Hedge Fund Traders: Non Farm Payroll, Earnings Are Keys

Why are financials weak again? Because the Street has come to realize that estimates for 2008 are too high. They have already attacked earnings for the fourth quarter (S&P Financial Sector estimates for Q4 are down 20% compared to the same period last year); now they are attacking 2008.

Of course, analysts are notoriously late to the table when it comes to cutting numbers. Last night, I met with a group of about a dozen hedge fund traders. Here is what I took away:

--The short term key is the November nonfarm payrolls report, out Friday, because that will be a major influence on the Fed.

--Earnings are about 20 percent too high for the banks.

--Some felt that the bad news is factored into the stocks already, but a surprisingly large percentage felt that more writedowns--particularly in non-subprime areas like home equity--will force another wave of selling.

When will their be a bottom? Some argued that there are already signs of a bottom: Dubai buying into Citi , and the presence of Treasury Secretary Paulson proposing to help those whose ARMs are resetting (government intervention often sign of a bottom).

One savvy trader is watching two data points for signs of a bottom: 1) when LIBOR rates stabilize and start going down, and 2) the spread between the 2 year note and the Fed Funds rate, which is currently negative—until it goes positive it is hard for banks to make money.

--There's a big difference between LIQUIDITY and CREDIT. Liquidity--getting more money back in the system--may be able to be solved in the next few months with lower rates and government initiatives. But credit is a longer-term problem. Banks will likely maintain tighter credit standards through 2008; that will make it tougher for consumers to get a loan, and it will also impact the bottom line for lenders.

---There was considerable debate about the Paulson plan being floated that would freeze ARMs rates. Some were for, some were not, but all felt the plan would be difficult (some said impossible) to implement and would take at a minimum three months to get going.

Questions? Comments? tradertalk@cnbc.com