WEEKEND WAITING AND
A MARKET MELTUP?
If you need a reason for why all this is happening, this video explains it in a fairly basic way. Spread it around.
Meanwhile i'm beginning to wonder whether we are setting up for another market melt up. The unintended consequence of not being able to short financials is that the crowd has instead shorted the S&P 500 futures contract and there has been a huge spike in the short interest there. If those short positions all run for cover at the same time we could see a couple of big up days. Add to that end of quarter and the climax of the government bailout plan and we could see some wild action next week. IMHO of course.
joseph cioffi's Source Page - Associated Content
7 comments:
Great Video, The truth is both parties contributed to the economic mess we're in.
There was an unholy deal. Instead of choosing among the spending programs we can afford, each party got their priorities even if we had to borrow to finance them.
Those priorites prevented sound economic decisions such as raising the fleet mandated MPG requirements ( blocked ( until recently)for 24 years by rep. Dingall (D)), ban on off shore drilling, no nuclear energy plants since the 1980s( Sen. Reed blocked the nuclear waste disposal site in his state ) and of course private sector malfeasance.
1) Fiduciary duty. This was breached on every level, from loan broker, bank, rating agency, investment bank selling CDOs, to final CDO purchaser. GS even was shorting CDOs while Selling them as AAA to their customers.
Add to that a healthy dose of K-Street corruption ( bi-partisan ), the CRA act, the cost of the Iraq war, and the dismatling of safety valves that protected the system, ( rigorous regulators, Glass-Steagall, fiduciary duty ), allowing over-leveraged hedge funds, and things fell apart.
Thow in bad policy errors by Greenspan, Paulson and Bernanke,
and God Help us.
Now we have low Fed Funds rates, a huge Keynesian stimulous, mountains of public debt ( that limits the degree of additional Keynsian stimulus that can be added ), mountains of private debt, a credit crisis , and a deepening recession.
Right now, unfortunetly we need more Keynsian spending ( perhaps infrastructure spending( How about 10 nuclear electric generating reactors next year )) , a plan to end the glut of unsold houses ( Perhaps a 5 year buydown of interest rates by Fannie + Freddie to 2% for forclosed homes ), marginally looser underwriting standards for loan qualifications but not to CRA levels), + charge other countries for our contributions to their defense.
Yes Republicans we may need higher taxes, and yes Democrats we may need less social spending.
HS
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Accidental good legislation?
The Republican House wants a plan that would let banks buy insurance for their bad CDO debt, sort of like wrapping a GSE guarantee on damaged paper.
The Paulson plan calls for the Treasury to buy bad paper at a hold to maturity price, ( instead of a firesale price ).
The combination of the 2 plans is brilliant, though perhaps congress doesn't yet understand why.
Paulson's auctions set a new hold to maturity price as the new mark to market.
Banks buy a GSE wrap at the new hold to maturity price.
IE: suppose that a bank has 100 billion of CDOs worth 22 cents on the dollar at a firesale price, but 60 cents on the dollar with a hold to maturity price.
A bank sells 6 billion ( face value ) of these CDOs to Uncle Sam for 55 cents on the dollar or 3.3 billion dollars, then the bank takes the 3.3 billion and buys a GSE wrap for say 8x the 3.3 billion or 26.4 billion in face value payable at 60 cents on the dollar ( hold to maturity value ).
The result:
100 billion (Face value )CDOs x .22 firesale price = current economic value of 22 billion at mark to mark turned into:
26.5 billion Face wrapped CDOs ( worth 60 cents on the dollar or 15.9 billion.
67.5 billion face unwrapped CDOs worth .55 cents on the dollar or 37.125 billion
totoal capital after plan : 15.9 + 37.175 = $53.025
Balance sheet repair:
Old balance sheet worth at mark to market = 22 billion
New mark to market value = 53.025 billion
Net improvement= 31.025 billion
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Other improvements for banks:
Wrapped cdos should be AAA and become tier one capital,
unwrapped becomes tier 2 capital.
Shrinking of balance sheet by 6 billion.
A huge plus for banks imho if this is the way things fall out.
