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Archive for May, 2009

Join Me Tonight at 8PM for NoQuarter Radio’s Sense on Cents with Larry Doyle

Posted by Larry Doyle on May 31st, 2009 10:37 PM |

UPDATE: The show has concluded, but you can listen to a recording in its entirety by clicking the Play button on the audio player below. Once the playback has started, you can fast forward or rewind to any portion of the show by clicking at any point along the play bar.


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Please join me Sunday evening from 8-9 p.m. ET for NoQuarter Radio’s Sense on Cents with Larry Doyle. The developments in the markets, economy, global finance, Wall Street, and Washington are occurring at breakneck speed. I will try to slow things down a bit and provide a sense of perspective. What did we learn in the markets over the last week and what does that mean for the weeks and months ahead? We will address a wide range of issues, including economic statistics released this week, the automotive situation, market performance, and the road ahead.

Additionally, I am always happy to address anything on your mind as you navigate your own economic landscape. I will be joined by a special guest this week, as well. John Busacca has been involved in the regulatory and compliance side of the financial industry since the mid 1990s. John has worked as a compliance officer for large wirehouses and NYSE member Clearing Firms. In 2000 he was involved in founding a fixed income firm in Florida. From there he transitioned into a sales role which led him to becoming President of a clearing firm. He grew that firm from a handful of correspondents to over 75.

In 2006 John was elected to the NASD-Business Conduct Committee for District 7 and was also elected to the Florida Securities Dealers Board of Governors. John was involved in the founding of The Securities Industry Professional Association in 2007. The SIPA is an industry advocacy organization. He acquired BDexchange in 2008 and has relationships with nearly every clearing firm and Securities Consultant in the Country. John is an accomplished writer and contributes to many national publications. I look forward to my conversation with him tonight. (more…)

Incoming

Posted by Larry Doyle on May 31st, 2009 11:18 AM |

Recommended Weekend Reading

Posted by Larry Doyle on May 30th, 2009 2:05 PM |

I strongly recommend the following:

Reflections and Outrage
Robert L. Rodriguez, Partner and CEO
First Pacific Advisors; May 29, 2009 

This treatise put forth by Bob Rodriguez, the Morningstar Fixed Income Manager of the Year three times running, is as fine and comprehensive a review as I have seen to date. Rodriguez touches on the economic, financial, and political compenents of the current period. Rodriguez also addresses the future implications for our markets and global economy if the current approach does not change.

If you read nothing else this weekend, please do not skip this piece. You will not be disappointed. You will be enlightened.

The Dollar as World Currency: A Turning Point?
by Komal S. Sri-Kumar
Chief Global Strategist
Trust Company of the West

Are you aware of recent trade agreements between Brazil and The People’s Republic of China? Komal Sri-Kumar takes us into a world not covered by our media or analysts. In so doing, he addresses a topic which will likely have long term implications for our greenback.

Credit Crisis Watch: Thawing–noteworthy progress
by Dr. Prieur du Plessis
Chairman, Plexus Asset Management

This post at John Mauldin’s Outside the Box provides plenty of graphs and analysis supporting the current case promoting a turning in our economy. From Libor to commercial paper spreads to credit spreads, du Plessis makes a strong presentation. Will the stabilization and improvement continue? Well, prior to making that assessment, it is critically important to know from where we came and where we are now. This research piece provides a thorough analysis.   

Pimco’s Gross Says Harvard, Yale May Need to Alter Investments
by Sree Vidya Bhaktavatsalam and Gillian Wee
Bloomberg 

Will the investment styles at these universities withstand the rigors of the Brave New World in the Uncle Sam economy? What approach did Harvard and Yale embrace? These endowments launched headlong into alternative investments in which they sacrificed liquidity in pursuit of larger returns. Noted investment manager Bill Gross questions how effective that approach will be going forward. We can learn plenty from this article and measure our own investment approach in the process.

