The market loves to get reasons for declines.  Today, it was:

• Merrill Lynch’s “timely” downgrade of stocks in the brokerage sector,
• Case-Shiller report on the decline in home prices (what a shocker),
• decline in the Conference Board’s Consumer Confidence Index (no kidding),
• FOMC meeting minutes from August 7th that weren’t hawkish enough, and
• the really enlightening assessment that there were too many bulls on vacation.

Of course, none of this should have surprised anyone.  At some point, investors need to do a little more thinking than the tv reporters and realize that stocks went down today.  That’s it!   Listening to any of these reasons for declines statements of the obvious will not make you wealthier or less poor.

With the signing of the Gramm-Leach-Bliley Act in November 1999, Congress repealed the Glass-Steagall Act of 1933. Most people will point to this as a great moment for financial innovation and competitive markets. While I agree with the majority of those arguments and the global marketplace made it inevitable, I think it’s important to reflect upon the negatives that have come along.

Here’s a great summary of the timeline associated with The Long Demise of Glass-Steagall. Historians will debate the root causes of The Great Depression long after we have a Greater Depression and I won’t do that now. But here’s a snippet lifted from a good article on the subject…

Reasons for the Act - Commercial Speculation
Commercial banks were accused of being too speculative in the pre-Depression era, not only because they were investing their assets but also because they were buying new issues for resale to the public. Thus, banks became greedy, taking on huge risks in hopes of even bigger rewards. Banking itself became sloppy and objectives became blurred. Unsound loans were issued to companies in which the bank had invested, and clients would be encouraged to invest in those same stocks.

When I reflect on all that has happened in recent months with CDO’s and subprime lending, reading through the history of the Great Depression has been scary. It’s almost as if the ghosts of Glass-Steagall are coming to haunt us. Last week, the Fed gave an exemption to Citigroup and Bank of America that has been largely ignored by the media and it attacks some of the most legitimate protections enacted 74 years ago.

At the banks’ requests, the Fed is “temporarily” and indefinitely waiving regulations that effectively limit a bank’s funding exposure to an affiliate to 10% of the bank’s capital. Citigroup and Bank of America are now able to lend up to $25 billion apiece under this exemption and according to Charlie Peabody, analyst at Portales Partners, “that represents about 30% of Citibank’s total regulatory capital, which is no small exemption.”

The Fed is walking a very fine line here and I am sure they know it. They claim this was done in the public interest to allow the biggies to bring liquidity to the their brokerage operations as quickly and efficiently as possible. However, there is another public interest and it was created with the Glass-Steagall Act - it’s called FDIC. If you ask the average American why they have confidence that their money is safe in the banking system - the number one reason will be FDIC. When we put the depositors’ trust at stake by bending rules like this, I can only imagine what the ghosts of Carter Glass and Henry Steagall must be thinking.

I keep pointing out the severity of the Fed’s actions and this exemption for Citigroup and Bank of America is just another example. Whatever the Fed is preparing for….my fear is rising.

When it was made in China, American citizens, the media and the politicians were all over the dangers of imported food for humans and our pets. It was so easy to start ramping up the trade protectionist rhetoric and threatening legislation. Even US farmers got in the act by using the well-timed problems (what a coincidence!) to advocate for the disastrous farming bill. I can still hearing Joe Farmer saying how important it was to reward US agriculture for keeping our food supply safe. In the past few days we’ve had a human food scare of shigella from baby carrots packaged in the United States and a pet food scare of salmonella from Mars Petcare (of candy bar fame and one of the great American companies). And where is the outrage or media hype? Is food safety only a concern if it comes from China? I’d love it if all food was safe in the United States and all over the globe. Unfortunately, that is not the case and we need to deal with the problems when they arise. But let’s try to keep this whole thing in perspective - it is a health issue - not a convenient political opportunity to increase protectionism.

The Federal Reserve Bank of Kansas City is sponsoring its big economic symposium in Jackson Hole at the end of this week and I’ve not been invited. There’s no skiing this time of year but I’d still love to be there. It’s a tough ticket with only about 100 invites going out to the Fed members and other “prominent central bankers, finance ministers, academics, and financial market participants from around the world.” Obviously, I would never expect to be in this crowd and I have no idea what really goes on there. But my impression is that it’s groupthink at its worst. One economist debating with another economist might lead to an economics lesson, but I wonder what it means for the rest of us. For example, Chairman Bernanke’s Friday morning lecture is entitled “Housing and Monetary Policy” and while I am sure the past few weeks have provided a few good revisions to the final draft, what will it do? Who will hear it but a bunch of the same people who have contributed to the mess that we now have?

