Macro Money

Is the Fed making a HUGE mistake?

Alex... — Wed, 19 Sep 2007 04:39:00 GMT

According to Jim Rogers and Marc Faber, the Fed's decision to lower rates is a very bad idea. It will result in a dollar crash, runaway inflation and an eventually even worse recession. There are videos of both men, in the right hand column.

Rogers, Faber Say Fed Rate Cuts Will Spur a Recession

Barry Riholtz has some choice words for this cut, which are a bit more earthy, with some sound trading advice along the way.

"Why did Bernanke blink? "The tightening of credit conditions has the potential to intensify the housing correction and to restrain economic growth more generally." The hope is today’s action will "help forestall some of the adverse effects on the broader economy" that could arise from financial market disruptions.

The flip side is concerns about inflation. The FOMC statement read "Readings on core inflation have improved modestly this year. However, the Committee judges that some inflation risks remain, and it will continue to monitor inflation developments carefully."

As to the Dollar, Oil, Gold, soft commodities: We're long them all ('cepting the greenback) through one asset class or another.

The Fed now has a third problem to deal with: They have become Wall Street's (rhymes with witch). They may find that's a difficult condition to wriggle out from . . ."

Now for my opinion. The Fed has been desperately banging on all the liquidity pipes, once the commercial paper market seized up, and other credit markets started to show some serious problems. None of these solutions worked. Lacking any meaningful understanding of the real credit markets, they dropped the big one, and hoped it would change things for the better.

The folks at Pimco are looking at a drop of the Fed Funds rate to 3%+. Here we go.

Unfortunately, this rate cut thing is the kind of drug that feels good every dose, but can make for a heck of a morning after. hmmm...

Calls for new regulation: How likely?

Alex... — Sun, 30 Mar 2008 23:13:46 GMT

In my opinion, these plans will amount to nothing until after the election. Its just a way for the current administration to attempt to force the issue down a certain direction. That way, Paulson can tell his buddies (soon to be his co-workers) that "I tried my best".

I like this summary of the "new" plans for regulation at Naked Capitalism.

We clearly need a considerable change in our current regime, and cries for this are only going to get louder. What is a bit surprising to me, is that none of the candidates are talking about this very much. But somehow, I don't think the democrats (or even McCain) will find the treasury proposal to be sufficient...not nearly.

Regardless of how things go, I think that this "situation" will mark a high (or low as you will) water mark for financial deregulation. No matter which way you go on this, the Fed's powers are going to expand, and I think we are past due for consolidation of regulators as well.

Even Paulson seems to have realized the SEC is basically useless, and should be put in the trunk with the rest of the junk. Let's see how many areas they have been useless: Accountants, Enron, insider trading, ratings agencies, investment bankers. Aside from basically everything they have been told to regulate, they are right on top of things!

Sadly, I can see the baby about to be thrown out with the bath water; financial product innovation. Yes, things went WAY too far. But we could seriously enter a sort of "dark ages" in new products because of all this. This terrible news for the U.S. more than any other country. The finance business is one of the few areas where the U.S. is still well on top.

So with tighter regulations, subdued product innovation, and a general chaos of how to assign risk to basically any financial product, how do you think these trends will affect the financial services sector?

Maybe we are close to a bottom for financial stocks. But it will be a long time until we see a boom in that sector, unless a dramatic change occurs. Its a good time to be a risk manager, but not so good to be a "profit center" guy.

ETF Idea: Roger' Commodity Index (RJF)

Alex... — Sun, 02 Mar 2008 22:25:49 GMT

I have not invested in this index...yet. But it does look like a very good long term way to invest in commodities, and very simple too.

Apparently, this ETF is supposed to track the Jim Rogers "RICI" index of commodities, which deliberately has a much higher weighting in agriculturals than a lot of the other indices.

Right now, while I believe that commodities are a good long-term play, I think that since we are facing a recession they are probably not a good idea. I could easily be proven wrong, and I am not 100% sure of my view. But that is my gut feeling for now. So I play wait and see, and look for new opportunties.

The reason I have been especially focused on this area, is a post by Norbert, who pointed out there are many markets that are going up a Lot these days. There is no reason to feel trapped in the US equities markets for instance.

If anybody has other ideas on how to play commodities, I am happy to listen.

