The big moment has arrived – a new-look blog site for Investment Postcards from Cape Town! Since launching my international investment blog at the middle of last year, traffic has increased measurably, causing me to revamp the site.

But a fresh appearance is only one facet of the new site. Additions include features such an index ticker, stock market polls, a translator and video clips, and also sections on South Africa (where my investment management business has its headquarters) and Humor (for those moments when the weight of downmarkets becomes just a little too much to bear).

A very important change is the domain address (URL) of the blog, which is now: Please bookmark this address with your favorites. Also, delete any reference to the old URL ( as this post is the last one on the old site.

The principal advantage of an own domain is that it allows significantly more flexibility regarding site design, with the ultimate aim of providing readers with a compelling read in a pleasant blogging environment.

I hope you share my enthusiasm for this exciting project that has been immensely fulfilling and has enabled me to make so many new friends all around the world. Let’s raise a glass to memorable (and profitable) market moments!

See you at:


The past week witnessed an extraordinary set of events on the financial front, a rogue trader creating havoc at Société Générale, and wild swings on global stock markets as mounting concerns about a recessionary US economy and the implications for global growth continued to weigh on investor sentiment.

The week started off with sharp declines on European and Asian stock markets on Monday (when the US markets were closed in commemoration of Martin Luther King). This was followed by the Fed’s emergency 75-basis-point-cut of its benchmark rate to 3.5% before the opening bell of the US markets on Tuesday, aiming to help support the troubled financial sector and stabilize the economy. The move, which came before the Central Bank’s formal meeting next week and marked the largest cut in the Fed funds rate in more than twenty years, helped prevent a larger drop in US equity prices.


Although investors’ initial reaction was lukewarm, stability returned to stock markets as they took heart from a possible rescue plan for troubled bond insurers (so-called monolines). In addition, the unveiling of a $150 billion US fiscal stimulus package by the Bush administration was viewed in a favorable light even though it was criticized just a few days earlier.

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 chart.

The Fed’s interim interest rate cut resulted in a further steepening of the yield curve with the aim of enabling shell-shocked banks to start lending again, and to start making profits so that they might be able to grow their way out of the credit crisis over time. The following chart illustrates how the yield curve has steepened since the first reduction in the Fed funds rate in August, 2007.



As far as economic statistics are concerned, US jobless claims for the week to January 19 surprised on the downside, reflecting a situation not yet commensurate with recessionary conditions. The US housing market, however, remained mired in weakness, according to the National Association of Realtors’ report for December. Existing home sales declined by 2.2% while the median existing house price was down 6% from one year ago. The inventory situation was looking slightly better, with about nine months of available inventories.

The jury is out on whether the FOMC will announce a further rate cut on Wednesday. John Mauldin (Thoughts from the Frontline) argues as follows: “If I am wrong and the Fed was responding to the stock market [when cutting the Fed funds rate by 75 basis points on January 22], then we will likely not see a cut next week. But if we get another 50-basis-point cut, as I think we will, then it means the Fed is responding to concerns about the credit crisis. And we will get another cut at the next meeting and the next until we get down to 2% or below. A 50-basis-point cut takes the rate to 3%. It they had cut the rate by 1.25% next week, the market would have collapsed. Better to do it in two leaps is what I think they are thinking.”



Time (ET) Statistic For Actual Briefing Forecast Market Expects Prior
Jan 24 8:30 AM Initial Claims 01/19 301K 320K 320K 302K
Jan 24 10:00 AM Existing Home Sales Dec 4.89M 5.00M 4.95M 5.00M
Jan 24 10:30 AM Crude Inventories 01/19 2297K NA NA 4259K

Source: Yahoo Finance, January 25, 2008.

In addition to President Bush’s State of the Union Address on January 28 and the FOMC meeting on January 29 and 30, the next week’s economic highlights, courtesy of Northern Trust, include the following:


New Home Sales (Jan 28) Sales of new homes are predicted to have dropped by 5.0% in December to 645 000. Sales of new homes have declined by 53.4% from their peak in July 2005. On a year-to-year basis, sales have dropped by 35.2% from a year ago. Consensus: 645 000 vs 647 000 in November.


Durable Goods Orders (Jan 29) Durable goods orders are predicted to have risen in December (+0.4%) after a 0.1% increase in the previous month. In particular, orders of aircraft may have dropped and those of defense items have risen, reversing the performance seen in November. Consensus: +1.6% vs +0.1% in November.


Real GDP (Jan 30) – Real gross domestic product is expected to have risen by 1.2% in the fourth quarter. Positive contributions from consumer spending, non-residential fixed investment and exports are expected to be partly offset by a large drop in residential investment expenditures. Consensus: 1.2%.


Personal Income and Spending (Jan 31) The earnings and payroll numbers for December suggest a 0.3% increase in personal income. Auto sales posted a small increase in December, while non-auto retail sales were weak. Both of these suggest soft overall consumer spending (+0.1%). Consensus: Personal income +0.4%; consumer spending +0.1%.


Employment Situation (Feb. 1) Payroll employment in January is expected to show tepid gains (+25 000) after an 18 000 gain in December. Private sector payrolls fell by 13 000 in December, the first decline since June 2003. This report will be watched closely to evaluate the underlying fundamentals of the labor market. The jobless rate is predicted to have risen to 5.1%. Consensus: Payrolls +58 000 vs +18 000 in December; unemployment rate – 4.9%.


ISM Manufacturing Survey (Feb. 1) The consensus for the manufacturing ISM composite index is 47.0 after a 47.7 reading in December.


Other reportsCase-Shiller Price Index, Consumer Confidence Index (Jan 29), Chicago Purchasing Managers’ Index, Employment Cost Index (Jan 31), Construction Spending and auto sales (Feb 1).

The performance chart obtained from the Wall Street Journal Online indicates how different global markets fared during the past week.


Source: Wall Street Journal Online, January 27, 2008.

US stocks started the shortened week markedly lower on Tuesday, following a sharp sell-off in global stock markets due to growing concerns about the overall health of the economy and Société Générale’s clean-up operations of its rogue derivatives trader’s positions. Markets, however, managed to recover and reclaimed higher ground as the week progressed. By the close of trade on Friday the Dow Jones Industrial Index (+0.9%) and the S&P 500 Index (+0.4%) were both in positive territory for the week, but the technology-heavy Nasdaq Composite Index (-0.6%) was less fortunate.

Following the surprise reduction in the Fed funds rate, the announcement of the tax stimulus package and a mooted rescue plan for bond insurers, interest-rate- and economically sensitive stocks gained strongly. Examples include banks (+11.4%), REITs (+8.6%), retailers (+5.4%) and small caps (+2.3%).

Elsewhere in the world, stock markets closed mostly in the red. Emerging markets, in particular, had a rough ride and lost 2.2% for the week, including the Shanghai Stock Exchange Composite Index’s decline of 8.1%.

The lower stock markets at the start of the week helped drive the yields on government bonds lower, but the gains were given up as the week wore on, and prices closed the week little changed.

Currency markets also experienced a fairly volatile week and saw the US Dollar Index closing the week 0.7% down. The euro, on the other hand, gained 0.2% on the back of hawkish comments from the ECB. Risk considerations resulted in investors exiting risky carry trades early in the week, pushing the yen to a two-and-a-half-year high against the dollar. As markets calmed down, the yen declined again to end the week lower against both the US dollar and euro.

With most of the action concentrated on stock markets, commodities were somewhat out of the limelight during the past week. Base metals (-0.9%) and agricultural commodities (-1.9%) closed in the red, but crude oil (+0.9%) managed to claw back some of the previous week’s losses.

Precious metals, however, rallied strongly subsequent to the Fed’s rate cut, resulting in gold gaining 3.3%, platinum 7.3% and silver 1.7%. Both gold ($924.3) and platinum ($1 694.9) registered new all-time highs on Friday prior to some profit-taking setting in.

With the FOMC’s meeting on Tuesday and Wednesday, and Q4 GDP and January’s payroll numbers out on Wednesday and Friday respectively, another key week for financial markets lies ahead. Hopefully the words (and graphs) from the investment wise will assist in guiding us through the murky waters and keeping our investment portfolios in good shape.

US economy: Danger from all directions


Source: Slate, January 24, 2008.

