MarketView for February 10

 

 

Summary

 

Stock prices were sharply lower on Tuesday, bank shares feeling the brunt of investor dissatisfaction with Wall Street, fed by concerns that a reworked plan to shore up the financial sector may not be enough to thaw credit markets and alleviate the deepening recession. As a result, the Dow Jones industrial average posted its largest one-day loss since December 1. Losses the proceeded to accelerate after Treasury Secretary Timothy Geithner delivered the Administration’s interpretation of the a financial rescue plan, stating that the plan was to spend up to $2 trillion to clean up bad bank assets and revive consumer lending.

 

However, the Street was sorely disappointed by the lack of detail on how the government will cleanse toxic assets burdening the financial system. All 30 Dow stocks ended deep in the red for the first time since January 20, revealing misgivings about the plan's ability to jump-start the economy. Yet, the Dow is still up 5.9 percent from the November 21 low. The blue chip index is down 1.4 percent for the month and 10.1 percent year-to-date.

 

Federal Reserve Chairman Ben Bernanke offered the market little comfort in testimony to Congress on Tuesday after he said the central bank's liquidity expansion was no "panacea."

 

A government report showing a record drop in wholesale inventories during the month of  December underscored the economy's fragile state, suggesting that the economy contracted more in the fourth quarter than the government initially estimated.

 

Shares of Bank of America fell more than 19 percent to $5.56, while JPMorgan was down 9.8 percent to $24.62 and shares of Citigroup were down 15.2 percent at $3.35.

 

Insurers, which like the banks are burdened by money-losing assets on their books, were another hard-hit sector. Shares of Hartford Financial Services were down 13.2 percent to $13.05 after its credit ratings were cut.

 

Boeing was among the top drags on the Dow as it reiterated the delay in the delivery of its latest jetliner, sending its stock down 6.1 percent to $40.21. McDonald's fell 3 percent to $57.28 and Wal-Mart fell 3.2 percent to $47.72, reflecting concerns over consumer spending. Citigroup cut its earnings estimate and price target on Wal-Mart, expecting pressure on grocers, and Wal-Mart later in the day said it was cutting up to 800 jobs.

 

Geithner’s Plan Receives a Poor Reception

 

Treasury chief Timothy Geithner on Tuesday unveiled a new bank rescue plan that would put $2 trillion to work mopping up bad assets and restoring credit, but Wall Street is not having much of it, disappointed over the scant details provided.

 

Geithner made his case for how the Obama administration plans to handle the roughly $350 billion left in a $700 billion financial bailout fund approved by Congress in October. Geithner said the lack of public confidence in prior rescue efforts had made it all the more difficult to stop "a dangerous dynamic" in which a lack of credit undercuts the economy and leads to more weakness among banks, worsening the recession.

 

"This is very complicated to get it right," he said in an interview on Bloomberg Television. "We are going to try to get it right before we give the details so that we don't add further to uncertainty in these markets."

 

He steered clear of saying whether the administration might have to ask Congress for more money to fix the banks, restore credit and counter recession, but did not rule it out.

 

"We're going to consult with the Congress carefully to try to make sure the world understands that the resources necessary to solve this will be available over time," Geithner told CNBC, adding: "The important thing is that ... we send a basic signal, working with the Congress, that we will do what's necessary to fix this."

 

The lack of details frustrated many. However, Geithner defended his decision to put forward what he called a framework instead of waiting until a detailed proposal was ready.

 

"If we wait and we take the approach that we don't lay that out, ever, until we've solved every problem and every detail, then I think that itself will create greater uncertainty," he said, acknowledging he was "very sensitive" to criticism about the approach.

 

A centerpiece of the renamed "Financial Stability Plan" is a proposal to set up a public-private investment fund, in partnership with the Federal Deposit Insurance Corp, a bank watchdog, and the Federal Reserve. Seeded with public money, it would leverage up to $500 billion -- and possibly as much as $1 trillion -- so that toxic assets can be purged from a weakened banking system.

 

Geithner said that $50 billion in federal rescue funds will be used to try to stem home foreclosures and soften the crushing impact of the deep housing crisis now afflicting the entire economy. The plan would also expand a Fed program aimed at expanding credit card, student, auto and small business lending. The facility will grow from its current $200 billion limit to up to $1 trillion, thanks to a jump in Treasury funding to $100 billion from $20 billion. The lending program would be extended to cover some mortgage-related assets.

 

The Treasury also said it would continue to pump capital into banks, as the former Bush administration did, but Geithner said there will be conditions attached to ensure the money is lent and that top executives heed restraints on their pay. In return for the capital, the government would receive preferred shares in the banks that could convert to common stock.

 

Geithner said it was critically important to restore credit flows in order for a separate $800-billion-plus package of tax cuts and government spending measures to lift the economy.

 

The Treasury is trying to deal with the worst financial crisis since the Great Depression as careless lending fueled a housing boom gone bust, dragging our domestic economy, and much of the rest of the world -- into a deep recession.

