Words from the (investment) wise for the week that was (September 21 – 27, 2009)

After hitting its best levels of the year on Wednesday ahead of the Federal Open Market Committee’s (FOMC) communiqué, the S&P 500 Index ran into heavy weather on the realization that the Fed could start scaling back on emergency support of the economy. US equities dropped further later in the week on renewed concerns about the state of the troubled housing market and weaker-than-expected durable goods orders.

In addition to global stock markets declining, risky assets such as commodities, oil, gold and other precious metals all sold off as pundits worried about the winding down of quantitative easing puncturing the “liquidity rally”. Government and corporate bonds, as well as the Japanese yen, emerged as winners.

27-09-09-01

Hat tip: The Big Picture, September 23, 2009.

The FOMC maintained its loose monetary policy following its meeting on Wednesday. The statement said the committee expected to keep the Fed funds rate target in the 0% to 0.25% range “for an extended period”.

“The committee extended the time period over which it plans to purchase Fannie Mae and Freddie Mac debt and mortgage-backed securities. The remarks on current economic conditions were more optimistic than in August, and the FOMC now believes the recession is over. The Fed will keep monetary policy loose in the near term to support the recovery but is laying the groundwork for an eventual tightening,” said Moody’s Economy.com.

Although the US Dollar Index (+0.4%) closed a little higher on the week, the greenback hit a one-year low against the euro on Wednesday, with the Fed’s indication of keeping US interest rates at current levels for a while longer underscoring the dollar’s status as a carry-trade funding currency. (Click here for a short technical analysis of the outlook for the dollar by INO.com‘s Adam Hewison.)

The past week’s performance of the major asset classes is summarized by the chart below – a set of numbers that shows risk aversion creeping back into financial markets.

27-09-09-02

Source: StockCharts.com

A summary of the movements of major global stock markets for the past week, as well as various other measurement periods, is given in the table below.

The MSCI World Index (-1.4%) and MSCI Emerging Markets Index (-1.2%) both closed the week in the red, with the Shanghai Composite Index (-4.2%) one of the biggest losers among the major stock markets. After bucking the global weakness that prevailed during the week, Chile is now only 5.1% down from its July 2007 highs and could be one of the first markets to wipe out all the financial crisis losses.

The major US indices declined for three consecutive days (from Wednesday to Friday) and registered their first weekly drop since the last week of August. The year-to-date gains remain in positive territory and are as follows: Dow Jones Industrial Index +10.1%, S&P 500 Index +15.6%, Nasdaq Composite Index +32.6% and Russell 2000 Index +19.9%.

Click here or on the table below for a larger image.

27-09-09-03

Top performers in the stock markets this week were Latvia (+8.0%), Cyprus (+6.8%), Israel (+5.0%), Ukraine (+4.9%) and Saudi Arabia (+4.1%). At the bottom end of the performance rankings, countries included Luxembourg (_8.7%), Ireland (-4.2%), China (-4.2%), Mexico (-4.0%) and South Africa (_3.3%).

Of the 98 stock markets I keep on my radar screen, 44% recorded gains (last week 81%), 51% (15%) showed losses and 5% (4%) remained unchanged. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)

John Nyaradi (Wall Street Sector Selector) reports that, as far as exchange-traded funds (ETFs) are concerned, the winners for the week included Global X/InterBolsa FTSE Colombia 20 (GXG) (+6.0%), Market Vectors High-Yield Municipal (HYD) (+2.9%), iPath S&P 500 VIX Mid-Term Futures (VXZ) (+2.9%) and United States Natural Gas (UNG) (+2.8%).

At the bottom end of the performance rankings, ETFs included United States Gasoline (UGA) (-10.8%), United States Oil (USO) (-8.4%), United States 12 Month Oil (USL) (-8.3%) and iShares Dow Jones Home Construction (ITB) (_8.3%).

Against the background of the International Monetary Fund’s approval of the sale of 403.3 metric tons of its gold and beggar-thy-neighbor currency devaluations, Richard Russell reminded us of the following quote from the Republican National Platform in 1932: “The Republican Party established and will continue to uphold the gold standard and will oppose any measure which will undermine the government’s credit or impair the integrity of our national currency. Relief by currency inflation is unsound in principle and dishonest in results.” Russell added: “My, how times have changed, and not always for the better.”

Other news is that the summit of G20 countries have agreed, inter alia, to plot a roadmap for the banking industry, align economic policy, ensure that tax havens comply with global standards and phase out subsidies for fossil fuels in the “medium term”.

Also, the Federal Deposit Insurance Corporation (FDIC) closed another bank on Friday, bringing the tally of US bank failures in 2009 to 95 (120 since the beginning of the recession). Meanwhile, according to The New York Times, regulators are considering a plan to have the nation’s healthy banks lend billions of dollars to rescue the FDIC. This would enable the fund, which is running low on resources as a result of the myriad of bank failures, to continue to rescue the sickest banks … “You can’t make up stuff like this!,” commented Bill King (The King Report).

Next, a quick textual analysis of my week’s reading. Although “banks” still features prominently, the key words have started taking on a more normal pattern compared with the crisis-related words that have dominated the tag cloud for many months.

27-09-09-04

The major moving-average levels for the benchmark US indices, the BRIC countries and South Africa (where I am based) are given in the table below. With the exception of the Shanghai Composite Index, which is trading below its 50-day moving average, all the indices are above their respective 50- and 200-day moving averages. The 50-day lines are also in all instances above the 200-day lines.

The August highs and September lows are also given in the table as these levels define a support area for a number of the indices.

Click here or on the table below for a larger image.

27-09-09-05

Kevin Lane, technical analyst of Fusion IQ said: “Yesterday’s [Wednesday] intraday sell-the-Fed-news price reversal of the S&P 500 stalled at the area (1,079 to 1,106) where the index really accelerated its 2008 sell-off. While we believe liquidity and buying power remain strong and thus pullbacks should be relatively shallow in nature, it doesn’t mean we can’t get a corrective wave of some magnitude before this sideline liquidity is redeployed. Additionally, quarter-end window dressing may keep stocks elevated or from slipping too much.

“However, we do believe putting new money to work in front of this more significant resistance level poses risks. Initial support below the current S&P levels comes into play near the 1,040 level (current 1,044). Secondary supports if 1,040 were to give way would come into play near 980/975 then 950.”

David Fuller (Fullermoney), making a successful recovery from heart surgery, said: “… it does look as if Wall Street and other stock markets under its influence have temporarily run out of upside momentum following a good run recently. Supply in the form of secondary offerings has increased. This coincides with understandable October jitters as investors recall last year’s meltdown.

“At this stage of the bull market cycle, a consolidation would have the benefit of preventing overheating. When a larger reaction eventually unfolds it is likely to be a providential buying opportunity rather that a repeat of last year’s harrowing decline – provided monetary conditions remain favorable.”

The S&P is at a level that should be reached in the third year of recovery from a recession, David Rosenberg, chief economist of Gluskin Sheff & Associates, told Bloomberg (via MoneyNews). “The fair multiple for earnings should be 12 or 13,” he said. “We’ve blown right through that.” (The S&P 500 is trading at a level equal to almost 20 times reported earnings from continuing operations, according to weekly data compiled by Bloomberg.)

The Bullish Percent Index shows the percentage of stocks that are currently in bullish mode as a result of point-and-figure buy signals. With the figure at 86.4%, this indicator conveys the message that the vast majority of stocks are in uptrends, but the line looks as if it might start turning down from a high level, which could spell at least a short-term top.

27-09-09-06

Source: StockCharts.com

As stated often before, share prices have moved too far ahead of economic reality. This calls for a cautious approach in anticipation of the market working off its overbought condition and fundamentals reasserting themselves. I will bide my time while the fundamentals play catch-up, especially as we could be seeing one of those occasional all-change signals in the short-term trends of a number of markets.

For more discussion on the economy and asset classes, see my recent posts “Bonds & equities: Expect a major shift“, “Chart of the Day: Dow Jones vs Monetary Base“, “Marc Faber video bonanza” and “David Rosenberg: Equity market est très expensif“. (And do make a point of listening to Donald Coxe’s webcast of September 25, which can be accessed from the sidebar of the Investment Postcards site.)

Economy
A tentative global economic recovery has begun, according to the results of the latest Survey of Business Confidence of the World by Moody’s Economy.com. “Business expectations are strong that conditions will improve further later this year and early next. Sentiment is strongest in Asia and South America and among business service firms. European businesses and those that work in government are least upbeat. Pricing power is consistent with very low rates of inflation.”

27-09-09-07

Source: Moody’s Economy.com

The Business Confidence Survey’s results were confirmed by the Duke/CFO Magazine Global Business Outlook Survey of CFOs of 650 companies in the US and nearly 900 in Europe and Asia. According to the Survey, the economic outlook has improved since the last quarter; it appears that the Great Recession is ending and economies around the world are stabilizing. However, the analysis indicates that the recovery will be lethargic, with employment growth lagging behind the rest of the economy.

27-09-09-08

27-09-09-09

Source: Duke/CFO Magazine Global Business Outlook Survey, September 17, 2009.

