Market Summary: Fri. March 28, 2008

The market continued to drift lower Friday ending on the day’s lows. The market has calmed down significantly (decreased volatility) after last week’s Bear Stearns news that sent the markets on a wild ride.

The negative tone was set before the bell when JC Penney offered poor guidance. JCP said its “quarterly profit will be about 50 cents a share, down from an earlier projection of 75 cents to 80 cents” and same store sales “will post a ‘high single-digit’ percentage-point decline” (Source: Bloomberg.com). All the major retailers, including Abercrombie, American Eagle, Kohl’s, Nordstrom, and Macy’s, were down 5-7% off the JC Penney news.

In economic news, personal income rose more than expected for February. Analysts were looking for a 0.3% increase, but the number came in at 0.5%. This is up from January’s 0.3% reading. Personal spending was in-line at a 0.1% increase, but lower than last month’s reading of 0.4%. Core PCE inflation was also in-line at 0.1%, but lower than 0.2% last month. The consumer sentiment (Reuters/University of Michigan) fell to a 16-year low (Source: CNBC.com, Bloomberg.com).

To the financials…Lehman got upgraded to a “buy” at Citigroup. The analyst said “Lehman has ample liquidity to run its business” and he sees 70% upside to the company’s stock price (Source: Bloomberg.com). Meredith Whitney, the Oppenheimer analyst, predicts that Citigroup will have to cut its dividend again. She said the banks will face ‘earnings headwinds’ and expects Wachovia, Bank of America, and Wells Fargo to also lower their dividends. She thinks JPMorgan is the only bank that can maintain its current dividend (Source: Bloomberg.com). Bloomberg.com reported that Fannie Mae and Freddie Mac may raise $20B to buy more debt securities.

Friday was a pretty boring day on Wall Street. Look for things get a little more interesting next week with Monday’s Department of Agriculture annual crop planting report and Friday’s employment data.

DJIA 12,216.40 -86.06 (-0.70%)
Nasdaq 2,261.18 -19.65 (-0.79%)
S&P 500 1,315.22 -10.44 (-0.79%)
NYSE Volume 3,660,964,000

2-Yr Bond 1.67% -0.06
10-Yr Bond 3.47% -0.09
30-Yr Bond 4.33% -0.05

Dollar Index 71.678 +0.018
Crude Oil (May) 105.62 -1.96
Nat Gas (May) 9.800 +0.113
Gold (Apr) 930.60 -18.20

Market Summary: Thurs. March 27, 2008

Today was a very sound technical day until the last few minutes of trading. For the S&P 500, 1,330.00 had been a level of resistance, but after last week’s “break out” thanks to the Fed’s bailout, 1,330.00 has become a major support level. At 9:30am we tested 1,330.00 and bounced nicely, and then we tested again at 1:00pm and bounced again. However, at the end of the day late selling pressure pushed the S&P below 1,330.00 causing many to believe 1,330.00 has now become resistance. The market closed the day on its lows.

I’m not one to follow technicals or trade stocks off technical analysis because you never know what surprising piece of news will be released tomorrow to move the stock market one way or another. As they like to say, “Technicals are always right until they are wrong.” Recently, CNBC has talked so much about technical levels because the fundamentals are so difficult to measure. Therefore, you almost are forced to follow the markets using technical analysis. My warning to you…proceed at your own risk. Warren Buffett is exactly the opposite of a technical trader and he has made billions over the years. You can choose which investing/trading style suits you better.

The market was lower thanks to a sub-par earnings report from Oracle (reported yesterday after the close) and weakness in the financial sector. One interesting piece of information to note, though, is that the VIX (measure of volatility or fear) was actually down all day.

In Oracle’s conference call, the company’s CFO said that “Customers got a little more cautious at the end of the quarter, given what was going on in the financial market” (Source: Bloomberg.com). Shares of Oracle finished the day down 7% and large-cap tech stocks were the relative laggard.

Oppenheimer’s financial analyst Meredith Whitney was in the news again today after she lowered earnings estimates for Merrill Lynch and UBS. She said “Merrill Lynch may post a loss of $3 per share and write down $6B of assets…UBS will lose $2.75 per share after writing down about $11B” (Source: Bloomberg.com). This news weighed on all the financial names causing the XLF (financial ETF) to finish the day down 1.5%.

The energy and agriculture names were the relative winners on the day thanks to another rally in crude oil prices for the second consecutive day. Crude rose above $107/barrel on news that a pipeline in southern Iraq exploded (Source: Bloomberg.com).

The Fed has been throwing exorbitant amounts of money into the financial markets to help with liquidity issues. Data was released today regarding investment banks using the discount window, a new tool recently implemented by the Fed. “Firms averaged $32.9B in daily borrowing over the past week from the new lending facility, compared with $14.3B the previous week…On Wednesday alone, lending reached $37B.” The big investment banks pay 2.5% (the discount rate) in interest for these overnight loans. Today was the first Term Securities Lending Facility where the Fed auctioned $75B. “Bidders paid an interest rate of 0.330%. The Fed received bids of $86.1B worth of securities” (Source: CNBC.com). The 0.330% is actually the spread investment banks had to pay above the discount rate. Since only $86.1B in bids was received, CNBC called the demand only “moderate” from government Treasuries.

DJIA 12,302.46 -120.40 (-0.97%)
Nasdaq 2,280.83 -43.53 (-1.87%)
S&P 500 1,325.66 -15.47 (-1.15%)
NYSE Volume 4,007,359,000

2-Yr Bond 1.73% +0.02
10-Yr Bond 3.56% +0.05
30-Yr Bond 4.38% +0.05

Dollar Index 71.660 +0.154
Crude Oil (May) 107.58 +1.68
Nat Gas (May) 9.687 +0.002
Gold (Apr) 948.80 -0.40

Market Summary: Wed. March 26, 2008

Why were we down only 1% with the dollar tanking, financials getting crushed because of downgrades/lowered estimates, and poor housing and durable goods reports? Most days, we would have been down much more. We can thank the energy and agriculture stocks for keeping the losses to a minimum. As crude oil soared to $106 on a bearish inventory report, all the commodity-related names were rallying.

February durable goods orders declined 1.7%, more than expected once again. Last month, orders declined 4.7%. The consensus estimate for February was for a 0.7% increase (Source: Bloomberg.com).

The February new home sales number was 590K, beating the 578K consensus estimate. Last month’s reading was 601K. “New home sales slipped 1.8% month-over-month. Economists, on average, estimated sales would fall 1.7% month over month after January's downturn” (Source: Briefing.com).

Citigroup was the main laggard of the financial stocks after Oppenheimer analyst Meredith Whitney lowered the companies’ estimates four-fold. She “predicted the bank will lose $1.15 a share in the first quarter. That compares with her earlier loss estimate of 28 cents…Whitney correctly predicted two months in advance that Citigroup Inc. would reduce its dividend to preserve capital. Citigroup may write down $13.1B of assets including leveraged loans and collateralized debt obligations in the first quarter…U.S. bank earnings overall will tumble 84 percent in the quarter…This will not be our last reduction in 2008…We anticipate further downside to both estimates and stock prices'' because banks will be under pressure to mark down assets to reflect falling market indexes” (Source: Bloomberg.com). This analyst has been right so far about all the financials, so when she came out with a negative statement the markets reacted accordingly.

