Unfortunately, we Americans now realize that the decision by Ben Bernanke to slash the Fed Funds rate to 2% (a three hundred twenty five basis point reduction) was just the opening act in this Republican administration's socialism play. At the time some wondered why the government didn't just allow home prices fall to historical averages rather than seeking to lower the value of the U.S. dollar and send inflation to a 17-year high. Now we have learned just this past weekend that the Department of the Treasury has come up with a plan for conservatorship of the GSEs, enacting the largest bailout in the history of the United States.

What does the conservatorship plan mean? It means the government will take over the GSEs for the purpose of continuing their operation rather than putting them into receivership, which would seek to sell off their assets and shut down future business. In contrast, the Paulson plan will actually increase the holdings of (NYSE: FNM ) & (NYSE: FRE) by $144 billion. The total of mortgage backed securities held by the GSEs will be allowed to increase to $850 billion each by December 2009.

My Libertarian heart sank when I witnessed Republicans and Democrats slap each other on the back as they congratulated themselves from saving us from the natural workings of the free market. The Republicans reek of hypocrisy, claiming the bailout of FNM & FRE was necessary for the health of the real estate market and the economy. I guess government intervention in the free market is only mandatory if you're a bank, insurance company, foreign government or a pension fund that owns GSE debt. 

It was especially telling when Hank Paulson's was asked in a CNBC interview how much his bailout plan will cost taxpayers. He responded that he "did not use a calculator" when putting together this scheme. The essence of his response was that he did not care what the bill to taxpayers would be, his main concern was to recapitalize banks and stop home prices from falling.

The big problem with this plan is that the government does not have a plausible exit strategy.  After Treasury has taken the companies into conservatorship and then expands their operations, it will not be easy to reduce the size of the GSEs. Their intention is to wind down the agencies' balance sheets beginning in 2010 at a rate of 10% per annum until they reach just $250 billion each. So let me get this straight, after the real estate market has become more reliant on FNM & FRE to securitize the mortgage market, we will then be able to allow market forces to take hold? That view becomes especially dubious in light of the fact that we will have a new administration in charge when this scale-down is supposed to be taking place.

Just as the U.S. has become addicted to artificially low interest rates-unable to raise them without seriously hurting the economy-- we now have most likely permanently socialized a good portion of the real estate market and the economy.  Does the administration really believe that it is better to debase our currency and greatly expand the obligations of our government rather than letting home prices fall to a level that can be supported by the market? This move has long-term ramifications on the dollar and the national debt. Thanks to a stimulus package and reckless spending from the administration, annual deficits are already skyrocketing to nearly $500 billion. Now with the Paulson bailout plan, debt could increase even faster. This may torpedo the recent move higher in the dollar and makes its long-term picture even more bearish.

Perhaps it will fall even further in coming weeks, but the need to own honest money-gold-has never been more apparent.

www.deltaga.com

 

As of now, the Fannie (NYSE: FNM) and Freddie (NYSE: FRE) story is pretty well known, and has been looked at from a number of different angles (see various articles and posts here, here, here, and here). Now we find out that the auto industry is set to press Congress for $50 billion in low-interest auto loans (see CNN Money article). The government loans are expected to be used to help modernize plants and help the car companies make more fuel efficient vehicles. Congress had already authorized $25 billion in loans last year, but apparently that is now not enough. It is believed that the loans would have rates between 4-5 percent. Even though market rates are fairly low already, the credit ratings of both Ford and GM have fallen below investment grade, making it difficult to borrow anywhere near 5 percent.

This of course makes one wonder at which point all of this stops. Sure, it is important to keep Fannie and Freddie and the general housing mess from bringing down the financial markets, but at what cost? Starbucks has fallen on hard times. Should they get some type of bailout or support? What about Sears Holdings, with the struggling Sears and K-Mart retailers? Is it time for the airlines to go back to the well? The argument of course is usually attached to the financial sector, talking about things like contagion, or national interest, for industries such as defense and manufacturing. But where is the consistency? Just as loans are being requested to help build hybrids, electric cars, and other alternatives, other measures to increase low cost electricity or reduce our energy independence are met with resistance. Even more unsettling is that by choosing to bailout Fannie and Freddie, we (the taxpayers) are now all investors in the mortgage markets, whether we choose so or not. To add insult to injury, we can even lose more than our initial investment.

Of course the real issue of concern may not be whether or not a specific industry or company is receiving low interest loans or a nice government contract, or whether we are being forced to invest in risky companies against our will, but whether the trend of privatizing profits and socializing risk is really good for free markets. As readers know, I often discuss the need for risk management, but unfortunately for many companies their idea of risk management is simply letting the government take the reins when things go bad. Again, the point is not specifically about the current problems or plan proposed by Secretary Paulson. It appears that he had no other choice, and as he stated on CNBC: "played the hand he was dealt." Yet, should it have gotten to this point?

