Credit Contraction News 2-27-2007

[Sapiens]

indiadaily.com

http://www.indiadaily.com/editorial/15815.asp

The private and public debt load root cause of deflation and economic recession – Greenspan warns
Peter Oberois
Feb. 26, 2007





The budget deficit is the biggest concern. The debt of people on their homes, cars, and credit cards – when all added up creates the recipe for the disaster.

"The American budget deficit is clearly a very significant concern for all of us that are trying to evaluate both the American economy's immediate future and that of the rest of the world," former Federal Reserve Chief said via satellite at the VeryGC Global Business Insights 2007 Conference.

We are now well into the contraction period and so far we have not had any major, significant spillover effects on the American economy from the contraction in housing," he said.

The problem in the economy is underemployment and lack of real entrepreneurial spirit. The fiscal incentives created in the last ten years are focused on non-productive non-innovative business enterprises. The venture capitalists, private equity firms and businesses are focused on how to show good results somehow and get an IPO going as fast as possible to get the exit required.

Large corporations have focused on increasing revenue through acquisition. They do not understand the debt load they create in acquiring a competitor for a fat premium. The focus is again on creating good results on the earning per share side instead of strategic business prudence on the long run.

[Sapiens]

The Food Chain of Finance

http://www.elliottwave.com/features/...d=2911*time=pm

"Leaving aside ethical questions, which depend on the reader’s personal sense of justice, the fact is that there are practical limits beyond which consumers simply become incapable of paying. In fact the “Merchants of Misery” may well enjoy a period of fervid growth in the initial phases of the contraction. However at some point social mores will switch from a general acceptance of aggressive debt promotion and massive profit margins earned on the poor to a sense of disgust and a desire to reform. No doubt there will be a new wave of anti-usury laws targeting Second Tier enterprises like rent-to-own, check cashing and pawn shops. No tree grows to the sky. Eventually the three decade promotion of debt to the highest risk groups will backfire, leading to unprecedented losses through exceedingly high rates of default."

[Sapiens]

is the bear about to make a comeback?

http://www.moneyweek.com/file/26126/...-comeback.html

The long-term transition from “Primary Bear Market” to “Primary Bull Market” is invariably based upon valuation.  A low valuation is usually represented by a P/E ratio in single figures. This has traditionally signaled the end of a Primary Bear Market and that has not yet occurred.  For this reason we believe the stock market is specifically at risk to a resumption of the Bear Market that started in 2000.  A continuation of the Bear Market could be very dramatic and is likely to be triggered by a reversal of the global liquidity story.

Stock markets have another good month

At the time of writing, February is proving to be another positive month for world stock markets.  According to Richard Russell, the highly regarded US octogenarian financial market observer, February will be the eighth consecutive month that the Dow Jones Industrial Average has been higher, equaling its long-term record.  It has also been observed that there have been 928 trading days without the Dow being one day down by as much as 2%, the longest such period ever.

The FTSE 100 remains strong, justifying our recent decision to reduce bear fund holdings by two-thirds.  The residual holding is being watched carefully and ought to benefit from what is now a very long overdue correction.

Change on the way for markets

Recent data suggests change may be on the way.  The British Bankers Association (BBA) said that credit card lending in the UK declined by £496 million in January. This followed a decline in December of £329 million; the January figure is the biggest contraction since figures were first published by the BBA in 1993.  This reduction has come about as a result of tighter credit controls by the banks and an increased awareness by consumers in the wake of a series of interest rate increases.

In the US, 22 % of the 400 plus S&P 500 companies, who have reported results for the fourth quarter 2006, failed to meet Wall Street expectations, the highest level of misses since the third quarter 2004.  Ashwani Kaul, senior research analyst at Reuters Estimates, said “We are entering a low earnings growth environment”.   If he is right, the US stock market will struggle at these valuations, which depend very much upon the expectation that earnings growth continues robustly.

Ben Bernanke continues to calm nerves by regularly reassuring investors to expect a soft landing and low inflation.  However, Merrill Lynch recently commented on the risks that exist to the “Goldilocks” economic view.  Global liquidity could be reined-in; both the ECB and BoJ could raise rates; the Peoples Bank of China likely to restrain liquidity; the deteriorating American housing market; corporate earnings might disappoint.

Stock market indicators: the Volatility Index

The Volatility Index remains becalmed; nothing, it seems, can disturb the complacency. The absence of fear is truly incredible.

The recent decision by the Bank of Japan to increase interest rates by 0.25% has, so far, in no way frightened this horse nor should it, given that the 0.5% remains very accommodative.  However, Toshihiko Fukui, Governor of The BoJ, is understood to have taken on the recent G7 view that the yen is out of sync with Japan’s relatively robust economic performance.  JP Morgan’s Chief Economist in Tokyo, Masaaki Kanno, who is also a former BoJ staffer, was prompted to say: “This is an indirect warning from the BoJ, do not expect a weak yen forever.” 

Stock market indicators: US housing market

The general view is that the worst is over for the US housing market, although that optimism must have been somewhat dented when it was reported that home starts for January were down 14% to 1.4 million, a ten-year low.  Furthermore, the Commerce Department reported that there are 2.1 million housing units standing vacant, the highest number ever.

