Saturday, May 15, 2010

IMF: USA Faces One of World's Worst Fiscal Disasters

I see no political will to accomplish what it will take to save ourselves.

from Edmund Conway at the UK's Telegraph:

Earlier this week, the Bank of England Governor, Mervyn King, irked US authorities by pointing out that even the world’s economic superpower has a major fiscal problem -“even the United States, the world’s largest economy, has a very large fiscal deficit” were his words. They were rather vague, but by happy coincidence the International Monetary Fund has chosen to flesh out the issue today. Unfortunately this is a rather long post with a few chunky tables, but it is worth spending a bit of time with – the IMF analysis is fascinating.
Its cross-country Fiscal Monitor is not easy reading and is a VERY big pdf (17mb), so I’ve collected a few of the key points. The idea behind the document is to set out how much different countries around the world need to cut their deficits by in the next few years, and the bottom line is it’s going to be big and hard (ie 8.7pc of GDP in deficit cuts around the world, which works out at, gulp, about $4 trillion).
But the really interesting stuff is the detail, and what leaps out again and again is how much of a hill the US has to climb. Exhibit a is the fact that under the Obama administration’s current fiscal plans, the national debt in the US (on a gross basis) will climb to above 100pc of GDP by 2015 – a far steeper increase than almost any other country.
US gross debt as a percentage of GDP
Compare it with the UK, which is often pinpointed as a Greece in the making. As you can see, gross debt increases sharply, but not by anything like the same degree.
UK gross debt as a percentage of GDP
UK gross debt as a percentage of GDP
Another issue is that, according to the IMF, the cost of extra healthcare and pensions will increase by a further 5.8pc over the next 20 years. This is the biggest increase of any other country in the G20 apart from Russia, and comes despite America having far more favourable demographics. It is significantly more than the UK’s 4.2pc.
But level of debt isn’t the only problem. Then there’s the fact that the US has a far shorter maturity of government debt than most other countries, meaning that even if it weren’t borrowing any extra cash it would have to issue a large chunk of new stuff each year as things are. The killer table to show you that is this one, which shows a country’s “gross financing needs” – in other words how much debt it has to issue in the coming years to keep itself functioning.
Click to enlarge
Click to enlarge
Britain, as you can see from the second column on the left, has one of the biggest deficits in the world. However, because it also has the longest maturity of average debt in the world (far right column), and so doesn’t have to issue as much new debt each year just to keep rolling that stuff over, its gross financing needs are – at 32.2pc of GDP, way bigger than Britain’s, at 20pc. Come to think of it, it’s actually worse than Greece on this measure.
What does this mean? Basically with a large financing need, you are particularly vulnerable if the market suddenly decides it doesn’t want your debt, since those extra interest rates they charge you mount much more quickly. Japan, by the way, is the one with a real problem on this front. It could hardly be any more vulnerable to a sudden drop in investor demand, and many over there fear that the moment domestic savers stop buying JGBs, the country is doomed to Greek-style collapse (though it doesn’t share Greece’s current account deficit and, crucially, has its own currency, so I don’t know about that).
On the flip side, unlike Japan or Britain, the US does not have a central bank with quite such a large stock of government debt. Both the Bank of England and Bank of Japan have done so much quantitative easing (buying bonds with printed money) over the past few years that they have the power to cause a fiscal shock if they decided they wanted to sell off their bonds at once. This table shows you that America, while not entirely guiltless on this front, has less of a shadow hanging over it.
Click to enlarge
Click to enlarge
But all of the above is what explains why the US, according to the IMF’s projections, has more to do than any other country in the developed world (apart from Japan) when it comes to bringing its debt back towards sustainable levels. Here’s the killer table. The column to look at is on the far right: note how the US needs a 12pc of GDP chunk chopped out of its structural deficit (ie adjusted for the economic cycle). That’s $1.7 trillion. Wow – that’s not far off Britain’s total annual economic output.
So does all of this mean the US is Greece? The answer, you might be surprised to hear, is no. Now, it is true that the US has some similar issues to Greece – the high debt, the need to roll over quite a lot of debt each year, the rising healthcare costs and so on. But it has two secret (or not so secret) weapons. The first is that unlike Greece it is not trapped in a monetary union. The US, like Britain and Japan, can independently control its monetary policy; it can devalue its currency. These are hardly solutions in and of themselves, but they do help make the adjustment a lot easier and more gradual. Second, the US has growth. It remains one of, if not the, world’s most dynamic economies. It is growing at a snappy pace this year (in comparison to other countries). And a few percentage points of GDP make an immense difference, since they make those debts much easier to repay.
Finally, some might be tempted at this point to cite the fact that the US has the world’s reserve currency in the dollar as another bonus. I am less sure. There is no doubt that this has made the US a safe haven destination (people buy US bonds when freaked out about more or less anything), and has meant that America has been able to keep borrowing at low levels throughout the crisis. However, the flip side of this is that because it has yet to feel the market strain, the US also has yet to face up properly to the public finance disaster that could befall it if it does not do anything about the problem. America is not Greece, but if it does not start making efforts to cut the deficit within a few years, it will head in that direction. The upshot wouldn’t be an IMF bail-out, but a collapse in the dollar and possible hyperinflation in the US, but it would be horrific all the same. America has time, but not forever.

Rising Re-Defaults

51.5% of all homes that have received loan modifications re-default within 9 months! That is only prolonging the inevitable!

Friday, May 14, 2010

Commodities Crumble Too

Crude Oil Crumbles -- after hitting nearly $90 last week, just $75 and change today.

Grains Crumble -- although soybeans are holding support so far

Stocks Crumble On Fresh EU Debt Worries

Worry, worry, worry!

May 14 (Bloomberg) -- The euro slid to the lowest since the aftermath of Lehman Brothers Holdings Inc.’s bankruptcy and stocks tumbled on concern the sovereign debt crisis will stifle economic growth and lead to a breakup of the European currency. Oil fell for a fourth day and U.S. and German bonds rallied.
The Standard & Poor’s 500 Index declined 1.8 percent at 11:04 a.m. in New York and the Stoxx Europe 600 Index slumped 3.1 percent. Crude oil retreated 2.3 percent and copper dropped 3.1 percent as the euro weakened to near $1.24, a level not seen since November 2008. The yield on the 10-year German bund decreased 8 basis points, while the 10-year Treasury yield lost 10 basis points to 3.43 percent. The cost of insuring against a default by Greece rose and gold slipped from a record.
Deutsche Bank AG Chief Executive Officer Josef Ackermann said Greece may not be able to repay its debt in full, and former Federal Reserve Chairman Paul Volcker said he’s concerned the euro area may break up. Sony Corp., the world’s second- largest maker of consumer electronics, said it may suffer a “significant impact” if Europe’s deficit spreads, while Chinese Premier Wen Jiabao said the foundations for a worldwide recovery aren’t “solid” as the sovereign-debt crisis deepens.
“It’s a classic risk-off trading day,” said Win Thin, senior currency strategist at Brown Brothers Harriman & Co. in New York. “Commodities are down, stocks are down, emerging markets are down. Europe still has problems. The euro breakup is not a base-case scenario, but I have to acknowledge that everyone else is talking about it. There’s concern that if Europe implodes, the global recovery is jeopardized.”