Moody’s Survey of Business Confidence for World
“The global economy is stalling according to last week’s business confidence survey results. Sentiment is consistent with a contracting US economy, soft European and South America economies, and an Asian economy that is expanding at the low end of its potential. Expectations regarding the six-month outlook have never been as negative in the over five years of the survey. Confidence is weakest among real estate firms and financial institutions, but it has declined considerably in recent weeks among business service firms and even heretofore more optimistic manufacturers.”

Source: Moody’s, January 22, 2008.

International Herald Tribune: US in role of wounded giant at Davos
“The United States has filled various roles at the World Economic Forum over the past decade: dot-com dynamo, benevolent superpower, feared aggressor, and now, wounded giant. On the first day of this conference, a parade of bankers, economists, and political officials expressed deep fears about the faltering American economy, peppered with blunt criticism of its institutions, chiefly the Federal Reserve, which some accused of sowing the seeds of today’s crisis.

“George Soros, the financier who made a fortune betting against the pound, went so far Wednesday as to say that the downturn would put an end to the long status of the dollar as the world’s default currency. ‘The current crisis is not only the bust that follows the housing boom,’ Soros said. ‘It’s basically the end of a 60-year period of continuing credit expansion based on the dollar as the reserve currency.’

“Signs of a new economic order abounded in this Swiss ski resort: the minister of commerce and industry of India, Kamal Nath, noted that China had overtaken the United States as India’s largest trading partner – buttressing his view that India could largely sidestep an American recession. The head of the National Bank of Kuwait, Ibrahim Dabdoub, said Americans who opposed sovereign wealth funds like the one run by his government needed to come to terms with the new reality.

“Nouriel Roubini, an American economist, whose frequent predictions of a downturn have made him something of a soothsayer in Davos, predicted the United States would suffer a recession lasting at least a year. He foresees a flood of defaults on car loans and corporate bonds, as well as a prolonged bear market. ‘The debate is not whether we’re going to have a soft landing or a hard landing,’ he said. ‘The question is only how hard the hard landing will be.’

“The Federal Reserve ‘made bad judgments’, said Joseph Stiglitz, the Nobel Prize-winning economist. ‘It looked the other way when investment banks packaged bad loans in non-transparent ways.’ The rate cut this week, Stiglitz said, would be too little, too late, because monetary policy usually takes between six months and 18 months to be effective, and the United States is in distress now.”

Source: Mark Landler, International Herald Tribune, January 23, 2008.

Asha Bangalore (Northern Trust): Fed cuts rate in surprise move
“In a surprise inter-meeting move, the FOMC lowered the federal funds rate and discount rate 75 bps to 3.5% and 4.0%, respectively.

“The statement noted that (1) ‘weakening economic outlook and increasing downside risks to growth’, (2) ‘deepening of the housing contraction’, and (3) ‘some softening of labor markets’ were reasons for the easing of monetary policy. The statement did not mention equity markets explicitly but cited that ‘broader financial market conditions have continued to deteriorate and credit has tightened further for some businesses and households’. After the January 21 drop in global equity prices when the US market was closed, a continued downward trend today in these markets and the sharp drop in US equity futures markets this morning before opening probably played a role in today’s Fed action.

“Further easing of monetary policy is on the table, but the magnitude and timing is less clear. There could be preference to wait until the March 18 FOMC meeting to assess the impact of the monetary and fiscal policy easing put in place. The futures market has priced a 50 bps cut for the January 30 meeting. For today, we maintain a Fed on hold at the January 30 FOMC meeting, with a small possibility of further easing.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 22, 2008.


The Chinese calendar proclaims this as the Year of the Rat. Based on the behavior of economies and financial markets over the past few months, investors would be forgiven for thinking that a plague has descended upon the financial system. But on occasion it is useful to step back from the day-to-day shenanigans of markets and take a bird’s-eye view of events.

When it comes to evaluating how well people “read” the macro picture of financial markets, it is important always to distinguish between skill and luck. And it is really only with the passing of time, or evolvement of a number of market cycles, that one can separate the wheat from the chaff.

Donald Coxe, Global Portfolio Strategist of BMO Financial Group, is one of a select group of analysts that have been remarkably right on the “big picture” outlook for many years. My market views essentially concur with Donald’s investment recommendations as published in the January edition of Basic Points, entitled “The Year of the Rats”. I have therefore deemed it opportune to share his words of wisdom with you in the paragraphs below.


The financial crisis is not centered in stock markets. Its primary locus is in financial derivatives, and in their impact on the stock prices of leading banks. Until the downward drift of bank stocks and the upward drift of derivative debt yields are reversed, the stock market will continue to slide. Keep overall equity exposure to minimums, and emphasize quality.


Bond investors face two risks: inflation and credit. Nominal Treasury bond yields are far too low, and quality corporates are too rare – with 71% of corporate debt junk-rated. Buy inflation-hedged sovereign bonds – preferably in major foreign currencies. Simplicity is good: avoid complex products that are subject to drastic rating writedowns.


Commodity stocks are at risk to the extent that the financial frauds and foolishness are able to abort the global economic recovery. A US recession would be good news only for gold stocks. It would be bad news for base metal and steel stocks, and negative news for oil stocks. Agricultural stocks should not be hurt, except that major bear raids will likely spew blood broadly across stock markets.


Any panic-driven selloffs in commodity stocks are unlikely to take them off the top-performers lists for more than a few weeks. They are not just fair-weather friends. Not only are most of the majors very cheap on a forward-earnings basis, but mining and oil companies that ordinarily search for resources in remote regions will take advantage of selloffs to acquire reserves in politically safe regions at bargain cost. Coming out the other side of this slowdown, these stocks will experience big increases in their absolute and relative PEs. Someday a big Sovereign Wealth Fund is going to decide that bailing out banks isn’t as profitable as owning matchless reserves of minerals.


Food price inflation should strengthen through the year. It could be offset by broad price declines across the US economy as it struggles with recession, but it is becoming embedded in the global economy and will be a challenge for many years. It will produce a full-blown crisis when a major crop failure occurs.


The Canadian dollar trades right around parity. It might not climb sharply higher if a US recession is confirmed, because of the impact on the industrial sector and tourism. It remains a fundamentally strong currency, and the greenback remains a fundamentally weak currency. Canadian borrowers should borrow in greenbacks.


Gold’s move has been dramatic, but retail investors in North America and Europe have not yet shown signs of true gold fever. That means there is still substantial upside. Soaring silver and platinum prices confirm that this gold move is no mere spastic twitch. The expression “as good as gold” in reference to Treasuries and other US debt instruments should be restricted to use as a warm-up joke at investment policy meetings.


Defence stocks have solidly outperformed the S&P for most of the Bush presidency. Iraq and Afghanistan have run down a wide range of Pentagon inventories and a new generation of fighter jets cannot be postponed much longer. No matter who wins the presidency, these companies should continue to prosper.


Sovereign Wealth Funds have been buying US banks. Wall Street cites these purchases as evidence of great value in bank stocks. For nations that are overweight Treasuries in their holdings and underweight influence in American politics, swapping Treasuries for bank equities and convertibles makes sense. That does not necessarily mean that the stocks are great value for investors who cannot get other – unspecified – returns on their investments.


Use panic days to strengthen your equity portfolio, buying the agricultural, gold and oil stocks you will want to own after the bear retreats to his cave – and selling stocks that are too dependent on US consumers. Retain your quality base-metal stocks: they may well be taken out by other mining companies, or a Sovereign Wealth Fund.


The US small-cap bear market may be overshooting because investors haven’t analyzed the likely improved competitive positions of companies whose principal competitors were bought by Private Equity or are Canadian or European companies hurt by the weakening dollar.


Be like all wise cottage owners: Protect your possessions from Rats.

Source: Victor Adair

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The stock market continued its downward trajectory during the past week, experiencing wild swings on the back of a barrage of bad news in the financial sector, and ongoing concerns about the housing and credit markets weighing on investor sentiment.

This prompted Bill King (The King Report) to raise the following questions about Fed chairman Ben Bernanke’s troubled facial expression: “How dreadful has sentiment about the economy and financial system become? If one picture is worth a thousand words, what are two pictures worth?”


Bernanke’s testimony before a congressional committee on Thursday reaffirmed the market’s worries about the health of the economy. He admitted that the tumbling house prices, increased energy costs, falling consumer spending, increasing unemployment and weak stock market performance were more than likely to drag down US economic growth. Bernanke expressed his support for significant fiscal and monetary stimulus as a pre-emptive strike against a US recession. Despite these pronouncements the stock market plummeted by more than 300 points.

