Today's article follows release of a letter from Chairman Bernanke to Senator Shumer regarding the state of readiness of the FED to act as appropriate.
Bernanke Says Fannie, Freddie Asset Caps Should Stand (Update3)
By James Tyson
Enlarge Image/Details
Aug. 29 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke said relaxing portfolio limits on Fannie Mae and Freddie Mac isn't necessary for the two largest U.S. mortgage finance companies to help stem a surge in foreclosures.
Federal caps on the companies' combined $1.4 trillion in mortgages and mortgage bonds ``need not be lifted to allow them to accommodate new borrowers,'' Bernanke said in an Aug. 27 letter to Senator Charles Schumer, a New York Democrat.
Bernanke's view is in line with the companies' regulator and with President George W. Bush. The Office of Federal Housing Enterprise Oversight on Aug. 10 rejected requests to allow the government-chartered firms to buy more home loans to ease a credit crunch in the mortgage market. Schumer and other Democrats have called for relaxing the restrictions, saying the companies could fill a gap left by investors who fled the market.
Ofheo, as the regulator is known, imposed the limits last year after Fannie Mae and Freddie Mac disclosed accounting misstatements of $11.3 billion. To lift the ceilings, the companies must complete an overhaul of accounting and governance and restore timely financial reporting, the agency said.
The constraints ``were imposed for safety and soundness reasons,'' Bernanke said. ``Policy makers may also want to encourage'' Fannie Mae and Freddie Mac to package and guarantee more home loans as securities for sale to investors, a business line that is ``not constrained by their portfolio caps.''
`Closely Monitoring'
The Fed chief also said that the central bank ``is closely monitoring developments in financial markets.'' He noted that the interest-rate setting Federal Open Market Committee said in a statement it ``is prepared to act as needed to mitigate the adverse effects on the economy'' from the turmoil in markets.
Created by Congress to increase financing for home loans, Fannie Mae and Freddie Mac own or guarantee 40 percent of the $10.9 trillion U.S. residential mortgage market. They profit by holding mortgages and mortgage-backed securities as investments and by charging a fee to guarantee and pool together home loans as bonds.
The companies ``should be encouraged to provide products for subprime borrowers to the extent permitted by their'' federal charters, Bernanke said without elaboration.
The Fed and U.S. Treasury since 2005 have portrayed the assets of Fannie Mae and Freddie Mac more as a threat to market stability than as a lifeline in times of declining mortgage credit.
The two companies could trigger financial market turmoil should they fail to hedge their holdings against interest rate changes and other risks, the Fed and Treasury have said. They have called on Congress to mitigate the ``systemic risk'' by creating a supervisor with power to pare the companies' assets.
Strengthened Oversight
Bush said Aug. 9 that Congress must pass legislation strengthening oversight of the companies before the administration lifts the restrictions on the portfolios.
Fannie Mae rose $2.19 to $65.76 at 4:20 p.m. in New York Stock Exchange composite trading, while Freddie Mac gained $2.05 to $63.25. Shares of both companies pared gains after Schumer released the letter, before resuming their advance.
Fannie Mae must restrict its portfolio to $727.2 billion, the level on Dec. 31, 2005, while Freddie Mac must constrain annual growth of its $720.6 billion portfolio to 2 percent. The two also can't buy mortgages of more than $417,000 for a single- family home in most states.
To contact the reporter on this story: James Tyson in Washington at jtyson@bloomberg.net
Last Updated: August 29, 2007 17:28 EDT
Wednesday, August 29, 2007
Financial Storm Rising
check this out...
THE GATHERING STORMby Paul TustainAugust 28, 2007
"...Only a lack of imagination can have allowed professional investors to suddenly think of the US Dollar as today's quality refuge..."
ONCE EVERYONE gets back from vacation and starts to focus on what's really going on, we may be in for a torrid few months in the financial markets.
I believe the current lull in gold prices could offer a good opportunity to defend yourself before the real trouble begins.
Since the end of June there has been huge damage done to the finances of hundreds of organizations worldwide. But much of this pain is still hidden inside investment funds holding obscure financial instruments which are now unmarketable.
Too many investment professionals have been backing the same short-odds gamble â€" residential housing â€" and the aggressive financial arrangements they set up are unraveling a little more every day.
The underlying problem of non-paying US mortgage debt is getting worse, not better, but this fact is being forgotten in the current rate-cut induced rally in shares and bonds. Short of organized double-digit inflation I don't believe there is a force capable of halting the slide in subprime US property prices.
On top of that, we still have the extended pain of increasing rates hitting more US home-buyers as their "teaser" deals end. Data compiled by Inside Mortgage Finance and Lehman Brothers say this trend has barely begun. It won't peak until the end of summer next year.
The world's largest financial organizations have already taken big hits â€" quietly, for the moment â€" but the collapse of the subprime sector really is hurting, and we are seeing things that just shouldn't happen in a well-ordered financial world.
Fund managers are not producing credible fund valuations; they have frozen values using old prices, and are forbidding the normal result, which is investors piling through the exits.
No-one can price mortgage-backed derivatives at the moment, and no-one really knows how the underwriters of credit default swaps are pricing the insurance time-bomb they're sitting on. These horrible investments are in many cases worth nothing, and in the case of credit-default swaps, less than nothing.
The current lull might prove an opportunity for the prospective gold buyer. Gold has not yet moved up; in fact, it has dipped a little as stretched investment funds have sold whatever they can to raise cash and reduce their margin calls.
Nor can any serious comment on the gathering storm fail to remark on the apparent "flight to quality" which on Monday last week saw US Treasury bonds put in their strongest day since Black Monday 1987.
US Treasury bonds are part of the fast-growing and utterly irredeemable $9 trillion public debt now outstanding in the United States. The US trade deficit was also on record-breaking form again last month. Only a few short weeks ago these dreadful statistics drove the US Dollar to record lows against a basket of major world currencies.
Only a lack of imagination would allow investors to think suddenly of the US Dollar as today's "quality" refuge. Any respite for the Dollar will surely be temporary; indeed, the bounce we saw during the sharpest stock-market losses so far may have simply been short-covering by Dollar bears (of which there are plenty) rather than fresh buying of “quality�.
Everything that has just happened in fact makes things worse for the US currency. At the heart of this current crisis lies the bubble in poor-quality US home loans. It is US consumers who are being pinched; it is the return on invested US Dollars which is now being cut.
Lower US rates on the back of America's weakening domestic economy will re-kindle a Dollar slide in due course. So the current lull may offer only a brief window, in which fewer, stronger Dollars buy more gold than they soon will.
And amid the storm now gathering in the broader financial markets, I believe gold could offer a serious defense against both volatility and losses in stocks, bonds and the US Dollar.© 2007 Paul Tustain
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
THE GATHERING STORMby Paul TustainAugust 28, 2007
"...Only a lack of imagination can have allowed professional investors to suddenly think of the US Dollar as today's quality refuge..."
ONCE EVERYONE gets back from vacation and starts to focus on what's really going on, we may be in for a torrid few months in the financial markets.
I believe the current lull in gold prices could offer a good opportunity to defend yourself before the real trouble begins.
Since the end of June there has been huge damage done to the finances of hundreds of organizations worldwide. But much of this pain is still hidden inside investment funds holding obscure financial instruments which are now unmarketable.
Too many investment professionals have been backing the same short-odds gamble â€" residential housing â€" and the aggressive financial arrangements they set up are unraveling a little more every day.
The underlying problem of non-paying US mortgage debt is getting worse, not better, but this fact is being forgotten in the current rate-cut induced rally in shares and bonds. Short of organized double-digit inflation I don't believe there is a force capable of halting the slide in subprime US property prices.