Stocks Crumble On Fresh EU Debt Worries

Worry, worry, worry!

May 14 (Bloomberg) -- The euro slid to the lowest since the aftermath of Lehman Brothers Holdings Inc.’s bankruptcy and stocks tumbled on concern the sovereign debt crisis will stifle economic growth and lead to a breakup of the European currency. Oil fell for a fourth day and U.S. and German bonds rallied.
The Standard & Poor’s 500 Index declined 1.8 percent at 11:04 a.m. in New York and the Stoxx Europe 600 Index slumped 3.1 percent. Crude oil retreated 2.3 percent and copper dropped 3.1 percent as the euro weakened to near $1.24, a level not seen since November 2008. The yield on the 10-year German bund decreased 8 basis points, while the 10-year Treasury yield lost 10 basis points to 3.43 percent. The cost of insuring against a default by Greece rose and gold slipped from a record.
Deutsche Bank AG Chief Executive Officer Josef Ackermann said Greece may not be able to repay its debt in full, and former Federal Reserve Chairman Paul Volcker said he’s concerned the euro area may break up. Sony Corp., the world’s second- largest maker of consumer electronics, said it may suffer a “significant impact” if Europe’s deficit spreads, while Chinese Premier Wen Jiabao said the foundations for a worldwide recovery aren’t “solid” as the sovereign-debt crisis deepens.
“It’s a classic risk-off trading day,” said Win Thin, senior currency strategist at Brown Brothers Harriman & Co. in New York. “Commodities are down, stocks are down, emerging markets are down. Europe still has problems. The euro breakup is not a base-case scenario, but I have to acknowledge that everyone else is talking about it. There’s concern that if Europe implodes, the global recovery is jeopardized.”

IMF: USA Will Be #3 for Highest Debt in 4 years!

I haven't found the story online yet. Fox News reported this morning that based upon a new report by the IMF, by 2015, the USA will have the highest debt-to-GDP ratio behind only Greece and Italy. UK would be #4. I'm surprised Japan wasn't high on the list.

Dollar Rockets to New High

Yesterday's close is the green line (bottom left).

TOKYO (Fox News/Reuters)--The euro steadied near 14-month lows against the dollar on Friday on concerns that rigorous fiscal tightening in Europe would dampen an already-weak recovery.
The New Zealand dollar was on the defensive after sluggish retail data reaffirmed expectations of a subdued recovery in the country, which will temper expected interest rate rises from the central bank this year..
The battered euro was at $1.2545, up 0.1% from levels seen in New York on Thursday. The single-currency is on the way to ending a volatile week in negative territory against the dollar after a massive $1 trillion emergency rescue package reached on Monday boosted it to near $1.31.
Traders said euro buying has been coming in when the euro nears the $1.25 level in Asian trade, where players suspect some large option barriers are in place.
It hovered around 1.4010 Swiss francs, holding above a record low of 1.3997 francs hit on trading platform EBS on Thursday.
Still, the outlook for the euro was bearish with investors nervous over the commitment and resolve of EU member states to make significant inroads into consolidating fiscal positions.
"While some euro zone members' efforts to cut fiscal spending are welcomed, investors are wondering how long efforts will be sustained," said an FX trader at a major Japanese bank.
"Investors are also worried that fiscal tightening will hamper growth in Europe."

France Threatens to Pull Out of Euro

President Nicolas Sarkozy slammed his fist on the table and threatened to pull France out of the euro at a meeting of European leaders deciding Greece's aid package last Friday, according to Spain's El Pais newspaper. 

The newspaper cited comments by Spanish Prime Minister Jose Luis Rodriguez Zapatero to members of his party on Wednesday as relayed by people present at that meeting.
A spokesman for the Spanish Prime Minister's office confirmed the meeting between Zapatero and other socialist party members on Wednesday, but could not immediately confirm what was said at the meeting.
Sarkozy demanded a "commitment from everyone to suppport Greece...or France would reconsider its position in the euro," according to one source cited by El Pais.
Another source present at the meeting between Zapatero and his party members and cited by the paper said: "Sarkozy ended up banging his fist on the table and threatening to leave the euro...This forced Angela Merkel to give in and reach an agreement."

If I were Angela Merkel, I'd say, "Go ahead, Mr. Sarkozy. Make my day!"

The Debt Storm Menace Grows

SAN FRANCISCO (MarketWatch) -- The financial crisis never really went away.
The debt mountain that brought down some of the world's biggest banks and dragged the international financial system to the brink of disaster has simply shifted to governments. Now, it's threatening countries around the globe and if left unchecked could rip the very fabric of Europe's economic system and wreck economic recoveries in the U.S., China and Latin America.
The impact on markets has been severe. The euro has slumped more than 12% against the dollar since the sovereign debt crisis flared in southern Europe. Gold has marched to new highs as investors seek a safe haven and, perhaps most alarming, it is now more expensive to buy insurance against national default than it is to insure against corporate failure.
"The sovereign debt crisis spun out of control in the past week, and we see no easy way to resolve it," said Madeline Schnapp, director of macroeconomic research at TrimTabs Investment Research.
Some investors and analysts are increasingly concerned that governments may be no more capable of repaying their debts than the banks and insurance companies they saved. And, they warn, if a major country comes close to default, it could trigger a financial meltdown that would eclipse the panic that followed the bankruptcy of Lehman Brothers in 2008.
The world has seen sovereign debt crises before. Latin America, Africa and Asia have all experienced upheavals sparked by excessive debt. These crises were all accompanied by stunted economic growth, inflation and weak stock market returns, which make it even harder to pay off debts. As investors and government officials ponder the current state of affairs, they see ominous signs that the developed world may be facing a similarly bleak future.
"The problem of the western world is that we have too much debt," said Daniel Arbess, who manages the Xerion investment strategy at Perella Weinberg Partners. "Rather than reducing our debt, we've been moving it from one balance sheet to another."
"All we're doing is shifting chairs on the deck of the Titanic," he added.

