BETWEEN THE HEDGES

Late-Night Headlines
Bloomberg:

- Financial markets have grown too dependent on mathematicians who use models to anticipate price moves and need to start injecting “common sense” into the equation, said Paul Wilmott, a London-based author and quantitative finance instructor. Wilmott has warned that so-called quants who use mathematics to forecast how markets will behave can overlook errors in the models, leading to flawed predictions. In a New York Times column July 28, Wilmott also said so-called high- frequency trading, where hedge funds and other firms use advanced computers to buy and sell thousands of shares a second, threatens to destabilize the market. “There is too much mathematics in this business,” Wilmott, author of “Paul Wilmott on Quantitative Finance,” said in a Bloomberg Radio interview. “I just want people to stop and think for once. People just rush into these things without any thought for what the consequences might be.”

- Saudi Aramco, the state-run oil monopoly, sees little chance of pumping crude from idle fields next year because a recovery in world demand has yet to begin, its chief executive officer said. Saudi Arabia has idled about 4 million barrels a day, or about one third of its crude-oil production capacity, according to the oil ministry. The Dhahran-based company, the biggest exporter of unrefined crude oil, is spending $90 billion to develop new reserves and refineries over five years to 2012. “We’re prepared for the long-haul,” Saudi Aramco CEO Khalid al-Falih said in an interview yesterday in Jeddah, on the Red Sea coast of Saudi Arabia. “We have the excess capacity in case it’s needed but we also have the ability to sustain ourselves with production levels similar to what we see today at prices similar to what we have seen so far.” “I don’t expect a major shift in demand unless we see an acceleration of the economic recovery, which is not yet apparent,” said al-Falih, who took over as Aramco president and CEO from Abdallah Jum’ah in January. As stockpiles grow, traders are paying more than ever in the options market to protect against a possible plunge in crude prices. Gasoil inventories near Europe’s refining hub of Rotterdam reached a record 3.03 million tons on Sept. 10, according to PJK International BV of Oosterhout, the Netherlands. The gap between prices of options betting on a decline and those that would profit from a rise in New York oil widened to a record 10 percentage points, according to five years of data compiled by Banc of America Securities-Merrill Lynch. This year, Aramco’s output capacity reached 12 million barrels a day after it opened the 1.2 million barrel-a-day Khurais field, the 100,000 barrel-a-day Nuayyim field, and expanded Shaybah by 50 percent to 750,000 barrels a day. Saudi Arabia produces another 500,000 from the Neutral Zone it shares with Kuwait.

- Vicis Capital LLC, the $2.9 billion hedge fund started by former Lehman Brothers Holdings Inc. trader John Succo in 2004, barred clients from withdrawing money from its main fund after losses this year. The firm received “higher-than-anticipated” requests for a Sept. 30 distribution from its Vicis Capital Fund, according to a letter sent to clients today and obtained by Bloomberg News. The New York-based hedge fund will resume withdrawals if clients approve a plan to separate hard-to-sell assets into another pool, the letter said. Vicis clients sought to withdraw $550 million at the end of September, after $2.7 billion was returned to them since October, according to a person familiar with the firm. The $2.5 billion Vicis Capital Fund, a volatility hedge fund that makes bets on converging or diverging prices of options and securities, has lost about 12 percent this year through August.

- Refined copper imports by China, the world’s largest consumer of the metal, dropped to 219,731 metric tons in August, customs office data showed. Imports were 292,226 tons in July.

- The link between Canada’s dollar and the Standard & Poor’s 500 Index is breaking down as concern increases that a stronger currency will undermine economic growth, according to CIBC World Markets Inc. The 30-day correlation between the U.S. stock index and the Canadian currency decreased to 0.66 from 0.77 a month ago. A reading of 1 would indicate they move in lockstep. The S&P 500 gained 3.4 percent in August and reached a high for the year last week, while the Canadian dollar fell 1.5 percent versus the U.S. currency in August and increased 1.4 percent in September. “The two have parted ways,” said Krishen Rangasamy, an economist in Toronto at CIBC, in an interview. “The Canadian dollar has remained more or less where it was, while the S&P 500 has taken off.” A breakdown in the correlation between the stock index and many of the U.S. dollar’s most-traded counterparts was “inevitable” because continued appreciation of currencies such as the Canadian currency would choke off economic growth, wrote Rangasamy and CIBC’s chief economist, Avery Shenfeld, in a report today.