On Friday President Bush broadly outlined a plan for roughly $150 billion’s worth of tax breaks, rebates and unemployment benefits to boost the slowing economy and help stave off a recession. This announcement, however, could not prevent stocks from sliding further, especially as concerns mounted that the downgrading of bond insurers dealing in credit default swaps could trigger another wave of huge debt write-downs.

“I hope I’m wrong, but I’m thinking that a large economic storm is building, and it’s aiming to hit hard in the weeks and months ahead,” said Richard Russell, 83-year old author of the Dow Theory Letters.

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 chart.

Based on a recent CNN poll, it’s clear that the priorities and worries of US voters (i.e. consumers) are changing. In a November poll, 29% were worried about the economy, 28% were worried about the war in Iraq, 18% were worried about healthcare, 10% were worried about illegal immigration, and 12% were worried about terrorism. In the latest poll, 35% were worried about the economy, 25% were worried about the war in Iraq, 18% were worried about healthcare, 10% were worried about illegal immigration, and only 9% were worried about terrorism.

The bulk of the economic statistics reported during the past week, including soft retail sales, falling housing starts and a declining Index of Leading Economic Indicators, reaffirmed the US’s economic woes and the precarious position of consumers. BCA Research summarized the implications for the Fed’s meeting at the end of the month as follows: “While some FOMC members remain concerned about upside inflation risks, this will not prevent further major rate cuts. A stimulative Fed will not lead to an early improvement in the economy, but should cushion the downside.”



Time (ET) Statistic For Actual Briefing Forecast Market Expects Prior
Jan 15 8:30 AM Retail Sales Dec -0.4% 0.0% 0.0% 1.0%
Jan 15 8:30 AM Retail Sales ex-auto Dec -0.4% -0.1% -0.1% 1.7%
Jan 15 8:30 AM PPI Dec -0.1% 0.2% 0.2% 3.2%
Jan 15 8:30 AM Core PPI Dec 0.2% 0.2% 0.2% 0.4%
Jan 15 8:30 AM NY Empire State Index Jan 9.0 13.0 10.0 9.8
Jan 15 10:00 AM Business Inventories Nov 0.4% 0.6% 0.4% 0.1%
Jan 16 8:30 AM CPI Dec 0.3% 0.3% 0.2% 0.8%
Jan 16 8:30 AM Core CPI Dec 0.2% 0.2% 0.2% 0.3%
Jan 16 9:00 AM Net Foreign Purchases Nov $90.9B NA NA $114.0B
Jan 16 9:15 AM Industrial Production Dec 0.0% -0.4% -0.2% 0.3%
Jan 16 9:15 AM Capacity Utilization Dec 81.4% 81.1% 81.2% 81.6%
Jan 16 10:30 AM Crude Inventories 01/12 4259K NA NA -6736K
Jan 16 2:00 PM Fed’s Beige Book
Jan 17 8:30 AM Housing Starts Dec 1006K 1160K 1150K 1173K
Jan 17 8:30 AM Building Permits Dec 1068K 1150K 1140K 1162K
Jan 17 8:30 AM Initial Claims 01/12 301K 335K 335K 322K
Jan 17 10:00 AM Philadelphia Fed Jan -20.9 2.0 -1.5 -1.6
Jan 17 10:30 AM Crude Inventories 01/12 NA NA -6736K
Jan 17 12:00 PM Philadelphia Fed Jan 2.0 -1.5 -1.6
Jan 18 10:00 AM Leading Indicators Dec -0.2% -0.2% -0.1% -0.4%
Jan 18 10:00 AM Mich Sentiment-Prel. Jan 80.5 74.0 74.5 75.5

Source: Yahoo Finance, January 18, 2007.

Next week’s economic highlights include Initial Jobless Claims and Existing Home Sales on Thursday.

The performance chart obtained from the Wall Street Journal Online indicates how different global markets fared during the past week.


Source: Wall Street Journal Online, January 20, 2007.

Concerns about a US recession again clouded the financial markets during the past week and the subprime woes continued to unfold as more write-downs and depressed earnings were reported.

The bears made their presence felt and stock markets slumped across the globe with almost panicky selling being encountered. This is evidenced by the steep fall in both the MSCI World Index (-5.1%) and emerging markets (-6.4%). Under the circumstances, the Japanese Nikkei 225 Average did relatively well with a more modest decline of 1.8%.

The losses of the US stock markets are mounting as illustrated by the following year-to-date returns: Dow Jones Industrial Index: -9.5%; S&P 500 Index: -10.4%; Nasdaq Composite Index: -12.5% and Russell 2000 Small Cap Index: -12.8%. The latter has declined by 21.5% since its high in July 2007, thereby now qualifying as being in a bear market as the “official” definition of a 20% decline has been met.

On the currency front, the Japanese yen gained strongly as a result of the reversal of the carry trade, putting pressure on a number of high-yielding currencies. The US Dollar Index found slight gains on hopes that the White House’s stimulus plan will help ease credit market problems. The euro, on the other hand, declined as expectations for the ECB shifted from holding rates steady to perhaps joining the Fed in cutting rates.

Government bond yields fell further around the world as the global economic outlook worsened and investors switched stocks to what is perceived to be a safe-haven asset class. In the US, the real 10-year bond yield traded at its lowest level since the 1970s.

Commodities, in general, came off their highs on the back of the economic slowdown and heavy profit-taking after the recent rallies. Agricultural commodities, however, continued their uptrend and posted a gain of 2.1% for the week.

Now for a few news items and some words (and graphs) from the investment wise that will hopefully assist in guiding us through the stormy waters and making the correct investment decisions during the shortened week ahead.


Source: Jim Sinclair’s Mineset, January 17, 2008.

Asha Bangalore (Northern Trust): Fiscal stimulus package and impact on economic activity
“This morning, President Bush announced that a $140 billion stimulus package will be put in place soon. A fiscal stimulus package can help lift aggregate demand and reduce the risk and severity of a recession and provide broader support to actions of the Federal Reserve. This is the rationale behind enacting an expansionary fiscal policy. A variety of options are available to design this package with tax rebates for individuals and tax breaks for businesses. Chairman Bernanke provided his blessings for the stimulus package in yesterday’s testimony. There is bi-partisan support for this effort.

“Questions about the benefits of a fiscal stimulus package made up a major part of the Q&A session in Bernanke’s testimony. As an example, Bernanke answered that the impact of a $100 billion tax rebate to households was expected to result in a $60 billion increase in consumer spending. This has enormous significance. As an exercise, when we plugged in $60 billion spending in our GDP forecasting model, holding other things constant, it resulted in a nearly 2.0% annualized increase in real GDP in the quarter it was spent. The multiplier effect of this spending is a more complex exercise. Our exercise is for illustrative purposes only. Studies have found that the rebate is probably spent over two quarters. By implication, the $140 billion package should have a larger impact than the example cited in the testimony.

“Fiscal policy has a relative advantage compared with monetary policy when considering the timing issues of policies because the impact lag of fiscal policy is smaller in comparison with monetary policy. By contrast, the implementation lag of fiscal policy is longer than monetary policy. Therefore, the emphasis is on enacting the package in a timely manner. If the Fed lowers the Fed funds rate to 3.00%, eventually, matching our forecast, it would be a cumulative ease of 225 basis points. The impact of this large cut in the federal funds rate will be visible only several months ahead unlike the impact of fiscal policy changes.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 18, 2008.

Bernanke, Paulson, whatever: you financial types all look alike
“Amusing clip from Fed Chair Ben Bernanke’s testimony today on Capitol Hill. Apparently from a Congressional point of view in an election year – or at least from the perspective of 13-term (!) Democratic Budget Committee member Marcy Kaptur – all these damn financial types look the same.”

Source: Paul Kedrosky’s Infectious Greed, January 17, 2008.

BCA Research: Bernanke to markets – we are not asleep
“Fed Chairman Ben Bernanke’s remarks imply good odds of a 50 basis point rate cut later this month. Bernanke could not have been clearer. Having provided a good overview of how the current situation developed, he set out to reassure the markets that he is highly attuned to downside economic risks. The key phrase was that ‘the Committee must remain exceptionally alert and flexible, prepared to act in a decisive and timely manner … to counter any adverse dynamics that might threaten economic or financial stability’.

“While some FOMC members remain concerned about upside inflation risks, this will not prevent further major rate cuts. A stimulative Fed will not lead to an early improvement in the economy, but should cushion the downside, and ensure that equities move higher over the course of the year.”


