We just had a revolution

This post by Howard Simons originally appeared in RealMoney's Columnist Conversation earlier Friday. Click here for a free trial to RealMoney.

We just had a revolution. No, that's not hyperbole. As Congress has abdicated its duties and the president has been more or less AWOL, the Secretary of the Treasury and the chairman of the Federal Reserve have been forced to fill the vacuum. We are passing diktats and spending hundreds of billions if not trillions of dollars with little planning, no debate and no real understanding of the consequences.

We got forced into this position of making short-term decisions under duress by lack of planning and by the lies and stupidity of parties too numerous to mention. I have no interest in playing the blame-game. But just as no one makes their best trading decisions under short-term duress, neither does anyone make their best policy decisions under duress.

And, for the record, I recognize the first step in First Aid is "stop the bleeding." If you don't, there's no need to go on to Step Two, clearing the airways.

Had we not undertaken massive actions under duress this week, we might be facing, in no particular order:

1. Negative T-bill rates;
2. The imminent disappearance of Morgan Stanley and quite possibly Goldman Sachs;
3. The financial capital of the U.S. being in Charlotte, N.C., a nice city, if I might add; and
4. A complete collapse of all short-term credit markets

What will we pay for these short-term benefits? Once again, in no particular order:

1. A stock market whose price cannot be trusted as it has been pushed here by massive government intervention;

2. Home prices that will remain over market-clearing levels as they will be supported by the government. This will discourage new home buyers as price appreciation will be hard to come by;

3. Dysfunctional options and futures markets, and quite likely the bankruptcy of more than one clearing firm. Today's expirations might have required short sales of stocks into options and futures positions, and those clearing firms are liable to The Options Clearing Corporation;

4. Recognition that any future government bailout for a firm will involve wiping out of common shareholders. This will place the value of a stock lower as it raises the implied volatility of the at-the-money put option.

5. Large-scale future restrictions on financial firms. Maybe I'm speaking for myself here, but I for one am awfully tired of one crisis after another. As Wall Street has proven incompetent in managing its risks and has turned itself into a ward of the state, it will be restricted in what it can do and how much it will be allowed to make in compensation.

 

The implications of all of these nationalizations is going to take a while to absorb.

We just had a revolution, an unplanned and accidental one at that. A week ago,Lehman and Merrill were self-standing firms, AIG was not a ward of the state and money market funds had no taxpayer-funded protections.

A month ago, Fannie Mae and Freddie Mac were in operation, and their preferred shares were part of many banks' capital base.

Six and one-half months ago, Bear Stearns was still independent.

It takes a while to recognize when your country has been conquered and those fellows in the uniforms speaking a different language are now in charge. It is a new world we are living in, one no one foresaw or intended.

Meet the new boss; not the same as the old boss.

 

 

 

 

 

 

 

 

SEC bashed over short-selling ban

Hedge funds will have to reveal short positions

By Matt Andrejczak, MarketWatch

Last update: 4:54 p.m. EDT Sept. 19, 2008

Comments: 10

SAN FRANCISCO (MarketWatch) -- The Securities and Exchange Commission drew sharp criticism Friday for putting a stranglehold on short sellers, a move that will force hedge funds to reveal short positions. It also could sap market liquidity and create more selling pressure.

Eric Newman, portfolio manager at TFS Capital (TFSMX:

 

13.35, -0.27, -2.0%) , said the SEC is blaming short sellers for almost every problem in the financial markets.

"It isn't the fault of the short sellers that Morgan Stanley was leveraged 30 to 1 . . . and it isn't the fault of short sellers that AIG (AIG:, , ) assumed home prices would rise forever," said Newman.

On Friday, the SEC -- claiming rampant short selling has triggered a steep decline in financial stocks -- banned short sales in 799 financial stocks through Oct. 2. The SEC's emergency move may be extended but won't last more than 30 days.

The Managed Funds Association, which represents the hedge fund industry in Washington, D.C., said it is seeking exemptions from the rule and a rewrite of the short-sale ban. It hasn't ruled out legal action but filing a lawsuit would be a last resort measure, the group said.

