No Load Fund/ETF Tracker updated through 2/21/2008

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My latest No Load Fund/ETF Tracker has been posted at:

Despite a bearish bias, the major indexes staged a last minute rally to end up positive for the week.

Our Trend Tracking Index (TTI) for domestic funds/ETFs remained -0.56% below its long-term trend line (red), in bearish territory.

The international index dropped to -6.84% below its own trend line, keeping us in a sell mode for that arena as well.

For more details, and the latest market commentary, as well as the updated No load Fund/ETF StatSheet, please see the above link.

Changing Allegiances

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It was just a matter of time before it happened. With many big banks being stuck in the Subprime mess by taking large losses, and others being involved with lawsuits alleging unsuitable investments to municipalities which, after the collection of huge upfront fees, collapsed in value, private clients finally took notice.

The article “Ripe for the poaching” had this to say:

Credit Suisse, UBS, Merrill Lynch, and Citigroup, among other financial behemoths, are taking massive losses due to fallout in the credit markets. Credits Suisse Tuesday announced a write-down of nearly $3 billion that wiped a cool billion dollars from its profits.

Billions of dollars more have disappeared from the balance sheets of its conglomerate competitors, as we’ve seen and read about for months now. Meanwhile, high-end “Davids” that cater to the wealthy via small yet sophisticated firms are enjoying new business as high-net-worth individuals flee the “Goliaths” and land at their doors.

Private Banker International headlines: “Geneva private banking boutiques are back.” Fearful that banking losses will affect their positions and portfolios, high-net-worth individuals are moving assets to smaller firms that have largely avoided the subprime business because they aren’t involved in all the aspects — investment banking, trading, money management — the multinational players are. Private banking clients typically have $5 million or more in liquid assets.

To be sure, some larger banks have avoided the mortgage mess and are basking in the black of their financial statements.

Credit Suisse was also part of this group poised to capitalize on the woes of its rivals until its announcement of losses. Indeed, the Swiss bank had said it was staffing up, planning to add up to 1,000 new private bankers to its wealth-management groups. It had cited its strong balance sheet as a sign of success to potential new clients.

Hence the danger of dealing with wealth-management factories. According to Russ Alan Prince and Hannah Shaw Grove, two wealth-industry experts, the No. 1 thing that high-net-worth individuals demand from their institutions is communication. Then, in terms of importance, they want trust. If big banks can’t offer these two attributes to clients then they’re in for an additional falloff in business.

[Emphasis added]

Read that last paragraph again. Isn’t communication and trust the most important aspect for anyone dealing with a banker or an investment management firm? I would add integrity to that list, however, given many published articles that seems to have moved way down the totem pole of values in favor of the almighty dollar. I guess the old axiom “you reap what you sow” still holds true.

Downgrades May Cost Billions

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In a follow up to yesterday’s post regarding bond insurers. CNN Money reports that any downgrades may cost banks billions in increased reserves:

Downgrades of bond insurers could require banks and securities firms to increase reserves by between $7 billion and $10 billion, rating agency Moody’s Investors Service estimated on Tuesday.

If trouble in the so-called monoline business gets even worse, banks may have to set aside $20 billion to $30 billion to boost reserves covering counterparty risks, the agency added.

Several banks hedged holdings of complex mortgage-related securities known as collateralized debt obligations (CDOs) by buying guarantees from bond insurers such as Ambac Financial (ABK), MBIA Inc. (MBI) and FGIC.

But FGIC has lost its crucial AAA rating and its two larger rivals are in danger of losing theirs too. If that happens, the guarantees they sold to banks will probably be worth less and these counterparties may have to write down the value of their hedges.

About 20 banks and securities firms have roughly $120 billion worth of hedges with financial guarantors on CDOs that contain asset-backed securities, Moody’s said on Tuesday.

“We are currently evaluating these individual exposures to assess how institutions can absorb the additional counterparty reserves that might be required if one or more financial guarantors were downgraded,” the agency said in a statement.

Hmm, that last paragraph made me think about the responsibility ratings agencies have towards the public. Should they not act strictly on facts as the basis for downgrades rather than assessing what the impact might be and how institutions might be financially equipped to handle it?

This would be like saying that a real estate appraiser should consider the adverse impact on a seller’s finances if the appraisal comes in low. In my view, an honest “call it like it is” approach is preferable no matter what the consequences. Otherwise, where’s the integrity?

Breaking Up Is Hard To Do

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In the latest saga of bond insurers’ problem, Bloomberg reports that “Bond Insurer Split May Trigger Lawsuits:”

Regulators’ plans to break up bond insurers into “good” businesses covering municipal debt and “bad” businesses liable to subprime-related losses may trigger “years of litigation,” Bank of America Corp. analysts said.

New York Insurance Department Superintendent Eric Dinallo and New York Governor Eliot Spitzer said last week that insurers may need to be divided if they can’t raise enough capital to compensate for losses on subprime-mortgage guarantees. FGIC Corp., the fourth-largest of the so-called monoline insurers, asked to be split on Feb. 15 after Moody’s Investors Service cut the Stamford, Connecticut-based company’s top Aaa ranking.

“It is the equivalent of going to a casino and trying to keep only the winning bets,” said Tim Mercer, chief investment officer at Hong Kong-based hedge fund Musashi Capital Ltd. “This would be a straightforward case of fraudulent conveyance and everyone involved would be liable for damages from deprived creditors.”