Monoline Recapitalization by the Banks: One Fraud to Cover up Another.

Alex... — Mon, 25 Feb 2008 03:10:37 GMT

It shocks me that this "plan" is touted in the media, as if it makes any sense at all. Let's run it down together.

The banks are being asked by the insurance regulators (and basically everyone else) to re-capitalize the monolines. You see, it is in their interest to do so, as a downgrade of the monolines will result in very large losses on bank investments. So its "cheaper" to re-capitalize the insurers of those investments, than take the downgrade on the investments.

So the banks are going to provide capital to the monolines, so they can insure their investments, and keep them at AAA.

This is absurd on the face of it! If you are providing capital to a guarantor, how much value can that guarantor provide you?

Say I decide I have a homeowners policy, and I find out the insurance company is in trouble. They tell me I will not be able to file a claim on my newly damaged house, unless I give them money to pay the claim! So if all of us suckers will simply give them one dollar, they will make it into hundreds to pay us all!

Absurd.

But let's just say this goes through, which looks dubious. I have a modest proposal, for how the insurance companies can pay for this new capital. They can insure the debt of the banks, and bring it up to AAA! If anyone does not believe it will hold, the banks can send over another check, and AAA is restored.

That is only one step further in absurdity. The monolines are a fraud, and this "plan" is an act of financial desperation.

The market will not be fooled. Don't you be fooled either.

Credit Default Swaps versus The Stock Market Information

Alex... — Mon, 25 Feb 2008 02:18:11 GMT

Here is a post I made over the weekend. I hope you find it informative. I have put up more details on the topic Market Insights. I hope you find it informative.

Re: Credit Default Swap Market or Stocks: Which is Right? Alex...
VoteControl.prototype.SetVoteStatus('unvoted','2491175');

The best free source of CDS information I know of is www.markit.com. I would specifically recommend going to this link, as it gives a fairly good overview of spreads across industry areas. The best data is on Bloomberg (go to CDSD), but I know this is not easy to obtain for many.

Here is a Bloomberg article, which discusses the disconnect perceived between the CDS market and stock prices. They take a reasonably balanced approach, noting that there is a play here, whether you think the equities market or the debt markets are wrong. Just pick one to go long, and short the other. Logical.

Earlier last week, the Financial Times put up a couple of articles on the subject of the "divergence". Unfortunately, I am having a devil of a time finding them online at this time.

Norbert, the key here is that spreads are exploding upward on practically all industries during the previous couple of weeks. I do believe this is partly a re-dress of spreads that were previously too low, but the recent rate of increase is the key thing I am focusing on. Yes, the equity markets have not been all that bullish, but have really not changed all that much, with implied volatility going down. So I am holding with the proposition that the CDS market spread fluctuation can be a leading indicator of problems in financial well-being of the companies.

One of the reasons I tend to trust the CDS market as a reasonably reliable indicator is the fact that insider trading is apparently rampant in this arena. Why? Because banks often have the benefit of insider information from their loan book, but can also trade on this CDS market. The SEC has no idea how to police this, has suggested a few common-sense controls to build a "chinese wall" between lending and trading, and then has wondered aloud if it even matters if such trading occurs. As usual, the SEC is at best useless, and at worst corrupt. So here we are.

I would also like to point out that spread increases are more than an empty indicator. As they go up, it has a knock-on effect on cost of borrowing. That goes straight to the bottom line, and can only hurt the real economy. Here is an article on this subject.

Wonk Post: Credit Default Swap Spreads of Large Banks.

Alex... — Sun, 17 Feb 2008 20:42:03 GMT

If this is over anyone's heads, please post a comment requiring explanation, and I will be happy to respond in detail.

Maybe some of you have seen that inter-bank borrowing rates are going up, at a rate that is at least as fast as the rate the fed is declining. So by the way, Bernanke's efforts at directly addressing the credit crunch is not having much effect. One could argue it would be worse if he did not do something, but that is not my position. I believe the market has a very firm opinin on proper pricing of risk, and is not interested in Bernanke's views.

With that back drop in mind, a look at the credit default swap market is highly instructive. These instruments are derivatives, where someone is "swapping" the risk of default with someone else for a fee. It is a way to transfer credit risk to someone else. The way these are price measured, is by the number of basis points charged over a certain risk-free rate. This "spread" is what one referrs to, when talking about the cost of risk for a given entity.

