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8:30 AM EST, Tuesday, August 21, 2007: Spent yesterday playing tennis and moving into our new, nearly-finished house. I feel more positive about markets. Good to get away.

The New Yorker magazine made me feel more positive with this piece by my favorite author James Surowiecki. The piece is called Beware Bailouts:

Illustration by Christoph Niemann

In August of 1998, disaster loomed for the U.S. economy. Panic among investors after Russia defaulted on its sovereign bonds led to plummeting stock prices and a freeze on global credit markets. The hedge fund Long-Term Capital Management saw its multibillion-dollar portfolio evaporate in days, and investors pulled their money from any asset that had even a tinge of risk. But then the Federal Reserve came to the rescue, slashing interest rates three times in the space of a few weeks and pouring huge amounts of cash into the financial system. The stock market rebounded, and the economy boomed. Early the next year, Time put the Fed chairman, Alan Greenspan, on its cover, along with the Treasury officers Robert Rubin and Larry Summers, with the headline “The Committee to Save the World.”

Nine years later, it’s been another terrible August on Wall Street. The meltdown of the market in subprime loans, which over the past six months has led to the shuttering of many home lenders and mortgage brokers, has spilled over into the broader credit market. Bankers and bondholders are demanding very high interest rates for risky loans and, in some cases, refusing to lend money at all. Hedge funds and brokerages that invested in subprime securities have found themselves stuck with billions in assets that no one wants to buy, while, in the past month, panicked investors have sent the stock market down almost ten per cent. As anxiety over a global credit crunch spread, Wall Street implored an apparently reluctant Fed to rescue investors once again. And, last Friday, that’s exactly what it did, cutting the discount rate—the rate at which it lends to banks—by half a point. In response, investors sent the stock market soaring.

For anyone with a 401(k), it was hard not to greet the Fed’s move with relief. But the short-term relief comes with a long-term cost. Money managers created the current turmoil by failing to take risk seriously, enabling borrowers with sketchy credit records to borrow money nearly as cheaply as blue-chip companies. In the past weeks, managers had been paying for their folly. The Fed’s decision to flood the system with cheap money will create a textbook case of what’s usually called moral hazard: insulating fund managers from the consequences of their errors will encourage similarly risky bets in the future.

Now, you can take a fear of moral hazard, and a desire to see foolishness punished, too far. In times of real crisis, we don’t want the Fed to follow the advice that Herbert Hoover says he got from Andrew Mellon during the Great Depression: “Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. . . . Purge the rottenness out of the system.” When the health of the U.S. economy is under serious threat, the Fed should act. But in this case it’s far from clear that the turmoil was an actual menace to the underlying economy of the U.S. Bailing out hedge-fund managers was great for Wall Street, but it may not have been such a good deal for Main Street.

Wall Street so dominates our image of the U.S. economy these days that it’s easy to assume that what’s bad for the Street must be bad for everyone else. But, while it’s true that a complete market meltdown would have disastrous effects on the economy as a whole, market downturns like those of the past few weeks often have only a small effect on businesses and consumers. In part, that’s because much of what happens on Wall Street consists of the shuffling of assets among various well-heeled players, rather than anything that’s fundamental to the smooth functioning of the U.S. economy. (The economy did fine before the advent of hedge funds and private-equity funds, and would probably do fine in their absence.) Similarly, while stock-market tumbles are always painful, they have no concrete impact on most American consumers, who own little or no stock. (In any case, the S. & P. 500 is still up ten per cent over the past year, which hardly suggests imminent disaster.) And, in the short run, they’re irrelevant to most corporations, too, since few companies actually use the stock market to raise capital.

The bond and loan markets do, of course, matter quite a bit to companies and to individuals, because no economy can run without a steady supply of credit. But, although standards for corporate lending have tightened in recent weeks, and interest rates on corporate bonds may have risen steadily, they’re still low by historical standards, while the rates for most traditional mortgages have barely risen. That may be why the economy as a whole shows few signs of imminent doom. Corporate profits continue to go up. Unemployment is still relatively low, and wages in the last quarter rose at a surprisingly fast rate. Likewise, in July, retail sales were healthier than expected, and industrial production was reasonably brisk.