- American International Group Inc.’s U.S. rescue package, revised three times in the past year, would be eased again under a proposal being pushed by the leader of the House Oversight and Government Reform Committee. Representative Edolphus Towns may start talks with Treasury Department and Federal Reserve officials about the plan from Maurice “Hank” Greenberg, the former AIG chief executive officer, said a committee aide. Greenberg visited Towns, the New York Democrat who leads the committee, on Sept. 17, according to the staffer, who declined to be identified because the meeting was private. AIG surged 21 percent in New York trading.

Wall Street Journal:

- Facebook Inc. plans to announce a deal with online measurement company Nielsen Co., in a step to address advertisers' frustration with measuring how their ads perform on the social network. Under the partnership, terms of which aren't expected to be disclosed, Facebook advertisers who are also Nielsen customers will be able to measure the impact of the ads they buy on Facebook through polls that Facebook will show its users who have seen the ads.

- Sen. Max Baucus said he would revamp his health-overhaul proposal to ease the financial burden for middle-income Americans and pare back a key tax increase, responding to critics on Capitol Hill who called the measure too harsh. The Senate Finance Committee chairman was seeking to shore up support ahead of meetings by the panel this week to consider amendments to his bill.

- The health bill drafted by Senate Finance Committee Chairman Max Baucus (D., Mont.) would fine families up to $3,800 annually if they don't buy health insurance. In an interview with ABC's "This Week" that aired Sunday, President Barack Obama said he rejected the notion that the fee represents a tax increase.

- While Fed policy was undoubtedly important, it was not the primary cause of the Great Depression or the economy's relapse in 1937. The Smoot-Hawley tariff of June 1930 was the catalyst that got the whole process going. It was the largest single increase in taxes on trade during peacetime and precipitated massive retaliation by foreign governments on U.S. products. Huge federal and state tax increases in 1932 followed the initial decline in the economy thus doubling down on the impact of Smoot-Hawley. There were additional large tax increases in 1936 and 1937 that were the proximate cause of the economy's relapse in 1937.

- Big Wall Street firms such as Deutsche Bank AG and Credit Suisse Group that attracted new hedge-fund clients during the financial crisis are hiring and making selective bets where they expect business to pick up in 2010. They are looking at Asia-based hedge funds and U.S. and European start-ups planning to launch with roughly $100 million to $250 million in assets.

- The Pentagon has told its top commander in Afghanistan to delay submitting his request for additional troops, defense officials say, amid signs that the Obama administration is rethinking its strategy for combating a resurgent Taliban. Gen. Stanley McChrystal, the U.S. commander in Afghanistan, recently completed a classified report asking for significant numbers of new American troops. Military officials familiar with the matter says the report lays out several options, including one that seeks roughly 40,000 reinforcements, which would push the U.S. military presence in Afghanistan to more than 100,000 for the first time. But the commander has been told to delay submitting the troop request to the Pentagon at the direction of Defense Secretary Robert M. Gates and other top civilian officials, according to defense officials.

- Political intimidation has always been part of the current Congress's health-care strategy: "If you're not at the table, you're on the menu" is tattooed on every lobbyist and industry rep in Washington. But Max Baucus's latest bullying tactics are hard to believe by even these standards, as the Senate Finance Chairman has sicced federal regulators on the insurer Humana Inc. for daring to criticize one part of his health bill.

MarketWatch.com:
- Bank of America(BAC) said late Monday that it will pay $425 million to end a big government asset guarantee that was set up earlier this year to help the giant lender close its acquisition of Merrill Lynch.

CNBC.com:
- Lincoln Educational Services Corp.(LINC) said Monday it expects its third-quarter earnings and revenue to exceed an earlier forecast, and announced a shareholder's offering of 4 million shares.

NY Times:

- Tired of the government bailing out banks? Get ready for this: officials may soon ask banks to bail out the government. Senior regulators say they are seriously considering a plan to have the nation’s healthy banks lend billions of dollars to rescue the insurance fund that protects bank depositors. That would enable the fund, which is rapidly running out of money because of a wave of bank failures, to continue to rescue the sickest banks. The plan, strongly supported by bankers and their lobbyists, would be a major reversal of fortune.

