Dec 5 Post Part 2

I had a hard time sleeping last night because I was trying to figure out exactly why the Dow went up 500 points from the lows of the day to end up 259 points up. Why exactly did the financials rally? Why did oil fall off a cliff? Why did the market shrug off all the bad news this week to end flat? What am I missing and how can I make us more money? I think I figured some of it out.

First of all, the economy is falling apart at a very fast rate of speed. Every CEO is shocked and scared by what is happening. In every Q3 conference call, every interview and the actions CEOs are doing right now only points one direction…..DOWN. So why is the market starting to level off? I started thinking back to November and December 2007. At that time the market was going up on bad news. It was very interesting. Shocking news would come out and up the market went. The reason that was happening than was because the market wanted the Fed to cut the fund rate. Any news that would be interpreted by the FOMC as a reason to cut was looked at as good news for the market and especially financials. The Fed Fund Rate was at its peak Aug 17th at 5.25%. Sept. 18th they cut 50 BPS, on Oct 31st they cut 25 BPS and Hoening dissented because he wanted no change. The next meeting wasn’t until Dec 11th. During November and December leading up to the meeting the market knew that some people on the FOMC board didn’t want to cut rates. Bill Poole didn’t want to cut back in Aug. All the way up to Dec 11th, the market loved bad news. Then the FOMC only cut 25 BPS and down the market went. For the rest of December, bad news was still looked as good news but that stopped in January. We lost 1,500 points on the Dow before the FOMC had an intermeeting rate cut of 75 BPS to 3.50%. Bill Poole dissented then saying that emergency action was not required (what is this guy on?) The current Fed Fund Rate is 1.00%. The Dow went from 13,600 at the start of Dec 2007 to 7,800 last month. All the rate cuts did nothing.

I believe we are in the exact same situation. The market knows that the economy will keep falling apart without help. They want to the US Government to step in and cut rates to 0.00%, come up with a huge stimulus package, manipulate mortgage rates to 4.5% and get the banks to lend. We are back to bad news is good news. As much as the market wants all of this, the US Government can’t stop what is happening. This is a global meltdown. As I said yesterday, oil was the only thing that got it right. Oil takes the global economic temperature. Oil went down 25% this week. The S&P 500 was pretty much flat. This is also very interesting because oil for about 3 months has been going up and down with the market. This is the first week it has been completely disconnected this year. Back when oil was going up the market was reacting to it in an inverse way. When oil was going up the market would go down….then when oil went down the market would go up. This week they had no connection. I think oil is right. People are trying to say that low gas prices are a good thing and that will help the economy. It’s like a tax cut some “experts” say. I think that is true but the reason the gas prices are so low is because the economy is bad. Therefore, oil can’t lift up the economy because it will just go up with it. It stays level. If any of you guys don’t believe that, I will make another bet. When the Dow hits 14,000 again I bet oil will be higher then $40.81.

Now I want to break down the things the market wants:

Cut Fed Fund Rate to 0.00%: This will do nothing. This rate doesn’t mean anything when banks are not lending and people don’t pay. That will not save us.

Stimulus Package: Obama wants to build bridges, roads and make buildings more green. This is not the type of stimulus we need. We need new technology. We need a go to the moon project to develop technology for the future. This will not help us.

Manipulate Mortgage rates to 4.5%: This will be for new home buyers not refi. Right now in America 10% of all mortgages are either late or in foreclosure. This number is going up everyday and home prices are going down everyday. We have 10 months of home inventory on the market and builders are still building houses only at a very slow rate. I don’t think mortgage rates are keeping people from buying a house. I think it is banks going back to real lending practices of asking for down payments. When my parents purchased the Grapevine house the mortgage rate was around 10% and they had to put 20% down. I’m thinking that coming up with $40,000 on a $200,000 house will stop some buying.

Banks lending: This one drives me the craziest. People act like banks don’t want to lend and they want to hold onto the TARP money. That makes no sense whatsoever. That would be like Grubbs Infiniti not wanting to sell a car. Let’s not forget that these banks are paying for this money. Just like Grubbs Infiniti is paying for the cars on the lot. Banks make money by selling money at a higher rate then what they pay. They are not lending because banks have raised their standards and the cost of the money. Individuals and companies either don’t meet the higher standards or it costs too much for the money. The cost of money is something nobody is talking about and will hurt profits. The cost of money is going up. The days of cheap and easy credit are over. This will greatly affect a company’s bottom line.

We are in a bad news is good news world right now. This will not last long. I still believe with all my heart and a lot of my money that the market is going down. I don’t believe any of the rally Friday on low volume. I actually added more to the short side. Economic data is weak this week and it will be interesting to see how the market reacts. I’m thinking a slow downward slide. Stay short!!!