plunge in stock prices and decreases in res­i­den­tial build­ing per­mits and con­sumer expec­ta­tions. The LEI in the last three months has shown an accel­er­a­tion in the rate of decline, adding to evi­dence that the US has entered a reces­sion that will likely be much deeper than either of the pre­vi­ous two.

It comes as no sur­prise that the min­utes of the Fed­eral Open Mar­ket Committee’s meet­ing of Octo­ber 28 to 29 indi­cate that mem­bers were extremely con­cerned about the near-term prospects for the econ­omy, given the stresses in finan­cial mar­kets. With the prob­lems in credit mar­kets per­sist­ing, the FOMC’s fore­cast called for falling growth through the first half of 2009, with next year’s real GDP growth pro­jec­tion low­ered to –0.2% to 1.1% (pre­vi­ously 2.0% to 2.8%).

Banks con­tinue to hoard all the liq­uid­ity the Fed is inject­ing directly instead of lend­ing it out. This raises the ques­tion: Is the Fed “push­ing on a string”? Asha Ban­ga­lore (North­ern Trust) com­mented as fol­lows: “The low­er­ing of the Fed funds rate, the Fed’s inno­v­a­tive pro­grams to pro­vide liq­uid­ity to finan­cial insti­tu­tions and more lenient rules for bor­row­ing through the dis­count win­dow appear to have exhausted the gamut of pos­si­bil­i­ties routed through mon­e­tary pol­icy changes to influ­ence aggre­gate demand.

“The pro­vi­sions of the Emer­gency Eco­nomic Sta­bi­liza­tion Act of 2008 allow for recap­i­tal­iza­tion of banks. The FDIC is work­ing on obtain­ing an approval for the anti-foreclosure plan to address the hous­ing mar­ket issues that are cen­tral to the cur­rent cri­sis. … the prob­a­bil­ity of a hefty fis­cal stim­u­lus pack­age … is grow­ing every day.”

Eco­nomic reports in other parts of the world were equally dismal.

Japan entered into its first reces­sion in seven years as the finan­cial cri­sis curbed demand for its exports. GDP growth con­tracted by 0.1% dur­ing the third quar­ter, or at an annu­al­ized rate of –0.4%, fol­low­ing a sec­ond quar­ter con­trac­tion of a mas­sive 0.9%.

Source: Finan­cial Times, Novem­ber 17, 2008.

China also warned that the unem­ploy­ment out­look was “grim” as a result of the finan­cial cri­sis forc­ing the clo­sure of more export-oriented factories.

In Europe, a fur­ther slow­down in eco­nomic activ­ity caused the Swiss National Bank to announce a sur­prise 100 basis-point cut in its three-month tar­get range to 0.5%-1.5% — the third emer­gency reduc­tion in two months.

Week’s eco­nomic reports
Click here for the week’s econ­omy in pic­tures, cour­tesy of Jake of Econom­Pic Data.

Source: Yahoo Finance, Novem­ber 21, 2008.

Next week’s US eco­nomic high­lights, cour­tesy of North­ern Trust, include the following:

1. Exist­ing Home Sales (Novem­ber 24): Sales of exist­ing homes are pre­dicted to have declined in Octo­ber after a small gain in Sep­tem­ber. Sales of exist­ing homes advanced by 7.8% from a year ago in Sep­tem­ber, after post­ing declines since late 2005. Con­sen­sus: 5.00 mil­lion ver­sus 5.18 mil­lion in September.

2. Real GDP (Novem­ber 25): Incom­ing eco­nomic reports sug­gest a small down­ward revi­sion of real GDP in the third quar­ter to a 0.5% drop from the advance esti­mate of a 0.3% decline. Con­sen­sus: –0.5%

3. New Home Sales (Novem­ber 26): Sales of new homes are expected to have fallen in Octo­ber after a 2.3% increase in Sep­tem­ber. Sales of new homes have dropped by 32.1% from a year ago in Sep­tem­ber. Con­sen­sus: 450,000 ver­sus 464,000 in September.

4. Durable Goods Orders (Novem­ber 26): Durable goods orders (-2.0%) are pre­dicted to have dropped in Octo­ber reflect­ing declines in book­ings of defense and air­craft, which posted large gains in Sep­tem­ber. Con­sen­sus: –2.6% ver­sus +0.9% in September.

5. Per­sonal Income and Spend­ing (Novem­ber 26): The earn­ings and pay­roll num­bers for Octo­ber indi­cate a steady read­ing for per­sonal income in Octo­ber. Auto sales fell sharply in Octo­ber and non-auto retail sales were notice­ably weak, point­ing to a likely drop in con­sumer spend­ing (-0.6%). Con­sen­sus: Per­sonal income +0.1%, con­sumer spend­ing –0.9%

6. Other reports: Case-Shiller Price Index, OFHEO Price Index, Con­sumer Con­fi­dence (Novem­ber 25).

Click here for a sum­mary of Wachovia’s weekly eco­nomic and finan­cial commentary.

Mar­kets
The per­for­mance chart obtained from the Wall Street Jour­nal Online shows how dif­fer­ent global mar­kets per­formed dur­ing the past week.

Source: Wall Street Jour­nal Online, Novem­ber 14, 2008.

Equi­ties
Global stock mar­kets suf­fered badly dur­ing the past week on mount­ing wor­ries about the sever­ity of the eco­nomic slow­down. The week’s move­ments — MSCI World Index –9.6% and MSCI Emerg­ing Mar­kets Index –11.8% — tell the story of a rough ride for bourses all over the world and marked a third straight week of losses. And the score­board would have been even worse if not for a dra­matic late-session recov­ery in the US on the news that Tim­o­thy Gei­th­ner would be named Trea­sury Secretary.

Not a sin­gle devel­oped mar­ket closed the week unscathed. Sim­i­larly, large losses also abounded among emerg­ing mar­kets, with the sole excep­tion being the Shang­hai Stock Exchange Com­pos­ite Index that recorded only a rel­a­tively small 0.9% decline. The Index plunged by 72.0% since its high of Octo­ber 16, 2007 until hit­ting a low on Novem­ber 4, but has sub­se­quently bounced by 15.4% to flirt with its 50-day mov­ing aver­age and roundo­pho­bia 2000 level. Will the upside lead­er­ship for global stock mar­kets come from China on this occasion?

The chart below shows the per­for­mances of the four BRIC coun­tries dur­ing the past week.

Click here or on the thumb­nail below for a (very red) mar­ket map, obtained from Fin­viz, pro­vid­ing a quick overview of last week’s per­for­mances of global stock mar­kets (as reflected by the move­ments of ADR stocks).

The US stock mar­kets all declined sharply over the week as shown by the major index move­ments: Dow Jones Indus­trial Index –5.3 (YTD –39.3%), S&P 500 Index –8.4% (YTD –45.5%). Nas­daq Com­pos­ite Index –8.7% (YTD ‑47.8%) and Rus­sell 2000 Index –10.9% (YTD –46.9%).

The S&P 500 closed below its Octo­ber 2002 low of 777 on Thurs­day, but Friday’s rally (+6.3%) to 800 put it back above this key sup­port level. The Dow remained above its 2002 low of 7,286 on Thurs­day and closed 760 points above this level after Friday’s surge.

Click here or on the thumb­nail below for a mar­ket map, also from Finviz.com, show­ing the per­for­mances of the var­i­ous seg­ments of the S&P 500 over the week.

As far as indus­try groups are con­cerned, gold (+19%) was the top per­former for the week, led by New­mont Min­ing (NEM) on the back of a sharp rise in the price of gold bullion.

On the other side of the per­for­mance spec­trum, the indus­trial real estate invest­ment trust (REIT) group (-40%) was the worst per­former. The diver­si­fied finan­cial ser­vices group (-38%) was the sec­ond worst per­former, with each of the group’s large banks — Cit­i­group ©, JPMor­gan Chase (JPM) and Bank of Amer­ica (BAC) — drop­ping sharply. Investor con­cerns about future credit losses, val­u­a­tions of “toxic” secu­ri­ties on the banks’ books, job lay­offs and cap­i­tal ade­quacy issues were the dri­vers for the declines.