Bank of America, Wachovia, and JPMorgan Chase also had earnings estimates cut. Deutsche Bank also came out with a statement warning it might miss its 2008 profit forecast.

Treasury Secretary Paulson made a speech today and he talked about how the Fed needs to “broaden its oversight to include Wall Street investment firms.” He explained the “world has changed” and he urged regulators to “think more broadly about the regulatory and supervisory framework.” In was also announced that the Senate Finance Committee will be reviewing the JPMorgan Chase – Bear Stearns deal (Source: Bloomberg.com).

Also, Motorola announced it would be splitting into two companies after receiving pressure from activist investor Carl Icahn (Source: Bloomberg.com).

After the bell, Oracle reported earnings that were below analysts’ expectations despite good guidance. Shares were down almost 10% in after hours trading. The earnings per share number was in-line with expectations, but revenues trailed analysts’ predictions (Source: Bloomberg.com). Look for the Nasdaq and large-cap tech names to be the relative laggard tomorrow off of this news.

Have we just finished the typical bear market rally? We saw the financials spike for a few days after the Fed stepped in and bailed out Bear Stearns, but there are still lots of problems at these banks that will take some time to fix. I expect more analysts to keep downgrading and reducing earnings estimates.

As oil and other commodities rebound, inflationary pressures remain making the decision for the Fed at their next meeting even more difficult. The biggest number between now and the next Fed meeting is the CPI/PPI/CPE. Keep an eye on gas prices as they just hit a new all-time high.

DJIA 12,422.86 -109.74 (-0.88%)
Nasdaq 2,324.36 -16.69 (-0.71%)
S&P 500 1,341.13 -11.86 (-0.88%)
NYSE Volume 4,041,470,000

2-Yr Bond 1.71% -0.08
10-Yr Bond 3.51% unch
30-Yr Bond 4.33% +0.03

Dollar Index 71.506 -0.770
Crude Oil (May) 105.90 +4.68
Nat Gas (May) 9.685 +0.174
Gold (Apr) 949.20 +14.20

Cool Numbers and Regulation

Did you know: "Banks and brokerages account for almost 35 percent of all salaries and wages in New York City." An interesting statistic in an otherwise bleak article, which discusses projections in future job cuts at these financial firms could up upwards of another 20,000 in NYC alone. The bulk of the cuts, the report suggests, will occur in 2008.

Since last July, Wall Street firms have lost about 34,000 employees. Apparantly, this is on track with the 2001 recession, where a similar number of jobs were lost in a similar period of time. Unfortunately, when all was said and done, a staggering 90,000 jobs were lost "in the 2 years after the internet implosion."

Paulson made an announcement today about wanting to increase regulation for investment banks. With so much government intervention (e.g. the Fed bailing out Bear Stearns), and Wall Street's self-induced meltdown, I wouldn't be surprised.

This WSJ article suggests that, if more financial institutions are going to take advantage of the Fed's help, they should follow more strict rules and regulation. Investment banks today essentially compete with commercial banks directly. In the past, corporate banks have had the advantage of issuing deposits that are insured by the federal government, but the Fed essentially did this to Bear Stearns when it bailed them out. The article does a great job summarizing what the regulation would entail, here is a quote:

First, the process for obtaining funds by non-banks must continue to be as transparent as possible. The Fed should describe eligible institutions, articulate the situations in which funds will be made available, and the magnitude and pricing structure for the funds. The TAF process is a good model for a structure that would provide relevant information to the marketplace.

Second, and perhaps most importantly, the Federal Reserve should have the information about these institutions it deems necessary for making informed lending decisions. The Federal Reserve is currently working to ensure the adequacy of such information. We suggest that the Federal Reserve, the SEC, and the CFTC continue their work of building a robust cooperative framework. Already, at the invitation of the SEC, the Federal Reserve is working alongside their teams within these institutions. These regulators should consider whether a more formalized working agreement should be entered into to reflect these events.

A wider perspective is offered here. It looks like increased regulation may spill over into other areas, piggybacking on our concern over dangerous Chinese imports.

Here is a brief objection to the Fed's actions. The author argues that this motion will offer incentive for similar smaller, less responsible forms to make shaky judgments, as long as they know the Fed is willing to bail them out, like they have done with Bear. Should the Fed nurse our economy, or let it ride out this fever, and hopefully grow from our mistakes? This is a question that has been in debate for ages (look at Herbert Hoover's success compared to Margaret Thatcher's, both played tough love, one was significantly more successful than the other).

With this added regulation, other professions may start to look more attractive - like private equity, which is already challenging investment banks on the tasks they perform (which I write about here).

Actually, some of the biggest issues are essentially accounting problems. How do you value this asset? What standards do you refer to? If the rules (or principles) are clear, then we may be finding banks in the future spurning less liquid securities. Considering the US's GAAP is switching to international standards (we talk about this briefly here and here), we may be seeing a better solution from the accounting standards setters.

Interesting note: Looking back in history, today has some interesting parallels with the Great Depression and FDR's response, as offered by this Slate article.

Market Summary: Tues. March 25, 2008

Although the markets were essentially flat for the day, I’ll consider it a victory for the bulls. The market opened flat and sold off 100 points because of weaker-than-expected economic data. We could have easily sold off big on this bad news, but stocks rallied to finish the day well off their early morning lows. The Nasdaq was the relative winner once again.

The Consumer Confidence number came in at its worst levels since 1973. The market was looking for a reading of 73.4, but the actual reading was 64.5. Last month’s reading was 75.0.

Also, the “S&P/Case-Shiller Home Price Index, which measures prices in 20 U.S. metropolitan areas, declined 10.7% versus the year-ago period, the largest drop on record since the measurement began in 2001 (Source: Briefing.com). This measure has fallen for 13 consecutive months now. “January home prices fell 2.4% from a month earlier, following a 2.1% decline the prior month” (Source: Bloomberg.com). This bad news regarding the housing market pretty much wiped out all of yesterday’s gain after the up beat home sales data. The dollar sold off hard (while gold rallied $16) on this news as investors were still fearful the worst of the housing decline isn’t over.

For the second day in a row, agricultural commodity prices rallied as did the agriculture stocks thanks to Monsanto raising their profit outlook for 2008. “The company said it now expects second-quarter earnings per share of $1.98, including a gain of 23 cents per share for a settlement of claims related to a subsidiary's emergence from bankruptcy.” The consensus estimate was $1.34 per share. “For the year, Monsanto now expects earnings per share between $3.38 and $3.48, including the gain of 23 cents per share…The company previously expected earnings in the range of $2.70 to $2.80 per share. Analysts anticipate earnings of $2.87 per share” (Source: Forbes.com). From its early Thursday morning lows of $90.50, Monsanto rallied as high as $116 today. That’s a 28% gain in three days!