I understand how most investors want to feel like we have bottomed and while a plateau feels safe and flat, it is NOT a bottom. As much as the selling pressure has obviously declined, it looks like a temporary situation. Before the Fed’s discount rate intervention, I wrote a post called Are We There Yet? and suggested that I was looking at four items before I could feel that we had stabilized. While some of these have stopped getting worse, they have not gotten better.

The first was Currencies and it had to do primarily with the Yen Carry Trade. While the Yen has pulled back off the highs it reached during the panic on August 16th, I am still not seeing the exchange rate movements that would imply that the Carry Trade has stopped being unwound as a whole. The BOJ decision last week to hold rates steady was helpful to calm the situation but it is a response to what happened in my opinion and not necessarily something that will prevent further appreciation of the Yen if global problems return. It’s a bit disconcerting to hear investors and commentators suggest that it is being put back on and I feel they have gotten ahead of themselves. During the decline I suggested that the Yen Carry Trade would be unwound slowly and in layers. The most liquid assets supported by the carry were likely sold and the Yen appreciation reflected that. I don’t doubt that some short term trading opportunist have put some of those trades back on after the central bank intervention. However, if we have another problem those recent trades will vaporize and the next round will likely cause a greater spike in the Yen. I am watching the Yen/Kiwi, Yen/Euro as well as Yen/USD and while they have stopped making moves that really concern me, they are not yet back into ranges that tell me we have stabilized.

The second factor I was evaluating was The HEDGEfolios Timing Indicator. Since April 30th, my proprietary market reading was bearish and over the past few weeks, it has actually been moving towards a bullish crossover. I’ve come to trust this measurement over the past few years - especially at times when it conflicts with prevailing market sentiment. Right now it is leveling off, but I suspect it’s a plateau and not a bottom.

Thirdly, I was watching for demand along the Treasury yield curve. We saw a massive flight-to-quality asset allocation and while I usually only discuss the 10-year, that is not sufficient right now. So instead, I’ve been focusing on the shorter end of the curve as evidenced by the 90-day T-Bill, the TED Spread and the 2-Year. These measurements have shown a lot of improvement over the past week, but we are not back to even. Once again, investors need to discriminate between something that feels less bad and something that is normal.

Lastly, I was evaluating the move in Emerging Market Equities. While most of these markets have rebounded about 12% off the recent lows, I am not convinced the move is sustainable. The volume accompanying the rally has been very light and while the selling has declined, I suspect that it’s too early for most investors to put new money to work in this area.

Overall, things are less bad now than they were before the Central Banks stepped in. The relief that investors are feeling from a decline in selling pressure has not resulted in meaningful capital being reallocated to riskier assets. I am not looking for new record highs before becoming entirely bullish, but I am being objective enough to at least wait for us to get our heads above water.

During the most recent decline, many commentators (including me) suggested that investors were raising cash by selling whatever was liquid.  “Everything but the kitchen sink” as they say.  And that’s the danger if we get another push lower.   A lot of the good stuff was sold and if we have to go through this again, the next layer down will not be as liquid and as valuable.  Watch out for kitchen sinks!

Countrywide Financial announced a buyback plan of $2.5 billion last November.

This from their most recent 10-Q (through 6/30/07):

In November 2006, the Board of Directors authorized a share repurchase program of up to $2.5 billion. In connection with this program, the Company repurchased 60,143,388 shares of its common stock for $2.4 billion.

That breaks down into:

• $1.5 billion spent on 38,639,876 shares - average price of $38.83/sh in Q4-2006.
• $0.9 billion spent on 21,503,512 shares - average price of $40.39/sh in Q2-2007.

Meanwhile, Chairman and CEO Angelo Mozilo has been dumping shares. Lots of them. Many tens of millions worth in fact. Of course, the defense is that these are all option sales as part of existing 10b5-1 plans. However, just spend the time to pull up all the Form 4’s for Mozilo during this time frame and find the small print at the bottom to determine when these plans were adopted. Here’s the most recent Form 4 (August 13, 2007) and the first one starting in November since the plan was announced to get you started. Or you can click on this Yahoo finance link and just total them up here on one page( warning: it’s a long one.) I am not sure when the sales will stop but I guess if CFC had declined to less than the $14.69 option exercise price it would have ended already. Do some more homework on your own and find out when these options would have expired. Hint: Not quite yet.

So let’s sum up here: Countrywide announces a buyback plan last fall and investors cheered. You gotta love those buybacks!! The buybacks were not paid out of cash using the “this is the best use of cash / excess cash flow” excuse. Instead, the company issued debt - junior subordinated debentures as a matter of fact. How would you like to be holding those right now? Through 6/30/07 the company repurchased $2.4 billion of stock under the plan at an average price of $39.38 per share. As of today’s $21 close, that comes to a 46% decline and a loss of $1.1 billion for shareholders. Meanwhile, the CEO was selling shares (legally) and netting tens of millions in the process. And by the way, he wasn’t the only insider selling - just the one with the best tan and biggest role at the company.

