Up, Down, Sideways- All The Above

Bottom?

I think not. It is promising that we did not give up a significant part of yesterday's gain and promising that the Asian markets are (right now) up three days in a row. Also promising that credit continues the slow thaw and that emerging market currencies are rebounding. All promising. So why am I a bit skeptical?

Let me count the ways:

1. Credit, while thawing slowly (the three month LIBOR down 13 days in a row) is still at very high levels and it is leading to companies paying very high rates. Some companies, to secure new credit lines, are agreeing to tie their credit rates to the rates on credit default swaps (CDSs) rates on their bonds. CDSs are not regulated, are not on an exchange and are not uniform. Their rates vary wildly on daily market sentiment, so it is insane for them to agree to this. While these companies are negotiating caps and the CDS rates are only a portion of the rate calculation, the very fact that they are agreeing to this indicates how desperate companies are for credit.

http://www.nakedcapitalism.com/2008/10/money-market-rates-still-improving.html

And in another sign on how credit lines are tight, companies involved in international trade are having incredible difficulty getting letters of credit, which is bringing international trade to a screeching halt. The Baltic Dry Goods Index, a barometer of shipping, dropped over 90% in a matter of days. This has consequences of monstorous proportions. Food not making it to hungry people, being number one on my list. And beyond starving people, there are starving companies. Perhaps not yet as companies live off inventories, but in the not too distant term, companies will need to get supplies flowing again. This needs no further explanation. It is a global logjam and it is scary. As I said the other day, time to not smell the coffee.

2. Stories abound more and more each day about how consumers are at their limit, how credit card companies are cutting lines, making fewer offers and charging higher rates, and how companies are cutting jobs. Yes this is a lot of the usual stuff you see in a recession, but we are at the beginning of this show, not the end. The markets do usually rebound about six months before a recession ends (traditionally) but anyone who thinks this recession is ending in six months is medicinally advantaged. As Meg Ryan said in When Harry Met Sally, "I'll have what she is having!" When 71% of your GDP is cutting back sharply (consumer spending is 71% or our GDP), sustained gains in the market are not likely. Hell, when consumer spending is 71% of your GDP, you should not expect a rally.

3. Consumer spending (see above) brought us out of the last couple of recessions. The last one, the dot com bubble, was centered on technology companies, not consumers. Sure, consumers who put big dollars into companies that bragged about how much money they were losing lost some spending ability, but overall, consumers were still spending (as it now turns out this was because of easy credit allowing consumers to spend beyond their means, but that is for another longer post). Consumer spending will not get us out of this one and will, in fact, make it worse.

4. While some reports noted that the Lehman, WaMu and other CDS settlements were not as drastic as anticipated, they are still apparently draining liquidity from the market and adding to the credit problems. The Fed is not supporting weaker and smaller failing banks, so there will be a lot more defaults, and companies that cannot get credit will be on the default wagon too, so CDSs will continue to add stress.

http://www.bloomberg.com/apps/news?pid=20601109&sid=aAlL4MNH7M8Q&refer=home

Keep in mind that CDSs were up to a notional value of $62 trillion and are now back to just $54 trillion (with a T), which is several times over the GDP of the entire planet. Now this will not be the payout, but it does not take a large percentage to soak up a lot of the liquidity that the Fed and Treasury are pumping into the system.

http://www.nakedcapitalism.com/2008/10/how-credit-default-swap-settlements-are.html

5. The misery index (don't ask) is at a record high. Very similar to the consumer sentiment being at an all time low, but more factors are considered in the misery index than just consumer sentiment. Do you really need some index to tell you how miserable you are?

6. There are various mutual funds that are required to keep a certain percentage of their dollars in equities. Now they can get by with having some of the assets in cash on the side-lines between month end reports, but come month end they need to be able to report that they have the required amount of funds in equities. Guess what, we are nearing month end and the equity markets are up. What might happen at the bigging of next month?

7. The subprime mess started the ball rolling but it does not end there. Adjustable rate mortgages (ARMs) are for the most part in the Alt-A category (between subprime and prime) and most of these are resetting on rates next year. We will have 3-5 years of poor ARM loans resetting in a relatively short period and that is all at a time when a significant number of homeowners are under water (owe more on their homes than they are worth) are facing job stesses and other credit problems. And a lot of ARM reset rates are tied to the LIBOR, which is still near record levels, so people are looking at their mortgage payments going up 50-80% next year. I think we have the programs in place to address this, but it will be painful and the worst is not necessarily behind us.

8. Housing seems to be closing in on a bottom, but I just saw stats on how the FHA's percentage of loans this year has skyrocketed, but they have new reqiurements hitting this month that will slow that rise, i.e. homeowners have to pay their own down payment, builders cannot pay it for them. It seems that the previous loan standards, which basically allowed buyers to be homeowners with nothing down if the builder paid the down payment, were resulting in a significantly increased rate of defaults (go figure?). This (new and good requirement) will slow down those sales and may make a dent in the apparent progress of home sales.

9. And the biggest factor in why I do not expect we are at a bottom yet- drum roll please - I put most of my retirement back into equities a week ago, and there is no way I was that good at catching the bottom. In fact, reading 1-8 above has me reconsidering my move.

.5% Rate Cut - Hip, Hip Hooray!

That may not have been quite the reaction. A lot of analysts were predicting .75% and some 1%, so today's move was to some a disappointment. Then again, to those who know what is happening, who cares. Yes, dramatic rate moves have led to one or two day bounces this year, but they have had no lasting effect. Lending is still relatively non-existent and at high rates. Equity markets only get better for a day or two. It just does not work in this environment. Bernanke knows this, as do the other Fed folk, but they also know that no cut when one is expected has a negative effect. So what do you do? Make a big cut like the market expects, only to see the effects wear off in a day or two? Make no cut and suffer the consequences? Or do a minimally acceptable cut that is okay and meets most expectations but that still keeps most of your powder dry. Right now the Fed has more influence by what they have left to cut than by what they have cut. Think about it, if they cut the rate down to .75%, people realize there is a pretty short limit to how much more they can do. Hope is lost. Japan went to zero, I believe, during the lost decade (now 26 years), and it did nothing to help (okay, perhaps a little). The Fed does not want to be sitting in a corner with no more bullets in its gun, so cutting the least they could do with a straight face made abundant sense. More important now to have the prospect of future cuts than the realization that the Fed has little left it can do.

Sorry so short and so late but a busy day at the office and I am still sick and tired (excuses, excuses)