May 3, 2010, 08:00 EST [img]http://www.joe-duarte.com/images/line_main_top_03.gif[/img] Dr. Joe Duarte's Market I.Q. [img]http://www.joe-duarte.com/images/line_main_top_05.gif[/img] [img]http://www.joe-duarte.com/images/line_main_top_07.gif[/img] [img]http://www.joe-duarte.com/images/000.gif[/img]
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The Internet's Intelligence Digest
Intelligence, Market Timing, And Trading Strategy For Traders and Investors
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It's Not The Event.
It's The Derivatives On The Event.
[img]http://www.joe-duarte.com/images/000.gif[/img] [img]http://www.joe-duarte.com/images/000.gif[/img] [img]http://www.joe-duarte.com/images/line_top_bot_02.gif[/img] [img]http://www.joe-duarte.com/images/pic_04.gif[/img] What's Hot Today:
U.S. stock index futures were pointing to a higher opening on Monday. The first five days of a new month tend to have an upward bias. The employment report is on Friday.
- Motor Vehicle Sales
- Personal Income and Outlays 8:30 AM ET
- ISM Mfg Index 10:00 AM ET
- Construction Spending 10:00 AM ET
- 4-Week Bill Announcement 11:00 AM ET
- 3-Month Bill Auction 11:30 AM ET
- 6-Month Bill Auction 11:30 AM ET
Iran builds cruise missile defense system..To deploy "in near future." According to Stratfor.com: "Iran has produced a new air defense system capable of shooting down cruise missiles, according to Iranian Defense Minister Brig. Gen. Ahmad Vahidi, Fars News Agency reported May 2. Vahidi said the short-range air defense artillery system can fire 4,000 shots per minute, and was designed to counter military threats flying at low altitudes, such as cruise missiles. He said the system will be deployed in the near future."
Europe: Markets not buying into Greece bailout. The Euro slipped and European stock markets were lower on Monday, despite a purported 146 billion Euro bailout package and promises of austerity from Greece.
Asian stocks head lower on China's interest ratke hike. According to The Wall Street Journal: "Asian equity markets declined Monday as Beijing's move to tighten monetary policy over the weekend dragged on Chinese banking and property stocks in Hong Kong, while Australian miners were hit hard by the government's plans for a new tax on the resources industry."
Dr. Doom predicts China crash. According to Bloomberg: "Investor Marc Faber said China’s economy will slow and possibly “crash” within a year as declines in stock and commodity prices signal the nation’s property bubble is set to burst." The report added: 'The opening of the World Expo in Shanghai last week is “not a particularly good omen,” he said, citing a property bust and depression that followed the 1873 World Exhibition in Vienna. “The market is telling you that something is not quite right,” Faber, the publisher of the Gloom, Boom & Doom report, said in a Bloomberg Television interview in Hong Kong today. “The Chinese economy is going to slow down regardless. It is more likely that we will even have a crash sometime in the next nine to 12 months.”'
Faber has been bearish on China for some time and "joins hedge fund manager Jim Chanos and Harvard University’s Kenneth Rogoff in warning of a crash in China," according to Bloomberg. [img]http://www.joe-duarte.com/images/000.gif[/img]
[img]http://www.joe-duarte.com/images/pic_04.gif[/img] It's Not The Event.
It's The Derivatives On The Event.
[img]http://www.joe-duarte.com/images/blok_rub_top.gif[/img] Who's Got The Hot Credit Default Swaps Now? And What's The Bet? [img]http://www.joe-duarte.com/images/blok_rub_bot.gif[/img]
The U.S. government is now insuring 96% of all mortgages in the country, and the best guess of how much money was lost as a result of credit default swaps (CDS) on collaterilazided debt obligations (CDOs) is $132 billion. To put that into the proper context you have to add a third number. There is now a potential $400- $700 billion worth of adjustable rate mortgages that are due to reset over the next few years within the context of rising foreclosures and a rising number of mortgages that are under water as prices have fallen below where the homeowners bought them.
