USA vs. the World will replace Main St. vs. Wall St.

Hello Everyone!

It was another day of dramatic testimony in DC today. I wanted to try and look at what we might expect post bailout given the fact that it appears imminent that some form of this legislation will unfortunately be passed.

Stocks barely moved as investor's sit on the sidelines pending the approval of some form of this bill.

So where do we go from here?

Well, going forward, the war at home of Main St. vs. Wall St. will be replaced by a new war: USA vs. the world.

Wall St. has been telling us there is a crisis in confidence on the street, and the bailout must be passed. The world has been sending us a different signal:

"Sept. 24 (Bloomberg) -- Investors outside the U.S., who own more than half of all Treasuries outstanding, say the government's $700 billion plan to revive the banking system will diminish the appeal of the nation's bonds.
Treasury Secretary Henry Paulson's proposal, which seeks funds to rescue banks by purchasing devalued securities, would drive the country's debt to more than 70 percent of gross domestic product. The last time taxpayers owed as much was in 1954, when the U.S. was paying down costs from World War II.

``The image of U.S. Treasuries as a safe haven has been tainted by the ongoing financial debacle,'' said Kwag Dae Hwan, head of global investment in Seoul with South Korea's $220 billion National Pension Fund, which holds about $14 billion of U.S. government debt. ``A big question mark hangs over whether the U.S. can deal with an unprecedented amount of debt. That is unnerving all the investors, including me.''

The government depends on foreign money to finance the budget deficit, which UBS AG estimates will increase to $1 trillion next year from $407 billion if the bailout is approved. Investors outside the U.S. own 56 percent of the $4.8 trillion in marketable Treasuries outstanding, up from 42 percent of the $3.4 trillion outstanding five years ago, according to data compiled by the government."

My Take:

It appears the world is already suffering from a crisis in confidence in the US government. They are beginning to question if we have the ability to handle our debt payments if this bill gets passed.

I don't blame them! Investor's realize that the success of this bailout is a crapshoot at best. The smart ones already see the writing on the wall that the bailout will fail big time.

The world realizes that we have a host of problems in our economy other than housing. The bailout will temporarily address the housing bubble. The problem is it exacerbates some of the other issues that we face in our economy!

For example, the bailout will pressure our dollar which of course ignites inflation. More importantly, and as seen above, it makes our treasuries less desirable to foreign buyers. Notice that the 10-year yield has not moved during the 3 day selloff this week. The 10-year has been sitting right around 3.8% after dramatically rising during the rally last week.

Usually during selloffs, the yield on the 10-year drops significantly as investors run to the safety of treasuries. Yields then drop as a result. Not this time! The 10-year hasn't moved this week despite the fact we have had a 600 point tumble in the stock market!

Consider this to be an ominous sign folks. If foreign investors start backing away from our debt, we could be in much worse shape than if the housing bill had never existed. The treasury sales to foreign investors are how we pay our bills.

If this spigot is shut off, and demand for treasuries drops to radically, interest rates could soar into double digits. The game is then over folks! Don't think it can't happen. The bailout hasn't even been passed yet and world's investors are already expressing fear.

Bottom Line:

Expect Hank and Ben to get their way with Congress regarding this pathetic bailout. I expect they will be forced to take some big concessions in order to get the bill passed, but its going to get done.

What will be interesting to watch is to see how Wall St. reacts to the modified bill that eventually gets passed. There is a decent chance that Wall St. won't like the bailout because "we the people" have spoken and have strongly opposed it. I have read reports that Americans oppose this by about a 10-1 margin.

Considering the fact that its election time, this bill may be surprisingly tough on Wall St.

The politicians don't want to risk going too far against their constituents that oppose this bailout by a 10-1 margin. As a result, I expect a couple of bombs to be included in this bill that Wall St. doesn't expect. Will it be exceedingly tough regulation or huge compensation penalties? Who knows? Time will tell.

Its time to prepare for the next stage of this crisis folks. Start focusing on the bond market and treasury yields. The world may react violently when this bill passes.

If yields shoot through the roof, the markets will take a huge tumble. Hank and Ben may end up wishing the bailout never happened.