LD

May 2009 Market Review

Posted by Larry Doyle on May 29th, 2009 11:23 PM |

Welcome to the Brave New World of the Uncle Sam economy! Let’s review the price action across the market, add some analysis as we look behind the numbers, contrast these returns with developments in the economy, and chart our path forward as we navigate the economic landscape!!

may-2009-market-review2

Market Returns:

Equities: while market analysts continually measure the market from March 6th, unless one purchased the market on that date and at that point, it is much more intellectually rigorous to measure returns on a YTD (year-to-date) basis. Although I will incorporate short term movements, focusing solely on the short term increases the risk that we “miss the forest for the trees.”

The equity markets posted solid returns for the third month in a row. Although the returns in May were positive, they were not as largely positive as the prior two months. Year to date, the DJIA is slightly below unchanged while the S&P 500 is slightly positive. The tech heavy Nasdaq continues to outperform and is solidly positive (+12.5%) on the year. Why? Many tech companies have significnatly less debt burden and refinancing risks.

Bonds: the high yield sector continued to outperform (+9.7% MTD, +24.3% ytd). The mortgage and municipal sectors largely marched in place. The front end (shorter maturities) of the U.S. government bond market held steady as the Federal Reserve indicates they will keep the Fed Funds rate at 0-.25% for an extended period. The long end (intermediate to long maturities) of the government bond market sold off dramatically (+35 basis points on the 10 yr) under the weight of very heavy supply.

Currencies: the U.S. dollar had a very difficult month relative to almost every other major currency. The greenback gave back almost 4% relative to the Japanese yen, although it remains within the trading range for the year. The dollar particularly suffered versus the Euro on concerns of a potential downgrade of U.S. government credit due to the ongoing fiscal deficit. 

Commodities: this is where the real action occurred this month. Commodities, in general, posted their largest monthly gain in 34 years. Oil was up 30.1% on the month and 55.6% on the year. Gold rallied 11% on the month and is up a like amount for the year. 

Looking Behind the Numbers . . .
As I view the monthly and annual numbers, I am drawn to a comparison of a football pass thrown in a game. That is, when the football is thrown, three things can happen and two of them are not good. The pass can be completed, fall incomplete, or be intercepted.

Similarly, our economy can gradually improve with credit lines opening, housing and employment stabilizing, and markets improving – much like a completed pass.

Our economy can stumble under the weight of a surge in delinquencies and foreclosures in the residential space, a wave of commercial real estate defaults, and a double digit unemployment situation – much like an incomplete pass.    

Our economy can stabilize with enough traction to create velocity in the growth of the money supply. Given the trillions of dollars injected both directly and indirectly, a hint of velocity will likely spark a sharp increase in the expectation of inflation even prior to actual signs of inflation. The price action in the commodity and currency space are sending warning signals on this front. This development is akin to an intercepted pass. 

Economic Review . . .
As I look back on the wealth of economic data, I am continually struck by the downward revisions to prior months’ numbers. Although consumer confidence has increased, in my opinion, virtually every other statistic both here and abroad shows ongoing caution signs. These numbers include retail sales, housing, employment, and industrial production. Overseas the export data is decidedly weak.

Perhaps the markets are discounting an expectation of improved economic data due to the $780 billion Stimulus Bill starting to kick in later this year. The major money center banks have clearly been stabilized, although it took a fabrication in their accounting (via a relaxation in the mark-to-market) to do so.

The movement in commodities is clearly indicating a sign of improved economic activity and/or heightened inflation, or both. It is not inconceivable that our economy does get inflation sooner than later combined with minimal credit flow due to ongoing writedowns on delinquent or foreclosed loans. Combine these two components and we have a very real chance of stagflation over the next few years.   

The Path Forward . . . 
The steepening of the yield curve (rates on short term maturities relative to long term maturities) is very positive for our banking industry. The banks can continue to borrow money at extremely low rates and earn significant interest on almost any sort of lending that occurs. That said, new loan demand is not strong while demand for refinancing is quite strong.

My concern currently is not with the major money center banks. I am VERY concerned with the non-bank banks (Freddie Mac, Fannie Mae) and the Federal Home Loan Banks (FHLBs). Given the ongoing surge and expected high levels of residential loan defaults, these institutions will bleed money. The insurance sector, despite some recent improvements in their stock prices, also concerns me given their commercial real estate holdings primarily.

