Paulson: Fighting the Financial Crisis

Hank Paulson pats himself on the back:

Fighting the Financial Crisis, One Challenge at a Time, by Henry Paulson, Commentary, NY Times: We are going through a financial crisis more severe and unpredictable than any in our lifetimes. We have seen the failures, or the equivalent of failures, of Bear Stearns, IndyMac, Lehman Brothers, Washington Mutual, Wachovia, Fannie Mae, Freddie Mac and the American International Group. Each of these failures would be tremendously consequential in its own right. But we faced them in succession...

By September, the government faced a systemwide crisis. After months of making the most of the authority we already had, we asked Congress for a comprehensive rescue package so we could stabilize our financial system and minimize further damage to our economy.

By the time the legislation had passed on Oct. 3, the global market crisis was so broad and so severe that we needed to move quickly and take powerful steps to stabilize our financial system... Our initial intent was to strengthen the banking system by purchasing illiquid mortgages and mortgage-related securities. But the severity and magnitude of the situation had worsened to such an extent that an asset purchase program would not be effective enough, quickly enough. Therefore, exercising the authority granted by Congress in this legislation, we quickly deployed a $250 billion capital injection program, fully anticipating we would follow that with a program for buying troubled assets.

There is no playbook for responding to turmoil we have never faced. We adjusted our strategy to reflect the facts of a severe market crisis, always keeping focused on our goal: to stabilize a financial system... By mid-October, our actions ... helped us to accomplish the first major priority, which was to immediately stabilize the financial system. ...

I have always said that the decline in the housing market is at the root of the economic downturn and our financial market stress. And the economy, as it slows further, threatens to prolong this decline, as well as the stress on our financial institutions and financial markets.

A troubled-asset purchase program, to be effective, would require a huge commitment of money. In mid-September, before economic conditions worsened, $700 billion in troubled asset purchases would have had a significant impact. But half of that sum, in a worse economy, simply isn’t enough firepower. ...

The current $250 billion capital purchase program is strong medicine for our financial institutions. More capital enables banks to take losses as they write down or sell troubled assets. And stronger capitalization is essential to increasing lending, which is vital to economic recovery.

Recently I’ve been asked two questions. First, Congress gave you the authority you requested, and the economy has only become worse. What went wrong? Second, if housing and mortgages are at the root of our economic difficulties, why aren’t you addressing those problems?

The answer to the first question is that the ... the financial rescue legislation ... is not a panacea for all our economic difficulties. ... But recovery will happen much, much faster than it would have had we not used TARP to stabilize our system. ...

The answer to the second question is that more access to lower-cost mortgage lending is the No. 1 thing we can do to slow the decline in the housing market and reduce the number of foreclosures. Together with our bank capital program, the moves we have made to stabilize and strengthen Fannie Mae and Freddie Mac ... will promote mortgage lending. We are also working with the Department of Housing and Urban Development, the F.D.I.C. and others to reduce preventable foreclosures.

I am very proud of the decisive actions by the Treasury Department, the Federal Reserve and the F.D.I.C. to stabilize our financial system. We have done what was necessary as facts and conditions ... have changed, adjusting our strategy to most effectively address the crisis. We have preserved the flexibility of President-elect Barack Obama and the new secretary of the Treasury to address the challenges in the economy and capital markets they will face.

As policymakers face the difficult challenges ahead, they will begin with two considerable advantages: a significantly more stable banking system...; and the resources, authority and potential programs available to deal with the future capital and liquidity needs of credit providers. ... I am confident of success, because our economy is flexible and resilient, rooted in the entrepreneurial spirit and productivity of the American people.

I see it a bit different. The financial bailout was necessary, but the initial rollout was botched badly and it created a huge backlash against the bailout program by the public. That didn't have to happen, and it has made it much more difficult to do what is needed.

But that is another problem, getting the Treasury to understand what is needed, and then do it. I think the toxic asset removal program might have worked - a year ago - but they waited too long to do anything and it won't work now. Buying the assets months ago when they were at a higher value would have, essentially, recapitalized the banks and helped them to avoid insolvency. (But it also means that the government would have probably taken losses on these assets. I think the losses would have been less than they will be now when you include the deterioration in the overall economy, but taking the losses would have likely created a public backlash. Demanding a share of future profits in return for removing the toxic assets might have helped on this front.)

For the most part - in every case I can think of - Paulson generally waited until he was forced to act. After dealing with a series of problems with individual financial intermediaries that were on the brink of failure, then making a big mistake by letting Lehman fail, things got so bad he was convinced we were close to, or at the meltdown point. Given that, he had no choice but to ask for a massive bailout.

Paulson now claims the problem is too large to do anything about now, or even on October 3 when the plan was passed, though the toxic asset removal plan would of worked a couple of weeks earlier in mid September. However, as he admits, the plans weren't ready then, it took them until now to have the asset removal plans ready to go, so how could he have put the plan in place by October 3 even if congress had approved it the day he asked for it?

Instead of having plans ready, plans that that had been thought through enough so they could explain how they were supposed to work, they fiddled around with various ideas while bank balance sheets deteriorated. That left banks with a insolvency problem that needed to be addressed, but again Treasury was slow to do anything about it. They only acted when they were forced into this step and led by the nose by the British (and Paulson is now taking credit for doing this).

This financial crisis has been going on a long, long time, and they should have been planning long ago about how to deal with various contingencies. Plans should have been on the shelf and ready to go. Even now, they don't have an agreed upon plan to address the foreclosure problem, something Paulson says he has believed all along is the key to stopping the deterioration. Then why don't we have a plan? It has been in the planning stages for who knows how long, and the plans are now being abandoned since the clock has run out. It's hard not to wonder if the delaying tactics are ideologically based and intentional. Hem and haw long enough so that nothing gets done.

A committed and competent Treasury could have done a lot to help the situation, but unfortunately, that is not what we got. Let's hope the next administration makes better choices.

Comments

[ndd]

Shorter Paulson: "We're winging it."

Elsewhere, I have called this process "Global Financial Calvinball" ... so why would anyone make any big financial commitments when the rules of the game, and the potential for huge wins and losses, change almost daily?

[bp]

earlier this year, Paulson was lecturing homeowners whose loan value had exceeded declining market value about the moral irresponsibility of defaulting by walking away from the house and the loan - a perfectly rational act under market-based capitalism

at that time, Paulson was trying to salvage the fragile inverse pyramid of valid housing assets that was about to crumble, but was still holding up the wildly leveraged securitized debt created by the shadow financial industry - Paulson was well aware that every dollar of default at the homeowner level was magnified greatly into huge multiples of credit contraction in the economy via deleveraging

yet Paulson was shaming with disgrace those who created the least damage - original borrowers - and ignoring those who actually created the operational financial mechanism most responsible for creating the bubble - a grossly overleveraged supply of credit which correspondingly created the recession upon the contraction of credit due to deleveraging

when individual homeowners act rationally in their own self interest to minimize losses associated with a deflating bubble, they're deemed "morally irresponsible" by Paulson and implicitly or even explicitly condemned falsely by many as the primary cause of the crisis

yet when the major players in the shadow financial sector act in their own self interest to manufacture highly leveraged asset value out of thin air which was instrumental in bringing down the economy, not only are they not condemned by Paulson - they are rewarded with huge salaries and bonuses, much of which was paid by the bailout

[bakho]

Compare the reactions of the Bush administration to Clinton/Rubin interventions that were much more proactive and early in the crises they faced. Certainly the magnitude is different, but how much is due to allowing the problem to fester.

