It is too late to avoid a depression in the US now. If the steps taken today were taken 12 months ago, right after the collapse of Bear Sterns, there would have been some possibility of an eventual turnaround. But the authorities ignored all the signs of impending economic calamity, dismissed the gigantic and interconnected risk structures of the past era as a market mechanism, and when that mechanism attempted to correct itself, they did not allow it to liquidate the bankrupt sectors. And now, by sustaining the tumour, they ensure that the cancer will do long term damage.

The government and the Federal Reserve are trying to make the American people spend like they were doing in the past, but unlike the past, there’s no credit, no secure jobs, no appreciating asset markets to back their exhortations. In response, Americans are saving like they have not done for quite a while. The dream is that ghe government can make people spend by simply giving them money; a foolish proposition disproven by the decades-long slump of the Japanese economy, and the various stagflationary periods of different nations.

There are two types of economic boom. One is created by expanding money supply and government action. The other is caused by fundamental factors such as technological innovation, or the global spread of productivity-enhancing techniques and tools. The former only creates illusory periods of speculative inflation, and its consequences are destructive, not creative. The latter can also fuel speculative activity, but it’s impact is usually long-term, and positive for the society at large. Our pessimism for the next 5-10 years is due to the fact that there will be a lot more monetary expansion than productivity-driven growth during the period. And the consequences of that will be turmoil, conflict, poverty, and despair.

As the sole remedy, we would be much more optimistic if China could be made to unleash its potential in a healthy manner. But given the attitude of the government, and also the traditions of the China people, we have grave doubts about the credibility of the “China-saves-the-world” scenario.

Yes, the stock market is rallying right now. Commodity markets are also rallying, and even shipping rates have been rising for a while. But we ask the reader to keep our word in mind, and to come back here a while later to check if we have been right or not: these episodes in all these markets are but bouts of volatility, created by the disappearance of the many liquidity-generators. The up-up-up markets of the past were an aberrance, and now we’re back to a normal situation where volatility complicates trading decisions, and economic analyis.That the economy will be in a slump for many years to come is a certainty. How much money the governments will print in their futile endeavour to resurrect a dead banking system in a deflationary environment is uncertain. Consequently, it is not possible to know if the price of a barrel of oil will be 1 USD, 10 USD, 100 USD, or 1000 USD, but until real liquidation and consolidation reshape the global financial system, volatility will remain high, real GDP growth will be low, and ROI in general miserable. We’d willing to bet one million dollars on this conjecture.


We’re now having a Thanksgiving holiday for the markets. Indeed, there’s a slight chance that we’ll see a bear market rally in the coming weeks, the realization of which will depend on the success of central banks in easing year-end funding issues. A lot has been done, and at least for me, it’s hard to predict the outcome. Nevertheless, today’s developments in the interbank market do not emit positive signals:

The cost of borrowing in dollars for one month in London jumped the most since 1999 as banks sought to bolster balance sheets through year-end amid a squeeze on credit that’s being exacerbated by the global economic slump.

The London interbank offered rate, or Libor, that banks say they charge one another for such loans climbed 47 basis points to 1.90 percent today, British Bankers’ Association data showed. The Libor for three-month loans rose two basis points to 2.20 percent. The Libor-OIS spread, a measure of the willingness of banks to lend, also increased.

“There is some concern about the turn of the year,” said Patrick Jacq, a senior fixed-income strategist in Paris at BNP Paribas SA. “I wouldn’t be surprised to see this tension easing over the next few days as central banks address the situation with more liquidity.”

With little more than a month to go until the end of 2008, banks are vying for loans that mature after Dec. 31 to strengthen their balance sheets as they prepare to report to investors. Financial institutions mark the value of loans and cash positions at the end of each quarter. The euro interbank offered rate, or Euribor, for one-month loans rose 22 basis points to 3.61 percent today, the first increase in 24 days, according to the European Banking Federation.

Cash Hoarding

Banks and companies are hoarding cash amid concern interest-rate cuts and injections of liquidity along with government-spending programs won’t be enough to avert the worst global recession since World War II. Rates on U.S. commercial paper, or short-term company loans, climbed yesterday by the most in more than a month.

The Federal Reserve this week committed as much as $800 billion to thaw a freeze in credit for consumers and small businesses. The U.S. also provided a $306 billion rescue to Citigroup Inc. Financial institutions are cutting jobs amid $970 billion of writedowns and credit losses since the start of 2007.

Asian Rates

Money markets began seizing up in August 2007 as banks became wary of lending to each other on concern their counterparties were holding assets linked to U.S. subprime mortgages. They froze up after the Sept. 15 collapse of Lehman Brothers Holdings Inc. sparked concern more banks would follow. The one-month dollar rate jumped 40 basis points on Nov. 29 last year as banks sought cash for the year-end.

Asian financing costs were calmer today. Hong Kong’s three-month interbank lending rate, Hibor, rose about five basis points to 2 percent. Tokyo’s rate increased one basis point to about 0.87 percent. Singapore’s three-month U.S. dollar rate, known as Sibor, slipped to 2.20 percent, from about 2.21 percent.

