Equity Investors Cheer Bailout Plan?

Financial headlines today were disappointing enough that a rational investor would expect the stock market to be lower.  After all:

• Durable goods fell 4.5%, more than the 1.3% expected by economists.
• Jobless claims soared 32,000 last week.
• New home sales were atrocious, down 11.5% to 460,000, much worse than expected.
• GE cut its forecast and suspended its stock buyback.
• The credit markets are still in a complete state of seizure, with banks terrified to lend to anyone other than the Fed.
  

However, equity markets are up, supposedly cheered by the fact that the $700 billion bailout package will most likely pass.  President Bush urged lawmakers to pass the bailout plan claiming that the entire "economy is in danger" and the only way to rescue the economy is to invade the country and liberate its citizens.  Oh, sorry, I was reading Mr. Bush's last speech where he claimed that the US was in danger and we must act quickly to enact his administration's plan or face grave consequences.  

Although it's true that the US economy faces a rough road to escape from the debilitating cycle of banks who cannot lend because they are suffering under the weight of losses on underperforming assets, what the bailout plan is proposing is a reallocation of those losses.  If we let the market sort out this mess on its own, losses from the mortgage mess will be allocated to equity investors in insolvent banks first, followed by the preferred holders, and finishing with the bondholders.  Financial services professionals will suffer job losses and huge curtailments in their incomes.  Finally, taxpayers will pay when the FDIC has to be recapitalized to cover all of the banking failures and liquidations that will ensue.  Frankly, I prefer this scenario.  Why?  Because it allocates the losses in the same manner in which it allocated the gains on the way up.  This is how our capital markets were conceived and I find it very disturbing that our administration seeks to change our core beliefs in capitalism.  It threatens the integrity of the capital markets as it benefits those who caused most of the problems to begin with.  Asking the US taxpayer to pay for lending mistakes made by people who were paid exorbitant sums of money, and to bailout stock market investors from lousy investment decisions despite the fact that they should know they are taking risk when they buy stocks, is flat-out unfair regardless of how much it is going to "boost the economy".  We might as well spend $700 billion to buy all the foreclosed houses and give every homeless person in America a free place to live.  It's the same thing.  Sure it would boost the economy, as the homeless would now need to buy furniture and that would be great for Home Depot.  It would also be rewarding a group of people, who many would argue are on the street because they abuse drugs or are too lazy to get a job, at the expense of ordinary hard working citizens.  Because the Bush administration is proposing the idea, it happens to benefit the banks and not the homeless.  But the market should make the decision, not the government. 

Offering to buy securities from insolvent banks at potentially inflated prices, (Mr. Bernanke thinks they are "fire-sale" prices, but he really has no idea what they are worth) is a transference of risk of future losses from equity holders to the US taxpayer.  Furthermore, it is endangering the US dollar as a reserve currency for the world by asking the world to lend it yet another $700 billion dollars.  Although the bailout plan may provide a brief boost to the banking sector, it may easily cause a currency crisis in the US similar to what emerging markets have experienced in the past.  In the face of all of this, it seems absurd that stocks are rallying.  However, since Chris Cox says you can't short 'em, everyone who understands the dire consequences of this extraordinary action by our government is not allowed to express their views by shorting stocks.  Most of the people who understand what is happening work in the bond market and are cowering under their desks because they can't find anyone in the formerly friendly money market to lend them money for more than a week at ANY rate above libor.  The credit markets are still panicked despite the fact that we are close to a $700 billion deal, yet the equity market is up nearly 2%.  I've seen some crazy markets in my time, but nothing, absolutely nothing comes close to the past two weeks.