InvestIdeas

Wall Street's Favorite Drug Will Kill the Stock Market By Jeff Clark
Thursday, May 12, 2011


Leverage is financial crack.

The first hit feels good. It's a trader's high… We want more of it. So we use it again, and again, and again – until we're addicted.

Then it takes more leverage to create the same high. We crave it. We need it. We leverage every position.

And then it kills us.

The use of leverage killed the returns of several hedge funds last week. They were all smoking from the same crack pipe. They borrowed money for next to nothing and leveraged their commodity trades. More oil… more gold… more silver.

It's a strategy that generated huge returns until it wiped everyone out. BlueGold Capital Management lost $500 million (roughly 20% of its capital) last week… and now shows negative returns for the year. Clive Capital, the world's largest commodity hedge fund, lost $400 million and is reported to be underwater for the year. Astenbeck Capital, the well respected Phibro-owned fund run by Andrew Hall, dropped 12% last week. And the list goes on.

The lesson here isn't anything new. Excessive use of leverage is bad. Oh sure, everything is wonderful as long as the market is moving in your direction. But one little blip, one small hiccup in the trend, can wipe out months – or even years – of gains overnight.

We saw it with Long Term Capital Management and Lehman Brothers when they went belly-up. We saw it with every major money-center bank during the financial crisis of 2008-2009. And we saw it in the commodities markets last week.

Now we're seeing it with brokerage accounts.

Margin debt on the New York Stock Exchange has surged to its highest level since February 2008 – just before the S&P 500 dropped by half. Net leverage on the NYSE is now the second highest ever recorded. The only time in history leverage has ever been higher was back in June 2007 – at the absolute peak of the credit bubble.

It seems like everyone is addicted to Wall Street's favorite drug – leverage. And everyone is going to suffer the consequences.

Last week's brutal selloff in the commodity complex caused a lot of damage. It wiped out a lot of gains and showed the dangers of excessive leverage.

Now imagine that same sort of action in the stock market. That's what all this excessive leverage is setting us up for.

Add it to the long list of reasons to be cautious with stocks right now.


Source: Growth Stock Wire

TOL:-

Is there an ongoing deleveraging process ?

they said developed economy is not condition to create debt. There are no qualified seller (QE stop and bank need to recapitalise) and no willing buyer in developed countries.

winston wrote:TOL:-

Is there an ongoing deleveraging process ?

where where??

You may want to read the following two threads:-
1. Ray Dalio in the "Market Gurus" section
2. Liquidity in "Other Investment Ideas & Instruments" section

Ray is very bearish and thinks that there's an ongoing deleverging process. I saw his his interview on Charlie Rose over the weekend. Brilliant mind !

In 2008, when the IBs were downgraded, they had to put up more capital. When MS was downgraded one notch, they have to put up an extra US$900m. So where are they going to get the money if they dont sell their existing holdings ?

"The EFSF is trying to apply Archimedes Principle"

Source: CNBC

Leverage has collapsed from a peak of 36 times total assets to cash in December 2007 to 7 times as of October 2011.

The all-time record low was 6 times set in July 2011.

Also, the current reading compares to an average of 13 times that which existed from 1973 to 2000, well before the massive increase in financial debt and credit extension.

The bottom line is US bank balance sheets are in excellent financial shape.

Source: DB

How Banks Are Using Your Money to Create the Next Crash
By Keith Fitz-Gerald, Money Morning

In 2008, reckless credit default swaps nearly obliterated the global economy. Now comes the next crisis - rehypothecated assets.

It's a complicated, fancy term in the global banking complex. Yet it's one you need to know.

And if you understand it, you will get the scope of the risks we currently face - and it's way bigger than just Greece.

http://moneymorning.com/2012/01/04/how- ... ext-crash/

winston wrote:How Banks Are Using Your Money to Create the Next Crash
By Keith Fitz-Gerald, Money Morning

In 2008, reckless credit default swaps nearly obliterated the global economy. Now comes the next crisis - rehypothecated assets.

It's a complicated, fancy term in the global banking complex. Yet it's one you need to know.

And if you understand it, you will get the scope of the risks we currently face - and it's way bigger than just Greece.

http://moneymorning.com/2012/01/04/how- ... ext-crash/

This is just the tip of the iceberg , you haven include the OTC markets which accounts to around 3x more at least.

European banks' deleveraging to impact Asia By Linette Lim

SINGAPORE: It's been a gloomy start to the new year so far on the economic front. Slowing demand has already hit certain export sectors across Asia.

With European banks facing a liquidity crunch, experts say the weak economic climate in Asia may worsen.

Banks unwinding their debts in Europe will have a "pretty serious" impact on Asia, according to Dr Zhu Min, the deputy managing director of the International Monetary Fund.

He was in Singapore for the Institute of Southeast Asia Studies' Regional Outlook Forum.

He said on Thursday that European banks facing funding pressures will pull capital out of Asia to clear their debts, creating volatility in the equity and currency markets.

Loans from these banks may also be harder to come by.

Dr Zhu said: "The banking deleveraging will put pressure on the syndication, trade financing, and shipping and aviation loans. European banks have a big market share in this market."

He added that deleveraging from these institutions will have a negative impact on economic growth. This is because developed countries face burgeoning debt levels and economic stagnation.

Moving to Japan, experts at the forum said post-disaster restoration may spur growth this year. But they warned that it will not provide the economic revitalisation the country so badly needs.

Japan Economic Foundation's executive managing director Naoyuki Haraoka said: "We are facing a hollowing out of Japanese industries. And this hollowing out can be stimulated not only by the current yen appreciation but also by the risk of nuclear power instability."

Beyond 2012, the Japan Economic Foundation expects Japan to return to its pre-disaster low growth rate of 3 percent per annum. It estimates economic growth this year to be around 9 percent.

For most emerging economies, slower export demand and high domestic inflation are putting a squeeze on businesses and consumers.

China is trying to reduce reliance on exports but it is proving to be difficult.

Prof Chen Kang, director of management programme at the Lee Kuan Yew School of Public Policy, National University of Singapore, said: "A lot of the consumers do not want to consume because they want to save money to buy property as the property price keeps going up.

"And without the consumption, you cannot have a strong domestic economy; you cannot shift from the growth pattern depending on investments and exports to the one depending on consumption."

Despite the gloomy outlook, many economists remain upbeat that Asia will weather the economic storm better than the rest of the world. They say Asia, in a worst-case scenario, will still see growth in 2012.

http://www.channelnewsasia.com/stories/ ... 75/1/.html