• With inflation easing, China has lifted temporary inflation controls on key commodities such as liquefied petroleum gas, power-station coal, grains and cooking oil. Ten months ago, China was facing inflation at a 12-year high, Bloomberg reported. Now it’s slowed to the weakest pace in nearly two years.

• India’s rupee slid 19.2% in 2008, its worst annual performance since 1991, and the second-worst among the 10 most-active Asian currencies excluding Japan. “It has been ecstasy to agony for the rupee this year,” K.V. Mallik, treasurer at state-owned UCO Bank, told Bloomberg. “The outlook isn’t any better as it appears far from certain as to when the financial markets will stabilize. I expect the rupee to be under pressure in the next few months.”

• Rates on 30-year mortgages fell to 5.1% this week, down from the previous record of 5.14% set last week, Freddie Mac reported. Mortgage rates have plunged by about 1.3 percentage points since late October.

• Online holiday sales fell 3% from last year, marking the first decline in online spending since comScore Inc started tracking online sales in 2001, Reuters reported. Online spending totaled $25.5 billion between Nov. 1 and Dec. 23.

• UBS AG (UBS) the Swiss banking giant struggling to rebuild its balance sheet after taking $49 billion in losses form writedowns, has sold its stake in Bank of China, Reuters reported. UBS said it offloaded about 3.4 billion Bank of China H-shares through a discounted placing for at a profit of “a few hundred million dollars.” The bank had paid $500 million for a 1.6% stake in Bank of China in 2005.

Source: Global Investing Roundups Friday, January 2nd, 2009

Today I think even less of them, as investors have lost billions in these so-called “safe investments” – and many are set to lose more.

Let me briefly explain how structured products work, why so many of them haven’t turned out to be the safe haven investors believed they were, and how you can avoid making a similar mistake in the future…

What Are Structured Products?

Structured products are securities that are sold as an opportunity to enjoy substantial gains with full principal protection.

For example, an underwriter might offer investors the upside potential of the S&P 500 – or a substantial percentage of that upside – over a certain period of time (say, five years) while guaranteeing no less than full value of the initial investment at maturity, even if the index goes down.

(Or, instead of the S&P 500, the investment might be linked to Asian currencies, or commodities, or something else.)

How can you offer all or most of the upside of a risky investment with a principal guarantee? Well, in the early days, Wall Street would take U.S. government zero coupon bonds – which sell at a discount and pay zero interest, but gradually compound in value until they mature at $1,000 – and combine them with index options.

So, for instance, if you invested $100,000 – and investors tended to bet large since their principal was guaranteed by Uncle Sam – $80,000 might go into zero coupon bonds and most of the rest into S&P 500 call options.

Most of the rest? Well, there were Wall Street fees that had to be covered, of course.

Nothing was wrong with these early investments, really. But they were nothing more than a gimmick. You could buy the zero coupon bonds and options yourself and achieve the same thing, saving yourself the fees that Wall Street imposed when it created these products.

Unfortunately, something happened along the way that changed the game completely. Yields on government bonds came down. And the cost of buying index options went up, especially in bull markets.

Yields on U.S. Treasuries just weren’t high enough to make this game work anymore. So instead of investing most of the money in U.S. government bonds, Wall Street firms substituted their own unsecured debt instead. This was disclosed in the prospectus, of course. And it seemed like no big deal as long as these Wall Street giants remained healthy.

But they didn’t.

Structured Products Are An Investor’s Nightmare

Investors who bought structured products from Lehman Brothers, for example, are today standing in line alongside the firm’s other creditors.

These “principal-guaranteed” securities are now selling for 10 cents on the dollar, according to SecondMarket, Inc., a specialist in illiquid assets.

SecondMarket says it has already heard from investors holding more than $2 billion worth of Lehman structured products.

The firm estimates that small investors bought $34 billion of these products through October of this year alone. This surpasses the more than $33.5 billion that were bought last year.

(In truth, of course, these products are sold, not bought. No one wakes up and says “I think I’ll invest in a structured investment product today.”)

Last week The Wall Street Journal told the story of Charles Brooks, a physician in Allentown, PA:

• He put a significant sum in two Lehman structured products because he liked the idea of having some exposure to market gains along with protection from losses.
• Today he says these “protected” assets are worth approximately seven cents on the dollar. Sixty-five years old, he is now delaying his retirement planning.
• And he is angry at Wall Street. “There’s no end to things they can invent that seem to me little more than a gamble for the enjoyment of the inventors,” he says.