The financial companies were in the news once again. Shares of Merrill Lynch declined today after JPMorgan cuts its 2008 profit estimate “by 45% on concerns that further write-downs may reduce earnings.” The estimate was lowered to $2.75 per share from $5 per share (Source: Bloomberg.com). Merrill Lynch “may report $5B in additional losses on collateralized debt obligations and other mortgage-related securities in the first quarter.” Bank of America was also downgraded to “sell” by Merrill Lynch and it had its profit forecast cut (Source: Bloomberg.com). Bank of America “may set aside a record $6.5B in the first quarter to cover possible future loan losses” (Source: CNBC.com).

Citigroup upgraded Yahoo! to “buy” from “hold” and increased its price target to $34 from $31. “Microsoft remains committed to it unsolicited $31 bid offer and is capable of and willing to increase that bid in order to conclude this deal” (Source: Bloomberg.com).

Thornburg Mortgage was up big after the company announced it plans to raise an additional $1.35B in bonds in an effort to avoid bankruptcy. “Thornburg needs to raise almost $1B this week to meet margin calls from its bankers…The cash shortage prompted Thornburg to suspend preferred dividends today” (Source: Bloomberg.com).

Today, the Fed announced the results of its eighth Term Auction Facility where $50B was available for commercial banks to bids for short-term loans. “Commercial banks' paid an interest rate of 2.615%, the lowest rate for any of the auctions of this kind conducted so far. There were 88 bidders for the latest slice of the $50 billion in loans. Demand was high. The Fed received bids for $88.9 billion worth of loans” (Source: CNNMoney.com).

Finally, the Fed released the summary of terms and conditions of the JPMorgan Chase – Bear Stearns deal. “The Federal Reserve Bank of New York has agreed to lend $29B in connection with the acquisition of Bear Stearns (BSC) by JPMorgan Chase & Co. The loan will be against a portfolio of $30B in assets of Bear Stearns, based on the value of the portfolio as marked to market by Bear Stearns on March 14, 2008. JPMC has agreed to provide $1B in funding in the form of a note that will be subordinated to the Federal Reserve note” (Source: Briefing.com).

DJIA 12,532.60 -16.04 (-0.13%)
Nasdaq 2,341.05 +14.30 (+0.61%)
S&P 500 1,352.99 +3.11 (+0.23%)
NYSE Volume 4,155,744,000

2-Yr Bond 1.79% -0.05
10-Yr Bond 3.51% -0.05
30-Yr Bond 4.30% -0.03

Dollar Index 72.276 -0.673
Crude Oil (May) 101.22 +0.36
Nat Gas (May) 9.511 +0.088
Gold (Apr) 935.00 +16.30

The Bear Stock

The vicious fall of Bear Stearns (BSC) is a couple days behind us, but let's reflect on how we could have seen this coming and cashed in. The bulk of what will be written in this post comes as a result of the wisdom of Kevin Waspi. This will be a 2-part drama tonight: A) the story and B) how we could have seen it coming.


A) THE STORY OF THE BEAR Bear has been in serious trouble for a while. The trouble starting coming to a head not last week, but the week before. By Thursday night people were pulling out of transactions, counter-parties were refusing to take the other side of deals with Bear, and people were starting to form a not-so-orderly line at the front door demanding their money. Bear, very late in reacting to the problem, called their biggest partner JP Morgan. Bear, primarily a brokerage house, has a bulk of their credit lines extended from JP Morgan. Normally, these credit lines allow Bear to function without worrying about short-term variations in which cash is actually received, they are a good thing... almost always. They're not a good thing for JPM when Bear draws on those credit lines and then goes bust.

Jamie Dimon, JPM's CEO gets the call and says 'no,' probably screams a line of obscenities, then proceeds to call the NY Fed Branches Chief. The NY Fed branch handles all the open market operations (i.e. those auctions Bellz is always talking about), so they are kind of a big deal. Now why would the Fed need to stop Bear Stearns from going under. Well as a brokerage house, one of their lesser known but HUGE businesses is interest rate swaps.

Interest rate swaps allow companies to essentially change the type of interest they pay on debt. By paying a fee to a brokerage such as Bear, Bear will structure a contract for Company A. If Company A just issued floating rate debt in Euros, Bear can create a swap where they pay fixed interest rate in dollars. Bear makes money and everyone's happy unless one of the parties can't perform their part of the obligation.

If you read the footnotes in any 10-k from a financial company to an industrial company to McDonald's to you-fill-in-the-ticker, you will find a disgusting amount of interest rates swaps. Billions if not trillions of dollars PER COMPANY. You add it up. Bear is a counter-party (the other side) of many of these swaps and the middle man in many of the rest. The point is, if Bear goes under, it's more than their traders that will lose their jobs, there will be trillions and trillions of dollars worth of contracts held by a bankrupt company.

So all these big wigs get on the phone. On Friday they announce that JPM and the Fed are working on a bailout. This is enough to keep people from knocking the doors down demanding money. Yes, it was almost a run on the bank of Bear Stearns. BSC recognized it can't just go bankrupt like most illiquid companies do because it would be too devastating. The Fed and Treasury Secretary Paulson recognized this too. If they're not going bankrupt they need someone to either buy them or give them a ton of cash money, otherwise they're still an illiquid company that can't meet their obligations. Well, in case you have missed since July... cash isn't readily available right now, so someone needs to buy BSC. Who better to buy BSC than their lead bank. Almost all Bear transactions go through JPM in one way or another, so the Fed recognized that this was the most realistic proposition.

Why does JPM get to offer 1 share of their stock for every 20 of BSC? Why is that the magic number? Why is the sky blue? Because it is. Theres nothing magic. If you had to figure out how much to pay for one of the worlds biggest financial companies over a weekend you'd pull a number out of your rear at some point too. That's why the offer jumped so much (from $2 to $10). The offer came initially on the low side because if JPM is going to take on Bear has some of the worst of all the crappy paper out there on it's books, so if a public firm is going to bailout a company going bankrupt, it has to be a phenomenal deal, almost a win-win. That's why they got to come out with such a low offer and that's why they received so much support from the Fed.

That is the all too brief summary of how Bear went from 60 to 4 in 2 days. I encourage all of you to read articles on this. The Wall Street Journal has phenomenal coverage as always. Today's (Tues) was particularly good. You can access it through ProQuest courtesy of the University of Illinois if you don't subscribe. Otherwise, Bloomberg has good coverage too.

