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Economic/Market Highlights 11/19/08 . . . The Pain Increases!!

Posted by Larry Doyle on November 20, 2008 7:10 AM |

***Citigroup is down another 25% in this morning’s trading as investors are concerned that embedded losses are deeper than previously thought….as the attached article highlights, “it makes us think the mark to market writeoffs are not over yet”.***

Read more as to how and why “Citi’s Slide Deepens….”

As my Dad used to say when the report cards came home, “Just give me the grades and save the sob story for your Mother!”

Dow on the day -5.1%
  month to date -14.2%
  year to date – 40%
S&P 500 on the day -6.1%
  month to date -16.7%
  year to date -45.3%
Nasdaq on the day -6.5%
  month to date -19.5%
  year to date -49%
10yr U.S. Tsy on the day 3.33% down 20bps
  month to date down 64bps
  year to date down 70bps

With grades like these, my Dad would have clenched his teeth, furrowed his brow, and bit his tongue. My Mom would proceed to rip my head off. Truth be told, that tough love was just what I needed to increase my discipline.

While tough love needs to be more love than tough, the fact is that covering my own shortcomings in work and discipline solved NOTHING. Our “socialized housing finance system” and our effectively “socialized banking system” are finding the same outcomes. Ultimately the price must be paid much like the losses must be recognized.

Neither Paulson nor Congress nor anybody in Washington or Wall St will tell you that the system has trillions in embedded losses but they do and our markets know it and are showing it by their prices.

Obviously with grades like these our markets are merely a reflection of an economy that has serious fundamental problems, a technical imbalance in buyers vs sellers, and horrendous psychology.

All other things being equal, in markets like this I would look to put capital to work. However, all other things are not anywhere close to being equal. We have tried to highlight extensively that there are a trillion dollars worth of embedded losses in the banking system (Citi down 23% today, JP Morgan down 12% today).

We have also tried to highlight that there are hundreds of billions in losses embedded in the insurance industry (Lincoln Financial down almost 40% today!!). Who knows what the losses are in the hedge fund industry because they neither publish holdings nor marks. While I could offer opinions on housing starts, inflation readings and the like, the only word that I will offer to properly characterize this market is “resignation”.

Our market is resigned to the fact that the Fed has little to no ammo left. With the Fed Funds rate at 1%, consumer and corporate borrowing rates have hardly budged or actually have only moved higher over the last month given the perceived increase in the credit risk of the underlying borrowers.

Our market is resigned to the fact that the Treasury has little to no ammo left. The 290bln that has already been expended has brought some stability to certain short term sectors of the market but it has not changed the fact that the losses are embedded and need to be cleared. Obama can inject the balance of those funds, 410bln, but honestly it will not change the fact that the embedded losses are multiples of that.

Our market is resigned to the fact that neither Congress nor the incoming administration can support our markets by throwing more money at them via a stimulus. That money may “dull the pain” but it will not clear the losses.

Our markets need private capital to facilitate the transfer of assets from the weakened hands of banks, insurance companies, REITS, and hedge funds to the strong hands of new PRIVATE money. IMO, the only way to attract that money is through a cut in the capital gains tax rate and a form of tax credit for new home purchases.

Even with that cut and credit our markets are a LONG way from turning around. Even though our economy was strained up through the Summer, the dam did not truly break until Lehman Brothers collapsed on September 15th.

While the pain is extreme, bear up and realize that we are now merely two months into into what will be a severe economic downturn. Having broken down to new lows in the markets since 2003, I believe we will see a further selloff of at least another 5-7% before any support develops. Even there, the market is telling me to wait before committing capital.

I used to have a rule of trading which read “MGIDWHMP”. That acronym means Market Goes In the Direction Which Hurts the Most People” and given the forced liquidations and delevering that direction is certainly lower. I definitely foresee that while Congress debates providing relief for the auto industry, the new administration is going to be faced with injecting more capital back into Freddie and Fannie (they each got 100bln already), AIG (150bln already), and more into some banks that have already received capital (for example, Citigroup, down 23% today to 6.50).

We are already starting to see some of the consumer finance companies position themselves for capital as they know that there credit chargeoffs are getting ready to soar. Read more here as to how the “Future of Fannie, Freddie Debated” and why the mortgage market needs private capital solutions.We are seeing severe strains in the commercial real estate space as delinquencies and defaults hit that sector.

Read more about this, “Commercial Market Begins to Show Fissures”We highlighted in our piece about the Wall St. model last week how banks had lowered credit standards across a variety of classes of loans in order to generate volume.

Read more about, “Do Sold Off Corporate Loans Do Worse”…In this article professors from Case Western and Carnegie Mellon focus on the “moral hazard and adverse selection in the originate to distribute model of bank credit.” This study highlights the points we made last week in describing the broken Wall St. model.

Perhaps they are loyal readers of NQ, the best forum for getting at the truth.

Last but not least, there is an individual named Noriel Roubini, a professor at NYU’s Stern School of Business, who has had IMO the absolute best read on the markets and economy. He is not beholden to an investment bank, an asset management business or any other enterprise that is trying to sell advice or products.

He has had some remarkably accurate calls on market movements and economic trends. Today he highlighted that the recession that we are currently experiencing will be the deepest in the last 50 years. I could stick my head in the sand or soft sell that markets always rebound but I am merely trying to provide a healthy and realistic view as to what is really going on in the economy and markets.

Here is a link for more about Roubini. I think you will find him enlightening if not exactly entertaining.

If I could be so bold as to make one request of the loyal readers of NQ. While I hope that some if not all (mandatory civil service does not appear to be overly popular) of my insights may be helpful, I would like to attempt to increase the level of dialogue and questioning during these critically important times for our economy and country. I welcome responding to comments or questions but please keep your comments and remarks on the topic at hand.

I thank you.


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