China’s central bank yesterday lowered its one-year lending rate by the most since the 1997 Asian financial crisis, less than three weeks after Premier Wen Jiabao unveiled a 4 trillion yuan ($586 billion) stimulus plan.

‘Toxic Debt’                                                       

In a further indication of the squeeze in lending, the European Central Bank registered almost 217 billion euros ($280 billion) of cash deposited by banks yesterday in its overnight facility. It was the sixth straight day the figure surpassed 200 billion euros. The daily average in the first eight months of the year was 427 million euros.

The Libor-OIS spread, a gauge of cash scarcity among banks favored by former Fed Chairman Alan Greenspan, was little changed at 178 basis points. The difference between what banks and the Treasury pay to borrow money for three months, known as the TED spread, widened two basis points to 217 basis points. The spread, which reached a low this year of 76 basis points in May, was at 464 basis points on Oct. 10, the most since Bloomberg began compiling the data in 1984.

Hedge fund liquidations and redemptions, of course, continue unabated:

Bluebay Asset Management Plc dropped the most since its initial public offering two years ago after the manager of fixed-income investments said it will shut down its Emerging Market Total Return Fund.

The $1.2 billion hedge fund, which accounts for 6 percent of assets under management, had dropped 53 percent this year, Bluebay said today in a statement. Fund manager Simon Treacher resigned “following a breach of internal valuation policy,” it said. He couldn’t immediately be reached for comment.

“Marketing other funds may now become very difficult,” said Gurjit Kambo, a London-based analyst at Numis Securities Ltd. who tracks the industry. “People become more nervous about putting money into Bluebay.”

Bluebay won’t retreat from credit-market investments despite “extremely challenging” conditions, Chief Executive Officer Hugh Willis said in the statement. Satellite Asset Management LP and Artemis Asset Management joined the list this week of more than 75 hedge funds that have liquidated or restricted investor redemptions since the beginning of the year.

Bluebay declined 30 percent to 70 pence, valuing the London-based company at 135 million pounds ($208 million). The shares, which peaked at 568.25 pence in June 2007, have fallen 80 percent this year.

The Emerging Market Total Return Fund was hurt by “liquidity conditions” and is no longer viable on its own, Bluebay said. The closure means that revenue from funds that bet on both rising and falling share prices will probably be below analysts’ estimates, Bluebay said.

The fund was hurt by “a perfect storm” after two wrong bets on cash bonds and credit default swaps, Kambo said. The value of cash bonds failed to rise as Bluebay expected, and credit default swaps narrowed, meaning the perceived risk of default decreased, he said.

Satellite Asset Management LP, founded by former employees of billionaire George Soros, stopped client withdrawals from its three largest hedge funds and eliminated more than 30 jobs after losses reduced the firm’s assets to about $4 billion this year.

Satellite Overseas Fund Ltd., Satellite Fund II LP and Satellite Credit Opportunities Ltd. have declined as much as 35 percent in 2008, said a person with knowledge of the funds’ performance. Simon Rayler, Satellite’s general counsel, declined to comment and wouldn’t disclose how many people remain at the firm’s New York headquarters or London offices. Satellite oversaw about $7 billion for clients at the end of last year.

More than 75 hedge funds have liquidated or restricted investor redemptions since the start of the year as they cope with fallout from the global financial crisis. Investors pulled $40 billion from hedge funds last month, while market losses cut industry assets by $115 billion to $1.56 trillion, according to data compiled by Hedge Fund Research Inc. in Chicago.

“Barring volatility in the markets, I expect that by the end of the year, we would’ve seen the bulk of these redemption suspensions done,” said Ron Geffner, who represents hedge funds at the New York-based law firm Sadis & Goldberg LLP.

Satellite was started in 1999 by Lief Rosenblatt, Gabe Nechamkin and Mark Sonnino, who worked together for 11 years at Soros Fund Management LP in New York. The firm is retaining teams that trade bonds and loans and invest in companies going through events such as takeovers, said the person, who asked not to be identified because the information is private.

21% Redemption Rate

The company has received withdrawal notices, which are effective through June, for 21 percent of the $2 billion Satellite Overseas Fund Ltd., its largest fund, the person said.

Satellite has cash to meet current redemptions and will continue to run the funds and sell securities over a period of years to avoid unloading them quickly in slumping markets, the person said.

Commodities keep falling too. Of course with the investments of the past two years

Lead fell to a two-year low in London as reductions in automobile production erode demand for the metal used mostly in car batteries. Copper declined.

U.S. vehicle sales at the lowest since 1991 prompted cuts at General Motors Corp. and Ford Motor Co. China’s output of lead concentrate, used to make refined metal, climbed 14 percent in the first 10 months, according to Mainland Marketing Research Co.

“Investors and consumers have given up,” said David Thurtell, an analyst at Citigroup Global Markets in London. There is “a sharp rise in Chinese production and a sharp fall in auto demand.”

Lead for delivery in three months declined $81, or 6.8 percent, to $1,105 a metric ton on the London Metal Exchange, the lowest since July 2006. Prices have dropped 57 percent this year. Inventories in warehouses monitored by the LME rose 250 tons, or 0.6 percent, to 41,200 tons, according to the exchange’s daily report.

