Here Comes the Cavalry

Wall Street and the financial interests painted a picture of a 'bottom' and continued to hand off the losses and risk to the public and shareholders.

You were warned.

It is not over.

Goldman Cuts Banks, Strongly Advises Selling Citi
Thu Jun 26 11:32:32 2008 EDT
By Ed Welsch

NEW YORK (Dow Jones)- The business models of Wall Street investment banks and U.S.-based global banks continue to deteriorate and their recovery will take longer than anticipated, Goldman Sachs Group Inc. told clients Thursday.

The firm cut its recommendation of the sector to neutral from attractive and strongly recommended that investors sell shares of Citigroup Inc., saying it faced multiple problems, including more asset write-downs, higher loss provisions for consumer credit and the potential for more capital raises, dividend cuts or asset sales. (But they'd buy them for $2 and a backstop from Benny. - Jesse)

Financial stocks declined broadly, with shares of Citigroup recently falling 6.5% to $17.62 after earlier reaching a new 52-week low of $17.57. The previous low of $17.99 was reached March 17. A Citigroup spokeswoman said the company doesn't comment on analyst reports.

The move came as Goldman itself was downgraded to market perform by analysts at Wachovia "in light of renewed economic fears" and a poor outlook for investment banking business. Goldman is widely considered to be the strongest investment bank in the U.S. Goldman shares fell 3.2% to $177.84 in recent trading.

By adding Citigroup to its conviction sell list and expressing caution on other financial firms, Goldman reversed the positive stance it took on the financial sector following the near-collapse of Bear Stearns Cos. Wall Street had hoped that March 17 had marked the bottom for financial stocks and write-downs. Although write-downs have been slowing, more problems have cropped up for the banks as their boom-year businesses in structured financial products disappear and their assets tied to consumers deteriorate as the overall economy weakens.

Goldman cut its second-quarter and full-year estimate for several financial firms, both large and small. The most significant cuts were on Citigroup and Merrill Lynch & Co. (MER) -Goldman now sees both firms posting losses in the second quarter and full year; it put the second-quarter losses at 75 cents a share at Citigroup and $2 a share at Merrill. Goldman also cut its estimates for Piper Jaffray Cos. (PJC), Lazard Ltd. (LAZ), Evercore Partners Inc. (EVR)and Greenhill & Co. (GHL).

Shares of Merrill fell 4.9% to $33.73 in recent trading. A Merrill spokeswoman said the firm doesn't comment on analyst research.

Goldman expects Citigroup to take $9 billion in write-downs during the second quarter and Merrill to take $4.2 billion in write-downs in the quarter. Both firms are scheduled to report their second-quarter results in mid-July.

Bernstein Research also added to the gloomy chorus on investment banks Thursday, swinging its estimate of Merrill's second quarter to a loss. Bernstein expects Merrill to write down $3.5 billion during the quarter on its collateralized debt obligations, mortgage-related legacy exposures and its counterparty exposure to monoline insurers.

Bernstein said its projection of a second-quarter loss of 93 cents a share could prove to be too optimistic, "given the uncertainty of where CDO marks and monoline reserve levels will be this quarter."

Citigroup Chief Financial Officer Gary Crittenden said the bank would take "substantial additional marks on our subprime exposure" if current trends continue. He said the second quarter remained challenging but "was characterized in many respects by sequential improvement" over the first quarter, when Citigroup posted a loss of $5 billion on more than $10 billion in write-downs.

"However, the market continues to change rapidly, and volatility remains unprecedented," he said. "This could cause the remainder of the quarter to shape up very differently from what I've just discussed."

The analysts said the most troubled business units of the financial firms are investment banking, where merger and acquisition activity has slowed and where underwriting remains depressed compared to year-earlier levels, and the distressed areas of the fixed-income market made up of mortgage-backed securities.

Gold Weekly Chart - 25 June 2008

Charts in the Babson Style for Midweek 25 June 2008

A lot of dominos lined up, but we are coming into the end of the second quarter and there is a lot of bonus money riding into this quarterly close on Monday. They have been selling the dogs the last few days, but that may end.

Don't jump in front of support. The SP futures need to climb back over 1322 and there is potential for a bounce off 1306 for a short term double bottom. Let's see if they can do it.

Beltway Ben Assumes a Neutral Stance, Complementing the Treasury Secretary's Wider Stance

"If every day a man takes orders in silence from an incompetent superior, if every day he solemnly performs ritual acts which he privately finds ridiculous, if he unhesitatingly gives answers to questionnaires which are contrary to his real opinions and is prepared to deny his own self in public, if he sees no difficulty in feigning sympathy or even affection where, in fact, he feels only indifference or aversion, it still does not mean that he has entirely lost the use of one of the basic human senses, namely, the sense of humiliation." Václav Havel in a Letter to Dr. Gustáv Husák 8 April 1975

Fed Keeps Rate at 2%, Cites `Upside' Inflation Risks
By Craig Torres

June 25 (Bloomberg) -- The Federal Reserve kept its benchmark rate at 2 percent and warned that faster inflation may accompany some strengthening of the economy.

``Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased,'' the Federal Open Market Committee said in a statement in Washington after a two-day meeting.

