SP 500 Bear Market Update: Daily Charts: March 11

We have been posting SP 500 bear market update charts, in which we compare the current 2007-8 bear market with the last bear market and recession which we had in 2000-2002. We have been doing this on the weekly charts.

The problem with the weekly line chart is that it really doesn't catch the intra-week volatility one sees in bear markets, with steep declines and snapback short covering rallies. The advantage of course is that it is easier to see the matching and the 'big picture' of the market moves.

Since intra-week volatility hit a five year record in the Dow moonshot today, we thought it would be useful to show a DAILY chart which compares the same two bear markets in the same way, with time and price percentage roughly mapped to the same values. It just shows the fluctuations with much greater detail than the weekly charts.

Here it is:

US Treasury Debt 'Riskier' Than the German Bund For 'the First Time Ever'

U.S. Treasuries Riskier Than German Debt, Default Swaps Show
By Abigail Moses

March 11 (Bloomberg) -- The risk of losses on U.S. Treasury notes exceeded German bunds for the first time ever amid investor concern the subprime mortgage crisis is sapping government reserves, credit-default swaps prices show.

Contracts on 10-year Treasuries traded at a record 16 basis points earlier today, compared with 15 basis points on German government notes, according to data compiled by BNP Paribas SA. In July, U.S. credit-default swaps were at 1.6 basis points, compared with 2.5 basis points on bunds.

Federal Reserve Chairman Ben S. Bernanke announced plans today to lend as much as $200 billion of Treasury notes in exchange for debt including private mortgage-backed bonds to avert an exodus from the securities that threatens to deepen the housing slump and economic slowdown.

``The U.S. government is not immune from the consequences of the credit crisis,'' said Fabrizio Capanna, BNP's head of high-grade corporate trading in London. ``Support for troubled financial institutions in the U.S. will be perceived as a weakening of U.S. sovereign credit.''

The Fed is trying to ease investor concern that a decline in house valuations and record foreclosures will add to losses for companies including Freddie Mac and Fannie Mae, the two biggest providers of U.S. mortgages. The $4.5 trillion of agency mortgage securities is about the same size as the market for Treasury notes.

Credit-default swaps are used to speculate on the ability of companies or governments to repay their debt and offer a benchmark for pricing securities. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. A decline indicates improvement in the perception of credit quality; an increase, the opposite.

Hoarding Treasuries

A basis point on a credit-default swap contract protecting $10 million of debt from default for 10 years is equivalent to $1,000 a year.

Investors and securities firms have hoarded Treasuries during the credit crisis because they are considered the safest and most easily traded securities, reducing yields on two-year notes to the lowest since 2003. Yields on Treasuries have been lower than on German bunds since October.

U.S. yields rose today by the most since May 2004 to 1.77 percent from 1.5 percent on Bernanke's plan.

To contact the reporter on this story: Abigail Moses in London Amoses5@bloomberg.net

Last Updated: March 11, 2008 13:47 EDT

Fed Man Says: STOP!

Bank Stocks Rally on Fed Move
Tuesday March 11, 11:23 am ET
By Dan Seymour, AP Business Writer

Bank Stocks Rally As Fed Offers to Swap Super-Safe Treasury Bonds for Mortgage Debt

NEW YORK (AP) -- Bank stocks spiked Tuesday after the Federal Reserve offered to swap $200 billion of ultra-safe Treasury bonds for some of the troubled investments roiling Wall Street.

The offer is designed to make it easier for banks to raise cash. By temporarily trading no-risk Treasurys for mortgage bonds that have become toxic on Wall Street, the Fed is giving banks collateral they can use to borrow money.

Over the last few months, lenders have developed a distaste for risk and uncertainty, and numerous markets where banks typically raise cash have frozen up. It is easy to borrow money using Treasury debt as collateral because the U.S. government is considered the most creditworthy borrower in the world.

"It takes a lot of the pressure off the short-term funding side of the major brokers," said Sanford Bernstein analyst Brad Hintz, who used to be chief financial officer of Lehman Brothers Holdings Inc. "What the Fed is doing is attempting to break the back of uncertainty in the repo market and ensure that no major financial institution goes down."