On top of that, we still have the extended pain of increasing rates hitting more US home-buyers as their "teaser" deals end. Data compiled by Inside Mortgage Finance and Lehman Brothers say this trend has barely begun. It won't peak until the end of summer next year.
The world's largest financial organizations have already taken big hits â€" quietly, for the moment â€" but the collapse of the subprime sector really is hurting, and we are seeing things that just shouldn't happen in a well-ordered financial world.
Fund managers are not producing credible fund valuations; they have frozen values using old prices, and are forbidding the normal result, which is investors piling through the exits.
No-one can price mortgage-backed derivatives at the moment, and no-one really knows how the underwriters of credit default swaps are pricing the insurance time-bomb they're sitting on. These horrible investments are in many cases worth nothing, and in the case of credit-default swaps, less than nothing.
The current lull might prove an opportunity for the prospective gold buyer. Gold has not yet moved up; in fact, it has dipped a little as stretched investment funds have sold whatever they can to raise cash and reduce their margin calls.
Nor can any serious comment on the gathering storm fail to remark on the apparent "flight to quality" which on Monday last week saw US Treasury bonds put in their strongest day since Black Monday 1987.
US Treasury bonds are part of the fast-growing and utterly irredeemable $9 trillion public debt now outstanding in the United States. The US trade deficit was also on record-breaking form again last month. Only a few short weeks ago these dreadful statistics drove the US Dollar to record lows against a basket of major world currencies.
Only a lack of imagination would allow investors to think suddenly of the US Dollar as today's "quality" refuge. Any respite for the Dollar will surely be temporary; indeed, the bounce we saw during the sharpest stock-market losses so far may have simply been short-covering by Dollar bears (of which there are plenty) rather than fresh buying of “quality�.
Everything that has just happened in fact makes things worse for the US currency. At the heart of this current crisis lies the bubble in poor-quality US home loans. It is US consumers who are being pinched; it is the return on invested US Dollars which is now being cut.
Lower US rates on the back of America's weakening domestic economy will re-kindle a Dollar slide in due course. So the current lull may offer only a brief window, in which fewer, stronger Dollars buy more gold than they soon will.
And amid the storm now gathering in the broader financial markets, I believe gold could offer a serious defense against both volatility and losses in stocks, bonds and the US Dollar.© 2007 Paul Tustain
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
Tuesday, August 28, 2007
the Internation Market
a good read on investing internationally...
The Most Overlooked Investment Opportunity
http://www.fool. com/investing/ international/ 2007/08/28/ the-most- overlooked- investment- opportunity. aspx
Amanda B. Kish, CFAAugust 28, 2007
For the most part, investors are a greedy bunch. In the race to find undervalued stocks and outperform the market, typically no stone is left unturned. But surprisingly, there is a huge segment of the market that most investors overlook entirely when building their investment portfolio. And it's not an obscure corner of the market, like timber or nuclear power. It's one of the largest and most important areas of the entire stock market.
Missed opportunitiesA recent study by London-based asset-management firm Schroders suggests that although most American investors think the sun will soon set on U.S. economic dominance, they are reluctant to invest abroad. In fact, only 13% of individual investors responded that they own any foreign stocks at all. And only 19% say they expect to own foreign stocks within the next five years! That means a huge majority of investors won't own any of the terrific overseas companies that will help fuel global economic growth. Although more of the survey respondents believed that China would be the next global superpower (45%) than the U.S. (38%), investors are still hesitant to invest outside their borders.
This news is somewhat surprising, and it highlights a disconnect between investor beliefs and investor actions. Obviously, investors are aware of the importance of international investing, even though many have not yet acted on this information. However, this news does show one potential area of growth for money managers and mutual funds in the coming years. If more individual investors get the message that international investing is important, the industry could see increased demand for products that allow access to overseas markets.
Global investingSo why do so few investors venture into foreign investment waters? No doubt much of the reluctance comes from a lack of comfort and knowledge of foreign markets. But by passing over this segment of the market, investors are only hurting themselves. More than half of the total global stock-marketcapital ization lies outside U.S. borders. So by investing only domestically, you would be overlooking roughly half of available investment opportunities!
Additionally, foreign markets can provide additional sources of return if the domestic economy falters. It's true that global market sare more highly correlated now than they were 15 or 20 years ago, but they still offer important diversification benefits. Wouldn't you rather have exposure to 10 or 12 foreign countries rather than hang allof your hopes on the domestic market? In today's economy, if you are an intermediate- to long-term investor, it just doesn't make sense not to invest in foreign companies. And five to 10 years from now, this will be even more true, so if you have hesitated to take that international plunge, start looking now.
The best approachIf you are new to foreign investing, the easiest way to dip your toes into this arena is througha diversified foreign mutual fund or exchange-traded fund. Stay away from country-specific funds and ETFs, which are too narrowly focusedand can be extremely volatile. Investors are much better off sticking to broad-market diversified funds. If you are in the market for a foreign ETF, check out offerings such as the iShares MSCI EAFE Index Fund (NYSE: EFA), the Vanguard FTSE All-World Ex-US Fund (AMEX: VEU), or the SPDR S&P World Ex-US Fund (AMEX: GWL).If you choose an actively managed foreign fund, look for one that invests in both developed and emerging foreign economies. This way, you can get all of your required foreign exposure in one easy step.
One word of caution for international investors: Foreign markets have done extremely well the past few years, and there is a good chance that a lot of the upside has already been priced into foreign stocks.While it makes sense for investors to always have at least some international exposure, be aware that returns in this area of the market may not be as impressive as they have been in recent history.But don't make the mistake that 80% of individual investors are making by avoiding foreign stocks. Think globally, and you'll already be further ahead than most investors will ever be.
Related articles:
Duel Revisited: International Investing
The Best International Stock for 2007
A Grand Tour of Funds
Interested in finding out more about which foreign investments might be right for your portfolio? Then check out the Fool's Global Gains newsletter with a free 30-day trial.
Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned herein. The Fool's disclosure policy has many stamps in its passport.
Legal Information. ©1995-2006 The Motley Fool. All rights reserved.
Neither the TSP Strategy group, nor individual members like myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
The Most Overlooked Investment Opportunity
http://www.fool. com/investing/ international/ 2007/08/28/ the-most- overlooked- investment- opportunity. aspx
Amanda B. Kish, CFAAugust 28, 2007
For the most part, investors are a greedy bunch. In the race to find undervalued stocks and outperform the market, typically no stone is left unturned. But surprisingly, there is a huge segment of the market that most investors overlook entirely when building their investment portfolio. And it's not an obscure corner of the market, like timber or nuclear power. It's one of the largest and most important areas of the entire stock market.
Missed opportunitiesA recent study by London-based asset-management firm Schroders suggests that although most American investors think the sun will soon set on U.S. economic dominance, they are reluctant to invest abroad. In fact, only 13% of individual investors responded that they own any foreign stocks at all. And only 19% say they expect to own foreign stocks within the next five years! That means a huge majority of investors won't own any of the terrific overseas companies that will help fuel global economic growth. Although more of the survey respondents believed that China would be the next global superpower (45%) than the U.S. (38%), investors are still hesitant to invest outside their borders.
This news is somewhat surprising, and it highlights a disconnect between investor beliefs and investor actions. Obviously, investors are aware of the importance of international investing, even though many have not yet acted on this information. However, this news does show one potential area of growth for money managers and mutual funds in the coming years. If more individual investors get the message that international investing is important, the industry could see increased demand for products that allow access to overseas markets.
Global investingSo why do so few investors venture into foreign investment waters? No doubt much of the reluctance comes from a lack of comfort and knowledge of foreign markets. But by passing over this segment of the market, investors are only hurting themselves. More than half of the total global stock-marketcapital ization lies outside U.S. borders. So by investing only domestically, you would be overlooking roughly half of available investment opportunities!
