The Governator and the Market Operator
For the week, the S&P500 (up 13.5% y-t-d) and the Dow (up 8.1%) both declined 1.8%. The Morgan Stanley Cyclicals fell 2.5% (up 47.6%), and Transports declined 3.0% (up 4.4%). The Banks dropped 2.8% (up 1.1%), while the Broker/Dealers gained 1.1% (up 50.3%). The Morgan Stanley Consumer index added 0.3% (up 15.1%), while the Utilities were hit for 2.6% (down 3.1%). The broader market gave up some ground. The S&P 400 Mid-Caps dropped 2.2% (up 23.3%), and the small cap Russell 2000 sank 3.1% (up 16.2%). The Nasdaq100 declined 1.9% (up 37.2%) and the Morgan Stanley High Tech index fell 1.6% (up 51.3%). The Semiconductors were slammed for 4.5% (up 44.5%). The InteractiveWeek Internet index dipped 1.6% (up 57.9%). The Biotechs sank 4.1% (up 37.4%). While Bullion advanced $12, the volatile HUI gold index dipped 0.7% (up 30.5%).
One-month Treasury bill rates ended the week at 3 bps, and three-month bills closed at 10 bps. Two-year government yields dropped 11 bps to 0.76%. Five-year T-note yields sank 15 bps to 2.15%. Ten-year yields were 10 bps lower to 3.22%. Long bond yields declined 9 bps to 4.00%. Benchmark Fannie MBS yields sank 15 bps to 4.12%. The spread between 10-year Treasuries and benchmark MBS narrowed 5 to 90. Agency 10-yr debt spreads narrowed 4 to 10 bps. The implied yield on December 2010 eurodollar futures dropped 13 bps to 1.635%. The 2-year dollar swap spread increased 3.5 to 35.25 bps; the 10-year dollar swap spread was unchanged at 16.25 bps; and the 30-year swap spread declined 0.25 to negative 12 bps. Corporate bond spreads were mixed. An index of investment grade bond spreads widened 12 bps to 145, and an index of junk spreads narrowed another 27 to 603 bps.
Corporate debt issuance is booming. Investment grade issuers included Citigroup $5.0bn, L-3 Communications $1.0bn, Tyco $500 million, Penn Electric $500 million, Weyerhaeuser $500 million, Guardian Life $400 million, Entergy Gulf States $300 million, and Alliant Energy $250 million.
Junk bond funds enjoyed inflows of $ million (from AMG). Junk issuers included Elan $625 million, Cincinnati Bell $500 million, Transdigm $425 million, Windstream $400 million, Tops $275 million, Gannett $500 million, Stream Global Services $200 million and Venoco $150 million.
I saw no converts issued.
International dollar-denominated debt issuance remained strong. Issuers included Enel Finance $4.5bn, Italy $2.5bn, Brazil $1.5bn, Abu Dhabi Commercial Bank $1.0bn, Arcelormittal $1.0bn, Nordic Investment Bank $1.0bn, Volvo $750 million, Embraer $500 million, Dexus Finance $300 million, Ceva Group $210 million and Caribbean Development Bank $120 million.
U.K. 10-year gilt yields dropped 17 bps to 3.44%, and German bund yields fell 13 bps to 3.12%. The German DAX equities index declined 2.0% (up 13.7% y-t-d). Japanese 10-year "JGB" yields fell 6 bps to 1.25%. The Nikkei 225 sank 5.2% (up 9.8%). Emerging markets were mostly resilient. Russia's RTS equities index was unchanged (up 93.8%). India's Sensex equities jumped 2.6% (up 77.6%). China's Shanghai Exchange declined 2.1%, lowering 2009 gains to 52.6%. Brazil's benchmark dollar bond yields declined 3 bps to 5.07%. Brazil's Bovespa equities index gained 1.4% (up 62.9% y-t-d). The Mexican Bolsa slipped 0.3% (up 28.1% y-t-d). Mexico's 10-year $ yields declined 3 bps to 5.28%.
Freddie Mac 30-year fixed mortgage rates were down 10 bps to an 18-wk low 4.94% (down 106bps y-o-y). Fifteen-year fixed rates dropped 10 bps to 4.36% (down 142bps y-o-y). One-year ARMs declined 3 bps to 4.49% (down 63bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates down 6 bps to 6.11% (down 107bps y-o-y).