Hintz said a bank failure today would be far more problematic than it would have been 20 years ago. Through a complex series of contracts and swaps, Wall Street has created a nexus of interconnected risk, he said. The Fed needs to ensure no banks go bankrupt because they are so dependent on one another, he said.

Shares of investment banks, which were clobbered by a seizure in certain corners of the bond market Monday, recovered much of their value Tuesday.

Lehman Brothers climbed almost 7 percent, while Morgan Stanley, Goldman Sachs Group Inc., JPMorgan Chase & Co., Merrill Lynch & Co., and Citigroup Inc. all spiked more than 4 percent.

The Philadelphia Stock Exchange KBW Bank Index, which tracks 24 banks and lenders, surged nearly 5 percent. The dollar jumped, and "safe havens" such as gold and Treasury bonds, which investors have been flocking to in order to shelter their investments from the credit crisis, posted declines that have been rare in 2008.

Douglas Peta, market strategist at J. & W. Seligman & Co., said he is not convinced the money banks borrow will be put to good use.

Banks are struggling, and Peta said rather than lending the capital they raise the companies may use it to bolster their own balance sheets. This is good for the companies themselves, he said, but would not help financial markets.

"That's the equivalent of taking money and stuffing it under the mattress," he said. "What we're looking for is money to be lent."

The Fed has tried to stem the sell-off of a range of debt, particularly home loans, by cutting interest rates.

This approach has not worked, said LibertyView Capital Management President Rick Meckler, because companies that are borrowing at lower interest rates are still not using it to buy risky investments.

Despite lower interest rates, many lenders are still under pressure to dump their investments to buttress their finances or repay their own lenders. This selling has yanked down prices for many kinds of investments, he said, which in turn forced more selling.

Meckler said by coming up with more creative ways to inject liquidity into financial markets, the Fed will hopefully relieve some of the pressure on lenders to sell their assets.

"You were really in a vicious cycle," he said. "This is an attempt to break that cycle."

The Feds Were After Spitzer Personally

We couldn't make sense of some of the initial facts on the Eliot Spitzer scandal that broke this afternoon. Why was the FBI investigating a common, albeit high priced, prostitution service? Because it crossed state lines? Give us a break. And why was the FBI's Public Corruption department involved? It was juicy gossip of course, but it just didn't make sense at first blush, and the facts were leaking out selectively with heavy detail on what Spitzer did and said, with names and dates and room numbers, but precious little else.

Was there a general investigation going on in Washington DC of public officials? Was the FBI investigating a terrorist link somehow? The news made it sound as though Spitzer stumbled into an ongoing investigation. Ok, but why was the FBI directly involved? Sleeper cells of hookers?

It didn't make sense... until we read this story from ABC News. This story says that Spitzer did not stumble into an ongoing Federal investigation of a prostitution ring. Rather, the Feds were investigating Spitzer and his personal financial transactions at his bank, with no evidence of any crime, other than suspicion of some transactions as reported to the IRS by his bank.

They followed his personal financial transactions at the bank for months until they tumbled to the prostitution ring. They were looking for evidence of bribery. This was no general investigation that happened to nab a governor who was in the wrong place at the wrong time. It appears that the FBI, under the office of the Attorney General was following Spitzer's personal finances, looking for some evidence of wrongdoing. And they definitely found it. What Spitzer did was wrong, especially because it was not all that long ago that he was indicting and sending people to jail for breaking similar laws, and for involvement with organized crime.

Now perhaps we'll see more, much more detail, about this story in coming days. We're not defending anyone here, not at all. And we're sure most citizens of the United States of Amnesia won't care about any of the legal details, but instead will rejoice that another celebrity has shown their sexual missteps. We are not personal fans of Governor Spitzer. We think he fell far short in the investigation and settlements he made with the Wall Street banks as NY Attorney General.

But in the rush to judgement, we'd like to see a full disclosure of all the facts, including the details of how the investigation started, and who started it. We were old enough to read the news during the Nixon administration, and remember well his 'enemies list' and his other abuses of office. We would hate to see that sort of thing coming back into the Justice Department. Its a step in a very, very wrong direction for our republic.