I do believe longer term interest rates will continue to work their way higher under the weight of supply of global government debt, and expected ongoing heavy demand (May was a very heavy issuance of both bonds and stocks) by municipal and corporate issuers. Do not be surprised to see our 10 yr Treasury note get to 4% and 30yr fixed rate mortgages get to 6%.

The deleveraging process will continue as the economy adjusts to life without a vigorous securitization business (remember the securitization business on Wall Street provided 40-45% of total credit to our economy).

Add it all up and I think the following will occur:
   - equity markets will now move sideways in range bound fashion;
   – the bond market will move lower in price, higher in rates; 
   – the dollar will gradually decline;
   – our economy will be filled with more stops than starts.

Please share your thoughts and comments!! Thanks.

LD

The Future of America

Posted by Larry Doyle on May 29th, 2009 2:19 PM |

On this historic day in which the government of the United States of America is on the doorstep of taking a majority equity stake in General Motors, I thought it may be prudent to address manufacturing in America.

To that end, former Clinton administration Secretary of Labor Robert Reich provides highly insightful commentary at Wall Street Pit: The Future of Manufacturing, GM, and American Workers (part I).

As we wonder what the future of our automotive manufacturing industry may look like as well as manufacturing in general, I strongly recommend we take Reich’s words to heart. Let’s take a round trip as we review the dynamics of the Industrial Revolution and the road ahead:

What’s the Administration’s specific aim in bailing out GM? I’ll give you my theory later.

For now, though, some background. First and most broadly, it doesn’t make sense for America to try to maintain or enlarge manufacturing as a portion of the economy. Even if the U.S. were to seal its borders and bar any manufactured goods from coming in from abroad–something I don’t recommend–we’d still be losing manufacturing jobs. That’s mainly because of technology.

When we think of manufacturing jobs, we tend to imagine old-time assembly lines populated by millions of blue-collar workers who had well-paying jobs with good benefits. But that picture no longer describes most manufacturing. I recently toured a U.S. factory containing two employees and 400 computerized robots.
The two live people sat in front of computer screens and instructed the robots. In a few years this factory won’t have a single employee on site, except for an occasional visiting technician who repairs and upgrades the robots.

Factory jobs are vanishing all over the world. Even China is losing them. The Chinese are doing more manufacturing than ever, but they’re also becoming far more efficient at it. They’ve shuttered most of the old state-run factories. Their new factories are chock full of automated and computerized machines. As a result, they don’t need as many manufacturing workers as before.

Economists at Alliance Capital Management took a look at employment trends in twenty large economies and found that between 1995 and 2002–before the asset bubble and subsequent bust–twenty-two million manufacturing jobs disappeared. The United States wasn’t even the biggest loser. We lost about 11% of our manufacturing jobs in that period, but the Japanese lost 16% of theirs. Even developing nations lost factory jobs: Brazil suffered a 20% decline, and China had a 15% drop.

I’m fairly certain this message is not one commonly promoted by our media. I believe we strictly hear how our manufacturing jobs are purely shipped overseas and especially to developing countries. (more…)

A Picture Is Worth A Thousand Words

Posted by Larry Doyle on May 29th, 2009 10:47 AM |

This video clip with graphs provided by the Financial Times addresses the surging rate of delinquencies, foreclosures, mortgage rates, and Treasury rates. 

The historical view provided by these graphs gives us reason to pause and question the potential for a near term real economic recovery.

 

LD

“Crony Capitalism”

Posted by Larry Doyle on May 29th, 2009 7:55 AM |

Has the economic integrity of the United States of America been reduced to the level of a banana republic? This theme is recurring through many channels. In the midst of a daily perspective, one may quickly and strongly dismiss such claims as overhyped libertarian fearmongering.  I do not put myslef in that camp, but I do take pause to reflect on the long term implications of actions and programs enacted throughout our economic crisis. 

