The reality of American elections is that when power changes in Congress the supporters of the newly elected congressmen or Senators expect their voices will be heard concerning legislation. The greater the support (read money) the faster the new Congress will move legislation near and dear to their supporters hearts. Currently the new Congress is looking to reform / modify / gut the Dodd-Frank act concerning the regulation of Wall Street.This comes at a particularly bad time because bank earnings are under pressure from decreased trading revenues. 

In 2008 the the world banking system almost collapsed. The banks having been trying to sell the narrative than somehow it was lower income people buying a house they couldn't afford that was the problem. The truth was that banks and brokerage houses were trading products they either didn't understand or knew were bad and just didn't care because they made so much money from them. Since 2008 the banks have demonstrated no particular ability manage risk i.e. JP Morgan and the 6 billion dollar loss with the "London Whale".  Wall Street is pushing Congress to change the Dodd Frank Legislation to enable the banks to continue to trade derivatives. Derivatives were the basis of the toxic assets that the banks foisted on investors and necessitated the bail out. 

This confluence of events of banks looking for earnings, a Congress sympathetic to Wall Street, a very compliant Federal Reserve monetary policy and a short memory about just how bad 2008 was seems to me to be a recipe for disaster. 

Yesterday the governor of NJ Chris Christie gave his state of the state address. The mystery for the citizens of New Jersey of every political persuasion is why the nation media thinks our plus sized governor is presidential timber. His record in NJ is abysmal and if the national news media was not inherently lazy and irrelevant they might spend an hour and examine his record. During his tenure he has promised to rectify the public pension mess and then promptly ignored the whole thing. (He is not our first Governor to do this, it is actually something of a proud tradition). He pretended to balance the budget by plugging in a growth rate of 5 to 7%, a rate that is patently false. His vision of the future is demonstrated by the two projects he supports. (I could have gone for the cheap joke here and say the two projects he threw his weight behind but I won't). The first is a bankrupt mall called Xanadu in North Jersey and the second is Atlantic City and casino gambling. I hate to break it to the Governor but malls are dying as consumers change their behavior and on line shopping get smarter and easier. The only thing dying faster than malls is Atlantic City. Casinos are closing, revenue is down and the city is a mess. Maybe if the Governor spent some time in NJ he would know these things.

Christie seems to have made his reputation by yelling at constituents whenever they disagree with him. If the news media would do some work they would find NJ lags the national economic recovery, the governor has no economic program and his vision for the future is mired in the past. He is in the words of the bard "Full of sound and fury,signifying nothing"

I have worked on Wall Street for 42 years and one of the things I have learned is good news is rarely all good and bad news is rarely all bad. The current good news, at least for the US consumer, is the rapid drop in oil prices. We are all looking forward to receiving a 30% discount at the gas pump. In today's age of globalization there will be unexpected consequences of a dramatic price drop of an essential commodity. The easiest and most obvious is that the oil producers will be under pressure because of the lower price, but what about the banks who jumped into the shale oil /fracking business to finance the projects? Oil is a capital intensive business and somebody has lent  a lot of money to projects that may not be viable anymore. Oil producing countries have been living fat dumb and happy for the last 30 or so years because they had all the money they needed. What happens if they get squeezed, will they have to liquidate their investments like London Real Estate or US Treasuries? Do we even know what they own? What is the political impact of the lower revenues vs expectations of OPEC citizens concerning government largess? What about mutual funds who sold indexed stock funds when oil companies are a big part of the composites? For every winner in this scenario like Airlines (because of reduced fuel costs) there will be a loser (citizens of Alaska who receive a state dividend from the trans Alaska pipeline).  The impact of this move will pop up in unexpected places.

At the end of Caddyshack (greatest movie ever?) Bill Murray starts blowing up the gopher holes and nobody know where the next blast will be, the markets appear to be in a position to repeat that performance. Be careful where you step.

Far be it for me to say something nice about AIG, but the lawsuit starting today should shed light into one of the dark corners of the financial bailout of 2008. The Federal Reserve and Treasury decided in the bleak, "world's coming to an end" days of Sept / Oct 2008 to pour money into AIG. The announced reason was to prevent insolvency of the insurance company and avoid another body blow to the markets. AIG did need bailing because that old Wall Street toxic recipe of greed, incompetence and lack of risk controls had bought the once proud company to the brink of bankruptcy. The way the Government poured money into the company did more to save AIG's trading partners than AIG itself. The AIG bailout's major beneficiaries were the parties who traded with the company (read Goldman Sachs, JP Morgan, Deutsche Bank, Merrill Lynch etc.) These trading partners were on the winning side of the trading bet but with AIG unable to pay, so what, they stood to become insolvent themselves. The money dumped through the insurance company help make them whole and kept these firms out of the bucket unlike Lehman Brothers.

