Is the current correction over? The Standard & Poor's 500 index, a benchmark of corporate America's equity, dropped 75 point from 1449 Feb 27, 2007 to 1374 March 5, 2007, a 5.2% correction so far, triggered by a slide in Chinese shares and warnings by Greenspan that the U.S. economy was vulnerable to a slowdown. S&P closed at 1436, As of March 23, 2007, just 13 points short of its open on Feb 27, 2007, retracing 82.6% of its loss since the current correction started. Is the current correction over? I would probably say yes, in the sense that the bottoms may have been found on 030507 for S&P, Dow and Nasdaq, So, just about 5.2% correction this time? Probably yes. The indexes may test the 030507 low again, but it is very difficult for the indexes to go a lot of lower than 030507. I doubt S&P will make it to 200MA of 1354, about 20 points lower than 030507âs close. (marketreflections.com) The strong headwind against bears are from FA and PA, PA being political analysis. Letâs start with Fed. Fed, being US central bank, is also a political institution, a part of US government. In my âFed and three representationsâ, I talked about Fedâs dual mandate instituted by Congress: employment and inflation objectives. Thatâs politics right there. For simplicity, inflation objective is more important for bond holders. As bond holders, higher than expected inflation is bad, with default being the worst. Thatâs why on the long-end of yield curve, inflation risk has to be priced. If the inflation turns out to be higher than expected, your bond would depreciate, other things being equal. So bond market participants like Bill Gross cares big deal about Fedâs control of inflation. Employment objective is more important for workers like average Joe, again for simplicity. For Joe, with a big mortgage and credit card balance outstanding, he probably doesnât care much about inflation, and theoretically he could even benefit from it as a debtor: creditorâs loss is always debtorâs gain. But Joe needs a job, and for every Bill Gross, there have to be many Joes, ratio unknown. So, there have to be many jobs around. Politics is called âbalance of power/interestâ sometimes. I guess thatâs one of the reasons, House Financial Services Committee Chair Barney Frank told Fed chief Ben bluntly early this year that he opposes a specific numerical inflation objective because it might conflict with the Fedâs employment objective as part of its dual mandate. Ben, being an âdata dependentâ professor and supposedly one of enthusiasts for numerical inflation objective (ECBâs present target is to keep inflation below, but close to, 2%.) , must be disappointed a little bit. But I think Ben understands the message very well, being an inventor of âBenâs helicopterâ himself. A government in a capitalist economy would use its power to provide certain level of employment to the working class. Marx had a gap in his capitalism theory on this issue. He thought the working class in England of his time would have to launch a revolution just to survive. To make accomplishing its employment objective easier, US government debased US financial system from gold standard long time ago, and has since then practically put US financial system on a âbond standardâ. With Fedâs treasury operation, government can manage liquidity in the system according to its policy purpose. Why tie up yourself to a piece of metal like gold or silver? Why tie up yourself to a particular value of CPI such as 2%? Fedâs statement on March 21, 2007 was interpreted by market basically as a Ben Put: âAt the very least, many take comfort that U.S. Fed Chairman Ben Bernanke appears, like his predecessor Alan Greenspan, to be ready to help with easier money if things get rough or in the event of nasty shocks, like this year's subprime mortgage jolt.â (marketreflections.com) As to inflation, if CPI 1-2% is presumed to be Fedâs comfort zone, why 2.7% cannot be presumed? Deng Xiaoping proves to be the master of politics, just like his other CCP comrades. â A cat is a good cat as long as it can catch a mice, color of cat doesnât really matter, black or whiteâ. Bond market Through bond market, Fed âcontrolsâ (lack of a better word) banks and banks control economy. Average daily trading volume of Treasuries is about $500B, 7 times of that of NYSE and Nasdaq. The weekly average of corporate debt sales of 2007 is $24.6 billion, or $100B per month, according to data compiled by Bloomberg. So, it is important for bond market and Fed to understand each other, and to keep economy going, so Joe has a job and pays his bill, and Gross makes his profit. It seems they do understand each other well. Corporate bonds: âCorporate debt sales totaled $34.8 billion in the week ended March 9, more than double the previous week's total of $14.9 billion, when investors fled all but the safest assetsâ (Bloomberg.com) âThe perceived risk of owning corporate bonds has fallen from a five-month high, and an index of derivatives tied to subprime mortgage bonds has gained about 14 percent in the past three weeks. Even emerging market bonds, among the riskiest assets, are rallying.â The CDS (credit default swap) index I followed: iTraxx Crossover 10 Y was 319.33 on 032307, down from 340.88 on 030507 DJCDXNI is currently at 34.73, down from about 40 on 030507. Mortgage bonds: âAn index of credit-default swaps on 20 mortgage securities rated BBB- and created in the second half of 2006 fell 36 percent from Jan. 18 to Feb. 27 when it reached a low of 62.25, indicating deteriorating confidence. Since then, the index has recovered, climbing 13.75 percent to 70.81, according to London- based Markit Group Ltd., which administers the ABX-HE-BBB- 07-1. The index traded as high as 97.47 on Jan. 19.â(Bloomberg.com) Hedge Fund is never behind anybody âAhead of curveâ is the slogan of Citadelâs founder, billionaire trader Kenneth C. Griffin. Citadel bought bankrupt ResMae Mortgage Corp. two weeks ago, and took a 4.5 percent stake in Accredited (Bloomberg.com). So, Citadel, one of my MMs, even acted long before Fedâs statement on 032107. Farallon Capital Management LLC, a San Francisco hedge fund that invests in companies facing cash shortfalls or bankruptcy, said this week it held talks to buy San Diego-based Accredited Home Lenders Holding Co. before agreeing to lend it $200 million. Conclusion Subprime is a big problem without Ben Put, and a manageable problem with Ben Put. Is that the bond market and Hedge fundâs interpretation of Fedâs statement? They are probably right, and consequently we probably have seen lows for major stock indexes on March 05, 2007. Caution is always advised for traders. As one of big the volume guys in treasuries trading (031207 âWhat would you do if you are Citadel?â Marketref;ections.com), I suspect Citadel probably sold a lot of treasuries last Friday. âSelling on newsâ in Treasuries last Friday pushed down price across the entire yield curve, raising up 10Y and 30Y yield indexes back to the level on or before Feb 27, 2007.