Archives

                 BEST OF DOUG NOLAND

Trading conditions across the spectrum of markets are as chaotic as I’ve ever witnessed, a dislocation chiefly related to the now forced unwinds of speculative positions. Recent extreme global market volatility is part and parcel to the Heightened Monetary Disorder I have been addressing for months now. The Massive Global Pool of Speculative Finance has Run Amuck. The bulls will celebrate the rally, yet markets this unstable are prone to "melt-ups" that lead to breakdowns.

Earnings reports this week from Freddie Mac, Fannie Mae and AIG – three of our largest financial institutions – were horrendous. Financial sector hemorrhaging has actually accelerated, and definitely do not underestimate the impact of tightened Credit in the pipeline from Fannie, Freddie and others. With limited "capital" quickly evaporating, Freddie stated that its aggressive retained portfolio growth has come a conclusion. Fannie intimated about the same. Fannie will curtail purchases of alt-A loans, and it is clear that both companies have lost the capacity to provide the speculators a "backstop bid" in the MBS marketplace. This major additional tightening of mortgage Credit Availability and Marketplace Liquidity will further depress housing markets and bolster the headwinds buffeting our vulnerable economy.

Yet it is not the nature of dislocated markets to let fundamentals get in the way of price movement. Markets, after all, live on fear and greed. Sinking energy prices and a short squeeze ignited U.S. stocks this week. And surging stock prices always entice the optimistic viewpoint, with many viewing runs in stocks and the dollar as confirmation that the worst of the financial and economic crisis is behind us. The bursting of the so-called Energy/Commodities Bubble is also viewed in positive light.

Yet if the key dynamic is instead a Bursting Leveraged Speculating Community Bubble, entirely different dynamics are now in play. Enormous short positions have built up, the vast majority as part of "market neutral," "quant" and myriad risk hedging strategies. If today’s dislocation develops into a significant unwind of these positions, the market immediately then becomes vulnerable to a disorderly "melt-up" followed almost inevitably by a sharp reversal and disorderly decline. The unwind of bearish speculations and hedges would be a most problematic market development, unleashing a final bout of speculative excess and disorder that would set the stage for a major market crisis.

It is not difficult to envision the backdrop for problematic market liquidation and deepening financial crisis. The hedge fund community is now susceptible to huge year-end redemptions, generally poor performance, shrinking assets & tighter Credit - all taking place in ia climate of inhospitable market conditions which dictate ongoing Credit system de-leveraging. The pool of players willing and able to acquire U.S. risk assets is being depleted by the week. To be sure, the unfolding change of fortunes for the leveraged speculating community is one more key facet of tighter system Credit and faltering Marketplace Liquidity – extremely problematic Financial Conditions for the finance-driven U.S. Bubble Economy. And this makes the current market dislocations in the face of rapidly deteriorating fundamentals such a dangerous development.

Doug Noland is a market strategist at Prudent Bear Funds. Their website is www.prudentbear.com.