Source: BCA Research, January 15, 2008.

The Wall Street Journal: A quote from 1993
“History shows that once nominal growth slows in a heavily indebted economy, there can be no recovery until the excess debt is eliminated. Political efforts to expand debt do nothing to lift the burden of debt service, which is the cause of slow growth and faltering incomes in the first place.

“Too many people have become complacent about deflation. But watch out. Debt has grown too large to be sustained out of cash flow. As soon as the balance sheet is depleted, a deeper crisis of asset liquidation will catch the world by surprise.”

Source: James Dale Davidson, The Wall Street Journal, 1993.

Goldman Sachs: Calling a US recession
“This week our US macro economists reduced their forecasts for US growth. We now expect a recession in the US with the 1st quarter of 2008 showing no growth, the 2nd and 3rd quarter negative growth of -1% and only +0.5% in the final quarter of this year.

“The change to a more negative view was made after analyzing the poor data that has been coming out of the US since the start of this year, particularly the unemployment rate which rose by 0.3% to 5%. Historically, whenever the unemployment rate has risen by 1/3% or more, the US has fallen into a recession.

“The changes have significant impact on our forecasts for a number of asset classes. We now expect the EUR/USD rate to show further USD weakness. We forecast 1.51, 1.51 and 1.40 in 3, 6 and 12 months respectively. USD fixed income will benefit from stronger easing by the Federal Reserve (2.5% interest rates for 2008). Equities will need to be positioned more defensively (overweight pharma, consumer staples, utilities, underweight tech, industrials and financials).

“These changes will also affect the growth forecasts of other regions. We have maintained that other regions such as the Euro zone and Asia would show some resilience unless the US outlook became worse, as we now predict. We have already adjusted the outlook for Japan, where we now also expect a recession in 2008.”

Source: Thomas Stolper, Fiona Lake and Jens Nordvig, Goldman Sachs, January 10, 2008.

Asha Bangalore (Northern Trust): Inflation is a problem, but FOMC should ease monetary policy on January 30
“The Consumer Price Index (CPI) rose 0.3% in December following a 0.8% increase in the prior month. The energy price index advanced 0.9% in December putting the year-to-year increase at 17.4%. The food price index moved up 0.1%, with the index advancing 4.9% on a year-to-year basis. The sharp increases in food and energy prices helped to raise the overall CPI by 4.1% in 2007 versus a 2.5% gain in 2006.


“Conclusion – Bernanke’s comments on January 10 clarified that in the inflation-growth debate the Fed now sees the risk of weakening economic conditions as the predominant risk. He also remarked that the Fed stands ready to take substantive action to jump start a stalling economy. True, the CPI rose 4.1% in the twelve months ended December 2007. At the same time, industrial production fell at an annual rate of 1.0% in the fourth quarter. In addition, the sharp increase in the unemployment rate and a negligible expansion of payrolls in December, the below 50 reading of the ISM manufacturing composite index, soft retail sales in December and the continued decline in equity prices are factors building the case for further easing of monetary policy. Today’s economic reports have not changed our forecast of a 50 bps cut in the federal funds rate on January 30 to 3.75%.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 16, 2008.

Kiplinger Business Resource Centre: Lasting housing woes paint a grim economic picture
“For housing to return to good health – with the solid housing starts and sales of new and existing homes near the rates seen in the late 1990s, if not the red-hot figures of 2004 and 2005 – it’s likely to take at least three more years.

“For now, the housing sector is caught in a sickening downward spiral. New construction is still much too high. At 2.5%, the ratio of vacant unsold homes to total homeownership is 50% greater now than it had been for 20 years. There’s an excess inventory of up to a million homes. To work that off, housing starts must drop by an additional 25%, to about a million a year. But we expect starts of 1.2 million or so this year, down just 11% from last year’s figure of 1.35 million.

“One reason: Too much of builders’ money is tied up in development – the cost of buying finished lots, impact fees and permits, building roads, installing water and sewer lines and so on. To keep cash flowing and minimize losses, they keep building homes and hoping to sell them. Mario Ricchio, housing industry analyst with Zach’s Investment Research, says, ‘If builders could shut down for two years, they would eliminate all the overhang. Of course, that’s not going to happen. They have to generate cash flow.’

“More foreclosures will worsen the problem in the short term. Two million homeowners face a reset of adjustable mortgages both this year and next.”

Source: Jerome Idaszak, Kiplinger Business Research Centre, January 2008.

Asha Bangalore (Northern Trust): Housing starts record severe weakness
“Homebuilders cut back again on breaking ground for new homes in December. Starts of new homes fell 14.2% in December to an annual rate of 1.006 million units. The December reading is the lowest since April 1991. Housing starts are down 56.1% from the peak reading of 2.292 million in January 2006 which is close to declines associated with prior recessions.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 17, 2008.

Asha Bangalore (Northern Trust): US Index of Leading Economic Indicators offers support for recession forecast
“The Index of Leading Economic Indicators (LEI) fell 0.2% in December after a similar decline in November. The October estimate was revised to a 0.7% drop from the earlier estimate of a 0.5% decline. The LEI has now declined in four out of the last six months.

“The quarterly average of the LEI is down 0.6% from a year ago. Historically, negative year-to-year changes in the quarterly LEI are associated with recessions with the exception of the drop in 1967 when the economy was weak. Larger declines will be necessary to confirm that a recession is underway. However, the fact that the LEI has now declined in two out of last three quarters on a year-to-year basis is a strong signal that should be watched.”


Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 18, 2008.

Asha Bangalore (Northern Trust): CEO Confidence Index lowest in current cycle
“Confidence about the economy … is captured in the CEO Confidence Index. This index fell to 39 in the fourth quarter, down from 44 in the third quarter and the lowest in the current expansion which began in November 2001. Historical evidence suggests that the current reading of this index is approaching levels seen in a recession.”


Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 15, 2008.

John Mauldin (Thoughts from the Frontline): Credit default swaps – the continuing crisis
“… the big story for 2008 would be the counter-party risk for credit default swaps. That story is coming faster and larger than I thought. Bill Gross of Pimco suggests that the ultimate cost could be another $250 billion dollars on top of the $250-plus billion in subprime losses. That means we have only seen the tip of the iceberg in write-offs in the financial sector.

“The real problem is the ‘monoline insurers’ like ACA, Ambac, and MBIA. Here’s a quick primer on how they work. Let’s say you are a small municipality and want to borrow $10 million for a bond offering to build a road or a water treatment plant. If you went to the market with your credit rating, it would be a low rating and the cost of the money would be high. But if you get one of the seven monoline insurers to guarantee your bond, then you get whatever their credit rating is. The fees for such insurance are lower than the savings you get on the bond, so everyone wins.

“But over the years, most of the monocline insurers went from boring municipal bonds and jumped into the mortgage-backed security markets, selling credit default swaps that significantly juiced up their earnings. But it also added a lot of risk that they clearly, in hindsight, did not understand.

“ACA has already seen its rating go from A to CCC, which is basically junk. This puts it out of business, as no one will pay to be rated as junk. Merrill wrote down almost $2 billion in bonds that were insured by ACA. They will not be alone.

“Today, Fitch downgraded Ambac Financial Group two notches from AAA to AA. That doesn’t seem like a lot, until you realize that 74% of their revenue comes from that AAA rating that covers $556 billion in municipal and structured finance debt. Moody’s says it is going to review MBIA.

“If you are a bank or regulated entity, and you have mortgage-backed securities that have been written by a AAA monocline company, you can carry that debt on your books as AAA. But as the companies get downgraded, you have to write down the potential loss.

“If you have Ambac or MBIA insurance, as a bank you have not yet written down any debt they insured. They are still rated AAA. But that re-rating is coming. And what about the monster CDS business in the hedge fund world? There are going to be more losses in the biggest banks, and even bigger investments by Sovereign Wealth Funds. Count on it.”

Source: John Mauldin, Thoughts from the Frontline, January 18, 2008.

The Wall Street Journal: Citi makes an enticing offer
“Away from the headlines, Citigroup CEO Vikram Pandit quietly offered the great American public a deal this morning. Lend the bank some money, he said, and we’ll pay you a fat 7% interest rate. The payouts will get the same favorable tax treatment as shareholders’ dividends, but will be secure against pretty much anything except a full business meltdown. Oh, and if Citigroup’s fortunes recover you’ll get to share in the upside along with ordinary shareholders. That’s quite an offer.

