Meredith Whitney, GS and George Soros for 2 outta 3 on banks, bonds and "b" waves: how bearish - or bullish?

Banks and equities generally rose today. I think they were due for an oversold bounce at least, with some better situated to try for a new high than others (and it didn't hurt that the Institute for Supply Management (ISM) reported that its non-manufacturing index improved to 50.9 in September, up from 48.4 in August). Funny that Goldman Sachs (GS) upgraded their outlook on the banks this morning (other analysts also did that on Friday). While George Soros (also with the initials G.S.!) was quoted on Bloomberg TV this morning saying that the banks pose risks for the recovery. How's the financial health of the system? After all, the financial system provides key support for the goods and services-producing sectors. We can make it 2 out of 3 expressing concerns, with this information on Meredith Whitney's views. On the October 1 opinion page of The Wall Street Journal, analyst Meredith Whitney described the differing impacts of the continuing financial crisis in an article entitled The Credit Crunch Continues:

―Anyone counting on a meaningful economic recovery will be greatly disappointed. How do I know? I follow credit, and credit is contracting. Access to credit is being denied at an accelerating pace. Large, well-capitalized companies have no problem finding credit.
Small businesses, on the other hand, have never had a harder time getting a loan. Since the onset of the credit crisis over two years ago, available credit to small businesses and consumers has contracted by trillions of dollars, and that phenomenon is reflected in dismal consumer spending trends.
Equally worrisome are the trends in small-business credit, which has contracted at one of the fastest paces of any lending category. Small business loans are hard to find, and credit-card lines (a critical funding source to small businesses) have been cut by 25% since last year. Unfortunately for small businesses, credit-line cuts are only about half way through. Home equity loans, also historically a key funding source for start-up small businesses, are not a source of liquidity anymore because more than 32% of U.S. homes are worth less than their mortgages.
Why do small businesses matter so much? In the U.S., small businesses employ 50% of the country's workforce and contribute 38% of GDP. Without access to credit, small businesses can't grow, can't hire, and too often end up going out of business…. I believe that we are only in the early stages of the second half of this credit cycle. I expect another $1.5 trillion of credit-card lines to be removed from the system by the end of 2010.
This includes not only the large lenders reducing exposure but also the shuttering of several major subprime credit-card lenders. Beginning in the fourth quarter of 2007, lenders began reducing available credit by zip code. During the past four quarters, lenders have cut ‗inactive accounts (whether or not the customer viewed the account as a liquidity vehicle).
The next phase will likely be credit-line cuts as lenders race to pre-emptively protect themselves from regulatory changes associated with the Credit Card Accountability, Responsibility and Disclosure Act, passed in May of this year, and the 2008 Unfair and Deceptive Acts and Practices Act.‖

Her analysis zeroes in on small-business access to credit, which is undoubtedly vital. But the charts point to turbulence for larger companies' cost of credit too. After a steady march higher in corporate bond prices, with dwindling yields, they're coming due for a correction. I cannot say whether they're putting in an all-time high but they give signs of putting in a top of significant proportions.

Update 9:40 pm - Actually it's 3 out of 4: It's in an article by Shamim Adam and Francine Lacqua entitled: Roubini Sees Stock Declines as Soros Warns on Economy - "New York University Professor Nouriel Roubini said stock markets may drop and billionaire George Soros warned the "bankrupt" U.S. banking system will hamper its economy, highlighting doubts about the sustainability of the global recovery.

Price is the ultimate indicator, and we should add to that, volumes. Below are charts for the main banks ETF, which is KBE (KRE is the one for regional banks, with a weaker chart); and the Treasury bonds ETF, TLT, as well as ETFs for high-grade corporate bonds (LQD) and high-yield corporate bonds (HYG). Notice that LQD and HYG have shown big selling volume recently, unlike TLT which basically tested back to its 200-day moving average. KBE looks weak but not showing massive selling volumes - yet. How to read all this? I'm short-term bullish the banks and equities indices but not convinced they'll make new highs. They're at risk of having finished a "b" wave bear market rally. After a retest of the September high (whether or not with a slightly higher high), I'm expecting them to roll over to get very bearish starting later this month. The drop could last about 3 months and retest the March lows.

As for LQD and HYG, the trading pattern suggests that a significantly larger drop lies just around the corner, on a sell trigger day after maybe another day or so up. It means this should be a great shorting opportunity in these. Classically, wait for a trigger by the next day that moves under (preferably closes under) the low of the prior day. I've been looking for this anyway, as readers know, based on Fibonacci calculations and the monthly trendlines. So it looks like it's time now for LQD! I didn't run the Fibonacci on HYG, but the volumes and indicators support the idea it should make a similar swoon.

All this should help TLT and US Treasuries. Especially if LQD really is a "canary in the coal mine" for equities, as was suggested by the folks at "Charts and Coffee" blog (in the list at right). Meaning - maybe LQD will start really breaking by the end of this week - but then equities shouldn't be very far behind (will see if equities can cling on for October opex).