B) WHAT WE SHOULD LEARN ABOUT MAKING MONEY FROM THIS
Believe it or not, you could have very easily seen this major drop in Bear coming, if you were watching the correct indicators. We are currently in a vicious part of the economic cycle. What does leverage do? In good times it amplifies returns, in bad times it amplifies problems. So if you were looking for a financial to short, you should have first looked at who used the most leverage. This would have led you to Bear who was levered 34-1 (gasp) as of 12/31/07. Second place, which interestingly enough was receiving more TV commentary on the short side than Bear over the last few months was Lehman with a little under 30 times. How do you find these leverage numbers... do your homework, look in the 10-k's and do some 5th grade math.

So we know with a highly levered company, as 34x defines, if things go wrong, they can spiral out of control in a hurry. So even if you didn't want to short you should have been looking for signs of trouble. These are what was happening leading up to the 14th: pulling collateral, backing out of transactions, no one willing to deal with Bear, etc. Did you miss these articles on yahoo finance? Nope they weren't there. Think about it. Is Bear going to go to the media and say no one wants to do business anymore and we may go bankrupt? If you think your bank is going bankrupt are you going to tell the media? No. Are you going to tell your friend and then go get your money or are you going to go get your money and then tell your friend? I don't know about you but I'm doing the latter. Are any of us friends with the guys who run the companies that have these substantial deals with BSC? No. We don't get the memo.

How do we know Bear's in trouble? Prices in the stock and options market are driven by major hedge funds, many of whom do get the memo when companies like Bear are in trouble. So there are two easy places to look: the price of the stock and options activity. In the options pits, over the week of Friday the 14th, especially Thursday and Friday, you would see the volume and prices on puts (the write to sell a stock at a set price on a set date) that were WAY out of the money (below the current price of the stock) sky-rocketing, even in the near month (just a few days to expiration). This says that people are making bets that the price of BSC is going to absolutely tank soon... they were right.



The chart above, courtesy of TD Ameritrade , shows BSC over the last 16 days with 30 minute sticks. The first big drop is Friday the 14th when the Fed and JPM announced that a bailout was in the works but there weren't any details. The huge gap lower in Monday morning, with the $2 offer. Look before the deathly drop though. If you have no prior chart reading experience, this shows the definition of bearish price action. The stock makes lower highs and lower lows and gets punished at either the open or the close EVERY DAY. Big money drives prices, and they have a better idea of what's actually going on, their price action told you that Bear was just starting to go down.

Learn from what led to the huge fall in Bear and keep it in mind. This is an interesting time to live in and be learning but it won't be the only one of our lives. There will be more bailouts, more stocks going from 60 to 4 in 2 days, learning how to recognize and profit from these falls will do all of us well.

*In a rush tonight, didn't proofread, sorry for any typos.

Market Summary: Mon. March 24, 2008

The market rallied once again today thanks to better-than-expected housing data, positive earnings reports from Tiffany and Walgreen’s, and a higher bid from JPMorgan to buy Bear Stearns.

Existing home sales rose to 5.03M units for February compared to 4.89M units for January. This was the first increase in the last seven months. The market was expecting about 4.85M units. However, “the median price of single-family homes dropped 8.7% from February 2007, the most in four decades” (Source: Bloomberg.com). The median price currently stands at $195,900. Many took this data as extremely positive news possibly marking a bottom in the housing market. The bond market sold off hard, and the homebuilders were up huge. I wouldn’t be calling a bottom in the housing market just yet – maybe it is the beginning of a bottom, though. This is just one month’s worth of data and it is way too early to tell for sure. I’d be a seller of this news.

Walgreen’s reported strong earnings beating analysts’ estimates. Net income was 69 cents per share compared with 65 cents from the previous year. Most analysts were looking for 67 cents per share. Walgreen’s attributed the rise in income to “limited labor costs and [selling] more prescription drugs…selling and administrative expense growth slowed to 11 percent from 14.3 percent a year earlier as the chain reduced store hours and lowered legal and insurance costs” (Source: Bloomberg.com).

Tiffany was up 10.5% after beating analysts’ EPS estimates by 6 cents. Net income was $1.27 per share for Q4 and revenue was $1.053B, $4M more than analysts were expecting (Source: Bloomberg.com).

The day’s biggest news was JPMorgan increasing their take-over bid for Bear Stearns. On March 16^th, JPMorgan initially offered to pay $2.52 per share ($366M) for Bear Stearns, but today JPMorgan upped their bid to $10 per share ($2.4B). JPMorgan also bought 39.5% of Bear Stearns’ stock. This move does not require Bear Stearns’ shareholder approval and the Bear Stearns’ board of directors said they will vote in favor of the deal (Source: Bloomberg.com). This news helped the financial stocks rally. BSC is currently trading above $10 and the options point to another potential bid increase. JPMorgan is 10.5% away from being the majority shareholder and it looks like they will get their $10 price.

S&P released some negative news regarding Q1 earnings. They “expect first-quarter earnings at Standard & Poor’s 500 companies to decline 5.5% from a year earlier, twice the 2.7% decline they had forecast just one week ago” (Source: CNBC.com). S&P came out with a “negative outlook” on Goldman Sachs and Lehman Brothers. Previously, the two companies’ outlooks were “stable.” S&P said “net revenue could decline between 20% and 30% this year after write-downs” (Source: Marketwatch.com).

The agriculture stocks got a boost today thanks to upgrades at Monsanto and Potash. Corn, wheat, and soybean prices all rebounded nicely, while gold and crude oil were relative laggards. Large-cap tech stocks were the big winners on the day on relatively no news. Here are two possible reasons: 1) Investors are covering their short positions or 2) section rotation is occurring and investors are moving money back into this beaten-down sector. I suspect this to be more short covering because MSFT, the tech bell-weather, was flat. If sector rotation was occurring, MSFT would have had a big day.

As long as the dollar continues its rally, oil and gold will be relative laggards compared to the stock market. One interesting point discussed on Fast Money today was whether this rally is exaggerated to the upside because the quarter is almost over. Last December, we saw stock prices increase and then sell-off quickly when the new year began. Hedge funds bid up stocks that they own to cut their quarterly losses and then sell right when the next quarter begins. A strong beginning of April will be a sign the market is bottoming and stock prices aren’t being artificially inflated by hedge funds.

In other news…

- Lehman Brothers was downgraded by Oppenheimer to “Perform” from “Outperform”

- Wells Fargo was downgraded by Robert W. Baird to “Underperform” from “Neutral”

- Monsanto was upgraded by UBS to “Buy” from “Neutral”

- Potash was upgraded by RBC Capital Markets to “Top Pick” from “Outperform”

- The XM Satellite-Sirius merger finally got Dept. of Justice approval (Bloomberg.com) – the FCC still needs to approve the deal, though

- After the bell, Valero cut their Q1 profit outlook and shares were down 6%

- So far Wall Street firms have laid off more than 34,000 workers (Bloomberg.com)

- The defensive names, like Pepsi, Proctor & Gamble, Coke, and JNJ, were laggards

- A gallon of gasoline reaches $3.26 (CNBC.com)

- “Federal Home Loan Banks were freed to increase their purchase of mortgage-backed bonds by about $150 billion” (Bloomberg.com)

DJIA 12,548.64 +187.32 (+1.52%)
Nasdaq 2,326.75 +68.64 (+3.04%)
S&P 500 1,349.88 +20.37 (+1.53%)
NYSE Volume 4,462,485,000

2-Yr Bond 1.84% +0.25
10-Yr Bond 3.56% +0.22
30-Yr Bond 4.33% +0.16

Dollar Index 72.949 +0.202
Crude Oil (May) 100.86 -0.98
Nat Gas (May) 9.423 +0.283
Gold (Apr) 918.70 -1.30

Shareholder Letters

You've all already heard about The Oracle of Omaha's famous shareholder letters (which can be found here), and how insightful they end up being.

