The process is likely to entail some experimentation. The Treasury is likely conduct a process where fi nancial institutions will bid to sell their illiquid assets to the Treasury. The Treasury will announce its intention to buy a certain percentage of the amount outstanding of a security and solicit sellers at a relatively high initial offering price, then dropping the offering price incrementally until the institutions are willing to sell only the percentage the Treasury is willing to buy. Those that sell the security to the Treasury will receive cash. The others who were unwilling to sell at the offered price would reflect the new liquidity–based market price for the security on their books, which would likely improve the condition of their balance sheet. The securities will be managed by a group of private fi rms who will only sell them on behalf of the Treasury after markets have normalized.

Now that the bill has become law, we expect managers will be hired and the reverse auction program will begin within a few weeks. After the auction begins, along with complementary actions by the Federal Reserve, we expect to see participation by private capital, improving liquidity in the money market, and lifting in the price of comparable securities as a result of the Treasury’s price discovery process. These will be signs that this cure for the crisis is working and averting catastrophe in the form of a prolonged and deep recession.

In the meantime, every day the implementation is delayed, the seizure of the credit markets becomes more dire for economic and earnings growth. There are growing signs of economic stress as the economy appears to be entering a recession. Last week’s weak data on September manufacturing activity and employment are harbingers of even weaker data over the coming months as the impact of the sudden intensifi cation of the fi nancial crisis in September is broadly felt outside of the fi nancial sector.

There is some good news; when we look back at the recessions that took place in the aftermath of crises, the stock market typically posted a gain during the recession. For example, the aftermath of the bitter medicine of rate hikes that ended the infl ation crisis of the late 1970s and early 1980s resulted in the longest recession since the Great Depression. During the 16 months of recession from July 1981 to November 1982, the S&P 500 posted a 14% total return. Another recession followed the late 1980s and early 1990s Savings & Loan crisis, during which over 1,000 U.S. fi nancial institutions failed, primarily as a result of imprudent real estate lending. During this eight month recession, from July 1990 to March 1991, the S&P 500 generated an 8% total return.

The nearby table includes the performance of the S&P 500 during every recession and bear market since WWII. As you can see, stocks have always bottomed before the recession was over—typically around the halfway point—and delivered on average powerful 25% gains, recouping nearly all losses by the end of the recession. If the U.S. experiences a recession lasting six to nine months, with a decline in GDP in the third and fourth quarters perhaps lingering into the fi rst quarter of 2009, then we may be near the halfway point of this recession, the point at which these previous markets have typically rebounded. ƒ

The underlying driver that triggered these rebounds and limited the duration of the recessions and bear markets was intervention by policy makers in some form, as we can see looking back over the past 35 years.

1.  The Federal ReManagement, due largeserve’s rate cuts and active intervention during the failure of hedge fund Long Term Capital ly to bad investments in the debt of emerging market countries, led to the end of the 1998 bear market.
2. In October of 1990, after a tripling of oil prices due to Iraq’s invasion of Kuwait, oil prices finally began to recede as stepped up production by OPEC and non-OPEC members ensured oil supplies remained suffi cient. The Fed also began to cut rates aggressively starting in October of 1990. These factors marked the turning point for the 1990 bear market.
3. An FDIC takeover and the Fed rate cuts that followed one of the largest bank failures in history helped to end the long November 1980-August 1982 bear market. Penn Square bank was taken over by the FDIC in July of 1982 after its failure resulting from bad loans made during the oil boom of the late 1970s and early 1980s.


4. The Fed cut rates substantially beginning in March of 1980 ending the market decline, as inflation finally began to fall after peaking in that month at a 14.8% year-over-year pace, reversing a series of rate hikes that had taken the Federal Funds rate to 20%.
5. Fed rate cuts of 375 basis points helped to put a close to the 1973-74 bear market. The cuts coincided with the October 1974 failure of Franklin National Bank, which was at that point the biggest bank failure of all time. Closure of the issues surrounding Watergate also helped this recovery.