[baileyman]

I've hear this described as a "partial privatization of Treasury".

Sheila Bair for Treasury Secretary!

[a]

IMHO Paulson can be criticized for not having put into place an effective process by which IBs can be left to fail. We still don't have it, and we might still need it.

[Joe]

But Mark,

I thought that the Treasury buying assets, even if purchased back when market prices were higher (though still at a loss for the banks), would not have recapitalized the banks - only purchase of equity would do that. What am I missing?

[hari]

I don't think HP is lying thru his teeth.

Imagine Treasury just didn't have the basic data on level of exposure by banks on home mortagages, since a lot of the operations are at state level.

Derivatives got so complex even SEC didn't know what the hell was going on under its own regie. SO how does HP get to understand the extend of the financial malaise and its component parts?

Instead of less regulation and less gov [GOP mantra!] there is now inevitable demand for more regulatory control and audit - to know (finally) how the damn sytsem works and/or has developed over time.

It is not credible, I suggest, to blame HP for all the mess accumulated over three decades of deregulation....

[dd]

"We are going through a financial crisis more severe and unpredictable than any in our lifetimes."
There are many alive today (including my mother and uncle) who survived the Great Depression. Is Paulson saying this is worse?

Paulson's conflicts are so severe and his judgment so impaired that he can not admit that the system he is trying to save is riddled with fraudulent conduct so "normalized" as to be indistinguishable from "innovation."
Structured Products are real innovation; but without traditional safeguards they were reduced to a gaming mechanism that "arbitraged" away all the protections, obscured traditional fiduciary responsibility, created a veneer of nonexistent "safeguards" that have now failed and allowed banking to garner immense profits from conflicts of interest.
As for CDS, that system can not be saved IMHO as the vanilla variety appear to be a small portion. The real profits were in the very specific CDS designed around specific tranches of CDO/CMOs that provided "insurance" to the major banks against tranche default that would trigger SIVs/SPVs clawbacks for the issued bonds none of which was reserved as the "risk" was deemed insured.
Time to save homeowners and at least spend the money maintaining neighborhoods. Paulson knows that reducing their debt loads: mortgage, leasing and credit card obligations packaged into SIV backed pools (CDOs, CMOs, ABS, ABCP et.al) that issued the bonds will only intensify banking's demise. This is why he continues to pretend help for debtors but means nary a word of it.
As for the SEC neither it nor the CFTC are empowered to regulate OTC derivatives. The Federal Reserve under Greenspan defended derivatives and encouraged the system to grow without oversight. By the time Geithner was assigned the task of "improving efficiency" it was much too late as the crisis was already underway and a perusal to the signatories of the promised derivatives reform finds some now defunct and the rest gripped in the current crisis:
http://www.newyorkfed.org/newsevents/news/markets/2007/FedLetter0507.pdf

[bakho]

Name the last Republican Secretary of Treasury that most economists and financial experts would agree exhibited a high degree of competence?

It certainly goes back before my lifetime and does not include anyone after 1980.

Modern Republicans don't treat the position seriously because they don't believe that the government should have a substantial role in the economy. In Republican administrations, Treasury is in charge of crony deals and payouts.

WTF kind of lame excuse is "treasury did not know?"
Under Clinton, treasury knew things.

Dean Baker hits back with the evidence.

http://www.prospect.org/csnc/blogs/beat_the_press_archive?month=11&year=2008&base_name=paulson_defends_response_to_th#comments

[spencer]

Quite an article by someone who has consistently been a day late and a dollar short.

[Box]

"I have always said that the decline in the housing market is at the root of the economic downturn and our financial market stress."

Expecting youngsters to work ever more overtime so that ever higher prices could be paid for boxes is unrealistic. Boxes do not become inherently more valuable as the age, they deteriorate over time.

says...

Brownie is doing a heckuva job down there. Mission accomplished.

[David Heigham]

The size and shape of the financial system problem in the USA and Europe was fully evident from October 2007. The central banks made plans to keep the system liquid from early 2008. The first cogent response from any Treasury was the Brits forced recapitalisation of their banks on tough terms; and though that was well prepapred it was announced very, very late. Clearly, there was an international political blockage.

To say Paulson has been winging it is too complementary. He has scrabbled at it. But the wilful political blindness to the mess, and refusal to think about solutions, has been worldwide. That is why nothing concrete came out of the G-20 meeting on Sunday. The G-20 has not spooked the markets the way Pauson's 3 page TARP nonsense did; but additional political fiascos do not help.

[cheekhiaw]

Just sophisticated thievery gone awry...

[Gene O'Grady]

This is a real question to which I don't have an answer, not an exclamation or shot at Paulson: is he likely to go to jail? I believe his counterpart under Hoover did just that?

[anne]

The economic summit was actually highly successful, no matter stock traders perceptions, in that the summit included the views of leaders of developing countries which set a critical precedent and there was a general sense that increased trade limitations have to be avoided. Beyond this, countries can well act singly in terms of domestic monetary and fiscal policy and there will be further consideration of insuring that capital flows continue to international capital dependent developing countries which countries fortunately do not include China or India or Brazil or South Africa.

[kthomas]

(a violin playing sorrowful music) Why did he bother writing this?

[kthomas]

The problem with consumers being over-leveraged (in debt to their eye-balls) was known by Paulson and his ilk many many years ago. This is why they lobbied Congress so hard to change the bankruptcy laws. They knew damn well what they were doing, and any acknowledgment to the contrary is a lie.

[reason]

bakho,
Dean Baker is no fan of Paulson's is he?
In short, we have one of the chief arsonists telling us about his heroic efforts to combat the huge fire he faced. Somehow, I don't think many people will be applauding Mr. Paulson.

[anne]

Andrew Mellon was Treasury Secretary under Herbert Hoover till February 1932, followed by Ogden Mills till Franklin Roosevelt became President in March 1933. *

* "This is a real question to which I don't have an answer, not an exclamation or shot at Paulson: is he likely to go to jail? I believe his counterpart under Hoover did just that?"

Best not to believe idiocy, best not to ask such an offensive question.

[anne]

Secretary Paulson, who was recommended and much applauded by liberal economists on appointment has done what he considered necessary and possible at Treasury, and has been rather flexible in developing policy, and vilifying him tells nothing about what was missed and why and what more could have been done.

[Winslow R.]

I heard Rubin and Summers with Paulson talking about the need for stimulus that was 'married with a return to sound fiscal policy' [Rubin] or 'sustained for 2-3 years'[Summers].

Obama will be making a HUGE mistake if he picks either of these guys for Treasury Secretary.

Rubin and Summers to this day would repeat the Clinton years where they created a recession by running a surplus just as Clinton's sucessor was in the midst of a reelection campaign.

They should be publically humilated for Gore's loss to Bush in 2000, not given the post of Treasury Secretary.

http://www.npr.org/templates/story/story.php?storyId=97124787

or

http://www.npr.org/templates/player/mediaPlayer.html?action=1&t=1&islist=false&id=97124787&m=97124747

[reason]

anne,
Paulson was applauded ONLY because expectations of any George Bush appointee were so low. "Shock horror George Bush appoints someone, who despite being Republican and having some conflicts of interest, at least has a record of success behind him rather than just being an incompetent hack" was the general impression.

