Tuesday, January 20, 2009

I think Paul Krugman has started the final leg down for Financial Stocks

Who is Paul Krugman?
The winner of the 2008 Nobel Prize in Economics and Op Ed writer for the New York Times

His tagline is “The Conscience of a Liberal”

What does Obama think about Krugman?
“If Paul Krugman has a good idea, in terms of how to spend money efficiently and effectively to jump-start the economy, then we’re going to do it.” (01/09/2009)


So I think Krugman is very influential in Liberal circles and he has some pull in the Obama Administration. I think he echoes the beliefs on many influential Liberals and that they believe the Bailout Plans of the Bush Administration were misdirected and harmed the taxpayer at the expense of the shareholder.

I think that if Obama doesn’t listen to Krugman, then there are going to be a lot of ticked off Liberals and at least one ticked off Conservative (me).

What did Krugman have to say this weekend?


“(M)embers of the incoming Obama administration, have become devotees of a new kind of voodoo: the belief that by performing elaborate financial rituals we can keep dead banks walking.”

For insolvent banks, “value is entirely based on the hope that shareholders will be rescued by a government bailout.”

“What I suspect is that policy makers — possibly without realizing it — are gearing up to attempt a bait-and-switch: a policy that looks like the cleanup of the savings and loans, but in practice amounts to making huge gifts to bank shareholders at taxpayer expense, disguised as “fair value” purchases of toxic assets.”

“A better approach would be to do what the government did with zombie savings and loans at the end of the 1980s: it seized the defunct banks, cleaning out the shareholders. Then it transferred their bad assets to a special institution, the Resolution Trust Corporation; paid off enough of the banks’ debts to make them solvent; and sold the fixed-up banks to new owners.”

“Unfortunately, the price of this retreat into superstition may be high. I hope I’m wrong, but I suspect that taxpayers are about to get another raw deal — and that we’re about to get another financial rescue plan that fails to do the job.”

Slow Motion Nationalization Has Hit the Fast Lane
The only question now is how is the pain shared by the Taxpayer, the Stockholder and the Bondholder? I have no clue. But I will closely watching the prices of assets that will show me how Big Money is positioning their money ahead of the policy decisions of the Obama Administration.

Big Money will know who will pay and who will benefit, long before you ever read about it. That is why I look at charts. Big Money can’t hide when they are buying and selling. I just have to put in the time and observe what is taking place. I then have to make decisions and protect myself (Stops) incase I am wrong.

The banks I detailed over the weekend as having the biggest exposure to derivatives are getting annihilated today (as of 11:48 am PST 1/20/2009). They are pricing in nationalization with taxpayer protection –

JPMorgan –14.90%
BAC – 19.64%
C – 14.00%
WFC – 22.43%
HBC – 15.64%
BK – 24.83%
STT – 53.54%
STI – 20.86%
PNC – 37.03%
NTRS – 10.71%
KEY – 4.28% (Barron’s told you this one can triple on 1/18/2009)
USB – 9.88%
RF – 20.10%
BBT – 8.43%
FITB – 18.05%
UBS – 14.53%
DB – 17.72%
MS – 13.09%
FHN – 3.63%

Here Are The Asset Classes I Will Be Observing
In addition to the share prices of banks, I will watch the following closely –

Bank Preferred Stock
I am closely watching how the Preferred Stocks of Banks are trading. I consider this asset class to be the “canary in the coalmine” for how the government is going to nationalize insolvent banks, which are “too big to fail” and “too big to save”.

This asset class is effectively worthless, unless the Government buys bank holdings for a lot more than they are actually worth.

If these shares crack, then it will tell you that Obama will be favoring the Taxpayer over the Shareholder / Bond Holder.

I use the Flaherty & Crumrine Preferred Income Fund (PFD) as my proxy for Preferred Stocks. You can see the holdings of PFD here –


Look at those holdings! I have had people trying to get me to buy junk like this, because they are “looking for yield”. After reviewing the horrible quality of the holdings in this sector, do you see why I have totally avoided it? If Obama doesn’t immediately give the banks another $400 or $500 billion of taxpayer money, then PFD and the majority of the Asset Class and all of those “Closed End Bond Funds” are worthless.

ARE WORTHLESS!!!!!!!!!!!!