Europe's bailout

Some governments have started to respond to market pressure, with the U.K. pledging billions of pounds in spending cuts this week. Spain and Portugal also unveiled austerity measures. But the problem is so big that investors remain wary.
Stock markets plunged and credit markets shuddered last week on concern Greece and other indebted European countries like Portugal and Spain might default.
"What's happened on a corporate level is now happening on a national level. The first nation to experience this is Greece, but other nations will, too," Schnapp said.
To stop Greece's debt troubles turning into a run on the euro and a global stock market rout, the European Union unveiled an unprecedented package of almost $1 trillion in emergency loans, stabilization funds and International Monetary Fund support on Sunday.
In the days that followed, the European Central Bank bought the government debt of Greece and other countries on the periphery of the region's single-currency zone, such as Portugal, Spain, Italy and Ireland, investors said. Such intervention, known as quantitative easing, has been shunned by the ECB until now.
"Temporarily the crisis in terms of liquidity has been averted, but the underlying problem hasn't gone away," Schnapp added. "Giant debt and expenditures by governments are still there."
TrimTabs cut its recommendation on U.S. equities to neutral from fully bullish on Sunday, in the wake of the European bailout.


The sovereign crisis has been brewing for months.
For much of the financial crisis, investors worried about financial institutions defaulting, rather than sovereign nations. But that pattern has been upended.
In early February, the cost of insuring against a sovereign default in Western Europe exceeded the price of similar protection against default by North American investment-grade companies. That was the first time this had happened, according to data compiled by Markit from the credit derivatives market.

The move "symbolizes how credit risk has been transformed from corporate to sovereign risk, as the solution to the financial and economic crisis was government intervention," Hans Mikkelsen, credit strategist at Bank of America Merrill Lynch, wrote in a note to investors at the time.
Since then, the cost of insuring against sovereign default in Western Europe has climbed further, hitting a record of 169 basis points on May 7.
The European bailout pushed that down to 120 basis points on Tuesday. But that's still more expensive than default protection on North American corporate debt which cost 100 basis points on Tuesday. (In the credit derivatives market, 100 basis points means it costs $100,000 a year to buy default protection on $10 million of debt for five years).


Market Edge: Debt Crisis Enters Second Phase

The global debt crisis is in its second stage as governments deal with the debt absorbed from the private sector, and record gold prices have been reflecting these worries, according to SCM Advisors strategist Max Bublitz. Laura Mandaro reports.
While much of the concern has focused on Western Europe, unsustainable government debt is a global problem. And it is developed world governments that are accumulating the biggest debts, not emerging market countries -- a big change from previous sovereign crises.
"Looking beyond the immediate crisis in Europe, I am particularly worried about the next stage involving the U.S., the U.K. and Japan," Xerion's Arbess said.
Debt to GDP ratios in the world's advanced economies will top 100% in 2014, 35 percentage points higher than where they stood before the financial crisis, the IMF estimated last month.
Three percentage points of this increase came from government bailouts of financial institutions, while 3.5 percentage points was from fiscal stimulus. Another four percentage points has been driven by higher interest on government debt and 9 points came from revenue lost from the global recession, according to the IMF.
"Public finances in the majority of advanced industrial countries are in a worse state today than at any time since the industrial revolution, except for wartime episodes and their immediate aftermath," Willem Buiter, chief economist at Citigroup (NYSE:C) and former member of the Bank of England's Monetary Policy Committee, wrote in a recent note on sovereign risk.
Even though the current epicenter of the crisis is focused on the euro zone, the overall fiscal position of the single currency area is stronger than that of the U.S., the U.K. and Japan, he noted.
"Unless there is a radical change of course by those in charge of fiscal policy in the U.S., Japan and the U.K., these countries' sovereigns too will, sooner (in the case of the U.K.) or later (in the case of Japan and the U.S.) be at risk of being tested by the markets," Buiter said.
Ultimately, these countries face the risk of being "denied access to new and roll-over funding, that is, of being faced with a 'sudden stop,'" he warned.

Economic drag

Once government debt levels approach 100% of GDP, things can get tricky.
That's because a lot of a country's income from taxes and other sources has to be spent on interest payments.
John Brynjolfsson, chief investment officer at global macro hedge fund firm Armored Wolf LLC, illustrated the point with a simple example. With debt at 100% of GDP, interest rates at 3% and real economic growth of 3%, all the extra income collected by a country would be used to pay interest on its debt.
If a lot of government debt is owned by foreigners, like the U.S., the money leaves the country rather than being invested in more productive ways. This dents economic growth.
A study published this year by economists Carmen Reinhart and Ken Rogoff found that, over the past two centuries, government debt in excess of 90% of GDP produced economic growth of 1.7% a year on average. That was less than half the growth rate of countries with debt below 30% of GDP.
"Most lenders realize that once growth disappears, there's little reason to lend more," Brynjolfsson said. "That's because new lending is just going towards paying off old debt, not investment in productive activities."


The U.S. government has spent more than $1 trillion bailing out financial institutions like American International Group (NYSE:AIG) and rolling out fiscal stimulus programs to bolster the flagging economy.
In 2009, the government took in about $2.1 trillion in taxes and other revenue and spent more than $3 trillion, according to TrimTabs' Schnapp. The gap, or deficit, is made up by borrowing more money through sales of Treasury bonds and notes.
In coming years, U.S. government debt will exceed 100% of GDP, according to economists at Exane BNP Paribas and elsewhere.
In the next 20 years, if fiscal policies aren't changed, U.S. debt to GDP will exceed 150%, putting the country in the same league as Greece and Portugal, according to recent research led by Stephen Cecchetti, head of the Monetary and Economic Department at the Bank for International Settlements in Switzerland.
And the official data don't tell the whole story, Buiter says.
Fannie Mae (NYSE:FNM) and Freddie Mac (NYSE:FRE) have been the responsibility of the U.S. government since the mortgage giants were placed into conservatorship by the Federal Housing Finance Agency during the financial crisis in 2008, he noted.
Fannie and Freddie's liabilities at the end of last year's third quarter were almost $1.8 trillion, according to Buiter. This equals 13% of U.S. GDP and should be included in measurements of the country's general government debt, he added.


The U.K. government committed 850 billion pounds ($1.25 trillion) to bailing out banks including Royal Bank of Scotland (LSE:UK:RBS) and Lloyds Banking Group (LSE:UK:LLOY) and providing guarantees and insurance to the sector, according to the country's National Audit Office.
The U.K.'s debt to GDP ratio will soon reach 100% and could top 200% in the next two decades if fiscal policies aren't changed, according to Cecchetti's research.
The country's new coalition government, which came to power this week, called for 6 billion pounds in spending cuts starting this fiscal year. Bank of England Governor Mervyn King applauded the plan.
"We are still halfway through the world's worst financial crisis ever," King warned. It's "imperative that our own fiscal problems are dealt with sooner rather than later." Read about his comments.


