Prieur's Perspective: Financial Markets Living On a Prayer
Fear followed by cautious optimism gripped the global markets last week.
A new bout of fear gripped financial markets during the past week, causing the slide in global stocks, commodities and emerging-market assets to deepen. As investors' angst escalated, positions in risky assets were liquidated in exchange for perceived safe havens such as the US dollar, government bonds and gold bullion.
"We have seen fundamental selling, technical selling, forced selling (deleveraging), short selling, capitulation selling and selling due to ennui," commented David Fuller on Fullermoney.
Fueling the sell-off were mounting concerns that the economic recession could not only be more intense than previously feared, but also fall into a corrosive deflationary phase. Additionally, sentiment was undermined by renewed questions about the effectiveness of the US government's bailout plans.
A clear sign of distress and fear was the US 3-month Treasury Bill rate falling to zero on Thursday, before nudging up to (a still minuscule) 0.10% by the close of the week. "The financial situation at the moment is so bad that women are now marrying for love," quipped an email making the rounds.
After the S&P 500 Index breached the grim milestone of the October 2002 lows and fell to levels last seen in 1997 -- thereby threatening to wipe out the entire 2002 to 2007 bull market -- Wall Street regained some confidence late on Friday. The trigger for a strong turnaround arrived just in time for the 3:00 witching hour and came in the form of Timothy Geithner's nomination as new Treasury Secretary, resulting in the S&P 500 recovering from an intraday loss of more than 1% to a gain for the day of 6.3%.
On the bailout front, the Detroit automakers sought $25 billion from the Treasury to avert bankruptcy. However, Congress withheld financial aid for the time being, giving the companies until December 2nd to submit a "viable" recovery plan.
"Don't be misled, though - the something that is rotten in the auto industry has nothing to do with the credit crunch, and everything to do with years of mismanagement, shoddy products and bad choices," said Bloomberg columnist Mark Gilbert. "Consider the credit-rating histories of GM and Ford . For both companies, the rot started all the way back in August 2001, when Standard & Poor's put the A grades they enjoyed for a decade on review for downgrade. In October of that year they each suffered a two-level cut to BBB+ that left them just three moves away from junk status."
I received the following note from an American friend a few days ago: "Even the children in my son's second-grade class are depressed about the auto industry. I had to answer my son's questions about bankruptcy since the kids are talking about it ." The comment says it all!
Elsewhere, Citigroup's (C) share price plunged by 60.4% over the week to a 16-year low as the company wrestled the financial crisis and planned to slash 50,000 jobs. According to the Wall Street Journal, "Citigroup officials have been talking in recent days to Treasury Department and Federal Reserve officials, and those discussions are expected to continue throughout the weekend."
A pointed comment regarding the principle of bailouts came from Jim Rogers, as quoted by the Financial Times: "What they're doing is taking the assets away from the competent people, giving them to the incompetent people and saying to the incompetent: 'Okay, now you can compete with the competent people, with their money.' I mean this is terrible economics. This is outrageous economics."
Next, a tag cloud of the text of the plethora of articles I have read since a week ago. This is a way of visualizing word frequencies at a glance. Keywords such as "banks", "economy", "market" and "prices" occur often, but words such as "gold" and "deflation" have also started creeping into the tag picture.
The following update on the stock market outlook arrived on Friday from Minyanville professor Bennet Sedacca:
We have been barely invested, mostly void, in equities, since May. We went ½ long today near the lows for a rally that could last longer than some think. Mostly large cap, high-quality, excellent balance sheet companies with a little tech and financials thrown in. We must remember, buy when you can, not when you have to.
Oversold conditions are bound to result in rallies from time to time (and possibly around Thanksgiving), but these should not be trusted at face value. For a more lasting market turnaround to happen, I would like to see evidence of base formations on the charts, a 90% up day and relative outperformance by the financial sector.
I am also closely monitoring the surges in the US dollar and Japanese yen -- low-yielding currencies previously used for funding risky investments -- as a break of the uptrends in these 2 currencies will be a good indicator of the forced deleveraging selling starting to subside. Once this situation has played itself out, we should see a return to lower volatility levels and a return of confidence. (Also read my recent posts, Economic Woes Torpedo Stock Markets and Panic-Crash Sentiment Causes Extreme Volatility.)
The Ifo World Economic Climate has worsened further in the fourth quarter of 2008 with the indicator falling to its lowest level in more than 20 years, according to the Ifo World Economic Survey. Not only the major economic regions of North America, Western Europe and Asia are affected, but also Central and Eastern Europe, Russia, Latin America and Australia. On the whole, the survey data point to a global recession.
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