Tuesday, April 28, 2009

Current Market Observatons April 2009







I have attached a comparative chart: 1.) Selected Case Shiller vs. S&P 500 vs. Gold and 2.) Statistical Analysis of selected markets since the recent decline in housing prices and equities.

It is interesting that the markets are starting to show some moderation in year over year numbers in the rate of decline, but this may also be due to a temporary moratorium on foreclosures by some of the major banks at the beginning of the year. Florida, Arizona, California, Las Vegas, and Detroit have witnessed the most severe decline from the highs reached in 2006. As all assets appear tied to the “Financial Bubble” created by easy money policy by the Federal Reserve in 2002 and repeal of some parts of the Glass-Steagall Act of 1933, a significant clearing of debt through write-downs, foreclosures, and defaults will persist as balance sheets and businesses are consolidated and revalued. This is one of the few times in history where the global economy has been the subject of a massive margin call due to the tremendous leverage existing in many pockets of the interlinked economies. Mortgages, CDSs, CMOS, CDOs, margin accounts, Hedge Funds, Prop. Trading desks, consumers, real estate investors have all enjoyed the elated returns of leverage in the good years, but as the underlying leverage for both individuals (real estate if one puts 10% down is 10:1 leverage), margin accounts, commodities, and various hedge fund strategies have been creative enough over the past to leverage up to 100:1. This works well when the trades and investments are in one’s favor, but as everyone gets caught on the same side of the trades, the resulting unwind is devastating as we are witnessing now.
Despite the deceleration in the Case-Shiller index in February, the decline in housing prices is tracking the "more adverse" scenario in the federal government's stress tests on major banks, which assumes a 22% drop in home prices this year, according to Bill McBride, who writes the Calculated Risk blog.
Falling home values have helped to plunge the global economy into chaos because financial institutions made too many bad bets that U.S. home prices would never fall. Homeowners have lost trillions of dollars of wealth.
With prices still falling at a rapid pace, millions of homeowners are finding themselves owing more on their house than it is worth. They cannot sell for what they owe, and they cannot refinance their loan. They cannot borrow against their home to finance their consumption.
Prices fell in all 20 major cities in February, led by a 5% drop in Cleveland, S&P said. In February, prices in the Dallas metro area performed the best, dropping just 0.3%.
Prices in all 20 cities have fallen significantly. Prices in the best market -- Dallas -- are down 4.5%. Prices in three cities -- Phoenix, Las Vegas and San Francisco -- are down 30% or more in the past year.
My concern is the Stimulus Plan is really a Tax Bill of Trillions of dollars, and Federal Reserve has now conceived a new means “quantitative easing,” whereby they expand the Fed’s balance sheet and buy mortgages, T-Notes, T-Bonds, and other debt instruments. At some point in time the leverage needs to clear the system, not be moved around in a clever shell game. The Global economy will continue to grow with the world population growth, and profits can be made from necessary goods and services, not from trading paper and inflated assets. The markets entered their “Bubble Phase” due to too much money, significantly leveraged chasing due few goods. When the consumer could no longer buy the products, borrow from their assets, or cover their debt obligations, everything began a slow, then accelerated decline.
Equities, Real Estate, and Financials have suffered the bulk of the decline. It appears that there is still a large amount of debt to be written down, and the cycle will continue until it clears the system. This may mean break ups / consolidations of many corporations, but more keen minds seem to understand the problem, though political inclinations may influence results more than rational reconciliations.

I continue to like companies that make necessary products where margins and market share can be expanded. This list of companies includes Apple, Amazon, Goldman Sachs, Research In Motion, Verizon, General Electric, and Morgan Stanley. I would be hesitant to chase this rally from the March lows for I believe there will be a retest of the 740-780 level in the S&P 500.

Ben