No Runny Eggs

The Labor Department released the latest Producer Price Index (PPI) today.   The PPI shows what is happening to prices at the wholesale level.   The latest results showed that the PPI had decreased by 2.8%, the sharpest decline ever recorded.

While the full PPI declined, the core PPI (they remove price changes for  energy and food) rose this month by .4%.

I’ve always thought this notion of “core” PPI to be utter nonsense.   As energy prices were soaring and food along with it, during late last year and early this year, various economists pointed to the lower core PPI as evidence that inflation was still under control.   I don’t know about the economists but my household gets pretty severely impacted by dramatically rising energy and food prices.   Those two items don’t have significant elasticity of demand in our checkbook!   For this and other reasons, I don’t tend to pay a lot of attention to the “core” changes of PPI.   In today’s report however, I say an anomaly that caught my eye.

At the very end of the report was this explanation of why the total PPI went down while the core PPI continued to rise:

The 0.4% increase in core PPI was driven by a sharp 2.6% jump in light truck prices, which include sport utility vehicles, and higher prices for other capital goods.   (emphasis mine)

You’re kidding right?   We’re supposed to believe any of these statistics are meaningful?   The reason the core PPI increased was because of an increase in costs of SUVs?   First, isn’t Detroit complaining that they aren’t selling any vehicles and thus need a bailout?   Does anyone really believe that SUV prices have increased?   I don’t mean the sticker price, I mean the price you actually pay!  

Second, does anyone know someone who purchased a brand new SUV in October?   Weren’t there just stories saying that October was the worst car sales month in 30 years?   Haven’t we seen stories telling us that SUV sales have dried up?

Definition of Statistics:   The science of producing unreliable facts from reliable figures.   Evan Esar

The saddest part about all of this is that our taxes are paying for someone to put out this drivel.   I think I’ve found one place where Obama could trim the Federal budget!

Hank Paulson found Bank of America worthy of a $25 billion investment via his “Anything goes” TARP program.

You remember that TARP program? Those funds were supposed to be used to shore up the US financial system? You also remember how Congress, after having been burnt by Freddie and Fannie assured us that TARP would have significant and stringent oversight?

Um, not so much.

Bank of America was in such dire need of the capital infusion, money that was supposed to assist loans in the US, that they thanked the US taxpayer by investing  $7 billion to increase their stake  in a Bank in China!

Is it any wonder why the vast majority of Americans believe the country is going in the wrong direction?  

Are there anymore questions about whether Congress should ever do another “bail out?”

Yes, I’ve been silent all week. I still don’t have any one thing quite post-worthy, but let’s run through some thoughts:

– CNBC had a banner earlier today asking whether the International Monetary Fund could “save the world”. My memory may not be what it used to be, but when the IMF tried to save Mexico, South America, and Asia, they had to be bailed out by (you guessed it) the US. There just isn’t any money out there anymore.

– Speaking of no money out there anymore, I find it interesting that gold, the haven of last resort in fiancial troubles, is down 15% from late summer. If that is not a sign of money simply evaporating from the global market, I don’t know what is.

– As bad as you think things are here, they’re worse in Europe. The Euro and British Pound are both down over 20% against the dollar. By contrast, the Japanese Yen and Chinese Yuan are up slightly against the dollar, with most of the rest of Asia down. Once again, I attribute that to money simply disappearing from the global market.

– There is but one reason why GM/Ford/Chrysler are at the head of the bailout line – the UAW. I can’t remember which Dem Congressman admitted the only reason they want to bail out the “Big” Three is so that the fat union contracts stick around. Left unspoken is that the UAW donates millions upon millions of dollars to those same Dems, and Barack Obama proved that money talks.

– If the Dems are successful in killing the 401(k) program by making it ordinary taxable income, I honestly don’t know where the bottom for the equity markets is. There is not nearly enough ability between the pension funds and 403(b)s (which I imagine will still receive favorable tax treatment as they’re union and government creations), and money-market IRAs (which, even if they didn’t suffer the 401’s fate, are far more limited in money) to prop up the market.

– If you think the government has that cash, guess again. I just heard on CNBC that an auction of 30-year T-bonds yesterday went very poorly. Even with the market crash, the equity markets still have far more value than either the entire federal budget or the national debt (something north of $20 trillion versus roughly $3 trillion and $11 trillion respectively). Again, where’s the money?

– Speaking of deficit, Jim Doyle just admitted that there’s a $5 billion hole in the state budget for the next biennial period. That is an 8.4% typhooning of total state spending over that two years and nearly-150% increase in the structural deficit from the estimates at the time (if memory serves). If filled the way the Dems usually fill (if they were honest about filling it), it would also represent an 18% 2-year tax increase. Of course, they want to lop on a tax doubling for their version of CubaCare (which would more-likely require a tripling or perhaps a quadrupling).

