The Stock Market: Searching for Signs of Intelligent Life

After Fannie Mae (FNM) announced a $2.2 billion quarterly loss and plans for a $6 billion capital boost on May 6th, the stock opened lower, but finished sharply higher.

At the time, it seemed odd that investors were buying Fannie's stock on the news, especially given that the company is "clearly going to be insolvent by the end of the year," according to Christopher Whalen, a founder of Institutional Risk Analytics, an independent research firm.

However, based on the Fannie's 10 percent price-slide since then, it now seems apparent why the stock rallied on that day. Quite simply, a lot of equity investors with large amounts of money at their disposal don't have the slightest clue about what they are doing.

Well, it looks like we've just gotten more proof of that. This afternoon, Standard & Poor's Rating Services (which I'm not a big fan of, by the way, though that fact is irrelevant in this context) announced that it was lowering the financial strength rating on MBIA Insurance (MBI) to 'AA' from 'AAA' and was placing the company's ratings on CreditWatch with negative implications [S&P also downgraded the credit rating of insurer Ambac Financial (ABK)].

So what happened? MBIA's stock sold off initially, but then it squeezed higher, finishing the day up more than seven percent. That is despite the fact that the news confirms the bond insurer's business model is completely broken and that we can now look forward with confidence to a sickeningly steady death march towards zero.

If there's any logical explanation for yesterday's rally, I suppose it is the fact that some "investors" - is that really the correct term to use here? - have blindly assumed it is time to buy because the bad news is "in the price." Or they might be thinking (hoping?) that some greater fool will come along and acquire the company (I guess they forgot about the fact that the days of buyout insanity are more-or-less over). Then again, maybe they believe the "authorities" are going to rescue the company [you mean like Bear Stearns (BSC)?].

However, there really is a simpler explanation for Thursday afternoon's insanity: there simply isn't a lot of intelligent life in the stock market nowadays.

Comments

[SWRichmond]

Paradigms. Youthful investors (30's and 40's) have grown up in an environment where stocks always went up. Sometimes they briefly corrected, but they always resumed going up. Corrections were ALL buying opportunities, since everything always resumed going up. When the Fed has got your back, buy stocks with both hands, always.

It's easy to be a stock legend when stocks just go up. Investors are behaving as if their expectation of ever-increasing stock prices are reasonable. That is what they learned: never bet against the Fed.

Fundamentals like "earnings" don't matter to them; the only fundamental they understand is that stocks always go up. Like you, I believe that they have a learning experience headed their way. The Fed is halfway through its balance sheet, and there's another $5 Trillion in Level 3 that FASB wants to put on the books.

Bankruptcy or printing press? Time to choose.

[jgroom]

Intelligent life in the stock market? I don't see intelligent life anywhere. If someone does, please let me know where to look.

[wobatus]

Do you believe that there will be nothing left at the end of the day if they go into run-off? From what i understand that is not neceesarily the case, but i am all ears. Lay out the case a la Mr. Bill.

[iThinkBig]

You nailed it SW. Keep expecting the printing press until bankruptcy for a large portion of Main St occurs. This is just the beginning. The next step afterwards is a foregone conclusion.

My business partner and I are buying a place in September about 50 miles from any metro bigger then a villa. It will dual nicely as vacation property and a place to escape the temporary anarchy which will unfold over the next few short years. A lot of very bright minds come here to Seeking Alpha. Many of us will need to rebuild the economic community and assume leadership positions in Washington. May God bless our efforts as we have some real work cut out for us...

[wobatus]

I think some mighty full of themselves minds come to seeking alpha. Sheesh.

[oldlures1]

wobatus - I agree. Lot's of emotion floating around on this one, and little substantive evidence to back up claims. I started to offer my opinion, but frankly didn't know where to start; too many holes to plug. Nevertheless, I suppose you inspired me.

I will offer this; generally speaking, I think there are a lot of bright minds in the investment community. They study the numbers, understand the fundamentals, and they don't fall victim to propagandist headlines and market manipulators (i.e. Buffet, the rating agencies, etc.).

I don’t agree with the author’s overall message and underlying sentiment, but I do share his sense of wonder and confusion over recent events. After all, the market is behaving without rhyme or reason, flying in the face of conventional wisdom.

I also agree with his lack of respect for S&P, but I’ll expand my disappointment to all three agencies, and offer in support of my mentality their downgrade of MBI and ABK (this is where I also disagree with the author). If you read the headlines as a harbinger of truth, then the agencies’ actions seem appropriate, but you’d also be terribly misguided. The financial fundamentals of both companies can pay policyholders, survive the crisis and continue as going concerns. But you won’t hear that, let alone see any evidence that supports it (that is, unless you read the financials, the 10-ks, are tear yourself away from the headlines). What you get as supporting rationale is irrelevant industry observations and vague innuendo about what might be happening in the insured portfolios. So why downgrade them? It doesn’t make sense, unless, of course, they have an underlying agenda and/or have succumbed to market perception.

All told, I can explain the circus we’re observing (and unfortunately enduring) with two words: election year

FNMA is going to be insolvent by year-end, huh? And I've heard elsewhere that ABK and MBI will be insolvent by year-end as well. Apparently a lot is happening by “year-end”. Want to know what else is near year-end? The election. Coincidence? I think not. Here’s the schtick: Create an environment of disruption and chaos, and don't allow it to settle. Fuel a sense of dejection and unrest. Lead "the people" to believe in the notion of impending doom; financial or otherwise, and the need for "change". Folks will look for an opportunity to create such change and....well...whatd'ya know, there's an election; just before "year-end"! How convenient! It's purely coincidental, I'm sure.

