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Today's Market WrapUp 07.15.2008 Mon Tue Wed Thu Fri Barbera Archive
Numerous Difficulties & Monetary Insurance
‘Numerous difficulties’ -- that’s one way to put it. Yet somehow the current Fed Chairmen seems to have acquired his predecessors ‘ivory tower’ gift for understatement. I am sure most of the people lined up in front of Indymac Bank for hours in the hot sun worried about the return of their money might have characterized the situation as something more serious than a ‘difficulty.’ I sometimes run into ‘difficulties’ changing web pages on the net, or sometimes have ‘difficulties’ when my morning newspaper fails to arrive. With a growing list of major banks and other institutions joining the prospective casualty list, huge institutions like Freddie Mac, Fannie Mae, Wachovia, Washington Mutual, Lehman Brothers, AIG, Barclays, Suntrust, Merrill Lynch, General Motors, Ford and Citicorp – all in boiling hot water -- one might think that the current ‘situation’ could be better characterized as a seizure, a convulsion, a trauma or an emergency – or a banking “crisis” which is what regrettably, the world financial system is now facing. Ah, I suppose we shouldn’t be too harsh on the Fed Chair as his must be the calm voice of reason at all times, and to that end, it is also only fair to point out that nearly all of these problems were inherited from his predecessor, the real king of babble, Dr. Greenspan. Yet, we can only hope that behind the scenes, a greater sense of urgency is at work, as the market action over the last few days strongly hints at a Federal Reserve that is losing control. Over the weekend, following his recent philosophical approach to handling the credit crisis, the Fed and Treasury launched a pre-emptive strike aimed at calming the boiling waters surrounding the GSE’s. The Fed discount window would be made available, more capital sought, and help garnered with an amendment to current legislation already working its way through the house. On Monday morning stocks rallied, with the S&P 500 futures up 13.50 index points, and Fannie and Freddie opening sharply higher with gains of 20% or more. For a few moments it really looked like it might work, that the market might take off and really squeeze the shorts, putting in some type of more important bad news bottom. Yet by 7:30 AM PST, one hour into the trading day, the trading rally had come undone with Fannie and Freddie pulling back to near flat, and a the S&P moving into slightly negative territory. The catalyst for the reversal, a perception among some that perhaps where the US Government is concerned, Fannie and Freddie could well be the last companies to receive Federal aid. Quoting a Money and Finance article by Associated Press & AOL entitled “Government not expected to help more companies” (by Joe Bel Bruno and Stephen Bernard) ,
To be sure, while Fannie and Freddie ONLY pulled back to flat, by 7:30 am PST on Monday the rest of the banking sector was already taking it on the chin. In the box below, we see a snapshot of how quickly the shorts managed to pounce on other institutions, with very substantial percentage losses dotting the tape in the financials.
Above: Snapshot of Banking Sector at 7:30am pst Since then, we have seen a whole additional round of carnage with the stock market closing lower on Monday, and moving lower on Tuesday prior to a relief rally bounce. Yet, NOT bouncing are once again some very prominent names, names that are quickly rising to the top of the troubled institution lists. In today’s trading, banking giant Wachovia Corp (WB), which made a disastrously ill fated purchase of Golden West Financial right at the top of housing market, plunged by 19.92% into a mid morning reading of around $7.88. This follows on the heals of another massive collapse at Washington Mutual (WM), which yesterday tumbled by 34.75% in one day. With declines like this becoming more visible, it is no wonder that the local television news channels are running more and more stories about safe banks and ‘what to do with your money.’ Since most of us need the flexibility of access to cash (ATM’s etc…) when we are on the go, not having a bank probably doesn’t make a whole lot of sense. Truth be told, it’s a very strong bet that Uncle Sam will make sure very few people lose money in a banking crisis. Obviously, there are the smart steps to take care to make sure all deposits at any given bank fall under the FDIC Insurance which covers individual accounts up to $100,000.
However, as the Banking Crisis faces further “difficulties” to use Dr. Bernanke’s phrase, it is hard to see how the US Government will not be called upon to intervene in other financial fiasco’s. Indeed, the very fact that Uncle Sam has already opened the monetary doorway suggests that in the unfortunate instance that things continue to deteriorate, a broad scale government bail out will be necessary. To this end, the logical outgrowth of a banking crisis remains two fold. First off, sick banks will have to paired off with strong banks, and short term interest rates, monetary policy will have to remain quite loose. More Fed rate cuts are very likely as the Fed has fallen into a serious liquidity trap. This means that the Fed is being forced virtually each and every day to choose between combating inflation (where wholesale prices jumped 1.80% in June the fastest past in 25 years), or saving the banks with ultra low rates and by setting up an IV -- risk free yield curve “bond carry trade.” On that score, it will be no contest, as the Fed appears likely to back-stop the financial system and act as lender of last resort to the banks. At the moment, the FDIC currently has $53 billion set aside to reimburse consumers for deposits lost at failed banks. Indymac will eat up $4 billion to $8 billion of that fund, the agency estimates. That in turn could force the FDIC to raise more money from the banks that it insures. However, with more and more sick banks in danger of following Indymac, it appears that the Fed is fast approaching the proverbial fork in the road. Going all the way back to last August, when the Fed first started down the potholed road of monetary accommodation, we have been concerned that at some point a private sector financial crisis would beckon the Fed to the rescue only to have markets in turn pull an “end run” on the Fed. After all, if a crisis in not allowed to unfold, and the Fed is the lender of last resort for one and for all, then at what point do markets begin questioning the solvency of the Fed? This was the conundrum illustrated in Martin Weiss excellent 1989 book entitled, “The Money Panic,” where within the context of an ongoing monetary crisis, more government intervention reaches a point where it backfires and has the opposite affect. In the current instance, the real risk at hand entails a domestic banking crisis being transferred into the currency markets and the bond markets, where a falling Dollar begins to force up long term rates for bonds. (See link.) From: The Money Panic 1989 Probus
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