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Central Banks React

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Central banks across the globe injected billions into the banking systems early Friday, hoping to boost liquidity and stem concerns about the stability of financial markets. In Asia, central banks might also have hoped to impede the rise of the yen and other Asian currencies against currencies such as the euro and the U.S. dollar.

Articles and CNBC commentators noted that this was the first time that central banks had acted in such a concerted effort since soon after the 9/11 terrorist attacks. The LONDON TIMES reported that the ECB's injections this week have exceeded those made after the 9/11 attacks. That LONDON TIMES article noted that central banks had collectively injected $120 billion of extra liquidity into the financial markets, but the number may have risen even higher after that article was published online. Our central bank added liquidity at least three times today, for example.

Friday, the European Central Bank added another 61 billion euros, worth about $84 billion dollars, after Thursday's 95 billion. The Bank of Japan reportedly added 1 trillion yen into money markets during the overnight session Friday. Central banks in Canada, Hong Kong and Australia also reportedly injected liquidity into their banking systems.

Our Federal Reserve announced this morning that it was "providing liquidity to facilitate the orderly functioning of financial markets." Our Fed first added $19 billion in addition to Thursday's $24 billion addition. Even that wasn't enough for European market watchers who had hoped to see our Fed inject more since dollars were desperately needed, but their hopes were to be somewhat met by the afternoon. By that time, the Fed had injected funds two more times, bringing its total injection for the day up to $38 billion at the last count that I saw. As a CNBC commentator noted, it was only with the third injection that the Fed was able to meet its goal for injecting the funds.

What was that goal? Those injections were made necessary by overnight lending rates that were jumping above the various governments' target rates. As the LONDON TIMES article noted, the globe's banks reported difficulties securing financing for the corporate loans they have on their books and they needed help from their central banks. Dollars and euros were especially needed.

In a press release published on its site (http://www.federalreserve.gov) early Friday morning and released near the cash market open, the Federal Reserve promised that it would utilize its open market operations "to facilitate the orderly functioning of financial markets." The stated goal was to "promote trading in the federal funds markets at rates close to the Federal Open Market Committee's target rate of 5-1/4 percent." Dislocations in credit and money markets could cause depository institutions to "experience unusual funding needs," the Federal Reserve further noted.

Initially, the reassurances and actual monies being offered by our central banks and others exacerbated concerns, however, especially amidst a Chapter 11 bankruptcy filing by HomeBanc Corp. (HMBN) and an SEC filing by Countrywide Financial (CFC) that detailed significant threats to the company's balance sheet. Articles specifying the additions made by the globe's central banks also detailed the strong demand for that money, with demand for funds "far exceeding supply," according to that Dow Jones article published online early Friday morning.

Rumors about the need for our FOMC to hold an emergency meeting to lower rates again circulated, as they had late last week and at various times during the week. A Merrill Lynch strategist was quoted in a MarketWatch.com article early Friday morning as saying that such a meeting would be needed within a week.

Would get-me-out-at-any-cost hysteria rein or would some of that money be put to work buying equities or at least staunching the bleeding? All held their breath as the cash market open approached Friday morning. We were about to find out, and find out in a day that would produce phenomenal volume, in excess of 10,000,000 shares traded. Although my sources for volume figures have produced sketchy numbers lately, I compared volume numbers to those provided by the NYSE and Nasdaq, which reported 5,236,859,000 and 3,104,953,600, respectively. With AMEX volume added in, that 10,000,000+ figure looks accurate.


Analysts such as one who mentioned the "beginning" of a credit crunch, as quoted in a Dow Jones article, and those that affirmed that the ECB and other central banks would probably need to add liquidity next week also heightened the worry. Equities headed sharply lower at the open. If conditions haven't improved by next week, it will be necessary for our Fed and other central banks to continue injecting liquidity as this week's tenders come due and need to be rolled over again. Further injections are needed in that case just to maintain the status quo and wouldn't necessarily imply worsening conditions, however reassuring that might be.

