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Reply #38: Roubini: remarks on the early bust of the latest sucker's rally [View All]

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DemReadingDU Donating Member (1000+ posts) Send PM | Profile | Ignore Tue Jul-29-08 08:26 AM
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38. Roubini: remarks on the early bust of the latest sucker's rally

7/28/08 Nouriel Roubini: some remarks on the early bust of the latest sucker's rally in equities

That rally was triggered by the government manipulation of markets: first, the bear short squeeze of those who had correctly shorted the financials' equities via the manipulative actions of the SEC that restricted naked short sales; second, the bailout of Fannie and Freddie that bailed out shareholders, managers and bondholders of Fannie/Freddie as well as mortgage lender who cannot do business - in the current environment - without having F&F buying and/or guaranteeing/securitizing all conforming mortgages. F&F are now THE mortgage markets; thus nationalization of all new mortgage lending is now complete. But since most of the financial and banking system is bust not even the gimmicks of the SEC, the Fed and the bailout of F&F can save financials and non-financial equities.

And now the worsening recession - yes we are in a serious recession now in spite of the temporary tax rebate drug induced boost to GDP in Q2 - is leading to massive falls in the non-financials earnings. Even stripping the non-financials earning earnings growth in Q2 is a meagre and dismal 2.8% that will become negative by Q3/Q4 as non-financial firms have recently announced dismal and worsening results. Thus the consensus forecasts for earnings growth in H2 of 2008 and for all of 2009 (15% up) are totally delusional. Such equity analysts will soon have to drastically and sharply revise downwards their earnings expectations that are currently dreams rather than forecasts. And once that happens the onslaught in equity markets will accelerate.

That bear market rally already fizzled since last Thursday and today was a blood bath across the board with major indices down another 2%. But we are still very far away from the bottom. As i have argued the peak to through of U.S. equity indices will be 40%; so we are barely half way into that bearish adjustment as equity prices have fallen only about 20%.

The equity market slaughter will continue even if - from time to time - surprise government actions (like the recent ones) will temporarily lead to another bear market rally. Since last summer the same pattern has occurred at least six times: lousy economic and financial news that lead to a equity market fall; then surprise action by the Fed or the government to stimulate and rescue markets (cuts in Fed Funds rates, creation of new liquidity facilities such as the TAF,TSLF, PDCF, bailout of Bear and its creditors, bailout of Fannie and Freddie, SEC manipulation of equity prices, use of the FHLB system to bailout bankrupt mortgage lenders, fiscal stimulus, Frank-Dodd bill, regulatory fudging and forbearance, etc.). In each case this government action boosts equity markets for a short while but the the force of the tsunami of bad macro and financial news pushes equity markets lower. And over time the length of the bear market rally becomes shorter and shorter as the government actions become more and more desperate. So the last rally lasted barely a week and now we are back into the ugly bear downward path.

The reality is that you cannot fight with drugs and tricks the laws of gravity: the worst financial crisis since the Great Depression, the biggest housing bust since the Great Depression, the coming biggest systemic banking crisis in the last 50 years, the worst U.S. recession since the stagflations of the 1970s, the biggest liquidity and credit crunch in decades. Over time these fundamental factors - a crisis of credit and insolvency for over-leveraged and insolvent households, financial institutions, mortgage lenders, homebuilders, municipalities and even a good fat tail of the corporate sector - cannot be rescued with liquidity actions. A severe recession and financial and banking crisis is unavoidable.

The only question is how severe, nasty and protracted. And the answer is long, nasty and severe with credit losses ending up being closer to $2 trillion rather than $1 trillion, home prices falling at least 30% and wiping out $6.6 trillion of housing wealth, 40% of households ending up into negative equity in their homes and up to 50% walking away from these homes, a 40% fall in equity prices and a banking crisis where hundreds of small, regional and national banks will go bust.

lots more...

Roubini's blog is free, but you need to register
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