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Bust, Bail, Repeat: The U.S. Enters into an Ever-Worsening Cycle

by: Max Wolff July 24, 2008 | about stocks: FNM / FRE / IEF / LEH / OIL / SDS / SKF / SPY    

Max Fraad Wolff

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We are a year into the financial pain and virtually no systemic problem has been solved. Markets have entered into a new unsustainable cycle. The new dance is a two-step. Home prices slide, delinquencies rise, defaults rise. This puts additional pressure on housing going forward. Financial firms announce greater write-offs. Retailers slump and contagion goes global. Selling grips the markets, the good and the bad are sold off indiscriminately. Commodities rise, fear escalates and reaches a crescendo as at least one major institution nears or reaches insolvency. Forecasts of impossible return to the good old days are debated and rebound timetables are pushed back. In the depths of the swoon, the Fed opens the discount window to some new and previously barred set of institutions. Bail-outs are readied, Treasury checks are cut and we rebound off the lows. Bad news becomes good, commodities sell-off and financials soar.

We are at least three episodes deep. Discount window borrowing is open to anyone not convicted of a federal crime. Interest rates are under half the official rate of inflation. House prices keep falling, delinquencies keep rising and losses keep mounting. Mountains of dubious debt have and will be parked on the Government's books. Bad mortgages, mortgage bundles and sundry cycle on and off Fed books as the Treasury writes checks to the public, maybe JPMorgan Chase (JPM) and likely Fannie Mae (FNM) and Freddie Mac (FRE). The dollar rallies when folks ignore that the Greenback is ever more backed by home mortgages. Interest-rate jawboning replaces inflation management and traders adapt to buying policy driven rallies and shorting on rising fear and fading intervention. Fear returns, babies are tossed with bath-water, commodities rally and short attacks batter firms based on rumor and trend.

Each round sees lower lows and greater intervention. Early on, reassurances and rate cuts rallied the believers. When that failed, new regulation and credit action were added. When that failed, Treasury assisted liquidation, greater assurance and rebate checks were put into motion. As that failed, direct mortgage aid, tightened regulation and enforcement of short position mixed with explicit assurance of implicit guarantees. New housing assistance is now forthcoming and another round of rebate checks appears increasingly likely. Now that we know this cycle is not working to solve any systemic or structural problem, we will do more. How much bad debt can Uncle Sam paper over or eat? How much household and financial pain can be pushed onto government books? How much more will the Fed, Treasury, SEC and Congress have to do to reverse the next leg down? Are we flirting with disaster? With a loss of confidence in state intervention to slow or reverse the slide?

There are distinct patterns emerging. Slides are lasting longer and falling to new lows. More dramatic and extensive interventions are required to generate shorter rebounds. These factors do not augur well. Fed and Treasury actions stall downslide and nibble at the edges of larger problems. Nothing like an actual solution is in the offing. Time buying and slide soothing will have to continue long enough for an organic turn around to take effect.

Otherwise, we will ride this unsustainable wave into the rocks. Rates are below comfort levels. Consumer, producer and import price inflation are well above stated target levels and recent historic norms. Deficit spending is rising fast. There are few candidates left for discount window action that have not already been invited. Recent slides in oil and commodity prices are creating some rotation back into equities and financials in particular. There is no meaningful improvement in fundamentals - yet.

The weakness of US and EU demand has put downward pressure on oil futures prices. This is combining with housing policy, Fannie Mae and Freddy Mac assistance to breathe new life. Folks are buying on oil and commodity declines. There has been some dollar strength as US economic weakness pressures oil and commodity prices. Does that sound sustainable? The dollar has done some strengthening - further pressuring oil and commodities - as Congress and candidates get down to promising spending and tax cuts that can not possible be paid for out of tax revenues? Oil is down on declining demand from economic pain. Federal Deficit spending is spiking on bail-outs, bail-ins and rebate checks. This is good news for American equities and the macroeconomic outlook?