"This crisis is the result of risk management failures and disclosures by the investment firms and banks that are collapsing, not the actions of hedge fund managers," said MFA President and former congressman Richard Baker.

A short sale is a bet that a stock price will decline over time, not go up. It isn't an illegal trading strategy. In a regular short sale, the seller borrows a stock and sells it, with the understanding that the loan has to be repaid by buying the stock.

Some investors argue short sellers keep corporate management teams honest, shining light on possible accounting gimmicks or undisclosed business problems.

"We are concerned with their decision to ban legitimate short selling," said Josh Galper, managing principal of the Vodia Group LLC. "We have seen no evidence or data to support the notion that the banning of short sales in financial stocks will provide anything other than a short-term price stimulus."

Financial stocks jumped Friday, lead by shares of Goldman Sachs (GS:, , ) , Morgan Stanley (MS:, , ) , and Citigroup (C:, , ) -- all names on the SEC's short-sale ban list.

SEC wants hedge funds to 'fess up

Starting Monday, the SEC wants hedge funds to 'fess up to short sales.

If an institutional money-manager takes a short position in a stock valued at more than $1 million, it will be required to report that investment to the SEC in a "Form SH" document. Those documents will be made public on SEC's Edgar database starting Sept. 29.

Hedge funds and others will be required to make those disclosures as long as the SEC's short-sale ban is in place. The rule applies to stocks shorted starting Monday.

The SEC said "such disclosure requirements are in the public interest for the protection of investors and will insure transparency in short selling." See SEC order.

On Thursday, Britain's stock market regulator banned short selling in financial companies and said it might extend the ban to other sectors. French regulators are stepping up their efforts to monitor short sales, too.

In July, the SEC took steps to restrict short selling in financial stocks. The emergency measure helped propped up ailing financial stocks but those stocks later fell after the order was lifted. 

Matt Andrejczak is a reporter for MarketWatch in San Francisco.

 

080919 - Cramer Game Plan

http://www.thestreet.com/video/10438426/index.html?puc=_htmlbooyah&s=1#10438426

KASS: blame the blamers

This blog post originally appeared on RealMoney Silver on Sept. 18 at 8:37 a.m. EDT.

"We believe that to err is human. To blame it on someone else is politics."

-- Hubert Humphrey

Several weeks ago, I wrote an op-ed column in theFinancial Times that spelled out my view that short sellers shouldn't be restricted in their activity and shouldn't be blamed for the abuses in lending, credit formation and in the growth of the unregulated derivative markets that got us into the mess that we are in today.

Indeed, history has shown -- Enron, Tyco (TYC Quote -Cramer on TYC - Stock Picks), Sunbeam and so on -- that market participants should be attentive in listening to the analytical warnings of the short-selling community.

A few seem to be coming to their senses -- in certain cases from surprising corners. For example, here is an email exchange I had with Ben Stein (for whom I now have newfound respect) last night:

Ben Stein: I am bound to say after all this time that you understood this so much better than I did, especially the mentality on Wall Street that would lead to this that it is profoundly humbling.

Doug Kass: Thank you, Ben. My Grandma Koufax would call you a "mensch." My constant proddings were not meant to be ad hominem attacks against you but rather to deliver my analysis and underscore my sense of foreboding that was based on my analysis of the abuses and egregious risk taken in the credit, housing and derivatives markets.

Some observers, like Bloomberg's Michael Lewis get it.

Others recognize that the blame lies squarely on the shoulders of regulators, borrowers (and lenders), banks (did the shorts tell Citigroup's (C Quote - Cramer on C -Stock Picks) Chuck Prince to "keep on dancing?"), brokerages (did the short sellers OK obscene compensation packages in the "heads I win, tails I win" culture on Wall Street in which those monies earned were withdrawn out of the firms while levering their capital to 32-1?) and The Three Stooges of 21st Century Finance (who reside in the Administration, Treasury and Federal Reserve and proved, once again, to be reactive not proactive). All of these players gleefully and drunkenly drank from the bowl of credit excess over the past decade, believing in another new paradigm (and uninterrupted growth) for the housing and credit markets, but failed to have a vision of the dangers associated with their careless risk-taking and lack of due diligence.

