Two years ago I wrote at RealMoney:

		David Merkel
		In Bondage to Barclays plc
		6/21/2006 2:41 PM EDT

Roger, there is a reason to be aware the the ETNs issued by Barclays plc are notes. (or, bonds) If Barclays went bankrupt, the value of the notes would be impaired. From my limited glance through the prospectus:

The Securities are medium-term notes that are uncollateralized debt securities and are linked to the performance of the GSCI® Total Return Index (the “Index”).

and later…

The Securities are unsecured promises of Barclays Bank PLC and are not secured debt. The Securities are riskier than ordinary unsecured debt securities. The return on the Securities is linked to the performance of the Index. Investing in the Securities is not equivalent to investing directly in Index Components or the Index itself.

and much later…

USE OF PROCEEDS

Unless otherwise indicated in the applicable pricing supplement, the net proceeds from the offering of the notes will be applied for our hedging and general corporate purposes.

In essence, a holder of the ETN has bought a senior unsecured zero coupon bond from Barclays, with an ultimate payoff based off of the return on the commodities index less 0.75%/year. But unlike a bond, there is no floor on the implied interest at zero. If commodity indexes fall, the ETN would give a negative return.

I like Barclays. I own the stock. But there is more than one risk to the ETNs: commodity price risk (of course), and Barclays plc credit risk (surprise!).

Position: long BCS, and pondering the days when I used to read structured bond prospectuses regularly…

-=-=-=-

Now, today, I find it funny to see other retail investment commentators catching up with the credit risk angle of ETNs.  Perhaps it is my background in the Equity Indexed Annuity [EIA], Variable Annuity [VA], DC pension and GIC businesses — we had all sorts of guarantees and non-guarantees floating around, so we were used to analyzing the risks.

Now, what if the sponsors packaged the ETN with a default swap (written by third parties) to protect the investors if the company failed?  At that level, the ETN provider should buy Treasuries or Agencies, and layer on the futures or options as the case may be, creating an ETF, because all of the advantage from doing the ETN goes away.

Be wary of ETNs, at least to the level of asking how likely it will be for the sponsor to be in good shape when the ETNs mature.

Liquidity is like water. Is water a solid, a liquid, or a gas? Depending on the situation, water can be any or all of the three. When I started my blog, my first serious post was “What is Liquidity?” Given what was about to happen in Shanghai seven days later, and what that would do to liquidity, the post was ahead of its time.

Yesterday I saw two posts on liquidity:

• Liquidity isn’t apple pie
• Is Illiquidity Just Another Word for Uncertainty?

Both had a number of good points, though I like my piece better.  Let me borrow from Peter Bernstein, where he said something to the effect of “Liquidity is the ability to have a do-over.”  In other words, if you make an investment mistake, how much does it cost you to reverse it?

The three aspects of liquidity:

• What sort of premium does it take to get someone to lock into a long-term commitment?
• Slack assets available for deployment into new investments, and
• Bid-ask spreads

are correlated.  When there are few slack assets relative to investment needs, large premiums have to be offered to get investors to lock into a long-term investment, and bid-ask spreads tend to be wide as well.

But let’s consider the flip side of liquidity.  Liquidity is akin to holding a long option.  Rising volatility is the friend of one who has liquidity or a long option.  But, being long an option means someone else is short an option.  Having liquidity means that someone else has to provide cash should you choose to buy something.  If you liquidate shares in a money market fund, cash must come either from new investors in the fund who take your spot, or the fund has to raise liquidity internally, handing you some of the proceeds from not entering into an overnight loan.

Or, consider the bid-ask spread in stocks, or other securities.  When the bid-ask spread is tight, it means that the market maker (or specialist), is comfortable that short-term volatility is low enough, that he will be able to profit from the tight spread on average.  When there is severe uncertainty, as there often is in esoteric fixed income instruments during a panic period, the bid-ask spread disappears, and one is reduced to “price discovery, using a broker who is discreet about your intentions regarding buying or selling.  (My, but I got good at that during 2001-2003.   Ouch.)

