FedUpUSA

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… confidence is lost.

After being down 634 points today the DOW futures are down 264 more overnight at this point, or approximately 900 points in less than 24 hours.

After being down a stunning 80 points today, the S&P futures are down another 28 overnight, or more than 100 in 24 hours.

Global confidence has been effectively shattered.  The outright lies of governments worldwide – that there was no need to de-lever, there was no need to take insolvent banks into receivership, we could spend more and more on “stimulus” programs along with social spending and that demand represented by deficit spending was all sustainable GDP – all is being exposed as an utter load of crap and the “valuations” these lies have supported are being systematically shredded.

There is no floor as things sit right now.  From a volumetric perspective we have broken key levels with the next serious support in the 900s on the S&P 500.

Price is now back to levels last seen in the early part of 2009 and if the market does not hold up there we are headed for the 666 lows and below.

This evening we are losing about ten points per hour in the overnight session, implying that we will lock-limit down at -50 on the S&P 500 before midnight!

The arrogance of our government – at all levels – has finally reached the point where the markets give the finger to it all.  What’s worse is that it’s not just us – it’s also Europe, where the willful and intentional refusal to deal with the peripheral nations’ problems have turned into a monstrous mess.

To put this in the proper perspective over the last ten trading days we have gone from 1328 on the S&P to 1081, a loss of nearly 19%!

The DOW has gone from 12458 to 10450 – a loss of nearly 20%.

The Russell is down more than 20%; that barrier, incidentally, defines a “Bear Market.”

The panic is not confined to the US and Europe, however.  We are now generating the same sort of panic worldwide!

All of this compels one to ask: Is this “the one”?   The detonation of the markets that results in the recognized entry to the Second Great Depression?

In my opinion, no.

Could it be?  Yes.  But that’s not the odds-on play here.

What I expected to see as indications in front of this decline didn’t happen, and the breakdown appears to be more driven by Obama and our Congress than anything else, along with the ham-handed ECB crap of the last few days than anything else.

The bad news?  The number of stops that have been cleared out – the people who have wildly thrown stocks over the transom during this plunge has cleared out what would have been bids on the way down.  We’re disgustingly oversold at this point to a degree that some of my daily indicators have a reading of “0″ – something that I have seen only replicated briefly last summer and during the depths of the collapse in 2008.  Not even during the terminal decline of early 2009 were these indicators pinned on the floor.  They are now.

The more-likely path is that these oversold conditions will produce a monstrous reflex move higher.  But in doing so those who shorted the market late or who sold out in disgust will both be caught on the wrong side of the move, and once again serious amounts of market liquidity will be destroyed.

No, what I believe is coming is that bounce, and then, some time not far in the future, the next move down is the one that doesn’t retrace.

Don’t get complacent.  It will be easy to do, if I’m right.  You’ll see 50, even 100 handles go on the S&P and perhaps as much as 500 or more points on the DOW.  You’ll think “it’s over” as there’s a relentless climb back from what looks like a date with The Devil.

If you are unprepared for what comes after that you will be wiped out.

Four charts cast a skeptical light on the Status Quo “stories” of endlessly rising equities and the doomed dollar.

Here are the Status Quo’s most important investment “stories:”
1) China will continue booming for decades
2) U.S. equities will continue soaring as profits continue rising
3) The U.S. dollar will continue heading down because Bernanke wills it to do so

I would love to believe these magical tales, but the charts cast a skeptical pall on the happy stories. Beauty and uptrends alike are in the eye of the beholder, so maybe you see uptrends in equities here; I don’t.

The chart of the SSEC Shanghai Index is downright ugly. The uptrend line has been decisively broken, and a giant pennant/flag pattern looks busted, too.

The SPX (S&P 500) has also busted its uptrend, and the fan pattern indicates a weakening trend off the March 2009 lows. Notice how the trendline that was support is now resistance–a classic technical sign of reversal.

The dollar’s slight uptrend was broken in Bernanke’s last-ditch effort to goose the equities market to a new high in April. Since then, the DXY has clawed its way higher while the indicators are showing positive divergence to the buck’s weak ascent.

There is great resistance just overhead above 76, as the trendline now offers resistance, as does the 50-week moving average. Those two are roughly aligning with the  upper Bollinger band.  On a slightly positive note, the lower Bollinger has turned up and the DXY has managed to hover at or above its 20-week moving average.

If the dollar closes decisively above 76.30, then Bernanke has lost control and equities are headed down: a dollar breakout will be in play.

Here is an analog chart of the Dow Jones Industrial Average from 1907 and the present, courtesy of Ron Griess and The Chart Store. Note the uncanny correlation of the two. Correlation isn’t causation,of course, so maybe the Dow will sprint to 15,000 from here. But this chart introduces the notion that if history and pattern-matching have any predictive value, the next move will be down.

The truism in technical analysis is that you can always find a chart or indicator to support your belief system. But if we look at these simple charts and simple lines without predisposed beliefs, then what story are they telling?