As far as hard data are concerned, an index compiled by the Bureau for Economic Policy Analysis, a Dutch research institute, showed the volume of world trade rising by 3.5% in July after a revised increase of 1.6% in June – its fastest rise in more than five years, as reported by the Financial Times.

Also, according to China’s National Bureau of Statistics (via US Global Investors), as of the end of June 97% of the 151 million migrant workers in the country have landed a job, a significant improvement from early this year when more than 20 million migrant workers were reported as being unemployed.

A snapshot of the week’s US economic reports is provided below. (Click on the dates to see Northern Trust‘s assessment of the various data releases.)

Friday, September 25
• New homes sales – many encouraging details to report
• Aircraft orders bring down orders of durables in August

Thursday, September 24
• Sales of existing homes are stabilizing, although headline reading fell in August
• Initial jobless claims decline, but tally of unemployment insurance recipients advances
• Surveys point to subdued Eurozone recovery

Wednesday, September 23
• FOMC policy statement – nature of incoming data allows Fed to wait and watch

Monday, September 21
• Index of Leading Economic Indicators – confirms economic recovery is under way

The Fed mentioned in its quarterly flow-of-funds report that American households were $2 trillion richer on June 30 than they had been three months earlier – the first time in two years that household net worth had increased. “Household wealth rose in the second quarter at a 17% annual rate, or $2 trillion, to $53.1 trillion after falling at a 13% rate in the first quarter, the Fed said. It was the first time since the second quarter of 2007 that wealth had increased. Net worth is down $12.2 trillion from the peak in 2007, an indication of how much the collapse in stock prices and home prices has hurt,” said MarketWatch.

27-09-09-10

Source: Market Minds (via Bianco Research), September 24, 2009.

On the topic of wealth destruction, the chart below, courtesy of Chart of the Day, not only illustrates that house prices are currently 30% off their 2005 peak, but also that a home buyer who bought a median-priced single-family home at the 1979 peak has seen that home appreciate by a mere 4% over the ensuing three decades.

27-09-09-11

Source: Chart of the Day, September 25, 2009.

The US has lent, spent or guaranteed $11.6 trillion to bolster banks and fight the longest recession in 70 years, according to data compiled by Bloomberg.

“There’s not a lot of new job creation going on on Main Street, and the liquidity to the consumer and to small business is still contracting,” bank analyst Meredith Whitney said on CNBC (via MoneyNews). “It’s very difficult to get the engine moving without a lot of government support within that. So when you slowly wean government support, that’s going to be the test that I think everyone’s going to be watching starting in October.”

Richard Koo, author of Balance Sheet Recession and chief economist at Nomura Research Institute, said in an interview with Kate Welling at Welling@Weeden (via Dow Theory Letters): “In this type of recession, the economy will not enter self-sustaining growth until private sector balance sheets are repaired. Until the private sector is finished repairing its balance sheets, if the government tries to cut its spending, we’re going to fall into the same trap that Franklin Roosevelt fell into in 1937 (a crushing bear market) and Prime Minister Hashimoto fell into in 1997, exactly 70 years later.

“The economy will collapse again and the second collapse is usually far worse than the first collapse. And the reason is that, after the first collapse, people tend to blame themselves. They say, ‘I shouldn’t have played the bubble. I shouldn’t have borrowed money to invest – to speculate on these things.’ But a second collapse affects everyone, not just the bubble speculators, and it also suggests to the public that all the efforts to fight the downturn up to that point – all the monetary easing, the low interest rates, quantitative easing – they all failed and even fiscal policy failed. Once that kind of mindset sets in, it becomes ten times more difficult to get the economy going again.

“So the fact that Larry Summers was talking about ‘temporary’ fiscal stimulus had me very, very worried. That whole Larry Summers idea that one big injection of fiscal stimulus will get the US out of the recession, and everything will be fine thereafter, probably led to President Obama’s saying he’s going to cut his budget deficit in half in four years.”

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Date Time (ET) Statistic For Actual Briefing Forecast Market Expects Prior
Sep 21 10:00 AM Leading Indicators Aug 0.6% 0.9% 0.7% 0.9%
Sep 22 10:00 AM FHFA US Housing Price Index Jul 0.3% 0.4% 0.5% 0.1%
Sep 23 10:30 AM Crude Inventories 09/18 2.85M NA NA -4.73M
Sep 23 02:15 PM FOMC Rate Decision Sep 0.25% 0.25% 0.25% 0.25%
Sep 24 08:30 AM Initial Claims 09/19 530K 560K 550K 551K
Sep 24 08:30 AM Continuing Claims 09/12 6138K 6100K 6183K 6261K
Sep 24 10:00 AM Existing Home Sales Aug 5.10M 5.20M 5.35M 5.24M
Sep 25 08:30 AM Durable Orders Aug -2.4% 1.2% 0.4% 4.8%
Sep 25 08:30 AM Durables, ex Transportation Aug 0.0% 0.7 1.0% 0.9%
Sep 25 09:55 AM Michigan Sentiment -Revised Sep 73.5 71.2 70.5 70.2
Sep 25 10:00 AM New Home Sales Aug 429K 425K 440K 426K

Source: Yahoo Finance, September 25, 2009.

Click here for a summary of Wells Fargo Securities’ weekly economic and financial commentary.

US economic data reports for the week include the following:

Tuesday, September 29
• Case-Shiller Housing Price Index
• Consumer confidence

Wednesday, September 30
• ADP employment
• GDP – final
• Chicago PMI

Thursday, October 1
• Initial jobless claims
• Personal income and spending
• Construction spending
• ISM Index
• Pending home sales

Friday, October 2
• Employment data
• Factory orders

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global financial markets performed during the past week.

27-09-09-12

Source: Wall Street Journal Online, September 25, 2009.

“Genius may have its limitations, but stupidity is not thus handicapped,” said Elbert Hubbard, American writer and philosopher (hat tip: Charles Kirk – do make a point of visiting his excellent site). Let’s hope the news items and quotes from market commentators included in the “Words from the Wise” review will assist readers of Investment Postcards to make sensible investment decisions to ensure sold wealth building over time.

For short comments – maximum 140 characters – on topical economic and market issues, web links and graphs, you can also follow me on Twitter by clicking here.

That’s the way it looks from Cape Town (where my bags are almost packed for my first visit to Dallas to attend friend John Mauldin‘s 60th birthday celebrations).

27-09-09-13

Source: Despair (hat tip: The Big Picture)

Bloomberg: G-20 unites again to curb bank pay, align economic policy
“Group of 20 leaders built on the common front they forged in fighting the financial crisis to chart a shared-path toward a more stable banking system and a stronger global economy.

“President Barack Obama and his counterparts ended their Pittsburgh meeting yesterday promising to ‘raise standards together’ to ensure banks restrain pay and build up capital buffers. They also established a peer-review process to monitor individual efforts to rebalance their economies and to hand emerging economies a greater say in managing world growth.

“‘There is much more work to be done, but we leave here today more confident and more united in the common effort of advancing security and prosperity for all of our people,’ Obama told reporters yesterday after hosting his first summit.

“A lot is at stake. While the international economy is showing signs of recovering from its worst recession since World War II, pockets of weakness remain, especially in the US and other industrial countries. Demand for US durable goods unexpectedly fell in August and loans to households and companies in Europe grew at the slowest pace on record, data showed yesterday.

“‘It’s going to be slow going,’ said former US Treasury Secretary Paul O’Neill, who once ran Alcoa Inc., the largest US producer of aluminum, from Pittsburgh and still lives in the city. ‘We’re getting a recovery but it won’t be fast.’

“The third summit of G-20 leaders in the past year plotted a roadmap for revamping the banking industry after the two previous meetings, in Washington and London, focused on fighting market turmoil and reverse the spiral into recession.

“‘Given this is the third meeting of these people in 10 months, the fact that they’ve gotten as much substantively done as they have is quite impressive,’ said Edwin Truman, a former adviser to Obama’s Treasury and a senior fellow at the Peterson Institute for International Economics in Washington.

“After recording $1.6 trillion in losses and writedowns, banks were told to avoid ‘multi-year guaranteed bonuses’ and a ‘significant portion of variable compensation’ must be deferred, paid in stock, tied to performance and subjected to clawbacks if earnings flop. The G-20 stopped short of endorsing a French proposal to introduce specific caps on pay.

“Awards must also be curbed if they are “inconsistent with the maintenance of a sound capital base.” Regulators should be allowed to modify the compensation practices of key firms. Banks will also have to increase the quality and quantity of capital they hold by the end of 2012.

“The growing influence of emerging economies such as China and Brazil was marked by the agreement that the G-20 would supplant the G-8 as the guardian of the world economy.”

“The leaders agreed to phase out subsidies for fossil fuels in the ‘medium term,’ without setting a deadline. They also plan to intensify their monitoring of tax havens from next month to ensure economies follow through on promises to comply with global standards.”

Source: Simon Kennedy and Rich Miller, Bloomberg, September 26, 2009.

