Sunday, September 30, 2007

October Starts

Just a quick note this evening, there just isn't much to report. The first week in October should bring some reality back to the stock market but there doesn't seem to be a bear in the house after September's almost unbelievable rally. We didn't forget that the Fed intervened in order to preserve what's left of the economy.

The WSJ reports that the news in mortgage space is the Swiss bank UBS. Recently, UBS had some losses in one of their hedge funds and got rid of their CEO. Now, UBS plans to write down nearly $3.5 billion in assets, including assets based on US supprime mortgages. This is a large number and makes UBS a high profile casualty and will raise questions about their management of securities since they expanded into the US.

These are the WSJ's thoughts but we wanted to keep you up to date on the continuing problems in the mortgage world. So, while the Fed has lowered rates and the stock market thinks the problem is "taken care of", the mortgage world is still in disarray. The fallout from the housing market will affect the economy and the stock market for some time.

We'll be back tomorrow.

Thursday, September 27, 2007

More Housing News

When we look at the market trade this week, it is a wonder that anyone is paying any attention at all. Volume is light even though the end of the quarter is upon us and some of those funds need to show good stocks in their portfolio. Between short sellers covering (buying stocks to cover their position) and window dressing, there doesn't seem to be much to talk about in the stock market...

So, we will again turn our attention to the housing news that came out on Thursday. The first news was the new home sales and they were dismal at best. The WSJ headline reads New-Home Sales Hit 7-Year Low and this appears to be on page A3 of Friday's paper so it is buried deep. The number was much less than expected and the past two months were revised downward, like we said, dismal.

This might have been good news for the stock market but it is pretty overbought at the moment and can't take advantage of such good news. (you still recognize sarcasm, we hope) The WSJ article makes a comment about the weekly claims for unemployment saying they were down which "indicated the labor market might be in better shape than was suggested by a report, released earlier this month, showing payrolls in August fell for the first time in four years."

This kind of journalism is typical in a bullish environment. We only have to wait a week until next Friday when we see what the jobs' report is for September.

In other housing related news, KB Home reported a loss for the quarter of 46 cents versus last year's $1.90 profit.

According to Bloomberg, the new CEO of Fannie Mae, Daniel Mudd said the housing slump will last beyond next year, dragging down home prices and increasing credit losses. Mudd would like the government to allow Fannie Mae and Freddie Mac to help out, "Let's loosen this up a little bit and give us a chance to respond in a market where all the other investors have gone away. We're not the whole solution to this problem but we can certailnly play a part." He would like an increase in Fannie's market cap of 10% when OFHEO, Fannie Mae's oversight body, said maybe 2%.

Over in the credit market, mortgage rates did exactly what we thought they might. The fixed rate mortgages went up some and the ARM's went down. What's a buyer to do???

Meanwhile, a funny article about Chuck Norris's tears providing some liquidity brings some comic relief. We thought you might enjoy it.

The market gets closer and closer to the edge and we seem to be waiting forever but when it goes, it will be something to behold. This little low volume rally is being touted as a great thing by all those bulls who Believe in the magic of the Fed. Stay focused.

Wednesday, September 26, 2007

Dull Days for Quarter End

We realize it's Wednesday but there really isn't much to say this evening. The only thing that stood out to us today was the odd price drop over in the NASDAQ right around lunch time. The way trading began on this end of quarter Wednesday was much like is expected, up and away, for quarter end window dressing as it is called.

That was what happened early on but there was a large selloff mostly in tech during the lunch hour which kept the NASDAQ to lower gains than the Dow for the day. It was looking like the normal tech rally would rule the day but as it turned out, the NASDAQ couldn't hold it. Going into the close the Dow made a pretty good run that the NASDAQ just couldn't keep up with.

But, not to worry, Warren Buffet is going to be buying Bear Strearns, or so the media is leaking today. The rumor is from the NY Times but is otherwise unsubstantiated. CNN Money reports:

Andy Kilpatrick, the stockbroker-author of "Of Permanent Value, the Story of Warren Buffett," said it seems like only one in twelve rumors about what Buffett's Berkshire Hathaway Inc. might buy is true.

But this time there's a connection: Buffett and Bear Stearns Chief Executive James Cayne are friends and have played bridge together in the past.

"I would believe Buffett is talking to them because they are friends, but how far it's gone, who knows?" Kilpatrick said.

The market seems to want to believe anything as Bear was up over 7% on this rumor.

Tuesday, September 25, 2007

Housing Troubles for Lennar

The existing home sales were down but not as much as expected while consumer confidence was down much more than expected. The first item, other than the fact that the sales were not down as much as expected, means the Fed is still going to have to do something about it. What could the Fed do, you might ask? No, you wouldn't, you already know they can lower interest rates which everyone knows can fix all ills.

The second item is a little more subjective. It seems that the last day for contributions to this number was the day of the Fed's latest interest rate cut. This tells the market the party can continue because had consumers known about the rate cut they would have better confidence. This is an easy game to play.

The bombshell news from Lennar homes should cause many to shudder but the stock market manages to turn its ears and eyes away from any fundamental news in order to bid up tech, that would be AAPL today. We mentioned the Target and Lowe's news in our last post and they both had tough days on Tuesday.

Lennar, second largest home builder by market value??? which only went down 4% today, announced that its revenues had dropped 44% and earnings were not there as they reported a $3.25 loss after major writedowns, an amount six times what Wall Street expected according to an article in the WSJ for Wednesday. [The article is front page entitled "Housing Chill Grows Worse, Bites Consumers".] They announced that they have laid off 35% of their workforce due to the housing downturn. These cuts are not contractors but support staff.

The news on housing continues to come in worse than expected and we are not surprised. The stock market doesn't think there is anything to worry about because the Fed is there. The housing slump is being compared to the situation back in 1991 but the inventory is much higher in today's market than back then.

We are including a link to a good article from CNN Money today making comments about the housing environment.

We quote the article here for highlights:

With inventory at an all-time high, the 10-month supply of homes has not been topped since May 1989, according to Mike Larson, a real estate analyst with Weiss Research.

"The supply of homes goes up and up every month," said Larson, who blamed much of the rise on listings put up by investors trying to get out from under unprofitable homes they bought during the boom.

"Sellers are still not being realistic about selling prices. They have a false sense of the worth of their homes," he said. Owners who do not need to sell quickly are holding out for their asking prices.