Countrywide Financial (CFC), our largest U.S. home lender, added to that early morning worry, however. In a filing that was part of the company's regular quarterly financial report with the SEC, CFC revealed that the company foresees a serious threat to its financial condition and earnings due to the problems in the U.S. mortgage market. Jim and Keene have both previously discussed the repackaging of loans by U.S. lenders to resell, and it's CFC's inability to resell those loans that's of particular concern. Current conditions dictate that the company must now retain more of those loans than it's selling.

Reassurances about CFC were offered by analysts at Merrill Lynch, noting that CFC's management talent and financial strength would ensure that the company would pull through this difficult time. The firm claimed that when CFC disclosed just last Monday that the company intended to buy a small lender's retail branches, that disclosure proved that neither CFC's management nor its financial means had been overwhelmed by the current conditions.

However, others not speaking for CFC apparently remembered that just last week French bank BNP Paribas assured investors that its exposure to the U.S. subprime problems was negligible. That was just days before the company was telling the world this week that its exposure was negatively impacting it and forcing it to stop withdrawals from three of its funds, since it couldn't accurately value them. The risks BNP Paribas (BNPQY) faced due to the U.S. mortgage market was amplified Friday when Atlanta-based HomeBanc Corp. (HMBN) filed for Chapter 11 bankruptcy. BNPQY is one of HMBN's creditors, as is Commerzbank AG (CRZBY).

CFC was driven lower during pre-market trading, and the revelation added to the early morning concern, even while MER analysts were commenting that the pre-market downturn in the stock was an overreaction. MER analysts were advocating buying on weakness. Apparently some did, as CFC never hit the 8/06 low and closed well off Friday's $24.71 low, closing at $27.86. Volume was strong, although not quite as strong as it had been as CFC was sinking into that 8/06 low.

The credit crunch impacted companies in other ways. According to a LONDON TIMES article, Fortis, the bank that plans to buy ABN Amro, has admitted that it may have to delay selling bonds needed to finance the takeover. An AP article quoted Fortis' chief executive as saying that he was "very confident" that the deal could be made, with Fortis' bid one of two competing bids for ABN Amro. Jim Brown has been warning for some time in his weekend Wraps that M&A deals would be impacted by the credit crunch, and that's playing out to some degree. The problem is that no one knows to what degree these M&A deals will be affected.


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News that the SEC was diligently searching the books of Wall Street's investment banks, including the largest and supposedly most stable, for hidden losses from subprime mortgages and collateralized-debt obligations (CDOs) also increased the fear. The search, reported by Reuters, involved a topic discussed on these pages by other writers: the way that mortgage-backed assets are valued. According to that article, the books of GS and MER will be among those scoured for hidden losses. As has been discussed by people more experienced than I am, those assets can be assigned a book value, but once the holder is forced to sell them, especially in the current illiquid environment, a market value is assigned that might be quite different and much lower than the book value. The SEC wants to see if hedge funds are reporting their losses accurately to investors.

Although this news was reported Friday, some industry spokespersons say that such SEC study is routine. Indeed, the SEC had already announced in late June that it was scrutinizing a number of CDOs. The information today was more volatile, however, in a climate that includes confessions or actual fund closures by the likes of Bear Stearns, UBS AG and BNP Paribas. In addition, CNBC reported during the middle of the day that the respected Renaissance hedge fund was telling investors that it had lost 8.7 percent in August. Earlier in the day, a commentator on CNBC was wondering out loud whether funds would report losses before they measured 10 percent or so, at which point they would be morally obligated to do so.

These aren't fly-by-night organizations with names we scarcely recognize, but instead are names recognized and respected by the world's citizens. What's safe, mom and pop investor were asking on Friday, with moms and pops all over the world doing the asking. Central banks worked behind the scenes and analysts worked in front of the camera assuring those moms and pops that the world's economies were not, indeed, falling apart. Still, rumors continued to circulate that a big hedge fund was being forced to liquidate positions, so little comfort could be obtained during earliest trading.

