With the end of the first quarter almost upon us, we thought it might be a good idea this weekend to briefly review where we have been during the first three months of the year and where we might be going from here.
Up until March 10th, the first quarter of 2009 was one that investors wanted to banish from their memory as quickly as possible. The Dow had fallen another 2,229 points and was down a cool -25.4% with just 16 trading days left in the quarter. Negativity abounded as the talking heads were busy telling us that this was the worst performance for stocks since the 1930’s and how much worse things were likely to get.
It was easy to be downbeat at that time and just about every measure of sentiment was at or near all-time lows. And why not; the stock market was plunging, the housing market was a mess, the new administration was already having trouble communicating with the financial markets (will anyone ever forget the February 10th “announcement” from Tim Geithner?), the economy had stopped on a dime, and the President was telling us at every turn that things were going to get worse.
But Then It Happened
But then, out of the blue, everything changed. Citi's (C) Vikram Pandit, JP Morgan's (JPM) Jamie Dimon, and Bank of America’s (BAC) Ken Lewis came out and announced that things were going well so far in the first quarter. All three men even went so far as to say that their banks had been profitable during the first two months of the year. And Ken Lewis went on to say that Bank of America would likely make money for the full year in 2009.
The response by the stock market was impressive. The Dow soared +5.8% on stellar volume and the argument between our two teams about what the blast meant was on. We took sides immediately and as we wrote on March 11th, “A bounce is more than a bounce when it has a fundamental trigger associated with it.”
In the same “Daily State of the Markets” report dated 3/11, we went on to opine, “If banks are actually making money, then the grand plan that Fed Chairman Bernanke has been diligently applying to the economy and the banking system just might be working.”
Please accept our apologies for this rehash of history. The point is the market in 2009 has been all about the banks. And since the banks were obviously no longer on the verge of collapsing, we felt that the discounting to the downside had been overdone. After all, with the Fed having set up a “borrow at 0% and lend at 5%” plan for the banks, those that were still in business ought to be able to make money – assuming, of course, that the toxic assets eating away at capital could be dealt with.
Which brings us to the other positives that have been occurring since March 10th. First, the Financial Accounting Standards Board (FASB) announced that they would be making some changes to the mark-to-market rules that had been causing the banks so much trouble in time for the first quarter’s earnings reports. Next, the Fed had been busy coming up with all kinds of ways to put money into the banking system. And finally, Mr. Geithner put together a plan to buy up $1 Trillion or so of those nasty assets at the center of this debacle.
So, while we hate to run the risk of angering the Market Gods, we just can’t see how the recent developments won’t turn out to be the fundamental triggers that turn this whole mess around.
Where To Next?
Since then – and as we expected – we’ve seen a very nice move to the upside as traders have been busy removing some of the “the world is ending” discounting from the market. The S&P 500 has gained +20.6% over the past 14 trading days and the KBW Banking Index (BKX) has soared +56.6% through Friday’s close.
So, now that there is a good chance that we have seen the lows and we have gotten a very nice bounce off the bottom, the question becomes: Where do we go from here?
For starters, let’s recognize that this game is still all about the banks. So, if the banks can avoid further difficulties, we’ll argue that we’re in the midst of a cyclical or “mini bull” that could carry us up +50% or so off the bottom – or at least to somewhere north of 9000 – 9500 on the Dow over the next few months.
In our humble opinion, the key to the extent and duration of this move will be how the P-PIP’s (Public-Private Investment Partnerships) perform. Most will agree that Timothy Geithner’s plan to join qualified private money managers such as PIMCO and BlackRock with government cash, loans, and loan guarantees in order to create a market for the alphabet soup of securities that caused the credit crisis, is indeed a good idea. However, as always, the proof will be in the pudding.
There are definitely some questions that need to be answered here. Not the least of which is if the banks will actually sell assets to the PPIP’s. Remember, some banks have already marked assets to market. So, the pricing coming from the PPIP purchases could easily be higher than the fire-sale prices currently on their books. As such, these banks may want to hold the assets and hope for further gains.
On the other side of the coin, there are also banks that have NOT marked down the prices of their toxic assets far enough. Thus, once a market price is created, these banks may experience more writedowns and will probably need to raise more capital.
The bottom line here is we will need to watch how the PPIP’s perform very, very closely.
Trees Don’t Grow To The Sky
Unfortunately, we’ve got some dead air on the calendar between now when we’ll get a whiff of how the PPIP’s are doing. For example, applications to manage a PPIP aren’t due until April 10th and then it will take some time to get them set up, approved, and running.
So until then, traders will likely return their attention to the macroeconomic picture. And with the exception of this week’s better-than-expected news on housing and durable goods, it is safe to say that the US economy isn’t likely to turn on a dime. As such, we should probably brace for some more bad news on the economic front in the near future.
We should also recognize that earnings season is right around the corner, which may also provide an opportunity for the bears to run with the ball for a bit. The key here will be to listen to the overall tone of company reports and the guidance for the upcoming quarter/year. Expectations are low at this point, so