That explains the contradictory trend of fairly stable prices but sharply lower sales numbers. The slight August rise in the national median price "is not reflective of what has to happen to clear the books of inventory," said Larson.

These comments are straight from the NAR (National Association of Realtors), an organization that is usually fairly upbeat.

Our favorite quote from Larson is:

"We'll find out next month if the Fed cut will turn the market around."

Yes, he'll know next month. We don't think so.

Monday, September 24, 2007

Just a Regular Monday

The action on Monday paled in comparison to all the action occurring last Friday during options expiration but the market did manage to do an about face. The NASDAQ 100 thought it was in Vegas as it was up 7.77 on the day. We’re not sure what the payout was but the number seemed lucky.

Speaking of the NASDAQ 100 (NDX), that is where the four horsemen reside and they were highly sought after today. RIMM, AAPL, GOOG, and AMZN had multiple point runs on Monday and helped the NDX to one of the only gains for a major index. The Dow was down just over 60 along with most every other index.

Other than that there wasn’t much going on in the market on Monday. The big news was the strike by the UAW against GM. We mentioned a while back that the company had made claims about the demand for cars being strong enough that they could reduce the rebates they were offering. This was during the negotiations with the union. We wonder if whoever was responsible for that leak is still working there.

The other big item was the statement by the IMF that, according to the WSJ, “although global economic fallout from the US subprime mortgage crisis is likely to be protracted, governments shouldn’t rush to regulate everything.” The IMF also said that “it is trying to prevent future crisis by highlighting potential problems ahead of time.” OK, this report follows their thoughts back in April when the fund said that a “major dislocation still appears to be a low-probability event.” So, now they want to highlight potential problems ahead of time, right…

After the market closed, Target and Lowe's announced some news that indicated sales were down and earnings would probably be down as well. Of course, Lowe's blamed it on the housing slump, which is no surprise, but taken together, these two strong retailers are making it known that the consumer may not be shopping as much as even a few months ago. Could this be some of what the Fed was concerned about when it cut rates last week?

Tuesday we get to see the existing home sales for August as well as some fairly new consumer confidence numbers. We'll see if the bullish attitude has permeated into the consumer confidence numbers. We're not quite sure that the normal consumer has derived much confidence from the Fed's 50 bps interest rate cut. We don't think so especially with the news from Target and Lowe's . The expectations are for a small drop in the confidence numbers and a fairly large drop in existing home sales.

Sunday, September 23, 2007

The Calm

It's Sunday evening and we are calmly writing this post. The Fed's action last week brought many negative opinions for the 50 bps cut but the Fed in its infinite wisdom has given Wall Street a chance to rally. We were a little surprised by the negative tone over the weekend. The local paper had a front page article entitled "Mortgage troubles are here to stay". Didn't the author read that the Fed lowered rates by 50 bps and there shouldn't be any more worries? Yes, sarcasm is alive and well here at the Update.

The article was gloomy and gave stats on subprime mortgages in the area. From a 7% proportion of subprime mortgages in 2004 for one of the wealthiest areas here, the percentage jumped to 17% in 2006. Other areas in the counties that contain Minneapolis and St. Paul, the percentatges are 26% for Hennepin (Mpls) and 30% for Ramsey (St. Paul). One of the metro areas had a 36% subprime percentage in 2006. These percentages represent the number of mortgages that were subprime. (We're not sure if the number or the dollar amount would be more representative but the percentages are high.) All told, in the 11 county metro area the number is 26%. That's 26% of all mortgages written in 2006 were subprime.

The state has passed a new predatory lending law that took effect last month but it won't be able to help the folks that are already in these loans. But, maybe going forward, there will be less trouble for borrowers...meaning they won't get loans and won't be buying houses. The new rules say that subprime loans can not have pre-payment penalties (apparently 70% of subprime loans used to have pre-payment penalties). Plus, closing costs can't be more than 5% of the loan amount (apparently many subprime mortgages carried much higher fees than that, no wonder the mortgage market was booming).

And, last, in order to qualify for a loan, you have to be able to pay for the highest rate the mortgage will be able to charge. So, for an ARM that can reset to 11% even though it starts out at 5%, you have to be able to qualify for a payment based on 11%. You may recall that some ARM's had options that allowed the borrower to pay Less than the amount due on the mortgage, in a practice that is called "neg-am" or negative amortization. This practice allows the mortgage amount to go up since the loan payments are not enough to cover the interest.

Another article in the paper told the story of a 66 year old man who was facing foreclosure on a loan he had just taken out last December. He had bought the house back in 1975 for $24,900 and raised four children there. He entered an agreement to borrow $186,500 on an ARM starting at 1.75% interest which is now 8.625% about 9 months later. Plus, it was an Option ARM and he didn't actually have to pay the full amount of the mortgage. The full payment for the loan was $1,421 but he only had to pay $540 on his minimum payment option. So, he found out his balance had increased in that short period of time to $191,066.

This gentleman is trying to find a way to renegotiate his loan with Countrywide Financial, where have we heard that name before? They are downsizing by 20% of staff and are not in the business of renegotiating loans in order to make less money. We'll see how this all plays out. We wonder what the man did with $186K, although we know some of it was spent on medical costs.

Meanwhile, the stock market marches to a different drummer or is it the Piep Piper in a beard. We keep wondering what the market is trying to do in the face of almost certain recession. They truly believe the Fed can save them.

Please take a look at the True Contrarian at the link on the left. He tries to defend the dollar bouncing strongly and we have thought so too for a while but it has kept on going down. If the dollar would turn around that would give pause to most of the other markets (with the possible exception of the bond market).

Thursday, September 20, 2007

What Hath the Fed Wrought (Rot)?

With the stock market off in its own little world we thought we would try to stay here in the real world and continue our exploration of the current situation. The main thought for today is the real effect of the 50 bps drop in short term rates.

In the last two days, we are seeing immediately what the other markets think. The stock market doesn’t seem too concerned about any of these particular issues, for now. Let’s start with the bond market, Treasury style. On Tuesday morning before the decision on rates, the ten year Treasury yielded right around 4.46%. Then the Fed unleashed its news. The rate at Thursday’s close just two days after the rate CUT is 4.70%.

Wait a minute, what did that say? Did that say the ten year Treasury rate went up 24 bps after the Fed lowered the funds rate by 50 bps? It sure looks like it. What happened to the 30 year rate? Well, the rate just prior to…well, you know… was 4.70% and Thursday it closed at 4.97% for a 27 bps jump. If we take a look at the short end of the curve, rates did drop a little and thereby creating a steeper yield curve.

