We have a world class secondary market department and they are kind enough to send out weekly updates to us sales monkeys. I like posting it as it is both a great source of technical and anecdotal information. Please let me know your thoughts!
The Week Ahead in the Capital Markets - December 10, 2007
To ease 50bps or not to ease 50bps? That is the question for Tuesday’s Fed meeting. Friday’s employment report – not as weak as expected, but still pretty weak – took some steam out of the bond market and tilted the odds towards a 25bp cut. Jobs, however, reflect an economic picture that is at least a couple of months old. The Fed will put more emphasis on the current risk in the global markets, and they have to contend with year-end funding costs. The difference between LIBOR and Treasury rates is a quick measure of global risk. Hint: It’s very high right now. At week’s end, the odds for a 25bp cut stood at 100%, while the odds for a 50bp cut fell to 45%.
“Mortgage rates gave up all of the ground they had gained last week. A combination of higher long-term Treasury yields and wider mortgage-to-Treasury spreads did the trick. Jumbo spreads didn’t fare much better, and continued to widen. Spreads of all kinds remain wide, and the markets don’t seem convinced that current Fed actions or Bush’s proposal will help much.”
The Fed will cut rates and more solutions like the Bush Plan – a hastily conceived and problematic solution, as Barron’s described it – are likely to be unveiled. The most probable outcome is a mild recession in 2008. Greenspan used to say that the Fed needs to focus on the long-term threats rather than smaller near-term problems. John Mauldin opines, “The truly dangerous problem is a credit crunch. Lower rates in a credit crunch will be like pushing on a string. Think about Japan in the '90s. Even zero rates did not help.”
Stocks don’t seem to care. Oil prices are on the way down and stocks are on the way up. A reduced nuclear threat from Iran buoyed stocks – did you know gas is seven cents per gallon in Iran? The stock market is having a grand old time, enjoying the mix of lower interest rates and an economy that is weak but not too weak.
A quick look at the sub-prime securities market illustrates just how problematic a simple solution can be. Most sub-prime loans ended up in structures with ten or twenty or more credit tranches, some with floating rates, others with fixed rates. 3/4ths the tranches were usually rated AAA, and they landed far and wide, in everything from CDOs to foreign bank funds, some of which were re-rated in to securities structures of their own. To top it all off, the first lien securities are defaulting like crazy, and many securities composed of second liens have all but disappeared. Changing the interest payments that flow in to that mess will be challenging, to say the least.
“Drill for oil? You mean drill into the ground to try and find oil? You're crazy,”
-Drillers who Edwin L. Drake tried to enlist to his project to drill for oil in 1859.
Comments