Japan's government debt to GDP, at over 200%, already dwarfs the U.S. and the U.K., a hangover from its own financial crisis at the end of the 1980s.
"The perfect example of sovereign risk that is contained today but could be dramatic in the future is Japan," Pierre-Olivier Beffy, chief economist at Exane BNP Paribas, wrote in a recent note to investors.
Such high debt levels aren't a problem now because Japanese people save so much and invest a lot of that money in the country's bonds. Financial institutions in the country are also big buyers.
With more than 90% of all Japanese government debt purchased domestically, interest payments get funneled back into the country, helping to support economic growth.
However, Japan's population is getting a lot older. At some point, savers may stop buying government bonds and start spending their money in retirement. If that happens, the government may be forced to pay higher interest rates when it borrows.
Rates on 10-year Japanese government bonds are below 1.4%. So, despite huge debt, interest payments aren't too cumbersome. But if rates climb, that would change with painful consequences.
"Japan, as an economy, has never admitted its mistakes. Twenty years ago they transferred the bad private assets to the public balance sheet, while nominal GDP has gone nowhere for 20 years," Kyle Bass, managing partner at global macro hedge fund firm Hayman Capital, said during an April industry roundtable run by Opalesque Ltd.
"When your biggest holders turn into sellers overnight, what do you do? You have to finance yourself at G7 rates," he added. "If they borrow where Germany borrows at a bit over 3%, they are out of business."
Bass is betting on higher Japanese interest rates, similar to positions that other hedge fund firms including David Einhorn's Greenlight Capital and John Paulson's Paulson & Co. have put on. Read about Einhorn's views.

'Final chapter'

How will all this debt be repaid? Brynjolfsson discusses the three main alternatives.
Developed nations could generate strong productivity gains, while rising exports from their pharmaceutical, technology and financial-services industries could generate better-than-expected income. Combined with "frugality, sacrifice and good fortune," there could be enough money to repay debts, he explained. This may include lower government spending and higher taxes.
Countries could also default, either because they can't pay or won't, Brynjolfsson said. In this scenario, lenders would likely agree to a reduction, or haircut, on the amount of money they're owed -- either voluntarily or after courts impose a settlement.
A third outcome may be inflation, Brynjolfsson said. Sovereign debts would be honored but would be repaid in currency that's worth a lot less than when the debt was sold.
"The sovereign debt problems encountered by most advanced industrial countries are the logical final chapter of a classic 'pass the baby' (aka 'hot potato') game of excessive sectoral debt or leverage," Buiter said.
"First excessively indebted households passed part of their debt back to their creditors - the banks. Then the banks, excessively leveraged and at risk of default, passed part of their debt to the sovereign," he explained. "Finally, the now overly indebted sovereign is passing the debt back to the households, through higher taxes, lower public spending, the risk of default or the threat of monetization and inflation."


Brynjolfsson and other investors are in the inflation camp.
One tell-tale sign of potential inflation is that the U.S. Treasury Department is trying to extend the average maturity of its debt from about 48 months to roughly 84 months, Brynjolfsson said.
"That makes me a little uncomfortable and suspicious," he added.
With lots of short term debt, it's hard to inflate the debt away. That's because interest rates should rise quickly to adjust for higher inflation expectations and investors will charge a higher rate when it comes time to refinance the bonds.
But the longer the maturity of government debt, the easier it is for inflation to kick in before bonds need to be refinanced, Brynjolfsson explained.
Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) Chairman Warren Buffett said this month that he's bearish about the ability of all currencies to hold their value over time because of massive deficits being run up by governments in the wake of the financial crisis.
The U.S. will never default on its debt because the dollar is the world's reserve currency. But the country may print more dollars to repay with devalued currency, he suggested. Check out Buffett's take on currencies and inflation.
The European Central Bank's actions this week added to inflation concerns. The bank has been in the market buying the government debt of Greece and other indebted European countries, according to Brynjolfsson. Such quantitative easing could devalue the euro and produce inflation, investors worry.
Xerion's Arbess sees "a round of devaluations of a lot of different currencies."
"That will be accompanied by inflation in the price of non-renewable assets like gold, other precious metals and industrial commodities," he said. "People start to hold on to things that they think will retain value."
Gold hit a record Wednesday. Read about why prices rose.

Thursday, May 13, 2010

And the Deficit Grows

(Reuters) - The United States posted an $82.69 billion deficit in April, nearly four times the $20.91 billion shortfall registered in April 2009 and the largest on record for that month, the Treasury Department said on Wednesday.
It was more than twice the $40-billion deficit that Wall Street economists surveyed by Reuters had forecast and was striking since April marks the filing deadline for individual income taxes that are the main source of government revenue.
Department officials said that in prior years, there was a surplus during April in 43 out of the past 56 years.
The government has now posted 19 consecutive monthly budget deficits, the longest string of shortfalls on record.
For the first seven months of fiscal 2010, which ends September 30, the cumulative budget deficit totals $799.68 billion, down slightly from $802.3 billion in the comparable period of fiscal 2009.
Outlays during April rose to $327.96 billion from $218.75 billion in March and were up from $287.11 billion in April 2009. It was a record level of outlays for an April.

Description of Swing Trading

from MB Wealth blog:

Swing trading is typically defined as a trading practice whereby the underlying instrument is bought or sold at or near the end of an up or down price swing caused by daily or weekly price volatility. A swing trade position is typically open longer than a day, but shorter than trend-following trades or buy-and-hold investment strategies. Although a number of commodity trades that I’ve been involved in have been quick, others have lasted several months. The average duration of our commodity swing trades in 2009 has been 3-6 weeks.
Explanation/how to (stochastics, channels):
Swing traders attempt to forecast changes in an instrument’s price caused by oscillations as it “swings” around the dominant trend line. The price is alternately bid up by optimism and then bid down by pessimism over a period of a few days, weeks, or months. Profits can be sought by engaging in either long or short trading at each reversal. 
  Identifying whether a market is currently trending higher or lower, trading sideways and when this will change is a challenge for many swing trading and long term trend following trading strategies. A common misconception is that swing traders need perfect timing, to buy at the bottom and sell at the top of markets is impractical. Small consistent earnings that involve strict money management rules can potentially compound returns appreciably. It is crucial to understand that there are no fail-safe mathematical models that will always work so only use such parameters as research tools, also including both fundamental and technical analyses not as definitive decision engines but rather guidelines.
Risk of loss in swing trading typically increases in a trading range or sideways market as opposed to in a bull market or bear market. A market that is clearly moving in a specific direction, albeit up or down is more appropriate for swing trades. A sideways or non trending market increases the potential for whipsaws or false breakouts. In trending markets (either a bear market or a bull market), momentum may carry the traded instrument’s price for a much longer time in one direction only, making swing trading strategies that do not incorporate this trending less profitable than trend following strategies.
Handy tips (do/don’t and why):
Some general rules that I try to abide by while swing trading are as follows:
1.)    Go with the trend.
2.)    When getting long buy when a market is oversold & when getting short sell when a market is overbought.
3.)    A trade may have more validity if the daily, weekly and monthly charts are all saying the same thing.
4.)    Have a target if the trade moves as you presume and also an exit strategy if the trade goes awry.
5.)    Try to ignore the noise.
6.)    Don’t forget to manage the trade
In addition to the general guidelines above, I believe implementing a specific set of trading guidelines is required to be successful. For instance, we are more likely to take a trade if both the fundamentals and technicals indicate that prices are too low or too high. However, if the fundamentals do not justify a move higher yet the prices are making fresh highs day after day and the technicals indicate there may be more upside, we would still consider taking the trade.  We may simply suggest a smaller position or perhaps an option as opposed to a futures trade. There are numerous technical indicators used by traders and everyone has their favorites. The main indicators that I use for my analyses include open interest, volume, moving averages, stochastic and Fibonacci retracement levels. That is not to say we never inspect more exotic indicators such as Ichimoku clouds or the McClellan oscillators, but overanalyzing markets is often ineffective. 
The goal of adhering to strict trading rules is to remove the subjective decision-making from swing trading. We suggest exercising caution when trading correlated asset classes or even when trading correlated commodities. In addition to an awareness of correlations and prudent money management, also be cognizant about the “risk to reward” dynamic when putting on your trades. A trade that requires risking $5,000 and offers a profit potential of $2,500 should not be entered.
As with all financial instruments, risk of loss trading commodity futures and options can be considerable. This risk can best be mitigated by using a trading strategy that is back tested on the particular equity, index, or commodity and continues to prove its worth with successful trades.
Swing trading should not be the only form of trading incorporated into managing one’s investment portfolio but it could serve as a valuable tool within their investment toolbox. We are convinced that in the current environment buy and hold is dead and regardless if swing trading is for you, investors will be forced to be more nimble and to be more active managing their portfolios.

