Bill Gross, in the FT, asks some rather intriguing questions late last week:
"How could Ambac (ABK), through the magic of its triple-A rating, with equity capital of less than $5bn, insure the debt of the state of California, the world’s sixth-largest economy? How could an investor in California’s municipal bonds be comforted by a company that during a potential liquidity crisis might find the capital markets closed to it, versus the nation’s largest state with its obvious ongoing taxing authority?"
The alchemy identified by Gross: Wrapping high risk paper in a high risk derivative / insurance contract does not eliminate any of the risk, nor does it make high risk paper investment grade.
This is slowly being realized for what it actually is: Massive fraud on a widespread structural basis.
Rescuing monolines is not a long-term solution
Published: February 7 2008 18:14
The editors at DJ have made a few changes to the venerable index: Out are Honeywell (HON) — which I have owned since the GE deal fell apart, and Altria (MO) which I sill have a small position in from the late litigation era.
In are Chevron (CVX) and Bank of America (BAC), which I don’t. The charts of the buy and sell signals below are rather interesting.
The adds of Intel (INTC) and Microsoft (MSFT) late in 1999 top ticked the tech boom. Will the Chevron add do the same for energy?
Here’s the WSJ:
"Dow Jones & Co. announced that Bank of America Corp. and Chevron Corp. will replace Altria Group Inc. and Honeywell International Inc. in its benchmark Dow Jones Industrial Average effective Feb. 19.
The change is the first in four years and reflects the index’s continued shift away from industrial firms and into other sectors such as energy and financial services.
Excluding thinly traded Berkshire Hathaway Inc., Bank of America and Chevron are the two biggest U.S. companies by market capitalization which currently aren’t in the Dow industrials."
Interestingly, I noticed our ratings on both drops were "Neutrals"; the adds were split: BAC was a buy, CVX was a sell . . . charts after the jump.
Earlier this week, I received a copy of a paper co-authored by Carmen Reinhart of the University of Maryland and Kenneth Rogoff of Harvard University, titled Is the 2007 U.S. Sub-Prime Financial Crisis So Different?.
Each of these authors have rather distinguished affiliations. Reinhart is with the NBER, the group whose Business Cycle Dating Committee officially marks the beginning and end of Recessions. And Rogoff is an adviser to the John McCain, who has (almost proudly) professed his economic ignorance.
Yesterday, in the NYT, Paul Krugman linked this paper to an interesting and perhaps unique factor regarding the 2008 presidential contest. None of the remaining 3 contenders — McCain, Obama or Clinton — are economic ideologues. No supply-siders in this group, no one from the Democratic old school.
If it turns out that the candidates are pragmatic centrists, more focused on problem solving than ideological belief system, it would be a good thing.
This is especially true, if the authors of the paper are correct. Why? If the present situation plays out as they expect, we are going to need all of the problem solving skills available. You see, Reinhart and Rogoff draw parallels between the current U.S. financial woes and five previous financial crises. All five of these were “associated with major declines in economic performance over an extended period:”
- Japan (1992)
- Spain (1977)
- Norway (1987)
- Finland (1991)
- Sweden (1991)
Of course, none of these are identical to the present 2008 USA, economically, culturally, or politically. However, when one takes a closer look, some of the major parallels are a cause for concern.
The Chronicle of Higher Education did just that. In reviewing the Reinhart
and Rogoff paper, they focused on the parallels to the Japan crisis.
Like Japan et al., the United States has seen:
- A steep rise in housing prices during the four years preceding the crisis. (The U.S. rise was more than twice as large as the average of the other five.)
- A steep rise in equity prices. (Again, the U.S. rise was larger.)
- A large increase in its current account deficit.
- A decline in per-capita growth in gross domestic product. (In this case, the U.S. situation doesn’t appear as bad as in the five predecessors.)
- An increase in public debt. (Here again, the U.S. situation isn’t as bad as in the historical examples – but Reinhart and Rogoff add that “if one were to incorporate the huge buildup in private U.S. debt into these measures, the comparisons would be notably less
The authors’ conclusion:
“Given the severity of most crisis indicators in the run-up to its 2007 financial crisis, the
United States should consider itself quite fortunate if its downturn ends up being a relatively short and mild one.”