 SIGNS OF THE TIMES - FEBRUARY 12, 2008
Be prepared
Bob Hoye
Institutional Advisors
Posted Feb 13, 2008
The following is part of Pivotal
Events that was published for our subscribers February
7, 2008.
SIGNS OF THE TIMES
Last Year:
"Economists: Hottest
Property On the Street"
"One of the hottest
job markets in years for economists as pension funds and other
new investment vehicles step up the competition for talent on
Bay Street."
-Financial Post
February 8, 2007
Now, why would investment funds
employ economists? Credit markets lead the stock market, which
leads the economy. In so many words, the cycle for share certificates
leads the business cycle.
And then there is the risk.
In 1997 just before failing on the Asian Crisis a NY hedge fund
bragged that it had a lot of PhDs using very sophisticated modeling
for their strategies and tactics. Then the big tout with Long
Term Capital Management was that not only did they have economists,
but they had Nobel Prize winners.
And then there is the accumulative
accomplishment. The Federal Reserve has been dominated by the
theories and practices of interventionist economists and the
result has been the deliberate depreciation of the senior currency
by 95% in the 94 years since the Fed began operations in that
fateful January of 1914.
Naturally, such chronic depreciation
has not gone unnoticed by the markets, And as usual, the resultant
instability has fueled the ambitions of financial adventures,
with a variety of reckless schemes. Without a doubt the Twentieth
Century's experiment in interventionist central banking has been
the greatest financial adventure in history. The two previous
centuries of great inflations occurred in the Sixteenth and Third
centuries, and the depreciation was simple - in order to fund
unlimited ambition the state straightforwardly confiscated private
savings through debasing the coinage.
It was an almost continuous
rip-off without the euphemism about manipulating interest rates
and the currency to "keep the recovery going". Or,
to segue into a great non sequitur, to prevent or end a financial
crisis. Only on the minds of interventionist economists can a
financial panic run forever.
This Year:
"Harry Macklowe, the
New York developer, has failed to refinance $5.8 bn in short-term
loans he used to buy seven Manhattan office towers from Equity
Properties last February. Deutsch Bank, which provided the loan,
has taken control of the buildings and will put them up for sale."
"US commercial property
prices have fallen 10 per cent in some markets since August,
after rising 90 per cent since 2001."
-Financial Times
February 5, 2008
Stock Markets: Using a couple of models a plunge
was likely to end in January. As it turned out, the market suffered
a classic bout of forced liquidation that culminated on Day 55
from the high in late October. Using the Nasdaq Comp the decline
amounted to 23% to the low on January 22.
Technically, the rush to sell
generated a rare "Downside Capitulation" on the ChartWorks
model, upon which we concluded that the rebound could run into
March and retrace some 40% to 50% of the loss. This is a typical
pattern within a long bear market, and has been essentially accomplished.
In so many words, the natural upside has occurred and has provided
a selling opportunity for both investors and traders, and the
risk, if anything, is worse than in October. Some churning around
for a few weeks is possible, but the hit is irrevocable and has
consequences.
Also as noted, this would make
the latest moves by panicked policymakers seem successful. As
discussed earlier, by the time the authorities become aware of
how serious the calamity is and then by the time they implement
the dramatic rescue the panic is over. There are a number of
examples dating back to the 1720 Bubble.
Formally, the plunge should
be classified as the initial crisis that marks the end of the
financial mania. We had thought that the rebound would run for
some 4 to 6 weeks, but the dynamics were so powerful that the
best has been accomplished in only a couple of weeks.
Without a doubt, one of the
wisest observations made by The Economist occurred with the selling
panic that marked the end of the era of asset inflations in 1873:
"The panic may be over,
but the results of the panic are not over."
The subsequent bear ran for
five years.
We had been expecting the banks
to release some bad reports in January, and this has been the
case. Then, at the first of the year economic reports took a
dismal turn, and our January 10 edition observed that this put
the business cycle in harmony with the stock market. Hitherto,
the stock market decline could be described as technical or due
to deteriorating credit conditions. Although it is a miserable
form of order, the economy is now in line with the stock market.
This harmony can run until
the bear market is over. This could be severe enough to eventually
change the minds of those who are advising to stay long, as they
said in the first part of 1930, "for the long pull".
As for our policy - we will
remain patient, prepared for the "results of the panic".
INTEREST RATES
The Long Bond: Our January 24 edition noted that
the bond future was very overbought and that traders should begin
to play the short side of the market and that investors should
sell the long end to become defensive in the 4 to 5-year part
of the curve.
From the strong buy at 105
back in June, and with a couple of big swings, it made it to
122.81 on January 23, which was just as the liquidity panic ended.
That was a sharp spike up in the bond price, and it is possible
that the bond crowd had fully discounted the slowing economy.
In which case, we should look to other aspects of the rally.
Perhaps the best is in on the fact that it was just another asset
that has been in play for some time.
It is interesting that this
week brought a shockingly bad ISM report on services. The previous
number was 54.5, the consensus estimate was for 51.5 and below
50 indicates a contracting economy. The number was 41.9! And
the bond didn't rally.
Our concern has been that the
loss in liquidity in corporate bonds and weird stuff would eventually
pull down the price of long treasuries. This could be the point
when credit-quality risk translates into term risk. It happens
during every post-bubble contraction, and the combination of
declining asset prices, turndown in business, falling short rates
and rising long rates is perplexing to conventional wisdom. We
call it "Conundrum II".
Of course, the opposite condition
when the bond was rallying in the face of a boom was called a
"conundrum" by Greenspan. We were on that rally as
yet another asset class, and in looking forward to its opposite
called it "Conundrum I".
During the boom, the yield
curve naturally inverted, and just as naturally the curve reversed
to steepening in May and signaled this contraction. It has been
popular this week to claim that the Fed steepened the curve to
help bank earnings. Sadly, this is wishful analysis and a quick
review of the post-bubble world shows that steepening continues
until close to the end of the bear market.
Link to February 8, 2008
'Bob and Phil Show' on Howestreet.com:
http://www.howestreet.com/index.php?pl=/goldradio/index.php/mediaplayer/771
###
-Bob Hoye
Institutional Advisors
email: bobhoye@institutionaladvisors.com
website: www.institutionaladvisors.com
SIGNS OF THE TIMES - FEBRUARY
12, 2008
Hoye Archives
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