Whew – what a wild week! Global stock markets and commodities tumbled, whereas government bonds and the US dollar surged amid mounting fears that the ongoing turmoil in financial markets was foreshadowing a hard landing for the US and Europe.

The first-ever trillion-dollar loss (as measured by the Dow Jones Willshire 5000 Index) on Wall Street came on Monday in the wake of the US House of Representatives failing to gather enough votes to pass the $700 billion bank rescue package. Globally, more than $1.7 trillion got wiped off the MSCI World Index.

Considering the entire history of the Dow Jones Industrial Average since 1896, Monday’s decline of 777 points ranked as the largest points decline in history (see post “Fear Grips Global Markets”). However, and let’s be thankful for small mercies, the percentage decrease of 6.98% was still significantly less than 1987’s 22.61% decline.

Although the Senate’s passing of the bailout plan on Wednesday brought temporary relief, the reversal on Friday of the House’s earlier decision brought more volatility. In classic “buy on the rumor, sell on the news” fashion, the Dow Jones Industrial Index rallied by 3.0% leading up to the vote, but then sold off by a massive 486 points (4.5%) to end 1.5% down on the day and 7.3% lower on the week.

Now that the bailout deed has been done, attention is shifting to whether the plan will work and break the logjam in the credit markets (see post “Global Liquidity Crisis: What Now?).

“Our fear is that policymakers Incorporatedluding many central banks, still do not fully grasp the challenges facing the financial system. Governments must effectively guarantee the banking system on both the asset and liability side, and provide more relief to homeowners. Coordinated rate cuts are also necessary to stem the economic damage already evident in the latest purchasing managers’ surveys in the US and Europe,” said BCA Research.

Asha Bangalore (Northern Trust) view the modified Paulson plan as a first step to stabilize global financial markets, saying: “It will take time to accomplish this task with a combination of private sector deals and government programs. Warren Buffet type rescue measures such as the Goldman Sachs deal, FDIC intervention in the case of Washington Mutual, and Wachovia sale to Wells Fargo (that is under way) are examples of how a restructuring of the banking system would work.”

Summarizing investors’ concerns, Nouriel Roubini, professor at New York University and chairman of Roubini Global Economics, said: “It’s plain that the current financial crisis is worsening in spite of – or perhaps because of – the Treasury rescue plan.”

Do you think the US government’s relief plan will work? Cast your vote here.

The financial landscape is going through a period of upheaval and the number of casualties is growing by the day as graphically illustrated by the BBC.

Next, a tag cloud of the text of the dozens of articles I have read during the past week. This is a way of visualizing word frequencies at a glance. Not too many surprises here, especially seeing “banks” featuring so prominently.

Commenting on the outlook for equities, Marc Faber, author of the Gloom, Boom & Doom Report, remarked as follows: “A stock rally in the event that a package is approved will be temporary and should be used as ‘an opportunity’ to sell.”

David Fuller (Fullermoney) added: “… I doubt that the US stock market can commence a year-end, mean reversion rally towards its declining 200-day moving average until the Ted spread (i.e. three-month dollar Libor less three-month Treasury Bills) breaks its uptrend and falls sharply. The eventual downside reversal may be rapid, but until it occurs and Wall Street steadies, most other stock markets will also remain under pressure.”

To add a ray of hope to the otherwise gloomy situation, Jeffrey Hirsch of Stock Trader’s Almanac, said: “In this time of turmoil let us also remind you that although September is now the worst month of the year, October is a ‘bear killer’ and turned the tide in 11 post-WWII bear markets. We may find bottom in September, but October could ring in a new bull. However, it still can be dangerous; 2007 is a case in point. Expiration week can be tricky, but the last 15 days of the month are loaded with bullish days.”

According to Citywire, Anthony Bolton, the legendary ex-Fidelity fund manager, said he was spending his own money to buy shares again. “I think the real lesson in times like this is not to be shaken out when the environment is very uncertain because those are the conditions that make the lows in stock markets,” he told BBC Today.

Before highlighting some thought-provoking news items and quotes from market commentators, let’s briefly review the financial markets’ movements on the basis of economic statistics and a performance round-up.

Economy
“Global sentiment fell sharply last week as the financial crisis is hitting business psyches very hard. US businesses are the most pessimistic, followed closely by European and Japanese firms,” according to the Survey of Business Confidence of the World conducted by Moody’s Economy.com. “Most disconcerting is a plunge in business intentions to invest in equipment and software; that had been holding up well throughout the past year. Hiring intentions also declined significantly last week.”

Source: Moody’s Economy.com, September 29, 2008.

Economic reports released in the US during the past week were mostly negative and the following compounded the market’s concerns:

• The Institute for Supply Management’s manufacturing index fell by 6.4 points to 43.5 for September. The larger than expected decline put the ISM index at its lowest level since 2001. Overall, the September ISM index showed a contraction in manufacturing and moderating inflationary pressures. Therefore the report gives the US Federal Reserve plenty of flexibility to cut interest rates to address the downside risks to growth.

