Wednesday, September 17, 2008

Where is the dry powder?

Deep value investment managers and long/short equity hedge funds appear to be buckling today. Poor manager performance, redemption requests, and the lack of dry powder are weighing on all of the "cheap" equity sectors and asset classes. I put the word "cheap" in quotes because the market no longer knows how to prescribe a valuation to most assets because the model inputs are changing by the hour and day.

The quantitative risk models like VaR broke last year when multiple standard deviation asset price movements became common place after the credit markets began buckling. The value models are now breaking down and maybe the final liquidation of these strategies will form a sustainable bottom. I just don't have any convinction on where that bottom will be because there does not appear to be an awful lot of dry powder dedicated to buying equities.

That said, I continue to lean on the 1136-1142 level on the SPX as an important support area (April 22, 2005 weekly lows) and would look for tactical long side opportunities at this level particularly if we see a waterfall pattern in the broader averages and this level comes quickly. As I have highlighted previously in this blog, pressure has been building on the buy the dip crowd due to the vicious sector rotations in the Long Commodity/Short financial trade following the July 15 lows.

The recent failures at FNM, FRE, LEH and finally AIG just exacerbated the pressure on this group of market participants. In the final analysis, I don't think there are many market participants who would have predicted that we would see the SPX close at 1213 last night if you were told that BSC, FNM, FRE, LEH, and AIG were going to fail in the beginning of the year. I guess you could view this as good news or bad news but we will only find that out in hindsight. But, for the sake of the system, I hope calmer heads begin to prevail here soon. The financial situation for many people and families are at stake.

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