Financial Firestorm: 2008

[c1ue]

One of the interesting behaviors that led to the 1929 collapse and subsequent Great Depression was that for many years prior, it was more profitable for countries, individuals, and companies to lend available cash for the margin (and interest) accounts for the stock market rather than deploy the capital in more normal pursuits.

By 1929, it is estimated that more cash had flowed into these margin accounts than the entire US GDP - a veritable positive value financial firestorm.

The result when this money flowed out as a result of the collapsed stock market bubble (and the cumulative poor business investment became apparent) was the Great Depression.

Today we have what looks like a negative value financial firestorm - SWF and investment fund money flowing into failing banks:

Citi: $23B to date
Bear Stearns: $1B to date
Merrill Lynch: $11B to date
Morgan Stanley: $5B to date
UBS: $9.75B

Total: $49.75B to date

There are 2 years of subprime/ARM/Option ARM resets to go

The firestorm cell has already formed, the initial inrush of air (money) has occurred, and the energy source (failed loans, MBS', CDOs) continues to burn.

This time around, the money may just get consumed by the blaze as opposed to rushing for the exits once the bubble collapses.

Incidentally, the hundreds of billions that SWFs theoretically can deploy is being significantly dented already by the bank black hole.

[GRG55]

Re: Financial Firestorm: 2008

One of the interesting behaviors that led to the 1929 collapse and subsequent Great Depression was that for many years prior, it was more profitable for countries, individuals, and companies to lend available cash for the margin (and interest) accounts for the stock market rather than deploy the capital in more normal pursuits.

By 1929, it is estimated that more cash had flowed into these margin accounts than the entire US GDP - a veritable positive value financial firestorm.

The result when this money flowed out as a result of the collapsed stock market bubble (and the cumulative poor business investment became apparent) was the Great Depression.

Today we have what looks like a negative value financial firestorm - SWF and investment fund money flowing into failing banks:

Citi: $23B to date
Bear Stearns: $1B to date
Merrill Lynch: $11B to date
Morgan Stanley: $5B to date
UBS: $9.75B

Total: $49.75B to date

There are 2 years of subprime/ARM/Option ARM resets to go

The firestorm cell has already formed, the initial inrush of air (money) has occurred, and the energy source (failed loans, MBS', CDOs) continues to burn.

This time around, the money may just get consumed by the blaze as opposed to rushing for the exits once the bubble collapses.

Incidentally, the hundreds of billions that SWFs theoretically can deploy is being significantly dented already by the bank black hole.

According to the McKinsey Global Institute at the end of 2006 oil exporting nations including Norway, the Middle East and Russia, collectively held $3,800 Billion in foreign financial assets (Ref: FT, Dec 15, 2007, pg 12). Doesn't seem like much of a dent to me, especially given they appear to be swapping US Treasuries for these stakes.

[c1ue]

Re: Financial Firestorm: 2008

According to the McKinsey Global Institute at the end of 2006 oil exporting nations including Norway, the Middle East and Russia, collectively held $3,800 Billion in foreign financial assets (Ref: FT, Dec 15, 2007, pg 12). Doesn't seem like much of a dent to me, especially given they appear to be swapping US Treasuries for these stakes.

True, but each 10% decrement of the US dollar equals $380B purchasing power losses.

What do you think will happen when the first major US bank fails?

As for US Treasuries - once again the assumption is being made that these securities based on the United States will be repaid.

I'm increasingly in the camp that says that they won't - not in dollars of anything approaching equal purchasing power.

A 50% inflation in the next 4 years would destroy a lot of this 'money'.

A 20% move out of dollars by this hoard will similarly destroy a majority of the remainder.

The 'investments' also are being destroyed at a rapid rate.

Fine work by our best and brightest...

[Jim Nickerson]

Re: Financial Firestorm: 2008

According to the McKinsey Global Institute at the end of 2006 oil exporting nations including Norway, the Middle East and Russia, collectively held $3,800 Billion in foreign financial assets (Ref: FT, Dec 15, 2007, pg 12). Doesn't seem like much of a dent to me, especially given they appear to be swapping US Treasuries for these stakes.

But if they are selling Treasuries, why do they keep going up in price?

[Rajiv]

Re: Financial Firestorm: 2008

But if they are selling Treasuries, why do they keep going up in price?

They are not selling treasuries in the open market -- they are swapping treasuries for ASSETS -- it doesn't have any impact on the market price of treasuries. This is not to say that the SWFs are selling no tresuries in the open market -- just not enough to dent the upward trend -- there is still a demand for US treasuries.

[Finster]

Re: Financial Firestorm: 2008

But if they are selling Treasuries, why do they keep going up in price?

I suspect the stock market is the main thing driving UST higher. Perhaps contrary to common perception, there is still a huge amount of liquidity out there - as in lots of dollars - and it is always looking for something to buy. The more repulsive stocks and riskier credits appear, the more attractive UST are by comparison. We've seen gold and other commodities benefit from this trade as well, but those other commodities are economically sensitive and the gold market just isn't big enough to absorb trillions in institution money without going off the charts. The UST market is massive enough to absorb lots of these instutional flows, so it does.

[GRG55]

Re: Financial Firestorm: 2008

True, but each 10% decrement of the US dollar equals $380B purchasing power losses...

Probably the reason they see little downside swapping USTs for a Citi el al stake...

What do you think will happen when the first major US bank fails?...

Panic. But I doubt that Citi or BoA will be (allowed to be?) one of the casualties. If they are, the SWF owning governments (and most of the rest of us) will have a lot more to worry about than losses on their big bank investments (and everybody will be calling Mish a farsighted genius)...