 

President Barack Obama said on Monday that cleaning up banks' balance sheets was a priority and did not rule out the possibility that it will take more money than the $700 billion Congress already has approved to complete the job. "We don't know yet whether we're going to need additional money or how much additional money we'll need until we see how successful we are at restoring a level of confidence in the marketplace," Obama said in a news conference.

 

Here Is What Geithner Is Trying To Do

 

Public and Private Partnership

 

This is a new twist on the old "bad bank" idea. Already facing a record budget deficit of at least $1 trillion, the White House is trying to avoid committing too much more taxpayer cash to the rescue. With that in mind, it will seek to attract private money through a combination of government money and guarantees against losses. The Public-Private Investment Fund would be launched at $500 billion, but should ultimately provide up to $1 trillion in financing capacity, the Treasury said. Still, details on how exactly the government would entice private investors to buy distressed assets remained sketchy.

 

Increase the Value of Asset Backed Bonds

 

The Fed is vastly expanding its Term Asset-Backed Securities Loan Facility, known as TALF, to $1 trillion from $200 billion. This measure is essentially aimed at reviving securitization, the process by which bonds backed by consumer loans are sold in the secondary market, creating more liquidity. The concern is that this method has already been proven too opaque to withstand shocks and that these efforts might fall short. They also note that consumer demand is at its weakest in more than a half century, suggesting the availability of credit may not lead to actual spending. "We have agreed to expand this program to target the markets for small business lending, student loans, consumer and auto finance, and commercial mortgages," Geithner said.

 

Cut Off Foreclosures

 

Details were scant on the mortgage front, with Geithner simply saying the Treasury would commit an additional $50 billion to foreclosure prevention. Geithner said foreclosure relief would be aimed at owner-occupied middle-class homes, and that Treasury would announce a more comprehensive plan in the next two weeks. Treasury also reiterated the Federal Reserve's commitment to buying up mortgage and agency debt of fallen government-sponsored enterprises Fannie Mae and Freddie Mac as a way to bring mortgage rates down. This has thus far proven a losing battle as selling in Treasury bonds has pushed up the long-term interest rates on which mortgage costs are pegged.

 

Bernanke Says Fed Easing Strains In System

 

The day did not entirely belong to the Treasury Department; the Fed was also under scrutiny on Tuesday. Federal Reserve believes the extraordinary programs aimed at stabilizing credit and banking have improved market conditions and eased strains despite a drumbeat of negative economic news, Fed Chairman Ben Bernanke said on Tuesday.

 

"We have been encouraged by the responses to these programs," Bernanke said in testimony to the House of Representatives Financial Services Committee.

 

Bernanke defended the Fed's actions to lawmakers who worried that the U.S. central bank had overstepped with lending programs, which have flooded financial markets with money, in an effort to pull the financial sector out of the deepest crisis since the Great Depression.

 

Aggressive responses by the Fed and other central banks to the financial crisis of the last 18 months have helped reduce interbank lending rates internationally and taken some of the steam out of liquidity pressures at the end of 2008, he said.

 

Lawmakers at the hearing expressed concern about the Fed's use of emergency powers and disclosure of information surrounding special lending facilities.

 

"Going forward ... it does not seem healthy to me in our democracy for the amount of power that is now lodged in the Federal Reserve with very few restrictions to continue," Committee Chairman Barney Frank said.

 

Fed officials are considering providing the public with more information about the central bank's balance sheet and lending policies, Bernanke said.

 

The Fed has more than doubled its balance sheet to greater than $1.8 trillion since the middle of last year as it has pumped money into the financial system and propped up failing institutions. Bernanke acknowledged the expansion of the Fed's balance sheet could expose the economy to inflation risks if the central bank fails to withdraw liquidity measures when the economy recovers. Policy-makers were paying close attention in an effort to minimize that risk, he said.

 

"That's one of the chief things we look at, at our (Fed) meetings," Bernanke said in response to questions. "We want to be sure that when the time comes we will be able to tighten appropriately to make sure that inflation does not become a problem," he added.

 

Earlier on Tuesday, the Fed announced it would expand a program aimed at supporting consumer lending to $1 trillion from $200 billion as part of the Obama administration's initiative to rescue the banking sector.

 

Bernanke played down credit risks from the expanded balance sheet, telling the panel that 95 percent of the Fed's lending, worth about $1.9 trillion, is "extremely safe." The remainder of the Fed's lending linked to its propping up of investment bank Bear Stearns and insurer American International Group is "a bit less secure," but not likely to lose money, he added.

 

Bernanke said the Fed has deployed emergency authorities not used since the 1930s to stabilize markets. As the situation improves, the Fed will unwind those programs, he said.

 

The Fed has cut interest rates to near zero to help pull the economy out of deep recession. Bernanke said continued strong actions are necessary to restore confidence.

 

"At this point the reason the banks and the credit markets are frozen is no longer the legacy subprime mortgages and those things; it's more a concern about where the economy is going," he said.