bizzXceleration: Performance, Value and Profit

Well sorry we skipped a day but things got a little distracting. Feeling sorry for myself running without more than three hours/night monitoring Armageddon - my portfolio, not the markets, I mean. Now imagine how the guys doing the real work feel - they've been running that way for months and the last two weeks have taken up the intensity levels to where they must feel like Stalingrad would be a better alternative. Speaking of which we'll take back our comparison - we're not on our way to Kursk, though that'll come. The enemy got new supplies and staged a major counter-attack, broke thru our lines and threatened to devastate our rear-area and throw us back instead. We'll illustrate what we mean by that but let's start with a little dark humor, in the context of things. Don't know if you can make it out so click on the picture and watch the bear get shot out of the tree and bounce off the trampoline. Pretty funny but maybe not entirely accurate. Here's an alternate version with soundtrack and replays and a complementary version of the drunken bear out for a walk. More accurate we'd say and even funnier.

At this point if you're reading this your probably aware that we've had a second "interesting" week in a row but you may not know how interesting. We'd like to read you into the picture, address some of the badly mistaken memes floating around, especially in the blogosphere, and talk a bit about both emergency policy choices & politics and the outlook. We'll save a deeper dive on that for the future though. Unfortunately to tell you why the memes are wrong we need to scare you to death first which will also help you understand the policies and politics as well.

Market Breakdown

The market chart is a composite showing the Dow over two 5-day periods, F-Th and M-F. Up until Th around 3pm the decline in the markets appeared to be accelerating. Good for those of us with bear bets though we ended the week where we'd started, dead on breakeven. If you were just getting here from Mars or farther you'd think nothing had happened last week. Instead of the biggest changes in the US and world financial system since the 1930s. The Dow broke thru 10,500, or -8%, and was accelerating lower. Armageddon indeed until the 3pm news/rumors of a major systemic bailout got out and saved the day and created a gap up on Fri. Notice that after the gap the markets went nowhere. The real problem wasn't in equities though - it was in the credit markets.

 This next composite chart shows you what happened AFTER the world's central banks coordinated a major injection of fund after the takeover of AIG. The 3Mo Treasuries, normally running along with the other short-term rates around ~2%, dropped to ~0%. That's a market collapse rate and came about as funds were pulled from everything and put into the shortest term Treasuries. The good news is that at least everybody thought they'd still work - consider the alternatives to that ! Now these charts may be a little dry, abstract and academic. Let's try and bring it home with a more evocative and emotionally convincing comparison. This next picture is taken from the 1995 movie Outbreak and convey exactly what happens when a case-by-case approach (LEH, MER, AIG, ...) suddenly breaks down into metastasis and turns into a contagion.

 Any questions - 24 hrs, 36 hrs, 48 hrs, kaboom ! Well the lockdown of the credit markets was freezing about that fast and the stakes were, and are, are about as serious as it gets. Are you scared yet ? You should be ? There's a huge outpouring of teeth-gnashing in the blogosphere about socialism for the rich and nothing for the normal folks. Let me tell you - we were all going to be starving in dark and soon if this had spread. This wasn't socialism this was courageous and imaginative performance to the highest standards of public service under enormous pressures and terrible conditions. Be glad these people are smart, skilled and have big brass ones. This is what we mean when we say systemic risk ! Get it now ?

 Burn the Witch, Burn the Witch

One of the other memes making the rounds is that this is somebody's fault and the witch hunters are out in force looking for the guilty to hang. Now don't get me wrong, there's plenty of blame to go around and some very senior and responsible people made some really stupid decisions in the name of greed and hubris. And are paying the penalties. The evil Greenberg, he of the founding of AIG who laid the groundwork for that company's devolution and implosion lost $14B in 24 hrs. Lots of folks suffered and are suffering similar levels of impact. Nor are these bailouts. The proposals on the table will be buying up bad assets to be sure but for mils (= $.00001) on the dollar; even if they're only re-sold eventually for pennies and our return as taxpayers is pennies, our returns will be in the orders of magnitude. Not to mention we get to keep a functioning economy. Everybody's criticizing the dancing bear for how badly it's dancing instead of appreciating the miracle of it being able to dance at all. Nor are anybody's hands particularly clean. Yeah there were regulatory breakdowns but at every link in the chain nobody held a gun to anyone's head and forced them into making greedy and stupid decisions. There's a legal doctrine called last clear chance - who had the last clear opportunity to prevent a disaster. Lots of folks. And you can't regulate away greed, stupidity or humanity. Bear that in mind.

What we need at this point is to keep the wheels on the little red wagon and keep them turning so we have a shot at slowly and painfully working our way out of this mess. The way to judge the politicians and other commentators is not by their finger-pointing and witch-hunting fervor but by their constructive contributions. So far the track record is poor to worse. 

On the other hand the single worst track record and most directly responsible parties are "we, the people". First off those directly involved who made stupid and greedy decisions at every step in the chain of co-dependents. And second all of us who indirectly benefited by consumtion being articially propped up by the Housing ATM so we could all buy more than we could afford. If you'd really like to see real socialism run with this decision that this is all somebody else's fault, nobody is self-responsible and we should burn the witches instead of fixing the problem.

We got ourselves into this mess by tolerating these behaviors, encouraing the systemic leveraging of greed and now are about to repeat the same mistakes in reverse by going with the loudest and easiest to grasp but mistaken correctives. Congratulations - if you keep doing the same things you get the same outcomes as they say. 

Continue reading "Back to Stalingrad: Containing the Contagion, Moving Forward ?" »

Posted by dblwyo at 01:50 PM | Permalink | Comments (0)

It's probably time for a little update, especially now that the Dow is down nearly a 1,000 points, the crisis appears to be metastasizing, panic is in the air and blood not quite, other than figuratively, in the streets. Of course there's a lot of figurative blood and people's livelihoods and futures at stake here. And if one goes abroad ripple and local effects have cause food riots and other unrests so figurative isn't totally accurate on a worldwide basis. Now as you may have noticed thruout all the sturm und drang we've tried to let others focus on the immediate while continuing to wrap the flow of events in a strategic context and link them to wider structural concerns. (Continuing Confusions & Crisis: Teetering Giants to Credit to Housing,Keeping Your Head: Understand the Crisis, Navigate the Crisis ?)Which we intend to continue, and so in that spirit our headline. Let me explain.

Between Stalingrad and Kursk 

Just in case you're not a history buff let alone a military history nut like some people the high tide of the Axis advances could arguably be said to be the battles of Midway, El Alamein and the Battle of Stalingrad, still one of the most horrific in history and accurately portrayed we think in the 2001 movie Enemy at the Gate. That could be called, as Churchill did, the end of the beginning. Several months later and after long preparations on both sides the Battle of Kursk was fought and it was THE turning point on the Eastern Front because the Soviets were able to trap a major German offensive thru superior intelligence and strategy, stop it and then reverse it with their own major - and successful - counter-offensive that took away the strategic initiative from the Germans for the rest of the war.

Part of our reasons for thinking we're beyond Stalingrad is that for the 5th or 6th time in a week we've read a major MSM media article that lines up with our thinking and also represents a broader consensus of emerging opinion and understanding. Two of the biggest problems we've faced so far are a lack of grasp of how deep and widespread this overall problem is and pronounced denial in many quarters that either it existed, it applied to the firm in question - that's pretty well resolved in the last two weeks, we'd say - or that it was over and a bottom could be called. The first step in treatment is moving from denial to acceptence, or standing up and saying, "Hi, my name is Mr. Market and I'm a debtoholic". Of course there's treatment and treatment and shuddering thru to expiration with the DT's qualifies as a fix, if not a cure. :)

As you may have noticed we rather like longer posts with pictures and readings to beat a point, or points, to death. After the break you'll find a collection worth your time that samples some key issues and events: the AIG case and why it was so important (the Jubak vidclip is the best simple explanation), the immediate consequences for business in terms of credit contraction and further economic slowing, the ecological shifts in the Finance Industry (when an ecology changes suddenly whole species die out), macroeconomic implications and, finally, deep and major structural reform and recovery of the regulatory framework. With the initial idea of forming an updated version of the Resolution Trust Corporation. And idea that makes sense, is workable, will be challenging, is probably necessary and has the backing of serious political players and some of the most renowned wise elders in the country. Think of it as the pre-planning and intelligence gathering for Kursk and a step we heartily endorse. In fact sidebaring to political implications - this is an acid test for candidate screening IOHO.

Now as it happens, and part of what encourages us, is that none of the readings covers a topic or situation that we haven't been talking about for months. Aside from proving we're not completely nuts it means that a broad view of what we see as the structural breakdowns, systemic risks and necessary correctives is emerging and building rapidly into a common view. Hallaluah ! THAT's the first step indeed. So we won't bother to repeat any of the earlier pictures but strongly urge you to at least read the excerpts. And it also lets us sidestep in a way to focus on the markets outlook. On the other hand given the last two weeks where all this agita has come together in screaming headlines and apparent worldwide market collapses a few stock market charts might be in order to help you get a sense, at least ours, of where things might be headed :) ! 