To illustrate two commodities that MB Wealth has and will continue to swing trade you will see charts on corn and silver.
click on the chart to view
 Since corn has bottomed out in early September with prices reaching a 3 ½ year low, MB Wealth has had a bullish bias and wants clients to be long via futures or options. After bottoming out, the price has resumed its uptrend and on a closing basis we’ve climbed higher without violating the support line over the last 3 months for any extended period. For further affirmation, once prices bounced off support, one could wait for movement above the 20 day moving average. The stochastic indicates whether the market is overbought or oversold and should be watched closely. This helps to time entry and exit and to place stops. Not only did the technicals suggest long exposure, but with wet weather, cooler temperatures and the slowest harvest in over 2 decades, the fundamentals also suggest higher prices are achievable.  

click on the chart to view
Longer term charts sometimes help to confirm that it makes sense to go long or short a certain commodity. They can also help to give a trader more conviction and guide the sizing of the trade. As one can see, the $3.25 level has served as solid support for the last 3 years.

click on chart to view it
click on chart to view it
On a longer term chart, we experienced over a 61.8% Fibonacci retracement at the end of 2008.  This move lowered the price of silver to roughly to $10/ounce. For chartists, this would indicate an entry for those looking to get long.
click on chart to view
click on chart to view
For the last 6 months the price of silver has been largely contained in a $2.00 – $3.00 trading range with a rising slope. This suggests that those with a bullish bias, including MB Wealth and their clients, should look to buy near the lower line and take profits near the upper line. Traders who do not believe that silver prices are moving higher or who want to do a counter trend trade would sell near the upper line and look to cover near the lower line. The stochastic shown at the bottom of the chart could help with entry, exit and stop placement. Finally, fundamental analysis of the historical relationship between gold and silver is also bullish for silver not to mention continued US dollar weakness and the inverse correlation.

Tuesday, May 11, 2010

Euro Closes Lower Two Consecutive Days Following Verbal Intervention

And the Dollar is higher, seen here.

China On the Brink

HONG KONG (MarketWatch) -- China's economy is teetering on the edge of a major slowdown, though it's not a shakeout in the property market that's about to spark the distress, according to a noted China strategist.
David Roche, an economic and political analyst who manages the Hong Kong-based hedge fund Independent Strategy, says the world's third-largest economy is now on the brink, faced with the inevitable reckoning that follows an extended bank-lending binge.
"We've got the beginnings of a credit-bubble collapse in China," said Roche, predicting the economy will likely cool from its stellar double-digit growth rate to a 6% annual expansion as a result.
While that may not sound bad, Roche believes the collateral damage from the cooling will be anything but mild, as the banking sector comes under pressure from cumulative years of bad investment and mispriced capital.
"The economy in China has peaked, unless the economy in the U.S. really gets going and drives exports," Roche said.
The emerging picture is one of a substantial contraction in credit growth and infrastructure expenditure, he says.
The shrinkage is grim news for an economy heavily dependent on such outlays. China managed to escape recession during the global crisis mainly because of bridges, railways and other infrastructure-project spending, estimated to have accounted for about 90% of economic growth last year, according to Roche.
About 85% of the funding for these projects was arranged by local government financing vehicles "borrowing money they can never repay" from state-owned banks, says Roche. Nearly 3 trillion yuan ($440 billion) of the 11 trillion yuan extended to these entities has been wasted or stolen, he estimated.
Economic data for April released Tuesday showed China's inflation accelerated from March, beating expectations, while bank lending also surged ahead at a surprising fast rate. See full story on April inflation and other data.
Roche said he's betting against China's banking sector in the expectation their share prices will get hammered as problem loans begin to mount, exposing such institutions' thin capital buffers.
"What do you think a bunch of ex-Communist Party officials in Chinese banks ... know about growing credit at 30% a year?" he said.
More worryingly, as bank lending dries up, there won't be the firepower to sustain new investments in infrastructure, eroding a core pillar of China's growth model, he said.
Much of the focus on potential asset bubbles in China has been on the property sector, but Roche suggested that housing-price inflation is intertwined with unsustainable gains in other areas.