Of Two Minds

As I write this the DOW is down 178, the S&P is down 19, and the Nasdaq 100 is down 32, all well more than 1%.  In addition volume is more than 10:1 down on the NYSE and about 8:1 on the Nasdaq.

It’s a bloody day in the markets.

But one problem is apparent – the TNX, or 10 year Treasury bond interest rate, is actually up about 0.2% on the day, and the 30 year is up 1% in yield.

They shouldn’t be.

When investors get nervous about stocks, they usually flow to bonds.  Today, they’re not.  They’re buying Gold instead which is up just under 1%, or silver, which is up 3.2%, both on the day.

These correlations have been solid for a long time.  Now they’re failing.  This failure is telling you something – that our Congress and President had better get their heads out in the daylight instead of up their respective asses, and they better do it soon.

Oh sure, we’re not seeing the sort of out-of-control ramp in government bond rates that Italy has seen the last few weeks.

Yet.

But remember the 1930s.  A bank called Creditanstalt turned what was a nasty stock market crash and credit contraction into a global Depression.

Regulators then, as now, ignored the crash’s warnings and refused to force those who were not properly capitalized to close.  They allowed people to double into bad bets.  Those bad bets compounded, and when the economy started to slip for real, instead of just on paper, the leverage they were carrying, both that which everyone knew about and that which people did not, ultimately blew them up.

Now we have a “little bank” in Italy that is teetering on the same edge – Unicredit.  It is too big to bail out – it holds hundreds of billions in liabilities.  There’s no money available to bail them out and the time to resolve them, as with our banks, was two and three years ago.

The risks are extremely high here folks.  I know many have laughed at my warnings for the last three years and have hooted and hollered as the stock market “recovered”, buoyed by yet more cheap money.  But during this the coverage of government debt with employment has not recovered at all – in fact, it’s worse now by far than it was in 2008.

So now what’s available in terms of policy tools?  There’s no funds available to bail people out, and a bank of that size isn’t able to be bailed out anyway in reality – all you can do is lie and hope people believe it.  But the market is calling all the bluffs now, one after another.

Remember 2008?  Buffet was going to buy the world.  Then it was Korea’s Development Bank.  Both, and many more yarns that were spun, were lies.  Those who believed got skinned alive in the collapse that followed.

If you think it can’t happen again, you’re wrong.  It both can and will, and nobody will be held to account for the lies they tell, just as they weren’t the last time.

Our government isn’t helping.  We should have taken all the big banks into receivership and went through every one of their alleged “assets” in 2008, forcing them to prove by independent valuation that they were holding them at reasonable valuations and that their “credit insurance” was backed by someone with 100% of the actual cash required to pay.  We didn’t, because Paulson and Geithner both knew that under such a standard not one of the big banks would survive.

So instead of forcing bondholders to eat it, which is what should have happened, they rolled the dice.  They bet that there would not be another Creditanstalt.

This is now looking like a bet they are going to lose.

By Economic Forecasts & Opinions

Stock markets around the world cracked on Friday with the Dow Jones industrial average down more than 150 points (Fig. 1), and commodities plunging as Dubai debt woes unnerved investors, and sent tremors of uncertainty throughout all markets.

The crisis flared after Dubai, a part of the United Arab Emirates (UAE) federation, asked to delay interest payment for six months on $60 billion of debt issued by the state-run conglomerate Dubai World and its main property unit Nakheel.

Concerns that a government-backed investment company risked default ripped through world markets. Investors read it as a sign of yet another sovereign implosion after Iceland and Ireland, and recoiled from risk and piled into dollars.

Las Vegas on Steroids

Dubai World has served as Dubai’s main driver of growth, operating ports, transportation groups, spearheading real-estate & infrastructure projects both at home and abroad. Its real-estate subsidiary Nakheel built Dubai’s iconic palm-tree-shaped island, packed with luxury villas and hotels, many still under construction. Real estate and construction accounts for about 23% of Dubai’s GDP.

With little oil, Dubai financed much of this rapid real estate development with debt. After incurring its estimated $80-$90 billion of debt in a four-year construction boom to transform its economy into a regional financial and tourism hub, Dubai suffered the world’s steepest property slump in the first global recession since World War II.

Deutsche Bank estimates that Dubai’s property prices, both commercial and residential, have halved since August last year, and could fall a further 15-20% this year.

U.S. Banks Less Exposed

Most analysts believe U.S. banks are probably less exposed than European rivals to a potential debt default by Dubai World, but a lack of transparency and the interconnection of the modern financial system make it difficult to know which institutions are ultimately exposed.

Dubai World’s largest creditors are reportedly domestic banks in Dubai and Abu Dhabi. MarketWatch noted data from the Bank for International Settlements which put cross-border banking exposure for the UAE as a whole at $123 billion at the end of June. Of that total, European banks hold 72%, with the United States and Japan only holding 9% and 7% of the exposure, respectively. The United Kingdom is by far the biggest creditor with a share of 41%.

Reminder of Other Risks

On a global scale, Dubai World’s debt problem seems relatively minor, but it illustrates the impact from one tiny country in an increasingly interconnected world. The Dubai news also cast doubt over the strength of the U.S. economic recovery, and the prospects for a bottoming of property prices.

