Here we are again, 1% Fed Funds target rate

Yesterday, the Fed lowered the target rate for Fed Funds by 50bp to 1%, matching the lowest level set in 2003-2004 time frame under Alan Greespan. US Libor dropped less than 10bp on the Fed move. Clearly, the Fed simply cannot control the price of credit.

Fed action was matched by similar rate cuts in China and Europe. Stock markets in Asia seem to like the move. Overnight HenSeng went up more than 13%. US large cap was slightly down yesterday, while mid to small caps were broadly up. Today, the market followed through with a broad rally in the 2-3% range.

The congress today was deliberating on a potential fiscal stimulate package. Nuriel Roubini, the crazy economist of NYU, was testifying for such a stimulative spending package. Roubini tends to make exaggerated statements. But so far he has been right about the economy.

US government policy largely favors big businesses and financial institutions. When banks are running into problems, meaning they are over-leveraged or borrowed too much, the Federal Reserve lowers interest rate and inject capital to save them. But when it comes to ordinary consumer, if he or she borrowed too much, no one would come to the rescue. You know the financial institutions have a perverted way of doing business: they tend to lend to the rich at low interest rate. But when they lend to low-income households, they charge extraordinarily high interest rate. The poor on average are paying much higher borrowing costs than the rich. Is that fair? I guess it is :)

I have been thinking about gold-standard monetary policy. I used to be very supportive of that. But the current financial crisis made me think again. I think a gold-standard, or silver-standard for that matter, will collapse in a financial crisis when everyone is selling out risky assets to demand for cash. Under stringent gold-standard, there would not be sufficient liquidity (in this case gold money) to meet the demand. The whole system would crash. In the fiat system, the central banks can print as much cash as the market demands. The critical issue here is at what point it is appropriate for the central bank to intervene? In many cases, the central bank should not intervene, and let the financial market to work the trouble out by itself. But in situations like now, the central bank has to take drastic actions. Though it is rather difficult to determine where to draw the line.

It feels good to agree with Warren Buffet

I have been saying here that it is insane to hold fast depreciating cash now, when the Fed is printing trillions of dollars of fresh new bills, and stocks are trading at extraordinarily low valuation. And I myself have been buying stocks hand-over-fist. Let me name a few example: Capital One (COF), trading below book value, with pristine balance sheet and more than adequate reserves for loan losses and credit charge offs. Western Digital (WDC), the best managed hard disk drive (HDD) companies out there, is trading at 4 times last year's free cash flow! As consumers generate more digital data (videos and photos), the demand for HDD will not go down, even there will be competition from flash memory storage products, which is much more expensive than HDD. Then there is Apple, trading 15x earnings, and has $23/share cash on the balance sheet.

OK, I am going to stop here. The point is that you can buy many great stocks at very cheap valuation.

Today, I am very glad to know that the investment guru Warren Buffet happens to think the same way. In his Op-Ed on today's NY Times, he urges investors to be "greedy" when others are running in "fear". He claims that he is buying US equities. Here is the reprint of his piece on NY Times:

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THE financial world is a mess, both in the United States and abroad. Its problems, moreover, have been leaking into the general economy, and the leaks are now turning into a gusher. In the near term, unemployment will rise, business activity will falter and headlines will continue to be scary.

So ... I’ve been buying American stocks. This is my personal account I’m talking about, in which I previously owned nothing but United States government bonds. (This description leaves aside my Berkshire Hathaway holdings, which are all committed to philanthropy.) If prices keep looking attractive, my non-Berkshire net worth will soon be 100 percent in United States equities.

Why?

A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. And most certainly, fear is now widespread, gripping even seasoned investors. To be sure, investors are right to be wary of highly leveraged entities or businesses in weak competitive positions. But fears regarding the long-term prosperity of the nation’s many sound companies make no sense. These businesses will indeed suffer earnings hiccups, as they always have. But most major companies will be setting new profit records 5, 10 and 20 years from now.

Let me be clear on one point: I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month — or a year — from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over.

A little history here: During the Depression, the Dow hit its low, 41, on July 8, 1932. Economic conditions, though, kept deteriorating until Franklin D. Roosevelt took office in March 1933. By that time, the market had already advanced 30 percent. Or think back to the early days of World War II, when things were going badly for the United States in Europe and the Pacific. The market hit bottom in April 1942, well before Allied fortunes turned. Again, in the early 1980s, the time to buy stocks was when inflation raged and the economy was in the tank. In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.