As for US Treasuries - once again the assumption is being made that these securities based on the United States will be repaid.

I'm increasingly in the camp that says that they won't - not in dollars of anything approaching equal purchasing power.

A 50% inflation in the next 4 years would destroy a lot of this 'money'...

Probably the reason they see little downside swapping USTs for stakes in Citi el al...

A 20% move out of dollars by this hoard will similarly destroy a majority of the remainder.

The 'investments' also are being destroyed at a rapid rate...

Too early to tell with high confidence how this will play out. I maintain that these SWFs are buying stakes, in difficult/impossible to replicate franchise brands, at a time when they are politically able.

One of the risks they face is being politically forced out of their positions once the banks are healthy again. Back in 1987 the British Government's "privatization" sale of its shares in British Petroleum flopped because of the market crash. Her Majesty's Government agreed to buy back the stock if the price fell low enough. The Kuwait Investment Office stepped in and bought 10% of BP, basically rescuing the Government from having to buy back a lot of stock. BP put out a statement welcoming long-term institutional investors. The KIO kept buying. Even after it offered to cap its voting share (at 14.9%) the UK Government forced it to divest part of its stake after it went over 20%. The SWFs today are aware of this history, as well as the more recent examples such as Dubai Ports, and may not roll over quite so easily. If Citi et al really hit the skids perhaps they'll just take them private... :p

Fine work by our best and brightest...

On that we agree...

[c1ue]

Re: Financial Firestorm: 2008

Panic. But I doubt that Citi or BoA will be (allowed to be?) one of the casualties. If they are, the SWF owning governments (and most of the rest of us) will have a lot more to worry about than losses on their big bank investments (and everybody will be calling Mish a farsighted genius)...

You may be right, but on the other hand the huge amount of naked credit printing necessary to save the failing bank(s) would be clear proof to the world that the US government will stop at nothing to de-monetize debts.

At that point I suspect there will no longer be any point in maintaining the hope that the existing dollar hoards abroad can survive in any form.

Saudi Arabia, the UAE, and Oman won't care, Japan will care but might not be willing to give up their 50 year sponsor, but India, China, Russia, Europe, and Brazil will.

[GRG55]

Re: Financial Firestorm: 2008

You may be right, but on the other hand the huge amount of naked credit printing necessary to save the failing bank(s) would be clear proof to the world that the US government will stop at nothing to de-monetize debts.

At that point I suspect there will no longer be any point in maintaining the hope that the existing dollar hoards abroad can survive in any form.

Saudi Arabia, the UAE, and Oman won't care, Japan will care but might not be willing to give up their 50 year sponsor, but India, China, Russia, Europe, and Brazil will.

C1ue: Here's an excerpt from Jim Sinclairs commentary Tuesday that seems to be in line with your views (www.jsmineset.com)...

Jim Sinclair's Comments:

Don’t buy the spin that going to sovereign funds is all about seeking financing from selected sources. These are the only sources that can meet monster demands to bail out bankrupt entities while allowing them to remain solvent - barely.

Don’t buy the spin that these funds are making investment decisions based on in-depth analysis that indicates the entity will enjoy a rosy future. They are just dumping dollars and hoping for the best.

[The Outback Oracle]

Re: Financial Firestorm: 2008

You may be right, but on the other hand the huge amount of naked credit printing necessary to save the failing bank(s) would be clear proof to the world that the US government will stop at nothing to de-monetize debts.

At that point I suspect there will no longer be any point in maintaining the hope that the existing dollar hoards abroad can survive in any form.

Saudi Arabia, the UAE, and Oman won't care, Japan will care but might not be willing to give up their 50 year sponsor, but India, China, Russia, Europe, and Brazil will.

That would all surly mean the end of the USD as the Reserve currency? I'm not sure what that exactly means for it but it cannot be good?

[touchring]

Re: Financial Firestorm: 2008

Bad for everyone except gold hoarders. :eek:

That would all surly mean the end of the USD as the Reserve currency? I'm not sure what that exactly means for it but it cannot be good?

[c1ue]

Re: Financial Firestorm: 2008

That would all surly mean the end of the USD as the Reserve currency? I'm not sure what that exactly means for it but it cannot be good?

Up until now, the US dollar has been declining very consistently from a NYBOT_DX=92 in October 2005 to today's DX=76 - a 17% drop.

This consistent monthly decline of about 0.6 is unsurprising given the makeup of the ^DX: 57.6% euro, 13.6% yen, 11.9% pound, 9.1% CA$, 4.2% kroner, and 3.6% swiss franc.

You'll note, however, that this index doesn't directly factor the currencies of most of the countries which actually hold the dollars: China, India, Rest of Asia (ROA), Gulf Coast oil exporters, Russia, et al.

If you look at some of the specific currencies, however, a more interesting picture emerges:

              1 year     2 year     3 year
Russia:     -7.7%     -15.5%   -13%
India:       -11.7%   -11.6%    -9.6%
Brazil:      -24.5%    -25.1%   -34.7%
Euro:       -12.3%    -19.1%   -10%

China, the Gulf Coast, and ROA all manipulate their currencies against the dollar or have an explicit peg, of course.

You'll note Russia's and India's exchange rate vs. the dollar was somewhat stable until 2 years ago.

India's rupee accelerated last year; Russia's ruble has been consistently declining despite their economic ties with the Euro (and the Euro has been up and down due to the EU's economic ties with the US).

Brazil started declining in mid-2004.

So if the holders of dollars believe that they cannot retain purchasing power value in their hoard, I would expect a Brazilian style currency appreciation vs. the dollar (dollar decline vs. Br. Real) as opposed to the Euro one: i.e. an initial 17% decline, a period of stability, followed by another large decline.