Market Perspectives: Short to Long-term

 Let's start with some relatively immediate history - a composite chart that looks at the last five days combined with the last three months. The last three days opened with gaps downward which was and wasn't surprising. But chatting along with the trader geeks, a fun and knowledgeable bunch of guys btw and a good place to learn (Matt Trivisonno’s Blog), we all agreed Tu. night that We. was do for a bump up. Boy were we surprised. Now as it happens everybody was well positioned or put themselves there, did very well yesterday and had a great time. After all for these guys volatility is their friend. And their surprise was several orders of magnitude less than that of the general population or the financial community for that matter. Largely because they don't let believes get in the way of seeing the facts as they are. The 3Mo chart at the bottom would suggest a new downtrend is being established and, since it was busted, has farther to run. What I think we're seeing is the emergence of a new view of things that's replacing the old denial sentiment. This is why using the market as a gauge of general attitudes is important. If true it bodes well for the future.

But like I said "we" trader-geeks (I'm only a lurker and occasional commenter, not a contributor) were surprised and this next composite chart perfectly illustrates why. The whole theory of technical analysis is that patterns emerge and tend to repeat because of statistics and internal market forces. If for no other reasons than so many market participants use them in one form or another that they constitute a significant part of the market :) ! One pattern is the tendency to follow certain natural long-term and rhythmic, almost wave-like patterns, where a major advance is followed up by a retreat to a certain level. And if that level is breached then on to the next and so on. It works pretty well until it doesn't. We've been in a cyclical bull market since ~'02 that turns out to be part of a larger, longer bear. That market ran up from the trough in '02 to the fall of '07 and as of Tu. night had fallen back 50% of the way - one of those natural stopping points and the reason we all expected, given no change in sentiment, to see a week-long bounce back up to 1220-1230. Which we started to see but boy did it fade. If it had worked out we'd have gotten the bottom chart which shows where the bounce up might have been, possibly back up to 1270 or so at my most optimistic. But that didn't happen ! And the next level down is/was the 68% level, cause a close of 1156 blow right thru that 50% line. You sense a theme emerging here ? I hope so.

Let's try and drive some more nails home by taking a really long-term view so you can see the stagnant market we've been living in since ~'99 or so. This composite chart shows the SP500 from 1950 to now adjusted and unadjusted for inlfation on top and adjusted compared to GDP on bottom. There's a whole wealth of socionomic history embedded in those charts. But first notice that the market's been flat over the period we mentioned unless you adjust in which case it's never been as good. To look at the top you'd think we'd had a real bubble but looking at the bottom a complementary story emerges. The economy drove the markets right along until '75 when all our past sins caught up with us and the markets seriously under-performed until they started to play catch up in '95...two decades of malaise to pay down the excesses (fiscal, monetary, social and otherwise) of the '60s and early '70s ! Think of it. Now where we go from here needs more discussion but with major structural changes in Finance, an economy likely to be in malaise for a couple of years and below potential for several after that we certainly don't anticipate a return to the boom years. Which means you really need to re-think your standard model of investment planning btw. The old buyem n ridem model is dead as a doornail but nobody's telling anybody yet. (Bears of the Apocalypse I: Long-term Market Performance Perspectives,Bears of the Apocalypse II (LT Econ): Who's Fault is this Mess ?)

Summary and Perspectives

Before Kursk there was a lot of work to do and an RTC initiative would, if put in place be the pre-positioning to fight it. What we're in is basically a plumbing repair job where some broken pipes need replacing, some kinked ones needs straightening, a couple of new pumps need to be added and then a whole bunch of de-clogging of the septic messes needs to be done. Before we all catch something from it. But the Fed and the Treasury are doing a great job with the hands they were dealt and the tools they've got or been able to build. But we need to rip out and replace all the plumbing as soon as we've got the immediate problems far enough under control. And to keep beating the metaphors to death it's the plumbing that helps make the house livable but it ain't the house, the economy is. And there's a lot of repair work needed there as well. Major repair, reconstruction, additions and new developments IOHO ! Some more things to think about for this election.

Continue reading "Between Stalingrad and Kursk: Not Quite the Beginning of the End" »

Posted by dblwyo at 02:15 AM | Permalink | Comments (0)

O.K. time to move on, at least in a sense. The LEH collapse crisis continues, has received continuing press coverage (pick - WSJ, FT, AP, Yahoo, Bloomi, Reuters.....) and pretty good blog coverage (CalculatedRisk, BigPic of course) and we've provided some running updates. And the MER, AIG, WhamU (WM) sagas are boiling along merrily in the not to distant background. This is going to be an interesting week - got water, first aid and ammo stocked up ? As is our wont we're going to wrap this moment to moment agita in some other news and some really big picture context. After the break there's a bunch of excerpts starting with another good WSJ story on the metastasis of this whole mess (this is, to our intellectual delight and investment chagrin) about the fifth major MSM story that gets it right.

This is IOHO the most important few things to take away from this you need to think about and internalize:

1. This is continuing and is systemic, that is everything's tied together into an ecological system that is under-going widespread pressure. Now we're not talking mass extinction here but continuing serious to severe problems.

2. Most of the key financial, business and market players continue to lurch from surprise to surprise having substituted their decades of experience and the derived rules of thumb for thinking when the structural patterns have changed. The MSM major stores are very good indicators that those broken mental models of reality are getting shaken and stirred but not replaced. That's dangerous.

3. This is unnecessary. Many key outside players (Roubini, Feldstein, Krugman, Rogoff, Hartzius,....) have been sounding warnings since this time last year. Fortunately both the Fed and the Treasury after initial periods of fugue when they were under-estimating the severity have been proactive, insightful, ballsy and fast. And are basing their actions not on immediate invention but on several years of worrying about this sort of breakdown so they've been better prepared than most.

4. And it doesn't mean one can't "dance of top of the turbulent waves" by following good business practice. It just means that most chose kookaid and self-delusion over discipline. As the excerpts on Berkshire's Clayton Homes, who live by selling modular homes to sub-prime borrowers, and Harvard Endowment's continued superior performance prove. Dare we re-mention all the stuff we've been throwing up on good business performance, again ? (Using the Palantir: Beyond Fear to Performance and Returns) .

In addition to the WSJ strategic overview the next section reviews the next set of emerging problems that are cropping up as, for example, commercial loans deteriorate, junk bond spreads climb again, the demand for Fed Window borrowings goes up among regional banks - who've been avoiding it because of the stigma of distress. And this is going to go on for a while. What these stories tell us is that while we've ONLY been living thru the consequences of the fallout from sub-prime and the associated de-leveraging in the financial markets that other major credit problems are about to accelerate. Thereby moving us into a set of "feedback loops" between deteriorating economic conditions, tightening credit, more bank losses and a further weakening. Associated graphics from prior posts are embedded with the excerpts btw.

In addition to those problems, which could be described as the 2nd level consequences of the first big "rock in the pond" from sub-prime we're about to see two more big boulders rock over and create more tsuanmic waves. Commercial Real Estate is beginning to turn down and with it the associated loan losses are rising as well. And we're moving beyond sub-prime to the onset of major problems with resets in the Alt-A markets which will lead to more down-pressures in Housing sales and prices. Again things that STILL aren't being widely factored in in general, though obviously a lot of good people have been sounding warning bells for some time. So be forewarned about more ripples spreading out from those as well.

Continue reading "Continuing Confusions & Crisis: Teetering Giants to Credit to Housing" »

Posted by dblwyo at 09:50 AM | Permalink | Comments (0)

What a week, actually what a two weeks. There's so much going on it's hard to pull it together and wrap some common threads and themes around it all. But the bottom line is that the Credit Contagion Metastasis (Cramer's Anniversary: Continuing Credit Metastasis and Economic Outlook) we've been talking about for months (and it seems months and months...usw.) is about to collect the scalps of some more victims. In actual point of fact the size and magnitude of what's going on now is tremendous and scary but this is NOT AS BAD as things were in Mar. when BSC imploded and it looked like markets were going to collapse until the Fed found the magic tools and the right way to use them. Which is not to say that these aren't dire situations and you could see some very unpleasant surprises come Monday morning that are about as serious as it gets.

UPDATE: here's how serious this is in case you didn't get it:

• Masters of the Univers Meeting to Save Us: Lehman Deal Could Come Tonight As High-Level Talks Continue
• $5T in Exposures:How big are Lehman, Merrill, and AIG?

Update 2:

No Deal Reached Yet for Lehman The outlines of plans to determine the fate of Lehman Brothers Holdings Inc. emerged today even as it became increasingly clear that a clean sale of the entire firm to a big bank would be too difficult to execute. A sense of optimism that a rescue could be arranged today dimmed as a growing sense of gloom descended on Wall Street.