The sub-prime mortgage market has, for two years, been key to burgeoning property prices; it is now in a state of distress as a result of very high delinquency levels.  The share prices of some of these lenders have been savaged. Recently, in one day, the New Century Financial Group, the second largest sub-prime provider, saw its share price fall 36%.   More recently shares in Novastar Financial, the nineteenth largest US mortgage lender, fell 42.5% in one day.

Stock market indicators: Dow Theory

To our surprise, Dow Theory has signaled positively for the US stock market; the question now is, will this horse lead the other three or will it stumble and fall back, we watch and wait.

As flagged in our previous issue this has caused us to take action as far as the Japanese stock market is concerned - more on that later.

Stock market indicators: yield curves

Although inflation fears have caused a modest rise in long-term interest rates, yield curves remain inverted.

Long-term interest rates are still meaningfully lower than short-term interest rates and whilst that continues, pressure on future short-term interest rates is likely to be down.  It has long been the case that an inverted yield curve is a signal for a future recession.  Without a change in the situation, a recession must be expected with corresponding weakness in stock markets.

Japanese stock market: increasing our exposure

It was recently reported that Japan’s economic growth in the fourth quarter 2006, on an annualised basis, was 4.8%, 1% above the consensus. Consumer spending for the same period was up 1.1%, again above consensus.

For some months we have been monitoring Japan’s second section, an index of smaller Japanese companies centred on the domestic economy rather than the giant international blue chips of the Nikkei. Last year it suffered a significant set back.  Since July 2006, it has been basing out and, in our view, has now delivered an attractive buy signal. We are initiating positions in most portfolios amounting to about 5% of portfolio values.  We expect these investments to benefit from the developing Japanese economy and from the inevitable return to strength of the yen.

The advantage of purchasing investments at these levels, following a long period of consolidation, is that it allows us to set a very close stop-loss.  You will see this from the published chart.  If, as we expect, these investments prove to be successful, we will, in due course, look for an opportunity to increase exposure by a further five percentage points. 

By John Robson & Andrew Selsby at RH Asset Management Limited, as published in the Onassis Newsletter, a fortnightly newsletter that gives insight into the investment markets.

For more from RHAM, visit http://www.rhasset.co.uk/

[Sapiens]

Bernanke The Dove

http://www.freemarketnews.com/Analys...d=156&nid=6988

In our assessment, Bernanke’s benign outlook is a message to banks not to cut the lifeline to sub-prime lenders, to keep the party going. Bernanke working hard to increase money supply just as market force demand a contraction may have very negative implications for the U.S. dollar.

[Sapiens]

Re: Credit Contraction News 2-27-2007

http://ftalphaville.ft.com/blog/2007...-of-the-world/

“From where I sit, it no longer makes sense to maintain an optimistic prognosis of the world”Oh dear - things seem to have taken a turn for the worse over at the Morgan Stanley Global Economic Forum.

Richard Berner there has been arguing, in contrast to the bank’s resident bear Stephen Roach, that the problems in subprime lending in the US are “idiosyncratic” and will not spillover into a systemic crunch. Worries about a wider crunch are “dramatically overblown” he wrote earlier this month.

He has not changed that view, he says. But some, such as Nouriel Roubini at RGE Monitor, think they detect a shift in Mr Berner’s stance on the matter, as the bank’s chief US economist ponders a number of risks that could trigger a more generalised crunch.

In his latest post, Mr Berner writes: “There’s no evidence yet of a broader deterioration in consumer credit quality or of spreading lender restraint,” before adding, “nonetheless, the tails of the credit quality distribution are getting fatter, and consumer delinquencies and chargeoffs are rising.”

“In these circumstances, investors should not confuse the resilience of consumers or businesses with ongoing stable credit quality. For years, I’ve argued that rising debt levels and credit risks would not trigger consumer retrenchment, but that the causality wouldn’t necessarily run in the other direction,” he goes on.

“Likewise, there is an important dichotomy between the risks to markets and those to the economy from a deterioration in credit quality. Financial innovation such as the structured credit and ABS markets have dispersed risk more broadly, thus increasing the resilience of the financial system and increasing the apparent resilience of markets to shocks. The risk is that if liquidity ebbs, that apparent market resilience will also dwindle. So while the subprime meltdown is likely to remain idiosyncratic, it should remind investors to carefully reassess lender credit quality and monitor risk-free spreads closely for any signs of distress selling or inability to roll over maturing paper, as well as the tone of rating-agency commentary that may affect ability to finance.”

Meanwhile, poor Mr Roach seems to have descended into new depths of despair.

“A new level of complacency has set in. It’s not just a financial-market thing — extremely tight spreads on risky assets and sharply reduced volatility in major equity and bond markets. It’s also an outgrowth of the increasingly cavalier attitude of policy makers. That’s true not only of central banks but also — and this is a major concern of mine — by the global authorities charged with managing the world financial architecture. Meanwhile, by flirting with the perils of protectionism, politicians are ignoring some of the most painfully important lessons from history. After four fat years, convictions are deep that nothing can derail a Teflon-like global economy. That’s the time to worry the most.”