Federal Reserve Credit declined $12.4bn last week to $2.120 TN. Fed Credit has declined $126bn y-t-d, although it expanded $732bn over the past 52 weeks (53%). Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 9/30) added $583 million to a record $2.855 TN. "Custody holdings" have expanded at a 17.9% rate y-t-d, and were up $389bn over the past year, or 15.8%.
M2 (narrow) "money" supply declined $8.0bn to $8.310 TN (week of 9/21). Narrow "money" has expanded at a 2.0% rate y-t-d and 5.2% over the past year. For the week, Currency added $1.4bn, while Demand & Checkable Deposits sank $32.4bn. Savings Deposits jumped $40.7bn, while Small Denominated Deposits dropped $9.5bn. Retail Money Funds fell $8.1bn.
Total Money Market Fund assets (from Invest Co Inst) sank $53.5 to $3.429 TN. Money fund assets have declined $401bn y-t-d, or 14.0% annualized. Money funds increased $30bn, or 0.9%, over the past year.
Total Commercial Paper outstanding jumped another $19.7bn (7-wk gain of $158bn) to a 17-wk high $1.232 TN. CP has declined $450bn y-t-d (36% annualized) and $375bn over the past year (23%). Asset-backed CP added $1.5bn to $522bn, with a 52-wk drop of $202bn (28%).
International reserve assets (excluding gold) - as accumulated by Bloomberg's Alex Tanzi - were up $287bn y-o-y to $7.213 TN. Reserves have increased $447bn year-to-date.
Global Credit Market Watch:
September 30 - Bloomberg (Timothy R. Homan and Sandrine Rastello): "The International Monetary Fund cut its projection for global writedowns on loans and investments by 15% to $3.4 trillion, citing improvements in credit markets and initial signs of economic growth."
September 30 - MarketWatch (Laura Mandaro): "Companies found investors newly receptive to fresh stock and debt offerings in the third quarter... As September winds down, U.S. companies are on track to have issued $39 billion in new stock and convertible debt and $156 billion in bonds, according to Dealogic. The combined capital raising has increased 57% from the same period last year... The total shrank 43% from the second quarter, a period when secondary stock offerings surged as banks sold shares to repay U.S. government bailout funds."
October 1 - Wall Street Journal (Aaron Lucchetti): "A steady stream of new share and bond issues combined with a stock-market rally to give Wall Street reason to cheer during the third quarter. The three-month period ended Wednesday wasn't close to setting records for issuance, but traders and bankers welcomed even an average quarter... The volume of third-quarter stock and bond sales, $1.5 trillion, was down 25% from the second quarter but up 69% from the third quarter of 2008..."
October 2 - Bloomberg (John Detrixhe): "Citigroup Inc., ranked third among U.S. lenders by assets, and the finance arm of General Electric Co. issued $8.5 billion of U.S.-guaranteed bonds this week, the most in six months, taking advantage of federal backing from a program the government plans to end."
Government Finance Bubble Watch:
September 30 - Dow Jones: "The International Monetary Fund needs an appropriate exit strategy from special stimulus measures when the financial crisis ends, the Deutsche Bundesbank said... 'At the end of the current financial crisis, it should be reviewed whether the increase in special drawing rights...should be withdrawn, either partially or entirely, to limit risks to political stability,' Hans-Helmut Kotz, a member of the German central bank's executive board, said..."
September 30 - Bloomberg (Mark Deen and Francois de Beaupuy): "French President Nicolas Sarkozy says that even with a record budget deficit, France needs to spend more borrowed money to kick start economic growth. Promising a 'grand loan' to finance spending on everything from Paris's rail system to new supercomputers, Sarkozy is set to swell a budget shortfall that already is the highest since 1959..."
September 30 - Bloomberg (Gabi Thesing): "The European Central Bank will lend banks less money than economists forecast in its second 12-month auction of unlimited funds, indicating banks' need for cash has eased for now. Banks bid for 75.2 billion euros ($110bn) at the current benchmark interest rate of 1%... It loaned a record 442 billion euros at the first auction in June..."