[reason]

And Anne I'm sure you know that, why this sudden keenness on defending Republicans. I thought you were a fan of Krugman. It is the whole Republican programm that is the problem.

[Bruce Wilder]

Gene O'Grady: "This is a real question to which I don't have an answer, not an exclamation or shot at Paulson: is he likely to go to jail? I believe his counterpart under Hoover did just that?"

No, Andrew Mellon did not go to jail. Richard Whitney, who played a prominent role in the Crash of 1929, as a deputy head of the New York Stock Exchange, and was later President of the Exchange, did go to jail for his role in a stock fraud.

Andrew Mellon, who, in addition to his 11 years as Treasury Secretary was one of the richest men in the country (Mellon Bank, Alcoa, Gulf Oil, was investigated and sued for income tax evasion, relating to his art collecting activities. It is an article of faith on the Right that he was exonerated, but only after his death. The truth is somewhat more amusing: Mellon neutralized the charges by creating a charitable deduction in the exact amount of the supposedly unpaid taxes: that charitable deduction created the National Gallery in Washington, D.c.

I, personally, won't be holding my breath waiting for any of the vampires of the Bush Administration to be prosecuted for their wrong-doing -- not for corruption, not for malicious prosecution, not for kidnapping and torture, and not for the ruin of the economy.

[calmo]

The Chutzpah of this ex-con financial banker reminds me of GWB speaking at the UN...in contrast to his stump speeches to the troops (the WH staff preference over a more demanding audience: American citizens)...long pauses while the UN delegates agonized over their failure to bring sassy objects to throw at the speaker...not the usual noises from the cheerleaders.
So filling in for the troops are the major media outlets, prominent among them, WSJ and filling in for the citizens who refuse to sit there like chumps but who want a need a voice, are blogs like this one.
Is that too self-congratulatory? The mere action of asking and fielding that question distinguishes us from The Handlers.
Is that too ideological? Too Chomskyesque? Too dangerous?
I used to think so, but not anymore.
Not with the even more dangerous Paulson who fails to recognize that his performance is not rescuing, not arresting and not stabilizing.
Part of that process is less top-down direction and more sensitivity to bottom-up feedback from the real audience, not just the business community cheering section.

[ken melvin]

Someone said it, this is the gang that couldn't shoot straight. They have never understood.

[calmo]

hari, what do you suppose Paulson was doing before he caved in to GWB's plea to fill, what was becoming clear to everyone...that the stink issuing from Sec Treas Office was not just Snow's socks the utter void then at the Sec Treas?
--I see reason beat me to the punch...but the smell still lingers on, yes, dear? Cyrebus/Chrysler pirate equity, people, led by Mr Eyebrows reaching for some of that $700B.
Ok, I'm as nervous as Winslow Obama will be making a HUGE mistake if he picks either of these guys for Treasury Secretary. but could stand to see the preferred/alternative short list, you?

[roger]

I don't give credit to Paulson on the economic front. On the other hand, I give him a hand for (rumor says, and I believe it) telling Georgy that he couldn't have one more war, with Iran. Paulson correctly recognized that oil was spiking not because speculators were crazy, but because the Bush administration was crazy enough to be encouraging Israel to talk about bombing Iran. The classical buildup in prices before the war was destroyed by the Bush backdown - in a week, the Bushies went from lobbing stories about the Iranian forces killing, or supplying the weapons to kill, our guys in Iraq to sending a low level state department suit to Teheran. Lo and behold, like a switch being turned, Michael Gordon suddenly was no longer was appearing with faux news about the Iranian connection to militias in Iraq; the Washington Post was not ending every news story about Iraq with a paragraph about how Iran was supplying weapons to kill Americans. It was a classic establishment u-turn. The price of oil broke, Paulsen thus got some relief for the economy, and the exurbs went back to voting for McCain.

[Lafayette]

Paulson: We are going through a financial crisis more severe and unpredictable than any in our lifetimes.

Unpredictable?

Right, Hank, if as CEO of a Wall Street Investment Bank you had your head stuck in the sand, it was surely unpredictable.

Great timing ... you got out just-in-time, didn't you? Lucky guy.

[Barkley Rosserr]

One of the reasons that many applauded the appointment of Paulson was because his long and deep connections with the Chinese leadership, with the hope being that he would convince the Chinese to allow the RMB to appreciate. He did not quite pull that one off, although I gather relations with the Chinese on the economy have been somewhat better than they were previously.

A real bottom line seems to be the report that on Sept. 17, gentle Ben Bernanke had to get on the phone and actually shout at Paulson about the depth of the crisis that was going on that day. He did not get it, and there are many (including Dean Baker) who would argue that Bernanke himself had been rather late in getting it, especially about the housing bubble and its likley consequences. However, as of 9/17, the Fed had just spent 13 months coming up with new rabbits out of hats to deal with a succession of crises, and by 9/17 with the scale of what was going on then, they had run out of magic rabbits.

[andrea]

Check this video out for insight on our economic crisis. http://www.thetruthabout.com/public/297.cfm?affID=and16

[im1dc]

anne, here is a scatterplot I think you may find both illuminating and educational.

Tuesday, November 18, 2008
Expected Return

"This picture, courtesy of Chris Carroll, shows the correlation of the stock market's price-earnings ratio (where earnings are a 10-year average) and the subsequent real return on equities. The point labelled 1996 is the era dubbed "irrational exuberance."

"The bottom line: Right now, the expected inflation-adjusted return is about 6 percent."

http://gregmankiw.blogspot.com/

[anne]

Thank you....

http://gregmankiw.blogspot.com/2008/11/expected-return.html

November 18, 2008

Expected Return

The bottom line: Right now, the expected inflation-adjusted return is about 6 percent.

[Forgetting inflation adjusting; corporate earnings growth has long been about 7%, more the past 15 years, the after cost dividend yield on the S&P index is about 2.7%, so investors who think the price earning ratio will stay about where it is for the next decade can assume a 9.7% stock return. The assumption becomes more of less depending on whether the price earning ratio is expected to increase or decrease.]

[Range]

Pretty big range on that chart. -2 to +12, with the average being +6. -2 for the next 12 years would sink many 401k plans. Bonds are no better, since they may also yield a negative rate over the next 12 years. Policy is preventing individuals from reliably income smoothing.

[anne]

Expecting that the price earning ratio will be about the current level in a decade, a stock investor can assume a 9.7% actual yearly return.

A 6% real return with about 3% inflation would be 9%. Whether the investor is figuring the current dividend is not known, but if so then the projections are close enough with the investor assuming a little lower corporate earnings than historically realized.

[im1dc]

BTW, imo the scatterplot somewhat answers a 'thinking out loud' question I posed awhile back during a low point in the Dow Industrials whether "Is this was a good time to buy Value stocks." I was criticized for asking that but no one stepped up to give an opinion.

Graham stocks are Value stocks.

The scatterplot's authors predict that buying today gives a 6% real annual return for 10 years. Not indecent but less than what most people expect their stock holdings to yield.

