August 20, 2007 -- "Because this crisis taps so deeply into the newly devised structures of finance, anyone who says the worst is definitely over is either a fool or someone with a position to protect. As risk has become bewilderingly dispersed, so to has information. Nobody yet knows who will bear what losses from mortgages -- because nobody can be sure what those loans are really worth. Nobody knows if tighter lending standards will oblige borrowers to raise more capital, triggering more sales in stock markets and more pain. Nobody knows how messy the inevitable bankruptcies will turn out to be. What markets need now is time to piece that information back together. Time before the next wave strikes." (from The Economist, August 18). ................................................. Russell Comment -- Ah, the irony of it all. A month ago every genius in this business was saying, "Get out of dollars. If you don't do anything else, get out of dollars." Strange, now with the loan business choking up, everybody wants dollars. Sell what you have to, you poor over-leveraged, indebted fool, and accumulate dollars. .................................................... Yield on the 91-day T-bill plunged to 2.88%, the most in 20 years as the yield curve widened bullishly. The spread between yield on the 91-day T-bill and 10 year T-note widened to a huge 1.75% as investors opted for safety. ...........................................................
Aug. 20 (Bloomberg) -- A doubling in currency volatility since June has knocked the "carry trade'' off its perch as the most profitable strategy in foreign exchange, hurting investors from John W. Henry & Co. to Campbell & Co. In one of the more popular carry trades, a U.S. investor who borrowed in yen to buy high-yielding Australian dollars enjoyed a return of 11 percent this year through June 5, data compiled by Bloomberg show. The gains have since been wiped out. Chalk up another victim to the spreading U.S. subprime mortgage contagion. The fallout from losses on loans made to people with poor credit is spreading so fast that investors are selling any asset smacking of high risk around the globe, causing wide swings in exchange rates that weren't anticipated.
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Back to Russell: I studied all the evidence over the weekend, and there was plenty of evidence -- most of it unclear. Friday's 90% upside day was impressive, but there were too many other factors missing for me to call Thursday "the bottom" and Friday big surge the turn to the upside.
You see, I'm a sceptic, which means that I want to see more. If Friday's action was the reversal from a severely oversold level, I want to see signs of powerful and sustained buying -- I want to see indications of serious institutional buying. "Dead-cat bounces" can be wild and exciting, but steady, sustained, serious buying is what identifies the turn.
Interestingly, on a closing basis neither the Dow nor the S&P had suffered the much-talked about 10% correction. It's been many years since we've had full 10% correction. Amazing.
Of course, the other item that I can't seem to get out of my mind is that costly declines such as this one tend to end in the fourth quarter -- October, November or December. It would be most unusual to see a decline that began in mid-July terminate in mid-August. I know -- the market can do anything, but there is such a thing as probabilities.
On Friday the Bernanke Fed dropped the prime rate by half a percent. That may help, but I think it's mostly psychological. It means that the Fed is starting to take the housing and subprime mess seriously. Moreover, the lower prime rate does allow certain "troubled" banks to borrow at the Fed window for less. But as for dealing directly with the housing troubles, it's not going to be a big help there.
I don't particularly like to mix my market analyses with economic fundamentals and news. What I am interested in, of course, is the market's reaction to news. And the market's reaction to the prime rate news was sudden and even encouraging. But here are some fundamentals that continue to bother me. They bother me because they are in the future -- like in 2008.
This is what I'm thinking. In the old days when I was a young man, the system worked differently. When a home-buyer took out a mortgage from a bank, the bank would hold onto the mortgage. That's not the way it works today. The banks no longer sit with the mortgages. Now the banks bundle the mortgages together and sell them as "mortgage-backed securities." But it doesn't stop there. The new owners of these mortgage-backed securities use them as collateral to issue bonds with which to finance still other deals.
You think that's complicated? Well, it gets more complicated. Some outfits then create structured debt obligations, which are called collateralized debt obligations (CDOs). These new bonds are rated, and they're often rated AAA, although in reality they're just a collection of mortgages, many of them shoddy or downright questionable.
