Sunday, March 23, 2008

Bookkeeping: Weekly Changes to Fund Positions Week 33

Week 33 Major Position Changes

Fund positions of 1.0% or greater can be found each week in the right margin of the blog, under the label cloud and recent comments areas; I highlight weekly the larger position changes.

Being a long only fund, via Marketocracy rules, the only hedges to the downside I have are cash or buying short ETFs. I cannot short individual equities.

To see historic weekly fund changes click here OR the label at the bottom of this entry entitled 'fund positions'.

Cash: 8.5% (vs 18.2% last week)
58 long bias: 84.4% (vs 61.7% last week)
6 short bias: 7.1% (vs 20.1% last week)

64 positions (vs 61 last week)
Additions: iShares Malaysia (EWM), iShares Singapore (EWS), Cabot Oil & Gas (COG), EOG Resources (EOG)
Removals: FCStone Group (FCX)

Top 10 positions = 36.2% of fund (vs 33.4% last week)
40 of the 64 positions are at least 1% of the fund's overall holdings (62.5%)

Major changes and weekly thoughts
Volatility continues to be the name of the game - multi hundred Dow days are now the norm as every sneeze, wheeze, or Federal Reserve action moves the markets violently one way or the other. It continues to be a difficult market for any but very short term oriented traders - buy and hold was dead and buried late last year and now we stomp on the grave. This was also a big reversal week, similar to the period in mid to late January where everything that was most severely punished for weeks on end, gets a huge dead cat bounce rebound, and everything that held through better than average was punished. We once again enter a period of "early cycle" rotation as the "in 6 months everything will be fine" crowd is back at it, this time with the full backing of the Federal Reserve to implicitly backstop any financial losses. This is about the 5th version of this move we've had since last summer. It is now becoming almost predictable at least in the rotation, if not the timing of this "swing in mood" and more urgent Fed actions. Each iteration brings new backstops, political pressure, and plugs to fix the leaky dam that is the credit system. Each intervention brings hope and cheer anew - and the ultimate iteration will be the direct purchase of mortgages, which is generating so much momentum the Fed and Bank of England already have to deny they are considering it. Each intervention has failed thus far. We'll see how this one goes - the herd is always "correct" in the near term and the herd has deemed this week to be the return of financials, retailers, and homebuilders. So if you were not overweight in those groups you were deemed a loser the past 4 days.

Technically, we still remain in sort of no man's land, although it is hard to trust the technicals after the very strange action on Monday when we broke support and should have broken down per every technical rule known - but magically never broke 1260. With the behind the scene interventions it is hard to really play by the old set of rules, since a new set is being created as we speak. But for what it's worth we head into resistance up there at S&P 1355 or so, and on the bottom we have S&P 1270 (apparently a false bottom per PPT rules) and/or 1260 on the bottom. So until further notice I assume we trade in this wide range but frankly we appear to not be allowed to go down past a certain point, so I guess we don't have to worry about downside anymore in this new era of government supported stock markets.

The fund had a poor week, with it's huge weighting in financials, homebuilders, and retailers (not). Basically everything that worked in the past did not work this week similar to that period in latter January 2008. If you believe in global growth stories, or commodities you were hit. If you believe in the consumer led, financial led, retail led domestic recovery you did well (if you had money left over from the carnage you endured the past 6-7 months). So it's a reversal week - the question is how long does it last. I spent the week, converting short exposure into long, and buying stuff that no one suddenly wanted, as I believe those trends did not end on a dime Sunday evening - even if the hedge fund computers believe so.

People continue to talk about the decoupling between emerging markets and developed markets, especially USA. I think the real story of decoupling later in the year will be the decoupling between US financial markets and US Main Street. I see the economy worsening but the stock market, supported by tax payer dollar backstops throughout the financial system, holding up far better. Along with the group think Kool Aid about the Q3 2008 "recovery" which will be fudged by the rebate checks. It is a sad state, but we are laying the groundwork. Socialize losses onto the backs of the common man and keep rewarding the ponzi scheme going on. NYC banks and multinationals win. Guy on the street (as long as it's not named Wall) loses. Should be an interesting dichotomy.

Below are the fund changes this week - the specific rationale for each of these major moves is explained in the weekly posts which can be accessed in the left margin under archives.

