Yesterday saw a good bump led by the IBM news – “talking heads” quickly latched on as to speculating that the rest of the tech sector will also see “better than expected results”. All the talk of the sub-prime mess and credit crisis was for the most part push to the back-burner. The volatility that I have been speaking of for the last couple of months is not that the market is in for a bearish market – but rather a very JERKY up and down market. Yesterday was a perfect example of that. Furthermore it is a misnomer that a quick drop in the VIX index is reflective of lower volatility, it is not. It is important to remember the VIX is just a measure of premium (weighted towards the At-The-Money ATM) of options in the S&P. When the market rallies the premium usually falls and the market falls the premium usually rises – to derive anything beyond that becomes very subjective. Yesterday the market made a good move to the upside (between 1-2% in the indices) and the VIX lost over 3%. However the market making a huge move to the upside is STILL volatility. That is what we should continue to expect – volatility (including heavy intra-day volatility). As I said at the beginning of the year- this will be the “Year of Volatility”.
Today further extends that example with the futures getting blasted to the downside on the back of Citigroup’s news. More volatility and yes we will see the VIX spike back up. Even the VIX is volatile.
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Citigroup – record losses and more write-downs
We all knew that Citi was going to write-down some more losses and the “guess” ran the range of 10-24 billion. Unlike many of the other firms writing down billions, Citi is in a unique bind since that are more of a conglomerate of financial services from insurance and credit cards to banking and mortgages. Many of these separate divisions in Citi need reserves in order to cover insurance, credit, and other loans (outside of the mortgage area), additionally Citi has stricter Federal Reserve guild lines (unlike a brokerage like Merrill Lynch) – meaning they need more capital to maintain operations not just for the different vertical markets that I pointed out, but also to remain in good standing with the Fed. The problem is the sub-prime problem has spilled over into every different division a Citi and now they are in VERY desperate need of cash to keep current operations solvent and to stay within Fed guidelines – the Sovereign Vultures are circling.
Citigroup posted their biggest loss every (almost a 200 year old company) to the tune of $18 billion, exceeding most analyst expectations. Additionally (as expected – even though the new CEO said it was not going to happen) they cut their dividend over 40% (bringing down the yield from close to 8% to just over 4%). And they announced immediate job cuts of 4,200 jobs (and some analyst are expecting more job cuts from 10,000-20,000 more by the end of the year). They obviously misjudged their losses and problems from the first write-down they did late last year and the new CEO (who had mentioned he had down a fairly in-depth review – is now going back to review it again) – it’s a big company, so it is easy to miss A LOT?
There is more bad news to come and some say there will be a 3rd round of write-downs (at least) before all is said and done. After more in-depth analyst is being done in the housing market – expectations are for another 20-30% increase in foreclosures with housing prices expected to fall by 10-20% more. Citigroup is trying to get as much of the losses put behind them – but the problem is that most of these are write-downs (not sales) meaning that they are continuing to hold those positions. Additionally, there are cracks showing in their other lines of credit (outside of the sub-prime) are showing an increase in defaults.
Citigroup is now on the road show raising overseas money, as you know last year they raised money ($7 billion) from the Abu-Dhabi group (A Middle East Sovereign Fund – that is not very transparent) and now the Singapore Sovereign fund, the Kuwait Investment Authority, Saudi Prince Alwaleed bin Talal (who already owns 4% of the company) are swooping in to take piece of the pie. In the last round invested by Abu-Dhabi – Citi gave up a lot (over 10% guaranteed interest payments) – this time the stakes are higher and the newest round of vultures will expect A LOT more for taking on risk, which has only increased since last year.
Citigroup is looking down between .50-.75 in the pre-market. Many are saying this is the bottom and the worse is over - they may be right. However, if I were to get long Citigroup – I would hedge my positions 100% or instead use options (bull-spreads) to get long, rather than buying the stock. But – I am not getting long. Any upside (if they are right) is going to be a slow with more bad news expected. The road up will be a difficult one.
So far the presidential candidates have kept silent as to the vulture foreign sovereign funds investing in our financial institutions.