If this bounce is like those leading into it, I expect a real show as it reverses and greater drama is called for form the Fed, the Treasury and traders. Who will get creative temporary assistance next? Who will be attacked suddenly by a rabid short crowd on 3 month old news? What further guarantees are forthcoming? What will they say when the discount window gets a "billions served" sign a la the golden arches?

Disclosure: None

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This article has 35 comments:

  •  
    Jul 24 08:48 AM
    You could not be more correct. The Treasury, the Fed and Congress are still to cowardly to say "enough is enough we will not trust the words of, or take the advice of the same folks who first said 'there is not problem', then 'the problems are contained' then 'the bottom is in sight' then 'recovery is near' only to then turn and ask for taxpayers to bailout their ever increasing dishonesty with taxpayer dollars. No, our leaders have sold our future and our dollar. They have filled out the Transfer of Title and have begun to transfer our former greatness overseas. Well, I guess the government we deserve believes what the bankers who created this mess tell and teach them... manipulate paper to support false profits... debase our once proud dollar and manipulate our markets by preventing them from pricing downside risk appropriately.
    Reply
  •  
    Jul 24 09:00 AM
    Negative garbage
    Reply
  •  
    Jul 24 09:28 AM
    You weak naysayers here have responding with absolutely zero other than some lame name-calling. If you truly believe the substantive content of this article is "negative garbage' then surely you must do better. If the sky isn't falling, here's a dare: chime in about anything, anything at all, which hints at strength in this economy, Refute a point, any point. Do otherwise than any garden variety doofus flamer. My bet: you can't because you have nothing to say.

    Soley paid for by borrowing, the US has funded a $3-trillion invasion and occupation (already costing more than WWI in inflation-adjusted terms, and more than 12 years in Vietnam. It's funded by borrowing, since taxes on corporations and the richest Americans were cut down to nil.

    The Amnerican economy is producing bupkus in terms of consumer goods, importing everythikng it buys. All paid fo by borrowing.

    Take a look at a long-term graph of US housing prices and get a sense of how far this monster could correct. Then take a look at a monthly graph of the SP500 going back a few decades. It's a ginormous double-top formation. It's huge and you can't miss it, like staring up the waterwall of a tsunami.

    So, have fun with your grubling and name-calling. It's the best you can come up with, since evidently you can come up with nothing otherwise ot refute the argyments therein. Invest based on your convictions, apparently so inverse to reality. You'll lose, becuase you're...losers.

    Then tell me we've hit bottom and are in for a long, sustained economic turnaround. In the interim you'll find me shoring pathetic uptick rallies duinrg our colective freefall off this cliff.
    Reply
  •  
    Jul 24 09:47 AM
    Lucky,you must allow for different opinions..name calling does no one good...that said,I am also shorting the upticks.Problem is by the time I pay short term gains and what is left is eaten up by inflation and the dollar devaluation,what the hell have I got?Manipulation of the markets make it a dangerous game,at best....
    Reply
  •  
    Jul 24 09:50 AM
    FNM and FRE as the GSE's underwrite conforming mortgages, that is their mandate, and they get discounted financing due to the government's implicit guarantee and reduced capital requirements versus banks. So why did FRE and FNM have holdings of non GSE CDO's in their asset holdings, including Alt-A, subprime, and payment option mortgages, at total holdings that were well above equity capital. How on Earth can Paulson and the government justify bailing out shareholders and subordinated debt holders? Why were regulators not preventing the GSE's from holding non-conforming assets? Paulson and the SEC should be investigating fraud, not bailing out management. GSE's should be recapitalized with much subordinated debt converted to a new equity stake, and insolvent shareholders getting zilch, nada, nothing.

    GSE shareholders, including affiliated banks like WAMU, allowed management to go out on a limb in search of yield, not keeping to the GSE mandate, all while collecting fat dividends before the house of cards crumbled. No bailout for shareholders!
    Reply
  •  
    Jul 24 10:01 AM
    There's only one thing really wrong with your arguments: the notion that the dollar is, or has been, strengthening. In fact the dollar index has been in a fairly narrow trading range for months (71-74) and remains there today. Relative to the 7 sizable downlegs that brought the dollar from 88 to 74 over the past 2 years and change, there has been no appreciable movement in either direction since the last big drop in February-March.

