Rebel Traders – Analysis Without The Hype

MBIA Inc – S&P cuts counter-party credit, financial strength and financial enhancement ratings on MBIA Insurance by 2 notches to BB+ (now junk) from BBB;  Outlook is Negative

- Also, S&P cut the counterparty credit rating for MBIA Inc by 1 notch to BB- from BB
- S&P affirmed its ”A” counter-party credit, financial strength, and financial enhancement ratings on MBIA affiliate National Public Finance Guarantee Corp. (National).
- S&P cites the fact that macroeconomic conditions continue to contribute to losses on the group’’s structured finance products.

The risks of a full blown recession increased greatly this morning with the release of the unemployment data. Most people were expecting a soft number to come in but the data was worse than many expected (no surprise to us however, as we have been predicting the decline for many months).

(United States Unemployment Data: Data source: Moody’s Economy.com)

Shortly before the unemployment data was released the Federal Reserve made a surprise announcement to which they were increasing the "Term Auction Facility", or otherwise known on the street as the ‘taffy’. Originally the ‘taffy’ was for $30 Billion to be made available on March 10th and again on March 24th. Today’s announcement was that they are raising the amount of those auction to $50 Billion dollars each for a total of $100 Billion. It is obvious to us that this is in response to the near complete breakdown in the credit markets yesterday.

The Federal Reserve definition:

The TAF is a credit facility that allows a depository institution to place a bid for an advance from its local Federal Reserve Bank at an interest rate that is determined as the result of an auction. By allowing the Federal Reserve to inject term funds through a broader range of counterparties and against a broader range of collateral than open market operations, this facility could help ensure that liquidity provisions can be disseminated efficiently even when the unsecured interbank markets are under stress.

The Term Auction Facility is a new process created by the Federal Reserve just months ago as the credit crisis was getting worse. It provide a means for financial institutions to essentially make bids on money they wish to borrow from the Federal Reserve. Normally this would have been accomplished through the Federal Reserve’s ‘discount window’, which has served the nation well for many years. But the crisis facing the financial institutions has reached proportions that are historic in nature as losses continue to mount. Recall my post on February 17th 2008 in which we highlighted the amount of ‘non borrowed’ reserves of financial institutions. The ‘TAF’ was introduced by the Federal Reserve as a means to allow the stigma of the financial institutions to be moved aside as the TAF allows banks and other financial institutions to remain anonymous. For if it was made public which banks were borrowing large sums of money it could create a run on the bank.

Today’s announcement that the Federal Reserve is increasing the amount of money that they will auction tells us that financial institutions are going even further in the hole. The fact that the Federal Reserve is increasing the amount of money being auctioned via the TAF should be viewed as a very bad indication on the health of the economy and of financial institutions in this country.

The trading in today’s market was downright bizarre. Some attempts to rally the market made for some wild swings, but in the end each attempt failed. The indices all ended in the red and added to the ‘bear market’ print on the charts. The chart below is the current S&P 500 which shows that we have now firmly closed below the previous closing price from January. This sets the stage for further declines in the future.

(S&P 500 Daily chart)

Also of note is the volatility index (VIX). The volatility index can be analyzed with technical analysis just as any stock chart. The volatility index provides a clear view of the greed / fear levels in the markets. And just like on a stock chart certain patterns reflect trends in the psychology of the market, or stock. In the case of the volatility index we can see that a new upward trend has emerged (rising volatility equals declining market). The chart below was first shown to you on February 29th as we were predicting an increase in volatility would be near as it was about to bounce upwards from the trend line. Today we can see that upward momentum in volatility has been established (see the black circle on the chart).

(Daily Volatility vs S&P 500 chart)

Over the weekend we will have some additional charts and analysis. We are maintaining our short position on the Dow Jones Industrials by utilizing the Ultrashort symbol: DXD. As of the close today we are now up 13.2%.

Thornburg Mortgage (TMA) appears to be near complete failure now. Again, we predicted that there would be mortgage companies that were going to fail as a result of this credit implosion. Don’t be surprised to see CountryWide Financial to be facing margin calls soon.