Some of the larger changes (chronologically) to the fund below:
  1. Despite all the ruckus Monday about the investment banks and the Bear Stearns $2 price, along with a triple bottom break that should of led to a severe drop off the market held against constant retests throughout the day of S&P 1260. It made no sense. But what has lately. I did make a large swath of buys in the morning, across multiple groups - that later in the week almost all took a hit since they did not include financials, homebuilders, or retail companies. Well I did buy 2 Indian banks, but since the Federal Reserve does not backstop Indian financial institutions, it doesn't count.
  2. I restarted stakes in 2 emerging markets, that I held earlier in the fund, iShares Malaysia (EWM) and iShares Signapore (EWS). Both have corrected severely from where I bought them, and I want to continue to avoid the subprime nanny state US even though the hedge funds loved it this week.
  3. I've been waiting for weakness in natural gas, and finally got some early this week so I began my first initial stake with Cabot Oil & Gas (COG), I added more later in the week.
  4. Tuesday, we got another box of chocolates as it began to hit the Street that their precious investment banks now have our tax dollars behind them (without any of the nasty regulation the commercial banks must face to boot!), and another "best in 5 years" return in the markets (which was almost promptly all lost the next day, but almost all regained back Thursday). As the commodities began a selloff, I started rebuilding my gold/silver exposure (of course too early in retrospect but I guess I didn't realize 75 basis points cut was a "defense of the dollar"). I added more Wednesday morning as both names, Silver Wheaton (SLW) and Kinross Gold (KGC) fell to their 50 day moving averages - but it became clear by later that day, that this was more than a normal sell off and probably some hedge fund liquidations were going on behind the scenes. I now have my 5% stake in precious metals as a hedge so it's an appropriate level.
  5. After FCStone Group (FCSX) was demolished to the tune of 50% down intraday (before some recovery) on fears Monday of anything within 6 degrees of financials being at risk (seems so long ago now doesn't it?), the stock rebounded on the "Federal Reserve will backstop any junk in the system" mantra and I chose to exit the position with a smaller loss - not liking this level of crazy volatility. I've barely held that position for a week but I did not sign up for 30-50% daily moves.
  6. To raise some cash I sold down some of the strongest movers of the week: Mastercard (MA) on the VISA (V) mania, DR Horton (DHI) on the "houses will rebound in 6 months mania" (the same mania that has gripped this nation for 2 years now), and Schering-Plough (SGP) simply because it was not falling like a rock like most of the fund positions.
  7. I had been waiting for some selloff in the fertilizer names and had downsized my exposure to as low as I was going to go - we finally started seeing some weakness so I began to layer in buying my 2 fertilizers with potash exposure; and said I'd buy more (in a larger layer) once the stocks hit my target levels, which they hit promptly the next morning.
  8. I started my 2nd natural gas play in EOG Resources (EOG) - most of these names seem very similar to me, but EOG stood out in my "non technical" research with some exciting prospects so I was happy to get the name at some discount to where it has been; but would actually like to see a lower price to buy more.
  9. Thursday morning as the commodities carnage continued, aside from the 2 fertilizer names I mentioned above, I created a large stake in a personal favorite Russian iron ore/steel/coal play Mechel (MTL) - again another name I was waiting quite a while for some sizeable pullback. Of course it could go lower, but I'd rather be buying here than when it was in the $130s or $140.
  10. I also added to some iron ore, infrastructure, and natural gas, while selling off some of the stocks holding up relatively well to raise some cash.
  11. I debated what to do with my hedge exposure on the short side - I am a bit confused as to where to place my bets when the downside happens. This was a week where most of the short exposure worked against me as well, since financials, real estate, and the like was a "happy place" to be again. I still believe we will have some more downside in the future in these groups but the risk now is being run over by the happy herd.
The above do not include the trades in my Ultrashorts which I am trading quite often as the market ebbs and flows.

66 Stocks Returning 8%+ this Week

This week was the return of the titans, especially financial. Essentially the names that have been blown to bits for weeks on end made their (dead cat?) bounces this week. Unless you are in the category of buying stocks as they implode and trying to catch knives, it was hard to be involved in most of the big movers this week. So what has been winning most of the past 6-7 weeks was this week's losers, and vice versa - as the Federal Reserve rides in on its white knight yet again. The 2 government "backstopped" GSEs obviously had a week for the ages - but when some of your major financial institutions are falling or rising 30-50% a week I don't know how healthy that is, or what it says about our financial system - the "bedrock of stability".

