Investors ready to break out the champagne for New Year's Eve might not want to hear it about these kind of bubbles. After enduring the dot.com bubble, the housing bubble and the credit bubble, here are five potential bubbles to beware in 2010.
Zombies Mowed Down
If you believe that "zombie" stocks like Fannie Mae and Freddie Mac will rise from the dead again in 2010, then perhaps you should be the one hunting for some brains.
It's true that Fannie Mae and Freddie Mac are still publicly traded and are not wholly-owned entities of the U.S. government. And 2009 was a banner year for investors in both companies, as Fannie Mae shares jumped nearly 70 per cent in 2009 and almost 250 per cent since the March low, and Freddie Mac rallied 118 per cent for the year and more than 280 per cent since the lows on March 6.
But for all intents and purposes, shares of Fannie and Freddie should be considered essentially worthless, no matter how enticing the penny stocks appear to be. Don't take my word for it, though.
In August, even as Fannie and Freddie were surging to 52-week highs, FBR Capital Markets protested that "no underlying value remains" in the shares. That didn't stop traders from driving the share price of both Fannie Mae and Freddie Mac higher in the dwindling days of 2009 after the Treasury Department removed the $400 billion (U.S.) financial cap on the money it will provide to both Fannie and Freddie.
It was this sort of speculative trading that drove these stocks higher in 2009, with traders ignoring the likely scenario where these zombies will continue to be private in name only and largely controlled by the U.S. government through 2010 and beyond. After all, the government owns roughly 80 per cent of each company, with Fannie and Freddie owing a combined $111 billion.
Apparently, it's also easy to forget the rumors circulating not long ago that both Fannie and Freddie, now in conservatorship, would be nationalized. Lost in the end-of-year headlines is a Dec. 24 regulatory filing that showed top executives at Fannie Mae and Freddie Mac will each earn between $4 million and $6 million in 2009.
Bose George, an analyst with Keefe, Bruyette & Woods who downgraded both stocks to underperform and cut the price targets to zero in October, says it is a very telling sign that both CEOs were not given stock as part of their compensation. The obvious reason, George wrote in a research note, is that "the shares have no long term value and that no executive would accept unvested shares of the companies as part of their compensation package.
This reinforces our view that the common shares will eventually trade to zero." For those still daring enough to ride the zombie wave higher into 2010: I'd like to introduce you to some Washington Mutual, Lehman Brothers and General Motors shareholders.
Written by Robert Holmes in Boston
iBubble 2010 = Apple's Tablet
Like a blank slate, Apple's upcoming Tablet has given tech enthusiasts a place to project some of their wildest expectations. After three years of development, Apple is finally expected to unveil its iPad or iSlate, a 7- to 10-inch touchscreen device, in the coming weeks.
The momentous occasion will usher in a new era of either mobile computing or portable high-definition entertainment systems -- or some combination of the two, depending on who's talking. In fact, all the hype surrounding the Apple Tablet has inflated one of the biggest bubbles in tech. Need proof?
Players including Microsoft and Dell have been prepping touchscreen tablets of their own to test whether the market is real or imagined.
But is a cool innovation really enough to spark a product revolution? Touchscreens have certainly transformed the smartphone market -- poking and finger-swiping on big, colorful screens have replaced the scroll-down, menu-driven controls common to yesterday's phones.
But creating a whole new class of devices? That's an entirely different challenge. Fans point to Apple's winning decade of turning out gadgets like the iPod and iPhone as evidence that Steve Jobs and Co. have demonstrated a deft hand for designing appealing, must-have consumer electronics. But skeptics fear that Apple is headed for a device dead zone.
The Tablet's classification will fall somewhere between pocket-sized phones and bag-sized laptops. It would take a very compelling product to convince people that they need yet another device in that in-between range. Amazon's Kindle success, with an estimated 1.5 million sold, helps prove that size hasn't been a huge obstacle when it comes to electronic book readers. But the Kindle has been available for two years. As of 2010, the niche will tart to get crowded with other e-book devices from Barnes and Noble and Sony N. Apple shares recently reached an all-time high as excitement around the new product builds. But if people don't stampede for Apple's dazzling Tablet, it -- like all bubbles -- will burst.
Written by Scott Moritz in New York
Nothing Gold Can Stay
Investors have made plenty of green off gold in 2009, but as the poet Robert Frost wrote, "nothing gold can stay."
Gold futures hit record highs in 2009, as gold bulls rode the fear caused by Lehman Brothers' collapse in late 2008 and the ensuing heavy borrowing by the U.S. government to glory. Noted investors like John Paulson, David Einhorn and Jim Rogers, as well as many central banks around the world, also took big positions in gold, amping up the bullishness. The SPDR Gold Shares hit an all-time high of $119.54 on Dec. 3.
That's a 52 per cent march higher from the 52-week low hit in early January. But while gold futures have backtracked this month, they could be headed much lower.
Gold is a popular hedge against inflation, which may be one factor driving bullion prices higher as the U.S. government borrows heavily to fund the bailout of Wall Street, the economic stimulus program and other measures meant to blunt the effect of the Great Recession -- not to mention the war in Iraq. That said, the Federal Reserve's Federal Open Market Committee and recent wholesale inflation and consumer price data have done little to give root to near-term inflation fears.