Additionally, foreign markets can provide additional sources of return if the domestic economy falters. It's true that global market sare more highly correlated now than they were 15 or 20 years ago, but they still offer important diversification benefits. Wouldn't you rather have exposure to 10 or 12 foreign countries rather than hang allof your hopes on the domestic market? In today's economy, if you are an intermediate- to long-term investor, it just doesn't make sense not to invest in foreign companies. And five to 10 years from now, this will be even more true, so if you have hesitated to take that international plunge, start looking now.
The best approachIf you are new to foreign investing, the easiest way to dip your toes into this arena is througha diversified foreign mutual fund or exchange-traded fund. Stay away from country-specific funds and ETFs, which are too narrowly focusedand can be extremely volatile. Investors are much better off sticking to broad-market diversified funds. If you are in the market for a foreign ETF, check out offerings such as the iShares MSCI EAFE Index Fund (NYSE: EFA), the Vanguard FTSE All-World Ex-US Fund (AMEX: VEU), or the SPDR S&P World Ex-US Fund (AMEX: GWL).If you choose an actively managed foreign fund, look for one that invests in both developed and emerging foreign economies. This way, you can get all of your required foreign exposure in one easy step.
One word of caution for international investors: Foreign markets have done extremely well the past few years, and there is a good chance that a lot of the upside has already been priced into foreign stocks.While it makes sense for investors to always have at least some international exposure, be aware that returns in this area of the market may not be as impressive as they have been in recent history.But don't make the mistake that 80% of individual investors are making by avoiding foreign stocks. Think globally, and you'll already be further ahead than most investors will ever be.
Related articles:
Duel Revisited: International Investing
The Best International Stock for 2007
A Grand Tour of Funds
Interested in finding out more about which foreign investments might be right for your portfolio? Then check out the Fool's Global Gains newsletter with a free 30-day trial.
Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned herein. The Fool's disclosure policy has many stamps in its passport.
Legal Information. ©1995-2006 The Motley Fool. All rights reserved.
Neither the TSP Strategy group, nor individual members like myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
Market Issues for 8-28-2007
Summary follows:
U.S. Stocks Fall Most in Three Weeks; Lehman Leads Banks Lower
By Michael Patterson
Enlarge Image/Details
Aug. 28 (Bloomberg) -- U.S. stocks posted their biggest drop in three weeks on weaker consumer confidence and speculation tighter credit markets will hurt bank earnings.
Citigroup Inc., Lehman Brothers Holdings Inc. and Bear Stearns Cos. led all 93 financial companies in the Standard & Poor's 500 Index lower after Merrill Lynch & Co. reduced its recommendation on the shares. Lennar Corp. and D.R. Horton Inc. sent homebuilders to the lowest level since May 2003.
The declines erased all of last week's gains. The S&P 500 decreased 34.43, or 2.4 percent, to 1,432.36, as 487 of its members fell. The Dow Jones Industrial Average lost 280.28, or 2.1 percent, to 13,041.85. The Nasdaq Composite Index slipped 60.61, or 2.4 percent, to 2,500.64.
The Conference Board reported today consumer confidence fell the most since 2005, while S&P/Case-Schiller said home values had the steepest tumble in at least five years in June. Financial shares have posted the biggest drop among 10 industry groups in the S&P 500 this year amid concern that higher borrowing costs sparked by subprime mortgage defaults will erode earnings from trading and debt underwriting.
``Our concern when we look out is with the U.S. consumer,'' said David Chalupnik, who helps manage about $100 billion as senior managing director at First American Funds in Minneapolis. ``Are the housing issues that we're seeing going to finally depress the U.S. consumer? That's the risk that we see.''
Broad Decline
All 10 industry groups in the S&P 500 fell as the index wiped out last week's 2.3 percent gain that was spurred by speculation the Federal Reserve will take steps to stem losses in credit markets.
More than 20 stocks dropped for every one that rose on the New York Stock Exchange, the broadest retreat since Feb. 27.
Stocks extended their decline today after minutes from the Fed's Aug. 7 policy meeting showed central bankers put aside concerns about the rising cost of credit because they weren't convinced a slowdown in inflation would last.
Markets in Europe and Asia retreated, led by financial companies on concern the subprime mortgage rout is spreading and will erode global economic growth. The Morgan Stanley Capital International World Index slipped 1.8 percent to 1,520.88.
Consumer confidence fell this month by the most since just after Hurricane Katrina two years ago. The New York-based Conference Board's index declined to 105 from 111.9 in July. Economists surveyed by Bloomberg News forecast the index would slip to 104 from an originally reported July reading of 112.6.
Property values in 20 metropolitan areas decreased 3.5 percent in June from a year earlier, according to S&P/Case- Shiller.
Fed Minutes
The minutes from the Fed's last Open Market Committee meeting don't include the Aug. 16 emergency video conference when officials revamped their policy statement and cut the rate the Fed charges banks on direct loans. The benchmark lending rate was kept unchanged.
Fed funds futures contracts today showed traders see a 36 percent chance the Fed will lower its target for overnight bank lending to 4.75 percent from 5.25 percent at its next meeting on Sept. 18, up from 28 percent odds yesterday.
Citigroup, the largest U.S. bank, decreased $1.65 to $46.14. Lehman Brothers, the biggest underwriter of U.S. bonds backed by mortgages, dropped $3.47 to $54.28. Bear Stearns, the second- largest bond underwriter, slipped $3.78 to $108.42.
Brokerage Downgrade
Merrill Lynch downgraded the shares to ``neutral'' from ``buy.'' Forecasts for 2008 ``appear increasingly unrealistic,'' New York-based analysts Guy Moszkowski and Patrick Davitt wrote in a report published today. ``Slower debt, mergers and acquisitions and equity underwriting businesses seem inevitable.''
A gauge of financial shares in the S&P 500 dropped 3.2 percent as a group and contributed the most to the broader index's decline today. The measure is down 11 percent this year.
State Street Corp. and Bank of New York Mellon Corp. fell on concern the banks will be hurt by losses on loans to commercial- paper funds. State Street has $27.9 billion in credit lines to the funds, and Bank of New York has $4.05 billion, according to regulatory filings. Some of the funds, which invest money from commercial-paper sales in higher-yielding assets, haven't been able to refinance by selling new commercial paper.
State Street, the largest money manager for institutions, declined $2.72 to $61.16. Bank of New York lost $2.22 to $39.70.
``It's too early to actually be buying'' financial shares, said Peter Sorrentino, who helps oversee about $6.5 billion as senior portfolio manager at Huntington Asset Management in Cincinnati. ``We're going to get some more debt issues floating to the surface.''
Stock Volatility
The Chicago Board Options Exchange Volatility Index rose for a second day, gaining 16 percent to 26.30. Higher readings on the so-called VIX, derived from prices paid for S&P 500 options, indicate traders expect larger share-price swings in the next 30 days.
Lennar, the biggest U.S. homebuilder by sales, dropped $1.33 to $27.23. D.R. Horton, the second largest, lost 46 cents to $14.75.
Bed Bath & Beyond Inc. dropped $1.80 to $32.83. Merrill analysts said investors should sell shares of the largest U.S. home-furnishings retailer because of an ``uncertain demand environment'' amid the slump in U.S. housing.
Triad Guaranty Inc. plunged $6, or 24 percent, to $19 for its biggest drop since October 1998. The mortgage insurer drew down an $80 million credit line to preempt cash shortages as U.S. home loan defaults rise.
MGIC Investment Corp., the largest U.S. mortgage insurer, dropped $2.62 to $32.29, the lowest since March 2000.