It Wasn't the Sex; Suspicious Dollar Transfers Led to Spitzer
By BRIAN ROSS
ABC News

The federal investigation of a New York prostitution ring was triggered by Gov. Eliot Spitzer's suspicious money transfers, initially leading agents to believe Spitzer was hiding bribes, according to federal officials.

It was only months later that the IRS and the FBI determined that Spitzer wasn't hiding bribes but payments to a company called QAT, what prosecutors say is a prostitution operation operating under the name of the Emperors Club.

As recently as this past Valentine's Day, Feb. 13, Spitzer, who officials say is identified in a federal complaint as "Client 9," arranged for a prostitute "Kristen" to meet him in Washington, D.C....

The suspicious financial activity was initially reported by a bank to the IRS which, under direction from the Justice Department, brought kin the FBI's Public Corruption Squad.

"We had no interest at all in the prostitution ring until the thing with Spitzer led us to learn about it," said one Justice Department official.

Spitzer, who made his name by bringing high-profile cases against many of New York's financial giants, is likely to be prosecuted under a relatively obscure statute called "structuring," according to a Justice Department official.

Structuring involves creating a series of financial movements designed to obscure the true purpose of the payments....

March 10, 2008 It Wasn't the Sex; Suspicious $$ Transfers Led to Spitzer

Is it outlandish to think that some group with a grudge against Spitzer might have some influence with the Administration and the Justice Department?

Are Bush's Big Bankers Fixing To BBQ Eliot Spitzer?
Carpetbagger 'Rangers' Could Be Gunning for Empire State Lawman.
Austin, TX

August 8, 2003 - As the East Coast bankers and financiers who dominate President Bush's 2004 elite fundraising team jet toward Crawford, some probably would rather chuck New York Attorney General Eliot Spitzer on the coals than the cattle that these Pioneers and Rangers will be served first.

Why would Big-Apple bankers travel 1,700 miles to nosh barbecue under a hot Texas sun? asked Texans for Public Justice Director Craig McDonald. Are they recruiting help for their showdown with New York's top cop? Are the New York bankers who dominate Bush's Pioneer and Ranger team paying tribute in hopes the Administration will help take Spitzer off the beat?

Hounded by Spitzer, top investment bankers--including new Bush Ranger Stanley O'Neal of Merrill Lynch and new Pioneer James Cayne of Bear Stearns--hosted Bush's most lucrative fundraiser in New York in June. Then 18 financiers made their industry Bush's No. 1 financial supporter last month when Bush disclosed the first 68 elite fundraisers of his reelection campaign. A Texans for Public Justice analysis reveals that the finance industry accounts for one-third of Bush's 32 all-new Pioneers and
Rangers who were not part of this elite team in 2000....

Are Bush's Big Bankers out to BBQ Eliot Spitzer?

Yen to 80 and Euro to 160 against Dollar in "Worst Crisis Since WWII" - Bank of Tokyo

Paul Chertkow, Global Head Foreign Exchange Strategy for the Bank of Tokyo Mitsubishi made these points in an interview on Bloomberg Television.

1. US is in a recession. There is a real risk of a protracted downturn because this is not a typical business slowdown.

2. Interest rates will be cut by more than expected, possibly to 1% by end of June.

3. There is real risk that Mideast Treasuries will trigger a dollar crisis if they break their dollar peg.

4. Larry Summers says 'current crisis worst since WWII' and Chertkow agrees.

5. Foreign ompanies are content to see stronger currencies to relieve high imported commodity prices.

6. Yen down to 90 is realistic with next stop to 80, and 160 for the Euro.

7. Risk is that dollar will fall "well beyond expectations" for most currencies but especially the asian currencies.

8. US "strong dollar policy" is nonsense.

9. US life insurance companies and pension funds have 'a lot of disclosure left' on bad debt.

10. Dollar crisis is 'not inevitable' but cannot see anything to stop it and does not see official intervention as a real possibility at these levels. Thinks the crisis will end if the US Government comes in and underpins the mortgage market directly.

