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Wednesday September 17, 2008 - 16:54:28 GMT
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Forex Blog - US Market Update

Dow -335 S&P -43 NASDAQ -74

- The mood remains somber this morning as markets reel in the wake of the Federal bailout of AIG and the US financial system shows continued weakness. Indices opened down more than 1. 0% and have fallen further in mid-morning trading. The August housing starts reading came in below estimates, showing construction of new homes falling to the lowest level in the last 17 years. The DoE readings showed US gasoline stocks at their lowest levels since records began in 1990, while the price of crude picked up a bit to just short of $93 after the steep declines of recent days. In addition, two leading Russian stock exchanges remain closed until Thursday due to massive losses. Traders should also note that the SEC said new rules against naked short selling would take effect on Sept 18, requiring all short sellers to deliver stock on the settlement date.

- Developments at AIG moved rapidly after the close yesterday, as earlier efforts to raise as much as $75B from a consortium of banks fell flat. Reports circulated that the
US government was considering a conservatorship and that Treasury Secretary Paulson and Fed Chairman Bernanke were meeting with Congressional leaders to hammer out a response to the day's market turmoil. Other reports noted that AIG had even gone as far as to hire the law firm Weil Gotshal to draw up bankruptcy papers (ironically this is the same firm handling Lehman's bankruptcy). The Wall Street Journal then broke the news that the Fed was seriously considering a extending a large bridge loan to AIG in exchange for warrants in a move that would likely dilute shareholders' positions. By late in the evening Fed officials confirmed that the New York Fed would grant AIG a $85B, 24-month term loan in exchange for a 79.9% equity stake in the company, while emphatically denying that the company has been nationalized. Overnight Fitch revised its outlook on AIG to Evolving from Negative, although none of the other ratings agencies have made any moves. UBS cut its price target to $5 from $26, noting that the potential for credit ratings upgrades is very remote. The firm will likely be removed from the S&P500 and the DJIA very soon.

- - In a surprise move, Morgan Stanley announced its third quarter results a day early yesterday after the close. The firm beat estimates by a long shot and came in $2B ahead of revenue estimates, and said they would maintain their dividend. The firm said its net subprime exposure was zero at the end of August, and noted that its tier 1 ratio is 12.7% and level 3 assets were 8% of total. Analysts responded with enthusiasm overnight, given this is about the only ray of sunshine in finance recently, with Bank of America and Credit Suisse raising their full-year earnings estimates. Goldman Sachs Analyst Tanono called MS the most attractive name in the large-cap brokerage space. Regardless shares are down more than 40% and credit default swaps are blowing out. Just before the open, CNBC's Charlie Gasparino reiterated that his sources say the firm is not holding merger talks with anybody. The firm's shares opened down nearly 25%, but were recovering in early trading. The remaining major financial firms opened down 5-10% and the selling has accelerated.

- Other movers this morning include SNDK+45% after
Samsung said it might be willing to pay a significant premium to the $28.75 closing price on May 22, well above its former offer of $26/shr. SNDK's board rejected the offer, noting the offer does not reflect the value of the synergies Samsung could attain from an acquisition. NT-36% has fallen steeply after lowing its Q3 revenue outlook, citing the economic downturn and sluggish consumer demand. Shares in Constellation Energy plunged yesterday afternoon on fears surrounding their commodities trading business and the company's ties to Lehman. This morning CEG reaffirmed their outlook for the coming quarter and the year, noting they have also retained UBS and Morgan Stanley to evaluate strategic alternatives, and is holding talks with potential strategic partners. CEG is +19% in mid-morning trading.

- Currency and bond trading has been marked by renewed concerns over the health of the global financial sector. As noted at the European open, FX, equity and fixed-income traders are all fixated on the need for USD funding. The overnight dollar LIBOR fixing brought a slight relief with a 5.03% rate compared to yesterday's 6.44% fixing, but attention soon shifted to the three-month fixing, which rose by a whopping 19 bps to 3.06%, the largest daily increase since 1999. The market tension was mirrored the TED Spread (the difference between what banks and the Treasury pay to borrow for three months), which hit its highest level since the October 1987 market crash, at 234 bps. The TED Spread was around 50 bps before the credit crisis began in Aug 2007. Fed funds continued to remain over its 2. 0% target rate as the New York Fed reiterated that it will continue to supply the market with the necessary liquidity. The 2-year yields has fallen below 1.65% and Nov fed fund futures are fully pricing in a 25 bp cut at the Oct FOMC meeting and even putting 16% odds on a 50 bp cut.

- Dealers noted enormous flows of money seeking the safety into the short end of US Treasury curve. Dealers noted that the 4-week bills reached briefly below ZERO percent, which is the lowest level since the one-month bill was reintroduced in 2001. North American dealers expressed some serious concerns over the degree of dislocation within the commercial paper and money markets at this time.

UK's BOE extended its drawdown period for special liquidity schemes while the US Treasury Department announced the initiation of a temporary Supplementary Financing Program at the request of the Federal Reserve.

- Compounding the “flight to safety” was the situation developing in the Russian equity market. Both the MICEX and RTS equity exchanges were again halted and failed to reopen for trading on Wednesday. Following Tuesday's steep losses, the Russian interruption created an additional uncertainty. Spot gold joined the global chorus of safe-have as the metal surge $50 to trade above the $830 area. Thus trading today exhibited a 'loss of confidence' in paper assets aided the widening credit spreads. The Russian Central bank responded to its market crisis by slashing its reserve requirement for Rouble deposits by 400bps, effective on Thursday.

- The USD held steady against the European pairs despite the surge in gold and firmer energy prices. The steady USD was complementing the earlier scenario of safety and displaying a 'decoupling' to its usual relation ship to commodity price action. Carry- related pairs were softer as global equity market gave back advances seen following the FOMC decision to hold rates steady and the US Gov't bailout of insurer AIG

TED Spread (The difference between what banks and the Treasury pay to borrow for three months)


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