These CDOs were sold by the billions all over the world. In 2006 over half a trillion CDO's flood into the markets. Worse, a lot of hedge funds actually borrowed to buy these CDOs, and thus the layers of leveraged borrowed money became mind-boggling.
Then we go back to the original guy who took out the mortgage, often at an initial "teaser rate." One study shows that a typical subprime mortgage that was sold during 2004 to 2006 will face a monthly increase of around $400. And if the mortgage was sold at a so-called "teaser rate", often 1% to start, this fellow will see his monthly cost rise by around $1500. During the first six months of 2008, over half a trillion dollars in mortgages come up for re-setting. How's that going to work out? How will that affect the price of housing? What might the Fed do about that, if anything? What can the Fed do about that?
It's clear that the Bernanke Fed wants to separate itself from the Greenspan Fed. Bernanke does not want to hear the phrase, "Bernanke Put." So I expect the Bernanke Fed to do as little as possible while still helping to get the real estate and mortgage-holders through this mess. Bernanke knows there will be pain. There's already been plenty of pain.
The one thing Bernanke does not want is to see the housing mess throw the whole US economy into recession. In other words, Bernanke would allow the real estate industry, some of the banks, some of the equity and hedge funds, and many of the speculators -- to suffer, but he does not want a recession.
Can he pull it off? Does the Fed have that much power? Personally, I'm doubtful, but I'm willing to learn -- I'm willing to be shown.
Somewhere in coming weeks or months, the market, as it always does, will discount the very worst that it can see ahead. Was last Thursday such a day? I doubt it, but I'm willing to look at the evidence and I'm willing to be convinced by the evidence. So far, I'm not convinced. And I can't get that month of October out of my mind.
Nobody seems to notice this, but it's a fact that I find kind of amazing. As of Friday's close, despite all the hysteria, only one major stock average was down for the year. The Dow was up 4.94%, the S&P was up 1.95%, the NYSE Average was up 1.93%, the NASDAQ Composite was up 3.78%, the AMEX was up 5.04%. Wait, the Wilshire was down 1.58%.
All right, let's take a look at the Wilshire 5000, the broadest representation of the entire US stock market. It would appear that the Wilshire is in position to try for more rally. RSI is pointing higher. MACD is in deeply oversold territory and appears to be pointing higher. At the bottom of the chart, the slow stochastics have formed a "double bottom," and it too is pointing higher. One negative,-- the 50-day moving average has turned down, and should offer resistance to any advance.
TODAY'S MARKET ACTION -- My PTI was up 4 today to 5929. Moving average was 5908, so my PTI remains bullish by 21 points.
The Dow was up 42.27 to 13121.35, with no movers today.
Sept. crude was down .86 to 71.12.
Transports were up 87.49 to 4855.47.
Utilities were up .73 to 488.12.
There were 1961 advances on the NYSE and 1312 declines. UP volume was 54.1% of up + down volume -- not that impressive.
There were 17 new highs and 94 new lows. My 5-day high-low differentials rose from Friday's minus 2194 to today's minus 2064.
Total NYSE volume was a low 2.40 billion shares.
S&P was down .39 to 1445.55.
NASDAQ was up 3.56 to 2508.59.
My Big Money Breadth Index was down 6 to 774.
Dollar Index was down .36 to 81.39. Euro was up .09 to 134.81. Yen was down .67 to 87.06.
Bonds were up -- yield on the 10 year T-note was 4.63%. Yield on the long T-bond was 4.97%. Yield on the short T-bill was a low, low 2.95%.
CRB Commodity Index was down 1.91 to 401.81.
Dec. gold was down .30 to 666.50. Sept. silver was down 6 to 11.73. Oct. platinum was up 15.80 to 1247.40.
GDX up .58 to 35.80. HUI was up 6.46 to 312.54.
ABX up 1.35, AEM up 1.15, ASA up .35, NEM down .06, SSRI down .19.
Gold unchanged and stocks up a bit. As usual, we wait, but GLD is still bullish.