`A Bit Precarious'
``You've got a housing situation that's a bit precarious,'' said Russ Koesterich, a portfolio manager at Barclays Global Investors in San Francisco, which oversees about $2 trillion. ``What people are focused on is whether the slowdown in housing actually drags the country into recession, and to me this is the biggest risk and biggest unknown.''
Tenet Healthcare Corp. fell to the lowest since Bloomberg started keeping track in July 1980 after Credit Suisse Group said the second-biggest U.S. hospital chain may have to file for bankruptcy in three years. The shares dropped 34 cents to $3.34.
Energy stocks in the S&P 500 dropped 2.5 percent as a group after prices for crude oil, gasoline and heating oil fell in New York.
Exxon Mobil Corp., the world's biggest energy company, declined $2.12 to $83. Chevron Corp., the second-largest U.S. oil producer, lost $2.70 to $84.30.
Wendy's International Inc. added 70 cents to $32.69. Billionaire investor Nelson Peltz entered into a confidentiality agreement with the U.S. hamburger chain as he considers making an offer. Peltz's Triarc Cos. and Trian Fund Management LP, which own a 9.8 percent stake in Wendy's, entered into the agreement yesterday, according to a U.S. regulatory filing made today.
PolyMedica Jumps
PolyMedica Corp. jumped $6.40 to $51.69 after Medco Health Solutions Inc., the biggest U.S. manager of drug benefits, said it will buy the company for $1.5 billion to expand care for Americans with diabetes. The cash transaction is valued at $53 a share, the companies said.
In other markets, the yen advanced the most in almost two weeks against the dollar on speculation banks will report more credit-market losses, prompting traders to pare higher-yielding investments funded by loans in Japan.
Treasury bills rose for the first time in six days.
U.S. stocks fell yesterday after a report showed the glut of unsold homes rose to a 16-year high. Financial stocks contributed the most to the drop in the S&P 500 after Lehman said there may be ``extraordinary weakness'' in the market for loans held by Countrywide Financial Corp., the biggest U.S. home lender.
The Russell 2000 Index, a benchmark for companies with a median market value of $639 million, lost 2.7 percent to 767.83. The Dow Jones Wilshire 5000 Index, the broadest measure of U.S. shares, dropped 2.3 percent to 14,425.63. Based on its decline, the value of stocks decreased by $429.6 billion.
Bank of New York Mellon Corp. (BK US)
Bear Stearns Cos. (BSC US)
Bed Bath & Beyond Inc. (BBBY US)
Chevron Corp. (CVX US)
Citigroup Inc. (C US)
Exxon Mobil Corp. (XOM US)
Lehman Brothers Holdings Inc. (LEH US)
Lennar Corp. (LEN US)
D.R. Horton Inc. (DHI US)
Merrill Lynch & Co. (MER US)
MGIC Investment Corp. (MTG US)
PolyMedica Corp. (PLMD US)
State Street Corp. (STT US)
Tenet Healthcare Corp. (THC US)
Triad Guaranty Inc. (TGIC US)
Wendy's International Inc. (WEN US)
To contact the reporter on this story: Michael Patterson in New York at mpatterson10@bloomberg.net .
Last Updated: August 28, 2007 17:22 EDT
U.S. Stocks Fall Most in Three Weeks; Lehman Leads Banks Lower
By Michael Patterson
Enlarge Image/Details
Aug. 28 (Bloomberg) -- U.S. stocks posted their biggest drop in three weeks on weaker consumer confidence and speculation tighter credit markets will hurt bank earnings.
Citigroup Inc., Lehman Brothers Holdings Inc. and Bear Stearns Cos. led all 93 financial companies in the Standard & Poor's 500 Index lower after Merrill Lynch & Co. reduced its recommendation on the shares. Lennar Corp. and D.R. Horton Inc. sent homebuilders to the lowest level since May 2003.
The declines erased all of last week's gains. The S&P 500 decreased 34.43, or 2.4 percent, to 1,432.36, as 487 of its members fell. The Dow Jones Industrial Average lost 280.28, or 2.1 percent, to 13,041.85. The Nasdaq Composite Index slipped 60.61, or 2.4 percent, to 2,500.64.
The Conference Board reported today consumer confidence fell the most since 2005, while S&P/Case-Schiller said home values had the steepest tumble in at least five years in June. Financial shares have posted the biggest drop among 10 industry groups in the S&P 500 this year amid concern that higher borrowing costs sparked by subprime mortgage defaults will erode earnings from trading and debt underwriting.
``Our concern when we look out is with the U.S. consumer,'' said David Chalupnik, who helps manage about $100 billion as senior managing director at First American Funds in Minneapolis. ``Are the housing issues that we're seeing going to finally depress the U.S. consumer? That's the risk that we see.''
Broad Decline
All 10 industry groups in the S&P 500 fell as the index wiped out last week's 2.3 percent gain that was spurred by speculation the Federal Reserve will take steps to stem losses in credit markets.
More than 20 stocks dropped for every one that rose on the New York Stock Exchange, the broadest retreat since Feb. 27.
Stocks extended their decline today after minutes from the Fed's Aug. 7 policy meeting showed central bankers put aside concerns about the rising cost of credit because they weren't convinced a slowdown in inflation would last.
Markets in Europe and Asia retreated, led by financial companies on concern the subprime mortgage rout is spreading and will erode global economic growth. The Morgan Stanley Capital International World Index slipped 1.8 percent to 1,520.88.
Consumer confidence fell this month by the most since just after Hurricane Katrina two years ago. The New York-based Conference Board's index declined to 105 from 111.9 in July. Economists surveyed by Bloomberg News forecast the index would slip to 104 from an originally reported July reading of 112.6.
Property values in 20 metropolitan areas decreased 3.5 percent in June from a year earlier, according to S&P/Case- Shiller.
Fed Minutes
The minutes from the Fed's last Open Market Committee meeting don't include the Aug. 16 emergency video conference when officials revamped their policy statement and cut the rate the Fed charges banks on direct loans. The benchmark lending rate was kept unchanged.
Fed funds futures contracts today showed traders see a 36 percent chance the Fed will lower its target for overnight bank lending to 4.75 percent from 5.25 percent at its next meeting on Sept. 18, up from 28 percent odds yesterday.
Citigroup, the largest U.S. bank, decreased $1.65 to $46.14. Lehman Brothers, the biggest underwriter of U.S. bonds backed by mortgages, dropped $3.47 to $54.28. Bear Stearns, the second- largest bond underwriter, slipped $3.78 to $108.42.
Brokerage Downgrade
Merrill Lynch downgraded the shares to ``neutral'' from ``buy.'' Forecasts for 2008 ``appear increasingly unrealistic,'' New York-based analysts Guy Moszkowski and Patrick Davitt wrote in a report published today. ``Slower debt, mergers and acquisitions and equity underwriting businesses seem inevitable.''
A gauge of financial shares in the S&P 500 dropped 3.2 percent as a group and contributed the most to the broader index's decline today. The measure is down 11 percent this year.
State Street Corp. and Bank of New York Mellon Corp. fell on concern the banks will be hurt by losses on loans to commercial- paper funds. State Street has $27.9 billion in credit lines to the funds, and Bank of New York has $4.05 billion, according to regulatory filings. Some of the funds, which invest money from commercial-paper sales in higher-yielding assets, haven't been able to refinance by selling new commercial paper.
State Street, the largest money manager for institutions, declined $2.72 to $61.16. Bank of New York lost $2.22 to $39.70.
``It's too early to actually be buying'' financial shares, said Peter Sorrentino, who helps oversee about $6.5 billion as senior portfolio manager at Huntington Asset Management in Cincinnati. ``We're going to get some more debt issues floating to the surface.''