In fact, the technically bankrupt, and fully government supported Fannie Mae and Freddie Mac are on the hook for almost all of the unpaid mortgages left out there, which presumably involves at least a significant portion of the potential $700 billion that could be out there lurking to reset this year and in the years ahead. To be sure, these numbers are hard to put together because they are variable on a daily basis as banks, investors, and homeowners, some with government assistance are trying to come to some kind of arrangement such as loan renegoations and short sales, where the banks and the investors take an actual loss on the sale of the property.
What's more, even as the market is far from any recovery, banks and other lenders are starting to pile more debt onto the system as business is picking up, especially in jumbo mortgages. According to The Wall Street Journal: "Some big banks say they are beginning to increase their holdings of jumbo mortgages that are too large for government backing on their balance sheets. And last month, Redwood Trust Inc. said it planned to issue around $222 million in bonds backed by jumbo mortgage loans made by a unit of Citigroup Inc., the first such issue of private-label securities in nearly two years."
So now we get to the $132 billion lost via CDS bets on CDOs. According to The Wall Street Journal: "dealer banks including Goldman, Deutsche Bank, Citigroup, Merrill Lynch and UBS created some $132 billion in synthetic mezzanine ABS CDOs from 2004-2007, according to data from Citigroup. The value of those CDOs has fallen virtually to zero, so that’s also the best estimate of the losses they generated. It’s actually a conservative estimate, because the Citigroup data don’t capture some specially tailored private CDO deals." To be sure, the game was rigged to generate money for the banks that packaged the CDOs and then sold CDS bets on them. But they had some help. According to The Journal: "On a single $1 billion synthetic ABS CDO deal, the bank could make anywhere from $5 million to $20 million. A rating agency could make $250,000 to $500,000 in return for putting its triple-A imprimatur on most of the deal."
The problem with "the game" was that it wasn't obvious to anyone outside of the select group of players that were involved in it. In other words, since there were no screens with quotes, bid, ask, or position sizes on them, no one really knew what was going on. Which brings us to the obvious question. Has anything really changed? Are there any CDS bets left on the table? And if there are, who's got them? What we know is that there are still plenty of mortgages left to go bust out there.
In fact, over the weekend we took a car ride in North Dallas and were a bit shocked. We took two separate neighborhoods, one on the West side of Hillcrest Drive, south of Forest Lane, and the other North of Forest Lane, east of Preston. These are two mature areas with large homes. There are some newer "Mc Mansions" that have been built over the last five years, and there are mostly older homes. Here's what we found. There were 80 "For Sale" signs, with one "SOLD" sign. The "SOLD" sign was on huge compound being built on a side street, next to some other large compounds, some of which were empty, and had "For Sale" signs in front.
So we did a little digging. According to Freddie Mac, the number of delinquent mortgages on its books dropped to 4.13% in March from 4.20% in February. But local data in Dallas, showed that in February, the number of delinquencies rose "to 6.24 percent during the second month of 2010, analysts at First American CoreLogic reported Wednesday. That's up from 4.27 percent in February 2009," according to a report in the Dallas Morning News.
In fact, the Dallas data jibes more closely with data from the Lender Processing Services (LPS) Mortgage monitor report which paints a dimmer picture of what's happening. There is a little bandied about term, REO properties, which have nothing to do with REO Speedwagon, the classic rock icons that are still big on the casino circuit. REO, in this case, stands for Real Estate Owned properties, those that are now in the hands of lenders because the owners defaulted. Think of REO properties as those somewhere on their way to or from something else, auction, oblivion, or burial inside the balance sheet of the lender, who hopes nobody notices that the thing is there at all.
According to Housing Wire.com: "More than 7.3m mortgages in the US are non-current or in REO status through March 2010, according to the Lender Processing Services (LPS) Mortgage Monitor report." In fact, this report makes the data from Freddie Mac look a bit like wishful thinking. Housing Wire.com reports: "Data and analytics firm LPS reported the modest improvements in the amount of loans becoming current has been overshadowed by this large pool of non-current assets, which represent more than 12% of all active loans in the country. The volume of distressed mortgages is up 19.3% from a year ago."
And there is more: "the amount of REO in the US as of March reached its highest levels since 2008, according to the data. Since the beginning of 2008, when LPS measured more than 675,000 REO, the volume has increased 62.2% to more than 1.09m properties."