If you own this garbage, then you could literally lose ALL of you money by the end of January! Is that a risk you really want to take? The only way you will not get cleaned out is if Obama screws the Taxpayer and buys worthless assets from Banks at fraudulently high prices. Is that a bet you are willing to make?
Protect your capital. Money making opportunities will show up at some point in 2009. But you will need capital in order to be able to take advantage of these opportunities.

Here is the chart of PFD. Do you see how it tagged the Blue Line almost to the penny? Do you think these Moving Averages matter? You have to know what to look for if you are going to manage money.

US Treasuries
The bigger the bailout needed, the harder US Treasuries will be hit. I am reluctant to short Treasuries here, but may have to put in stop orders and hold my nose.

Same as above. I may just have to put in stop orders and hold my nose.
Gold will also price in the amount of money that needs to be borrowed and printed to recapitalize the banking system.
Gold may have decoupled from the Swiss Franc today, as the Swiss Government will have to start printing money to bail out their banking industry too.

Once the banks are in the process of being recapitalized, then Government will begin the process of recapitalizing the Consumer. They will do this in the form of Mortgage Principal writedowns (“Cram Downs”).

Nationalizing the banks and nationalizing the debt of irresponsible consumers is the only way to get the economy going again.

Sovereign Strangulation by "The Euro Standard"

Bernanke discussed how The Gold Standard (pegging the currency exchange rate to the price of Gold) exacerbated the Great Depression, because countries were not able to devalue their currency to inflate away debt and become more competitive in the Global Marketplace.


The same thing is now happening with the Euro. Many countries in the Euro Zone are now being suffocated by this common currency. Ireland, Spain, Italy and Greece have been hardest hit by the popping of Housing and Banking Bubbles. They now lack the ability to devalue their currency, because the currency they use is now controlled outside of Dublin, Madrid, Rome and Athens.

Britain has also been devastated by the popping of these bubbles, but retained the British Pound as currency. Britain will now print as many Pounds as it takes to devalue the currency and inflate away their debt. In Britain, the Government has taken on so much bad debt from banks, in the form of bailouts, that they have bankrupted the country. My fear with the US is that the Government is doing the same thing and putting the US at risk of defaulting on our sovereign debt.

There are only a few potential results of this in Euro Land –
1. Ireland, Italy, Spain and Greece default on their National Debt and abandon the Euro as their currency
2. The countries that are not allowing the devaluation of the Euro will put up a lot of money to save Ireland, Italy, Spain and Greece from defaulting on their sovereign debt.
3. Devaluation of the Euro

I am now watching Currencies, Bond Prices, Precious Metals and the Stock Markets of these Countries very closely. I will have a separate post on them later today.

Sunday, January 18, 2009

Derivative Exposure Revisited

For background on this topic, you can review the following –


Banks around the World have loaded up their Balance Sheets with Trillions of Dollars of Derivatives. The Derivatives they own are essentially Insurance Policies which they wrote on the Bonds issued by other Corporations or on the Assets that Banks “Securitized” (Mortgage Debt, Credit Card Debt, Student Loans, Home Equity Lines/Loans, Auto Loans…). They were designed to protect the owners of the Bonds in case of these bonds defaulted.

The Premiums charged on these Derivatives (Insurance Policies) were artificially low and the banks who wrote them wrote far too many, in an effort to increase their revenue and earnings (Congress was urged to allow this by none other that Hank Paulson when he ran Goldman Sachs and testified before Congress). These banks used massive leverage and Enron-like accounting tricks (off balance sheet entities like SIVs to hide losses) to allow themselves the ability to sell many times more insurance than they could afford to sell and still remain solvent, if the economy ever went into recession. So when the economy did slow and those Bonds did default, the Banks who wrote the Derivatives did not have enough capital to pay off all the insurance claims.

Here is a chart of the banks with the largest Derivative Exposure.
I have updated this list several times over the last few months. The bailout amounts are up to date as of tonight -

The game all along has been to corral the smaller banks with derivative exposure into the larger banks with derivative exposure. Once the derivatives were in the hands of a few players, these remaining banks would sit down with the Fed and cross their derivative and bond positions to try and remove as much risk out of the system they could.