Copper fell on concern a slumping U.S. economy will crimp consumption of Chinese imports and demand for industrial metals in the Asian economy. Some economic indicators in China showed a “faster decline” this month, National Development and Reform Commission Chairman Zhang Ping said in Beijing today.

Copper usage in the U.S., the largest buyer after China, fell 9 percent in the first eight months and demand in China rose 13 percent, according to the International Copper Study Group.

“Over the last month or so, the perception is that China was slowing down faster than people thought it would,” said William Adams, an analyst at London-based “The Western world is putting on the brakes rapidly and therefore China can see their export demand will suffer.”

And yesterday China cut rates by the largest amount in 11 years.

China’s biggest interest-rate cut in 11 years highlights government concerns that the country risks spiraling unemployment, social unrest and the deepest economic slowdown in almost two decades.

The central bank yesterday lowered its benchmark one-year lending rate by the most since the 1997 Asian financial crisis, less than three weeks after Premier Wen Jiabao unveiled a 4 trillion yuan ($586 billion) stimulus plan.

“China’s trying to draw a line under unemployment and civil unrest,” said Glenn Maguire, chief Asia-Pacific economist at Societe Generale SA in Hong Kong. “It’s the most challenging set of circumstances Beijing has had to face since late 1989 that culminated in the protests in Tiananmen Square.”

About 1,000 police and security guards this week attempted to break up a demonstration of fired workers that overturned a police car, smashed motorbikes and broke company equipment in southern Guangdong province, the state-run Xinhua News Agency reported yesterday. The nation’s “top policy priority” is maintaining growth to create jobs, Zhang Ping, chairman of the National Development and Reform Commission, told a briefing in Beijing today.

The central bank cut the key one-year lending rate 108 basis points to 5.58 percent. The deposit rate fell by the same amount to 2.52 percent.

‘Forceful, Fast’ Measures

China vaulted past the U.K. in 2005 to become the world’s fourth-largest economy, with growth averaging 9.9 percent for the past 30 years. The economy has expanded 68 times in size since free-market reforms began in 1978.

Gross domestic product may grow 5.5 percent next year, the slowest since a 3.8 percent expansion in 1990, CLSA Asia Pacific Markets forecasts. That compares with an 11.9 percent gain in 2007.

Some economic indicators declined more quickly this month, showing the urgency of “forceful and fast” measures to stimulate growth, the NDRC’s Zhang said.

China, the world’s most populous nation, is aiming for at least 8 percent growth to provide jobs for workers moving to the cities from the countryside. A decline to even that level would be tantamount to a recession, according to Tao Dong, chief Asia economist with Credit Suisse AG in Hong Kong.

Exports are suffering as recessions in the U.S., Europe and Japan cut demand for China’s toys, sneakers and computers. Net exports — the difference between exports and imports — accounted for a fifth of GDP growth last year.

Toy Exporters

Two-thirds of small toy exporters closed in the first nine months of this year, the customs bureau said this week.

“Employment is being impacted by factory closures and many migrant workers are returning to their home towns,” Zhang said.

China is trying to keep the official urban unemployment rate below 4.5 percent this year, which would be the highest in at least a decade. The Labor Ministry says the figures don’t account for millions of migrants who work in urban areas but aren’t registered there.

“Twenty percent of migrant workers may lose their jobs and in some provinces it is already at that level,” said Andy Xie, an independent economist in Shanghai who was formerly Morgan Stanley’s chief Asia economist. “When they return to their villages we don’t know how these things might work out.”

Deflation Risk

The size of the rate reduction also signals the central bank’s concern that the economy faces a bout of deflation as oil and commodity prices drop. That’s a switch from the first half of this year, when Governor Zhou Xiaochuan was focused on fighting inflation that rose to a 12-year high in February.

“The aggressive rate cut is a response to the central bank’s concern about the short-term deflation risk,” said Xing Ziqiang, an economist at China International Capital Corp. in Beijing, who predicts another 108 basis points of rate reductions in the coming year.

“There is still ample room to cut rates in the future,” said Peng Wensheng, head of China research at Barclays Capital in Hong Kong, who sees a 54 basis point reduction in December.

The fourth rate reduction since mid-September adds to the government’s package of measures to stimulate growth through 2010.

The State Council has pledged “fast and heavy-handed investment” and a “moderately loose” monetary policy. The plan spans housing, rural development, railroads, power grids and rebuilding after May’s earthquake in Sichuan province.

China’s cabinet said yesterday that it was studying extra measures to help struggling companies in the steel, auto, petrochemical and textile industries; to increase key commodity reserves; and to expand insurance for the jobless.

“In previous crises China could always get out of trouble by boosting its exports,” said Xie. “This time that’s not an option.”








We’re probably in a global recession at the moment. The rapid collapse of commodities, including gold, had all but assured that outcome. Indeed, there’s little need to follow all these developments, since they’re on an automated run once the manufacturing bubble that has been mentioned here many times before burst. The most important point is that the collapse of the commodity bubble is going to continue, and that this is going to have very severe implications on emerging market growth for the next few years, not months.