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Negatives for banks:
Some executive pay loss
Some dilution due to warrants or contingent shares.
HS
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Implications for the Treasury:
Cash nutral,
IE: the money they spend to buy CDOs is returned in insurance premiums.
Treasury gets warrants or contingency shares.
Trasury gets IE 3.3 billion in CDOs
treasury take obligation for 26.5 billion in CDOs.
HS
I would caution people to not buy into any rally next week which may be triggered by the approval of the Paulson plan and the other issues mentioned by HS.
Sometime over the next couple of months the market is going to start focusing on the macro economic outlook for 2009 and that, coupled with an ugly 3Q earnings season, is going to be a big negative for the market.
I plan to keep plenty of my remaining powder dry and selectively pick up compelling individual opportunities as they may arise--but I will be in no hurry to buy.
Bruce
I think that we should be selling into strength for the reasons that Bruce laid out.
Bernanke + Paulson's actions with the GSE preferreds, and Lehman's failure, had unentended consequenses that have undermined any sort of long term capital issuence.
The new model for Bank failure is to screw all old capital. Shareholders, preferreds, bondholders, etc. Let new capital cherrypick the remains for peanuts.
In WM + LEH case there are all sorts of assets and liabilities that will be sorted out in bankruptcy to disadvantage investors. IE a Lehman counterparty agreement might pay in bankruptcy 5 cents on the dollar to some hedge fund holding the other side of the deal.
The market place has noticed. I read in a report that Wachovia bonds went from a yield of 8.5% in early Sept. to 24% recently.
The bailout may make short term financing more availble to the strongest banks if credit markets unfreeze, but it may take quite a while for long term financing ( new issuence ) to come back to normal.
The best thing that could happen to instill confidence in markets would be after the bailout bill is passed... the weak banks are bought out in away that leaves the bondholders + preferred shareholders whole. ( and common shareholders with something)
This will bring value investors back into the market.
So if Wachovia is bought out at $15.00 a share, and NCC is bought out at $5.00 a share, and RF is bought out at $18.00 a share... then investors will begin to see FRE, FNM, LEH as perhaps one-offs.
Ex-Banks, (whose balancesheets will be improving after a bailout), and auto companies who would be toast ( execept the're getting a bailout too), I don't think that 3rd quarter will be horrible.
2009 estimates will be cautious at best.
Again any rally will be tested on the downside eventually, and we don't know if we've hit the ultimate bottom yet.
hs
judging by the market reaction to the citgroup/wachovia talks...wachovia went down in price and citigroup went up in after hours. The weaker bank is Wachovia and the market is basically saying any takeover even at a lower price is better than what happened at WAMU where everyone was wiped out including bond holders and preferred holders.
Bruce,
You know me..forever the optimist. I think we can agree that there will probably be a decent relief rally from the paulson deal assuming it happens. My question is this. If credit markets normalize and yield spreads contract...could mlps be setting up for a period of relative outperformance. Yield spreads here are so wide in some cases they can be cut in half and still be well above where they should be.
I suppose the wild card here is if the economy slows so much that distribution growth slows as well.
McCain hinted in the debate that he would clamp down on cost overuns in military procurement projects. I think he mentioned the Littoral ship program as one example of massive overuns.
Much as I am a Republican + very pro military, in this crisis of exploding budget deficits everything has to be on the table.
I have to expect massive tax revenue shortfalls due to the bear market + recession. We're in a real pickle here.
In 1932 Pres. Hoover increased the top tax rate of to 63% from 25%. This of course exacerbated a bad situation.
We have the Bush tax decreases expiring at the time of maximum risk for the economy.
Yet the deficit is exploding.
The last time the national debt went down ( Clinton's talk of massive budget surplus was imaginary ), was 1957. Some economists credit that to exacerbating th 1957 recession ( the worst post deprtession recession ),
So here it is folks... if we raise taxes we're in a heap of trouble, if we reduce taxes we're in a heap of trouble.
If we reign in spending ( less Keynsian stimulus ) will exacerbate the recession, if we don't reign in spending then our deficit may become untenable.
HS
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