Financial Market UpdateStrategicPoint of View®
April 19, 2010
Welcome to the StrategicPoint of View -- a market and economic overview of what occurred last week, what's up for this week, and our commentary on the economy and current market activity in general for “Making Money” listeners.
LAST WEEK
The economic data was generally positive. The inflation figures (CPI up 0.1% and core inflation flat for the month) and retail sales (up 1.6% from February - on track for 3.5% growth for the year) were outright impressive if taken in the context of this modest recovery. Less impressive, but still good news were: industrial production up 0.1% and housing starts improving to 610,000. The negative side was represented by declining consumer sentiment and an increase in jobless claims. Earnings reports met heightened expectations.
S&P 500: 1192 (down 0.17% for the week and up 6.91% on the year)
Dow: 11,019 (up 0.2% for the week and up 5.67% on the year)
NASDAQ: 2481 (up 1.10% for the week and up 9.34% on the year)
10-year: 3.77% (from 3.76% last week)
Crude Oil (May): $82.92 (from $84.91 last week)
Gold (May): $1,137 (from $1,162 last week)
USD/Euro: $1.3496 (from $1.3499 last week)
THIS WEEK
With slightly fewer economic indicators on deck, investors will likely expend efforts scrutinizing the financial services industry – particularly investment banking activities and hedge funds - in the wake of the Goldman accusations. New and existing home sales could add to the debate on the housing recovery. On Monday we get the leading economic indicators; Thursday the producer price index and Friday durable goods orders. Earnings reports will flow throughout the entire week. Scheduled for release: IBM, Citi, Eli Lilly, J&J, Apple, Coca Cola, EMC, Amazon, Microsoft, Verizon.
COMMENTARY
The week started off well – almost predictably. Strong economic data, bolstered by decent earnings, translated into a steady rise in the markets. Then on Friday the investing landscape changed. Goldman Sachs and one of its vice-presidents were charged with fraud in a civil suit brought by the Securities and Exchange Commission. (Goldman has denied the accusations).
The charge centered on the lack of disclosure and questionable intent of the sale of a particular product tied to sub-prime mortgages in 2007. In question: did Goldman sell investors a product that was structured to fail?
The players included: John Paulson, hedge fund manager, who allegedly initiated the design of the product – a collection of credit default swaps that referenced mortgage obligations hand selected for their purported underlying weaknesses. ACA Management – a ratings agency – was hired by Goldman to give their blessing to the underlying assets. ACA did so, according to the Financial Times, with the understanding that John Paulson was going to place a bet in support of the underlying bonds. Instead, Paulson took the opposite side – a bet that the underlying mortgage bonds would fail. Goldman structured the product and pitched its positive potential return to sophisticated investors such as pension funds, institutions and endowments.
The SEC is not saying that creating collateralized mortgage securities or using credit default swaps in these securities was illegal. (Financial reform is up for review in Congress this week.) The SEC is accusing Goldman of playing a rigged game employing opaque, complex vehicles not well understood by the investing world. When investors buy a product that is not fully transparent, they rely on the recommendations of their advisors. If the advisors are hiding important information (such as, we only picked the weakest mortgages for this product) and present the product as vetted by third parties (Paulson was deemed to be an “independent” third party), the advisor is suspected of not being fully honest. This translates into potential fraud.
Investors lost $1 billion, Paulson’s firm netted $1 billion. Goldman claims to have lost money on the deal, but a trail of indirect payments could prove otherwise.
In reaction to the news, markets fell over 1%. The biggest fear is the unknown spillover effect. Other banks, according to the Wall Street Journal, coordinated with hedge funds to create synthetic CDOs in an effort to balance their long positions on mortgage bonds. At this time no one other than Goldman has been accused of wrongdoing. But if tighter scrutiny finds a pattern of potential fraud, investors fear that the financial service sector – at least the bigger institutions - could suffer profit declines. In the meantime, victims of the purported fraud, such as the Royal Bank of Scotland, are pouring over the accusations to determine if they have a claim against Goldman or other institutions.
The headlines and angry investors aren’t going away any time soon, but it is too early to tell if the hit Wall Street is about to take will have any lasting impact on the economy or whether it will simply be retribution assigned to some institutions for past deeds. The situation deserves continued monitoring.
Tune in to News Talk 630 WPRO and 99.7 FM daily for our "Making Money Updates". Get the latest market news and our take on the day's events with our market commentary at 8:10am and 5:32pm. For more information, visit www.StrategicPoint.com.
*Past performance is not indicative of future results. Indices are unmanaged and you cannot directly invest in them. The Nasdaq Composite Index measures all NASDAQ U.S. and non-U.S. based common stocks listed on the Nasdaq Stock Market. The S&P 500 index is based on the average performance of 500 industrial stocks monitored by Standard and Poor’s. The data referred to above was taken from sources believed to be reliable. StrategicPoint Investment Advisors has not verified such data and no representation or warranty, expressed or implied, is made by StrategicPoint Investment Advisors.
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