– Back to fat union contracts; 80% of spending by the city of Oak Creek is on (mostly-)union-negotiated compensation. After all, where else but government, which never really cuts back in absolute terms, can one get 50% of one’s salary in benefits? So far, tax levy increases have been “limited” to the anti-freeze provisions, but that is only because of massive fund transfers and a fresh infusion of cash from We Energies (via the state). Guess what? Those funds are empty, and that We Energies payment is as high as it’s going to get.

Many malls and even Fleet Farm, moved to discount Halloween goods a week ago. They did this to make room for Christmas displays and merchandise. While many folks are already able to do their Christmas shopping, most of us wait until December 24th or 25th to deliver our Christmas gifts. Not so with the Treasury department!

After a ridiculous delay, considering we were all in “grave danger,” Treasury has finally gotten around to doling out its $700 billion dollar bail out. Over the past couple of weeks Treasury has struck deals with nine financial institutions including Goldman Sachs who Paulson used to work for.

You may remember one of the items I carped about in the “bail out” bill was that it gave Paulson incredible latitude in determining how, when and why to use the $700 billion. One would think that for that kind of money Congress would be just slightly concerned about how it would be used…but they really weren’t. Paulson had evidently convinced Congress that the problems were so complex and changing so rapidly that he couldn’t be held accountable to a fixed plan. Well, in the immortal words of Jeremiah Wright, “America’s chickens are coming home to roost!”

The United Steel Workers have been doing a little research, analysis and calculation on Paulson’s “investments.” One of his new found pets, Goldman Sachs, just happened to have a very comparable transaction just a couple of weeks back. You may remember the news when just 3 weeks ago Warren Buffet invested $5 billion in Goldman Sachs. Turns out that his investment was very similar to the one that the Treasury made so the value should be similar too, right?

Wrong!

The analysis that the UAW  did showed that in just 3 weeks time while Buffet got paid interest of 10%, Treasury was only able to get 5%. Second, while Buffet got warrants (the ability to buy additional shares) that equal 100% of his original investment, Treasury was only able to get 15%…oh and it could be diluted down to 7.5%.

Using a well recognized financial analysis method for determining the value of these types of transactions, the UAW determined that Warren Buffet paid $5 billion, Treasury paid $10 billion for….just 3 weeks later a 100% premium! Does anyone remember anyone sounding the “all clear” in the financial markets that would warrant a 100% increase in valuation for Goldman Sachs in just 3 weeks?

I’m not normally a fan of union leadership. Most of what I see them doing is feathering their own nests at the expense of their membership. In this case, however, kudos to them for doing a little research and getting this information out.

May I remind you one last time that Paulson, and many of the people currently working for him are former employees of Goldman Sachs. As the UAW points out, neither Paulson or his employees have disclosed whether they are still shareholders of Goldman Sachs.

If the gift that Treasury gave Goldman Sachs is replicated in each of their deals, the $700 billion bail out, that wasn’t supposed to cost the taxpayer anything, contains at least, a $350 billion gift!

Merry Christmas Wall Street! I hope you remember all of us come Kwanzaa

Consider the following sequence of events:

1. $700 Billion “bail out” package was passed because it was “urgent,” “essential,” “markets would fail without it!”
2. Wells Fargo, one of the few banks who were smart enough to avoid getting entangled in the subprime messes was “forced” to accept the government’s infusion of capital, even though they didn’t believe they needed it, because if they didn’t accept it now,
   

   If the company found it needed capital later and Mr. Kovacevich couldn’t raise money privately, Mr. Paulson promised the government wouldn’t be so generous the second time around.

3. When queried on Friday about the status of the $700 Billion “bail out”, White House spokesperson Dana Perino, said:
   

   Well, we’ve looked for an opportunity — ever since the bill passed said it was going to take a little bit of time for all of us to dot the I’s and cross the T’s to get all of the policies in place. And that’s taking place right now. We’ve had Neel Kashkari, who is the Assistant Acting Secretary for the rescue package implementation, was on Capitol Hill yesterday talking about the progress.

   What we tried to warn people about across the country is that it’s going to take a little bit of time. We weren’t talking weeks, we’re not talking months — we’re talking just a few weeks for us to be able to hire the contractors. There are so many people that have to be hired and they have to — we have to make sure that we’re getting the right people. And before money can go out the door we want to make sure that those contracts are rock solid and that we’re doing the best we possibly can to make sure the taxpayers are paid back.