“The bank is set to issue $2 billion worth of so-called convertible preferred stock to the public. The prospectus hasn’t been issued yet, but the terms should be similar to those offered to a handful of very rich investors in a just-concluded $12.5 billion private placement. Those investors include the bank’s former chairman, Sandy Weill, and Prince Alwaleed bin Talal. So if you buy into the convertible preferreds, you’ll be in good company.

“The stock will have a 7% yield. These are ‘preferred’ stocks, which means they’re a little like bonds. The dividends won’t rise: But they are pretty secure, as they should get paid in full before common shareholders get a penny. On the other hand, the dividends should get the same privileged tax treatment as payouts on shares. Oh, and investors will have the ability to swap their preferreds into ordinary shares if the price of the latter recovers 20% from its current depressed situation. In other words, you get a great yield, some pretty good security, and almost all the upside if things improve.”

Source: Brett Arends, The Wall Street Journal, January 15, 2008.

Ambrose Evans-Pritchard (Telegraph): Anna Schwartz blames Fed for subprime crisis
“As rebukes go in the close-knit world of central banking, few hurt as much as the scathing indictment of US Federal Reserve policy by Professor Anna Schwartz.

“The high priestess of US monetarism – a revered figure at the Fed – says the central bank is itself the chief cause of the credit bubble, and now seems stunned as the consequences of its own actions engulf the financial system. ‘The new group at the Fed is not equal to the problem that faces it,’ she says, daring to utter a thought that fellow critics mostly utter sotto voce.

“‘They need to speak frankly to the market and acknowledge how bad the problems are, and acknowledge their own failures in letting this happen. This is what is needed to restore confidence,’ she told The Sunday Telegraph. ‘There never would have been a subprime mortgage crisis if the Fed had been alert. This is something Alan Greenspan must answer for,’ she says.

“Schwartz remains defiantly lucid at 92. She still works every day at the National Bureau of Economic Research in New York, where she has toiled since 1941.”

Source: Ambrose Evans-Pritchard, Telegraph, January 14, 2008.

Bloomberg: Greenspan’s reputation at risk as recession odds grow
“The next bubble to deflate may be Alan Greenspan’s reputation. Hailed as perhaps the greatest central banker who ever lived when he left the Federal Reserve in 2006, Greenspan is under attack from critics ranging from the New York Times to economists at the American Enterprise Institute for his handling of the 2000-2005 housing boom. The former Fed chairman has taken to the media to defend himself, writing in the Wall Street Journal and appearing on network television.

“‘He’s had a bubble reputation that derived from the growth of US household wealth,’ said Edward Chancellor, author of ‘Devil Take the Hindmost: A History of Financial Speculation’. ‘As that goes down, his standing as a superstar will suffer.’

“At stake is not only Greenspan’s legacy but also the future of policies he espoused during 18-1/2 years atop the central bank. Critics blame his aversion to regulation and reluctance to use interest rates to puncture asset bubbles for the boom in mortgage lending and house prices that has since gone bust, threatening to throw the economy into recession.

“In an interview, Greenspan said such criticism ignores limits on what regulation and monetary policy can achieve.

“Fed Chairman Ben S. Bernanke has already moved away from the laissez-faire approach of his predecessor by proposing new restrictions on subprime mortgages.”

Source: Rich Miller,, January 10, 2008.

The Wall Street Journal: Trader made billions on subprime
“On Wall Street, the losers in the collapse of the housing market are legion. The biggest winner looks to be John Paulson, a little-known hedge fund manager who smelled trouble two years ago. Funds he runs were up $15 billion in 2007 on a spectacularly successful bet against the housing market. Mr. Paulson has reaped an estimated $3 billion to $4 billion for himself – believed to be the largest one-year payday in Wall Street history.


“Now, in another twist in financial history, Mr. Paulson is retaining as an adviser a man some blame for helping feed the housing-market bubble by keeping interest rates so low: former Federal Reserve Chairman Alan Greenspan.

“‘Most people told us house prices never go down on a national level, and that there had never been a default of an investment-grade-rated mortgage bond,’ Mr. Paulson says. ‘Mortgage experts were too caught up’ in the housing boom.

“In several interviews, Mr. Paulson made his first comments on how he made his historic coup. Merely holding a different opinion from the blundering herd wasn’t enough to produce huge profits. He also had to think up a technical way to bet against the housing and mortgage markets, given that, as he notes, ‘you can’t short houses.’

“Also key: Mr. Paulson didn’t turn bearish too early. Some close students of the housing market did just that, investing for a downturn years ago – only to suffer such painful losses waiting for a collapse that they finally unwound their bearish bets. Mr. Paulson, whose investment specialty lay elsewhere, turned his attention to the housing market more recently, and got bearish at just about the right time.

“Mr. Paulson has taken profits on some, but not most, of his bets. He remains a bear on housing, predicting it will take years for home prices to recover. He’s also betting against other parts of the economy, such as credit-card and auto loans. He tells investors ‘it’s still not too late’ to bet on economic troubles.

At the same time, he’s looking to the next turn in the cycle. In a recent investor presentation, he said his firm would at some point ‘start preparing’ for opportunities in troubled debt.”

Source: Gregory Zuckerman, The Wall Street Journal, January 15, 2008.

Richard Russell (Dow Theory Letters): Market shaping up as an angry bear
“Writing about the stock market or the economy is not a pleasant task at this time. The reason, of course, is losses, losses and more losses. When, on November 21, I wrote that we had witnessed a Dow Theory bear signal, I had no set idea as to what that bear signal portended or even the reasons the primary trend of the market had turned down.

“At the time, nothing seemed terribly out-of-kilter in the US economy. Sure, housing was a mess, but that had been well-publicized weeks, even months, in advance. And that’s the strange and damnable thing about the stock market. It speaks, it gives its rather rare Dow Theory ‘signals’, but at the time we never know exactly what it is that the market is telling us. But we don’t have to know – all we do have to know is UP from DOWN. At the time I didn’t know how important or how far ‘down’ was. And I’m still not sure about the full meaning of ‘down’ in the current situation.

“But it’s becoming rather clear to me that ‘down’ in this bear market means ‘down and dirty’. It’s ‘Katie bar the door.’ In other words, this bear market is not shaping up as anything vaguely pleasant. No, it’s shaping up as an angry grizzly bear. And this bear has been sinking his claws into the throats of investors, not only in the US, but around the world.”

Source: Richard Russell, Dow Theory Letters, January 16, 2008.

David Fuller (Fullermoney): Where will markets be in 12 months’ time?
“A considerable portion of the immediate problem is the temporary paralysis of the Western banking system. This is slowly being resolved but recapitalization takes time. Meanwhile, the losses are real and alarming, representing a shock to other sectors of the US and European economies, otherwise unaffected by the actual sub-prime related fiasco.

“Psychological problems for corporations, consumers and investors are considerable because a year ago very few people had even an inkling of what was about to happen. The outlook seems grim, or has certainly been made to look so by an excited and emotional press. Therefore, for perspective, we should refer to the table by DB Global Markets Research.


“The $400bn of losses forecast is insignificant compared to items in the table, not least DB’s calculation of $149.1trn for total world financial markets. However, the ongoing and more serious problem that has yet to be checked concerns confidence. The setback in stock market valuations since the sub-prime related problems broke is vastly greater than $400bn.

“Needless to say, governments and their central banks have a big vested interest in stopping the rot. This requires leadership, which has not exactly instilled confidence to date. However governments are crisis oriented and I assume that leadership in monetary, fiscal and psychological terms will improve over the next few months. This does not require a miracle – just common sense.

“A year from now, and perhaps well before, I believe calm will have returned to stock markets which will be trading above today’s levels … Meanwhile, most stock markets look as if they will move somewhat lower before they trend higher once again.”

Source: David Fuller, Fullermoney, January 15, 2008.

GaveKal: Equity markets approaching a bottom
“… much of the sell-off in equities around the world could be the result of some form of forced selling. While this could potentially persist a while longer, we note that equity markets are now massively oversold, and investor sentiment is about as bad as it can get (see graph). As such, we are hopeful that markets are approaching a bottom. As asserted by John Thain, Merrill’s write-downs could very well be ‘extremely conservative’ (and thus, future releases could turn out to be much better). Bernanke is sure to continue cutting rates. And the legislature sounds determined to deliver a big ‘stimulus package’. As such, while the risk of more selling (forced or not) remains, we are optimistic that markets will soon stabilize.”