MoneyNews: Putin – US should scrap trade barriers
“Russian Prime Minister Vladimir Putin on Friday praised President Barack Obama’s decision to scrap plans for a missile defense system in Europe and urged the US to also cancel Cold War-era restrictions on trade with Russia.

“NATO Secretary-General Anders Fogh Rasmussen said the Western alliance and Russia should consider linking their defensive missile systems.

“He said NATO and Russia have a shared interest in combatting the proliferation of intercontinental ballistic missile technology in East Asia and the Middle East.

“‘If North Korea stays nuclear and if Iran becomes nuclear, some of their neighbors might feel compelled to follow their example,’ Fogh Rasmussen said.

“Obama’s predecessor, George W. Bush, had pushed to base elements of a missile defense system in Poland and the Czech Republic, saying it would help defend against a missile attack from Iran. But the Kremlin strenuously objected, fearing that the system would compromise Russia strategic nuclear capabilities or be used to eavesdrop on Russian military forces.

“Russian leaders in the past threatened to deploy short-range missiles to the Baltic exclave of Kaliningrad near Poland if the US moved ahead with the missile defense plan.

“On Friday, the Interfax news quoted an unnamed Russian military-diplomatic source as saying that such retaliatory measures would now be frozen and, possibly, fully canceled in response to Obama’s decision to scrap the missile defense shield.

“Russian president Dmitry Medvedev on Thursday praised the US decision to dump the missile defense plan as a ‘responsible move’.

Source: MoneyNews, September 18, 2009.

Ifo: Business Climate Survey – brighter outlook for Germany
“Appraisals of the business situation and outlook have improved. However, by far the greater number of firms still assesses the business situation as poor. Only with regard to the six-month business outlook is there now nearly a balance between pessimists and optimists. In light of the catastrophic developments over the past twelve months, this is good news.”

26-09-09-01

Source: Ifo, September 24, 2009.

Nigel Rendell (RBC Capital Markets): Softly ahead on CEE
“Central and eastern European markets have rallied strongly in the past six months but investors should still proceed with caution, says Nigel Rendell, senior emerging markets strategist at RBC Capital Markets.

“‘As capital has gradually returned to the region – through a combination of IMF rescue packages and portfolio flows – economies have started to show signs of bottoming out,’ he says.

“‘With the backstop of IMF funds for countries in severe financial difficulties, and the promise of precautionary credit lines to others, investors have returned to CEE.’

“But are the markets being too bullish and ignoring potential pitfalls? Mr Rendell outlines three main risks for the region.

“First, sustained recovery is highly dependent on a pick-up in western Europe. ‘Most CEE countries are small, open economies that rely on external demand to create economic growth.’

“Second, fiscal accounts in many CEE countries are in poor shape, with spiralling deficits that will require politically difficult tax rises and spending cuts to meet Maastricht budget criteria.

“Third, the Baltic states and Ukraine are still wild cards, where economic uncertainty and market volatility could feed through to the rest of CEE.

“‘Rather than break long established currency pegs, all three Baltic states have decided to go down the ‘internal_devaluation’_route.

“‘We remain very doubtful whether this adjustment can work over the medium term.’”

Source: Nigel Rendell, RBC Capital Markets (via Financial Times), September 21, 2009.

The Wall Street Journal: FOMC – home buyers get a reprieve
“The Federal Reserve, in a move aimed at keeping interest rates low for home buyers through early next year, decided to extend and gradually phase out its purchase of mortgage-backed securities.

“The Fed’s action signals its belief that the economy, while in recovery, remains fragile and that housing, which has seen some improvement in recent months, has only started to pull out of its slump.

“‘We definitely need help from the government,’ says Lee Barrett, president of Century 21 Barrett, a real-estate brokerage firm in Las Vegas. ‘I don’t think the market can make it on its own.’ He also hopes Congress will extend tax credits for home buyers due to expire at the end of November.

“The central bank left its interest-rate target unchanged at zero to 0.25% and maintained its expectation that the federal-funds rate, or the rate banks charge each other for overnight loans, would remain low ‘for an extended period.’

“‘Economic activity has picked up following its severe downturn,’ the Federal Open Market Committee said Wednesday in a statement after a two-day meeting. Though conditions in financial markets and the housing sector have improved, household spending ‘remains constrained by ongoing job losses, sluggish income growth, lower housing wealth and tight credit’, the Fed said.

“The Fed is about two-thirds of the way through its mortgage-purchase program, which was launched late last year to support mortgage lending, housing activity and broader credit markets. The central bank’s decision to complete the full $1.25 trillion in purchases of mortgage-backed securities – rather than ‘up to’ that amount, as it said in August – ended speculation that it might stop short, as a handful of policymakers have suggested. The Fed still plans to buy up to $200 billion in debt issued by Fannie Mae and Freddie Mac.”

26-09-09-02

Source: Sudeep Reddy and James Hagerty, The Wall Street Journal, September 24, 2009.

Bloomberg: Fed’s strategy reduces US bailout to $11.6 trillion
“The Federal Reserve decided to keep pumping $1.25 trillion of new money into the mortgage market to focus on rescuing the US economy as the financial system revives and banks ask for less help.

“The Fed is allowing some of the 10 support programs it created or expanded after the credit crisis began in August 2007 to expire or shrink. That caused the first decline in the amount of money the US has committed on behalf of taxpayers to end the recession, according to data compiled by Bloomberg.

“The central bank has purchased $694 billion of mortgage- backed securities since January and plans to spend $556 billion more by April 2010 to keep interest rates down. The debt-buying is the biggest program in the Fed’s arsenal.

“‘The first thing the Fed had to do was stop the bleeding in the banking system,’ said Richard Yamarone, director of economic research at Argus Research Corp. in New York. ‘Now that that seems to have been accomplished, they’re focusing on the economy by buying mortgage-backed securities.’

“The purchases were scheduled to stop at the end of December. The Federal Open Market Committee decided on September 23 to continue the program through the first quarter of next year and slow the pace of buying to ‘promote a smooth transition in markets’, the committee said in a statement. It also said the economy has ‘picked up’.

“The US has lent, spent or guaranteed $11.6 trillion to bolster banks and fight the longest recession in 70 years, according to data compiled by Bloomberg. That’s a 9.4% decline since March 31, when Bloomberg last calculated the total at $12.8 trillion.”

===========================================================
                                  --- Amounts (Billions)---
                                    Limit         Current
===========================================================
Total                            $11,563.65     $3,025.27
-----------------------------------------------------------
 Federal Reserve Total            $5,870.65     $1,590.11
  Primary Credit Discount           $110.74        $28.51
  Secondary Credit                    $1.00         $0.58
  Primary dealer and others         $147.00         $0.00
  ABCP Liquidity                    $145.89         $0.08
  AIG Credit                         $60.00        $38.81
  Commercial Paper program        $1,200.00        $42.44
  Maiden Lane (Bear Stearns assets)  $29.50        $26.19
  Maiden Lane II  (AIG assets)       $22.50        $14.66
  Maiden Lane III (AIG assets)       $30.00        $20.55
  Term Securities Lending            $75.00         $0.00
  Term Auction Facility             $375.00       $196.02
  Securities lending overnight       $10.42         $9.25
  Term Asset-Backed Loans (TALF)  $1,000.00        $41.88
  Currency Swaps/Other Assets       $606.00        $59.12
  GSE Debt Purchases                $200.00       $129.21
  GSE Mortgage-Backed Securities  $1,250.00       $693.60
  Citigroup Bailout Fed Portion     $220.40         $0.00
  Bank of America Bailout            $87.20         $0.00
  Commitment to Buy Treasuries      $300.00       $289.22
-----------------------------------------------------------
Treasury Total                    $2,909.50     $1,075.91
  TARP                              $700.00       $372.43
  Tax Break for Banks                $29.00        $29.00
  Stimulus Package (Bush)           $168.00       $168.00
  Stimulus II (Obama)               $787.00       $303.60
  Treasury Exchange Stabilization    $50.00         $0.00
  Student Loan Purchases             $60.00         $0.00
  Citigroup Bailout Treasury          $5.00         $0.00
  Bank of America Bailout Treasury    $7.50         $0.00
  Support for Fannie/Freddie        $400.00       $200.00
  Line of Credit for FDIC           $500.00         $0.00
  Treasury Commitment to TALF       $100.00         $0.00
  Treasury Commitment to PPIP       $100.00         $0.00
  Cash for Clunkers                   $3.00         $2.88
-----------------------------------------------------------
FDIC Total                        $2,477.50       $356.00
  Public-Private Investment (PPIP)$1,000.00          0.00
  Temporary Liquidity Guarantees* $1,400.00       $301.00
  Guaranteeing GE Debt               $65.00        $55.00
  Citigroup Bailout, FDIC Share      $10.00         $0.00
  Bank of America Bailout, FDIC Share $2.50         $0.00
-----------------------------------------------------------
HUD Total                           $306.00         $3.25
  Hope for Homeowners (FHA)         $300.00         $3.20
  Neighborhood Stabilization (FHA)    $6.00         $0.05
-----------------------------------------------------------
* The program has generated $9.3 billion in income,
according to the agency.

