You can’t win everyday

Vincent Farrell, Jr. is Chief Investment Officer of Scotsman Capital Management LLC., a New York based investment management company. Over his long career on Wall Street, he has worked for numerous distinguished firms. Mr. Farrell graduated from Princeton University in 1969 and received his M.B.A. from the Iona College Graduate School of Business in 1972.


The bad news on Tuesday proved to be too much and the market sold off for only the third time in the last eleven days. It took a lot to short circuit the rally, but a lot is what we got. Fed Ex said their business stinks. Danaher, a diversified industrial company that has Craftsman Tools as one of its brands, said business is tough and they will be closing 13 factories and laying off 1,300 people. Texas Instruments and National Semiconductor issued warnings, and Con-Way, a large trucking outfit says it isn’t trucking so well.

The Wall Street Journal had an article that some credit unions need help due to unwise investments in mortgage backed securities. Another article said that modified mortgages are experiencing alarmingly high re-default rates. They clearly weren’t modified enough.

The stunner of the day was the news that the yield on three month Treasury bills actually went negative. The Treasury auctioned $27 billion of three month bills yesterday at .005%. They went negative today by .01%, which means if you were to park $1 million in the three month bill you would lose $25.56 by maturity! My best guess is that now that we are at year end banks and other financial institutions want to “window dress” their balance sheets and will buy the bills because they are so pretty and good to look at when people analyze the year end financials. Makes the banks look like paragons of fiscal virtue. But it’s troubling to see that risk aversion has gone to such extremes.

Also, some prime (not sub prime) triple AAA mortgage backed securities have apparently (says the Wall Street Journal) traded at $.30 on the dollar. The same type of paper traded at $.70 on the dollar a few months ago. With mark-to-market accounting rules still in effect this could mean another round of write downs come quarter end. Mark-to-market – instituted just last year – is killing us.

With all of that it is a surprise the market did relatively so well. At least it wasn’t down 4% (“only” -2.3% on the S&P) when 4% moves have become almost commonplace. The process of setting a bottom is not easy or very clear. Tom Lee of JP Morgan says we are in the midst of the “blind” phase of the turndown. The news will stay unrelentingly bad and any feedback we get will be negative.

But Goldman issued a report that made its way onto the Internet which is where I caught sight of it. They say that markets usually bottom one quarter before GDP bottoms. Professor Jeremy Siegel says on average it’s 5.1 months. Goldman also says the market will bottom seven months before the peak unemployment rate. I remember that unemployment peaked in November of 1982 (at 10.8%!), but the market had bottomed earlier in the summer and was rallying nicely while the unemployment news kept worsening. And, says Goldman, the market will bottom four months before you see the largest decline in non-farm payrolls.

We have been saying much the same. The market always bottoms when the news is bad. Actually, the market bottoms when the news is at its worst! We still hope that the October – November lows will prove to be a bottom. But we’ll be flying blind for a bit yet.

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