[TMA] Thornburg Mortgage, Inc Provides warning as a going-concern; Receives notice of default from Natixis Securities – Filing

Also, bond insurer MBIA (MBI) has requested to cut their ties with the ratings agency ‘Fitch Ratings". MBIA claims that they don’t like the ratings they get from Fitch (Fitch has been the only ratings agency to not be pressured to maintain a AAA rating on Ambac or MBIA). So since MBIA does not like their rating they are going to stop paying them to provide their ratings. Instead of working to improve their companies health in order to earn the AAA from Fitch they decide to dump them. This is a joke, I give credit to ‘Fitch Ratings’ for having the courage to "say it like it is". And MBIA, your just a big cry baby who did not get what they wanted.

There will be more over the weekend. I will also discuss some aspects of different technical analysis methods. It will be a busy weekend here at RebelTraders as I have another work session with our web programmers. The work on the new site is continuing and we are very excited to soon be introducing our new site to the world once everything is wrapped up. We know you will enjoy the new site!

In 1984, Wendy’s (a fast food restaurant in the United States) came up with an advertisement that coined the phrase "Where’s the Beef?". The announcement today of the much awaited ‘deal’ to save the bond insurer Ambac (ABK) made everyone say "Where’s the Beef?"

At 12:01pm today trading was halted on Ambac with news pending. With this news, speculation that a bail out plan was finalized and the idea that the entire bond insurer mess would now be ending, the markets went higher in just seconds. It took almost 90 minutes before the market knew the details of the ‘bail out’ plan that had been worked on for many weeks. When the details were released it was a huge disappointment and the markets quickly sold down, losing 120 points on the Dow within 10 minutes.

So what was it that was so disappointing? In order to put this in the proper perspective, we have to rewind the clock a bit. First of all, the bond insurer crisis began many months ago. It accelerated around the beginning of this year as the ratings agencies were threatening to downgrade Ambac and MBIA which, if it happened, would create substantial additional losses throughout the financial sector. Both MBIA and Ambac were under pressure to find additional capital, maintaining enough liquidity to meet the requirements that the ratings agencies claimed was needed to have a AAA rating. Last month news was issued by CNBC reporter, Charlie Gasparino, that Ambac was working on a "plan" to rescue the company.  This involved government officials (NY Governer Elliot Spitzer and NY Insurance Superintendent Mr. Dinallo), sovereign wealth funds, and banks. Over the next 4 weeks or so we would receive updates from the media, mostly Charlie Gasparino of CNBC, that the rescue plan was being worked on…

2/18: Ambac Financial Group, Inc Ambac discussing plan to raise at least $2B in new capital; Plans to sell new shares at a discount to current investors as reported in the WSJ

2/22: Ambac Financial Group, Inc Making significant progress on recapitilization, announcement on possible bailout could come early next week as per CNBCs Charlie Gasparino

2/24: Ambac Financial Group, Inc WSJ says that Ambac inched closer over the weekend to an agreement with a group of bankers on its restructuring plan and effort to raise $3B

2/25: Ambac Financial Group, Inc Deal still likely today or tomorrow; negotiations with rating agencies are final hurdle as per CNBCs Charlie Gasparino.

2/25: (later in the day) Ambac Financial Group, Inc Any ABK deal would likely be early next week, not today or tomorrow – wire headline.

2/26: Ambac Financial Group, Inc – reports that private equity and unexposed banks will be participating in Ambac support plan as per CNBCs Charlie Gasparino.

2/27: Ambac Financial Group, Inc NY Insurance Superintendent Dinallo: We are in the 8th inning of a possible Ambac rescue – wires

2/27: Ambac Financial Group, Inc Cerberus among group of investors in bailout, declines to comment – CNBC’s Liesman

2/29: Ambac Financial Group, Inc Bailout has hit significant snag over last couple days over the amount of capital, talks ongoing as per CNBCs Charlie Gasparino

3/3: Ambac Financial Group, Inc CNBC’s Gasparino incremental update: Negotiations with a bank consortium are going slowly, no deal announcement expected tomorrow

3/3: Ambac Financial Group, Inc – Financial Times reports that Ambac has decided against splitting

- The company decided against splitting in two as it completes a $2-3B recapitalization

3/4: Ambac Financial Group, Inc – says no bailout deal quite yet as per CNBCs Charlie Gasparino

- Reiterates that progress is still being made

3/4: Ambac Financial Group, Inc – Says those working on the deal "may work through the night" to close a deal for some kind of announcement tomorrow as per CNBCs Charlie Gasparino

3/5: Ambac Financial Group, Inc CNBC’s Gasparino reiterates that banks seeking to have rescue package to be finalized today

And then came the "deal" that had been worked on for so long…

NEW YORK (Reuters) – Bond insurer Ambac Financial Group Inc (NYSE:ABK) said on Wednesday it plans to sell at least $1.5 billion of stock and convertible securities, to help preserve the top-tier credit ratings critical for its main insurance business.

