APPALLING!!!!!!!

GMAC President Bill Muir said in a statement today: "The company won’t finance “higher-risk transactions,” instead concentrating on prime customers who are more likely to repay using “responsible credit standards.” The relaxed policy “will allow us to return to more normal levels of financing volume, and should help in efforts to stabilize the U.S. auto industry.” Sounds good, doesn't it? Now, according to GMAC what constitutes a "prime" customer? This means that only the best credit risks will get financed at a reasonable rate, right? Well, no. Matter of fact, GMAC reduced the credit score necessary to get a loan from 700 (very good) to 621 (not very good.) Do you believe this? I am loathed at how they are wasting my money as a taxpayer. Everyone that reads this blog should send a copy of this posting to his/her Representative and Senators demanding accountability. By the way, the median (average) FICO score in the United States is 723.

Worse, here was what GMAC did: "Within hours, GM was offering no-interest loans for as long as five years to counter this year’s 22 percent drop in sales, caused in part by the inability of its customers to get financing." Oh, and the terms? GMAC will pay an 8 percent dividend on the Treasury’s $5 billion of senior preferred equity. The company will also issue warrants in the form of additional preferred equity that will equal 5 percent of the preferred-stock purchase and pay a 9 percent dividend if exercised."

So let me see if I understand this correctly. The government "buys" preferred equity that pays an 8% coupon. GMAC must pay that 8% coupon (9% if the government exercises the warrants. GMAC turns around and loans out money at 0% that it has to pay 8% to acquire, and at the same time decides that it will make loans to people with credit scores significantly worse than average, when before they would make loans only to people with scores that were slightly better than average. Loaning money out at a lower rate of return than it costs you to acquire - isn't that kind of like "we'll lose something on each sale, but make it up on volume?"

Oh, and then while we're at it, let's make lots of loans to people who have credit significantly worse than the average credit score in the United States, instead of just making loans to those who are at least average in their handling of credit."

Source: From the Karl Denninger's blog at the Market Ticker.

GMAC Bailout: The Sky is the Limit

According to the "Wall Street Journal," the federal government Monday deepened its involvement in the U.S. automotive industry by committing $6 billion to stabilize GMAC, a financing company vital to the future of struggling car maker General Motors Corp.

In a sign the government's role in the industry could become open-ended, the Treasury Department said Monday it had set up a separate program within the Troubled Asset Relief Program, a fund originally designed to help banks, to make investments directed at the auto industry. A Treasury official said the new program didn't have a specific dollar limit. In other words, the Treasury is saying that we don't know how much money it will take to save the financing arm of GM; but we will provide as much money (taxpayers money of course) as it takes.

The agreement opens a new rescue program for the auto industry as part of the Treasury’s $700 billion TARP. Keep-in-mind that the bailout was originally designed to buy troubled assets from banks and has instead become a fund for Treasury to prop up all kinds of lenders, insurers, car makers, and now auto-finance companies.

I am here to say that "we, as a nation, will reap what we sow." That is potential for hyperinflation and the total destruction of our currency.

GMAC: One-bank Holding Company

Question: Does having a "piggy bank" allow one to seek one-bank holding company status from the Fed? This a question that I sent to my Representative in Congress. You may want to do the same, since it seems everyone is becoming a one-bank holding company.

Shocker!!! The Wall Street Journal reports that the "Federal Reserve's decision to make GMAC LLC a bank-holding company throws the unit a desperately needed lifeline, but further entangles the federal government in areas of the economy it once considered beyond its purview.

In a Christmas Eve decision, the Fed gave a present to GMAC, a finance company controlled by private-equity fund Cerberus Capital Management and General Motors Co., to qualify as a bank. As a federally regulated bank-holding company, GMAC potentially gets access to billions of dollars of Treasury funds dedicated to recapitalizing banks."

Christmas Hiatus

I want to wish everyone who has been part of this blog over the past year a very "Merry Christmas."

2008 was not a kind year to investors of all shapes and forms who remained fully invested in this "Bear market." Most equity indexes for 2008 will be down anywhere from 40% to 50%. The S&P 500 is trading at approximately its same level as ten years ago. That really does hurt. And, keep-in-mind that just to get back to the price levels of January 2008, the market has to appreciate by 80% to 100%. However, those of you that heeded the sell signal on January 8, 2008 have been kept out of harm's way. On January 8, 2008, the exponential moving averages (14-Week in relation to the 40-Week) generated a sell signal, whereby investors were suppose to exit all equity investments and redeploy the proceeds to money market investments. For those of you that did execute the strategy, thank your blessings and be generous this Christmas with those that are truly in need.

2009 will probably not be that much better than 2008, especially the first half. However, saying that, I will let the market tell me when the trend changes from bearish to bullish through the exponential moving average strategy.

I intend to post again immediately after the New Year in which I will reflect on 2008, and look at some investment vehicles that could enhance your financial well being for 2009.

With Economy in Shambles, Congress Gets a Raise

"A crumbling economy, more than 2 million constituents who have lost their jobs this year, and congressional demands of CEOs to work for free did not convince lawmakers to freeze their own pay. Instead, they will get a $4,700 pay increase." Enough said.

Source: The Hill

The Mother of All Bailouts: Coming to Your Local Car Dealership

Bloomberg reports that General Motors Corp. and Chrysler LLC would get U.S. loans to stay afloat until March under a Bush administration rescue plan that may be unveiled tomorrow, Friday, December 19, 2008.

The Treasury Department intends to lend to the automakers through their credit arms, GMAC LLC and Chrysler Financial, to avoid having other industrial companies line up for access to the $700 billion TARP. Oh, we are all banks now!

Boston Tea Party, anyone? I am taking reservations for the tax-revolt party.

U.S. Conference of Mayors

CNN has reported that the U.S. Conference of Mayors went to Capitol Hill earlier this month with a report listing 11,391 infrastructure projects proposed by 427 cities. The cost, as reported, is a cool $73.2 billion to pay for all these infrastructure projects that includes plans for a polar bear exhibit, an anti-prostitution program, a water park ride, zoos, museums and aquatic centers to name a view. I don't have enough time or space to delineate the remaining 11,385.

Isn't anyone out there concerned about whom will pay for all this stuff? Then again, what's a billion or trillion or quadrillion or quintillion or sextillion or septillion or octillion or nonillion or decillion or undecillion or dodecillion or tredecillion or
quattuordecillion or quindecillion or sexdecillion or septendecillion or octodecillion or novemdecillion or vigintillion? It is just monopoly money.

Chrysler Shuts Down All Production

Starting this Friday, Chrysler will shut down all production of its vehicles at all of its 30 plants for one month, which is two weeks longer than it normally does at this time of year. Now, this is the real kicker. Workers will receive 95% of their wages during the shut down. Please tell me where is the incentive to change the status quo? Why would the UAW want to change anything when its workers can take a month off, not vacation time, and still get 95% of their salary. And, I thought they were going to remove the job bank. Sign me up, please. I want a deal like that!

The Real Great Depression

I am no longer looking at a 1929 type depression scenario as a possibility for our current financial crisis. That has now shifted to the panic of 1873, which was far worse than the infamous 1929 and included widespread civil unrest. Thanks to Scott Reynolds Nelson, who has written a very interesting article in the "Chronicle of Higher Education," entitled The Real Great Depression.

Please read the article for a good historical parallel to our current economic situation. The parallels of how that 1873 panic occurred are uncanny to today's situation, such as industrial shifts (US >> China) and easy mortgage credit (European in particular) are stunning.

Remember that those who don't know or remember history are bound to repeat it in one form or another.

Welcome to a Free "$" Zone

I like the sound of that title -- Free Money! Who doesn't? But at what cost? Yes, there is always a cost. And, we Americans will pay a "dear" price. The cost is known as "ZIRP." (If you forgot what ZIRP is or are recent to the blog, read my post from Friday, November 7, 2008.)

