China's Paul Volcker

There is no doubt that the Chinese are masters in studying history. It is a sad day for the global economics of the Western World when the most respected banker is from a communist country. The Chinese central bank has raised reserve requirements again as it tackles inflation. O/n rates are at 7.47 % and reserve requirements will rise to 16.5% from 16%. Talk about constraining the banks. Consider the US banks that have 8.5% in tier 1 capital ( of what we know). In addition, US banks have been exposed for their off balance sheet entities-who knows what is out their in numbered company land.

Walter Ruether where are You

Back in the 1930s when Henry Ford was boasting to Walter Ruether (head of the auto workers union) that his new automated assembly line would reduce the need for his unionized workers and may even eliminate them, Walter replied (to paraphrase) 'That is great Henry, but who are you going to sell your cars to?' That same situation is currently the US and the Western worlds problem. But outsourcing their production to low cost countries, Western companies have destroyed their buying base. Profits have risen tremendously in the past 10 yrs, but the slow deterioration of the consumption base has finally caught up to the process. There is a massive time lag as the developing world catches up to the living standards of the West. They need basic necessities, not luxury items. They will buy a Chevy and not a Cadillac. They will buy food and fuel, but not Cartier watches.

Where the Rot IS

Fannie Mae (FNM) just reported earnings and to say the least, they were terrible. 2.57 loss per share for the quarter, and the need to raise another 6 billion in capital. Expectations were for a .81 loss-the spin from the media will be interesting. More important, they state in the release that 2009 credit losses will be higher than 2008 losses. Hello Alt-a and Prime and ARM resets. Dividend to be cut. Once again the US taxpayer is going to get the short end of the stick while the Wall Cheat Fat Cats keep their ill gotten gains.
UBS just annoubnced another massive qtrly loss-10.9 bln, cutting 5500 jobs. The rot continues. The one bright spot is that they managed to sell 21 billion of subprime and Alt-a mtgs to Blackrock for 15 billion. So at least we know a reasonable valuation for some of these assets. Lazard reports a loss as does Legg mason. The bottom for financials is not in, it will be in when housing prices stop going lower or when US workers wages rise to a level to afford a house.
Speaking a covering their assets, SP had an announcement on Friday stating the expected recovery rates for the various tranches of CDOs. Even the highest rated tranches of the CDOs are expected to return 60-70% of the principle amount. That means the majority of the lower rated tranches are worth 0. There is more pain in financial land to come. Deleveraging and hedge fund blow ups will be commonplace.

Oil testing 120 and all the commentators are busy top calling. Nobody seems to believe the move. Even myself consider oil to be ahead of itself, but I am not short, but reduced long. If oil stays above 105 for the 2nd qtr, oil company profits are going to be ridiculously large.
Gold holding above 850, but it seems to lack any buying power-more likely short covering. It is dead money for a qtr or two.

CNBCs Steve Liesman is part of the hedge fund crew. Very opinionated-not reporting the news, but interpreting the news and part of the happy go lucky crowd. Lies Man is appropriate.

The circle of credit

Here is an interesting article regarding the price of oil

http://www.financialsense.com/editorials/engdahl/2008/0502.html

Very interesting, especially if you take it one step further. What if the US gov't in collaboration with the Saudis have been holding the price of energy high to pay for the US Gov't deficit. One can not just raise taxes in the US to pay for the spending of the US Govt, no, one just puts an indirect tax on the entire globe, but in particular the relatively poorer emerging giants China and India. Is oil worth 115/barrel, not likely but more like 80-90 given the cost of the marginal barrel. The Saudis in turn take their windfall profits and then buy USTs to complete the circle of credit. Unfortunately this arrangement will eventually break down as all price fixing schemes do-eventually more supply hits the mkt and the pyramid collapses-more than likely once George and Dick leave office. In addition, the Mid East oil producers are busy building the 21st century edition of the Great pyramids. Check out this website:
http://burjdubaiskyscraper.com/

With gas pushing 3.50 a gallon, and WTIC at 115/ barrel, the refiners are getting hammered. Also Nat gas is @ 10.60 , the ratio of oil to gas is North of 10, when it should trade at 8. However, one has to look at Nat Gas to refined products, and that is not quite as dramatic in the ratio, as that Nat Gas to gasoline ratio has ranged from 9.0 to 2.5-currently at 3.6.