September 29 - Bloomberg (James Tyson and Michael McKee): "Former Federal Reserve chairman Paul Volcker said the rise of China and other emerging economies has underscored a decline in the comparative economic and intellectual leadership of the U.S. 'I don't know how we accommodate ourselves to it,' Volcker... said... 'You cannot be dependent upon these countries for three to four trillion dollars of your debt and think that they're going to be passive observers of whatever you do.'"
The dollar index this week gained 0.3% to 77.03 in continued volatile currency trading. For the week on the upside, the South Korean won increased 1.0%, the Canadian dollar 0.9%, the Brazilian real 0.5% and the Taiwanese dollar 0.4%. On the downside, the South African rand declined 2.9%, the Swedish krona 1.3%, the Danish krone 0.8%, the Euro 0.7%, the Swiss franc 0.7%, and the Mexican peso 0.5%.
September 30 - Bloomberg (John Duce): "China's sovereign wealth fund bought a stake in the London-traded unit of Kazakhstan's state-run energy company, taking its spending on resources to at least $3.69 billion this month."
Gold gained 1.2% to close at $1003 (up 13.7% y-t-d). Silver added 0.7% to $16.18 (up 43% y-t-d). November Crude rallied $3.72 to $69.74 (up 56% y-t-d). November Gasoline jumped 6.1% (up 64% y-t-d), while November Natural Gas fell 4.9% (down 16% y-t-d). December Copper slipped 2.1% (up 90% y-t-d). December Wheat fell 1.9% (down 28% y-t-d), while December Corn was little changed (down 18% y-t-d). The CRB index increased 2.0% (up 11.3% y-t-d). The Goldman Sachs Commodities Index (GSCI) rose 3.0% (up 30.2% y-t-d).
China Bubble Watch:
September 28 - Bloomberg: "China's government stimulus may risk overheating some parts of the economy as local authorities rush to expand fixed-asset investment, said Qu Hongbin, chief China economist at HSBC... 'Local governments in China have laid out massive investment plans this year and with an explosion of bank loans funding the construction, overheating in some areas and price increases in raw materials may be on the horizon," Qu said... 'How to address the unbalanced recovery will be a test for the government,' said Qu. Premier Wen Jiabao's 4 trillion yuan ($586 billion) stimulus package to build airports, power grids, roads and low- cost homes is driving the world's third-largest economy out of the steepest slump in more than a decade. Still, Wen said this month that his government 'cannot and will not' halt stimulus because the nation's economic rebound isn't yet solid."
September 30 - Bloomberg: "Chinese Premier Wen Jiabao pledged his government will further strengthen its economic policies and contribute to a global recovery. China aims to achieve 'stable and relatively fast' growth and contribute to a global economic recovery by maintaining the continuity and stability of its policies and improving their effectiveness and sustainability, Wen said... 'China needs the world and the world needs China,' Wen said in a nationally televised speech delivered before a banquet in Beijing celebrating the 60th anniversary of the founding of the People's Republic of China."
September 29 - Bloomberg (Chia-Peck Wong): "Swire Pacific Ltd., building architect Frank Gehry's first Asian residential project, said luxury homes in Hong Kong are in short supply as mainland Chinese buyers swooped for apartments. 'There is relatively short supply at the high end,' Martin Cubbon, an executive director of the company and chief executive officer of... Swire Properties Ltd., said... There is 'enormous liquidity and buying' from Chinese residents... Luxury home prices in Hong Kong have climbed as much as 28% in the first nine months of the year..."
October 2 - Bloomberg (Kelvin Wong and Nipa Piboontanasawat): "Glorious Property Holdings Ltd. fell 15% on its first day of trading in Hong Kong, the fifth straight debut slump for an initial public offering in the city....The developer joins four companies... in falling on the first day in the past two weeks."
October 2 - Bloomberg (Aki Ito and Toru Fujioka): "Japan's jobless rate unexpectedly retreated in August from a record and household spending rose as the nation emerged from its worst postwar recession. The unemployment rate fell to 5.5% from 5.7% in July..."
September 30 - Bloomberg (Masahiro Hidaka and Mayumi Otsuma): "The Bank of Japan may decide as soon as next month to let its emergency corporate-debt buying programs expire as businesses regain access to private funding, people with direct knowledge of the discussions said. Officials are concerned that maintaining their purchases of corporate bonds and commercial paper beyond the scheduled end in December would distort capital markets..."
