Are Stress Tests Reliable? Speculation Remains

bank of america stress testFinally, a pretty solid day of selling occurred today after several days of mixed and optimistic trading. Today was a perfect example of how the market can be overruled, even in the midst of manipulation, with the help of higher volume levels. Once again, after hours and pre-market trading was showing a lot of green trading (hmmm...somehow), opening the market at pretty high levels. However, immediately after the opening, the market took a pretty aggressive dart down into red. Bears were not interested in manipulating attempts to pull the market up today, as for the first time in a while, volume was relatively high. A good sign on a selling day.

Bernanke spoke again this morning, in which he discussed his optimistic outlook for banks after completing the stress tests. As we expected, none are to be deemed "insolvent", and only a few will be required to raise additional capital (or so they say). Obviously, investors were not nearly as optimistic about it as most of the financials took a fairly strong dive as the day went on. Much of this was most likely due to the huge response we saw from yesterday's media leaks, where many of the banks were up nearly 20%. We often like to buy on the rumor and sell on the news.

As a result, the shorts finally had a pretty reasonable day. SRS ended up over 10% and FAZ was just behind it. After we saw some strength in gold and oil, both DIG and GDX ended in the red. As a result from today, I saw some nice healthy profits from my FAS Put options I purchased yesterday, which is always good to see (if you're looking to trade options, TradeKing has some of the best rates around). I believe SRS should begin to show some strengthening signs as commercial real estate is slowly creeping into the spotlight for the next disaster on the list to face. It is estimated that commercial real estate loans make up about 15% of all the outstanding debt. Even though, the amount seems small compared to housing mortgages, you need to remember that most commercial loans are 5-10 year terms compared to 25 to 30 year terms for residential. As such, there is a much greater turnover in commercial loans, which should be just as big as a threat for some of these big banks, especially ones like Wells Fargo and Wachovia, who have a lot of outstanding commercial debt.

crash market stocks podcastAfter today's close, the "actual" bank stress test data was released to the public. Nothing earth shattering was noted that wasn't already discussed. However, after hours have responded strongly to it. Many of the banks are up 10% or over in after hours. It is difficult for me to understand why such results would yield such optimism. Indeed, the actual "needed capital" that was reported was slightly less for some of the banks. The estimates were not far off, but I guess many believe it is enough. So we find out Bank of America probably only needs $35 billion and their stock goes up 18%. Then we find out they really only need $33.5 billion, and they go up another 10%? Just remember, many of these banks will most likely get the additional capital they need from issueing stock. Dillution anyone? I do also believe that due to the much lighter volume that exists in after hours in pre-market trading, there is a lot of manipulation that exists. I have noticed, this past week especially, that conveniently markets are almost always opening rather strongly in the green for no reason. It causes me to wonder...

So, just as I warned on Monday, we are not quite out of the woods of all the fluff from the banks. I do believe we are close, which is why I decided to pull the trigger on some puts yesterday. Tomorrow, could result in a strong green day of trading, especially if a "better than expected" unemployment number is released. As I have said before, whatever the number will be, it is a bad indicator and will eventually need to be factored in. Even if it is in the -500k region, I do not consider those results good news for our economy. Many make the argument that the good news is the perceived slowing down of the recession. However, you cannot make that assumption based on one or two months of slightly stronger economic data. Throughout the Great Depression, there were several changes in direction of economic data. However, the overall regression trend remained in a downward slope for several. This is why it was so devastating, because of the slow, bleeding process that took place. It was the unemployment that plagued society later into the depression, but it was sparked by the crash of the banks in 1929. So don't be fooled by month to month changes in economic data. I have to see consistent, consecutive changes in order to begin to become a believer.

In light of all the joy from these stress test results, there still are causes for concern when you look at the numbers that were released, which you can see in full here. One scary thing is the amount of credit card loans that make up these bank's outstanding debt. In this type of environment, I would consider consumer credit card debt as some of the highest risk of default, especially once personal bankruptcy begins to soar (which usually has a slight lag from unemployment numbers). Considering that 18-22% of many of the bank's loans are made up of credit card debt is very alarming to me. Sure, the high interest returns serve as a motivator for banks to issue the debt, but in these economic conditions, watch out. There are many other alarming numbers which you can see for yourself, but I hope investors go through these numbers and realize what they are buying into.

I will actually be looking to make a move tomorrow, especially if we see green trading. Prudential Insurance has been soaring the past few days, due to some upgrades and better than expected earnings report. Prudential has a very large stake in commercial real estate, which many of their properties are in risk of default. I can't imagine why such praise would be given to them, when in my mind, some of their worst months lie ahead of them. After a 40% rise in their stock in the past two days, I have to believe there is some opportunity for me to short them. I will be looking to pick up some put options tomorrow, hopefully during the peak of the rally, if there is one. Aside from that, conditions seem to be pushing closer to a turn in this rally. I would be very surprised if we didn't see it turn in the next week or so. So I will be waiting. Have a good night and happy trading.

