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“You got to know when to hold em, know when to fold em, Know when to walk away and know when to run.
You never count your money when you’re sittin’ at the table. There’ll be time enough for countin’ when the dealins done.”
-Kenny Rogers’, The Gambler

Feet on the floor and flush with cash - that’s where you need to be early this morning. This card game is over. Despite their fibbing to you for the past 9 months that “Investment Banking Inc.” is AOK, Goldman Sachs and Morgan Stanley faced the river card this weekend, and were finally forced to fold em’, turning over the keys to their leverage cycle castles.

You’ll read about yesterday’s Wall Street going away just about everywhere today, so I’ll save you the air time of the specifics. We hope we have been proactively preparing you for the inevitable. We now have more important things to do here this morning, like putting the client first. The bottom line is that the compromised, constrained, and conflicted “Investment Banking Inc” of 2007 is out of aces. Goldman Sachs and Morgan Stanley are now going to be regulated bank holding companies. They need commercial deposits to bail them out of this mess, so look forward to seeing Goldman ATM machines at a 7-Eleven near you.

Now to the markets and your money. Yes, that’s your money that tomorrow’s Wall Street will be managing, not the wealth associated with them levering up on it. Never mind the partisan bailout haggling of this weekend. Tomorrow is when both sides of the aisle are going to get at each other. Tomorrow is the Senate Banking session where Ben Bernanke, Hank Paulson, and Chris Cox will be on the hot seat, answering to the populist, conservative, and democrat cries of this fine nation. I am betting on black that Paulson doesn’t get his plan through the political process in the timeline he was pleading for yesterday on “Meet the Press” (see my note yesterday detailing Tom Brokaw’s intense interview).

During the short squeeze melt up on Friday, I moved to 96% cash, and that’s where I will likely stay until the dust clears on this mess on October 2nd, when free market capitalism’s rules come back to this game. That, of course, is the last day of the ban on short selling. While we can no longer rule out Paulson and Cox moving the goal posts on the fly, we can have confidence that this reckless government sponsored market volatility will continue into and out of that date.

Consider last week’s move in the Russell 2000 small cap index vs. the larger cap Dow Jones. The Russell was +4.6% on the week, and the Dow was down -0.30%. Why? Well, post the sandlot SEC rule change, all of the shorts had to cover, and the volumetric impact associated with small caps is much more powerful than in their big cap brethren. This is going to be a major problem on October 3rd, because illiquidity (no shorts) drives volatility – ask Dick Fuld what happens to a “Level 3” asset that doesn’t trade when it is forced to find a marked to market price. The US Government bailout team doesn’t get this.

Worse yet, John McCain is ranting and raving about replacing the SEC’s Chris Cox with the guy who suggested we ban short selling in the first place, Andrew Cuomo! People generally do not accuse McCain of being an economically intelligent man – this certainly is not going to get him any points from the free market capitalists today.

The “Trade” that you should be focused on this morning is the one that has been born out of the Paulson plan in the last 2 sessions of global trading – the devaluation of the US Dollar. The US$ is down a full percentage point so far this morning, taking its cumulative decline since John Mack’s “evil doer” short seller speech to -3%. If you follow the bouncing ball of interconnected global markets, you’ll notice that this has lit the fire underneath inflation related assets. Oil and Gold were +6% and 13% respectively last week. Food oriented commodity inflation remains sticky, and Dr Copper is hitting a 2 week high this morning as well.

Hank Paulson is a good and hard working man, but he himself noted on “Meet The Press” that he doesn’t know what the cost of bailing out his Wall Street investment banking cronies is going to be. He is also a smart enough man to not have answered Tom Brokaw as to whether he will be around at the US Treasury in 2009 to see his hurried decisions through.

Confusion in markets breeds contempt; crisis’ of confidence do not support recoveries; and governments do not mark bottoms in stock markets.

We’re rolling up our sleeves here. There is some heavy lifting to be done in re-building a Wall Street that we can all be proud of again. “There’ll be time enough for countin’, when the dealins done.”

Best of luck this week,
KM