Thursday, October 2, 2008

U.S Dollar Index at 80 Resistance...House Vote Is Catalyst

Futures down, US dollar up... U.S Dollar Index is at 80-81 resistance, will house vote catalyst allow USD to pierce through that level?

US Dollar Chart (Source: Barchart.com)

It's interesting that DOW futures are down 1.3% (-138) to 10,752, and the US Dollar is up .07% (.555) to 80.09 tonight after the Senate passed the revised bailout bill. It's tough to say what will happen with the USD when the House vote catalyst hits the wire. What is currently driving the bid in the USD? Is slowing global growth overpowering the USD dilution/economic growth fears? Plus there's a chance that the European Central Bank might lower rates, which could also bring support to the USD.

"European Central Bank President Jean-Claude Trichet has stated his strong support for the US effort saying that the must “go (in favor), for the sake of the U.S. and for the sake of global finance.” Such statements have led some to believe that today’s ECB meeting will result a rate cut. Furthermore, the Euro hit a low of 1.393 ahead of the key meeting."

We'll see how the USD reacts to the catalyst and if it can pierce through resistance at 80 - 81... If traders react negatively to the vote, the USD could correct to 78 - 76.

Here are US Dollar bets from a Bloomberg Article I read tonight..


Dollar Bullish
``Market consensus is that the bill will eventually pass in some kind of form,'' said Akifumi Uchida, deputy general manager of the marketing unit in Tokyo at Sumitomo Trust & Banking Co., Japan's fifth-largest bank. ``The package is likely to reduce worries over the U.S. and bolster the dollar.''

``The Senate's approval may alleviate concerns over the U.S. a bit,'' said Tsutomu Soma, a bond and currency trader at Okasan Securities Co. in Tokyo. ``It's supportive of the dollar.''

``The ability to secure funds in the money market hasn't improved in the slightest,'' said Akio Shimizu, chief manager of foreign-exchange trading in Tokyo at Mitsubishi UFJ Trust & Banking Corp., a unit of Japan's largest publicly listed lender. ``This should support the dollar as banks that need the currency will simply buy it outright in the foreign-exchange market.''

Dollar Bearish
``U.S. stock futures are down a lot after the vote, and that's one reason to sell the dollar,'' said Motonari Ogawa, director of currency trading in Tokyo at Barclays Capital Inc., a unit of the U.K.'s third- biggest bank. ``There's still some doubt whether this bill will pass the House.''

Wednesday, October 1, 2008

GM Exchange Traded Notes Being Dumped (What's The Logic Here?)

I've been watching the exchange traded notes of General Motors (hgm, xgm, gms) get smoked during the last month. What's interesting is that these debt securities have lost more value than the common stock. From the chart below, during the full month of September, the XGM exchange traded unsecured senior debt security lost 23% vs. the GM common stock.

1 Month Change GM vs. XGM (unsecured debt)
(Source: bigcharts.com)


I'm trying to figure out the logic behind the debt and equity trade. I know the ETN's are unsecured, but still the senior unsecured's would be higher up on the entitlement ladder than the common equity during a reorg or liquidation. So why is the retail debt being sold off more than the common stock? In the debt's case, I'm thinking the $25 Billion Government loans are more senior than the unsecured retail debt, and without the $700 Billion bank bailout auto lending would remain frozen. Looking at the numbers ended 6/30/08, GM had a net worth of -$57 Million, with $74.5 Billion in current liabilities, $35.2 Billion in long term debt and $81 Billion in "healthcare/pension/other liabilities". Adding $8.3B loan to the debt load would probably put the $4.7B of total ETNs at risk of recovering capital in bankruptcy. Also a week earlier GM tapped $3.5 Billion from it's existing credit line, which shows they're still desperate for cash.