Commercial Real Estate

As pointed out in my previous article that the commercial real estate sector posed a much greater threat than the over-hyped “mother of all carry trades.”  The Dubai debt crisis further reinforces this viewpoint.

The potential for contagion from Dubai’s debt woes could further unhinge an already fragile U.S. commercial real estate sector, whose values have already fallen 42.9% from their 2007 peak, close to the lowest since 2002, according to Moody’s. (Fig. 2) The latest Moody’s projection is for prices to bottom at 45-55% below their peak, but could drop as much as 65% from their peak in a “stress case”.

As commercial property values fall, debt defaults rise. The $3.4 trillion outstanding in debt backed by commercial real estate poses a real threat to the recovery. Trepp LLC reported that last month, delinquencies on U.S. commercial real estate loans that were packaged into commercial mortgage-backed securities reached 4.8%, more than six times the year earlier level. Hotel loans, at 8.7% distressed, have begun falling into delinquency faster than any other kind of commercial real estate debt.

Write-downs and losses at banks around the world have risen to more than $1.7 trillion since 2007 as the credit crisis undermined the value of assets owned by financial institutions, according to data compiled by Bloomberg. Any further deleveraging and the resulting credit tightening from commercial real estate would impede the financial sector and probably derail the U.S. economy sending it into another recession. 

Housing Market Mortgage Crisis

So far, the appearance of recovery in the housing sector is being driven primarily by reduced prices combined with federal programs to lower mortgage rates with the goal of bringing more buyers into the market.

Based on a study released by Zillow.com, the foreclosure crisis has moved beyond subprime mortgages and into the prime mortgage market. (Fig. 3) While subprime borrowers are still a factor in the current foreclosure epidemic, it’s becoming increasingly apparent that the weak labor market is the driving force behind the mortgage crisis we face today.

According to the Mortgage Bankers Association, one in seven U.S. home loans was past due or in foreclosure as of Sept. 30, putting that quarterly delinquency measure at its highest level since t

he report’s inception, 1972, and up from one in ten at the beginning of the year.

The continued surge in delinquencies suggests that a recovery in the housing market could be hindered by the weak job market as well as by further fallout from the easy money and loose lending practices of the past. The foreclosures and delinquencies are expected to keep rising well into 2010, not leveling off until the unemployment rate starts to moderate.

In a study by First American CoreLogic found that one in four of all U.S. mortgage-borrowers owe more than the value of their properties in the 3rd quarter. And many experts didn’t expect U.S. home prices to hit bottom until early 2011, perhaps falling another 5-10%, as more foreclosures get pushed onto the market.

Negative equity is another outstanding risk hanging over the mortgage market.

Dubai Is No Lehman

The circumstances behind Dubai’s moves are murky, making it hard to gauge the exact risk to the pertaining bonds and Dubai’s own general creditworthiness. UBS cautioned that Dubai’s overall debt “might be higher than the generally assumed $80 billion to $90 billion, due to potential off-balance sheet liabilities. These could include unlimited and unquantifiable amount of credit default swaps (CDS) and other derivatives against the underlying assets, and once unraveled, could potentially erupt into a subprime-like crisis.

The current expectation; however, is that there’s a good chance that Dubai’s problems will probably prove a local issue. Most likely, Dubai, or its neighboring emirate, Abu Dhabi, won’t risk tarnishing their images and reputation further, and will come up with a reasonable resolution.

Even if Dubai goes into sovereign default, the amount is probably not enough on its own to threaten the financial system since any actual losses would be a fraction of the total. So, the problems in Dubai are unlikely to be as serious as last year’s Lehman Brothers collapse, nor is it a reflection on the ability of emerging markets to lead a global economic recovery.

Rational Expectations?

But Dubai could well spur a broader crisis of investor confidence in overly leveraged economies as market confidence world-wide is still fragile from the severity of the financial crisis.  The debts of many emerging markets have risen even further as the countries governments have fought the ravages of the global recession by issuing more stimulus debt to fill the gap voided by private investment.

The spread of credit-default swaps on developing-nation’s bonds jumped 14 basis points after the Dubai news broke, the most in a month, to 3.24 percentage points, according to JPMorgan Chase & Co.’s EMBI+ Index. There is also a clear sign of potential contagion effects of global risk aversion on basically all risky assets, with the dollar and yen being the prime beneficiaries.

Rational expectations or not, for now, the Dubai crisis is simply a reminder that the severe global recession has relegated much debt to near junk status, and there still remains a high degree of uncertainty as to the percentage recoverable on all outstanding debt which is going to be coming due over the next 5 years.

Despite some seminal signs of green shoots in the news headlines during this 9 month liquidity driven rally in many asset classes around the globe, we should be reminded that all that glitters is not gold, and that the global economic recovery is still on shaky ground.

#  “I know the odds are against me, but if there’s a win I’m gonna find it!”  ~Goku  #

Economic Forecasts & Opinions