I like my definition of liquidity, which is the willingness (price) to enter into or exit fixed commitments.  It covers all three aspects of liquidity, and helps explain why they are usually different manifestations of the same phenomenon.

As for now, versus mid-February 2007, the willingness to enter into fixed commitments has declined markedly, even though it has improved over the last seven weeks.  That is no guarantee that it will continue to improve linearly.  Bear markets have their rallies, and this current rally has been a good one.  It would be rare to have such a short bear market, or one that ended without clearing away most of the prior excess lending problems.  We still have a lot of wood to chop there.

1) Desperation and the Dollar. In mid-March, pessimism over the US economy and monetary policy were so thick that people were considering the old Greenspanian rate of 1% Fed funds as possible. Well, times change, at least for now. The orange line above is the 2-year Treasury yield which gives a fair read on expectations of monetary policy, which bottomed in mid-March. It took the Dollar a little longer to move along, but the present course of dollar is up in the short-term (consider the Euro). That doesn’t address the possibilities of a wider lending problem, or the overly aggressive fiscal policies that will be employed by the next President. (Deficits don’t matter, until they are big enough to matter.)

2) I’ve talked about the US Dollar and the five stages of grieving. I think the G7 got to the second stage, anger, in threatening action recently. I think they get a respite from fear because of the bounce in US monetary expectations. My guess is that they would intervene when the Dollar gets to $1.70/Euro. Neither the threats nor the intervention will have much impact in the long run, though. This will only change when foreigners stop buying our bonds, and start buying our goods and services.

3) Another thing that correlates with the shift in expectations of US monetary policy are yields in long government bonds around the world. Surprise, as the anticipated future financing rates rise, the willingness to try to clip a spread off of long bonds declines.

4) So what could replace the Dollar as the global reserve currency? The Euro, maybe? The Yen and Pound are too small, and everything else is smaller still. The Yuan might be ready in 15 years when their financial markets are developed. It takes a long time for the reserve currency to shift.

5) So, why not the Euro? I’m still a skeptic that the EU will hang together without political union. Also, a strong Euro is testing the monetary union in places where credit markets are weak, and export markets are weakening because the US is getting more competitive with the weak Dollar. That said a persistently weak dollar raises the incentives for other countries to look for a new reserve currency. Leaving aside the potential instability of the EU (unlikely in the short run) the Euro is probably the best alternative.

6) This piece by Felix Salmon helps point out why why Iceland is the canary in the coal mine. They are the smallest economy with a floating currency. It seems like they are successfully defending their currency at present, at the cost of 15% interest rates.

7) Is the UK economy just a miniature version of the US economy?

• Cutting Central Bank lending rates
• Bailout plans for the banks (and here)
• Many homeowners with negative equity, and all of the problems that brings

8 ) Why is Chinese inflation rising? Loose monetary policy, and an undervalued Yuan, at least versus the Dollar. Now, maybe the Chinese will start buying Euro-denominated bonds, and sell more to the EU than they buy. (Note that I am not the only skeptic on the Euro’s survival.)

9) What of the Gulf States? What will they do with all of the dollars that they have? Along with China, their huge depreciating Dollar reserves are fueling inflation. Personally, if I were in their shoes, I would buy US corporations quietly, perhaps through the purchase of ETFs. But the huge accumulation of dollars threatens to create the same “white elephant” development schemes that they experienced in the early 80s, when the socialist Gulf governments had too many Dollars, and too few places to use them.

10) Inflation is rising in the OECD. This is a “sea change” in terms of economics. Policymakers have enjoyed falling inflation rates for so long that perhaps they aren’t ready for the degree of monetary tightening necessary to squeeze out inflation.

11) Development isn’t easy after a point. It reveals shortages, as India is experiencing in semi-skilled and skilled labor. This will eventually work out, but in the short run, it makes infrastructure and construction projects difficult. Bodies aren’t enough; skills are needed, and many better skilled Indians work abroad, where they can make more.

12) A rice cartel? Everything old is new again. I remember in the 1970s when the US talked about a wheat/corn cartel, in response to the new strength of OPEC. Personally, I don’t think it would be effective. Agriculture is too flexible for cartel-like schemes to work in the intermediate-term. But, let them try. It will be interesting to see what happens.

