The REAL Problem With The Downgrade


I’ve not heard this yet in the MSM, and it’s a serious miscalculation.

Note that since the “downgrade” rumors started the ten year treasury yield has dove.  You’d think it would do the opposite.  You’d be wrong.

The issue with the downgrade is not the fundamental risk of holding Treasuries.  The difference between “AAA” and “AA+” is nearly immaterial.

Rather, the problem is the capital calls it will generate within the banks and the impairment against capital from stock price declines.

We’re now back to stock prices last seen in October – in less than two weeks.

The real problem though is in bank stocks like this:

Note that given the utter fraud of allowing a bank to count “equity value” as capital, when it cannot be spent and is subject to 10% or more swings in value in a single day, means that precipitous stock price drops like this can instantly render a bank insolvent.  We could have fixed that in 2008 and 2009 but of course that would have meant that banks would have had to actually go find capital from real people to make loans with, and that was unacceptable – so in addition to allowing them to “mark assets to fantasy” we also allow them to count as “capital” things you can’t spend, thereby allowing them to generate profits from that phantom “capital” – and huge losses when the deception is revealed.

Incidentally that very scheme – counting as “money” things that aren’t (in the original case capitalized interest on OptionARMs) was what set off my alarm bells on WaMu in early 2007.  If you remember they were paying out dividends (that’s real cash!) with “money” that didn’t actually exist (their cash earnings were insufficient; the rest of their “earnings” from which dividends were being paid was that capitalized interest.)  Of course we know how that turned out, right?  Yes, it took a while, but the outcome, given the behavior and enough time, was obvious more than a year before it all went to hell for them.

Oh yeah, check this out: 13/34 EMA on the SPX weekly is about to cross negative – a fairly reliable long-term BEAR MARKET timing signal.

Stock prices in general don’t bother me much – you can trade either way. 

But if the banks threaten to blow again due to capital problems there is no ability to save them this time and you will lose your deposit money as the FDIC has no money and Treasury cannot borrow enough with the debt limits in the way to save even one of these monster banks, say much less all of them.

Discussion (registration required to post)