Market Update: Citigroup gets rescued

When I was a kid and I did something stupid (yes…that was known to happen) my dad would ask me “if everyone was jumping off a bridge would you do it too?” There is a long list of financial firms that could have benefited from that rhetorical line of questioning over the last few years. Maybe there is a spot on Citigroup’s board for my dad. If I know him I bet he’d ground them getting in this much trouble.

Citigroup has become the latest bail-out benefactor. The US Government has given them $20 Billion in capital and has committed to $306 Billion of guarantees to backstop their troubled investments. As part of the deal, Citi is issuing $27 Billion worth of preferred shares to Uncle Sam with an 8.00% dividend. The Government also gets warrants enabling it to buy 254 million shares of Citi at a strike price of $10.61 which in theory should allow the tax payer to profit if the plan works. Payment of dividends is limited to 1 cent/share over the next three years, a significant reduction from recent dividend levels. Regulators were concerned that depositors may begin a run on the $2 Trillion institution and upset the “stability” of the financial system. We’re now to the point where it would be more surprising if someone DIDN’T get rescued than if they did.

The asset guarantee portion of the agreement has Citi soaking up the first $29 Billion worth of losses on the troubled assets, after which the government takes 90% of the losses and Citi takes the remaining 10%. Unlike some of the other bailouts…nobody at Citi is required to lose their job. Nobody at the TOP that is..Citi announced last week that they’d be firing 52,000 people…THOSE people will lose their jobs…but the Treasury plan replaces nobody in senior management.

Here is a look at what Citigroup shareholders have had to look at over the last few months:

In addition to covering losses at Citigroup, the Treasury said they would cover anyone who lost money on the Philadelphia Eagles yesterday. They cited the fact that the market mechanism for the Eagles winning the game had broken down (Donovan McNabb went 8 for 18 with two interceptions and a fumble) and that they had to step in to keep the $500 million gambling market from collapsing. If people lost money on the game then the short term pool of liquidity that funds gambling operations across the country might shrink drastically and we can’t have that. Additionally the Treasury is considering guaranteeing credit card purchases of Christmas, Hanukah, Kwanza, and New Years gifts made between today and January second, as well as guaranteeing purchases of any big ticket electronics items made with Home Equity withdrawals over the same time period.

Fed Funds futures continue to price in a 100% chance of a 50 bps cut at the 12/16/08 meeting.

Despite being a short holiday week we actually have a pretty full calendar of economic data. Below is a list of what’s on tap. These releases will be watched with great interest as we move into December.

If you have any questions or if there is anything I can be doing for you just let me know.

Market update: 11 20 08 late afternoon....RECORD MOVE ON THE 30 YEAR BOND

 

 

I’ve been trying to write an update on the 30 year Treasury for the better part of an hour…I can’t get it done because every time I grab the screen shot the long bond jumps another quarter of a point.  I started this process when the 30 year was up about 5 points.  I looked around the office and nobody could remember the long bond being up 5 points in a single trading session…if it’s not a record it has to be close because nobody can remember the last time it happened.  I grabbed the screen and then it was up 5.5 points, then 6, then it kept going…currently the 30 year Treasury bond is up almost 9 points.  There is no story yet on what is causing the rush to the long end, but have no doubt that the 30 year is moving like a rocket.  As I type it’s now up over 9 points.  When I get some news I’ll pass it on…9 points in a single session has to be in record territory.  It is now yielding 3.44%. 

 

 

 

 

 

Below is a graph of the yield on the 30 year Treasury.  It opened this morning at 3.87%....it is now trading at a 3.44%.  I’ll update as things develop.

 

Steve Scaramastro

800-311-0707

 

 

Market update: 11 20 08 Initial Jobless Claims blow through the estimate

Initial Jobless Claims were expected to post a 505,000 level today…the number we actually got is 542,000. Continuing Claims were also released at higher levels than expected. The Philadelphia Fed Index for the second month in a row posted a very negative number. This index tracks manufacturing trends in the Philadelphia Federal Reserve District. This is a diffusion index so any number below 0 indicates contraction, conversely any number above 0 indicates expansion. Last month this index posted a very disappointing number…it did the same this month. The survey expected the Philly Fed to post a -35 but we actually got a -39.

Treasuries are running like a greyhound this morning pushing yields lower across the length of the curve. Starting on the short end of the curve you’ve got a one-month bill yielding 3 basis points, If you don’t like that you could stretch out and get a 1.00% yield on the current two year Treasury, and if that doesn’t float your boat you can score a whopping 3.20% on a 10-year Treasury.