I don’t fault Dr. Brooks for believing that a note guaranteed by Lehman Brothers was pretty safe. Ninety-nine percent of investors would have made the same assumption 12 months ago.

Structured Products Are A Wall Street Gimmick

The shame, really, is that by buying these structured products, he was sold a Wall Street gimmick. There is nothing magical about these products that offer huge upside potential with a principal guarantee.

After all, I could take $100,000 from you, put the vast majority of it in U.S. government zero coupon bonds and use the balance to play roulette at the Bellagio for five years. If I win, you would get back a lot more than $100,000.

And if I lost everything, which of course I would, I could still guarantee the full return of your hundred grand when bonds mature.

Like I said, gimmick.

There are two lessons here for every investor:

• The first is as old as investing itself: If it sounds too good to be true, it probably is.
• Number two, however, is just as important. Whenever you hear that an investment, an insurance policy, an interest payment, a stock dividend, or a particular return is guaranteed, be sure to ask the next question: By whom?

Source:  Structured Products: Another “Safe Investment” Bites the Dust

Good day… And a Wonderful Wednesday to you! I had a long time friend – once a colleague and teammate on the company softball team – send me a note from Credit Suisse yesterday, that called for an end to the European currency strength versus the dollar. I love getting this stuff because, as they said in the Godfather… Keep your friends close, but your enemies closer… Yes, I like to see “their” side of the story.

In this case, it’s not too far off… While I think the European currencies, led by the euro (EUR), have more room to gain versus the dollar, you have to admit that the bulk of the euro’s gains are in the rear view mirror. But before everyone picks up their phones to call and sell their euros… WAIT! Think about this for a minute… The euro is the second most liquid currency in the world. It has taken over as the offset currency to the dollar. So… If the dollar were still going to weaken (which C.S. admitted it would), then the euro would see the offset trade. And… If the Asian currencies take over as the next shoe to drop for the dollar, as I’ve said they would for two years now, then the euro would see strength on the flip side of cross trades.

I’ve explained these cross trades before, but for the new readers, let’s review… Class, get out your #2 pencils… Currencies are traded in “pairs”. You are always shorting one currency and going long another currency. As U.S. investors, your base currency is dollars, so when you buy euros or yen (JPY), you are shorting the dollar and buying euros or yen. But U.S. investors aren’t the only players in this arena. You have investors around the world that have a different base currency… So you end up with “cross” trades – currencies that cross each other in this arena. Clear as mud? Sorry… This is the way I know how to explain it.

So… Euros, for instance, could gain in value due to people buying yen… On the crosses… And so on…

Alrighty then… I’m sure this will all sink in as you sink your teeth into your morning Honey Bun!

This morning, the euro has added to its gains from yesterday, as the German Business Confidence – as measured by the think tank, IFO – unexpectedly increased this month. I was all set to talk about the IFO being the more important measure of the German economy this morning, so… Let me go ahead and do just that! Yesterday, we saw weakness in the ZEW report on economic expectations… But that didn’t hurt the euro too much. The reason? The markets put more stock in the IFO report because it measures “current conditions” and therefore can be used as proxy for the European Central Bank (ECB) and their interest rates projections.

I saw a report on the IFO’s correlation with the euro’s past moves to higher ground… Made sense to me, as strong IFO reports came out right before the euro moved past previous big figures… Could certainly be the case again for the euro, eh?

So… The 1.56 level was taken out overnight, and as I write, the euro is trading well above the 1.57 level. Again, it’s too soon to tell if this is a “true reversal” of the sell off the past few weeks, or a false dawn… But to me, it certainly looks like we’re heading higher once again, and the negativism toward the U.S. dollar is slowly creeping back into the mindset of the markets.

The commodity currencies of Aussie (AUD), Canada (CAD), and Brazil (BRL) all “have it going for them” these days. Shoot Rudy, the Canadian loonie doesn’t even have the high interest rate like Aussie and Brazil, but with oil hitting $129 yesterday, it doesn’t seem to matter. I think that the markets have fully priced in one more rate cut from the Bank of Canada. With that out of the way, and commodities booming, the loonie could shake loose the pull down from the Bank of Canada!

I’ve heard a lot of talk about how people believe this commodity bull market is the latest “bubble”. Hmmm… That may be… But historically speaking, we’ve got a ways to go (time wise) before this bubble pops! Remember a month ago, when I kept telling you that the mass media didn’t know what they were talking about when they kept saying the bull market for commodities was over? I don’t hear these guys spouting off now. I wonder where they went? To hide under a rock?

I’m not going to dwell on this… But it just didn’t make sense to me that the bull market in commodities was over… And, now, we know why it didn’t make sense! Because it wasn’t over!