More interesting is that imo this means there is not enough fear reflected in the stock market to drive it down to irresistible back up the truck Graham-Dodd buying levels.

If Nouriel Roubini is correct in his Economic Forecasts (investors are entirely too sanguine given the global economic reality) there could easily be more really bad news to come and the Dow Industrials could decline another couple thousand points. (shivers)

Perhaps more importantly the scatterplot prediction today indicates that many if not most babyboomers are in for a rough ride b/c we won't be bailed out from our profligate behavior by the stock market, at least not for the next 10 years. OUCH!

RDF, please tell me I am wrong, I'd welcome it.

[im1dc]

anne, a little housekeeping.

The scatterplot's authors state the return is a "real return" meaning, imo, that inflation is factored in.

Second, they are looking at Graham Dodd stocks, meaning Value stocks which means they pay a dividend.

Lastly, they are predicting based on data and market behavior to it from the past and that may or may not be valid with today's global economics. (grain of salt that)

[Inflation is the Enemy]

"...many if not most babyboomers are in for a rough ride b/c we won't be bailed out from our profligate behavior by the stock market..."

Plus, if you work in private industry, your pension is likely to be inflated away. There is no way to win under a constant inflation policy. The policy attempts to get people to forget about the future by eliminating any possibility of providing for the future.

[anne]

"Bonds are no better, since they may also yield a negative rate over the next 12 years."

A meaningless calculation, because the question has to be what portfolio with what current interest rate and with what duration and whether the bonds are inflation protected. A long-term Treasury portfolio has a current after cost yield of 4.28% and about a 10 year duration, while a long-term investment grade portfolio has a yield of 7.42%. Unless inflation is above 4% there will be no negative return for a long-term Treasury portfolio.

[anne]

Inflation protected securities are yielding an after cost 3.34% currently with a duration of 4.3 years, by the way.

[kharris]

Gene O'G,

Mellon was investigated by a grand jury on tax charges, but was exonerated on every chage. He later faced civil charges, but died before that case was resolved. He never spent time in jail.

[im1dc]

anne,

What I hoped you would see in the scatterplot is that the stock market does not return 8% per annum real return forever.

Am I wrong that you are just being stubborn in ignoring that little but pertinent fact?

[anne]

"The scatterplot's authors state the return is a 'real return' meaning, that inflation is factored in."

I made that clear in the parallel explanation, but I never use real returns in thinking about investing returns.

[anne]

I could care less about the scatter-smatter, I did the analysis correctly and as long as corporate earnings are near the long term historical level an 8% long term return on stocks is easily expected when starting at about the long-term average price earning ratio.

[kthomas]

Sometimes, Pat Buchanan can be a real joy. Sometimes.

http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/11/18/ED2014696L.DTL

anne, prepare to laugh.

[im1dc]

anne says...

"I could care less about the scatter-smatter, I did the analysis correctly and as long as corporate earnings are near the long term historical level an 8% long term return on stocks is easily expected when starting at about the long-term average price earning ratio."

Then I wasn't wrong after all.

One more question and I'll stop.

Do you also ignore Gravity?

[Multifarious]

Why should we expect competence from the Bush administration now?

[anne]

The analysis I set down is just the analysis John Bogle has taught correctly for decades.

With long-term corporate earnings growth about 7%, and a current dividend yield above 2.7%, if the price earning ratio is about the same in a decade, then a stock return above 9% can be expected. Lower corporate earnings growth of 6%, would mean a stock return above 8%. Lower earnings still of 5%, would mean a return above 7%. Actually after cost dividends are 2.76%.

[Gene O'Grady]

I'm probably not sorry to have offended Anne, but I thank those who corrected my memories of what happened to Whitney and Mellon. I do still have the impression that there was a real desire to put Mellon and others away after 1933 that doesn't exist nowadays, and am curious as to why that would be -- was the conduct in the markets of the 20's that much more egregious? Have we seen the error of their ways in wanting revenge? Do other less flattering explanations suggest themselves? As a whole, I think we have become a society far more enamored of punishment and imprisonment over the last thirty years.

[Robinia]

I find Dennis Kucinich more believable than "heckuva job Hank."

http://www.youtube.com/watch?v=tAaUkmAKw4A

A dangerous time for our country, indeed.

[kharris]

Gene O'G,

The US was a much more populist country in the early to middle years of the last century. The notion that rail and oil and financial trust operators were Robber Barons was current. Socialism and communism were not yet tainted with our knowledge of Joe Stalin and his successors, nor by the US propoganda effort to associate socialism and communism with treason. Those associations now, by extension, suggest that holding rich manipulators to account is anti-American. In fact, you can find among modern writers lists of thoughts, behaviors, foods and family practices seen as un-American or anti-American that in the days prior to the Cold War were just part of everyday life.

[Patricia Shannon]

How soon before the Republicans start blaming the fiscal crisis on Obama? Maybe we could start a betting pool on it.

[Mauler]

Fraud, premediated fraud.

http://www.counterpunch.org/hudson11172008.html

[Too Much Fed]

"I have always said that the decline in the housing market is at the root of the economic downturn and our financial market stress."

WRONG!!!!! The REAL PROBLEMS ARE TOO MUCH DEBT AND NEGATIVE REAL EARNINGS GROWTH FOR MOST PEOPLE! The housing market is ONLY a symptom. If paulson can't figure that out, he is either lying or stupid!!!

[Too Much Fed]

bp, yes indeed!!! It is all about making richer and more powerful the manufacturers of debt.

[Too Much Fed]

a said: "an effective process by which IBs can be left to fail."

There is none. These "important, rich, and powerful" people are NOT allowed to fail. It is just a temporary setback that everyone else must help to fix.

[Too Much Fed]

hari said: " It is not credible, I suggest, to blame HP for all the mess accumulated over three decades of deregulation...."

I doubt it. paulson has probably supported "free trade" and "deregulation" since he worked for nixon.

[Black Saint J]

Democrats set an affirmative action time-bomb and now it's gone off, welfare-backed mortgages has collapsed!

When Democrats controlled both the executive and legislative branches, political correctness was given a veto over sound business practices.

Threatening lawsuits, Clinton's Federal Reserve demanded that banks treat welfare payments and unemployment benefits as valid income sources to qualify for a mortgage. That isn't a joke -- it's a fact.

Under Clinton, the entire federal government put massive pressure on banks to grant more mortgages to the poor and minorities. Clinton's secretary of Housing and Urban Development, Andrew Cuomo, investigated Fannie Mae for racial discrimination and proposed that 50 percent of Fannie Mae's and Freddie Mac's portfolio be made up of loans to low- to moderate-income borrowers by the year 2001.

Instead of looking at "outdated criteria," such as the mortgage applicant's credit history and ability to make a down payment, banks were encouraged to consider nontraditional measures of credit-worthiness, such as only speaking Spanish or having a child named "DeWayne."

In 1999, liberals were bragging about extending affirmative action to the financial sector. Los Angeles Times reporter Ron Brownstein hailed the Clinton administration's affirmative action lending policies as one of the "hidden success stories" of the Clinton administration, saying that "black and Latino homeownership has surged to the highest level ever recorded."

Meanwhile, economists were screaming from the rooftops that the Democrats were forcing mortgage lenders to issue loans that would fail the moment the housing market slowed and deadbeat borrowers couldn't get out of their loans by selling their houses.