September 30 - Bloomberg (Thomas Kutty Abraham): "India's monsoon rainfall, the main source of irrigation for the country's 235 million farmers, is the weakest in more than three decades, threatening farm output in the world's second-biggest producer of rice, wheat and sugar. Falls in the June-September season are 23% below the long-period average..."
Asia Bubble Watch:
October 1 - Bloomberg (Shiyin Chen): "Singapore's private residential property prices rose last quarter for the first time in more than a year... The price index of private residential property climbed 16% to 154.5 from 133.3 in the previous three months..."
September 29 - Bloomberg (Jason Folkmanis): "Vietnam's economic growth accelerated this quarter, buoyed by domestic demand and government stimulus spending that has revived bank lending. Gross domestic product expanded 5.8% from a year earlier after gaining 4.5% in the previous three months..."
Latin America Watch:
October 1 - Bloomberg (Helder Marinho and Alex Duff): "Rio de Janeiro easily won the vote to stage the 2016 Olympics, becoming the first South American city to host the event and placing Brazil among what its president said is the elite of the world's nations. The Brazilian city, which proposed investments of $11.1 billion in preparation for the games, got 66 votes in the final round today, while Madrid received 32 in balloting by the International Olympic Committee..."
Unbalanced Global Economy Watch:
September 30 - Bloomberg (Alexandre Deslongchamps): "Canada's economy unexpectedly stalled in July... Gross domestic product was unchanged during the month..."
September 30 - Bloomberg (Daryna Krasnolutska): "Ukraine's economy plunged a revised 17.8% in the second quarter from the same period a year ago, as industrial production and construction plummeted under the weight of the global financial crisis."
September 30 - Bloomberg (Jacob Greber): "Australian retail sales, approvals to build private homes and bank mortgage lending jumped in August, stoking speculation the central bank will raise borrowing costs from a half-century low in coming weeks."
U.S. Bubble Economy Watch:
October 1 - American Bankers: "Continued job losses, shorter work weeks and falling incomes are being cited as major factors in another record rate of consumer delinquencies in the second quarter of 2009... Delinquency rates hit record quarterly highs in three key loan categories: home equity loans, home equity lines of credit, and bank cards. The composite ratio, which tracks eight closed-end installment loan categories, also hit a record high at 3.35% of all accounts... compared to 3.23%... the previous quarter."
October 1 - Bloomberg (Aaron Kuriloff): "Anthony Noto, the National Football League's chief financial officer hired from Goldman Sachs... last year, dons a hard hat for a tour of what will be the most expensive U.S. sports stadium ever built. On this sunny day in mid-2008 in East Rutherford, New Jersey, workers pour concrete and weld steel girders for the unnamed $1.6 billion venue where both the New York Giants and the New York Jets will play... The stadium epitomizes the NFL's costly building spree during the past 15 years. Many owners used cheap credit to build and renovate 24 of the league's 31 venues, more than quadrupling debt held by teams and the league to about $9 billion this year from 1996."
October 1 - Bloomberg (Michael Buteau): "Tiger Woods is the first athlete to surpass the $1 billion mark in career earnings, Forbes magazine reported on its Web site."
MBS/ABS/CDO/CP/Money Fund and Derivatives Watch:
September 30 - Bloomberg (Michael J. Moore): "Delinquency rates on U.S. mortgages rose in the second quarter... Mortgages 60 days or more past due climbed to 5.3% of loans through June 30, up from 4.8% on March 31 and 3% a year earlier..."
Real Estate Watch:
September 29 - Bloomberg (Nadja Brandt): "U.S. vacation timeshare sales may fall the most this year since the industry gained popularity in the 1970s... Sales may drop 30% this year from 2008, said Howard Nusbaum, president and chief executive officer of the American Resort Development Association..."
Central Banker Watch:
September 30 - Bloomberg (Tasneem Brogger and Marianne Stigset): "Norway's policy response to the economic crisis has done its job and left the benchmark interest rate 'extraordinarily low,' Governor Svein Gjedrem said, as the bank prepares to reverse an easing cycle."
September 29 - Bloomberg (Denis Maternovsky): "Russia's central bank lowered its key interest rates by half a percentage point to help stimulate lending in the world's biggest energy exporter as it recovers from the biggest economic contraction on record. Bank Rossii cut the refinancing rate to 10% from 10.5%..."