1) The rating agencies have been running like crazy. They do that when they are behind the curve. Whether it is Moody’s on subprime, or S&P on Alt-A lending, the downgrades are coming in packs. Then there are difficulties with the debts of real estate partnerships, like LandSource Communities Development, which is likely to file for insolvency, together with some residential developers.

2) Now, there have been a few summary pieces on how the rating agencies changed as the housing boom moved on. Here is one from the New York Times, and one from the Wall Street Journal. As I had commented long before in my writings at RealMoney, the rating agencies were co-dependent with those that paid them. That said, it would be hard to construct a system that would not be that way. Buyers don’t have a concentrated interest in ratings. Issuers so.

3) If I were Ambac, I would be doing all that I could to allege fraud on contracts where representations and warranties were not upheld. Ambac is fighting to survive.

4) Mortgage insurers — it is the best of times, if you survive, because you are the almost the only game in town for those wanting to do low down payments, and rates for mortgage insurance are way up. But, it is the worst of times, housing prices are falling, rating agencies are downgrading, and defaults on insured mortgages are rising.

5) Foreclosures:

• An excellent summary and map of foreclosure activity.
• Maryland makes them take a little longer. (The article overstates the lengthening.)
• California is suffering.
• Desperate in Denver.
• Foreclosures and crime are correlated.
• Which leads the FHA to act, and the states to act as well, because Federal efforts are slow.

6) Gotta love OFHEO, which is trying to rein in the GSEs during a lending crisis. Even though they may have traction, I don’t see how they tighten the regulations during a crisis.

7) For that matter, consider the lenders. Countrywide seemed to purposely ignore the creditworthiness of borrowers as they jammed it out the door lent on mortgages. Even with all this, mortgage lenders are complaining that new regulations will make mortgages less affordable. What they mean is that they will issue fewer mortgages, and they will make less profit. Please, let’s stop making it easy for those that can’t afford a home to take the risk of buying one. Higher mortgage rates are bad in the short run, but good in the long run.

8 ) Dr. Jeff reluctantly asks what inning we are in on housing. I understand that it is an overused metric, but it is overused for a reason. Nine is an intuitive number — are we halfway through? Fifth inning. One-quarter? Third. Almost done? Eight or ninth. He also makes a simple request to those of us who opine on the housing slump, to be more definite in what we say, provide more data, and what will be signs that the troubles are turning.

I need to set up some housing recovery googlebots to scan for me, but my guess is that we are in the fifth inning of the troubles. When I get more definitive guesses/answers to the questions, I will post.

9) Delinquencies:

• Lenders, or better, servicers, are struggling with the load.
• That said, the growth in subprime delinquencies is slowing. Perhaps we are going through burnout, where most of those likely to default have done so, and a few incremental defaults remain.
• But home equity loan experience keeps getting worse. (My only surprise there is how slow this has been in arriving.)

10) Home prices continue to fall, and estimates to the nadir (cycle low) range between 0-50%, with 10-20% being the most common.

11) Falling home prices will lead to many more foreclosures in prime loans, and of course Alt-A and subprime. Foreclosures happen when a sale would result in a loss, and a negative life event hits — death, divorce, disaster, disability, and unemployment.

12) Second-order effects:

• Home remodeling expenditures fall
• (Commercial) Architecture Billings index falls. (Does not bode well for commercial real estate.)
• Low new housing sales.
• Tough total sales environment in the SF Bay Area. Sales fall before housing prices, and rise as housing bottoms. (Opinions on that last thought?)
• Allegations of fraud are thick among borrowers and lenders. A lotta smoke, but is there any fire?… Clearly, the servicing system was not designed for this level of failure, so I’m not surprised that things are moving slowly.
• Homeowner vacancy rates are at an all-time high. That should keep the pressure on prices, because there is a lot of competition if you want to sell, and there is a lot of dark supply waiting to emerge if prices get more favorable. Emergence from this set of troubles may be slow, much like a credit crisis in the corporate bond market often feels slow to unwind.