A decade later, the housing bubble burst and, as predicted, food-stamp-backed mortgages collapsed. Democrats set an affirmative action time-bomb and now it's gone off.

In Bush's first year in office, the White House chief economist, N. Gregory Mankiw, warned that the government's "implicit subsidy" of Fannie Mae and Freddie Mac, combined with loans to unqualified borrowers, was creating a huge risk for the entire financial system.

Rep. Barney Frank denounced Mankiw, saying he had no "concern about housing." How dare you oppose suicidal loans to people who can't repay them! The New York Times reported that Fannie Mae and Freddie Mac were "under heavy assault by the Republicans," but these entities still had "important political allies" in the Democrats.

Now, at a cost of hundreds of billions of dollars, middle-class taxpayers are going to be forced to bail out the Democrats' two most important constituent groups: rich Wall Street bankers and welfare recipients.

Political correctness had already ruined education, sports, science and entertainment. But it took a Democratic president with a Democratic congress for political correctness to wreck the financial industry.

[Too Much Fed]

Box said: "Expecting youngsters to work ever more overtime so that ever higher prices could be paid for boxes is unrealistic. Boxes do not become inherently more valuable as the age, they deteriorate over time."

Box, the powers in control say you are NOT allowed to say and think things like that. DEBT SLAVERY is supposed to be a SECRET!!!

[Too Much Fed]

kthomas, one world nation, one world central bank, one world currency, and one world bankruptcy law under Goldman Sachs, with liberty and justice for almost no one.

[Too Much Fed]

Im1dc said: "The point labelled 1996 is the era dubbed 'irrational exuberance.'"

What about since 1995 or earlier, too much debt was produced and that allowed real GDP, stock prices, and housing prices to grow faster than they should have.

[Too Much Fed]

Black Saint J, the republicans (especially greenspan) are just as responsible for helping to produce too much debt as the democrats.

[kthomas]

Black Saint J, the election is over, please slither away and go troll elsewheres. Thank you.

[rufus]

Black Saint J says...
"welfare-backed mortgages has collapsed"

This is simply ridiculous. The subset bubble of subprime lending would not have arisen had there not been a market (willing speculators) for their derivative assets.

This brings to mind an analogy. Investors blaming rating agencies as a major culprit for the unreasonable appreciation in subprime lending assets, is like predatory realtors and lenders blaming subprime borrowers for biting off more than they could chew. I guess the 'I need someone to save me from myself argument', is a one way street?

[JAWilson]

Paulson is one of the dopes making the problem what it is by creating uncertainty. He's an idjit.

[rufus]

Paulson: "I have always said that the decline in the housing market is at the root of the economic downturn and our financial market stress."

Yet Paulson would do and has done little to backstop the housing market. He would prefer instead to backstop consumer credit? While leadership of the FDIC can even see the forrest for the trees. Rather than shore up the housing market and arrest forclosures, allowing people to stay in their homes (for many the most tangible asset they own or are buying), Paulson would backstop unsecured debt that propogated by modern day loan sharks. He believes consumers are not being extended sufficient credit to spend their way out of a hole (how much exactly does that cost). Americans are tightening their belts and curbing discretionary spending while trying to gradually dig themselves out and pay down debt, and good ol' Hank wants to hand us a bigger shovel.

[anne]

http://gregmankiw.blogspot.com/2008/11/expected-return.html

November 18, 2008

Expected Return

The bottom line: Right now, the expected inflation-adjusted return is about 6 percent.

[What is not clear, by the way, is whether the expected scatter-plot stock return counts dividends. Since dividends are currently about above 2.7% after costs, we need to know.

Bogle's method for estimating actual long term stock returns makes clear that dividends are counted and shows the elements of long-term return which are current dividends, earning growth and change in price earning ratio.

Again, the numbers are 2.7% for dividends, 7% for earnings growth and about the same price earning ratio for a conservative long-term return of 9%.]

[Patricia Shannon]

Black Saint J
If the fiscal crisis was caused by banks being forced to make sub-prime loans, then all banks would be in the same trouble, and there would be none left to buy the others.

[anne]

The after cost yearly return for the S&P index since September 1976 has been 10.30%, while the return for long-term investment grade bonds since July 1973 has been 7.92%. The stock return corresponds well to 30 year earnings of about 7%, a dividend of about 3% and a modest increase in price-earning ratio to this point. *

* https://personal.vanguard.com/us/funds/vanguard/all?sort=name&sortorder=asc#hist::upperTB=perfTBI|lowerTB=avgAnnTBI

[Arlean Guerrero]

While I am quite willing to throw large rocks at HP, the legislators are worse because they gave HP too much money and too much power. The congressman who noted that Paulson had pulled off the second best bait and switch in the last ten years is correct; George Bush wins first place for the Iraq war.

When I say my prayers tonight I will pray for a new secretary of the treasury who has never worked on Wall Street and for all US banks to become small enough to fail.

In the meantime I will brush-up on my bartering skills as we skip merrily toward the depression that is coming.

[zero]

Patricia Shannon says...
How soon before the Republicans start blaming the fiscal crisis on Obama? Maybe we could start a betting pool on it

Patricia - please watch Fox - Sean Hannity was calling the stock market crash the "Obama Effect" or some such effect so you are too late

[calmo]

You B so right Arlean.
..specially the skipping part.
Now about the merrily aspect: does it have anything to do with ...dc's (cryptic yes?) question to anne about ignoring Gravity?
Ok, last ting: what do you have to barter?
Over.

[dd]

All prior analysis is irrelevant. OTC derivatives must be factored; not due to "value" but ability to undermine confidence. Today's news reveals:

Berkshire's Credit Risk Soars on $37 Billion Bet
The cost of protecting against default by Warren Buffett's AAA rated Berkshire Hathaway Inc. has almost tripled in two months, a sign of just how skittish investors have become amid the global financial crisis.

The cost to protect against Berkshire being unable to meet its debt payments, based on credit-default swaps, is more than four times that of rival insurer Travelers Cos. At those levels, the swaps are typical of companies rated Baa3 by Moody's Investors Service, one level above junk. The price may have risen on concern that the billionaire's firm could lose a $37 billion bet on world stock market values more than a decade from now.

``That's just so stupid,'' said Mohnish Pabrai, head of Pabrai Investment Funds and a Berkshire shareholder. The swap buyers are projecting ``present circumstances into infinity'' and concluding Buffett's bet will cost the company $40 billion, Pabrai said. ``It will never happen,'' he said.

For the swaps to pay off, Berkshire would have to exhaust its $33.4 billion cash hoard, and Buffett's decades-long record as the world's most successful investor would have to come to a cataclysmic end. President-elect Barack Obama seeks him out for advice and the world's biggest firms, including Goldman Sachs Group Inc. and General Electric Co., turned to Berkshire for capital and the prestige that comes with Buffett's backing.

Buyers of default protection are being charged 1.45 percentage points more for Berkshire swaps than for insurance against Allstate Corp. Allstate last month had its credit grade cut by Fitch Ratings after hurricane claims and declines in its investments caused a $923 million third-quarter loss. Berkshire has remained profitable amid the worst financial crisis since the Great Depression, and wouldn't pay out on its stock market bets, if it lost them, until at least 2019.