Sin-Ming Shaw, a Thought Leader (left sidebar) here at Sense on Cents, provides sobering and thoughtful commentary on this topic in his article, “America’s Crony Capitalism.” While we all would like a swift, strong, and fast economic recovery, Shaw addresses the lack of integrity and transparency in the process. Many would maintain that “we did what we had to do” or similarly “these ends justifies these means.” I strongly believe the costs have not yet been paid, continue to accrue everyday, and will be astronomical over the long haul.

Shaw provides insights on the Bank Stress Tests:

The government had allowed bankers to “negotiate” the results, like a student taking a final examination and then negotiating her grade.

The truth is that the tests were not designed to find answers. Both Wall Street’s chieftains and the Obama administration already knew the truth. They knew that if the true conditions at many big banks were publicly revealed, many would have been immediately declared bankrupt, necessitating government receivership to stop a tsunami of bank runs.

Wall Street’s titans, however, had convinced Obama and his team that their continued stewardship was essential to getting the world out of its crisis. They successfully portrayed themselves as victims of a firestorm, rather than as accessories to arson.

Strong and indicting charges put forth by Shaw. The fact is, though, he is accurate in his analysis. Washington and Wall Street have sufficiently agreed in their assessment and analysis of this crisis. They have conspired on their entrance to solution. They will debate their exit knowing full well they are joined at the hip in the process.

The necessary rigor to expose and unearth the crime and criminals is severely lacking.  Despite talk of a Financial Inquiry Commission, word from Washington is that stall tactics, turf wars, and partisan politics will once again rule the day in forestalling the needed indictments and prosecutions, both literally and figuratively, of those involved in this mess.

Our “Washington wizards” may declare short term victory (Austan Goolsbee interview yesterday), and point to recovering markets as evidence. Those who may care to look at the world from a larger and longer perspective, fully appreciate that history will judge this time using a different measure. Shaw asserts:

The world also wanted to see the US retaking the high road in reinforcing business ethics and integrity – so lacking under the last administration. As taxpayers had already put huge sums into rescuing failing banks, with the prospect of more to come, a transparent process to reveal how the money was being used was imperative. 

All this said, our future for now is both clear and murky. The Obama administration, as well as the Bush administration, sacrificed integrity in the name of short term bank solvency. The efficacy of this move will be debated for years. The fact is, though, the cost of such a move is not fully appreciated. Shaw summarizes as much:

Like swine flu, crony capitalism has migrated from corrupt Third World countries to America, once the citadel of sound public and private governance. Is it any wonder that China is perceived as an increasingly credible model for much of the developing world, while the US is now viewed as a symbol of hypocrisy and double standards? 

LD

Freddie Mac, Fannie Mae Deja Vu?

Posted by Larry Doyle on May 28th, 2009 4:21 PM |

Can our economy absorb another financial hit of the magnitude of Freddie Mac and Fannie Mae?

In the process of digging for some data on Uncle Sam’s TARP commitments, I came across a compelling story at Subsidyscope, a Financial Primer (right sidebar) link here at Sense on Cents. The lead story at Subsidyscope, dated May 26, 2009: Concerns Grow Over Federal Home Loan Bank Investments. They write: 

The Federal Home Loan Banks, or FHLBs, may be the biggest financial players you’ve never heard of. Collectively, they hold $1.3 trillion in assets and are the largest U.S. borrower after the federal government.

For readers here at Sense on Cents, I have raised warnings about the FHLB system both on April 3rd (Putting Perfume on a Pig!!) and just this past Monday, May 25th (FHLBs: Red Sea, Dead Sea, or Both?). In my opinion, there is little doubt that the FHLB system was the greatest beneficiary of the FASB’s relaxation of the mark-to-market. Subsidyscope says as much:

A Subsidyscope review of the FHLBs’ financial statements has found that several of the banks are carrying substantial “unrealized losses” on their investments in mortgage-backed securities. Because the banks believe these losses are temporary, they don’t have to be recognized on the banks’ accounting statements.