One thing about Jim Cramer, he is quotable.  Take this short bit from his piece, Graybeards Get It Wrong on Financials.

One of the loudest and most pervasive themes by a lot of the graybeards is that there is still much more pain ahead in the financials.Let me explain why that is wrong. First, the group is down from a year ago. It’s been hammered mercilessly.

More important, every time the stock market rallies is another chance for these companies to refinance.

Remember, as they go up, the companies are in shape to tap the equity market again because those who bought lower are being rewarded, psyching others to take a chance. In fact, other than the monoline insurance faux bailouts, people who pony up are doing pretty well.

Now, he might be right, and me wrong on this point (with my gray beard, though I am younger than he is).  But let me point out what has to go right for his forecast to be correct.

1) The inventory of vacant homes has to start declining.  Still rising for now, another new record.  Beyond that, you have a lot of what I call lurking sellers around, waiting to put more inventory out onto the market, if prices rise a little.  They will have to wait a while, and many will lose patience and sell anyway.  There is still to much debt financing our housing stock, and though most of the subprime shock is gone, much of the shock from other non-subprime ARMs that will reset remains.  Will prices drop from here by 20%?  I think it will be more like 12%, but if it is 20% there will be many more foreclosures, absent some change in foreclosure laws.  Foreclosures happen when a sale would result in a loss, and a negative life event hits — death, divorce, disaster, disability, and unemployment.

2) We still have to reconcile a lot of junk corporate debt issued from 2004-2007, much of which is quite weak.  Credit bear markets don’t end before you take a lot of junk defaults, and we have barely been nicked.  Yes, we have had a sharp rally in credit spreads over the last five weeks, but bear market rallies in credit are typically short, sharp, and common, keeping the shorts/underweighters on their toes.  You typically get several of them before the real turn comes.

3) We have not rationalized a significant amount of the excess synthetic leverage in the derivatives market.  With derivatives for every loser, there is a winner, but the question is how good the confidence in creditworthiness between the major investment banks remains.  Away from that, Wall Street will be less profitable for some time as securitization, and other leveraged businesses will recover slowly.

4) Credit statistics for the US consumer continue to deteriorate — if not the first lien mortgages, look at the stats on home equity loans, auto loans, and credit cards.  All are doing worse.

5) Weakness in the real economy is increasing as a result of consumer stress.  Will real GDP growth remain positive?  I have tended to be more bullish than most here, but the economy is looking weaker.  Let’s watch the next few months of data, and see what wanders in… I don’t see a sharp move down, but measured move into very low growth in 2008.

6) What does the Fed do?  Perhaps they can take a page from Cramer, and look at the progress from private repair of the financial system through equity and debt issuance.  It’s a start, at least.  But the Fed has increasingly encumbered is balance sheet with lower quality paper.  Two issues: a) if there are more lending market crises, the Fed can’t do a lot more — maybe an amount equal to what they have currently done.  b) What happens when they begin to collapse the added leverage?  Okay, so they won’t do it, unless demand goes slack… that still leaves the first issue.  There are limits to the balance sheet of the Fed.

Beyond that, the Fed faces a weak economy, and rising inflation.  Again, what does the Fed do?

7) Much of the inflation pressures are global in nature, and there is increasing unwillingness to buy dollar denominated fixed income assets.  The books have to balance — our current account deficit must be balanced by a capital account surplus; the question is at what level of the dollar do they start buying US goods and services, rather than bonds?

8 ) Oh, almost forgot — more weakness is coming in commercial real estate, and little of that effect has been felt by the investment banks yet.

As a result, I see a need for more capital raising at the investment banks, and more true equity in the capital raised.  Debt can help in the short run, but can leave the bank more vulnerable when losses come.  The investment banks need to delever more, and prepare for more losses arising from junk corporates and loans, housing related securities, and the weak consumer.

The bond market has had quite a shift since the last Fed meeting. What are the common themes?

• Outperformance of credit, especially high yield.
• Return of the carry trade.
• Tax-free Munis have run.
• Underperformance of Treasuries (longer= worse), and foreign bonds, particularly carry trade currencies like the Yen and Swiss Franc.