FYI - a few lawyers are already filing the shareholder lawsuits. This one is going to get ugly. Here’s a good sample:

Lerach Coughlin Stoia Geller Rudman & Robbins LLP announced that a class action has been commenced in the United States District Court for the Central District of California on behalf of purchasers of Countrywide Financial Corp. common stock during the period between January 31, 2006 and August 9, 2007. The complaint charges Countrywide and certain of its officers and directors with violations of the Securities Exchange Act of 1934. The complaint alleges that during the Class Period, defendants issued materially false and misleading statements regarding the Company’s business and financial results. As a result of defendants’ false statements, Countrywide stock traded at artificially inflated prices during the Class Period, reaching a high of $44.94 per share, and certain of the defendants were able to sell over $440 million worth of their Countrywide shares at artificially inflated prices. On July 24, 2007, defendants were forced to publicly disclose that Countrywide was recording hundreds of millions of dollars of impaired losses in addition to those recorded in the first quarter of 2007, causing its stock to drop to $30.50 per share. Later on August 9, 2007, upon the filing of the Company’s Form 10-Q for the second quarter of 2007, Countrywide’s stock dropped to $24.71 and then, as the market began to appreciate the extent of Countrywide’s problems, to below $20 per share.

Mr. Mozilo can complain all he wants about the “reckless” Merrill Lynch analyst that questioned the company’s viability. I’d be surprised if he tries to sue them. After all, maybe the analyst just looked at Mr. Mozilo’s stock sales.

I know it’s easy to cheer all the buybacks that have been announced and are supposedly improving the fundamentals of this market when the shares are actually purchased. But that is exactly what was said in November about CFC and their plan. So as CFC got bailed out this week, the market cheered once again. I am about as impressed this time as I was last November.

For the past year, many bears have been discussing the dangers of subprime borrowing. Initially, the bulls told us we were exaggerating. Then they told us it was contained. Then it was hedged away. It was small. It wasn’t related to prime. It wasn’t going to affect the economy. All that stuff and more. So forgive me if I have little respect for the next argument that the Fed’s actions somehow have solved the problem.

I know it’s tough for everyone involved in financial markets to stop the selfish obsessing about the financial implications for their brokerage statements. But that’s about all I see so far. I know the Fed intervention has bailed out equities (for now) and I suspect it’s resolved some issues in the debt markets (not sure).

Investors walk around with the relief of not losing more money or the thoughts of Dow 14,000 as if the root cause has been solved or even improved. Economists talk about foreclosure rates like it is a debate solely for tv. How can it be spun in support of a cut or how can we say that it’s not so bad? Forget about the real people behind the numbers. Politicians spend a lot of time holding hearings or making good soundbites for votes. “Journalists” use the subject to fill the page or tv screen with their wisdom. I spend my time ranting about it on this stupid blog.

But what has really been done to help the people in financial distress with their homes at stake? How many foreclosures have been saved as we debate the merits of what is being done or not done? How many families are better off in the six months since HSBC announced their problems with US Subprime? Instead of dealing with it, we’ve spent more time saying it’s not a problem or trying to prevent a non-problem from affecting our investments. The housing crisis is worse and it’s not getting better.

What would have happened?

• Shareholders would have lost money.
• CFC lenders would have lost money.
• Many of the 55,000 employees would be unemployed.

Other than that - what would have happened?  What do we know for sure?

• Would no other mortgage lender make a loan to CFC applicants?
• Would no one service existing loans?
• Would existing borrowers default more than they normally would have?
• Would the housing market crumble?
• Would the economy come to a halt?

Maybe you know the answers.  Maybe the Fed knows.  I have no clue.

• Durable Goods up 5.9% in July - not my definition of increasing economic weakness.
• New Home Sales up 2.8% in July - not my definition of increasing economic weakness.

Like any data, it can be spun and parsed in as many ways as you need to prove whatever point you want. Case in point - it was interesting to see and hear uberbulls tell you that this positive data was great for the markets. Nevermind that they were screaming how terrible the economy was a week ago and how the Fed intervention was so critical to save the markets. But not every bull wants to like this data because it might interfere with the Fed Funds Rate cut. So we get the inevitable - “ya buts.”  Ya but that was through the end of July, not mid August. Ya but new home sales is still 10% off last year. And on and on with the usual stuff.

For the record, I like the numbers. I don’t want a rate cut. I don’t want a recession. I don’t believe the Fed can save us from recession simply by cutting rates. I have this odd traditional view of capitalism that focuses more on free market participants like producers and consumers and employers and workers than I do on the government. So I don’t like to see foreclosures or layoffs or poor retail sales. I won’t cheer for them so they can justify a rate cut. It just makes no sense to me. I guess I’ll leave all that up to the people that call me negative.