That’s it! No consortium of banks, no sovereign wealth funds, nothing. Weeks of back room negotiations ended up being nothing more than a dilution of the company’s stock by selling $1.0 Billion of stock and another $500 million through the sale of equity units that would convert to stock in May 2011.

So what happened to all that talk of big bail outs, of banks injecting substantial amounts of money, and to the original plan to raise $3 Billion dollars?

Reuters reported the following comment tonight:

"It looks like (banks) had a close look at what was going on at Ambac, and they backed away. Things may be bad there," said Peter Kovalski, portfolio manager at Alpine Woods Capital Investors, which owns Ambac shares.

Shortly after the news was released by Ambac, Moody’s and Standard & Poor’s issued statements that Ambac would likely maintain their AAA rating.  But Fitch ratings said no way, leaving Ambac at AA.

So this entire soap opera had many in the media, especially Charlie Gasparino at CNBC, being played along the entire time. And every time there was another new update about the rescue plan (always from someone known only as "someone familiar with the situation"), it created a lift to the markets and to Ambac stock. Something about this entire situation does not sit right with me, there is something that does not smell pretty at Ambac!

Ambac’s stock sold off rapidly after this news and ended the day down 18.8%, and down another 3.4% in after hours trading. This bond insurer situation has to be one of the largest debacles in recent history. Where will this all end up? It depends on how many claims Ambac has to pay over time as the credit implosion continues to play out. We could be right back where we started in weeks or months down the road, if Ambac needs even more capital to maintain enough liquidity. The ratings agencies are still, in my view, disgustingly guilty of not being impartial.

Stay tuned for the next episode of the soap opera  "As the Bond Insurers Fail"

Then there is this tonight:

According to Bloomberg, almost 70% of the municipal auctions in the $330 billion auction-rate market failed last week. (Auction-rate securities represent about 13% of the total market for municipal debt.) Failed auctions create a vicious cycle: As municipalities are hit with penalty rates on their debt, it erodes their capital position, increasing the risk of a bond default. This further depresses demand for municipal securities, causing even more auctions to fail.

The market remains VERY jittery and the biggest economic data is still to come. The monthly unemployment report will be issued at 8:30am on Friday. We got a small taste of what it may show as the ADP report today showed a negative number for the first time in 4 years. ADP has usually been all over the map with regard to their accuracy, but the number was substantially lower than even the lowest of estimates. The market is still pricing in a significant rate cut from the Federal Reserve. We remain short the Dow Jones Industrials.

The bond Insurer soap opera once again took center stage in the afternoon trading. There were some mentions on the United States financial channel CNBC that the ‘bail out’ of Ambac (ABK) was still being worked on. And that an announcement may be coming soon, tonight, tomorrow, next week? But every time CNBC says that the back room negotiations are still taking place and the market reacts as if a bail out of the bond insurer(s) will save the world. If you read some of the public message boards there are people who are apparently betting their whole life savings on Ambac’s bailout and sending the stock into the stratosphere. How sad, to risk so much on something so questionable. What if the bail out (if there is one) turns out to be a dilution to shareholder value? Then those betting so much will lose so much. What if the bail out package (again, if there is one) requires the company to break apart? Again, could be a disaster for current shareholders. No matter what happens, the injection of billions of dollars into Ambac and/or MBIA is a reflection of just how bad the credit implosion really is. And the injection of that money is simply to maintain the AAA ratings. But in my view those companies, with or without the added capital do NOT deserve to have a AAA rating. The whole ratings agency situation is a disgrace.

An interesting bit of history came to mind and I looked it up last night. In the book "The Smartest Guys in the Room" , by Bethany McLean & Peter Elkind there is a section that talks about Enron and the ratings agencies. A passage from the book:

In a January 29, 2000 presentation that Enron gave to Moody’s and Standard & Poor’s, one of the slides in the presentation said"

"The number one reason (that Enron deserves a high credit rating) is that it is critical to the maintenance and growth of its existing dominant market share business" (Translation: It’s important to us; therefore we should have it.)