Source: GaveKal – Checking the Boxes, January 18, 2008.

Mike Lenhoff (Brewin Dolphin Securities): Global equities looking oversold
“Global equity markets are looking oversold but should be in a much better position by the start of the second half, says Mike Lenhoff, chief strategist at Brewin Dolphin Securities. He says three points are worth considering.

“‘First, if the rate at which Citigroup has been prepared to make its writedowns is followed by other banks in similar positions … much, if not all, of the bad news relating to the subprime fallout could be flushed away – if not by the end of the first quarter, then by the summer.’

“Second, Mr Lenhoff says, US and UK interest rates will be very much lower by the summer. ‘Our view has been that the Fed funds rate will be down to 3.5 per cent by then and UK base rates down to 4.75 per cent, levels sufficiently low to induce expectations of better times ahead for the US and UK economies and an improving outlook for corporate earnings.’

“Third, valuations will start to look much more appealing when earnings are being upgraded, which Mr Lenhoff expects to happen when interest rates have been lowered.

“He says: ‘The major equity markets are oversold. That’s not much comfort if a bull market is breaking down. But the way I see it, this is a consolidation phase following four years of a bull market, and hence the transition phase to another leg of the bull market.’”

Source: Mike Lenhoff, Brewin Dolphin Securities (via Financial Times), January 16, 2008.

MarketWatch: Credit Suisse, in switch, recommends US stocks
“Credit Suisse strategists, for the first time this decade, recommended that fund managers buy more US stocks than a world index would suggest, saying that authorities state-side are likely to be quicker on the draw than their European counterparts in responding to the slowing economy.

“The strategists on Monday raised their rating on the US to 5% overweight, from benchmark.

“Strategists at HSBC made a similar call, raising their stance on the US to overweight while cutting their views on Europe and emerging markets to neutral.

“The Credit Suisse analysts pointed out the US Federal Reserve is one of the only central banks with a clear growth mandate. ‘Thus, we believe that the Fed will continue to be more balanced in its assessment of inflation risks,’ the strategists said, adding that labor-cost inflation and corporate-sector pricing trends both suggest underlying inflationary pressures are well contained.

“From a current level of 4.25%, the strategists said the Ben Bernanke-led Fed may slice the fed funds rate to as low as 3% by the end of the first half of 2008.

“‘By virtue of the weakening dollar and the Fed’s easing cycle, monetary conditions are now far looser in the US than in Europe,’ they noted. As for the housing market downturn, it said the US is up to two-thirds of the way through the downward adjustment.

“Where the strategists have turned negative is in Continental Europe: they cut the region’s rating to 10% underweight from benchmark. Unlike the Fed, the European Central Bank has an inflation-related mandate, and the hawkish comments made by ECB officials, including President Jean-Claude Trichet last week, suggest the ECB ‘could disappoint’ by keeping rates too high for too long.

“Of other regions, it kept Britain at benchmark, noting that domestic UK sectors are already pricing in something close to a hard landing; it kept its emerging-market overweight at 8%; and it moved its view on Japan to 10% underweight from 15% underweight.

“Credit Suisse bases its positions on the MSCI World Index, which has a 45% US weight, a 20.7% Europe weight, a 10.6% Asia ex-Japan weight, a 9.6% UK weight and an 8.6% Japan weight.

“Japan is now HSBC’s least favored market, because it’s the most cyclical, has least monetary room for cuts and new construction regulations won’t help. It cut Europe and emerging markets to neutral because of cyclical drawbacks.”

Source: Steve Goldstein, MarketWatch, January 14, 2008.

BCA Research: Take profits on long duration bond positions
“Valuation and other yardsticks argue that investors should trim bond duration to benchmark. The US and global slowdown has further to play out and credit market strains are likely to remain elevated for some time. Nonetheless, the government bond market rally is getting stretched, and we suggest taking profits on above-benchmark duration positions.

“First, our valuation models show that US and G7 10-year bond yields are trading near to the threshold of overvaluation. In the US, the real 10-year bond yield is at its lowest level since the 1970s. Moreover, the bond and money markets have already largely discounted a US recession. For example, eurodollars are priced for the fed funds rate to fall almost to zero in the next year. Similarly, investment-grade and junk corporate bond spread indexes are still below their 2002 peaks, but they too appear to be very close to recession territory.”


Source: BCA Research, January 17, 2008.

GaveKal: Remaining bullish on oil is a dangerous strategy
“… we think remaining structurally bullish on oil is … dangerous, given how far speculation seems to have drifted from sound fundamentals. Indeed, current prices are implying that 2008 will be the most bullish year ever for world growth (an assumption that is in stark contrast to the current bearish mood on growth). So what is going on?

“Current speculative fever centers on crude stock levels being at multi-year lows, and indeed they are. However, if we look at stocks of refined products, the picture is not as dramatic. The difference is accounted for by a slowdown in oil demand in the US – itself a function of price, seasonality and GDP growth. And herein lies the rub: With everyone and his uncle is calling for a recession in the US, official bodies keep lowering their energy demand growth estimates, and the industry is thereby left with little incentive to keep adding to stocks. In turn, low inventory numbers fuel speculation, and oil prices rise further – which discourages demand (as oil consumption does have some elasticity to price). Ironically, bold speculation (based on insufficient inventories) could further discourage oil demand at a very inopportune time …

“If the US falls into recession or simply slows down further this year, or if Europe enters a recession, or if Asia begins selling more of its production at home and shipping less across the Pacific, then demand for oil could drop dramatically. As we see it, these ‘ if’s’ are currently much more plausible than what oil is pricing in: a) a powerful surge in demand ahead, or b) a cataclysmic collapse in supply (while this risk is certainly still a concern, we note that production out of Iraq is now at a post-Saddam record high). All in all, we continue to believe that, for the oil price, the risks are far greater on the downside.”

Source: GaveKal – Checking the Boxes, January, 2008.

Michael Lewis (Deutsche Bank): Agricultural price rallies still in their infancy
“Michael Lewis, head of commodities research at Deutsche Bank, says rallies in the agricultural sector tend to be less pronounced and shorter in duration than upswings in the energy and metals sectors – which possibly reflects the faster supply response in agriculture compared with other parts of the commodity complex.

“The current rally in many agricultural commodity prices is still only close to historical averages in both magnitude and duration, Mr Lewis adds.

“But he says inventories in a number of agricultural products have fallen to critically low levels at a time when global demand for food, cattle feed and biofuels is rapidly increasing. ‘We consequently believe the price rallies in corn, cotton, soyabeans and wheat are still in their infancy.’”

Source: Michael Lewis, Deutsche Bank (via Financial Times), January 15, 2008.

BCA Research: China – tentative signs of growth moderation
“Chinese policymakers will stay in data-watching mode and are likely to tighten further. The most recent Chinese economic data, such as money supply and credit growth, have shown tentative signs of moderation. This is a positive development and suggests that the Chinese economy may have finally started to respond to policymakers’ escalating tightening measures. However, most macro indicators are still running far too hot for the authorities to take comfort.

“Looking forward, we expect that the tightening campaign will continue. With the reserve requirement ratio for commercial banks already at a record high and proving ineffective in an economy that is increasingly privatized, the authorities are likely to use interest rate and exchange rate policies more actively than in the past.”


Source: BCA Research, January 15, 2008.

GaveKal: Be cautious of Chinese equities
China is evermore determined to squash its rising price indices; and until it does, being cautious on Chinese equities (especially H-shares) might be wise …”


Source: GaveKal – Checking the Boxes, January 15, 2008.

Times Online: UK government’s court order plan to keep creditors at bay
“The Ministry of Justice announces the biggest shake-up in personal insolvency laws for years, which will permit borrowers to take a ‘repayment holiday’. Borrowers will be allowed to stop repaying debts by taking out a court order, under radical plans outlined yesterday by the government.

“The proposals would mark the biggest shake-up of personal insolvency legislation in years and come at a sensitive time for the financial services industry, which is bracing for an increase in consumer bad debts.

“The plans, which were outlined in a consultation paper yesterday by the Ministry of Justice, would allow consumers who fall into financial difficulties through a change of circumstance, such as losing their job or divorce, to stop making repayments on personal loans, credit cards and other debts for up to a year by applying for an ‘enforcement restriction order’.

“Bridget Prentice, the Civil Justice Minister, said: ‘We want to ensure that people who run up debts are given every opportunity to pay them off.’”

