Wall Street Reform and Consumer Protection Act
December 14, 2009
Good morning. It was a very inside week in the market last week, with the SPY up a whole .10, closing at 111.11. That represents a very dramatic move up of 66% from the March lows, and puts the market back to where it was on 10/2/08. It does seem like the advance has slowed, at least temporarily, as the SPY traded over 110 two months ago and has basically flat lined since then. The market is still down almost 29% from its all time high of 156.33 in October of 2007. The VIX was actually up slightly on the week, from 21.25 to 21.59, but is still showing some positive volatility skew going forward. The bigger news last week is actually in the bonds and the yield curve. A couple of less than stellar auctions in the thirty and ten year Treasuries have the thirty year yields up .1% and the ten year yields up .05%. Combining that with the 30 day Treasury at zero, yes, zero, and you have the steepest yield curve in almost a decade. It would also indicate that the Fed’s days of low financing costs on its ton of debt might be changing.
Today we have an announced takeover of XTO Energy by Exxon/Mobil in an all-stock deal of $31 B, roughly a 20+% premium to where it closed Friday night. My kudos to anyone who may have been long options or XTO stock, but as we go through the painful exercise of trying to recover from excessive concentration in the banking industry do we really need more concentration in the energy industry. Is there anyone sane out there who thinks that we would be better served if XOM, CVX, and BP bought all all the major independent natural gas producers, XTO, CHK, ECA, and DVN? That is why we have, or had, anti-trust laws. For all those happy with the premium paid by XOM, any first year economics student would tell you that of course a company is always worth more to competing companies, the more concentrated you become the greater your control over prices and the market. As we “supposedly” are trying to move, at least somewhat, to greater dependence on natural gas (domestically produced) versus oil, do we think that having multinational oil companies buy the gas companies moves that forward faster?
It was also a busy week on the regulatory front, as the U.S. House passed the so-called Wall Street Reform and Consumer Protection Act. Again, an embarrassment of a bill and riddled with the influence peddling that continues to ruin any attempts at real reform. Despite horrific performance by Federal Regulators for as long back as anyone can remember, this bill essentially strips any state regulatory oversight of National Banks. When the Fed’s return to their usual useless oversight, there is now no chance of any State guy (like an Eliot Spitzer) jumping into the abyss. There are also provisions to move some derivative transactions to Exchanges, a very good idea, but of course there is a long list of so-called end users that would be exempt. End users are loosely defined as those that rely on derivatives for operational reasons, like Delta Air Lines, Cargill, and Deere & Co. Does anyone remember that the biggest disaster of all in regards to derivatives (OK, maybe AIG was bigger) was Enron, the former Houston Gas and Electric. I am sure they would have qualified as an “end user” under this bill, and would have been just as big of an unregulated disaster. I will bet any client a nice dinner that in the next ten years one of these “end users” will have amassed a huge trading department that will have nothing to do with their normal “operational” activities and will cause a huge problem.
The Representative I heard speak (and was questioning) in Washington in September, Illinois’ own Melissa Bean, actually sponsored a provision allowing U.S. regulators to pre-empt state laws that “interfere” with a national banks ability to operate. How does a major national bank, or several, especially since there are now none domiciled in Illinois (maybe Northern Trust), get that kind of influence over a representative from Chicago’s NW suburbs. It is interesting to point out that Illinois has more independent banks and thrifts than any other state, and an Illinois Rep. is sponsoring a provision that a national bank does not have to pay attention to any Illinois state laws when doing business here. Is that really in the best interests of the citizens of Illinois, or the banks and thrifts currently here? Can there possibly be an honest politician from this state? Even though I have not become a Republican (as accused on many occasions recently) the concept of any sort of reform coming from any current or former politician from this state is a serious oxymoron.
What about that Dubai issue? No problem, Abu Dhabi to the rescue with a cool $10B. But last week did have a little stirring in Greece and Spain regarding their debt and the potential inability to service it on time. Again, nothing major, but possibly a little trend developing. It is hard to imagine any country or other governmental authority happy with their current finances, but will the recovery (if there is one) arrive in time to allow current deficits to be put off until a better time worldwide? The pressure is certainly on here, $1.4T deficit in 2009, recovery in 2010, no wait, $1.5T deficit in 2010, recovery in late 2010 or maybe 2011, or so the story continues to extend. We have possibly 15 million people out of work drawing down savings by the day and trying to sell assets into an economy with few buyers of anything, and probably looking at unemployment insurance expiring well before the job arrives. We, for the time being, can print money and get away with it for a while. Greece and Spain do not have that luxury, so they bear watching as a possible example of what might happen if things get worse and the U.S. effectively (through inflation and higher rates) loses that ability.
Right now the status quo is not an option. Either we find the foresight and will to create some meaningful jobs doing meaningful things, and get this economy on a growth path, or we need to face some serious truths. We would have to come clean at every governmental level and tell people they will not be getting anywhere near what was promised in terms of retirement wages and benefits, and that includes Social Security. We will have to find the backbone to close the increasing gap between income levels in the public and private sector for similar jobs. Both of these will require serious political will, and may result in some serious social upheaval. It will happen, however, as people will simply be unable to pay. We will also see continuing inroads into what used to be “private enterprise” as people use government as a lever against those industries perceived to have excessive pricing power (like credit card companies). None of this is good, competition is much better, but it is where we are headed if things do not improve.
Is it possible to come out of this mess OK? I do believe so, but it sure seems like it will take a little different mind-set than I am seeing from governments at all levels and those industries with pricing power. The focus on regulation of the innocent is a problem, and the idea that the innocent in an industry, like the sound banks and financial firms, should somehow be liable for the losses of those who cheated and were not stopped is ludicrous. In another area, why should someone now qualifying for and getting an FHA loan have to pay a larger fee upfront to pay for the problems of those who should not have received loans before? To take care of risk going forward, I say go ahead, but as a selective tax to deal with past wrongs, I say find another way and do not single him or her out to refund what was not their offense.
As for the market, we are in pretty much the same place as last week. The XLE did go below my often announced buy price of $55, and at the time it looked like we might be able to get greedy and buy it even lower, but it did rally a little from there and now is up today on the XTO news. Maybe this week we will get another chance. I do think we might trickle up a little into the end of the year, and when we take our 111 SPY spread off I might initiate a spread a little higher to take advantage of any end of year rally. I still remain relatively bullish on the financials, even with all the bad press, but so far that segment has shown no inclination to break out.
To close, PTI Securities is hosting a couple of complimentary educational sessions in early January – I invite you to sign up. Check them out a www.PTSecurities.com/Education.htm