Kudlow Congratulates Citi After Catastrophe

On his CNBC TV show today, Larry Kudlow congratulated Citigroup for raising $3 billion in a common stock offering. However, he neglected to mention why Citi needs the money.

Earlier in the day, the Wall Street Journal reported that Citi had two internal hedge funds lose 75% of their value – hundreds of millions of dollars, maybe more.

Even worse, the WSJ reported that Citi pitched the funds to retail investors as ideal for a conservative retirement strategy. And those investors are now suing Citi. Today, Jim Cramer called for an SEC investigation of Citi, while Larry Kudlow complimented Citi.

Note to Kudlow’s loved ones: It’s time for an intervention. Larry can’t be left to run around lose during an election year any more.

Kudlow: “Hurrah for Recession!”

It was absolutely absurd to see Larry Kudlow and Brian Wesbury on Friday popping champaign corks over the fact that GDP for the first quarter might come in barely positive. In 2001, GDP was barely positive at 0.8%. Was that cause for celebration? Was that a catalyst for higher stock prices? I don’t think so.

I have not missed an episode of Kudlow’s show for years; going back to when it was Kudlow & Cramer. And I know perfectly well that Larry’s mantra is “buy stocks for the long run.” So, I know what to expect. But with Friday’s episode, Kudlow has come very close to throwing away his credibility with his hard-core fans. The show was almost a self-parody.

Earlier in the week, Kudlow ranted that the Wall Street Journal was being too negative. You might think that Rupert Murdoch would try to sugar-coat the bad news to give the Republicans a boost, but he has not. Kudos to Murdoch for maintaining credibility amongst his readers.

Now that Kudlow has gone into full-blown political-propaganda mode, people interested in objective economic discussion don’t need to tune in until after the presidential election.

Banks Beg Bernanke for Billions

The Wall Street Journal reported Thursday that commercial banks have increased their begging at the Federal Reserve Bank’s “Discount Window”:

“Average daily borrowings were $10.73 billion, the highest since after the Sept. 11, 2001, terrorist attacks.”

Why did this happen? Because the banks that blew all their depositor’s cash in real-estate speculation can’t get loans from other, more sensible banks to refill their vaults. Actually, they probably could get inter-bank loans, but they would have to pay the Libor rate that bankers use amongst themselves.

Since the Libor rate is now 3.07%, which is 36.4% higher than what the Fed is charging, you now have a stampede to the Fed.

The Fed did not want this. Their plan was to lower interest rates and let the strong banks lend to the stupid banks. But the strong banks aren’t playing ball; they would rather stuff their cash into a mattress than loan it out to fools.

As “Higher Interest Rate Euphoria” breaks out in the financial world, let’s not get confused about what is really happening here. By hinting at a possible end to rate cuts, the Fed is trying to make a virtue of necessity. The market has over-ruled the Fed’s rate cuts, and now the Fed is pretending that that was their idea all along. Any way you slice it, credit is contracting and the economy will continue to suffer for it.

S&P 1400 Breakout Tomorrow?

Could be. The market closed with improved momentum and volume today. And if the dollar keeps moving up (dollar vs. euro chart), the rotation from commodities into financials that surprised everybody today will likely continue.

The last three times the market came up to 1400, it could only hang there for a day or two before falling back. This time, it has been hanging around for five days. So, I think the chances for a breakout are much better this time.

But will it be a false breakout? Maybe. A close above 1400 will be nice, but the S&P 500 will need to close above 1440 or so in the next few days to confirm the breakout. During that time, we will no doubt be getting lots more bad economic news, so a close above 1400 tomorrow won’t be cause for celebration just yet.

Stronger Dollar = Higher Stocks?

The S&P 500 is attempting to break-out again today on a massive rally in the financials. As the G7 talks of a stronger dollar policy, and the Fed hints at a cessation of interest-rate cuts, money is coming out of commodities and looking for a new home.

A lot of that money has gone into financials. Are higher interest rates good for financials? Not a chance. So, you could call this rally “dumb” as Jim Cramer did today. However, if an abnormal amount of money left the financials to go play in commodities and is now simply returning, it might not be so dumb.

The dumb part would be that the idea of higher interest rates will be good for an economy in recession. That’s really dumb, and a higher dollar will hurt one of our only strong sectors: exports.

Maybe we have to take a deeper recession to kill off inflation, but that doesn’t sound like a catalyst for higher stock prices to me.

Vince Farrell Says No Market Break-Out

On Wednesday’s episode of Larry Kudlow’s CNBC show, Vince Farrell said that he thinks the stock market will “consolidate” here. This is important because Kudlow has named the apparent double-bottom on the S&P 500 chart as “The Farrell Bottom”.

I have been betting against a break-out, and now the “inventor” of this double-bottom has joined me. Of course, without a break-out, the double-bottom itself will be called into question and perhaps re-tested.

Cramer Says the Financials Don’t Matter

Four days after I questioned whether or not the S&P 500 could break-out without the participation of the financial sector, Jim Cramer has weighed-in on the subject.

Cramer’s theme for today is that the financials don’t matter any more. That they have shrunk from 20% of the S&P 500 to 11%. Cramer is also proposing that the energy sector may be able to take over leadership, and that $120 oil might be a good thing.

