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Monday, October 17, 2011

Wolf on Wall Street Market Wrap

The following is the end of day wrap for market moving events from Wolf on Wall Street


I have been very busy today watching for all kinds of signals, clues, hints about the condition of the market and whether the EUR/USD has broken out of the closed environment. Market sentiment will be very important to follow as well, especially through earnings and given IBM's reaction, sentiment looks to have shifted. THE MARKET HAS NOTHING TO DO WITH VALUE AND EVERYTHING TO DO WITH PERCEPTION.

Here's today's round-up that I couldn't bring you earlier.

Schauble said, 

"Anyone dreaming that next week's EU summit will solve the crisis will be disappointed. "

In addition, 

 "We won't have a definitive solution this weekend," detailed talks were likely to go beyond this weekend with a final package not in place until the G20 world leaders' summit in Cannes next month.

This was in addition to Merkel's spokesperson echoing similar comments, clearly trying to play down the G20 warning and manage expectations. The G20 for their part are very concerned that EU troubles will hurt growth in emerging economies.

Schauble seems to be working overtime to manage expectations: asked an interview with ARD whether there could be a Greek debt write-down of as much as 50-60 percent, Schaeuble said: "A lasting solution for Greece is not possible without a debt write-down, and this will likely have to be higher than that considered in the summer."

This means higher then the agreed 21%, as I pointed out this weekend, even a write down of more then 21.01% will trigger a credit event as well as CDS-a type of insurance banks have written to cover losses from this kind of an event. Being the last EU bank stress tests DID NOT uncover the extent to which banks had exposure to Credit Default Swaps, there's a real problem which is part of the reason that interbank liquidity and liquidity otherwise has frozen. You probably remember this from the US in 2008, when credit markets froze up. The problem is, interbank lending has halted as (same as the US crisis) counter-party risk is an unkown. In other words, no one knows what bank on the other end of transfers has what CDS exposure and how much. Should Greek bondholders take a loss greater then 21%, as Schauble has repeatedly said must happen, then a rating's agency credit event is triggered as are the CDS with banks taking unknown losses-nearly exactly the same situation that sent US markets over the waterfall in 2008.

He goes on:

 "We need better regulation and we also need a better capitalization of banks, which is what we are doing in the short-term. Not everyone will like it, but it is the best way to ensure that we don't have an escalation in the crisis due to a collapse in the banking system," he said.
"We simply have to recognize that banks don't trust each other at the moment, which is why the interbank market doesn't function as it should. The best means to tackle this is better capitalization," he added.
After my post this weekend, these issues should be somewhat familiar, regulators are pressuring banks to lower risk, but more importantly raise capital because they foresee 2 situations. The first is that they need to get Greek debt holders (the banks) to accept voluntary losses greater then 21%, which was already agreed to in order to prevent a "credit event ". The second situation is that a credit event may be triggered as they couldn't get enough bondholders (banks) to rollover their Greek debt with the 21% loss. How will they get them to accept losses of up to 50%? Rating's Agencies may trigger a downgrade even if there's a 50% agreement. This triggers an unknown amount of CDS, in effect the banks will have to pay up on the insurance policies they wrote. Either way, they need banks to hold more capital, a ratio that is vague, but it is money that is available in a ratio that is compared to liabilities. As you know, banks do not want to re-capitilize at depressed share prices and are following the path of "Shrinkage", which in turn could very well mean less lending, which will destabilize any hope of an economic recovery. It's a big, ugly circle.

This morning as you know from earlier posts, CITI posted earnings that were more or less viewed as an accounting gimmick. The early strength in C today faded as the day went on and they went from an opening gap up of 1.4% to a loss on the day of 1.65%, a 3+% intraday drop.

Pre-market the Empire Manufacturing report missed. The "Future general business conditions" index fell to the lowest level since Feb. 2009.

A day after Credit Suisse revised the Chinese banking sector's Non-Performing Loans originally from 4.5% to 12% and said that the cumulative losses could equal 65-100% of the entire Chinese banking sector's equity, meaning that the banks in worst case scenario could be worth $0.00, they took on the European banks. CS believes in the 3rd round of European stress tests, 66 banks will fail, including some of the biggest banks: RBS, Deutsche Bank, BNP, SocGen, Barclays, Unicredit, Commerzbank and another 59 banks. The amount of capitalization these banks will need ranges between $11 and 19 Billion Euros for each bank. For the 7 banks mentioned above, the prospective shortfall is 96 billion Euros! To put this in perspective without going in to the details of each, the sector has a cumulative market capitalization of $541 billion Euros and may need to raise $400 billion Euros. That is staggering! These banks may need to raise 75% more capital then their current market cap! And where will that money come from? The size of the problem here should be sinking in now, especially in light of what you already know about their ability to raise new capital.

Later in the afternoon, Deutsche Bank warned that France may be put on downgrade review before year's end! DB notes that France probably has the ability to avoid a downgrade by taking immediate and painful corrective action, which would come just a few months before elections. To put this in perspective, you may remember what the bond vigilantes did to Ireland, Portugal, Spain and Italy, of course Greece was first, but now, as it seems to be apparent and I showed you the chart last night, "Contagion", the biggest fear of the core, is seeping from the PIIGS to the very core and once France is the target, you know who will be next... Speaka da Deutsch?

 Doesn't this make you wonder whether the still salvageable countries like France and Germany really have the stomach to put their population at risk in order to save some other country/culture that they share a common currency with? It almost seems like the height of irresponsibility and egomaniacal desperation to prove that something that many people said 20 years ago would never work, can, maybe, actually work? You never hear too much about England-except of course Barclays above, being drug in to the mud, you ever wonder why? They have kept a certain amount of distance between the and totally swallowing the EU pill-suh as not having adopted the currency which may have been their smartest move.

In the afternoon today, rumors took hold as to whether Goldman Sachs would actually take only their second quarterly loss since going public in 1999. We'll find out tomorrow.

Of course in AH, IBM misses! They are now trading down 3.8% in after hours.

However, to put the cherry on top of the day, and this just came out as I have been typing, Moody's rating agency says that France is the weakest of all Aaa rated countries!!! +1 for DB! I think DB had an inside line, catch this,

"Over the next three months, Moody's will monitor and assess the stable outlook in terms of the government's progress in implementing these measures, while taking into account any potential adverse economic or financial market developments."

Thus far, ES is trading down in post regular market trade. Maybe it's time to go back and review that chart of the CCI I posted over the weekend!


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