Market Update - October 16, 2008

 

TURNING AN OCEAN LINER

 

In the following paragraphs, I will summarize the steps being taken to stabilize the world stock markets.  However, even though these strategies are sound, I am reminded that even when the captain decides to turn the ocean liner, it takes a long time to do so.  We are in the process of turning the ship, but it will take awhile.

From October 1st through October 10th, the Dow dropped 2,380 points or more than 21%.  Then we had a tease on Monday the 13th with a 936 point rally before the markets took that back in the next two days.

The major elements of the federal government’s expanded response to the financial crisis have been:

  • The Treasury will use up to $250 billion from the $700 billion financial rescue package to purchase senior preferred shares in banks.  Nine major banks will participate initially.  In addition to the nine major banks, thousands of others may participate.
  • FDIC will guarantee 100% of newly issued senior unsecured debt of banks, thrifts, and some holding companies for three years.  They will also provide unlimited deposit insurance for bank accounts used by small businesses through December 31, 2009.
  • The Federal Reserve will buy high-quality, three month maturity commercial paper through April 30, 2009, backstopping a market used by major corporations to pay for day-to-day operations.
  • The banks involved in the rescue plan will issue preferred stock to the government.  It will carry a 5% annual dividend, rising to 9% after five years.  The banks will also face caps on executive compensation, restrictions on dividend payments and more pressure to help homeowners.

A couple of additional points:

  • The entire stock market’s capitalization (value) in October 2007 was $18 trillion.  It has dropped to $10 trillion in a year.  John Bogle, formerly the chairman of Vanguard, said that anyone who thinks the market is worth $8 trillion less in one year is “crazy”.  This implies that Mr. Bogle believes the market is undervalued.
  • Dividend yield on the S&P 500 is up to 3%.
  • The market’s book value (liquidation value) is $5 trillion.  The market is only selling at $10 trillion or twice the book value.  Fair value is considered four or five times book value.
  • Abby Joseph Cohen of Goldman Sachs believes the recession will not be deep and will bottom by Spring of 2009.  She said the market typically rallies six to nine months before the recession ends.
  • Henry Paulson stated the government plan is good for the country, the banks and the markets.
  • The British government infused $63 billion into three leading banks.
  • European central banks put $2.3 trillion on the line to protect European banks.

 

We will have a better sense of credit loosening when the “LIBOR” (London Interbank Offering Rate) rate declines further.  I will elaborate more on this in a future email.

It has become quite apparent that the markets are still “afraid”.  Until we can dispel the fear, there will be more rough days ahead.  It will take a while to turn this giant ocean liner.

Thank you for your patience and understanding of the environment we are experiencing.  We are extremely grateful for our good fortune to work for you.  We are constantly searching for new investment opportunities during these stressful times.

Best Regards,

Edward J. Kohlhepp, CFP®, ChFC

Edward J. Kohlhepp, Jr., CFP®, MBA

“No one would ever have crossed the ocean if he could have gotten off the ship in a storm” …..unknown

 

*Information in the above paragraphs was gathered from articles in the Wall Street Journal.

 

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Kohlhepp Investment Advisors, Ltd.
3655 Route 202, Suite 100
Doylestown, PA 18902
Phone: 215-340-5777
Fax: 215-340-5788
Email: Info@KohlheppAdvisors.com

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