BUT, and seriously here's the good news in bad situations, this is the working out of the confluence of all the breakages we've been talking about: risk re-pricing, de-leveraging and broken Finance Industry business models. And that's not a light at the end of the tunnel it's the headlamps of the next crisis and breakdown coming down the tunnel. With last weekend's take outs of the world's largest financial institutions on whom the health of US and world economies was utterly dependent one would hope we'd get some breathing room. But beyond Frannie, Lehman (LEH), Washington Mutual (WaMu or WM), Merrill (MER) and AIG appear to be lined up right behind. And then who knows - though we'll find out. There was a small irony in all this - in reviewing my AIG problems clipping files they start with the '05 criminal charges that were partly the aftermaths of the last bubble bursting and associated shady dealings and led on to two years of write-downs, management changes, etc. etc. Nobody can catch a break. If you stop to think about it these guys had barely sobered up and hadn't repaired the damages from the last party when they starting drinking the koolaid again. This time we seem to be more prepared to face realities. Take a look a the chart which shows the Finance ETF (XLF), LEH, WM, MER, and Citi (C). Notice how extraordinary it is. The XLF was down over the last three months but the walking dead men were down 30-40%, which is outrageous though accurate. JUST in the last week they've all essentially collapsed, much the way Frannie (FNM, FRE) did last week and BSC did in March. In other circles when your market value goes to zero they call
that bankruptcy ! :)

Markets Reactions: Jaded But Not Faded

Let's start by taking a look at this very simple but very meaningful 10-day chart of the SPX and see what it can tell us. In case you forgot week before last began with a holiday which for market and economy watchers faded into a horror show - except for those of us who've been anticipating the onset of realities for some time. Confirmed with last Fri's unemployment numbers but subject so far this year to Kubler-Ross stage 1 Denial. Now this week was about as wild and woolly as it gets for going nowhere. All the daytraders were looking for a bump up Mon post rescue and didn't get it, unlike all priors. Instead we got some very odd days with huge opening gaps down that recovered by the end of the week. Yet at the same time we didn't get the kind of rallies we got earlier in the year. Reality check ? WTF ? What's going on here ?

Reality Setting In ?

Consider that last point because it gets to the heart of things and will define how they evolve from here. When the first metastatic crisis set in around January and we were all about to be taken out by BSC's collapse the Fed a) stepped in for a rescue but b) created a whole raft of innovative new intervention instruments that got the completely frozen markets working again. Like we said at the time that cleared the pipes but didn't mean there wasn't a lot of sewage to keep draining. (Credit Meltdown, Economy and Consequences: Putting the Pieces Together) But if you look at the yellow circle the markets thought it did. And again in mid-July when Frannie was going under for the 2nd time, the Treasury stepped in, and don't forget MER said it was all.....l right now (thank you Dave Mason) and we were back to the races. Notice each time that the recovery before the next binge is shorter and shallower though. And then we reach this very week. And there's hardly any recovery at all. Though if reality were truly at K-R Stage 2, Acceptance, we'd be moving on to figure out how to cope. So don't be surprised if there are some more Koolaid consumption episodes. The stuff is really addictive. But we think we're seeing some serious attempts by Mr. Market to go cold turkey and detox. One step at a time.

Speaking of De-Tox

Let's take a slightly shorter timeframe and see whether or not that detoxification program is beginning to set in. Like we said the bear market rally was pretty short and shallow in comparison to March's. If you take a look at this chart you can see where the rally was decisively busted apart, initially on the economic news. Yet in the intervening two weeks we've had huge swings for what amounts to a sideways market. So don't be surprised at some bounces while the toxins are sweated out. But what we think we're seeing is a fundamental shift in mental outlook here. Dr. Pangloss is in the process of being booted out of the building...at long last and at least 18 months over-due.

Beyond the Veils of Delusion 

The Buddhists have it right though - the world is filled with pain and it is inescapable. Whether it turns into suffering depends on your head - if all you can do is see the pain then you'll be consumed by the suffering. If you accept the pain for what it really is, don't deny and don't get hooked by the perverse pleasures of the suffering or looking for the "drugs" to offset you can keep your balance and figure out a way to cope.

And to our great delight we think that process of seeing the world as it really is and what needs to be done to cope with it is getting wider recognition and acceptence. First of the 12 Steps, eh ? Our reference points are the several articels we've made a point of drawing your attnention to recently that, for the first time in months, perhaps years, see the world the way we're seeing it. And this evening's WSJ had another which is as good a summary of the various feedback cycles that are feeding on one another. Heavens - soon we'll all be systems analysts together. (News Alert: Vicious Credit, Economy, Market Cycle Spotted) This one was so important we excerpted big chunks but it's as good an encapsulation as anything we've read. Also in the readings you'll find running softclips on LEH, WM, and AIG. Who as we speak are in the process of following BSC, FRE and FNM off the cliffs. Sadly that's not the Acapulco waterline below but rocks. The tide's out. 

Continue reading "The End is Nigh ? (Update2): Frannie, Leh, WamU, AIG and Wild, Wild Markets" »

Posted by dblwyo at 07:44 PM | Permalink | Comments (0)

We interrupt our regularly scheduled posting to warn you that our early storm warning system has detected more early signs of bad credit weather. Over the weekend our alert news monitors found a new wave of back-on-balance sheet adjustments, Fannie Mae issued worse than expected news, both GSE's (FNM, FRE) announced that they would be restricting new mortgage loans and guarantees. And (H/T CalculatedRisk) Fannie's conference call tells us that the books closed in June but there were significant deteriorations in July MORE THAN THEY ANTICIPATED when putting together their books. As you can see from the early warning reserve dashboard Fannie has both upped its' reserves and doesn't begin to cover its' risks. Making a huge Treasury equity investment increasingly likely, indeed mandatory to keep them from sliding into major default (dare one say the BK-word ?) and at least threatening to follow Merrill in throwing existing stockholders to the wolves of insolvency.

What's It All Mean: the Vicious Circle Grinds On 

 

Continue reading "News Alert: Vicious Credit, Economy, Market Cycle Spotted" »

Posted by dblwyo at 11:28 AM | Permalink | Comments (0)

We've crossed the one-year anniversary of Cramer's famous "rant that shook the world" and despite the amusement factor we need to ask how it played out ? More importantly how is it going to play out ? Aside from watching Mr. Cool loose it completely a deeper amusement can had by contemplating the gap between the catastrophe created by the financial community and their willingness to blame everyone but themselves and look for rescue from the Fed and the government. A rescue necessitated by the catastrophic risks of the complete collapse of the markets and seizing up of the world economy. While Cramer's Rant first brought these "technical" issue to broader awareness the problems escalated from their and are on-going. The saving grace is that the Fed was finally able to find a set of innovative instruments that got the machinery working again - obviously not something they did overnight but had been thinking about for years. As was the Treasury under Paulson. Hats off to both those institutions and their leadership. Nonetheless they've "only" averted collapse - not done away with the need to rework and manage the credit crisis. For your listening pleasure and a look back check out the vidclip.

The point remains that we are barely thru the early part of this re-pricing of risks, de-leveraging and the resulting destruction of specious financial business models and dealing with the vicious feedback cycle between a slowing economy, loan losses, tight credit and more writeoffs. After the break you'll find a short selection of excerpts that reinforce these points - the most important of which is that months after many of us have been shouting out about it and years after the truly knowledgeable began warning the tsunami is beginning...beginning we say...to be apparent more broadly. Here we're going to walk thru several of the elements you need to keep in mind graphically. We do recommend reviewing Red Sky Mornings, Investor Take Warning: More Finance Industry for a discussion of the Finance Industry and its' broken business models.

Loan Situation 

The place to start is with the level of activity in loans. The chart below shows the most recent Fed banking activity statistics for several loan types. You might want to read it clockwise starting in the UL where total Loans & Leases plus Loans & Investments are shown on the left with the YoY% change in Loans on the right since 1980, giving you a good view of the cyclic relationships. The UR shows Commercial loans just lipping over, Consumer loans not doing badly and Real Estate loans nose-diving. As we'd expect for the latter. The next two charts show all the major types and the aggregate compare since 1980 and 1998. On our reading a bubble we didn't know about in Business Loans is beginning to pop.

Credit Tightening and Money

A natural consequences of banks drawing down their reserves is that they have much less to lend. Which should in turn be reflected in loans but so far not much. Where it is beginning to show up is in the inflation-adjusted monetary base, i.e. the effective money supply that lubricates the whole massive economic engine. As you can see below, and we've discussed before, real growth in Money has been and continues to be negative. And has been declining rather rapidly for some time. The Fed can lower short-term rates all it wants but markets are markets and will tighten as standards are increasingly tightened. What the Fed can do is keep the wheels from falling off but it can't force them to turn.