Today, the Fed cut its key rate (Fed Funds) by a whopping 1%. It stated that its target is now between "0 and .25%." (Even before the cut, the effective Fed Funds rate had been trading around 0.10%.) Further, the Fed stated that it will do whatever is needed to do to end the longest recession in a quarter-century and revive credit. Also, given the current weak economic conditions, it stated that these exceptionally low levels of the federal funds rate can be seen for some time. It went on to say that it will employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability. To me, that sounds like desperation.

We are in our dire economic strait because of excessive credit creation, which the Federal Reserve caused, and now their solution is more of the same!

Today's fed action reminds me of the following idiom: "A Fool And His Money Are Easily Parted." Please be careful out there in these current investment environs. Don't let your emotions get the best of you. Many believe that a stock market "bottom" is in place. For me, I will listen to the market by way of the 15 and 40 EMAs. And, it is still telling me that what we have is a bear market rally. These EMAs were go enough for me back on January 8, 2008; and I am sure that they will be good enough going forward.

Outrageous Economically and Morally

"What is outrageous economically and is outrageous morally is that normally in times like this, people who are competent and who saw it coming and who kept their powder dry go and take over the assets from the incompetent. What's happening this time is that the government is taking the assets from the competent people and giving them to the incompetent people and saying, now you can compete with the competent people. It is horrible economics." Jim Rogers

Post 2008 Corporate Logos

Source: Business Pundit

China and Korea: Currency Devaluation?

What is the likely probability that China and Korea would devalue their currencies by 35% against the dollar? And, if these countries do devalue, what is the overall economic ramifications for the U.S.? Definitely not good!

Keep an eye on the following dollar index over next couple of weeks. A price of $84 is critical. If that support is broken, there just might be something to the devaluation of the Yuan.

Driving for Dollars: GM CEO Hits the Road to Washington

Is this circus of CEOs driving vehicles to Washington D.C. really going to change our minds? The people have already spoken. That is, 60% of Americans are against any type of assistance to the auto industry. They spoke against the $700 billion TARP, but Congress did not listen. Let's see what our Representatives and Senators do this time.

Have We, as a Nation, Lost Our Sanity?

The following chart would indicate that we have.



Essentially all of the so-called "growth" since the 1990 was in fact debt that was claimed to be growth! An analogy would be like an individual borrowing more and more money over a long period of time, spending it all, and then claiming to be "enjoying unprecedented prosperity." Insane, isn't it? But, it is so true.

UAW Open to Changes in Contract

Let's see, giving up a job bank that consists of paying 8,000 workers a full salary for staying home -- yup, that's a real concession. I have a very simple solution why doesn't Congress ask the UAW to assist in a loan, say half of what they want. Better yet, UAW can purchase Chrysler, GM and Ford at today's capitalized valuation for approximately $6 billion.

Read an excellent article by Jay Palmer in this week's Barrons, which is entitled "A Real Bailout for Auto Makers."

Metal Prices Have Fallen Further than During Great Depression

The price of key industrial metals has fallen further over the last four months than occurred during the worst years of Great Depression between 1929 and 1933, according to research by Barclays Capital.

Kevin Norrish, Barclays' bank's commodities strategist, said the average fall in the price of copper, lead, and zinc has been roughly 60% since the peak in July 2008. All three metals were traded on the London Metal Exchange in the inter-war years so it is possible to make a comparison.

Prices for the three metals fell 40% from their highs in 1929 before touching bottom in 1933, with the bulk of the fall in 1930 as the slump spread worldwide. Lead and zinc have already lost more than they did in the 1930s, according to Norrish.

Copper was hit hardest during the Depression, despite the electrification drive in the US and the Soviet Union, falling 70% at one stage before creeping back in the mid-1930s. The reason was an 85% fall in U.S. construction, then the biggest user of the metal.

Barclays Capital said the broader equity markets are already discounting the sorts of "savage declines" in corporate profits that were last seen during the depression. Price to earnings (P/E) ratios are actually lower now than they were the early 1930s, with moves in credit spreads that suggest investors are anticipating depression-era levels of economic contraction.

And yet, Fed Chairman Bernanke, see yesterday's post, states that there is no comparison between our current economic condition and the 1930s depression. Will someone please give him a dose of economic reality.

Source: Barclays Capital

Bernanke says Crisis "No Comparison" to Great Depression

"Federal Reserve Chairman Ben Bernanke said Monday that the current economic situation bears "no comparison" to the much deeper crisis of the 1930s Great Depression. Further, he states that you hear a lot of loose talk, but let me just say, as a scholar of the Great Depression; and I've written books about the Depression and been very interested in this since I was in graduate school, there's no comparison."

This same "scholar (and I use the term loosely, given his track record as Fed Chairman)" said in February 28, 2007 to the House Budget Committee that he didn't consider the housing downturn as being a broad financial concern or a major factor in assessing the health of the economy." In other words, he thought the "subprime problem" was contained and under control. So, in 2007, he said that we have everything under control; and now we are to believe him when he states that there is no comparison between our current economic situation and the 1933 depression. I, for one, don't believe the man. His policy of ZIRP (zero interst rate policy) will not work. It will not eradicate all the malinvestments that must be liquidated. It will only prolong our economic pain.

Ok, what should be done by the Fed and Congress? A good start in rebuilding confidence and trust in our economic system would be the following four measures:

1. The Fed should immediately stop its ZIRP.

2. Congress should repeal Gramm-Leach-Bliley Act of 1999, which will reinstitute the Glass-Steagall Act of 1933. The Glass-Steagall Act banned investment banks, which engaged in what was perceived as high-risk securities trading and underwriting, from taking insured retail deposits. In other words, an investment bank could not be a commercial bank. That prohibition was removed on November 12, 1999 by the Gramm-Leach-Bliley Act. Since 1999, there has been a rapid convergence between commercial and investment banking. Did anyone say Citigroup, Wachovia?

3. Congress and Fed should establish the maximum leverage for depository financial institutions at 10:1.

4. Congress should direct that all assets and liabilities, no off-balance sheet items allowed, are to be consolidated upon a firm's balance sheet, and all marking methods, formulas and variables for each asset held must be disclosed accurately. I refer to this as the Transparency Rule.

The Next Great Depression

A must view this Sunday at 10 PM on the History Channel.

It's Official: Economy is in a Recession

The National Bureau of Economic Research (NBER) said today, December 1, 2008, that the U.S. economy has been in a recession since December 2007. News worthy? Yes, but only a year late. Most Americans have realized this since July/August 2008; and, if you had been tracking my posts just since January 2008, you would have been keenly aware of the dire economic and financial problems facing the U.S.

Double-digit Wall Street Week

DJIA had its best five days since 1932. Thank you, Santa. But Santa, wasn't 1932 in the midst of the "Great Depression?" Then, I heard Santa say, "Sharpest bull rallies happen during bear markets." Umm, I guess I will not get too excited about this market rally. Instead, I will look at the indicator that took me out of the "claws" of the "Bear" on January 8, 2008 and see what it is saying:


Source: Big Charts

The market's signal is still "Bearish," since the 15-Week EMA is still below the 40-Week EMA. Market, I have heard you loud and clearly.

Once the rally is complete, you may want to consider the following four bearish ETFs, which provide 300% leverage: FAZ (3x Financial Bear), BGZ (3x Large Cap Bear), TZA (3x Small Cap Bear), and ERY (3x Energy Bear). These ETFs are definitely not for "widows and orphans."

Fiscal 2009 Federal Deficit Could Hit $1 Trillion

For fiscal 2008, the federal deficit hit a record $455 billion, which ended Sept. 30, more than double the previous year's deficit. But now, even the fiscally conservative say another doubling, to $1 trillion or more, may be inevitable if the economy is to be rescued.

President-elect Barack Obama said at a news conference Tuesday, November 25, that the government's first obligation was to spark an economic recovery and put people back to work. To do that, the Democratic-led Congress is expected to have a new stimulus package, costing in the $500 billion range, ready to go when Obama takes office in January 2009. The focus of this stimulus package will definitely be on the personal consumption side.