24 comments:

  1. Anonymous Says:

    FF,
    Thanks for the vote of confidence on SRS yesterday. I had 6500 shares and ended up getting quite a big return on over half my position that I sold, re-couping back to 65% cash and still hold 40% of them. I believe this rally is almost over as we see the Gov. running out of manipulation bullets in there gun. You didn't mention the bond sale today that was horrible for Treasury, which pushed the markets over the edge. It seems our debt is becoming worthless in more eyes than one.
    Thanks again.

  2. Finance Fanatic Says:

    Good call on the bonds... congrats on the smart trade, always nice reaping green.

  3. McBalls Says:

    Anon,

    I wld advise u to watch that trade like a hawk and get out when it turns against u. It's never wise to bet against a bear rally. And big money sitting on the sidelines are only just about getting their investment board approvals to start their panic buying programs for fear that they've missed out buying on the low and that their client will take their money elsewhere. Such is the reality and the competitiveness in the money management industry. It's not PPT all the time. That's a lame way of explaining bear rallies.

  4. oldschool Says:

    F.F don't you think that even if the Dow crashes 20 % that the bank stocks remain at their value?
    All that government spending to push them up can't be lost easy in a down slide.
    Any guess?

  5. Boyd Says:

    McBalls,

    I agree with you. FF was happy with his FAS put trade, but FAS turned back today to 20%. Although time decay is to his benefit, but there is too much time premium in the FAS put option chosen. If in an optimistic scenario FAS goes back to its lows of $3 by October, the max possible gain would be 100%. However, it will be wiser to buy BAC October puts or a similar one if you are really bearish on financials.

    I very much like to short all leveraged ETFs and hedge with a few call options of the same ETF. I do think the worse for stock market is over and you have missed it FF. By the way, people are very greedy on penny stocks right now. Unbelievable!

    I would prefer to put my money collected from poscast and advertisement in a good long term investment. A stock that will eventually grow. I also believe that most of our economic problems are due to short sellers. I was surprised 2 months ago that we has better than expected data and the market continued to plunge. Shorts overdid it and now are being squeezed. Happy shorting FF! :) By the way, FF, you should consider buying FAZ itself soon as it is much cheaper than options now.

  6. Finance Fanatic Says:

    Please see my post from March 3rd...

    http://www.crashmarketstocks.com/2009/03/market-crash-of-2009-are-we-close.htmlAs I fully expected a strong bear market rally, as I predicted the rally for today in Monday's post. I didn't miss the first down run and actually made some good profits as well as some pretty strong ones in the beginning of this rally. We shall see if my expectations are met, and I believe we're right on schedule.

    By the way, I did pick up some actual faz shares today as banks running out of silver bullets.

    Old school, some banks will hold up better than others, for sure, but as a whole, most are over bought at this time and some still risk going under. Time will tell folks

  7. Nash Says:

    Banks are at October 2008 levels. Good luck to those thinking they will go above pre-Lehman bankruptcy levels.

    FF: What do you think of CPI and PPI numbers next week? Will they be able to put a slap on these naive buyers' face?

  8. oldschool Says:

    F.F. thanks for fast response.
    I read yours daily posts since November 08.
    Many times you were right with your predictions.
    I was just wondering about the bank stocks and the intense manipulation of the Government
    I do believe the last Elliot wave is still waiting to come.
    But as I mentioned before, I just feel like sitting on a train station that was abandoned 8 weeks ago.lol

    I don't see any positive change for small business at all. Publishing today a correction of unemployment # for March to almost 700.000, was just a political chess move to widen the gap for todays numbers.
    Which is by 580.000 included 70.000 new created Government jobs almost back to 650.000.
    I'm holding back on my trading since mid March, and of course I feel like I missed the unreal rally without fundamentals .
    I'm looking forward to go back in FAZ, SKf and SRS when the time is right.
    GLTA
    Michael

  9. H.J. Says:

    FF, Great posts. You said sometime last year that SRS is $200+ in your book. Is it a wise idea to buy October $200 call options? They are only 5c/contract. Thanks for your advise.

  10. Kevin Says:

    FF, I should call you a "rally detector" :) Wish you were a good "crash detector" too...

  11. Anonymous Says:

    FF,

    You keep saying: "Time will tell". But any inexperienced guy can keep saying we will have a crash and of course in a 6 month period one will happen. If you really are confident about it, why don't you buy SPY Sep. $60 puts?

  12. Finance Fanatic Says:

    Kevin, dont you worry the crash is coming.

    Anon,
    Actually there are many that don't believe that a crash is coming, and those of us that do believe are definitely a minority. Many believe in a short pull back, but not a capitulating crash...And I am not as vague as you make it sound...From the post above you see that I expected a March rally before the crash.. Sure, the rally has gone longer than expected from some unexpected Obama Honeymoon news. PPI and CPI come out this next week, and we very well could see some serious deflationary spiral indicators, so I still believe we are right on track for deflation to kick in. So yes, Time will tell.

