The Credit Card
While debt is front and center as the issue at hand, credit of a different breed -- credibility -- has emerged as the issue at hand for markets at large.
The next day, Bill Poole, the (soon to be ex-) president of the St. Louis Fed, amazingly offered that the FOMC wouldn't issue a surprise rate cut in the absence of a "financial calamity." As Countrywide Credit tapped their entire $11.5 bln credit line, forced liquidations found their way across a spectrum of sectors and the mainstay averages approached a 10% correction from the highs, Mr. Poole seemingly tied a bow across the box the Fed now found themselves in.
True to the path of maximum frustration, and in the midst of a 300-point decline in the DJIA, the market reversed sharply higher and closed near the flat-line, catching late-to-the-game pressers leaning the wrong way.
Still, the overnight session was an absolute mess, with global markets getting pummeled and tensions rising into options expiration.
And that's when the FOMC, fully aware that the structural machination of August expiration would exacerbate volatility, pulled the trigger and cut the discount rate, completely contradicting what they said two weeks prior.
The near-term reaction, after a few tenuous downside tries, was seemingly what they wanted. Higher prices, albeit mutedly so.
But that's not really the point of this column nor is it the end of the story. In fact, the plot continued to thicken the past few days as the world continued to spin.
On Monday, we learned that Deutsche Bank borrowed money from the FOMC 5.75% discount window. While the amount wasn't disclosed, sources said that the move was orchestrated to show support for the Fed as they continued to combat the credit squeeze.
I don't claim to be an expert on these market machinations but it's my understanding that, traditionally, banks only tap the discount window as a measure of last resort.
As we powered up for trading yesterday, the CEO of WestLB, one of Germany's largest banks, warned that "foreigners were increasingly loathe to extend credit to financial institutions in Europe's largest economy, which could spark a crisis."
Those comments followed similarly strained sentiments from German lender SachsenLB, which said it required a credit line of $23.2 bln due to investments affected by the US sub-prime mortgage crisis, and IKB Deutsche Industriebank, which required a similar bailout.
German's finance minister, Peer Steinbrueck, remained optimistic in the face of the news, offering that he sees no signs of the German economy being affected and that he believes "those involved have the situation in hand."
Shortly thereafter, as the US market readied for trading, Mr. Paulson, ahead of his closed door meeting with Fed Chairman Ben Bernanke and Senate Banking Committee Chairmain Christopher Dodd, stepped back on stage to assure us that we are enjoying the benefit of a "strong global economy" and a "healthy financial system."
Now, I understand why Hank put on a brave face. Perception is reality in the marketplace and investor psychology is fragile. And I also understand that when he resigned as the top dog at Goldman Sachs, he was forced to sell his entire slug of Goldman stock. With tax advantages to boot.
Actions speak louder than words but alas, I digress.
As we continue to listen to the vernacular from the powers that be around the world, the onus is on us to assimilate the cumulative dynamic that has evolved over the last five years.
The Federal Reserve attempted to buy time on the back of the tech bubble with fiscal and monetary stimuli that encouraged risk-taking, reward-chasing behavior. It was a grand experiment of sorts and it continues to brew.
While debt is front and center, credit of a different breed -- credibility -- has emerged as the issue at hand for markets at large.
If and when investors begin to perceive that central banks are no longer larger than the markets -- and this, in my opinion, is simply a matter of time -- a crisis in confidence will ensue.
That's a troubling thought considering the current angst in the context of global indices that remain higher for the year.
Now, I'm not smart enough to know when this will happen and I'm certainly respectful of the fact that a cornered animal will bite, scratch, claw -- and potentially kill -- to ensure survival.
Those animal spirits have laid many bears to rest over the years and, to be honest, I'm unsure if the downside disconnect has now become a tad too obvious.
Psychology, as with the markets, moves in cycles of denial, migration and panic.
One thing is for sure, however. If and when the wheels wobble off the global financial wagon, the warning signs will be obvious with the benefit of hindsight.
Unfortunately -- or fortunately, depending on your preparedness -- the crimson dye will already be cast.
Welcome to the finance-based, debt-dependent, oh-my-goodness mindset, where the only true preparation is legitimate financial education.
Todd Harrison is the founder and Chief Executive Officer of Minyanville. Prior to his current role, Mr. Harrison was President and head trader at a $400 million dollar New York-based hedge fund. Todd welcomes your comments and/or feedback at firstname.lastname@example.org.
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