David Fuller (Fuller­money) com­mented as fol­lows on the out­look for stock mar­kets: “… we have yet to see evi­dence of bot­tom­ing out on many major stock mar­ket charts. While this is wor­ry­ing, to put it mildly, and sen­ti­ment is dia­bol­i­cal, investors should recall an extremely impor­tant behav­ioural con­di­tion­ing process. The crowd has always turned pro­gres­sively more bear­ish with each addi­tional decline towards the even­tual low for every bear mar­ket. This is inevitable as more peo­ple sell, and unfor­tu­nately, few are more bear­ish than a bat­tered hold­out who finally capitulates.

“If global stock mar­kets are not close to a major buy­ing oppor­tu­nity, then I sug­gest we should all head to sea and become Somali pirates.”

Fixed-interest instru­ments
Gov­ern­ment bond yields across the world plunged last week as spooked investors rushed out of equi­ties into sov­er­eign debt.

The ten-year US Trea­sury Note yield declined by a mas­sive 57 basis points to 3.18%, the UK ten-year Gilt yield dropped by 20 basis points to 3.87% and the Ger­man ten-year Bund yield fell by 30 basis points to 3.38%. How­ever, emerging-market bonds, in gen­eral, lost ground as fur­ther delever­ag­ing took its toll on risky assets.

The yield on ten-year Trea­suries touched a 5½-year low (3.01%) on Thurs­day before rebound­ing by the close of the week, whereas the yield on 30-year bonds dropped to its low­est level (3.53%) since the start of reg­u­lar issuance in 1977 before snap­ping back by 14 basis points.

US mort­gage rates also declined, with the 30-year fixed rate drop­ping by 9 basis points to 6.09% and the 5-year ARM also by 9 basis points to 5.89%.

A num­ber of indi­ca­tors show that the credit cri­sis is still severe. For exam­ple, credit default swaps that mea­sure default risk for invest­ment grade debt are trad­ing at their high­est lev­els of the bear mar­ket. This is seen from Bespoke’s index that mea­sures default risk for 125 com­pa­nies with invest­ment grade debt ratings.

Cur­ren­cies
The week’s fea­ture among cur­ren­cies was safe-haven flows into the US dol­lar and Japan­ese yen as investors liq­ui­dated risky assets pre­vi­ously funded with these low-yielding currencies.

The Swiss franc came under pres­sure as the Swiss National Bank slashed inter­est rates a full per­cent­age point to 1% as an emer­gency step to soften the eco­nomic slowdown.

The chart below illus­trates the accent of the US dol­lar and Japan­ese yen since Sep­tem­ber 15. (The US dol­lar is mea­sured against a trade-weighted bas­ket of cur­ren­cies, whereas all the other cur­ren­cies are mea­sured against the US dollar.)

Emerging-market cur­ren­cies had another bad week as a result of increas­ing risk aver­sion. Exam­ples of losses against the green­back include the Brazil­ian real (‑10.4%), the Turk­ish lira (-4.5%), the South Korean won (-6.7%) and the South African rand (-4.4%).

RGE Mon­i­tor raised the ques­tion whether Bul­garia and the Baltic states will be forced to reset their fixed exchange rate pegs to the euro as a result of their large exter­nal imbal­ances and the global finan­cial cri­sis. “Because of their fixed exchange rates, these economies can­not con­duct inde­pen­dent mon­e­tary pol­icy so the bur­den of macro-economic adjust­ment falls on fis­cal pol­icy.”

Com­modi­ties
The Reuters/Jeffries CRB Index (-6.5%) wit­nessed a fur­ther decline amid fears of a pro­tracted global eco­nomic reces­sion and expec­ta­tions that demand will drop.

Gold bul­lion (+6.6%) bucked the trend and surged as the yel­low metal found sup­port among ner­vous investors as a safe store of value. A report that China might embark on a gold-buying pro­gram pro­vided an addi­tional boost.

On the other hand, West Texas Inter­me­di­ate crude declined by a fur­ther 13.3% to $49.9 — a level not seen since May 2005. OPEC meets on Novem­ber 29 to con­sider addi­tional pro­duc­tion cuts.

The graph below shows the move­ments of var­i­ous com­modi­ties over the past week — a con­tin­u­a­tion of the intense bear mar­ket that has been in force since the begin­ning of July.

Lau-Tzu said: “Those who have knowl­edge, don’t pre­dict. Those who pre­dict, don’t have knowl­edge.” Wise words indeed, but hope­fully the news items and words from the invest­ment wise below will cast some light on the lie of the invest­ment land. And may the mar­kets bring you addi­tional rea­son to cel­e­brate a joy­ous Thanksgiving.

That’s the way it looks from Cape Town.

Source: Pat Oliphant, Slate

Barry Ritholtz (The Big Pic­ture): Record-breaking data every­where!
“One of the inter­est­ing aspects of this unprece­dented hous­ing col­lapse, credit cri­sis, eco­nomic reces­sion and mar­ket crash has been all the new records we keep seeing:

• Over the past year, the S&P 500 Index lost ~$1 tril­lion more than the entire 2000–2002 bear mar­ket, accord­ing to Stan­dard & Poor’s. From the Octo­ber 2007 highs of 1,565, to yesterday’s close of 806.58, the S&P 500 mar­ket cap­i­tal­iza­tion lost $6.69 tril­lion. That’s almost $1 tril­lion more than entire 2000-03 bear mar­ket losses of $5.76 tril­lion. (Mar­ket­watch)

• The S&P 500 hasn’t been this far below its 200-day mov­ing aver­age on a per­cent­age basis since the Great Depres­sion. (Doug Kass)

• CPI: US con­sumer prices in Octo­ber reg­is­tered their largest single-month decline since before World War II. It is the largest monthly drop in the 61-year his­tory of the data;

• PPI, down 2.8% for the month, was also a record-breaking drop.

• The div­i­dend yield on the S&P 500 is now greater than the yield on the 10-year Trea­sury. That hasn’t hap­pened since 1958. (Barron’s)

• First-time claims for US unem­ploy­ment insur­ance rose to the high­est level since Sep­tem­ber 2001. The total num­ber of peo­ple on unem­ploy­ment ben­e­fit rolls jumped to the high­est level since 1983.

• Hous­ing starts fell to 791,000, off 38% from a year ago. That’s the slow­est pace of starts since data began being com­piled in 1959. Starts are now down 65% from the early 2006 peak — this has become the very worst hous­ing down­turn on record.

• Per­mits for new houses, at a 708,000 pace, were off 40% from a year ago, also the low­est total since it has been tracked start­ing in 1960. Put this into con­text of pop­u­la­tion — in 1960, the total US pop­u­la­tion stood at 180 mil­lion — 60% of today’s 300 million.

• The 30-year return for BBB-rated cor­po­rate bonds is now greater than the 30-year return for stocks. So it has not paid to take equity risk for 30 years! (The Street.com)

• The TIPS Spread ( Trea­sury Infla­tion Pro­tected Secu­ri­ties ver­sus the 10-year Trea­sury) is at a record low 54 basis points (1997).

• The Rus­sell 3,000 now has 1,228 stocks a share price under $10. That’s 42% of the index. At the market’s 2002 lows, there were sig­nif­i­cantly less stocks trad­ing below $10/share — just 884. (Bespoke)”

Source: Barry Ritholtz, The Big Pic­ture, Novem­ber 20, 2008.

The Wall Street Jour­nal: Obama likely to pick Fed’s Gei­th­ner for Trea­sury
“President-elect Barack Obama is expected to nom­i­nate as Trea­sury Sec­re­tary Tim­o­thy Gei­th­ner, the pres­i­dent of the Fed­eral Reserve Bank of New York and a fig­ure who has been deeply involved in tack­ling the finan­cial crisis.

“Mr. Gei­th­ner, 47 years old, would be one of the youngest-ever US Trea­sury sec­re­taries. His nom­i­na­tion would come as Wall Street is being chal­lenged by the finan­cial cri­sis and a Wash­ing­ton power vac­uum, and as the world’s debt mar­kets show fresh signs of falling into deeper problems.

“Mr. Obama is expected to intro­duce his entire eco­nomic team on Mon­day, accord­ing to peo­ple famil­iar with the mat­ter. The president-elect has been under pres­sure to speed up his tran­si­tion as stock mar­kets this past week fell to lows not seen since the late 1990s.