Source: Grainne Gilmore, Times Online, January 17, 2008.

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The past week witnessed mounting uncertainty as investors digested news regarding the ongoing credit market problems and deepening gloom about the global economy. In the words of Richard Russell, author of the 50-year old Dow Theory Letters: “If you’re standing on the railroad track and the train is bearing down on you at 90 miles per hour, don’t stand there trying to decide whether the oncoming train is the ‘Midnight Special’ or the ‘Wabash Cannon Ball’. Just get the hell off the tracks. Which train was coming at you can be determined later – right now that’s not the problem.”

In a speech on Thursday (January 10), Fed Chairman Ben Bernanke acknowledged a weaker economy and the need for further relaxation of monetary policy. He assured the American public at large, that the Fed would “take substantive additional action as needed to support growth and to provide adequate insurance against downside risks”.

However, this was cold comfort for The Street as Stock Trader’s Almanac pointed out that 11 of the last twelve easing periods have proved to be tumultuous times for the markets. It certainly does not inspire confidence when considering that the S&P 500 Index registered its worst performance on record (i.e. since 1950) for the first five trading days of 2008. Also, the fact that the Dow Jones Industrial Index closed below its December closing low (on January 2) and continues to trade below it, points to further weakness. Since 1950, 27 of 29 such occurrences saw continued declines with and average loss of 10.1%, according to Stock Trader’s Almanac.

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 chart.

Philadelphia Fed President Charles Plosser said on Friday (January 11) that the Fed’s biggest worry was potential weakness in consumer spending. Many investors fear that consumer weakness could push the US economy into a recession, a concern exacerbated by overall disappointing retail sales. Rising energy prices, weakening housing markets and slower job growth are all weighing heavily on consumer moods.

The annualized growth rate of the ECRI Weekly Leading Indicator continued on its way down, with Moody’s remarking that the trajectory was increasingly looking similar to past periods preceding a recession.

With a barrage of economic data coming from all corners of the world, perhaps the more insightful information was the ECB and BOE decisions to leave their benchmark interest rates unchanged at respectively 4.0% and 5.5%. Although growth in the Eurozone is slowing, inflation remains of greater concern to central bankers than a slowdown in economic activity.

On the other hand, the US seems to be heading towards a half-percentage rate cut at the FOMC’s next meeting on January 30. Fed funds futures indicated an 88% chance of a 50 basis point rate cut, up from the pre-Bernanke speech level of 74%. Goldman Sachs sees three further rate cuts after January of 25 basis points each, bringing the Fed funds rate to 3.0% by mid-year.


Date Time (ET) Statistic For Actual Briefing Forecast Market Expects Prior
Jan 8 10:00 AM Pending Home Sales Nov -2.6% -0.8% 3.7%
Jan 8 3:00 PM Consumer Credit Nov $15.4B $8.0B $8.5B $2.0B
Jan 9 10:30 AM Crude Inventories 01/05 -6736K NA NA -4056K
Jan 10 8:30 AM Initial Claims 01/05 322K 345K 340K 337K
Jan 10 10:00 AM Wholesale Inventories Nov 0.6% 0.4% 0.4% 0.0%
Jan 10 10:30 AM Crude Inventories 01/05 NA NA -4056K
Jan 11 8:30 AM Export Prices ex-ag. Dec 0.3% NA NA 0.9%
Jan 11 8:30 AM Import Prices ex-oil Dec 0.3% NA NA 0.7%
Jan 11 8:30 AM Trade Balance Nov -$63.1B -$60.0B -$59.5B -$57.8B
Jan 11 2:00 PM Treasury Budget Dec $48.3B $47.0B $52.0B $42.0B

Source: Yahoo Finance, January 11, 2007.

The next week’s economic highlights, courtesy of Northern Trust, include the following:

Retail Sales (Jan 15) The small increase in auto sales during December (16.26 million vs. 16.19 million in November), soft non-auto retail sales and a drop in gasoline prices will be reflected in steady retail sales headline. There is a possibility of a minus sign in the headline. Consensus: 0.0% vs. +1.2% in November; non-auto retail sales: -0.1% vs. +1.8%.

Producer Price Index (Jan 15) The Producer Price Index for Finished Goods is expected to have fallen 0.1% in December after a 3.2% jump in November. The decline is mostly due to lower energy prices. The core PPI is expected to have risen by 0.1% after a 0.4% increase in November. Consensus: +0.2%, core PPI +0.2%.

Consumer Price Index (Jan 16) A 0.2% increase in the CPI is predicted for December after a 0.8% jump in November. The core CPI is expected to have moved up 0.2% vs. a 0.3% gain in November. The core CPI could show a milder gain because apparel prices tend to drop in a given month after a sharp increase the previous month. The apparel price index rose by 0.8% in November. Consensus: +0.2%, core CPI +0.2%.

Industrial Production (Jan 16) The 0.7% drop in the manufacturing man-hours index for December implies a drop in factory production. If production at the nation’s utilities rose sharply in December after three monthly declines, there could be an overall gain in December. Assuming the absence of a large contribution from utilities, there should be a 0.3% drop in industrial production. The operating rate is projected to have dropped to 81.2%. Consensus: -0.5%; Capacity Utilization: 81.2.

Housing Starts (Jan 17) Permit extensions for new homes fell by 0.7% in November, marking the tenth monthly drop in the last eleven months. This declining trend suggests continued weakness in the construction of new homes. Starts of new homes are predicted to have fallen to an annual rate of 1.05 million in December vs. a 1.187 million mark in the previous month. Consensus: 1.14 million.

Leading Indicators – (Jan 18) Interest rate spread, initial jobless claims, consumer expectations, and the manufacturing workweek made negative contributions. Vendor deliveries, real money supply, and stock prices made positive contributions. The net impact was a steady leading index during December after a 0.4% drop in November. Consensus: –0.1%.

Other reports Business Inventories (Jan 15), Survey of National Home Builders Association, Beige Book (Jan 16), Federal Reserve Bank of Philadelphia’s Factory Survey (Jan 17), and University of Michigan Consumer Sentiment Index (Jan 18).

The performance chart obtained from the Wall Street Journal Online indicates how different global markets fared during the past week.


Source: Wall Street Journal Online, January 13, 2007.

Equities rallied on the back of Bernanke’s assurances, but it did not take long for subprime fears to resurface and most stock markets closed sharply lower on Friday. The MSCI World Index declined by 1.9% during the week, with Japanese stocks (-4.0%) falling to a 26-month low and European stocks (-2.4%) to a 13-month low.

Friday’s sell-off marked the third straight weekly decline for the US stock markets, with the Dow Jones Industrial Index suffering its steepest first-eight-sessions-of-the-year slide in 17 years.

The S&P 600 Small Cap Index (-2.8%) underperformed the larger caps of the S&P 500 Index (-0.8%). Defensive areas that are more resistant to an economic downturn, such as Pharmaceuticals (+3.3%) and Utilities (+1.5%), were among the few sectors registering positive returns for the week.

The depth of the problems faced as a result of the subprime fallout was underscored by Bank of America’s rescue of troubled mortgage lender Countrywide Financial, Merrill’s expected additional $15 billion write-down, and Citigroup’s second capital-raising effort ($14 billion) in as many months.

Government bond yields fell further around the world as the global economic outlook worsened and investors switched stocks to what is perceived to be a safe-haven asset class. However, fears that inflation could become a problem slowed the decline in long-dated maturities.

On the currency front, the US dollar fell somewhat against the euro as expectations of aggressive cuts in US rates increased. Worries about the deteriorating prospects for the UK economy resulted in the British pound hitting a record low against the euro.

The precious metals complex, however, was propelled higher by inflation jitters, with both gold ($898) and platinum ($1 564) recording all-time highs. Silver played catch-up and rose by 7.1% for the week compared with gold’s 3.8% and platinum’s 2.5%.

Base metals and agricultural commodities also performed strongly. A report by the US Department of Agriculture warned of extremely low inventories and pushed wheat prices to an all-time high, corn prices to an 11-year high and soyabean prices to a 34-year high.

Now for a few news items and some words (and graphs) from the investment wise that will hopefully assist to make sense of financial markets’ shenanigans during the week ahead.


Source: Steve Sack, Slate, January 8, 2008.