So where does that leave us? Somewhere in the February-March period, there was an improvement in the number of homeowners who were able to stay in their homes, either to some kind of loan modification, or to some other intervention or negotiation with the government, banks, investors or a combination of all.
Yet, as that wave of troubled assets was starting to show improvement, it seems as if a new wave is on the cusp of flooding the system. To us it seems as if that new wave that is now termed REO properties, is at least partially related to those subprime mortgages that were issued in 2005-2007 that are now resetting or about to reset. That would explain why there are 80 houses up for sale in North Dallas with one "SOLD" sign among the lot. And that assumption is backed by the Dallas data, cited above, from February.
And according to Housing Wire: "Across the country, 16 states showed an increase in the number of non-current loans."
In an opinion piece, Housing Wire's publisher Paul Jackson suggests that there may be as many as 10 million homes that have yet to be added to the market. Those numbers are the 7.9 million REO properties we noted above, plus another 1-2 million that may also hit the market due to the 19,000 vacant units recently reported by the Commerce Department.
Which brings us to this week's big number, the employment report. If there is no significant growth in jobs, then there won't be as many people to buy houses. That may mean some, to use Wall Street jargon, capital dislocation, and to use White House jargon, capital redistribution. In other words, stock prices are going to get hit if there is a bad number.
Add to things the potential for more trouble in the Eurozone, as well as the oil spill in Lousiana, the chill in the air in New York, as a potential bomb disaster may have been thwarted in Times Square, and whatever happens this week because the world is ruled by the tenets of Chaos theory, and you've got a potentially tough week ahead.
Conclusion
Frankly, we're fascinated by CDOs, CDSs, and the flood of statistics from the real estate market. We're also concerned about what the future holds for real people, whose fortunes depend on what happened as a result of CDS bets on CDOs, and the mechanism that led to the whole thing exploding, a decade after the repealing of the Glass-Steagall act and the non-stop promotion by two presidents and multiple Congresses of "affordable" housing for the masses.
And as the statistics show that some progress is being made, the Pollyannas of the world aren't seeing the potential next wave, the REO wave of properties that are filling a near bursting pipeline of supply.
What's our biggest concern? Who's got the CDS instruments at this point? How much money is at stake? And what's the bet? Is is a double dip on real estate? Is is Greece and the Eurozone falling apart? Or is it a combination of all and more potential horrors?
More daunting is the notion that in Watergate it wasn't the event that did Nixon in, as much as the coverup. In modern events, it's not always the event that causes the trouble, it's the derivatives on the event that make the original event even more trouble.
Dr. Duarte is currently short the financial sector via the SEF ETF. This is an example of a hedge. Visit all our different sections as Dr. Duarte's positions are highlighted. Prepare for an uncertain future. Get a detailed trading plan in your pocket. Read Dr. Duarte's All NEW Books "Market Timing For Dummies." and "Trading Futures For Dummies." The Trading Manuals for All Seasons. Also Available As Kindle Books.
[img]http://www.joe-duarte.com/images/pic_05.gif[/img] Market Moves S & P SPDR ETF (NYSE: SPY) Starts Week On Back Foot
The market looks set to move higher in the early going on Monday, but last week's action in the S & P SPDR ETF (NYSE: SPY) suggests that some aggressive selling took place.
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Chart Courtesy of StockCharts.com
Distribution days are those days in which volume rises as selling overwhelms buying. And there were four of them in SPY on April, the 7th, the 16th, the 27th, and the 30th. That's a fair amount of heavy selling, enough to weaken the market just enough to make it vulnerable.
So while things could improve, you have to think of these distribution days as small chinks in the market's armor. The last one, on the 30th, was enough to take the S & P 500 below 1200 and its 20-day moving average, leaving little support below the market until the 1170 or so area.
That means that the market has weakened some, although it's hard to tell whether it's now weak enough to roll over and correct at least 5 to 10% from its recent highs.
That's what the action this week may tell us. What we expect is one or two fairly good days early, as new month money from institutions comes in. But by Wednesday or Thursday, there will have been enough time for traders to worry about Friday's employment report, plus whatever happens from now until then with economic data, the Lousiana oil spill, Europe, China, the terrorists, the bomb plots, Congress, The White House, and the usual suspects.
What's our point? This may be a very pivotal week in this bull market.