    Everyone talks about "dollar strength" but all we've really had is yet another bounce off 71, something we've seen many times already. Technically, I see nothing to get excited about until there is a convincing break above 74. Fundamentally, I share your view completely. There is no dollar strength. There may be euro weakness or NZD weakness or even yen weakness. But not dollar strength. Not now and, if ever again, surely not for a very long time.
    Reply
  •  
    Jul 24 10:19 AM
    You said "There may be euro weakness or NZD weakness or even yen weakness. But not dollar strength. Not now and, if ever again, surely not for a very long time." I couldn't agree more


    On Jul 24 10:01 AM bearfund wrote:

    > There's only one thing really wrong with your arguments: the notion
    > that the dollar is, or has been, strengthening. In fact the dollar
    > index has been in a fairly narrow trading range for months (71-74)
    > and remains there today. Relative to the 7 sizable downlegs that
    > brought the dollar from 88 to 74 over the past 2 years and change,
    > there has been no appreciable movement in either direction since
    > the last big drop in February-March.
    >
    > Everyone talks about "dollar strength" but all we've really had is
    > yet another bounce off 71, something we've seen many times already.
    > Technically, I see nothing to get excited about until there is a
    > convincing break above 74. Fundamentally, I share your view completely.
    > There is no dollar strength. There may be euro weakness or NZD weakness
    > or even yen weakness. But not dollar strength. Not now and, if
    > ever again, surely not for a very long time.
    Reply
  •  
    Jul 24 10:35 AM
    I agree with your points luckychucky, but you are ironically guilty of bashing the name caller by calling him names.

    Nonetheless, there is every reason in the world to be negative. Investors intuitively prepare for the worst possible scenarios, so sentiment in our current situation should not be surprising.

    To me, it is worthless to point blame on what has been done in the past because it is over. It seems as if the Fed and Treasury have also come to that conclusion. Regardless of whether they caused this to happen, would you like for them not to clean up their own mess (via taxpayer dollars, an issue I understand is incendiary) and watch those American doomsday scenarios play out?

    I am not extatic with the Housing Bill because of its implications on our country's debt levels and related problems, but realistically I do not see they had any other alternative. The word "contagion" became commoditized with Bear Stearns, but without any intervention, do you truly think this situation would not have spiraled out of control, especially when you consider all of the factors going against us? With our debt levels so terribly high and other countries only increasing their surpluses, it would only be a matter of time that this disaster would denegrate our position as a global leader. They did what they had to do.

    People's expectations of instant relief are unrealistic. This mess is going to take time to unravel. Institutional intervention goes against free market theories, but what if the United States were the failure of this sorry episode that most free market individuals invite to signify the end of a downturn? Would you complain that the government should have done something? Probably.

    I am not saying everything is rosy and great, because it's not, but I do think these initiatives will help this country in the long run - with one asterisk. These officials need to verbally acknowledge the need to position this country to be an effective global leader in this new economic paradigm and follow through on it. Can this happen with partisan politics? Maybe, but if they do not make changes, all of these current initiatives are for not, and they will only compound our present troubles. Think more in the long term, not in the short term.
    Reply
  •  
    Jul 24 10:56 AM
    The leadership in Washington must go. It can't be said enough. The leadership won't go so easily now. NYC money and Washington are now tied hip to hip. Lawyers make horrible lawmakers and that is what we have up there on the Hill. The American people will fix this and do the heavy lifting but it cannot occur when the obstacle is the poor management of the United States of America.
    Reply
  •  
    Jul 24 11:17 AM
    The actions being taken in Washington appear more and more panic-stricken, restrained only by the need to protect the interests of those who got us into this mess.
    Reply
  •  
    Jul 24 11:55 AM
    It's easy to blame politicians for this mess when in fact we citizens should shoulder the most blame. Speculating on a housing bubble that was obviously not sustainable, playing stocks indiscriminately (even local high school mock investors made 90% gains), COME ON face up to the facts, Americans are a bunch of spoiled brads that are now being taken to the woodshed for punishment they deserve.
    Agree, lawyers make for terrible politicians. I have been punished for saying so many bad things about lawyer by having two lawyer son-in-laws. Can't pass up a good lawyer joke: "Last winter it was so cold in Anchorage that a lawyer was caught with his hands in his own pocket." Anyway, with political parties set up like they are how does anyone really have a choice, Money moves America and lawyers make good conduits for money.
    Reply
  •  
    Jul 24 12:05 PM
    The destruction of the dollar has been a planned and willful act, carried out by Fed Governors with the full cooperation of the Treasury Department and the entirety of Congress dating back at least to the 1990s. How much longer will Americans be hoodwinked by the delusion that accumulating cheap crap from China makes us rich?

