Prieur Perspective: Anatomy of a Crisis
Charting last week's stunning course.
These are the quick market stats for the past week: the MSCI World Index up by 0.3%, the S&P 500 Index up by 0.3%, the Reuters/Jeffries CRB Index down by 0.1%, the US Dollar Index down by 1.6% and the ten-year US Treasury Note yield up by 4 basis points.
An uneventful week? Not if you consider the monumental swings that characterized trading from hour to hour and resulted in the most turbulent week in financial markets since 1987.
Credit markets virtually seized up during the first three days of last week as a modern-day bank run occurred with investors withdrawing money from brokerage, money-market and bank accounts, sending the three-month US Treasury Bill, a beacon of safety, to nearly 0% – its lowest level in more than 60 years. Actions by the US government on Thursday and Friday, however, saved the day, resulting in the yield on short-term Treasuries spiking to just more than 1% by the end of the fateful week.
Thomas Meyer, chief economist of Deutsche Bank in London, summed up the situation most appropriately: "If a body dehydrates, it falls over and if it gets worse it can die. Likewise, the financial system is starved of liquidity right now so the central banks will have to keep providing it."
Triggering a reversal in fortunes on Thursday and Friday was a tidal wave of announcements regarding US government proposals to return stability to the financial system, including the promise of a comprehensive solution, in Resolution Trust Corporation "dumpster" style, to fix the root of the financial problems by removing illiquid and toxic housing and mortgage-related assets from the balance sheets of financial companies; a pledge to provide a guarantee program for troubled money-market funds; and the banning by the SEC of short selling of 799 financial stocks until October 2 (and similar action by the UK regulators).
Also, Lehman Brothers filed for Chapter 11 bankruptcy, a bank consortium, including three banks in the US and seven in the EU, revealed plans to create a $70 billion fund to provide emergency liquidity, the Fed announced several initiatives to provide additional support to financial markets, which include broader collateral eligibility at the Primary Dealer Credit Facility (PDCF) and Term Securities Lending Facility (TSLF), Bank of America (BAC) agreed to buy Merrill Lynch (MER) for $50 billion, and AIG (AIG) became nationalized by means of a $85 billion secured loan from the US government. (Any guess who replaced AIG as Man United's principal sponsor? Click here for the sad truth.)
According to Bespoke, one can tell that a story is really important when the The Wall Street Journal runs the lead headline across the entire front page. During the past week the headline ran the entire front page on five occasions!
The Brooklyn Daily Eagle newspaper did the same thing on the day of the initial Wall Street Crash in 1929.
Commenting on the outlook for equities, David Fuller (Fullermoney) remarked as follows:
"…central banks are now in a position to switch their policy emphasis from fighting inflation to stimulating GDP growth. They may remain crisis oriented, but at least we are beginning to see the coordinated intervention that I have been discussing and expecting.
"I will certainly not be selling during what I expect is the beginning of the end of this bear market. However, as conditions improve I am likely to shift some of my 'just in case' cash holding into equities over the next few months."
Following an analysis of bear market troughs, Goldman Sachs concluded:
"Using returns and valuation in prior bear markets as a template to assess the current situation implies the S&P 500 would bottom at 1070. … profit cycle … suggests the market bottoms four months before corporate profits trough, which we anticipate will occur in 1Q 2009. This pattern suggests the S&P 500 will trough in 4Q 2008."
Next week is likely to be pivotal to stock markets' recovery, but I am still of the opinion that markets are bottoming out. I would not be surprised if a year-end rally has in fact already commenced.
Before highlighting some thought-provoking news items and quotes from market commentators, let's briefly review the financial markets' movements on the basis of economic statistics and a performance round-up.
"Sentiment among global businesses has not been materially affected by the renewed turmoil in global financial markets. Global businesses are worried, but this has been their mood for much of the past year since the financial shock hit," according to the Survey of Business Confidence of the World conducted by Moody's Economy.com. "European businesses are the most nervous, followed closely by those in the US and Japan. Asian businesses remain the most upbeat."
The Federal Open Market Committee held the Fed funds target rate steady at 2% on Wednesday for the third straight meeting. The accompanying statement cited the recent turmoil in financial markets and the ongoing slowing in economic growth, but said that growth should soon pick up. The statement noted recent high inflation, but said this should ease, although it did say that "the inflation outlook remains highly uncertain". The FOMC cited both downside risks to growth and upside risks to inflation that were of "significant concern". There was no indication of a bias towards lower rates. The decision to hold the Fed funds target rate steady was unanimous.
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