Over the long term, the stock market news will be good. In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.

You might think it would have been impossible for an investor to lose money during a century marked by such an extraordinary gain. But some investors did. The hapless ones bought stocks only when they felt comfort in doing so and then proceeded to sell when the headlines made them queasy.

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: “I skate to where the puck is going to be, not to where it has been.”

I don’t like to opine on the stock market, and again I emphasize that I have no idea what the market will do in the short term. Nevertheless, I’ll follow the lead of a restaurant that opened in an empty bank building and then advertised: “Put your mouth where your money was.” Today my money and my mouth both say equities.

McCain is an angry old man in today's debate

This is the last of the three presidential debate. Obama maintained his cool and showed America that he is of the Presidential material. But McCain throughout the debate was agitated, constantly making faces and showing emotion. He does not look presidential at all. He was constantly on the attack of Obama. But when it comes to articulating his own policy stances, he failed to present a coherent message. We really don't know what his policy is except the repeated slogan of "cutting taxes" and "small government". I think tonight's debate has put "the nail on the coffin" of this election. Obama is going to win in a landslide.

Yet another brutal day for the financial market

Stock market continues to slide today, erasing almost the entire gains of Monday rally. Major indexes dropped between 8-9% today, shattering the hope of the investors for a near term recovery. Investor confidence is in short supply. Even commodities are trading broadly lower. Crude oil tumbled 5.9% to $74.03, down almost 50% since its peak earlier this year. A slue of bad economic news (retail sales and Fed Beige Book) underpinned today's dramatic sell off. Where is an end to all this?

There are now so many cheap stocks you can pick from. You don't have to buy those risky controversial names. You can now buy solid healthy global franchises at bargain prices. Where are the risk takers in America? I think a few years down the road when we look back, we would appreciate what a tremendous time this is to buy stocks extraordinarily cheap.

Mutual funds and hedge funds are forced to sell their stock holdings because investors are pulling money out in fear. Irrational. Investors are so irrational.

We are witnessing history

The current financial crisis is probably a once-in-a-lifetime type of event. And I feel awed to be in the middle of it.

After losing eight straight days, the stock market rocketed on Monday (yesterday) with all major indexes ending up more than 11%. Stocks around the world rose in double digit percentages yesterday, after central banks and governments around the world vowed to provide "unlimited" liquidity for troubled financial institutions. England led the pack by first nationalizing some of its major banks. European countries were all offering deposit insurance for bank deposits, in an attempt to preempt potential bank run.

International stock markets had nice follow-through upon yesterday's huge gain. Stocks around the world ended higher on Tuesday. US equities started off on a high note today, up around 3% in early trading. Treasury Department announced a plan to immediate inject $250B into nine major US financial banks (sure, Goldman is included, along with Morgan Stanley, Merrill Lynch, BoA, Citi, JPMChase, Well Fargo, Bank of NY Mellon, and State Street). But the early gain slowly fizzled, with the market ending slightly down.

I think the road ahead will still be rocky. Hedge funds are stocking cash preparing for a rush of investor redemption. That is why when stocks were moving lower, oil and gold were also moving lower. The only plausible explanation is that hedge funds are unwinding their long oil and gold positions to build up cash cushion for potential redemption. This can last for a quarter.

But the stocks are cheap. There are plenty of opportunities to find high quality names trading at depressed valuation.

This is probably also a once-in-a-lifetime opportunity to buy stocks extremely cheap.

McCain finally showed some restrain

Attack on Obama from the McCain campaign in the past few weeks has really intensified. The strategy was to question the character of Obama, instead of discussing issues. He asked his supporters during a rally: "who is Obama?". His running mate Sarah Palin took on more direct and nasty role of attack, calling Obama "palling around with terrorists". McCain/Palin supporters have become increasingly vocal about their hatred towards Obama. The fact that Obama is leading McCain in major national polls makes these staunch republicans so mad. The madness seems to reaching to the boiling point which could have the potential to incite violence.