"If they can get you asking the wrong questions, they don't have to worry about answers."

-- Thomas Pynchon, Gravity's Rainbow

From my perch, it seems far-fetched to blame short sellers for the general lack of regulatory scrutiny and enforcement, the absence of risk controls and a continuum of reckless management decisions at the world's leading financial institutions (banks, brokers, hedge funds, private equity, etc.), all of which have combined to create a Black Swan event that has resulted in a credit market gone amok and a shadow banking system often under the radar of regulators.

Increasingly this week, however, all too many seem to be suggesting that the short sellers are the root of all evil and are to blame for a plunge in share prices (especially of a financial-kind). Indeed, SEC Chairman Cox instituted new short-selling rules last night, which included a requirement to disclose daily short positions, and some institutional investors, like CalStrs' CIO Christopher Ailman, are not permitting their investment holdings to be loaned out to short sellers, citing clear evidence that short selling is the root cause of the decline in the shares of leading investment banks.

Here are some of my reasons why the current popular game of blaming short sellers is misplaced:

• I simply can't accept the basic assertion that there is currently a great deal of naked short selling going on. Yesterday, I undertook an experiment and tried to borrow 250,000 shares of Morgan Stanley (MS Quote -Cramer on MS - Stock Picks) from my prime broker (one of the very institutions that is complaining about short sellers!); it took less than three seconds. Every other financial on the SEC's list is readily available to borrow, so why the heck would anyone illegally short without a borrow?
• Short interest in the publicly traded investment banks has dropped in the last month. (For example, Morgan Stanley's short interest has dropped by 3 million shares in the last month, to 45 million shares, and stands at a low 2.8 short interest ratio, and at only 4% of Morgan Stanley's float.) According to Short Alert, from early July to late August (the most recent data available), the short interest in the 34 companies classified as Investment Banking Brokerage by S&P dropped from 9.42% of all shares outstanding to only 7.55%, for a 20% decline. So not only are critics of short selling wrong that shorting has increased, but it appears that covering by the short community served to provide stability to the markets.
• Fails-to-deliver from naked short selling account for a small percentage of market capitalization, according to the Depository Trust and Clearing Corporation. Currently, fails are about 31,000 positions daily (including both new and aged fails) out of an average of 54 million new transactions processed every day by the National Securities Clearing Corporation. In dollars, fails-to-deliver-and-receive amount to only about 1.4% of the daily volume.
• Short selling (or buying of protection) is now rampant in the credit default swaps area, an unregulated market that the very investment banks who are complaining about short sellers pushing their shares down have argued to keep unregulated!
• As to the rumor-mongering, one should not look at the short sellers, we (or more precisely the SEC) should look at the very investment banks that are complaining the most loudly about short sellers. Chinese Walls in brokerages have long fallen, as it is widely recognized that investment firms' proprietary desks are shorting each others' stocks (and pulling capital from each other), likely with information from their own investment banking arms. What if it turns out thatGoldman Sachs (GS Quote - Cramer on GS - Stock Picks) was shorting Morgan Stanley and Morgan Stanley was shorting Goldman Sachs -- and that they both were shorting Fannie Mae(FNM Quote - Cramer on FNM - Stock Picks), Freddie Mac (FRE Quote - Cramer on FRE -Stock Picks) and American International Group (AIG Quote - Cramer on AIG - Stock Picks).
• Finally, where are the hedge funds making all this money shorting stocks (illegally)? The dedicated pool of short sellers (which stands at about $5.5 billion, or about 9% the size of Fidelity's Magellan Fund) is simply too small to have a meaningful impact on the markets. Based on ISI data, most hedge funds tied to a long/shot strategy are relatively inactive, and many are liquidating out of fear of ever-greater losses and redemptions, which leaves us with the dominant quant funds that use algorithms, not fundamental security analysis or rumors, as their operating methodology. No doubt, some of these are shorting the weakness in financials based on their modelling.