October 2 - Bloomberg (Jonathan D. Salant): "Applications for Social Security benefits rose almost 50% more than expected this year because of the recession, according to the federal retirement program. 'We are seeing a significant increase in both retirement and disability applications as a result of the recession,' said Mark Lassiter, a Social Security spokesman... Agency statistics show that 2.57 million people requested benefits, up from the 2.10 million applications received during the previous 12 months."
October 2 - Bloomberg (Jeremy R. Cooke): "State and local governments sold the most long-term taxable debt in six weeks, led by New York City and the Los Angeles Unified School District, with their first issues under the Build America Bonds stimulus program. Taxable, fixed-rate municipal issues rose to $4 billion this week... Tax-exempt sales were $5.2 billion, little changed from the previous week."
September 30 - Wall Street Journal (Conor Dougherty): "State tax revenues in the second quarter plunged 17% from a year earlier as rising unemployment and reduced spending hurt sales- and income-tax collections... The decline was the sharpest since at least the 1960s. The biggest drop among major revenue sources was in state income taxes, which were down 28% from a year ago. Sales-tax revenues fell 9%."
September 30 - Bloomberg (Michael McDonald): "Connecticut, the state with the most tax-supported debt, will borrow $2.25 billion over the next two years to balance its budget amid plunging income tax collections."
New York Watch:
October 2 - Bloomberg (Oshrat Carmiel): "Manhattan apartment prices fell for a second consecutive quarter, helping drive the biggest gain in sales in more than 13 years... The median price slid 8.4% to $850,000 in the third quarter from a year earlier... appraiser Miller Samuel Inc. and broker Prudential Douglas Elliman Real Estate said... The number of sales jumped 46% from the second quarter..."
September 30 - Bloomberg (David M. Levitt): "Manhattan office rents fell 5.2% in the third quarter from the previous three months... Asking rents fell to an average of $50.98 a square foot from $53.76... broker Studley Inc. said... Rents for the best offices in Manhattan declined 6.4% to $62.38 a square foot in the period."
The Governator and the Market Operator
I'll begin with an excerpt from Bill Gross's latest Investment Outlook:
"But California's problems, while somewhat unique and self-inflicted, are really America's problems, and not just because the California economy is 15% of national GDP. While California's $26 billion deficit is not directly comparable to the federal gap of $1 trillion-plus, they both reflect a lack of discipline and indeed vision to perceive that the strong growth in revenues was driven by the same excess leverage and same delusionary asset appreciation that was bound to approach cliff's edge."
It's contagious. Both at the state and local level and in Washington, policymakers "lack discipline and indeed vision..." It is said that "bull markets create genius." I'll suggest that the downside of the Credit cycle fashions lousy policymaking. I feel for the "Governator" and the California legislature, and I feel for our new President and members of Congress. They confront the harsh post-Bubble reality of no win circumstances - wearing big bullseyes on their backs in an age of slings and arrows.
As much as I respect Bill Gross - and can't take strong exception with much of what he has been saying and writing of late - I just can't find it within myself to move on. Newer readers might be unfamiliar with my long-standing - and one-way debate - with the McCulley/Gross view of the financial world. They have over the years been leading proponents for the popular consensus ideology that I have labeled "inflationism."
It is a basic tenet of Credit Bubble theory that if the system inflates the quantity of Credit it will be spent. Credit Bubbles are fundamentally about a lack of discipline - one could say a confluence of undisciplined behavior. Credit Bubbles evolve specifically because of undisciplined monetary system management, undisciplined lending, undisciplined borrowing, undisciplined investment, undisciplined speculation and, at the end of the day, undisciplined spending throughout. And there are some absolutes: Inflated mortgage Credit, home price gains, and elevated incomes will absolutely inflate the propensity for undisciplined consumption. Inflated tax receipts will absolutely inflate government expenditures - in California, Washington D.C., and all across the country. The discipline problem goes way back but commenced within the bowels of the Credit system.
Mr. McCulley, in particular, was a vocal proponent for post-technology Bubble reflation. This reflation doubled total mortgage Credit in about six years and unleashed Monetary Disorder all over the world. In the process, this historic Credit inflation inflated asset prices, incomes, corporate profits, and government receipts. The state of California was at the epicenter of this massive inflation. Going back to fiscal year 2002-2003, California general fund revenues were about $71 billion. By the beginning of the 2007-2008 year, the state was budgeting for general revenues of $101 billion.
