The Market Ticker

Boy I wish I could wait for FRYDAY to use that title.  As in You Are Fried.

Sorry, no dice.  It had to be done today.

The bond market is waking up.

Fannie had to pay a record spread yesterday on a 2-year note sale:

"The 3.25 percent benchmark notes priced to yield 3.27 percent, or 74 basis points more than comparable U.S. Treasuries, the Washington-based company said today in an e-mailed statement. That's the biggest spread since Fannie Mae first sold two-year benchmark notes in 2000 and triple what it paid in June 2006."

That's nothing.  Wait until its a few hundred basis points - a development that is increasingly likely.

"Fannie and Freddie's health is of deep concern to policy makers because of the critical role they play in the housing market. The two companies own or guarantee about $5 trillion of mortgages or nearly half of all U.S. home-mortgage debt outstanding. The government has increasingly leaned on the companies to provide critical stability to a housing market crippled by falling home prices and banks too nervous to lend.

If a loss of confidence among investors made it impossible for Fannie and Freddie to continue supporting the mortgage market, "the government would have to step in," said Douglas Elmendorf, an economist at the Brookings Institution in Washington."

How come?  Oh, that nasty "few basis points of capital" behind their credit book, and the fact that the credit quality is deteriorating at about the rate of your life expectancy while you are holding a lit stick of dynamite!

Investors are finally waking up to the reality of this situation - the housing market is not going to turn any time soon - at least another year or more, and the loans written under "silly terms" are going to continue to default.

Fannie and its brother Freddie are both chock-to-the-neck full of that crap paper.

The result?  The stock was up the other day, but yesterday it got shellacked - Freddie was hit for 24%, and is now trading under $11!

I've been saying for a while that I believe they are, under fair value accounting rules, insolvent.  Well guess what - I'm not the only one and now it is being said in the "mainstream" media by people with more street cred than Mr. Ticker:

"Chances are increasing that the U.S. may need to bail out Fannie Mae and the smaller Freddie Mac, former St. Louis Federal Reserve President William Poole said in an interview. Freddie Mac owed $5.2 billion more than its assets were worth in the first quarter, making it insolvent under fair value accounting rules, he said. The fair value of Fannie Mae's assets fell 66 percent to $12.2 billion, data provided by the Washington-based company show, and may be negative next quarter, Poole said.

"Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer," Poole, 71, who left the Fed in March, said in an interview."

Heh, Mr. Poole owns a calculator and reads balance sheets!

Now tell me why OFHEO doesn't.

Wachovia came out after the close and "revised" their "earnings" estimates.  I put "earnings" in quotes for a reason - they now expect a monstrous loss instead of a modest profit, so "earnings" isn't quite the right word.  Why?  Cough-goldenwest-cough.  You know, the "wonderful" acquisition of yet another hatchet shop that was writing crap paper - in California!  Yep.  Oh, they paid about $15 billion for that "investment", which from where I sit looks like a big fat zero - or worse.

Yesterday I managed to rot my IQ by 10 full points by making the mistake of listening to CNBC for a few minutes.  Unfortunately I caught Dennis Kneale in one of his famous statements - "you haven't lost unless you sell."

Doesn't that sound suspiciously like the banks mantra?  We don't have to take marks, the market will come back eventually and when it does, everything will be beautiful!

Unfortunately the margin clerk will disagree with that assessment if you actually trade on public exchanges and are an ordinary mortal, like for example, me.  My portfolio is marked every night to the market whether I like it or not, and my balance can and will dwindle toward zero if I sit on a bad investment.

Hope is not an investment strategy Dennis, but prayer might get CNBC to remove that clown from their studios, preferably in a straight jacket.

Kudlow was worse.  He actually speculated that the WSJ might call for Bernanke's resignation tomorrow.  Let me guess - that's because he didn't raise rates at the last meeting and withdraw the excess liquidity?

Well Larry, I do seem to remember that last summer and fall you were one of the cheerleaders demanding that Bernanke flood the system with liquidity!  What happened Larry?  Did you suddenly get religion when the Aaarrrraaabbbss got whizzed off when we conned them into a few tens of billions in bad bets on our banks, not to mention exporting monetary inflation - and as a consequence $140 oil showed up?  How tough was it to predict that screwing people who have something you really want to buy usually is a bad strategy?

There are a few of us who have, since the beginning of this mess back last year, consistently said that you can't solve a drinking problem with more booze - you need a hard-ass bartender who will remove the damn keg and force the drunks to go through DTs!

Well Larry?  How about it?  Do you know something about addiction?  Credit, booze, dope - it all works the same way, right?  Certainly America and our "gotta get the deal done, animal spirits are all there is until we really cock it up" American Financial System does. 

Yet only a few of us have been voices in the wilderness saying that we must force the pain to be taken by those who committed the cockups and stop trying to sweep crap under the rug!