Any type of government stimulation package will only prolong the economic suffering. Government spending increases consumption and discourages savings and investment. What is needed is less consumption and more saving, which will lead to a quicker recovery. If the government continues on its current polices of propping up financial institutions by forgoing the market resolution of liquidating malinvestments and stimulating consumption while discouraging savings, the economic pain of all will be exacerbated. I don't know about you, but if I am going to have to endue pain; I would rather get it over quickly rather than having to endue decades of it.

Fed Commits Another $800 Billion MORE!

I don't know about you, but I am having a very hard time keeping up with all these money dispersion programs. What is it now, $7.2 trillion or $8 trillion? Who cares! Who is counting? It's the season of giving, isn't it?

Well, the FTA has come to the full realization that the consumer is in a big-time hurt. It stepped up its efforts to support strained credit markets through a new program backed by the Treasury Department aimed at boosting consumer credit and another to bolster the market for mortgage-backed securities.

The Treasury Secretary Paulson added that the current lack of credit available to consumers was undermining consumer spending and weakening the economy. Mr. Paulson said Treasury, the Fed and other federal government officials plan to take all the steps necessary to "minimize the spillover into the rest of the economy.

Source: Wall Street Journal

Fed Pledges Top $7.4 Trillion (Half of GDP)

According to Bloomberg Services, "The U.S. government is prepared to lend more than $7.4 trillion on behalf of American taxpayers, or half the value of everything produced in the nation last year, to rescue the financial system since the credit markets seized up 15 months ago.

The unprecedented pledge of funds includes $2.8 trillion already tapped by financial institutions in the biggest response to an economic emergency since the New Deal of the 1930s. The commitment dwarfs the only plan approved by lawmakers, the Treasury Department’s $700 billion Troubled Asset Relief Program. Federal Reserve lending last week was 1,900 times the weekly average for the three years before the crisis."

Can anyone spell "GOLD AND SILVER?" I would highly recommend that you begin to learn the spelling of those two words.

Crude Production Cost for GCC Countries

Trading Addicts posted the average crude production cost for the Gulf Cooperation Council (GCC) countries at $47, which in itself is very interesting in the context of light sweet crude yesterday closed at $49.42. Could it be that we are approaching a low in oil prices? It would not surprise me at all if the low is already in place, because I can not see a scenario whereby OPEC would not cut production to maintain an oil price above its members' production cost.

The individual country production costs are as follows:
1. Algeria $56
2. Kuwait 33
3. Iran 90
4. Bahrain 75
5. Irag 111
6. Oman 77
7. Libya 47
8. Saudi Arabia 49
9. UAE 23

Average Cost for an Hour of Union Auto Wages over $70

"Economists in Michigan, the long-time home of the auto industry, say they don’t support the proposed multi-billion dollar bailout of Big Three automakers Chrysler, GM and Ford.

One reason why, they say, is the ultra-high labor costs for union workers employed by the Big Three. It costs over $73 per hour on average to employ a union auto worker, according to University of Michigan at Flint economist Mark J. Perry.

“Is it right to tax the average worker making $28.50 to bailout workers whose labor cost is over $73 an hour?” Perry asked.

He explained that in 2006, widely available industry and Labor Department statistics placed the average labor cost for UAW-represented workers at the former DaimlerChrysler at $75.86 per hour. For Ford it was $70.51, he said, and for General Motors it was $73.26.

“That includes the hourly pay, plus the benefits they’re receiving and all the other costs to General Motors, Ford and Chrysler, including legacy costs – retirement costs, pensions, and so on – so it’s looking at the total labor costs per hour worked for workers,” Perry said.

For U.S. workers at Toyota, however, the per hour labor cost is around $47.60, around $43 for Honda and around $42 for Nissan, Perry added, for an average of around $44.

“Using Bureau of Labor Statistics numbers, the average compensation for manufacturing workers is around $31.50, and the average hourly compensation, including benefits, for the average worker in the U.S. economy is around $28.50,” Perry told CNSNews.com.

If you annualize Chrysler’s labor cost of $75.86 an hour per worker over a 35-hour week, for 50-weeks a year, the yearly compensation comes in at almost $133,000 per worker per year."

For the full article, go to CNSNews.

S&P 500 -- Closing Price for November 20

I thought it would probably be next week before we took out 768. However, we did it today. Closing price for the S&P 500 was 752.44

S&P 500 Update

The critical level for the S&P 500 is 768. See the following chart. If that level is penetrated, the next likely long-term support is 480. Once again, I listen to what the market is telling me, not what I hope will happen.



Source: Evil Speculator

Stock Market Crashes

Source: Calculated Risk

Will this one be worse? So far, the probability is that it will be.

Auto Industry Close to Bankruptcy But Its CEOs Get Pricey Perks

How many of the automaker CEOs travelled commercial to get to Congress yesterday and today? The answer is a big fat ZERO!

All three CEOs - Rick Wagoner of GM, Alan Mulally of Ford, and Robert Nardelli of Chrysler - exercised their perks Tuesday by flying in corporate jets to DC. Wagoner flew in GM's $36 million luxury aircraft to tell members of Congress that the company is burning through cash, asking for $10-12 billion for GM alone. Wagoner's private jet trip to Washington cost his ailing company an estimated $20,000 roundtrip. In comparison, seats on Northwest Airlines flight 2364 from Detroit to Washington were going online for $288 coach and $837 first class.

Ford CEO Mulally's corporate jet is a perk included for both he and his wife as part of his employment contract along with a $28 million salary last year. Mulally actually lives in Seattle, not Detroit. The company jet takes him home and back on weekends.

Please tell me that Congress is not that dumb to allow a bailout without demanding a major change to Detroit's business model.

This Monster Needs to Die!

(Click inside the chart for a larger view.)
Source: Ben Bittrolff

TARP: Abrupt Change in Plans

The seemingly abrupt “change in plans” regarding focus of the remaining Treasury Asset Recovery Program (TARP) money from buying up toxic mortgage debt to potentially buying up consumer loan asset backed securities might be telling us something. The Fed/Treasury/Administration (FTA) may have had a moment of sudden intuitive understanding in regard to the theoretical multiplier effect (remember that one from Basic Economics) as per use of TARP funds.

Your assignment is to ponder the reason why. This is due next week.

What Should be Done with the U.S. Auto Industry?

Let's talk about the potential bail out for the auto industry, which is a very emotional issue to many individuals, especially those individuals tied directly or indirectly to the industry. The argument goes something like this, if the financial sector can be bailed out, why not the same for the auto industry? The answer is that we, as in taxpayers and the Treasury, do not have the financial wherewithal. Congress should not have approved TARP. Also, there is no fix for the so-called big three, or should I say, little three, auto firms in their present form. Period!

Karl Denninger, from the Market Ticker, succinctly states the problem and solution as follows: “We have been operating at a "run rate" for automobile sales of about 17 million units a year. The "no silly credit" number is closer to 11 million units. Notice how you don't see the number of "older, junky" cars on the road you used to? That's the "chicken in every pot" that was silly-credit created.

The UAW has said they will not make any (more) concessions. Yet they have to make concessions, simply put, because the industry needs to shrink by 40% to be viable.
There is only one way out of this mess. That is “Chapter 11”. We must force these firms to downsize to a size that can be sustained. Yes, this will cost jobs. It is going to cost jobs no matter what we do, because we have built an entire industry up around a totally unsustainable demand curve and that which cannot be sustained will not be sustained.

If we try to "bail them out," we are simply throwing money down a rat hole. GM has a negative $60 billion net value right now. Toss in another $25 billion, they still have a negative net value.
GM has been functionally bankrupt for more than a decade; this is not a new problem and both management and labor have refused to solve it for more than 10 years. There is absolutely no reason to believe they will solve, and the best way out there is the transparency that is forced upon a firm via the bankruptcy process.
Chapter 11 allows these firms to submit their labor agreements to the court to have them forcibly renegotiated (without favor to either side) and in addition it forces the pension problem into the PBGC where that is reduced as well.

