By Prieur du Plessis, on December 16th, 2007 posted in: Bonds, Business, Commodities, Currencies, Economy, Emerging markets, Equities, Finance, Gold, Housing, Investment, Markets, Money, Oil, Stocks, US dollar, Wall Street 3 people had their say - chime in!

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Phew – what a tumultuous week! MarketWatch very aptly described the events as “a central-banking version of the old playground poem ‘Solomon Grundy’.” “Ben Bernanke and company were speculated about on Monday, cut rates on Tuesday, took steps to inject credit-market liquidity on Wednesday, and were scrutinized and debated over on Thursday and Friday.”

Sub-prime issues, liquidity and credit crunch concerns continued to cause market jitters, especially as Morgan Stanley became the first major Wall Street investment house to warn that it may now be too late to stop a recession. And this report, entitled “Recession Coming”, came from Dick Berner, otherwise known at Morgan Stanley as the “resident bull”. Equally closely watched Nouriel Roubini went one step further stating that it was time to move away from the soft landing versus hard landing discussion and start concentrating on how deep the coming recession would be.

The past week was characterized by an avalanche of bearish reports and for the first time since the start of “Words from the Wise” three months ago not a single positive item regarding the US economy/markets made its way into the article. (This should normally start flashing a signal to contrarian investors.)

Before highlighting some of the thought-provoking quotes from market commentators, let’s briefly review the market’s actions on the basis of economic statistics and a performance chart.

Economy
The Fed cut the Fed funds and discount rates by a quarter-point to 4.25% and 4.75% respectively on Tuesday. Many investors were expecting a larger reduction and were even more perturbed by the Fed’s statement citing risks to inflation as well as economic growth rather than concerns about future economic growth. 

The Fed’s rate cuts were followed by an announcement on Wednesday that the Fed, the European Central Bank, the Bank of England, the Bank of Canada and the Swiss National Bank would make coordinated liquidity injections of as much as $64 billion in the coming weeks in an effort to alleviate the credit logjam. This represents the biggest act of international economic cooperation since the September 11 terrorist attacks, raising concerns that problems in the financial sector and the global economy could be wider than feared.

The latter part of the week witnessed a surge in US inflationary pressures with the PPI (+3.2%) showing the biggest gain in 34 years and the CPI (+4.3%) jumping to a two-year high.

The usual summary by Gold Seeker of the week’s economic reports was not available at the time of going to print, but Yahoo Finance came to the rescue with an excellent table of economic statistics.

WEEK’S ECONOMIC REPORTS  

Source: Yahoo Finance, December 14, 2007.

The coming week’s economic highlights, courtesy of Northern Trust, include the following:

Markets
The performance chart obtained from the Wall Street Journal Online indicates how different global markets fared during the past week. 

Source: Wall Street Journal Online, December 16, 2007.

Global stock markets experienced a rollercoaster week, but closed in the red as investors became increasingly concerned about the snowballing of credit-related problems and central banks falling “behind curve”.

The Dow Jones World Index declined by 3.2% and emerging-market stocks by 3.0% (incorrectly reported on the chart above). Interest-rate-sensitive and smaller-cap stocks were big casualties of deteriorating investor sentiment. The Indian BSE 30 Sensex Index (+0.3%) was one of the few to escape the onslaught.

The US Dollar Index continued to strengthen during the week, spurred on by the Fed’s more-hawkish-than-expected statement. The surge in inflation data propelled the dollar to its biggest daily rise against the euro in almost three years on Friday. Higher-yielding currencies, in general, rose on the announcement of central banks’ plans to flood the system with cash.

Global bonds declined across the board as the spotlight fell on inflation, negating earlier safe-haven considerations. On the money-market side, one-month dollar and sterling Libor rates fell somewhat in response to the central banks’ announcement. Euro Libor rates, however, edged up as Eurozone inflation picked up the pace.  

The stronger dollar and mounting concerns about a US recession weighed on the prices of copper (-5.4%) and other base metals (-4.1%). The precious metals complex had a mixed week with only platinum (+1.0%) making some headway.

Crude oil (+3.4%) ended the week higher as continued harsh weather conditions impacted much of the US and a refinery fire also added to supply problems.