Cotton users are halting orders from the U.S., the world’s biggest exporter, at the fastest pace in at least a decade as the economic slowdown erodes demand from China and sends prices to a six-year low.

Delays, cancellations and order reductions of U.S. upland cotton by foreign buyers rose almost sevenfold from a year earlier to 329,600 running bales (74,752 metric tons) in the first 13 weeks of the marketing year that started in August, data from the U.S. Department of Agriculture show. The level is the highest since at least 1998.

Cotton prices are down 55 percent from a 12-year high in March, and Barclays Capital says demand is so weak no rally is likely to last. Commodity buyers from metal recyclers and sugar processors to clothing makers are struggling to honor contracts signed when prices were higher.

“We are seeing quite a few delays,” said Andy Weil, president of Weil Brothers Cotton Inc. in Montgomery, Alabama, and past president of the American Cotton Shippers Association. “Demand is in a terrible state of affairs. When Chinese exports depend on American and Europeans economies, which are now in a recession, they have no demand for raw materials.”

Demand, Prices Fall

China, the world’s biggest cotton importer, canceled or delayed 34,100 bales of U.S. orders in the week ended Oct. 23, or 4,100 bales more than its new orders, according to the USDA. Total reductions reached 41,300 bales that week, including buyers in Bangladesh and Indonesia. A week later, cancellations and delays were 11,500 bales from buyers in China, Turkey and Indonesia, government reports show.

The USDA said on Nov. 10 farmers will sell upland cotton, the most common variety in the U.S., for 45 cents to 55 cents a pound in the year through July 31, down from an October estimate of 51 cents to 62 cents, and below 59.3 cents in the previous year.

Cotton for March delivery fell 0.41 cent, or 1 percent, to 42.1 cents from 92.86 cents on March 5, at the time the highest price for a most-active contract since September 1995. The 23 percent drop in October was the biggest monthly decline since at least 1986.

Global cotton use will drop 3.3 percent to 119.3 million bales in the current marketing year, the USDA estimates. China will consume 51 million bales, down from an initial estimate of 55 million and the first annual decline in a decade, as consumer spending falls, the USDA said.

`Very Difficult Time’

China‘s cotton imports from January through October dropped 8.3 percent from a year earlier to 1.87 million metric tons, according to the Beijing-based Customs General Administration.

Jiangsu Yulun Textile Group Co., a yarn spinner in Jiangsu province, buys cotton to last less than a month, compared with three months of inventories in the past.

We are having difficulty with financing,” Zhang Jianhong, manager of materials at Jiangsu, said by telephone from Qingjiang. “The risk of importing cotton is very high. The downstream businesses, the clothing manufacturers, owe us money. All we have are bunch of IOUs. It’s a very difficult time.”

Cotton consumption will be lower than previously expected in Pakistan and Turkey, the largest importers after China, according USDA forecasts.

Demand `Non-Existent’

For my company, the demand is fairly non-existent,” said Angie Goodman, president of Lubbock, Texas-based ACG Cotton Marketing LLC, which ships cotton mainly to Turkey. “They are buying in a hand-to-mouth method.”

Same-store sales by department stores in the U.S., the world’s largest economy, fell 11 percent last month and 19 percent for luxury retailers, the International Council of Shopping Centers said Nov. 6. Macy’s Inc., the second-biggest U.S. department-store chain, is buying less merchandise and reducing capital spending to prepare for a disappointing spring shopping season, Chief Financial Officer Karen Hoguet said on an earnings conference call with analysts Nov. 12.

The same picture for copper, the collapse of which has been ongoing for quite some months now:

Not even $586 billion of emergency spending by China can slow the plunge in copper, the worst- performing metal since the commodities market crashed in July.

Global inventories more than doubled in the past four months as the economic slowdown spread. U.S. auto sales slumped 32 percent in October to the lowest level since January 1991. A report this week may show U.S. builders broke ground on the fewest houses in at least a half century, curbing demand for cables, wires and pipes. China, the world’s biggest copper user, is heading for its slowest growth in almost two decades.

Copper is an indicator for the world economy and sets the pace for other industrial metals because an average 400 pounds (181 kilograms) are used in homes and 50 pounds in cars, according to the Copper Development Association. Prices collapsed after rising as high as $8,940 a metric ton on the London Metal Exchange July 2. The International Monetary Fund in Washington said the U.S., Europe and Japan will fall into a recession simultaneously for the first time since World War II.

China is the key to commodity prices because the country is the largest user of iron ore, aluminum, zinc and copper. The nation’s economy may grow 7.5 percent or less next year, Morgan Stanley and Credit Suisse Group AG say. That would be the slowest pace since 1990, data compiled by Bloomberg show.

Chinese Demand

Commodity prices, measured by the Standard & Poor’s GSCI Index of 24 raw materials, have plunged by more than half from their record on July 3 as the global credit crisis threatened to push the world into a recession, reducing demand. Crude oil has slumped 56 percent in four months.