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MAC WORLD – “There is something in the air”
The tag line that is on every banner covering the Moscone Center in San Francisco for the opening of MACWORLD says “There is something in the air?” – The CRAZY rumor mills on the internet are going full steam. The euphoric nature of the show (I have been to a couple) is just nuts. Will it be a new iPod, iPhone, iBook, iPlane – who knows. Most of the rumors are centered around an ultra-light laptop – that the internet rumors have dubbed “MacBook Air” – because of the possible addition of the new Wifi format WiMAX and a recharging method via Power-by Induction. All sounds cool! Steve Jobs is great and getting the fans excited and creating more buzz then the presidential elections.
Keep a close eye on AAPL today and Steve Jobs keynote speech – he is pretty good at giving his stock a good upside jolt during MAC WORLD. Expect some volatility. However, someone supposedly has his keynote speech which was being picked apart on the internet – and the bullet points were not that exciting – nothing revolutionary like the iPhone or iPod – it could leave the overhyped expectations flat. It is now riding on how HOT this new MacBook Air really is – if there is a MacBook Air.
Expect fanfare, crazy expectations, and one hell of a great show – AAPL really knows how to turn it up. MACWORLD = AAPL Volatility that is the only thing guaranteed.
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Retail Sales fall unexpected – PPI (Producer Price Index) also falls
Sales dropped .4%, the first decline since June, following a revised 1% gain in November. The futures are taking an additional beat-down with the unexpected drop, after the Citigroup write-downs. Consumer spending is slowing further than initially expected – as economist had forecast a flat retail sales (based on the avg. of 74 estimates). The bond yields are ticking down and US investors are moving towards (supposed) safe-havens.
The Producer Prices also drop in December, while the mean forecast was for an increase. As retail sales drop and even corporations are spending less, economist are pointing to more indications of an oncoming recession.
``Growth stalled out at the end of the fourth quarter and into the new year,'' Joshua Feinman, chief U.S. economist at Deutsche Asset Management in New York, said before the report. ``The economy will narrowly be able to avoid recession.''
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Futures Pre-market
The futures has slowly gave back early gains from late yesterday and are now receiving the one-two punch from Citigroup and now the Retail/PPI numbers all showing that the worse is NOT behind us and that recession odds are increasing. The futures are front-running the cash by 1-5 points (depending on index). I expect we get a little boost on the futures in the pre-open as Arb traders get long the futures and ready to short the basket going into the pre-open. Expect some downward pressure on stocks – which may be exacerbated at the opening and then ease off.
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Support / Resistance
We saw a great rally yesterday to get back to some important markers – but the futures in the pre-market are showing as sell off and it will be important to watch the close.
INDU 12750 / 13000 (We got above 12,750 great – now we need to close above it – the Dow looks to open about 70-100 points lower. It will be hard pressed to get above it)
NDX 1900 / 2000 (We are right in the middle of the range – we got a good rally in the tech sector on the back on IBM – AAPL may get a good pop in the afternoon session when Jobs speaks at MAC WORLD – it’s in San Francisco – so any rally or pop in AAPL will probably come later in the day)
SPX 1400 / 1450 (Still range bound but is getting some volatility this morning. It will have some pressure at the opening – but it needs to close above 1400 to see any support)
RUT 700 / 740 (It looks like we will give up 100% of yesterday’s gains at the opening – whether it continues is anyone’s guess –watch the close)
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Conclusion
The market is still taking blows from the sub-prime mess, which is now spilling into other financial sectors that rely on capital. Additionally, other credit-lines (credit cards) are seeing stress and an increase in late payments and defaults. IBM yesterday pushed these issues to the back-burner only to see them resurface this morning.
The Citigroup news may mark the bottom, if we are to believe this was the worst of it, but again that is what they told us a couple of months ago. The market seems to be taking the news in stride – the initial reaction was to the downside. Add on the retail and PPI numbers indicating more slow-down and the odds of a recession (if you are still keeping score) are increasing. In my view the problem is not if or when we are a recession, it is more about how long will we be. My expectations are not a quick recovery, but for rather a 2-3 year period – since many forces are creating negative economic pressure – it would be different if it was just one sector, but it is not.
Continue to expect huge upside and downside moves. For those that do not hedge your positions – you are playing with a loaded gun. Hopefully you hedged you E-trade, Countrywide, Citigroup, Bear Stearns, GM, and many other stocks and NOT hoped for a bottom. There is no room for hope. Paying a little premium for a put allows you to sleep at night – KNOWING that your investment is insured.
Watch the volatility skew – expect spikes and don’t read to the VIX as the indicator of volatility. Expect intra-day volatility to ramp up!
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