Glossary: ABCP — Asset-backed commercial paper AIG — American International Group Inc. FDIC — Federal Deposit Insurance Corp. FHA — Federal Housing Administration, a division of HUD GE — General Electric Co. GSE — Government-sponsored enterprises (Fannie Mae, Freddie Mac and Ginnie Mae) HUD — U.S. Department of Housing and Urban Development TARP — Troubled Asset Relief Program

Breakout of TARP funds:
===========================================================
                                  --- Amounts (Billions)---
                                     Outlay      Returned
===========================================================
Total                              $447.76        $75.33
-----------------------------------------------------------
Capital Purchase Program           $204.55        $70.56
General Motors, Chrysler            $79.97         $2.14
American International Group        $69.84         $0.00
Making Home Affordable Program      $23.40         $1.13
Targeted Investment Bank of America $20.00         $0.00
Targeted Investment Citigroup       $20.00         $0.00
Term Asset-Backed Loan (TALF)       $20.00         $0.00
Citigroup Bailout                    $5.00         $0.00
Auto Suppliers                       $5.00         $1.50

Source: Mark Pittman and Bob Ivry, Bloomberg, September 25, 2009.

MoneyNews: Richard Rahn – the growing debt bomb
“Assume you had put much of your savings into US government bonds and then you learned the following. In just the last eight months, the Congressional Budget Office estimates of the amount of additional federal debt to be held by the public grew by an astounding $4 trillion for the 2010-19 period; and that the amount of federal debt held by the public grew from $5.9 trillion to $7.5 trillion in just the last 12 months.

“In addition, you learned that the federal government (i.e. taxpayers) now owns (primarily through Fannie Mae and Freddie Mac) or insures (through the Federal Housing Administration and other government programs) about 80% of the $14.6 trillion of home mortgages outstanding in the United States. Last week, Congress passed a bill requiring all student loans be made by the federal government rather than banks, which means the taxpayers will be 100% liable for any student loan defaults.

“You also learned that the Federal Deposit Insurance Corp. is considering tapping its Treasury credit line for up to $500 billion. It needs to do this because of the high number of bank failures and because each bank account is insured by the government (i.e. taxpayers) up to $250,000. The president and many in Congress are calling for a roughly $1 trillion health care bill – paid for by additional debt and/or more taxes, which will further slow economic growth, eventually leading to even more debt.

“Finally, you also became aware of the following facts: Federal government expenditures are growing far faster than the economy, and thus the government is becoming a larger and larger share of gross domestic product. Obviously, this cannot continue forever because eventually the government would totally drive out the private sector.

“The entitlement programs (i.e. Social Security, Medicare, Medicaid, etc.) all continue to grow faster than the economy, and they will take more than 100% of all federal tax revenue this year, requiring that virtually all of the other government spending programs, including defense and interest payments on the debt, be funded by more borrowing.

“You are also aware that the government cannot tax its way out of the deficit situation, because increasing income tax rates on the upper income people will both slow the economy and cause them to find legal or illegal ways to avoid the tax increase, and the politicians have pledged to not increase taxes on those making less than $250,000, which includes all but a very few Americans.”

Click here for the full article.

Source: Richard Rahn, MoneyNews, September 22, 2009. (Richard Rahn is a senior fellow at the Cato Institute and chairman of the Institute for Global Economic Growth.)

Bloomberg: Fed said to start talks with dealers on using reverse repos
“The Federal Reserve has started talks with bond dealers about withdrawing the unprecedented amount of cash injected into the financial system the last two years, according to people with knowledge of the discussions.

“Central bank officials are discussing plans to use so-called reverse repurchase agreements to drain some of the $1 trillion they pumped into the economy, said the people, who declined to be identified because the talks are private. That’s where the Fed sells securities to its 18 primary dealers for a specific period, temporarily decreasing the amount of money available in the banking system.

“There’s no sense that policy makers intend to withdraw funds anytime soon, said the people. The central bank’s challenge is to decrease the cash without stunting the economy’s recovery and before it sparks inflation. Fed Chairman Ben Bernanke said in a July Wall Street Journal opinion article that reverse repos are one tool to accomplish that goal without raising interest rates.

“‘One thing the Fed has to figure out is if they can launch pilot programs without spooking the market and creating the perception that they are about to tighten,’ said Louis Crandall, chief economist at Wrightson ICAP, a Jersey City, New Jersey-based research firm that specializes in government finance. ‘They are discussing things like accounting issues, and updating the governing documents to the volume of reverse repos the dealer community could absorb.’

“Deborah Kilroe, a spokeswoman for the Federal Reserve Bank of New York, declined to comment about meetings with dealers. Total assets on the Fed’s balance sheet stand at $2.14 trillion, up more than a $1 trillion since the collapse of the subprime mortgage market in August 2007 triggered the worst global financial crisis since the Great Depression.”

Source: Liz Capo McCormick, Bloomberg, September 22, 2009.

MoneyNews: Whitney – end of government aid a big test
“Bank analyst Meredith Whitney remains bearish on the economy, particularly when it comes to jobs.

“‘There’s not a lot of new job creation going on on Main Street, and the liquidity to the consumer and to small business is still contracting,’ she said on CNBC.

“‘It’s very difficult to get the engine moving without a lot of government support within that. So when you slowly wean government support, that’s going to be the test that I think everyone’s going to be watching starting in October.’

“She questioned where new jobs will come from.

“‘Once companies become more productive do they go back and say I want to become less productive? … You have to have a revolutionary application to hire people,’ Whitney says.

“‘Surely if this country becomes massively protectionist we’ll build up manufacturing capabilities. Is that necessarily a good thing? No.’

“Half of the work force toils in small businesses, she notes. But, ‘there’s not a lot of free capital for small business innovation, small business period’.

“As for the banks, ‘they’re now doing everything they can to keep loans on the books and not write them down,’ she notes. ‘They’re extending and pretending with loans.’”

Source: Dan Weil, MoneyNews, September 21, 2009.

MoneyNews: Taylor – rates may rise early in 2010
“The Federal Reserve may hike up interest rates to combat inflation as early as the beginning of next year, says Stanford University Professor John Taylor.

“Interest rates have hovered at a very low target range of zero to 0.25% since December, as monetary policymakers have worked to get the country out of the recession.

“Lower lending rates can eventually lead to rising consumer prices.

“The government, meanwhile, has earmarked $787 billion in stimulus spending programs that should inflate the country’s budget deficit, which can also fuel inflation, Taylor told Bloomberg News.

“The Congressional Budget Office predicts the budget deficit will widen to $1.6 trillion this year.

“On top of low interest rates, the Federal Reserve balance sheet has ballooned by $1.2 trillion since the monetary authority bailed out organizations such as insurance giant AIG and took on other assets.

“‘The Fed’s balance sheet has just exploded. They’ve got to find a way to bring it down,’ Taylor said.

“Now, Obama administration officials say, the financial system is on the mend and it’s time for the government to start stepping aside.

“‘The financial system is showing very important signs of repair,’ Treasury Secretary Timothy Geithner said.

“Markets on the mend do not mean that the overall economy is very close to fully healing, he also cautioned.

“‘I would not want anyone to be left with the impression that we’re not still facing really substantial enormous challenges throughout the US financial system.’

“Geithner told Congress this week the government will soon roll back support for Wall Street rescue programs, a move that Taylor applauds.”

Source: Forrest Jones, MoneyNews, September 17, 2009.

Asha Bangalore (Northern Trust): Index of Leading Economic Indicators – confirms economic recovery is underway
“Chairman Bernanke noted last week that a recovery is most likely underway. Our forecast is for a 2.5% increase in real GDP during the third quarter, which is slightly lower than the market consensus. The advance estimate of real GDP for the third quarter will be published on October 29.

“The Index of Leading Economic Indicators rose 0.6% in August, the fifth consecutive monthly increase of the index. On a year-to-year basis, the index moved up 1.89%, the largest gain since May 2006. The July-August average translates to a 1.32% from the third quarter of 2008, the first increase since the first quarter of 2007. Historically, the year-to-year change in the LEI advanced one quarter has a strong positive correlation with the year-to-year change in real GDP.

“This evidence and other economic reports – ISM manufacturing survey, industrial productions index – support expectations that an economic recovery commenced in the third quarter of 2009.

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“In August, the workweek held steady, jobless claims, orders of non-defense capital goods and real money supply declined. The remaining seven components – orders of durable consumer goods, supplier deliveries, building permits, interest rate spreads, index of consumer expectations and stock prices moved up. Effectively, there is a widespread improvement in economic conditions, which had been brought about by policy changes. The impact from monetary policy accommodation is evident. The possible impact from the $787 billion fiscal stimulus package will be available in 2010. By the end of fiscal year 2009, roughly 24% of the fiscal package will have been spent.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, September 21, 2009.