`A Bubble’

“It was a bubble,” Stephen Roach, chairman of Morgan Stanley Asia Ltd., said in an interview Nov. 13. The last one was in the early 1970s when “you had the same type of global growth boom that we’ve had in the last 4 1/2 years,” he said. “The boom has gone to bust. The global economy is growing at 2 to 2.5 percent, less than half the pace we’ve been running at.”

Slowing Output

China faces a “formidable challenge,” Mu Hong, a top planning official, said on Nov. 14. Export growth and inflation slowed in October. Industrial output grew at the slowest pace in seven years and money supply expanded by the least since 2005.

Steel output in China, producer of a third of the world’s supply, dropped 9.1 percent in September, the Brussels-based World Steel Association said on Oct. 22. Power production fell in October from a year earlier, the first decline since February 2005, the China Securities Journal said on Nov. 7.

“We are in a period of very severe production cuts as mid- stream industries such as steel reduce both raw-material and product stocks, with massive reverberations through raw-material markets,” Macquarie said Nov. 10.

China pledged “fast and heavy-handed investment” in housing and infrastructure through 2010 and a “relatively loose” monetary policy in a plan unveiled Nov. 9. The package offered funding for housing, infrastructure, railways, power grids, social welfare and rebuilding. The country plans thousands of kilometers of highways and railroads as it speeds development of its resource-rich western regions.

Seeking the Bottom

“The Chinese are very pragmatic,” said Richard Elman, chief executive officer of Hong Kong-based Noble Group Ltd., a supplier of iron ore, coffee and grains. “They will revitalize the economy. We’ve seen a leveling of steel prices internationally. We’re encouraged that the bottom may be here,” he said in an interview on Nov. 11.

More money is being pumped into second-tier cities, Robert Theleen, chairman and co-founder of investment capital firm ChinaVest Ltd., said in a Bloomberg Television interview on Oct. 29. As China’s economy slows, more factories will shut, unemployment will climb and people will return to the countryside.

“Those are the issues that are going to cause indigestion in Beijing,” he said.

US Slump

Industrywide U.S. auto sales fell for the 12th straight month in October, extending the longest slide in 17 years and hurting demand for metals. October total sales dropped to 838,156 from 1.23 million, according to Autodata Corp.

General Motors Corp. said this month it may run short of funds before the end of the year and Chrysler LLC said survival would be difficult without aid.

Moody’s reports that companies that are close to bankruptcy are at the highest level since 2002. The fact is that they’re going to far exceed the record of the past ten years.

The number of companies at risk of running out of cash reached the highest level since 2002 in October as job losses and tightening credit weakened consumer spending, according to Moody’s Investors Service.

The percentage of companies with an SGL-4 rating, Moody’s lowest level of liquidity rating, rose to 14 percent last month from 12.6 percent in September, the highest since the index was designed in 2002.

Companies are increasing capital reserves as banks tighten access to credit following more than $966 billion in writedowns and losses since the start of 2007. What began as a cash crunch for small companies with limited amounts of debt has spread to major U.S. companies, with “tens of billions” of dollars in rated debt being downgraded, Moody’s said.

General Motors, Ford

The New York-based ratings company reduced its rankings of the liquidity positions of 19 companies in October, including U.S. automakers General Motors Corp., Ford Motor Co., and Trump Entertainment Resorts, the Atlantic City, New Jersey-based casino company founded by Donald Trump.

“Even with the benefit of the U.S. government’s $25 billion guaranteed-loan program, we think GM’s liquidity profile will continue to erode in 2009,” the analysts wrote. Detroit-based GM had its rating cut to SGL-4 from SGL-2.

Ford’s $29.6 billion in cash and committed credit lines will cover expected requirements through 2009, the report said. Dearborn, Michigan-based Ford’s rating fell two levels to SGL-3.

The two most frequent influences of a company’s liquidity rating are cash flow and covenant issues, Moody’s said. The level and direction of a company’s SGL rating indicate the likelihood of default.

Moody’s used a disproportionately large sample of SGL-4 companies when it established its Liquidity-Stress Index in 2002, the company said. Last month’s rate of 14 percent is the highest when adjusted for the over-sampling in the first two months of the index, Puchalla said in a telephone interview.


And the deleveraging process has a lot more to go, with hedge funds being only the first line on the cull:

Hedge-fund assets may fall to about $1 trillion by the middle of next year, a decline of almost 50 percent from their peak in June, because of market losses and client withdrawals, Citigroup Inc. said in a report.

Managers are likely to see investors, led by funds of funds, pull 20 percent of their money, Tobias Levkovich wrote yesterday. Funds of funds are middlemen who select hedge funds for their clients.

“The so-called `Swiss hot money’ wants out and funds are responding,” Levkovich wrote, referring to Swiss investors who have a shorter investing period than pension funds. “Citi’s credit analysts estimate that hedge funds have raised cash to roughly 40% of assets already in anticipation of known redemptions and possibly unanticipated demands from investors.”

Hedge funds lost an average of 16 percent this year through October, according to data compiled by Hedge Fund Research Inc., as stock and commodity markets tumbled and lending tightened. The industry has lost money in only one year — a 1.45 percent decline in 2002 — since the Chicago-based firm began tracking returns in 1990.