Contagion Is a Myth; Only Weak Countries Catch It

May 10 (Bloomberg) -- Greece sneezes and Portugal catches a cold. Portugal coughs and Spain falls ill. Spain runs a fever and Italy comes down with the flu.
Contagion, or contagion theory, is sweeping the euro zone, where Greece’s debt crisis is infecting neighboring countries and threatening to make its way across the Atlantic to U.S. shores.
At least that’s what we’re told on a daily basis. European Central Bank council member Axel Weber warned last week of “grave contagion effects” for countries that have adopted the euro. “Greece Fuels Fears of Contagion in the U.S.,” trumpeted a May 6 Wall Street Journal headline.
I hate to pour cold water on that theory, but healthy countries aren’t susceptible to Greece’s disease. The sick ones, already plagued with high debt levels and bloated state budgets, don’t need a carrier. Capital flight from these countries “is not evidence of contagion,” said economist and author Anna Schwartz.
Of course, Schwartz said that in 1998 following the Asian financial crisis. In “International Financial Crises: Myths and Realities” (the Cato Journal, Vol. 17 No. 3), Schwartz punctured the notion that financial crises spread from the initial source to innocent victims. Nations are vulnerable because of their “home grown economic problems,” she said.
Schwartz’s insights are equally valid today. Capital isn’t fleeing sovereign debt markets in Spain and Portugal because Greece can’t pay its bills. Bond yields are rising because of an increased risk those countries may find themselves in the same boat as Greece: unable to meet their debt obligations.
Chronic Defaulter
OK, maybe not quite as leaky a boat. It would be hard to match Greece’s record of spending half the years since its independence in 1829 in default or rescheduling its debt, according to economists Carmen Reinhart and Ken Rogoff, authors of “This Time is Different.”
A single currency, it turns out, isn’t a panacea for everything that ails Europe. The 11 nations that scrapped their sovereign currencies and adopted the euro in 1999 never constituted an optimum currency area as envisioned by economist and Nobel Laureate Robert Mundell, the father of the euro.
“They don’t have a mechanism to deal with crises when they come up,” says Michael Bordo, professor of economics at Rutgers University and author of a book on the history of monetary unions. Europeans knew if they ceded domestic monetary policy to a centralized European Central Bank they would need “labor mobility and/or transfers from healthy states to weaker ones to deal with asymmetric shocks,” he says.
Fiscal Transfers
Europe has neither. Political union is still a dream. Germans are still Germans, and Greeks are still Greeks. The man on the street in Dusseldorf probably doesn’t understand why the German government has to fork over what could be his pension to a country for whom default is a way of life.
Political union isn’t a prerequisite for dealing with a sovereign debt crisis. What’s needed is some kind of a priori agreement on how fiscal transfers are to be carried out, says William White, chairman of the Economic Development and Review Committee at the Organization for Economic Cooperation and Development. In the case of the euro zone, “they were short of a few fiscal elements,” he says.
It’s far from clear the German public would have supported such transfers from strong to weak countries, White says. Especially if it’s the same profligate nations, such as Greece, that keep feeding at the trough.
Wake-Up Call
That said, European leaders have invested too much political capital in a united Europe to turn back now. Germany’s Parliament approved a package of loans to Greece on Friday, part of a 110 billion euro ($142 billion) package from the International Monetary Fund and European Union. Greece approved an austerity plan in exchange for the bailout.
“This should be a wake-up call to design mechanisms to deal with crises and enforce the rules” on debt and deficits, Bordo says.
The 1992 Maastricht Treaty outlined four convergence criteria for joining the European Monetary Union, including a maximum deficit-to-GDP ratio of 3 percent and debt-to-GDP of 60 percent. Last year Greece’s deficit and debt were 13.6 percent and 115 percent, respectively, as a share of the economy. All of the infected countries, and a few that haven’t caught the disease yet, are well in excess of those limits. The U.K., for instance, which is benefiting from capital flight out of Europe’s Club Med countries, ran a deficit last year that was 11.5 percent of GDP.
Investors may flee the U.K. at some point, but it won’t be because it caught anything from Greece.
Incubation Period
There is no question we live in an interconnected world. Subprime mortgage defaults by homeowners in Irvine, California, infected banks in Europe and Asia, thanks to the miracle of securitization.
So yes, European banks that hold Greek debt are vulnerable to losses. The interbank lending market is showing signs of stress. And the austerity measures required in Europe’s peripheral countries may spill over into reduced U.S. exports. That’s not the kind of contagion we keep hearing about.
On the other hand, it would be a mistake to interpret the flight-to-quality into U.S. Treasuries last week as a sign of immunity. The U.S. is already infected with the debt virus. It’s still in its incubation period.
(Caroline Baum, author of “Just What I Said,” is a Bloomberg News columnist. The opinions expressed are her own.)

Doubt Prevails In Europe

May 11 (Bloomberg) -- European stocks fell on concern a $1 trillion lending package, which sent the Stoxx Europe 600 Index to the biggest gain in 17 months yesterday, won’t solve the region’s debt crisis. Asian shares and U.S. index futures slid.
Banco Santander SA, Spain’s biggest lender, sank 4.4 percent as banks led declines in Europe. BHP Billiton Ltd., the world’s largest mining company, retreated 2.2 percent as accelerating Chinese inflation increased pressure for the government to tighten monetary policy. Solarworld AG slid to the lowest level in almost five years after earnings dropped.
The Stoxx 600 slid 1.6 percent to 250.19 at 11:00 a.m. in London. The benchmark gauge for European shares jumped 7.2 percent yesterday after the European Union and International Monetary Fund unveiled a 750 billion-euro ($954 billion) financial assistance package and the European Central Bank said it will purchase government and private debt. The index is still down 8.1 percent from this year’s high on April 15.
“You cannot resolve the debt crisis by issuing more debt or putting up guarantees,” Christian Blaabjerg, the Hellerup, Denmark-based chief equity strategist at Saxo Bank A/S, said in an interview with Bloomberg Television. “Markets will come back and test the will of the ECB/EU on how to deal with this enormous debt.”
Asian, U.S. Stocks
The MSCI Asia Pacific Index sank 1 percent as China’s inflation accelerated, bank lending exceeded estimates and property prices jumped by a record, increasing pressure on the government to raise interest rates and let the currency appreciate. Futures on the Standard & Poor’s 500 Index dropped 1 percent.
The Stoxx 600 retreated 8.8 percent last week, the biggest slump since November 2008, amid concern that a previously announced 110 billion-euro assistance program for Greece would be insufficient to keep Europe’s most indebted nations from defaulting. Greece may have its credit rating lowered to junk within the next month, Moody’s said late yesterday, citing the country’s “dismal” economic prospects.
Marek Belka, the director of the International Monetary Fund’s European department, yesterday said he doesn’t consider the latest European rescue package a “long-term solution.” ECB council member Axel Weber said the bank’s purchase of government bonds poses “significant” risks, Germany’s Boersen-Zeitung reported.

May 11 (Bloomberg) -- Money markets and the cost of protecting bank bonds from losses show investors are concerned the almost $1 trillion rescue plan announced by European leaders may not be enough to contain the region’s sovereign debt crisis.
The Markit iTraxx Financial Index of credit-default swaps on European banks was last at 146 basis points compared with 107 basis points for the Markit iTraxx Europe Index of 125 investment-grade companies, a benchmark it traded an average 10 basis points below for three years, according to CMA DataVision. The three-month Libor-OIS spread, which widens as banks’ willingness to lend decreases, advanced to 19.09 basis points from 18.92 yesterday and 6 basis points on March 15.
The loan package for debt-laden nations including Greece is part of an attempt to stem a decline in the euro, which fell to a 14-month low last week, and stave off a sovereign default that would threaten recovery from the worst global recession since the 1930s. Banks’ potential losses stemming from the crisis are under scrutiny by investors concerned financial institutions are owed too much by Europe’s most-indebted countries.
“Sovereign risk hasn’t gone away in the slightest,” said Jim Reid, head of fundamental strategy in London for Deutsche Bank AG, Germany’s biggest bank. “What this package has done is massively reduced the tail risk in European markets without necessarily changing the medium- to long-term dynamics of financial markets.”
Investor ‘Euphoria’
Elsewhere in credit markets, the extra yield investors demand to own corporate debt instead of government securities fell 8 basis points to 169 basis points, or 1.69 percentage point, after soaring 28 basis points last week, according to Bank of America Merrill Lynch’s Global Broad Market Corporate Index. It peaked at 511 basis points on March 30, 2009, and dropped to as low as 142 on April 21. Average yields fell 0.5 basis point to 4 percent.
The cost of protecting Asia-Pacific bonds from default rose today as investor “euphoria” at the European measures abated, according to Fumihito Gotoh, head of Japan credit research for UBS AG in Tokyo.

