The Dow Jones Speaks - 3 / 27 / 2009

This Dow Jones Index is very different from the Dow Jones Index of the past. What was once an elegant and simple barometer measuring the health and forecast of America's 30 greatest companies, has become a bipolar, reactionary indicator of day trader sentiment. It is this writer's opinion that the creation of the Dow Jones Index shares, which enables you to buy or sell pieces of each Dow Jones component in one single transaction has in fact ruined the very value the Index was designed to report.

Wall Street continues to hail the American Exchange for creating this trading opportunity, and by Wall Street standards, it has been one of the greatest successes of all times. The daily volume trades in the Dow Jones components have soared, and the "Diamonds" as the index shares are called trade as liquid water in the Amazon.

But in market conditions like we have beginning 2007 when valuations on companies far exceeded any rational financial math combined with market liquidity fed by extraordinarily lax margin standards even the most bullish of equity analysts stopped risking large investments in single issues, and instead focused their efforts on the momentum driven index investments. And the Diamonds, with their huge daily move potential and extreme liquidity fit the day trading psyche perfectly. Except unlike the $10,000 positions that fueled the day traders of the Internet bubble, 100,000 - 1,000,0000 positions became the norm as professional money managers and the traders became the new day traders.

With this switch, the Dow Jones became an index of hourly day trader sentiment of the US Economy, and its crazed runs and dips caused by speculative watchers of intraday technical trends and charts. And now we have a Fed and Treasury Secretary to is reacting to this index..How?

Well we and they really do not know how bad the banking system is, nor how far out and how large the legitimate counter party claims on derivatives go. Why does the Treasury continue to give money to AIG? Not to save AIG, but to settle the claims of the parties who bet incorrectly in this economic fiasco who in turn owe money to the parties who bet correctly. See AIG insured the parties that bet incorrectly. And those parties include Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General, to name a few. These illustrious institutions can not afford to pay the claims against them unless AIG covers their losses. And AIG can't cover their losses unless the US government pours more and more money into it.

Now back to 2007. The hardened financial traders only care to make money. They smell blood and they begin selling the Dow Jones Index in massive quantities knowing that a wrong bet may cost them 5% at most because of the extreme liquidity of the Diamonds. Meanwhile, fund managers running your money are, in general blind to this momentum driven equity fiasco. They think, "Hey, i guess selling has started because valuations are too high." Most of these managers recognize that P/E multiples of 20.0x - 24.0x are a bit high, so a 15% retrace of the 2007 valuations is likely and expected. They sell a bit, but hold the vast majority of their Dow Jones component positions. That brings the Dow into the 12,500 range. But the traders keep selling. And by know the losses are piling up at a pace your fund managers who are strapped to individual issues can't keep up with. Traders, interested only in the super liquid Diamonds keep selling. They keep the momentum going and pretty soon Dow Components see multiples go to 8.0 - 10.0 x and the DOW indicated market loses 40% - 50% of its value with your fund managers wondering how and why.

Now bring in the economists who have a systemic financial issue, caused by the ridiculous expanse of the derivatives markets and the abusers of it, combined with their incorrect assumption that the Dow Jones Index is still a great barometer of the US economy, and they, including the Treasury, feel justified in throwing trillions of dollars into the pockets of the ring leaders of this crazed capital market gyration. I listed a few of them above (AIG,Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General).

These institutions will not do good for the world unless the world aligns itself with their needs. But the Treasury and the Fed feel these groups are an integral component to the World Economy Functioning properly. This is no longer the case. while in a Bull Market they are leaders in raising capital for speculative ventures, in Bear Markets they are the leaders of the race to the bottom.

I ask all readers - Who funded India's, China's, Korea's last 20 year trajectory? Commercial lenders and private equity. Not Wall Street World. Wall Street World came in only lately to take advantage of the last 20% speculative growth. So why must we bail them out? If the US government wants to save the US economy, by pass Wall Street, they have become expert in speculating. Give the money to long standing conservative institutions and bring back Glass Steagall. Bring it back now. Wall Street will never self regulate, and when they got their hands on the Commercial Banks, it has been one speculative disaster after another. The Dow Jones may now just be an indicator of precisely that. Wall Street has maybe proven itself to be nothing more than a pass through for professionals who make a living speculating on the economy. The Dow Jones Index is good at telling us only that.

Build Value Every Day.

Brad van Siclen