Oil is down over $3.00 today and is teetering on the $50 mark. It has traded with a $49 handle today.

JP Morgan is quoted in an article this morning forecasting Fed Funds at ZERO in the next few months. I’ve attached the article and inserted it at the bottom of this e-mail for reference.

Today GMAC joins the list of “people that make bad decisions that then apply to become a bank holding company and probably will get permission to do so”. They applied this morning. Additionally word JUST ran across the screen from Senator Bond that a bipartisan group has agreed on an aid plan for the automakers…watch for this to develop.

After thinking about how wrong the Fed and Treasury have been since this meltdown began I went back to the summer of 2007 and pulled a few quotes from them that capture their outlook at the time. Our view at the time was much more negative than theirs and it seemed like they were doing more cheerleading than analyzing. So below are some quotes from both of them, followed by graphs of several key economic data that show what actually happened.

From the FOMC statement in August of 2007:

“Nevertheless, the economy seems likely to continue to expand at a moderate pace over coming quarters, supported by solid growth in employment and incomes and a robust global economy.” 10 days later they changed their mind and cut the discount rate in an intermeeting cut and changed their outlook to “downside risk to growth”.

From the US Treasury economic update for August 2007:

“The U.S. economy and the job market are healthy, with sustained job growth, low unemployment, and rising wages. Solid fundamentals will support continued growth in household spending and business investment." Assistant Secretary Phillip Swagel, August 3, 2007

Since that time:

-Initial Jobless Claims have risen 67%

-GDP growth is down 105%

-Philly Fed Index is down 624%

-New Home Sales are down 40%

-the yield on the 5 year Treasury is down 122 bps

It does not comfort me that these are the same people that are making the decisions on spending Federal money that will decide how much my taxes will go up.

I got to thinking about this recently and I came to two potential solutions. Option 1 is I become a pirate…I hear there is good money to be made, plenty of opportunity, and apparently very little risk involved.

Second is that I stay here, pay a lot more in taxes but I petition the government to even the playing field. If the government wants to raise my taxes and use that money to keep paying a guy in Detroit $80/hr to install tail lights on SUV’s, and to pay for a subprime borrower on the coast to keep his house, then I think I should get some benefit from that. After all, why should my standard of living drop so that the irresponsible party can keep their standard of living? I propose that everyone that has their taxes go up because of this debacle gets assigned an autoworker and a subprime borrower. Each year the autoworker that gets my taxes has to drive me to the coast for a month while I vacation in the house of the subprime borrower that got the other part of my tax increase. The subprime guy will essentially be running a bed and breakfast type operation while I’m there…cooking…cleaning the room…basic hotel stuff. If either of these parties get tired of the arrangement they can agree to send back my taxes and I’ll go away. I see this plan as more fair than the current direction we seem to be heading.

I’ve attached below graphs of some of the key economic indicators that I discussed above.

If you have any questions on this material just let me know.

Below is an article from Bloomberg this morning that quotes JP Morgan as saying the Fed will likely take Fed Funds to zero very shortly.

Nov. 20 (Bloomberg) -- The U.S. Federal Reserve will probably cut interest rates to zero percent over the next two months to staunch deflation, according to JPMorgan Chase & Co.

The Fed will lower borrowing costs by 50 basis points at each of the next two policy meetings on Dec. 16 and Jan. 28, JPMorgan economist Michael Feroli wrote in a note to investors yesterday. The central bank will hold rates at zero for the rest of 2009 to prevent prices from spiraling down as companies cut jobs and banks reduce lending, stifling spending, Feroli said.

The Fed may not be the only central bank to begin offering free money to jolt life into their recessionary economies and keep prices rising as the 15-month credit crisis deepens. The Bank of Japan cut its benchmark rate to 0.3 percent last month, and the European Central Bank has signaled it's ready to lower rates further after two reductions in the past six weeks.

U.S. consumer prices plunged 1 percent last month, the most since Labor Department records began in 1947, the government said yesterday. Some Fed members indicated a willingness to cut rates to spur growth and keep prices from falling, according to minutes from the last Federal Open Market Committee meeting that were released hours after the price report.

``Taking the target rate to zero percent would not be costless for the Fed,'' Feroli said. Public confidence may drop ``if there is a perception that the Fed has `run out of ammo.'''

