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Friday, October 26, 2007

Microsoft vs Countrwide: The Tale of Two Economies

CrappySlide reported earnings this morning. While the size of the loss wasn’t a surprise, it was surprising to hear the company predict a return to profitability in the fourth quarter. That I find hard to believe.

Countrywide Posts Loss as Borrowers Default on Loans (Update1): “Countrywide Financial Corp., the biggest U.S. mortgage lender, predicted a return to profit in the fourth quarter and for 2008 after its first quarterly loss in 25 years. The shares jumped more than 20 percent.

The loss of $1.2 billion, or $2.12 a share, compared with net income of $647.6 million, or $1.03 a share, a year earlier, the Calabasas, California-based company said in a statement today. The per-share figure excludes the effects of convertible preferred stock issued in the quarter.”

The short trade in CrappySlide is crowded, so today’s squeeze could last into Monday and Tuesday. The longer term chart is still Bearish.

Microsoft Surges After Sales, Profit Beat Estimates (Update2): “Microsoft Corp. shares soared to their highest level in six years after first-quarter sales beat projections by more than $1 billion, thanks to sales of the Windows Vista system and the ``Halo 3'' video game.

Microsoft, the world's largest software maker, rose $4.01, or 13 percent, to $36 in early trading after closing at $31.99 yesterday on the Nasdaq Stock Market. That's the highest price since July 2001, and would be the largest increase in seven years.”

Microsoft blew away earnings. Just like Apple, Research In Motion, Google and Intel. While a select handful of influential technology names continue to blow away expectations, the broader market continues to disappoint. How long can this divergence continue? It is definitely not healthy when anything related to finance and real estate, from the major money centre banks to home builders, continue to report rapidly deteriorating conditions while a select few technology companies, which ultimately rely on the same indebted consumers, continue to surprise to the upside. I do not believe this situation can resolve itself without a consumer lead recession.

Deutsche Bank Considers Participating in SIV Fund (Update2): “Deutsche Bank AG, Germany's biggest bank, may join an $80 billion plan backed by the U.S. Treasury to revive the commercial paper market, though “details aren't yet clear enough to make a final judgment,'' Chief Executive Officer Josef Ackermann said.””

Deutsche is considering joining the SIV bailout party. This isn’t much of a surprise, considering Deutsche is sitting on $46 billion in Deutsche Bank sponsored asset-backed commercial paper conduits… So you see, its in their best interest to sell some of their own ABCP to M-LEC at prices they determine so they won’t have the unpleasant experience of true price discovery in an open and transparent market place.

MBIA Plunges After Stock Buyback Halted, First Loss (Update3): “MBIA Inc., the world's biggest bond insurer, plunged the most in 20 years after the company reported its first loss, ended a share buyback and failed to quell speculation it will write down more of its mortgage portfolio.

The company today reported a $36.6 million loss after reducing the value of the securities it guarantees by $342 million. Chief Financial Officer Chuck Chaplin told investors the company will stop buying its shares because it needs to conserve capital, helping stoke concerns that more asset mark downs may be ahead.

MBIA, based in Armonk, New York, and Ambac Financial Group Inc., the world's second-largest bond insurer, both reported their first losses in the third quarter as the prices of mortgage securities they guaranteed declined. The insurers write derivative contracts promising to pay holders in the event of a default. The value of the securities plummeted after subprime delinquencies soared.”

The charts of bond insurers do not look pretty at all. Keep these guys on your radar. Should any of them fail and therefore not be able to make good on their insurance… well the unfortunate hedge or pension funds holding the insured junk will surely fly into a panicked rage as they are forced to eat sudden, unexpected losses.

How likely is bankruptcy? Fairly. Read more here and here. Take a look at the charts of MBIA and Ambac.

Japan's Consumer Prices Fall 0.1%; Production Slips (Update2): “Japan's consumer prices fell for an eighth month in September, led by flat-panel televisions and digital cameras, as deflation persists in the world's second- largest economy.

Core consumer prices, which exclude fresh food, dropped 0.1 percent from a year earlier, the statistics bureau said today in Tokyo. Industrial production slid 1.4 percent last month from a record in August, a separate government report showed.”

Ever since Japan’s own credit and real estate bubbles SIMULTANEOUSLY burst so many years ago AND their demographic tsunami of retiring baby boomers hit, they’ve been struggling ever so desperately to RE-INFLATE EVERYTHING. Instead equity prices AND real estate prices DEFLATED 90% from top to bottom and still failed to recover…

In the meantime, a Microsoft inspired tech rally and a Countrwide inspired short squeeze should result in a nice pop.