In summary, the blame game is counterintuitive to the facts (above) and seems motivated by investors' and financial managements' rationalizing their poor investment and business decisions, many of which have caused unnecessary pain for a lot of Wall Streeters who have become victims of their senior managers' misdeeds.

Our economic and financial system faces serious problems, but critics of short sellers are focusing on the wrong group.

Short sellers (and their analysis) are vital and integral to the financial system.

"Who watches the watchmen?"

-- Juvenal

Doug Kass writes daily for RealMoney Silver, a premium bundle service from TheStreet.com. For a free trial to RealMoney Silver and exclusive access to Mr. Kass' daily trading diary, please click here.

kass: who was shorting who

As to the rumor-mongering, one should not look at the short sellers, we (or more precisely the SEC) should look at the very investment banks that are complaining the most loudly about short sellers. Chinese Walls in brokerages have long fallen, as it is widely recognized that investment firms' proprietary desks are shorting each others' stocks (and pulling capital from each other), likely with information from their own investment banking arms. What if it turns out thatGoldman Sachs (GS Quote - Cramer on GS - Stock Picks) was shorting Morgan Stanley and Morgan Stanley was shorting Goldman Sachs -- and that they both were shorting Fannie Mae(FNM Quote - Cramer on FNM - Stock Picks), Freddie Mac (FRE Quote - Cramer on FRE -Stock Picks) and American International Group (AIG Quote - Cramer on AIG - Stock Picks).

KASS: Free Market Fraudsters

KASS: Free Market Fraudsters

This blog post originally appeared on RealMoney Silver on Sept. 19 at 7:19 a.m. EDT.

The SEC has instituted a temporary ban on short sales in a wide array of financial stocks.

As a dedicated short, I never thought an outside influence like the SEC would damage my portfolios and my business; I always thought my miscues and poor judgment would.

I was mistaken.

Turns out, the SEC, Treasury and their peers at home and abroad just don't like short people.

Not surprisingly, many free market capitalists are cheerleading the SEC's decision. From my perch, they are frauds.

The decision will likely prove myopic. (While the RTC-like package is complicated, at least, it appears to be a step in the right direction.)

Among other things, the SEC should have regulated credit default swap (CDS) trading and disclosures. The CDS market is subject and continues to be subject to all sorts of insider conflicts and potential abuses, and its influence over the financial system is far greater today than the equity markets.

Wall Street needed a scapegoat -- and found one in short sellers.

Cramer's 'Mad Money' Recap: What to Do After a Big Rally

Cramer's 'Mad Money' Recap: What to Do After a Big Rally

Investors should look to take a hard look at their portfolios and make some sales tomorrow after today's huge rally, Jim Cramer told viewers of his "Mad Money" TV show Thursday.
Cramer advised selling into any future rallies to free up cash for the declines that are most certainly ahead. "Get into position for the next big sale," he told viewers.

He said today's 410-point rally in the Dow was entirely due to rumors that the federal government is considering a resolution mortgage trust to begin buying up bad home loans in an effort to rescue the U.S. banking system.
Cramer said he first floated this very idea on NBC's "Today Show" back on July 16, but said it's only one part of "the Cramer plan" for saving the markets. He said a resolution trust will not only put a floor in the housing market but is far more effective and inexpensive than the current plan of nationalizing entire companies.

He said the Federal Reserve needs to cut interest rates to 1% to spur growth and add liquidity into the markets. He again urged the re-instatement of the uptick rule, which is designed to prevent relentless short-selling of companies. And finally, Cramer said regulation is needed to stop the credit default swap activity that companies have been engaging in.
All of these things, said Cramer, are what the markets need to finally put the housing and financial crisis behind us.

If the Fed Keeps Swimming Against the Tide, it Will End up Drowning

Thursday, September 18th, 2008

If the Fed Keeps Swimming Against the Tide, it Will End up Drowning

By Keith Fitz-Gerald
Investment Director
Money Morning/The Money Map Report

If there’s one lesson you can take away from this financial crisis, it’s this: Whenever the U.S. Federal Reserve squares off against the financial markets, it ends up as the loser.

