History Suggests the Financial Bottom May Be Near 17 comments
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I know it's painful, but days like this are what makes America so great. Our willingness to allow Lehman (LEH) to go bankrupt makes us great. Our short selling attacks on AIG (AIG), Washington Mutual (WM), and Citigroup (C) make us great. Dropping 500 points on the Dow is difficult to swallow but consider the alternative of artificially propping up a company like Lehman so they can flounder on for another five years. That wouldn't be great.
The capitulation to come this week is required to form a bottom in the financial sector. I count ten times this year that analysts have prematurely called for a bottom in the financials and each time buyers have been bitten. We at Lone Peak Asset Management have refrained from making any such calls but it must be noted that this action is different. History shows us that forced consolidation is the sure way to end a crisis.
A similar panic in financial stocks happened during the Gulf Crisis, in August of 1990. Banks, S&Ls, insurance companies and other financial stocks, already down sharply because of real estate problems, went into a free fall. Fears were being voiced about the viability of the banking system itself, and doubts were expressed as to whether it could withstand the shock of a substantial real estate downturn. From the beginning of the year to the end of September, regional banks dropped 50%. Some financial stocks fell by as much as 80% from their previous highs. Sound familiar?
Jim Cramer remembers this about that time period:
I had made almost all of my money shorting the financials that year. I didn't want to leave the thesis; it was too lucrative. And then it changed. Citigroup got a sheik savior. I saw institutions, insolvent institutions, rise from the dead and get bought at a premium. I remember fighting it. I remember digging in my heels. I remember being smarter than the average bear. I remember saying that the bulls were a bunch of bozos and lightweights and didn't know anything. I remember the scorn I had for them. And what happened? The financials rallied 200%. Oil prices plummeted. Inflation went away. The market took off huge. A new president eliminated the budget deficit and created tons of new jobs. The remaining banks prospered beyond belief.
The bottom of the 1990 crisis was formed once the mergers began. The current bottom is upon us as Washington Mutual, AIG and Citigroup join the others who have found resolution: Merrill Lynch (MER), Lehman, Fannie (FNM), Freddie (FRE), Indymac, Countrywide, and Bear Stearns. As a result of these resolutions, our financial system will emerge stronger than before and the broad market will finally be able to sustain a rally. Those banking institutions that remain will be buoyed up by the Federal Government as soon as this necessary consolidation is finished.
Vince Farrell is the latest to suggest that the government suspend mark-to-market disclosure requirements, the same argument that we at Lone Peak Asset Management offered up back in July. Mr. Farrell said:
In addition to the exotic debt obligations, companies like Lehman have billions in commercial real estate on their balance sheets, and how are you supposed to mark to market a long-lived asset like an office building every quarter?! David Malpass of Encima Capital, a first-rate economist, writes in the current issue of Forbes that the government should suspend this accounting provision and rethink its application. Asset deterioration needs to be accounted for, but probably not quarterly and definitely not marked to a chaotic and unreliable market level. It seems to me that Treasury and the Fed are kind of making up the rules to this one as they go along. That is not a criticism. But since there is no guideline or precedent, I think they should try to calm the situation down with an accounting adjustment. I don't want to see any more government bailouts. In a free enterprise system, there is risk as well as reward, and now is as good a time as any to remind us all of that. An accounting accommodation could act as a time out while we figure out how best to apply the principle without putting more taxpayer money at risk.
Maintaining a clear perspective during a 500 point down day is difficult but rest assured, the system is not falling apart, it is fixing itself. None of us can escape the anxiety and doubt that permeates a crisis. Crisis investing opens the door to large profits but they don't come without discipline and an ability to stomach the temporary reverses. To make the big gains you have to buy while overreaction surrounds you.
In closing, Bank of America (BAC) CEO, Ken Lewis had an interesting response to the question of why he didn't wait longer to buy Merrill Lynch:
We don't think many people, if any, can ever call the bottom...as we weighed everything, we said it is better to seize on this opportunity as we see it at the moment, as opposed to trying to catch the very bottom and possibly not catching it at all. This is the strategic deal of a lifetime.
DISCLOSURE: NONE.
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This article has 17 comments:
Jay Fredrickson
I-95south.com
Are you serious?
One sentence you're ripping those that call the bottom, the next you build a case supporting that premise. What a joke. You keep thinking that the bottom is near, particularly when the bond markets get swallowed in this storm.
I'll be expecting the next commentary to reflect 11 false bottoms.
My name is also Jay Fredrickson
One should remember that what makes our nation great is a culture of risk taking, transparent though rowdy capital markets, and a willingness to foster "creative destructive". What you are seeing is the survival of the fittest - very painful in the short term but very beneficial in the long term.
All I see is things getting worse, a lot worse.
That would be Kevin Bacon.
First, the accounting rules should be changed and banks should not have to mark down their assets quartely ??? That's insane! The very problem of this crisis and the reason why nobody can call a bottom is because nobody knows who is holding all this toxic waster a.k.a. junk mortgage derivatives/bonds etc. Now you would want Lehman (or any other institution) to wait the WHOLE year to tell us that they had 30 Billion in Toxic garbage?
The reason why this crisis is happening is because OF LACK OF REGULATION on mortgage backed securities, therefore, if anything, they should mark everything every day.
And as far as History goes, I believe this is a new era.
The early 90' was followed by the tech bubble which we all know the end of that.
Today's world is much different.
*Huge investment banks are failing.
*There is a list of 127 regional banks that are lined up for problems.
*US debt has reached a new level.
*weak dollar
*Wars being fought by the US
*Foreclosures everyday by the thousands
....I doubt that your 200% rally in the financials are to come anytime soon....
myinvestmentanalysis.c...
CD Rates
This is one excellent piece of journalism. You did your homework. The financials are a mess, but as you pointed out they are coming out of it. Someone should look closer at their Board of Directors as they really screwed AIG.This is really a time to accumulate good companies as these prices. You know, Buy Low, Sell High. What will happen is the Instutions will run the price of the Dow up 50% and then recommend their stocks to others and the market will go up another 20% and everyone will be happy. Thanks Jason
Daniel Kowkabany