The middle sub-chart shows real money growth as -3% while the other charts wrap some bigger picture monetary and rate indicators around it. The top shows various spreads with the 3Mo-Treasury spread showing continued fear and weakness, the AA-Bas commercial spread showing quality fears and the 10Yr-FF spread showing a steeping yield curve. The latter is normally a sign of either inflation fears or a growing economy yet the bottom sub-chart shows inflation and TIP spreads. While headline inflation has been painful the worldwide slowdown is likely to do exactly what the Fed anticipates and lower commodity prices. Hence the TIP spread over non-inflation-protected bonds is around 2.5%. Inflation aint' the problem - fear, uncertainty and doubt are. Otherwise known as a metastasizing credit crisis that continues to be ever-present in the markets.

More Rocks in the Pond

The credit crisis was started by problems in sub-prime mortgages and related synthetic debt instruments but it was just a catastrophe waiting to happen. Now we're beginning to see other problems succumb to the same pressures, starting with Alt-A quality mortgage loans as well as Option ARM resets. Lined up behind those private real estate loans are all the commercial real estate loans, then various consumer and business loans and so on. Consider the graphic below which tries to conceptualize what the continued tremors roiling thru the market mean for more asset class rocks to topple into the credit pond and keep it churning.

 As one "rock" toppled it rippled up the entire chain of instruments built by leverage, greed and bad business practices and destroyed the underlying asset base. When the process works in reverse that's de-leveraging. Worse the ripples from one chain's breakdowns immediately spread to other credit markets, even ones that weren't necessarily adjacent in the sense of being technically linked. The Fed's new instruments appear to have prevented these topplings that would turn into a tsunami that drowned all us "innocent" bystanders but hasn't stopped the process. And the reverberations impacted other assets classes, each with their own sub-components, e.g. bonds, equities, etc. We didn't really realize how bad it could be until Bear-Stearns collapsed but now with Merrill and Lehman almost aground on the rocks it's clear what the consequences are.

An Example: Option ARM resets.

Just as one small example consider the next wave when Option ARMs, adjustable rate mortgages where the loanee has the option of deferring part or all of the payment until a cap is reached, are likely to do as they reset. Reset meaning that that rates are going higher so payments will and the expectation is that defaults are going to rise unmercifully. The lefthand shows just resets. And they aren't really going to start hitting until early '09 and then they build and build thru '09, '10, '11 and into early '12. Yet insiders and, now, the financial press are seriously worried about the default levels we're seeing now. The right-hand side shows the increase in payments - and if nothing else - what's that going to do to consumer budgets ? And therefore consumer demand. Recovery, schmovery. Thain was interviewed on CNBC and let slip one telling quote: "if there are not more problems there wont' be any more writedowns and we won't need to raise more capital. but if....". You know the rest.

Ripples and Credit Metastasis

As a closing note we leave you with this graphic which tries to trace some of the links between various instruments coming under pressure, bank writeoffs and the resulting tightening of credit. And then link it back into the economic consequences to establish a feedback process. Yes, judging by the readership stats, you've seen and looked at it before. But if Option Arms are just one tiny piece of a piece in the chart below what happens then ?

The final reading is Jim Jubak's most recent column discussing how Merrill's recent stock sale to raise capital destroyed the investment positions of everybody, especially the multitude of small stockholders, except Temesek. He's right but what's he's forgetting is that without capital MER was going to run aground and nobody would get anything. Put the pieces together - more rocks, more ripples, more write-offs, fewer loans, tighter credit, slower economy. Whaddya get ? And where's that leave MER, LEH, and so on and so on.

Continue reading "Cramer's Anniversary: Continuing Credit Metastasis and Economic Outlook" »

Posted by dblwyo at 05:25 AM | Permalink | Comments (1)

The Road to Perdition is paved often by good intentions and traveled by opportunists and in the near collapse of Fannie and Freddie we have both working over time over years, even decades. But in the last several days and weeks the shibbolethic ideologists have certainly been getting their licks in to. Not to long ago, despite the fundamental structural flaws being well-known, we were fantasizing about propping up the Housing freefall with GSE debt and loans. Unbelievable - das ist unsinn as my old German teacher used to say. And on the other side we have well-informed people ranting about rampant socialism and throwing their usual careful focus on the facts and the nature of things to the wind. We won't mention names but you know who y'all are. After the break there's a bunch of carefully selected readings which we hope you skim. If you haven't the time to go read them all then the last couple - the Economists dissection of the situation and the structural flaws and Larry Summer's short, pithy and brilliantly insightful summary are essential.

Essential, why ? Well first off let's put it in context. Combined they hold over $5 Trillion in mortgages and guarantees and are counter-parties to another $2.3T in credit swaps. We're talking here about numbers so unbelievably huge that the sovereign credit and wealth of major worldwide economies are the only basis of comparison. Right now we're in the worst financial structural breakdown we've seen since the Great Depression but it has barely scratched the performance of the economy unlike that earlier episode. Why ? Because policy-makers have a much deeper and more profound understanding of how to manage markets. It was policy error that turned the Great Crash into the Depression. And from Aug07 to Mar08 we were headed that way because non of the traditional instruments were working as they should in normal cyclic patterns. This was a structural problem. When BSC went down that, IOHO, seriously threatened the stability of the entire system. To understand the difference between what happens if/when BSC was allowed to go under in capitalist purity and what would happen if FNM/FRE went you need to wrap your head aroung the Richter Scale. A reading of 2.0 vs 4.0 is not twicet - each number up is 10X the prior number. But that's not the real rub - the energy release scales by a power law so that a difference in magnitude of 2 represents a 1000X more energy. BSC was a 3, maybe a 4.0. A collapse of the GSEs would be an 8.0, maybe a 9.0. The difference between a kiloton explosion and a gigaton in the financial system.

All of this ideological prattling about socialist intervention is utter nonsense, it's also extremely disingenuous as well. On at least two strategic fronts and sustained over years. The most recent one being that it was spending on Housing and the Housing ATM that allowed us to sail past the Tech Bust without a major downturn. Now if the GSEs were/are half, at least, of the mortgage markets, and as the giant players, define the cost structure where do you think we'd have been without their implicit subsidies of lower than market mortgage rates ? Where would the economy have been ? And where would the so-called rally from '02-'07 have been ? All of which the critics benefited from without objecting to how the sausage factory was working.

But our turning a blind eye to the sausage factory health standards has gone on for decades. The GSE's managed to run with minimal supervision, grow into a serious threat to the Western world (literally), maniuplate their books and bribe Congress widely and deeply for years with our implicit cooperation. Greenspan, and to his great credit Bush, started trying to tackle all this back in '04 when accounting shennigans finally caught up with the Pashas and Mandarins of the GSEs. But again we've benefited for years ourselves. As the Economist points out the GSE are/were leveraged  up about 65X - a level no private company would ever be allowed to run at and one possible only with wink-wink, nod-nod government backing.

Which gets to the second bottom line and then the third. Since everybody saw thru the veil of independence to the implicit guarantee what's really at stake here is the faith and credence of US government debt. If we let Fannie and Freddie go what won't we not stand behind next ? And how good is the dollar - who'd want to keep their reserves in the currency of the banana republics ? Those are literally and legitimately the kinds of questions lurking in the backs of the minds of Finance Ministries all over the world. If a direct collapse could have been an R-scale event of 8.0 then the impact on our ability to borrow, on interest rates and on the dollar would be a 10.0 !

Which is not to say this can be allowed to continue either - as Summers points out. The last time we backed ourselves into these corners where the government guaranteed the S&L mess without forcing changes in business models, operations, policies, risk management and controls was a disaster with a huge bill. We need to get thru this and then re-engineer the GSEs. Which is exactly what Paulsen and Bernanke are proposing. And have apparently been working on for months if not years.

So it's time to throw out the ideological, man the pumps, repair the ship and get her to port. And then re-build her from the ground up. Or else. Oh btw that R10.0, let me quote:

10.0+ Epic Never recorded; see below for equivalent seismic energy yield. Extremely rare (Unknown). 1 teraton equivalent. Estimate for a 2 km (~1.2 mi) rocky meteorite impacting at 25 km/s (~55,000 mph)

Continue reading "Bad Times, Really Bad Behavior, Bad Trouble: Fannie/Freddie and Perdition Road" »

Posted by dblwyo at 07:27 PM | Permalink | Comments (0)

Another big piece of economic news from last week were the proposed changes, the most sweeping since the Great Depression, in the regulatory regime for the Finance Industry. In some senses this is both industry and markets news but the credit markets have moved to being the most urgent and important issue in overall economic performance since last summer. Hence we provide this seperate set of excerpts.