At the risk of sounding like a complete whacko conspiracy theorist, I’ll leave you with something to chew on: Moody’s is 20%-owned by Berkshire Hathaway; a obvious conflict-of-interest (but you don’t see that in the headlines, do you?). Let’s make it juicy: BK just opened its own bond insurance shop, which stands to gain from by stifled competition (i.e. ABK and MBI). Now, let’s take it a step further, to a macro-level: Buffet is a well-known lefty, and has made his displeasure with the current administration quite obvious (and admittedly, as a righty, I share some of that frustration). By virtue of BK, Buffet (when not otherwise distracted by soap opera gigs) controls the purse-strings of many companies, all of whom pay annual fees to the rating agencies. Are you connected the dots? So, here it goes, downgrade one company, and the effect is contained in those four walls. But downgrade the two largest bond insurers, and you’ve effectively downgraded every security they insure, thereby fueling panic, turmoil and unrest in the markets, not to mention beat down consumer sentiment, thus helping to ensure an economic landscape more accommodating for a change in administration.

[venividivici]

I agree with you. A lot of what goes on defies logical explanation. These are the actions of the certifiably insane. How did they earn the money in the first place?

[Isnt_It_Just_Money]

oldlures1, I have always thought that the whole "war on terror" was designed to serve the agenda of the ruling neocons so what's new?

[oldlures1]

I forgot to add to my comment...

And while the mkt is distracted by the chaos, the AA-downgrade effectively shuts the monolines doors, thus allowing BK's newly opened bond insurer nearly unfettered access sans competition from those pesky #1 and #2 players, MBI and ABK.

The rating agencies downgraded both ABK and MBI without conducting a review. That's a fact, and one you won't see pointed out in the headlines. [note: Moody's has initiated a review, to be concluded in the weeks ahead]. In either case, it's odd, wouldn't you say? Downgrading MBI and ABK impacts over $1 trillion in securities; quite a bold move in the absence of a thorough review.

Furthermore, the rating agencies substantiate (albeit weakly) their actions now by questioning "franchise value"; the ability to generate new business. This too is odd, because if you look at the numbers, not the headlines, you'd see that MBI was the 3rd largest originator of bond insurance this year. Obviously, there IS franchise value...today...that would likely increase with time. But that door has been effectively shut by the downgrade, thus ensuring whatever franchise value they had is now gone! Again, doesn't this strike you as odd? It should.

[beandog]

Don't fight the fed.


beanieville.blogspot.c...

[hownow]

Markets are in good hands, just show some respect for the pros now:

tinyurl.com/55cxeg

[wobatus]

Oldlures, while I know Berkshire stands to gain new biz, and I admire the political conspiracy theory instinct, i don't know that the author, hereof, panzer, is in cahoots. All i know is, financial experience, professorial teaching credentials and all, he does not lay out any specific case why MBI, say, would be not end up having any net value after run-off.

Also, Ackman, or Einhorn, i forget which one, was quoted as saying he ws astonished in speaking to someone at the rating agencies say that they don't have some huge team of guys pouring over the records of the bond insureres, just a few guys who pretty much go buy the filed info. If they missed it before, what makes anyone think they are getting it right now?

My question has been, even without new biz, what is MBI worth ina run-off? Ackman has or had skin in the game. I don't even k ow that he is talking run-off. Panzer, i don't know his position, whether he has a vested inteest. But he never responded to my post, and I doubt he knows or cares.

BTW, completely honest disclosure, i have no vested interest whatsoever, other than my interest in the market in general and economy in general. I am tempted to take a flier on MBI, simply because my limited reading and knowledge is their is net value above current price after a run-off. But I am not the gambling type, and I also don't want to stand in front of a train of bullspit.

Anyway, go ahed panzer, what do you think is the value after runoff and why, and crib from Bill Ackman all ya want. I call bullspit on your "market is full of imbeciles" argument as well. I am glad I never had a condescending jerk like you for a prof.

[oldlures1]

Personally, I don't know that I'd crib Ackman, but if so, then I'd offer that an informed decision can only be gained by looking at both sides of the coin. As such, read (Third Avenue Value Fund) Marty Whitman's FY07 year-end and 1st qtr 2008 shareholder letters - there's a lot of discussion their large play on MBIA.

[wobatus]

Oldures, I haven't read the letters, but I know Third Avenue is on the opposite side of that trade. I was just teasing Panzer. My guess is more that he has just read Ackman's stuff and hasn't even looked at it that closely. Maybe he has looked at it in depth, but his article didn't lay out any serious argument with analysis of the numbers, and was just nyah nyah name-calling. Like he is flaming longs on a yahoo message board.

[wobatus]

Hey Panzer, I bought at $4.80 yesterday. Already up 20% in aday, and maybe I will sell to a greater fool, like perhaps a retail short covering 'cos he was losing his shirt after he sold short upon reading your drivel. I guess there is no intellgent life in academia. What, couldn't cut it in real world finance anymore?

Just teasing ya, dude, throwing back in your face the same kinda stuff you were shoveling.