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Generational Dynamics Web Log for 28-Jan-08
Fourth quarter corporate earnings continue to fall as the global credit markets unravel

Web Log - January, 2008

Fourth quarter corporate earnings continue to fall as the global credit markets unravel

Stock market volatility was sky high on Wall Street last week, as a 5% intraday surge on Wednesday wiped out the market losses at other times in the week.

The "fundamentals" continued to go from bad to worse.

Fourth quarter corporate earnings estimates have continued to plummet, though at least they seem finally to be leveling off. Here's the summary from Friday from CNBC Earnings Central:

" As of Friday, January 25th:

160 companies in the S&P 500 have reported earnings for Q4, 59% have beaten estimates, 14% were in-line, and 28% have missed.

The blended earnings growth rate for the S&P 500 in fourth-quarter 2007, combining actual numbers for companies that have reported, and estimates for companies yet to report, fell to -20.5%.

At the start of the quarter, the growth rate for Q4 was 11.5%. (Data provided by Thomson Financial)"

We can now update the table of the changes in fourth-quarter earnings estimates since the beginning of the fourth quarter, as follows:

  Date    4Q Earnings estimate as of that date
  ------- ------------------------------------
  Oct  1:             +11.5%
  Dec  7:              -1.3%
  Dec 14:              -3.8%
  Dec 31:              -6.1%
  Jan  4:              -9.5%
  Jan 11:             -11.3%
  Jan 18:             -19.0%
  Jan 25:             -20.5%

So, at the beginning of 4Q (on October 1), the estimate was that earnings would grow by 11.5%. Today, the estimate is that they'll fall by 20%. After 12 years of bubble earnings, the Law of Mean Reversion is beginning to take hold, and we should expect to see low earnings for years to come.

The news in the credit markets is getting uglier and uglier.

Each Week, Prudent Bear's Doug Nolan posts a Credit Bubble Bulletin, using news stories to provide a lengthy summary of the week's news in the global financial markets. Here are portions of a few of the news stories that he quoted this week (unfortunately, Nolan doesn't give links):

Reuters: A government-brokered rescue plan for U.S. bond insurers of about $15 billion came under fire on Friday, with analysts saying the ailing insurers may need as much as $200 billion to remain viable.

Financial Times: Until a few months ago, "counterparty risk" was something that only worried professional risk managers at major banks. With the world awash with cheap debt, booming asset prices and the lowest default rate in a generation, the possibility that one's trading partners would not honour their financial commitments seemed remote. But recent weeks have seen an unfamiliar item taking chunks out of banks' balance sheets - counterparty risk is back."

Financial Times: The last thing the world's banks needed right now was a rogue trading scandal. ... The revelation ... is likely to undermine further investors' fragile faith in large banks' ability to manage complex trading risks.

Bloomberg: The $230 billion backlog of high-risk, high-yield debt that banks planned to sell has stopped shrinking, and probably will hinder lending to new borrowers, Bank of America Corp.

Bloomberg: The extra yield over benchmark Treasuries that investors demand to own top-rated commercial mortgage-backed securities rose this week by the most ever, according to a Morgan Stanley index.

Bloomberg: American International Group Inc., the world's biggest insurer by assets, will bail out its Nightingale Finance structured investment vehicle, according to Moody's. AIG Financial Products Corp will either buy the SIV's $2.2 billion of senior debt or replace it with loans.

Bloomberg: Banks worldwide may need to raise as much as $143 billion of additional reserves to satisfy regulators if bond insurer rating cuts trigger downgrades for the securities they guarantee, Barclays Capital analysts said. ... The estimates are based on banks’ holdings of the outstanding $820 billion of structured securities covered by bond insurers, the report said.

Bloomberg: U.S. municipal bonds are headed for their first weekly decline this year on concerns the loss of top ratings at two bond insurers will lead more investors to unwind structured trades by selling long-term debt. "Liquidity is out of the market, bidders are pulling away. Without liquidity, you've got a real problem.

Bloomberg (Martin Z. Braun): Yields on some tax-exempt floating-rate bonds have more than doubled in the past week on concern by money-market investors that the credit standing of insurers backing the debt will weaken further.

Financial Times: Municipal borrowers in the US are increasingly issuing bonds without seeking guarantees from beleaguered insurers MBIA and Ambac, highlighting the risks of a collapse of their bond insurance business model unless confidence is restored.

Financial Times: Companies across the globe are putting multibillion-dollar deals on ice as the rout in equity markets makes it almost impossible to put a value on takeover targets. Several big transactions.

Financial Times: So far, most of the rout in the debt markets has been linked to the US subprime mortgage debacle. Increasingly, however, many hedge funds are betting there is far worse to come for the corporate debt market as well. Hedge fund managers and the trading desks of some of the savviest firms on Wall Street are expecting a severe downturn in the corporate debt market. A number of trades have been made on the assumption that, when things go wrong, corporate creditors will receive far less than 100 cents on the dollar, and the more junior their debt, the less they will get back.

The Wall Street Journal: Hybrid securities have in the past been an easy source of capital for cash-strapped financial institutions. But that has all changed. Risk premiums on these securities, sandwiched between bank loans and common stock in a company capital structure, have risen across the board as investors rethink the aggressive terms and conditions under which they lent to these once credit-healthy borrowers.

Bloomberg: U.K. mortgage approvals declined an annual 38% to the lowest in at least a decade in December as higher interest rates discouraged people from buying homes.

San Francisco Chronicle: Foreclosures and default notices skyrocketed to record peaks in California and the Bay Area in the fourth quarter of 2007. Lenders repossessed 31,676 residences in California in the October-November-December period, according to DataQuick. That was a dramatic 421.2% increase from 6,078 in the year-ago quarter. In the Bay Area, foreclosures rose an equally stunning 482.5% to 4,573 in the fourth quarter. "Foreclosure activity is closely tied to a decline in home values," DataQuick President Marshall Prentice said. "It was the most foreclosures since DataQuick began tracking them in 1988 and more than double the previous peak of 15,418 foreclosures in the third quarter of 1996." Mortgage default notices, sent by lenders when homeowners are several months behind on payments, also hit record highs. Statewide, lenders sent 81,550 default notices, up 114.6% from 37,994 in the fourth quarter of 2006. It was the most defaults since DataQuick began tracking them in 1992.

Investors are in a trigger-happy emotional state, and the market has been on a general downward trend since December. If the market continues to fall, it will cause insolvency in a large hedge fund or financial institution, triggering a domino effect that will cause a generational panic and crash.

From the point of view of Generation Dynamics, the market is overdue for a generational panic and crash, although the exact time cannot be prediction. With the stock market overpriced by almost 250% (same as in 1929), we're headed with absolutely certainly for a generational stock market panic and crash, leading to a new 1930s style Great Depression. (28-Jan-08) Permanent Link
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Generational Dynamics Web Log for 28-Jan-08 Fourth quarter corporate earnings continue to fall as the global credit markets unravel

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Generational Dynamics Web Log for 28-Jan-08
Fourth quarter corporate earnings continue to fall as the global credit markets unravel