Financial System Choking
By Colin Twiggs
October 02, 8:00 p.m. ET (10:00 a.m. AET)
I will be away again this weekend and have combined the normal yields & spreads (Thursday) and stock markets (Saturday) newsletters into one.
Unless a rescue plan is approved to restore confidence in the banking system in the next few days, the contagion will spread to Main Street as sources of short-term funding dry up. General Electric has already turned to Warren Buffett for $3 billion of preferred share funding, yielding an annual 10 percent dividend. If the current TARP plan is rejected by the House, expect a sharp fall. Voters recognize the need to restore confidence in the banking system but do not want to do Wall Street executives and stockholders any favors. Senior preferred share funding at similar punitive rates to the GE deal, and secured over troubled assets at their current market values, may offer a more palatable alternative. Especially if tied to restrictions on executive compensation.
The differential between the fed funds rate and 3-month T-bills is rising steeply, reflecting market uncertainty. The ICAP New York Funding Rate, a new alternative to LIBOR that is less open to manipulation, has soared to more than 250 basis points (2.5%) above the overnight index swap rate. The NYFR reflects the 1-month rate at which banks are prepared to lend to each other; the latest spike shows banks' reluctance to support each other in case of further defaults.
Asset-backed commercial paper yields have skyrocketed, placing huge pressure on corporate borrowers including General Electric and major auto manufacturers. The effective fed funds rate dipped below its 2.0 percent target. Expect another rate cut.
There will be a mad scramble for alternative sources of funding as the commercial paper market unwinds.
The extent of the collapse is shown by unprecedented levels of Fed support for the financial system. The $325 billion worth of funding facilities does not even include the $29 billion Bear Stearns bailout, the $85 billion AIG rescue, billions from the exchange stabilization fund used to shore up confidence in money markets, nor Treasury's $235 billion GSE rescue.
Corporate bond rates spiked as bank funding costs and fears of corporate defaults rise.
Crude oil respected resistance at $110 and is headed for a test of support at $90. Failure of support would offer a target of $70, calculated as $90 - ( $110 - $90 ).
Expect a relief rally to test 11000 if the bailout plan is approved. But the primary trend is down and failure of support at 10400 would signal a test of the 2004 lows at 10000/9750. A Twiggs Money Flow fall below -0.05 would confirm the down-swing.
The Transport average plummeted, commencing a strong primary down trend, on expectations of a major economic slow-down.
The S&P 500 would test 1200 on a relief rally, but the primary trend is down. Failure of support at 1070 would test the psychological level of 1000. After that, the next primary support level is 800.
The TSX Composite is testing primary support at 11000. Failure would offer a target of 10000, the October 2005 low. Declining Twiggs Money Flow (21-day) warns of selling pressure.
Active or Reactive?
Many investors follow active strategies but end up being reactive, rotating in and out of stocks at the wrong time.
Colin Twiggs' free weekly review of macro-economic & technical indicators will help you identify market risk and improve your timing.
The FTSE 100 is testing medium-term support at 4900. Expect a relief rally to test 5500 if the bailout package is approved, but the primary trend is down. Failure of support would offer a target of 4300, the August 2004 low.
The Sensex is testing support at 12500. Twiggs Money Flow decline below zero would signal rising selling pressure. The primary trend is down and failure of 12500 would warn of another primary down-swing, with a target of 10000.
The Nikkei 225 respected the new resistance level at 12000 and is headed for a test of the next major support level at 10000, from November 2003. Twiggs Money Flow holding below zero confirms selling pressure.
The Hang Seng is likely to test resistance at 20000 if the TARP plan is approved. But the primary trend is down and failure of support at 17500 would signal a test of 16000. Twiggs Money Flow holding below the zero line signals selling pressure.
The Shanghai Composite is testing resistance at 2300. Expect a test of the upper trend channel if the rescue plan is approved. The primary trend remains down, however, and breakout below 2000 would offer a target of 1500.
Expect a relief rally if the TARP bailout plan is approved, but the All Ordinaries is in a down-trend and unlikely to break above resistance at 5200. Failure of support at 4600 would test the October 2005 low of 4300. Penetration of the rising green trendline on Twiggs Money Flow would also warn of another down-swing.
The idea that to make a man work you've got to hold gold in front of his eyes is a growth, not an axiom.
We've done that for so long that we've forgotten there's any other way.
~ F. Scott Fitzgerald: This Side Of Paradise (1920)