Sunday 13 May 2012

Nothing Really Changed Or The Cockroach Theory.

It is said that there is never just one cockroach in the house. The JPM $ 2 Bil. speculative loss reminds us of that. How many various other kinds of loss are hidden in the cupboard of the Fed? JPM is supposed to be the strongest of the rotten lot. What about BAC or C or other European Banks? We know for sure that many of those are zombies walking around.

So what has changed after three years of the worst financial meltdown in the recent history and trillions of dollars/euro liquidity pumped in by the central bankers. Nothing really!  I know that a comparison of Bear Sterns with JPM may not be very appropriate, but let’s just review the time line of the collapse of Bear Sterns from an academic interest point of view: ( Source: Reuters)

1) December 14, 2006 - Bear Stearns posts record earnings, touting huge profit gains from then-booming businesses advising on mergers and arranging credit derivative, distressed debt and leveraged finance deals.
Bear stock closes at $159.96. The average price target from Wall Street research analysts covering the stock, according to Reuters Estimates, is $166.24.
2) January 12, 2007 - Bear shares close at a record $171.51 on momentum from its strong earnings report the previous month. The average price target: $174.
3) May 24, 2007 - Bear shares close at $147.55, a six-week low, after Goldman Sachs slashed its quarterly earnings target for the rival investment bank, citing concern about Bear's heavy exposure to the mortgage securitization business. The average price target: $181.73.
4) June 14, 15 & 16, 2007 - On June 14, Bear reports earnings declined for the first time in four quarters on weaker results from its mortgage securities business. On June 15, The Wall Street Journal reports a hedge fund run by Bear has suffered big losses on soured subprime mortgage investments. (A second fund with similar troubles would soon emerge.) The next day, the 16th, the Journal reports that Merrill Lynch, a creditor to the fund, seized some of its assets. The stock closes at $150.09 on Friday, June 15. The average target price: $181.
5) July 17, 2007 - As losses from subprime mortgages begin to threaten credit markets around the world, Bear Stearns informs investors in its two struggling hedge funds that the funds have "very little value" remaining. Bear shares end the day at $139.91. The average target price: $178.23.
6) August 5, 2007 - Warren Spector resigns under pressure as co-president and co-chief operating officer of Bear, having lost the confidence of long-time CEO James Cayne for his handling of the subprime mortgage crisis. The stock closes at $113.81 on Monday August 6. The average target price: $164.29.
7) October 5, 2007 - Prosecutors launch a criminal probe into the collapse of the two Bear Stearns hedge funds. The stock closes at $131.58. The average target price: $144.17.
8) December 20, 2007 - Bear reports its first-ever quarterly loss, driven by $1.9 billion of bad debt write-downs. It also says executives will not receive annual bonuses. Bear shares close at $91.42. The average target price: $121.67.
9) January 8, 2008 - James Cayne is replaced as CEO by investment banker Alan Schwartz. The stock closes at $71.01. The average target price: $111.36.
10) March 12, 2008 - Responding to market rumors of a cash crunch at the bank, Bear CEO Alan Schwartz goes on CNBC television and assures viewers that the firm has ample liquidity. The stock closes at $61.58. The average target price: $98.87.
11) March 14, 2008 - JPMorgan, backed by the Federal Reserve, provides an undisclosed amount of emergency financing to Bear Stearns. Bear says its liquidity position had deteriorated dramatically in the previous 24 hours. The stock plunges to close at $30.85. The average price target: $93.62.
12) March 16 & 17, 2008 - JPMorgan agrees on March 16 to buy Bear for $236 million, or $2 a share, representing just over 1 percent of the firm's value at its record high close just 14 months earlier. The deal essentially marks the end of Bear's 85-year run as an independent securities firm. On Monday, March 17, Bear shares close at $4.81 on optimism another buyer may emerge. The average target price: $2.

Yes, the same JPM.

Around that same time other cockroaches came out of the closet. Lehman Brothers filed for bankruptcy protection on September 15, 2008.  Merrill Lynch got purchased by BAC on September 14, 2008. Then it took over 2 years to discover that too big to fail banks are in fact living dead walking the earth and yet today they are bigger than before. None other than a prominent Fed official is pounding his fist on the table to break them up but it will have no impact whatsoever. So many cockroaches got away in the height of 2008/9 crisis. They got fat with the taxpayers money and now they are coming out again. How many months you think we have now from sighting of the cockroach and final meltdown? I would say about eight months to a year.

But that is a very long time horizon. Let us review what is in front of us for the next week or two.

European Crisis: By now everyone knows everything about how shi**y things are in Euroland. And it is still a wonder that Euro has not collapsed yet. The reason being, the same TBTF banks believe that their Chairman will bring in more free money here in USA and ECB will start another LTRO in summer. Liquidity cannot save them forever but   may gain them some months.  Now that Euro has closed below 1.30, the immediate target is 1.285 after which there will be a short term bounce. I think we will see 1.26 challenged by end of June 2012.

This will give Bernanke enough ammunition to start the next liquidity pumping program.

Economic Situation: Those who believe in the de-coupling theory and shout that because US stock markets are going up, US economy is doing great, are in for a shock. The fact is the world economy is sputtering and US economy is no exception. The GDP count for the 1st quarter will come around 1.5, Europe is in recession, Manufacturing index in India has nose dived, China, in spite of all manufactured data, clearly showing signs of landing ( I suppose hard) and have now reduced the bank reserve ratio. The real story of Chinese economy is told by Australian Dollar which is going down and will soon be below parity.  What does it all mean? It means that we will soon see a concerted effort by all the Central Banks of the world to reflate. Do not buy canned foods and that survival kit yet.

US Stock Markets:  While SPX and DOW gave sell signal, there is no sell signal from Nasdaq yet.  I keep repeating that we are following the script of 2011. An update of RFG ( SPX Mid cap 400 ETF) is here.

You can match the points to the T.
In the coming week, we might see a lower push but by month end we will re-test the Apple earning high of around 1400 again. I believe any rally should be sold.  You can follow daily response to the market movement in our model portfolio.  As of now, the model portfolio is short on commodities, financials and Russell 2000. I would like to close all short positions and re-enter later again.

Oil and Commodities:  I have said it before and will say it again; crude and commodities will go down unless we see more easing. These just reflect the world economy better than the algo driven bot controlled US stock markets. I think Crude will bounce along with the general markets only because it is much oversold.  It is gets past $ 93 in June, we would be looking for way down below.

Gold & Silver:  Just hanging by a thread. How far it can go? Let’s see if this chart by Chris Kimble gives any indication.

I still think Gold will go upto $ 2500 in next 12 to 18 months time but that will come in a different set of circumstances. For now, more downside is to come. Again, there will be a short term bounce along with other markets but I would stay away from going long gold for now.

It’s been a long post. So let me stop here by quoting Charles Dickens: It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us, we were all going direct to heaven, we were all going direct the other way - in short, the period was so far like the present period, that some of its noisiest authorities insisted on its being received, for good or for evil, in the superlative degree of comparison only.

You see, nothing really changed even after 200 years.

Thanks for reading . Hope you are enjoying my blabbering and forwarding it on to someone who you think might benefit. I am looking forward to your comments and emails. 


  1. Yes, sure, i am enjoying a lot of the article that you shared here. Thanks for this information.

  2. Great stuff BB. I enjoy reading your articles and porfolio updates :)

  3. Like your approach and take on the market BB....Guess the FB IPO should act as a floor this week...