“Mr. Gei­th­ner served as a Trea­sury attaché in Japan in the 1990s and later at the Inter­na­tional Mon­e­tary Fund. He was a pro­tégé of for­mer Trea­sury Sec­re­taries Lawrence Sum­mers and Robert Rubin. Mr. Sum­mers, who was also a poten­tial can­di­date, instead is expected to take a posi­tion within the White House as an eco­nomic adviser.

“Mr. Gei­th­ner has spent most of his career man­ag­ing gov­ern­ment responses to finan­cial crises, from the 1990s bailouts of Mex­ico, Indone­sia and Korea, to the debt-market melt­down that has brought Wall Street to its knees this year.

“Mr. Gei­th­ner (pro­nounced GYTE-ner) pushed for ear­lier inter­ven­tion in the finan­cial mar­kets to stem the finan­cial cri­sis, and looks likely to con­tinue that activist approach in his new job. Among his first pri­or­i­ties could be a large fiscal-stimulus package.

“Unlike pre­vi­ous picks for Trea­sury sec­re­tary, who hailed from Wall Street, indus­try or the Sen­ate, Mr. Gei­th­ner has been a tech­no­crat most of his career.”

Source: Jonathan Weis­man, Deb­o­rah Solomon and Jon Hilsen­rath, The Wall Street Jour­nal, Novem­ber 22, 2008.

The Wall Street Jour­nal: Paul­son — we’re not exper­i­ment­ing with bailout
“Trea­sury Sec­re­tary Henry Paul­son defended the Bush Administration’s $700 bil­lion bailout plan, telling WSJ’s Alan Mur­ray he doesn’t think he’s doing FDR-like exper­i­men­ta­tion with liq­uid assets.”

Source: The Wall Street Jour­nal, Novem­ber 17, 2008.

CNBC: Bernanke tes­ti­mony
Fed­eral Reserve chair­man Ben Bernanke tes­ti­fies before the House Finan­cial Ser­vices Committee.

Source: CNBC, Novem­ber 18, 2008.

Finan­cial Times: US econ­omy chiefs say poli­cies bear fruit
“The cost of insur­ing top qual­ity US com­pa­nies against default hit a record high on Tues­day even as Hank Paul­son and Ben Bernanke told Con­gress that their rad­i­cal pol­icy actions to ease the credit cri­sis were start­ing to bear fruit.

“‘We have turned the cor­ner in terms of sta­bil­is­ing the sys­tem and pre­vent­ing col­lapse,’ said Mr Paul­son, Trea­sury sec­re­tary. He called for patience, say­ing: ‘There is a lot of work that still needs to be done in terms of recov­ery of the finan­cial system.’

“Mr Bernanke said there were ‘some signs that credit mar­kets, while still quite strained, are improving’.

“How­ever, the Fed­eral Reserve chair­man noted that ‘over­all credit con­di­tions are still far from nor­mal, with risk spreads remain­ing very elevated’.

“On Tues­day, the CDX index that mea­sures the cost of insur­ing invest­ment grade com­pa­nies against default closed at a record high on mount­ing con­cern about the global econ­omy, and there were fresh signs of dis­lo­ca­tion in the swaps market.

“Mean­while, indices that mea­sure the value of secu­ri­ties backed by res­i­den­tial and com­mer­cial prop­erty loans — which have plunged since Mr Paul­son aban­doned his plan to buy toxic assets last week — con­tin­ued to plumb new depths.”

Source: Michael Macken­zie and Krishna Guha, Finan­cial Times, Novem­ber 18, 2008.

The Wall Street: Paul­son, Sum­mers, Rubin debate cri­sis
“Cur­rent Trea­sury Sec­re­tary Henry Paul­son and pre­de­ces­sors Lawrence Sum­mers and Robert Rubin locked horns over the best way to get the US econ­omy back on track.”

Source: The Wall Street Jour­nal, Novem­ber 17, 2008.

Bespoke: Paul­son try­ing to rewrite his own his­tory
“Trea­sury Sec­re­tary Henry Paul­son spoke at the Rea­gan Library this after­noon, and judg­ing by the speech, it appears as though Mr. Paul­son is embark­ing on a PR cam­paign to rewrite the his­tory of his han­dling of the credit cri­sis. One line that stood out was when he said: ‘By pro-actively address­ing the prob­lems we saw coming …’

“Judg­ing by excerpts of prior com­ments the Trea­sury Sec­re­tary made dur­ing 2007, if Mr. Paul­son saw the prob­lems com­ing, he wasn’t telling anybody.

“Mar­ket­watch 3/13/07: Paul­son also said the fall­out in sub­prime mort­gages is ‘going to be painful to some lenders, but it is largely con­tained.’

“Reuters 4/20/07: ‘I don’t see (sub­prime mort­gage mar­ket trou­bles) impos­ing a seri­ous prob­lem. I think it’s going to be largely con­tained.’

“Bloomberg 5/22/07: Paul­son, also speak­ing to CNBC, said the hous­ing slump was ‘largely con­tained‘ and that market’s cor­rec­tion was mostly ‘behind us.’

“Bloomberg 6/20/07: Sub­prime fall­out ‘will not affect the econ­omy overall.’

“Forbes 7/27/07: Appear­ing on CNBC with other mem­bers of the Bush administration’s eco­nomic team, he again said mort­gage indus­try prob­lems would be ‘largely con­tained.’

“Boston.com 8/1/07: Paul­son added that he did not see any­thing that caused him to recon­sider his view that the eco­nomic dam­age from the hous­ing cor­rec­tion was ‘largely con­tained.’

“Another clas­sic line from today was, ‘As I assess our cur­rent sit­u­a­tion, I believe we have taken the nec­es­sary steps to pre­vent a finan­cial col­lapse.’ Mr. Paul­son, what is it going to take for you to con­sider this a finan­cial collapse?

“Given that the extent of the credit cri­sis was under­es­ti­mated by almost every­one, you can give Paul­son some­what of a pass for miss­ing it. But to try and rewrite his­tory through speeches even while the credit cri­sis is still play­ing out is inexcusable.”

Source: Bespoke, Novem­ber 20, 2008.

Finan­cial Times: Con­gress reaches an impasse on car bailout
“The US Con­gress is unable to approve a new emer­gency loan to the country’s trou­bled car sec­tor, Demo­c­ra­tic lead­ers said on Thursday.

“Indus­try chiefs’ pleas for aid appeared to back­fire after two days of hear­ings on Capi­tol Hill. News of the impasse over one of the hardest-hit sec­tors of the US econ­omy came as Pres­i­dent George W. Bush agreed to extend unem­ploy­ment ben­e­fits after US weekly job­less claims hit a 16-year high.

“Harry Reid, Sen­ate major­ity leader, and Nancy Pelosi, speaker of the House of Rep­re­sen­ta­tives, said there were not enough votes to pass a $25 bil­lion loan for Detroit that Democ­rats had advo­cated. They said car com­pa­nies had to be more spe­cific about restructuring.

“The pair gave the big three car­mak­ers — Gen­eral Motors, Ford and Chrysler — until Decem­ber 2 to sub­mit a ‘viable’ recov­ery plan, with the prospect of con­ven­ing hear­ings imme­di­ately after­wards and pos­si­ble con­gres­sional votes a week after that.

“The announce­ment came in spite of last-minute efforts by six Demo­c­ra­tic and Repub­li­can sen­a­tors from car-producing states to reach a deal on a bridg­ing loan.”

Source: Daniel Dombey, Andrew Ward and Bernard Simon, Finan­cial Times, Novem­ber 20, 2008.

ABC News: Auto bailout — would be bet­ter to burn the money
“Con­gress is debat­ing cut­ting the Big Three Autos a check … some­thing to tide them over through these tough times. Gen­eral Motors is bleed­ing money … some 2 bil­lion dol­lars a day. Bail them out or let them go bank­rupt? That’s the bil­lion dol­lar ques­tion. And its bil­lions of your money.

“One side says give them money — they’re too big to fail, too many jobs will be lost, the Amer­i­can econ­omy will be hit hard, they need time to get fuel effi­cient cars to the market.