Fed officials cut their forecasts for inflation and growth at the Oct. 28-29 meeting. Some members saw a risk that the inflation rate will fall below the Fed's objective of ``price stability.''

Feroli said cutting the key rate to zero from the current 1 percent wouldn't exhaust the central bank's tools. The Fed could become ``more aggressive'' by purchasing the debt of Fannie Mae, Freddie Mac and other government-chartered mortgage financing companies, Feroli said.

``The path of least resistance may be for the Fed to first communicate to the markets that the nature of the current economic woes should keep rates low for an extended period,'' Feroli said.

To contact the reporter on this story: Jason Clenfield in Tokyo at jclenfield@bloomberg.net

Last Updated: November 19, 2008 22:35 EST

FW: Market update: 11 20 08 Initial Jobless Claims blow through the estimate

Initial Jobless Claims were expected to post a 505,000 level today…the number we actually got is 542,000. Continuing Claims were also released at higher levels than expected. The Philadelphia Fed Index for the second month in a row posted a very negative number. This index tracks manufacturing trends in the Philadelphia Federal Reserve District. This is a diffusion index so any number below 0 indicates contraction, conversely any number above 0 indicates expansion. Last month this index posted a very disappointing number…it did the same this month. The survey expected the Philly Fed to post a -35 but we actually got a -39.

Treasuries are running like a greyhound this morning pushing yields lower across the length of the curve. Starting on the short end of the curve you’ve got a one-month bill yielding 3 basis points, If you don’t like that you could stretch out and get a 1.00% yield on the current two year Treasury, and if that doesn’t float your boat you can score a whopping 3.20% on a 10-year Treasury.

Oil is down over $3.00 today and is teetering on the $50 mark. It has traded with a $49 handle today.

JP Morgan is quoted in an article this morning forecasting Fed Funds at ZERO in the next few months. I’ve attached the article and inserted it at the bottom of this e-mail for reference.

Today GMAC joins the list of “people that make bad decisions that then apply to become a bank holding company and probably will get permission to do so”. They applied this morning. Additionally word JUST ran across the screen from Senator Bond that a bipartisan group has agreed on an aid plan for the automakers…watch for this to develop.

After thinking about how wrong the Fed and Treasury have been since this meltdown began I went back to the summer of 2007 and pulled a few quotes from them that capture their outlook at the time. Our view at the time was much more negative than theirs and it seemed like they were doing more cheerleading than analyzing. So below are some quotes from both of them, followed by graphs of several key economic data that show what actually happened.

From the FOMC statement in August of 2007:

“Nevertheless, the economy seems likely to continue to expand at a moderate pace over coming quarters, supported by solid growth in employment and incomes and a robust global economy.” 10 days later they changed their mind and cut the discount rate in an intermeeting cut and changed their outlook to “downside risk to growth”.

From the US Treasury economic update for August 2007:

“The U.S. economy and the job market are healthy, with sustained job growth, low unemployment, and rising wages. Solid fundamentals will support continued growth in household spending and business investment." Assistant Secretary Phillip Swagel, August 3, 2007

Since that time:

-Initial Jobless Claims have risen 67%

-GDP growth is down 105%

-Philly Fed Index is down 624%

-New Home Sales are down 40%

-the yield on the 5 year Treasury is down 122 bps

It does not comfort me that these are the same people that are making the decisions on spending Federal money that will decide how much my taxes will go up.

I got to thinking about this recently and I came to two potential solutions. Option 1 is I become a pirate…I hear there is good money to be made, plenty of opportunity, and apparently very little risk involved.

Second is that I stay here, pay a lot more in taxes but I petition the government to even the playing field. If the government wants to raise my taxes and use that money to keep paying a guy in Detroit $80/hr to install tail lights on SUV’s, and to pay for a subprime borrower on the coast to keep his house, then I think I should get some benefit from that. After all, why should my standard of living drop so that the irresponsible party can keep their standard of living? I propose that everyone that has their taxes go up because of this debacle gets assigned an autoworker and a subprime borrower. Each year the autoworker that gets my taxes has to drive me to the coast for a month while I vacation in the house of the subprime borrower that got the other part of my tax increase. The subprime guy will essentially be running a bed and breakfast type operation while I’m there…cooking…cleaning the room…basic hotel stuff. If either of these parties get tired of the arrangement they can agree to send back my taxes and I’ll go away. I see this plan as more fair than the current direction we seem to be heading.