China Slumps Into Bear Market

May 11 (Bloomberg) -- China’s stocks dropped, sending the benchmark index into a bear market, on concern the government will raise borrowing costs to combat inflation and unveil more measures to curb soaring housing prices.
Bank of China Ltd. and China Merchants Bank Co. dropped at least 1.7 percent after a government report showed consumer prices exceeded estimates. Poly Real Estate Group Co., China’s second-largest developer by market value, plunged 2.7 percent as property prices increased at a record pace in April.
“If inflation isn’t contained, the central bank will have to raise interest rates,” said Zhao Zifeng, who helps oversee about $10.2 billion at China International Fund Management Co. in Shanghai. “We’ll still need to gauge housing prices in the coming months as the previous crackdown measures were put in place not long ago. More tightening policies could follow.”
The Shanghai Composite Index, which tracks the bigger of China’s stock exchanges, fell 51.18, or 1.9 percent, to close at 2,647.57, the lowest in almost a year. The measure slid 21 percent from the close of 3,338.66 on Nov. 23, a sign analysts say is a bear market. The CSI 300 Index lost 2 percent today.
The Shanghai index has slid 19 percent this year, the world’s worst performer after Greece among the 93 gauges tracked by Bloomberg, on concern government will increase efforts to curb speculation in the property market, hurting economic growth.

Euphoria Short-Lived, European Bourses Fall As Optimism Wanes

I couldn't help but notice that the Dollar gained yesterday, closing higher, as the Euro slumped. The confidence-building capacity of the European Central Bank apparently lack credibility. Even a Fed intervention didn't help much. How ironic that it supposedly takes more Dollars to prop up the Euro!Even $1 trillion bailouts are falling short to prop up the house of cards.

May 11 (Bloomberg) -- The euro lost all of yesterday’s gains on concern the $1 trillion bailout will hurt European economic growth. Stocks fell, paring the MSCI World Index’s biggest advance in a year. Chinese shares entered a bear market.
The euro weakened 0.8 percent against the dollar at 10:41 a.m. in London, trading below the level it was at before the European Union-led aid package was announced early yesterday. The Stoxx Europe 600 Index fell 1.2 percent, after rising 7.2 percent yesterday. Futures on the Standard & Poor’s 500 Index dropped 1 percent. Copper traded below $7,000 a metric ton.
The European Union’s unprecedented bailout package is unlikely to be a “long-term solution” for the region, Marek Belka, the director of the International Monetary Fund’s European department, said in Brussels yesterday. Inflation in China accelerated to an 18-month high, the nation’s statistics bureau said today, increasing pressure on the government to raise interest rates in an economy that has been an engine of growth through the global financial crisis.
“The euphoria of 24 hours ago has passed,” Derek Halpenny, European head of global currency research at Bank of Tokyo Mitsubishi UFJ Ltd. in London, wrote in a report today. “We are in little doubt that steps taken will offer the euro little support and the aid package does not change the fact that Spain and Portugal in particular will still have to undergo further painful austerity measures.”
Yen, Treasuries Gain
The euro fell against 14 of its 16 most-traded peers, dropping as low as $1.2670, compared with the $1.2755 level at which it closed last week. The yen strengthened against all 16 of its major counterparts as investors sought the relative safety of the Japanese currency. The dollar advanced versus 13.
U.S. Treasuries rose, snapping a two-day decline, with the 10-year yield sliding 4 basis points to 3.5 percent and the two- year yield dropping 2 basis points to 0.86 percent. German 10- year bund yields fell 3 basis points to 2.92 percent, while two- year yields were also 3 basis points lower, at 0.58 percent.
Traders are betting the plan to rescue debt-laden governments from Greece to Portugal will fail to reverse the euro’s worst start to a year since 2000, forcing the European Central Bank will keep interest rates at a record low for longer. Economic growth in the nations that share the euro will lag behind the U.S. by almost 1.5 percentage points next year, Bloomberg surveys of economists show.

Monday, May 10, 2010

Stocks Rally, But Can't Follow Through

Dow futures opened nearly 400 points higher last night, but have lost ground since. It's a roller coaster today, as some investors aren't convinced. This is a manipulated market!

Market Not Buying Euro Defense Story

The Dollar Index is now higher for the day.