We think the steeper yield curve sort of creates a new demand for ARM type mortgages again??? With the current ARM rate very close to the 30 year rate, there really is no very good reason to get an ARM, option or otherwise. True, for those who have ARM resets coming up, there might be some relief. That’s not to say there is a lot of relief from the one purchased about two years ago when rates were near zero but there is some relief.

We still think the rate cut is primarily for those Wall Street companies that may have gotten a little away from perfect fundamentals of their business. Now, you can see that the normal citizen of this country will not benefit much in the way of a good fixed rate mortgage since the basis for those rates jumped about a quarter of a point since the Fed dropped its rate by half a point. Nice.

Meanwhile over in the oil pit, the price has jumped after the rate decision this week, too. Going back what seems like just a few days ago, oh that’s because it was, the price of oil was just over $80 on Tuesday morning and on Thursday it closed at near $84 a barrel. The problem here is not just oil it’s…

The dollar did not like the rate cut and dropped considerably with the full markets believing that the dollar has no bottom. Since oil is sold mostly in dollars, the price of oil compared to the dollar, well, it went up. We can only say that this rate cut must have been very important. The implications as we have mentioned here this evening had to known before the decision was made. You tell us, what are they so scared of???

Wednesday, September 19, 2007

It's Party Time Thanks to the Fed's Cut

Buckle up, this is a long one.

We were going to rant and rave about the Fed’s action this week as well as get into the long term implications but we have decided to forego all of that in favor of a night off or two. Besides you can read all about it on the internet for yourself.

Did you notice that the CPI fell 0.1% last month according to the report out Wednesday morning? What was glaringly missing was the ever present reference to the "core" inflation rate. Like we have been saying, as soon as the real rate was lower than the "core" rate, they would report the real number. It's such a game.

Anyway, we were fairly convinced that the market had shown us that it wanted to go down starting in July and that wave took us to the August lows. As we watched the market move up from the rate cut news on Tuesday, we are convinced that the Fed was watching the same things we were and that they wanted to stop this train from going any further South.

With that said, the possibility of the Fed being able to prop up the market much more is growing weaker by the minute. We are of the opinion that what is coming from the consumer side is very poor retail sales going into the holidays. Lower short term interest rates either are justified or they are not so if the Fed is justified then is seeing the appropriate items and wants to stem the tide of deflation as soon as possible. Unfortunately, this overly aggressive 50 bps move can only mean that the Fed is scared.

The stock market interpreted the Fed’s statement this week as further rate cuts are coming which is something we believe, too. For the moment, the stock market thinks it’s party time but they don’t realize that the Fed sees some bad things down the road just a little ways. Of course, the only thing the Fed can do is pump money and lower short term rates. At least, that’s all it can do on the surface.

So, we have the Dow now up 11% on the year and the Fed feels that a rate cut is necessary. Does this means that the stock market is not the discounting mechanism it used to be and the Fed is out in front of the market??? We can’t even type those words without wondering if that is even possible. Conclusion is that the Fed is very worried about the effects of deflation and would rather worry about the ramifications of the dollar dropping and inflation coming back because of it. They said as much last week as we have noted here on two occasions.

The Fed must have weighed the risks that the stock market would go up a lot in the aftermath of their 50 bps drop against the bigger evil of deflation coming calling. We still think deflation is stronger than the Fed and will have a powerful (negative) effect as it rolls through the economy. We saw a mini-version of it over the past couple of months in the mortgage market and we think that is just the beginning, with a little timeout to watch some Fed incited stock market gains.

The value of many mortgage backed assets declined rapidly over the last couple of months as losses mounted in some heavily leveraged hedge funds. This caused everyone to look around and say maybe we priced these assets inadequately. So, we ask the question, “Why are these assets going down in value?” Well, that’s because the underlying payments are not coming in like they were supposed to in the agreement. As more and more homeowners start to miss payments on their mortgages or defaults occur, the mortgage holders will not get as much money back as they thought. Then these houses will need to be sold as defaults happen. This causes the real estate market to spiral downward as more and more inventory comes on the market with less and less buyers.

The situation involves many parties but it is very simple:

I own a home that I’ve owned for, say 17 years. I get a call from someone who says I can lower my payments and take some money out of the house for other expenses such as a vacation or a new car/SUV. Plus, the best thing is that my payments don’t have to go up at all with this new fangled option ARM loan. I say, ok, let’s do this thing. Now, my fixed rate mortgage that only had 13 years to go on it is refinanced to go back to 30 years of payments. This does not consider the price appreciation on my house. Let’s say that when I bought my house, I paid about $200K for it and now it is worth, well, $425K. So, my mortgage broker says hey great let’s take out a $425K loan and you can pay off that loan you had left of maybe $125K and you can actually take out an additional $300K.

With that money burning a hole in my pocket, I decide to invest in more real estate since by golly it’s going up right. I get hooked up with a broker down in Florida who says there’s a great deal that I need to take advantage of right away or I will lose it. That doesn’t make me slow down; I want that property before it goes to someone else so offer a little more than they are asking for it. We sure wouldn’t want to miss out on it.

So, I buy the property without actually going to look at it and start making monthly payments on it. I didn’t intend to keep it just to keep it long enough to make a little money on it. Now, the market for that condo I bought across the highway from a graveyard can’t be sold due to there being no buyers for it. Yes, good real estate in good areas is doing ok but I didn’t buy one of those so mine will have to sit on the market for a while, or maybe more.

Then my mortgage company sends me a letter telling me that it’s been 2 years that I’ve had the loan on the condo and that they are now going to reset my mortgage payment to a slightly higher rate. (They said it was one of those 2/28 plans that resets after 2 years.) My payments will only go up about $500 a month. The property tax statement comes in the mail and that too suggests that I might have to kick in a little more in the way of helping the governor. Oh, and by the way, the association fees are going to have to go up a little on the condo because we have a lot of empty units that haven’t sold so we need to do an assessment on the current owners.

Two years ago, I had a nice simple life with only 13 years left on my first mortgage, which would have been only 11 years, now that I think about it. Today, I have a mortgage payment, association fees, and other costs for managing my Florida condo and I have 30 years, ok only 28 years, to go on the mortgage on my residence. What should I do?