Now the fruits of Greenspan's and Bernanke's policies, which Congress has ratified again and again through their refusal to act to rein in the liars, cheat, and scammers, has come home to roost.

The good news is that these institutions have managed to sell over a trillion dollars of this crap paper to institutions outside of the United States, and they're going to bear a huge proportion of the loss.

The bad news is that we've got two GSEs with over $4 trillion in paper on their credit book between them, an unknown quantity of it is bad, and they've got less than a 1% capital cushion against that book.

Oh, and their so-called "insurance" (by the private mortgage guys) was written by companies that almost certainly can't cover all the bets either.

So where's the road out of here folks?  Banks that claimed to have "shifted all this off by selling it to other people" in fact started eating their own cooking and have hundreds of billions worth of garbage on their own balance sheets - $200 billion accounted for thus far, and we're nowhere near done.

All of this is going to try to "go home" as it blows up, but the originators of these mortgages are either the banks themselves or worse, some company that has or will have gone out of business already by the time the tail is pinned on the donkey, leaving the issuer or the current holder stuck with the bad debt.

We haven't even gotten to litigation risk yet, but you can bet we will.  I envision Racketeering suits coming in the next year or so as its rather apparent to me that this was not some "rogue deal" but rather a systematic approach to intentional understatement of risk.

I have said since this began that my best estimate of the damage is somewhere between $2.5 and $3 trillion dollars.  Yes, with a "T".  We've recognized $200 billion of it thus far.  Probably half of the damage is over in places like Europe and China (they're going to love us for the next 20 years!) but the rest is right here at home, literally everywhere from our banks to pension funds to the GSEs themselves.

We do not have the money to bail this mess out.  It simply does not exist.

Dickey Bove was on Fast Money pimping banks again, claiming that "the market has it all wrong" and that its all about cash flow and that profitability will ramp.  Uh, we'll see about that Dick; remember, you called a "generational buy" a couple of months ago and were crowing about how right you were - until Citibank cratered along with virtually everything else.

I think the market has it right.  I believe that these banks are sitting on enough toxic paper to blow most of them to bits in terms of capital ratios. The only way out is going to be a massive dilutive issue of equity or fire-sale asset divestiture, either of which will drop their stock prices to the single digits. The problem is that so far, none of these banks are coming clean about their exposure - they're all dissembling and claiming to have "kitchen sinked" the quarter, then next quarter they go for the copper plumbing and commode.

Why? 

Its simple, really.  Alchemy never did work and still doesn't.  The entire premise is a lie - you can't get something for nothing.  When reality comes and intrudes on your party, it usually ends up spelling "G.A.M.E.  O.V.E.R." in bright flashing lights.  There are no "write-ups" coming; this paper was crap at issue and still is; you can polish a turd or even attack it with a spray paint can but you still have a turd!  If you stick it in a bun and take a bite it is still going to taste like s**t; you can't wave a wand and turn it into a hot dog no matter how hard you try!

We have yet to have any of these institutions come out and say point-blank that they wrote crap paper and it would be better to get utility value out of it by wiping your butt than try to claim it has economic value in the marketplace.  IndyMac has made quite clear that they can't sell their ALT-A paper at anything approaching a reasonable valuation and there are rumblings on the street that major houses are either getting back "No Bid" in response to their solicitations or "pretty damn close to zero" bids - like 30 cents on the dollar or less.

What's worse is that IndyMac is pimping off their FDIC "guarantee", offering CD rates that are a full half point above market; last quote was 4.45%, where the best you can find elsewhere is around 4%, and that is from other "distressed" banks.  Sound local banks near here are offering 1 year CDs at about 2.5%, which puts things in even more stark relief.  With FedFunds at 2%, this is about right.  That banks like IndyMac are being allowed to suck teat off the Taxpayer guarantee via the FDIC is outrageous - and dangerous.

Until we see confessions by these holders, and a writedown to near-zero or sale for "whatever we can get", the market cannot and will not clear.

The arrogance of the firms involved and their management is breathtaking.  We have spent the last six months with CEOs of financial firms saying that they have no need to raise capital or improve their balance sheet, immediately followed by them doing exactly what they said they didn't have to do.  The market has repeatedly tolerated this sort of nonsense, as have the regulators, although there has been immense pain served up on the financial sector in terms of their stock prices.

In my opinion there is no reason for any investor to trust anything that comes out of the financial sector, whether it be claimed "earnings" or pronouncements of financial health.  My base case after seeing the shenanigans of the last few years is that they are all liars - every one of them - and that the government, SEC and The Fed puts any faith in what they say, or will even trade with them, is an outrage.

The key here is and will remain that the government must ringfence itself and its balance sheet off from these idiots - each and every one of them - and force them to eat their own cooking, even if its poisonous and kills them.

There is no other way out that does not result in the destruction of the government's ability to fund its operation at any sort of reasonable cost.

We need statesmen and sober bartenders at this party, and we need them now.