FGIC, owned by Blackstone Group LP and PMI Group Inc., insures about $314 billion of debt, including $220 billion in municipal bonds. The company said last week it applied for a license from New York state insurance regulators to create a standalone municipal company and separate the unit that guarantees subprime-mortgage bonds and related securities that led to rating downgrades.

New York-based Ambac Financial Group Inc., the second- largest bond insurer, may also seek a split, the Wall Street Journal reported today, citing a person familiar with the situation.

Not being an attorney, I certainly can’t comment on the legalities of such a break up. However, it sounds like a desperate attempt to keep a sinking ship afloat. I agree that a split would create a ‘good’ company and a ‘bad’ one.

It would appear that years of legal entanglement will be a sure thing, so why prolong the inevitable? If a company can not do business based on its model, has made grave mistakes or the model has become flawed, a natural conclusion might be that it should become road kill.

Have We Reached Bottom?

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Based on the amount of reader e-mails I have received, I am amazed about how many investors are in hot pursuit of trying to pick a bottom in certain beaten down ETFs. Others are using an assortment of analysts and TV gurus to confirm their uncontrollable desires to enter the market and, hopefully, pick a declining investment (a loser) on the theory that once they made the purchase the downtrend is sure to reverse.

From my viewpoint as a trend tracker, both of those approaches, buying losers and listening to analysts, have no merit whatsoever. To make this more understandable, maybe I need to inject some sense of humor by quoting someone who has an opinion on the subject. Back in 2002, humorist Dave Barry said the following:

Enron stock was rated as “Can’t Miss” until it became clear that the company was in desperate trouble, at which point analysts lowered the rating to “Sure Thing.” Only when Enron went completely under did a few bold analysts demote its stock to the lowest possible Wall Street analyst rating, “Hot Buy.”

There is a lesson in this and it is this: Don’t go long when the trend is down and don’t enter into short positions when the trend is up. It’s not difficult yet so hard to do for many who are itching to do something—anything.

Next time, the desire to act tries to overcome your rational judgment, keep in mind that the safest strategy in this uncertain environment is to stand aside and wait for better conditions.

Sunday Musings: It’s Not About You

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No matter where you look, and which online news service you scan, you are bombarded with stats about the declining housing market and the daily increase in the number of homes entering foreclosure. It’s not only happening in the bubble states (California, Nevada, Arizona, Florida) but nationwide as well.

Calculated Risk featured an update story on the subject in Georgia, while Mish over at Global Economic Trend Analysis reviewed Maryland, Virginia and D.C. housing issues.

No doubt, you have heard about the major efforts by banks and mortgage companies with the blessing of the U.S. government to freeze the foreclosure process for 30 days and/or renegotiate acceptable loan terms with individual borrowers. With some 2.4 million mortgages resetting over the next couple of years, this amounts to a Herculean effort.

If you have gotten the impression that the main purpose of this mission is to rescue homeowners, then you are mistaken. Yes, some borrowers will be helped, many will not. The main purpose is to rescue the banks/lenders from drowning in foreclosed properties. Anytime a lender takes back a home in today’s market, it’s a losing proposition.

Let’s take a simplified example in which I am the lender and you are the borrower. Let’s assume that I made a loan on your home a few years ago for $400k. Your home is currently worth only $300k, which means you are unable to refinance or sell without adding any cash of your own. Note, that this loan was made as a ‘qualified’ loan and not of the Subprime variety but that you are facing a resetting of the adjustable payment.

As many homeowners in this situation, walking away sounds like a plausible solution as you recognize that your choices are limited. You contact me to inform me to ask as to where to send the key to the home as you will be vacating.

Since I have just taken back a few other houses, I don’t really want to end up with another headache. Right now, your loan is an income producing asset on my balance sheet. If you stop payments, this turns into a liability for me, since I borrowed the original funds from an investor to whom I am obligated for the term of the loan.

My goal now is to find out what you can afford to pay and get you to keep on paying it. The old payment was comfortable and you might like my proposal of keeping that intact by me giving you a 2-year extension. What’s the benefit to you other than that you get to remain in the house? None, really, but look at what I as the lender gained:

1. I am still collecting a payment, although lower, on an overvalued asset

2. I don’t have to foreclose, which takes at least 120 days, during which I would not receive payments

3. Once I own the property, I will have to aggressively market it to hopefully sell it at $300k

4. If I finally sell it at $300k, I will have selling expenses of some $23k, netting me only $277k

5. During the marketing and escrow period, I will not collect any interest payments either

6. When all is said and done, my original $400k loan returns to me some $277k at best not counting lost interest payments and fix up costs

As you can see from this small example, negotiating with borrowers to keep them paying on an over inflated asset will do nothing for them, but will do everything for me as the lender.

If you think all these re-negotiation efforts are about helping you as the borrower, think again. It’s not about you; it’s about saving lending institutions that will have to write down assets so fast when considering REOs (Real Estate Owned) in huge numbers, that the liability column on their balance sheets may grow to be larger than the asset side. That, of course, would mean another bank bites the dust.

Even if you extend the same loan terms to troubled borrowers by 2 years, or freeze foreclosure proceedings by 30 days, it will only delay not solve the moment of reckoning.

From my point of view, there are only 2 solutions to this problem. Bring back the garbage loans with low initial payments or give every borrower in distress a $100k/year raise. Yeah right, either one of those are likely to happen.