• Payroll employment fell by 159,000, more than had been expected, with losses spread across industries. This marks the ninth consecutive month of employment losses and there is little doubt that the nation is in a recession, which could deepen in coming months as the financial crisis casts a pall on economic activity. The unemployment rate, calculated from a separate survey, was unchanged at 6.1%.

Summarizing the US economic situation, Asha Bangalore (Northern Trust) said: “The September employment report points to significant weakness in hiring and there is little doubt about the economy being in the throes of a recession. Will the Fed lower the Federal funds rate on October 29? It is not clear if there is any necessity to formally fix the Federal funds rate at a lower level because the effective Federal funds rate has held below 2.0% for nine out of the last ten days. The Fed is providing funds through multiple programs. The primary objective is to get the credit machine working again for which capital infusion is necessary in addition to liquidity.”

The depth of investors’ worries was reflected in the Fed funds futures market, which priced in an 80% probability of a 50 basis point rate cut at, or before, the October 29 FOMC meeting. The balance of odds was placed on a 75 basis point rate cut.

Elsewhere in the world, economic data also started to show an acceleration in the weakening of activity. Having just returned from a visit to the UK and continental Europe, the economic woes are almost tangible. Ireland, which I also visited last week, has now officially become the first Eurozone economy to have entered into a recession.

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Date	Time (ET)	Statistic	For	Actual	Briefing Forecast	Market Expects	Prior
Sep 29	8:30 AM	Personal Income	Aug	0.5%	0.3%	0.2%	-0.6%
Sep 29	8:30 AM	Personal Spending	Aug	0.0%	0.2%	0.2%	0.1%
Sep 30	9:45 AM	Chicago PMI	Sep	56.7	53.0	54.0	57.9
Sep 30	10:00 AM	Consumer Confidence	Sep	59.8	55.0	55.0	58.5
Oct 1	12:00 AM	Auto Sales	Sep	-	4.5m	NA	4.5M
Oct 1	12:00 AM	Truck Sales	Sep	-	5.9m	NA	5.9M
Oct 1	8:15 AM	ADP Employment	Sep	-8K	-	-53K	-37K
Oct 1	10:00 AM	Construction Spending	Aug	0.0%	-0.4%	-0.5%	-1.4%
Oct 1	10:00 AM	ISM Index	Sep	43.5	50.1	49.5	49.9
Oct 1	10:35 AM	Crude Inventories	09/27	4278K	NA	NA	-1520K
Oct 2	8:30 AM	Initial Claims	09/27	497K	440K	475K	493K
Oct 2	10:00 AM	Factory Orders	Aug	-4.0%	-2.0%	-2.9%	0.7%
Oct 3	8:30 AM	Average Workweek	Sep	33.6	33.7	33.7	33.7
Oct 3	8:30 AM	Hourly Earnings	Sep	0.2%	0.3%	0.3%	0.4%
Oct 3	8:30 AM	Nonfarm Payrolls	Sep	-159K	-90K	-105K	-73K
Oct 3	8:30 AM	Unemployment Rate	Sep	6.1%	6.1%	6.1%	6.1%
Oct 3	10:00 AM	ISM Services	Sep	50.2	50.4	50.0	50.6

Source: Yahoo Finance, September 19, 2008.

In addition to a speech by Fed Chairman Ben Bernanke, the release of the FOMC minutes of September 16, the Bank of Japan monetary policy announcement (no change expected) on Tuesday, October 7, and the Bank of England interest rate decision (25 basis points cut expected) on Thursday, October 9, next week’s US economic highlights, courtesy of Northern Trust Incorporatedlude the following:

1. International Trade (October 10): The trade deficit is predicted to have narrowed slightly to $59.5 billion in August from $62.2 in July.

Click here for a summary of Wachovia’s weekly economic and financial commentary.

A summary of the release dates of economic reports in the UK, Eurozone, Japan and China is provided here. It is important to keep an eye on growth trends in these economies for clues on, among others, the trend of the US dollar.

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global markets performed during the past week.

Source: Wall Street Journal Online, October 3, 2008.

Equities
Stock markets around the world suffered badly during the past week. The week’s movements – MSCI World Index -9.2% and MSCI Emerging Markets Index -9.4% – tell the story of a terrible week for bourses around the world.

The table below, courtesy of Bespoke (using data just before Friday’s Congressional vote), highlights the one-day, one-week, and one-month performance of ETFs that represent various asset classes. Globally, Brazil, India and Russia have been hit the hardest, while commodities with the exception of gold have all been in the red as well. As far as market cap goes, mid-caps have performed badly over most of the last week and month. From a sector perspective, Industrials, Materials and Telecoms have fallen the most, while Consumer Staples and Financials have held up the best over the last month. The only two safe havens in recent weeks have been US Treasuries and the US dollar.

Please click the table for a larger image.