“The flip side — let them fail, they brought this on them­selves, pour­ing 25 bil­lion into these failed mod­els is a waste, bank­ruptcy pro­tec­tions will let them out of their incred­i­bly expen­sive labor contracts.

“… David Yer­mack from NYU Stern Busi­ness School chimed in: ‘The impli­ca­tions of this story for Wash­ing­ton pol­icy mak­ers are obvi­ous. Invest­ing in the major auto com­pa­nies today would be throw­ing good money after bad. Many are sug­gest­ing that $25 bil­lion of pub­lic money be imme­di­ately injected into the auto busi­ness in order to buy time for an even larger bailout to be orga­nized. We would do bet­ter to set this money on fire rather than using it to keep these dying firms on life sup­port, set­ting them up for even more money-losing invest­ments in the future.’”

Source: ABC News, Novem­ber 17, 2008.

Paul Kedrosky (Infec­tious Greed): The auto bank­ruptcy teeter-totter
“GM, for its part, isn’t tak­ing this lying down. It has posted a video on YouTube explain­ing — okay, pro­pa­gan­diz­ing — the impli­ca­tions of let­ting it die. Watch it to see how the straight-to-consumer “Save us!” game is played.”

Source: Paul Kedrosky, Infec­tious Greed, Novem­ber 15, 2008.

CNBC: Finan­cial cri­sis tab already in the tril­lions
“Given the speed at which the fed­eral gov­ern­ment is throw­ing money at the finan­cial cri­sis, the aver­age tax­payer, never mind mem­ber of Con­gress, might not be faulted for los­ing track.

“CNBC, how­ever, has been pay­ing very close atten­tion and keep­ing a run­ning tally of actual spend­ing as well as the com­mit­ments involved.

“Try $4.28 tril­lion dol­lars. Not only is it a astro­nom­i­cal amount of money, it’s a com­pli­cated cock­tail of bud­geted dol­lars, actual spend­ing, guar­an­tees, loans, swaps and other mar­ket mech­a­nisms by the Fed­eral Reserve, the Trea­sury and other offices of gov­ern­ment taken over roughly the last year, based on gov­ern­ment data and new releases. Strictly speak­ing, not every cent is directed as a result of what’s called the finan­cial cri­sis, but it arguably related to it.”

Source: CNBC, Novem­ber 17, 2008.

Reuters: Finan­cials need at least $1 tril­lion — ana­lyst
“The US finan­cial sys­tem still needs at least $1 tril­lion to $1.2 tril­lion of tan­gi­ble com­mon equity to restore con­fi­dence and improve liq­uid­ity in the credit mar­kets, Fried­man Billings Ram­sey ana­lyst Paul Miller said.

“Eight finan­cial com­pa­nies — Cit­i­group, Mor­gan Stan­ley, Gold­man Sachs Group, Wells Fargo, JPMor­gan Chase, AIG, Bank of Amer­ica Corp and GE Finan­cial — are in great­est need of cap­i­tal, he said.

“‘Debt or TARP cap­i­tal is not true cap­i­tal. Long-term debt financ­ing is not the solu­tion. Only injec­tions of true tan­gi­ble com­mon equity will solve the cur­rent cri­sis,’ he said.

“Cur­rently, the US finan­cial sys­tem has $37 tril­lion of debt out­stand­ing, he noted.

“Com­bined, these eight com­pa­nies have roughly $12.2 tril­lion of assets and only $406 bil­lion of tan­gi­ble com­mon cap­i­tal, or just 3.4%, the ana­lyst said.

“Miller said these insti­tu­tions need some­where between $1 tril­lion and $1.2 tril­lion of cap­i­tal to put their bal­ance sheets back on solid ground and begin to extend credit again, given their depen­dence on short-term fund­ing and the illiq­uid nature of their asset bases.”

Source: Reuters, Novem­ber 20, 2008.

Mr Mort­gage: The great mort­gage mod­i­fi­ca­tion pump
“Rework­ing loans to make ‘pay­ments afford­able’ with­out per­ma­nently reduc­ing prin­ci­pal bal­ances is the worst pos­si­ble thing that can be done because it ensures the hous­ing and fore­clo­sure cri­sis will be with us for a long time. If these pro­grams are widely accepted, hous­ing is a dead asset class indefinitely …

“This style of mod­i­fi­ca­tion does not sit well with own­ers of mort­gage secu­ri­ties either, which make up the bulk of dis­tressed mort­gages. This is because deferred inter­est, 40-year terms and inter­est only teaser peri­ods, greatly reduces the cash flows and length­ens the dura­tion of the security.”

Click here for the full article.

Source: Mr Mort­gage, Novem­ber 19, 2008.

Credit Suisse: More fis­cal action needed to ease cri­sis
“The US, Europe and Japan are in sig­nif­i­cant reces­sion, says Giles Keat­ing, Head of Global Research at Credit Suisse. He explains how the finan­cial cri­sis is evolv­ing and why cap­i­tal injec­tions are needed.”

Source: Credit Suisse, Novem­ber 12, 2008.

The Wall Street Jour­nal: Dis­cussing the Great Depres­sion
“Dorothy Womble and William Hague sur­vived the Great Depres­sion. They share their sto­ries of liv­ing dur­ing that time as children.”

Source: The Wall Street Jour­nal, Novem­ber 14, 2008.

Reuters: Fed’s Hoen­ing — Fed has done “as much as it can”
“Kansas City Fed­eral Reserve Pres­i­dent Thomas Hoenig said on Mon­day the US cen­tral bank has done what it can to buffer the econ­omy through a down­turn, and a painful process of read­just­ment is likely ahead.

“‘The Fed has done about as much as it can do,’ he said in an inter­view on PBS’s Nightly Busi­ness Report. Inter­est rates are already extremely low, he noted, accord­ing to a tran­script of the program.

“‘We might put it out there, but banks are not able to, given their own cap­i­tal con­straints, able to lend as aggres­sively,’ he added.

“Hoenig said he was sur­prised at how quickly eco­nomic activ­ity has slowed, but that a sharp rever­sal of con­sump­tion was clearly a key development.

“‘The con­sumer fac­tor was a major part of the strong slow­down and the actual enter­ing into the reces­sion,’ he said.

“‘Part of it is work­ing through the delever­ag­ing,’ he said. ‘I don’t know of any pain­less way to rebal­ance your econ­omy, you have to go through this adjust­ment, and we will get through it, but it’s not going to be with­out con­se­quence,’ he added.”

Source: Mark Felsen­thal, Reuters, Novem­ber 17, 2008.

Bloomberg: NABE’s Var­vares says US reces­sion to extend into 2009
“Chris Var­vares, pres­i­dent of Macro­eco­nomic Advis­ers LLC and pres­i­dent of the National Asso­ci­a­tion for Busi­ness Eco­nom­ics, talks with Bloomberg about the results of NABE’s sur­vey of busi­ness economists.”

Click here for the article.

Source: Tim­o­thy R. Homan, Bloomberg, Novem­ber 17, 2008.

Bloomberg: Nouriel Roubini — “I fear the worst is yet to come”

Source: Bloomberg, Novem­ber 20, 2008.

Clus­ter­stock: Roubini — How are we screwed? Let us count the ways
“Nouriel Roubini weighs in with another trea­tise of doom, this time focused on con­sumer spend­ing. He lists 20 rea­sons con­sumer spend­ing is headed to hell in a hand­bas­ket, tak­ing the econ­omy down with it. We’re short on Prozac, so we’ll sum­ma­rize only a hand­ful here, and we’ll let Nouriel take it away:

“Today’s news about Octo­ber retail sales (-2.8% rel­a­tive to the pre­vi­ous month and now down in real terms for five months in a row) con­firm what this forum has been argu­ing for a while, i.e. that the US has entered its most severe consumer-led reces­sion in decades. At this rate of free fall in con­sump­tion real GDP growth could be a whop­ping 5% neg­a­tive or even worse in Q4 of 2008. And this is not a tem­po­rary phe­nom­e­non as almost all of the fun­da­men­tals dri­ving con­sump­tion are head­ing south on a per­sis­tent and struc­tural basis …”

Click here for the article.