During the weekend, McCain wisely toned down his personal attack on Obama, calling him "a decent American". I am really glad to see this turn about. As to Palin, I really don't care. She is just a tool, a parrot. It is a joke that McCain selected her as VP candidate. That shows how desperate and irresponsible a McCain Presidency could be.

Depression ahead of us?

Another brutal day on Wall Street. There seems to be no let up. The market did not have a single up day for the last eight days. The passing of the bailout last Friday did not serve to sooth jitter investors. Credit spreads remain wide, and stocks continue to sell off. Investors are shunning risky assets and parking liquidity in the "safe heaven" of Treasury bills. Most notable is that commodity prices are sliding as well, with crude oil now trading below $87, down from the peak of $147 set sometimes in March of this year. Gold edged up during this period of stock sell-off. But rise in gold price is not as much as I would have expected. It appears that the likelihood of going back to gold-based currency is very low (although that may be the right choice), because governments around the world are addicted to the power of printing money to finance spending without raising taxes.

Are you heading to a a 1929-style depression? Hardly. I think we have more financial tools now to prevent a depression from happening. I have long maintained we do not need a Federal Reserve (central bank) system to regulate the interest rate (or price of credit). In fact the Fed is incapable of regulating interest rate. Despite the rate cut Fed announced yesterday, Libor remains high. In normal situations, Fed action does affect the credit. But in times of financial crisis, Fed has very little power to influence the credit market. The Fed has pumped tremendous amount of liquidity (in the order of trillions of dollars) into the financial system, and in fact central banks around of the world have done the same. Yet banks are just hoarding the cash and refuse to lend.

Yesterday, UK government decided to take ownership of some of its banks. Today, Treasury secretary Paulson also indicated that the Treasury may buy stock shares of the troubled banks. It feels more and more like socialism. I guess when capitalism runs into trouble, socialism comes to the rescue. How ironic.

Notwithstanding the flaws of the Federal Reserve System and fiat money, I do think the Federal Reserve, if there is any use of it, is precisely designed for the current situation. Investors want to sell risky assets at depressed valuation and buy risk free Federal Reserve Notes? OK, keep coming. As long as the printing press at the Federal Reserve still works, there is infinite quantity of paper money to meet the demand. Someday these investors will realize what they are holding are worthless papers. Then they will start to come back into assets such as bonds and stocks.

In a long run, I think inflation will go up dramatically. Economic activities will be slow for a long stretch of time. Yes, there won't be a depression. But we are going to have multi-years of stagflation (stagnation + inflation).

For future reference, it is worthwhile to record the dramatic selloff of the stock market towards the afternoon of today. Here is what yahoo finance recaps today's financial market activities:

Stocks plunged Thursday, sending the Dow Jones industrial average down 679 points -- more than 7 percent -- to its lowest level in five years. Stocks took a nosedive after a major credit-rating agency said it might cut its rating on General Motors and Ford, further rattling investors already fretting over the impact of tight credit on the economy.

The Standard & Poor's 500 index also fell more than 7 percent.

The declines came on the one-year anniversary of the closing highs of the Dow and the S&P. The Dow has lost 5,585 points, or 39.4 percent, since closing at 14,164.53 on Oct. 9, 2007. It's the worst run for the Dow since the nearly two-year bear market that ended in December 1974 when the Dow lost 45 percent. The S&P 500, meanwhile, is off 655 points, or 41.9 percent, since recording its high of 1,565.15.

U.S. stock market paper losses totaled $872 billion Thursday and the value of shares over all has tumbled a stunning $8.33 trillion since last year's high. That's based on figures measured by the Dow Jones Wilshire 5000 Composite Index, which tracks 5,000 U.S.-based companies' stocks and represents almost all stocks traded in America.

Thursday's sell-off came as Standard & Poor's Ratings Services put General Motors Corp. and its finance affiliate GMAC LLC under review to see if its rating should be cut. The action means there is a 50 percent chance that S&P will lower GM's and GMAC's ratings in the next three months. GM has been struggling with weak car sales in North America.

S&P also put Ford Motor Co. on credit watch negative. The ratings agency said that GM and Ford have adequate liquidity now, but that could change in 2009.

GM, one of the 30 stocks that make up the Dow industrials, fell $2.15, or 31 percent, to $4.76, while Ford fell 58 cents, or 22 percent, to $2.08.

