Ted Spread vs. Consumer Confidence

The most depressing and addictive part of my day is checking my 401-k. I'm a 23 year old male that started my professional career as a financial risk consultant just over a year ago in the city of Chicago. I'm lucky enough to be working for a company that provides a match 401-k match program (although it is very weak in comparison to what my company's competitors offer) and there was no question I was going to take advantage of the program. Although I made good, conservative decisions (at least for now) when choosing what funds to place my money in since my retirement is far off, my return now is still much less than desirable. It's funny that I get excited, and absolutely addicted, to look at my 401-k every hour of the day. Looking at my 401-k is like being a Lion's fan, I can't wait to see it (because it's my investment) and for some reason I always have hope (which is where the addictiveness), yet it always disappoints (although for the first time in the past 50 years the Lions made a GREAT trade).

The market is a crazy thing that is filled with unpredictable variables. After another lackluster week, there may be hope, but unfortunately it is not too promising. There are two main focal points that need to be considered for the market to turn around.

The first factor is the Ted Spread, which is the good news. The Ted Spread is the difference between the 3-month LIBOR rate (the interest rate bankers charge other bankers to loan money) and the 3-month T-bill rate and it measures the credit risk in the market. The whole reason the market is in this funk is the banks are failing. What's going on is the banks are lacking liquidity to loan money to consumers, businesses and each other. Therefore, the cost of lending is high and consequently credit risk is also high. This is evidenced by the record highs of the Ted Spread (the higher the Ted Spread, the higher the credit risk).

Well, that is exciting and all, but where is that good news you speak of?

This week the Ted Spread finally fell. The Ted Spread was 20 basis points in early 2007, right before the sub prime started affecting the market. On October 10th it reached a high of 464 basis points. For the past seven days it has fallen and now sits at 363 basis points. This is the first time that the Ted Spread has decreased 7 consecutive days since December. There's no doubt that a 363 basis point spread is something to get too excited about, but there is no doubt that it is a sign that the bail out is working (at least in the short term).

The decreasing Ted Spread is a sign that banks are starting to trust each other and are willing to invest in each other. So why did the Dow fall today, and why is my 401-k continuing to depress me?

What drives the market is consumers willing to purchase the products/services that the firms are selling. It's wonderful that the banks are beginning to believe in each other but in order for the market to turn around, consumers need to buy in too. I can't blame consumers for not investing their life's savings because the Ted Spread decreased 101 basis points in the week, that for the first time since December the Ted Spread decreased seven consecutive days (I sure as hell haven't bought in yet). It's a start though. There's no doubt most consumers don't know what the Ted Spread is, why should they? Warren Buffett was urging people to start investing in the market today, he's a billionaire whose made his fortune investing, does he know something we don't?

My question is, can the banks continue to believe in each other, can the Ted Spread continue to drop off to level of healthy economy, if consumers aren't believing in what the banks are doing? It's possible that the consumers are beginning to understand that they can't live on credit alone and the consumers that can afford to take loans are the only consumers doing so, which would improve the LIBOR rate.

There's no doubt that there are many more factors that are causing the bear market (i.e. the housing market that is not allowing first time home owners to upgrade to a larger home, we'll save that for another post), and that there are other factors that are reducing financial institutions liquidity (i.e. FAS 157, also saving for another post), but the fact is the key underlying indicator is showing improvement, yet that means nothing if the consumers are not buying in.