Asha Bangalore (Northern Trust): Aircraft orders bring down orders of durables
“The 42.2% drop in orders of new civilian aircraft in August after a robust 92.2% increase in the prior month led to the 2.4% drop in orders of durable goods in August vs. a 2.8% jump in July. Primary metals, machinery, and autos recorded gains in orders during August. Bookings of non-defense capital goods excluding aircraft fell 0.4% in August after a 1.3% decline in July.”

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Source: Asha Bangalore, Northern Trust – Daily Global Commentary, September 25, 2009.

Asha Bangalore (Northern Trust): Sales of existing homes are stabilizing
“Sales of all existing homes fell 2.7% to an annual rate of 5.1 million units during August, following a string of four monthly gains. Sales of new single-family homes fell 2.8% to an annual rate of 4.48 million units. The sales level of single-family existing homes is now up 10% from the record low of 4.050 million units in January. In the course of the economic recovery, all economic indicators inclusive of housing measures are likely to show small setbacks than post a straight upward trend.

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“It is noteworthy that on a year-to-year basis, sales of all existing homes and single-family homes have risen for three straight months. The Fed’s policy statement on September 23 also pointed to improving conditions in the housing sector. The $8,000 first-time home buyer credit appears to have played a role in bringing about stability in the housing market. The new home sales report for August will be published on September 25.

“The median price of a single-family existing home fell 12.1% from a year ago to $177,500. The largest historical year-to-year drop of the median price of an existing single-family home was recorded in January 2009 (-17.5%)

“The seasonally adjusted inventory-sales ratio of existing single-family homes was an 8.1-month supply in August vs. 8.24-month supply in July. The cycle high reading occurred in November 2008.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, September 24, 2009.

Asha Bangalore (Northern Trust): New homes sales – many encouraging details
“Sales of new single-family homes increased slightly in August to an annual rate of 429,000 from 426,000 in July. Sales of new single-family homes have risen 30.4% from the record low of 329,000 units in January 2009.

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“The most noteworthy aspect of the report is that sales of new homes held steady in August compared with the sales tally a year ago.

“The median price of a new single-family home stood at $195,700 in August, down 11.7% from a year ago. The largest drop in the median price occurred in February 2009 (-14.5%).

“The inventory of unsold new homes fell to 7.3-month supply in August vs. 7.6-month supply in July. The median inventory of unsold homes during 1963-2001 is 6-month supply. The $8,000 first-time home buyer tax credit and low mortgage rates have helped to stabilize sales of homes.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, September 25, 2009.

Eoin Treacy (Fullermoney): US Homebuilding Index leads Case/Shiller
“The overlay of the S&P500 Homebuilding Index with the Case/Shiller Composite-10 Index shows the sector topping out almost a year ahead of house prices. The sector lost downward momentum from January 2008 and has arguably been in a period of base formation since. It hit an important low in November, posted a consistent succession of higher reaction lows since and pushed above the 200-day moving average which has now also turned upwards.

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“Given the sector’s lead over the Case/Shiller Index, it is plausible to assume that house prices have begun to bottom out. However, this is also likely to a lengthy process.”

Source: Eoin Treacy, Fullermoney, September 23, 2009.

Bloomberg: Housing crash to resume on 7 million foreclosures
“The crash in US home prices will probably resume because about 7 million properties that are likely to be seized by lenders have yet to hit the market, Amherst Securities Group analysts said.

“The ‘huge shadow inventory’, reflecting mortgages already being foreclosed upon or now delinquent and likely to be, compares with 1.27 million in 2005, the analysts led by Laurie Goodman wrote today in a report. Assuming no other homes are on the market, it would take 1.35 years to sell the properties based on the current pace of existing-home sales, they said.

“Helping to stoke speculation the housing slump has ended, an S&P/Case-Shiller Index for 20 US metropolitan areas showed the first month-over-month increases in values since 2006 in May and June, reducing the drop from the peak to 31%. Echoing other mortgage-bond analysts including those at Barclays Capital, Amherst cautioned that a change in the mix of foreclosure and traditional sales over different parts of the year lifted prices in the period, as the distressed share shrank.

“‘The favorable seasonals will disappear over the coming months, and the reality of a 7 million-unit housing overhang is likely to set in,’ they said.

“The amount of pending foreclosed-home supply has been boosted by more borrowers going into default, fewer being able to catch up once they do, and longer time periods to seize properties because of issues such as loan-modification efforts and changes to state laws, the New York-based analysts wrote.”

Source: Jody Shenn, Bloomberg, September 23, 2009.

Chart of the Day (Clusterstock): The Option ARM Armageddon
“The Option Arm Armageddon was supposed to strike in the spring of 2009. Across the country, option adjustable-rate mortgages (ARMs) were set to detonate and start a new wave of foreclosures.

“But it never happened. We made it well past when this chart from Credit Suisse showed the option ARMs were supposed to begin to hit. And the crisis didn’t come.

“Why not? Well, when interest rates dropped to historically low levels as the Fed fought the financial crisis, the wave of resets was held off. Unfortunately, low interest rates won’t last forever – they’ll now likely strike next year and continue well into 2011. Many borrowers who now have the option of making payments so low that they don’t even cover the interest are seeing their original loan balance grow, even as their home values continue to fall or remain flat.

“The chart below shows that the option ARM reset problem is comparable to the subprime problem, and will likely last for quite some time. Armageddon may have been forestalled but it hasn’t been overcome.”

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Source: John Carney and Kamelia Angelova, Clusterstock – Business Insider, September 21, 2009.

The Huffington Post: Landmark decision promises massive relief for homeowners and trouble for banks
“A landmark ruling in a recent Kansas Supreme Court case may have given millions of distressed homeowners the legal wedge they need to avoid foreclosure. In Landmark National Bank v. Kesler, 2009 Kan. LEXIS 834, the Kansas Supreme Court held that a nominee company called MERS has no right or standing to bring an action for foreclosure. MERS is an acronym for Mortgage Electronic Registration Systems, a private company that registers mortgages electronically and tracks changes in ownership.

“The significance of the holding is that if MERS has no standing to foreclose, then nobody has standing to foreclose – on 60 million mortgages. That is the number of American mortgages currently reported to be held by MERS. Over half of all new US residential mortgage loans are registered with MERS and recorded in its name. Holdings of the Kansas Supreme Court are not binding on the rest of the country, but they are dicta of which other courts take note; and the reasoning behind the decision is sound.

“The development of ‘electronic’ mortgages managed by MERS went hand in hand with the ‘securitization’ of mortgage loans – chopping them into pieces and selling them off to investors. In the heyday of mortgage securitizations, before investors got wise to their risks, lenders would slice up loans, bundle them into ‘financial products’ called ‘collateralized debt obligations’ (CDOs), ostensibly insure them against default by wrapping them in derivatives called ‘credit default swaps’, and sell them to pension funds, municipal funds, foreign investment funds, and so forth.

“There were many secured parties, and the pieces kept changing hands; but MERS supposedly kept track of all these changes electronically. MERS would register and record mortgage loans in its name, and it would bring foreclosure actions in its name. MERS not only facilitated the rapid turnover of mortgages and mortgage-backed securities, but it has served as a sort of ‘corporate shield’ that protects investors from claims by borrowers concerning predatory lending practices.”

Click here for the full article.

Source: The Huffington Post, September 25, 2009.

Bloomberg: Card defaults surge in August
“US credit-card defaults rose to a record in August and more losses may lie ahead as delinquencies climbed for the first time since March, according to Moody’s Investors Service.

“Write-offs rose to 11.49% from 10.52% in July, Moody’s said today in a report. Loans at least 30 days delinquent rose to 5.8% from 5.73%. ‘Early- stage’ delinquencies, or loans overdue 30 to 59 days, surged to 1.65%, from 1.41%, signaling higher losses in coming months. Banks typically write off loans after 180 days.

“Card issuers have struggled with rising defaults as the recession drove up unemployment to 9.7% and the impact of income tax refunds waned. Credit-card defaults typically track the US jobless rate since consumers tend to fall behind on payments when their income dries up.

“‘We continue to call for a recovery of the credit-card sector to begin once industry average charge-offs peak in mid-2010 between 12% and 13%,” said the Moody’s report, which predicted unemployment may reach 10.5%.”

Source: Peter Eichenbaum, Bloomberg, September 23, 2009.

MoneyNews: Wave of commercial property defaults ahead
“Once flourishing commercial property sales are expected to hit their lowest point in almost two decades this year, and analysts say the growing loan default rate may significantly lower gains in real estate investment shares.

“‘There’s no real way to sugarcoat it,’ Real Capital Analytics managing director Dan Fasulo told Bloomberg.

“‘A slowdown of this magnitude certainly hasn’t occurred since I’ve been in the business.’

“‘Some of the older folks in the industry I talk to said it has a similar feel to the early ’90s, when transaction activity went to basically zero.’

“The volume of office sales in the second quarter was 97% less than the market’s peak in the first three months of 2007, according to Real Capital, whose data indicates that only about $16 billion of sales for office buildings will complete by year’s end.

“Moreover, fewer transactions make it more difficult for buyers and sellers to agree on prices, which in turn makes lenders less able to find the comparable transactions they need in order to evaluate loan worthiness.