    We are standing at the gates of hell, facing the Cerberus: one head is the national debt, another the current account deficit, and another our total dependence on imported oil. We have allowed ourselves to be led here - and make no mistake, we the voters are absolutely responsible for having put criminals into every office in the government for damned near 30 years - by the illusion of prosperity, created by the willful, planned destruction of our currency through rampant, systemic, unimaginably massive inflation of the money supply. Cheap crap for everyone! Never mind about your real purchasing power...

    If you care at all about the future of America, you absolutely MUST vote out EVERY SINGLE INCUMBENT in office. It is time to start over. If I recall correctly, I believe it was Jefferson who said that "from time to time, the tree of liberty must be fertilized with the blood of tyrants." Tyrants rule our nation today, and at this moment we can spill their blood symbolically by kicking them out of office. These people are traitors, one and all. Every. Last. One.
    Reply
  •  
    Jul 24 12:09 PM
    This article is really not just about the economic problems we face. It is really pointing out the economic impact of what our government policies have created. The truth is that we are pretty much bankrupt. We are lucky that we have military might or countries would be handing in their dollars (or are they rubles) a long time ago. My problem is that we allow the gov't. to cater to special interests instead of the general public. We the People...yeah right. Sometimes I think George Carlin had it right when he said, "Maybe the government doesn't suck. Maybe the public sucks." Stop outsourcing your interests to the same two party system. Everyone's wealth in this country is built on credit. Sooner or later you have to be able to pay the piper and right now we are just experiencing the beginnings of that. Get used to it. It's not going to get better. Keep fooling yourselves. If you are smart or lucky to guess right with the market manipulators then good for you. I've been hit or miss with that stuff. But in the end the market will be down. We have no talent left here, the majority of people are stupid or lazy, and like i said before if it wasnt for our military might we might all be chinese by now....
    Reply
  •  
    Jul 24 01:45 PM
    I agree with many of the comments on this forum, and that is the sad part. United States: Fat, dumb, lazy, completely bankrupt, and utterly divided -- those "with" vs. those "without"... But hey, the business might be dirty but the money is always clean.
    Reply
  •  
    Jul 24 02:59 PM
    Simply put, our government (all levels from the congress to the oval office) is completely corrupt now. They are owned by the small group of elitists that own 90% of this country's net worth. The government, Federal reserve, Paulson, et al, are just willing pawns in this game. Hearings and other nonsense do nothing to solve any of the problems we face.
    The root of if: The american people have completely and utterly forgotten that they own this country, and that any moment they can take back this country if they so choose. We have no standing armed forces that could stop even 1% of our country should they wake up and realize what is going on.
    There are times I think to myself, "Self, what is it that has made the american people so complacent and uncaring about their own future that we sit back and watch a select few plot out our destiny."
    I guess the only thing that "might" wake people up and break the cycle of dumbed down, would be a depression of god awful proportions or quite frankly an hostile invasion from another country, on a people who are completely asleep.
    Who knows, for I see no answers right now.

