Financial Crisis 101 - 10/28/08

November 12, 2008 2:38:15 PM PST
Talk about getting off the mat. The stock market followed an overseas rally at the open this morning, getting the day off to a 300 point gain. But then the party poopers knocked the door down to spoil things. Oh by the way, the party poopers are us. (note to all English teachers: I know the correct grammar is "party-poopers are we" but it sounds so awkward.) So why are we to blame? Well the market got slammed by the consumer confidence report, and we consumers are responsible for the lowest index since they started to keep records 40 years ago. Consumer confidence dropped to 38.0 in October from 61.4 in September. Economists expected October to come in at 51.5. Wall Street responded just the way you'd think. SELL. Within short order, the Dow lost all the morning's gain, and was trading in negative territory.

But wait. By early afternoon, the Dow was back over 200 points, and it just kept soaring. Before it was all over, the Dow had its second biggest gain ever, 889 points. Investors were hopeful that the two-day meeting of the Fed would result in another cut in interest rates, and every indication is it will. Expectations are the Fed will cut its Fed Funds rate by 50 basis points, from 1.5% to 1.0%. We should hear about that tomorrow. Analysts are also saying that once stocks hit 5-year lows at the close of trading yesterday, investors took the opportunity to jump into the market.

There are other forces at work too. The federal Government began buying commercial paper yesterday, and that's having a positive influence in the markets, and we continue to see credit markets loosen a bit because the Federal Government is flooding the country's nine biggest banks with capital. But it's difficult to explain the behavior of the stock market on any given day because it's reacting to so many things, most of them bad. And then there's the phenomenon of the last minute plunge. Yesterday, it was headed toward the close at about even, and was actually trading with less volatility than has been the norm, when suddenly it shed 200 points. It happened in a convulsive ten minutes.

Why? Well, you'd think somebody would know. But from the blog of David Gaffen at WSJ.com, it doesn't seem anyone does.

"Somebody realized they had to sell and I don't know why, because the market was hanging in there all day and literally with 10 minutes to go, the bottom fell out," says Todd Clark, director of trading, Nollenberger Capital Partners. Other key markets did not show a sudden shift, and as far as news events, the only noteworthy occurrence was the conviction of Alaska's senior senator, Ted Stevens, and convictions of curmudgeonly legislators do not tend to move the markets. (Plus, the news was released at 4 p.m. anyway.) Which leaves the idea of a program-related sale or some kind of unwind, one that dampens investor confidence yet again, because it shows a general aversion to buying. Make what you will of the day's events - a decent report on housing, more banks partaking of the Treasury's Gravy Train Trust - but none were enough to inspire any kind of significant movement in stocks, until the spastic end of the day. "I didn't really see anything specific that stuck out as noteworthy - just sort of mass chaos," says Lance Lewis, fund manager at Lewis Capital Partners.

The election is on everyone's mind, and so it might be an appropriate time to ask, does your battered 401k care who's elected President. Well according to Richard Rahn, who's a Fellow at the Conservative leaning Cato Institute, the answer is not really. But will your 401k be affected by who controls Congress? Absolutely. Rahn has done a quick study, and concludes that over the last 25 years, when the Republicans have controlled both houses of Congress, the stock market rose by an average of 20% per year. When the Democrats controlled both houses, the stock market rose by an average annual rate of 6.9%. When the Democrats controlled one house, and the GOP controlled the other, the market rose by 15.6%. According to Rahn, the numbers reflect reality. Republicans normally push for lower capital gains taxes, lower tax rates on dividends and less burdensome business taxes. Democrats, on the other hand, typically support higher capital gains taxes, and higher business taxes. Rahn points out that Bill Clinton did sign a capital gains tax cut, but only under pressure from a Republican Congress.

So, if you have stock market holdings, should that influence your vote? Well, apparently the party of the President doesn't matter, and some economists say that because this is such an extraordinary, even unprecedented moment in our financial history, Congress doesn't either. From a strictly political point of view, the polls show that a plurality of Americans feel more comfortable with a government shared by both parties. If Obama wins the White House, that looks all but impossible. How that'll affect your 401k is a story that has yet to be written.

Is the financial crisis making us unhappy? Well believe it or not, the Brookings Institution is trying to figure that out. It has come up with a "happiness index" and is currently trying to measure the impact of the economic crisis. The fact is that the U-S happiness index has changed very little since the 1970's even though we've lived thru a period of unequaled economic prosperity. Well, we're still waiting for the latest numbers, although the report does say that the recent economic crisis in Argentina caused a decline in that country's happiness index of 10.7 per cent! As soon as Brookings reports a number, I'll let you know how much happiness you've lost. As for my happiness, we'll see what happens tomorrow night when the Phillies and Rays resume what was one of the most bizarre baseball games any of us has ever seen.

Jim Gardner

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