Daily Market Reports | Mar 08 2008
By Greg Peel
A rose, by any other name, may smell as sweet, but nominal arguments do not change the fact that the US economy is definitely on the nose. Whether it is in a Montagu, or still hanging on to a Capulet, is of little consequence to the 63,000 Americans who lost their jobs last month.
The market had been expecting the February data to show only a small increase in US jobs growth, to the tune of around 25,000. The independent ADP data released earlier in the week largely backed this consensus. So when the number came out at a 63,000 loss, the “slowing but not receding” camp seemed to be standing on pretty shaky ground. To top things off, the December and January figures were collectively revised down by 46,000 jobs.
Unemployment is the last piece of the puzzle. Surprisingly, however, the actual rate of unemployment fell from 4.9% in January to 4.8% in February. But this was attributed to the fact 450,000 Americans decided to abandon the search for a job in February, making themselves unavailable for unemployment benefits. This is the largest drop in five years. With 63,000 losing their jobs in a month and another 450,000 giving up hope, the income available for consumer spending – whether on a wage or welfare basis – is diminished. The US relies on the consumer for 75% of its domestic economy.
The Dow closed down 146 points, or 1.2%, to 11,893, thus closing below the previous January low close of 11,971. On Friday the Dow became the last of the three major indices to break through the January 22 low. The next stop on a technical basis is 11,508, which was the intraday low on the same day. The S&P, which broke its low on Thursday, was down 0.8%, and the Nasdaq, which breached its low last month, lost 0.4%.
The Dow had actually gained 54 points before the jobs number. It was not to see those heights again, and a rapid decline was exacerbated by news coming out of Thornburg Mortgage. One of the biggest issuers of prime – not subprime – mortgages in the country announced it was struggling to remain a going concern. It had paid some US$1.2bn of margin calls to its lenders, but there was a further US$600m it simply didn’t have. Welcome to America.
The Thornburg crisis is representative of the general US credit crisis in a nutshell. Friday’s statement from management was a perfect counterpoint to a Fed announcement made earlier in the session – 15 minutes before the jobs release – that the central bank would increase from US$40bn to US$100bn the amount of liquidity available to banks and once again widen the range of asset-backed securities it would accept as collateral for the short term US Treasury loans. Bear in mind also that the Fed futures market is currently factoring in a 100% chance the Fed will cut the cash rate by a full 75 basis points this month.
In August 2007 the initial “subprime crisis” was supposedly halted when the Fed first cut rates and increased liquidity. With further cuts, a rally ensued into November until the “second wave” of security write-downs emerged. By January it was apparent the US was heading into recession. In 2007, a Fed rate cut would bring a rapid covering rally. In 2008, 1.25% of cuts has resulted in the Dow only falling lower. It should be apparent that something is wrong.
Thornburg is what’s wrong. As the big subprime lender Countrywide was the poster child for the subprime crisis of 2007, Thornburg has become the poster child for the prime crisis of 2008. Wall Street has spent the last few weeks deeply concerned over the fate of the monoline insurers, which are in trouble given their exposure to CDOs. That is still a subprime issue. But Thornburg only has AAA-rated “jumbo” mortgages on its books, loaned to middle class Americans most of whom are perfectly capable of servicing their debt. This is a prime issue. Thornburg cannot roll over its financing because the banks are not prepared to lend against anything to do with mortgages or any other form of asset-backed paper at present. Thornburg is going under because its lines of credit are frozen.
So let’s go back to the Fed. On Friday it increased the amount and scope of liquidity available TO BANKS. Liquidity increases and rate cuts have been implemented to deal with THE MORTGAGE CRISIS. Banks across the country, no matter how large, are struggling to maintain their own required levels of capital. Citigroup, the largest, has seen its stock price fall 60%. Yet the Fed is handing out lifelines to the banks in the belief they will act as conduits to pass on the rescue package to the mortgage market. And then it’s wondering why capital-starved banks who have been forced to completely re-evaluate their approach to risk are not taking the punt and handing that money out into a precipitously falling housing market. Well duh.
The Bush Administration is “encouraging” banks to refinance mortgages in distress. The Fed is “encouraging” banks to write down the amount of principal owed on distressed mortgages.
Bill Gross, CEO of the world’s largest bond trading firm Pimco, is among one of many observers suggesting the Fed needs to completely rethink its actions. Speaking on CNBC, Gross noted a precedent set back in the 1960s where the Fed jumped over the banks and moved DIRECTLY into the mortgage market, exchanging US Treasuries for troubled mortgages. The Fed has cut rates to date by 2.25% yet mortgage rates have increased as risk spreads have ever-widened. In the meantime, the US dollar has tanked. The market expects the Fed to take rates down another 75bps. Gross has been buying hundreds of millions of Thornburg’s quality paper but is not alone a saviour. Until the Fed gets real, one can only expect more Thornburgs. And next it will be the big one – a bank.
The Dow did manage to stage a late rally on Friday, as again the day-trader types – the only ones seriously playing the market at present – took profits on shorts. It was down as much as 221 points in the afternoon.
Ahead of the jobs data oil hit a new record above US$106, before more recession confirmation sparked profit-taking. Oil closed down US32c to US$105.15/bbl. The US dollar did not collapse further on the jobs data, and closed mixed to lower against major currencies. Everyone is short the dollar. The Aussie moved up only slightly to US$0.9278. Gold fell US$5.10 to US$973.30/oz.
After a wild week of base metals price fluctuations, it was a wild session on Friday as technical trading and recession fears fought it out, amidst a slightly more stable dollar. The result at the end of trading was not too much movement in either direction.
The SPI Overnight closed down 94 points. As noted previously in this column, Australia’s market has become far more volatile than the US market, which is in itself pretty damned volatile. Daily percentage movements have often been double that of Wall Street. On Friday the ASX200 broke rapidly through support (if there were any) at 5300. The SPI is indicating a Monday opening in the 5100s. While the resource base of the index is holding up on surging commodity prices, it is clear uncertainty in the financial sector – once considered immune to the goings on in the US – is in dire straits. Fear rules.