It’s not unusual for companies to meet with the credit-rating agencies. What was unusual is the extent to which Enron saw the agencies as just another part of the system it could game. Agency analysts have certain criteria they use to measure a company’s health, ratios such as cash flow to interest expense and total debt compared with total assets. If a ratio was in balance, it was easy for the analysts to simply check it off and move on to the next one. In fact, a big part of the reason Enron used structured finance was to show the credit analysts the ratios they wanted to see. And if the analysts didn’t ask precisely the right question to get under the smooth surface, well, then, Enron wasn’t about to give a meaningful answer.

After the collapse of Enron, the ratings agencies, which came under fire for giving them a high credit rating while the company was collapsing from within said in testimony "Enron duped them" and claimed that they were not aware of the extent of the off balance sheet debt.

My point in bringing this up here is that the ratings agencies are obviously having their arms twisted by the companies themselves and the Government for the sole purpose of keeping that AAA rating. But what will this AAA rating do (if maintained)? It will allow the losses to be bled out slowly instead all at once. It is clear that the soap opera that is taking place behind closed doors with these ratings agencies and the bond insurers is nothing more than an attempt to disguise the extent of troubles and let it bleed slowly, where maybe people will not notice it so much. This soap opera will continue for a long time to come.

Now where are we on the charts? The charts below show our current stance.

(S&P 500 Daily chart)

(S&P 500 60 minute chart)

A few hours ago I wrote that this "soap opera" that we call the bond insurers was not over yet. And it did not take long for another episode to be written. Tonight MBIA Inc. (MBI) released a statement that they will now eliminate their quarterly dividend and are now working on a plan that will break up the company sometime within the next five years. Lisa and I have discussed in great detail the events that have taken place today with regard to the bond insurers and the ratings agencies. We do not wish to sound like we are distrustful people by nature, but we are realists and will never take what is said as "well, if they say it then it must be true"… the world has enough "reporters" and not enough "investigators". Once was the day long ago that being a reporter meant you would dig for the truth, today reporters just echo was it told to them so as to maintain their contacts with those who feed them information. Reporters today don’t want to anger those who give them their information. But that is a topic for another night.

What is happening with the ratings agencies is fraud, this is how we view it. We have the Governor of New York involved along with his insurance commissioner. They are all working on a way to keep the bond insurers propped up on a pedestal so that the general public never realizes how bad the situation is. At some point in time, not now, but down the road this will end in lawsuits, bankruptcies, and perhaps even criminal proceedings. I realize this sounds a bit extreme, but you have to remember that Lisa and I bring to you our experiences and our extensive studies of market history. We want transparency, not cover ups.

The following was issued by Bloomberg.com tonight:

MBIA Will Halt Asset-Backed Business, Split Units (Update3)

By Christine Richard

Feb. 25 (Bloomberg) — MBIA Inc., seeking to stave off a crippling credit rating downgrade, will stop writing guarantees on asset-backed securities for six months and will separate that business from its municipal unit within five years.

Chief Executive Officer Jay Brown also said he has “questions” about the company’s 2007 preliminary results released last month and hasn’t yet signed off on the statements, according to a letter to shareholders today.

MBIA has raised $2.6 billion in capital in the past three months and earlier today said it would eliminate its dividend amid scrutiny from ratings companies. S&P today said it is no longer reviewing MBIA’s AAA rating for downgrade. The company, which insures $673 billion of municipal and asset-backed securities, faced criticism from ratings companies, lawmakers and regulators over its decision to expand into collateralized debt obligations.

“Everything we are working towards right now is centered on regaining stability,” Brown said in the letter. “We can expect a bumpy ride over the coming months and possibly longer.”

S&P today said the insurer remains on negative outlook, meaning that any ratings move may be lower, though not any time soon. Ambac Financial Group Inc., which ranks second to MBIA among bond insurers, is being given more time to avoid a downgrade pending the outcome of company’s plans to raise new capital, S&P said.