Stock Volatility
The Chicago Board Options Exchange Volatility Index rose for a second day, gaining 16 percent to 26.30. Higher readings on the so-called VIX, derived from prices paid for S&P 500 options, indicate traders expect larger share-price swings in the next 30 days.
Lennar, the biggest U.S. homebuilder by sales, dropped $1.33 to $27.23. D.R. Horton, the second largest, lost 46 cents to $14.75.
Bed Bath & Beyond Inc. dropped $1.80 to $32.83. Merrill analysts said investors should sell shares of the largest U.S. home-furnishings retailer because of an ``uncertain demand environment'' amid the slump in U.S. housing.
Triad Guaranty Inc. plunged $6, or 24 percent, to $19 for its biggest drop since October 1998. The mortgage insurer drew down an $80 million credit line to preempt cash shortages as U.S. home loan defaults rise.
MGIC Investment Corp., the largest U.S. mortgage insurer, dropped $2.62 to $32.29, the lowest since March 2000.
`A Bit Precarious'
``You've got a housing situation that's a bit precarious,'' said Russ Koesterich, a portfolio manager at Barclays Global Investors in San Francisco, which oversees about $2 trillion. ``What people are focused on is whether the slowdown in housing actually drags the country into recession, and to me this is the biggest risk and biggest unknown.''
Tenet Healthcare Corp. fell to the lowest since Bloomberg started keeping track in July 1980 after Credit Suisse Group said the second-biggest U.S. hospital chain may have to file for bankruptcy in three years. The shares dropped 34 cents to $3.34.
Energy stocks in the S&P 500 dropped 2.5 percent as a group after prices for crude oil, gasoline and heating oil fell in New York.
Exxon Mobil Corp., the world's biggest energy company, declined $2.12 to $83. Chevron Corp., the second-largest U.S. oil producer, lost $2.70 to $84.30.
Wendy's International Inc. added 70 cents to $32.69. Billionaire investor Nelson Peltz entered into a confidentiality agreement with the U.S. hamburger chain as he considers making an offer. Peltz's Triarc Cos. and Trian Fund Management LP, which own a 9.8 percent stake in Wendy's, entered into the agreement yesterday, according to a U.S. regulatory filing made today.
PolyMedica Jumps
PolyMedica Corp. jumped $6.40 to $51.69 after Medco Health Solutions Inc., the biggest U.S. manager of drug benefits, said it will buy the company for $1.5 billion to expand care for Americans with diabetes. The cash transaction is valued at $53 a share, the companies said.
In other markets, the yen advanced the most in almost two weeks against the dollar on speculation banks will report more credit-market losses, prompting traders to pare higher-yielding investments funded by loans in Japan.
Treasury bills rose for the first time in six days.
U.S. stocks fell yesterday after a report showed the glut of unsold homes rose to a 16-year high. Financial stocks contributed the most to the drop in the S&P 500 after Lehman said there may be ``extraordinary weakness'' in the market for loans held by Countrywide Financial Corp., the biggest U.S. home lender.
The Russell 2000 Index, a benchmark for companies with a median market value of $639 million, lost 2.7 percent to 767.83. The Dow Jones Wilshire 5000 Index, the broadest measure of U.S. shares, dropped 2.3 percent to 14,425.63. Based on its decline, the value of stocks decreased by $429.6 billion.
Bank of New York Mellon Corp. (BK US)
Bear Stearns Cos. (BSC US)
Bed Bath & Beyond Inc. (BBBY US)
Chevron Corp. (CVX US)
Citigroup Inc. (C US)
Exxon Mobil Corp. (XOM US)
Lehman Brothers Holdings Inc. (LEH US)
Lennar Corp. (LEN US)
D.R. Horton Inc. (DHI US)
Merrill Lynch & Co. (MER US)
MGIC Investment Corp. (MTG US)
PolyMedica Corp. (PLMD US)
State Street Corp. (STT US)
Tenet Healthcare Corp. (THC US)
Triad Guaranty Inc. (TGIC US)
Wendy's International Inc. (WEN US)
To contact the reporter on this story: Michael Patterson in New York at mpatterson10@bloomberg.net .
Last Updated: August 28, 2007 17:22 EDT
Treasuries Rise
Treasuries may be the beneficiary of market turmoil.
Treasury Three-Month Bills Rise First Time in Six Days on Risk
By Deborah Finestone
Aug. 28 (Bloomberg) -- Treasury three-month bills rose for the first time in six days as investors sought refuge in the safest government securities on concern more banks may suffer losses related to the credit market crunch.
Investors bought bills as DBS Group Holdings Ltd., Singapore's largest bank, said it has more at risk from asset- backed debt than it earlier reported. State Street Corp., the largest U.S. money manager for institutions, had more credit lines to asset-backed commercial paper than European and U.S. peers, the Times of London reported.
``There's always headline risk, and that brings back the flight-to-quality trades,'' said Kevin Flanagan, a fixed-income strategist in Purchase, New York, at Morgan Stanley. ``Bills could be the beneficiary.''
Three-month bill yields fell 10 basis points, or 0.10 percentage point, to 4.4 percent at 11:57 a.m. in New York, according to Bloomberg data. Bill yields and prices move in the opposite direction.
Barclays Plc rebutted a Financial Times report that it provided funding to an investment unit for Landesbank Sachsen Girozentrale, the German public lender squeezed by the global credit crunch.
State Street said the credit quality of the assets in its conduit program is ``very good.'' The Boston-based investment custodian has credit lines to asset-backed commercial paper totaling $27.9 billion as of June 30, according to filings with the U.S. Securities and Exchange Commission.
Two-year Treasury notes remained higher after a report showed U.S. consumer confidence fell in August by the most since just after Hurricane Katrina two years ago.
Consumer Confidence
The New York-based Conference Board's index of confidence declined to 105 from a revised 111.9 in July. Economists had expected a reading of 104, according to a Bloomberg survey. Earlier today another report showed home prices in the U.S. dropped by a record amount in the second quarter.
Two-year Treasury yields fell 7 basis points to 4.15 percent, according to bond broker Cantor Fitzgerald LP. The price of the 4 5/8 percent security due in July 2009 rose 1/8, or $1.25 per $1,000 face amount, to 100 7/8.
``People are anticipating further weakness,'' said David Ader, head of U.S. government bond strategy in Greenwich, Connecticut, at RBS Greenwich Capital, one of 21 primary dealer firms that trade directly with the Federal Reserve. ``People are going back into two-year notes.''
Ten-year note yields were little changed at 4.56 percent after touching 4.54 percent, near the lowest since March 22.
Further gains in the benchmark notes may be limited, according to John Spinello, chief fixed-income technical strategist in New York at Jefferies & Co. Ten-year note yields touched a daily low of 4.56 percent yesterday.
To contact the reporter on this story: Deborah Finestone in New York at dfinestone@bloomberg.net
Last Updated: August 28, 2007 12:01 EDT
Treasury Three-Month Bills Rise First Time in Six Days on Risk
By Deborah Finestone
Aug. 28 (Bloomberg) -- Treasury three-month bills rose for the first time in six days as investors sought refuge in the safest government securities on concern more banks may suffer losses related to the credit market crunch.
Investors bought bills as DBS Group Holdings Ltd., Singapore's largest bank, said it has more at risk from asset- backed debt than it earlier reported. State Street Corp., the largest U.S. money manager for institutions, had more credit lines to asset-backed commercial paper than European and U.S. peers, the Times of London reported.
``There's always headline risk, and that brings back the flight-to-quality trades,'' said Kevin Flanagan, a fixed-income strategist in Purchase, New York, at Morgan Stanley. ``Bills could be the beneficiary.''
Three-month bill yields fell 10 basis points, or 0.10 percentage point, to 4.4 percent at 11:57 a.m. in New York, according to Bloomberg data. Bill yields and prices move in the opposite direction.