What’s potentially worrisome is the sheer size of the losses. For the Federal Home Loan Bank of Seattle, they are substantially larger than the capital the bank holds to protect itself against such declines. If its mortgage-backed securities don’t regain their value, the bank will have to write them down, which could wipe out its capital buffer and raise risks for taxpayers. 

Remind you of Freddie Mac and Fannie Mae? I thought so. Let’s continue to dig even deeper. Subsidyscope asserts: (more…)

Let’s Look Under the Washington Mutual Rock

Posted by Larry Doyle on May 28th, 2009 1:02 PM |

Many people may think Washington Mutual is just another large financial conglomerate that has since gone into thrift heaven via its takeover by JP Morgan. While WaMu is now part of the JPM franchise, it continues to send very real signs which provide great insight as we navigate the economic landscape.

Thank you to our friends at 12th Street Capital for highlighting a release put forth yesterday by Jamie Dimon, chairman and CEO of JP Morgan. As the Financial Times reports, JP Morgan Warns on Credit Card Woes:   

Jamie Dimon, JPMorgan Chase chief executive, warned on Wednesday that loss rates on the credit card loans of Washington Mutual, the troubled bank acquired last year by JPMorgan, could climb to 24 per cent by the year end.

In the past, credit card loss rates have tracked the unemployment rate but that relationship has been breaking down for more troubled credit card portfolios, such as the $25.9bn in WaMu credit card loans.

At the end of the first quarter, 12.63 per cent of the WaMu credit card loans were deemed uncollectable by JPMorgan. The bank estimates that figure could reach 18 to 24 per cent by the end of 2009, depending on economic conditions.

The initial question begs as to how and why the credit performance of WaMu’s cardholders could be that much worse than the industry as a whole. For those unfamiliar with Washington Mutual, the institution made a failed attempt to penetrate the Wall Street fortress via leveraging its credit origination platform. WaMu was one of the most aggressive lenders across the spectrum of products. As I wrote back on November 12th in The Wall Street Model Is Broken….and Won’t Soon Be Fixed:    

At the turn of the century, the Wall Street model was a pure “originate to distribute” model with little to no residual risk on behalf of the originators or underwriters. When there is no residual risk, those who “WIN” are the players that can purely process the most volume. Well, how does one get volume? Lower the credit standards, put fewer restrictions on borrowers, little to no covenants (NINA Loans: no income, no asset check). 

Washington Mutual was the poster child for aggressive, if not irresponsible, lending. When their distribution capabilities ceased, the institution was left “holding the bag.” That bag was filled with credit cards now projected by the TOP banker on the street to default at twice the norm. What more can we learn in this process? Let’s dig deeper. (more…)

Sense on Cents Economic Review: Red Light, Green Light

Posted by Larry Doyle on May 28th, 2009 11:09 AM |

We had some very interesting economic reports released this morning. The data and its interpretation provide serious “grist for the mill.” On that note, let’s sharpen the stone and get to work.

1. Durable Goods: rose 1.9% versus a consensus expectation of a rise of .5%. Much of the increase was due to strong orders in the automotive and defense industries. Green light, green shoot, call it what you want. This report is much stronger than expected, so get back in there and BUY, BUY, BUY. Actually, hold on . . . 

Do we expect to see growth in the automotive industry going forward? This industry is and will continue to be downsized. Do we think Barack is looking to grow our defense budget? Most assuredly not.

As much as market analysts, media mavens, and government officials are spinning this report in a very positive fashion, let’s dig deeper.

Last month’s Durable Goods Orders were revised lower from an initial reading of -.8% to -2.1%. Red light!! Additionally, given the volatile nature of orders in the transportation sector, economists look at Durable Goods excluding transportation. How did that do?

Wow!! Another green light. Durable Goods excluding transportation orders rose .8% versus an expectation of -.3%. Much stronger than expected. How about revisions to last month’s numbers? Uh-oh!! Last month this report reflected a decline of -.6% and this was revised to a -2.7%!!! Red light!!

So for those who think we’re making progress on this front, put it in the context of “take three steps back and two steps forward!!” (more…)






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