Unlikely Target

``If you were going to start picking companies that are going to default, you probably wouldn't put Berkshire at the top of the list, so it's totally unexpected to see them there,'' said Jeff Matthews, author of ``Pilgrimage to Warren Buffett's Omaha'' and founder of Greenwich, Connecticut-based hedge fund Ram Partners LP. Of the swaps, he said: ``I wouldn't buy them, and yet it's there.''

Standard & Poor's said Buffett's bet on the stock indexes wouldn't cause a liquidity crisis. Berkshire spokeswoman Jackie Wilson said she had passed along requests for comment to Buffett. The stock fell below $100,000 a share for the first time in two years last week and has dropped about 33 percent this year.

Buffett's Bets

The cost of protection on Berkshire debt has jumped to 415 basis points from 140 basis points two months ago, according to CMA Datavision. That translates to $415,000 a year to protect $10 million for five years. The median for companies rated Baa3 was 348 basis points yesterday, according to data from Moody's capital markets research group. Credit-default swaps, used to hedge against losses or to speculate on the ability of companies to repay their debt, rise as investor confidence deteriorates.

The increase may be tied to a series of bets that Buffett has taken on four stock indexes across the globe, including the Standard & Poor's 500 Index, according to Berkshire shareholders. Buffett sold contracts to undisclosed buyers for $4.85 billion that protect the buyers against declines in those markets.

Under the agreements, Berkshire will pay as much as $37 billion if, on specific dates beginning in 2019, the market indexes are below the point where they were when he made the agreements. By Sept. 30, Omaha, Nebraska-based Berkshire had written down the contracts by $6.73 billion as the S&P declined for a fourth straight quarter.

`Greater Gains'

``I believe these contracts, in aggregate, will be profitable,'' Buffett said in a statement in May, reiterating comments from his letter to shareholders in February. ``We are always ready to trade increased volatility in reported earnings in the short run for greater gains in net worth in the long run. That is our philosophy in derivatives as well.''

A total of 2,450 credit-default swaps had been sold on Berkshire as of Nov. 14, protecting a net amount of $4.7 billion, according to data from the Depository Trust & Clearing Corp., which runs a central registry for the derivatives.

Buyers of derivatives typically aren't disclosed, and representatives at 20 potential buyers including insurers and pension funds either didn't know who was involved or declined to respond.

Buyers of the credit-default swap protection on Berkshire may include the companies that stand to gain if Buffett loses on the stock bets, said Matthews. They may be hedging their gains against Berkshire by entering into separate agreements to ensure they recover some funds if Berkshire is unable to pay, he said.

`Mass Destruction'

The increase in perceived credit risk contradicts Buffett's record of building Berkshire over 40 years from a failing textile maker into a $145 billion company with businesses ranging from carpet making to utilities.

Buffett has at times decried derivatives as ``financial weapons of mass destruction'' and criticized their complexity and popularity. Berkshire hasn't disclosed which stock indexes besides the S&P are covered under the contracts or how they're structured.

Berkshire, which typically gets about half its profit from insurance, on Nov. 7 posted its fourth straight quarterly profit drop, the longest streak of declines in more than a decade, on hurricane costs and investment losses. Further declines in debt and equity markets reduced shareholders' equity, a measure of assets minus liabilities, by $9 billion in October, after the third quarter ended, the company said.

Berkshire's stock decline this year compares with a slide of 41 percent in the S&P 500. Berkshire shares rose in 17 of the past 20 years.

Not `Crazy'

Buffett may use the $4.85 billion paid to Berkshire in the derivative deals to buy stock or make acquisitions.

``Shareholders should rejoice that he was able to obtain that capital to invest on such attractive terms for years before the chance comes that he'll have to pay,'' said Tom Russo, a partner at Gardner Russo & Gardner, whose largest holding is Berkshire stock, in an interview this month. Still, he said, the increasing cost of Berkshire credit protection in the swaps market ``isn't crazy in light of the way the markets performed.''

American International Group Inc., the insurer that needed $150 billion from the U.S. government to stay afloat, nearly was forced into bankruptcy by derivatives. As credit rating firms lowered their grades on AIG, the New York-based firm was required to post collateral to show it could meet its obligations to the counterparties who took the opposite side on their bets.

No Collateral Damage

Berkshire may have to post collateral on some derivatives ``under certain circumstances, including a downgrade of its credit rating below specified levels,'' the firm said in a regulatory filing this month. Damien Magarelli, a credit analyst for Standard & Poor's in New York, said the losses are merely an ``accounting loss.''

``They've had no collateral requirements to date and the losses are not viewed by us as a cash loss,'' Magarelli said. ``It is not something that would be creating any type of liquidity issues or near term cash payments.''

Berkshire's AAA rating is the highest available. ``If Berkshire isn't triple A, I'm not sure which company would be,'' Buffett said in May.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aOlI1xoNnrPQ&refer=home

[yaneek smith]

Henry Paulson is nothing but a spokesman for the Wall Street boneheads who got us into this mess. He is the former CEO of Goldman Sachs. There is no reason to believe that he has Main Street's best interests at heart, he is just trying to enrich the wealthy. There is no reason to trust this man. He is helping to run this country into the ground.

[calmo]

Thanks for that largish morsel dd ( but link currently not working for me). At the time of his $5B stock purchase, I thought whether WB might have more than moral support from the key financial figures to enter early rather than late.

[calmo]

yaneek,
What you say (Paulson is former head of GS...so far from Joe the Plumber, not to be trusted...[like that plumber imo].) is true, well-publicized too...so what do you think?

Intimidation?

The spokespeople haven't really come out and said it as bluntly as "Well do you want HarrietSnow back in there?", but the general tenor is "This man is a Professional (a couple of notches above the caliber of his predecessor), and a Pro with a record."

Do you have the same view of pros with records that I do?

This is not an easy ploblem to deal with for me as it keeps sliding from a single appointed bully figure (Hank Paulson the Sec Treas) who has sworn to uphold the public trust like his transparently incompetent, all eyebrows-no-brain predecessor to an industry representation (Hank former CEO of GS) of the actual financial intimidation...currently threatening the rest of us...as you demonstrate.

[José Tomás Oña Madolell]

Is very good...
..........Merry Christmas , Oregon

[Lafayette]

Amazing alacrity

Comment: "...many if not most babyboomers are in for a rough ride b/c we won't be bailed out from our profligate behavior by the stock market..."

And such is well deserved. Profligates must, apparently, learn the hard way.

We wanted to believe that the stock market was a printing press for creating asset value that we could pocket and spend? We wanted to believe that refinancing was another magical way of milking realty asset value for purposes of consumption?

Then we deserve the correction (of mindset) that is being doled out in dollops.

I.e., in the word babyboomers, emphasize the word "baby". Peter Pans supposedly never grow up -- but they are doing so, finally, with amazing alacrity nowadays.