Paul Chertkow - Bank of Tokyo-Mitsubishi on Bloomberg Television

At the Crossroads of the Packaged Debt Financial Crisis

"I went down to the crossroad
fell down on my knees
I went down to the crossroad
fell down on my knees
Asked the lord above "Have mercy now
save poor Bob if you please...

Early this mornin'
when you knocked upon my door
Early this mornin', oh
when you knocked upon my door
And I said, 'Hello, Satan,'
I believe it's time to go."
Robert Johnson, Crossroads and Me and the Devil Blues

Steve Waldman writes an brief but excellent analysis of the Fed's recent actions in his Interfluidity blog here:
Repurchase agreements and covert nationalization

We like it, not just because most of the points agree with the same ones which we have. Its nicely written, compact, concise and to the point. We like his analysis, and found his summation to be exceptionally insightful. We learned a new slant on things from it.

You may object, and I'm sure many of you will, that our little thought experiment is bunk, debt is debt and equity is equity, these are 28-day loans, and that's that. But notionally collateralized "term" loans that won't ever be redeemed unless and until it is convenient for borrowers are an odd sort of liability. Central banks are very familiar with the ruse of disguising equity as liability. Currency itself is formally a liability of the central bank, but in every meaningful sense fiat money is closer to equity.

I do not, by the way, object to nationalizing failing banks. There are (unfortunately) banks that are "too big to fail", whose abrupt disappearance could cause widespread disruption and harm. These should be nationalized when they fall to the brink. But they should be nationalized overtly, their equity written to zero, and their executives shamed. That sounds harsh. It is harsh. One hates to see bad things happen to nice people, and these are mostly nice people. But running institutions with trillion-dollar balance sheets is a serious business. Accountability matters. These people were not stupid. They knew, in Chuck Prince's now infamous words, that "when the music stops... things will be complicated.", and they kept dancing anyway.

But accountability has gone out of style. The Federal Reserve is injecting equity into failing banks while calling it debt. Citibank is paying 11% to Abu Dhabi for ADIA's small preferred equity stake, while the US Fed gets under 3% now for the "collateralized 28-day loans" it makes to Citi. Pace Accrued Interest (whom I much admire), I still think this all amounts to a gigantic bail-out. And that it is a brilliantly bad idea from which financial capitalism may have a hard time recovering. Like a well-meaning surgeon slicing up arteries to salvage the appendix, the Federal Reserve is only trying to help."

We're not so concerned with the nationalization of the banks, as we are with the monetization of more bad debt as the result of the wealth gained by a relatively few insiders through reckless mismanagement and fraud. Although it will be presented as just a small amount for everyone to pay, just the price of a discount coupon, we've learned through the latest debt fraud in Iraq that 100 billion quickly grows to a trillion.

Yes, the world is still willing to take our dollars, our markers, our IOUs. And yes, we can keep pushing the envelope of integrity to see how long they will keep taking it. But like a good reputation, once pushed to the breaking point by serial deceit, our national currency will not keep taking this unscathed, and there is likely a point of no return.

So what ought to be done? By all means, let us continue to mitigate the collateral damage to the innocent that the banks have caused.

But let us also take counsel from the recent words of Tom Hoenig, Kansas City Federal Bank President:

"In conclusion, let me stress again my belief that the response to this crisis should be fundamental reform, not Band-Aids and tourniquets. "

The only way to resolve this is that any government intervention to resolve this must include:

1. A formal reinstatement of the Glass-Steagall restrictions on ALL banks doing business in the US including multinationals. A revocation of 23A exemptions and removal of the Fed's latitude to overrule any written law on their own volition. An end to self-regulation and revolving door government regulation by non-civil service political appointees.

2. A return to the concept of regional and local banks through a reinstatement of laws limiting bank ownership across state lines

3. A national usury ceiling for all interest rates and fees on all debt, both revolving and non-revolving, to prevent banks from perpetuating predatory interest rate schemes based on extending individual state laws.