Criteria used:
  1. Market capitalization >$2B
  2. Stock price >$10
  3. Average volume >100K
  4. Returning at least 10%
We own those in green; those in blue we've discussed or owned in the past

Symbol Company Name % Price 1 Week
FRE Freddie Mac Ord Shs 53.0
FNM Fannie Mae Ord Shs 49.3
JPM JP Morgan Chase Ord Shs 20.6
MS Morgan Stanley Ord Shs 19.4
HRB H&R Block Inc 19.2
OSG Overseas Shipholding Group Inc 17.4
KEX Kirby Corp 17.1
DRI Darden Restaurants Inc 16.7
PHM Pulte Homes Ord Shs 15.8
GHL Greenhill & Co Inc 14.1
CTX Centex Corp 13.9
TOL Toll Brothers Inc 13.6
JOE St. Joe Co 13.6
TCO Taubman Cntr Ord Shs 13.4
GGP General Growth Properties Inc 12.9
WB Wachovia Corp Ord Shs 12.8
BAC Bank of America Ord Shs 12.7
WDR Waddell & Reed Financial, Inc 12.6
NYB New York Community Bancorp Inc 12.4
ADS Alliance Data Systems Corp 12.3
FNF Fidelity National Financial Inc 12.1
FAF First American Corp 11.9
AN Autonation Inc 11.7
PLD ProLogis Ord Shs 11.6
NLY Annaly Mortgage Ord Shs 11.3
AMB AMB Property Ord Shs 11.3
MAC Macerich Ord Shs 10.9
LEN Lennar Ord Shs Class A 10.9
BLK Blackrock Inc 10.5
WFC Wells Fargo & Company Ord Shs 10.4
MBI MBIA Ord Shs 10.4
NKE Nike Ord Shs Class B 10.2
NHP Nationwide Health Ord Shs 10.1
LRY Liberty Property Trust 10.1
CSX CSX Corp 10.0
KIM Kimco Realty Ord Shs 10.0
BBT BB&T Corp 9.8
SHLD Sears Holdings Corp 9.8
HCBK Hudson City Bancorp Inc 9.8
KSS Kohl's Corp 9.6
GE General Electric Ord Shs 9.5
MDC MDC Holdings Inc 9.5
MVL Marvel Entertainment Inc 9.4
EQR Equity Residential Ord Shs 9.3
REG Regency Centers Ord Shs 9.3
KMX Carmax Inc 9.3
HCP HCP Ord Shs 9.2
FRT Federal Realty Investment Trust 9.2
O Realty Income Ord Shs 9.2
SHPGY Shire ADR 9.1
BBBY Bed Bath & Beyond Inc 9.1
DDR Developers Diversified Realty 9.1
PNC PNC Finl Service Ord Shs 9.0
TK Teekay Corp 8.9
VMI Valmont Industries Inc 8.9
BPOP Popular Ord Shs 8.8
GS Goldman Sachs Ord Shs 8.6
AVB AvalonBay Comm Ord Shs 8.6
CMG Chipotle Mexican Grill Ord Shs 8.6
WBC WABCO Holdings Inc 8.3
FULT Fulton Financial Corp 8.3
DHI D.R. Horton Inc 8.2
FCE.A Forest City Enterprises 8.2
FDO Family Dollar Stores Inc 8.2
FAST Fastenal Co 8.1
ORLY O'Reilly Automotive Inc 8.1

Saturday, March 22, 2008

Financial Turmoil Raises Worries of Deeper Recession

It is funny to watch the masses turn to your view, over time. Last fall during the September/October "Fed will save us" rally I was typing almost daily that I had no idea why the market was rallying into the face of the coming financial crisis & recession. No investment bank economist even dared say recession until December 2007, and even then most pundits began the "2nd half 2008 recovery theme" all over the media. I shook my head through it all. Still do. I could STILL be wrong about a deeper, and more severe consumer led (regional) recession (first since early 80s) I see coming BUT some other minds are now jumping to my long held theory - joining Grantham, Soros, Robertson, Roubini, Schiff, TraderMark ;) (what a group!) [Feb 18: Jeremy Grantham has Some Sobering Words for "2nd Half Recovery: Crowd]