    Boston tea party anyone?
    Reply
  •  
    Jul 24 03:03 PM
    Why are there so many articles here with blatant typographical errors? Surely one can take the time to proof read their own arguments.
    Reply
  •  
    Jul 24 03:26 PM
    what else can be done?

    if the fed did not intervene we would be dire straits not only in USA but globally.
    Reply
  •  
    Jul 24 03:28 PM
    Just wait until we have a new president in November... I bet that a whole bunch of this artificial stimulus goes away, we crater into 2009-2010 and they (either Dems or Repub) hope a recovery in time to get re-elected in 2012.
    Reply
  •  
    Jul 24 04:17 PM
    Faithless, when you start a new enterprise you begin with yourself, sometimes a business partner and hopefully some advisors. Growth adds employees and more management. Let's say the business grew to 250 employees from 5 over a ten year span. Now, the CEO retires at acquisition, along with three or four other C level managers. New managers come in and make poor management decisions, giving themselves raises instead of redeploying capital into R&D, marketing and increased sales. 1/2 the employees get laid off within two years as revenue drops off. Do you blame the 125 employees and say "the employees deserved it" that "the employees gambled with there time at the company and lost?" This is Washington, a place where it is the taxpayers fault they couldn't keep up with the spending and debts Washington created. It is lawmakers whom pass laws. The American people are not educated, one political party has a dominant position in media and can provide a version of truth that is remniscient to Pravda (Russian for 'Truth').

    That party attempted a massive economic and social experiment in the 1990's, repealing old safeguards that prevented the financial system from preying on the little guy. Whom is more educated? A banker or a consumer? There are documented cases of fraud and conflicts of interest surfacing everywhere and they tie into the same political party. Look at the 'friends' of the political party. New York City iBank Chairmen and CEO's. financial system and the consistent tie. Those at the top of the banking system carried Washington's message of "McMansions for all including those whom can't afford it".

    Capatalists are a bunch that finds a way to reach profits no matter how, but they have to follow laws created or rescinded by Washington.

    If you want to assign blame for the citizens being dumbed down, you probably could point to the counter-culture, funded by Communist propoganda in the early 1960's. The counter culture hippies of the 1960's are now the liberal elites whom run Washington. They are whom they were brought up to be. Is every American citizen part of the counter-culture of the 1960's era, has a silver spoon to afford to get elected into office?

    It is not the American citizen which is a spoiled brat. The American citizen bit into the 15 year economic and social experiment which has begun to collapse our economy. The American citizen is now feeling the pain and will receive the full brunt of this failed experiment. The socialists will finish the job in the next four years. But instead of being the Gods and Clods utopia they imagine being worshipped in the streets, they will see a social or physical revolution. These people are so arrogant and blinded by such an easy coup to them that they dont realize you have to kiss the behind of your military to have a socialist government, to fully enforce the fleecing of the middle class and prevent revolutions. Socialists past and present like Fidel, Mussolinia, Hugo Chavez, China all know this.

