Spare a (brief) thought for the investment bankers of Bear Stearns, who in a week have seen their career prospects and financial nest-egg both evaporate in the heat of the credit meltdown. Masters of the Universe indeed. Bear was unpopular on Wall Street (remember when they alone refused to play ball on the LTCM bailout in 1998?) so Schadenfreude will be the dominant emotion, as with the bizarre demise last week of the even more disliked NY governor. The one positive is that the swift and ruthless dismemberment of the firm stands in stark contrast to the bungling indecision over the Northern Rock rescue in the UK. In the great scheme of things, Bear's demise in no big deal as a decidedly second tier player, whatever its delusions. Hedge funds abandoning BS as a too risky a prime broker were the death knell; rumours that many of the self same funds were short Bear stock are all too credible and as with the wild speculation in commodities indicate the destructive influence funds are now having on broader market stability. In fact it seems only a matter of time before one of the leading US hedge funds like Citadel or Fortress ends up buying a bombed out investment bank, simply as an arbitrage opportunity (Lehman anyone?). Despite the frenzied gloom of the Catastrophists andGold Bugs, insolvency events like Bear or Carlyle while destabilising, are no prelude to a new Depression. But is this then a cathartic moment for the markets, at least near term?
1. This is almost certainly the end of Wall Street's 25 year economic ascendency over the corporate and political elite in America. Transaction driven financial capitalism is broken and it is taking aggressive state intervention to stave off a catastrophic failure of trust, a fact which will be lost on none of the prospective Presidential candidates or Congress. Expect some new version of the repealed Glass-Steagel Act separating commercial and investment banks to be restored in due course as an element in wide ranging re-regulation.
2. One source of relief is that most major companies ignored Wall Street's aggressive insistence to gear up balance sheets, and so enter this slowdown in generally excellent financial shape.
3. When the dust has settled, expect the Fed's mandate to be expanded to include the bursting of asset bubbles, because recent history has shown forcefully that markets are inherently prone to excess and implosion. Alan Greenspan's laissez faire philosophy created an asymmetric risk environment and dangerous subsequent instability. 'Irrational exuberence' will have to be agressively curtailed in future cycles by regulatory intervention.
4. The US markets are now discounting a material recession in GDP growth and earnings, yet with the oversold dollar and interest rates at current levels is better placed than the Eurozone or Asia to cope. Investor sentiment readings/newsletter bullishness are at the lowest levels since early 2003, while media headlining of recession has spiked to 7 year highs, another reliable contrary indicator.
5. The negative yield on TIPS, sub 1.5% 2 year Treasury yields, CDX investment grade bond spreads hitting 200bp and Gold at over $1000 are all historic indicators of extreme risk aversion that support the possibility of a sharp rebound. Technically the S&P looks close to a tradable bottom in the 1240-1275 range where it stands almost 300 points below the large top formation from last Autumn and 200 points beneath the LT moving average at 1425. Bear market rallies can be ferocious, and it certainly looks too late to go short. If, as I suspect the commodities bubble which has fed inflationary expectations is on the verge of a dramatic sell-off, odds are that a substantial bear market rally (10% plus) in US equities is now imminent.
Sphere: Related Content
Posts
