TB’s Quote of the Day: “I can no longer mentally prepare for a game. If it was just a matter of playing for 3 hours on a Sunday, a lot more people could do it.” -Brett Favre. This is the greatest athlete we have seen in years…he played the game with pride and for a love of the game, not the money, not the fame. “I only got the attention due to my visibility.” Now that is humility. TB wonders how many on Wall Street can say they prepare for each day…or is it just a place to work 9 to 5 (EST) and get rich quick? Think about that…all money managers should too. TB
…the dollar index is new lows again overnight after hitting a record low on the index last night while the converse is true with the Euro which has surged above $1.54, Sterling is above $2.01 and the Yen is just under 102. We do indeed live in interesting times. More problems too with hedge funds while government bonds rally strongly ahead of the March payrolls reports. On the bright side the municipal bond market seems to be stabilizing and is indicative of at least some relief for the auction rate securities market which will be nonexistent by this time next year. Rep. Cummings (D) MD, on CNBC this morning attacking CEO’s who got us in this mess and have walked away with golden parachutes …especially railing at Mozilo. Now watch as the investigations and lawsuits begin! Anyway, let’s get right to it, shall we?
Today’s topics:
1. Mortgage market
2. Hedge fund woes
3. Municipal bond and auction rate markets in disarray?
4. Energy sector
1. Mortgages. You cannot separate, thanks to the wonderful world of derivatives, the monoline insurers because they are exacerbating the problems. Investors (and speculators) hold credit default swaps on companies and counterparties involved in the market and we all know their problems. Michael Callan, Chairman and CEO of AMBAC (ABK) on CNBC this morning talking after raising $1.5B from “private equity” firms. Now get this: he says there is “no possibility” of failing to pay claims and that when you design an airplane you build it to be able to hold 100 when you only plan to carry 10 (TB isn’t sure if this is a statement on the condition of the airline industry), and that they have $16.5B in reserves for a worst case scenario of a $12B loss…wait there is something wrong in those ratios. IF they paid out $12B who would use them as an insurer with just $2B in reserves on several hundred billion in insured derivatives and municipal bonds. The capital was raised at $6 a share at a 20% discount to last nights close of $7.42. He says it may take months to regain confidence (years? ever?). The investors were not disclosed as he says they didn’t have permission to do so…but you can bet it is those with the most to gain…private equity? We’ll see. TB says they still need to split all monolines into two companies!
Now let’s go across the pond to the Netherlands to Carlyle Capital a hedge fund based there and briefly mentioned in the discussion of Thornburg Capitals ’event of default’ in missing a $28B margin call to JPMorganChase and of course the rule is one fail all fail with respect to the other creditors. Carlyle flew right under TB’s radar screen as it is owned by the Carlyle Group who is busy pumping in more capital. Carlyle, better known as the ex-President’s club and TB has likened to Bond’s nemesis SMERSH, is global in nature and has among investors Bush 41, John Majors, James Baker, and others including Colin Powell (TB still wondering where he got the capital to join this club). Their claim to fame is they have no lobbyists…when you can pick up the phone and call any political leader in the world who needs lobbyists? Some past articles on their performance by The Guardian indicate that their expertise is in their contacts not in their investment prowess…for example they have done very well investing in defense, but not so good in hedge funds or other investments…get the picture?
So with nearly 300 mortgage companies out of business…and more than a few lost jobs as a result…it is no wonder that we have a problem especially as applications rise by applying to several lenders and we have delinquencies and foreclosures rising to levels not seen in at least 20 years while we learned yesterday that homeowners equity has fallen below 50% of the property value for the first time since 1945. Think about that year for a minute…in 1944 FHA/VA was established offering zero down loans (w/private insurance) as soldier returned home…BUT home values were rising rapidly then, not plummeting. By the way the rate on those was 4%, courtesy of his friend the mortgage broker, who by the way is disgusted with the entire industry from realtors, to banks, to appraisers. He is straight arrow!