The concern doesn't stop with these institutions, either, as market watchers speculate and come to wildly different conclusions about the exposure of Japanese banks to the subprime difficulties. These institutions, among the largest in the world, have variously been characterized as probably too stodgy to delve into the mortgage-backed asset vehicles and perhaps too dodgy to admit their exposure if they had. A LONDON TIMES article quotes a Deutsche Bank analyst who notes that the language Japanese banks are using to describe their exposure is reminiscent of that they used during the 2001-2003 banking crisis is Japan, while other interviewed analysts asserted that the Japanese banks were in a far better position to ride out the difficulties caused by the subprime problem than were European and U.S. financial institutions.

It sounds dire, doesn't it? Comparisons with 9/11, 1998 and other crises didn't help. Let's look at charts and see what they're telling us, if anything, and whether matters as seen on the charts are really that dire.


The SPX's chart was not particularly dire although it's not offering many comforts, either.

Annotated Daily Chart of the SPX:

A strong spring off support, such as today's, is typically a sign of short-term bullishness, but short-term bullishness was short-term indeed when a similar spring was produced on 8/01. Consider that when deciding on how bullish this spring and the resultant doji at support might be.

As noted on the chart, I believe that prices may chop around, hopefully with the amplifications of each wave tamping down somewhat until a recognizable triangle or flag is formed. We can then watch for a breakout or breakdown, being always cognizant until then that markets look and feel vulnerable now, and any strong push through this tentative support level being established could wipe out confidence and prompt a rout.

Right now, however, all we have is a chop zone with nothing recognizable to guide us. Shortest-term (early Monday) sentiment may, with emphasis on "may," be bullish, but that sentiment won't last through a single press conference by a large hedge fund or bank or central bank that damages sentiment.

If short-term bullish sentiment survives through to Monday morning and if indices climb, protect short-term bullish profits at each red trendline and especially at the influential (for the SPX) aqua-colored 72-ema.

I haven't shown the RSI on this chart as there's just too much else to show. Because so much happened Friday and so many charts need to be included, this article will already be far longer than is optimal. However, RSI has been climbing as prices churn. That's not usually a bullish sign, so that information should be factored into other conclusions.

Annotated Daily Chart of the Dow:

The Dow also sprang off support, although "support" appears to be hanging in space or along a megaphone support line in this chart. When looking at a daily nested Keltner chart, which I'm not including here in the interests of keeping this article no longer than is necessary, the support becomes more obvious. Currently that support is at about 13,181.40 on daily closes, with next support below that near 12,990-13,026 on daily closes. The Dow punched down toward that lower support and closed above the stronger daily support. The danger is if the Dow begins producing daily closes beneath the line currently at about 13,181.40. For those who want to watch the changes in this dynamic Keltner line, it is the 120-ema. Some might prefer to watch the band between the 100- and 130-ema's.

It should be noted that the Dow's shape is anything but bullish. It's forming a head-and-shoulder shape at the top of its climb. I don't believe that these formations are trustworthy any longer, but it should be noted that daily closes beneath the 120-ema that I've mentioned would constitute a confirmation of the head-and-shoulder formation. While I might not trust these head-and-shoulders formations any longer, I certainly do watch them for the information they can give us about bullishness or bearishness.

Annotated Daily Chart of the Nasdaq:

Annotated Daily Chart of the SOX:

The Russell 2000 also performed rather well on Friday, managing a relatively sedate trading day. The 200-sma and -ema's continue to provide resistance, so the trading can not yet be considered bullish, but "sedate" almost substitutes for bullish these days, doesn't it?

Annotated Daily Chart of the RUT:

If, as Jim Brown has long noted, the fate of the small caps helps us measure how willing market participants and funds are to step into the riskier instruments, the chart of the USD/yen helps us predict or corroborate that tendency. The RUT followed the USD/yen pair lower, falling to and through 200-sma as it did and predicting the 200-sma tests to occur on other indices.

Annotated Daily Chart of the USD/yen:

I would have been more alarmed by Friday's actions, even early Friday, if the USD/yen pair had dropped significantly lower. I would have been more comforted if it had closed above its 10-sma. Neither happened.