Ok, well, certainly this scenario could be adjusted to take other events into account like doing the cash out thing more than a couple of times and maybe buying a few pieces of real estate that actually worked out, but you get the general idea. The people in these types of situations are strapped for cash and holiday shopping will be done on credit cards if they can swing it but we say that they did that last year and this year will be much tougher.

But, multiply this scenario by the many people who did this and you can start to see that a 50 bps drop in the short rates will not help the situation. What will happen is that the condo will most likely be abandoned and the person may actually lose their first residence due to this situation. As you know you read about many people who have defaulted on their mortgages and have lost their homes to foreclosure. This is a major deflationary event by itself. Taken as the millions of times it happens is a catastrophe across Middle America. But, the Fed is there to lower rates and provide liquidity for the investors on Wall Street who made these types of loans available.

This is the definition of moral hazard…and it results in deflation with a capital D.

Tuesday, September 18, 2007

Fed Does a Big Number

As we watched the market at 1:15 CDT, we saw the prices jump hard and knew that the Fed had lowered the full 50bps. Then the news hit and we weren't surprised one bit, the market had already told us.

As we look back, we should have known they were going to go the full amount. Looking back at the 50 bps drop in the discount rate, with encouragement from the Fed for the banks to borrow at the discount window, a few weeks back to the Fed's heavy repo activity and then all the way to last week when Helicopter Ben was talking about how the dollar could go down a little to help the trade situation. So, now we know that the new Chairman of the Federal Reserve is living up to his nickname, Helicopter.

Needless to say, the Fed has so far done the bulls a magnificent favor by lowering rates 50 bps, or so they think on Tuesday. Bill Gross now is saying that the fed funds rate will come down another full percent to 3.75%. While we agree with his assessment that the rates need to come down due to economic weakness, the market still thinks it is party time.

We were very surprised by the big move the stock market had. We are similarly surprised at the Fed's lowering these rates even before the stock market went down very much. No one in the stock market has been burned by a drop in prices. The most we saw in terms of downside was 10% and that was during one day and then prices rallied the same day. These participants are fully behind the new found money that the Fed is willing to dish out. We were not so surprised at the big up move the precious metals had.

In any event, we did not have a good day at all. And, with that, we are going to wait until tomorrow to see if there is anyone out there who thinks that selling is a good idea. With the Fed out to make sure the stock market goes up, we are questioning short positions this evening. More tomorrow…after the world is done celebrating the Big Number.

Monday, September 17, 2007

Tuesday is Fed Day

Monday’s trading didn’t give us much more to go on and probably with good reason, the pending, or should we say impending, rate decision due on Tuesday. As the world waits for Bernanke and company to present their case, there isn’t much going on in the way of trading. Tuesday should bring some of the traders back to the market.

We find the news all over the place but the media seems to want to keep the public in a state of confusion. What we mean is they are trying to say different things: that the market won’t react much to the interest rate moves or the market will go down unless the Fed lowers 50 bps or that the 25 bps move won’t do anything to help the economy for some time.

While we hold that the Fed is there to protect the banks, if the Fed lowers 50 bps the market will believe it’s party time; and, more important, the Fed knows this and will hesitate to oblige such market wants. The market doesn’t believe that the economy counts when it comes to trading. All that matters is that the Fed provides lower rates in order that the market goes up.

All things being equal, the Fed dropping rates 50 bps is akin to saying that the banks are in some difficulty and the economy is suffering. We think the Fed has to lower rates by 25 bps. The reason is that the credit market already has moved to this new level. The Fed never acts unless this is the case. Well, in this case they have been doing their best to make that happen by providing liquidity to the dry market. At the same time, the mere cutting of rates means that the central bank wants to stop a slide that is going on in credit. That is the way you can tell that the market is going to have trouble, the Fed is trying to encourage more borrowing by lowering rates. What they truly want is for a graceful bubble pop because they know the credit contraction has begun and a major contraction would take down the banks as well as the economy.

As we are seeing with Northern Rock in England, the central banks of the world are doing whatever they can to avert an out and out run on the banks. The central banks are all a little nervous with the global situation as it has been requiring their attention recently. They want the problems to go away and one way to do that is to step up and provide the liquidity.

But, we need to get back to market analysis: We think the market will find any rate cut worthy of buying at least for a few minutes but that may not be very much. If the Fed is foolish enough to give the market what it thinks it wants, a 50 bps cut, the market will party for more than a few minutes but not more than a few days. If only a 25 bps cut comes, then the market will pout a little but will dutifully trade up for a few minutes and then realize that there is no upside and will sell off. With no rate cut, is that possible?, there will be an immediate drop in the market with a big rally after that lasting long enough for the Dow to move up around 13,550 or so. Just for reference, the Dow closed today at 13,403.

Let’s discuss this tomorrow evening after the Fed is done with their business…

Sunday, September 16, 2007

Waiting for the Fed

In the news over the past several days is the Northern Rock bank having a little run on the bank as well as the GM strike. In England, the depositors of Northern Rock withdrew about £1 billion, or $2 billion, on Friday and over the weekend either at the branches or online, representing about 4% of total deposits. Reports indicated that the online portion of Northern Rock’s business seemed to be “freezing up” all day long presumably due to heavy volume. On Friday morning, Northern Rock solicited the help of the Bank of England as it is feeling some financial stress due to its, yes, you guessed it, mortgage portfolio. We are particularly intrigued by the Name of the company, Northern Rock, as in, solid as a Rock. The news this evening has the bank facing more dramatic withdrawals over the next few days. This is something that we should be paying attention to.

In the housing sector, the CEO of Hovnanian, a home builder, announced that the housing market is very near a bottom. We seem to hear this every week or so but the traders in those homebuilders like the news and bought those stocks. This doesn’t seem like the best of advice.

We just wanted to comment on GM. The company says that it doesn’t need to increase the rebate program because there seems to be strong underlying strength in demand for cars. We question their timing as they are dealing with the unions over the past few days to iron out some contracts. We just find the news to be contradictory and therefore maybe less than correct. No, we don’t really know what’s going on there. If we hear more, we’ll make more comments here.

One of the most off the wall pieces of news this past week was the Greenspan admission that he didn't really see the subprime problem. Is this the type of thing you say when you're trying to sell a lot of books? We don't think so but we saw the genuine look of wonderment on the face of the great Maestro. Would you say his reputation is starting to get a little tarnished?

