Wednesday, September 19, 2007

Fed Rate Cut - The Bulls Win This Round?

So we got the Fed rate cut. The Dow went up 335 points the FTSE (as of writing) is up 141 points and pretty much every other bourse is following suite. Will it last?

Our view is that this is a very important psychological boost to the economy but like the tides we may may see some ebbing and flowing going on over the next few months. ClearView Economics said "This does not heal the financial markets, but it can help the process of healing. But we are not there yet." This is a good assessment of this particular news and portrays the cautious optimism that seems to be in play across all commentators.

The thing is, if you are a US homeowner that can't afford your mortgage (which is what started this whole issue) then a 50 basis point cut is not going to have you leaping around the room because its sorted out your mortgage problems. There will still be defaults and growing missed payments, this will lead to penalties and further defaults.

In the UK in the early nineties defaults on home loans were at a high and the buzz word 'negative equity' was everywhere. Basically people were defaulting on home loans being repossessed and then finding that they still owed money to the banks. With housing prices still cooling off significantly in the US the spectre of this potential problem has not been scared off by a small rate cut. This is especially when all of the teaser rates that millions of US home owners took, expire and come home to roost.

The response by the markets is also being fueled by short term speculation. Basically if you stuck a pin in the FT or WSJ quotes pages today and invested in the company you hit you would, more than likely, have made money from the trade and most people with a rudimentary knowledge of the markets know that. Many speculators were waiting for the rate cut to make a move and there will be profit taking from that bulge in the FTSE and the Dow, mark my words.

The strange thing is that these days moves like these are generally priced into the markets. It was a fairly decent bet (we took this view and are on the plus side today) that the Fed were going to cut rates, definitely by 25 basis points, but more likely 50 basis points, so why the huge reaction on the announcement?

Personally I think we are seeing a traders dream market where rumour and innuendo, if played correctly, can yield huge profits for the volatility these comments create. When Greenspan said we had a thirty percent chance of recession, the markets tumbled, why? He isn't even the Fed Chairman anymore. I know he knows his stuff, but do we have to wait for old Fed Chairmans to shift off this mortal coil before the markets stop listening to them? Speaking with friend this morning his comment, when discussing Greenspan was "I mean come on, he's retired now he should shut the **** up". Coarse, but accurate.

The fact is that when the markets are like this there are jumpy traders with a squillion dollar nuke buttons not to far away from them in banks everywhere. Hedge funds making ever more outrageous bets on where the market is going and market commentators trying to make sense of it all. Any news or rumour that can be used to an advantage is being done to death.

My feeling is that we have a lot of investment dollars in the hands of those who are paid to take very big risks for very big profits and very big earnings, this does not a stable market make... Be prepared for more volatility, more hedge fund blow ups, more 'consolidation' and more bad news.

The good news, however, is that we think recession is unlikely (sorry Mr Greenspan). This will all play out, it will be painful for some Americans, but the old saying "When Wall Street sneezes, Europe catches a cold" is old hat these days. I think we have learned to see the signs and although we have the odd sniffle, we have learned to wrap up warm and take our medicine before we are bed ridden.

We are at round 2 now, our money is on the Bulls, a technical knock out in round 5.

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