[dd]

Wow, Laf. Most boomers have absolutely no choice or such limited choice and so many negative tax consequences that the money is captured by the uninsured sector of the financial industry that has no reserves to cover failures and few meaningful safeguards. Geithner's solution here said much: "Regulation cannot produce integrity, foresight or judgment in those responsible for managing these institutions. That's up to the boards and shareholders of those institutions." http://www.newyorkfed.org/newsevents/speeches/2008/tfg080609.html
So those boomers captured in mutual funds and pensions are supposed manage the AIG's and Lehman's of the world by complaining to the plan managers?
Ironically, the profligate will have whatever physical assets they've purchased while boomers in retirement are reliant on pieces of paper worth far less than what they paid for them. Look forward to plan managers handing out Lehman bond certificates suitable for framing or the fireplace.

[calmo]

I used to have profligate ways, but now I have seen the light.
No, wait.
That's just a light colored bed-sheet, isn't it?
Izit? ...Izat the real Light?
Izt another bloody bed-sheet!
I knowd it!

The ups and downs of my preparations for the MCAST (Mormon Church Admission Submission Test) my profligate ways, you know?

There is this (grasshopper) disturbing (ok, I could B more disturbable than most...sensitivity not always being a precondition for intelligence...which is why I'm bashing sensitive you with this frypan just in case...) tendency to blame boomers, even bed-sheet wearing ones that don't eat beef.
Yes, maybe especially THEM...who can afford to B spiritual and not merely steak-goblin & beer-drinkin.
But there are some of that age who are not stinkin wealthy nor paunchy, nor bed-sheet wearin...just gum-chewin norbels like us...who sat on their fannies...and watched.

Is there a point to assigning moral responsibility to a segment of the demographic profile...rather than the actual figures who misbehaved?
Absolutely: so that non-boomers (esp X geners) can say it ain't their fault.
But doesn't that merely continue the misbehavior...adopting the offending (immoral...such a senstive word, right? Right?) behavior of placing the blame/guilt at someone else's doorstep?
But apart from the political point?
I want to say this is the point: it's everybody's business to be personally responsible:

[im1dc]

Lafayette says..."Amazing alacrity...Comment: "...many if not most babyboomers are in for a rough ride b/c we won't be bailed out from our profligate behavior by the stock market..."

"And such is well deserved. Profligates must, apparently, learn the hard way."

"I.e., in the word babyboomers, emphasize the word "baby". Peter Pans supposedly never grow up"

Harsh words, but deserved.

[im1dc]

anne says..."The after cost yearly return for the S&P index since September 1976 has been 10.30%, while the return for long-term investment grade bonds since July 1973 has been 7.92%. The stock return corresponds well to 30 year earnings of about 7%, a dividend of about 3% and a modest increase in price-earning ratio to this point."

What will the following do to the Vanguard 30 year earnings analysis sited above and your reliance upon it?

A Sea of Unwanted Imports

By MATT RICHTEL
Published: November 18, 2008

"LONG BEACH, Calif. — Gleaming new Mercedes cars roll one by one out of a huge container ship here and onto a pier. Ordinarily the cars would be loaded on trucks within hours, destined for dealerships around the country. But these are not ordinary times."

link: http://www.nytimes.com/2008/11/19/business/economy/19ports.html

Read the article before responding, please.

Note that three things are happening: Imported cars are being parked at the port (no domestic demand), the outgoing containers are returning to China empty and recycled commodities demand by China is non-existent (no demand from overseas).

[dd]

From Asia Times comes this news:

Japan economists call for 'Obama bonds'
By Kosuke Takahashi

"Faced with the unprecedented growth of the US budget deficit and the prospect of an increasingly weaker dollar compared with the yen reducing the value of Treasury debt held by Japan, economists in Tokyo are calling for the administration of president-elect Barack Obama to issue US Treasuries denominated in yen and other currencies. The issuance of foreign currency-denominated US Treasures would reduce the perceived risk of holding the debt.

The idea of issuing foreign currency-denominated US Treasures is not new. The Jimmy Carter administration, buffeted by the two oil crises of the 1970s, sold "Carter bonds", denominated in German marks and Swiss francs, in 1978 to attract foreign investors into Treasuries.

"The US will be forced to issue foreign currency-denominated US Treasures in its hour of need," said Mizuno. "The US cannot finance its deficit by itself. The US financial system cannot survive without foreign investors. We will see 'Obama Bonds' in the future."

With the US owing increasing amounts to foreign nations, the confidence in US Treasuries continues to be shaken, said Masaaki Kanno, chief economist at JPMorgan Securities Japan Co in Tokyo, said. "This will push up long-term yields, and the dollar will be sold," said Kanno, speaking at the forum in Tokyo on Sunday."
http://www.atimes.com/atimes/Japan/JK19Dh01.html

[anne]

I am not projecting stock returns, only describing how to simply calculate what returns to anticipate over the long-term so that current market valuations can be made sense of. Whether anyone in particular invests based on understanding current valuations and historical norms is of no concern to me, there are superbly successful traders who use different gauges entirely, but I prefer to use the gauges described by a John Bogle or Warren Buffett.

As for the economy, I anticipated minimal growth since January, because of labor market weakness coming on a weak expansion, while the mounting financial market weakness further adding to job losses came to suggest a recession that will be more severe than any we have experienced since 1945. I assume however there will be a recovery if there is a sufficient sustained stimulus program.

[im1dc]

anne...

Let me say that imo Vanguard is one of the best Mutual Fund families and John Bogle is one of the rare people whose opinions I value from that world. I do not disagree with him but I do point out he takes a long term view (multiple decades) based on past performance of the markets.

In support of my view of John Bogle and the current state of the market I linked a recent article where Mr. Bogle discusses his outlook and investing vision along with Warren Buffett.

Note that you and I cannot get the terms Warren Buffett managed to guarantee for $Billion dollar investments from Bershire Hathaway to GE or GoldmanSachs.

And, I suspect although Bogle says stocks are cheap and recommends investing in equities today, with his own cash, he is not 'all in' even though his favorite the Vanguard Index Funds must be.

Are Stocks the Bargain You Think?

By DAVID LEONHARDT
Published: October 28, 2008

"Mr. Bogle discussed his outlook for the stock market in a recent New York Times article."

And here's John Bogle's blog link: http://johncbogle.com/wordpress/
where multiple links to his public comments can be found.

[anne]

The after cost yearly return for the S&P index since September 1976 has been 10.30%, while the return for long-term investment grade bonds since July 1973 has been 7.92%. The 32 year stock return corresponds to earnings of about 6.8% and a dividend of about 3%, along with a modest increase in the price-earning ratio to November 2008. Corporate earnings during the 1980s were actually much below the historical average, while dividends have been relatively low since 1990. The price-earning ratio was relatively low in the beginning, and there is a bear market valuation now.

Looking to 12 months ago, the 31 year stock return would have been about 12%, so that the 6.8% earnings and 3% dividend yield history, or 9.8% return would have been added to by a higher than historical average closing price earning ratio worth about 2.2%.

[im1dc]

More evidence that this time is different and relying upon data based on other time periods is folly, imho.

Chemical Maker Cuts Output Amid Downturn

By DAVID JOLLY
Published: November 19, 2008

"The giant German chemical company, BASF, said Wednesday that it would temporarily halt or slow production at 180 plants around the world as it adjusted to a “massive decline in demand” brought on by the economic turmoil."

http://www.nytimes.com/2008/11/20/business/worldbusiness/20basf.html

[anne]

Though valuations would suggest that stocks are the preferred investment, there is no reason to believe that long or intermediate term interest rates are going to be rising for quite a while, or that the Federal Reserve will not be readily able to limit inflation as the economy recovers, and the yields on investment grade bonds are quite attractive with intermediate term yields after cost at 7.67% for a portfolio of about 5 years duration.