The future of the hedge-fund industry looks set to be one in which leverage will not be used as aggressively, partially as a result of recent losses but also because the prime brokers will not provide it easily,” Levkovich said.

Regulatory filings last week by 38 hedge funds with more than $1 billion in assets each show that selling and market declines cut the value of their reported holdings by about 30 percent to $273 billion.

The Japanese economy has officially entered its first recession in seven years:

Gross domestic product shrank 0.1 per cent in the three months to September 30 from the previous quarter, following a quarterly decline of 0.9 per cent in the second quarter. The third-quarter decline was worse than economists’ forecast for flat growth or a mild upturn.

The economy’s decline forced the government of Taro Aso, the prime minister, to unveil a Y5,000bn ($51bn, €40bn, £34bn) stimulus package last month while the Bank of Japan cut interest rates on October 31 for the first time in seven years – by 20 basis points to 0.30 per cent.

At the same time the yen has gained 9.4 per cent since the end of September, adding to the pain of Japanese exporters as their goods become more expensive for overseas buyers.

The Tokyo stock market has suffered a 44 per cent fall this year.

Even suicides are hitting the newswires nowadays, a sad but inevitable outcome of a collapsing economic bubble:

A 36-year-old trader at Brazil’s securities exchange shot himself in the chest in an attempted suicide on the trading floor, BM&FBovespa SA said.

The trader, who works for Itau Corretora, the brokerage unit of Banco Itau Holding Financeira SA, was taken to Santa Casa hospital in Sao Paulo and listed in critical condition, a hospital spokeswoman said. No one else was injured in the incident, an exchange spokesman said.

Trading in derivatives and commodities was halted for 15 minutes after the shooting occurred shortly after 3:30 p.m. local time (12:30 p.m. New York time), BM&FBovespa, Latin America’s largest securities exchange, said in a statement. Traders said people on the floor scurried after the incident, which took place in the interbank rate contract pit.

It is by now general wisdom that the commercial mortgage market is headed for massive defaults and shrinkage during next year and beyond, but if anyone needs confirmation, here’s the latest situation. What is most important is that 700 billion in Paulson’s TARP will almost certainly be about one-seventh to one tenth of what will eventually be needed to bail the financial system out, on the conservative assumption that the sorting out of this crisis will last a whole decade, and the greatest amount will be spent in the first two years, from now. This scenario is based on the comparatively less severe prognosis of the S&L crisis of the eighties. In any case, 700 billion is almost laughably small for this purpose. The Treasury has not even completed satisfying the increasing demands of institutions such as Morgan Stanley, Bank of America, AIG, etc  through its TARP, which are not even the most troubled firms that they have be to sorted out, by far (with the exception of AIG). The insurance industry is already clamoring for more public money.
Commercial real estate borrowers are running out of options as asset-backed markets dry up and alternative financing comes to an “abrupt halt,” RBS Greenwich Capital Markets Inc. analysts said.
Regional banks and insurance companies, which had become the primary source of financing since credit markets seized up, have stopped lending, the RBS analysts wrote in a report. Sales of CMBS slumped to $12.2 billion in 2008, compared with a record $237 billion last year, according to JPMorgan Chase & Co.

The government’s attempts to unlock credit markets is easing some borrowing costs in some markets, though won’t relieve the seizure in the commercial mortgage debt market, Pendergast said.

“The de-thawing of the shorter-term lending markets is a baby step and will have little effect on commercial real estate lending near term.”

Both regional banks and insurers are reigning in lending. The insurance industry is under review by ratings companies and may be downgraded, while not yet receiving permission to participate in the Treasury’s capital injection programs, she said. Regional banks remain “under significant pressure,” Pendergast said.

“Like life insurance companies, indications are that many of these banks have closed their books for the year and 2009 remains a big question mark,” Pendergast said.

Loans Coming Due

The dearth of financing options will make it challenging for borrowers with loans coming due in 2009. About $88 billion in commercial real estate loans will mature next year, RBS estimates. Between 2009 and 2011, $123 billion in loans that have been packaged into bonds will mature, which doesn’t include direct loans originated by banks or insurance companies, the analysts said.

Top-rated CMBS are trading at a record 633 basis points more than the benchmark swap rate, according to Bank of America Corp. data, compared with 318.8 basis points on Sept. 15, the day Lehman Brother Holdings Inc. filed for bankruptcy. The bonds were trading at about 70 basis points more than the benchmark a year ago, the data show.

Spreads on commercial mortgage-backed securities won’t narrow until late 2009 at the earliest, and more likely not until 2010, the analysts said.

Delinquencies on commercial real estate debt rose to 0.78 in October compared with 0.66 percent in September, RBS Greenwich data show.

Genworth the insurer, which is a recent spinoff of GM, will probably not survive this crisis without public money (I’m tempted to say “Paulson’s magic touch”, but he’s leaving soon.)

Genworth fell $2.03 to $2.67 at 4 p.m. in New York Stock Exchange composite trading, the lowest since the company first sold shares in 2004. It has lost $258 million in the third-quarter, equal to 60 cents a share, from a profit of $339 million a year earlier. The insurer is considering asset sales and may raise funds by selling private or public equity or debt.

