Government Intervention Problematic Despite Rally

The recent carnage in the financial markets was capped off with an 18% plunge in the Dow Jones Industrial Average last week, the worst five-day stretch in history. The stock market is now down 25% in October and hasn't risen for a single day this month. Corporate bonds, loans and commodities have also tumbled.

The collapse has come even amid historic measures taken by the federal government to attempt to restore investor confidence. Yet as I've repeatedly pointed out, the more the government has done to "fix" the problem, the more erratic and volatile the markets have become. By the end of last week, as the Dow experienced its first 1,000-point intraday swing, it finally became painfully clear to even the financial novice that the markets had become unhinged.

Given the fact that stocks in every sector, of every size and in every country have all but cratered, there are undoubtedly some historic values in the marketplace right now. Yet what will make them unusually difficult to uncover is the fact that markets are no longer being driven by economic fundamentals but political whim. The government's most recently floated proposal to take direct equity stakes in banks makes it even more painfully clear that Uncle Sam is no longer a referee but a player in the game, moving the pieces and writing the rules as we go along. Can you think of an asset that isn't "troubled" right now?

Much criticism has been levied on the former management at AIG (AIG) and Lehman Brothers for their poor risk management and internal controls. Yet a confidential directive given by federal regulators last week to newly nationalized Fannie Mae (FNM) and Freddie Mac (FRE) best exemplifies how the government plans on making even more colossal errors — all with taxpayer dollars.

According to a Bloomberg report, the government-sponsored entities are to begin buying $40 billion a month in underperforming mortgage assets, including subprime and non-performing securities, an expense separate from the much scrutinized $750 billion bailout plan. Last year the companies amassed $15 billion in losses holding just these same types of assets.

Most disturbing, Treasury Secretary Hank Paulson made it clear that even as the companies expand their investment activities with tax dollars, they would no longer be run "to maximize shareholder returns."

Feel your confidence restored yet? Hardly. Because in the matter of a few months, the head of the Treasury Department has engineered a socialist coup, under which the allocation and investment of capital is now controlled by the government and managed "for the public good."

After the worst week in stock market history, we might rally from a severely oversold position. But given the dramatic swing toward a government-controlled economy managed for political rather than economic ends, I simply can't find too much to get bullish about over the longer term. Not this week at least.

How will those regulators, environmentalists and public watchdog groups that lambasted the energy industry for manipulating oil prices during the first half of 2008 explain gasoline prices experiencing their biggest drop in history over the past two weeks? The national average for a gallon of unleaded is now $3.31, down some 80 cents since the middle of July.

6-month performance of United States Gasoline Fund (UGA)

Earlier this summer I wrote about the rapidly weakening status of oil and energy shares, all of which have continued to drop. So if Exxon Mobil (XOM), ConocoPhillips (COP) or BP (BP) could control the price of oil as many of their detractors contend, then wouldn't right now be a particularly good time to do so?

In reality, those entities are subject to the same laws of marketplace supply and demand as the rest of us. Don't expect the Big Oil conspiracy theorists to acknowledge that fact regardless of how far gas prices fall.