Being the father of a 9-year old boy is perhaps the most rewarding, yet challenging endeavor I’ve ever had the pleasure to partake in. The challenge does not necessarily lie within the care-giving duties, the unspoken camaraderie between a father and son or simply the love bestowed upon your own child. It lies within the judgment concerning incentives, rewards and – in due course – punishments. Knowing these decisions, as a parent, will potentially set precedence on the decisions he will make for the rest of his life can be somewhat unsettling, yet extremely rewarding when you witness the outcome. To any and all parents these prior comments are superfluous and need no repeating. So why bring them up?

Over the last 2 ½ years we’ve been writing about the sheer insanity behind the mortgage market’s imaginative yet devastating loan creations (Sub-prime, Stated-income, Option ARM’s, Interest Only and who can forget the granddaddy of them all – the Negative Amortization). We’ve also pontificated on its relationship to the disastrous credit cycle; over leveraged American consumers and the massive amount of debt being accumulated by institutions alike. But yet, business as usual – or was it?

Today’s ‘Jo’ is not intended to banter about what has already happened and join the ever-growing bandwagon of “I told you so.” It is designed to point out that we believe there are some very dangerous precedents being set which could potentially create further disruptions. It began earlier this year with the “Stimulus Cash” being sent out – to the tune of 100 Billion Dollars. Whether you received $600, $1,200 or more, ($300) per child under 17, this money was to stimulate the economy. Every time we discuss this it disturbs me to no extent. Just to be straight… we can’t count the number of times we’ve penned articles mentioning how the American consumer is spending more than they make and it’s only the second time this has happened since…. wait for it…… wait for it……. wait for it…… yup… “The Great Depression.”

Our Government, in their ultimate wisdom, decided that if consumers could not pull any more money out of their homes to spend on frivolous unnecessary bulls__t, then we will send them some. This will be good for the economy. Yeah – like crack cocaine to an addict. Apologize for the sarcasm, but ask yourself one question, “Would you give more money to a child that not only spend his allowance, but ran up your credit card and couldn’t pay?” Precedence!

However, this is not our biggest concern. In the last few months we’ve witnessed the Bear Stearns bailout, the Fannie and Freddie bailout, the Lehman failure, The Bank of America purchase of Merrill Lynch and now American International Group bailout. The buzz-term on the street is “Privatizing Profits & Socializing Losses.” Again, this is not intended to debate the merits of these decisions, but more so discuss the consequences of these actions. Understanding the sheer importance of these bailouts – “Global Ramifications” – we must look ahead and comprehend what may transpire when the next axe falls.

If and/or when another firm is to go down; whether due to investor confidence (declining share price), inability to finance, illiquid balance sheet or an assemblage of all, one only has to look at the last few months to see what may happen. For example, let’s say ZYX firm is the next on the chopping block. It has some illiquidity on the balance sheet, confidence abates and the stock begins trading below book value so it cannot secure financing to sustain itself. Selling begets selling and humpty dumpty can’t be put back together again. Lets assume good ole’ dad (Government) is going to come to the rescue; ZYX is still, for all intents and purposes, going to trade to zero (Fannie & Freddie).

Hence, ZYX’s smart thing to do is begin shopping itself to other, more capitalized, firms. (Barclays – Lehman) But if we were the purchaser, why would we buy ZYX knowing that if we wait it out the stock will continue to fall (plunge), we can get it substantially cheaper through bankruptcy and only purchase the assets we want? The current term used is “Vulture!” Pick over the dead carcass instead of spending all the money on bring them to the hospital.

Either way, dead! – Precedence! The markets are teetering on a very dangerous level right now and if any more confidence – the glue that holds our financial system together – is destroyed (individual or institutional); well, lets just say this… “It won’t be pretty for anyone!”

Look for a technical piece to be posted before the week is out.

Stay tuned & good luck!

Until next time…

Tuttle Asset Mangement Team

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