Thursday, October 25, 2007

Free Candy!

I must admit, I did not like yesterday’s mid-day show of strength. The SP500 bounced (again) off support @ 1490… I had been hoping that weak earnings from Merril Lynch and another seriously scary housing number would be the catalyst to break that level of support. I will remain patient, although I have cut my index shorts by half.

Orders for Durable Goods in U.S. Unexpectedly Fell (Update3): “Orders for U.S.-made durable goods unexpectedly fell in September, restrained by a slump in demand for military equipment that overshadowed increases in business investment.

The 1.7 percent drop followed a 5.3 percent decrease in the prior month, Commerce Department figures showed today. Excluding a 39 percent decline in defense equipment, orders rose 0.7 percent.

Rising demand for capital equipment, a sign of business spending, may ease concern the housing slump will lead to a broader economic slowdown and end the expansion. Overseas demand and increasing business investment in new machinery will keep manufacturing growing in coming months, economists said.”

While the number is not quite as weak as the headline would suggest, a 0.7% increase excluding defense equipment is not exactly a sign of economic strength either.

Merrill Lynch May Write Down $4 Billion More, CIBC Analyst Says: “Merrill Lynch & Co., the largest brokerage firm, may have to write down another $4 billion in the fourth quarter as the value of subprime assets continues to drop, according to CIBC World Markets.”

This is more bad news for Merril, but hardly a surprise. Consider also the usual suspect, from Bear Sterns to Goldman and everybody in between, will most probably follow up with further write downs of their own over the coming quarters… I think its simply unavoidable.

Merrill Lynch Ratings Cut by S&P, Fitch After `Startling' Loss: “Merrill Lynch & Co.'s credit rankings were cut by Standard & Poor's and Fitch Ratings after the securities firm posted the biggest quarterly loss in its 93-year history.

S&P lowered New York-based Merrill Lynch to A+ from AA- after the investment bank wrote down the value of subprime mortgages, asset-backed debt and leveraged loans by $8.4 billion, causing a $2.24 billion loss. Fitch also reduced the firm to A+ from AA-, its lowest ranking since August 2002.”

When the debt ratings of major Wall Street players start to get cut it is a signal that the Bull market is OVER. These guys are at the center of this money making universe. When they are wounded like this all risky activity gets scaled back quickly… way scaled back. Risky assets classes won’t find the sponsorship they need to continue to outperform. End of story. This cycle is over. (Don’t worry, there will be another one. There always is.)

O'Neal's Subprime Shakeout Shows Peril of SIV Bailout (Update3): “Paulson's plan, announced last week, may do little to address the lack of transparency that has roiled global fixed- income markets since July 31, when two hedge funds managed by Bear Stearns Cos. went bankrupt following losses on securities tied to subprime mortgages. Investors aren't willing to rely on estimates by Wall Street traders to value these bonds and there's no central trading system or exchange. Fitch Ratings says the value of SIVs, which own more than $320 billion of bonds, fell to 73 percent as of Sept. 28 from 100 percent in July.”

The articles knocking the SIV bailout plan are coming fast a furious. M-LEC is not finding many friends on the Street. It may therefore be doomed to fail. Watch these developments like a hawk…

Japan's Exports Grow at Slowest Pace in Two Years (Update2): “Japan's exports grew at the slowest pace in two years in September as shipments to the U.S. fell, a signal that the nation's economic expansion may cool because of waning demand in its largest market.”

I almost missed this little headline yesterday. Pay close attention if you’re in the ‘Chindia will save us camp’. US economic weakness will spread to Japan, and Europe and from there to the EXPORT DRIVEN economies of China and India. Some weakening is already evident.

“Growth in exports to China slowed to 16.5 percent last month from 23.7 percent in August. Asian exports increased 8.3 percent after climbing 16.4 percent. Shipments to Europe rose 13.2 percent in September after August's 15.5 percent gain.

Shipments to the U.S. fell at the fastest rate in almost four years as a housing recession led to a drop in demand for construction equipment. Japan needs export growth to ensure the economy rebounds from a second-quarter contraction as falling wages keep the lid on spending by consumers at home.”