4. A significant set of Congressional hearings and the appointment of a special prosecutor assigned to investigate, with FBI support, the pervasive frauds in the US financial industry from Enron to Tech to Subprime, with special attention to RICO statutes and individuals as well as corporations. The insiders will seek to offer up some designated patsies. We have to try and go beyond that and strike the root and not just the branches.

The last point deals not with retribution, but restoring accountability and deterrence on this happening again in five or ten years with some new Ponzi scheme. If we take no action it will happen again.

"If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that will grow up around [the banks] will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered."

Thomas Jefferson, Letter to the Secretary of the Treasury Albert Gallatin (1802)

SP 500 Bear Market Update: March 8

Its not surprising that few know how to trade a bear market. They are the toughest markets, and tend to break all those nice models and short term indicators that worked so well in the smooth waters of a gradually rising bull market. Its probably psychological, but we are stunned at how few who actually traded it remember what the 2000-2002 bear market was like. In short, even with a roadmap, it can be a tough trail to navigate.

Here is our comparison of the current bear market and recession with the bear market and recession of 2000-2002. We use the SP500 as a relatively broad market index, as the performance varies among them. In 2000-2 the NDX was the leader to the downside as the trigger for the downdraft was the bursting of the tech bubble. This time around its the housing related stocks and the financials leading the way, but with remarkably broader participation. and demonstrated by the Russell 2000.

What these charts don't show is the extreme volatility behind these simple lines, and the intra-week swings high and low. Bear markets are notoriously hard to trade from positions, unless they are unleveraged and rock solid, and strictly in the intermediate direction of the market.

We'll know quite a bit more in the next two weeks. We'll update this comparison then.

The Trillion Dollar Wash and Rinse

The Housing Bubble party is over.

The bankers and brokers have collected their fees and exercised their stock options, collecting personal fortunes and gone to more favorable climes.

The households in the US are looking with dismay at their shattered balance sheets and rapidly depleting 'savings.' So who is going to clean up this mess, and pick up the tab for the collateral damage?

Surely you must suspect the truth. It will be all holders of the US dollar.


Mortgage market needs $1 trillion, FBR estimates
Without that, prices of securities will fall, raising interest rates on home loans
By Alistair Barr, MarketWatch
Last update: 3:24 p.m. EST March 7, 2008

SAN FRANCISCO (MarketWatch) - Why are interest rates on 30-year fixed-rate mortgages rising even as the Federal Reserve slashes interest rates and yields on Treasury bonds fall?

The answer is that the mortgage market is short of roughly $1 trillion in capital, according to Paul Miller, an analyst at Friedman, Billings, Ramsey.

The modern mortgage market works with lots of leverage, or borrowed money. Investors, including hedge funds and mortgage real estate investment trusts, buy mortgage securities, but finance a lot of their purchases with this leverage.

FBR's Miller estimates that $11 trillion of outstanding U.S. mortgage debt is supported with roughly $587 billion of equity. That's a leverage ratio of 19 to one.

But last year's subprime meltdown has undermined confidence inthe home loans that back these mortgage securities. Now the banks that finance most of these leveraged mortgage investments have started to pull back and impose margin calls, demanding more cash or collateral to back their loans.

This has sparked a de-leveraging cycle in which some highly leveraged mortgage investors have to sell assets to meet margin calls. Forced selling pushes prices lower, sparking more margin calls, which in turn produces more selling and even lower prices. (Especially when you are unwinding an obvious Ponzi scheme - Jesse).

When debt prices fall, yields rise, and that's what's happening to mortgage securities - even those backed by government sponsored entities including Fannie Mae (FNM Fannie MaeFNM) which are considered the safest. (The safest? Compared to a hand written IOU maybe - Jesse)

"The immediate impact is that [interest rates on] 30-year fixed-rate mortgages will have to increase relative to Treasuries," FBR's Miller wrote in a note to clients on Friday. "That is why we are experiencing pressure on mortgage rates despite the downward movement on the 10-year bonds."

Rates on 30-year fixed mortgages usually follow the movement of 10-year Treasury bonds, but this relationship has broken down as de-leveraging in the financial system takes hold.