Business Week:
- Shrinking Money Supply Dampens Inflation Fears.

CNNMoney.com:

- Technology stocks have outperformed the broader market during the past six months -- and with good reason.

The Business Insider:

- As we wrote this morning, President Obama is looking at a newspaper bailout because he is concerned that blogs will take over the world, which would be a threat to democracy. Now, Scott Reeves at Minyanville, argues that a bailout would have the reverse effect as it would kill the independence of the press by killing its watchdog role. Who wants to read a newspaper that has to kow-tow to the government in order to preserve its tax-free status?

Politico:

- The telephone town hall, a forum that members of Congress insist offers them an opportunity to reach out to more constituents than through traditionaltown halls, is coming under increasing scrutiny from critics who insist that the events are largely rigged and designed to shield skittish lawmakers from facing hostile questioning. While the tele-town hall isn’t exactly a new communications tool, it’s hard not to notice the sudden proliferation of these events at a time when members have struggled to control raucous crowds and deal with the presence of unfriendly, camera-wielding attendees who are eager to post unflattering videos on the Internet.

Dallas Morning News:

- Polozola tells me this year has been one of the best ever for the hedge fund industry, with many funds up 30 percent to 40 percent. In fact, if the gains hold for the remainder of the year, many fund managers will earn performance bonuses, which they didn't last year. Hedge funds typically take 20 percent of the profits as a bonus, but they won't get this until the fund recoups last year's losses. "Most of my client funds are now creeping toward break-even" from last year's losses, Polozola said. Some of the hedge fund trading strategies are so complex they will make your head hurt, but Polozola says most of the funds are doing well by simply buying beaten down stocks like Citigroup, Bank of America and other stocks in the Dow Jones industrial average. Also, they are beginning to dabble again in collateralized mortgage obligations (CMOs) – the product that almost brought down Western Civilization. Polozola says the funds are picking up this stuff for pennies on the dollar. But guess what else the hedgies are up to? You've heard that banks aren't lending much these days. Well, several Dallas hedge funds are stepping up and loaning money to businesses, churches and other hedge funds. The interest rates are just slightly above what the banks charge. "Anybody and everybody who needs to borrow and can't get the money from banks are turning to hedge funds," Polozola said.

Reuters:

- Bank of America failed to meet a Monday deadline to hand lawmakers further details about its acquisition of Merrill Lynch and faces the possibility of new charges from U.S. securities regulators. The standoff with the House oversight committee heightened the chances lawmakers may subpoena the bank and raised the stakes for a Tuesday meeting between a senior bank executive and the committee chairman. Separately, the Securities and Exchange Commission said it could pursue additional charges against Bank of America after a federal judge last week rejected a $33-million settlement between the bank and the regulator.

- Hassan Nemazee, a fund-raiser for Barack Obama, Hillary Clinton and other Democrats, has been indicted for defrauding Bank of America (BAC), HSBC (HBC)

and Citigroup Inc (C) out of more than $290 million in loan proceeds, U.S. prosecutors said on Monday. The announcement follows last month's indictment of

Nemazee, head of a private equity firm and an Iranian American Political Action Committee board member, on one count of defrauding Citigroup's Citibank. The new indictment adds allegations that he defrauded two other banks, Bank of America and HSBC Bank USA, in a similar fashion by falsifying documents and signatures to purportedly show he had hundreds of millions worth of collateral.

The office of the U.S. Attorney in Manhattan and the FBI said he used the proceeds of his scheme to make donations to election campaigns of federal, state and local candidates, donations to political action committees and charities.

Financial Times:

- A growing rift between the US and Europe is overshadowing Tuesday’s United Nations climate change summit in New York, further damping hopes for a breakthrough at the Copenhagen talks in December. Connie Hedegaard, the Danish environment minister, lowered expectations, saying: “Things are looking difficult and too slow, that is the fact.” The downgrading of expectations comes as relations between the US and Europe, which started the year of talks as allies, near breakdown. “So far, we thought the basic problem was the Chinese and the Indians. But now I think the problem appears to lie most clearly with the US,” a European Commission official said. Talks were “not going well”. European officials say the Obama administration lacks focus because its top talent is wrapped up in the all-consuming debate over healthcare.