Next, we need to allow the diesels sold in Europe into the U.S. They can't be sold here due to the Greenie BS. That's stupid; hang the greenies up by their toenails. While we're at it, if the crash standards are good enough for Europe, they're good enough for the US. Now we can have small cars that get 60 mpg with those diesel engines; a huge part of why we can't get there from here now is the crash standards in the US that prohibit the sale of vehicles available across the Atlantic. Why can't we build those here? Because of our emissions and crash standards here in the U.S.
Finally, there are other automakers in the United States that do not need bailouts. Honda, Toyota, BMW and others have plants in this country that are building cars, and they'd doing ok. Yes, their profits are down, but they're making money and producing cars with American workers.

If the UAW, GM, Ford and Chrysler can't compete with these foreign auto firms, using American workers, on our own soil, that's just too bad. Then, it may be time for us to drive an American-built Toyota until GM and the UAW learn the lessons of a market economy.”

Can We Fix Our Economic Mess?

Ben Brittrolff, who writes an excellent blog entitled, Financial Ninja, posted the following comments on the financial crisis: "A lot of people have been asking and wondering, what will work? What can prevent a massive recession? What can prevent a depression? How are our policy makers and political leaders going to ‘fix’ this mess?

The answer is actually a simple one and was very carefully and neatly articulated in the 1920’s.

The Original:

“Es gibt keinen Weg, den finalen Kollaps eines Booms durch Kreditexpansion zu vermeiden. Die Frage ist nur ob die Krise früher durch freiwillige Aufgabe der Kreditexpansion kommen soll, oder später zusammen mit einer finalen und totalen Katastrophe des Währungssystems kommen soll.” - Ludwig von Mises

The Translation:

“There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.” –Ludwig von Mises

Well, we all know which route was chosen for us. One more final, massive, desperate push in credit expansion should do us it.

Those of you that have never read Ludwig von Mises, I highly recommend you do. Check out the Mises Institute.

Mises figured out in the 1920’s what our current economic leaders still haven’t figured out. He enraged all the communists and socialists, proving mathematically that non-factor-market (NFM) socialism could never work. This was called the economic calculation problem. All statist regimes face this problem to varying degrees including our own mixed economy. The evidence is plain to see in our history of booms, bubbles and busts.

Market interferences via tax policies, subsidies, tariffs, regulation and ridiculous fiscal and monetary policy result in the constant misallocation of scarce resources because they distort market prices and market signals."

Zero Interest Rate Policy (ZIRP)

ZIRP is a Keynesian macroeconomics scheme for economies exhibiting slow growth with a very low interest rate, such as Japan, the United States, and soon the rest of world.
Under ZIRP, the central bank of the country involved maintains a "0% nominal interest rate" through the creation of excess liquidity. Japan has been using this policy since 1999 without much success.

In a zero interest rate environment, there world no incentive to save. The incentive would be to borrow and spend, which is how we got into our current financial debacle.

So how can more of the same fiscal and monetary policies be a solution? If cheap and easy credit got us into this credit and financial debacle, how can the extreme version of cheap and easy credit (0% interest rates) get us out?

The economy needs time to heal itself from the excesses of the housing bubble, which was induced by excess liquidity though monetary policies that were flawed from the beginning thanks to Greenspan. The last thing we need is ZIRP, which is being embraced by all central bankers, inclusive of Bernanke. The present crisis is indeed scary, but only because we are implementing the same failed policies that got us into this mess. The sooner the government steps aside, the sooner our recovery can begin.

Stocks Have Largest Post-Election Percentage Decline

NEW YORK, Nov 5 (Reuters) - Wall Street hardly delivered a
rousing welcome to President-elect Barack Obama on Wednesday,
dropping by the largest margin on record for a day following a U.S.
presidential contest.
The slide more than wiped out the previous day's advance, the
largest Election Day rally ever for U.S. stocks.
The following table shows the percentage rise or decline in the
Dow Jones industrial average .DJI, Standard & Poor's 500 index
.SPX and Nasdaq composite index .IXIC on the day after a U.S
presidential election and who won the Election Day vote.
Year Dow S&P Nasdaq President elect
2008 -5.05 -5.27 -5.53 Barack Obama
2004 +1.01 +1.12 +0.98 George W. Bush
2000 -0.41 -1.58 -5.39 No decision: G.W. Bush v Al Gore*
1996 +1.59 +1.46 +1.34 William Clinton
1992 -0.91 -0.67 +0.16 William Clinton
1988 -0.43 -0.66 -0.29 George H. W. Bush
1984 -0.88 -0.73 -0.32 Ronald Reagan
1980 +1.70 +1.77 +1.49 Ronald Reagan
1976 -0.99 -1.14 -1.12 James Carter
1972 -0.11 -0.55 -0.39 Richard Nixon
1968 +0.34 +0.16 --- Richard Nixon
1964 -0.19 -0.05 --- Lyndon Johnson
1960 +0.77 +0.44 --- John Kennedy
1956 -0.85 -1.03 --- Dwight Eisenhower
1952 +0.40 +0.28 --- Dwight Eisenhower
1948 -3.85 -4.15 --- Harry Truman
1944 -0.27 0.00 --- Franklin Roosevelt
1940 -2.39 -3.14 --- Franklin Roosevelt
1936 +2.26 +1.40 --- Franklin Roosevelt
1932 -4.51 -2.67 --- Franklin Roosevelt
1928 +1.20 +1.77 --- Herbert Hoover
1924 +1.17 --- --- Calvin Coolidge
1920 -0.57 --- --- Warren Harding
1916 -0.35 --- --- Woodrow Wilson
1912 +1.83 --- --- Woodrow Wilson
1908 +2.38 --- --- William Taft
1904 +1.30 --- --- Theodore Roosevelt
1900 +3.33 --- --- William McKinley
1896 +4.54 --- --- William McKinley
* George W. Bush ultimately was determined the winner of the 2000
election.
Source: Reuters EcoWin

Derivative Growth Continues

Read and weep. The banks still have not gotten the message. Then again, why should they when the Fed and Treasury continuous to bail them out.

To get a full impact of the meaning of the following graph, you may want to go back and read my posts from October 7, "Chain of Fools" and from September 26, "Credit Default Swaps: The Next Financial Crisis?"

Going, Going, Gone: National City Bank

On Monday, September 29, I posted the following comment, "Who is next on the so-called "hit parade?" My guess is National City Bank (NCC) out of Cleveland, Ohio, which could happen within the week (probably sooner rather than later)." Well, it was later. On October 24, National City Bank was taken over by PNC Financial (PNC).

Karl Denninger from "The Market Ticker" had some interesting observations about the National City and Wachovia acquisitions. He states that what is interesting about the acquisition by PNC is that it acquired NCC for $5.2 billion in PNC stock or at a discount of approximately 70% from the value of its shareholder equity. On September 30th, according to NCC's financial statements, the firm had shareholder equity of $17.2 billion on its balance sheet. NCC was not alone. Remember Wachovia. In its quarterly report, dated September 30th, it claimed a balance sheet net asset figure of $50 billion. Yet just a very short time later (literally two days later), the board of Wachovia approved a deal for Wells Fargo to buy the bank for $14.8 billion in Wells Fargo stock. Both firms of course defend such treatment and, in fact, the entire banking system, including Ben Bernanke, believe that "fair value" accounting is to blame for much of the current financial crisis. But if, in fact, fair value accounting outrageously understates the value of assets, why is it that the boards of both National City and Wachovia accepted these deals and voted in favor of them? Certainly the boards do not believe that their companies are worth what their balance sheet proclaims, or they would not have agreed to any such transaction. National City and Wachovia show why bank's financial statements are not trusted!

Moral Hazard of the Coming Mortgage Bailout

“Why am I being punished for having bought a house I could afford? I am beginning to think I would have rocks in my head if I keep paying my mortgage.” An excellent question that is being asked by many homeowners that have been responsible and ethical in abiding by the contract that they signed.

Saving all those mortgages might be politically desirable, normative economic thought process; but from a positive economic thought perspective, the majority of the mortgages written after 2005 need to fail because they are not sustainable. In addition, I don’t know why anyone would want to pay $3,000/month on a mortgage that is worth $1,000/month at best. That is the moral hazard.