That’s not to say that the economy has suffered no fallout from the subprime collapse. The fall in housing prices, the drying up of new construction, and the sharp rise in foreclosures in many areas are having a serious impact on employment and economic growth. But these are not problems that the Fed’s action will solve. Cutting the discount rate is not going to help subprime borrowers get new loans, nor will it get the housing market moving again. What it will do is reassure investors and save some money managers from well-deserved oblivion. It may be that the risk of a full-fledged credit crunch was high enough to make this worth doing. But there is something unseemly about watching the avatars of free-market capitalism rely on the government to pay for their bad bets. And there is something scary about contemplating the even bigger bets they’ll make in the future if they know that the Fed is there to bail them out. ?

After the Tumult, Is It Buffett Time? And the Wall Street Journal writes about Buffet-size opportunities in today's depressed markets:

The bond market has seized up, stocks are in turmoil, private-equity funds are sidelined and hedge-fund managers and lenders are hosting fire sales.

These are happy days for Warren Buffett.

"I can spend money faster than Imelda Marcos when things are right," he says, referring to the former Philippines first lady and renowned shopper.

For the past three years, Mr. Buffett's traditional bargain-hunting investment strategy has been partly stymied as debt-fueled private-equity funds and hedge funds drove asset prices out of his value-investing orbit.

The result: Today he's sitting on a war chest of nearly $50 billion in cash.

Now, with the shakeout in the subprime-mortgage market forcing the end of easy money and the distressed sale of assets -- such as Thornburg Mortgage Inc.'s sale yesterday of $20.5 billion of its top-rated mortgage-backed securities -- many see Mr. Buffett, the 76-year-old chairman of the giant Berkshire Hathaway Inc. holding company, as one of the last buyers standing.
[Warren Buffett]

So what is Berkshire buying or looking to buy? Mr. Buffett hews to Berkshire's policy of not discussing potential transactions. But it is safe to guess that sellers of all shapes and sizes -- from beleaguered lenders hurt by the mortgage-backed and commercial-paper markets, to sponsors of private-equity deals that run the risk of falling through -- are reaching out to him.

Some investors speculate Berkshire could be a buyer for parts of mortgage lender Countrywide Financial Corp., whose stock price has been hit hard by subprime worries. Countrywide's assets, including its debt-servicing business and its portfolio of high-quality mortgages and mortgage-backed securities, could be attractive to Berkshire, these investors say.

It wouldn't be the first time a financial firm asked Mr. Buffett for help. In 1991, he took over as chief executive of Salomon Brothers, then in the midst of a criminal probe for a scandal involving the Treasury market. Many credit Mr. Buffett today for shepherding Salomon back into the good graces of securities regulators and investors.

Seven years later, he came close to bailing out hedge-fund Long-Term Capital Management, which was run by some of his old Salomon crew, but later changed his mind, in part because he wanted the firm's assets -- its stocks, bonds and other securities -- not its management company and its complex partnership structure.

Unlike LTCM, Countrywide runs some straightforward lending businesses, a strong brand name and high-quality mortgage assets that could complement Berkshire's other securities investments. For example, Berkshire is a longtime shareholder in Wells Fargo & Co. and M&T Bank, also reputed to be conservative lenders with strong brand recognition and long operational histories.

In fact, Mr. Buffett has already been dipping his toe a little deeper into the market for mortgage-backed securities. In the second quarter, Berkshire reported that its insurance division doubled its investment in mortgage-backed securities rated double-A or higher, to $3.7 billion, from the first quarter.

As with other investments, Mr. Buffett declined to elaborate.

Investors are betting that he's likely to swoop in and make some good calls. While the Dow Jones Industrials Average sank last week, Berkshire's normally steady shares rallied. The Class A shares gained $2,200, or 1.9%, yesterday in 4 p.m. composite trading on the New York Stock Exchange to $120,700, up 8.2% since Aug. 10 and 9.7% higher in the year to date.