As usual we'll suggest that the punditocracy continues to miss some, though not all, of the implications. "Fortunately" enough folks have picked up on their versions of the 'collapse of Western Civilization" meme that the point is getting thru to folks who follow the economic and business news. We say fortuntaly advisedly of course - we doubt our neighbors are paying much attention. Let's hope they don't have to considering what that'd imply.

Up until St. Patrick's Day though none of the efforts of the Fed and the other central banks appear to have been working. Our view since then is that between the BSC buyout (forced liquidation) and the opening of the discount windown to the non-bank banks as well as the extremely rapid innovation and introduction of new policy instrments the Fed is starting to unkind and unplug the terribly clogged pipes of the economy Whew....the alternatives being as we said.

This'll take a while to sort out of course as we're going to have to go thru more writedowns, more bad credit problems are coming, there will be a massive de-leveraging of the markets and risk will have to start being priced correctly. All of that will be very painful.

But at least it's now possible for the great unraveling to beging instead of being locked up - or more correctly seized up. At least some of the early indicators are beginning to show signs of favorable responses. And oddly, for all the sturm und drang, it is the BSC liquidation that seems to have turned the trick. Though in our judgement the opening of the window is structurally more important. Whatever the case may be we appear to have avoided catastrophic disaster. Now we can enjoy the merely painful one that excesses and bad business practice have earned. 

Addendum: the excerpt below from John Mauldin's newsletter (thoughts on the continuing crisis) gives you just a flavor of the whole thing. It's probably the best, shortest, simplest but still accurate description of the risks we faced, who saved what and what's to come I've read. HIGHLY RECOMMENDED. 

Continue reading "WRFest 4Apr08(Economy II): Economy vs the Credit Markets" »

Posted by dblwyo at 08:00 PM | Permalink | Comments (0)

Well, well, well. This is startling news but the Bush Administration under Sec. Paulsen's leadership has proposed a broad overhaul of national financial regulation. Think about that for a minute - a strongly conservative President under the leadership of the ex-CEO of Goldman is not just beginning to re-think their regulatory approach but is putting a major proposal on the table that's the first major re-thinking since the Great Depression. And from what little I can see of the early sketches it's an extrordinarily profound, comprehensive and thoughtful proposal. More interestingly it's been worked on for over a year and largely in secret. The latter may be the most astounding part. But the case has certainly be made and the timing of the announcement couldn't be better.

You really need to pay attention to this one because, win, lose or draw, the Finance Industry, the Markets and the Economy will not be the same ever again.

Continue reading "Adult Supervision Re-emerges: Bush Proposal for Regulatory Overhaul" »

Posted by dblwyo at 05:12 AM | Permalink | Comments (0)

The prior post focused on putting the systemic risks in the Credit Markets as clearly and simply as we could manage and we'd like to continue that discourse by looking at what other folks had to say. The graphic at right take you to a recent apperance on Charlie Rose by Andrew Ross Sorkin discussing the BSC deal. Bear in mind that was the Mon. during the height of the crisis but it's not bad "Inside Baseball" despite the lack of detail. And despite the fact that the discussion and subsequent NYT stories still don't quite have it right. Before diving in however let's borrow a point from one of our favorite scifi characters Lazarus Long.

"What are the facts? Again and again and again-what are the facts? Shun wishful thinking, ignore divine revelation, forget what “the stars foretell,” avoid opinion, care not what the neighbors think, never mind the unguessable “verdict of history”--what are the facts, and to how many decimal places? You pilot always into an unknown future; facts are your single clue. Get the facts!"

The link to Galileo is that he's credited with being the Father of modern science by placing an emphasis on what the actual data is really telling us. When you listen to the Sorkin interview here are some points we'd like to add:

Continue reading "Continuing the Dialog: Facing Realities in the Credit Market" »

Posted by dblwyo at 02:34 PM | Permalink | Comments (0)

Well we're off to an interesting start to the week, after an absolutely fascinating weekend. One thing that truly fascinates us is that as the fundamental economic, monetary and credit news goes from bad to worse we appear to be enterring a market bounce. The disconnect gap between the markets and these other factors is as wide as it's been in decades and is based on a view of the outlook that is both simple and optimistic, at least in our opinion. And dreadfully wrong. If our assessments are anywhere near correct, which the recent excerpts back up, we'd suggest taking this as an opportunity to re-position yourself accordingly.

UPDATE -let me change things around a bit. Two recent vidclips put some of this in context. The first from Jim Jubak and the 2nd from Mohamed el-Arrian of PIMCO. Any startling coincidence between the seriousness of their assessment and mine is entirely deliberate.

1. Why JPM for BSC (they had no damm choice and no alternatives):
   Bear Stearns deal scary
   JPMorgan Chase is paying just $236 million for Bear Stearns, whose building alone is worth $1 billion plus. Why that’s scary: The Fed was desperate to find someone to take over Bear, and the only bank strong enough to do it was able to cut a great deal, says MSN Money's Jim Jubak.
   
2. Beyond BSC/JPM (earlier in the week the Fed violated ~ 80 years of policy precedent by a) buying securities from b) non-commerical banks; in all the hoorah that's been lost):
   El-Erian on Feds Actions
   Mohamed El-Erian, co-CEO and co-CIO of PIMCO, advises the Fed to purchase outright high-quality mortgage securities.

Continue reading "Credit Meltdown, Economy and Consequences: Putting the Pieces Together" »

Posted by dblwyo at 08:47 AM | Permalink | Comments (2)

Earlier this week we put up two carefully considered posts  on the cascading credit crisis and early Thur. called the attention our network to them with a special e-mail. The title of the e-mail was "Brushed by the Wings of the Angel of Death" which wasn't entirely hyperbole. The core of the e-mail is reproduced below, idiosynchracies and all. Fri. morning the non-hyperbolic nature of that description was illustrated by the emergency rescue of Bear-Sterns by a combination of J.P. Morgan and the Fed, who were acting to prevent the disorderly collapse of the credit markets, not bailing out some miscreant investment bank.

Continue reading "Run Away, Run Away: the Seriousness of the Credit Crisis" »

Posted by dblwyo at 04:27 PM | Permalink | Comments (0)

Perchance do you recognize the picture at right ? It's one we've used before to try and capture the nature of the credit crisis. Beyond a spirt of schadenfreude & "told ya so" it's well worth re-visting to remind ourselves of exactly what's going on. In case you haven't noticed in the last week or so the news is increasingly full of margin calls, debt being sold for 70 cents on the $,or worse, forced liquidations and rapidly tighenting credit standards. All of which is reviwed in the "jump-the-gun" collection of readings after the break. We strongly suggest you skim and review these as just the summary excerpts should tell you how bad this potentially is. And not just in our opinion. A very distinguished panel of private and public economists just put out a report who's major finding is:

"The economic impact of the mortgage crisis and credit crunch will be huge, and it has barely begun..."

Continue reading "Credit Crisis Metastasis: Who's Been Swimming Naked" »

Posted by dblwyo at 11:12 AM | Permalink | Comments (0)

Well we aren't gong to get credit but apparantly osmosis is working and labeling the credit crisis contagion as Ebolitization is getting to be more widespread, as you can see from the excerpt below. What's interesting is two things. First, spreads are jumping back up across the board which means the risk factors, at least perceptually, are rising. And second, as a result, more and more financial institutions are facing margin calls on their debt instrument portfolios which they'll have trouble meeting. The British hedge fund Pelaton was forced to liquidate a major fund last week and Thornburg mortgage - which is actually well run - is getting into severe trouble with margin calls. Now here's another little tidbit in which we suggest you invest some time. Warren Buffet invested three hours on CNBC this morning and several of the excerpts are on-line.

Below the excerpt we'll point you to one of the most interesting. And we do mean interesting.

The elephant in the room is the fundamental breakdown in the structure of the credit markets which is leading to wave after wave off cross-instrument and cross-market disruptions. About the time we think that one set of ripples from a single rock toppling into the credit pond has died down or been contained another and bigger rock (or boulder or ...) topples into and the ripples get bigger and bigger. As you may have gathered it's my habit to softclip interesting stories and keep them around to buildup a timeline. In tracking the credit markets it was really only necessary to track a core, usually Treasuries and the yield curve, because the relationship of those markets was the engine that drove everything else. Now every instrument and every market has its' own unique characteristics depending on how much structure, synthesis, leverage and perversity is embodied in that market. While we don't know the size of the problem or the linkages the best we can project is that it will continue, and we don't have any real clues as to all the myriad inter-connects. Tech guys talk about network structure where everything links to everything else  talke about the N-squared problem. In other words it's not just about A <--> B links but A <--> C, C <--> Z, Z <--> who knows.

Continue reading "WRFest 1Mar08(Credit Markets): Credit Contagion, the Fed and Outlook" »

Posted by dblwyo at 10:48 AM | Permalink | Comments (0)

While we'll put this in our regular clipping files this is just an incredibly good summary of how the credit markets, over and above everything that's happened from Bear's spring surprises to last to to, let's say, Jan. of this. It traces the spread of rippling consequences in one of the few articles that even we understood. Here's the exceprt but if you haven't had too many scotches to digest the prior post go read this one while you're still clear-headed. It is superb.