Well here's a memo written by another guy, whom everyone should take a gander at. His name is Howard Marks, and he runs Oaktree, which manages about $50 billion. The WSJ has claimed that this is "[A] Memo All The Investment World Should Read." Why? Well he did pretty well for himself predicting the internet bubble back in 1999, a few months before it's peak, and about a year before it popped.

Does anyone want to make a guest post, summarizing the contents of the memo?

The Weekend Warrior: 03.21.08-03.23.08

This is the first of what I hope to be a weekly posting discussing the week that was, the week that will be, and other commentary on market/investing strategies.

The Fed has created a more stable financial system. The financials as well as the market now have downside protection, something similar to dividend-yielding stocks. The dividend protects a stock from getting knocked down too far because as the stock price declines, the dividend yield increases, therefore attracting new buyers. Financial companies now have the Fed acting as a support to prevent further declines. The last few months everyone talked about the path of least resistance being down, but I feel we can now say the opposite - the path of least resistance is up. Fears have been calmed on Wall St. and that can be seen by looking at the VIX. It spiked to 35 Monday morning on the Bear Stearns news, but closed around 26 on Thursday.

Some of the next few comments are courtesy of CNBC’s Fast Money. The Fed burst a lot of bubbles with their recent policy action: those shorting the dollar, those shorting the financials, and those long the commodities, especially gold. Gold is purely a speculators’ instrument and not really a commodity. Yes, there is global demand for gold, but the price action of gold is simply the opposite of the dollar’s price action. As the dollar goes lower (mainly because of a slowing economy and high inflation), gold goes up because it costs relatively less. Some feel the agriculture names have also burst, but I do not believe that is the case. The agriculture story is not just an “opposite the dollar trade,” but I do believe some of the commodity prices were a little inflated. Global demand for these commodities is present and it has been consistently rising the past few years. I don’t see an end in sight for rising commodity costs unless the Fed pulls the plug on ethanol as a viable alternative fuel source. For investopedia, I’m looking for a bounce in the ag stocks this week so I can begin scaling out and putting my money to work elsewhere – financials.

Of the commodities, I believe gold will sell-off the most because it is has been the most speculative and people just seemed to be dumping their money there the last few months because nothing else was working. My new price target for gold is $800-850. This is where gold was trading in late December before things really fell apart.

I believe crude will also suffer some more declines before prices stabilize. Investors also poured their money into crude oil as a speculative investment, and now some of those trades are unwinding. As the dollar continues to rebound, a barrel of oil becomes relatively more expensive to buy so the demand will not be as great. My new price target for crude is $90. The last few weeks we have seen inventory builds and last week’s prices of $110+ did not support the true value of oil. $90 was the price of crude in early February. I don’t see oil going below $80 because at this level, OPEC will step in and cut supply in order to support higher prices. I will be gradually scaling out of my energy stocks in investopedia this coming week. One point to note, though, is that the energy stocks have not had a huge run-up while crude oil has been spiking. Therefore, the downside in these names is limited because the stock prices are not as inflated as the commodity.

Disclaimer: I set these price targets assuming there will be no more catastrophic news from the financial companies, and that the Fed will only lower rates moderately, if at all, at their next meeting. We’ve seen some positive news already regarding the Fed’s new policy actions as investment banks have already been utilizing the discount window to acquire much needed cash.

Something to keep an eye on is Wal-Mart. WMT hit a 52-week high and recently broke out of a three year trading range. Discount retailers look attractive based on historic valuations.

Earnings reports:

Monday – Tiffany (TIF), Walgreen’s (WAG)
Tuesday – Yamana Gold (AUY)
Wednesday – Deutsche Bank (DB), Oracle (ORCL)
Thursday – Lennar (LEN)
Friday – KB Home (KBH)

Economic Calendar:
Monday – Existing Home Sales
Tuesday – Consumer Confidence
Wednesday – Durable Goods Orders, New Home Sales, Crude Inventories
Thursday – Q4 GDP (final), Initial Jobless Claims
Friday – PCE Inflation data

Something to watch as the first quarter ends is the agriculture stocks. Please reference Dave Light’s March 5^th article, “Buy the Pullbacks,” when he talks about mutual funds wanting to own these stocks so they can show their investors they owned “the winners.” If I still own these names at the end of the week I might buy some put options to protect myself on the downside just in case funds start selling these names just like they did with tech stocks a few months ago.

The biggest market mover, in my opinion, will be Thursday’s Term Securities Lending Facility where banks can exchange their “bad” mortgage-back securities for “good” government Treasuries. Banks can then sell their newly acquired Treasuries on the secondary market for cash to fix their deteriorating balance sheets.

Market Summary: Thurs. March 20, 2008

Today, financials led the way higher as gold, oil, and other commodities continued their slide. The yield curve also continued to flatten as investors have become less concerned about future inflation – the 30-year Treasury yield was down to 4.17%. The agriculture stocks that seemed so immune to the slow U.S. got hit hard as wheat, corn, and soybeans sold-off.

A little history lesson from January 2008: When the Fed aggressively cut rates 125bp everyone talked about new market leadership – retailers, homebuilders, and financials. However, the short squeeze rally in these stocks was short-lived because rate cuts simply were not enough to solve the country’s financial crisis. However, with the recent moves by the Fed to help the struggling financials institutions, I believe the rally in financials is sustainable. You have to remember that stock prices are based on future expectations of earnings, and if the future looks brighter (or appears to be brighter) because the Fed is doing everything within its power to prevent a collapse of our financial system, current stock prices will be higher. A lot of the rally can be attributed to short covering and the big move won’t come until the earnings estimates at banks get revised higher which won’t be for a few quarters. Yes, the banks still have problems and the recent Fed moves won’t solve them immediately, but at least investors have confidence that the Fed will be at the banks’ side to prevent further disaster – something that wasn’t present when the Fed was just cutting short-term interest rates.

The day contained mixed economic and earnings news. The weekly initial jobless claims number was 378K when economists were looking for 360K. The previous week’s reading was 356K. The Philly Fed manufacturing survey had a reading of -17.4 while economists were expecting -18.0. Last month’s reading was -24.0. A negative number indicates a contraction in the manufacturing industry (Source: Briefing.com).