"This is Berkshire Hathaway's market," says Thomas Russo, partner at investment fund Gardner Russo & Gardner, where he manages about $3 billion. Mr. Gardner, also a longtime investor in Berkshire, says Mr. Buffett should be able to cherry-pick from a variety of cheap assets.
[Chart]

Imperiled private-equity deals, which rely on the debt markets for financing, could also be attractive to Berkshire. Texas utility TXU Corp., which is trying to persuade its shareholders to agree to its sale to Kohlberg Kravis Roberts & Co. and TPG, would complement Berkshire's stable of companies, which includes the utility conglomerate MidAmerican Energy Holdings.

The trick would be getting a good price if the deal falls through, which might be difficult given TXU's improved operating performance recently. Also, Berkshire doesn't participate in auctions, so any deals would have to be privately negotiated with Mr. Buffett.

A spokeswoman for TXU declined to comment. A Countrywide spokesman wrote in an email that company policy prevents it from commenting on rumors of mergers and acquisitions.

Berkshire could also be taking advantage of cheaper stock prices in companies he already owns. For example, Berkshire bought shares of USG Corp., the wallboard maker, for as high as $46 in the past year and built up a little over a 17% stake. Yesterday, the shares closed at $37.96.

Aside from the nearly $47 billion in cash and cash equivalents on its balance sheet as of June 30, Berkshire also holds about $74 billion in stocks and about $27 billion in bonds, some of which Mr. Buffett has said he wouldn't hesitate to redeploy to other investments if they looked like they would yield better returns.

Berkshire, which so far this year has generated about 32% of its revenue from insurance units including Geico and General Re, can also borrow cheaply since it carries a sterling triple-A credit rating.

Mr. Buffett doesn't shy away from good, quick trading opportunities . After the Enron Corp. and WorldCom debacles in 2002, Berkshire bought the high-yield bonds of some 25 energy companies and some telecommunications firms, which had all been priced lower because of various scandals. By the end of that year, Berkshire had sextupled its "junk" bond investment to $8.3 billion.

At the end of 2003, Berkshire reported realized gains from the investments of about $1.1 billion, or 13.3%. Today, Berkshire still owns $2.9 billion in junk bonds, which Mr. Buffett says he'd sell if somebody brings him a deal that he can warm to.

There doesn't appear to be a shortage of people who are courting him these days. "I'm definitely more popular than I was a few months ago," he says -- and then quips: "But I started from a low base."

Canon's super service: My son's friend broke the Canon SD700 camera I had handed down. (I now have the SD850.) Canon couldn't fix the SD700, apologized and sent my son a brand-new SD800. Yes, you read right. They gave him a better camera.

To repeat:: Canon makes the best point-and-shoot camera. The latest model is the SD850, which I have and love. The SD800 is cheaper and perfectly fine also.

The Canon SD800 has image stabilization and incredible software. It lets you turn out professional-looking photos in all good and miserable conditions.

Hearing aids: My audiologist wants $5,925 for a pair of Siemens hearing aids I can buy on the Internet for $2,930. I send her a clip of the web site, with an email saying "Can't you do better?" One day later, she came back at $4,060 -- a 31% savings for one email.. I think I'll try another "Can't you do better?" today. I wonder if she'll match the Internet price? This is fun.

Many readers have emailed me "hearing aid" stories. The themes are:

1. The industry is rife with rip-offs.
2. VA hospitals are the cheapest place to buy hearing aids. They sell them to you at cost.
3. Most people go through many pairs before they finally end with a pair that works. The process can be long, boring and expensive.
4. The fastest way to your wife's heart is by buying a hearing aid.

Back from India, Thailand, Cambodia, Singapore and Australia: I picked my son up this morning. He just landed on a Continental Air from New Delhi. The plane was -- can you believe this -- early. He loved his quick summer trip. And I just loved getting up at 4:00 AM and schlepping his dog to Newark to greet his home-coming master. Finally, my day's big accomplishment.

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads. Thus I cannot endorse any, though some look mighty interesting. If you click on a link, Google may send me money. Please note I'm not suggesting you do. That money, if there is any, may help pay Claire's law school tuition. Read more about Google AdSense, click here and here.
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