Chief Executive Officer Michael Fraizer said during a conference call with analysts that Genworth is preparing for prolonged, deeper market disruptions and a “significant recession.” Fraizer also said that the company is participating in the Federal Reserve’s commercial paper program designed to unlock short-term credit markets. Genworth is eligible for about $223 million, he said.

The company was downgraded by Standard & Poor’s on concerns about “the company’s increased need for funding in mid-2009,” the ratings firm said in a statement today. The company has “limited access” to the capital markets.

The mortgage-insurance business of Genworth posted a $121 million deficit because of rising delinquencies and higher reserves.

CDS spreads on Genworth widened. Traders demanded 17.25 percentage points up front in addition to five percentage points a year, according to CMA Datavision. That means it would cost $1.73 million initially and $500,000 a year to protect $10 million of bonds from default for five years. Yesterday the up-front payment was 11 percent.

And finally, some good news from China. The government is going to spend about 600 billion dollars on infractructure investment as it tries to cushion the economy from the impact of the global crash. This will be good for the rest of the world, because China’s massive reserves, hopefully, will find some use in the process, although it is obvious that the financing will be through borrowing, not through the liquidation of the currency reserves. It would be much better if the Chinese had decided to tap their reserves. China is still a risky third world country, and throwing money around in such a heavy-handed manner, borrowing so much so early in this crisis  doesn’t appear to be the most prudent attitude in today’s circumstances. China’s immunity to speculative attacks and the resilience of its economy today is almost entirely dependent on its positive trade balance. However, given the attitude of the government, and its desire to increase domestic spending, while exports are curbed rapidly by falling global demand, means that the surplus is probably illusory, and much weaker fiscal and trade positions lie ahead. We’ll see if CCP’s gamble will pay off in the future.  

China pledged a 4 trillion yuan ($586 billion) stimulus plan to prop up growth in the fourth-largest economy as the world heads toward a recession. The funds, equivalent to almost a fifth of China’s gross domestic product last year, will be used by the end of 2010, the Beijing-based State Council said yesterday. Following a weekend meeting in Sao Paulo, finance ministers from the Group of 20 nations, of which China is a member, issued a joint statement saying they are ready to act “urgently” to tackle the economic slump.

“Over the past two months, the global financial crisis has been intensifying daily,” the State Council said in yesterday’s statement. “In expanding investment, we must be fast and heavy- handed,” it said, adding that the central bank will pursue a “moderately loose” monetary policy. The central bank has already cut interest rates three times in two months, reducing the one-year lending rate to 6.66 percent.

The stimulus package, of which 100 billion yuan is earmarked for this quarter, will go toward low-rent housing, infrastructure in rural areas, as well as roads, railways and airports, it said. The government will allow tax deductions for purchases of fixed assets such as machinery to stimulate investment, a move that will reduce companies’ costs by an estimated 120 billion yuan. In addition, grain purchase prices and subsidies for farmers will be raised, as will allowances for low-income urban households. The government also scrapped loan quotas to help boost lending to small businesses.

China accounted for 27 percent of global economic growth last year, more than any other nation, according to IMF estimates. Central bank Governor Zhou Xiaochuan said Nov. 8 that boosting spending at home is the best way China can help avert a prolonged world recession. UBS AG and Credit Suisse AG, before yesterday’s announcement, forecast GDP would rise no more than 7.5 percent next year, which would be the smallest increase in nearly two decades. Manufacturing contracted by the most since at least 2004 in October and export orders dropped to their lowest, according to CLSA Asia Pacific Markets. Home sales have plunged in major cities including Beijing and the stockpile of unsold new vehicles was at a four-year high in September.

“The golden years have shuddered to a dramatic halt,” said Stephen Green, head of China research at Standard Chartered Bank Plc in Shanghai.

Meanwhile, Taiwan, which counts China as its largest trading partner, late yesterday cut interest rates for the fourth time in two months after exports dropped in October by the most in three years.

All the news clips from Bloomberg.




How to avoid a depression?

September 16, 2008

Wilbur Ross has told CNBC yesterday that one thousand regional banks could fail. He’s basing his opinion on historical record in light of recent developments.


What does this mean for the Federal Budget? Morgan Stanley believes it is manageable. (See bottom of the page) 


The government is expected to create stimulus packages, take over bank failures, finance the restructuring of the GSE’s, bailout failed financial firms, pursue two wars in Iraq and Afghanistan, provide or maintain tax cuts, and keep spending in order to sustain economic activity in general; and each of those items is at least a hundred billion dollar item.


At the same time the government’s revenues are likely to shrink as more bankruptcies and higher unemployment will be a feature of the next few years.  


How will the government get out of this without monetising some of these problems? Can the US avoid higher inflation in the long term?


Liquidity and the money supply are seen to be the solution by the Federal Reserve, but neither the government nor the private sector have a solid financial position to provide that liquidity. This is a solvency problem, and the cash is in the pockets of exporters, the debt is in the US Treasury. And as the debtor was the creator, and originator of a vast part of global economic activity in the past years, if the world wants to avoid a general economic cataclysm, it will have to bailout the American economy, arguably by continuing to buy increasing amounts of treasuries and other government paper.