“Returns on office investments this year have been running almost 1% higher than for moderate-risk long-term corporate bonds.

“Most commercial property mortgages made within the last few years are headed for default, says real estate financier Ethan Penner.

“‘For anything originated after 2005, the chances of those loans going into default are very high,’ Penner told The Dallas Morning News.

“‘A large majority of the loans originated in this period will ultimately go into default.’”

Source: Julie Crawshaw, MoneyNews, September 17, 2009.

Financial Times: European property groups face debt time-bomb
“European commercial property owners face a wave of complex debt refinancings and restructurings that pose a threat to the sector, according to bankers and industry groups.

“Senior bankers and industry representatives in the UK used a meeting with the Bank of England in the summer to highlight the problems caused by billions of pounds worth of debt that needs to be refinanced or has breached banking agreements.

“They are particularly concerned about the amount of European debt packaged in complex bonds, known as commercial mortgage-backed securities (CMBS), where restructuring has proved especially difficult and highlighted this issue to the Bank for the first time.

“The group, which includes senior bankers and representatives from the British Property Federation, the Royal Institution of Chartered Surveyors and the Investment Property Forum, believes the CMBS market remains important to the property sector.

“It discussed with the Bank whether a central bank guarantee could be used to underpin the debt issued, or whether the real estate investment trust market could be used by banks to offload their loans.

“There is mounting concern among industry professionals about how to restructure or refinance the $2,100 billion of European commercial property loans, in particular the $200 billion in CMBS.

“A report from the UK industry group that met with the Bank highlighted that the UK commercial property sector could be in negative equity until 2017 and undercapitalised by up to £120 billion ($195 billion) based on current conservative banking refinancing terms.

“Close to £43 billion of loans to the commercial property sector are due for repayment this year alone, according to De Montfort University research.

“Half of the outstanding European CMBS market needs to be repaid in 2011 and 2012, and CMBS in default have already proved difficult to restructure.

“‘The amount of outstanding CMBS that need to be refinanced poses an absolutely huge problem, which is waiting to hit the market,’ said Edmund O’Kelly, head of real estate restructuring at KPMG. ‘A lot of the technology for creating the structures was imported from the US, but they have never been tested in Europe. Restructuring CMBS is unchartered territory.’”

Source: Anousha Sakoui and Daniel Thomas, Financial Times, September 20, 2009.

Financial Times: Financial groups hit by surge in loan losses
“The US financial sector’s losses on large loans exploded over the past year, exceeding the combined losses since 2001, with hedge funds and other members of the ‘shadow banking system’ hit the hardest, official figures revealed on Thursday.

“Regulators’ annual review of ‘shared national credits’ – loans larger than $20 million shared by three or more federally regulated institutions – highlighted the toll taken by the crisis on financial groups outside the traditional banking sector.

“More than one in three dollars lent by non-bank institutions such as hedge funds, securitisation vehicles and pension funds, went sour, according to the figures, compared with 11.5% for US banks.

“The results will increase fears that, in spite of a recovery in the shares and balance sheets of many banks, the epicentre of the crisis has moved to the hedge funds and investors that gorged on cheap credit in the run-up to the turmoil.

“The importance of these non-bank institutions was underlined by the review’s finding that they held 47% of problem loans, in spite of accounting for only 21.2% of the total loan pool.

“Overall, the US financial sector’s losses on loans in early 2009 reached a record of $53 billion, almost triple the previous high in 2002.

“The number of loans edging into the danger zone has also surged.

“Some 15% of the $2,900 billion SNC portfolio was classified as ‘substandard’ – the second of the four categories used by regulators – and worse, up from 5.8% in 2008.

“The pace at which loans got into serious trouble accelerated significantly. The dollar volume classed as ‘doubtful’ or loss-making increased 14-fold over the past year to $110 billion. ‘Doubtful’ loans are so weak that collection or liquidation is highly improbable.”

Source: Sarah O’Connor and Francesco Guerrera, Financial Times, September 25, 2009.

Financial Times: Liquidation of CDOs aids banks
“Billions of dollars’ worth of the complex securities at the heart of the financial crisis are being liquidated, enabling banks, insurance companies and other investors to clear toxic assets from their books.

“Market participants say the unwinding is occurring in the market for collateralised debt obligations (CDOs), complex securities backed by the payments on mortgages, corporate loans and other debt.

“Hundreds of billions of dollars of CDOs have defaulted, but the structures can only be liquidated if the underlying collateral can be sold. In recent weeks, more investors have been buying the underlying assets at deep discounts, leading to increased trade and boosting prices for some existing CDOs.

“‘There has been a significant increase in the amount of CDO liquidations,’ said Vishwanath Tirupattur, analyst at Morgan Stanley. ‘The rally across asset classes has given investors an incentive to liquidate.’

“CDOs were one of the main vehicles through which risky US mortgages were repackaged and sold to investors around the world. Much of their value was wiped out amid a wave of defaults on subprime mortgages. The inability to sell or unwind complex securities such as CDOs was one of the prime problems of the financial crisis. Now, the option to sell these so-called toxic assets is re-emerging. ‘For a long time it may have made sense for investors to liquidate CDOs, but this was not possible when there was no market for the underlying collateral,’ said Ed O’Connell, partner at Jones Day.

“The recent rally has been particularly marked for CDOs backed by corporate bonds and loans. Of the more than $500 billion of CDOs backed by asset-backed securities sold in the boom years, $350 billion have already experienced an ‘event of default’.

“Once that happens, the holders of the top tranches, those once rated triple A, can opt to liquidate the CDO. This involves selling off the collateral. CDOs backed by corporate loans are now trading at levels last seen nearly a year ago, shortly after the bankruptcy of Lehman Brothers. Morgan Stanley estimates about $123 billion of these defaulted CDOs have been liquidated.”

Source: Aline van Duyn, Financial Times, September 21, 2009.

Financial Times: BofA to pay $425 million over toxic assets
“Bank of America agreed late on Monday to pay $425 million to federal regulators to extricate itself from an agreement struck last December to protect the bank against $118 billion worth of toxic assets, most of which came from Merrill Lynch.

“The decision to pay the money to the US Treasury, the Federal Reserve and the Federal Deposit Insurance Corporation brings an end to one of BofA’s financial entanglements with its overseers at a time when the bank is also trying to pay back $45 billion in funds to the troubled asset relief programme.

“The loss-protection agreement was part of a deal struck in December after Ken Lewis, BofA chief executive, told Hank Paulson, the then Treasury secretary, that he wanted to invoke a ‘material adverse change’ clause to abort his planned acquisition of Merrill Lynch.

“Mr Paulson, along with Ben Bernanke, the Federal Reserve chairman, encouraged Mr Lewis to proceed with the deal, and provided $20 billion in funds, on top of the $25 billion already earmarked for BofA and Merrill, to make sure the transaction was consummated. On top of the money, the regulators gave BofA a guarantee on $118 billion worth of troubled assets.

“BofA did not formally sign a contract for the ringfence protection and in May decided against entering into the insurance programme. For the past three months, the bank has been in negotiations with federal officials to determine the fair value of the perceived insurance provided by the guarantee.

“Meanwhile, the US Securities and Exchange Commission said it would consider adding charges to its lawsuit against BofA for allegedly failing to give investors details on executive bonuses.”

Source: Greg Farrell, Financial Times, September 22, 2009.

MoneyNews: Foreigners snapping up Treasuries, still
“While foreign investors such as China have threatened for months to dump Treasuries they are instead grabbing every last one they can get their hands on.

“Foreigners have purchased 43.1% of the $1.41 trillion of Treasury notes and bonds issued so far this year, compared with 27.1% of the $527 billion issued at this point in 2008, government figures show, Bloomberg reports.

“The Merrill Lynch Treasury Master Index of US securities returned 1.18% in the third quarter after the worst first half on record. Demand at Treasury auctions from the investor group, which includes central banks, surged to record heights.

“China is the biggest foreign owner of Treasuries, making net purchases of $24.1 billion in July and raising the country’s Treasury holdings 3.1% to $800.5 billion, the latest official data show.

“China’s Treasuries kitty has gained 10% this year, after a 52% jump last year.

“‘The interest rate on long-term Treasury bonds is at a very low level by historical standards,’ David Dollar, the Treasury Department’s economic and financial emissary to China said at a recent conference. ‘That says that the market has confidence the U.S. will get the fiscal problem under control.’”

Source: Dan Weil, MoneyNews, September 24, 2009.

Bespoke: International equity market snapshot
“Below we provide our unique trading range charts for major country indices. For each index, the light blue shading represents between one standard deviation above and below the 50-day moving average. When the price is within this trading range, it is considered to be in ‘neutral’ territory. The red zone represents between one and two standard deviations above the index’s 50-day moving average. Moves into or above the red zone are considered ‘overbought’. Moves into the green zone (more than one standard deviation below the 50-DMA) are considered ‘oversold’.