Now for some words (and graphs) from the investment wise that will hopefully assist to make sense of financial markets as Santa Claus approaches, but firstly a cartoon in lighter vein.

Source: Jim Sinclair’s MineSet, December 14, 2007.

Moody’s Economy.com: Survey of business confidence for world
“Businesses are very nervous.  Confidence edged a bit higher during the first week of December, but is consistent with an economy that is contracting. Expectations regarding the outlook over the next six months are eroding and have never been weaker in the five years of the survey. Confidence is stronger outside the US, but it has notably weakened most everywhere across the globe during the past month.”

Source: Moody’s Economy.com, December 10, 2007. 

Nouriel Roubini: US recession will be protracted and painful
“So it is time to move away from the soft landing versus hard landing discussion and start considering seriously how deep the coming recession will be. In the view of this author, the 2008 recession will be more deep, protracted and painful than the short recessions of 1990 to 1991 and 2001; this time around – unlike 2001 when only tech investment faltered – most components of aggregate demand are under threat: falling residential investment, falling CAPEX spending by the corporate sector and now evidence of a sharp slowdown and near stall of private consumption that accounts for 70% of GDP. With the US saving-less and debt-burdened US consumer now under threat the risk of a more protracted and severe recession than the mild one of 2001 are significant.”

Source: Nouriel Roubini, RGE Monitor, December 11, 2007.

Bill Gross: Beware the shadow banking system
“What we are witnessing is essentially the breakdown of our modern day banking system, a complex of levered lending so hard to understand that Fed Chairman Ben Bernanke required a face-to-face refresher course from hedge fund managers in mid-August.

“Forward-looking bond investors should understand that the shadow banking system has been built on leverage and cheap financing and that to keep it from imploding, a return to Fed Funds levels closer to those of 2003 may be required. While the Fed is not likely to repeat its 1% “deflation insurance” levels of that year, current Fed Funds futures which predict a 3¼% bottom are not likely to be correct either. Standby for a tumultuous 2008 as the market struggles to move from the shadows back into the sunlight of sounder banking and financial management, accompanied by Fed Funds levels at 3% or lower.”

Source: Bill Gross, Pimco’s Investment Outlook, December, 2007.

Ambrose Evans-Pritchard (Telegraph): Morgan Stanley issues US recession alert
“Morgan Stanley has issued a full recession alert for the US economy, warning of a sharp slowdown in business investment and a ‘perfect storm’ for consumers as the housing slump spreads. In a report ‘Recession Coming’ released today [December 11], the bank’s US team said the credit crunch had started to inflict serious damage on US companies.

“‘Slipping sales and tightening credit are pushing companies into liquidation mode, especially in motor vehicles,’ it said. “Three-month dollar Libor spreads have jumped by 60 to 80 basis points over the last month. High yield spreads have widened even more significantly. The absolute cost of borrowing is higher than in June.’

“‘As delinquencies and defaults soar, lenders are tightening credit for commercial, credit card and auto lending, as well as for all mortgage borrowers,’ said the report, written by the bank’s chief US economist Dick Berner. He said the foreclosure rate on residential mortgages had reached a 19-year high of 5.59% in the third quarter while the glut of unsold properties would lead to a 40% crash in housing construction.

“Like Goldman Sachs, and Lehman Brothers, the bank no longer believes Asia and Europe will come to the rescue as America slows. Mr Berner said US demand is likely to contract by 1% each quarter for the first nine months of 2008, but the picture could be far worse if the Federal Reserve fails to slash rates fast enough. It is betting on a quarter point cut this week, with three more cuts by the middle of next year. ‘We expect the Fed to insure against the worst outcome,’ he said.

“Morgan Stanley is the first major Wall Street bank to warn that it is may now be too late to stop a recession, though most have shifted to an ultra-cautious stance in recent weeks. Mr Berner – known at Morgan Stanley as the ‘resident bull’ – is one of the most closely watched analysts on Wall Street. While he began to turn bearish last April as the credit markets turned nasty, the latest report is written in tones that may is rattle the fast-diminishing band of optimists.”

Source: Ambrose Evans-Pritchard, Telegraph, December 11, 2007.

Continue reading Words from the wise for the week that was (Dec 10 – 16, 2007)