Now I must say, this is what the market SO difficult. Me, and my crowd above, could be dead right but it doesn't mean the herd on Wall Street will take the market down - as long as the HERD believes in the "2nd half recovery" and/or their constant commentary of "everything will be fine in 6 months" (a line they have been using since early August 2007) we will continue to get these Kool Aid rallies. And that is why investing is so difficult - you have to predict the herd... which is unfortunately (in the near and middle term) more important than reality of the longer term. So even if you are correct on the 2nd half being a dud, it does not matter as long as the herd believes it. And this is why we get such abrupt changes in the market direction - we deny deny deny... and then when something so huge hits that one can no longer deny we change 180 degrees on a dime, and panic sell. And keep repeating the pattern. Guessing when the mood changes from denial to reality is impossible. And it happens literally overnight.

Anyhow, in this article I was bemused to see the Greenspan comments. 4-6 weeks ago he had a 50/50 chance on the US even entering a recession - now he says "the current financial crisis in the U.S. is likely to be judged as the most wrenching" since the end of World War II."

See this is the way of Wall Street - until the bad stuff hits them square in the jaw, they deny deny deny. Everything is about hope. Because hope breeds more transactions and in the end it's all about a used car salesmen (see all those mortgage backed securities dealers) with MBAs selling stuff. It is hard to sell stuff when you bring reality to the table - so you bring hope... poor Alan doesn't even work on Wall Street but even he has been infected with the hope trade. Now, what I *can* see happening is this scenario - the "double dip recession" - the current recession (regional), and then the government stimulus plan bringing us back to positive GDP in 2nd half 2008 where every market pundit in the world will say I TOLD YOU SO! And then we move back to our normal programming of recession in very late 2008 and into early 2009. But again, I already called for another stimulus plan coming the minute the last one was announced, within a year... so they will continue to spend money to keep the business cycle from happening. So depending when THAT stimulus plan is sent to us, I will hold off on making any longer term predictions past Q3 2008. Maybe they will send us $400B in the next stimulus plan... I mean all it takes is printing money. That's not inflationary by the way ... and now that the Federal Reserve has put the world on alert its going to fight inflation, you better sell your gold. ;)