So what are the spreads for the banks these days? The large US banks are around 80 basis points. Buffett is around 70, as well as Fannie Mae and Freddie Mac. European banks are around 100 basis points. All of them have been rising rather rapidly. Asian banks, with the exception of Japanese banks, are seeing a parabolic increase in spreads. Yikes!

Riskier debt is seeing a spread explosion, rising to as much as 1000 basis points.

About a year ago, 100 basis points over spread was roughly considered BBB level risk. So in short, risk is being aggressively repriced, which means almost everyone is seeing much higher cost for funds.

We are NOT out of the woods yet, when it comes to the credit crunch. And in fact, for riskier borrowers it is getting much, much worse.

I suppose this is obvious, but junk bonds are not a good place to be now, and I think those have a ways further to fall. Let the knife hit the floor. Better to chip the formica than have it through your palm!

Monoline restructure negotiations. Who wins and loses?

Alex... — Sun, 17 Feb 2008 20:14:39 GMT

I am sure that most of you are aware of the monoline mess. The recent back and forth in the media, with Buffett offering to "save" these insurers, and the New York regulators demanding a "good company / bad company" split being the latest headlines.

Folks, in my opinion, its all one big negotiation. Just in case someone has not yet noticed, Buffet's offer was completely unrealistic, and I think very deliberately so. In vulture capitalism, sometimes it pays to hasten the inevitable expiration of one's future meal, and that was his intention. It has succeeded.

Now the State of New York has made their own dramatic, headline-grabbing pronouncement. Either restructure in a few days, or split out the municipals, leaving the "rest" of the obligations in a separate entity. It is clearly taking off from Buffett's offer, and is the State's bid to take care of their needs. Municipalities do not want to see liquidity for their instruments go down the tubes, and rates go up. So they are grabbing for their's ASAP.

So who is losing in all this, so far? The Banks and Private investors! A split of the monolines would be a disaster for them, and would take us through a new round of write-downs. And I am not just talking about the nasty CDO squared / subprime garbage. I am talking about all other non-muni debt insurance. Because, you will see your insurance policy stuck in a doomed shell of a company, where you clearly cannot hope to gain anything from paying future premiums.

So best case, the States "win" by forcing the split, and the private companies see the insurance gimmick basically go away overnight.

But its not over yet! I predict we enter a second round of negotiations, where the bankers go to court, to keep this from being a one-sided process. If one looks hard enough, you can see certain attorney quotes, confirming this as an inevitability.

But no matter what, someone is going to lose. There is simply not enough capital to cover NEARLY all the obligations these con-artists insured.

At this time, the munis have the upper hand, because they can use their regulatory muscle to force this through, and make it a fait accompli.

That means the banks and private investors are going to lose. The hand is around their throats, and they have little time to get their wind back. So in my opinion, this would not be a good time to buy financials.

Yes folks, if the States succeed in taking care of themselves, we will very quickly enter a second round of credit write-downs.

Are you ready?

Home Price Index shows broad based decline.

Alex... — Tue, 25 Sep 2007 23:37:45 GMT

This decline seems to have continued through the summer months, and is now broadening to more metro areas. The S&P Case Shiller Index covers 20 metro areas, and 15 were down Year on Year. Even for those that were up, they are showing signs of reduced appreciation.

And we are now entering the fall / winter season. If sales were already poor, and prices were already going down, how will we be doing in...December / January? Those flippers may be looking at a very cold winter this year.

Summer Swoon Evident in the S&P/Case-Shiller^{® Home Price Indices}
^{® Home Price Indices}

Countrywide...so sad.

Alex... — Tue, 25 Sep 2007 06:52:01 GMT

A lot of people are soon to be out of a job, and with little warning.

Yes, this bank was very aggressive, and their management quite prideful. It may seem easy to judge, and maybe even just say "they" had it coming...its the efficiency of the market, and other such platitudes.

But I have seen layoffs at a few banks, and was within eyesight of one bank closure. "They" are often secretaries, janitors, people just trying to make a simple living. They have no idea what Countrywide does as a business. They had no say, and got little of the bonuses and stock options...if any. But losing a solid paycheck, in an area where it might be pretty hard to find a replacement, they do feel that. Its not a lot of fun, seeing folks (men and women) crying out of fear and shock. No fun at all.

