Bear Mountain Bull

It’s time again for a little BMB R&R, especially with the market behaving as bizarrely as it’s been. Maybe if we stop watching it start to behave a little better…

Posting will be very light and variable over the course of this week, but we’ll put up an open thread each market day for our readers to comment on the day’s market activity or to post any interesting links they might run across.

Check the space below for whatever the latest might be during this ‘off’ time, and please visit the various sites in the ‘Links’ and ‘Regular Stops’ for up-to-date market news and analysis.

BMB will be back in full swing by next weekend.

By definition, the VIX is a measure of market volatility - not market sentiment. And according to Bernie Schaeffer, the recent low VIX readings shouldn’t necessarily be taken as anything more than what they are - an indication of low volatility!

The yammering about the “low VIX” and how this is an indicator of “investor complacency” has been reaching a fever pitch as the market rally persists. And, yes, the CBOE Market Volatility Index (VIX) is in fact at its lowest levels of the year. But - and I can’t emphasize this enough - the volatility of this market is also at its lowest levels of the year. The problem with using the VIX as a sentiment indicator is that it is first and foremost a measure of market volatility. And market volatility is low in large part because of the “steady as she goes” rally that we’ve been experiencing, which, perversely enough, registers as a “low volatility” input to the option pricing models, which then spit out low option premiums. In this manner, strong price action begets low volatility, which begets a low VIX, and those arguing that a low VIX is a sign of a market top are in effect making the less-than-compelling argument that a strong market is, in and of itself, a sign of a market top.

Items of note on the latest industry moves:

• A very divergent week, with some areas, like energy, doing very well and some of the “hot” areas doing very poorly.
• The energy and commodity areas have the best looking charts, along with the utilities.
• Airlines took a pretty significant hit as oil prices surged higher this week.
• The banks ($BKX chart) are starting to look a little toppy, and many other groups are still stuck in ’sideways’ mode.
• The health care groups are still struggling, but are hanging on for now.
• For a more detailed breakdown of group movement over various time periods, try Prophet.net’s Industry Rankings page.

Catching up on some of the stuff I missed while I wasn’t scrounging around the web every day…

More info on the housing situation from Mish’s site, specifically on the subprime lending mechanism this time around. Not being in the mortgage business, lending business, nor (hopefully) in the subprime borrowing category, BMB had no idea how these loans were set up.

Mish relays some info from a mortgage broker in Orange County, CA:

What people don’t see, the NAR in particular, is the upcoming train wreck. I am talking about all the sub prime loans for refinances as well as purchases that were taken out 2 to 3 yrs ago and are now all coming due to reset. My guess is that 99% of all sub prime loans are all done on a 2 or 3 yr fixed interest only type program. People thought that it made no sense to take a 30 year fixed loan those homes when the short term rates were a lot lower, but they were all wrong.

The time bomb is about ready to go off. All of the subprime loans taken out 2 to 3 years ago have margins of at least 5% or higher and usually based on the London LIBOR program. Those loans are starting to reset now at fully indexed rates somewhere in the high 9% to 10% range. When those loans were initiated 2 to 3 years ago, they all had start rates of high 5% to low 6%. As of now, the LIBOR alone stands at 5.388 for the 6 month and 5.336 for the 1 year. Take those LIBOR indexes and add the margins to see what is going to happen.

Here is a case in point. One of my clients who took out an interest only subprime loan from another lender just received her reset notice. Her current margin is 5.25% and her index for the 6 month LIBOR index is 5.388%. This means her new interest rate will shoot up to 10.638%. Her note states that her first adjustment cannot go higher than 9.2%. So she will be at 9.2% for the next 6 months. With an initial loan balance at $251,000 at 6.2% interest only, she had a monthly payment of $1,296.83. In December her new payment will be $1,924.33 for the following 6 months before it adjusts again. This is a $627.50 jump in monthly payment. She simply can not afford this payment.

Yikes. Glad I’m not in her shoes.

Oh yeah, while you’re at Mish’s site, check out the “email” he got from Big Ben and Mike Morgan’s comments on the homebuilders’ Catch-22.