My thesis has been that the TARP was created to make sure that the banks with massive Derivative Exposure had enough capital to cover the current claims as the Bonds they insured defaulted.

In Q4 2008, several banks on the list were merged and the remainder were given billions of capital via the TARP or were nationalized by the governments of their home countries. These banks were able to eliminate over $30 trillion in derivatives in Q4 2008.

Now those banks are again out of money and have gone bank to Washington to beg (and receive) the second half of the TARP. They were always insolvent, but they can no longer lie on their Quarterly Filings with the Government and now must be nationalized.

This has always been a slow motion nationalization of the banking system. The goal was to keep up investor “Confidence”, so that people didn’t panic and pull all of their funds out of insolvent banks and the debt of insolvent countries (US Treasuries) and insolvent states (California Municipal Bonds).

What they did was lie to the public to keep them buying stock. This allowed the over-leveraged Institutions in the know (Hedge Funds and Pensions Plans) to sell their over-priced crap to an unsuspecting Public. The Regulators have been on the side of the crooks and regulating the propaganda, because those in government believe that if they don’t prop up asset prices, then there will be riots in the streets. I’m not making this stuff up.

If you look at the list, then you can see that the banks to be nationalized are JP Morgan, Bank of America, Citigroup and Wells Fargo (Cramer’s “Fab Four” as I recall –propaganda). You will also notice on the list that Citigroup shows assets of $1.228 trillion, yet when they split up this week, they put $800 billion into one section and $1.1 trillion into the other.

That is a heck of a lot more in assets than they declared they held on their last Quarterly Filing (1.2 trillion versus 1.9 trillion). The excess assets were there all along, but they were held “off balance sheet”, so Citi was not forced to declare that they in fact owned them.

How about Barron’s telling readers to buy Northern Trust, State Street, JPMorgan and PNC last Sunday (1/11)? This week, the banking sector got creamed. Great call! Did they have some buddies who needed to blow out of some bank stocks ahead of last week’s bailouts? Disgusting. You either have an advocate on your side, or you get the heck out of this crooked stock market!

Do you remember late last year when FASB (Financial Accounting Standards Board) passed a proposal that would have to shut down all of the off balance sheet accounts at banks and force them to actually disclose all the assets they really owned (FAS 140)? Bank stocks started falling and Congressmen and US Treasury Officials begged FASB to repeal the ruling. The ruling was delayed until 2010. The banks continued lying and shareholders continued to see their stock portfolios fall in value.

British Banks are Insolvent
Royal Bank of Scotland (RBS) issue research declaring that the largest banks in Britain (RBS, HSBC, Barclays) are “technically insolvent”. So the UK Government has pledged yet another 200 Billion Pounds to toxic bonds off the balance sheets of British Banks (RBS, HSBC and the like).


Still pitting Taxpayer versus Shareholder
Citigroup will now split into 2 units – Citigroup and Citiholdings.
Citigroup will be the bank, with the $1.1 trillion of good assets that Citi presented in each Quarterly Filing as their only assets.

Citiholdings will hold the $800 billion in toxic crap formerly held off balance sheet. It will also hold the business units that Citi wants to sell – Smith Barney (what’s left), Foreign Banks, Consumer Finance and Asset Management.

That is the new model – Good Bank / Bad Bank. Look for Bank of America to duplicate the Citi breakup next quarter. Also look for JPMorgan and Wells Fargo to do the same. I would not be surprised to see foreign banks like UBS and HSBC do this in the next few weeks.

I do not know how shareholders will get anything out of this. The banks they own are insolvent and the government may not be very accommodating to their interests. Bond holders may also be forced to pay a hefty price for a bank rescue.

I will buy when somebody other than the Fed buys
So, the banks are still lying and the only buyer in town of anything with risk is the US Treasury and its surrogates. I will buy when big money shows up. Until then, this is just a history lesson playing out before my eyes.

More on Gold

Look at the correlation between Year over Year growth in the MZM Money Supply and Gold ($GOLD). MZM Money Supply is “Money with Zero Maturity”, or cash and cash equivalents.

So, these charts tell me that the change in the price of Gold is directly correlated to the change in the Cash the Fed is now printing. The more printing they do, the higher the price of gold will rise. Not exactly earth-shattering news, but now I have a chart that proves it to me and a method for tracking potential future changes in gold.