I’ve attached below graphs of some of the key economic indicators that I discussed above.

If you have any questions on this material just let me know.

Below is an article from Bloomberg this morning that quotes JP Morgan as saying the Fed will likely take Fed Funds to zero very shortly.

Nov. 20 (Bloomberg) -- The U.S. Federal Reserve will probably cut interest rates to zero percent over the next two months to staunch deflation, according to JPMorgan Chase & Co.

The Fed will lower borrowing costs by 50 basis points at each of the next two policy meetings on Dec. 16 and Jan. 28, JPMorgan economist Michael Feroli wrote in a note to investors yesterday. The central bank will hold rates at zero for the rest of 2009 to prevent prices from spiraling down as companies cut jobs and banks reduce lending, stifling spending, Feroli said.

The Fed may not be the only central bank to begin offering free money to jolt life into their recessionary economies and keep prices rising as the 15-month credit crisis deepens. The Bank of Japan cut its benchmark rate to 0.3 percent last month, and the European Central Bank has signaled it's ready to lower rates further after two reductions in the past six weeks.

U.S. consumer prices plunged 1 percent last month, the most since Labor Department records began in 1947, the government said yesterday. Some Fed members indicated a willingness to cut rates to spur growth and keep prices from falling, according to minutes from the last Federal Open Market Committee meeting that were released hours after the price report.

``Taking the target rate to zero percent would not be costless for the Fed,'' Feroli said. Public confidence may drop ``if there is a perception that the Fed has `run out of ammo.'''

Fed officials cut their forecasts for inflation and growth at the Oct. 28-29 meeting. Some members saw a risk that the inflation rate will fall below the Fed's objective of ``price stability.''

Feroli said cutting the key rate to zero from the current 1 percent wouldn't exhaust the central bank's tools. The Fed could become ``more aggressive'' by purchasing the debt of Fannie Mae, Freddie Mac and other government-chartered mortgage financing companies, Feroli said.

``The path of least resistance may be for the Fed to first communicate to the markets that the nature of the current economic woes should keep rates low for an extended period,'' Feroli said.

To contact the reporter on this story: Jason Clenfield in Tokyo at jclenfield@bloomberg.net

Last Updated: November 19, 2008 22:35 EST

Market Update: 11 19 08 Consumer Prices are falling like a barrel of oil

Treasuries are rallying this morning on a host of news showing more indications of a slowdown and lack of inflation. The 10 year Treasury is yielding 3.45% currently.

The economic news is driving things this morning. You’ll see from this morning’s release calendar that everything economic indicator came in lower than the survey expected. Consumer Prices fell by a full 1.00% last month. That is the largest single drop since record keeping began in 1947. The large drop in oil prices is largely responsible for this decrease. Over the course of about six months the headlines have moved from screaming about inflation to talk of disinflation to speculation about deflation.

Housing starts and Building Permits were both lower than expected and Mortgage Applications were down 6.2%.

Fed Funds futures are now pricing in a 100% chance of at least a 50 basis point cut at the Dec 16 FOMC meeting. 90% of the probability is placed on a 50 bps cut, the remaining 10% is placed on a 75 bps cut. The 75 bps cut scenario being assigned any probability at all just happened this week.

Below is a quick review of oil prices and the more broadly based Goldman Sachs Commodities Index to give you an idea of how far these prices have dropped. Over the summer the headlines were all printing that oil was going up to $200 a barrel…what a difference a global recession makes. OPEC has been frustrated by the decline as cuts in production (market manipulation) have failed to support the price of crude. One thing is for sure, oil under $50 a barrel is going to put the squeeze on Christmas budgets for terrorists everywhere. In fact it’s gotten so bad that this week those pirates had to choose between doing the normal plunder and pillage for cash and gold, or supporting the price of crude by taking supply off the market…ultimately they went with the oil thing and hijacked a Saudi tanker.

Below is the CPI data going back to 1947.

That’s all for now. MBS spreads remain attractively wide, short maturity corporate in the financial sector continue to see strong demand as many have so much government backing that they couldn’t fail in the next 6 months if they tried. We continue to see a longer line of players line up for free tax-payer money. GM, Ford, and Chrysler will be the immediate names you here…behind them is a growing list of states and municipalities that are screaming that they want some of your money too…beyond that look for headlines about more hedge funds collapsing (I love it when that happens because we see lots of cheap bonds as they struggle to save themselves)…and somewhere in the middle of all of that we’ll get a really good look at consumer spending as the day after Thanksgiving is traditionally a very busy shopping day…if the consumer doesn’t show up we could start seeing a lot more stress at small businesses around the country.