Shares Rise

S&P’s decision sent MBIA up 20 percent in New York Stock Exchange composite trading and Ambac of New York gained 16 percent. A credit rating cut would stymie their ability to guarantee debt and strip the AAA stamp from $1.2 trillion of insured municipal and asset-backed debt. MBIA rose $2.40 to $14.58. Ambac gained $1.70 to $12.41.

Brown said he has been reviewing the company’s 2007 financial statements, with a focus on MBIA’s loss reserves and mark-to-market losses. The markdowns reflect the difference between what MBIA charged to insure certain securities and what it could have charged based on a change in the value of the underlying security during the period.

“It is a difficult and complex task for both the internal teams and the company’s auditors to establish best estimates in the most volatile credit markets in the company’s history,” Brown wrote. “I have a few more follow-up questions that need to be answered for me to confirm the company’s preliminary results which were released a few weeks ago.”

MBIA increased its reserve for claims related to second- lien mortgages by $100 million for a total of $200 million less than a week after reporting its fourth-quarter results.

Record Loss

MBIA posted a record loss of $1.93 billion last year, its first loss at least 15 years, after losses on subprime securities. MBIA and the rest of the bond insurers are paying a price for expanding beyond the safety of municipal debt into securities such as CDOs, which repackage other pools of securities in to new debt with varying ratings.

MBIA’s ability to raise $2.6 billion was “a strong statement of management’s ability to address the concerns relating to the capital adequacy of the company,” S&P said.

Moody’s is still reviewing MBIA and Ambac for downgrades. Fitch cut Ambac’s insurance rating to AA last month and is considering cutting MBIA.

MBIA raised money through selling common shares and warrants to private-equity firm Warburg Pincus LLC and issuing $1 billion of surplus notes.

S&P estimated that MBIA may have losses of $5.5 billion before tax, eliminating its entire capital cushion.

MBIA replaced Chief Executive Officer Gary Dunton earlier this month after an 80 percent slump in the company’s share price and criticism from investors, lawmakers and regulators for the expansion into money-losing CDOs. The company replaced Dunton with former CEO Brown, who said last week he favored separating the municipal business from the asset-backed guarantees to protect the public finance debt from losses.

How is it that the ratings agencies are able to maintain a AAA rating on a company that is still in trouble?… a company that is now possibly going to re-state their previous earnings?… a company that has to eliminate their dividend in order to save money?… a company that according to the CEO does not even know the extent of their ability to value their assets? There is so much that just does not add up here.

The following statement is from the Standard and Poors  policy on ratings definitions:

A Standard & Poor’s issue credit rating is a current opinion of the creditworthiness of an obligor with respect to a specific financial obligation, a specific class of financial obligations, or a specific financial program (including ratings on medium-term note programs and commercial paper programs). It takes into consideration the creditworthiness of guarantors, insurers, or other forms of credit enhancement on the obligation and takes into account the currency in which the obligation is denominated. The opinion evaluates the obligor’s capacity and willingness to meet its financial commitments as they come due, and may assess terms, such as collateral security and subordination, which could affect ultimate payment in the event of default. The issue credit rating is not a recommendation to purchase, sell, or hold a financial obligation, inasmuch as it does not comment as to market price or suitability for a particular investor.

Issue credit ratings are based on current information furnished by the obligors or obtained by Standard & Poor’s from other sources it considers reliable. Standard & Poor’s does not perform an audit in connection with any credit rating and may, on occasion, rely on unaudited financial information. Credit ratings may be changed, suspended, or withdrawn as a result of changes in, or unavailability of, such information, or based on other circumstances.

Also, the following is their own definition of what a AAA rating means:

AAA

An obligation rated ‘AAA’ has the highest rating assigned by Standard & Poor’s. The obligor’s capacity to meet its financial commitment on the obligation is extremely strong.

Ok, lets see here now. MBIA’s CEO says they are having trouble calculating assets, have recorded record losses, can not even afford to keep its dividend payment, and needs capital infusions to keep the company going. Does this sound to you like a AAA rated company?

According to Standard and Poors ratings definitions, and the financial condition of the companies a more fair assessment of the bond insurers would be a rating of BB:

BB

An obligation rated ‘BB’ is less vulnerable to nonpayment than other speculative issues. However, it faces major ongoing uncertainties or exposure to adverse business, financial, or economic conditions which could lead to the obligor’s inadequate capacity to meet its financial commitment on the obligation.