    Socialism has failed every time in 6,000 years. Now both primary political parties are a hydra with slightly looking heads but the same objective, preserve personal power and wealth at all costs. After all, if it feels good do it right? Sounds like the late 1960's counter-culture crowd to me legislating into there own pockets at the expense of 290 million citizens.
    Reply
  •  
    Jul 24 08:57 PM
    Superb post. The "V" like bounce is just that, a dead cat bounce. One must be ever so cautious. Danger ahead.
    Reply
  •  
    Jul 25 05:05 AM
    Hey iThinkBig good to see that you are laying the blame for what appears to be the failure of the free market experiment in laizzes faire capitalism on Communism. Of course Greenspan et al were part of a huge ruskie commo conspiracy when they decided that faith in the self regulation of free markets was a good thing. :rolls eyes:
    Reply
  •  
    Jul 25 05:15 AM
    You guys need to listen to Kudlow. Nobody's going to tank America.
    Reply
  •  
    Jul 25 10:16 AM
    Power on, Fred. And speaking of getting to systemic causes, does anyone other than Mr. Paulson really want to extend to the "Federal" Reserve, assiduously serving the private banking elite for over 95 years, the tools and authority to "clean up" the mess they've made?
    Reply
  •  
    Jul 25 02:58 PM
    Excellent post.
    Reply
  •  
    Jul 25 04:34 PM
    Excellent post. On strength of the dollar issue. Forty years ago with the dollar being devalued, out products would be selling like hot cakes. The problem is now we have few products since we are a service economy ie. jobs at McDonald's. We need a change in our government policies and direction. We should have the Apollo Project for Energy to produce jobs and products to sell the world.
    Reply
  •  
    Jul 25 04:49 PM
    A rocky road ahead? Could be fun! Attitude, attitude, attitude.
    Reply
  •  
    Jul 25 08:01 PM
    But,but ,the government says most all is ok . Now, how could anyone ever,ever refute government drivel ?
    Reply
  •  
    Jul 27 06:41 PM
    The Gov. has their back to the wall. Howelse would one explain the move of the GOP to support policies to the left of Moscow? See how they act in relation what they used to stand for and you know it's High Noon!
    Why do the GSE's need a rescue? Confidence, friends, confidence.
    The foreigners got sucked into holding depreciating $$$, buying CDO's and GSE (government backed - by what law) shares...Eventually they are going to stop and then the $ will go into the basement and long bonds will be 8.5% 'cause no "sovereign" will support us anymore with their taxpayers' funds. No need for them to sell, just abstain, and how will about 1.8bln external deficit be funded every day? With money coming out of worthless stoxx into "flight to quality"? You do the math!
    Reply
  •  
    Jul 27 06:51 PM
    "griz" writes: ....we crater into 2009-2010 and they (either Dems or Repub) hope a recovery in time to get re-elected in 2012.

    Yep griz, we have already Hanky Mea. But prior to your scenario we will have Obama Airlines and BillAry Banks. Not for their own doing...but the stage has be set by unfettered capatalism while the regulators were assleep after taking election money dope.
    Reply
  •  
    Jul 27 06:54 PM
    Maveric wrote: Why are there so many articles here with blatant typographical errors? Surely one can take the time to proof read their own arguments.

    Hey, Mav, you are like all these pols, all show no substance. What does a typo matter, if the issues are dealt with?
    Reply
  •  
    Jul 27 06:57 PM
    who wrote: what else can be done?

    Hej, Who, these Gov shenanigans only prolong the process and increase the cost of the inevitable :"deja vu all over again".
    Reply
  •  
    Jul 27 07:00 PM
    Archman wrote: "Self, what is it that has made the american people so complacent and uncaring about their own future that we sit back and watch a select few plot out our destiny."

    Excellent piece and full of premonition...

    What is it Archman? The Gordon Gekko (Wall St.) effect: Greed is good!
    Reply
  •  
    Jul 27 07:02 PM
    To wav 76: Everyone gets the Gov they deserve...
    Reply
  •  
    Jul 28 09:04 PM
    This cycle will only get worse at real estate continues to fall. Banks will be in bigger trouble in 6 months than they are now.
    Reply
  •  
    Aug 02 12:55 PM
    So I read here that the American people are just as much at fault as the politicians and financial wheelers and dealers. What a sick joke. Congressional flim flam artists such Phil Gramm managed to get regulations tossed that paved the way for this mess.
    Wall Street saw a window of opportunity and was perfectly willing to pile on and then drive off with truck loads of money. The hyenas in the "loan industry" enticed the gullible public in to signing on the dotted line and Alan Greenspan piously blessed the whole travesty. Now that he's comfortably behind the theater curtain along with those former CEO's and their golden parachutes Greenspan can take a different perspective, evidently imagining that no one will remember the part he played in letting any semblance of financial stability crash to the ground.
    The general public, the average person, will rarely fail to be gullible in the kind of atmosphere that prevailed over the past ten years. When there is no sensible regulatory framework in place and virtually nobody in a position of responsibility publicly questions what is going on how are they to know? Why do you think this kind of thing happens again and again?
    The unfettered "free market" has once again lead us to disaster because Congress repealed laws and shredded regulations which would have prevented this farce. Yes, they're to blame, along with all of the corporate owned K Street prostitutes that beguilingly turn their heads.
    As for Larry Kudlow and his sophomoric cheerleading, he symbolizes the dismal mess. What a maroon.
    Reply
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