Second in command, Fed Head Kohn spoke yesterday, and sounded quite upbeat about the economy. Singing Ray Stevens… Everything is beautiful… What else did you expect? These guys have backed us into a corner that has three roads out… And none of them are a road to prosperity! 1. Inflation 2. Deflation 3. Stagflation… Oh… And they all merge with the recession highway!

Anyway… Fed Vice Chairman Kohn, speaking about interest rates said, “[it] appears to be appropriately calibrated for now to promote both rising employment and moderating inflation over the medium term.” The markets took this statement to mean Kohn was telling us that the Fed is unlikely to lower rates further.

Well… Baby, baby, it’s a wild world… And it’s hard to get by on just a smile. Kohn should be reminded of these words when the Fed comes back to the rate cut table later.

Speaking of the Fed… We’ll see the color of their last meeting minutes this afternoon. This was the meeting that they cut rates from 2.25% to 2%. I wonder if these meeting minutes will be in line with the press conference that was held after the rate cut… The reason I say this, is the suspicion I have toward the Fed after reading Bill Fleckenstein’s book, Greenspan’s Bubbles: The Age of Ignorance at the Federal Reserve.

The Fed will also be releasing their new growth and inflation forecasts. This ought to be worth the price of admission folks. What yarn will they spin for us? I’ll bet they tell us the future is so bright we gotta wear shades! And inflation? Don’t worry about it! Yeah, when the Fed says, “Don’t worry about it” you had better run for the hills!

How about gold? Did you see that rise in gold yesterday? When I left it was up over $15 on the day. The London Exchange issued a report showing that demand for gold was down 16% in the first quarter. That makes abundant sense given the losses gold put on the books in the first quarter… But now that the markets are coming to their senses, and the dollar is weaker (while oil continues to set records every day), gold is back in demand.

And speaking of gold… Remember about a month or so ago, I told you about how the dollar’s weakness had caused so much loss of purchasing power for us, and illustrated it with this: If you purchased oil with euros instead of dollars, the price increase in oil would represent 92%, which sounds high right? Well, since you don’t purchase your oil in euros, but dollars instead, your price increase represents a 319% gain! Well… To take this exercise one step further… If you had purchased your oil with gold, your price increase would be 57%! Now tell me again, how gold isn’t doing its part to provide an inflation hedge?

Say it ain’t so, Jeff!Jeff Immelt, that is — the CEO of General Electric (GE:NYSE).

Markets got spooked on Friday when the big daddy of global conglomerates announced “shocking” quarterly results. It was “the worst quarter in five years,” the Financial Times reports. In reponse to full-year forecasts being “slashed,” the market responded by slashing $55 billion off GE’s market cap.

The fresh fear is that global slowdown could be at hand. What the news really means, though, is that the credit crisis is far from over. After giving an “upbeat” outlook just a month ago, CEO Immelt laid much of the blame at the feet of Bear Stearns. The way management portrays it, GE got sucker-punched right in the finance department.

You see, GE does a lot of great things with jet engines, water treatment, wind turbines, medical devices and so on. Real, tangible type stuff you can get your hands around. But they also have a bit of hocus pocus on the books in their “GE Capital” unit. In the past, some have called the company a “hedge fund in drag,” due to the heavy extent of its financial engineering.

A lot of that hocus pocus was the legacy of Jack Welch, GE’s former CEO. His successor Immelt has done a thorough job cleaning out the stables… but apparently not thorough enough.

The broad market’s response on Friday means that traders are likely getting short today… preparing to play Whack-a-Mole and catch a new leg of downside.
Thee Hits Just Keep on Coming

Nor does it help that bad banking news continues to trickle out. The latest is that Wachovia, the fifth-largest U.S. bank by market cap, is looking for $6-$7 billion in emergency capital. Oh, and by the way, Citigroup and Merrill have released another $15 billion in subprime hits this week. (Yawn.)

There are also two examples of accidental humor to report. First up: On Saturday, Treasury Secretary Hank Paulson said that 2008 could be a “more difficult year” than 2007.

Gee, thanks for that, Mr. Paulson. In other news, grass is green and the sky is blue (except in China, maybe).

On the bright side, signs of intelligent life are popping up in the mortgage industry. It’s reported that the ever popular “zero down” mortgage has gone the way of the dodo. It is apparently no longer possible to purchase a home on 100% financing… one of the little quirks that allowed the housing bubble to get so pumped up in the first place.

Hmm. The horse may be long gone, but the barn door had to be closed at some point, right? No use just letting it flap in the wind like that.