The stock market seems content to just wait until Tuesday’s Fed news. The pattern is still the same with another stretched top forming. Presumably the traders will wait until Tuesday afternoon to trade one way or the other. So, we will continue to be patient because there is a large distance to travel in the southerly direction and one or two days of waiting isn’t too bad.

This week brings some key broker earnings reports as well as some other company’s reports so there are several potential landmines this week. The market probably does need something to sell for even if it has to be the Fed’s announcement or some earnings news. We think this week holds some possibly very negative price movement. This is also options week.

Thursday, September 13, 2007

Only Another $12 Billion

CFC (Countrywide Financial) was in the news in a big way, $12 billion. Apparently, the banks are willing to loan even more money to this company in order to keep it afloat. Bank of America probably is feeling better after this latest move because the stock price surged over 12% after the news and above the B of A's 18. The market thinks that just because CFC lined up some more financing, there are no more problems in credit. While many problems have surfaced, that doesn’t mean they are solved or will be solved in an easy manner. But, on Thursday, the market was happy to trade up starting early in the day.

The next few days seem to be important to the pattern we have been discussing. We are looking back to the high of last week and notice that it seems to be getting closer. We have been fairly confident that we wouldn’t see it again for a long time but here we are back close again. We need to remind ourselves that the market has come off its highs of July and August and this move is not exactly strong. The way the market ended the day on Thursday seems to be the story. The early birds are buying this market and the late traders are selling it and this runs counter to bullish trading. The light volume is another key ingredient that pushes us into the hugely bearish camp.

Next week should prove interesting. We will see if the market thinks so. Tonight, we are just amazed how so much money can be injected into the banking system in such a short time. The Fed seems to want to avert any crisis by pushing money by buying hand over fist. Obviously they have deep pockets and can provide some confidence for some time. We think they continue their bet that they can prevent a collapse simply by adding money to the system. We obviously do not believe their injections will help the economy; but it will help the banks which in turn will keep their depositors happy or liquid if they have any cash at the bank.

We were referred to a very timely article by a Bank of England governor which we would like you to have access to here. For a bit of a easier read, this article should provide the highlights although the previous article is readable and talks about the bank conduits we have mentioned here with too little space to explain them very well. This article does a pretty good job describing how they work and the way the banks will probably need to bail them out. Fleck pointed this out in his Daily Rap today and we thought you might enjoy it, too.

We did say we would make a determination on the Fed move for next week but we think the market action of the tomorrow and Monday will somewhat determine what they do. We would like to defer our educated guess until Sunday evening with another shot at it on Monday night. In the mean time, we think the Fed is doing all it can to avoid lowering rates next week. Their constant reserve injections and the banks constant and heavy borrowing at the discount window are all designed to prevent the rate cut next week. From all the readings we do as well as how the market trades, it seems that a 25 bps cut is a foregone conclusion. We’re not sure that is the case but if you pushed us hard tonight we would probably agree with a 25 bps cut. We still lean toward none at this meeting. You can weigh in on this topic in the comments—we all look forward to it.

Wednesday, September 12, 2007

Just Another Day

[Editor's note: You may have noticed the new format of the Update. We wanted to add the website to the links on the left and had to upgrade to this new look in order to do that.]

The stock market had its ups and downs on Wednesday but mostly ended with little change in the major indexes. While we know it's Wednesday, this post will be necessarily brief. Maybe the market can get in gear to the downside soon. The pattern is still very negative and we are patiently, or not, waiting for some downside strength to develop.

We have previously noted the Dow and the price of oil moving up together and today, with oil at record levels (even though OPEC promises to pump 500K more barrels a day), you might expect the Dow to be at record levels. Well, that just isn't the case now. Gold has moved higher along with oil but no longer has the stock market been in this group. This seems to be a significant change.

CFC (Countrywide Financial) was in the news again on two counts the last two days. The latest news is that some employees have sued the company along the lines of Enron. The employees are saying that the company failed to tell them just how bad things are??? and they kept their money in the company stock.

The other piece of news is that CFC is looking to put together yet another multibillion dollar cash infusion, this time with JP Morgan and/of Citicorp. Meanwhile, what does B of A think of this or that the stock just keeps blog had the title CountrySLIDE. Wish we would have thought of that.

Back to the market, today's trading was pretty quiet but the undertow was negative. The breadth was leaning toward decliners and decliners' volume. There were even more new lows than new highs. The market is not showing its strong side but we still haven't seen any serious sellers. There are still things going on in the credit markets that warrant attention but the stock market believes in the almighty Fed and their powers to bail out the stock market. This, even though, the stock market is up on the year???

Tomorrow, we will make our best guess as to what the Fed will do next week. This is kind of exciting, we haven't had a move opportunity in a long time. What will they do?

Tuesday, September 11, 2007

The Fed is in a Box

Well, apparently Tuesday wasn’t the day the stock market decided to go down so how about Wednesday? The market has been assuming the Fed will lower rates on Tuesday next week no matter what the Fed heads are saying. The bulls seem to be trading with abandon on days like Tuesday. The pattern we see is still the same even though the market always seems to want to trade higher.

Thanks for the comment, Erick. Your thoughts lined up nicely with what our post topic is this evening, the Fed’s box. As a start, Mr. Bernanke let us know on Tuesday that the global trade imbalances need to be ah…balanced in order to stabilize the world economy. According to a CNN Money article the trade imbalance occurs when countries like the US buy more internationally than they sell or like China sell more than they buy. Oh, really, this is fascinating stuff…

Of course, this leads us into our thought process this evening. We have been a proponent of a turnaround in the dollar over the past couple of months. The True Contrarian, at the link to the left, suggests that the US dollar has fallen to its natural “bottom” and should now bounce. This is in conjunction with his thoughts on gold and silver going in the opposite direction for a short time.

When Mr. Bernanke started to discuss the need to reduce trade imbalances, all we could think about was the US trade deficit. The one way to help fix this deficit is to weaken the dollar. This would encourage foreigners to purchase our goods and services while at the same time making it more difficult to purchase foreign goods with US dollars. In theory this should work but as you know the trade deficit has seemed to gradually expand further and further just like our waistline. Of course, our solution is to buy bigger belts and pants rather than go on a diet, somewhat similar to the US hunger for foreign goods. We just keep buying no matter what the cost since we want it and we will have it. Just how old are we???