Barclays Plc rebutted a Financial Times report that it provided funding to an investment unit for Landesbank Sachsen Girozentrale, the German public lender squeezed by the global credit crunch.
State Street said the credit quality of the assets in its conduit program is ``very good.'' The Boston-based investment custodian has credit lines to asset-backed commercial paper totaling $27.9 billion as of June 30, according to filings with the U.S. Securities and Exchange Commission.
Two-year Treasury notes remained higher after a report showed U.S. consumer confidence fell in August by the most since just after Hurricane Katrina two years ago.
Consumer Confidence
The New York-based Conference Board's index of confidence declined to 105 from a revised 111.9 in July. Economists had expected a reading of 104, according to a Bloomberg survey. Earlier today another report showed home prices in the U.S. dropped by a record amount in the second quarter.
Two-year Treasury yields fell 7 basis points to 4.15 percent, according to bond broker Cantor Fitzgerald LP. The price of the 4 5/8 percent security due in July 2009 rose 1/8, or $1.25 per $1,000 face amount, to 100 7/8.
``People are anticipating further weakness,'' said David Ader, head of U.S. government bond strategy in Greenwich, Connecticut, at RBS Greenwich Capital, one of 21 primary dealer firms that trade directly with the Federal Reserve. ``People are going back into two-year notes.''
Ten-year note yields were little changed at 4.56 percent after touching 4.54 percent, near the lowest since March 22.
Further gains in the benchmark notes may be limited, according to John Spinello, chief fixed-income technical strategist in New York at Jefferies & Co. Ten-year note yields touched a daily low of 4.56 percent yesterday.
To contact the reporter on this story: Deborah Finestone in New York at dfinestone@bloomberg.net
Last Updated: August 28, 2007 12:01 EDT
Saturday, August 25, 2007
Advisors Performance
Here is some data on the performance of various TSP advisory services some pay for and some not.
TSP Pilot has been, in a word, "disappointing" in recent years. Total TSP Advisory Services Performance2005 & 20061.
TSP Key 49.3%
2. Thrift Trading 40.4%
3. TSP Report 33.6%
4. TSP GO 31.1%
5. TSP Wealth 30.4%
6. TSP Max 30.3%
7. TSP Pilot 17.5%
8. TSP Talk 7.6%
9. TSP Strategy 43.5%---
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
C
TSP Pilot has been, in a word, "disappointing" in recent years. Total TSP Advisory Services Performance2005 & 20061.
TSP Key 49.3%
2. Thrift Trading 40.4%
3. TSP Report 33.6%
4. TSP GO 31.1%
5. TSP Wealth 30.4%
6. TSP Max 30.3%
7. TSP Pilot 17.5%
8. TSP Talk 7.6%
9. TSP Strategy 43.5%---
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of the individual group member. Please make your own investment decisions based upon your personal circumstances.
C
A Primer on the Credit/Liquidity Crisis
A thorough review of liquidity and its role in the ongoing mortgage/credit crisis...
THE LIQUIDITY CRISIS OF 2007A Question and Answer Survival Guide by Atash Hagmahani & Andy SuttonMy2CentsOnline. comAugust 24, 2007
Is the current stock market correction a healthy correction, or the start of a bear market?
It's hard to say, because of the mysterious and counterintuitive way that US stock markets tend to recover in the late hours of trading, after stock markets around the world were plunging the rest of the day. There is clearly not the high degree of transparency that small to medium investors need to make sound investing decisions. Perhaps one of the biggest misconceptions with regards to the stock market is that securities are priced fairly. To a large extent, markets run on emotion, and therefore, are inefficient. Today significant portions of the markets are run by computer models and therefore are perceived to be perfect. However, the computer software is only as good as the person writing it. The software often carries the biases and perceptions of the programmer. Instead of trying to predict the future of what the stock market will do, ask yourself if you can think of more rational and more productive ways to make money than trying to buy electronic tokens from each other and later sell them to each other at higher prices.
What caused this recent crisis to happen?
The stock market volatility is being caused by lower-than-usual amounts of ready cash, or in other words, a liquidity crisis. Liquidity means that enough cash is available for assets to trade hands without the sellers taking a significant loss. Liquidity is what the world's financial network is lacking at the moment.
The liquidity crisis happened because of questions regarding the value of several types of securities, which in turn had been used as collateral for outstanding loans. One of the securities in question is the CDO, or Collateralized Debt Obligation. What happens is that investment banks sell interests in a pool of mortgages. The value of the underlying bonds is derived from the expected future cash flow from the mortgages that make up the bond. When these bonds were packaged together, a certain percentage of the underlying mortgages were expected to default and end up in foreclosure. The pool of mortgages was divided up into groups called tranches; each tranche corresponded to different levels of risk and reward. The highest rated tranches had the highest priority for repayment of principal, and the lowest interest rate offered, while the lowest-rated tranches had the lowest priority for repayment of principal but the highest rate of interest offered. However, what we have seen is default and foreclosure rates higher than those assumed. These additional defaults and foreclosures have reduced the future cash flows. Once that happens, it becomes inherently obvious that the bonds are no longer worth the price on the books.
The main problem with this scenario is that some of the mortgages should never have been made in the first place. The reason that they were is because in a fiat money system where credit can be created on demand, investors armed with limitless supplies of borrowed money will tend to bid returns on investment down to absurd levels. Eventually lenders become desperate for new borrowers, and will make irresponsible loans, and then try to sell interests in these to someone else as quickly as possible. The high-risk tranches are popularly known as toxic waste.
They were able to find suckers to buy interests in these loans because major Wall Street credit rating companies were giving investment-grade ratings to high-risk tranches.
Have there been any liquidity crises in the past?
Yes, many. Ironically, one of them, the Banker's Panic of 1907, was the excuse given to create the Federal Reserve. The operations of the Federal Reserve were supposed to prevent such things from happening.
In the case of the panic of 1907, the stock market crashed twice, there was a recession, and there was a run on the banks.
Doesn't FDIC insurance mean that bank deposits are safe now?
FDIC insurance isn't really insurance, it's a pool of money to be used to buy up enough bad loans off the failed bank's books to make it attractive to a potential buyer. It's not used to pay back the depositors.
It only works when bank failures are isolated events, and will not work in a systemic crisis.
The purpose of FDIC insurance is not to really guarantee the safety of the banking system, but to prevent runs on banks by reassuring investors that their accounts are insured. Bank failures, however, are not really an insurable event.
What's different about the liquidity crisis this time?
The biggest difference is that in this case, the crisis is on a global scale due mostly to displaced dollars as a result of our persistent trade deficits. For years we have been importing more than exporting. This has resulted in many foreign countries ending up with a growing excess of US Dollars in their coffers. Instead of holding onto the cash, they invested in government bonds, agency debt, US stocks, and unfortunately, CDO's. CDO's were especially popular due to the high credit ratings coupled with attractive interest rates.
The market for US mortgages is over $9 trillion dollars. To put this in perspective, it is more than the entire indebtedness of the US government. US GDP is around $13 Trillion. The total supply of money in the US system (M3) is around $12 Trillion. So it is easy to see the enormity of the US mortgage market. Granted, many of those loans are prime loans, and the borrowers faithfully make their payments each month.
The biggest threat right now is that we are seeing this crisis coupled with a slowdown in the overall US Economy. As recently as 8/16, the Philadelphia Fed Survey indicated that overall business conditions in the Northeast are at a stall. Retail sales are slowing down, and if you consider that the numbers reported are actual dollars, not units sold, retail sales are flat to negative already.
What has the Federal Reserve done in response to the crisis?