In recent weeks, I’ve written several articles suggesting that the credit crisis isn’t over and detailed the three indicators that led me to this conclusion - despite what the politicians, the pundits and all the other so-called "experts" would have you believe.

Now, there’s a fourth.

It should come as no surprise that there’s more distressed debt trading right now than at any other point in history - nearly $184 billion worth. And that’s just the "official" tally; we know that the actual total is much higher - it just hasn’t been fully tallied and reported, yet.

Historically, large levels of distressed debt have preceded record numbers of bankruptcy filings - including some of the biggest corporate bankruptcy filings in history. Default ratios usually peak 12-24 months after the distressed-securities ratios reach their own apex. In other words, both the level of junk debt and the classification of distressed securities can be viewed as leading indicators.

And what they suggest for 2009 isn’t good.

In an era of trillion-dollar problems, a mere $184 billion doesn’t sound like much, but that total actually is 11.52% higher than the $165 billion in distressed debt reported immediately after the last bankruptcy boom, according to Moody’s Investors Service (MCO).

Analyst Christopher Garman, former head of high-yield strategies at Merrill Lynch & Co. Inc. (MER) recently toldReuters that the current level of distressed debt suggests nearly $97 billion in defaults could be headed our way next year.

Even now, the problem is so acute that one in every three junk bonds is now trading at "distressed levels" - defined as an interest rate that’s 1,000 basis points or more above comparable Treasury securities. That means that 33% of the junk bonds out on the market aren’t worth the paper that they’re printed on.

At a time when the U.S. economy is struggling with a credit crisis, high energy prices, these distressed-debt issues could end up squeezing profit margins, increasing default rates, and dramatically boosting borrowing costs - any or all of which could feed into a self-repeating cycles.

General Motors Corp. (GM) and Ford Motor Co. (F) lost their investment-grade debt status years ago. But for other companies embroiled in the derivatives markets and the subprime mess, this is an uncomfortably new phenomenon. And that’s why their leaders are "shocked" to find that normal financial channels are no longer open to them.

No wonder so may CEOs are sitting behind their finely turned mahogany desks, feeling the waves of panic rising inside themselves as they realize the bond markets are telling them that they won’t be around long enough to collect on their gilt-edged retirement plans (Ironically, however, the same signals may be telling those same CEOs that it’s increasingly likely they’ll be collecting on their "golden parachute").

Obviously, there are two sides to the story here.

On one hand, U.S. Federal Reserve Chairman Ben S. Bernanke, and now U.S. Treasury Secretary Henry M. "Hank" Paulson Jr., have literally pulled out all the stops to keep this from happening. Clearly, this "Dynamic Duo" believes that by saving individual companies via their "bailouts for (almost) all" strategy, they will save the entire economy. So what they’ve done is to make it possible for firms that are in such deep trouble that they can’t obtain loans anywhere else to be able to borrow from the federal government - and on very favorable terms.

Ostensibly, this is a very good thing - or, at least, the feds would have us believe so.

But a super-close inspection suggests the opposite is true.

Of course, in the process the Fed Bailout Brigade has put every U.S. taxpayer in the recovery business to the tune of $10 trillion (or more) - but that’s another story for another time.
  
The scramble to save American International Group Inc. (AIG) has resulted in an $85 billion bailout package with terms so onerous that one analyst likened it to a "controlled bankruptcy."

And where there’s smoke there’s fire. As the assets of Lehman Brothers Holdings Inc. (LEH) and AIG are both sold into a depressed market, the net effect will be a spread of this contagion to the rest of the financial-services sector - which includes investment banks, thrifts, and hedge funds holding similar assets. That will further pressure already-skittish markets.

Unfortunately, history shows that more often than not when the Fed has squared off against the markets, the Fed ends up as the loser. That’s why we’ve been such vocal critics of the central bank’s moves since this crisis began, stating that its unprecedented interventions would do nothing more than delay the inevitable pain.

We wish the opposite were true.