Read an interest post on this mortgage bailout at "The Big Picture."

An Alernative Approach to Money Supply Growth

DOW WOW!

DJIA climbs 889 points or 10.88%. Let the party begin, or at least tonight.

Homeless

Forgive my sense of "investment humor."

A Billion: The True Story About a Billion Dollars

The next time you hear a politician use the word “billion” in a casual manner, think about whether you want that politician spending YOUR tax money.

A billion is a difficult number to comprehend, but one advertising agency did a good job of putting that figure into some perspective in one of its releases.
A. A billion seconds ago it was 1959.
B. A billion minutes ago Jesus was alive.
C. A billion hours ago our ancestors were living in caves.
D. A billion days ago no one walked on the earth on two feet.
E. A billion dollars ago was only 8 hours and 20 minutes, at the rate our government is spending it.

While this thought is still fresh in your mind, let's take a look at New Orleans. It's amazing what you can learn with some simple division. Louisiana Senator, Mary Landrieu, is presently asking the Congress for $250 BILLION to rebuild New Orleans.
Interesting number. What does it mean?
A. Well, if you are one of 484,674 residents of New Orleans (every man, woman, child), you each get $516,528.
B. Or, if you have one of the 188,251 homes in New Orleans, your home gets $1,329,787 for repairs.
C. Or, if you are a family of four, your family gets $2,066,012.

HELLO!!! Washington, D.C. Are all your calculators broken?? Give me a break. No, give the American taxpayer a break!

When Is Enough, Enough?

The "Wall Street Journal" has just reported that "The U.S. Treasury Department is considering taking equity stakes in insurance companies, a sign of how the government's $700 billion program has become a potential piggybank for a range of troubled industries. The availability of government cash is drawing requests from all corners, with insurance firms, auto makers, state governments and transit agencies lobbying for a piece of Treasury's pie. While Treasury intended for the program to apply broadly, the growing requests could rapidly deplete the $700 billion, an amount that initially stunned many as being quite large."

Recession or Depression?

Bloomberg reports that: “Volvo said it received 115 order bookings for heavy trucks in Europe in the quarter, down from 41,970 trucks a year earlier.” The rest of the article doesn’t even matter.

The only question now remains: recession or depression? The financial erudite still does not fully understand that we are reaping what was sowed by Greenspan during his tenure at the Fed, especially during 2002-03. And what is even more frightening is that his successor, Bernanke, is following the same grievous path.

Don't Panic, Stocks are Safe

A great video by renowned economist, Professor Irving Fisher, talking about stocks from 1929.

Chain of Fools

An excellent article on "Credit Default Swaps -- Insurance on Debt Default" (CDS), which is a must read, by Mark Miller provided the following flow chart on the this enormous mess:



To quote from the article, "To understand the mind-boggling enormity of this mess, it's instructive to picture how we got here. Focusing on subprime mortgages or mortgage-backed securities ignores the dense network of links and connections that form an opaque system of derivatives and debt. Any number of other high-yielding asset classes could have started the crisis, says Paul Mizen, an economics professor and director of the Centre for Finance and Credit Markets at the University of Nottingham School of Economics. It so happened that the subprime market soured first."

In a previous post (September 26, 2008), I mentioned that the Alt. A mortgages, subprime mortgages, and mortgage-backed securities are just the "tip-of-the-iceberg." In that post, I stated that the mortgage market has an approximate value of $7 trillion, but the CDS has an approximate value of $58 trillion. And, therein lies the problem to this financial debacle of major proportion that one only observes once in a generation. Life, as you have known it, has been changed forever.

Asset Pricing Solution and Its Impact on Banks' Capital

I am a strong proponent of the market and its mechanism of pricing what something is
worth. But we probably need to think through what a market price is in regard to the
current financial crisis. Not all things can be easily marked to market. This is especially true of the current subprime mortgage backed securities, which are illiquid.

It is one thing to require that you mark your stocks or bonds to market values every day. It is another thing entirely to require all mortgage backed securities, which are extremely complex and require a lot of time and effort to value.

FASB 157 requires that all securities, inclusive of the illiquid mortgage backed securities, need to be priced. One solution would be to have FASB figure out a better way to price illiquid securities, such as mortgage backed securities? Before you respond, read the following item: FASB 157 summary statement at http://www.fasb.org/st/summary/stsum157.shtml.

Of course, we know that the “Genie” is out of the proverbial bottle. I don’t see how FASB can rescind 157, because everyone knows that these assets on the books are toxic. If anything, rescinding FASB 157 would prolong the problem. Valuing these assets at historical cost is not the answer. Since these mortgage back securities (Alt-A and subprime mortgages) are securitized and have been sold as a security, I have a problem in “not” pricing these assets like other securities that trade on security markets at fair value. Financial institutions should simply “bit-the-bullet” and value these assets at fair value and take the responsibility for their errant ways by reducing their capital accounts by the size of the write-downs of these securitized assets. Of course, the $700 billion bailout would allow the Treasury to purchase these toxic assets and replace them with an infusion of capital.

I want you to focus on a possible solution to the mortgage backed security debacle. The problem is a pricing issue with the consequences on a firm’s capital if these assets have to be written down.

We know that a large percentage of Alt. A and subprime mortgages, which have been securitized, are currently on the books of financial institutions at historical cost, probably at par ($1,000 per bond). We, also, know that FASB 157 requires these assets to be marked-to-market. The pricing of these securities is extremely difficult. Are they worth $.20 on the dollar, $.35 on the dollar, or what? No one seems to know what these securities are worth. That is the dilemma for financial institutions. If they write down these securities, say to $.20 on the dollar, they will have to charge $.80 on the dollar against their capital accounts, assuming they booked these assets at par. Some institutions have already done this and for all practically purposes have wiped out their capital. That is why we have had all these acquisitions and mergers in the past few weeks.

What is your solution? (You may want to address what impact the $700 billion bailout will have on your solution.)

$1.8 Trillion Cost to Taxpayers

Reuters provides an excellent allocation of the bailout cost to taxpayers. Read and weep!

Wells Fargo Buys Wachovia, Not Citigroup

In an interesting turn of events, Wells Fargo, not Citigroup is purchasing Wachovia for $15.4 billion that will require no government assistance, scrapping the federally backed deal with Citigroup for $2.16 billion. This is good news for taxpayers (no government assistance) and Wachovia's investors. Wells Fargo is purchasing all of Wachovia. The Citigroup deal had excluded the asset-management and brokerage operations and put the FDIC on the hook for potential loan losses.

Why is this important? Well, by acquiring Wachovia, Citigroup would have vaulted into the upper echelon of U.S. banks. The addition of Wachovia also would have allowed Citigroup to boast the third-largest network of U.S. bank branches, according to the Wall Street Journal.

Now, this development highlights weak spots at Citigroup and challenges the notion that it had moved solidly from the problem category to the solution camp as the financial crisis unfolds.

One-Week Shutdown?

Short Sale Ban

On September 19, 2008, the Securities and Exchange Commission (SEC) prohibited short sales in 799 financial securities. As of Monday, September 29, 2008, the list had expanded to 973. With approximately 6,000 equity listings on the U.S. markets, the list covers approximately 15% of all stocks.

The SEC said it would extend the short-sale ban to as long as Oct. 17, 2008, or up to three business days after the passage of the bailout plan. However, it would not make the "short sale ban" permanent.

FDIC: Increasing the Deposit-Insurance Levels

Our lawmakers want to increase the FDIC deposit-insurance levels from $100,000 to $250,000. The rational is that the level has not been increased in over twenty years and will restore confidence in the banking system by comforting depositors who might otherwise take their money out.

On the surface this increase in deposit-insurance levels seems innocuous enough. However, when one looks at the balance sheet, it may not be so innocuous. The FDIC's deposit-insurance fund is already at a historically low level, with roughly $1 backing every $100 of insured deposits. The FDIC insured roughly $4.5 trillion in deposits as of the second quarter, and had $45 billion in the actual fund. Given the current capital ratio of 1%, or a financial leverage factor of 100:1, our lawmakers want to increase the size from $4.5 trillion to $11.25 trillion. Wow! Therefore, its capital ratio becomes .4%, or a financial leverage factor of 250:1.