But none of this makes sense because the equity is not pricing in this risk, even though it did touch a new all time low of $8.51 when the market lost 777 points yesterday. GM closed at $9.45 today, unchanged from the mid July lows. Also GM flipped over it's balance sheet these past few weeks by diluting common equity to pay down debt. GM was able to issue 44.3 Million shares to exchange for the $498.3M principal on their Series D Senior Convertable Debentures due 6/09. The fact that this institutional buyer would exchange hundreds of millions of debt for equity at this point is basically saying there's a light at the end of the tunnel for the common shareholders. SEC Filings (9/19, 9/29). GM also plans on raising $2-4B to boost liquidity by selling off assets including the Hummer Brand, Strasbourg manufacturing operations and land. Looking at Schaeffers Research volatility and options data during the past 21 days, GM volatility spiked to all time highs this past week, the Put/Call volume ratio increased from .93 to 1.07, and the Put/Call open interest ratio stayed relatively stable at 1.23 which is a slightly bearish bias. Put open interest and volume actually spiked on 9/22 but tapered off since then. The short interest chart has also been correcting. So there's a tug-of-war going on between positive and negative sentiment, and it could be that GM volatility will ultimately be sold and the stock bought in the short term if congress gets the bail out package passed, however a spike in option volume could go in either direction. So are these retail bond holders dumping to take the loss to load up on the common, are they forced institutional sellers, or are they seeing a bankruptcy hearing around the corner??? We'll see..

GM Volaility Index (Schaeffersresearch.com)


GM Put/Call Volume Ratio (Schaeffersresearch.com)


GM Put/Call Open Interest Ratio (Schaeffersresearch.com)

Tuesday, September 30, 2008

10 Year Treasury Default Swap Spreads Spike (Chart / Video)

I knew there were treasury interest rate swaps, but treasury credit default swaps? You've heard in the news that credit default swap spreads (ability to swap defaulted debt securities w/ a counterparty at par) have been spiking due to the large amount of banks going under. The interest rate spread, or swap spread priced in basis points, is the cost of protecting the debt from default. The swap spread increases as the default risk of the underlying security increases. There are U.S Treasury Default Swaps quoted in euros. You can find real time data at CMA DataVision or the Bloomberg Professional service for a fee. With the thought of almost a $trillion in government bail out money passing congress, it looks like people are starting to bid up U.S Treasury Default Swaps due to the current state of the U.S balance sheet. Here is a chart sourced from the article "A default by the US government is no longer unthinkable" from telegraph.co.uk on 9/20/2008. The chart is no long available with that article, but I found it somewhere else. Also Treasury CDS spreads hit a new record 4 days later (9/24/2008 Reuters article below).




"US 10-year Treasury CDS widens to record 29.2 bps-CMA
Wed Sep 24, 2008 6:28am EDT

LONDON, Sept 24 (Reuters) - The cost of insuring 10-year U.S. government debt against default rose to a record high on Wednesday as investors fretted over the feasibility of the government's $700 billion plan to contain the financial crisis. Credit default swaps on 10-year Treasury debt expanded to 29.2 basis points -- its widest ever -- from 26.5 basis points on Tuesday, according to CMA, a specialised data provider. CMA said CDS on five-year widened to 22.0 basis points from 20.5 basis points. (Reporting by Emelia Sithole-Matarise)"


Credit ratings agencies, like Moody's and S&P, also have an effect on the pricing of risk, or swap spreads in this case. When they lower the rating on an entities debt, interest rates rise as investors demand higher payments for the extra risk. Recently Moody's and S&P have thought about lowering the AAA rating on U.S government debt possibly in the next 10 years if they keep piling on trillions of debt. That's what is happening here, swap spreads are widening because risk is being repriced appropriately.


"S&P says pressure building on U.S. "AAA" rating
Wed Sep 17, 2008 5:29pm EDT

NEW YORK (Reuters) - Pressure is building on the pristine "AAA" rating of the United States after a federal bailout of American International Group Inc, the chairman of Standard & Poor's sovereign ratings committee said on Wednesday. The $85 billion bailout of AIG on Tuesday by the U.S. Federal Reserve "has weakened the fiscal profile of the United States," S&P's John Chambers told Reuters in an interview. "Lack of a pro-active stance could have resulted in further financial stress and put pressure on the U.S. triple-A rating," Chambers said. "There's no God-given gift of a 'AAA' rating, and the U.S. has to earn it like everyone else." The cost of insuring 10-year U.S. Treasury debt against default rose on Wednesday to a record high, a day after the government rescued insurer AIG with an $85 billion loan. At one time, AIG was the world's largest insurer, ranked by market value. At midday on Wednesday, AIG's stock was down 33 percent at $2.50 on the New York Stock Exchange. Ten-year credit default swaps, or CDS, on Treasury debt widened 3 basis points to 26 basis points, according to data from CMA DataVision. This means it costs $26,000 per year to insure $10 million of U.S. Treasury debt against default. Five-year credit default swaps on Treasury debt were steady at 21.5 basis points. That compares to 9.8 basis points on German 5-year CDS and 13.2 basis points on German 10-year CDS, CMA said. Earlier this month, S&P affirmed the "AAA" sovereign rating of the United States, noting risks to the U.S. credit profile, including the deteriorating credit profiles for most U.S. financial institutions over the past 12 months, S&P said in a September 3 statement........click for more article."