This is why the senior management of a bank have far more responsibility than just to make a quick killing, and take maximum risk. It is not an easily measurable financial responsibility, but one that a decent person can see easily. In trying to run a bank for the long run, you do a service to all; the community, the shareholders, and yes even the workers. Isn't that a generally more desirable outcome? Doesn't that really seem more "efficient"?

Anyway, I just feel bad for these folks. Its not a good time to get laid off. Maybe if Countrywide management was a bit more restrained, saw their business as something that could survive them, maybe a lot of excesses...including mass layoffs...would not now be necessary.

Ok, so flame for being a bleeding heart. But would you like to wake up one day, and find your job is gone, despite doing good work? You house is diving in price, because many neighbors are forced to sell and move? I think few of us would believe we deserved that.

Most of the every day workers at Countrywide don' t deserve that.

Interesting chart on the dollar, with good elaboration

Alex... — Sun, 23 Sep 2007 21:45:27 GMT

The New York Times has a tremendous talent for packing a lot of information in one simple chart. Click on the "Trade Weighted Dollar Index" button under a thumbnail of the chart. As an aside, most all of the NYT's content is now free, so it will click through without subscription I believe.

I do not appreciate the bias in the discussion against Bush. Though it is nice to segment time, to get a sense of how the dollar has done by such a measure, it seems to me that it's the positive or negative practices that should be noted...not any particular president. For instance, Carter's administration saw some pretty bad falls for the dollar, so I am not at all sure that its a matter of party politics.

Dollar Sinks the Lowest Since it Started to Float

What next for the credit crunch?

Alex... — Sun, 23 Sep 2007 06:22:12 GMT

It is good to see that the immediate liquidity difficulties appear to have reduced...for now. But rates on LIBOR are still relatively high, and the mortgage market is facing tremendous constriction outside of conforming paper. Also, the leveraged financing market has really seized up, and that does not look to get any better soon. There are probably other problems, as evidenced by various other problems here and there.

But maybe this is all just a rough patch, and in a month or two everything will be back to normal. Me, I don't think so. The excesses of this cycle have just begun to be unwound. Whether it leads to economic stagnation or recession, I don't know. But I do believe we are not done yet. In all the years I have been involved in managing credit risk, I have never seen such bizarre excesses, and a complete insistence that credit risk has been practically banished. It hasn't.

I thought awhile about posting the link to this article, because the title is unnecessarily sensationalistic. But I decided to put it up anyway, because I consider it an excellent primer on what is going on in the credit markets today. I highly recommend you read it, and decide for yourself if...We are headed for an epic recession.

The interviewee, Satyajit Das, has written an outstandingly cynical and informative book titled Traders Guns and Money

His thesis is that credit modeling and derivatives are used as a gimmick by investment bankers to filch money from all comers. The models underlying all this, and the products provide a false sense of control, which is one of the major reasons we have very high levels of leverage today. I do not think this means that all models are bad, or that derivatives are evil. Its just that the vast majority of customers are in such a state of awe in the face of this "financial engineering", they cannot ask the hard questions they should. I do believe that is problem enough.

I will end with an excerpt from the above article, which I agree with completely:

"Rather than joining the crowd that blames the mess on American slobs who took on more mortgage debt than they could afford and have endangered the world by stiffing lenders, he (Mr. Das) points a finger at three parties: regulators who stood by as U.S. banks developed ingenious but dangerous ways of shifting trillions of dollars of credit risk off their balance sheets and into the hands of unsophisticated foreign investors; hedge and pension fund managers who gorged on high-yield debt instruments they didn't understand; and financial engineers who built towers of "securitized" debt with math models that were fundamentally flawed."

The consequences of these things...we have a way to go before they are all manifested.

What is the yield curve doing these days?

Alex... — Sun, 23 Sep 2007 04:18:51 GMT

One take is that it is going into "bear steepening" mode, where bonds go down and long rates go up...even though the central bank are trying to get rates to drop.

I like the introduction of a "reverse conundrum", where imponderable structural forces continue to drive up long rates, while the central banks push down on the other end. Let's hope that does not turn out to be a prevailing trend.