Oh and the housing situation is about to get worse. The bulk of the ARMs resets are coming up…
It looks like the Bulltards are still blindly chasing the Candy Truck…

Wednesday, October 24, 2007

Merril Lynch Get Pwned!

Merril Lynch gets pwned!
The rumors about Merril Lynch turned out to be true.

Merrill Lynch Reports Loss on $7.9 Billion Writedown (Update2): “Merrill Lynch & Co. reported its first quarterly loss in six years after a larger-than-forecast $7.9 billion of writedowns for subprime mortgages and asset- backed bonds, the most by any Wall Street firm.

The third-quarter loss of $2.24 billion, or $2.82 a share, compared with net income of $3.05 billion, or $3.17, a year earlier, the New York-based firm said in a statement. Merrill said Oct. 5 that it would report a loss of as much as 50 cents a share.

Merrill's failure to meet its own projection shows how Chief Executive Officer Stanley O'Neal misjudged the severity of the decline in the credit markets since July, after late mortgage payments from borrowers with poor credit histories surged. The charge is the biggest in the firm's 93-year history and the first major setback in O'Neal's five-year tenure.”

Two weeks ago Merril Lynch gave guidance on its earnings… and then missed terribly.

“If you can't guide toward a reasonable expectation over two weeks, clearly you've got bigger problems.”

With such large and sudden writedowns, the message is clear: Merril Lynch doesn’t have a good handle and understanding of their risk.

“It sends a very poor message to the marketplace that Merrill doesn't have a good handle on their risk.”

For those of you who still think this will be over quickly…

““We've got more skeletons to find out about, because the credit cycle has yet to play out,” said Jon Fisher, who helps oversee $22 billion at Fifth Third Asset Management and doesn't own Merrill shares. “This isn't over in just a year.””

Futures are diving deep into the red pre-market. Oh and don’t forget about housing @ 10:00 AM this morning…

Ambac Posts First Loss as Subprime Bond Prices Drop (Update1): “Ambac Financial Group Inc., the world's second-largest bond insurer, reported its first quarterly loss after reducing the value of subprime mortgage-linked securities the company guarantees by $743 million.

The third-quarter net loss of $360.6 million, or $3.51 a share, compared with net income of $213 million, or $1.98, a year earlier, Ambac said in a statement issued on Business Wire. Profit excluding investment and so-called mark-to-market gains and losses was $1.88 a share, the New York-based company said. The average analyst estimate was for $1.88, according to a Bloomberg survey.

Ambac and other bond insurers have guaranteed the payments on collateralized debt obligations through derivative contracts promising to pay CDO holders in the event of a default. The value of CDOs backed by residential mortgage securities has fallen in the past three months as subprime loan delinquencies rose. Ambac said Oct. 10 that it would take an unrealized mark-to-market loss.”

So, Moodys and S&P used rating models that are no widely ridiculed. What are the odds that Ambac’s own models for pricing the insurance of these derivatives…

Buffett Says Investors Should Be `Cautious' on China (Update3): “Billionaire Warren Buffett said investors should be “cautious” about China's stocks after the country's benchmark index more than doubled this year.

“We never buy stocks when we see prices soaring,” Buffett told reporters today in Dalian, northeastern China, where he's visiting a subsidiary of his Berkshire Hathaway Inc. “We buy stocks because we're confident of the company's growth. People should be cautious when they see prices rising.””

Buffett always chooses his words carefully and he does not tend to speak out of turn.

“Buffett this month said Berkshire had sold its stake in PetroChina Co., which has risen 76 percent this year to become the world's second-biggest company by market value. China's CSI 300 stock index has climbed 48 percent since May 17, when Li Ka- shing, Asia's richest man, said there “must be a bubble.””

Li Ka-shing is another investing legend that has called China a ‘bubble’. When the likes of Buffett and Li Ka-shing start taking profits, you should as well. They are the deal makers with the serious capital. When they can’t find value, nobody can.

Turkey Bombs PKK in Iraq, Sends Soldiers Over Border (Update5): “Turkey bombed units of the Kurdistan Workers' Party, or PKK, in northern Iraq and ordered troops across the border in pursuit of the militants, a lawmaker of Turkey's governing party said today.

Turkish F-16 jets and artillery pounded at least 63 suspected rebel positions inside the Kurdish-controlled region from Oct. 21 until yesterday, said the lawmaker, who attended a briefing by government spokesman Cemil Cicek to a group of government deputies late yesterday in Ankara.”