Source: Henry Blod­get, Clus­ter­stock, Novem­ber 15, 2008.

Asha Ban­ga­lore (North­ern Trust): What is the Fed’s next move?
“The min­utes of the Octo­ber 28 to 29 FOMC meet­ing were pub­lished this after­noon [Wednes­day]. The main thrust of these min­utes is that eco­nomic growth is the top­most con­cern. The min­utes noted that ‘mem­bers also saw the sub­stan­tial down­side risks to growth as sup­port­ing a rel­a­tively large pol­icy move at this meet­ing, though even after today’s 50 basis point action, the Com­mit­tee judged that down­side risks to growth would remain. Mem­bers antic­i­pated that eco­nomic data over the upcom­ing inter­meet­ing period would show sig­nif­i­cant weak­ness in eco­nomic activ­ity, and some sug­gested that addi­tional pol­icy eas­ing could well be appro­pri­ate at future meetings.’

“The tar­get rate was low­ered to 1.0% on Octo­ber 29, with the effec­tive rate trad­ing between 22 bps and 37 bps since then. Is there a ben­e­fit to low­er­ing the Fed­eral funds rate? A lower Fed­eral funds rate, as sug­gested in the min­utes of the Octo­ber 28–29 meet­ing, would only accom­plish val­i­dat­ing the already low effec­tive Fed­eral funds rate. It is pos­si­ble the Fed could cut the Fed­eral funds rate and aban­don attempt­ing to man­age the effec­tive rate such that it trades close to the tar­get rate. It appears that the Fed may be con­sid­er­ing the pos­si­bil­ity of a zero fed­eral funds even­tu­ally, if eco­nomic con­di­tions war­rant it.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 19, 2008.

Bloomberg: Fed to cut rates to zero on defla­tion risk, JPMor­gan pre­dicts
“The US Fed­eral Reserve will prob­a­bly cut inter­est rates to zero per­cent over the next two months to staunch defla­tion, accord­ing to JPMor­gan Chase.

“The Fed will lower bor­row­ing costs by 50 basis points at each of the next two pol­icy meet­ings on Decem­ber 16 and Jan­u­ary 28, JPMor­gan econ­o­mist Michael Fer­oli wrote in a note to investors yes­ter­day. The cen­tral bank will hold rates at zero for the rest of 2009 to pre­vent prices from spi­ral­ing down as com­pa­nies cut jobs and banks reduce lend­ing, sti­fling spend­ing, Fer­oli said.

“The Fed may not be the only cen­tral bank to begin offer­ing free money to jolt life into their reces­sion­ary economies and keep prices ris­ing as the 15-month credit cri­sis deep­ens. The Bank of Japan cut its bench­mark rate to 0.3% last month, and the Euro­pean Cen­tral Bank has sig­naled it’s ready to lower rates fur­ther after two reduc­tions in the past six weeks.

“‘Tak­ing the tar­get rate to zero per­cent would not be cost­less for the Fed,’ Fer­oli said. Pub­lic con­fi­dence may drop ‘if there is a per­cep­tion that the Fed has run out of ammo’.”

Source: Jason Clen­field, Bloomberg, Novem­ber 20, 2008.

Asha Ban­ga­lore (North­ern Trust): Lead­ing index points to fur­ther weak­en­ing of econ­omy
“The Con­fer­ence Board’s Index of Lead­ing Eco­nomic Indi­ca­tors (LEI) dropped 0.8% in Octo­ber after a revised 0.1% increase in Sep­tem­ber. The LEI has dropped in four of the last six months. On a year-to-year basis, the LEI has dropped 3.5%, the largest monthly decline for the cur­rent cycle.

“The LEI has sent a reli­able warn­ing of weak­en­ing eco­nomic con­di­tions for all reces­sions since 1960, with the excep­tion of the 1967 dip (the econ­omy was weak in this period but it was not a recession).”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 20, 2008.

Asha Ban­ga­lore (North­ern Trust): Indus­trial pro­duc­tion is sig­nif­i­cantly weak
“The head­line indus­trial pro­duc­tion index rose 1.3% in Octo­ber, after a 3.7% drop in Sep­tem­ber. The Sep­tem­ber esti­mate now shows a larger drop than the orig­i­nal esti­mate of a 2.8% decline due to revised esti­mates of the impact of Hur­ri­canes Gus­tav and Ike on the chem­i­cal indus­try. Accord­ing to the Fed, exclud­ing the spe­cial fac­tors of hur­ri­canes and Boe­ing strike, indus­trial pro­duc­tion dropped 2/3 per­cent in both Sep­tem­ber and October.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 17, 2008.

Asha Ban­ga­lore (North­ern Trust): Decline in hous­ing starts stress per­sis­tence of hous­ing tur­moil
“Total hous­ing starts dropped 4.5% to an annual rate of 791,000 in Octo­ber, reflect­ing a decline in starts of both multi-family and single-family units. These num­bers along with the record low of the Hous­ing Mar­ket Index of the National Asso­ci­a­tion of Home Builders in Novem­ber imply that the bot­tom of hous­ing starts is not here yet.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 19, 2008.

Asha Ban­ga­lore (North­ern Trust): Hous­ing mar­ket update — grim news bol­sters Sheila Bair’s plan to stem the cri­sis
“The grim hous­ing mar­ket news con­tin­ues to sup­port opin­ions that the mort­gage prob­lem is the key to a res­o­lu­tion of the cur­rent finan­cial mar­ket cri­sis. The crux of the issue is that falling home prices, fore­clo­sures, and ris­ing inven­to­ries need to be replaced by more sta­ble con­di­tions for the econ­omy to turn­around. The National Asso­ci­a­tion of Home Builders reported in the Novem­ber sur­vey that the Hous­ing Mar­ket Index fell to 9.0 from 14.0 in Octo­ber to estab­lish a new record.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 18, 2008.

Asha Ban­ga­lore (North­ern Trust): Con­sumer Price Index plunges
“Today the BLS reported that the Con­sumer Price Index (CPI) fell by 1.0% both sea­son­ally adjusted as well as unad­justed. On an unad­justed basis, this was the largest monthly decline in the CPI since Jan­u­ary 1938.”

Source: Asha Ban­ga­lore, North­ern Trust — Daily Global Com­men­tary, Novem­ber 19, 2008.

BCA Research: Head­ing for defla­tion?
“A defla­tion scare will grip the devel­oped world over the next 12 to 24 months.

“Our research on past real estate bear mar­kets and sub­se­quent bank­ing sec­tor stress (through­out Europe, the US and Japan) high­lights that these episodes always lead to a reces­sion, fol­lowed by a multi-year period of sub-par growth (i.e. neg­a­tive out­put gap). In turn, excess sup­ply helps dra­mat­i­cally drive down core CPI infla­tion in the years that fol­low. Granted, it could be argued that the pre­vi­ous episodes occurred dur­ing a period of strong struc­tural dis­in­fla­tion­ary trends, thereby ampli­fy­ing the mag­ni­tude and dura­tion of the decline in price pressures.

“Nonethe­less, core CPI infla­tion is likely to drop sharply through­out the G7 over the next 12 to 24 months, to lows at least com­pa­ra­ble to the 2003 defla­tion scare. In turn, it is likely that the US prints very low pos­i­tive or even mildly neg­a­tive head­line CPI num­bers, given the drag result­ing from the recent plunge in food and energy prices.

“Head­line infla­tion is less likely to turn neg­a­tive in Europe given the rigid­ity of the price struc­ture but a defla­tion scare sim­i­lar to the US ear­lier this decade is likely. The impli­ca­tion is that pol­i­cy­mak­ers will con­tinue to ease aggres­sively and then stay on hold for an extended period, ben­e­fit­ing our long dura­tion call. “While the longer-term con­se­quences of such actions may be infla­tion­ary, gov­ern­ment bond yields will adjust lower in the near term.”

Source: BCA Research, Novem­ber 17, 2008.

Bloomberg: Bond-market yields sig­nal defla­tion world­wide
“Bonds world­wide are show­ing that investors are bet­ting that slump­ing eco­nomic growth will lead to defla­tion in every major econ­omy. Britain’s five-year breakeven rate went neg­a­tive Tues­day for the first time since Bloomberg records began in 1996.”