- Billions of dollars’ worth of the complex securities at the heart of the financial crisis are being liquidated, enabling banks, insurance companies and other investors to clear toxic assets from their books. Market participants say the unwinding is occurring in the market for collateralized debt obligations (CDOs), complex securities backed by the payments on mortgages, corporate loans and other debt. “There has been a significant increase in the amount of CDO liquidations,” said Vishwanath Tirupattur, analyst at Morgan Stanley. “The rally across asset classes has given investors an incentive to liquidate.” The recent rally has been particularly marked for CDOs backed by corporate bonds and loans. Of the more than $500bn of CDOs backed by asset-backed securities sold in the boom years, $350bn have already experienced an “event of default”.

- Patients who fail to pop pills on time could soon benefit from having a chip on their shoulder, under a ground-breaking electronic system being developed by Novartis, the Swiss pharmaceuticals group. The company is testing technology that inserts a tiny microchip into each pill swallowed and sends a reminder to patients by text message if they fail to follow their doctors’ prescriptions.

- Few could argue with Barack Obama last week when the US president said Wall Street owed a debt of gratitude to taxpayers. Some of America’s largest banks would not have survived without the trillions of dollars the government used to shore up the financial sector. Less remarked upon, however, is the personal windfall executives of the bailed-out institutions received as a result of Washington’s largesse. Whether these men received a cash bonus or not in 2008 almost certainly obscures the important larger point: the bail-outs of their banks through the Tarp, through the Federal Deposit Insurance Corporation guarantees of their debt financings and through government-backed securitization programs such as the term asset-backed loan facility, or Talf, provided an essential boost to long-term investor confidence – and their stock prices – at a crucial juncture. This is how each of these men benefited personally from the government bail-outs. The smorgasbord of government programs and initiatives have helped ensure the survival of these institutions by restoring investor confidence, in turn boosting their stock prices and the value of the chief executives’ stock holdings. For instance, Mr Blankfein’s 3.4m shares of Goldman, worth about $168m at one point last year, were worth closer to $623m (€425m, £385m) at Friday’s closing prices. Mr Mack’s 4m Morgan Stanley shares, which were worth as little as $27m, have rebounded to $125m. Mr Dimon’s 11.2m shares of JPMorgan are valued at about $503m these days, up considerably from their recent low of $168m. And Mr Lewis’s 4.7m Bank of America shares, at one point valued at around $15m, are now worth about $83m. These calculations do not reflect the additional increased value of the executives’ stock options and unvested stock awards, which have moved up smartly – at least on paper (they are not tradable) – as a result of the rise in the banks’ stock prices. This is not a trivial matter, although it is barely mentioned. Those who find the observation petty or unfair would do well to ask Dick Fuld, Lehman Brothers’ one-time chief executive, if he would be willing to trade places with any of his former Wall Street brethren. Unlike Mr Blankfein and Mr Mack, he could not win Fed approval to convert Lehman into a bank holding company. We all know there was no government bailout for Lehman. After Lehman filed for bankruptcy a year ago, Mr Fuld’s 10m shares of Lehman plus options – once worth as much as $1bn – were rendered worthless, which seems like the correct price for the stock of a bank that was way overleveraged and took too many foolish risks. “I don’t expect you to feel sorry for me,” Mr Fuld testified in front of Congress last October. And we don’t. But a year later, we still have no good answer as to why the other chief executives were permitted to benefit from the government’s largesse while Mr Fuld could not.

