Startling Hubris, A Sector to Short, The Return of John Thain and More!

by Addison Wiggin & Ian Mathias

  • Shocking hubris: Geithner says U.S. will “never” lose AAA rating
  • Rob Parenteau calls for 10-15% equity correction… within one quarter
  • Dan Amoss with “one of the best short selling opportunities” for 2010
  • Plus, Wall Street insanity… the sudden and significant return of John Thain


  Today’s 5 begins with breathtaking hubris: Will the U.S. lose its AAA credit rating?

“Absolutely not,” Treasury Secretary Geithner told ABC last night. “That will never happen to this country.”

Never? Heh, right.

That stinks of Fukuyama’s End of History, which Addison and Bill teased in Financial Reckoning Day. The moment we suggest a “final form” of anything — a government for Fukuyama, a fiat money for Geithner — our fate has been sealed. Nothing lasts forever, Tim… c’mon.

  It’s easy to talk up the ol’ greenback today. The dollar index has been on a nearly nonstop rally since the beginning of December, rising from 74 to 80 this morning, just off a seven-month high.

  The stronger dollar is putting extra pressure on stocks. After some steep sell-offs last week, the Dow and S&P are down about 4% so far in 2010.

  “I believe equity markets (and riskier assets in general) are in the midst of a 10–15% correction,” writes our macro man Rob Parenteau, “that plays out within one quarter, which is normal, not at the onset of the next financial avalanche, which lasts many quarters.

“There was never any question that the extraordinary policy maneuvers of 2009 would begin to be unwound in 2010. But the culmination of events in Europe, China and the United States over the last two months have brought this all to a head very early on in 2010. Profit taking after large, sustained bull runs is a natural reaction of investors to a bout of increasing uncertainty and higher risk recognition.

“On the U.S. equity side, the Institute for Supply Management (ISM) manufacturing index has a history of tracking the year-over-year rate of change of the S&P 500. Over the past three decades, a reading on the ISM above 45 has been associated with positive capital gains on the S&P 500. A reading above 50 (like last week’s 58.4) has been associated with equity market gains above the long-term historical nominal average of 10–12%.

“For this to be the onset of the next avalanche in equity prices, we would need to see the ISM composite index falling like a rock from its January high. That outcome seems unlikely with inventory rebuilding just beginning to kick into gear and leading economic indicators still on the rise.”

  The bond market agrees with Rob’s call for correction: The spread on yields of corporate debt versus government bonds has been widening for three straight weeks, the longest run in a year. According to Bloomberg data, that spread is now 169bps, the widest since November 2009.

  Sounds like a good time to hedge your bets: “Some of the best short-selling opportunities may be in the hotel REIT subsector,” the intrepid Dan Amoss wrote in The Daily Reckoning.

”It’s not a stretch to expect the hotel business will be ugly for a long time. Corporate and leisure travel is in the midst of a depression. And leveraged hotel owners built or acquired too many hotels near the peak of the commercial real estate bubble.

“Now many hotel owners are desperate to generate cash in order to pay down debt and retain titles to properties. Some are slashing nightly room rates below break-even levels…but the industry still needs to make more progress on downsizing, slashing operating costs, shrinking mortgage sizes and lowering room rates to match demand. Until it does, the industry’s returns on capital will not consistently exceed its cost of capital.

“Hotel REITs are highly sensitive to perceptions about the near-term health of the hotel business. Trends in occupancy and room rates shape perceptions about earnings. Hotel REITs own portfolios of hotels and outsource the management to companies like Marriott for a fee.

“Because of the relatively fixed costs of paying management companies a fee for operating hotels, Hotel REITs operate with high operating leverage: A 20-30% decline in revenues can translate into a 50-75% decline in operating income. Also, unlike offices or retail REITs with sticky long-term leases, the cash flow for hotel REITs adjusts quickly to changing conditions on a day-by-day basis.

“Over the past nine months, hotel REITs have soared on the perception that corporate and leisure travel will rebound strongly in 2010 and 2011. Analysts have forecast a sharp rebound in earnings.

“But I’m not buying it. In fact, I’m selling it.”


If you too are bold enough to bet against the recovery, Dan’s got a pick for you he says “could deliver 250% by September.” Learn about it here.

  Commodities found some footing this morning after last week’s fall. Gold is up about $15 from its 2010 low, now at $1,070. Oil is finding some support around $71 a barrel.