The Federal Reserve conducted several repo operations in which they injected billions of dollars into the banking system. Repos are temporary swaps of collateral for cash. The Fed found that because only quality collateral is used in repost that banks were using the repos to get liquid, then holding the cash. This was done as a defense against further liquidity crunches. The only problem with the repos is that the institutions that really needed the loans couldn't get them because they lacked quality collateral. Once this became evident, the Fed switched to the Discount Window method.
Quoting from their own press release:
To promote the restoration of orderly conditions in financial markets, the Federal Reserve Board approved temporary changes to its primary credit discount window facility. The Board approved a 50 basis point reduction in the primary credit rate to 5-3/4 percent, to narrow the spread between the primary credit rate and the Federal Open Market Committee's target federal funds rate to 50 basis points. The Board is also announcing a change to the Reserve Banks' usual practices to allow the provision of term financing for as long as 30 days, renewable by the borrower. These changes will remain in place until the Federal Reserve determines that market liquidity has improved materially. These changes are designed to provide depositories with greater assurance about the cost and availability of funding. The Federal Reserve will continue to accept a broad range of collateral for discount window loans, including home mortgages and related assets…
In other words, the Federal Reserve lowered the interest rate at its discount window, will accept the toxic waste as collateral (they have no reason not to, since the credit they use to buy the collateral isn't real money that they had to work for), and are encouraging banks to get loans from them.
Will lowering the interest rate at the Fed's discount window solve the problem?
No. The discount window is still a higher rate than the federal funds rate, so the only banks that have an incentive to apply to the federal reserve for loans are those banks that are being turned away from other banks. This smacks of desperation, but it doesn't solve the problem of collateral that is worth significantly less value than it's on the books for. If the central banks just keep rolling the loans over and over again, first of all that creates moral hazard (an incentive to do the wrong thing), and second, it amounts to monetizing worthless debt, or in other words, it causes inflation and lack of confidence in the currency.
On top of this hazard, the Fed is going to be faced with the reality of a recession in the near future. Monetizing junk mortgages and cutting rates at the same time to spur the economy is likely to trigger a sell-off of the dollar. The dollar seems to have 9 lives, but it is difficult to imagine a scenario in which the above conditions occur and the dollar doesn't fall.
If lowering the interest rate on the discount window won't solve the problem, then why is the Federal Reserve doing it?
Average people who read the mainstream media's reassurances that this will solve the problem are likely to believe them. So above all, this is a confidence game. The purpose is probably to keep average American and foreign investors in the stock, bond, and money markets so that favored corporations have more time to get out.
Letting banks that are in trouble apply for loans at the Fed's discount window allows the Fed to figure out who is in trouble, and it buys time. The real danger to this situation is that the bigger banks either try to smooth over or understate their exposure and risk and one (or more) end up going bust. If this were to happen, the financial system itself could collapse.
Is this something that I should be worried about?
It's impossible to predict the future with any accuracy. It's better to make preparations according to likelihoods and how much is at stake, and then worry less.
What are some possible risks associated with this crisis?
Many types of assets will become difficult to sell without a loss. Slow-moving assets such as real estate and small businesses will move slower than usual unless deeply discounted. Fast-moving assets such as stocks may plunge in value. Long-term bonds have inflation risk. Even inflation-indexed bonds have significant inflation risk because they are indexed to ridiculously low measures of price increases.
Money-market funds, that tend to contain uncollateralized debt, are not necessarily covered by the FDIC. Many of the higher-returning money market fund have also bought heavily into the subprime mortgage bonds. They did this to capture the higher yields. What they also captured was higher risk, risk that is not perceived to be present in money market funds.
The FDIC can't handle a systemic banking crisis or for that matter one really big bank failure.
What can I do to protect myself from possible consequences of this situation?
While we cannot make specific recommendations because of suitability requirements, some strategies used in situations like this are:
Keeping on hand, in cash, expense money calculated to last for a predetermined period of time
Buying quantities of precious metal bullion coins to use as currency substitutes
Buying precious metal collectible coins. During the crisis, these might fall in price, which is actually a good opportunity to buy them at a discount as a hedge against currency depreciation. If the crisis is too bad, however, then they will skyrocket in price against a collapsing currency. Decide what you can afford and how much you're willing to pay. History has shown our government's predilection to confiscate bullion. So far, such has not been the case with numismatic (collectible) coins
Selling US Dollar-based assets and converting the funds to cash or near-cash positions denominated in multiple foreign currencies, while avoiding money-market funds.
Keeping printed statements from brokerage and other stock accounts on hand
The mainstream media isn't discussing the crisis much anymore. How will I know when it's over?
The crisis is probably actually in its early phases! Public sentiment is usually wrong. Right now there is still too much optimism, as is typical of the early phases of a crisis. Think of the passengers on the Titanic who were casually chipping pieces of the iceberg off to cool their drinks. When the crisis actually bottoms out, there is likely to be a lot of leftover hand-wringing and despair. To stay better informed, read financial news sites such as this one.
The mainstream media is incredibly biased in this regard. Remember, the media outlets are owned by large companies with profit motives and an interest in keeping the status quo healthy. Many of these `economic experts' seen on TV are nothing more than journalists.
**This article was written for informational purposes only and does not constitute advice to buy or sell securities or any other assets. You are responsible for any financial decisions that you make.**© 2007 Andy Sutton & Atash Hagmahani
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of myself. Please make your own investment decisions based upon your personal circumstances.
THE LIQUIDITY CRISIS OF 2007A Question and Answer Survival Guide by Atash Hagmahani & Andy SuttonMy2CentsOnline. comAugust 24, 2007
Is the current stock market correction a healthy correction, or the start of a bear market?
It's hard to say, because of the mysterious and counterintuitive way that US stock markets tend to recover in the late hours of trading, after stock markets around the world were plunging the rest of the day. There is clearly not the high degree of transparency that small to medium investors need to make sound investing decisions. Perhaps one of the biggest misconceptions with regards to the stock market is that securities are priced fairly. To a large extent, markets run on emotion, and therefore, are inefficient. Today significant portions of the markets are run by computer models and therefore are perceived to be perfect. However, the computer software is only as good as the person writing it. The software often carries the biases and perceptions of the programmer. Instead of trying to predict the future of what the stock market will do, ask yourself if you can think of more rational and more productive ways to make money than trying to buy electronic tokens from each other and later sell them to each other at higher prices.
What caused this recent crisis to happen?
The stock market volatility is being caused by lower-than-usual amounts of ready cash, or in other words, a liquidity crisis. Liquidity means that enough cash is available for assets to trade hands without the sellers taking a significant loss. Liquidity is what the world's financial network is lacking at the moment.
The liquidity crisis happened because of questions regarding the value of several types of securities, which in turn had been used as collateral for outstanding loans. One of the securities in question is the CDO, or Collateralized Debt Obligation. What happens is that investment banks sell interests in a pool of mortgages. The value of the underlying bonds is derived from the expected future cash flow from the mortgages that make up the bond. When these bonds were packaged together, a certain percentage of the underlying mortgages were expected to default and end up in foreclosure. The pool of mortgages was divided up into groups called tranches; each tranche corresponded to different levels of risk and reward. The highest rated tranches had the highest priority for repayment of principal, and the lowest interest rate offered, while the lowest-rated tranches had the lowest priority for repayment of principal but the highest rate of interest offered. However, what we have seen is default and foreclosure rates higher than those assumed. These additional defaults and foreclosures have reduced the future cash flows. Once that happens, it becomes inherently obvious that the bonds are no longer worth the price on the books.
The main problem with this scenario is that some of the mortgages should never have been made in the first place. The reason that they were is because in a fiat money system where credit can be created on demand, investors armed with limitless supplies of borrowed money will tend to bid returns on investment down to absurd levels. Eventually lenders become desperate for new borrowers, and will make irresponsible loans, and then try to sell interests in these to someone else as quickly as possible. The high-risk tranches are popularly known as toxic waste.