As is now obvious, banks kept making loans without worry of whether homeowners would pay them back. They could simply sell the loans off to Fannie and Freddie, sponsored in part by the government. While Fannie and Freddie were indeed "just" sponsored entities, there was always a "wink-wink" understanding that the government would step up in times of need. As such, both risk and return were adjusted accordingly. Yet, this was part of the problem. By having in place what amounted to a zero deductible insurance policy, Fannie and Freddie could go off and look for ways to juice returns by creating portfolios that really had no purpose other than to help meet quarterly numbers and make Wall Street and shareholders happy - all the while knowing that if things got bad, Uncle Sam was there to save the day. Well, that day has come, and now the government is left with few options, tax payers are left with more risks and unwanted investments, and the free-markets are a little less free. Where does it stop?

 

 bullbeartrader.com

NOTE:  This first portion of this article was written after Sunday's detailed Fed announcement. The text below is taken directly from the government’s announcement. The Good News For Taxpayers:

Ospraie Management has apparently told investors that its investment in XTO Energy contributed to its losses over the last few months (see Bloomberg article). While this is not surprising given that energy stocks have been down and have contributed to losses in numerous hedge funds, the XTO position of $128 million in shares was the largest position for the Ospraie fund, and does once again highlight the problems with having a fund be too concentrated in just a few positions. Such a concentration can cause the types of losses Ospraie incurred, including a 26.7 percent loss in just one month (see previous article and previous post).

Fund manager Dwight Anderson was quoted as once saying that: "The fact that I had a horrible quarter is a statistical probability, and we had always told people there is that possibility.'' Yes, and when you are overweight a volatile stock in a volatile industry, you can expect that statistics will line up less and less on your side. In fact, this is a common problem in a portfolio when a certain position does well. Before long a hot stock can become a major portfolio position, and one that may now be larger than your portfolio guidelines allow. Nonetheless, even though you are now overweight the position beyond allowable levels, and even though VaR measures are screaming at you, it is hard to scale back the a security that is outperforming and in a sector that is on a roll. That is until of course everything changes, and the industry or sector corrects dramatically, as we have seen with energy stocks.

Sure, these are unusual moves, but they are also precisely the types of moves you should be trying to protect yourself against. Anderson went on to say in an interview last year that: "We do everything that we can to manage the risk, and I think we're better at it today than we were a year ago.''Apparently, everything was not enough, and everything did not include consistently updating VaR measures, or simple looking at portfolio weights. Scaling back risk is a difficult, but necessary part of any fund management, even if it involves giving up a little return in order to play another day.

bullbeartrader.com

Last week I talked about the market after Labor Day, the weak volume, and September's historical penchant for down markets in my Next Week on Wall Street podcast.  I started by saying that this week would be short and not so sweet.  Well we had only four trading days this week due to the Labor Day Holiday (short), and the not so sweet part came in the form of our over 5% price decline for the stock market from Tuesday's high to Friday's close! With seven consecutive years of rising gold prices, the gold mining industry has had ample reason to boost output. The demand for gold has grown and will continue to grow and legendary profits can be won for shareholders. But in provocative fashion not only have the gold miners been unsuccessful in growing supply, global mined gold production is down since the beginning of the bull. Yesterday I discussed leadership or the lack thereof in this current market environment. Then the market proceeded to ‘prove’ there is a lack of leadership and thus pushed the major indexes towards the July lows. This test is important from my view. If we fail this test the market will start anew to find a bottom. While that is not a bad thing, unless you are invested, it is a painful process for investors psychologically. "It's no longer a question of staying healthy. It's a question of finding a sickness you like." -       Jackie Mason.   Finding the right answers, so the saying goes, is easy; it's asking the right questions that's difficult. Mired in the midst of perhaps the most difficult-to-interpret markets for a generation, here are some of ours.   1. Isn't the market's myopic focus on the oil price more than a little simplistic ?   If you've been burned by the commodity bear this summer... raise your Blackberry. Come on, now. There should be more gadgets in the air than that. I am including iPhone owners. You know that the commodity sell-off nailed your portfolio as well. Granted, you may have locked in smaller gains or limited the pain through the use of stop-losses. That'll always be the one thing that investors can do to control downside risk. WHAT IS THE RISK FOR THE ECB? In yesterday's Daily Currency Focus, we said that the 1.45 level was significant support in the EUR/USD.A break below that level would have opened the door for a move down to 1.42. Even though the EUR/USD did take out the support to hit an intraday low of 1.4385, what was more impressive was the currency pair's reversal. The close back near today's high reflects strength rather than weakness.