I woke up this morning wanting to write to you about commodities. Why the big drop, and what does it mean? We’ll get to those important questions. Today, though, some important last-minute news has forced a topic change.
The Bear Stearns deal is in the midst of falling apart. According to The New York Times, JP Morgan is in talks to raise its bid from $2 per share to $10 per share, “in an effort to pacify angry Bear shareholders.” There will, no doubt, be more news out today.
Jamie Dimon, the CEO of JP Morgan Chase, looked like a modern Wall Street titan last week. His bid to scoop up Bear Stearns, and save Wall Street at the same time, was reminiscent of the original John Pierpont Morgan, who saved Wall Street a hundred years ago in the panic of 1907.
Now Mr. Dimon has been reduced to a whining, apologizing mess. Apparently, the deal contract was written too quickly, and some of the language puts JP Morgan in a bad spot. There is a risk that JP Morgan might be forced to guarantee Bear’s trades even if shareholders vote down the deal. That would be very bad news, and gives angry shareholders more leverage than realized.
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A Backpedaling Fed
The Federal Reserve is also hemming and hawing. The details aren’t yet clear, but it seems the $30 billion Fed-provided backstop to the deal is being renegotiated, too. Now that the heat of the moment has passed, that $30 billion sweetener just looks too much like inside baseball -- a taxpayer-funded debacle.
The upshot is that JP Morgan was seen as getting too much of a sweetheart deal for Bear’s assets -- funded by government cash, no less -- and now the arrangement is being reworked in light of public outrage. The whole thing smells like a big “oops, we screwed up here.”
The mess is an embarrassment to JP Morgan. But it is a far bigger embarrassment to the Federal Reserve and the U.S. Treasury (in your editor’s humble opinion).
Hank Paulson, the ex-Goldman Sachs CEO turned Treasury Secretary, was one of the big drivers behind the Bear Stearns buyout. In jamming the deal through quickly, the Fed largely followed Hammerin’ Hank’s lead into uncharted waters. Now that the deal is falling apart, Bernanke and Paulson both look like jerks. They waded brashly into the market, caused a huge ruckus with their unprecedented intervention in a private enterprise matter, and are being forced to beat a hasty retreat.
As a result, the Fed now looks dumb and brash to those who hated the Bear Stearns deal from the start, and incompetent and wishy-washy to those who hoped to see it go through. What’s worse, Wall Street will have a much harder time trusting the Fed or the treasury in future, given how fast the powers that be are now backpedaling. Political risk has just increased, above and beyond the risk of an election year.
Viva la Revolucion?
A new BusinessWeek cover portrays Ben Bernanke in a pose reminiscent of Lenin, branding him “a reluctant revolutionary.”
In the lead piece, titled “The Fed’s Revolution,” they point out that the Bear Stearns buyout, and the Fed’s willingness to lend directly to Wall Street brokers, represent bold steps that have never been taken before.
BusinessWeek goes on to note, “Bernanke is going further than Greenspan ever did in responding to a popping bubble. He has pulled out all the stops, inventing new ways to pump money into a resistant financial system.”
As we can see now, the revolution is going badly.
Under the leadership of the Treasury and the Fed, we are barreling headlong into a murky world of state-sponsored capitalism, with plenty to make people angry on both sides.
Those in favor of free market capitalism are disgusted by the blatant heavy-handedness and incompetence of government involvement. Those in favor of government involvement are disgusted by the juicy favors and sweetheart deals doled out to insiders.
And the public is forced to wonder just who’s getting saved in the first place -- and who’s being allowed to go down the tubes.
Most Volatile in 70 Years
In a not unrelated bit of news, the U.S. stock market is now at its most volatile in 70 years.
According to a study from Standard & Poor’s, violent day-to-day price swings in 2008 are more common than any year prior all the way back to 1938. (Let’s just hope 2009 doesn’t bear any similarity to 1939.)
So will conditions get more or less volatile moving forward? Unfortunately, the bet would have to be on “more.” Uncertainty is on the rise, and a stumbling, bumbling Fed will provide little comfort.
Fear of uncertainty is a universal aspect of human nature, and a large component of leadership is psychological. In regard to markets, investors hate the notion that no one is in control… and thus they take great comfort in the illusion of control. To maintain that illusion, the powers that be have to demonstrate confidence and competence -- even when things are coming apart at the seams.
An so, when the illusion of control is threatened -- by, say, clear evidence that the Fed doesn’t know what it’s doing -- fear increases, and volatility alongside. It’s not pleasant to think that the “revolution” is being put together on the fly by a bunch of keystone cops with no road map.
No Easy Way Through
Ah, volatility. What to do? There is no easy way to get through all this. Money in a mattress is no good. The choices are to play the game and deal with the inevitable volatility, or go to cash and endure the slow ravages of inflation.
Peace of mind is hard to come by. The good news is, it’s not impossible to come by. On a personal level, I have a lot less trouble enduring volatility when it comes to assets I know will stand the test of time. It’s the difference between wondering whether your house will fall down in a violent storm and knowing the foundation is good. You still have to ride out the storm, and your house takes some damage either way. But the quality of that foundation can make all the difference.
The ability to trade as well as invest -- to take advantage of all this volatility, rather than simply get knocked around by it -- is another potential peace-of-mind source. Trading is a challenge in its own right, with mindset and temperament requirements that differ greatly from investing. But again, from a personal perspective, I would much rather walk a hard road myself than be helpless in the face of hardships imposed upon me.
As mentioned earlier, I woke up this morning wanting to tell you about what’s happened to commodities -- why the big drop happened, and what it means.
It has to do with more behind-the-scenes stuff, and a few key factors not many people are talking about. We’ll cover that tomorrow.
Warm Regards,
JL