Source: Bloomberg, Novem­ber 19, 2008.

Finan­cial Times: In a weird world, yields on Tips point to defla­tion
“Would you believe that we shall actu­ally have sig­nif­i­cant defla­tion in the US next year? And the year after that? And flat con­sumer prices for the year fol­low­ing? That’s hap­pened only once in a devel­oped coun­try since the 1930s — when Japan recorded a neg­a­tive 1.6% con­sumer price index for 2002.

“Yet, if you believe the yields on US Trea­sury infla­tion pro­tected bonds, or Tips, we shall have a 2.2% fall in prices in 2009, a 2.5% decline in 2010 and only flat prices in 2011. If that turns out to be true, the real inter­est rate bur­den on even the highest-rated bor­row­ers will be extremely hard to bear.”

Source: John Dizard, Finan­cial Times, Novem­ber 18, 2008.

John Davies (WestLB): Buy Ger­man bunds
“The 10-year Ger­man Bund yield could fall to a record-equalling 3 per cent in the months to come in response to wor­ries about the euro­zone econ­omy, believes John Davies, bond ana­lyst at WestLB.

“‘Given the con­tract­ing econ­omy and mount­ing threat of defla­tion, we now expect the Euro­pean Cen­tral Bank to cut rates to 1.5% by the sum­mer [from 3.25% now], which is lower than the mar­ket expects,’ he says.

“Mr Davies notes that the rapid steep­en­ing of the spread between two-year and 10-year Ger­man yields, which started in Sep­tem­ber, has slowed as the mar­ket moves to price in rates of 2% by the spring.

“But he says: ‘Given our fore­cast of a more aggres­sive ECB rate cut cycle, we fully expect the curve-steepening trend to remain safely intact.’

“While the steep­en­ing will pri­mar­ily be dri­ven by moves at the short end of the curve, long-end yields will fall as reces­sion fears over­shadow a jump in new issuance, Mr Davies says.

“‘We expect the 10-year yield to fall from 3.6% to 3.25% within the next three-to-six months, and even test the 3% record low set in Sep­tem­ber 2005. It is only the rise in sup­ply next year that stops us pro­ject­ing a sub-3% yield.’”

Source: John Davies, WestLB (via Finan­cial Times), Novem­ber 18, 2008.

Bloomberg: China passes Japan as biggest US Trea­suries holder
“China sur­passed Japan in Sep­tem­ber to become the biggest for­eign holder of US Trea­suries, as for­eign investors sought the rel­a­tive safety of gov­ern­ment debt as stocks plunged 9.1% that month.

“Total net pur­chases of long-term equi­ties, notes and bonds increased a net $66.2 bil­lion in Sep­tem­ber from $21 bil­lion the pre­vi­ous month, the Trea­sury said today in Wash­ing­ton. Includ­ing short-term secu­ri­ties such as stock swaps, for­eign­ers bought a net $143.4 bil­lion, com­pared with net buy­ing of $21.4 bil­lion the month before.

“China led all for­eign offi­cial investors in Sep­tem­ber by post­ing a net increase in US Trea­suries for the sixth month in the past seven, bring­ing its total own­er­ship close to $600 bil­lion. Japan was a net seller of Trea­suries for the fourth month in the past six.

“‘The details of the report paint a much more pos­i­tive pic­ture of cross-border invest­ments than expected,’ said Michael Wool­folk, a senior cur­rency strate­gist at Bank of New York Mel­lon Corp. ‘China, along with oth­ers, is show­ing more demand than antic­i­pated for US assets.’”

Source: John Brins­ley and Rebecca Christie, Bloomberg, Novem­ber 18, 2008.

Bespoke: High yield spreads — no slow­down in sight
“If you’re look­ing for signs of sta­bi­liza­tion in the credit mar­kets, the high yield mar­ket is not a good place to start. Based on data from Mer­rill Lynch, high yield bonds are yield­ing nearly 1,800 basis points more than com­pa­ra­ble Trea­suries. In the last month alone, spreads have risen by more than 200 basis points, and since bot­tom­ing in the Sum­mer of 2007 at 241 basis points, they are up 645%. To put this in per­spec­tive, with the 10-year US Trea­sury now yield­ing 3.4%, a high-yield bor­rower would need to pay roughly 21.4% per year to take out a ten-year loan. With terms like these, who needs loan sharks?”

Source: Bespoke, Novem­ber 19, 2008.

Bespoke: Finan­cial weapons of mass destruc­tion aimed at Omaha
“War­ren Buf­fett is cred­ited with coin­ing the phrase ‘finan­cial weapons of mass destruc­tion’ with respect to deriv­a­tives. How­ever, after some big unre­al­ized losses on index options that Berk­shire has writ­ten in the last cou­ple of years, it now appears as though the deriv­a­tive mar­ket is tak­ing aim at Omaha. Over the last eight days, the cost to insure debt of Berk­shire Hath­away has risen to 475 basis points per year. To put this into per­spec­tive, Mor­gan Stanley’s credit default swaps are cur­rently trad­ing at 456 basis points, and that is the high­est of the big global banks and bro­kers. Berk­shire Hath­away has long been con­sid­ered one of the safest of the safest finan­cial com­pa­nies, but if Black Octo­ber 2008 has taught us any­thing, it’s that noth­ing is safe.”

Source: Bespoke, Novem­ber 20, 2008.

Bespoke: S&P 500 200-day mov­ing aver­age spread at –32%
“Mul­ti­ple mar­ket pun­dits have recently men­tioned that the S&P 500 is trad­ing the fur­thest below its 200-day mov­ing aver­age since the Great Depres­sion. Below we have plot­ted the 200-day spread indi­ca­tor going back to 1927. The index is cur­rently trad­ing 32% below its 200-day mov­ing aver­age, which is indeed the most neg­a­tive spread since 1937. While the spread can remain neg­a­tive for quite some time, the reac­tion to the upside has been extreme once the mar­ket turns. In the 1930s, and even fol­low­ing the big declines in the 70s, 80s, and early 2000s, the spread turned vio­lently pos­i­tive in the months fol­low­ing the ulti­mate low in the 200-day spread. Unfor­tu­nately, nobody knows when that low will be.”

Source: Bespoke, Novem­ber 17, 2008.

Barron’s: Rever­sal of for­tunes between stocks and bonds
“… the div­i­dend yield on the Stan­dard & Poor’s 500 stock index touched 3.57% at 1:13 PM East­ern time [on Tues­day], exceed­ing the 3.54% yield on the bench­mark Trea­sury 10-year note, accord­ing to Bloomberg News. That’s some­thing that hadn’t hap­pened since 1958.

“I was aware that there was a time when equi­ties pro­vided more income than bonds, but that belonged to a long-gone era. That was a time I knew of only from old movies, yel­lowed news­pa­per clip­pings and stacks of old Life mag­a­zines. It was when gen­tle­men wore suits and fedo­ras, not just to work but even to the ball­park; when the Dodgers played in Brook­lyn; a bygone era already a half cen­tury ago.

“To con­tem­po­rary mar­ket observers, it’s more than nos­tal­gia. For the S&P 500 to yield more than Trea­suries sug­gests the mar­ket is very cheap by his­tor­i­cal stan­dards, says Jack Ablin, port­fo­lio strate­gist for Har­ris Pri­vate Bank. ‘Div­i­dend yield, like price-to-sales, is one of those per­sis­tent met­rics. We can all quib­ble about earn­ings, but div­i­dends, par­tic­u­larly those of the entire S&P 500, are remark­ably con­sis­tent,’ he adds.

“‘You can fake earn­ings through account hanky-panky, but you can­not fake div­i­dends,’ agrees Barry Ritholtz, chief exec­u­tive of Fusion IQ. So after a 47% drop, stocks look rel­a­tively cheap for the first time in a long time, he adds.

“Scott Min­erd, chief invest­ment offi­cer for Guggen­heim Part­ners, calls the drop in Trea­sury yields below the S&P 500 div­i­dend yield a ‘straw in the wind’ that the stock mar­ket may be bot­tom­ing. Still, he thinks the mar­ket is sig­nal­ing that div­i­dend cuts are in the off­ing, but this reces­sion­ary trend also will push Trea­sury yields still lower.”

