The Big Picture for the Week of October 16, 2011

A couple of days ago Fitch lowered ratings and/or outlooks on seven European and American banks citing economic challenges and potential changes in regulation. While this by itself may not be a big deal, it is simply the latest in an ongoing saga that has now literally lasted for years.

Over the course of these last few years I have continued to say that there will be more shoes to drop and the the fundamentals will continue to stink for a long time to come. This is still the case even if this Fitch news is quickly forgotten.

There are two prongs to this argument that I think make this an easy call. One of which is the ongoing global, economic malaise where new policy ideas continue to be thrown at the wall, where neither jobs nor housing show signs of natural demand coming back soon. If economic activity remains sluggish, or worse, then it makes sense to expect the banks to struggle on a fundamental basis although there can always be good trades had along the way.

The other prong here is market related. While not a perfect comparison (the financial crisis has been worse), the Nasdaq is down 46% from a high hit more than 11 years ago. In the same time Cisco is down 73%, Microsoft is down 40%, Intel is down 58% and Dell is down 60%. Obviously some names have done well but I believe it is correct to say that we are still dealing with the aftermath of the tech wreck and will be for many more years. If the financial crisis was worse, or maybe it would be correct to say more significant then there will be many more years of aftermath.

While I have always said there can be good trades there is an element of picking up nickels in front of a steamroller for now. This will continue and it is my contention that this will go on for many more years.

The investment implication can be a simple as avoiding the financial sector altogether (not my first choice) or for people comfortable enough, there are segments that are on firm fundamental footing. I've been saying for years that we've had luck with Chilean and Canadian banks. We had owned an Australian bank that we sold in June and while I think Aussie banks are healthier than US or European banks I think the housing market down under poses a threat although not with the same magnitude of what happened to US housing. After we sold our Aussie bank it went down a lot, in line with XLF but has snapped back much quicker of late. There may never be a consequence from the Aussie housing market but I believe the threat has worsened.

There are other segments within the sector that I also believe are on better fundamental footing like many of the publicly traded exchanges around the world. That is not to say that exchange stocks won't be volatile or go down a lot if the market goes down a lot but if I am right about the fundies, then a large decline becomes an opportunity as opposed to the US and European banks where a large decline merely becomes the latest chapter in the saga.