But don't worry folks, the unemployment report (per our government) says things are fine - heck below 5% - I have no idea why people in their 40s and 50s need to move back home with their parents in unprecedented levels (let me assume their parents grew up during the Depression and have their home completely paid off - unlike their overconsuming kids who spend 110% of their income each and every day because they "deserve" it.)
  • It's been almost an article of faith: Any recession this year will be mild and brief. But now the stunning meltdown of a top Wall Street investment bank and stubbornly persistent financial market turbulence has called that into question, raising fears that severe problems in housing and the nation's bedrock financial system could cripple the economy and wallop many millions of Americans. (no the first article of faith is there will be NO RECESSION, this is just a financial issue that will solve itself with a few write - offs; only in the past 2 months have we moved to a "mild and brief" recession and "everything will be fine in 6 months". But the word FAITH is accurate - instead of using logic, if you use hopeful wishing, people in NYC hope they can get their desired result)
  • No less an authority than former Federal Reserve Chairman Alan Greenspan wrote this week that "the current financial crisis in the U.S. is likely to be judged as the most wrenching" since the end of World War II. (He sounds like he is stealing direct from George Soros)
  • Other noted economists are also sounding alarms. Harvard professor Martin Feldstein, the former head of the National Bureau of Economic Research, said recently he believes the country is now in a recession and it could be a severe one.
  • A growing number of private economists already have a downturn figured into their forecasts. They are generally calling for a mild recession that will end this summer when the economic stimulus checks going to 130 million households start getting spent. But the severe credit crisis that erupted last August -- and claimed its biggest victim this past weekend with the forced sale of Bear Stearns Co. -- is raising doubts about those mild forecasts.
  • More turbulence is expected in coming weeks because there remains a great deal of uncertainty about how many more victims the credit crisis will claim. (I believe the next wave of damage will be the hedge funds - this volatility we've seen the past few weeks is the type that will knock out over levered funds left and right; we've seen a few go out lately like Carlyle Group and Peloton Partners; even Goldman's flagship Alpha fund is having a terrible time of it - if the smartest guys in the room struggle, a lot of "me too" hedge funds must be getting smashed - especially as the commodity trade they piled into blew up on them last week - they are nothing if not momentum chasing locusts. But don't worry folks, and please don't shed any tears - these failed hedge fund managers will get a new round of money and they can start anew in 2009. Because they are just that smart - after all this was a once in history event - just like the last bubble, and the one before that, and the one before that - could never ever happen again. Until 2013)
  • "We can't afford to stagger from one day to the next without knowing what large financial institution might be the next to go down the tubes because of a lack of liquidity. That is way too dangerous a game," said Lyle Gramley, a former Fed board member who is now an economist with the Stanford Financial Group. "It is possible that we could be entering the worst recession of the post World War II period. The threat is certainly there."
  • David Wyss, chief economist at Standard & Poor's in New York, said he now has a worst-case-scenario in which the country could endure a double-dip recession in which the economy would briefly recover this summer, helped by the $168 billion in tax relief, only to quickly slip back into a downturn. Under this scenario, the economy's total output, as measured by the gross domestic product, would drop by 2.2 percentage points, making it the third worst recession in the post World War II period. (Agree!)
  • The worst recession in recent decades, in terms of lost output, occurred in the 1973-75 period of oil shocks, when GDP fell by 3.1 percent, followed by the 1981-82 recession, when GDP dropped by 2.9 percent.
  • By contrast, in the last two recessions output fell by 1.3 percent in the 1990-91 downturn, and a tiny 0.3 percent in the 2001 recession, making that slump the mildest in the post-war period in terms of lost output.
  • While they are developing worst-case-scenarios, Wyss and other economists said they still believe the balance has not tipped from their more benign main forecasts. One thing that gives them hope is the expectation that Congress and the Bush administration, having acted so quickly to pass the first stimulus package, will move quickly, especially in an election year, to pass a second package if needed. (Bingo again guys - I see a lot of people have been reading the blog hah)
  • Also, analysts said the Bear Stearns crisis, which has already prompted the Fed to move more aggressively, will also probably trigger a bigger response on the part of Congress and the administration in offering help to homeowners to keep them from losing their homes because of mortgage defaults.
All these variables make it hard to predict the future economy - as I said, with all the King's Horses, and Men passing future stimulus plans and buying up mortgages direct, we could have a very different outcome than I state now. After all, when the tax payer takes all the losses (or the taxpayers grandchildren I should say) we can keep kicking the can down the road....forever? Or at least until foreign governments stop buying our Treasuries. But maybe we can keep doing this for another full decade. Or at least until the next crisis in the middle 2012-2013 level where we will blame the policies of today for that unraveling. And issue more paper currency to bail us out of that crisis.

Notice a pattern folks? As Ron Paul says... we refuse to take our medicine. So the inevitable day when the medicine must be taken, I hope we are not giving those drugs to a cadaver. Each iteration of the disease takes even larger amounts of drugs. Eventually the level of needed "treatment" will kill the patient. But let's keep kicking that can down the road. And trust me, all this will be forgotten in Q3 2008 when the GDP bumps due to the rebate checks... because ignorance of long term issues is the way to play - just keep kicking the can and keep creating paper money to solve all our problems.

A Historic 9 Days for the Federal Reserve

I've kept writing since a week ago Tuesday, these are some of the most incredible moves we have seen by the Federal Reserve. Even though we've discussed them a week ago Tuesday [Mar 11: Fed Rides to the Rescue], last Friday [Mar 14: Bear Stearns Getting Secured Financing from JP Morgan and NY Fed], Sunday evening [Mar 16: More Fed Actions!], and even Friday when the Fed put a cherry on top [Mar 20: What the Banks Want the Banks Get - Fed Expanding Junk It Will Take In] - it is worth putting them all in one story and for those newer to the market realize the historic level of "free market" interference that is happening. While Wall Street equity traders cheer (as they get their tax payer backstop), a US citizen must ask what is the Federal Reserve finally seeing that is scaring them into such historical action? Probably the same things the Roubini's of the world have been warning [Scary Stat of the Day: Roubini Calling for $1 Trillion-$3 Trillion in Losses] .... that should scare people, but instead it emboldens them to take more risk. This is the true meaning of "moral hazard".