"For the next two years, deflationary pressure is going to be dominant, and it is going to become a time bomb down the line if and when we keep monetizing large deficits," Nouriel Roubini, the bearish chairman of economics research firm RGE Monitor, told a Reuters conference earlier this month. "It may be too soon to hedge with gold."
So while deep-pocketed investors like Paulson, Einhorn and Rogers may be making a good long-term bet on inflation, remember they all got into gold at much lower levels. And they are better able to wait out that time than many investors are. And central banks? Traders should be leery of following their lead.
According to Bloomberg, central bank gold-buying will result in the first net expansion in gold reserves since 1988. Gold tumbled 15 per cent that year and prices didn't recover for 15 years. Moreover, as the economic recovery plods on with 10 per cent unemployment, consumers have been reluctant to open their wallets for discretionary items like jewelry. Gold bulls are surely tired of hearing it, but Warren Buffett's famous disdain for the precious metal rings particularly true in a time of frothiness like the present.
"Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it," Buffet told an audience at Harvard University in 1998. "It has no utility. Anyone watching from Mars would be scratching their head."
Written by Michael Gannon in New York
Someone Cut Uncle Sam's Credit Card
It doesn't take a fortune-teller to foresee the bursting of the bubble in U.S. Treasuries. But for those still in need of convincing, look no further than the Oracle of Omaha's last letter to shareholders.
"When the financial history of this decade is written, it will surely speak of the Internet bubble of the late 1990s and the housing bubble of the early 2000s, but the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary," wrote Warren Buffett to his loyal Berkshire Hathaway subjects. Buffett issued that warning, mind you, in February 2009.
Since then, the U.S. government has auctioned off billions and billions of dollars of IOUs at higher and higher interest rates. The benchmark 10-year Treasury bond yielded 2.24 per cent back on Dec. 31, 2008 vs. nearly 3.8 per cent a year later. And while Treasury yields are still low by historical standards, the upward trend surely signifies that Uncle Sam's foreign creditors -- read: China -- are increasingly worried about America's rising deficits, not to mention Federal Reserve Chairman Ben Bernanke's ability to purchase enough bonds to keep rates low until the economy strengthens.
If Ben should lose his battle with the yield curve in 2010, or if the rest of the world finds a safer alternative in the event of another financial panic, then the first casualty will be U.S. Treasury bonds. Prices will plunge, yields will spike and Warren Buffett will be right again.
Written by Gregg Greenberg in New York
Get These Nations a Credit Counselor, Too
Sovereign debt holders aren't waiting to find out whether Dubai World's near miss on a $60 billion debt payment was an isolated event. Instead, they're preparing for additional woes in 2010 from financially weak EU nations and perhaps even triple-A rated countries that have borrowed heavily to support their financial systems.
In fact, financial institutions that have significant exposure to various kinds of sovereign debt are considering whether to set aside reserves against the risk that states may default. There's little doubt that the sovereign debt bubble has already started to burst. Anyone who dove into emerging-market bonds is certainly feeling buyer's remorse.
When Dubai's difficulty came to light in November, all eyes turned to Citigroup , which set up financing for Dubai World and has ties to the Arab state. Earlier this month, Abu Dhabi stepped up to bail out its struggling neighbor emirate with $10 billion, putting some fears to rest. But it's unclear whether or not Dubai can meet the rest of its financial obligations next year -- Dubai is a microcosm of the problems spread throughout our overleveraged world.
Fears about countries at the bottom of Europe's economic ladder have grown in recent weeks. Greece's ratings were slashed by three major ratings agencies and slapped with a negative outlook. Then Standard & Poor's lowered its outlook for Spain, which lost its triple-A rating nearly a year ago, as did Portugal. These events have stoked concern about other EU countries with reputations as spendthrifts or heavy borrowers, like Ireland, Latvia and Lithuania. Arguably, finding a solution is easier for smaller economies than it is for their more established counterparts -- high-growth nations can earn their way out of debt. For industrialized countries like the U.S. and the U.K., the alternative is tricky. They will have to use restraint -- via spending cuts and tax hikes -- without stifling the moderate growth necessary for an economic resurgence.
"AAA governments will probably not have the luxury of waiting for the recovery to be secured before announcing and perhaps also implementing credible fiscal consolidation programs," says Moody's analyst Pierre Cailleteau.
Even England's pristine credit rating remains at risk, since S&P cut its outlook to negative last spring, citing an enormous and increasing debt burden that may reach 100% of its GDP. And the U.S. doesn't seem too far behind -- American debt represents 85 per cent of its GDP and is expected to climb.
Massive monetary stimulus programs implemented this year and the economic stimulus program set to unravel in 2010 add more uncertainty. If not unwound carefully, these moves could further rock the global economic boat.
However, there's little worry that holders of AAA-rated sovereign bonds won't get paid. Cailleteau also notes that "there is no historical record of 'rich' countries defaulting on their debt" and that those governments are "more willing to default on social obligations -- such as changing the retirement age -- than on financial obligations." Other sovereign bond holders may not be so fortunate.
"Let's say Hugo Chavez finally decided to make good his threats and default," says CreditSights analyst Steven Zausner. "We would guess that a Venezuelan bank would be prohibited from making external debt payments, even if they had the foreign exchange reserves to do so."
Written by Lauren Tara LaCapra in New York
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- Updated February 10 1:46 PM EST. Delayed by at least 15 minutes.