Ed Yardeni is one of the most optimistic economists I know of. He correctly called the 1990s decline of inflation, the spreading of globalization and the resulting bull market in stocks and bonds. He was pessimistic at the turn of the century, although for the wrong reason: He was perhaps the globe's No. 1 worrier about the Y2K bug, which turned out to be a nonevent. Stocks crashed in 2000-2002 because they were overvalued, not because of computer gridlock. Since then he has again been characteristically optimistic, raising the possibility of a "repeat" of the 1990s for the first decade of the 2000s -- slump early in the decade and boom at the end.

But the note he sent to clients this morning is the most pessimistic I have seen him in a while. Yardeni getting bad vibes is a negative leading economic indicator: From the note:

Two days ago, Debbie and I lowered our Target Scenario for H2’s [second half of 2007] real GDP [gross domestic product] growth to 2% from 3%, while maintaining our 3% forecast for next year. This morning we are raising the odds of a recession for the US over the next 6-12 months from 15% to 30%. The credit crunch has not been contained to the subprime mortgage market, but is rapidly spreading to the prime mortgage market, to the jumbo mortgage market, to private-equity financing, to the commercial paper market, and so on.

We believe that the Fed will have to lower interest rates in an effort to stop the credit crunch and to avert a recession. Meanwhile, various asset classes are under attack. Residential real estate, commercial real estate, high yield bonds, derivatives (CDOs, CLOs, CDSs), REITs, [real estate investment trusts] LBOs, [leveraged buyouts] hedge funds, commercial paper, [short-term paper bought by money-market funds] and stocks have all taken some direct hits in recent weeks.

Even the [hedge fund managers] Fortresses and Sentinels of this world aren’t holding up very well:

(1) Fortress shares are down 28.8% since February’s IPO [stock offering] peak. Blackstone [another private equity investor] is down 30.4% since it peaked on the day of its IPO on June 22, 2007. The main concern has been that a lack of investor appetite for corporate bonds will choke-off buyouts.

(2) Sentinel, a small firm that manages short-term cash for commodity trading firms and hedge funds, stopped allowing its clients to withdraw funds yesterday. Tin prices dropped yesterday reportedly because a trader was forced to sell to raise some cash.

(3) Here is an excerpt from Canada’s globeandmail.com (8/14): “Coventree buys long-term debts: Auto makers sell it car loans, retailers vend credit card debt, banks hand it mortgages. Coventree repackages all these loans as nine different types of commercial paper, under names such as Rocket Trust and Apollo Trust. This short-term debt is sold to money market mutual funds. Coventree takes a fee for structuring the deal. Coventree's business hits a roadblock when $250-million of commercial paper comes due, and no new buyers can be found. The company forces existing investors to keep holding the securities, while its stock tumbles.”

(4) Canadian rating agency DBRS reported yesterday that 17 Canadian asset backed commercial paper issuers are looking for back-up financing from banks.

(5) The Fed’s website has a chart which tracks the daily spread between 30-day A2/P2 less AA nonfinancial commercial paper interest rates. It shot up from around 15bps to 60bps yesterday.

(6) The Financial stocks continue to get whacked. Despite Goldman’s best efforts to characterize its $2 billion bailout of its ailing GEO fund as an opportunistic investment, the front page headline of the FT called it a bailout. UBS reported solid quarterly results. However, they were overshadowed by further losses in mortgage securities incurred by Dillon Read, its in-house hedge fund.

(7) Thornburg Mortgage said it will delay its Q2 dividend payment and has been getting margin calls from creditors, requiring the lender to make payments to make up for the declining value of mortgages used as collateral for those borrowings.