  13. McBalls Says:

    HJ, u clearly do not understand these leveraged products well enough to trade them. SRS oct $200 calls?! might as well give the money to charity. do the math.

  14. Anonymous Says:

    time will tell when this great market crash never happens. which there's a good chance it may not. good luck!

    Bayesian Rigidity.

  15. Nash Says:

    FF,

    By branding your site crashmarketstocks.com, I bet you must be used to these criticisms during rallys.

    But to the critics: look at FF's posts since March. He has been urging not to rush into shorts - if people had listened, they would have benefited by longing, or not getting to shorts.

    The past week, once again, FF said bank results would boost up financials - and I benefited myself longing FAS, from $8 to $12. Thanks FF.

    Now, can you put these critics to bed next week? I am looking forward to it, and I am in FAZ with you.

    Cheers.

  16. oldschool Says:

    I remember the March week when FAS was 2.32 and most people were thinking this ETF will be closed soon.
    Did you believe at that time it could go back to 10?
    If you guys would look out the window right now, can you tell me what has changed comparing to March?
    We changed Wall street to Obama Street. Thats all.
    As long there is not any demand for any goods there is no recovery.
    Just by pushing up the banks stocks and changing M2M our economy will not change.
    Why you guys think there is so much money at the sidelines?
    Money can't buy love and money can't buy demand!
    Germany refuse to join that spending party, because they experienced this during the Weimarer Republic. They know the final outcome.
    You may study some history books about this.
    We a drifting into a danger constellation for the perfect storm.
    This are the same constellations were leaders like Adolf Hitler gained power.
    At the beginning people loved him- watch the old " "Wochenschau" speeches.
    Not that I want to compare Obama with Hitler, but it is the time were people should read between the lines and trust their common sense. And not TV stations that are already censored and owned by the most powerful people.
    Millions of people lost already their job, house, and many family's fall apart.At the same time the banks get billions of Dollars from the Government and become richer and richer even they caused the big F... up.
    In Germany people would go on the streets and demonstrate. Americans watch meanwhile soap operas and car chases on TV.

    Bernacke said on Friday, he expect a much longer time of recovery.

    To me it is just a matter of time when this rubber band snaps.

    GLTA

  17. Finance Fanatic Says:

    There will always be critics... My analysis has done great for me, historically.

    New podcast posted
    podcast.crashmarketstocks.com

  18. H.J. Says:

    McBalls,

    FF did mention in one of his last year posts: "SRS is 200+ in my book", so I think it is a good deal.

  19. Peter Says:

    H.J.,

    You should understand that although FF has studies in economy, "he is not a professional trader". You may want to pay a bit of money to the professional ones to give you good stock tips instead of FF podcast. You may get ideas and maybe try in a trial account. Once you feel confident, then put the real money. Besides, I think FF himself is starting to learn how to trade more professionally. He recently mentioned doing option spreads which is what professionals do. Also to be a successful trader you need to have some insider info, and in my opinion we should all stay away from leveraged ETFs unless we want to gamble or are day traders. There are much better ways to earn money. And don't forget that even with a market crash, there are businesses that do make good money and you should find those stocks. Also as a free tip to you guys, read about option straddles/strangles then set up a trade and leave it for a few days. You will earn money one way or the other. Forget about these ETFs. They are cancer (This is one of the things Cramer said and I agree with him).

  20. Finance Fanatic Says:

    HJ, SRS hitting 200+ levels at this point is a stretch. The performance of the leveraged etfs are to be measured as a snapshot and not over time, as the decay of such funds effect the slow decay of the price. Although I do feel that there is serious upside to SRS, 200+ levels, I believe, is unlikely.

    And although I may not be deemed a "professional Trader", I believe the term is over rated. I am a professional in Corporate America that has a daily relationship with banks across the country as well as insurance and hedge funds. I know several people that have their money with "professional" traders, and have lost fortunes. I always encourage personal research, coupled with fundamental research. Many of the professionals will be caught not looking over the next few months. If you would have listened to Cramer or Kudlow last year, you'd be broke or close to it.

  21. Anonymous Says:

    It's all about timing. I don't care if you trade straddles, butterflys, ETFs, or just the stocks. It's agreed options reduce risk, and allow you to create close-to-arbitrage strategies, but wise plays in ETF/stocks allow you to accomplish the same.

  22. McBalls Says:

    H.J,

    I think u shld just quit trading if ur perceived edge is to rely blindly on stock tips. I wld even dare go further and say SRS @ $100 is a stretch. Anyhow good luck.

  23. H.J. Says:

    McBalls,

    Good point McBalls. I just wanted to get FFs opinion, because I thought FF had done a sort of fundamental analysis about SRS putting a target of 200 at the time. Now I understand. Of course, I didn't buy that $200 option :) I don't know what your portfolio is, but I am doing "very fine" and had a gain of 100% in my portfolio for the past 1.5 months. Good luck to all.

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