NOLTE NOTES
On Bank Insolvency
by Paul J. Nolte, CFA
September 16, 2008

First it was Fannie and Freddie, now it is rumored to be Lehman and AIG. Washington Mutual is waiting in the wings. We’ve had just over 10 banks go out of business and the question remains, how much longer can this go on? The markets are looking at only the financial sector and ignoring anything else of economic value. Producer prices declined (likely on the lower energy prices), mortgage rates fell (the government bailout precipitated the change) and the consumer continues to keep spending under control. Little of that news made it close to the front pages, as much of the ink (and internet ether) was absorbed by anything related to the financial sector. That being said, the financial stock indexes managed to stay above their July lows, housing stocks actually advanced on the week – so could the bottom be at hand? Economically speaking, we have traversed nearly a year in the muck of housing, payrolls have been contracting for only eight months and a bottom in foreclosures remains elusive. We still believe there is more yet to go before we get to the ultimate bottom – maybe yet before the end of the year. We’ll get more housing information this week as housing starts will be released. Inflation at the consumer level and industrial output is also on tap for the week. Let’s hope the focus shifts back to the economy this week.

One school of thought believes that a rising market in the face of bad news has factored all the bad news and looking for an excuse to rally. Last week may have been a catalyst in the markets trying to find a bottom, having now tested the July lows successfully (at least to this point). So what is next? Based upon the early indications the markets look to be taking the Lehman, AIG and Merrill Lynch news very poorly and will likely blow through the previous support/lows, meaning the next level of support is around 1150. At this point, very few of our indicators are hitting levels that could provide a reason for the markets to rally, so it looks as though there is more pain before we get to the gain. The delevering process is well underway and is beginning to affect the prices for stocks. Our expectations are for a washout on Monday and more important than how Monday opens is how it closes – and if there is any follow-through on Tuesday. If we get a cataclysmic event this week, it may just be the time to begin entering the markets. We’ll see how things look mid-week.
 
The bond market continues to anticipate an economic slowing. The troubles in the financial sector are serving to move yields lower at a faster pace. The primary beneficiary of the financial dislocation has been the Treasury bond, as even the agency bonds are having a tough time getting a bid. Commodity prices have fallen so far over the past few weeks that instead of being up over 40% vs. a year ago levels, there are now up only 9% and are now down for the year to date period. Higher energy prices were going to squeeze the consumer; however lower prices are indications of global economic slowing. In our view speculation moved prices unsustainably higher and today that is being unwound (as is the financial leverage). Oil prices will be playing the limbo now – how low can they go!

© 2008 Paul J. Nolte, CFA
Editorial Archive

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.

CONTACT INFORMATION
Paul J. Nolte, CFA
Director Investments
Hinsdale Associates
630-325-7100
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