- The rebound of the dollar at the height of last year’s financial crisis was one of the few silver linings for policymakers. Increased risk aversion prompted investors to return to the safety of liquid US Treasuries, averting a collapse of America’s currency. This year the greenback has weakened again as risk-seeking US investors have bought higher-yielding foreign assets. This dollar weakness should be benign, and the currency is likely to strengthen if investor bullishness eases. But a collapse of the dollar would have grave consequences for the world economy. Already officials at the Bank of Canada and the Reserve Bank of New Zealand are warning about developments in the currency markets. This month G20 policymakers should discuss exchange rates when they meet in Pittsburgh. For most of this decade, the world economy has been able to accommodate sliding currencies as global growth has boomed. But in the credit crunch world, a super-weak dollar risks exporting deflation across the globe. In the rich G7 economies, official interest rates are very low, central banks are printing money and finance ministries are running big fiscal deficits. This leaves policymakers with little scope to deal with a sudden appreciation of their currencies against the dollar. In the worst-case scenario, a rout of the greenback could tip some G7 countries into liquidity traps where extremely loose monetary and fiscal policies are unable to prise their economies out of deflation. It is only a short step from debt and depression to governments resorting to protectionism. To avoid this ruinous path, the G7 should be prepared to act in the currency markets should the dollar plunge unexpectedly. Over the last three decades there have been five bouts of co-ordinated intervention in the major currencies. Four of these five episodes were ultimately successful in changing the trend of the currency markets.

- Hedge funds are losing their clout in financial markets, according to new research. After a year of painful investor redemptions, sharply reduced leverage available from banks and economic uncertainty, hedge funds now exert a far smaller pressure on prices than they once did. They currently account for just 12 per cent of average volume in the $33,500bn US fixed income market, compared with nearly a third in 2007, according to research by US consultancy Greenwich Associates. A 40 per cent decline in hedge funds’ trading volume since last year alone has resulted in a “dramatic reduction in hedge funds’ overall presence in the US market,” says Greenwich, which based its findings on a poll of more than 1000 institutional investors. US equity markets, too, have seen hedge funds pull back. “Hedge funds still have a long way to go before they are able to recover funding and exert the necessary influence on markets, and this is relevant across different market sectors,” said research analysts at UBS in a note to clients on Monday. Whereas leverage of about five times was not uncommon for the average fixed income strategy in 2007, hedge funds are now investing with a maximum of two times leverage, or more often, none at all, according to prime brokers. Greenwich data shows that the hedge fund pullback has been particularly acute in the US government bond market. Whereas hedge funds accounted for 29 per cent of total trading volume in the market in 2007, they now make up only about 5 per cent.

- Remember the summer of 2007, and the onset of the Credit Crunch, when all the equity quantitative strategies fell over? Well, it appears to be happening again.

TimesOnline:

- Regulators around the world will be handed new powers to limit the share of profits that banks can spend on bonuses under a compromise deal to be tabled in Pittsburgh this week at the G20 meeting of leaders of the largest economies.

Late Buy/Sell Recommendations
Citigroup:

- Upgraded (M) to Buy, target $30.

- Reiterated Buy on (LNCR), Added to Top Picks Live list, target $45.

BMO Capital Markets:

- Rated (ARUN) Outperform, target $12.

- Rated (NVTL) Outperform, target $8.

Night Trading
Asian Indices are -.25% to +.75% on average.

Asia Ex-Japan Inv Grade CDS Index 114.0 -2.50 basis points.
S&P 500 futures +.17%.
NASDAQ 100 futures +.27%.

Morning Preview

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Earnings of Note
Company/EPS Estimate
- (PRGS)/.39

- (FDS)/.74

- (CCL)/1.18

- (KMX)/.18

- (CAG)/.34

- (AIR)/.25

- (FUL)/.36

Economic Releases

10:00 am EST

- The House Price Index for July is estimated to rise .5% versus a .5% gain in June.

Upcoming Splits
- (UTHR) 2-for-1

Other Potential Market Movers
- The Richmond Fed Manufacturing Index, weekly retail sales reports, TAF results, 2-year Treasury note auction, ABC consumer confidence reading, API energy inventory report, CIBC Institutional Investor Conference, Bank of America Smid Cap Conference, (LOW) analyst meeting, (BRCD) analyst meeting, (BEXP) analyst conference, (UFI) Investor Meeting, RBC Financial Institutions Conference, UBS Global Life Sciences Conference and the Bank of America Power/Gas Leaders Conference could also impact trading today.

BOTTOM LINE: Asian indices are mostly higher, boosted by technology and industrial shares in the region. I expect US equities to open mixed and to rally into the afternoon, finishing modestly higher. The Portfolio is 100% net long heading into the day.

BETWEEN THE HEDGES

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Tuesday, September 22, 2009

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Monday, September 21, 2009

Tuesday Watch

Stocks Finish Slightly Lower, Weighed Down by Commodity, Construction, Homebuilding and REIT Shares