  Next, a hypothetical situation for you… stick with us: Picture you’re on the board of CIT Group — the huge commercial and consumer finance company that just emerged from bankruptcy. (For a CIT refresher look here.) Your company has a credibility problem on all fronts. It just wasted $2.3 billion in taxpayer bailout bucks: $3 billion in a bad debt-to-equity deal with bondholders, billions more in lost shareholder equity and $71 billion in lost assets during the bankruptcy. Your judgment was awful during the credit crisis… too much leverage, too many subprime investments and too much reliance on easy credit.

So now, fresh out of bankruptcy, you need a white knight CEO. You need an untouchable pillar of virtue… who’s it going to be?

John Freaking Thain… are you serious? CIT announced today that Thain will be its new CEO. This is the same John Thain who took over Merrill Lynch, gave himself and his team huge salaries, spent $1.2 million in bailout bucks redecorating his executive suite, drove Mother Merrill into the ground, lied about its assets in order to sneak in a weekend takeover by Bank of America and then got fired when the chickens came home to roost.

This time last year the New York attorney general was investigating Thain for fraud. Now Thain’s the leader of what was once the biggest small business lender in North America. But hey, he used to work for Goldman Sachs… he must know what he’s doing.

  Thain has his work cut out for him: Consumer credit fell for the 11th straight month in December, the Fed announced late Friday. Total borrowing (this does not include mortgages) fell $1.8 billion, to a still massive $2.45 trillion total debt outstanding. The most interesting detail: Nonrevolving credit, like auto and student loans, actually rose by $6.8 billion. It was the large $8.5 billion reduction in mostly credit card debt that caused the monthly decline.

  “I suppose many people feel they are entitled to ‘strategically default’ on their mortgages,” a reader writes, “because of ‘the mess at the top of government, tax cheats in high offices, unsavory business practices by financial institutions, etc.,’ and so goes the moral deficit of our country. Justification is easy; honor, morality and responsibility are much more challenging. These people who justify this behavior are the ones who wanted to buy more than they could afford with money they only ‘hoped’ to ever earn. We, America, have been bankrupt of all desirable attributes for many years; our finances are just now catching up.”

  “As a bankruptcy attorney of 32 years,” another writes, “I have watched several booms and busts. This is the worst I have ever seen things for the average consumer…

“What you call a strategic foreclosure I call common sense. Why should Joe Average give up the money it takes to feed his family or put his kids through school just to satisfy the corporate greed of the banks? I vote for Joe Average.

“Most of the people I see have to file bankruptcy because they did everything they could to pay their mortgages, including borrowing from relatives, signature loans and the bank greed machines we refer to as credit cards.

“I can assure you that the people who see me are not flakes. They are hardworking people who lost some of all their income and used their credit to keep afloat while they awaited the return of the good times promised by the crooks in Washington who caused this mess.

“I think it is time to quit bashing the people who walk away just like the bank would in like circumstances.


“I suggest the individual who was bashing this choice take a real look at where they would be if they lost their job. Most likely, it would be in my office.”


Ian Mathias

The 5 Min. Forecast

P.S. Addison sends his regards from under several feet of snow. “Snowpocalypse” has overcome our humble mid-Atlantic infrastructure, as you likely know. This editor is lucky enough to live in an apartment building with an underground garage and a relatively well-financed crew of shovelers and salt spreaders. Addison, in short, does not. “We managed to shovel out our driveway here in Mount Washington,” he wrote to me this morning. “It took two days. But now we’ve gotta figure out how to clear the alleyway. We advanced only two feet yesterday in the alley with the truck before we got high centered on snow. Deep stuff.

“Luckily, the kids don’t have school today. Heh. Our power was out for two days this weekend, too. You’d think we were in New England.”

It’s a shame, actually… Addison has some interesting data to report. Bill Meyer asked him on a radio interview last week exactly what percentage of government spending made up our big GDP growth comeback in the fourth quarter. He promised Bill he’d look into it and set the record straight. We were just about ready to spill the beans… until SNOWMAGEDDON! Stay tuned…

P.P.S. In case you haven’t heard, we’re currently giving out two-month trials of Dan Amoss’ Strategic Short Report. Given the return of volatility and the recent market sell-offs, it’s a no-brainer to this editor… NOW is the time to get some downside protection. Start your trial today, right here.



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