Moral Hazard? Will this change Wall Street's ways? hahah - you made me laugh. Not in this compensation system in America where in CEO roulette - heads you win, tails you still win. Especially not in the financial system where heads you win, tails you win, and if it lands on its side the taxpayer pays the bill! [Wall Street Culture Not Likely to Change] And the Federal Reserve is helping it all along - such nice people. See, this is the irony in it all, there is no way for these people to lose. None. Never. The banking system is the US. It cannot be allowed to falter - it is now intertwined to such a degree (and levered!) nothing like the early 90s S&L bailout (when 1000+ S&Ls failed) could be allowed to happen. To do so, risks global collapse. So keep taking risk, keep rewarding yourselves with tons of bonuses and pay outs, and then when a few go under the underlings/peons will lose their jobs and 401ks, but the taxpayer will make sure the system keeps on ticking? And don't forget those retention bonuses to keep those excellent risk managers in their CEO/CFO/CIO posts. Excellent.
  • And so analysts believe the sale of Bear Stearns to JPMorgan Chase & Co. for a stunning $2 per share ultimately won't have that much of an impact on how Wall Street conducts business.
  • In fact, bankers and traders are under even more pressure to reap big returns because of the ongoing credit crisis, and risk is just part of the game.
  • Indeed, the past decade has seen a number of investing fiascoes that Wall Street doesn't appear to have learned much from. Krosby noted the go-go Internet days -- when untested high-tech companies reaped piles of cash in public offerings. The lesson then was, don't put a lot of money into a venture that isn't on fairly solid ground -- but mortgages granted to people with poor credit are quite akin to high-tech firms that had never turned a profit. In both cases, investors gleefully looked past the risk.
The biggest risk now is if these moves truly don't put a backstop under the situation - I've been saying for a while now the implicit trust that the Federal Reserve can fix everything is really all that buffets this market from a much larger fall. I have no idea if the Federal Reserve is big enough and can print enough or it's actions are enough to support a multi trillion global shadow banking system. But they are trying and the actions truly are unprecedented in scope. For now they seem to have restored the feeling that everything will be ok. But the story is not over yet - we'll see how things continue to play out.
  • The Federal Reserve has taken its boldest action since the Great Depression, invoking rarely used powers in an effort to contain a panic threatening to undermine the economy. The central bank acted with speed the White House and Congress only could envy.
  • The Fed is largely free from many constraints that bog down other policymakers. Also, it is the only U.S. institution with the authority and ability to create money out of thin air.
  • For now, the steps orchestrated by Chairman Ben Bernanke, in the first critical test of his leadership since succeeding Alan Greenspan in early 2006, are earning praise from the Bush administration, Congress and presidential contenders Barack Obama, Hillary Rodham Clinton and John McCain. (of course they are, bailout nation - we do NOT care who pays the bills, the grandchildren and their grandchildren can worry about it - all we care about is political polls in the here and now)
  • But the Fed's moves are raising questions about whether its regulatory powers, established in the early 20th century, need overhauling and whether it took on some responsibilities that Congress and the administration should have shouldered.
  • "I spent 35 years on Wall Street, have been a Fed watcher for a long time and I have never seen the potential for a more severe credit crisis than this one," said David Jones, chief economist at DMJ Advisors and a former Wall Street economist. "It looks like we turned the corner precisely because of what the Fed did."
  • Congress created the Fed in 1913 to prevent financial panics such as runs on banks and set it up as an independent entity. Its powers grew in 1933 and 1935. Although the Fed is subject to congressional oversight, its decisions do not have to be ratified by the president or Congress. Fed officials are not paid with money appropriated by Congress.
  • The system includes 12 Reserve Banks in major cities. These banks have their own boards of directors, two-thirds of whom are elected by commercial banks in the region and one-third by the Fed board in Washington.
  • In a remarkable week, the Fed: (1) engineered the fire sale of bankruptcy-headed Bear Stearns Cos. to J.P. Morgan Chase & Co. with a $30 billion loan. (2) offered emergency loans to other securities dealers under terms normally reserved for regulated banks. (3) slashed a key short-term interest rate by three quarters of a percentage point, to 2.25 percent. The cut was sixth since September. (and you forgot about the late Thursday actions of increasing the type of junk they will now allow the financial institutions to offload into the Fed balance sheet; and don't forget last week's $200 Billion action)
An interesting "opinion" (or fact?) piece on
  • In a financial crisis, the Federal Reserve has an obligation to become the lender of last resort, making cash available for banks that need it right away to prevent a systemwide meltdown. But for this crisis, the Fed has become the lender of first resort to a whole new group of financial institutions that are relying on the central bank to boost their profits.
  • Instead of lending only to firms that cannot find money elsewhere, the Fed apparently is lending to firms that can get the money elsewhere, yet at a higher cost than borrowing from the Fed. I say "apparently" because almost everything about the Fed's new primary dealer-lending facility is secret.
  • The New York Federal Reserve Bank, which runs the program, would not comment about who is borrowing or under what conditions they are borrowing. The only information that was from the Fed came Thursday in the weekly report on reserve balances, showing that the 20 primary dealers borrowed $28.8 billion on Wednesday and about $19 billion on Monday and Tuesday.
  • What executives have said, however, indicates that these firms are violating the spirit, if not the letter of the law. A spokesman for Goldman Sachs for instance, told MarketWatch's Alistair Barr that the firm has borrowed from the Fed and intends to do so again "if doing so makes sense from an economic and funding-diversification point of view." He said that the Fed was a good "alternative." In other words, the Fed is just another source of money for Goldman, and not the only one. Because the Fed's only charging 2.5% interest, it's a very "attractive" source of money
  • The Federal Reserve Act, the legal authority that makes the Fed a more honorable institution than the Mafia, states clearly that the central bank may lend money to companies that are not "depository institutions" (in other words, that are not commercial banks) only if that firm proves to the Fed that it is "unable to secure adequate credit accommodations from other banking institutions" and only "in unusual and exigent circumstances." On Sunday, the Fed board voted unanimously to declare these to be "unusual and exigent circumstances."
  • It's a judgment call by the New York Fed as to whether these firms can find credit elsewhere. In the middle of the worst liquidity crisis since the Great Depression, the New York Fed is understandably bending over backwards to supply credit now and ask questions later.
  • Being the lender of first resort could make the Fed's goal of stabilizing financial markets harder to achieve, because the Fed could be crowding out private-sector lending. How can anyone compete with the central bank? Any firm that doesn't have access to the Fed's cheap money is at a serious disadvantage.
Another article: after reading this it looks like this man is going to be the next Fed Chief .... he is doing the dirty work behind the scenes and already he appears to be the best friend of NYC banks so who better to fill their pockets to the brim in the future?