The difference, or spread, between yields on "agency" mortgage securities backed by Fannie and Freddie and those on Treasuries rose to a 23-year high this week, Miller noted.

"It is the leverage game playing havoc with the system," he wrote. There are two ways to resolve the problem. Either inject $1 trillion of new capital into the mortgage market, or allow prices of mortgage securities to fall (and interest rates on home loans to climb), Miller said. The mortgage market won't be able to raise $1 trillion, so prices have to fall, he warned.

"There is no quick fix here," the analyst said. "It will take about six to 12 months for the pricing pressure to alleviate on these mortgage assets."

"This will be painful, but it must be allowed to play out in an orderly fashion in order for the mortgage market to achieve equilibrium," Miller concluded.

Alistair Barr is a reporter for MarketWatch in San Francisco.

Is the Fed Monetizing Bad Debt?

There is a funny situation going on with the Fed this morning.

As you know the Fed conducts two types of open market operations, permanent and temporary, through their NY office. This is how they manage their monetary policy.

There is a third type of hybrid repo recently created called the Treasury Auction Facility (TAF). Its similar to the Temporary Open Market Operation except its opaque and the terms are lengthier, and the types of collateral they accept appear to be looser than the Treasuries and agencies which are customary. Its a kinder, gentler, more discreet Discount Window. They kicked the amount up to 100+ Billion this morning. We like to think of it as "free money (below the inflation rate) for the banks" in return for shakey collateral.

Here's what we find confusing. The Fed has not conducted a 'Permanent Open Market Operation" since May 2, 2007. That's right, almost a year ago. At least, that is, before this morning when they conducted a 10 billion dollar permanent operation.

NY Federal Reserve Permanent Open Market Operations

What surprised us was that this is not an ADD, which is a purchase on their part and an addition to the money supply, but a sale of Treasuries to the banks by the Fed out of their own account in return for 'cash' which is considered a DRAIN.

Huh? The big tickle has been the liquidity crunch, so the Fed does a DRAIN?

Here's our take. The Fed has been taking all sorts of collateral from the banks at the TAF window. The banks are going to have to mark this debt to market at some point. We don't know how the Fed is actually valuing it for their repo purchases, since it has no liquid market.

In turn, the banks have plenty of short term liquidity. but they need to recapitalize and use that to build their cash flows with a 'multipler effect' which is tough to do with short term monies. The multiplier of a permanent add is 9x based on a 10% reserve requirement.

So the Fed, having just lent the banks 'cash for whatever' turns around and sells US Treasuries to the banks in return for the amount of 10 Billion which the Fed has recently lent to them short term with God knows what for collateral. How was that collateral valued? Who takes the loss?

See the gimmick? The Fed is letting the banks borrow short from the TAF on questionable collateral and get some nice solid long term Treasuries that can be loaned to the Public at 9x the amount or 90 billion. Looks better on the books, gives them some breathing room, and is nice and quiet.

If that was too complex an explanation, we'll offer the one from our friend Sean in Zurich:

They [the Fed] said they were going to neutralize the new TAF/term RP stuff... so banks end up funding their dodgy mtges with Tim at NYFRB and holding bills to compensate.

And there you have it. Selectively placed helicopter money. Our only curiousity is what exactly the Banks will be showing on their books when they start honoring FASB 157 and start marking to market. Are we going to be going through this at the end of each fiscal quarter for the forseeable future with the Fed playing Mr. Market?

Statement Regarding Sale of Treasury Bills from System Open Market Account

March 7, 2008

On Friday, March 7, 2008, the Federal Reserve’s System Open Market Account will sell $10 billion of Treasury bill holdings for settlement on Monday, March 10. This action is being conducted by the Federal Reserve Open Market Trading Desk (the “Desk”) in conjunction with the series of term RP transactions announced earlier today in order to maintain a level of reserves consistent with trading at rates around the operating objective for the overnight federal funds rate.

The Desk will continue to evaluate the need for the use of other tools to add flexibility to its open market operations. These may include further Treasury bill sales, reverse repurchase agreements, Treasury bill redemptions and changes in the sizes of conventional RP transactions.