Trader’s Narrative

Right now the commercial paper market is in an unprecedented seizure. Similar to the TED spread and the “Panic Button” indicator, the spread between the short term high quality and poor quality commercial paper is gone off the charts:

Source: Federal Reserve

If you have scoffed at hearing experts use superlatives, then this chart should bring you to a new found realization that no superlative would do justice.

The consequences go beyond the financial industry causing even sound businesses to have tremendous difficulty meeting cash flow demands. There is always a spread but this is more than just fear due to counter party risk. This is choking off the very life blood of the economy: liquidity.

People are selling their money market funds, which causes the funds to sell to meet the redemptions. Unfortunately, some of their assets are worth less but most importantly, there just isn’t enough liquidity.

The Treasury’s $700 Billion bailout plan also includes an “insurance” scheme to guarantee the value of all money market mutual funds similar to the government’s guarantee on funds in bank deposits (FDIC). Of course, this causes even more pain for the banks because the money market funds pay much higher interest and because of this new guarantee are equal in risk to bank deposits that hardly pay any interest. Furthermore, the FDIC protection only covers $100,000 while this new guarantee is unlimited.

When you consider the magnitude of money market funds in the US, you realize that this is a huge issue which has received much less attention than it deserves.

Here’s the sentiment recap for this past week:

AAII
Although the participants fill out this survey after the market closes on Wednesdays, the AAII this week actually showed an increase in bearish sentiment. Considering that we had an amazingly trending upday with a wide range, you have to wonder just what it will take to sooth the ruffled feathers of retail investors.

AAII bears went from 53% to 56% while bulls came in at only 29%. This sentiment measure is now showing real fear unlike a few months ago. Back then I theorized that the retail investors weren’t scared because they simply didn’t have anything invested.

Now it seems that they are again committed to the market and very worried. Which, in contrarianland is a great sign that we are going to have a continuing rally here.

Fund Flows
According to AMG Data Services, the only week in November with positive fund flow was the second to last with a tiny uptick. The other weeks saw massive mutual fund redemptions.

In fact, the second week of November witnessed a spike of mutual fund sales which was significantly higher than mid-August this year. As scood commented, there is a huge pile of money sitting in money market funds. So it seems that the crowd has been fleeing the domestic equity market and taking refuge in fixed income.

Time to zig when the crowd zags. But what I don’t understand is if the crowd is sitting in money market funds again, why are they scared now about the stock market’s recent turbulence?

Magazine Cover Indicator
The Economist cover for this week is a bit of a conundrum. The dollar has been crashing and burning for some time now. That’s not news.

At first glance it seems to be a classic contrarian bullish cover… but the fact that they’ve used the word “panic” in the heading gives me pause. It is a bit too self-aware for my taste.

I haven’t even read the article so I’m reserving judgement but even so you could argue that the explanation matters less than the visceral effect of the image. A flaming spitfire, about to crash with George Washington calmly facing the inevitable…

What emotions do you think it conveys?