The point here is that the Fed can lower interest rates and this should directly affect the value of the dollar in the negative direction. When Mr. Bernanke actually said that we need to work on fixing trade imbalances and we focused on the US trade Deficit, we thought he was signaling that he was willing to lower rates in order to do that. It seems that the Fed Chairman is about ready to trash the dollar. Could this actually be??? We certainly hope he is not rationalizing the rate cut with global trade balancing efforts. Please.

There are reasons for the Fed to lower rates due to the credit disaster that is happening all around us but there is one reason Not to lower rates and that is the US stock market is ever so close to a top. If a large rate cut is instituted, the Fed could actually be pouring gas on this fire and certainly at the wrong time. The Fed heads know that a rate cut will bring even more speculation into the stock market and we don’t really think they want to do that. All of us know that any rate cut is not a long term stock market enhancer but is sure is for the short run.

There you have it; the Fed is in a box. They seem like they have to lower rates next week but now they are trying to rationalize it with global trade balance even though they don’t want to raise rates because it will make the stock market go up. They want to save those types of bullets when they really need them, like when the market is really going down.
The market action was pretty much nonstop up on Tuesday and we can only take comfort in the fact that the volume was pretty anemic. Well, there was a stock that was down today and that was CFC (Countrywide Financial) and on heavy volume. CFC was the volume leader for stocks on the NYSE with only the Russell 2000 iShares trading more volume. CFC closed at 16.88 down a couple of percent on the day. That 18 price seems to be getting further away every day but B of A is not worried, or are they? And, the guy on the bus, who had bought some CFC calls probably the 20’s is not very happy today either.

Monday, September 10, 2007

US Stock Market Ready to Fall

Before the opening on Monday, the tech stocks got an infusion from INTC who said that their revenue would be up 3% to 4% for the quarter. Huh? Are they serious? 3% is enough to call up the world and try to get the markets going. We like the timing of certain announcements like we mentioned in our last post, CFC (Countrywide Financial) announced some bad news about laying off 12,000 employees after the market closed on Friday hoping it would go unnoticed on Monday morning. Then INTC makes their announcement and the world is a happy place for a few minutes anyway. Let’s not forget the Congressional “promise” for Fannie and Freddie that we mentioned in our last post. That got a little play going into the opening, too. All in all it was an aggressively bought opening.

But, wouldn’t you know it? Right after the open the market had nowhere to go but down, so that’s what it did. The Dow opened up about 85 points and spent the next two hours dropping to test the lows of last week right around 13,050. From there, since of course the test was passed, for now, the Dow rallied until the final hour and managed to get higher than the open but just barely. The last 45 minutes pulled the Dow from being about nearly 100 points to close up just 14. The other indexes performed similarly but the action in the NASDAQ Comp was noteworthy. The Comp opened up 25 points or about 1% and then fell from the high near 2590 to below 2540, about a 50 point drop, over the next two hours.

The bulls may feel that they have won this day because there were several Fed officials talking about how next week’s FOMC meeting may not cut rates. The market didn’t pay much attention to these people as the fed funds do not even consider rates will stay at 5.25% next week. Yes, there is a 100% assumption built into rates today that the Fed will cut at least 25 bps. Plus, the market has given even more weight or probability to a 50 bps cut than a 25 bps cut. These numbers come from the credit world but the stock market is keenly interested in them. So, the stock market is pricing in at least a 25 bps cut and no Fed official could deny a rate cut on Monday with enough authority to make it seem reasonable.

For our part, this is the first time we have said that there is a possibility of a cut. We don’t have a 100% iron clad decision on this tonight but we will try to come up with one over the course of the next few days. In our last post we talked about the rate cut being determined by the traded fed funds rate. We apologize for the confusion—we meant to say that the Fed has to watch the Treasury bill rates to see what to do. That rate has been trading in the 4.6% to 5.25% range for the last year and in the last few weeks has now traded down to below 4% today. A couple of weeks ago amidst all of the subprime turmoil, it traded below 2.3% but has now been trading a range of 3.8% to 4.6% over the past week or two. This allows the Fed to drop their funds rate by 50 bps. We are going to watch this rate very closely over the next few days to get an idea what the Fed might do.

The overnight markets are fairly calm this evening and Asia is trading with a positive bias as we write this. We do think the world is about to see the US stock market get hit pretty hard. The pattern that is now developing is something we have been expecting but now it is upon us. Today’s market showed strength early and some positive buying over the course of the afternoon but looking at the breadth, it was poor. There were more decliners than advancers and the number of shares traded in up stocks was less than that of down stocks.

This is only one day but the actual pattern of trading is distinctive as well. You have seen the Dow move or we should say try to move up over the course of the last few weeks. Friday’s market shows us just what strength the Dow has, not much. Today’s early strength was greeted with selling and the midday rally was met with a late day selloff. These two items are strong indications of what is going on underneath the covers. There is weakness and we are going to see it manifested in Prices very soon if not Tuesday, then Wednesday. Let’s watch very carefully.

Sunday, September 09, 2007

A Brand New Week

The jobs’ report from Friday was a major disappointment for the market. Here they had thought the Fed might actually be right that the “subprime” problem would not affect the broader market and what do they have to believe now? Well, the jobs’ report was very ugly. As reported by the Labor Department, nonfarm payrolls declined by 4,000 in August for the first decline since August of 2003, four years ago. Not only that, they also revised lower the previous two months of data with large reductions. The July number dropped from 92K down to 68K and June from 126K to 69K. That’s 24K lower for July and a whopping 57K for June.

These numbers were just too much for the market to handle and the opening was down about a percent in the major indexes we follow. What’s more, the familiar bounce we generally see after a weak opening did not appear. We did see buyers attempt to hold the market after the initial drop but that failed and the market dropped again. The rest of the day was spent trading sideways to down with the Dow closing very close to its low of the day and the week while flirting with the previous week’s low near 13,050.

After the market closed on Friday (don’t you just love this timing?), Countrywide Financial (CFC) announced that it plans to slash about 12,000 workers, 20% of its workforce, over the coming months. We wonder what papa B of A has to say about that. For most of the morning, CFC traded below the magic 18 number, the one that B of A is able to buy its stock at. After the news hit the tape after the close, buyers came in to bid up the stock in afterhours. Let’s see how it trades during real trading on Monday.