Click here for the full article.

Source: Barron’s, Novem­ber 19, 2008.

John Authers (Finan­cial Times): US stocks fall on defla­tion fears

Click here for the article.

Source: John Authers, Finan­cial Times, Novem­ber 19, 2008.

Frank Holmes (US Global Investors): An emo­tion­ally impaired mar­ket
“Global equi­ties are now trad­ing on their low­est val­u­a­tions since the early 1980s. His­tory says we should expect stock prices to turn up before earn­ings do. A recov­ery in earn­ings, when it hap­pens, has pre­vi­ously been a robust sec­ond leg for more sig­nif­i­cant price appre­ci­a­tion. The sec­ond leg will take place when the earn­ings reces­sion ends and prof­its begin to recover. Invest­ment research based on his­tor­i­cal pat­terns by Cit­i­group sug­gests the sec­ond leg is about 12 months away. With this in mind, we’re nib­bling on stocks we believe are under­val­ued based on fun­da­men­tal screens and have been hit the hard­est as can­di­dates for price appreciation.

“Weak earn­ings and expec­ta­tions of more bad news to come have weighed heav­ily on stock prices. The global equity mar­ket trades on 10 times trail­ing earn­ings and over 15 times expected trough earn­ings. The 40-year aver­age global price-to-earnings ratio is 17 times. Citigroup’s research demon­strates that the global equity mar­ket is extremely under­val­ued, but val­u­a­tions could con­tinue to fall through year end.

“We believe the mar­ket and econ­omy are now being emo­tion­ally impaired due to the cas­cad­ing neg­a­tive news by unbal­anced media. Today [Fri­day] is the first day this week with­out neg­a­tive grand­stand­ing politi­cians on TV and the mar­ket was up. Stocks are so over­sold and mar­kets, as we have com­mented in the past, are due for a sub­stan­tial rally. We believe the mar­ket is look­ing for cer­tainty that President-elect Obama and his team are not going to raise taxes in this eco­nomic envi­ron­ment. If the new admin­is­tra­tion reverses course and denounces tax hikes for two years and pro­poses a bud­get to rebuild our infra­struc­ture, then this week could have been the bot­tom for the market.”

Click here for arti­cle by Robert Buck­land, Citigroup’s Chief Global Equity Strategist.

Source: Frank Holmes, US Global Investors — Weekly Investor Alert, Novem­ber 21, 2008.

Bespoke: Trail­ing 12-month P/E ratios are low
“The S&P 500 Finan­cial, Con­sumer Dis­cre­tionary, and Tele­com sec­tors cur­rently have neg­a­tive P/E ratios, which makes the over­all index’s P/E high at 18.41. Sec­tors whose P/Es aren’t neg­a­tive have very low trail­ing P/Es ver­sus his­tor­i­cal read­ings. The Energy sec­tor cur­rently has the low­est P/E at 6.55. The sec­ond low­est is Mate­ri­als at 9.14, fol­lowed closely by Indus­tri­als at 9.44. And the Tech­nol­ogy sec­tor, which usu­ally has a rel­a­tively high P/E, cur­rently has a P/E of just 12.49.”

Source: Bespoke, Novem­ber 17, 2008.

Bloomberg: Mobius says he’s buy­ing China, India, South Africa
“Mark Mobius said he’s ‘aggres­sively’ buy­ing con­sumer stocks, includ­ing cell-phone com­pa­nies, retail­ers, banks and fur­ni­ture mak­ers, as faster eco­nomic growth in China, India, South Africa and Turkey off­sets sag­ging demand from devel­oped nations.

“‘We see a con­sumer boom in all of those coun­tries,’ Mobius, who over­saw more than $24 bil­lion in emerging-market stocks on Sep­tem­ber 30 as exec­u­tive chair­man at Tem­ple­ton Asset Man­age­ment, said in a Bloomberg Tele­vi­sion inter­view from Johan­nes­burg. ‘Per-capita income is grow­ing at a very rapid pace in these countries.’

“China announced a $586 bil­lion stim­u­lus plan on Novem­ber 9 after its gross domes­tic prod­uct grew 9% in the third quar­ter, the slow­est pace in five years. India’s cen­tral bank esti­mates growth will slow to 7.5% this year and next, from an annual aver­age of 8.9% in the past four years. Emerg­ing mar­kets will expand at an aver­age of 5% in 2009, com­pared with 1% in devel­oped coun­tries, Mobius fore­cast on Octo­ber 21.

“The global eco­nomic down­turn may not be as long or severe as expected because of the coör­di­nated fis­cal and mon­e­tary stim­u­lus put forth by pol­icy mak­ers world­wide, the 72-year-old investor said today.

“The slow­down ‘will be rather short-lived and, of course, the mar­kets will antic­i­pate this’, Singapore-based Mobius said. ‘There will be some decel­er­a­tion, but these are still fast– grow­ing countries.’”

Source: Fabio Alves and Mon­ica Bertran, Bloomberg, Novem­ber 17, 2008.

David Pow­ell (Bank of Amer­ica): Is the dollar’s recent rally com­ing to an end?
“David Pow­ell, cur­rency strate­gist at Bank of Amer­ica, believes the dol­lar has lost sev­eral impor­tant sources of support.

“The global short­age of dol­lar liq­uid­ity — one of the pri­mary rea­sons for the US currency’s strength as the finan­cial cri­sis esca­lated in Sep­tem­ber — has been sharply reduced by the extra­or­di­nary mea­sures intro­duced by cen­tral banks to ease money mar­ket stress, he says.

“Fur­ther­more, the repa­tri­a­tion of the dol­lar, which pre­vented its retrace­ment as ten­sions in the whole­sale fund­ing mar­kets were reduced, may no longer pro­vide the cur­rency with much sup­port mov­ing for­ward. Pri­vate sec­tor flow data indi­cate the repa­tri­a­tion of for­eign invest­ments to the US is slow­ing sharply, Mr Pow­ell says.

“‘A third fac­tor behind the resilience of the dol­lar seems to have been the steady return offered by longer-dated US Trea­suries, when com­pared with the sharp drop in Ger­man Bund yields. How­ever, the fall in the euro against the dol­lar appears exces­sive even when com­pared to drop in the 10-year Bund-Treasury yield spread.

“‘In addi­tion, a dol­lar retrace­ment is likely to gain momen­tum from the pat­tern of sea­sonal weak­ness nor­mally seen in Decem­ber. As such, we affirm our year-end euro/dollar fore­cast of $1.38 and out­look for a return to $1.44 by the first quar­ter of 2009 before the pair resumes a more grad­ual sell-off.’”

Source: David Pow­ell, Bank of Amer­ica (via Finan­cial Times), Novem­ber 19, 2008.

Finan­cial Times: Jim Rogers — the dol­lar is a flawed cur­rency
The fol­low­ing is an excerpt from an online inter­view with Jim Rogers.

“FT: It’s a year since we last inter­viewed you. You were aggres­sively bear­ish about the dol­lar, but you thought there would prob­a­bly be a rebound and you would take that as an oppor­tu­nity to fur­ther get out of the dol­lar. Have you made a fur­ther exit from the dollar?

“JR: Not yet, no. And the rea­son I haven’t is because we’re in a period of forced liq­ui­da­tion of every­thing. We’ve only had eight or nine peri­ods like this in the past 150 years, where every­body has to reverse their posi­tions on every­thing. There is a gigan­tic short posi­tion in the dol­lar and they’re all hav­ing to cover as they reverse their posi­tions, so this rout is going to go on much fur­ther than I would have expected, to my delight, because then I’ll get to sell at higher prices. I don’t know whether I’ll get out this month or this year even, maybe next year, but I do plan to get out of the rest of my US dol­lars, because this is an arti­fi­cial rally caused purely by short covering.

“FT: How will you tell when that delever­ag­ing is finally over?

“JR: I’m sure I won’t get it right, but I do hope that when there’s a lot of eupho­ria about the dol­lar and everybody’s say­ing, well, see, there’s no prob­lem with the dol­lar … I hope I’m smart enough to recog­nise it and finally get out of the dol­lar, because it is a flawed and maybe, even, doomed currency.