They were able to find suckers to buy interests in these loans because major Wall Street credit rating companies were giving investment-grade ratings to high-risk tranches.
Have there been any liquidity crises in the past?
Yes, many. Ironically, one of them, the Banker's Panic of 1907, was the excuse given to create the Federal Reserve. The operations of the Federal Reserve were supposed to prevent such things from happening.
In the case of the panic of 1907, the stock market crashed twice, there was a recession, and there was a run on the banks.
Doesn't FDIC insurance mean that bank deposits are safe now?
FDIC insurance isn't really insurance, it's a pool of money to be used to buy up enough bad loans off the failed bank's books to make it attractive to a potential buyer. It's not used to pay back the depositors.
It only works when bank failures are isolated events, and will not work in a systemic crisis.
The purpose of FDIC insurance is not to really guarantee the safety of the banking system, but to prevent runs on banks by reassuring investors that their accounts are insured. Bank failures, however, are not really an insurable event.
What's different about the liquidity crisis this time?
The biggest difference is that in this case, the crisis is on a global scale due mostly to displaced dollars as a result of our persistent trade deficits. For years we have been importing more than exporting. This has resulted in many foreign countries ending up with a growing excess of US Dollars in their coffers. Instead of holding onto the cash, they invested in government bonds, agency debt, US stocks, and unfortunately, CDO's. CDO's were especially popular due to the high credit ratings coupled with attractive interest rates.
The market for US mortgages is over $9 trillion dollars. To put this in perspective, it is more than the entire indebtedness of the US government. US GDP is around $13 Trillion. The total supply of money in the US system (M3) is around $12 Trillion. So it is easy to see the enormity of the US mortgage market. Granted, many of those loans are prime loans, and the borrowers faithfully make their payments each month.
The biggest threat right now is that we are seeing this crisis coupled with a slowdown in the overall US Economy. As recently as 8/16, the Philadelphia Fed Survey indicated that overall business conditions in the Northeast are at a stall. Retail sales are slowing down, and if you consider that the numbers reported are actual dollars, not units sold, retail sales are flat to negative already.
What has the Federal Reserve done in response to the crisis?
The Federal Reserve conducted several repo operations in which they injected billions of dollars into the banking system. Repos are temporary swaps of collateral for cash. The Fed found that because only quality collateral is used in repost that banks were using the repos to get liquid, then holding the cash. This was done as a defense against further liquidity crunches. The only problem with the repos is that the institutions that really needed the loans couldn't get them because they lacked quality collateral. Once this became evident, the Fed switched to the Discount Window method.
Quoting from their own press release:
To promote the restoration of orderly conditions in financial markets, the Federal Reserve Board approved temporary changes to its primary credit discount window facility. The Board approved a 50 basis point reduction in the primary credit rate to 5-3/4 percent, to narrow the spread between the primary credit rate and the Federal Open Market Committee's target federal funds rate to 50 basis points. The Board is also announcing a change to the Reserve Banks' usual practices to allow the provision of term financing for as long as 30 days, renewable by the borrower. These changes will remain in place until the Federal Reserve determines that market liquidity has improved materially. These changes are designed to provide depositories with greater assurance about the cost and availability of funding. The Federal Reserve will continue to accept a broad range of collateral for discount window loans, including home mortgages and related assets…
In other words, the Federal Reserve lowered the interest rate at its discount window, will accept the toxic waste as collateral (they have no reason not to, since the credit they use to buy the collateral isn't real money that they had to work for), and are encouraging banks to get loans from them.
Will lowering the interest rate at the Fed's discount window solve the problem?
No. The discount window is still a higher rate than the federal funds rate, so the only banks that have an incentive to apply to the federal reserve for loans are those banks that are being turned away from other banks. This smacks of desperation, but it doesn't solve the problem of collateral that is worth significantly less value than it's on the books for. If the central banks just keep rolling the loans over and over again, first of all that creates moral hazard (an incentive to do the wrong thing), and second, it amounts to monetizing worthless debt, or in other words, it causes inflation and lack of confidence in the currency.
On top of this hazard, the Fed is going to be faced with the reality of a recession in the near future. Monetizing junk mortgages and cutting rates at the same time to spur the economy is likely to trigger a sell-off of the dollar. The dollar seems to have 9 lives, but it is difficult to imagine a scenario in which the above conditions occur and the dollar doesn't fall.
If lowering the interest rate on the discount window won't solve the problem, then why is the Federal Reserve doing it?
Average people who read the mainstream media's reassurances that this will solve the problem are likely to believe them. So above all, this is a confidence game. The purpose is probably to keep average American and foreign investors in the stock, bond, and money markets so that favored corporations have more time to get out.
Letting banks that are in trouble apply for loans at the Fed's discount window allows the Fed to figure out who is in trouble, and it buys time. The real danger to this situation is that the bigger banks either try to smooth over or understate their exposure and risk and one (or more) end up going bust. If this were to happen, the financial system itself could collapse.
Is this something that I should be worried about?
It's impossible to predict the future with any accuracy. It's better to make preparations according to likelihoods and how much is at stake, and then worry less.
What are some possible risks associated with this crisis?
Many types of assets will become difficult to sell without a loss. Slow-moving assets such as real estate and small businesses will move slower than usual unless deeply discounted. Fast-moving assets such as stocks may plunge in value. Long-term bonds have inflation risk. Even inflation-indexed bonds have significant inflation risk because they are indexed to ridiculously low measures of price increases.
Money-market funds, that tend to contain uncollateralized debt, are not necessarily covered by the FDIC. Many of the higher-returning money market fund have also bought heavily into the subprime mortgage bonds. They did this to capture the higher yields. What they also captured was higher risk, risk that is not perceived to be present in money market funds.
The FDIC can't handle a systemic banking crisis or for that matter one really big bank failure.
What can I do to protect myself from possible consequences of this situation?
While we cannot make specific recommendations because of suitability requirements, some strategies used in situations like this are:
Keeping on hand, in cash, expense money calculated to last for a predetermined period of time
Buying quantities of precious metal bullion coins to use as currency substitutes
Buying precious metal collectible coins. During the crisis, these might fall in price, which is actually a good opportunity to buy them at a discount as a hedge against currency depreciation. If the crisis is too bad, however, then they will skyrocket in price against a collapsing currency. Decide what you can afford and how much you're willing to pay. History has shown our government's predilection to confiscate bullion. So far, such has not been the case with numismatic (collectible) coins
Selling US Dollar-based assets and converting the funds to cash or near-cash positions denominated in multiple foreign currencies, while avoiding money-market funds.
Keeping printed statements from brokerage and other stock accounts on hand
The mainstream media isn't discussing the crisis much anymore. How will I know when it's over?
The crisis is probably actually in its early phases! Public sentiment is usually wrong. Right now there is still too much optimism, as is typical of the early phases of a crisis. Think of the passengers on the Titanic who were casually chipping pieces of the iceberg off to cool their drinks. When the crisis actually bottoms out, there is likely to be a lot of leftover hand-wringing and despair. To stay better informed, read financial news sites such as this one.
The mainstream media is incredibly biased in this regard. Remember, the media outlets are owned by large companies with profit motives and an interest in keeping the status quo healthy. Many of these `economic experts' seen on TV are nothing more than journalists.
**This article was written for informational purposes only and does not constitute advice to buy or sell securities or any other assets. You are responsible for any financial decisions that you make.**© 2007 Andy Sutton & Atash Hagmahani
Neither the TSP Strategy group, nor individual members including myself, are licensed or authorized to provide investment advice. Any statements made herein merely reflect the personal opinions of myself. Please make your own investment decisions based upon your personal circumstances.
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