The willingness to take risks in fixed income has returned, particularly in the last two weeks. I don’t want to tell you that this is a trend that won’t reverse… it might reverse. Remember that bear market rallies tend to be short and sharp, and that the credit bear market in 2000-2002 had several legs. Leg one may be over for this credit bear market, but that doesn’t mean the credit bear market is over; there are still too many unresolved credit issues in housing, builders and investment banks.

Now, to flesh out the changes, I looked at the total returns on 15 major ETFs in different sectors of the bond market. Here are the returns since 3/19:

• HYG — High yield Corporates + 4.47%
• DBV — Carry trade fund +2.83%
• MUB — National Municipals +1.10%
• LQD — Investment Grade Corporates +0.99%
• FXE — Euro currency Trust +0.29%
• BIL — Treasury Bills -.06% (Negative on T-bills?!)
• AGG — Lehman Aggregate -1.03%
• SHY — Short Treasuries -1.18%
• TIP — TIPS ETF -2.85%
• IEI — 3-7 yr Treasuries -3.41%
• FXF — Swiss Franc Currency Trust -3.44%
• BWX — Intl. Gov’t Bond Fund -3.49%
• IEF — 7-10 yr Treasuries -3.74%
• TLT — 20+ Treasuries - 4.87%
• FXY — Yen Currency Trust -5.30%

What a whipping for safe assets. Perhaps the Fed will be happy that they helped engineer the whacking. Then again, the TED spread is still high, and the change might just be a normal shift in sentiment after the panic leading up to the last FOMC meeting. Interesting to see both the return of the carry trade and credit spreads outperforming the move in Treasuries.

For those that follow my sector recommendations, I would be lightening, but not exiting credit positions in the near term. I’m in the midst of considering my other sector recommendations, and will report on this soon. For more on this topic, refer to:

• Its against my programming to call bottoms (and anything by Accrued Interest)
• RIP Bond Rally 2005-2008
• Signs of Improvement in the Credit Markets
• Debt Investors Show Signs Of Relief

Before I close, one large negative area where there is excess supply: preferred stock of financial companies.  There is a lot floating around from balance sheet repair efforts where they didn’t want to dilute the common.  (That’s the next act.)  I would stay away for now, but keep my eyes on selected floating rate trust preferreds, to leg into on the next leg down.

Sometimes we forget how bad it can be, and then we howl over minor bad times in the markets. We may be past a mania in residential housing, but we have not really experienced a panic or crash yet. People squeal over how bad the equity market is, but recently we haven’t had anything like the 2000-2002 experience, much less the 1973-1974 or 1929-1932 experience.

Two books come to mind when I think about disaster in a non-fear-mongering way: Manias, Panics, and Crashes, by Charles Kindleberger, and Devil Take the Hindmost, by Edward Chancellor. They take two different approaches to the topic, and those approaches complement each othe, giving a fuller picture. Chancellor takes a historical approach, while Kindleberger deals with the structures of financial crises.

From Chancellor, you will see that manias and their subsequent fallout are endemic to Western culture. Someone living a full life over the last 300+ years would see one or two big ones, and numerous small ones. Relatively free societies give people freedom to make mistakes. Given the way that people chase performance, we can all make mistakes as a group, with large booms and busts. Much as the regulators might want to tame it, they can pretty much only affect what kind of crisis we get, and not whether we get one. He is somewhat prescient in suggesting that the leverage inherent in derivatives post-LTCM could be the next crisis. This book is a better one if you like the stories, and don’t want to dig into the theories.

But if you like trying to place the manias, panics, and crashes on a common grid, to see their similarities, Kindleberger has written the book for you. In it he draws on a number of common factors:

• Loose monetary policy
• People chase the performance of the speculative asset
• Speculators make fixed commitments buying the speculative asset
• The speculative asset’s price gets bid up to the point where it costs money to hold the positions
• A shock hits the system, a default occurs, or monetary policy starts contracting
• The system unwinds, and the price of the speculative asset falls leading to
• Insolvencies with those that borrowed to finance the assets
• A lender of last resort appears to end the cycle

I liked them both, but I am an economic history buff, and a bit of a wonk. The benefit of both books is that they will make you more aware of how financial crises come to be, and what the qualitative signs tend to manifest during the boom and bust phases of the overall speculation cycle.