A painful fix for the credit crisis Splitting the debt insurers in two -- an idea the banks hate -- would be drastic medicine. But for the financial markets, it's the only relatively fast-acting antidote available. It's the end of the beginning for the credit crisis: There are now plans to split up the companies that insure bonds and derivatives based on mortgages and buyout loans. What that means for you and me is that the credit crunch -- which has hobbled the stock and bond markets and is causing the U.S. economy to grind to a halt -- would be over in 2008 rather than producing a Japanese-style lost decade. The breakup plans also would lead to tens of billions more in write-downs from banks and other investment companies that have already written down tens of billions. And I'd expect the likely losers from these plans would fight them tooth and nail in the courts. It could be years before all the litigation was settled. But confirmation that a big insurer like Ambac Financial Group (ABK, news, msgs) is well along in talks to pursue this kind of breakup will provoke a rush to the exits by investors and institutions. They know prices for risky debt aren't going to get any better and could indeed get a whole lot worse. That giant whoosh you'll hear is the sound of somewhere between $50 billion and $125 billion in losses getting flushed down the toilet by the end of 2008. And that's a good thing. This drastic medicine is the only remedy that would put the financial markets on a relatively quick path to health. Anything else promises to stretch this crisis out for years and years and keep the U.S. economy grinding along in low gear.

Posted by dblwyo at 04:29 PM | Permalink | Comments (0)

No the headline isn't a mistake - this is indeed the news clippings intended for the weekend but the tsunamis of what we think are critical information just keep on coming. So we thought it best to get a jump ahead of what will be a large run of such postings. Just as a matter of fair disclosure not only may this suit your reading schedule but a good scotch would be appropriate as well.

First off walk, don't run, to watch this CNBC interview with Meredith Whitney who was the finance industry analyst who made the downgrade calls on the big banks and the mono-line bond insurers. Well unfortunately she's adding a bunch more bad news on earnings, write-downs, rising bad debt, the need for new capital & dilution and so forth. We'd suggest watching it at least twice and taking note the 2nd time. We'd provide them but haven't finished our scotches yet. 

The Readings section below starts off with a diagnosis of whey the rescue attempts for the credit market breakdowns are failing, coupled with several of our prior posts worth reviewing. Not least because they're turning out to be more right than we anticipated. Which naturall leads into another more recent post on the failures of securitization and the long-term outlook for the instruments and the industry. Coupled with several interesting stories not least of which is David Faber of CNBC arguing that the credit markets a) aren't recovering and b) are badly broken. THIS...on CNBC ???? Wow !

All of which ripples forward to pressures on corporate loans and related debt instruments which are facing rising risks of default and will likely also metastasize into big time down pressures on the many weak companies out there. Which is now spreading across the private equity markets and down to the mid-size deal. While that may not sound like much to you - who cares if they have to drink less expensive cigars after all ? - but is actually both a major symptom and diagnostic as well as indicator of accelerating future troubles. 

Continue reading "WRFest 24Feb08(Credit Markets): More Fear, Loathing & Writedowns" »

Posted by dblwyo at 02:02 PM | Permalink | Comments (0)

Here's a very recent set of stories on the widening of the credit mess, the impacts on the Finance industry and the whole strategic theory behind the Securitzation innovation. For example the metastasis of credit problems has reached the Student Loan market, is re-shaping the competitive landscape AND threatening a lot of loans, especially for poorer and/or dis-advantaged students. As Mohammad El-Arrian pointed out in a CNBC interview we posted a while back the whole process of securitization was a major new innovation with which the institutional and regulartory frameworks weren't prepared to cope. Worse the internal business practices and governence of the financial firms let short-term greed run ahead of themselves.

In other words they screwed up big time by chasing quarterly returns that were badly, as in not at all, priced for the risks they were presuming. On the theory that they could always bail out. Belowis a set of readings that cover the Economist's take on the industry future. Also covered are the further massive writedowns the major banks, et.al. will be taking on mortgage related debt, the exposures to lose of credit insurance, and corporate/buyout writedowns. In other words you ain't seen nuthin yet !

Which pretty confirms what we've been saying for what now amounts to a couple of months. But in particular we'll point out that yesterday's post (Filterring the Non-Linearities: Sorting the Risk Factors) trying to summarize the risk factors across the Economy, Markets, Consumers and Businesses argued a) we're early days, b) none of these risks is properly priced into valuations or accuately reflected in earnings estimates and c) business performance is going to be THE issue and very few firms are adquately prepared to cope.

So what does that mean for your investment planning ? Or your job, savings, etc. for that matter ? 

Continue reading "Fear and Loathing on Wall Street: Credit Mess, Securitzation & More" »

Posted by dblwyo at 07:31 AM | Permalink | Comments (0)

An interesting weekand one, forgive us, that was tackled in a somewhat non-linear fashion with fairly large daily news posts that were married to narrative analysis intros; and which usually covered 3-4 topics. We've spent some time this weekend trying to step back and see what's going. If you look back over those prior posts they do share a common theme however - the gap between the underlying realities and the way the market/talking heades/MSM covered them.

Now our preferred approach is to summarize the week in linear fashion around the Readfest and spend time in the week focused on a particular topic. Blogs are an interesting medium in that lots of approaches are possible - most tend to be somewhat stream of consciousness but casting a fairly wide net we prefer to try and structure the information flow. You'll judge the merits of that approach for yourselves of course but it serves our purposes as a way to gather and analyze the flow, test out themes and analysis and pilot approaches to business analysis.

Continue reading "WRFest 17Feb08(Markets): Bear Bounce(d) 2 ? Denial Again ?" »

Posted by dblwyo at 07:21 AM | Permalink | Comments (0)

The title probably deserves some sort of apology but we'll dwell on it some more so the image is clear in your mind. Or for those of a certain age or gender imagine oneself in the physical que at the local draft center. The reason for the terrible pun, and jumping the gun a tad with a shopping list of readings, is that a problem we've been warning about for months in terms of credit tightening, quality deterriorations and general weakness is beginning to widen out. It may even be accelerating.On the continuation you'll find a bunch of readings but Non Sequiter pretty well captures the essence of what happens when you a) pay people to move stuff, b) don't check out the quality of the "poop" and then c) leverge and re-leverge the resulting sythentic debt assets on top of one another.

Just to be a little more formal here's an excerpt that captures the general economic situation with regard to credit. On the fold there are specific excerpts pointing out how rating systems are turning out to be so much garbage (politely put are being re-thought).

Continue reading "Credit Spreads .....Visiting the Proctologist ? Or Frankenfinance Monsters ?" »

Posted by dblwyo at 06:36 PM | Permalink | Comments (0)

Well it's not often these days I find myself citing Paul Krugman though my respect for his skills and acumen as an economist is enormous. In fact ALL of the books he wrote in the 90s explaining economics vs pundits vs policy are not only worth your time but are still accurate and applicable today - with a little adjustment here and there. Somewhere IMHO he drifted over the dark side of shrill punditry and substituted arm-waving for the kind of careful reasoned analysis he so severely critisized others for failing to provide.

Now it appears he's drifting back to the middle - or perhaps there's a good Paul and a bad Paul ? In any case you'll take my point that my citing Herr Krugman has been a tad unusual for several years. Yet his column in today's NYT on the breakdown in credit market regulation as well as the sensibility due to low job creation of '01 Fed policy is so congruent with several of my arguments that it's hard to resist.

Lest you think I'm kowtowing though below are an excerpt from Paul's column along with several others, including a pointer to a Cramer rant on BigPicture, that speak (loudly) to the same issues. Only this time he's calmer than usual and he's right talking about the terrible quality of many bank earnings and credit contagion risks. Which is supported by a wonderfully well-written piece from Wolfgang Munschau in the FT this week. And capped by a pointed diagnosis by my favorite financial pundit Jim Jubak who also reinforces a point we've been making for a couple of three months now - the Housing related credit problems are spreading into other debt asset classes, the obvious auto loans, credit cards, etc. But more importantly into high-yield corporate loans (can you say buyout ? buyback ?). Which point is also reinforced by a WSJ story this morning on problem of Credit Default Swaps (which are "insurance" taken out by debt holders who swap a small premium for getting paid back if the bond burns down, excuse me. I mean defaults).

Finally we let David Wessel wrap up with a classic question - as the financial sector has grown did it add value to our economy ? And does it still do so ? To which we'll add - and how 'bout in the future in light of all the rest of this ? 

Just for the record here are some prior posts, not just for "told ya so" but also because some of the mechanisms underlying these stories are laid out within the limits of my abilities to understand and explain. Severe as they are. So take heed and take warning - and it ain't just me this time around.