Fed Chairman Ben S. Bernanke and his colleagues ended the most aggressive monetary easing in two decades, refreshed their forecasts and reported some improvement in consumer spending. At the same time, crude oil prices have almost doubled in the past year and the cost of commodities from wheat to tin jumped to unprecedented levels.

``The Fed is more balanced now in their assessment,'' James Paulsen, chief investment strategist at Wells Capital Management in Minneapolis, said in a Bloomberg Television interview. ``A rate hike is now back on the table. If it goes weak again, it can ease.''

Stocks rose after the decision, pushing the Standard & Poor's 500 Stock Index up 0.6 percent to 1,321.97. The yield on the benchmark 10-year Treasury note rose about 1 basis point to 4.09 percent. The dollar weakened against the euro.

``The Committee expects inflation to moderate later this year and next year,'' the Fed said. ``However, in light of the continued increases in the prices of energy and some other commodities and the elevated state of some indicators of inflation expectations, uncertainty about the inflation outlook remains high.''

Next Meeting

``It is more or less a neutral statement, which is consistent with policy on hold pending more clarity,'' said James O'Sullivan, a senior economist at UBS Securities LLC in Stamford, Connecticut. ``They are not tipping their hand for the next meeting.''

As policy makers convened, reports showed U.S. home prices fell the most on record, consumer confidence touched a 16-year low, and durable goods orders were unchanged in May. Households are also falling further behind on their debt, eroding profits at lenders. Banks and securities firms have taken almost $400 billion in asset writedowns and credit losses.

``Tight credit conditions, the ongoing housing contraction, and the rise in energy prices are likely to weigh on economic growth over the next few quarters,'' the Fed said.

Continued Expansion

At the same time, the statement contained no mention of the contraction in gross domestic product that many officials judged possible at their April meeting. A government report tomorrow will probably show the economy grew at a 1 percent annual pace in the first quarter, up from an initial estimate of 0.9 percent, according to a Bloomberg News survey of economists.

Dallas Fed President Richard Fisher dissented from today's decision, preferring an increase. He dissented against the rate cut at the April meeting.

Oil prices touched a record $139.89 June 16, extending a rally that helped push the consumer price index up 4.2 percent in May compared with an average rate of 2.7 percent over the past decade. Energy costs are hurting profits and household incomes, and raising expectations for future inflation....

Dow, UPS

Dow Chemical Co. said yesterday that higher raw materials costs will cause the company to raise prices by as much as 25 percent in July, following an increase of as much as 20 percent. United Parcel Service Inc. lowered its second-quarter profit forecast on June 23 because of rising fuel costs and slowing U.S. growth.

American consumers foresee average annual inflation of 3.4 percent over the next five years, the highest expectation since 1995, according to the Reuters/University of Michigan survey.

Policy makers are ``going to remain about where they are until the data come in and make a strong case to move one way or the other,'' William Poole, former president of the St. Louis Fed, said in a Bloomberg Television interview.

Home prices in 20 U.S. cities fell in April by the most on record, signaling the housing recession is far from over. The S&P/Case-Shiller home-price index dropped 15.3 percent from a year earlier. The gauge has fallen every month since January 2007. Employers have reduced payrolls for five consecutive months, helping push the unemployment rate to 5.5 percent.

Crisis Response

Central bankers reduced the target rate for overnight loans between banks by 2.25 percentage points in 2008 with a series of aggressive rate actions, including two three-quarter-point cuts. In addition, the Fed invoked emergency authority in March to start lending directly to investment banks. The central bank also provided $29 billion of financing to secure JPMorgan Chase & Co.'s takeover of Bear Stearns Cos.

The FOMC at 10:45 a.m. today held a special meeting with supervisors to discuss investment banks and their borrowing of securities and cash from the Federal Reserve, according to a notice on the central bank's website. Fed officials have given themselves until September to decide on the future of the direct loan facility.

The financial system remains under stress. The Standard and Poor's Financials Index, which includes 90 bank, brokerage and insurance stocks, fell 21 percent from May 2 to June 24.

``Business conditions continue to weaken in the U.S. and so far this month we have seen credit indicators deteriorate beyond our expectations,'' American Express Co. Chief Executive Officer Kenneth Chenault said in a statement today.

Financing rates are also rising for consumers. The rate on a 30-year fixed-rate mortgage rose to 6.3 percent June 24 versus 5.79 percent at the start of the year, according to Bankrate.com.

New Projections

Fed officials discussed their new forecasts for 2008, 2009 and 2010 at the meeting. Bernanke will reveal the FOMC's new outlook for inflation, growth and employment in his semi-annual congressional testimony next month.

Wall Street analysts are divided on how higher energy costs may affect growth. The 38 percent rise in oil prices this year absorbs more consumer dollars, pulling spending away from other goods and services. If inflation is allowed to rise further, the purchasing power of incomes could fall. After tax incomes adjusted for inflation rose at a 1.8 percent rate for the 12 months ending April, versus 3.1 percent for the same period a year earlier.

The federal government has also injected $70.8 billion into the economy through tax rebates, which could lead to one or two quarters of stronger growth and add momentum to price increases.

To contact the reporter on this story: Craig Torres in Washington at ctorres3@bloomberg.net

Last Updated: June 25, 2008 16:33 EDT