As oil prices seesawed through the past week, fresh uncertainty about the outlook for the beleaguered financial sector triggered another wave of volatility in financial markets.
With the exception of Friday, crude prices closed each day with a gain or loss of more than 1%, with US stocks doing likewise as sentiment waxed and waned on the back of a barrage of economic and corporate earnings reports. Economic data were mixed, whereas earnings were mostly better than feared. After all the action, the S&P 500 Index closed the week virtually unchanged, posting a small gain of 0.2%.
David Fuller (Fullermoney) re-emphasizes that the oil price is currently by far the most important factor in terms of global GDP growth. Consequently it is also a huge influence on the direction of various stock market indices, and big moves up or down have a psychological leash effect on currencies and other commodities.
Source: Financial Times, July 29, 2008.
Also center to the roller-coaster ride was Merrill Lynch (MER), plunging 11.6% on Monday, prior to announcing drastic steps to right its capital position on Tuesday. Its stock fell by 9.5% to a 10-year low on the news, but then rebounded to finish the day 7.9% higher.
Traders speculated that the latest capital raise was a sign that the worst was over for financials, but Meredith Whitney, analyst of Oppenheimer & Co and “godmother” of financials, had no illusions and said in an interview that 25 institutions would have to bolster their balance sheets within the next two months.
Offering some reprieve to the financial sector, the Fed, together with the European Central Bank and the Swiss National bank, announced that “emergency” lending facilities to bolster the money markets would stay in force until January 30. The facilities were implemented to improve liquidity arising from the credit market turmoil.
Formalizing the housing bill, President Bush signed into law legislation to support homeowners facing foreclosure and to offer a lifeline to Fannie Mae (FNM) and Freddie Mac (FNM).
Separately, the SEC is extending its temporary restriction on naked short selling on 19 financial institutions until August 12.
Next, a tag cloud of the text of all the articles I have read during the past week. This is a way of visualizing word frequencies at a glance. It is quite obvious that the key areas last week were “banks”, “prices”, “inflation” and “growth”, with “housing” and “financial” also prominent. As the saying goes: A picture paints a thousand words …
Barron’s: Unfortunately for the rest of us, you have a pretty good track record. How much more misery lies ahead?
Roubini: We are in the second inning of a severe, protracted recession, which started in the first quarter of this year and is going to last at least 18 months, through the middle of next year. A systemic banking crisis will go on for awhile, with hundreds of banks going belly up.
Which banks, specifically, will fail?
I don’t want to name names, but many, given the housing bust, will become insolvent. Their losses are mounting because they have written down only their subprime loans so far. They haven’t started writing down most of their consumer-credit losses, and reserves for losses are much less than they should have been. The banks are playing all sorts of accounting gimmicks not to recognize them. There are hundreds of millions of dollars outstanding in home-equity loans that eventually could be worth zero, too.
Which forces [on the consumer} for instance?
The U.S. consumer is shopped out and saving less. Debt to disposable income has risen to 140% from 100% in 2000. Hit by falling home prices, the consumer no longer can use his house as an ATM machine. The stock market is falling and (issuance of) home-equity loans (has) collapsed. We have a credit crunch in mortgages, and gas is around $4 a gallon. Everyone says, ‘yeah, that’s true, but as long as there is job generation there is going to be income generation and people are going to spend.’ But for seven months in a row, employment in the private sector has fallen.
The most worrisome thing is that in spite of the rebates, retail sales in June were up only 0.1%. In real terms, they were down. If people were not spending their rebate checks in June, what will happen when there are no more checks?
Video is here
Yes, That’s $2 Trillion of Debt-Related Losses
ROBIN GOLDWYN BLUMENTHAL
INTERVIEW: Nouriel Roubini, Economist and Professor, New York University
Barron’s AUGUST 4, 2008