Friday, August 31, 2007

Et tu, September?

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Amazingly, the indexes were (drumroll) up for the month of August. After all that craziness. Go to this page and hit the button to the far right of the 2nd row "Hallelujah" (yes I wish I had one of these in my house)

Now for the road ahead. While October has historically had some of the scariest 1 day market events ... by "events" I mean down days so severe it will make parts of August 2007 look like child's play, September is actually historically the worst month of the year. 'Investment Postcards From Cape Town' blog shows this in graphical form with an entry here. When I see that, I want to hit the top 2 buttons to the far right of row 1 of the Cramer sound board.

Generally I put little stock in these things such as, the 2nd summer of a presidential cycle when an AFC team wins the Super Bowl, is a great time to buy. Blah blah. But the underperformance of September versus every other month of the calendar year is... interesting.

The more I chew on things the more I am worried about a market 'event' that won't make us trading on the long side too happy. Maybe this is the constant worry wart inside all people who have been in the market for more than 3 years.

But this is the ledger as I see it, and the roadmap ahead:

The Bad
* We are in inning 2? 3? of a housing correction
* Home prices are sticky; as homes are illiquid. We are just now seeing the first serious falls, and these drops so far, seem minor versus what should be coming down the pike in the most overheated of markets, as prices are so out of whack with income it's silly.
* The supply of buyers is constrained by much tighter mortgage standards - leading to pure economic theory, less supply of buyers, increasing supply of inventory = not good for prices. I mean really, who can afford a $500K mortgage in CA with a fixed rate of 6.25% fixed? That's a $3100 payment, before property taxes. There are only so many people in this country who can afford that. I'd argue a very small amount. Oh and did I mention jumbo rates are north of 7%? I am being generous with the 6.25% rate. The same example applies to the $400K mortgage in Seattle and northern Virginia, New Jersey, Hawaii, Boston, the $350K mortgage in Arizona, Nevada, Maryland, Chicago, Portland, Denver. Where will these people come from? When they cannot resort to interest only 2/28s?
* And after we bail these people out (not with Bush's plan, but with the next generation of Bush's plan that will need to be created), who is going to be able to afford to buy those homes when these bailed out owners want to sell? Or after the bailout will they be content to sell for $150K less?
* When people even in good financial shape see weakness in housing they also naturally get cautious and retrench on their plans to buy, and this feeds on itself (you go first... no you go first... no you... someone buy this house!)
* The retail "my house is my ATM" play, seems to be over. Retailers already foretelling this; remember stocks are discount mechanisms for the near future (6+ months out). Yes people have been calling this for years, but our consumption culture has always made them look like fools. But with the spigot of the ATM as a house now truly gone, people won't be able to refinance their credit card debt into a new mortgage. (and keep repeating every 2-3 years)
* Even those people who have no plans to sell their home, feel poorer on paper, and hence have natural tendency to tighten spending when feeling less flush in cash, even on paper.
* Same point above but in regards to stock market gains - how will they feel with a potential 15% correction in stocks? More retrenchment?
* Grocery inflation as this ill begotten push for ethanol (using inefficient corn) is rifling through feedstock, corn syrup and any of the thousands of items which use corn as a basis, and now seeping to the end consumer.
* Commercial paper market still extremely dysfunctional
* Bush's aid plan is going to help less than 100K out of millions who will be suffering in the home market
* The fact that free market Bush is even alarmed enough to come up with any sort of plan. Free markets are great... until something goes bad, I guess. Even for Republicans.
* Construction jobs - they are going to be accelerating into an abyss. Granted, some portion is illegal workers who were never on payrolls (official ones, that is) in the first place. But this is a trailing indicator. Who needs more homes when inventory is >9 months, on the way to ? 12?
* Mortgage jobs - huge cutbacks already announced and will be filtering through the future unemployment reports
* Financial jobs - we should start seeing lay off notices soon enough (next week?) I already read that across the pond there are cuts in credit departments already hitting. If we go back to pre 2004 levels of 'credit' (revert to the mean?) what does that mean?
* For those that remain, their year end bonuses will suffer. This year will be down, but NEXT year looks to be really down, as entire departments will no longer be needed/existing. What does this mean for the NYC and affiliated areas high end real estate market? I know, I know, those poor millionaires...
* Earnings cuts in the financials - just started getting downgraded this week by the analysts - how are they even going to be able to provide guidance in October when the location of all this credit risk is in many ways unknowable (how do you tell what % of loans in a CDO you own is going to default in the next 2 years?) We are probably looking at earnings revisions down #1 of a multi step downgrade program in these names.
* Internet ad spending down as financial companies provide a large bulk of it. Could Google disappoint? Psychological blow of all blows - the teflon stock of our era missing?
* China looking like an exact mirror to NASDAQ 1999-2001? New bubble? The Shanghia Index over 5000, was only 4000 just over a month ago, and almost 100% up in 6 months? 50 PE on an index? Oh and a large portion of those earnings are investment gains, not operational earnings. With a country full of newbie investors who have never been through any bear market? Remember what happened when China fell just 7% in Feb 2007.

I could go on, but I am getting depressed....

The Good
* Big Ben has a mighty white horse and has been shining his armor and is ready to arrive and with a simple few cuts, will solve all problems
* Presidential candidates will be jostling to propose bailout after bailout, inciting moral hazard issues up the wazoo. (It was a stretch to put this on the good side but I needed at least 2 items to consider this an official list)

And I think that's about it for that side. I guess you can throw out the 'natural resiliency of the US financial markets and economy' but will that really be a salve in next 6 months?

Conclusions
Now I like Ben; in fact so far, I like Ben a lot. I think "come to the rescue" Al would of cut at least twice by now and maybe even a 50 basis thrown in there for 1 of the cuts for good measure. Heck, the market could of been at 15K by now if Al was still around. But that would not erase what is going on behind the scenes.

The one pillar that has been the bullish bedrock is employment. It's still at a high level; the unemployment rate still is low (granted many people are underemployed and working 2 jobs to pay for groceries and energy costs), but this is the number in my book to watch. With the financial industry from mortgages, to construction, to fancy investment bankers all at risk now.... hmmm. And with every lost job is a small ripple effect on other parts of their local economies.

So I guess it comes down to:
101 reasons things that could cause downward dislocation and potential 08 recession or at least dramatic slowdown

vs

Ben on a white horse along with government bailouts by frantic politicos who keep asking why does something like this happen every 5 years (answer: because the people buying you... err paying for your election drives generally profit from these excesses, and hence we never get preventative measures, just reactive and far more expensive 'solutions' after the fact).

Did I mention September is historically not a great month? Aye!
I hope this is not us in a few months

Continued building my ETF shorts today....

If you think I am a worry wart and all this is hot air, tell me why in comments and why you think this will all blow over in a few months.....

Enjoy the weekend, and time to buckle up for the months ahead....

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