If you have any questions on this material just let me know.

Market Update: 11 14 08_ Advance Retail Sales fall off a cliff

We got another dose of poor economic data this morning, this time in the form of Advance Retail Sales. The survey expected a -2.1 number but we actually got a -2.8. The combination of tighter credit, high debt loads, no savings, mounting job losses, and scary news everywhere you turn appears to have affected the consumer. They’ve got bills they can barely pay with the check they get from the job they might lose, their 401k is now a 201k, many are upside down on their house, and they are headed into the Christmas season like an addict passing the crack-house on the way to rehab. How will the consumer make it through the holiday season without charging big screen TV’s, laptops, iPhones, and all sorts of imported electronics?

It occurred to me recently that Congress may have just reached the same level of delusion under which the US consumer has been operating for the last few years. I hear elected officials in the news telling banks how to lend. They want banks to just start lending out the TARP money, and to lend it out quickly, with no mention of credit quality. It’s almost as if members of Congress don’t realize how this mess happened. In an environment where marginal credits are becoming terrible credits Congress is pushing banks to ignore prudent lending standards, disregard their fiduciary responsibilities to their shareholders, and keep feeding the cycle where you make loans to people that you know can’t pay you back in the hopes that it will all work out somehow. I don’t know that I can find a group of people more out of touch with reality currently than our Congress. I’m going to track down Baghdad Bob, he would be a great spokesperson for them.

We’ve been saying for a while that we expect the 10 year Treasury to remain in a volatile range around 3.70% and that’s what we’ve been seeing. Big swings both ways with a tendency to settle in around 3.70%. This week has been no exception. The 10-year Treasury traded off yesterday despite the fact that Initial Jobless Claims pushed to highs they haven’t seen since 2001. Today the Advance Retail Sales numbers undid much of yesterday’s move in Treasuries. Fed Funds are currently trading at 25 bps.

Fed Funds futures continue to price in a 100% chance of a cut at the December meeting with 74% of the probability placed on a 50 bps level for the overnight rate after the Dec 16 FOMC meeting. Bernanke’s recent comments acknowledge that monetary policy actions thus far have not reduced the strains in the markets. He further stated that central banks will remain coordinated in their monitoring of developments, and are resolved to take additional measures if necessary.

With Advance Retail Sales dropping by the largest amount since the data series was created in 1992 I thought it was an opportune time to take an historical look at some of the recent as well as upcoming economic data. Below you’ll see a graph of Advance Retail Sales going back to the start of the index in 1992. I also plotted the 30, 60, and 120 day moving averages. You’ll notice that the giant drop off on the far right takes us into new territory. The prior low in late 2001 was associated with the last recession dated by the NBER (National Bureau of Economic Research) March 2001 to November 2001.

After I looked at this series I pulled up the economic releases that we have on tap for next week. I took several of those indices and plotted their long term performance versus all recessions since 1960 (as dated by the NBER). Below is the economic data release calendar for next week. I pulled several items from this list and plotted their long term history versus all recessions since 1960 (as dated by the NBER). I think this provides some color as to where this economy is currently. What the charts don’t reflect is that these numbers are developing against a backdrop of a global liquidity crisis.

Initial Jobless claims were released yesterday at 516k versus an expectation of 480k. The graph below indicates that jobless claims are pushing into levels that are historically associated with recession. The red dots indicate recessions and the red circle highlights the most recent reading.

Next week we get a look at Industrial Production which measures real output as a percentage of real output in the base year (2002). The graph below shows the month over month change in Industrial Production. The red dots indicate recessions and you can see that this index is clearly moving into a bad neighborhood. We get our next look at Industrial Production on Monday the 17^th.

Below is a graph of the Philadelphia Fed Index. This tracks manufacturing activity in the Philadelphia Federal Reserve district. The next release is on Thursday the 20^th. Again the red dots correspond with recessions, the red circle indicates the last reading.

So that’s a quick review of where things are this morning and what we have on tap next week. Spreads on many products continue to be very wide, offering great opportunity to grab some yield before all of the TARP money is deployed. As the TARP plan progresses and banks begin receiving and deploying that capital in leverage programs we expect to see tremendous pressure on spreads.

If you have any questions on this material or if there is anything I can be doing for you just let me know.