• More on the Credit Crisis: the Rocks in the Pond "Model",Rocks, Ponds, Perverse Incentives: More on Credit Contagion
• Credit Mess and the Fed: Understanding the Strategic Posture
• The Fed & the Credit Mess: Readings II
• Let's Blame Uncle Alan: Fed Policy and the Credit Crisis

 UPDATE: Apparantly great minds think alike or read the same news sources. It turns out BigPicture beat me to the punch on this topic and our friend at CalculatedRisk also has had a go or more:

• Counter-Party Risk

• S&P: Bond Insurance Losses Likely Much Higher, Ambac Not Pursuing Stock Sale

Continue reading "Ebolatization Contagion: Credit Mess II" »

Posted by dblwyo at 08:07 AM | Permalink | Comments (2)

Justin Lahart as an interesting column in today's Journal that nicely captures the situation in the cojoined housing and financing bubbles that's well worth your time to find and read. While he captures the unrealities of those immediate markets there are several things that deserve further investigation, reporting and thinking because we've got much farther to go than he reports with these problems. And as an interesting test of how far I posted a question on LinkedIn to which you're all invited. It asks "how widespread is awareness of the credit crisis and what do you think the consequences might be ?". The timing's likely bad right now but so far the responses aren't encouraging when judged by a large-scale grasp of the issues. Below we also point to some earlier posts expanding on these breakdowns.

So he.....er's Justin:

Continue reading "Cracks in the Shell: Credit Crisis and Bubbles" »

Posted by dblwyo at 10:51 AM | Permalink | Comments (0)

Well it seems to be a day for credit market news for some of us if you can step away from the euphoria in the markets - which we admit to being slightly puzzled at (though ORCL and RIMM earnings are cause for celebration there's lot's of bigger anit-celebration things going on). Despite this last week's Fed action to auction of open-market funds to raise liquidity and the massive,open-ended injections of the ECB (unlimited was the word used) which resulted in 1/2 $T in injections it's not entirely clear that's it working. Though the headlines as usual might suggest it's improving. However three recent very good analytical posts by some of my favorite bloggers are worth noting.

• UPDATE (12/21/07 2100): Run don't walk to read Jim Jubak's latest column which dovetails so nicely with the points made here and in much better writing as well: Wait out a weird stock market . And especially try out the accompany video.
  

Continue reading "Greasing the Skids or the Gears: Credit Repairs Working ?" »

Posted by dblwyo at 02:13 PM | Permalink | Comments (2)

Well we've been maundering on about the credit crisis, the mechanisms and Fed policy and strategy a few times in the last week. So, how're things going ? Judging from the markets and today's futures this is all coming under control again. Judging by the uptake on the ECB fundings and the Fed auctions there's a lot of folks out there looking for cash and liquidities. So is that good or bad - btw the ECB pumped $500B into the credit markets this week. Not the $50, 70 or 80 of prior efforts. Below you'll find some interesting readings worth your time to at least skim the excerpts of. Ones that you should look at include CalculatedRisk's comments about a $2T catastrophe in the housing market, Jesse Eisenger's story on the coming commercial real estate kabumpf (which CR has been forecasting down to the cyclic structure and timing for almost a year now - hint, hint,...) and Paul Krugman's essay on the risks of a Liquidity Trap. The one we'll particularly draw your attention to is Dennis Berman's on how the crisis could get worse. Partly because it tells us that at least the propagation of this Ebola credit virus is edging into awareness but mostly because, based on our little model, we don't think they've got the scope and scale of this thing at all grasped.

 How the Crunch Could Worsen Wall Street's latest parlor game is best played with a comforting cocktail in hand: trying to guess just how the ever-fragile banking crisis could tip into doomsday territory. The scenarios have the air of gritty science fiction -- a huge capital crunch triggered by bond-market selloff and a money-market bloodbath. The scenarios have, by all accounts, a slim chance of occurring. But they are a reminder of how much the rapidly changing financial system, for all its innovation, is still built on confidence. Here are two leading scenarios as described by Wall Street bankers, traders, and regulators. The bond-rating selloff: In the doomsday case, a bond-insurer downgrade or bankruptcy sets off this bond-market fire sale. The consequences of this could be unpredictable and severe. Breaking the Buck and Much More: Confidence is at the very heart of the money-market mutual fund, where the sanctity of the "buck" is one of the last American absolutes. "Breaking the buck" -- meaning to lose one's invested principal -- has proved so utterly verboten that it's only happened once. If the value of this SIV paper drops even further, it could touch off losses through the money fund. What would happen if a money manager had to make the choice between "breaking the buck" or paying for, say, a crippling $2 billion shortfall? For some on Wall Street, the threat is less about the capital shortfall and more about an ensuing crisis of confidence in money funds, leading to liquidations, which in turns creates forced sell-offs and still greater losses.

Continue reading "Speaking of Avalanche Warnings: More Credit Crisis Readings" »

Posted by dblwyo at 08:56 AM | Permalink | Comments (0)

Part of today's posting plan was to put up an overview of our interpretation of the Fed's strategic outlook and discuss some of the problems they face - and us with them. The prior post was an updated addendum survey of recent policy actions and market assessments of same. While some few are balanced the emphasis is on few. A recent commenter had some nice things to say about our efforts and called our attention to Paul Volcker's historic efforts that broke the back of inflation. That created a benign regime for the last 25+ years but is no longer the world we face (cf. this earlier list of readings on the credit market particularly Uncle Alan's survery of the very long term structural changes - a must read to understand how the deep currents are flowing underneath your feet).

UPDATE: my favorite financial columnist Mr. JJ has some interesting things to say about LIBOR and freezing debt markets. If you'd like a little background more lightheartedly than myself start with that :) ! Seriously does put the core problem clearly and simply - it's inside baseball as he says.

To understand, as best we might, how those currents will flow and what the Fed is, IMHO, trying to do about it we need to understand a bit about how they see world and the problems they face. However, let me admit a major sense of amusement (a bit of black humor here) that everyone's been screaming at the Fed for months about "inflation ex-inflation" but now that the credit crisis is here big time that's back burnered in favor of screaming at them to cut rates, cut rates and cut rates. Amusing for beyond the obvious reasons too - the world is changing and the screamers haven't grasped that yet. Equally amusing was the screaming to raise rates more rapidly 2-3 years ago to prevent a bubble in housing assets & prices - which in the new world meant longer-term interest rates that were in fact held down by the new structural factor of a world awash in liquidity, credit & leverage; about which the Fed could do little. And ignores the fact that calls for rate increses in '03/'04 would have been in the midst of the start of the Iraq war ! Again the grasp on reality and deep structures is truly astounding here. We MUST understand these deeper structues and currents and how the Fed sees them (much better than the commentariat btw) to understand how the world is moving and how to navigate it. Which is our goal here.

Below the line we'll dive into this in some more detail with charts and pictures and everything and start with a quick summary of the points we'd like to make:

Continue reading "Credit Mess and the Fed: Understanding the Strategic Posture" »

Posted by dblwyo at 02:32 PM | Permalink | Comments (2)

Well the flow of news in the last 24 hours is significant - one is tempted to say astounding. After a "disappointing" 1/4-pt cut in the Fed and Fed Funds rates the Fed yesterday announced a whole slew of policy initiatives designed to attack the freeze in the credit markets, especially the short-term and bank lending markets, directly.Make no mistake about it,

this is not only a serious problem in its' own right but thru freezing up the credit markets threatens to trigger a major economic downturn, potentially on a worldwide basis.

The Fed's announcement of upto $40B of short-term lending using these new, or newly applied, policy tools and the massive worldwide coordination efforts (not seen since the 911 crisis) are measures of how seriously they are taking this. Today's WSJ has a great summary article - if you've no subscription we've excerpted key portions below but get a copy however you can. And to add some spice to the sauce check out David Wessel's brief video commentary at right. In fact start there. Meanwhile the WSJ excerpts are below coupled with more readings below the line extending yesterday's post of readings and resources.

(WSJ) Fed Tries to Free Up Credit  The Fed said it will provide banks up to $40 billion in the next eight days as part of a coordinated effort with four other central banks aimed at reviving lending.

Continue reading "The Fed & the Credit Mess: Readings II" »

Posted by dblwyo at 11:20 AM | Permalink | Comments (2)

The other aspect of the credit crisis to understand is the Fed. While we don't pretend to speak for them, or even too them :), we do think that most of their actions are readily understood by a) understanding the deeper structure of the environment and trends and b) how they see the world. More on that later but we believe that they've become increasingly transparent and are being entirely rational and logical in their actions, within the limits of the available data, analysis and human insight of course.

The critical problem is not that the Fed is facing the classic tradeoff between inflation and a slowing economy. No - it's much....much worse. They're between the rock of inflation and dollar problems on the one hand the hard place of an increasingly fragile economy.