   So we’re in that period right now where — we’re waiting for that implementation. We’re closer than we were yesterday. They work as hard as they possibly can. So what I would ask is that Americans be a little bit patient with this program. We do think it is big enough to solve this big problem; it’s just going to take us a little while to get through it.

In the mean time, we have the report from the Federal Reserve Bank of Minneapolis, I referenced it here, that questions whether there ever was a need for the “bail out.” We also have “invested” banks using their funds to buy competitors rather than increasing loans.

All this leads me to this article from the Financial Times:

Credit markets hit by bank debt guarantee

This article outlines how normal, private debt markets are having trouble functioning.   Why?   Well simply because the government has stepped in and made substantial debt guarantees here, there and everywhere.   As a lender, if you have the choice to lend into situations where the government is guaranteeing your loan or lending normally with assets as collateral, you will either only loan with the guarantee or demand such a premium for the asset backed variety that it becomes unworkable.

I’ll admit it’s anecdotal, so was the evidence supporting the cries of urgency, but as time goes on I’m less and less convinced that the “bail out” was/is a good thing.   Commercial lending doesn’t seem to have ever been interrupted; certainly not to the point that Paulson and company led us to believe.   Interbank lending appears to have restarted.   We were told that the “bail out” was essential to save both of those functions yet according to Dana Perino, Paulson was so convinced of its “need” that he didn’t bother to get major parts of the plan in place, let alone details, even 3 weeks after the plan was approved.   Geez, at least the Marx Brothers’ repetitive ineptness was just for movies!

Admittedly, I’ve never been a big government guy.   I’ve cheered on principle, when either the State or Federal government has had to “shut down” due to some budget issue.   But seriously, can someone explain what I’m missing in this and why we should have any confidence that any of these clowns (Democrat or Republican) have a clue that involves anything other than their own political survival?

Two members of the research department of the Federal Reserve Bank of Minneapolis have looked at some of the key claims of a need for the big bail out bill.   You can read their full report here. The four claims were:

1. Bank lending to nonfinancial corporations and individuals has declined sharply.
2. Interbank lending is essentially nonexistent.
3. Commercial paper issuance by nonfinancial corporations has declined sharply, and
rates have risen to unprecedented levels.
4. Banks play a large role in channeling funds from savers to borrowers.

After reviewing numerous data points, the researchers concluded:

Our analysis has raised questions about the claims made for the mechanism whereby
the financial crisis is affecting the overall economy. We emphasize that we do not dispute that
the United States is undergoing a financial crisis and that the United States economy may
be in a recession or may experience one in the near future. Our analysis is based on publicly
available data. Policymakers have access to other sources of data as well. Policymakers could
well believe that bold action is necessary based on data that are di ¤erent from that considered
here. If so, responsible policymaking requires that they share both the data and the analysis
that underlies the need for bold policy with the public.

In layman’s language: The 4 claims don’t seem to be validated by the data generally available to the public.

There was a lot of debate at least amongst conservatives, about whether the bailout was necessary. To hear that the claims that were made for the bailout weren’t so doesn’t restore any confidence that the folks in Washington have a real handle on what’s going on and how to fix it. I suppose Paulson could have had access to information that painted a more convincing picture for him but given that they still haven’t really implemented much of their $700 Billion plan, it would seem hard to argue that their plan actually averted an anticipated.

On the final vote, I came to oppose the bailout. I thought something should be done but I concluded that with all the pork and other nonsense that had gotten attached, no one was really serious about their concern and I have no stomach for more debt.

I’m now thinking that as we look back, after the dust settles, we’ll find that aside from the dramatic increase in the money supply, most of the other extraordinary efforts may well prove to have been nothing more than attempts by various Washington cartels to make it look like they were doing something or taking advantage of the situation and attempting to gain or consolidate their own power.

Maybe, just maybe, at the end of this we find that good old Capitalism is a lot smarter and more resilient than any of us would ever have believed. We may find that doing nothing is the best thing we could do.

I’ve written a couple of previous times about the corrupt relationship that commercial rating agencies i.e. S&P and Moodys, have with bond issuers and bond purchasers. The rating agencies got paid by bond issuers who would have trouble placing their bonds if the agencies gave them a poor rating. In turn, if the agency provided a poor rating, they wouldn’t get future business from the issuer. It was a situation where both entities benefited from the rating agency providing a high rating regardless of what the real quality of the bonds were.

Today the rating agencies got their turn in the barrel at the Congressional hearings. As a part of the testimony, some text messages between executives of S&P were introduced. The exchange was:

Official #1: Btw (by the way) that deal is ridiculous.

