Speed with Which Financials Have Fallen Is Disconcerting

Lehman’s (LEH) best course of action would be a `going private’ transaction, since it is the public equity markets that are the threat to the company’s survival,” Trone wrote in a note today. “Without a public stock, there would be no shorting, thus no motivation for rumor-mongering, thus no source to spook the counterparties and creditors.
- Bloomberg

I think this is an interesting excerpt. At this juncture, and for the foreseeable future for that matter, what is the benefit to Lehman in being a public company? The tone of the market has been such that people sell into any sort of rally, and recind their bullish sentiment in the course of a single trading day.

Here’s a fun fact; we have not sustained a rally in the Dow for more than 2 days since it fell 400 points back on June 6th:

Date             Closing Price

11-Jul-08				11,100.54
10-Jul-08				11,229.02
9-Jul-08				11,147.44
8-Jul-08				11,384.21
7-Jul-08				11,231.96
3-Jul-08				11,288.53
2-Jul-08				11,215.51
1-Jul-08				11,382.26
30-Jun-08				11,350.01
27-Jun-08				11,346.51
26-Jun-08				11,453.42
25-Jun-08				11,811.83
24-Jun-08				11,807.43
23-Jun-08				11,842.36
20-Jun-08				11,842.69
19-Jun-08				12,063.09
18-Jun-08				12,029.06
17-Jun-08				12,160.30
16-Jun-08				12,269.08
13-Jun-08				12,307.35
12-Jun-08				12,141.58
11-Jun-08				12,083.77

10-Jun-08				12,289.76
9-Jun-08				12,280.32
6-Jun-08				12,209.81

5-Jun-08

12,604.45

The Dow has lost 1,600 points in a little over a month, with 100+ point swings favoring the downside at a ratio of 10 to 1! The most obvious contributor to this chaos is the financials, which seem to be falling 3%-5% everyday:

They’re down almost 60% for the year, compared to a 20% drop in the S&P. The funny thing is, despite the seeming value based on sheer numbers, I wouldn’t even consider buying them at this point, mainly because I don’t even know what I would be buying. I know the whole notion of a”lack of transparency” is getting worn out, but it’s true. Most of the financial system has kept a huge portion of their assets off of their balance sheets. Citigroup (C), In addition to having a mammoth 2.2 trillion on the books, also has 1.1 trillion off the books in CDOs and SIVs.

Not only is this huge drop disconcerting, but more so the speed at which it has occurred, and the absence of a sign of slowing down. I’m not sure anyone predicted the Fannie (FNM) and Freddie (FRE) situation would come upon us like this, and this could be why the news of their bailout plan gave very little in terms of a bounce…

If financials took this plunge over an additional 6-12 month period, I would probably consider this a good entry point. That said, I will be curious to see what happens if the bottom falls off of the Oil market (not one of these $10 corrections), as that could be the catalyst people are looking for.

Disclosure: None

Comments

[AmesTiedeman]

Disconcerting? Opportunity is soon approaching in some names and some ETF's.

[JimmyLathrop]

The speed at which financials have declined is disconcerting if all you do is play with charts all day. It is a source of relief if you look at the market from an economic, social and moral perspective.

Congress just passed a law mandating banks must verify borrower's income and employment before offering a loan. A bank cannot use a house's assets as the only factor in offering a loan or deciding whether a borrower can repay. In other words, Congress has mandated that only people who can afford a house can buy one.
This is in direct opposition to the Community Reinvestment Act, which was a quid pro quo to repeal of Glass Steagal, and the CRA stated that banks should aggressively market risky loans to borrowers previously deemed uncreditworthy.

For the people who play with charts, here's the bottom line: banks have just been robbed of the main device which caused their run up for the last five years. No one has a substitute. The feedback loop between housing prices and banks foreclosing on homes to get the loans off of their balance sheets is greater than the feedback loop of banks selling securities to recapitalize. That is not on your charts.

This should be a sign of relief to people who work hard, save their money and try to live a debt-free life. In a year or so, housing will return to affordable levels. Lots of phantom equity will be destroyed. Mortgage brokers, real estate brokers, real estate developers - the real speculators - they will be moving back into their mother's basement.

Meanwhile, if you used the "buy and hold" strategy, the "use my house as an ATM to live beyond my means" strategy or "be fearful when others are bold and bold where others are fearful" strategy, you are screwed. Welcome to the new century. Start clipping coupons.

[bbzz24]

Wanna put a leveraged buyout for Lehman? Solicit some banks! Or ask the Fed directly, they lend to individuals as well.

"Congress has mandated that only people who can afford a house can buy one."

Not quite right. The Congress has mandated that only people with cash inflows should buy homes. No one has necessiated equity state that will make the borrower interested in repaying.

[Scared Stiff]

Jimmy-- I disagree that "charting" is the problem. I think the problem is wall street's mentality that "what goes down, must go up." Anybody who has an honest look at XLF's charts wouldn't go near financials.

[Malkiel]

At its heart, the problem is this--do you want a steady-state economy where prudent practices prevent high levels of leverage, robbing the hedge funds and investment banks of their opportunity to make big bucks fast, or do you want a wild west show where everyone can leverage up as they see fit, but some will crash hard when a downturn comes? We have the moralizers and puritans in the trenches of main street wanting to punish all leveragers for having taken risk in the last cycle where the amoral market makers on Wall Street want the right to take outsized risk as their route to glory. I suspect the puritans will lose as they always do and leverage will come roaring back in a couple of years, as it always has since the roaring 80's...

[ChristopherBush]

Ames,

It looks like you were right (although you're time line was pretty arbitrary)
However I was never disagreeing; my post was to point out the danger out there, and the lack of clarity in the mid-long term.