Full disclosure: if you buy anything through Amazon after entering their site by clicking on one of the links here, I get a small commission. That’s my version of the tip jar.

There have been a lot of bits and bytes spilled recently over whether hedge funds like volatility or not. Here’s a sampling:

• Hedge Fund Losses Blamed on Volatility
• Hedge Funds Come Unstuck on Truth-Twisting, Lies
• Hedgies hate volatility
• Why Hedge Funds Lose Money in Volatile Markets

Here’s the truth, the answer isn’t a simple yes or no.  Hedge funds are limited partnerships that do a wide variety of things in the markets.  Some aim for easily modeled consistent gains through arbitrage.  Others aim for maximum advantage, no matter what.  I call the first group the “nerds” and the second group the “barbarians.”  Neither of these terms are meant to be insulting — I consider myself to be a nerdy barbarian.

Nerds are yield-seekers.  They are attempting to achieve high smooth yields well in excess of the nominal risk-free rate on a constant basis.  They tend to get funded by fund-of-funds who attempt to diversify nerds, and maybe a barbarian or two, who have clients looking for smooth yields in excess of their hurdle rates.

When volatility rises, nerds get hurt.  In the same way that junk bond investors get hurt in volatile times, so do hedge fund nerds.  Almost all simple arbitrages rely on calm markets, where there is enough liquidity to finance every project imaginable, and a few that aren’t imaginable.  Volatility alerts investors to the concept that maybe there will not be enough cash flow to complete the transaction at a positive net present value.

Barbarians are another matter.  They swing for the fences, and are looking for maximum advantage.  They look to earn the returns from big bets that could be right or wrong.  They like increased volatility, because it enables them to take positions when they are despised or enraptured.  They play for the mean reversion, something that the nerds can’t do.

To make matters more complex, some hedge fund groups blend the two attitudes.  Good idea, if you can maintain your competitive advantages.

To close this, there is no simple answer to whether hedge funds like volatility or not.  Some benefit,  some get hurt. In my opinion, because of hedge fund-of-funds, which like nerds, volatility tends to hurt hedge funds in aggregate, but not by much.

With credit spreads wide, and disarray among the nerds, it is probably time to favor high yield investing and nerds in hedge funds.    Don’t jump in with both feet though, I would only allocate 50% of a full position at present.  There is a lot more volatility to be worked out of the system.

Though I write mainly about US economic and investment issues, I try to be think globally as I consider macroeconomics. I think that many economists are hobbled because they think about the US economy in a closed framework, neglecting the effects that the rest of the world has on the US. Prior to the end of the cold war, that was a useful shortcut, but now many aspects of the US economy depend on global, and less on local factors. (Some articles cited here will be dated, but are still relevant in my mind.)

This article is meant to take you through six themes affecting the global economy. Here goes:

China

I’ve been writing about neomercantilism and China now for almost five years. The negative effects are now obvious. Inflation has been rising in China, because too much credit is chasing too few goods. That inflation is funneling into US goods prices as well. China exports too much, and imports too little, which forces them to import US credit. This is getting tired, and the Chinese and Middle Eastern savings gluts need a new place to invest, or better, new goods to buy. Absent these adjustments, in order to cool the economy, the PBOC keeps raising reserve requirements again and again. Better they should revalue the yuan up 20%, or they will continue to import inflation from the US.

China has its growing pains amid this. Pollution is rampant, and standards for product safety are low. Beyond that, China now competes with the US and Europe for economic alliances in Africa. Given past bad blood there, the Chinese may at many points be better received, that is, until they abuse their welcome.

Currencies

The main question here is the demise of “Bretton Woods II” where the rest of the world uses the US Dollar as the main reserve currency, while the US continues to debase the dollar through the issuance of more dollar claims. You can read about it in any of the following articles:

• The end of the United States exorbitant privilege?
• Imbalancing act
• Has the moment come to replace the US dollar?
• Jim Rogers: More Pain for the Greenback, and the Failure of the Federal Reserve (Now, I would argue with Jimmy Rogers over a number of his facts, but he has the main thrust correct.)