Of course, the FDIC could levy higher fees to fund the increase levels, which would keep the capital ratio what it is currently. However, given the financial plight of the current banking industry, that might be hard for banks to do. I guess an alternative would be to temporarily waive the premiums that banks pay to the FDIC and have the Treasury be liable for covering losses. Why not? What is a trillion or two to the Treasury, it's only tax payers money. And, of course, the FDIC is backed by the "full faith and credit" of the U.S. Government. Need I say more? Only to ask the question, what will happen to the value of the dollar and our global economic leadership position if we continue to bail out entities and entities through monetizing our currency?

Stock Market Circuit-Breaker Levels for Halting Trading

NYSE Circuit Breakers:

In response to the market breaks in October 1987 and October 1989, the New York Stock Exchange instituted circuit breakers to reduce volatility and promote investor confidence. By implementing a pause in trading, investors are given time to assimilate incoming information and the ability to make informed choices during periods of high market volatility.


Rule 80B:
Effective April 15, 1998, the SEC approved amendments to Rule 80B (Trading Halts Due to Extraordinary Market Volatility) which revised the halt provisions and the circuit-breaker levels. The trigger levels for a market-wide trading halt were set at 10%, 20% and 30% of the DJIA, calculated at the beginning of each calendar quarter, using the average closing value of the DJIA for the prior month, thereby establishing specific point values for the quarter. Each trigger value is rounded to the nearest 50 points.

The halt for a 10% decline would be one hour if it occurred before 2 p.m., and for 30 minutes if it occurred between 2 and 2:30, but would not halt trading at all after 2:30. The halt for a 20% decline would be two hours if it occurred before 1 p.m., and between 1 p.m. and 2 p.m. for one hour, and close the market for the rest of the day after 2 p.m. If the market declined by 30%, at any time, trading would be halted for the remainder of the day.

Under the previous Rule 80B trigger points (in effect since October 19, 1988) for a market-wide trading halt, a decline of 350 points in the DJIA would halt trading for 30 minutes and a drop of 550 points one hour. These trigger points were hit only once on October 27, 1997, when the DJIA was down 350 at 2:35 p.m. and 550 at 3:30, shutting the market for the remainder of the day.

Source: NYSE

"KISS" Model: Alive and Well

The "KISS Model" went bearish back in January 2008. Since then, the DJIA is down 21.9%, the S&P 500 is down 23.9%, and the NASDAQ 100 is down 26.2%.

If you recall, the model is based on two moving averages, the 15- and 40-week Exponential Moving Averages (EMA). If the 15-week EMA is above the 40-week EMA, the market trend is up. Likewise, if the 15-week EMA is below the 40-week EMA, the market trend is down. It is very simple, yet very profound in identifying the trend for the market. By looking at the following chart over the past decade, investors would have done very well in following the "KISS Model," especially after yesterday when the DJIA declined nearly 800 points. For a refresher, you may want to read the two posts from January 15, 2008 and May 11, 2008 entitled, "The Market Has Spoken! and How Does One Identify the Underlying Trend of the Market," respectively.

In light of the $VIX, (see the following chart), the broad market may have capitulated yesterday or in the process of doing so. Notice that today's reading of 46.72 was higher than the 2001/02 reading.

The $VIX options index is an excellent measure of investor greed and fear. When it reaches these extreme levels, such as above 40 (fear) and under 20 (greed), it behooves traders to go in the opposite direction of the extreme. That is with a reading of above 40, traders should be looking for a sharp short-term rally. A reading below 20, traders should be looking for a short-term decline. Therefore, given the extreme reading of yesterday, look for the market to bounce from here. The rally, however, would be a counter trend move, because according to the "KISS Model," the major trend is still down; and will remain trending down as long as the 15-week EMA is below the 40-week EMA.

For investors, stay the course in money funds. The "KISS" will eventually give a buy signal when the 15-week EMA moves above the 40-week EMA.

In closing, I bet those of you who have followed this model and invested according to its signals, probably had a pretty good-night sleep last night.

Worst One Day Percentage Losses: Where Does Today's Decline Rank?

Michael Seneodza over at "Trader Mike" provides some interesting perspectives on where today's percentage declines relate to past market declines.

"On days like today we always see headlines about how the day’s point losses rank for the financial indexes. But what is more important is where the moves rank on a percentage basis, because that’s the only way to do a comparison against history. A 778 decline in the DJIA today, while a record point loss, was only a 7% loss and doesn’t rank in the top 5 all-time but it is the 5th worst post 1940 or so. We’re certainly seeing historic moves right now. So here are some of the worst percentage days for the major financial indexes:

NASDAQ: Today was the third worst one-day decline for this index. Here are the 10 worst percentage losses for the Nasdaq:
1. October 19, 1987: -11.35%
2. April 14, 2000: -9.67%
3. September 29, 2008: -9.14%
4. October 26, 1987: -9.01%
5. October 20, 1987: -9.00%
6. August 31, 1998: -8.56%
7. April 3, 2000: -7.64%
8. January 2, 2001: -7.23%
9. October 27, 1997: -7.16%
10.December 20, 2000: -7.12%

S&P 500: It had its second worst day since 1950. (The data’s from Yahoo Finance and only goes back to 1950. The S&P 500 index was created in 1957, but it has been extrapolated back in time.) Here are the 10 worst one-day percentage losses for the S&P 500::
1. October 19, 1987: -20.47%
2. September 29, 2008: -8.79%
3. October 26, 1987: -8.28%
4. October 27, 1997: -6.87%
5. August 31, 1998: -6.80%
6. January 8, 1988: -6.77%
7. May 28, 1962: -6.68%
8. September 26, 1955: -6.62%
9. October 13, 1989: -6.12%
10.April 14, 2000: -5.83%

DJIA: I’m not sure where today’s drop ranks but it’s not in the top 5.
1. October 19, 1987: -22.61%
2. October 28, 1929: -12.82%
3. October 29, 1929: -11.73%
4. November 6, 1929: -9.92%
5. December 18, 1899: -8.72%

From the data I pulled from Yahoo Finance, which only goes back to 1928, today was the 17th worst day since 1928.. It was the fourth worst in modern times — which is probably a better measure given how different the world is now. Given all the circuit breakers put in post the 1987 and 1989 “market breaks,” it would be real difficult (if not impossible) to get another 22% down day. Here’s the modern top five worst DJIA days:

October 19, 1987: -22.61%
October 26, 1987: -8.04%
October 27, 1997: -7.18%
September 17, 2001: -7.13%
September 29, 2008: -6.98%"

Did you notice that there are a lot of September and October dates in that list! From a seasonal standpoint, many markets have a tendency to bottom in the October/November time period.

Sequel to "Another One Bits the Dust: Wachovia"

My Friday's post, September 26, Credit Default Swaps (CDSs): The Next Financial Crisis?, stated, "The four most active banks in the Credit Default Swaps (CDS) market are as follows: JP Morgan Chase, Citibank, Bank of America, and Wachovia (WB). (I would definitely keep an investment eye on Wachovia.) Indeed, according to the "Time" article, the top 25 banks hold more than $13 trillion in credit default swaps, or approximately 22% of CDS market."

Well, we did not have to wait long, because Wachovia has just been acquired by Citigroup. The FDIC stated that Wachovia did not fail. Technically, that is correct, but it was just a matter of time before failure would have been a reality. Wachovia made two bad investments, which precipated it demise. First, it acquired Golden West Financial in 2006. Even at that time Golden West Financial had "tons" of toxic loans on its balance sheet. Second, Wachovia acquired A.G. Edwards, a regional brokerage company with headquarters in Florida. A.G. Edwards brought it own set of problems to Wachovia.