In percentage terms, state revenues inflated about 40% during the five-year boom. And with receipts rising each year, of course legislators were going to extrapolate and increasingly inflate state spending. There's no mystery here. Keep in mind that in typical Bubble economy form, much of the rising expenditure was the result of rising costs all along the chain of state services. Those campaigning earlier this decade for aggressive monetary ease to fight deflation got, not surprisingly, more than they bargained for.
In hindsight, it is amazing to contemplate the complete and utter lack of vision that afflicted policymakers throughout the golden state and all across the country. How could they not perceive that sophisticated Wall Street financial leveraging and resulting asset Bubbles were only temporarily inflating their coffers? When seemingly everyone bought into the notion of endless prosperity, why couldn't they have kept their heads? Just because everyone believed the enlightened Federal Reserve had forever mastered the business cycle, why couldn't they have been more skeptical? And that the economic community, the regulator community, the Federal Reserve and the marketplace all missed this Credit Bubble dynamic is, apparently, no excuse. As I have often written, I sympathize with post-Bubble policymakers.
It is a tenet of Credit Bubble theory that politicians - given the opportunity - will inflate. There is ample history illuminating the dangerous propensity to run the government printing press. Contemporary analysis gets more complex because of the nature of private-sector Credit and the penchant for government (explicit and implicit) guarantees. During the boom, "money" was burning a hole in policymakers' pockets, but it was Wall Street and the GSEs commanding the electronic printing press 24/7. By far the most precarious absence of discipline and vision belonged to those Operating in and accommodating this historic private-sector Credit Bubble.
I disagree with the policy of massive deficits. Yet the California and U.S. budget quagmires are the direct consequences of the bursting of the Wall Street/mortgage finance Bubble. And as much as greed and leverage have provided easy scapegoats, responsibility lies first and foremost with the nature of contemporary unchecked finance and flawed "activist" monetary management (trumpeted, not coincidently, by our era's preeminent market Operators). And as much as the consensus view believes that previous financial maladies have been largely rectified, I see a continuation of the same malignant Credit system dynamics. In short, massive government intrusion into the market pricing of Credit continues to fuel economic maladjustment and Bubble dynamics.
Why did Wall Street issue Trillions of ABS, auction-rates securities, CDOs, and private-label MBS? Because they could. Why did the hedge funds and others leverage so egregiously? Because they were making a bloody fortune and the marketplace was more than ok with it. Why did the GSEs increase their MBS guarantees by $400 billion over the past year, and why did the Treasury issue $1.9 Trillion of Treasuries the past twelve months - and will likely do only somewhat less over the next year? And why are cash-strapped state and local governments borrowing so aggressively these days? It's because the marketplace continues to readily accommodate Credit excess. Who is demonstrating a lack of discipline and vision - the borrower or the lender? The "Governator" or the market Operator? Is this the way the market pricing system is supposed to function?
Why is the marketplace inherently incapable of disciplining the egregious borrower - whether mortgage debt during that Bubble or government debt today? First, there are no inherent system restraints on Credit creation. Recalling the mortgage finance Bubble, recent massive increases in the supply of government debt have been met with a collapse in borrowing costs. Second, the marketplace perceived that fiscal and monetary policymakers were backstopping mortgage Credit during the boom. Today, the market is confident that policymakers are firmly behind the Treasury and agency securities markets. Borrowers are undisciplined for one reason: the distorted market mechanism not only fails to discipline them - it accomplishes the exact opposite.
I could ramble on for pages on the myriad costs associated with unchecked, undisciplined and mispriced finance. Mr. Gross touched upon a key cost, noting today's uncompetitive California and U.S. economies. This is a key aspect of Bubble economy distortions. The dangerous flaw in inflationism dogma is that the Federal Reserve and policymakers can manipulate the cost and quantity of Credit with positive systemic results. In reality, the consequence of increasingly bold policy activism over time include a more distorted and unbalanced economic structure, as witnessed today. And it is my view that a flawed Credit apparatus, ill-advised government intervention, and dysfunctional market dynamics ensure economic maladjustment gets worse before it gets better.