Official #2: I know right…model def (definitely) does not capture half the risk.

Official #1: We should not be rating it.

Official #2: We rate every deal. It could be structured by cows and we would rate it.

Rating agencies were one of the few checks that were supposedly available for determine risk in bond issuance. It was thought that the rating agencies were “independent” and would provide an unbiased, integrity based assessment of the quality of the debt instrument being offered. Apparently the these two executives at S&P didn’t believe they had that responsibility.

There were clearly some people and organizations who were not “playing by the rules” and contributed to the current financial challenges. While I don’t really expect it to happen, I hope the Congress and others ferret these folks out and prosecute them with extreme prejudice. I also hope that changes are made to how rating agencies interact with debt issuers and purchasers. The relationship needs to be independent. Without independence, the rating agencies perform no service and the debt issuers may as well rate the bond themselves.

S&P may have given positive ratings to debt even if the deal was “structured by cows.” That’s understandable because both cows and S&P deliver shit, cows at least have the positive attribute of providing milk.

One of the surest ways to ensure that you will raise children who will be known as “brats” by the parents of all their friends, is to be your child’s “Best Friend.”   I’m not saying that parents should not have very positive relationships with their children, relationships that foster open communication and enjoyment of each other’s company.   I am saying that there are times in a parent/child relationship where a parent needs to be a parent and implement discipline.  

It’s easy to identify families where parents want to be “friends” and not apply discipline.   The children are “uncontrolled” and whine incessantly when they don’t get their answers.   The worst trait of a child that has a parent who won’t parent is repeatedly throwing tantrums in very public places.   They do that because the parent has trained them that it is more important for them to “get along” than it is to hold to principles.

The tantrum of an undisciplined child is what we are now seeing in the stock markets.

It has now been nearly a month since Secretary of the Treasury, Paulson, told us about the impending financial crisis and that “something must be done!”   Since then, Wachovias has failed, AIG has been saved, $700 Billion + has been allocated for asset purchases, the Fed has started to issue short term commercial loans (commercial paper) and international governments have followed suit with their own versions of all of the above efforts.

But it isn’t enough.

For at least the past 6 years, being a financial institution of nearly any kind, was easy.   Interest rates were low, the economy and in turn company profits were moving with unprecedented growth and assets, especially homes, appeared to have no limit to their value.   You  had to be a complete buffoon to not make money as a financial institution during this time.   In fact, with the exception of some hiccups during the .com bust, the same argument could be made back to the early 90’s.

Now the financial world has changed (OK, admittedly, that is an understatement).   No longer can money be leant just because “I like you” or “I know you.”   This doesn’t mean that stocks are worth zero or that no loans should be made.   Rather, we’re back to a time where real work needs to be done.   Financial institutions, and markets, need to get back to the fundamental work of assessing risk and pricing it into stock prices, interest rates or bond yields.   That’s what they should be doing but they aren’t there yet.   Like the child who has been coddled by their parent for far too long, the markets and  financial institutions are now throwing public tantrums in an effort to get the FED and other governmental institutions to give them even more to placate their tantrums.

I’m recommending that Paulson, Cox, Bernanke  watch a marathon of “The Nanny.”   If they do, they will find that even the worst behaved child can be regain socially appropriate behavior once the parent sets firm boundaries and show the child that behavior outside of those boundaries is unacceptable and will not get further placating.  

How do I know I’m right?   Read this article at CNNMoney.com.   Here’s the money quote from the article:

“It’s another step in the right direction, but it’s hard to get too excited about this because nothing yet has worked,” said Bill Stone, chief investment strategist at PNC Financial Services Group.

“Eventually, if they [the government] stack up enough things, something will work,” he said.

Until Paulson, Cox and Bernanke quit giving in and teasing that more “goodies” may yet come, the markets will not get to the work of analyzing and dealing with facts.   Until some firm boundaries are established, the markets will continue to hope for more and throw public tantrums when more is not forthcoming.

It’s time for Paulson, Cox and Bernanke to establish some tough love.   It won’t change the behavior overnight.   However, in time, the petulant child will once again learn to be a positive member of the family.   Until then, expect to see more and increasingly violent tantrums.

In an offline conversation with one of our regular readers, Dad29, this bit came to mind. Many of you have seen this umpteen times. Watch it once more. When you do, imagine that the guy banging the gong is the FDIC, the guy with the body is a short seller and the knight riding through at the end, oblivious to all going on around him is SEC chair Cox.

Wait, watch it again and imagine that the guy with the gong are Fannie Mae and Freddie Mac, the guy with the body is a mortgage broker who knows the applicant can’t make the payments and the Knight is Barney Frank.