[im1dc]

anne says...

"The after cost yearly return for the S&P index since September 1976 has been 10.30%, while the return for long-term investment grade bonds since July 1973 has been 7.92%."

If what dd posted on November 19, 2008 at 07:54 AM is correct then certain new as yet not issued or existent BONDS will be the investment of choice in this global economic environment, not equities, for at least 10 years.

[anne]

The 3 month Treasury bill is at 0.08%, the 2 year note at 1.16%, showing just how different this time is perceived to be, and bond yields are the more important economic indicator now than stocks.

[reason]

Umm...
some thread hijacking here. But to confuse the issue do those figures allow for survival bias?

[anne]

There is a difference between yields on Treasury and investment grade bonds that has not been found at least since the 1930s, and the yields on investment grade bonds are relatively attractive, but valuation simply tells us that an intermediate investment grade portfolio held through 5 years should return about 7.67% and an investor has to decide whether that is reasonable. The bond return calculation comes from knowing the current yield and duration of the portfolio.

[im1dc]

Analysis on this blog has been in the main related to economic slowing and recession, but what if Deflation is the new new reality with Depression raising its ugly head?

More:

Wall Street Falls on Latest Economic Data.

By THE ASSOCIATED PRESS
Published: November 19, 2008

...skipping

“With the immediate future of the U.S. automotive industry hanging in the balance, there is little wonder that risk aversion has been a notable theme in equity markets today,” said Neil Mellor, an analyst at the Bank of New York Mellon.

Moreover, there are fears that the economy may soon start to exhibit deflationary symptoms. Clues to that could emerge later with the release of October inflation data. Analysts surveyed by Thomson Reuters are looking for retail prices to decline by 0.5 percent in October, reflecting a big drop in gasoline and other energy costs.

“If the recent collapse in global inflation rates is anything to go by, then there is the possibility that today’s U.S. C.P.I. report may serve only to compound talk that a bout of deflation, globally, is not an unrealistic prospect — a situation hardly conducive to greater risk-taking behavior,” said Neil Mellor, an analyst at Bank of New York Mellon.

In Britain, deflation talk was not far away from the discussions at the last rate-setting meeting of the Bank of England.

Minutes to the meeting showed that the nine-member panel considered slashing interest rates by “possibly in excess of 200 basis points” or more than 2 percentage points to make sure that inflation did not undershoot the 2.0 percent inflation target over the medium-term.

Though they opted instead for a 1.50 percentage point cut in the benchmark rate to 3.00 percent, its lowest in 54 years, the minutes have paved the way for another sharp interest rate reduction in December at the next meeting."

http://www.nytimes.com/2008/11/20/business/economy/20markets.html

My point in all this is that few of us know what might be coming b/c we have never experienced anything like this in our lifetimes and relying upon the last 30 years of market and economy data can only distort/confuse/jumble/contort our view of what is happening today.

[anne]

Survival bias, or principle risk, in a diversified well rated investment grade bond portfolio should be a minimal concern. Survival bias in the S&P index is also a minimal issue as the index is continually changing as the mix of successful and unsuccessful companies changes, however the bias is less in the total stock market index which Bogle prefers for investment. Companies will fail, though.

[dd]

In the midst of a to quote Greenspan "once in a century crisis" it might be best consider data beyond 30 years and then account for financial innovation that has destabilized equities, debt and credit markets.
On another front, this news:
Texas grand jury indicts Cheney, Gonzales of crime
"The grand jury in Willacy County, in the Rio Grande Valley near the U.S.-Mexico border, said Cheney is "profiteering from depriving human beings of their liberty," according to a copy of the indictment obtained by Reuters.

The indictment cites a "money trail" of Cheney's ownership in prison-related enterprises including the Vanguard Group, which owns an interest in private prisons in south Texas."
http://www.reuters.com/article/topNews/idUSTRE4AI11B20081119

[Julio]

anne,

"...intermediate investment grade portfolio held through 5 years should return..."

Does "investment grade" still have meaning?

[anne]

Julio:

"Does 'investment grade' still have meaning?"

The prime rating companies have records of corporate bond performance through the Depression and since, and though severe societal changes are not directly comparable there should be a reason to have some confidence in historically based ratings especially when the raters are being as careful as now. Corporate bonds fared well through the Depression, and I would expect so from here. The important reason for the interest rate spread between Treasuries and corporates would seem to be a sense among investors that refunding debt is quite hard.

Since I have never known such a bond market, I am learning and guessing.

[anne]

I seldom pay attention stock prices during the trading day, but I noticed that valuations are getting better again, which is scary in a bear market but nonetheless valuations are getting better than they were which is what bear market allow for scariness notwithstanding.

[anne]

Scary, I know, but what's needed is a bear song.

http://www.machaon.ru/pooh/contents.html
http://www.machaon.ru/pooh/chap1.html

1926

Winnie-The-Pooh
By A. A. Milne

...In Which We Are Introduced to Winnie-The-Pooh and Some Bees, and the Stories Begin

We must be practical. The important bee to deceive is the Queen Bee. Can you see which is the Queen Bee from down there?"

"No."

"A pity. Well, now, if you walk up and down with your umbrella, saying, 'Tut-tut, it looks like rain,' I shall do what I can by singing a little Cloud Song, such as a cloud might sing. . . . Go!"

So, while you walked up and down and wondered if it would rain, Winnie-the-Pooh sang this song:

How sweet to be a Cloud
Floating in the Blue!
Every little cloud
Always sings aloud.
"How sweet to be a Cloud
Floating in the Blue!"
It makes him very proud
To be a little cloud.

The bees were still buzzing as suspiciously as ever. Some of them, indeed, left their nests and flew all round the cloud as it began the second verse of this song, and one bee sat down on the nose of the cloud for a moment, and then got up again.

"Christopher--ow!--Robin," called out the cloud.

"Yes?"

"I have just been thinking, and I have come to a very important decision. These are the wrong sort of bees."

"Are they?"

"Quite the wrong sort. So I should think they would make the wrong sort of honey, shouldn't you?"

"Would they?"

"Yes. So I think I shall come down."

"How?" asked you.

Winnie-the-Pooh hadn't thought about this. If he let go of the string, he would fall--bump--and he didn't like the idea of that. So he thought for a long time, and then he said:

"Christopher Robin, you must shoot the balloon with your gun. Have you got your gun?"

"Of course I have," you said. "But if I do that, it will spoil the balloon," you said. But if you don't" said Pooh, "I shall have to let go, and that would spoil me."

When he put it like this, you saw how it was, and you aimed very carefully at the balloon, and fired.

"Ow!" said Pooh.

"Did I miss?" you asked.

"You didn't exactly miss," said Pooh, "but you missed the balloon."

"I'm so sorry," you said, and you fired again, and this time you hit the balloon and the air came slowly out, and Winnie-the-Pooh floated down to the ground.

But his arms were so stiff from holding on to the string of the balloon all that time that they stayed up straight in the air for more than a week, and whenever a fly came and settled on his nose he had to blow it off. And I think--but I am not sure--that that is why he was always called Pooh....