His conclusion: “Enough is enough — from where I sit, it no longer makes sense to maintain an optimistic prognosis of the world. This is more of a structural call than a cyclical view. I remain agnostic on the near-term outlook, and certainly concede that the Goldilocks-type mindset currently prevailing could put more froth into the markets. But complacency is building to dangerous levels — always one of the greatest pitfalls for financial markets. And yet that’s precisely the risk today, as investors, policymakers, and politicians all seem to have dropped their guard at the same point in time. The odds have shifted back toward a more bearish endgame. I have a gnawing feeling we’ll look back on the current period with great regret.”

The bulls are reining themselves in, the bears are close to tears and European markets are rattled. Time to worry…

[Sapiens]

Federal Reserve may have to pare back its forecast for 2007.

http://www.mcall.com/business/local/...inesslocal-hed

''We're in the midst of a classic boom-bust credit cycle in housing,'' says Andy Laperriere, managing director at International Strategy & Investment Group in Washington. ''And the bust is just beginning.''

The worst case: Distress already evident in the riskiest part of the mortgage-lending industry turns into a full-scale credit crunch that cripples the housing market and the economy.

More likely, say forecasters at ISI, UBS AG and Deutsche Bank AG, is an economy stuck at about a 2 percent growth rate in coming quarters, down from 3.4 percent in 2006, as housing demand remains in the doldrums.

That's below the Fed's forecast for 2007 and might prompt Chairman Ben S. Bernanke and his colleagues to dial back their concern about inflation and focus more on growth. At their last meeting, on Jan. 31, Fed policy makers discussed dropping their anti-inflation bias in favor of a more even-handed approach. In the end, they decided against a change ''at this time,'' according to minutes released on Feb. 21.

[Sapiens]

Looking back and ahead

http://www.kansascity.com/mld/kansas...printstory.jsp

In retrospect, of course, it will all seem so obvious. That’s the beauty of hindsight.

Between June 13 and last Tuesday, the Dow Jones industrial average rose 19.4 percent to a record close. The broader Standard & Poor’s 500 stock index, meanwhile, rose 19.3 percent, still short of its high.

Despite the recent run, it’s been something of a nickel-and-dime rally, marked by remarkably few big moves — up or down.

But there have been a whole lot more ups than downs. The Dow posted 32 record closes during 94 recent trading days. The bear market that ended Oct. 9, 2002, has become distant in the rearview mirror of Wall Street.

In time, perhaps sooner than later, the stock market will dip, as it always does. And some investors who were late to the party will curse the heavens, lament their luck and swear to never let their shadows darken Wall Street again.

Just like the last time, not so terribly long ago. And the time before that. And before that.

Folks looking for a reason to fret about an oncoming market correction can point to credit problems in the subprime mortgage market, such as those that wiped out nearly half the market value of Kansas City-based NovaStar Financial Inc. in just a couple of days last week.

One body of thought holds that widening subprime mortgage market problems presage broader credit quality problems. If so, the thinking goes, it could force the sort of credit crunch that can send the economy into a broader slowdown.

Others can point to exhausted, debt-burdened consumers. They can tick off a negative personal savings rate, softening home prices and an increasing poverty rate as reasons for the economy to contract.

Still others worry about high energy prices.

Admittedly, I’m walking down Wall Street these days with my head on a swivel, looking for anything threatening to crack the family nest egg. And yet, all things considered, I remain sanguine about both the economic outlook and prospects for equities — at least for now. Here’s why:

•Corporate earnings continue to grow. Since the end of the bear market, the S&P 500 has seen its operating earnings more than double while the price of the index has risen about 75 percent.

•Despite the recent stock market rally, the price-to-operating-earnings ratio of the S&P 500 remains at about 16, barely higher than the market’s historical average, and less than the implied p-e ratio of 21 that investors are paying for the yield on 10-year Treasury notes.

•Companies are using mounds of accumulated cash to buy back stock, reckoning it’s still cheap. The overall supply of publicly traded shares in this country is declining an estimated 4 percent a year — thanks to stock buybacks and companies going private — buttressing the value of those shares left in circulation.

•Finally, a rare stock market event recently occurred that went virtually unnoticed in the mainstream press but set a few old-school technicians jabbering. The Dow Jones industrial average, transportation average and utilities average each posted record highs on Feb. 14. It was the first time that had happened since March 17, 1998, and just the 20th time in stock market history.

Such an event is seen as a bullish signal that confirms broad-based demand for stocks, with the transports in particular seen as a reliable leading economic indicator.

Frankly, I’m no great follower of technical analysis. I will note, however, that the last time the industrial, transport and utilities average simultaneously attained record highs, the broader market gapped nearly 40 percent higher over the next two years.

Personally, I don’t expect a move of that magnitude. Frankly, it wouldn’t be healthy, fundamentally speaking. And we all should remember the financial pain that ensued shortly after the last such stock market run.

That, my friends, is the beauty of hindsight.