This is not unprecedented in history. When, after the first world war, Germany faced financial catastrophe, it was the US that organised the bailout of the German state, as it was realised that a complete collapse of that nation was threatening the health of the American and international economies. In today’s case the Chinese and others are sitting on trillions of dollars, which are likely to depreciate significantly, if, as expected, the US does decide to solve its problems through monetisation. More importantly, neither the Chinese economy, nor in fact any other economy in the world is sophisticated enough to create or absorb those enormous sums without creating financial instability: it was a mistake on the part of the Chinese to accumulate that much in reserves, now they must at least make use of them. If they don’t, the US will depreciate its currency in the middle of a global recession, creating more insecurity, more contraction, and no one knows where this would lead us. 


In the long run, as I said, in the absence of an international solution, I believe that political reasons will lead the Congress and the administration to choose the path of monetisation, that is, inflation as the cure-all for the private sector’s problems. This is even likelier under Obama, and just today Barney Frank has been urging the government to begin to buy debt and other assets in the market. Indeed there does not appear to be any other solution to this issue. So far I have not heard a single voice providing a solution to the issues facing the economy: usually the suggestion is to let the markets solve their own problems, but politically the costs of this are going to be enormous: certainly double digit unemployment, and thousands of bankruptcies will be the outcome. But more importantly, if panic is allowed to take hold, the feedback loop can create problems that are not imagined today.


The United States escaped from the depression of the thirties only through war: the needs of a war economy, coupled with the psychological stimulus of a warlike mentality, allowed the system to grow out of its pessimistic stupor and create economic dynamism. Why did the recovery take so long? Because the collapse in confidence and goodwill after a long and severe bottoming, instead of creating new momentum and optimism, perpetuates the negative attitudes of the previous contraction. People are likely to enter the market to pick bottoms many times over many months, even years, and eventually it will be confidence that suffers the greatest damage. No amount of financial loss can account for the damage that confidence will suffer in a long term financial collapse. And that phenomenon is one of the reasons of Japan’s decades long slump too.













There’s a lot taking place today, and at times it is hard to remain updated on all that is occurring. It is better to remain distant and assess the developments once the heat of the situation has passed, but the extraordinary change in sentiment on corporate default risk is so quick and momentous that it merits more than a brief examination.


Lehman’s demise by itself isn’t of great importance. The firm was a significant actor in many fields, but the fall of a single firm in any field is unlikely to trigger and sustain the fears of systemic risk and financial meltdown that the markets are now experiencing. The real cause of this rapid and worrying change of sentiment in the credit markets is the sudden realisation that the government and the financial system at large are out of options. It is the failure of the fallacious notion that the pockets of the government are bottomless, that all kinds of problems can be resolved if the US government decides to print more treasuries and sell them to Asians and others. This was the idea propagated by the likes of Bill Gross, and apparently endorsed at Wall Street; but as I have repeatedly emphasised here, the financial situation of both the public and private sectors is in very questionable health, and there is no ready supply of funds available for patching all the gaps that are appearing in the financial system.


Bear Sterns was transferred to JPMorgan by the Fed. Merrill Lynch and Countrywide have been acquired by Bank of America. The identity of the next firebrigade is unclear; since, in the words of Mr. Gross, the head of Pimco, they are “all underwater. We, as well as our SWF and central bank counterparts, are reluctant to make additional commitments.”


This shouldn’t surprise. The company that Singapore’s Temasek bought doesn’t exist anymore. CIC’s investments in Citigroup, Blackstone, and Morgan Stanley are all under water as of today. But most importantly, with the disappearance of three of the most important US investment banks, the long term prospects of US firms are in doubt, and this makes raising capital and covering losses a matter of great difficulty.


The problems at AIG are not unique: their problem is the same problem at the root of this entire crisis, and it is leverage. The entire country, from citizens, to corporations, to the government are leveraged, and the maintenance and functioning of such a high level of leverage presupposes an environment of financial sensibility and calm. When goodwill disappears, however, what yesterday was perceived as the door to Paradise becomes the gate of Hell, and the subsequent risk aversion has the potential to ruin everything on its path, from huts, to citadels.


It’s quite natural to expect the Fed to cut rates tomorrow, and I claimed that this would be the outcome on my post of September 11th. I wrote that the timing would be determined by markets, and a 500 point fall in the Dow, with three month libor at 3.10, are enough to force them in this direction. But even if they choose not to, it will only be a matter of procrastination; it’s simply inconceivable that the Federal Reserve, or any central bank in its place can raise rates in this environment. Mr. Bernanke is likely to push rates down to zero eventually, but, as he’s an academic, and lacks the necessary strength of will and maybe confidence to steer the entire board to his direction through leadership, we will wait for worse data to confirm his position to see rates reach zero.


At the moment,  the most crucial issue is the behaviour of the corporate bond market. It remains to be seen if today’s freezing will lead to a reliving of the disaster in the securitisation markets. The implications of this outcome are beyond statement; if corporates find capital markets frozen at a time when consumers are cutting back on spending and banks are reducing credit, what will prevent a financial catastrophe?