“FT: Do you see the sell-offs we’ve seen in com­modi­ties as a dras­tic correction?

“JR: Well, we’re in a period of forced liq­ui­da­tion of all assets … we’re get­ting the busi­ness cycle effect on demand right now, cer­tainly, but unless the world’s in per­pet­ual eco­nomic decline, com­modi­ties are the only thing going to come out of this okay.

“FT: Does this mean you’re actu­ally buy­ing back into com­modi­ties at the moment, or is this an area you’re stand­ing clear of?

“JR: No, no. In Octo­ber when I started cov­er­ing my shorts in the US stock mar­ket, I started buy­ing Chi­nese shares, Tai­wan shares, I started buy­ing com­modi­ties again. No, no, I’ve added to those positions.

“FT: What’s your strat­egy towards emerg­ing mar­ket stocks?

“JR: My hope is that I’m smart enough and brave enough at some point along the line to buy some of them back. But I’m not even think­ing about it right now … The world’s finan­cial sit­u­a­tion is in a mess, and there are a lot of peo­ple who have to liq­ui­date. I mean, we must have had 30,000 MBAs fly­ing around the world look­ing for emerg­ing mar­kets. All of that money has got to come home.

“FT: How do you think the world should go about redesign­ing the reg­u­la­tory sys­tem, and are you wor­ried that we’re going to end up with a swing towards over-regulation?

“JR: Well, we prob­a­bly will, The prob­lem is that peo­ple like Alan Greenspan would never let the mar­ket work … For 15 years, under Greenspan, and now Bernanke, they would not let the mar­ket work. Had they let Long-Term Cap­i­tal Man­age­ment fail back in 1998, we wouldn’t have these prob­lems now, I assure you. Lehman Broth­ers would have been smashed. Gold­man Sachs, Bear Stearns, would have been smashed. We wouldn’t have these prob­lems now. That only hap­pened because every time they turned around they propped these guys up, gave them more money, and that’s why we have the prob­lem … But now, of course, they’re going to blame it on other peo­ple and cause more regulations.

“FT: You’re argu­ing we need to allow some more big insti­tu­tions to fail?

“JR: One failed. Why didn’t they let Fan­nie Mae and Fred­die Mac? I mean, I was short Fan­nie Mae, and they should have let it fail, go to zero. AIG, they should have let it fail, they should have let all of these guys fail, and we would clean out the sys­tem … What they’re doing is they’re tak­ing the assets away from the com­pe­tent peo­ple, giv­ing them to the incom­pe­tent peo­ple and say­ing to the incom­pe­tent: ‘Okay, now you can com­pete with the com­pe­tent peo­ple, with their money.’ I mean this is ter­ri­ble eco­nom­ics. This is out­ra­geous economics.”

Source: Jim Rogers, Finan­cial Times, Novem­ber 17, 2008.

Bloomberg: China should buy gold for reserves, Asso­ci­a­tion says
“China, the second-biggest over­seas holder of US Trea­suries, should increase its bul­lion hold­ing to diver­sify its reserves because the dol­lar may decline, the country’s gold asso­ci­a­tion said.

“‘China should have at least sev­eral thou­sand tons of gold in its reserves, five to six times the offi­cially announced 600 tons,’ Hou Huimin, vice chair­man of the China Gold Asso­ci­a­tion said from Bei­jing. The group rep­re­sents pro­duc­ers, traders and retailers.

“The US bud­get deficit climbed to a record in Octo­ber, and some investors are bet­ting the dol­lar may weaken as the Trea­sury would need to sell more debt to finance its $700 bil­lion financial-rescue pack­age. Gold has tum­bled 29% from its March record.

“‘There’s no doubt that gold would be attrac­tive, as US debt is likely to swell,’ said Kenichiro Ikezawa, who over­sees about $3 bil­lion as a fund man­ager at Daiwa SB Invest­ments in Tokyo. ‘In the long term, both the dol­lar and Trea­suries will prob­a­bly weaken. It’s pos­si­ble that China will buy more gold, though the coun­try is likely to do so gradually.’”

Source: Xiao Yu and Ron Harui, Bloomberg, Novem­ber 14, 2008.

Reuters: Iran switches reserves to gold
“Iran has con­verted finan­cial reserves into gold to avoid future prob­lems, an adviser to Pres­i­dent Mah­moud Ahmadine­jad said in com­ments pub­lished on Sat­ur­day, after the price of oil fell more than 60% from a peak in July.

“Iran, the world’s fourth-largest oil pro­ducer, is under UN and US sanc­tions over its dis­puted nuclear pro­gramme and is now also fac­ing declin­ing rev­enue from its oil exports after crude prices tumbled.

“‘With the plans of the pres­i­dency … the country’s money reserves were changed into gold so that we wouldn’t be faced with many prob­lems in the future,’ pres­i­den­tial adviser Mojtaba Samareh-Hashemi was quoted as say­ing by busi­ness daily Poul.

“Iran­ian offi­cials in July denied reports that Iran­ian banks were mov­ing funds from Europe, with one report sug­gest­ing as much as $75 bil­lion had been with­drawn and con­verted into gold or placed in Asian banks, because of a threat of tight­en­ing sanctions.”

Source: Zahra Hos­sein­ian, Reuters, Novem­ber 15, 2008.

The New York Post: Global run on gold coins
“There’s a world­wide run on gold coins. Even as the price of the pre­cious metal itself comes under pres­sure along with com­modi­ties like oil and cop­per, peo­ple around the world are demand­ing so many of the valu­able coins that gov­ern­ment mints are hav­ing dif­fi­culty fill­ing orders.

“A spokesper­son for the US Mint tells me that gold coins in this coun­try, for the past month, ‘are being allo­cated because of an increased demand’.

“And the price that the gov­ern­ment charges coin deal­ers has recently been increased by as much as 10% for a 10-ounce coin.

“And even when gold coins are avail­able, deal­ers report that cus­tomers are pay­ing a big­ger pre­mium than they would have just a few months ago.

“In one sense, the attrac­tion for gold coins isn’t sur­pris­ing. Since ancient times, gold has been con­sid­ered the safest invest­ment to hold in times of uncertainty.

“With fears of future infla­tion ris­ing and con­cern about the value of paper cur­rency and government-debt increas­ing with each new recov­ery plan announced in Wash­ing­ton and in for­eign cap­i­tals, the desire to hold gold grows.

“That part makes per­fect sense. But there’s another more puz­zling aspect to the recent gold rush. Even as the demand for gold coins such as the Cana­dian Maple Leaf or the Kruger­rand of South Africa has grown, the mar­ket price of the pre­cious metal itself is off its highs.

“Bill Mur­phy, chair­man of the Gold Anti-Trust Action Com­mit­tee, says the price of spot gold is even more per­plex­ing given the demand for coins and the fact that cen­tral banks in Europe have stopped sell­ing gold into the open market.

“‘Gold should be mov­ing up,’ Mur­phy says. ‘How could there be such a dichotomy between the his­toric high pre­mium for coins all over the world and the low Comex price?’

“His answer? ‘Today the pub­lic is buy­ing gold like crazy, but the US gov­ern­ment and the banks that hold bul­lion are inten­tion­ally keep­ing the price down.’”

Source: John Crudele, New York Post, Novem­ber 18, 2008.

James Pressler (North­ern Trust): Japan enters first reces­sion in 7 years
“Today’s indi­ca­tors out of Japan con­firmed what we had expected — that Japan is in reces­sion, though the con­sen­sus believed there were enough one-offs to growth to keep the head­line fig­ure on the pos­i­tive side of zero. Real GDP con­tracted by 0.1% from the pre­vi­ous quar­ter after a sharper fall of 0.9% in Q2 (orig­i­nally –0.7%), with Q3 con­sump­tion ris­ing by 0.3% after a fall of 0.6%. True, there were fac­tors that perked up pri­vate con­sump­tion, but they were not enough to over­come a weak net exports fig­ure that will only get worse in the com­ing quarters.”

Source: James Pressler, North­ern Trust — Daily Global Com­men­tary, Novem­ber 17, 2008.

YouTube: Bloomberg Voices — Japan enters recession

Source: YouTube, Novem­ber 17, 2008.

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