Last Week on Wall Street: Deflating

Deflating... One word described Friday best and it was "deflating." The big bad bailout finally passed through Congress... late, politically perverted, manically manipulated, derogatorily decimated, but it passed. What of the stock market reaction, you ask, how high did it go? Ah, the psychology of the market; she's a confusing lady. Her reaction on Friday was to say the least, deflating.

The market ended the week at its lowest point, despite the passage of the big bad bailout. The Dow Jones Industrials Index (DIA) dropped 1.5% on Friday, and collapsed 7.3% on the week. "What happened Greek," they ask me on my blog, "you said Paulson had a good plan this time!"

The answer can be found mysteriously in psychology and within a mix of all the adjectives describing plight that I laid out at the start of this diatribe. To put it simply, this is what happens when you build something up and then slowly tear it down piece by piece. When announced in its simplicity, the Paulson plan was the perfect medicine for what ails us, at least in my view. The problem was that he was asking for a lot, and it needed to get through a group of politicians who are coming up for reelection in a month's time.

So, after the House of Representatives got through telling the world how useless this bill was, how injurious it would be; and after they knocked it down first, and so allowed even more doubt to brew, they then passed a bill that barely resembled its old self. Oh, it was not much changed in terms of its terms. It was, however, now slouched over and depressed. What Congress did was its best job of pleasing both worlds, which we know is impossible, and so what it accomplished was less than optimal, and so far even destructive.

The psychological impact this law might have had was all but nonexistent by the hour of its passage. So, Hank Paulson must now take up the reigns of his new gift horse, and get the most out of it as fast as he can. The Treasury Secretary is already putting together the infrastructure to manage the monumental task at hand. Paulson reportedly already hired Barclays (BCS) and State Street (STT) to manage the purchase of mortgage-backed securities (MBS) related to the Fannie Mae (FNM) and Freddie Mac (FRE) bailout, so it's likely he'll quickly have infrastructure in place to begin management of securities purchased from financial institutions as a result of Friday's legislation.

Working Against Stocks

So, while the Administration sort of got what it asked for, along with necessary oversight provisions, installment constraints and a bunch of other provisions thrown in to help lawmakers look better to their constituents AND to help Americans, stocks still gave ground through the close on Friday. Who could blame investors for a fearful retreat. Friday's Employment Situation Report noted the labor force shed 159K jobs in September, and Weekly Initial Jobless claims marked their second consecutive period of near 500K new benefits claimants. Meanwhile, monthly Factory Orders, ISM's Manufacturing Survey, Motor Vehicle Sales and September Personal Spending all stunk of recession this week.

The Week Ahead

In the absence of much ground-breaking news on the economic schedule, I expect all eyes will turn back toward the Fed next week. The pressure should begin rebuilding on Ben Bernanke and crew to cut rates another 50 basis points. Third quarter earnings season officially kicks off on Tuesday, with the report of Alcoa (AA), however, in this quiet period ahead of the majority of corporate reports, earnings warnings are more likely to dominate news flow. Otherwise, we have Chain Store Sales to hide from on Thursday, as the retail environment is showing signs of trouble ahead. The International Council of Shopping Centers' Weekly Same-Store Sales growth has slowly but consistently trended lower through September.

Hopefully Hank will get back on his horse, and get to work saving our economy. We expect he'll put in yet another full weekend of work arranging our salvation. With any luck, his buddy at the Federal Reserve will give us the lift we need at this point as well. At least we can take solace in the knowledge that Congress can't do any more damage to sentiment.

Comments

[carey_jim:]

When an economic patient gets sick he usually comes down with either inflation or deflation as a major symptom and financial doctors try to treat symptoms without necessarily trying to find the causes because they rarely agree on what they are.

It isn't clear if American and/or the world is going to have a deflation fever or an inflation fever so it even less clear what the treatment should be.

Probably due to nightmarish historical memories, Germany which is the economic engine of Europe wants to fight inflation at all costs (hates interest rate cuts) and America wants to fight deflation at all costs (loves spending and hates saving money.)

Due to export policies, China and Japan fear and don't want a weak dollar (deflationary for the United States AND them because (?) they will never buy our stuff anyway, no matter how cheap it is, and if we slow down our buying of their stuff their economies will slow down which is deflationary.)

Europe is ambiguous about a strong dollar for various complicated reasons that I can't figure out.

Maybe we Americans could manage a deflationary inflation and make everyone happy?

We could easily mange it by buying almost everything for very low prices and selling almost everything for very high prices.

I think that is the heart of the Paulsen plan. If so, it is a stoke of genius.

2008 Oct 06 05:01 PM