Moody’s Survey of business confidence for world
“US business confidence fell to a new record low at the start of 2008 and is consistent with recession. Sentiment is stronger elsewhere across the globe, particularly in Asia, although it is down everywhere since the subprime financial shock began this past summer. Expectations regarding the first half of 2008 are especially bleak, plunging to another new low last week. Businesses have also become notably cautious with respect to their inventories and office space needs. Hiring and fixed investment are soft, but holding up better. Pricing pressures have risen with oil prices near $100 per barrel, but remain very subdued compared to the pressures that prevailed during previous oil price spurts.”

Source: Moody’s, January 7, 2008.

BCA Research: Global economy – the oil tax
“The surge in oil prices toward the US$100 threshold adds to growth risks for many of the world’s economies. At US$100 per barrel of WTI, the world’s oil bill will approach US$3 trillion, equivalent to roughly 5% of GDP. That would mark a 1% increase compared with last year and comes at a time when growth in the advanced economies is already moderating in response to the US housing collapse and tightening credit conditions. US consumers in particular will feel the pinch, increasing downside risks for the American economy.

“While strong oil demand – especially in China and the Middle East – is contributing to the surge in crude prices, the rising world oil bill is bearish for global growth. This ‘tax’ on growth adds to pressure for major central banks to ease monetary policy. While rising oil prices have temporarily push up headline inflation, the impact of crude on price pressures may already be peaking. Bottom line: High oil prices will require more aggressive stimulus from policymakers in order to support economic growth.”


Source: BCA Research, January 7, 2008.

James Quinn (Telegraph): US recession is already here, warns Merrill
“The US has entered its first full-blown economic recession in 16 years, according to investment bank Merrill Lynch. Merrill, itself one of Wall Street’s biggest casualties of the sub-prime crisis, is the first major bank to declare that a recession in the world’s biggest economy is now underway.

“David Rosenberg, the bank’s chief North American economist, argues that a weakening employment picture and declining retail sales signal the economy has tipped into its first month of recession. Mr Rosenberg, who is well-respected on Wall Street, argues: ‘According to our analysis, this [recession] isn’t even a forecast any more but is a present day reality.’

“His comments are the strongest sign yet that the gloom on Wall Street over the US economy is deepening as the sub-prime mortgage crisis and the credit rout show little sign of easing.

“Mr Rosenberg points to a whole batch of negative data to support his analysis, including the four key barometers used by the National Bureau of Economic Research (NEBR) – employment, real personal income, industrial production, and real sales activity in retail and manufacturing. … he believes that all four of these barometers ‘seem to have peaked around the November-December period, strongly suggesting that we are actually into the first month of a recession.’”

Source: James Quinn, Telegraph, January 8, 2008.

Ambrose Evans-Pritchard (Telegraph): Bush convenes Plunge Protection Team
“Bears beware. The New Deal of 2008 is in the works. The US Treasury is about to shower households with rebate cheques to head off a full-blown slump, and save the Bush presidency. On Friday, Mr Bush convened the so-called Plunge Protection Team for its first known meeting in the Oval Office. The black arts unit – officially the President’s Working Group on Financial Markets – was created after the 1987 crash.

“It appears to have powers to support the markets in a crisis with a host of instruments, mostly by through buying futures contracts on the stock indexes and key credit levers. And it has the means to fry ‘short’ traders in the hottest of oils.

“The team is led by Treasury chief Hank Paulson, ex-Goldman Sachs, a man with a nose for market psychology, and includes Fed chairman Ben Bernanke and the key exchange regulators.


“Judging by a well-briefed report in the Washington Post, a mood of deep alarm has taken hold in the upper echelons of the administration. ‘What everyone’s looking at is what is the fastest way to get money out there,’ said a Bush aide. Emergency measures are now clearly on the agenda, apparently consisting of a mix of tax cuts for businesses and bungs for consumers.

“‘In terms of any stimulus package, we’re considering all options,’ said Mr Bush. This should be interesting to watch. The president is not one for half measures. He has already shown in Iraq and on biofuels that he will pursue policies a l’outrance once he gets the bit between his teeth.”

Source: Ambrose Evans-Pritchard, Telegraph, January 8, 2008.


“Winter, spring, summer or fall, all you have to do is call, and I’ll be there, you’ve got a friend …” These are the lyrics of Carol King’s song. Yes, as life swings from boom to gloom it is the support of friends that often provide the necessary solace.

It is unlikely that Mr Market will come patting you on the back when your investments go pear-shaped, but he does provide his own unique variety of comradeship. In an environment cluttered with noise, Mr Market offers us the very simple but true adage of “the trend is your friend”. This sounds comforting enough, but Mr Market still expects us to fulfill a task: to identify the direction of the trend.

An important point to realize is that there are trends within trends, varying from ultra short (intra-daily) to short (daily) to intermediate (weekly) to long term (monthly). Although day traders play short-term trends from minute to minute, I believe that it is really the identification of the primary (multi-year) trends that holds the key to successful investing.

One way of approaching this is to gauge the fundamental landscape – factors such as unfavorable valuations, stretched profit margins, mounting evidence of an imminent recession and increasing default risk. These paint a fairly bleak picture, but keep in mind the discounting nature of the stock market, having already factored in the gloomy news we are faced with 24/7. In order for the market to fall further the nature of the problems should turn out to be broader and deeper than currently discounted. As mentioned previously, I believe that the fallout of the housing and subprime situation has not been fully discounted.

A more visual way of recognizing the primary trend is by means of analyzing the technical picture, especially using a longer-term perspective.

The following graph indicates how the Dow Jones Industrial Index has been mapping out a series of lower lows and fallen below its 200-day moving average (often seen as an indicator of the primary trend). The shorter term 50-day moving average is trending down and provides an early indicator of what is in store for the longer-term average. The Index has just dropped below its November low on increased volume, serving as further confirmation of a downtrend.



The chart below shows the percentage of stocks on the NYSE that are trading above their 200-day moving averages. As of yesterday’s close the reading was 28.1%. This is the lowest reading in five years and indicates that more than seven out of every 10 stocks are in primary downtrends. Although the current level appears low, the number has fallen as low as 10% at previous bear market bottoms (such as 2002).



Next is the 10-year graph of the NYSE Composite Index (based on monthly data), indicating the price trend together with the MACD oscillator. The failed year-end rally in December witnessed the histograms falling below the zero line (see blue circle) for the first time since the start of the bull market in 2003. (The previous MACD sell signal was given eight-and-a-half years ago in July 1999.)



Turning to a monthly graph of the Dow Jones Industrial Index, a similar picture emerges when using the 14-month RSI oscillator. This indicator is overbought at levels above 70 and oversold below 30. The RSI’s trend is now falling for the first time since the bull market commenced in 2003.



My assessment of the above is that there is more weakness for the stock market ahead. Although the market is oversold on a short-term basis, I would be very reluctant to take long positions in the face of what I believe is a market topping out and embarking on a primary downtrend. I therefore concur with Nouriel Roubini, professor of economics at New York University, when he says: “… a lousy stock market in 2007 will look good compared to an awful stock market in 2008.”

I wrote a series of bearish articles on the stock market (and bullish on gold) during the latter months of 2007 of which the last one on December 17 was entitled “Is this the end of the stock market party?”. Mr Market has provided the answer and it is a rather discomforting one. Yes, “the trend is your friend”, but only if you heed Mr Market’s warnings and appreciate that the stock market is in a downtrend. Be inordinately cautious with your investment strategy.


Source: Unknown

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The hot financial topic of discussion at the moment is the likelihood of a US economic recession. Against the background of a deteriorating economic landscape, it is not surprising that more and more commentators have started declaring that a recession was either already underway or just around the corner.

A noteworthy contribution to this debate has just been offered by Asha Bangalore, economist of Northern Trust. Her analysis deals specifically with the movements of the S&P 500 Index just prior to and during a recession. The leading/lagging properties of the Index, and by how much it changes during a recession, are summarized in the table below.

S&P 500 Index – peaks and troughs


Two major conclusions follow from Bangalore’s research:


The S&P 500 Index is a leading indicator par excellence. Since the 1950s, the Index has always peaked before the peak of a business cycle, with the 1980 business cycle being the only exception. The Index has established a trough prior to the end of a recession without exception.


The median percentage decline of the Index from its peak to trough was 16.9%.

By the close of the market yesterday the S&P 500 Index was down by 9.5% from its peak in October 2007. Although the expectation of a recession has been gaining support, it does not represent a consensus view by a long shot. Using Bangalore’s analysis of the historical relationship between the stock market and economic cycle as a guide, a rough ride could be in store in the months ahead.

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