"The story is getting to be like that movie 'Groundhog Day,'" said Arthur Hogan, chief market analyst at Jefferies & Co. He pointed to the still-frozen credit markets, and Libor, the bank-to-bank lending rate that remains stubbornly high despite interest rate cuts this week by the Federal Reserve and other major central banks.

"Until that starts coming down, you'll be hard-pressed to find anyone getting excited about stocks," Hogan said. "Everything we're seeing is historic. The problem is historic, the solutions are historic, and unfortunately, the sell-off is historic. It's not the kind of history you want to be making."

The Dow ended the day at its lows, finishing down 678.91, or 7.3 percent, at 8,579.19. The blue chips hadn't closed below 9,000 since June 30, 2003, and haven't closed at this level since May 21, 2003.

The Dow's 2,271-point tumble over the last seven sessions is its steepest seven-day point drop ever. Its seven-day percentage decline of 20.9 percent is the largest since the seven-day plunge ending Oct. 26, 1987, when the Dow lost 23.8 percent. That sell-off included Black Monday, the Oct. 19, 1987 market crash that saw the Dow fall nearly 23 percent in a single day.

Broader stock indicators also tumbled Thursday. The S&P 500 fell 75.02, or 7.6 percent, to 909.92, while the Nasdaq composite index fell 95.21, or 5.5 percent, to 1,645.12.

The Russell 2000 index of smaller companies fell 47.37, or 8.7 percent, to 499.20.

A wave of fear about the economy sent stocks lower in the final two hours of trading after a volatile morning in which major indicators like the Dow and the S&P 500 index bobbed up and down. The Nasdaq, with a bevy of tech stocks, spent much of the session higher but eventually declined as the sell-off intensified. Still, its losses were less severe because of the relatively modest drops in names like Intel Corp. and Microsoft Corp.

On the New York Stock Exchange, declining issues came to nearly 3,000, while fewer than 250 advanced.

The sluggishness in the credit markets that triggered much of the heavy selling in markets around the world since mid-September appeared little changed Thursday following days of efforts by the Federal Reserve and other central banks to resuscitate lending.

Libor, the bank lending benchmark, for three-month dollar loans rose to 4.75 percent from 4.52 percent on Wednesday. That signals that banks remain hesitant to make loans for fear they won't be paid back.

The Fed and other leading central banks this week lowered key interest rates to help unclog the credit markets and promote lending to help the global economy. While a rate cut can take up to a year to work its way through the economy, the move was aimed as a boost to investor sentiment.

"We're stuck in a morass and I think it's going to take quite some time to come out of it," said Stephen Carl, principal and head of equity trading at The Williams Capital Group.

Demand remained high for short-term Treasurys, a refuge for investors willing to trade modest returns to protect their money. The yield on the three-month Treasury bill, which moves opposite its price, fell to 0.58 percent from 0.63 percent late Wednesday. Longer-term debt prices fell, with the yield on the 10-year note rising to 3.79 percent from 3.65 percent late Wednesday.

Investors across markets were mulling a plan being considered by the Bush administration to invest in hobbled U.S. banks as a way to stabilize the financial sector. The $700 billion rescue package signed into law last week allows the Treasury Department to inject fresh capital into financial institutions and obtain ownership shares in return.

Britain rolled out a similar plan, though no U.K. bank has received any investments. In Iceland, the government now has control of the country's three major banks as it struggles to contain the troubles there.

Wall Street is also looking for any effects of short selling now that a three-week ban imposed by regulators has expired. Short selling is a technique in which investors borrow shares in a company from a broker and sell them, hoping to buy them back later at a lower price. Essentially, it's a bet that a stock's price will fall. Short sellers can lose money if they have to repurchase the stock after it has risen.

Some analysts believe the unprecedented ban on short selling -- an effort to bolster investor confidence -- did more harm than good at a time of historic market volatility. They contend that short sellers help the market rally by covering their bets and creating demand for stocks.

"I think the market's way oversold. But I can't stand in the way of this falling knife -- I'd get sliced open," said Phil Orlando, chief equity market strategist at Federated Investors. "Investors are just saying, get me out at any price."

He also said that with the short-selling rule back in play, hedge funds might be shorting again to make up for their forced liquidations.