Also click here for my customary performance round-up of various markets over a range of measurement periods Incorporatedluding movements since the respective markets’ highs.

The US stock markets all plunged over the week as shown by the major index movements: Dow Jones Industrial Index -7.3% (YTD -22.2%), S&P 500 Index -9.4% (YTD -25.1%), Nasdaq Composite Index -10.8% (YTD -26.6%) and Russell 2000 Index -12.1% (YTD 19.1%).

Click here or on the thumbnail below for a market map, obtained from Finviz.com, providing a quick overview of the performance of the various segments of the S&P 500 Index over the week.

Fixed-interest instruments
Government bonds yields around the globe declined during the past week, led by two-year maturities as investors factored in the prospect of rate cuts from the US Federal Reserve, the European Central Bank and the Bank of England. Bond market volatility exceeded the record peak of 1998’s financial crisis.

The two-year US Treasury Note declined by 42 basis points to 1.65%, the UK two-year Gilt yield dropped by 20 basis points to 3.92% and the German two-year Schatz fell by 35 basis points to 3.32%. On the other hand, emerging-market bonds suffered as investors shunned risky assets.

US mortgage rates declined somewhat, with the 30-year fixed rate falling by 5 basis points to 6.04% and the 5-year ARM by 1 basis point to 5.98%.

The Ted spread (i.e. three-month dollar Libor less three-month Treasury Bills), a measure of risk aversion and illiquid repo conditions, widened to a record level of 382 basis points.

The Bespoke Bank and Broker CDS Index, measuring default risk in the finance industry, declined on Friday, but remained at elevated levels.

Currencies
The US Dollar Index last week recorded its largest weekly gain (+4.5%) since 1992 as investors’ concerns switched from the US to the deteriorating economic data from the UK and continental Europe.

The European Central Bank shifted its bias towards easing for the first time in five years, with President Trichet pointing to clear evidence of a weakening Eurozone economy and also conceded that inflation risks had decreased.

Over the week the US dollar gained against the euro (+5.7%), the British pound (+3.7%), the Swiss franc (+3.5%), the Canadian dollar (+4.3%), the Australian dollar (+6.9%) and the New Zealand dollar (+3.2).

The greenback also advanced strongly against emerging-market currencies as global recession risks increased and commodities came under renewed pressure. Examples include the Brazilian real (+8.4%), the Korean won (+5.6%) and the South African rand (+4.8%).

The Japanese yen was the only major currency to improve against the US dollar, rising by 0.9%.

Commodities
Fears that the deteriorating global economic situation will cause demand destruction resulted in strong selling pressure for all commodities. The Reuters/Jeffries CRB has lost 30.2% since its high of July 2, 2008.

According to the Financial Times, Citigroup estimated that total positions in commodity markets have shrunk by about $100 billion since July and said the net long position had collapsed from $58 billion in March to $8 billion as a result of the dollar’s strength and derisking by investors.

The following chart shows the past week’s severe declines for various commodities:

Now for a few news items and some words and charts from the investment wise that will hopefully assist in guiding our investment portfolios through these troubled times. And remember the old adage telling us to hope for the best while preparing for the worst.

Source: Slate

Financial Times: Fall in markets as bail-out is approved
“The US Congress on Friday passed the Bush administration’s $700 billion financial rescue package after a tense week on Capitol Hill, but stocks fell sharply afterwards amid continuing turmoil in the credit markets.

“The 263-171 vote in the House of Representatives, which rejected an earlier proposal only four days before, came after $149 billion in tax breaks was added to the bill to help sway reluctant legislators to back the plan.

“President George W. Bush immediately signed the legislation, which he has lobbied for vigorously in recent days.

“But in comments after the vote, the president sounded a sombre note about the crisis, which has coincided with a rise in opinion polls for Barack Obama, the Democratic presidential nominee.

“He told Americans they should expect the legislation to take some time to make its full impact on the economy. ‘Exercising the authorities in this bill in a responsible way will require careful analysis and deliberation. This will be done as expeditiously as possible, but it cannot be accomplished overnight.’

“The US House overwhelmingly passed the $700 billion bank rescue plan, after rejecting an earlier version. Will the bail-out help resolve the financial crisis?

“Reaction on Wall Street turned increasingly negative after the vote. The S&P 500 – which rose as much as 3.6% ahead of the decision – fell 1.4%, closing below its level on Monday after the House voted against the bill. It was the worst week for US stocks since markets re-opened after the September 11 2001 terrorists attacks.

“The decision in Washington came as Europe’s central banks took unprecedented emergency measures. Mervyn King, Bank of England governor, blamed ‘extraordinary conditions’ for a second £40 billion injection of three-month money into British banks on Monday. The European Central Bank said it would widen its quick tenders of cash from the normal 130 banks to all of the 1,700 banks it deals with.”

Source: Financial Times, October 3, 2008.

John Authers (Financial Times): A difficult week on Wall Street

Source: John Authers, Financial Times, October 3, 2008.

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