Bear Steepening? Mid-Cycle Slowdown or Worse?

Some bad news for the dollar

Alex... — Thu, 20 Sep 2007 05:06:41 GMT

Saudi Arabia may be nearing a decision to abandon the dollar peg. This news really surprises me, as I would have expected one of our staunchest allies to hold out the longest in the Middle East. But if the numbers in the article are accurate, it may be a big problem for the dollar. At least a couple of other countries in the region have been backing away from dollars as reserves, and this can only hasten the exodus. PetroEuros anyone?

And now for something completely different.

Alex... — Fri, 21 Sep 2007 22:40:57 GMT

If you like Rock and Roll, I bet you will enjoy The Shins.

Here is their video for one of their best songs: Austrailia

Some good news on the credit front.

Alex... — Thu, 20 Sep 2007 04:40:10 GMT

My sources indicate that the commercial paper market considerably improved today. As one of my friends noted, it was like the difference between night and day.

So I think we can be hopeful that the liquidity portion of the credit crunch has subsided for now.

But that still leaves the longer term problems with the mortgage market, the leveraged financing market, and the likely soon the commercial real estate financing as well.

This all spells considerable increased drag on the economy. Folks, when the credit dries up, the party is definitely over. And that is just how the cycles go.

Future direction of Energy Use in the US

Alex... — Thu, 20 Sep 2007 19:52:02 GMT

I found a very informative and well balanced discussion of this subject in the Fidelity forum here. It has it all, with some very knowledgeable people weighing in. I highly recommend it for anyone interested in where the US should be going in this area.

Some excerpts...

"No alternative energy is viable at (oil) $30/B. The high cost of oil is the best way to foster alternative energy sources. The alternative energy, if viable & economical, will find a way to get produced at high prices. The entrepreneurs, with help from DOE, will come out of the woodwork. If right, they will succeed immensely, if not, they will lose their capital, but they will try again. so be it..."

"I believe that nuclear power is essential to cleaning up our environment (by reducing the emission of green house gasses) and achieving energy independence (by reducing our reliance on imported oil and natural gas), while maintaining or improving our standard of living. While renewable sources of power should be encouraged, nuclear is the only power source with the capability to come online with large quantities of power in relatively short periods of time (we are still talking years if not decades)."

CBS Interview with Greenspan

Alex... — Mon, 17 Sep 2007 14:39:27 GMT

Greenspan on Housing

Greenspan on Mortgage Meltdown

Don't Bet on Fannie Mae or Freddy Mac Sailing to the Rescue.

Alex... — Mon, 17 Sep 2007 23:57:00 GMT

This is an op-ed piece that picks up from the other interview I posted previously

Here.

What a refreshing viewpoint. While congress may plan on passing all the legislation they wish, this fellow does not seem to be interested in making the refi problem...his problem.

Interview with Fanne Mae / Freddy Mac Regulator

Alex... — Mon, 17 Sep 2007 22:53:00 GMT

This guy Lockhart is not having any of this idea to raise the ceiling of Fannie Mae and Freddy Mac assets. The $30 billion of possible additional support is frankly a drop in the bucket, so that will do little good. If Bush backs him up on this decision, which I would think is likely (they are buddies..see article), it will be at least a year before anything can change here.

So if I was to make a call here, we can expect no support from these GSE big boys in smoothing out the mortgage refinance challenges.

Also, he gives a very succinct recap of how we got into this mess.

Good for him! This is certainly not his problem to fix. But where is all the money going to come from, to handle all the re-fi's coming down the line? Maybe this credit crunch is not as short-term as some would hope.

Crisis puts Fannie and Freddie in cross-hairs

Greenspan Interview with the Financial Times

Alex... — Mon, 17 Sep 2007 04:23:00 GMT

Apparently, he knew the housing market was in a bubble all along, and his use of "frothy" was just a euphemism for a bubble. And he expects national home price declines in the high single digits, but would not be surprised if they went to the double digits. Well at least he has finally admitted what was obvious for years now.

This is the summary article:

This is the longer one, with discussion on many positions he advances in the book. Its interesting, but involved.
http://www.ft.com/cms/s/0/976b7442-6486-11dc-90ea-0000779fd2ac.html