Bank of England, Federal Reserve Deny Mortgage Security Buyout Plan

Where there is smoke there is fire. Don't believe it is NOT being talked about.

I said last summer/early fall of last year, this will be the eventual end game - direct purchases of home mortgages (the Federal Reserve currently can't do it by law) but by some arm of the government.... it sounded ludicrous then. I mean back in August everyone was assuring us this was 1x writeoffs - the correction in financials was the "kitchen sink quarter" and to "buy, buy, buy!". "Subprime is contained". But as the credit morass spreads, the depth of the web of interconnected dominoes is revealed, and the desperation by public officials, both elected and non-elected, in a presidential year increases, I thought this would be the likely "end of the cycle". In the past 14-21 days it is starting to pop up as a "solution" from the mouths of many others. As always, I'm early....

Once again, let me say when (ahem)/if this happens, the stock market will probably put on a 15-20% move instantly as we then move to socialize all losses from the risk takers to the tax payers. Wall Street will win again because the financial system can now take any risk they want, as they cannot be allowed to fail.
  • LONDON/WASHINGTON (Reuters) - The Federal Reserve and Bank of England denied a report on Saturday that they were in talks over possibly using public funds to make mass purchases of mortgage-backed securities to ease the global credit crisis.

  • However, the Bank of England said it was considering a number of other, unspecified options to address the turmoil in financial markets, which has continued despite the injection by central banks of billions of dollars of liquidity and cuts in interest rates.