“With the exception of a few Asian countries, most indices are trading into overbought territory. China’s Shanghai Composite is the only index trading below its 50-day moving average. Australia, Brazil, South Korea, Taiwan, the UK, and the US look to be the most overbought of the bunch. After trading in perpetual downtrends for nearly all of 2008 and the first few months of 2009, most countries have now been trading in solid uptrends for five months now, with only a brief pullback here and there. Brazil, China, Hong Kong, India, Malaysia, Mexico, Singapore, Sweden, Spain, South Korea, and Taiwan have all taken out their 52-week highs in recent months, while the rest still have a bit further to go.”

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Source: Bespoke, September 21, 2009.

Bespoke: Investors get back $18.31 trilion
“Below we highlight the total market capitalization of stocks both globally and in the US. At its peak in 2007, total world market cap was $62.57 trillion. By the lows this March, world market cap had dropped to $25.6 trillion! That’s a loss of $36.97 trillion in stocks globally. Since the March lows, however, world market cap has risen $18.31 trillion back up to $43.9 trillion.

“In the US, market cap has risen $4.88 trillion from its low of $8.09 trillion in March. The peak in total US stock market value was $19.14 trillion in 2007, and the current value of all US stocks is $12.97 trillion. The US accounts for 29.5% of total stock market value in the world.”

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Source: Bespoke, September 21, 2009.

David Fuller (Fullermoney): Riding the stock market bull
“I maintain that we are still in the comparatively early stages of the second psychological perception stage of a bull market, characterized by the ‘wall of worry’. This stage is often longer than its predecessor – disbelief during the base building phase, or the final euphoria during an accelerated peak. Today, many investors are still nervous, not least as we have yet to pass the anniversary of last October’s low, when most of today’s leaders bottomed.

“Today, I am not more bullish than earlier in the year when China and other favorites were so clearly leading the base formation development and completion stage. After all, the low hanging fruit in terms of valuation bargains has already been harvested. Nevertheless, momentum bull phases should not be underestimated, especially when interest rates remain low and monetary policy is still accommodative. Also, the earnings growth phase of this bull cycle lies ahead of us and this will be more robust in Asia than most other regions of the globe.

“As investors we need to remember that due to the human element, markets are much more volatile than changes in underlying fundamentals. Over the last year we have seen astonishing fundamental changes and even more dramatic price moves. We are moving into a period when fundamental surprises should be mainly to the upside, not least due to year-on-year comparisons for 4Q 2009 and 1Q 2010. Once again, this should favour Asia, export and some consumer stocks excepted.

“Meanwhile, investors will recall that even bullish momentum moves are sometimes punctuated by sudden reactions and consolidations. These may be triggered by a temporary news item or they may be random. It is difficult to time setbacks in an overall bullish environment although they are usually proceeded by overextensions relative to a mean such as the 200-day moving average. Mean reversions within an overall upward trend … are usually buying opportunities.

“The next significant danger period for investors is unlikely to arrive until a few months after leading central banks have clearly signaled their intent to tighten monetary policy. Today, we hear plenty of discussion as to when this might occur but policies remain accommodative.”

Source: David Fuller, Fullermoney, September 22, 2009.

Eoin Treacy (Fullermoney): Monetary conditions remain accommodative
“Interest rates have fallen about as low as they can go in the US and Japan and are only slightly higher in the UK and Europe. Most countries are now signalling that their next move will be upwards. However, this is not an immediate threat and central banks are only beginning to examine how stimulus can responsibly be removed. The process by which central banks are bailing out their respective financial sectors via the yield curve has been a tailwind for most stock and commodity markets.

“If we examine spreads between 10yr and 2yr yields across a range of countries a very similar pattern emerges. Spreads in the US, Eurozone, Canada and Switzerland are all close to historic highs. The corresponding spread for the UK is at new 17-year highs and continues to advance.

“These spreads clearly illustrate the loose monetary conditions permeating the global economy. These extraordinarily loose conditions will not last interminably and the current strong tailwind provided to risk assets will decrease over time. However, it will not turn into a significant headwind until the next time these spreads invert, with moves below 0%. When this occurs, it will be a warning that we are in the latter stages of what remains likely to be a multi-year stock market advance.

“No significant uptrend unfolds in a straight line. We can expect occasional corrections along the way. However, as long as monetary conditions remain accommodative, these are likely to be good medium-term buying opportunities.”

Source: Eoin Treacy, Fullermoney, September 24, 2009.

MoneyNews: Rosenberg – stocks vastly overvalued
“Economist David Rosenberg says the stock market has way overdone it on the upside.

“The Standard & Poor’s 500 Index has soared 60% from its March low.

“The S&P is at a level that should be reached in the third year of recovery from a recession, Rosenberg, chief economist at Gluskin Sheff & Associates Inc. in Toronto, told Bloomberg.

“‘The market is being really fueled here by technicals and momentum,’ the former chief North American economist for Merrill Lynch said.

“‘It has overshot the fundamentals. I’m a little nervous, at least over the near-term.’

“Earnings for companies in the S&P 500 Index have fallen for a record eight straight quarters and will probably plunge 22% in the current period before growing 62% in the final three months of 2009, according to the average estimate of analysts surveyed by Bloomberg.

“Stock prices have surged to levels equal to almost 20 times reported earnings from continuing operations, the highest level in five years, according to weekly data compiled by Bloomberg.

“‘The fair multiple for earnings should be 12 or 13,’ Rosenberg said. ‘We’ve blown right through that.’

“Rosenberg isn’t the only bear.

“‘We think the market … is due for a pullback or setback only because it’s gone so far and economic growth cannot go so far,’ says Bill Gross, chief investment officer at bond giant Pimco, told CNBC.”

Source: Dan Weil, MoneyNews, September 22, 2009.

MoneyNews: Odey – stock market bubble forming
“Stock markets are now ‘entering a bubble phase’ which could last until the end of the year, says high-profile hedge fund manager Crispin Odey.

“Odey, founding partner at Odey Asset Management and one of the first investors to call a possible bull market early this year, said quantitative easing had fuelled the bubble but said real assets still appeared cheap compared with cash and government bonds, prompting investors to rush in.

“‘At some point the quantitative easing will have to come to an end but until it does this bull market is sponsored by HMG (Her Majesty’s Government) and everyone should enjoy it,’ the London-based manager said in a note to clients.”

Source: MoneyNews, September 22, 2009.

MoneyNews: Faber – choose stocks over bonds, cash
“Investment guru Marc Faber sees stocks outperforming cash and bonds as the Federal Reserve’s massive monetary stimulus props up the US economy.

“‘I think that he (Ben Bernanke) will print (money) like never before in history.’ As a result, the Standard & Poor’s 500 Index can rise as high as 1,250 in a year, up 17% from midday Wednesday, Faber told Bloomberg.

“‘Where there is inflation in the system as defined by money supply growth and credit growth, you have currency weakness. Stocks can easily go higher. If you print the money, they can go anywhere.’

“But the growing US debt burden isn’t pretty, he points out. ‘You just postpone the problem until the ultimate crisis happens. And that will happen one day. I don’t know whether it will be tomorrow or in three years, five years, 10 years. But the next crisis will bring down the entire capitalist system.’”

Source: Dan Weil, MoneyNews, September 24, 2009.

CNBC: Bill gross bearish on stocks
“Bill Gross, of Pimco; Robert Doll, of BlackRock; and Daniel Tishman, of Tishman Construction, share their market insight.”

Source: CNBC, September 21, 2009.

Richard Russell (Dow Theory Letters): Stock market rally is tired
“I’m studying the daily chart of the Dow below. RSI appears to have hit the overbought area (70) and has turned down from there. MACD has three declining tops with the blue histograms about to turn negative. The thin red line above volume has been steadily declining, indicating a contracting of volume as the Dow climbed. All this gives me food for thought. The rally is tired. But far more important, is the rally topping out? We should know over the coming two or three weeks.”

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Source: Richard Russell, Dow Theory Letters, September 24, 2009.

Chart of the Day (Clusterstock): Investor sentiment rebound could be a bearish sign
“42% of individual investors are bullish right now, according to most recent sentiment data from the American Association of Individual Investors (AAII). While investor sentiment has changed dramatically since March, we’re still only moderately above the long-term average of 39%.

“The problem is that professional investors are likely to be more optimistic than AAII’s investor sentiment, since they became optimistic earlier in the game this year. Overall bullish sentiment could thus be higher once you combine individual investors with these pros.

“The market could be approaching a tricky stage whereby one has to gauge the potential for new bulls to be disappointed versus that for further bears or fence-sitters to capitulate. Given the uncertain times, even moderately above-average bullishness, shown below, could signal a short-term sentiment peak.”

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Source: Vincent Fernando and Joe Weisenthal, Clusterstock – Business Insider, September 22, 2009.

Bespoke: S&P 500 net new highs
“The S&P 500 closed at another high for 2009 today, but it still remains well below its 52-week high of 1,255 (September 22, 2008). As the market has rallied, we have been watching the number of stocks in the index making new 52-week highs for confirmation of the rally. Even though the number has been relatively low, with each new high in the S&P 500, the number of stocks making new highs has increased. Today [Tuesday], however, was an exception. Even though the S&P 500 closed at a new high for the year, only 5% of the stocks in the index hit a 52-week high. This is down from last week’s peak of 7.6% when the S&P 500 was at similar levels. Given that it has only been one day, we wouldn’t read too much into this indicator yet, but it certainly warrants watching.”