I am not criticizing the Government's actions during the crises. Henry Paulson, Ben Bernanke and Tim Geithner were dealing with a major events every hour and they made a lot of decisions on the fly. The fact that we still have capital markets means they were more right than wrong. My objection concerns a year later when Wall Street was well on the road to recovery and the banks who benefited from the subrosa bailout were proudly taking credit for being great businesses. Lloyd Blankfein at Goldman couldn't wait to tell the world how much money the firm had made in 2009/2010 and Jamie Dimon was willing to admit he was the greatest banker ever. I have absolutely no sympathy for the banks as they complain about Dodd Frank act and increased scrutiny of their activities. I think we should go back to Glass Steagall and get commercial banks off Wall Street.

Nobody has been more critical of the regulators (SEC, FINRA) than I have, so when it seems they are for once out ahead of a problem I must give them their due.There is a looming problem coming in the credit markets. Bond funds have become huge as more investors are looking for some kind of interest based return. Meanwhile through a combination of regulatory oversight and business decisions Wall Street has become smaller. This is not a problem as long as the market is quiet and interest rates stay in a narrow band. The problem will arise when interest rates go up and bond funds are facing redemptions and need to sell bonds. Wall Street's main function is to provide liquidity between buyers and sellers, so when a fund needs to sell bonds the street will usually give the account a bid and later resell the bonds to another investor. Since 2009 the money flow has been into bond funds and investment banks have been happy to sell bonds to these investors. At the same time the investment banks have been cutting back on their trading positions and are no longer willing or able to provide the level of liquidity should the funds need to sell bonds in a hurry. There is nothing magic about the bond fund industry, they pretty much buy at the same time and sell at the same time, totally dependent on the appetite of the public for their product. Should interest rates go up (and some day they will) and should the bond fund industry need to sell bonds to meet redemptions (and they will) the market could easily be overwhelmed. This will be a problem. A sneak peek at this phenomenon was evident last summer (2013) during the "taper tantrum". Forewarned is forearmed, caveat emptor.

Thoughts at the beginning of summer;

The European monetary authorities need to continue to stimulate their economies with low interest rates. The news on the growth and employment front is still dismal.

Anyone who trust any economic statistic about the Chinese economy does so at their own risk. The Chinese government seems perfectly capable of producing any stat that is needed on demand.

Wall Street  likes to come up with new products. Most of these products start out as wonderful ideas like credit default swaps or CMO's. The problems occur when the demand grows and Wall Street keeps expanding the product until it becomes highly speculative and risky. The flavor of the month in this area are  Exchange Traded Funds or ETFs. ETFs are an innovative investment product with very interesting features to help average investors manage risk in their portfolio. Investors need to be careful as more of these products are built on the less liquid or obscure parts of the market, nobody can predict what will happen in times of market stress.

The soap opera that is PIMCO is making me nuts. Between the principal participants (Bill Gross and Mohammad El-Erian) acting like high school kids about their breakup and the financial press acting like 7th graders I am ready to scream. Who cares? If I see one more breathless host of a financial news show ask one more "expert" "What do you think about what he said about the other guy?" I might ban all TV's in the office. Why don't we just cut to the chase and schedule both men on Dr. Phil and let them drool all over themselves with endless talk about their feelings. Stop the madness and act like grown-ups. If I had any money with either of these guys I would seriously rethink it.

On another note; the municipal market has just undergone a brush with the law of unintended consequences thanks to the underwriters (Barclay's) who decided to restrict the recent 3.5 billion Puerto Rico financing to denominations of 100,000 or more. Combine this with a hot deal and you will find that most of the orders were from hedge funds and other short term investors looking for a quick buck, not a permanent investment. The bonds rose in price the next day but quickly fell to below issue because there were so many sellers. Currently the price for the bonds is about 4 points lower than a month ago and the larger buyers have no marketability. Individual investors have been the main stay of the Puerto Rico market for decades because of the state tax exemption but they will usually buy less than 100,000 at a time. Now the secondary market in Puerto Rico debt is frozen because of the overhang of the recent deal which large investors would sell but can't. Lesson to be learned is to be very careful when someone tries to dictate conditions which should be set by market forces rather than a well meaning idiot.