Who is next on the so-called "hit parade?" My guess is National City Bank (NCC) out of Cleveland, Ohio, which could happen within the week (probably sooner rather than later). My best guess is that National City Bank will be acquired by Wells Fargo and Company (WFC).

Credit Default Swaps (CDS): The Next Financial Crisis?

What are Credit Default Swaps (CDS) and its potential impact on the economy? According to two excellent articles in Business Week (September 25, 2008) and Time (March 17, 2008), CDS are insurance-like contracts that promise to cover losses on certain securities in the event of a default. They apply to municipal bonds, corporate debt, and mortgage securities that are usually sold by banks and hedge funds. The buyer of the credit default swap pays premiums over a period of time to the seller (typically a bank), knowing that losses will be covered if a default happens. In other words, the CDS is similar to someone taking out a home insurance policy to protect against losses.

According Harvey Miller, senior partner at Weil, Gotshal & Manges, "the CDS market has exploded to more than $58 trillion, which is almost three times the size of the U.S. stock market ($20 trillion) and far exceeds the $7 trillion mortgage market and $4 trillion U.S. Treasury market." Problem? The CDS market is not regulated. This market has no oversight to ensure that the parties involved have the financial wherewithal to cover losses if the security defaults. Solution? This market must be regulated just like other financial markets and securities.

The four most active banks in the CDS market are as follows: JP Morgan Chase, Citibank, Bank of America, and Wachovia (WB). (I would definitely keep an investment eye on Wachovia.) Indeed, according to the "Time" article, the top 25 banks hold more than $13 trillion in credit default swaps, or approximately 22% of CDS market.

The current financial focus on the mortgage debacle is well placed and deserving. However, given the size of the CDS market ($58 trillion) versus the mortgage market ($7 trillion), a potential meltdown of this market would have draconian ramifications for the economy.

The Top Ten U.S. Bank Failures

From Reuters: The following is a list of the top 10 bank failures since 1934, based on the size of their assets, as reported by the Federal Deposit Insurance Corp.

1. Washington Mutual of Henderson, Nevada and Park City, Utah; seized Sept. 25 with $307 billion in assets as of June 30.

2. Continental Illinois of Chicago, collapsed in 1984 with $40.0 billion in assets.

3. First RepublicBank Corp of Dallas failed in 1988 with $32.5 billion in assets.

4. IndyMac Bank FSB of Pasadena, California, collapsed in July with assets of $32 billion.

5. The American Savings & Loan Assoc. of Stockton, California, failed in 1988 with assets of $30.2 billion.

6. Bank of New England Corp collapsed in 1991 with assets of $21.7 billion.

7. MCorp of Dallas failed in 1989 with assets of $15.6 billion.

8. Gilbraltar Savings of Simi Valley, California, collapsed in 1989 with assets of $15.1 billion.

9. First City Bancorp of Houston failed in 1988 with assets of $13.0 billion.

10. Homefed Bank FA of San Diego failed in 1992 with assets of $12.2 billion.

Another One Bits the Dust

Washington Mutual (WM) was taken over by J.P. Morgan Chase. "Regulators were hoping to fend off a collapse of WM, which, with more than $300 billion in assets, would mark by far the largest banking failure in U.S. history." Just over a year ago, WM was selling for $41, today WM closed at $.45, a decline of 99%. Oh, how the mighty fall.

J.P. Morgan will get Washington Mutual's deposits and branches. The deal isn't expected to result in a hit to FDIC, the bank-insurance deposit fund, according to a person familiar with the arrangement. However, it's likely that another arm of government would have to pick up the tab problem close to $20 billion. So what else is new!

Do Credit Institutions Really Need $700 Billion?

Robert Higgs has written an interesting and enlightening article on his blog entitled, "Credit is Flowing, Sky Is Not Falling, Don't Panic."

Bush, Bernanke, and Paulson tell us that if we don't pass the $700 billion bailout plan that bank credit will cease, and the economy will collaspe. Let's look at the facts of bank credit and see if perception and reality are one in the same. In the above article, click-on the URLs for each of the following categories, which will illustrate the growth of credit at all commercial banks:
1. Commercial and Industrial Loans
2. Consumer Loans
3. Real Estate Loans
4. Bank Credit.

By the way, Congress just passed a bill that gives the U.S. auto industry $25 billion without any questions raised from the financial media. Wow! Where is all this money going to come from? I guess we better get ready for hyperinflation, higher taxes, higher interest rates, and a lower standard of living.

How to Circumvent the Short Ban on Financial Stocks

This piece of information comes by way of the "Financial Ninja." "The short selling ban is no such thing. The ban prevents the shorting of the cash equities on the banned list. However, futures contracts were never included in this ban.

Suppose I really wanted to get short the banned financials and had the financial wherewithal, like hedge fund. How do you suppose I go about doing that? Well, quite simple really. How about I short the entire market using the S&P futures contract, and then go LONG everything I don’t want to be short via different equity baskets, ETF’s, options, and swaps. This would leave me NET SHORT ONLY THOSE VARY SAME BANNED FINANCIAL STOCKS. (Granted, this is terribly inefficient, but it works.)

How long do you suppose it took those hedge funds to figure that one out? You think just maybe they poured over their models over the weekend and tweaked them real quick?

Furthermore, option market specialists have been exempted from the ban. This means I can buy puts in quantity while the specialist then goes out and shorts cash equities to hedge his/her exposure to the puts he/her just wrote me.

So what has changed? Not much, except that it is a little more difficult and a little more complicated. Perhaps just difficult and complicated enough to keep the “Little Investor” from getting and staying short, but not nearly difficult enough for the “Professionals.” The “Little Investor” is screwed again."

There you have it. If you have the financial wherewithal, you can get completely around the ban on shorting financial stocks; and, that is exactly what is happening.

$2.5 Billion Bonus for Bankrupt Lehman's New York Staff

Failure does pay in this upside, downside financial environment. Up to 10,000 staff at the New York office of the bankrupt investment bank Lehman Brothers will share a bonus pool set aside for them that is worth $2.5 billion. And I thought you give bonuses for success, not failure. Give me a break!

Wall Street: Greed is Good

From the 1987 movie entitled, "Wall Street," Gordon Gekko spoke before the Teldar Paper Stockholder's meeting about what is wrong with America and what the solution should be to fix it.

Gordon Gekko was by no means a saint. As a matter of fact, he definitely had major ethical flaws in his character. However, his 1987 comments to the shareholders of Teldar Paper definitely resonate with many of us today in the financial community.

FASB 157 Primer

Federal Accounting Standards Board (FASB) Statement 157 requires all publicly-traded companies in the U.S. to classify their assets based on the certainty with which fair values can be calculated. This statement created three asset categories: Level 1, Level 2, and Level 3. Level 1 assets are the easiest to value accurately based on standard market-based prices and Level 3 are the most difficult. FASB 157 was passed to help investors and regulators understand how accurate a given company's asset estimates truly were.

Level 1 Assets have readily observable prices and therefore a reliable fair market value. These assets include listed stocks and bonds or any assets that have a regular “mark to market” mechanism for pricing. Publicly traded companies must classify all of their assets based on the ease that they can be valued, with Level 1 assets being the easiest.

Level 2 Assets that do not have regular market pricing, but whose fair value can be readily determined based on other values or market prices. Sometimes called “mark to model” assets, these asset values can be closely approximated using simple models and extrapolation methods using known, observable prices as parameters. Part of an overall requirement of publicly traded companies is that they are required to report to investors the makeup of their assets based on certainty of fair value calculations.

Level 3 Assets whose fair value cannot be determined by using observable measures, such as market prices or models. These assets are typically very illiquid, and fair values can only be calculated using estimates or risk-adjusted value ranges. I like this method of determining fair value assets as "mark to myth," or "mark to management's best guest," or "mark to a hope and a prayer."

Prior to the implosion of the past several weeks, Merrill Lynch stated that it's most difficult to value Level 3 assets (First Quarter of 2008). Its percentage of Level 3 assets to total shareholders' equity was 130%. Bear Stearns' percentage of Level 3 assets to total shareholders' equity was 314%. Goldman Sachs' percentage of Level 3 assets to shareholders' equity was 192%. Lehman Brothers' percentage of Level 3 assets to shareholders' equity was 171%. Morgan Stanley' percentage of Level 3 assets to shareholders' equity was 235%.