Credit Default Swaps on U.S (BloombergTV:7/21/08)

Sunday, September 28, 2008

I.O.U.S.A Movie: The U.S Is Going Broke, Fiscal Deficit Ratios & Trends (Charts)





I just saw the movie I.O.U.S.A, where the film follows former U.S. Comptroller General David Walker as he travels the country explaining America's unsustainable fiscal policies. With the US Gov now proposing a $trillion bail out, it shows how serious this problem is. I have to say I'd rather be writing about stocks, but I think this issue needs to be addressed for the future health of our market, especially if there is a serious crisis. This will probably be the most depressing post and hopefully a sign of a market bottom. Here is the movie trailer and an interview with David Walker on Lou Dobbs.


I.O.U.S.A Movie Trailer


Lou Dobbs: David Walker On USA Debt 09/20/08


Our country is now a sub-prime credit on the earths balance sheet. I'm going to present major points of the movie which consisted of the total public debt and fiscal deficit, trade deficit, foreign treasury ownership, historical savings percentage and household debt to GDP ratio. I will look at the current state of the U.S Dollar and treasury swap spreads in the next post.

First I'm going to show this artistic historical chart of the annual increase in national debt. It is interesting that Clinton was close to paying down the national debt, while the Reagan and Bush administrations were out of control. Of course both Bush's spent lots of money on wars (Gulf War and Iraq, and of course there are heated debates on the actual net worth of that spending, and who knows how much Al Gore would've spent finding Bin Laden in Afghanistan after 9/11), but here's an article from CNN, on May 1, 2000, about Bill Clinton's success.

Clinton announces record payment on national debt
"WASHINGTON (CNN) - President Bill Clinton said Monday that the United States would pay off $216 billion in debt this year, bringing to $355 billion the amount of the nation's debt paid down in the three years since the government balanced the budget and began running surpluses. In a written statement, Clinton said the $216 billion payment represented the largest debt paydown in American history, and he said that the federal government's long-term debt is now $2.4 trillion lower than projected to be when he first took office. However, the U.S. government still has a long way to go before it pays down the entire national debt, which now stands at $5.7 trillion. Clinton also used the announcement to take issue with Republican tax cut plans, noting that "the debt quadrupled in the twelve years before I came into office," a reference to his Republican predecessors, Ronald Reagan and George Bush."




Fiscal Deficit Trend (St. Louis Fed)


First let's look at the Total Public Debt from data used by the St. Louis Fed (FRED Database). As of 6/30/2008 total debt stood at $9.49 Trillion. Of that $9.49 Trillion, $5.28 Trillion was held by the public (savings bonds/treasury debt held by individuals and entities excluding the US Gov). Of that $5.28 Trillion, $2.64 Trillion was held by foreign and institutional investors. The total national debt increased by 67%, or $3.8 Trillion from 6/30/2000 to 6/30/2008. Every year deficits add to the total debt. An important note from the movie mentioned that if we continue to add to our existing debt, the Gov will not be able to afford social security and health care benefits down the road. Here is the chart.




What is also alarming is the Foreign Holders/Total Debt Held By Public ratio. It now stands at 50%. Foreign countries have been using dollar denominated income derived from our imports to finance our country. That is a big deal because if we can't service the debt, or foreign owners want to diversify out of the US Dollar or sell treasuries in the open market to raise cash, who will support the treasury market or take the other side of the trade without using the printing press?? Do the American people have enough savings to buy up Liberty Bonds like WWI? Since these foreigners own debt guaranteed by the Government, if we can't pay them back will they be entitled to ownership of our assets in a liquidation or reorganization?! That's what happens in a bankruptcy right? That would be interesting. Also I don't think the trillions of hedge fund money and billionaires would be the white knights in this situation. The Government would just inflate the money supply which would create massive inflation, a run on the dollar, a big tax hike and an end to many entitlement programs. Comparing this situation to the proposed financial bailouts we're experiencing today, our Government would have to bail out our Government. I'm sure these foreign nations wouldn't dump all their treasuries at one time because they do have an indirect interest in our country's prosperity, that's if we continue to import their goods, provide a valuable export, and have a good relationship... Either way, as a person in the movie said, we won't wake up until we're in a crisis.




