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Monday Morning Quarterback: Flashback to a Killer Attack


Navigating the ark through a sea of sharks.

"I'm pleased and happy to repeat the news that we have, in fact, caught and killed a large predator that supposedly injured some bathers. But, as you see, it's a beautiful day, the beaches are open and people are having a wonderful time." --Mayor Vaughn, Jaws

Please rewind your clocks to Monday, August 1st 2007 when investors quietly slipped into the market for a dip. By the time the supply subsided the following session, they quickly realized they would need a bigger boat.

Following that week-which turned out to be the worst in four years-the weekend press was flush with caveats and causes for the sudden reversal of fortune. The mainstay proxies were off a finski, technical levels were broken and shell-shocked traders drew comparisons to 1987.

The market, true to the path of maximum frustration, finished that first session smartly higher as the bovine declared an"all-clear!" Brokerage houses upgraded banks. Pre-market futures raced merrily ahead. Pundits screamed at the top of their lungs that the next 1000 points would be higher.

Out in the distance, however, a large fish was ready to attack. Its name was American Home Mortgage (AHM) and while it was ominously halted throughout that Monday run, it patiently waited for those unsuspecting souls to wander back into the water.

As we wrote at the time

"It opened 80% lower and immediately issued a reminder that mortgage woes weren't contained to the subprime space. Institutions with exposure to this company read like a 'Who's Who" on Wall Street, from Bear Stearns (BSC) to Goldman Sachs (GS) to UBS (UBS).

It hit home in a hurry and it is going to hit their bottom lines.

The great financial debate has centered on the risks of contagion and whether the heretofore decline in the banks (BKX –9%) and brokers (XBD –12%) adequately reflected the risk associated therein. It's a delicate discussion given the $500 trillion in underlying derivatives that weave together our financial fabric and one the powers that be have been quick to dismiss.

Those supposedly in the know have tried mightily to keep investors at the beach and lathered up in exposure. From Alan Greenspan's endorsement of adjustable-rate mortgages to Hank Paulson's assertion that the subprime fall-out was contained, the vernacular has been consistent and reassuring, encouraging debt assumption and steady consumption at any and all costs.

They understand that the market, as a forward-looking discounting mechanism, trades on perception. As Mayor Vaughn famously offered in the 1977 classic Jaws, 'It's all psychological. You yell barracuda, everybody says, Huh? You yell shark, we've got a panic on our hands in the middle of July.

Mortgage-related selling and 'mark-to-market' induced redemptions have been the barracuda, seemingly contained to Wall Street circles and those who understand the nuances of the structural metric. The American Home Mortgage admission served to sever the gap between perception and reality, putting the shark front and center.
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