EU Kicks the Can With Nearly $1 Trillion Package

European policy makers unveiled an unprecedented loan package worth almost $1 trillion and a program of bond purchases as they spearheaded a global drive to stop a sovereign-debt crisis that threatened to shatter confidence in the euro.
Jolted by last week’s slide in the currency and soaring bond yields in Portugal and Spain, European Union finance chiefs met in a 14-hour session in Brussels overnight. The 16 euro nations agreed in a statement to offer as much as 750 billion euros ($962 billion), including International Monetary Fund backing, to countries facing instability and the European Central Bank said it will buy government and private debt.
The rescue package for Europe’s sovereign debtors comes little more than a year after the waning of the last crisis, caused by the U.S. mortgage-market collapse, which wreaked $1.8 trillion of global credit losses and writedowns. Under U.S. and Asian pressure to stabilize markets, Europe’s governments bet their show of force would prevent a sovereign-debt collapse and muffle speculation the 11-year-old euro might break apart.
“Europe wants to give the impression that they are not dealing with the crisis on a piecemeal basis and are addressing it in a comprehensive fashion,” Venkatraman Anantha-Nageswaran, who helps manage about $140 billion in assets as global chief investment officer at Bank Julius Baer & Co. in Singapore, said.
“It might temporarily calm nerves but questions will come back later on how they will pay for this package when all of them need fiscal consolidation,” Anantha-Nageswaran also said.
The euro headed for its biggest two-day rally since March last year, climbing 1.4 percent to $1.2930 as of 2:46 p.m. in Tokyo after advancing on May 7 on forecasts an agreement would be reached over the weekend.
Asian stocks also rallied, with Japan’s Nikkei 225 Stock Average rising 1.5 percent and the MSCI Asia Pacific Index up 1.3 percent. Futures contracts on the U.S. Dow Jones Industrial Average gained 243 points to 10,578.
“The message has gotten through: the euro zone will defend its money,” French Finance Minister Christine Lagarde told reporters in Brussels early today after markets punished inaction last week.
ECB policy makers said they will counter “severe tensions” in “certain” markets by purchasing government and private debt, and the bank restarted a dollar-swap line with the Federal Reserve.
“This truly is overwhelming force, and should be more than sufficient to stabilize markets in the near term, prevent panic and contain the risk of contagion,” Marco Annunziata, chief economist at UniCredit Group in London, said in an e-mailed note. “This is Shock and Awe, Part II and in 3-D.”
Treasuries tumbled on investors’ increased appetite for risk, with yields on benchmark 10-year U.S. notes rising to 3.57 percent from 3.43 percent at last week’s close. German bunds opened lower, sending 10-year yields up about 12 basis points.
The steps came after failure to contain Greece’s fiscal crisis triggered a 4.1 percent drop in the euro last week, the biggest weekly decline since the aftermath of Lehman Brothers Holdings Inc.’s collapse. European stocks sank the most in 18 months, with the Stoxx Europe 600 Index tumbling 8.8 percent to 237.18.
The ripple effect in the U.S., including a brief 1,000- point drop in the Dow Jones Industrial Average on May 6, prompted President Barack Obama to call German Chancellor Angela Merkel and French President Nicolas Sarkozy to urge “resolute steps” to prevent the crisis from cascading around the world.
Under the loan package, euro-area governments pledged 440 billion euros in loans or guarantees, with 60 billion euros more in loans from the EU’s budget and as much as 250 billion euros from the International Monetary Fund.
“They will have bought themselves a significant amount of time to do the right thing,” said Barry Eichengreen, an economics professor at the University of California, Berkeley.
Markets worldwide are reeling from Europe’s debt saga. Gold rose to a near-record of $1,214.90 an ounce in New York last week, and the MSCI World Index of equities dropped to a three- month low. Investors fleeing European markets parked money in U.S. Treasuries, pushing the 10-year note yield down 23 basis points to 3.43 percent.
In a step that skirts EU rules barring direct central bank lending to governments, the ECB said it will conduct “interventions” to ensure “depth and liquidity” in markets. The purchases will be sterilized, meaning they won’t increase the overall money supply in the financial system.
“This sets a precedent for the rest of the life of the Central Bank and will have likely surprised even the most seasoned observers,” said Jacques Cailloux, chief European economist at Royal Bank of Scotland Group Plc in London. “While the ECB’s intervention might attract bad press regarding its mandate and independence, we believe that this was necessary to short circuit the negative feedback loop which was getting more and more threatening for the global economy. ”

Sunday, May 9, 2010

What Really Happened When Stocks Plunged

NEW YORK (CNN) -- New York Stock Exchange efforts to stabilize Thursday's stock market had the opposite effect, triggering a momentary market collapse.
It wasn't a goof. It wasn't human error. Rather, it was an instant that displayed the hazard of new markets that handle billions of dollars' worth of trades each day.
During yesterday's fast-moving midday market, NYSE specialists -- who oversee trading in individual stocks -- used their authority to call a momentary time out. The idea was to bring together buyers and sellers, and get their prices more in line with each other.
It happened in five Dow stocks, including 3M (MMM, Fortune 500) and Procter & Gamble (PG, Fortune 500), according to the NYSE, and in a good number of the listed stocks. The NYSE did not have a tally of exactly how many.
Years ago, when the NYSE dominated trading, such "time-outs" worked well at stabilizing stock prices.
But today, the NYSE accounts for only about 25% of the volume in its listed stocks. Much of the rest comes from computerized markets run by private companies -- and some of those systems did not take a time out yesterday.
"The rest of the markets are free to trade around us," said NYSE CEO Duncan Neiderauer, "and that's what they did."
So, as the NYSE paused for a minute or two at about 2:40 p.m. ET, the off-exchange computers kept searching to execute trades. They hit the best bids still standing, which in many cases were far below the prior price.
And in some cases, the off-exchange computers found no bids at all. When that happens, market-making computers see a zero bid, then offer a penny higher to capture the trade and collect a commission -- hence the trades of just one cent for several stocks, including Accenture (ACN), Boston Beer (SAM), Exelon (EXC, Fortune 500).
"Computers are looking for the best bids. The real best bids shut themselves down," one trader told
"You had penny prints. The bid was zero. The algorithms were designed to penny the bids," said another trader.
The NYSE argues Thursday's sudden plunge shows its model is best suited to maximize market stability.
"Yesterday's experience clearly demonstrates the value of retaining an element of human judgment in the market," said NYSE spokesperson Ray Pellecchia.
But the role of human judgment has been rapidly diminishing in the securities marketplace, placing individual investors at risk of such an instant market meltdown happening again. To top of page

U.S. Debt Debacle By 2013?

from Investor's Business Daily:
Spiraling debt is Uncle Sam's shock collar, and its jolt may await like an invisible pet fence.
"Nobody knows when you bump up against the limit, but you know when it happens it will really hurt," said fiscal watchdog Maya MacGuineas of the Committee for a Responsible Federal Budget.
The great uncertainty about how much debt is too much has tended to make fiscal discipline seem less urgent, rather than more. There is no obvious threshold beyond which investors will demand higher real yields for holding U.S. debt. Vague warnings from ratings agencies about the loss of America's 'AAA' status haven't added much clarity — until recently.
In the wake of the financial crisis and recession, Moody's Investors Service has brought new transparency to its sovereign ratings analysis — so much so that 2018 lights up as the year the U.S. could be in line for a downgrade if Congressional Budget Office projections hold.
The key data point in Moody's view is the size of federal interest payments on the public debt as a percentage of tax revenue. For the U.S., debt service of 18%-20% of federal revenue is the outer limit of AAA-territory, Moody's managing director Pierre Cailleteau confirmed in an e-mail.
Under the Obama budget, interest would top 18% of revenue in 2018 and 20% in 2020, CBO projects.
But under more adverse scenarios than the CBO considered, including higher interest rates, Moody's projects that debt service could hit 22.4% of revenue by 2013.
"While we see limited risk of a U.S. sovereign debt downgrade in the next 2-3 years, beyond that we cannot be so certain," wrote Societe Generale's economics team in a recent report.
The Moody's ratings framework is one that could have a significant influence on policy — particularly in a crisis.
Because debt levels and interest rates can't be lowered overnight, the obvious way of staying within the AAA limits set by Moody's would be to raise revenue.
"It would bias the remedy in favor of tax increases for countries that want to improve their bond rating," said Brian Riedl, budget analyst at the conservative Heritage Foundation.
Because economic growth is a key to fiscal health, Riedl argues that a ratings agency concerned about whether bondholders are repaid should bias spending cuts over tax increases.
Moody's says that its framework focuses on debt affordability rather than debt levels as a percentage of GDP. "The higher this ratio (interest/revenue), the more public debt constrains the formulation and delivery of other policies," Moody's analysts wrote in March.