Friday's and Last Week's Developments

Friday featured the release of July's Import and Export Prices at 8:30. Petroleum-related costs drove import costs higher by 1.5 percent for the month, the sixth straight month that import costs have risen. I don't need to tell subscribers that this is not good news, especially with all the calls for an emergency rate reduction by the Fed, a Fed that's put all on notice that it's still watching for inflationary pressures. Import prices, ex-oil, rose 0.2 percent, up from the prior 0.1 percent. Export prices, ex-agricultural products, were flat.

That release was followed by July's Treasury Budget at 2:00. The Treasury Department reported that both receipts and outlays for July hit record numbers, with the monthly deficit amounting to $36.3 billion. This was roughly in line with expectations, edging just lower than the expected $37.0 billion. For the first ten months of this fiscal year, the federal deficit has mounted to $157 billion, with last year's deficit at $248 billion for the year.

None of these Friday releases was expected to be market moving unless the trade balance was deemed to be so far from expectations that it impacted GDP estimates. That didn't appear to happen.

If rising crude costs pushed the import prices higher, the sharp decline in crude costs during the week ameliorated some of the concerns that rising crude costs would contribute inflationary pressures. With the hurricane season not yet producing hurricanes that harmed production and with the credit crunch instead producing fears that demand will weaken, crude and some other commodities weakened along with equities earlier in the week. Keene Little has been predicting this effect.

I don't want to delve too deeply into the energy complex, as Jim Brown provides the expert analysis in his Leaps and other columns, but I did want to note that on Friday, the International Energy Agency reiterated its estimates of demand for oil for this year and 2008. Although the IEA revised lower its estimates for China and the former Soviet Union, the organization noted a strong increase in demand from Japan that offset the weakening demand in the other areas. Slowing U.S. demand did cause the IEA to trim its estimate for the fourth quarter of this year by 100,000 barrels a day, but estimates for overall demand for 2008 remained essentially the same.

The week had been light on economic releases or events other than the FOMC meeting. Did our Fed get it wrong at that meeting? By Thursday, when central banks across the globe injected money into the system to maintain liquidity, pundits already questioned whether our FOMC had missed an important opportunity at that meeting and whether other countries' central banks were wrong, too. Various pundits called for an emergency meeting here in the U.S. to cut rates, and some pointed to action in the Fed fund rates or to the Fed's injections of cash as signs that such an emergency meeting was needed or would occur. Some claimed that the FOMC's bias should have been shifted more toward neutral at least, with stronger acknowledgement of the risks due to the subprime meltdown.

Some asked how Japan could move to a tightening bias if the central bank was busy flooding the markets with yen late in the week. How could the ECB inject money to support liquidity on the same day that it was employing language that typically signaled a near-term rate hike, as happened Thursday? A Merrill Lynch analyst was telling his clients late Thursday that our Federal Reserve might be required to cut rates in an emergency inter-meeting move within a week, before the September 18 FOMC meeting. According to an AP article this afternoon, the president of Yardeni Research was saying the same thing, as presumably many others are doing.

Others, such as Merrill Lynch's David Rosenberg, warned in a Dow Jones article this morning that the Fed's injections of funds this week did not signal that they would move to ease rates. Added to his voice were others who claim that a rate cut wouldn't be effective anyway. These included economists at JP Morgan Chase and JVB Financial, according to a MarketWatch.com article. In the Market Monitor, the live portion of our site, Keene Little on Friday compared such action to pushing against a string, and those economists quoted in the MarketWatch.com article appeared to agree. If the problem is in determining a correct price for mortgage-backed assets, how would easing help, JVB Financial's chief economist questioned.

Other economists and analysts noted other times that such lowering of rates had helped. They pointed to such action in crises that they deem similar, such as during the implosion of Long-Term Capital Management, a hedge fund that imploded during the 1998 Russian debt crisis. Whether or not the Fed heeds increasing cries to lower rates or whether such action ultimately helps, if it does occur, a few analysts at least gave the Fed credit for being responsive to the current crisis when they injected funds Friday. Those analysts felt that the Fed had not ignored the crisis while keeping their focus entirely on inflation concerns, as some were afraid they might do.

