Move over Chavez, you’ve got company!

by Larry Levin

This morning's open was looking very bearish with the S&P (now June) futures quickly trading 25.00-points lower, while the Dow was slumping 235-points. The large sell-off was driven by many economic realities, new and old, but once again government interventionists stepped in to stem the slide. Today it was Representative Barney Frank's turn, calling for the FHA to buy foreclosed homes to help out the banks.

And with that, the markets exploded higher. Move over Chavez, you’ve got company: the US government!

My initial reaction to this was of bitter disgust, for I actually believed in "free market" capitalism. Wow, was I naïve or what? Responsibility, liability, accountability, and even capitalism are now passé. The new mantra of the day is nationalization! The only apparent difference between Hugo Chavez and the United States is that Chavez nationalized oil, while our dunder-head leaders at the Fed and in Congress are both begging to nationalize bank debt and real estate.

My friend Rick Santelli said it perfectly this morning on CNBC when he said (rife with contempt), "The Federal government, in a capitalistic society, should not own real estate unless you're going to put a Hammer & Sickle on the flag!" His remark was in response to both the Barney Frank bill and a CNBC host that gleefully suggested the Fed swallowing up all of the bad debt at banks across the country, "just put it on the Fed's balance sheet" she suggested. She obviously received her economics degree at The University of Karl Mark.

However, before portfolio managers so openly embraced the idea of nationalizing US real estate, an equally moronic reason to rally ignited the market. Rating agency Standard & Poor's said that the end of subprime mortgage write-downs by big banks and brokers may be in sight. WHAT...WHO CARES?! Why does anyone heed what Standard & Poor's says anymore? They are a feckless agency at best.

S&P estimated that the global financial-services sector may end up writing down the "fair value" of such exposures by $285 billion, mainly from residential mortgage-backed securities and more complex vehicles known as collateralized debt obligations (CDO’s). But...that's up from a previous estimate of $265 billion.

Ah-hem, allow me to do some math here. Umm, wait...that's $20-billion WORSE! Oh, but the "whisper number" was higher, so the market rallied from "the line in the sand" that the government has drawn. Isn't it odd that every time the market trades anywhere near 1280.00 in the S&P that a "new" government bailout hits the tape? S&P and Barney Frank didn't have these announcements yesterday, or last week? Come on.

What S&P is missing in this data, however, is the rest of mortgage industry. It is only including subprime debt...nothing more. And as we already know the structured debt slime has found its way into Alt-A mortgages and PRIME mortgages. When you add all of that up, $285-billion could look like pocket change.

Meanwhile, analysts and central bankers are trying to convince markets that the financial system is merely experiencing "liquidity" problems. But if liquidity were the only issue, wouldn't all the pumping by the Fed have cleared this up long ago? Because of the MASSIVE leverage in the system, banks have little capital left - now that home values are falling. And you can't make loans if you don't have capital.

An example of massive leverage would be that of Carlyle Capital. Carlyle, a bond fund affiliated with the prestigious private-equity firm The Carlyle Group, said that it expects lenders to take possession of "substantially all" of its remaining assets after it was unable to meet surging margin calls on its portfolio of securities backed by residential mortgages. Why the margin calls? Well, it leveraged its capital 38 times over, so a small adverse move is devastating.

When this bankruptcy was just about to drag the indices below the government's "line in the sand" this morning, Barney Frank pulled another Ace from his sleeve. FOUR ACES...AGAIN! Since it's quite clear that this company, along with hundreds more, thoughts they could game the system with small amounts of capital - why should we taxpayers be responsible for bailing them out?

As mentioned yesterday (and above) the Fed wants to give the banks capital. This latest scheme is extremely disturbing to Rick Santelli and myself, especially for the US dollar, which is losing credibility at an increasing rate across the world. The Fed is now taking on "AAA mortgages" (oh and those ratings are reliable) from the banks in exchange for Treasury Bills to give banks the capital. Of course we don't know the price they are taking on these mortgages at and that is the crux of the matter. Everything is price.

So now the Fed has mortgages on its balance sheet instead of T-bills. Why is this so disconcerting? It is a slippery slope to more currency debasement and a never ending battle against moral hazard.

What happens if the mortgage valuation continues to decline or the homeowner stops paying the mortgage due to divorce or loss of a job...all of which is very likely? Has anyone thought of that reality? Will the banks take them back? Hell no! Now the Fed is stuck with declining assets and it too will have a capital problem. But if the Fed loses capital it won't go bankrupt like a regular company: It will just print the money to make up the difference. Literally!

If the Fed loses $50 billion, it will tell the Treasury to physically print the currency to make up this difference. If there currently is $700 billion of physical currency in circulation, printing just $50 billion new money would immediately devalue the dollar by 7%.

If the Fed takes on riskier and riskier loans, it becomes more and more negative for the dollar. A collapse in the dollar is a de-facto bankruptcy by the Federal Reserve and the U.S. in general.

In the end, the banks are relieved of their obligations while we get stuck with the bill via hyperinflation. Want proof? Today oil traded north of $110-barrel, gold trade above $1,000.00-ounce, the dollar made a new low against the Eurocurrency...and today traded at its worst level against the Japanese Yen in THIRTEEN YEARS.

"Inflation is always and everywhere a monetary phenomenon." - Milton Friedman

Real Time Trading Signals*for

Trade Date: 3/13/08

E-Mini S&P Trades*
(before fees and commissions):

1) B/away sell @ 8:35am at 1295.25 = +2.00 & +7.25

2) OTF sell @ 10:05am at 1290.75 = -1.50 & -1.50

3) Momo buy @ 10:25am at 1299.00 = +2.00 (1 lot)

4) FT sell @ 11:55am at 1303.50 = -2.00 (1 lot)

5) 80% buy @ 12:45pm at 1314.50 = +2.00 & +9.00

6) OTF sell @ 2:30pm at 1323.25 = +3.00 (1 lot)...+20.25 points

E-Mini Russell Trades*
(before fees and commissions):

1) Sell @ 9:29am at 657.7 = +2.6 (1 lot)

2) Buy @ 10:09am at 658.5 = -+1.2 (1 lot)

3) Buy @ 10:30am at 662.4 = b/e & -1.0

4) Buy @ 10:35am at 661.8 = +1.0 (1 lot)

5) Sell @ 1:57pm at 677.8 = -1.2 & -1.2...+$140


Sign up as an AvidTrader Member to receive "The Technician" Value Area's each day. The market then has an 80% chance of filling the Value Area. Many traders familiar with the Value Area and the techniques that go along with it use it to help them decide what trades to do each day. Join and see how this technique can help you trade more successfully!

Log in for Larry's Daily Trading Tip each day too!