European shares were rallying on Friday morning following deep losses during the week, but warnings that the selloff is not done keep pouring in. Jim Cramer wrote more than a week ago that "bear market spikes are breathtakingly beautiful;" and we might be seeing just another one of these.
In times like these, bearish instruments do particularly well, and this has been the case for the AdvisorShares Ranger Equity Bear ETF (HDGE). Brad Lamensdorf, the ETF's co-manager, noted that the fund has been up around 21% this year, compared with a fall of around 10% for the market. "Our product has become popular for people to use," he told Real Money in an interview, warning that the current downturn is far from over.
"No bear market starts out of thin air. Over the last 18 months, we had bear markets in energy, we had a bear market in commodities," he said, adding that the indexes are now finally catching up with individual stocks -- a point that Real Money contributor James "Rev Shark" Deporre has also been making for a while.
Lamensdorf sees stocks going lower still, with "a logical area" for the S&P 500 around 1500 or 1600.
"A 20-25% correction is normal every five years," he said.
But this one could turn out to be more serious, because it is led by the banks.
"When financials are leading the way down, like Credit Suisse (CS), like Deutsche Bank (DB), like Citigroup (C), those are the declines that tend to cause more problems for long people than your mild-mannered correction. With that occurring right now, we need to take note that financials are leading this decline and we need to be much more aware that something much uglier could happen," Lamensdorf added.
European banks rallied on Friday morning after plunging in previous days, with Deutsche Bank's Frankfurt-listed shares up more than 10% and its ADRs up more than 9% in pre-market trading on the NYSE. The Swedish central bank took another step into negative territory yesterday when it cut its main interest rate 15 basis points to -0.5% and this spooked investors in banks.
The lower interest rates go, the harder it is for banks to make money, which is one of the reasons investors are selling U.S. bank stocks, Lamensdorf said he believes. U.S. banks "are having a really tough time finding good businesses to keep profit margins up and I think they're probably getting hit here and there with energy loans and other things like that they hadn't anticipated getting beat up on," he said.
As for European banks, they "never ever came to reality to readjust their balance sheet to a lower leverage-oriented business."
"They still have a lot of leverage on their books. Deutsche Bank is selling units I bet you they never would have thought they had to sell. Alex Brown wealth management? That's probably the cream of the cream of what they had. They probably would have never sold it unless they were fighting to find liquidity," he said.
Deutsche Bank, as well as Credit Suisse, were trading below their 2008 lows, Lamensdorf added, and this does not inspire confidence in the health of the banking sector. "The market's never wrong, in my opinion. Why is the market pricing these securities below the '08 low unless they think there's something really, really problematic there? The fact that you've got serious banks around the world trading low, that they're leading the correction, will require a lot of downside testing," he warned.
Another worrying feature to watch is the fact that over the past five years, lines of credit similar to home equity lines of credit (HELOCs) were created for stock accounts, meaning that investors were able to borrow against the value of their stock account. All was well when the markets went up, but in a downturn margin calls on these lines of credit could start occurring, as they are tied to the equity in the portfolios.
"My point is there's a lot of leverage in this ZIRP environment and the memories of the losses of '08 are distant at this point, and people are being very reckless with their finances again. And now we're getting to a point where everyone's full glass of water is turning into an empty glass," Lamensdorf said.
"It's been five or six years (of the bull market). The cup is too full and it needs to be emptied."
Read more about how to cope in a bear market:
