Big Rally On The Horizon?

A 158-year old company goes bankrupt in America.  This was a large institution known around the world for making deals, surviving wars, recessions, and different presidents.  Lehman Brothers is gone.  So, is it a big shock we were down 500 points yesterday on the Dow?  I don’t think so.  We come back today and open lower as investors wait for more details regarding AIG.  The largest insurer in the United States is on the brink of bankruptcy.  But, the market is flirting with mild gains on the day.  Then, the Fed comes out and says they aren’t even going to drop rates by .25%.  Many thought the Fed would not only drop, but drop by .50%.  They didn’t.  I was surprised as well.  So, down we went.  The Dow was down over 150 points.  I told one of my traders that it wouldn’t surprise me to see the market finish up.  We’ve seen this before.  You can never trust the knee jerk reaction after a Fed rate decision.  And, we did.  We finished up about 150 points on the Dow.  And this was despite the fact that we hadn’t heard anything all day on AIG.  We did hear from Barclays.  Remember, this was the firm that backed out of the Lehman deal Sunday.  Today, they bought a big chunk of their business for $2 billion which might include that really nice New York building.  The good thing is that many of the 25,000 employees will still have jobs with Barclays. 

After hours, Morgan Stanley came out with better than expected earnings but the Dow futures were down 140 points for two reasons.  First, a very old money market mutual fund that has been really conservative over the years has told its shareholders they will only receive $.97 per share as opposed to the traditional $1.00 per share we’ve become accustomed to and they can’t get it for seven days.  They owned some Lehman paper that is being marked down to $0.  This could really be bad if investors start getting scared and literally go out and put the cash under their mattress.  Secondly, AIG was hours away from bankruptcy which would have had a big ripple effect.

But, late this evening, the government made a deal with AIG which looks very similar to the Fannie/Freddie deal.  They are going to give AIG an $85 billion bridge loan.  But, in exchange, the government will receive warrants that will give them control of 80% of the company.  This will essentially wipe out the stockholders.  This is basically the same plan from a week ago.  I have mixed feelings about this.  I think taking over Fannie and Freddie was necessary and making a deal with AIG was necessary.  I think what they are trying to accomplish is to help the overall economy, potentially make some money for the government in the future, and allow stockholders to go to $0 so it doesn’t look like a bailout.  But, right now, it looks like the government is building a portfolio.  They now appear to be a private equity turnaround fund.  I understand it’s not a black and white issue.  I think everybody (the Fed & Treasury) involved is doing the best they can given the situation they were dealt.  It just feels strange to me.

After this plan was announced, Dow futures jumped up over 200 points.  From down 140 to up over 60.  We’ll see how things play out tomorrow.  I think there is enough fear out there that we get a rally.  I don’t think it’s necessarily THE rally.  But, it’s a start.


1 Response to “Big Rally On The Horizon?”

  1. 1 Ken September 17, 2008 at 11:23 am

    Hi Karl,

    What about AIG. At a price around $2.00, and the government saying that they won’t let it fail, Is this a good long term buy?



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