Next, the movie talked about the our savings rate trend and our trade deficit. American's do not save anymore and we continue to import more than we export. However, what is interesting is that the savings rate actually increased dramatically in the past 3 months of this year (2008) showing people were getting nervous about their financial situation. With loose lending over the years, we've seen that people would rather buy a house with nothing down, lever it up, and consume goods rather than save for a rainy day. Of course these people used their leverage and income to buy imported goods at cheap prices based on cheap overseas labor and currency intervention, which is probably the main reason why foreign governments have been financing us. The movie had an example of a scrap metal company. It's a cycle, the owner of the company said all he does is gather steel scraps/old cars here in the States and ships it to China & India who in turn produce the actual products that are imported by the U.S and other countries! The question I have is what if we lose our capacity to afford those imported goods or these trade flows stop being profitable for both the domestic (U.S) and foreign entities. How would this affect the foreign buyers of our financial assets? Here are stories by Jim Jubak that explain situations (mainly currency/trade inflation effects) that could change trade flows and indirectly affect US consumer prices. Basically the movie I.O.U.S.A (Warren Buffett) was saying that there could be problems down the road if we keep consuming more than we produce.

1. Our biggest export: Inflation by Jim Jubak (10/27/2007)

2. China's newest export: Inflation by Jim Jubak (5/20/2008)


I want to also include a chart of the Household Debt/GDP Ratio trend. As of April, 2008 it stood at 98%, and 10 years ago it was at 62%, which is a dramatic increase. Is household net worth overinflated due to mortgage debt that's worth more than the underlying asset? Is our GDP being supported by debt?? Being at about parity, the Housing Debt/GDP Ratio could create a risky situation if the consumer has a problem servicing its debt or defaults, and eventually the ratio spread would have to widen, or come down together. There will be a tipping point with the overinflated household which could eventually lower the country's domestic consumption and production because once the household starts to crack, employment, income, spending, production and deflation follows suit, as well as the demand for imported goods. And if imports decline, there will be less demand for our financial exports (dollar) that finances our imports which could create a change in interest rates, currency values, asset prices and trade flows all around the world. It's a crazy never ending global fibonacci spiral of economic supply and demand adjustments. Either way, something will have to happen and I'm sure all economists have different views. The question I have is, will there be a smooth transition if a crisis mounts, or will a lag affect create more economic problems.




U.S Trade Balance (St. Louis Fed)




Here is a video of Peter Schiff vs. Steve Forbes on Fox Business News. Peter Schiff has been very bearish on the U.S economy mainly due to our fiscal and monetary policies for some time now. Here is also footage of Peter Schiff in 2002.

Peter Schiff Vs. Steve Forbes (Fox Business)
Moody's Thinks About Lowering U.S Debt Rating


Peter Schiff Interviews 2002


Friday, September 26, 2008

GM Options Update: Out of the Money Call Volume, Bought To Open, Technicals ($25B Loan Catalyst)


Chart Source: Stockcharts.com

I wanted to point out that I saw a large amount of out of the money GM calls traded yesterday (9/25/08) at the OCT $15, and NOV $15 Strike. The stock closed at $10.03 that day. I mentioned this on Twitter last night when I checked the option chain and wanted to know if these were in fact buy to open orders.. I use Twitter to provide quick observations of trading activity, links or news headlines.. The most recent updates are posted on the right side of my blog.
"Hmm, lots of GM out of the money calls traded today. 14,689 Oct 15 Calls (19,989Open), 5,517 Nov 15 Calls (694Open).. Need OI tomorrow" (http://twitter.com/dvolatility)

Well it looks like these call options were bought to open. The OCT $15 Call open interest increased 60% to 31,936, and the NOV $15 Call open interest increased 746% to 5,180! If this is a speculative player they are definitely betting that the $25 billion loan from the Government will pass, and it is possible it could be passed this weekend (probably with the mortgage bail out talks).
"WASHINGTON (Dow Jones)--U.S. auto makers may not have access to a proposed $25 billion loan package for at least 18 months, Bush administration officials said, setting up a potential clash with congressional lawmakers. The loan package to help companies meet stricter fuel-economy standards was passed by the U.S. House on Wednesday and is expected to be passed by the Senate as soon as Saturday. The White House is expected to sign the bill." WSJ

There are still option players looking at the potential downside. Puts are active today as the stock is down .18 to $9.85. So we'll see how the options market reacts to the decision.