Nike reported strong numbers after Wednesday’s close as “Sales in China surged more than 50%...that helped push up earnings 32% from a year earlier” (Source: Bloomberg.com). FedEx reported a 6% decrease in Q3 earnings while revenues increased 10%. The company made $1.26 per share while the consensus estimate was $1.22 per share. “The company now predicts a fourth-quarter profit of $1.60 to $1.80 per share. Analysts expect $1.95 per share” (Source: CNBC.com).

News regarding financial companies was mixed. Punk Ziegel (specialty investment bank) wrote to its clients explaining that the “financial crisis is over” and it is a “once in a generation opportunity to buy” (Source: Bloomberg.com). Cit Group (a consumer finance bank) announced it is drawing upon its $7.3B of emergency “credit lines to repay debt and finance its commercial lending business” since it “cannot obtain financing from other sources” because it was “shut out of short-term debt markets” (Source: Bloomberg.com). This is a move to improve the company’s liquidity position and it will use the cash to repay debt maturing this year. Credit Suisse warned it may have a quarterly loss due to potential write-downs – shares were down 11% (Source: CNBC.com). Finally, the Fed announced a modification to its Term Securities Lending Facility – banks will be able to use a broader range of collateral than previously thought. Collateralized mortgage obligations (CMOs) and AAA-rated commercial mortgage-backed securities will be accepted in exchange for government Treasuries. The first auction will be March 27^th with $75B available and the second auction will be April 3^rd (Source: Bloomberg.com).

In other news (courtesy of Briefing.com)…

- GE (up 5%) was upgraded to “buy” at Merrill Lynch

- Intel raised its quarterly dividend 10% to $0.14

- Fannie Mae and Freddie Mac were upgraded to “out-perform”

- Citigroup will cut more than 5% of its securities unit staff (Source: CNBC.com)

- Google’s price target was cut to $530/share from $675/share at RBC

- Here’s a great CNBC.com article talking about the dollar and its recent rebound

- According to Bloomberg.com, the stock market is the most volatile is has been in the last 70 years – 52% of the trading sessions this year have had a +/- 1% move

DJIA 12,361.32 +261.66 (+2.16%)
Nasdaq 2,258.11 +48.15 (+2.18%)
S&P 500 1,329.51 +31.09 (+2.39%)
NYSE Volume 6,314,664,000

2-Yr Bond 1.59% +0.05
10-Yr Bond 3.34% -0.04
30-Yr Bond 4.17% -0.05

Dollar Index 72.770 +0.626
Crude Oil (May) 101.47 -1.07
Nat Gas (May) 9.152 +0.040
Gold (Apr) 910.20 -35.10

Market Summary: Wed. March 19, 2008

The euphoric state that was present yesterday was no where to be found today. This morning I thought we were going to continue yesterday’s rally thanks to Morgan Stanley’s good earnings report, but the market turned south as investors sold their positions in energy, basic materials, and commodity stocks.

Crude oil slipped $5 and gold declined $60! Exxon was down 4.6%, Transocean was down 5%, Potash was down 10.4%, Mosaic was down 11.4%, Monsanto was down 11.8%, Agrium was down 7.6%, Freeport-McMoRan was down 11.2%, Alcoa was down 7.7%, and Rio Tinto was down 8.1%. What happened? Let’s go back to yesterday and the recent Fed moves intended to help the struggling banks.

People were looking for a 100bp cut or even a 125bp cut from the Fed, but we only got 75bp. Prices of stocks and commodities had to adjust for this discrepancy, but this smaller-than-expect cut is not too important compared to the Fed’s newfound agenda to prevent bank failures by using tools other than rate cuts. In the past few weeks, the Fed has introduced multiple new instruments to allow for easier access to capital. In the recent Fed statement, more attention was given to inflation and many people are speculating the Fed is done cutting rates (CNNMoney.com article). We’ll have to wait and see how these new tools work, but I don’t expect anymore steep rate cuts.

For the last few months the Fed has been cutting aggressively and ignoring short term inflation causing the dollar to decline significantly, and gold, oil and other commodities (a hedge against inflation) have rallied. Now, future rate cuts look unlikely because of the Fed’s aggressive action to help out the struggling banks. Therefore, the dollar should rally and gold, oil, and other commodities should sell-off because there isn’t the same threat of inflation as there was a few weeks ago. The dollar has rebounded the last two days and will continue to rebound as long as investors get proof the Fed’s new instruments are working. With the dollar rebounding, oil, gold, and other commodities look more expensive, so in the near term I expect them to decline even more.

Back to today’s events: Morgan Stanley’s (MS) better-than-expected earnings report eradicated some investors’ fears regarding troubled banks access to capital. MS reported Q1 net income of $1.55B, or $1.45 per share – a 42% from last year. The average analyst EPS estimate was $1.01 per share. Return on equity (how efficiently a company reinvests its earnings) for Morgan Stanley “dropped to 19.7% from 30.9% a year earlier. That compares with 15% at Goldman and 8.6% at Lehman” (Source: Bloomberg.com).

More relief came from the government today when the surplus capital requirement for Fannie Mae and Freddie Mac “was cut to 20% from 30% by the Office of Federal Housing Enterprise Oversight. The government-sponsored enterprises (Fannie and Freddie)…also agreed to raise ‘significant’ new capital.” This move will allow Fannie and Freddie to buy more home loans and it will provide $200B in liquidity (Source: Bloomberg.com).

Visa had its initial public offering (IPO) today and the stock finished the day at $56.50, well above its $44 offering price. Visa sold 406M shares for a total value of $17.9B making it the biggest IPO in history. MasterCard, one of Visa’s close rivals, has gone up over 450% since its IPO in 2006 and this is just one reason why investors are so bullish on Visa (Sources: Bloomberg.com, CNBC.com).

The huge sell-off that occurred today, as well as the rally in Treasuries (the 1 month T-bill went from yielding 0.71% yesterday to 0.26% today) could suggest there is still some de-leveraging going on by hedge funds to meet margin calls (Source: CNBC TV).

In other news…

- Tomorrow, the weekly initial jobless claims number will be reported

- The only major earnings report tomorrow is from FedEx

- After hours, Nike is up 4% thanks to a strong earnings report (Source: Marketwatch.com)

- Home Depot was downgraded and Countrywide Financial was upgraded

- “Merrill Lynch sued XL Capital Assurance Inc. to force the bond insurer to honor $3.1B of guarantees on CDOs” (Source: Bloomberg.com)

- Investment banks have already used the Fed’s discount window – Lehman Brothers has already borrowed $2B, Goldman said they plan on using it soon, and Morgan Stanley said it has already borrowed money (Source: CNBC.com)

DJIA 12,099.66 -293.00 (-2.36%)
Nasdaq 2,209.96 -58.30 (-2.57%)
S&P 500 1,298.42 -32.32 (-2.43%)
NYSE Volume 5,439,844,000

2-Yr Bond 1.54% -0.04
10-Yr Bond 3.38% -0.10
30-Yr Bond 4.22% -0.13

Dollar Index 72.144 +0.573
Crude Oil (Apr) 104.48 -4.94
Nat Gas (Apr) 9.024 -0.390
Gold (Apr) 945.30 -59.00

Market Summary: Tues. March 18, 2008

We found out Tuesday before the opening bell that the problems banks have been facing were not as bad or wide-spread as everyone had thought, and what a relief this was to Wall Street. Thanks to better-than-expected earnings reports from Goldman Sachs and Lehman Brothers, the markets opened higher about 2% and continued their upward trend to the day’s close.