After the news was announced this afternoon that Standard & Poors was maintaining their AAA rating, for now, the markets rallied. The rally was NOT on substantial strength as we saw it. There was much apprehension as the market was moving upwards in the last hour of trading. We have numerous economic bits of data to still contend with this week and these will be significant market movers.

This morning the existing home sales data was released. And it continued to show worsening conditions. The media has said that because the decline was not as bad as some had thought they say a ‘bottom’ may be forming. Every time there is the slightest bump in data the talking heads will jump all over it and claim the bottom is near. I want to show you the chart of the existing home sales data. The chart below is the current chart and includes the data released this morning. Notice the arrows I placed on the chart. Each arrow represents a time when the media and analysts said that "the bottom" was near. And each time they were wrong. I guess they figure if they keep saying it they will be right one of these days. We operate different here, we put all of the pieces together and bring to you our assessment of trends, other indicators, and technical analysis. We never make a claim on a "snap shot" like talking heads will do. So the next time someone says the housing market (or anything else for that matter) is now near a bottom… just remember that they said that many times before. You can confirm this by going back to previous Associated Press, or other news agencies, and view their  news releases and see what they said back then.

(data source: Moody’s Economy.com)

The Dow Jones Industrial Average closed right at resistance today. This is right where we entered our short position on the Dow on February 13th. We are still holding this trade (Ultrashort ETF symbol DXD). Right now we are at break even on this trade. If the markets advance tomorrow we will close the trade and then we will be jumping right back on and shorting the Dow at the next resistance level (~12,775). We are still in a bear market.

Year to date performance of the major indices:

There are thousands of pieces of information that we look at every week.  We’re not all accountants or economists, so when we read government documents and don’t understand them, we have to consult with those who do.  Still, we have to try and figure out how it all fits together.  We have to do our best to look past the mis-information that’s out there, too.  Verifying news items isn’t easy and I’m finding that it isn’t a bad thing to wait before I repeat (or act on) information.  Today, it was reported by two different sources that, according to filings, Bill Ackman (the infamous “shorter” and critic of Ambac and MBIA) had taken a stake in the bond insurers.  That would be quite a turnaround for him and both stocks’ share prices responded.  However, less than 30 minutes later, the news was corrected to reveal that Ackman had in fact bought more puts.  Big difference!  Rumors and manipulations happen in the market.  No surprise there.  But, understand that with all of the upheaval we are experiencing, rumors will increase.  All of the rumor spreading isn’t intentional.  The pace at which the financial crisis has unfolded is mind-numbing. News events are being fired at us at an alarming rate.  We’ve gone from “sub-prime is contained” to “Project Lifeline” in record time.

I’ve listened to company conference calls and government hearings.  I’ve read thousands of pages of information relating to mortgages and financial instruments.  Then, I watch mainstream news shows to see what’s being said to the general public.  I’m here to tell you things are not adding up. 

 One day we’re told that everything is going to be OK, the next day the sky is falling.  The whip-sawing of the markets is just showing how much confusion and fear is in the financial community right now.  Everyone says we need transparency, but I think that’s the last thing some people really want.  There are banks/brokers/mortgage lenders/other businesses out there in some real financial trouble and they (and the government) want time to figure out how to keep things from blowing up in their faces.  Some businesses won’t make it.  I think the truth is that nobody really knows how this is going to play out,  or what will be the final consequences.  Many have admitted as much. 

As bad as all of this sounds, I need to say this:  The business of America has not shut down.  American’s are going to work, paying bills, raising children, buying clothes, eating out, going to movies and falling in love.  The world hasn’t stopped spinning.  The stock market isn’t going away, either.  That doesn’t mean that things won’t get difficult down the road, so we have to take care of ourselves the best we can. 

There are those who say this is the worst financial disaster ever.  It may end up feeling that way, but I’m sure the people who lived through past financial crises felt the same way.  Global financial problems are nothing new, either.  “Globalization” isn’t something that just started a couple of decades ago, so let’s keep things in perspective!  Our regular readers know that I will not ignore facts and can still be an optimist  I will not just sit around bemoaning the awful state we’re in, but will find the opportunities within the chaos.  Chuck and I are unhappy with the “spin” from the government officials, but we’ll keep searching for the truth.  Facing reality makes us better prepared to take advantage of upcoming opportunity. 

Edited for clarity 2/15/08