News&Notes: CALPERS, Yen Gains, Citadel & Tech. Finance Defaults

RCM Comment: The following three stories are all connected and offer a clear window into the asset bear market we are experiencing. The forced selling at CALPERS is a microcosm of what is going on all over the investment community. Forced selling leads to all sectors going down at the same time: financial, technology & commodity. No sector is spared and no fundamentals matter for the short period of time while the unwind occurs.

Next, we have hedge fund liquidation and prime brokers targeting emerging market funds in particular. So we have the perfect storm of mutual fund, hedge fund & pension fund forced selling. This is the first time in history we have seen draw downs in stock & bond funds, hedge funds, money market funds & savings accounts all at the same time. We call this phenomenon 'massive deleveraging'. As long as this action continues we will see lower prices of all assets.

These stories, of course, explain why the Japanese Yen is exploding in value vs. all currencies. With prime brokers targeting emerging market hedge funds, the massive redemption and repatriation is causing a dramatic unwind of the Yen carry trade, a favorite of emerging market hedge funds.

When this cycle comes to a close (and like all cycles it will) we will experience dramatic revaluation of certain assets that were affected simply because they were caught in the net of redemptions and forced liquidations. A cool head and a keen eye will lead us to significant opportunities in the weeks and months ahead.

CALPERS has consistently said they “never” sell stocks. That changed this week, as the world’s largest pension fund announced they are undergoing forced selling of stock to cover pension fund disbursements.

Hedge funds face collateral pressure - FT
FT reports the survival of a raft of hedge funds is being threatened by fresh pressure to stump up more collateral for trades made in a range of illiquid assets. So-called prime brokers, who provide a range of services to hedge funds, are imposing tougher conditions on their clients and charging more for financing following the collapse of Lehman Brothers in mid-September, raising fears that more funds face collapse. The more conservative terms mean that a hedge fund would have to put up additional collateral against financing if markets fall further, or sell down its holdings. The problem for many hedge funds is that they have already sold down their more liquid investments and are grappling with a wave of redemptions from their own investors. Further collateral requests or higher financing costs may push many of them over the edge. One fund manager said: "Funding is being withdrawn by prime brokers and funding rates have risen sharply in the past week or two. A tough environment is just getting tougher." Industry managers are concerned that renewed market turmoil, leading to weaker performance and client redemptions, could lead to a vicious circle of selling by hedge funds. One prime broker said the situation was "on a knife edge". "Everyone needs to keep their nerve," he said. He added that prime brokers were particularly targeting funds that specialized in emerging markets.

G7 warns on excessive yen gains - Guardian Unlimited
Guardian Unlimited reports Japan is poised to intervene in its currency market for the first time in more than four years after the G7 issued a warning over recent excessive gains by the yen that have pummeled exporters' profit forecasts. In an emergency statement issued in Tokyo, the G7 stopped short of calling for concerted action to rein in the yen, which last Friday rose to a 13-year high of 90.87 yen to the dollar, but said cooperation remained an option to bring stability to global markets. The G7 said it was concerned about "excessive gains" by the yen that have forced major Japanese exporters to drastically reduce profit forecasts as the weak dollar eats into exports to the US. "We reaffirm our shared interest in a strong and stable international financial system," the statement said. "We are concerned about the recent excessive volatility in the exchange rate of the yen and its possible adverse implications for economic and financial stability. "We continue to monitor the markets closely, and cooperate as appropriate."

Citadel seeks to reassure debt holders - WSJ reports Federal officials are closely monitoring large hedge funds, wary of a shakeout in the industry and the risk that market woes could trigger hidden, systemic problems from the largely unregulated sector. In recent days, examiners with the Federal Reserve questioned Wall Street counterparties in at least two instances about their exposure to debt and other holdings of Citadel Investment Group and Sankaty Advisors, the credit-investment affiliate of private-equity firm Bain Capital, according to people familiar with the matter. Two Sankaty leveraged-loan funds that had several billion dollars in assets have declined as much as 50% this year on credit losses, according to people familiar with the funds. While regulators don't expect to launch any hedge-fund bailouts, they are examining whether any could pose a threat to the broader financial system if the funds do run into trouble.
RCM Comment: This story requires constant monitoring. As we have learned over the last few months reassurances are often red flags of impending disaster. You need only to remember the stories leading up to the collapse of Bear Sterns, Lehman Bros. and countless others to see the value of reassurances.

Tech finance defaults rise - WSJ
WSJ reports troubles are brewing in the technology-financing business, the credit that greases many technology sales. Defaults on tech financings, loans that allow companies to purchase computers, software and other products, have spiked this year. The problems are surfacing after years in which such loans flowed freely. Now the banks and specialty lenders that most tech companies rely on to finance customer sales are retrenching, and financing terms are getting tougher. Some big tech companies, such as International Business Machines (IBM), Oracle (ORCL) and Cisco Systems (CSCO)., are stepping into the void -- lending more of their own money to customers and taking on new risks. In September, 0.86% of equipment loans -- which includes a range of office equipment -- were written off as losses, up from 0.48% a year earlier, according to the Equipment Leasing and Finance Association, an industry group for 700 lenders. While the numbers appear low, it's about the same as the percentage of real-estate loans -- around 1% -- expected to be written off in the third quarter by the top 100 U.S. commercial banks, according to research firm Aite Group. Tech-financings will reach $88 billion, about 14% of the total amount spent on computer hardware and software this year, estimates IDC.
RCM Comment: We have been developing the theory that as we come out of this bear market the best investments will be companies with strong cash flow and solid dividends. The era of growth stock out-performance may give way to dividend stock out-performance, much like we saw in the 1950's. The above story is one example of why growth stocks will carry lower P/Es.