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Source: Bespoke, September 22, 2009.

Bespoke: Polar opposites – equities vs US dollar
“While the inverse relationship between the dollar and stocks is well documented, the recent intraday movements of the two assets takes it to another level. The chart below shows the intraday chart of the S&P 500 over the last two days compared to the US Dollar Index on an inverse scale. In other words, a rising red line indicates dollar weakness while a falling red line indicates dollar strength. As shown in the chart, since the Fed’s rate announcement yesterday, the dollar’s strength has been in exact lockstep with the weakness in equities. Over the last two trading days, the S&P 500′s correlation to the US dollar index has been -0.97. You can’t get much more negatively correlated than that!”

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Source: Bespoke, September 24, 2009.

John Normand (JPMorgan): This is not a currency crisis
“The latest sell-off in the dollar has prompted renewed talk of reserve diversification – but this is not the stuff a currency crisis is made of, says John Normand, global head of FX strategy at JPMorgan.

“‘Quantifying reserve diversification is financial alchemy – often attempted and never successful,’ he says. ‘But there is decent circumstantial evidence that this process has accelerated since June.’

“Mr Normand notes that global foreign exchange reserves are growing at $100 billion a month, while official purchases of US assets are running near $50 billion. ‘This sort of divergence is unusual in an environment where rate spreads between the US and the rest of the world are stable,’ he says.

“Mr Normand points out that official investors are still sizeable net buyers of US assets, even if the dollar share of total reserve recycling appears to be declining.

“‘We could pander to the dollar-crisis camp and claim that this divergence marks the beginning of the end for the dollar and US asset markets where foreign ownership dominates, but that course would be_too easy,’_he_says. ‘It would also be wrong.

“‘The dollar crisis scenario still looks low-probability for the next three to six months since the US manages to attract a high absolute level of official financing, even though the US’s relative share of global reserves may be declining.’”

Source: John Normand, JPMorgan (via Financial Times), September 22, 2009.

Ambrose Evans-Pritchard (Telegraph): HSBC bids farewell to dollar supremacy
“‘The dollar looks awfully like sterling after the First World War,’ said David Bloom, the bank’s currency chief.

“‘The whole picture of risk-reward for emerging market currencies has changed. It is not so much that they have risen to our standards, it is that we have fallen to theirs. It used to be that sovereign risk was mainly an emerging market issue but the events of the last year have shown that this is no longer the case. Look at the UK – debt is racing up to 100% of GDP,’ he said

“Crucially, China and rising Asia have reached the point where they can no longer keep holding down their currencies to boost exports because this is causing mayhem to their own economies, stoking asset bubbles. Asia’s ‘mercantilist mindset’ of recent decades is about to be broken by the spectre of an inflation spiral.

“The policy headache was already becoming clear in the final phase of the global credit boom but the financial crisis temporarily masked the effect. The pressures will return with a vengeance as these countries roar back to life, leaving the US and other laggards of the old world far behind.

“A monetary policy of near zero rates – further juiced by quantitative easing – is completely incompatible with circumstances in most of Asia, the Middle East, Latin America, and Africa. Divorce is inevitable. The US is expected to hold rates near zero through 2010 to tackle its own crisis.

“What is occurring is an epochal loss in the relative wealth and economic power of the old G10 bloc of rich countries compared to rising regions of the world. The euro, yen, sterling, Swiss franc and other mature currencies will be relegated along with the dollar in this great process of rebalancing, but the Greenback will bear the brunt.

“The Fed’s super-loose policy is turning the dollar into the key funding currency for the next phase of the global ‘carry trade’, taking over the role of Japan during its period of emergency stimulus.

“Mr Bloom said regional currencies would emerge as the anchor for their smaller trading partners, with China, Brazil, or South Africa substituting the role of the US. Australia is already linking its fortunes to China through commodity ties.”

Source: Ambrose Evans-Pritchard, Telegraph, September 20, 2009.

Yahoo Finance: IMF approves sale of some of its gold
“The International Monetary Fund approved on Friday the sale of a limited amount of its gold to help provide loans to poor countries and shore up its finances.

“The fund’s executive board said it decided to sell ‘a volume strictly limited to 403.3 metric tons’ – one-eighth of its holdings – in a way that does not disrupt the sale of gold in commodity markets, which already were expecting the sale and discounted the IMF decision.

“The IMF, a 186-nation Washington-based lending organization, is the third-largest official holder of gold in the world, with 3,217 metric tons, after the United States and Germany.

“The board said the IMF could sell its gold directly to its members’ central banks if any were interested or it could put the gold on the open market in phases.

“China, India and Russia have indicated interest in such purchases as a way of reducing their position in dollar-denominated securities and increasing their role in IMF operations. These countries and other developing nations have complained the IMF is dominated by the United States, its largest shareholder, and European nations.

“If the gold is sold on the open market, the IMF said it would inform these markets before any sale begins and report regularly to the public on the progress of gold sales.

“The IMF said it also would coordinate its sales with major central banks, who agreed last month on ceilings of gold sales amounting to 400 tons annually and 2,000 tons in total over five years.

“‘Hence, on-market sales by the fund will not add to the announced volume of official sales,’ the IMF said.

“The head of the IMF, Dominique Strauss-Kahn, expressed satisfaction with the board’s decision.

“‘I am delighted the executive board has given its overwhelming backing to a strictly limited sale of fund gold to put the finances of the IMF on sound, long-term footing and enable us to step up much-needed concessional lending to the poorest countries,’ he said.”

Source: Harry Dunphy, Yahoo Finance, September 18, 2009.

James Lord (Capital Economics): Baltic fall reflects China demand
“The recent sharp fall in the Baltic Dry Index is in part due to an increase in shipping capacity, but primarily reflects waning demand for commodities – especially in China, says James Lord at Capital Economics.

“‘The BDI, which has almost halved since the start of June, reflects the cost of hiring a bulk cargo ship and as such is often seen as an indicator of the health of the global economy.

“‘But we think the BDI’s drop is due to conditions specific to the shipping industry and to China’s reduced commodity stockpiling,’ Mr Lord says.

“He notes that orders for new ships rose sharply during the boom years for the global economy – and as it takes up to two years to build these craft, many have only recently become available for lease.

“‘However, the supply of new ships began to rise in January – well before the recent correction in shipping costs,’ he says. ‘We therefore believe the main driver of the recent BDI decline has been falling Chinese stockpiling of commodities.’

“Mr Lord says the global upswing may continue to underpin commodity prices for a while even though Chinese demand has tapered off. ‘However, commodity markets have already priced in a strong recovery. We expect global growth to slow in the second half of 2010 – and as such we see commodity prices falling next year.

“‘Indeed, the recent fall in the BDI may be an early warning sign.’”

Source: James Lord, Capital Economics (via Financial Times), September 24, 2009.

Bespoke: DOE US crude oil inventories
“In this morning’s [Wednesday] weekly energy inventory report from the Department of Energy, crude oil stockpiles are expected to show a decrease of 1,400 barrels of oil. In the chart below, we compare the current inventory levels with the overall average since 1984. Even though oil is up more than 60% this year, inventory levels remain well above their long-term average. Just to get back to average, we would need to see a decline of nearly 15 million barrels.”

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Source: Bespoke, September 23, 2009.

Financial Times: New Zealand climbs out of recession
“The New Zealand economy grew in the second quarter for the first time since the end of 2007 marking the end of a prolonged recession.

“Gross domestic product rose by 0.1% in the June quarter – after five consecutive quarters of contraction.

“The quarterly rise surprised the market which was expecting a 0.1% contraction. News that the nation was emerging from a recession pushed the New Zealand currency to a 2009 high of 72.85 US cents.

“According to Helen Kevans, economist with JPMorgan, second quarter GDP growth would have been much stronger had inventories not dropped so sharply. The NZ$1.1 billion (US$792 million) plunge in inventories in June was the largest on record and took 2.3 percentage points away from GDP growth.

“Demand for exports was met with existing stock, according to Statistics New Zealand, but lower imports and a fall in manufacturing were also responsible for the dramatic fall. But Ms Kevans says the run down of inventories is positive for GDP growth in coming quarters as businesses will need to replenish stock as global demand picks up

“Export volumes rose 4.7% thanks to a surge in shipments of dairy products, forestry and logging. Import volumes dropped 3.8%.

“Although inventories were a drag on economic growth in the June quarter there were some encouraging signs. Household spending was up 0.4% on the back of record low interest rates, heavy discounting among the nations retailers, strong migration flows, and signs of recovery in the domestic housing market.

“Gross fixed capital formation rose 0.1% buoyed by investment in ‘other’ fixed assets, while investment in residential building remained weak as expected. Business investment was surprisingly firm, rising 1.3% despite credit constraints and tighter lending standards.”

Source: Elizabeth Fry, Financial Times, September 23, 2009.

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