STOCKS -- My Most Active Stocks Index was down 1 to 554.
The five most active stocks on the NYSE were -- CFC down 1.62, GE down .23, BAC down .41, PFE up .23, EMC up .36.
The VIX plunged 3.88 to 26.33.
CONCLUSION -- In all, it was not a very impressive day. Volume dropped substantially, up volume was barely ahead of down volume, and my PTI was only up 4. And the S&P Composite was actually down at the close. But I don't want to be too hard on this market -- let's see if it does any better tomorrow.
In the meantime, I'd unload any stocks that you are nervous about. The all around ideal position to be in now is T-bills. They don't pay much, but you know at the end of 91 days or six months you'll get your money back. And as many stock holders know, there's nothing like getting your money back, even if what you're getting back is only Federal Reserve Notes, incorrectly known as "dollars."
Today, an historic rush into T-bills.
That wraps another fun day on the markets.
Oh, in case you haven't heard, it's hot as Hades in Southern Cal. If you're planning a vacation here, change it to Montana or Maine. Whew, it's hot!
The following paragraph is from the latest Kiplinger Letter (Kiplingerbiz.com). "The economy is at a fork in the road. Credit and housing woes are deepening. About a third of the US mortgage market is effectively shut down, during up home sales. Builders are slashing output even further, fearful that even buyers with good credit won't be able to get the loans they need. Banks, loath to take advantage of mortgage-backed securities as collateral, won't lend money to each other"
From today's NY Times -- "The Center for Responsible Lending expects that twenty percent of the home loans made in 2005 and 2006 to people with weak (sub--prime) loans will end in foreclosure. Because so little money was required as down payment during the boom, the value of many of these houses may be less than what is owed on the mortgage." ................................................................................... It's always instructive to see how others see us. The following is from the opinion section of the International Herald Tribune -- Russell A debt culture gone awry By Hamid Varzi Published: August 17, 2007
TEHRAN:
The U.S. economy, once the envy of the world, is now viewed across the globe with suspicion. America has become shackled by an immovable mountain of debt that endangers its prosperity and threatens to bring the rest of the world economy crashing down with it.
The ongoing sub-prime mortgage crisis, a result of irresponsible lending policies designed to generate commissions for unscrupulous brokers, presages far deeper problems in a U.S. economy that is beginning to resemble a giant smoke-and-mirrors Ponzi scheme. And this has not been lost on the rest of the world.
This new reality has had unfortunate side effects that go beyond economics. As a banker working in the heart of the Muslim world, I have been amazed by the depth and breadth of anti-Americanism, even among U.S. allies, manifested in reactions ranging from fierce anger to stoic fatalism. Muslims outside the United States interpret America's policies in the Middle East not as an effort to spread democracy but as a blatant neocolonialist attempt to solve its economic problems by force. Arabs and Persians alike argue that America's fiscal irresponsibility has forced the nation to seek solutions through military aggression.
Many believe that America's misguided adventure in Iraq was a desperate attempt to capture both a reliable source of cheap oil and a major export market for the United States. The United States borrows a whopping $2.5 billion daily from abroad to service its burgeoning debt. In order to continue borrowing at reasonable interest rates America needs to retain credibility with its overseas creditors, especially Far Eastern nations running huge trade surpluses. A cessation of foreign lending would force the Fed to raise interest rates to attract money, precipitating a collapse of the already weak housing market and pushing the economy into recession.
This is why the Chinese, in particular, have threatened to retaliate against proposed U.S. trade sanctions by reducing their $1.3 trillion in dollar holdings. The U.S. debt situation is so grave that the Chinese would not even need to "dump dollars" to precipitate a meltdown but could simply refuse to extend further credit: They could cease purchasing additional Treasury Bonds and Treasury Bills, without selling any excess inventory. China has the far stronger hand, because a run on the dollar would merely reduce China's gigantic cash surplus while increasing America's debt burden to astronomical levels.
ASX Price at posting:
0.0¢ Sentiment: Buy Disclosure: Held
(20min delay)