Clearly, Cramer is trying to make lemonade from lemons here. One day, the USA will be a huge producer of green energy technology, perhaps driven by scarce oil. But can this be a market mover right now?

The bull thesis is falling apart fast here. The bulls are counting on the government to save the economy with tax rebates and interest-rate cuts. But now people are going to have to use most of their rebate to pay for higher oil and food prices, and we have had testimony from a Fed Head yesterday saying that the interest-rate cuts are not working.

Now the bulls, led by Jim Cramer, are reduced to saying that soaring oil prices will actually be the catalyst that will drive the market higher here. Seems crazy to me…

Disclosure: I made some money shorting the S&P 500 after Friday’s big rally, but I have no position at all right now. I am 100% in cash.

Fed Head Fisher Agrees with Me on Longer Recession

Three days after I posted about how the Fed’s rate cuts are disappearing into the banking black hole, the Wall Street Journal published on the same subject.

In an interview with Richard Fisher (Dallas Fed President), Fisher said about the Fed’s recent rate cuts:

“It’s really a question of, are we getting the bang for the buck? And clearly we’re not.”

Fisher then went on to discuss how the rate cuts have not improved access to credit for small businesses, which create all the new jobs in the economy. If small, growing businesses can’t get loans, then they can’t expand and create new jobs.

Fisher also agreed with me on the idea of a “Shallow, but Long” recession instead of the current theme of “Short and Shallow.”

You heard it here first!

Bernanke Bullets to Bounce off Bank Balance-Sheet Black Hole?

The stock market seems to be rallying on the idea that Chairman Bernanke’s rate cuts will deliver a quick end to the recession. But you have to wonder if the extra money injected into the financial system will do much good when you consider that bank balance sheets are guaranteed to soak up a huge portion of it.

Banks have simply burned up their cash on real estate speculation. A bank with gigantic losses can’t make new loans – even to people with good credit ratings. Bernanke will loan money to these stupid bankers to make them whole again, but the banks will have to pay interest on those loans. So, even a bailout is no free lunch because the banks will still be in a weakened state. The new money injected will not flow right out into the economy in the form of new loans. If the banks can increase their loans, they will still have to be selective because of the extra interest they have to pay to Bernanke.

How much money will Bernanke have to loan to the bankers before they are whole again? There is probably no way of knowing that yet. For two years now, the bankers have been pretending that everything is just fine while announcing more and more write-downs. They don’t want to fess up, and only do so when forced to.

Suppose you inherit a million dollars from a rich uncle, and deposit it into your savings account. Now imagine that your bank loans it to a real-estate speculator in the form of a “liar loan”. The speculator then buys a million-dollar house, which subsequently falls in value by half.

Half of your money is now gone, but does your bank send you a letter to inform you of the sad fact? No. They act like everything is just fine while they scramble around trying to “acquire new assets.” They need to borrow $500,000 to become solvent again, but it’s a tough sell because they have proven themselves to be poor bankers, and possibly a bad credit risk.

Bernanke would loan your bank the money, but your bank doesn’t want the stigma of having to be bailed out. So the scrambling for loans is still going on as indicated by last week’s jump in the Libor rate. If you can’t read this Wall Street Journal story, the gist of it is that Libor rates have jumped because banks have been lying about the rates they have been paying for loans made to them by other banks.

It’s a stigma to get bailed out by Bernanke, and it is also a stigma to borrow money from another bank at a high rate. The higher the rate that you have to pay, the lower your reputation as a banker goes because it indicates that you are a poor credit risk.

Bernanke has lowered rates to 2.25%, but the Libor rate is now almost 3%. Bernanke wants banks to be able to make loans to each other at 2.25%, but bankers are only willing to loan to their deadbeat brethren at 3%. Bernanke wants rates down, but the market is not co-operating.

A higher Libor means that the recession will last longer. Not only will it cost deadbeat bankers more to get solvent again, but zillions of loans are indexed to Libor – including sub-prime mortgages. The market has revoked 0.75% of the savings that Bernanke has tried to give to sub-prime borrowers due for resets.

Of course, there has never been a case where the Fed’s interest rate cuts have failed to stimulate the economy. However, every recession is different, and this one began with giant holes in bank balance sheets. The stock market rally shows that investors are counting on a short-and-shallow recession, but the Libor jump shows that things are not going according to plan.

Can the Market Rally Without the Financials?

The big rally on Friday took the Dow and the NASDAQ 100 over their February highs, but the S&P 500 did not confirm the breakout. While the financials, the S&P’s largest sector, were up big for the day, they are not showing much sign of breaking out themselves.

Just take a look at the chart of the BKX banking index. The downtrend is still intact. Now look at the chart of the XLF and note the drop-off in volume. The recent rebound is not generating much interest among buyers.

Now take a look at this Wall Street Journal article published today: Financial CEOs See Recession on the Way. In case you can’t see the article, the CEOs expect GDP growth of 0.92% for all of 2008.

So, now we can see why the financials are acting lame: the people in the best position to know have a very negative outlook.

While the market is trying to rally on a short-and-shallow recession theme, it might time to consider a new theme: “Shallow, but Long.”