What a mess.

Monday, October 22, 2007

Hindenburg Omen Chart

The Ominous Hindenburg Omen

The rate cut inspired euphoria has finally subsided and the Bulltards have snapped out of their trance to find themselves riding the short bus over the cliff and into the Abyss…

Thursday was the 3rd Hindenburg Omen. This little known technical indicator is deadly serious.
“The Hindenburg Omen is a technical analysis signal that attempts to predict a forthcoming stock market crash. It is named after the Hindenburg disaster, the crash of the German zeppelin of the same name in May 1937. The Hindenburg Omen is the alignment of several technical factors that measure the underlying condition of the stock market - specifically the NYSE - such that the probability that a stock market crash occurs is higher than normal, and the probability of a severe decline is quite high. The rationale behind the indicator is that, under normal conditions, either a substantial number of stocks establish new annual highs or a large number set new lows - but not both. When both new highs and new lows are large, it indicates the stock market is undergoing a period of extreme divergence. Such divergence is not usually conducive to future rising prices. A healthy market requires some degree of internal uniformity, whether the direction of that uniformity is up or down.” [bold is mine]

The criteria are quite simple. For example, you can compile your own chart on Stockcharts. The site has the requisite technical indicators.

“The traditional definition of a Hindenburg Omen has five criteria:

-That the daily number of NYSE new 52 Week Highs and the daily number of new 52 Week Lows must both be greater than 2.2 percent of total NYSE issues traded that day.
-That the smaller of these numbers is greater than 79.
-That the NYSE 10 Week moving average is rising.
-That the McClellan Oscillator is negative on that same day.
-That new 52 Week Highs cannot be more than twice the new 52 Week Lows (however it is fine for new 52 Week Lows to be more than double new 52 Week Highs). This condition is absolutely mandatory.”

While unconfirmed Hindeburg Omens can occur frequently (and their occurrence is used to criticize the reliability of the indicator), they must come in CLUSTERS to be CONFIRMED. A confirmed Hindenburg Omen occurs if a second or more Hindenburg Omen signal occurs during a 36 day period. Let me re-iterate: The signals come in clusters. There must be two or more before they can be confirmed. The clusters must also occur in a tight time frame.

“The probability of a move greater than 5% to the downside after a confirmed Hindenburg Omen within the next 41 days after its occurrence is 77%, the probability of a panic sellout is 41% and the probability of a major stock market crash is 25%. The occurrence of a confirmed Hindenburg Omen does not necessarily mean that the stock market will go down, although every NYSE crash since 1985 has been preceded by a Hindenberg Omen.” (The Past Performance of the Hindenburg Omen Stock Market Crash Signals 1985 – 2005)

Alright then, lets reconcile fundamental reality here with technical reality:
1) The residential real estate market is truly dropping off a cliff. This is a very real concern as the American Super Consumers have finally levered themselves to the point where this kind of decline in their single largest asset will result in irreconcilable financial distress.
2) The credit derivatives markets have seized up as a direct result as foolish lenders and foolish investors alike are left wondering who the bagholders of the toxic sludge are. This will impair banks as they take both real losses and have to tie up valuable capital to bring off balance sheet liabilities (them stupid SIVs) back onto the balance sheet. Capital will also be tied up in increased margin requirements and loan loss provisions. Furthermore, the risk managers at the banks will find themselves suddenly the kings of the castle and are already tightening the screws on credit to protect their bottom lines.
3) As indicated by the declining US dollar, rising commodity prices and the recent TIC data, there is a very real possibility of capital flight occurring from the US. Central Banks the world over have been ‘diversifying’ their US dollar holdings for the last two years now… and this trend is only accelerating.
4) US corporate earnings and margins are at cyclical and record highs. There really is nowhere to go but down. (Despite robust growth in Chindia.) Equity prices are also at record levels and multiples. (Do not believe the ‘equity is undervalued versus bond yields’ crap. Check the PEG ratio instead among other things.)
5) The global geopolitical situation is quite shaky. Iraq has been all but abandoned. The US is going it alone now and CANNOT WIN. Turkey is making noise about taking things into their own hands in Northern Iraq. Iran is still defying the UN on uranium enrichment. Israel is not happy about being unable to ‘crush’ Hezbollah and is spoiling for a fight to re-establish its deterrent power in the region.

Put all the puzzle pieces together. Do not take these Hindburg Omens lightly…
Heads up...