Fed doing what it always does

The Fed is busy helping out its owners-the Banks that use its discount window. Rate cuts and TAF are only helping out the banks-not the citizen on the street.
http://www.bloomberg.com/apps/news?pid=20601109&sid=a1ctn1Xfq5Do&refer=home

Check out the rates from Bloomberg May 2 2008
Current 1 mth Prior 6 mth Prior

Fed Funds 2.00 2.25 4.50

3 month Libor 2.77 2.70 4.86

5 yr AAA Bk & Fin 4.59 4.30 4.79

10yr AAA Bk 5.56 5.50 5.38

15 yr MTG 5.29 5.29 5.54

30 yr MTG 5.72 5.75 5.91

1 yr ARM 5.90 5.55 5.65


So, despite rate cuts of 250 bps in the FF rate, mortgage rates have not dropped and in fact have gone up. The FED is holding up the banks by taking their crap in repo collateral, but the banks are not lending-Because they have no capital. This charade can go on for a while -Just like Japan. The US consumer needs capital and they are not getting it from the banks-look for credit card balances to increase as the desparation sets in.

Just buy anything not fixed income

The money masters are at it again. The FED succumb to the mkts and cut rates by 25 bps and then spun the move as hawkish on inflation. Then the Treasury Sec. says the worst of THIS crisis is almost over (I agree, but there are more crises around the corner). Things are so good that the FED has expanded the liquidity at the TAF to 75 bln and by expanding the list of permissible collateral. As explained earlier, by allowing the Wall Street Banks to borrow USTs which can be margined at at least 20:1, and giving the FED toxoic junk which has no margainable quality (maybe 3:1), the FED has stopped the forced selling. On top of that, the pile of cash in FI is getting forced into the mkt since rates are so low. The game continues again.
Maybe the mkt will wake up and realize what is going on, but right now the bears are getting a margin call. 1420 on the SP500 was the bounce back retracement and 1450 maybe the outside objective. Remember the Wall Street and the monkeys story. The big money has been buying for the last 4 weeks and now the marketing campaign accelerates to bring in the retail buyer. The only question is how much money does the retail investor have given their credit card is bulging and their mortgage needs to be refinanced.

Even the Las Vegas casinos are struggling-they need to find some new marks-same with Wall Street. Wall Streets' reputation is in tatters across the globe as the garbage they produced on these securitized instruments spread. As the saying goes-u can buy anything you want, but selling it to someone else at a profit is the trick.

The mkt tone is good as the flood of new liquidity finds its way into the mkt. Housing is dead, so the money will find its way into more liquid assets. Oil needs to correct to 100-105, but gold is back to its break out level of 850. All sorts of media talking of the commodity bubble being over, while it is time to buy financials. Don Coxe thinks otherwise. Lets see what the real money-ie foreign money mgrs think. China and India need to feed and house their citizens, not support Wall Street execs pay packages.

US Dollar

The Fed cut rates to 2% from 2.25% y'day and the spin from the media was that this is it for rate cuts. The futures mkt is predicting a rate rise by the end of the year-15%, while 13% indicate one more cut by yr end. Makes no difference as the shadow financial system has disconnected from the official rates. The Fed is trying to regain control of the system-first by eliminating Bear Stearns and then by legislating broader powers.
The USD failed y'day to rally, but the overnight crowd got the call and has pushed the USDX up .36 to 72.94. I fully expect a rally in the USD to 75 to 76, before the bear trend reserts itself. What is likely to happen now is that other central banks will be pressured to cut their interest rates as the local economies stall. US real rates are negative-helps the borrowers and punishes the savers-funny how the US gov't is going to need to borrow 400+bln this FY. Also interesting how it is an election yr. Negative real rates lead to consumption as saving is punished, unfortunately the borrowing capacity of the US consumer is stretched to say the least. The Fed has to be aware that the US mkt may become the carry mkt of choice for the shadow banking system-hedge funds borrow in USD and then sell the USD to buy assets in other currencies and mkts.

Gold and oil are unlikely to break higher in this scenario, but oil and gold companies may benefit as they have been handicapped by the rising domestic currencies. Brazil and Canada are the prime examples. Lately the C$ has retreated, but the Brazilian Real has rocketed higher, especially after SP upgraded the local debt to investment grade.