Now, Ken Fisher told us not to worry about the declining dollar, but the euro-yen exchange rate. It’s too early to say, but that exchange rate is flat, while the S&P 500 is off 7% or so. Perhaps the overall carry trade is weakening, but not with the euro as a currency to purchase, yet.

Finally, not only is the weak dollar good for exports, but for tourism as well. Now maybe they buy some of our slack houses as well…. please?

Inflation, Especially Food Prices

All the buzz is over rice, which has risen fivefold in six years. You can read about it here:

• Forget oil, the new global crisis is food
• Inflation AND Political Unrest!
• Food prices ring alarm for Asian nations
• Jump in rice price fuels fears of unrest
• Rice Jumps to Record, Corn Near High as Demand Outpaces Supply

Now, that inflation is feeding back to the US, but slowly.  You would think that this would be a great time to eliminate US farm subsidies, but no, they are too effective at buying votes insuring economic stability in the Midwest.

Now, in the face of these inflationary pressures, the ECB is not mimicking the Fed.  They see the inflationary pressures, and aren’t loosening, at least not much.  Australia is even tightening.

Recession Fears in the Developed World

Now there are similar stresses in housing in some places of Europe, as compared to the US.  Consider Spain (and here), and the UK.  Low-ish interest rates can lead to overbuilding anywhere, if the regulators look the other way.  Japan may not have housing worries, but their growth is slowing, and they worry about the next recessionary leg of a what is proving to be a long recessionary era (since 1990).

Energy

It doesn’t matter how you slice it, Chavez has mismanaged the Venezuelan economy, and particularly the oil industry.  Now he is trying to do the same thing to cement.  Venezuelans are experiencing shortages and high inflation, as Chavez directs resources that he has stolen nationalized to his cronies and his foreign interests that he funds in order to make life difficult for US foreign policy in Latin America (not that I am a great fan of US policy there — I only recognize the conflict).

The Middle East has lots of new oil fields to tap at the right price, yes?  Well, I’m not so sure.  It is interesting to see the UAE develop a nuclear program.  Perhaps they are looking to a day when oil will not be so plentiful?  Then again, maybe we will have a big energy find in Greenland (an island that may once again be green, now that temperatures are rising to levels last seen in the middle ages).

Emerging Markets

Coming back to the beginning of the article, emerging markets (like China), are going through an adjustment period.  Since these two articles were written, emerging market equities have fallen significantly.  They may fall further; many of those nations are geared to global growth, and when it slows, it slows even more for them.  Many of them are absorbing US inflation as well, and need to raise their exchange rates.  That will hurt exports in the short run, but will aid in bringing economic stability.

After seeing the amazing “refinancings” done by entities like MBIA, Thornburg, WaMu, and Rescap, I felt it was right to comment on last-ditch financing methods, so that you can recognize desperation (if it’s not obvious already).  Here are some methods:

• Borrow money using a healthy subsidiary while limiting capital flows up to the less than healthy holding company (e.g., MBIA) .
• Do a rights offering at a significant discount, diluting existing shareholders if they don’t participate.
• Offer common stock at a significant discount to a private buyer (perhaps with warrants), diluting existing shareholders, but perhaps allowing the company a chance to play again another day. (e.g. WaMu, Thornburg).
• Offer a convertible bond/preferred to monetize the volatility of the stock price, contingently diluting existing shareholders. (e.g. Lehman, Citigroup, Merrill)

With the exception of the first one, all of these dilute existing shareholders, usually driving the stock price down in the short run, unless the removal of fear of bankruptcy is the dominant factor.  With the first one, it is an example of structurally subordinating lenders to the holding company, who now lose “first dibs” on the value of the healthy subsidiary.

I try to avoid companies that do financings like these, or are likely to do them.  They have a high default rate.  And what goes for the stock here, goes triple for the corporate bonds, where you have all of the downside of the stock, and little of the upside, if the company should manage to survive.