Shares of Goldman Sachs (GS) rose 16% after “income fell to $1.51B, or $3.23 a share…from $3.2B, or $6.67, a year earlier. The average estimate of 17 analysts surveyed by Bloomberg was for $2.59 a share, with forecasts ranging from $1.95 to $3.40.” Many investors were concerned Goldman would have similar capital or liquidity problems like Bear Stearns, but Goldman’s CEO said the company’s “liquidity position is stronger than it’s ever been.” Goldman took a $1B write-down on some of their bad loans, much less than some people were expecting (Source: Bloomberg.com).

Shares of Lehman Brothers (LEH) soared 46% after the company posted much better-than-expected earnings. Many investors were expecting problems similar to those at Bear Stearns, but that uncertainty was washed away after the company’s strong earnings report. Q1 net income declined 57% to $489M, or $0.81 per share – most analysts were looking for about 72 cents. LEH took a $1.8B write-down due to mortgage-related securities, and they also announced they would release 5,300 workers – 19% of the workforce (Source: Bloomberg.com).

This good news from these two companies pushed all the financials companies higher. A lot of the movement was due to short-covering as well since so many people were betting these companies had problems like Bear Stearns did. Shares of Fannie Mae were up 27%, Freddie Mac was up 26%, Countrywide Financial was up 25%, and Bear Stearns was up 23%.

In the afternoon, the Fed announced it lowered its Fed Funds target rate 75bp to 2.25%. Most people were expecting at least a 100bp cut and the markets subsequently sold off. However, stocks rebounding quickly and resumed their upward trend. The Dollar actually rebounded probably because the cut wasn’t as steep as anticipated. Here are some quotes from the Fed statement:

“Recent information indicates that the outlook for economic activity has weakened further.”

“Inflation has been elevated, and some indicators of inflation expectations have risen…It will be necessary to continue to monitor inflation developments carefully.”

“Downside risks to growth remain. The Committee will act in a timely manner as needed to promote sustainable economic growth and price stability.”

One interesting piece of information to note is that there were two Fed officials who opposed a 75bp cut. The Dallas Fed President and the Philadelphia Fed President were in favor of less aggressive easing. The Fed continues to do all it can to making lending easier for banks in an effort prevent a freeze in the credit markets.

On the economic front, housing starts for February came in better than expected, but they were still down slightly from last month. Building permits, however, were below expectations and well below last month’s reading. Homebuilder stocks rallied on the day. I’m not sure if it was because of this data or just because of the overall market rally. Also, February PPI data, a 0.3% increase, was in-line with expectations, but the Core PPI came in at a 0.5% increase when analysts were only expecting a 0.2% increase (Source: Bloomberg.com).

Today was another very bullish day for stocks, especially the depressed financial stocks. Tomorrow’s price action depends on Morgan Stanley’s earnings report and how badly the company was affected by sub-prime losses.

In other news…

- Yahoo gave a very positive outlook for the next three years and explained they wouldn’t accept less than $45B from Microsoft (Source: finance.yahoo.com, “Yahoo Sees Rosy Outlook for 2009, 2010)

- Morgan Stanley reports quarterly earnings tomorrow

- Shares of Visa (V) begin trading tomorrow: the stock is priced at $44, above the forecasted range (Source: CNBC.com)

DJIA 12,392.66 +420.41 (+3.51%)
Nasdaq 2,268.262177.01 +91.25 (+4.19%)
S&P 500 1,330.741,276.60 +54.14 (+4.24%)
NYSE Volume 5,506,911,000

2-Yr Bond 1.58% +0.23
10-Yr Bond 3.48% +0.14
30-Yr Bond 4.35% +0.06

Dollar Index 71.571 +0.112
Crude Oil (Apr) 109.42 +3.74
Nat Gas (Apr) 9.414 +0.314
Gold (Apr) 1004.30 +1.70

Market Summary: Mon. March 17, 2008

Monday was a pretty historic day on Wall Street, but before I get to the day’s events, I’ll talk about some things that happened over the weekend and before Monday’s opening bell. First, the Fed cut its discount rate (direct loans to commercial banks) by 25 bp to 3.25% to help with the lending/capital problems many banks are currently facing. Also, weakness in the foreign markets and futures was pointing to a huge gap lower at the open after news that JPMorgan bought Bear Stearns for only $2/share (about $236M total) with the Federal Reserve providing financing for the deal. Just last Thursday, Bear Stearns was trading for about $55/share (Source: Bloomberg.com). Just to put things in perspective, $236M is less than what the Yankees paid for Alex Rodriguez!

The bailout of Bear Stearns sparked a massive, broad-based sell-off. What concerned investors the most was whether or not the problems that Bear Stearns experienced were also present at other banks. If the Federal Reserve and JPMorgan valued BSC at only $2/share, what should the other banks be valued at? For Bear Stearns, it was get bought out or go bankrupt.

Off of this news, traders unwound many of their winning bets from the past month. Commodities (oil, copper, gas) sold-off very hard as crude oil declined $4.53/barrel. The basic materials and energy stocks were hit the hardest. Gold continued its rally passed $1000 as the U.S. Dollar Index continued its slide. Treasuries also continued their rally. There was talk all over CNBC that we are in a recession and demand for oil and other commodities will decline. The volatility index (^VIX) spiked to about 35-36 as many people were washed out of the market.

However, stocks never retested their morning lows, and the Dow managed to finish the day in positive territory. There was some good news as Merck’s “scientists used a new method to find a group of genes that act together in networks of people to spur obesity” (Source: Bloomberg.com). Shares of Merck and Johnson & Johnson finish the day positive. Verizon and AT&T and other large-cap tech names were also strong.

A few months ago we said the Fed was “behind the curve,” and right now, they are desperately trying everything within their power to stave off a worldwide financial market meltdown. Monday, the Fed created another new lending facility for investment banks that will provide them with much needed financing (Source: CNBC.com). According to Bloomberg.com, “The Fed said it will allow primary dealers to borrow at the discount rate in exchange for a ‘broad range’' of investment-grade collateral. The central bank…said it also extended the maximum term of discount- window loans to 90 days from 30 days.”

I would regard Monday’s action as very bullish. The markets could have easily been down 4+%, but they weren’t. The markets weathered a very tough storm and many people believe most of the bad news is “priced in” already. It’s nice to see the Fed finally taking a hands-on approach, but a lot of this mess could have been avoided if they took more action when these problems first arose last summer.