The dynamics of the past couple of months demonstrate that the financial community has forgotten what they should have learned in any basic finance course is that leverage is a "two-edged sword." It enhances profits during the expansion phase of the economy but exacerbates the overall profitability during economic downturns.

All companies must immediately disclose the dollar amount of Level 1, 2, and 3 assets to the public. I am not talking about this disclosure in the 8-Ks, 10-Q's or 10-Ks. What I am recommending is that financial service sites, such as Morningstar, Yahoo Finance, Wall Street Journal Online, Barron's Online, etc., incorporate this data when they provide balance sheet information to the public.

SEC and Financial Leverage

Want to get really mad? Up until 2003, all investment banks were allowed only 12 to 1 leverage (Equity Multiplier). If you recall from our session last week, that a leverage factor of 12 means that asset values would have to decline in value by only 8.3% to completely wipe out a firm's capital (net worth). Then in 2004, the SEC basically gave just five investment banks the ability to leverage up to 30 or even 40 to 1. At 40 to 1, asset values would only have to decline by 2.5% to completely wipe out a firms capital. Anyone want to place a bet on naming those five investment banks? They were Bear Stearns, Lehman Brothers, Merrill Lynch, Morgan Stanley and Goldman Sacs. (Three down and two to go)

Barry Ritholtz wrote in the Big Picture: "So while the SEC runs around reinstating short selling rules, and clueless pension fund managers mindlessly point to the wrong issue, we learn that it was the SEC who was in large part responsible for the reckless financial leverage that led to the current crisis." (Don't get me started on blaming the short sellers. Let's put the blame on where it directly belongs. That is the SEC for allowing investment banks to increase their leverage and the individuals who leveraged their companies 40 to 1 with bad investments to enhance profits.)

What the SEC has to do immediately is to have all investment banks reduce their leverage factor to the pre-2004 level of 12:1 from the current 30-40:1.

Don't Bail Them Out!

Conventional wisdom states that our government did not have a choice. It had to "bail" out FannieMae and FreddieMac, because according to this wisdom it was a natural disaster. It had to come to the rescue by pouring billions, if not trillions, of dollars at the problem. If our government did not intervene, this wisdom states our economy would suffer the consequences of another "Great Depression."

Non-traditional wisdom states that the price system through market operations should prevail, not government intervention that usurps the market's ability to determine asset values. "This wisdom states that what should have happened in 1929 is precisely what should happen now. The government should completely remove itself from the course of action and let the market reevaluate resource values. That means bankruptcies, yes. That means bank closures, yes. But these are part of the capitalistic system. They are part of the free-market economy. What is regrettable is not the readjustment process, but that the process was ever made necessary by the preceding interventions, which will make the underlying problem worse!"

The Spending Explosion: Will it ever stop?

Interesting article today in the "Wall Street Journal." From its "Review and Outlook" section, they analyze the spending debacle coming out of Washington, D.C. as promulgated by the Congressional Budget Office.

Oil Prices: WTIC (West Texas Intermediate Crude)

From the post of Monday, September 8, I illustrated the close relationship (inverse) between the dollar and oil over the past year. That is, when the dollar strengthens, oil prices weakens. The following "Point and Figure Chart" on oil, which is the type of chart I use to discern long-term price trends, reinforces that relationship. Major support has been broken significantly. The downside price objective is now currently at $96. Who would have thought back in July when oil was at $145 that we would be discussing oil under $100. And, who would have thought a few short month ago that the dollar would be one of the strongest currencies in the world. I have learned many lessons in trading stocks over my investment career, but the best "lesson learned" is to always let the market tell you what to do, rather than trying to tell the market what to do.

Fannie and Freddie: Understanding the Financial Crisis

FDIC insured banks have about 8% of capital (net worth) for their outstanding assets (equity/asset ratio), which are mostly loans. Fannie and Freddie had an equity/asset ratio of 2%. What this means is that for $50 of assets, they had debt of $49 and $1 of equity. In other words, Fannie and Freddie used a lot of debt (leverage) to purchase their assets (mortgages).

What this means is that for every $1 million in capital (net worth), Fannie and Freddie can lend out $50 million. The profit is the difference in the cost in acquiring the debt and the interest rate that Fannie and Freddie received. Let's assume that Fannie and Freddie earned 8% on its assets and had to pay 4% for its debt. The difference of 4% is its gross profit, or 4% times $50 million is $2 million. Now keep-in-mind, Fannie and Freddie had $1 million in equity but earned $2 million. Nice profit!

Of course, you have to be able to take some losses, which, of course, Fannie and Freddie were not prepared to do given the sub-prime debacle of the past year. If they had a $3 million loan go bad, they would have completed depleted their profits and wiped-out all their capital. If Fannie and Freddie were going to exist, they would have had to raise additional capital, which no one wanted to do, or sell off their assets (mortgages), which, of course, no one wanted. And that is the reason why the government intervened. The government is not calling it a "bail-out," but else would you call it.

Dollar, Gold and Oil "Price" Relationships

The relationship between the dollar (UUP) and both gold (GLD) and oil (USO) over the past two two years has been inversely related. See the following chart:

From the chart, one can observe that the peak in oil and gold corresponded to the low in the dollar in July 2008. Since then, the dollar has rallied and both oil and gold have decline. The key going forward from this point must be to track what happens to the dollar. We will definitely follow this relationship.

GDP: Growth Adjusted Upward by 3.3% for Second Quarter

The initial version for second-quarter GDP growth was an increase of 1.9%.  This growth was revised upward to a very robust 3.3%.  Should one start singing "Happy Days are Here Again?"  I for one will not start singing the chorus.  The key to the revised figure is the "GDP deflator," which is a macro inflationary statistic.  (Side Bar: The lower the deflator, the greater the growth of GDP will be.)  Now, according to this deflator (inflationary measure), inflation grew at only 1.33% during the second quarter. Does anyone believe that?  John Williams of the Shadow Government Statistics points out that the supposed 1.33% increase would represent the lowest inflation rate in five years.  Interesting that the CPI number for the same quarter was up 8%!  I guess the two computers that measure the GDP deflator and CPI numbers don't communicate with each other.  By John's calculations, the GDP would have contracted by 2.9% year-over-year.

World Oil Reserves (May 2008)

Future Price of Oil

From the following chart of West Texas Intermediate Crude Oil, what is your estimate for its price?  Explain how you arrived at your forecast.

Price of Gas: Facts and Economic Logic

Read the following article entitled, Economics 101: The Price of Gas.  Prove by using the price calculator from the Federal Reserve Bank of Minneapolis that based on just "inflation and taxes" that the price of gas today should approximate $3.28.

Based on the profit margin of major oil and gas companies in relation to other industries, why do you think that the oil companies are being singled out by the media?  

How does one identify the underlying trend of the market for optimizing profits?

As of May 9, 2008, the market as measured by the S&P 500 (SPX) is currently in a major correction or bear market. In determining the market trend, the relationship between the 15-week and 40-week EMAs (Exponential Moving Averages) is a very useful investment tool. If the 15-week EMA is above the 40-week EMA, the market trend is up. Conversely, if the 15-week EMA is below the 40-week EMA, the market trend is down. Take a look at the following ten-year chart that illustrates the significance of the relationship between the 15- and 40-week EMAs:

Clearly, the 15-week EMA lies below the 40-week EMA. Therefore, from a market trend perspective, the market is in a major correction. Over the past ten years, this investment approach has been excellent. If the investor would have sold his/her S&P 500 investment in late 2000 at approximately 1,450 and then purchase it back in early 2003 at approximately 925, that investor would have eliminated a 36% lost. Purchasing at 925, early 2003, and holding the investment until January 2008, you investment return would have been 57%.

Currently, investors would be out of the market and in a money market fund or an inverse ETF, such as DOG, DXD, SDS, or QID.