2. Hedge Funds. January was the worst month on record for hedge fund performance (that is not to say there weren’t some winners). In January and February, hedge fund inflows slowed to about 2.5B or about 1/10 of the inflows in November! Are you getting the picture? If not, look at this from FT:com:
Fears over the health of the financial system intensified on Thursday as forced selling and margin calls at hedge funds sparked acute stress in many areas of the fixed income markets.
Equity investors also reacted to the strains, with the bear market in US bank stocks entering new territory. The S&P 500 financial index fell to its lowest level since May 2003 after sliding more than 30 per cent from last year’s peak.
In the fixed income sphere, stress is most acute in the mortgage, corporate, municipal bond and interest rate swap areas. Credit default swap spreads for banks, including Citigroup, JP Morgan, Bank of America and Wachovia reached record wide levels. Meanwhile, broad measures of investment grade default risk hit record wides in the US, Europe and Japan.
Tom di Galoma, head of Treasury trading at Jefferies & Co, said: “There is an extreme lack of liquidity and markets are being moved by liquidation fears and margin calls. Funds are being tapped on the shoulder and it seems there is no margin for slippage when it comes to a margin call from the banks.”
In a sign that risk managers at banks are calling the shots, Lehman Brothers announced it had suspended two equity traders after discovering “issues” with some of their trades.
This followed a statement from Carlyle Group on Wednesday that its mortgage bond fund had missed margin calls and had received a notice of default.
Forced selling is hitting the US mortgage market particularly hard, as investors are unable to discern when home prices will stop falling and foreclosure rates will ease.
In turn, swap spreads, which are a measure of the difference between Treasury and money market collateral and seen as a barometer of bank counterparty risk, scaled new territory.
The two-year spread reached a record peak of 111 basis points. That eclipsed a brief rise above 100bp in December when year-end funding pressures were paramount.
“De-leveraging, zero appetite for risk, capital preservation, and extension are all keeping money away from spreads and mortgage product,” said TJ Marta, strategist at RBC Capital Markets.
Elsewhere, the majority of short term municipal debt auctions continue to fail, as banks no longer support active trading of markets, given their rising balance sheet constraints.
Equity investors have taken notice and the S&P financials sector fell to a low of 323.25 on Thursday, below January’s nadir of 328.10.
Analysts are increasingly calling for a Federal bailout of the mortgage market in order to stem the rout that has rippled across markets and now threatens the broader economy.
UBS head of floor trading Art Cashin on CNBC reporting that a hedge fund folded yesterday that traded middle grade SWISS stocks! Now it is getting serious.
3. Municipals/ARS. More failed auctions which are running well over 50% but as TB predicted, the markets are working their way out of it. Yesterday with rates on State of Cal 35 day resets running around 5.5%, at least two issues of Cal Water Resources were called as they had relinked and issued the bonds. The calls will be effective at the next reset date which will be shortly before the tax date. This is really good news. Meanwhile, investor demand is strong for long muni’s with yields a hundred basis points or more over UST and they are coming in rapidly…but a caution: this will remain in flux as supply and demand rises and falls.
4. Energy Sector. Some of the biggest losers yesterday were oil stocks. Exxon Mobil (XOM) was the biggest loser in the S&P 500 subtracting 17 points…huge! See summary below under NYSE Energy Index for some of the other big losers. Even oil services, as measured by the Holders (OIH) have been ratcheting around $180 since last June! So far they have been great trading plays but going nowhere overall. What was interesting in yesterday’s selloff was while TB can understand weakness in refiners (which has existed for some time), and to a lesser extent the integrated oils, with crude at record highs why were even the oil producers hit hard? TB heard someone say yesterday that they would remain overweight energy but not sure how good it will perform. Keep in mind in a rout you sell what you can sell…not what you want to sell.
TB fears that this will be one ugly day that will haunt us for some time to come. It isn’t the end of the world…it just feels like it. We are seeing the unwinding of 25 years of excesses.
TB
Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC March 7, 2008