But, there is the new legislation proposed by the senior senator from New York, Schumer (D). You can see the WSJ article for yourself (they’re saying page A3). The plan is to allow Fannie Mae and Freddie Mac to buy more mortgages. Right now they can buy mortgages up to $417,000 which is what we call conforming. Mortgages above that amount are nonconforming or jumbo loans. We have said they are Alt-A here in past posts. Anyway, Schumer would like Fannie and Freddie to be able to buy mortgages up to $625,000. This would provide much more liquidity in those higher priced markets. We will let you draw your own conclusions as to whether this is a good idea or not.

Part of the proposal will allow Fannie and Freddie to raise their portfolio caps by 10% and require them to use half of that (about $73 billion) to help “borrowers with certain high-risk adjustable-rate mortgages refinance into more affordable products” according to the WSJ article. We again wonder what people think that don’t have adjustable rate mortgages. Do they think this is a good idea or not?

So, housing continues to make the news. One other group that is now suffering is the mortgage insurance companies. Apparently, claims are up significantly this year. The WSJ has the article on page C1.

The market had some trouble on Friday and this week it will need to trade on its own. The Fed meeting is next week so we don’t think there is any chance the Fed will make any moves this week unless of course the market has a very bad day. Even then, the Fed needs to be careful when it decides to make a cut. They can’t really be watching the stock market to make their decision. They have to convince themselves that the economy is going to suffer unless they cut rates.

We want to be clear on this point. The Fed does not decide what rates are going to be. They simply watch what is going on in the fed funds rates as banks need funds as to what level the rate should be set at. Right now, Treasury securities all along the curve are trading with rates below 5%. The fed funds target rate at 5.25% makes no sense. The fed funds rate itself is near 5.05% so that would indicate a target of 5% is about right. The main problem with this thinking is something we mentioned here last week and that is Libor. This rate has risen over the past several weeks from 5.32% to around 5.80%. This causes some issues for the Fed to lower rates next week. Oh, the problems they have at the moment. The stock market knows it, too.

Thursday, September 06, 2007

Finally, the Jobs' Report

In an article that should be in the WSJ on Friday, September 7th, titled Treasurys Fall as Fed Warns on Rate-Cut Optimism, we find that there were no less than six Fed officials that spoke on Thursday. All of them indicated that there was undo optimism in the markets that the Fed would cut rates any time soon. The first section of the article makes it clear that the markets reacted to the news appropriately, the bonds sold off and the stock market came off its highs of the day.

In the morning a rumor hit the markets that the jobs’ report was going to give the Fed the opportunity to lower rates in a surprise move on Friday. Well, after the rumor it would hardly be a rumor but we’ll let that go for now. You can look at a chart of trading activity for the market and kind of see when the rumor gained support. This is certainly true on the gold chart if you have the ability to see one. ( is a good site for gold prices—we should probably add it to our links) Anyway, as more and more Fed officials trotted out to say the same thing, the markets kind of cooled.

To get back to the WSJ article, we see that the second section of the article talks about the Fed’s open market moves. Apparently, on Thursday the Fed felt the need to inject some liquidity into the market as they supplied $31.25 billion in three separate moves. According to the article, three moves in one day is fairly uncommon, the last one occurring back on August 10th “following a spike in short-term rates”.

We fail to see how these two sections fit together. On the one hand, the Fed says they are not committed to lowering rates at their meeting in a couple of weeks but on the other hand they are pushing liquidity into the banking system at quite a furious rate it seems. The article mentions that the European Central Bank (ECB) added about $130 billion on Wednesday. What?

Let’s get down to the real business—the stock market. Well, Friday is the big day, Fed moves or not. We finally get to see the jobs’ report and what it might have to do with the stock market. The market is, how can this be, hoping for a disastrous number so the Fed will have the ability to lower rates. Apparently, the traders are not so worried about the jobs so much as the market, but that’s another topic. The question is how will the market react to the news?

Ideally, we will see truth in the number which should mean that there will be a poor number being put up. The consensus we see this evening is for 110K new nonfarm jobs to have been created in August. With a number less than that, we would expect the stock market, and bonds, to have a good start to the day. This assumes the market still believes that the Fed will lower rates and very soon. Ideally, from our perspective, this opening trade would be the stock market high for the next several months. We could just see a normal number around 110K and the market would just trade like it did on Thursday, very dull trading indeed.

With this number finally behind us, the market can be free to trade on its own and we are so waiting for this. September should still be a down month and with this Friday morning thing out of the way, we can get on with it.

We would like to make a comment on the Fed. We have been in the camp that expects a rate cut this fall and we’ve been in that camp for a long time. We never wavered when the rumors were that the next move of the Fed would be to hike rates. We said, no way.

So, here we are and fall is in the air; not to mention mortgage problems are in the air. We don’t see the news or the market really showing us a great deal of reason for a rate cut right here this day but the Fed will decide to pull the trigger on rates within a couple of months. This will most likely be driven by a stock market drop that occurs here in September. At that time we will be interested to see where the market is and whether we should be positioning to take some long positions. There is a lot of ground to cover before that happens but this is the situation at hand in our humble opinion.

Wednesday, September 05, 2007

Media Scratches Their Heads, Day Two

Market participants were being pummeled from many directions on Wednesday. First there was the news from Costco on Tuesday after the close that sales in August were up just 2%. This news drove the retail stocks down along with COST. Do we need to remind you that August should be a big back to school month for retailers in general?

Then there was the news that pending home sales had dropped 12% from last month to the lowest level since the month that included 9-11. This news should have brought visions of rate cuts into the minds of the bulls; but, there were some worry warts out there who just didn’t think that was all that good of news. Needless to say, the media just had no idea what to make of the day.

Next came the ADP employment data, an advance notice of the real jobs’ number coming on Friday. These numbers suggest a weak month for job growth, seemingly another feather in the bulls cap for a Fed interest rate cut. (ADP is the payroll company that administers checks for many companies. Their report is not as sought after as the jobs’ report but their numbers should be fairly credible due to the very nature of their company’s business.)

The big news came when the Fed’s beige book was released in the afternoon. The beige book didn’t lay out a direct plan to cut interest rates and in fact suggested that the mortgage mess didn’t seem to be affecting the real economy. Is that so? Well, we recommend the Fed starts to look at the latest numbers that, to be fair, were not available to them at the time the beige book was put together.

The evening’s news goes back to Countrywide, a company that has been in the news and in our blog quite a bit lately. The company is going to have to lay off some more workers this month; apparently that $13.5 billion of capital isn’t enough for them to keep all those people on staff.