In other news…

- Goldman Sachs and Lehman Brothers were downgraded to “neutral” by UBS

- The Chicago Mercantile Exchange agreed to buy the NY Mercantile Exchange for $9.4B

- A class action lawsuit has been filed against Bear Sterns suggesting that the company’s management made false and misleading statements (Briefing.com)

- Industrial production fell 0.5% while analysts were only looking for a 0.1% decline

- “The NY Empire State Index, a regional manufacturing survey, fell to -22.2 from -11.7. This was worse than the expected reading of -7.4” (Source: Briefing.com)

- Fed fund futures point to a 20% chance of a 125bp cut and 80% chance of a 100bp cut

- Tomorrow is Visa’s IPO – the price right now is $37-42 for 406M shares – and many are saying this will be the hottest IPO of the year

- Tomorrow, all eyes will be on the Fed and the Goldman and Lehman earnings

DJIA 11,972.25 +21.16 (+0.18%)
Nasdaq 2,177.01 -35.48 (-1.60%)
S&P 500 1,276.60 -11.54 (-0.90%)

2-Yr Bond 1.35% -0.12
10-Yr Bond 3.34% -0.10
30-Yr Bond 4.29% -0.06

Dollar Index 71.459 -0.198
Crude Oil (Apr) 105.68 -4.53
Nat Gas (Apr) 9.100 -0.768
Gold (Apr) 1002.60 +3.10

Market Summary: Fri. March 14, 2008

Let’s start with the positive news. Things looked great for the first few minutes of trading because of better-than-expected February inflation data. The CPI and Core CPI were both flat – analysts were expecting a 0.3% rise in the CPI and a 0.2% rise in the Core CPI. The most surprising piece of data was that energy prices declined 0.5%. The CPI is now up 4.0% year-over-year and the Core CPI is up 2.3% year-over-year (Source: CNBC.com). I’m a little surprised this data was so tame…maybe the Fed was right when they said inflation would moderate. Regardless of this report, inflation is present and squeezing the consumer as well as many companies.

The day started off looking like we would finish the week on a positive note, but bad news complements of Bear Stearns changed things drastically. Earlier this week I mentioned investors were worried about Bear Stearns’ capital position, but these rumors were denied by the CEO. Today, however, it took an emergency bailout from the Federal Reserve Bank of New York, who will make capital available through JPMorgan Chase for up to 28 days, to prevent Bear Stearns’ from collapsing. Bear Stearns’ CEO Alan Schwartz said the company’s “liquidity position in the last 24 hours had significantly deteriorated.” The company also revealed it was in discussion with JPMorgan Chase “regarding permanent funding or other alternatives” (Source: Bloomberg.com). Schwartz said the company “took this important step to restore confidence in us in the marketplace, strengthen our liquidity and allow us to continue normal operations” (Source: CNBC.com). Shares of BSC fell over 50% within minutes of this news release and this subsequently caused a broad-based market sell-off that lasted all day (Source: Bloomberg.com).

Many people are now worried about Bear Stearns’ future and whether or not other banks are experiencing similar problems. If you remember, Bear Stearns is the company that first revealed they were being hurt by the sub-prime mortgage mess in July 2007 when they had two hedge funds collapse that were invested in mortgage-backed securities. Many people thought this was an isolated incident only associated with Bear Stearns, but that turned out not to be the case. People are worried about banks’ liquidity and access to capital and if this issue is wide-spread, there will definitely be some bank (or bank-related) failures.

This move by the Fed to bailout Bear Stearns is quite unique because “the loan to Bear Stearns required a vote (which was unanimous) by the Fed's Board of Governors because the company isn't a bank…The central bank is taking on the credit risk from Bear Stearns’ collateral, lending the funds through JPMorgan Chase” (Source: Bloomberg.com). The Fed has no obligation to help a company like Bear Stearns and because they are providing capital this must be an extremely serious issue that could possibly have much larger ramifications on the financial system and U.S. economy. The Fed said it will “continue to provide liquidity as necessary to promote the orderly functioning of the financial system.” There are no details about how big the loan to Bear Stearns is.

On Thursday, I discussed how traders were expecting the price of BSC to fall 50% and they were right. According to Bloomberg.com, “option traders [today] increased bets that Bear Stearns's survival is in doubt. Implied volatility, a measure of how much investors are paying to insure against further stock-price losses, surpassed 300 today…that's a level Ambac Financial Group Inc. and Thornburg Mortgage Inc. reached this year when their viability was questioned.” Also, the Fed funds futures indicate a 64% chance the benchmark rate will get cut by 100bp on Tuesday.

CNBC discussed a possible take-under of Bear Stearns in the very near future. Usually, when company A buys company B (current market price of $100), a take-over occurs, i.e. company A will pay $100+ (a premium “over” the current market price) for company B. However, since Bear Stearns is in such deep trouble, the potential buyer – maybe JPMorgan – will offer a price “under” the current market price.

To help alleviate the strain on the financial markets from this liquidity and credit crisis, Fed Chairman Ben Bernanke said “The Federal Reserve is strongly committed to fully employing our authority, expertise, and resources to help alleviate [borrowers'] distress.” He also outlined four new rules governing lending practices in this CNNMoney.com article.

In other news…

- Moody’s downgraded National City Corp’s and Washington Mutual’s credit rating and Standard & Poor’s downgraded Bear Stearns credit rating

- So far banks have written down $195B worth of assets

- Consumer confidence fell to 70.5, the lowest reading since Feb. 1992

- Bear Stearns was downgraded to “under perform” by Oppenheimer

- Boeing was upgraded to “over weight” by Morgan Stanley

- President Bush spoke and he opposed the proposal to spend billions of dollar to buy empty homes…he wants the market to fix itself

- Lehman Brothers obtained a $2B, 3-year credit line from 40 banks to help with its liquidity issues

- UBS wants to resume the sale of its Pain Webber brokerage firm division

- The VIX (index measuring volatility) hit 32, which suggests an up or down movement of 9.3% in the next 30 days (Source: Bloomberg.com)

All eyes will be on Bear Stearns (Monday) and Goldman Sachs (Tuesday) as they report earnings. No one really knows how these banks’ balance sheets look and these stocks have taken a huge hit this year. Tuesday, the Fed will meet to discuss interest rates and people are looking for at least a 75bp cut. Turmoil in the financial markets has reached a breaking point and before we can move forward there needs to be a major bank failure.

DJIA 11,951.09 -194.65 (-1.60%)
Nasdaq 2,212.49 -51.12 (-2.26%)
S&P 500 1,288.14 -27.34 (-2.08%)
NYSE Volume 5,272,332,000

2-Yr Bond 1.47% -0.16
10-Yr Bond 3.44% -0.12
30-Yr Bond 4.35% -0.12

Dollar Index 71.657 -0.415
Crude Oil (Apr) 110.21 -0.12
Nat Gas (Apr) 9.868 -0.362
Gold (Apr) 999.50 +5.70