The real problem, though, is that there is a tsunami of credit market breakdowns due to structural problems in leveraged debt instruments mounting toward them.

And us. Anyway you'll find an appropriate collection of readings and resources below the line here... 

Continue reading "The Fed and the Credit Crisis: More Readings & Resources" »

Posted by dblwyo at 01:16 PM | Permalink | Comments (0)

Whee, are we having fun yet ? How do we manage to have everybody and his brother talking about a 1/4 point rate cut and then have the markets drop almost 3% in a couple of hours ? So much for prescient markets doing look aheads. And then come back almost 1/2- way to the previous high ? And then loose 1/2 of that in the first half of today ? Clearly everygody and all their relatives, friends, and acquaintences was expecting 50 bps and a stronger statement.

Which really means that the markets don't have a clue, that the full extent of the credit crisis isn't well understood and we've got a long way to go and this may not only be the tip of the iceberg. It may be the first of a fleet of icebergs. It also means that Mr. Market and all his little minions really hasn't a clue as to what's going on.

Not sure I do either but, pardon the small taste of hubris, our feeling is a little schadenfreudish and also reflecting a small bit of our prescience in a couple of prior posts. The recent on that summarized the Economic and Market conditions and made the argument that we're enterring a new sentiment regime (for which the last couple of days seem to be ample proof): WRFest 9Dec07: the Dance Goes On, or the Emerging Cusppoint Shift. 

And a much earlier one on the "rocks in a pond" where this crisis isn't likely to be restricted to just mortgage related debt instruments. However there's so much going on that before diving into some specific thoughts & analysis we thought we'd try and provide a backlog of readings that those will be based on and which might be helpful to put into your library.

Those links and pointers are below the line but the one that provides an excellent historical summary of the long-term structural trends that underping the present crisis is Alan Greenspan's from the WSJ. BtW - it's so good that we've put the entire thing up as a PDF file for your enjoyment.

Continue reading "Understanding the Credit Crisis: More Readings & Resources" »

Posted by dblwyo at 12:55 PM | Permalink | Comments (0)

Continuing the multi-part split this posting points to interesting and valuable links on the general market situation and the widening credit crisis. In particular CalculatedRisk's partner in crime the Great Tanta does as good a job walking thru SIV accounting and the implications as anything I'm familiar with. While it's not clear that it all sunk in it's well worth your reviewing and re-reviewing and re-...well you take the point.

Other postings reinforce the basis point she makes and our general theme by pointing to the huge haircture that E-Trade took when it sold it's mortgage-based assets to a hedge fund (Citadel) for $.27 on the $1 ! Now if you take that as a baseline metric for all the yet un-valued assets on various bank, investor's and hedge fund books look out below. Scary ain't the word. 

We'd also point to the article on the earnings outlook which is still weigh too sanguine on the part of Wall St. and the analyst communities, e.g. S&P. Sanguine btw is also related to the word sanguinary - which can also mean bloody ! 

Continue reading "WRFest 2Dec07 Markets: Widening Credit Crisis" »

Posted by dblwyo at 04:28 PM | Permalink | Comments (0)

Well timing may not be everything but it's close. The WSJ has a very interesting post on Fitch's recent announcement that corporate debt, another asset class, is under a higher liklihood of increased pressure. Or, put another way, oops, here they go again (if that calls up some subliminal associations good - remember whose song that is and what's happened to her :) ).

 Next Fear: Corporate Debt

Fitch Ratings says downgrades of corporate bonds rose in the third quarter to $92.1 billion, their highest level in two years, a potential sign of rising distress.

Financial markets have been hit by a wave of defaults on mortgage loans. Now it might be time to start worrying about a more-remote threat: shaky corporate debt. Amid booming profits and extremely low default rates in recent years, many companies borrowed heavily to make acquisitions, go private, buy back stock or pay special dividends in activities designed to boost shareholder returns. Not long after that binge of borrowing, some cracks are showing in parts of the economy, and the prognosis for corporate balance sheets is looking less rosy. Fitch Ratings says downgrades of corporate bonds rose in the third quarter to $92.1 billion, their highest level in two years. Meantime, interest rates on junk bonds have risen, potentially straining the ability of low-grade issuers to tap the credit markets for fresh loans or to refinance existing debt. Fitch predicts a jump in corporate defaults, from less than 1% of all debt outstanding in 2007 to more than 4% in 2008. If this happens, it will become harder still for companies to borrow. Sensing a turn, "distressed investors" -- who seek to gobble up debt when it has hit rock bottom -- have raised more than $300 billion by some estimates to put to work in the years ahead.

I almost rest my case but would point you back to the broad overview of the spread of contagion not just to other instruments but the liklihood that other asset classes stand a good chance of toppling into the pool: Stages of Denial: Acceptence ? Not Yet.

And also the earlier discussions about buybacks, leverage and consequences:

Market Drivers 3 (Buybacks):Investment, Hiring, Nah...Bonus, Bonus, Bonus !

 Which, as the title implies, will take you to a 3-part look at the liquidty, leverage and risk picture for buyouts and carry trade funding as well. The other little thing to think about is corporate perofrmance - with this morning's GM Headline it's probably also time to put that issue in the center of the table. Which we did earlier Think Like a Private Equity Guy ? No, Think Like An Owner ! FWIW.

And it looks more and more as an employee, stakeholder, investor or buyout person it's going to be worth a lot. Too bad we didn't all ask these questions when it was a matter of doing it right rather than mopping up the spillage.

UPDATE: the Deal Journal has two great interviews with Jim Keegan, one from April when he called it exactly and the other from today. Read it and weep, as they say. Or start looking for a boat, some food and flood insurance.

• Speaking the Unspeakable About the End of Cheap Credit

• Credit Crisis: The Used-Car Analogy

UPDATE2: The FT Alphaville chimes in with a London firm's take on the realities of things. Pile on, pile on:

•  Fundamentals, not liquidity conditions, are behind MBS crash Many banks, if not financial institutions in general, would have you believe that the current rout in mortgage-backed debt is largely being driven by irrational fear. A few bad subprime debts buried around the structured universe are scaring buyers out of markets. But, said CreditSights, in a note to clients on Wednesday, current pricing levels reflect fundamentals, even for the most highly-rated debt. Mortgage securities across the board are overrated and overvalued:

Posted by dblwyo at 08:45 AM | Permalink | Comments (0)

Barry Ritholz of BigPicture put up an interesting post today on the continued unfolding of the credit markets and the status of the banks and investment houses. In it he asks several questions of which two are critical, perhaps life-threatening. How much more will show up as this unravels ? And what would the finance industry's earnings and performance look like if it were recast with proper accounting instead of mark to fantasy ? As the House of Cards continues to wobble these are really important.

S&P500 ex-Risk ? Here's an issue I have been mulling over, without a satisfactory answer:  There have been many investment thesis (thesii?) over the past few years about the market which supported the bullish side of the ledger: Earnings were high, stocks were cheap, risk was moderate, the Fed model favored stocks over bonds. Regardless of whether you found these arguments persuasive or not, global markets have gone higher. While the U.S. indices may have lagged the rest of the world's bourses, they too, have powered higher.  Here's the odd factor: It turns out that many of the arguments made in favor of U.S. domestic growth have been based on an assumption that turned out to be false. To wit: The Financials, the largest sector in the S&P500, had legitimate, sustainable, normalized risk-based earnings. That basic premise turned out to be wrong. What's truly astounding is that we may only be seeing the tip of the iceberg. Its possible that the big brokers and banks have $1 trillion in toxic debt on their books to be written down. That would equal decades -- not years -- of profits to be wiped out. To paraphrase the WSJ, "the financial crisis is becoming Shakespearean comedy."

Barry's questions though are just the beginning. Aside from a slowing economy there are two other factors working their ways thru the economy and markets. One is the Housing collapse which is still just at the beginnings of the bad news and for which the only comprehensive, reliable and analytical source of analysis I've found is CalculatedRisk. The other is the contagions in the Credit Markets - which just in the last two weeks has shown a) to be a lot more widespread, difficult and dangerous than talked about and b) whose scope is still, IMHO, almost entirely under-estimated.

And here's the keys:

1. Rocks thrown in the credit market pool ripple to all the other markets
2. There are a lot of other asset classes with a lot more rocks lined up teetering on the edge of toppling in.

We've tried to capture those (think of it as representational art) in the accompanying picture. Think of the credit markets as a pool in the wild, wild woods. As sub-prime deteroriated the magic of highly leveraged derivatives that were designed, built and marketed on mathematical models and not on underlying exchanges led to a re-evaluation and re-valuations of the real value of those assets (both the originals and the artifical ones).

Continue reading "Stages of Denial: Acceptence ? Not Yet" »

Posted by dblwyo at 02:29 PM | Permalink | Comments (3)