In the overnight markets, there is a sense that Thursday's early morning will be a gift from Europe with no rate hike. The world is anxiously awaiting this news this evening with the US futures market bouncing as we write this.

Turning to one more item, more direct stock market link, is the news from AAPL. They announced a $200 reduction in the price of the iPhone. This is curious in its timing if nothing else. When the iPhone came out it was supposed to be the hottest new gadget in history. The price didn’t seem to be an object to the buyers. That price was on top of the monthly phone charges from AT&T. The main reason for this third off sale has to be that sales weren’t quite up to expectations and they have too many sitting around gathering dust.

We look at this in consideration of the price of AAPL which happens to be one of the four horseman, as we have mentioned here before. On Wednesday, AAPL dropped about 5% even though we don’t have any concern about the 5% just the point where it occurred. Back in late July, AAPL put in a strong performance moving up to nearly 150. Then it dropped nearly to 110 leading the market down into the lows of August. Now it’s back up in the 140’s this week, leading the market up on Tuesday. We wanted to point out that it has so far failed to get back to its late July price. This is a big deal for a stock like this that has such a big following. AAPL’s customers who had bought the iPhone earlier were complaining about the price drop because they had no way of getting their money back; but, when AAPL goes down this time, the shareholders will be complaining about a price drop, too. (Just one more sign that the credit crunch is affecting sales.)

The market is at a critical point here. The pattern is right for a down turn; the momentum indicators are overbought and turning over; the volume in this latest advance has been low by recent standards; and, the Dow has failed to achieve any milestone on this rally…so we think the time has come for the market to go down. The prices are the big thing. When people look at their stocks or the Dow and say it isn’t even back to 14K, much the same as AAPL above, they start to question the market. Of course, they won’t sell until prices drop which will by definition push prices lower, faster.

Tuesday, September 04, 2007

Media Doesn't Know What Moves Market

September started with a win for the bulls. We wish them well and would like to take the wins back starting on Wednesday. The month is very young and the market is still overbought.

We find the analysis to be a bit flawed on a day like Tuesday. As the market jumped this morning, the talk was all about how the Fed would need to lower rates. Then later, when Ford announced low sales figures, the continued chant of the media was that the Fed had more ammunition to lower rates as the market continued higher. Later GM announced positive sales for the period and the media was silenced as the market kept going up.

There are a couple of concepts here on this day. The media has been expecting a down September (and we are surprisingly in that camp, too) so they were modestly upbeat as the market opened the month with a strong positive day. The media will now tell us that the smart money is buying even as the public is selling—well, that may be true but will that result in higher or lower prices. Sure, the first day of the month was up.
The other issue that we have a difficult time with is this notion that the Fed needs to cut rates and that is good for the stock market…all the time. We think that the mere idea that the Fed would lower rates would be cause for concern about the future of the economy but since the Fed can fix anything with a rate cut, the economy is easy.

The problem with all of reasoning is that the market is up. Why do participants think the Fed will lower rates even as the market goes up??? These two things would seem to be mutually exclusive, or, at the very least, the rate cut doesn’t follow the market going up. Supposedly, the market could go up after a rate cut due to more liquidity being spread around but even that is a dangerous assumption in this market.

We have trouble thinking about the near term logic of the market. Yes, the B’s were out last Friday giving us their versions of the panacea for the future. And, today the market believed something positive about the promises. The market is now overbought and we need to focus on the next move which should be down hard. Still, the Dow remains below the 13,675 level.

As we write this evening the Asian markets are not trading like the Dow busted out for 100 points today. Japan opened strong but is now in the red. We’ll see how Europe trades in the morning.

The news this evening on the WSJ site is the Citigroup SIV (Structured Investment Vehicle). We haven’t mentioned these before and don’t have time to explain them this evening. Please pick up a paper edition of the WSJ and read the Heard on the Street column. It explains how C is denying any problems with Centauri, its largest SIV. This SIV is off C’s balance sheet so it operates pretty independently.

The other news is the short term interest rates, in the form of Libor (London interbank offered rate). This rate has moved higher due to the “credit-market turmoil”, according to another article on page C1 of the WSJ. We don’t have time this evening to go into the details but the WSJ gives a clear understanding…comments for discussion.

Monday, September 03, 2007

Bush and Bernanke, One Two Punch

This evening starts the beginning of trading in the month of September. The world markets were mostly open on our holiday and most were up probably in celebration of Monday or something. We would like to step back to Friday and remember what was going on back then.

As we opened for trading, there was quite a buzz going on about the big announcements from Bush and Bernanke. Bernanke was in Jackson Hole, WY giving a speech on the history of the housing market. The market had its ears glued to the news on what he might say about possible interest rate moves or some other “bullish” comments. Meanwhile, Bush was talking about what the Federal government might do to help the poor homeowners who might be losing their homes.

As we see it, the words they spoke are important to the world but we are here to talk about how the market took the news. The anticipation was pretty high and the buyers couldn’t wait until the market opened to express their dollars on the market. The Dow opened up about 125 points and, while it traded higher and lower than that, it went out at about the same level up 119. The other major indexes also ended the day near where they started, all up of course but not to a large degree.

In fact, the White House and the Fed combined their two shots at the market on the same day and managed only 119 Dow points. We find this fascinating because the market is now in an overbought state and can’t rally even on these terms. We think the fact that the market is overbought has more sway then the directives from these two high profile individuals. Now, can the market move higher from this overbought position? We look for a very trouble market in September.

Switching gears, we received our Barron’s this weekend with the front page headline that says “Introducing the Barron’s 400 Index”. We looked over the article discussing this New index and have another smile. This index, taken in retrospect, would have outstripped the major averages handily…Would have, if it would have been in existence.

We see a golden opportunity for us to challenge the theory that this index wants us to believe. The index could very well do better than the major averages in a downturn but we don’t think that’s what Barron’s had in mind. Even on the cover, they say “In essence, it picks AMERICA’S MOST PROMISING COMPANIES.” Their website within the online Barron’s website will be used to keep promising stocks coming into the index. We give them high marks for trying but we will wait for them to prove themselves in the upcoming market. Maybe when we are ready to buy stocks we could turn to their 400 stocks for picks. We’ll see.

So, from last Friday we see that the “Fed is ready to act” and the “Government will act”. That gives all of us great peace of mind for trading in September. Good luck to you.