Energy names were among the biggest decliners as the price of oil fell and investors worried about a slowing economy. Exxon Mobil Corp. fell $9, or 12 percent, to $68, while Chevron Corp. fell $9.10, or 12 percent, to $64.

Light, sweet crude fell $1.81 to settle at $86.62 a barrel on the New York Mercantile Exchange, the lowest closing price since October last year.

Health insurer WellPoint Inc. fell $3.94, or 9.7 percent, to $36.50, while insurer and investment manager Lincoln National Corp. fell $9.66, or 35 percent, to $18.31.

The tech sector saw less selling than other parts of the market after IBM Corp. affirmed its forecast.

IBM fell $1.55, or 1.7 percent, to $89. Meanwhile, Intel fell 65 cents, or 4 percent, to $15.60 and Microsoft fell 71 cents, or 3.1 percent, to $22.30.

Consolidated trading volume on the NYSE came to 8.14 billion consolidated shares compared with 8.54 billion traded Wednesday.

In Asia, Japan's Nikkei 225 closed down 0.50 percent while the Hang Seng added 3.31 percent. In Europe, Britain's FTSE-100 fell 1.21 percent, Germany's DAX fell 2.53 percent, and France's CAC-40 declined 1.55 percent.

700B bailout package truned into $850B spending

Politics in Washington DC defies logic. Last week, the House vetoed the 700B bailout package with a 228-205 vote. Then the Senate took on almost the same exact bill, adding to that an additional $150B pork spending. Surprise, surprise, the bill passed both the Senate (yesterday) and the House (today). Bush signed it into law immediately after.

Will the bailout help? Certainly it will help the banks' balance sheet. But I do not think the lending activity will come back quickly. The credit spreads won't narrow in short term, either. What the bailout will do for sure is to ensure some of the big banks to make a lot of money.

JPMorgan took on WaMu with its mortgage portfolio at depressed value without paying anything for it. Bank of America earlier took on Merrill Lynch, which also has lots of mortgage exposure. Now Wells Fargo and Citi are battling for Wachovia. Last Sunday, Wells Fargo pulled out in the last minute from the negotiation of potential take over of Wachovia. Citi came as the rescuer, after FDIC sweetened the deal with some loss guarantees for Wachovia's mortgage assets. Now with the knowledge of the bailout package likely to pass, Well Fargo came back today with a better offer to acquire the entire Wachovia at roughly $7/share. Citi's offer was a measly $1/share, only for the banking portion of Wachovia. Citi was hoping that Wachovia to provide it with the much needed cheap domestic source of financing, as most of Citi's deposits are international, while its investments are more geared towards US. It seems that it would be a great deal for Citi. But Well Fargo, with the backing of Warren Buffet, came in to spoil it.

A lot of people may be surprised to know that shares of Well Fargo, JP Morgan and many other banks are trading close to 52-week highs. These banks will do even better with the Treasury's $700B to help them shed those "toxic" assets from their balance sheet.

You got to love capitalism!

Sarah Palin avoided another national embarassment

Yesterday's vice president debate turned out to be less a spectacle many of us have been expecting. Frankly, I was waiting for another comedy show by Palin in front of the national audience.

By sticking to the rehearsed talking points, and avoid answering questions, Palin avoided another national embarrassment. The entire republican party and McCain campaign sighed a collective relief. Sure, she was not answering questions directly. Sure she just repeated what she was instructed to say. But that was far better a performance than the interview she did with Katie Couric.

I thought Joe Biden did a great job, better than Barack Obama did in his first presidential debate. He kept hammering at McCain, calling him no maverick on critical issues, and continuing the failed Bush policies both domestic and international.

Indeed, there is basically NO difference when it comes to national defense policy, health care policy, tax policy, and energy policy, between Bush and McCain. Most troubling, and most dangerous (I believe), is that McCain has shown no sign of changing the course from the misguided Bush's beating-the-chest cowboy foreign policy, which has strengthened US enemies and alienated US allies. If this policy would continue, and I believe it would under McCain, we would continue to spending $10B/month in Iraq for the foreseeable future. McCain wants to cut domestic spending to preserve defense spending (Iraq war). That will lead to domestic economic decline and further stimulate the economy of the middle east. Thanks a lot McCain, our "friends" in the middle east would say.

We've got to elect Barack Obama President of the United States.