Next Week's Economic and Earnings Releases

If this week's slate of releases was tame, next week's will be anything but tame. Tuesday's I; Wednesday's CPI, NY Empire State Index and Industrial Production; and Thursday's Housing Starts, Building Permits and Philly Fed Survey all could impact trading. In particular, most consider the CPI one of the most important inflation gauges, and the FOMC reminded us this week that it remains vigilant, watching for increasing inflation pressures.

EcEconomic Releases for Next Week:

Earnings reports from the majors begin to slow next week. Tuesday features reports from MAT, HD, UBS and WMT. Thursday, BEAS, HPQ, KSS and JWN report.

WWe probably have more to fear from rumors or hard news of other hedge-fund or bank problems or deal failures than from a reporting company. Perhaps UBS, because of its already mentioned connection, has the potential to roil markets.

What about Monday and the Rest of Next Week?

Thursday, I wrote about "spooky action at a distance," a term that Einstein used to describe his objection to some of the implications of the quantum theory that he helped usher into being. I noted then that we were seeing some "spooky action at a distance" of our own, with what was done or not done by the world's global banks immediately impacting what happened at a distance: namely, in our equity markets. If anything, Friday heightened that impression. Many people expressed the belief that, without those infusions of cash by our central banks, the carnage on Friday would have been extensive.

Is that true? Let's take a breath and look at what charts were showing us Thursday afternoon, via a 15-minute Keltner chart that I posted in Thursday evening's Wrap. I'm going to include it as it was set up Thursday, complete with the original annotations, so please do note that the prices here are not accurate as of Friday's close.

AAnnotated 15-Minute Minute Chart of the SPX:

Obviously, the 1449 area did not prompt a bounce, with the SPX gapping down into that zone and diving from there. But did the eltner target and likely support factor into Friday's trading, trading? Let's look at an updated chart. I'll leave the arrow but change the annotations.

AAnnotated 15-Minute Chart of the SPX:

Either all that collective knowledge reputedly reflected in charts already knew that the globe's central banks were going to step in Friday and support markets or else markets were generally just doing their thing anyway, falling to a technical target that had been set and then bouncing from it. eltner targets serve as both targets and likely support or resistance, depending whether they're downside or upside channel lines.

What comes next for earliest trading on Monday morning? I wish I could tell you, but this time, charts are unclear. Unlike Thursday evening, no new target has been set on the SPX or on many other charts. Resistance appeared to hold again on the SPX's second test, which normally suggests that at least a slight pullback is needed to gather energy for another test. In addition, the lower black channel line still slants lower, indicating that support is not yet firming, as prices sometimes slide down a descending-lower Keltner line. However, RSI (not shown) had not yet risen into an extreme level, indicating that the current upward push could still have a little "uumph" left.

It's uncertain, unclear, but as the chart notes, those who hope for stabilization would like to see any pullback stop at the black channel line.

AAnnotated 15-Minute Chart of the Dow:

Annotated 15-Minute Chart of the Nasdaq:

Annotated 15-Minute Chart of the Russell 2000:

I'm not an economist. I consider myself a financial writer, one with a bent toward technical analysis. When writing this article, I must be considered only a reporter. Analyzing the effectiveness of a rate cut, ernanke's effectiveness in his stiffest test yet as our Fed head or the exposure that Japan's banks, among the biggest in the world, have to the credit mess is beyond my capabilities. I defer to the charts, and they're telling me that the volatility could likely continue until we know more. If what we find out is damaging, the volatility will likely resolve with a downside move. If we can weather the further damaging announcements that will surely occur, the markets may churn out support levels that lead to tentative buying at least. I don't think direction is resolved yet, but it could be at any time if the news is negative enough. As painful as it is to endure the current chop, it's my opinion that the best scenario would be to continue to chop out a support zone until it's well formed, perhaps some time from now, and then to break to the upside.

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