My play on Wells Fargo has certainly done me well these past couple of trading sessions.  I think a lot of the easy money has been made in the short term in the financial names but it is never a good idea to get in the way of a market trading on momentum.  Also the FASB and SEC gave testimony on Capitol Hill yesterday and stated that they are going to give guidance to relax the rules of mark to market accounting in about three weeks.  I can’t help but think the anticipation of this news has been largely responsible for the rally these past couple of sessions.  This is probably one of those situations where you buy on the rumor but sell on the action.  If the financials continue to rally for the next couple of weeks I would be wary of putting new money to work for the short term.  I think many of the financials are undervalued for the long term but that does not mean they can’t have a 50% retracement once this current market bear market rally is over.  And I think it is important to note that this indeed a bear market rally, there has been no fundamental change in the economy and changing accounting rules is only going to have a short term effect on the financials.  In fact the economy is still getting worse at an accelerating rate, the first time unemployment figures this morning were even at the high end of expectations, which does not bode well for the recession ending anytime soon.  But luckily the stock market looks forward and does not necessarily reflect the economy as it is now.  If you expect a large one day downside coming soon, as I do, it is very tempting to get long the ProShares double short commercial real estate, SRS. It has gone from 110 to 60 in just one week, a bounce downward in the market could be a bounce up in this fund.  It also has had a pretty well established bottom in the high 40’s to low 50′ so your downside is potentially limited. It is a high risk high reward trade.

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Tomorrow the FASB is possibly going to issue guidance on how to apply the mark-to-market rule for the financial industry.  Right now assets on a bank’s balance sheet have to be valued at what the bank could go out to the market place and sell them right now.  Of course the problem being that there is almost no market right now for securitized mortgages in the US with “bad” loans in the portfolio.  This is forcing the banks to write down the value of these assets to very low levels which affects the amount of capital that they have to provide in order to properly leverage their balance sheet.  Capital is basically the banks own money, they keep this money in a big room and then loan out the depositors money.  If a bank has $50 billion in capital and $500 billion dollars in outstanding loans then their leverage is 10 to 1.  the problem over the past year is that the value of the mortgages are in question.  If the bank lent a person 100% the value of the home and the value of the house has fallen 50%, the homeowner might choose to walk away from the house and let the bank sell it.  If this happened to 10% of the mortgages the bank owns they would have to “write off” 25 billion dollars against their capital, decreasing their total capital to 25 billion and while only decreasing their loans outstanding to $450 billion.  This would increase their leverage to 18x, even though 90% of their loans are performing just fine.

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Here is a scary statistic that Bryce pointed out to me this past week from Yahoo finance, GE’s tangible book value is $7.9 billion and their total liabilities are $693 billion giving a 88x multiple.  For comparison Fannie Mae as of December 31st has a comparable multiple of 96x.  It is pretty much accepted that FNM has no common shareholder value even though it is trading around $0.36 per share.  So why is GE also not trading in the penny range if it has leveraged its balance sheet to a similar degree?

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In many ways the market has been acting irrational these last few months, but in order to prove me wrong the market almost acted rational today.  The poor jobs report did for some reason provide a bounce at the beginning of the day so my prediction was partially correct.  However, it was the absolutely terrible report and the revisions to the previous months were nothing less than stunning!  As the day has continued on the market correctly identified the jobs report as bearish and has now lost about 2%.  If you sold on the rally this morning, as I did, the jobs report Friday theory worked.  Regardless, WFC was not the way to play the market these last few days, that was a bad assumption.

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Part of my theory on jobs reports and the stock market came true today and part of my way to benefit was wrong.  The ADP report suggested that 697,000 jobs were lost in February which is a staggering amount… but the stock market was up convincingly.  My individual play of WFC however failed miserably.  Not due to the jobs report so much as they were put on the ratings downgrade watch by some of the ratings agencies.  The whole financial sector was weak today in contrast to the market as a whole which was up across the board.

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Call me crazy, but with the jobs reports as bad as they are, you would think that the markets would be cringing every time that they are released.  It is also safe to say that there have been no upside surprises, so why has  jobs report Friday been the safest trade since the 3rd of October.  That’s right, the last time that the S&P 500 finished lower on a jobs report Friday was the 3rd of October, 2008.  I am not necessarily advocating going out and getting ultra long the S&P, but if you think there is a bear market rally coming, why not chose Friday as the launching point.  One of the stocks I particularly like is Wells Fargo, they have a huge new short interest that I think are late to the game and will want to get out at the earliest sign of a rally.  So this Friday watch the markets with the jobs report, I would love to see what would happen if we had a positive surprise in the jobs numbers, it could be one of the messiest upside days in the history of the market.

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