There are probably numerous other analogies that can be drawn to this bit from the current problems…take your try at it and leave a comment.

As the economic events of the past few weeks have unfolded we’ve heard continuing cries from the Democrats that unregulated markets are bad and that the reason this “melt down” has occurred is that there wasn’t enough government intervention.   Now I know our regular readers are smart enough to know this not to be the case.   However, if pressed, could you provide specific examples where excess government interference has actually been a negative?  

Throughout this crisis, the government has taken an unusual role in picking winners and losers.   The picked Bear Stearns to be a loser and JP Morgan to be a winner.   The chose Lehman to be a loser but picked AIG to be a winner by virtue of the guarantees it provided to keep AIG afloat.   Most recently, the government chose Wachovia to lose and Citi bank to win….except it didn’t.

After determining that Wachovia was about to implode, the FDIC negotiated a deal for Wachovia to be sold to Citi for $1/share.   Along with the sale, the FDIC agreed to provide loss protection for anything in excess of $42billion, on Wachovia’s $312 Billion dollar mortgage related securities.   This approach had been similar to how the FDIC and other government agencies had been operating since May so no one questioned their logic, until……

Wells Fargo looked at the Wachovia assets and said “We’d like some of that!”   Wells Fargo liked it so much that they offered a stock transaction originally worth $7/ share.   How the heck did that happen?

The “funny” part about this is that Citi is now suing to get their governement approved deal.   I’m sure they view Wachovia as getting a $12 billion gift from the government!

Every one of the governments actions in this financial crisis has been as the weak side of a negotiation.   Imagine negotiating for the purchase of a house where you have cash, are ready to close and the seller is on the verge of losing the house to the bank.   I’ve done that a few times personally and I can tell you that you will find the lowest price possible on that house at that time because the seller has few, if any, options.   That is the situation that the government has been in, they’ve been negotiating forced sales and those will always garner the lowest bid.

It’s fairly obvious that the “crisis” we were all warned of in the last two weeks has not been  abated by securing the magic elixir of the bailout plan.   If anything, the markets have either laughed or yawned at the effort and have returned taking their ques from other stimuli, real and imagined.   Wells Fargo showed us that if the government stays out, there may be temporary pain but ultimately, quality assets will find buyers.

Oh, and did I mention that with the Wells Fargo deal, the government isn’t guaranteeing $280 billion dollars of mortgages?   Wells Fargo is buying Wachovia “As Is.”   Tell me again what good the government is doing in these deals?

In a move that will only cause more confusion in this chaotic time, the SEC provided “clarification” today on how to apply mark to market valuations. In their “clarification” the SEC now says:

reminded financial services firms that they don’t need to use fire sale prices when evaluating their hard to price assets.

OK, but what if the only sales currently, and that have for a while, are only fire sales? Then what do you do?

Further in the Reuters article is the quote that sums up my impression of the SEC’s “clarification.”

“This letter (SEC document) could be titled, pick a number, any number, as it gives bankers great leeway in choosing what numbers they will give to investors,” said Lynn Turner, who served as chief accountant at the SEC from 1998 through 2001.

While “picking any number” will allow you to finish your quarterly financial statements it has some huge negative potential; jail time.

Following the Enron debacle, Congress decided they were going to ensure that accounting standards were so tight that no one could “game the system.” Their fix was called Sarbanes/Oxley. Sarbanes, as it is generally referred to, did many things to tighten accounting rules. It also significantly increased accountability for management. Sarbanes has criminal penalties i.e. jail time for company executives who falsify financial statements.

Under normal circumstances, estimates provided by industry experts i.e. company executives, would be acceptable and pass without comment. However, in the current, hypersensitive environment, “estimates” are easy targets for overly ambitious prosecutors who are working in a situation where everyone is looking for someone to blame.

The SEC’s “clarification” didn’t clarify anything. If anything, it muddied the standard even further. The SEC should suspend mark to market for these specific asset classes. Only by setting the requirement aside or by providing indemnification for good faith efforts, will these companies find any relief from the mark to market requirement.

A couple of weeks back, as the current crisis unfolded, John McCain called for the firing of the SEC chairman Chris Cox. At the time, many people scoffed at McCain saying that he was reaching and over reacting. Based on this latest cluelessness on the practical implications of his own decisions, I agree with McCain! It’s time for Cox to go.

Just to make you feel really good, Cox is one of the four people outlined in the bailout (yes, it’s back to that with the extra crap that got thrown in) bill who is to oversee how the $700B is spent!

We’re in soooooo much trouble!