  • The Financial Times, without citing sources, said central banks on both sides of the Atlantic were in talks about the feasibility of buying up mortgage-backed securities -- key financial instruments which have plunged in value in recent months, wreaking havoc on banks' balance sheets and shares. "Central banks, including the Bank of England, have been looking at ways to ease the strain," a BoE spokesman said. "The BoE is not, however, among those reported today to be proposing schemes that would require the taxpayer, rather than the banks, to assume the credit risk."

  • The Financial Times had said the talks between central banks were at an early stage and part of a broader exchange on how to restore stability to financial markets. It said the BoE appeared to be most enthusiastic to explore the idea; that the Federal Reserve was open to the idea in principle, "but only as a last resort," and that the European Central Bank was less keen. (did you ever imagine the day when the US was more socialistic than greater Europe? Desperate times call for desperate measures - but this free market capitalism baloney is being exposed for what it is - on the upside it is great, but once regulation, massive risk taking, and huge transfers of wealth play out - the common folk will be asked to pay the bill)

Former Treasury Secretary Robert Rubin says it's time to use public tax dollars to bail out the banks from their lightly regulated, risk loving actions. Of course it would help Citigroup which he is closely associated with; and anyone running Citigroup obviously is unbiased (not to mention did a great job managing risk in the past 5 years)
  • Former Treasury Secretary Robert Rubin called Friday for quick government action to tackle the rising level of U.S. home foreclosures and he indicated that taxpayer money would have to be used.
  • "There is a strong need for urgent action," Rubin, who is chairman of Citigroup's executive committee, said. "I would be very, very seriously considering the possibility of using public funds in one form or another." The Federal Housing Administration should be involved in any stepped-up government effort to help homeowners facing the loss of their houses, Rubin said during an interview on Bloomberg Television's "Political Capital with Al Hunt."
  • He praised the Federal Reserve for the steps it has taken to help the economy and to ease strains in the financial markets. "The Fed has done a very good job," he said. "The Treasury, working with the Fed, did the right thing conceptually in rescuing Bear Stearns."
  • Rubin said that securities companies should be subject to the same regulation as banks now that it has become clear that they would get the same government support. (yes that would be nice - I mean now they get funds from the tax payer, yet none of the same regulation as the direct lending institutions - talk about a perfect world for the investment banks)

Alert: Commodities are Dead

.... or so you'd believe if you listened to the financial news media this weekend. Wow, I have never seen such an about face based on 2-3 days of trading action. No wait. I have seen such about faces - every other month. It is simply amazing to watch these people abandon this trade in such force; many of whom were touting it up to.... last week.

I still cannot get over the defense of the dollar due to the Fed (a) "only" cutting 75 basis points instead of 100 basis points and (b) putting more language about inflation into it's statement. So the fact the Fed took a massive slash to interest rates (75) instead of a historic cut (100) indicates they are now defenders of the dollar and not inflating the currency into a hand basket? Got it. And now that they put words into their statement saying they are watching inflation (similar words to what they had all last spring, and summer) now means they are at the ready to fight inflation? By what means? Raising interest rates? Hold on why I laugh over that. So the theory is the Fed is now suddenly going to fight inflation or will in 3-6 months, correct? So they will be raising rates to offset global inflation in the teeth of a US recession. Ok, I get it now. But this is the "thinking".

Now the dollar has other reasons to rise - namely one I have been posing which is Western Europe is posed for a slowdown (along with Japan), so the dollar could rally not on the "upcoming strength and inflation fighting by the Fed" but on a RELATIVE basis to other countries which will be entering recessions (or at least slowdowns). That theory at least I can understand. I call it the 'race to the bottom' theory - i.e. who is in the worst economic shape and hence should have an even weaker currency than the other. But a 2-3 day countertrend move, or even 2-3 week countertrend move does not make a sea change - despite the claims to the contrary. And once again, if European banks need to cut rates and inject liquidity it simply creates more paper money circling the world, which is still positive for commodities... but since we only think in "dollar" terms, that's the focus. Nothing goes straight down - but I expect to the dollar to continue to be weak over decade(s) (?) until we begin addressing the structural deficits in this country. But that doesn't mean it cannot rally for 3 months at a time. And keep in mind, we will have another fiscal emergency in about 2012-2013 time frame? Why? Because we are recreating conditions for it by following the exact same policy that got us here in 2001-2002. So we'll once again be bailing out something and flooding the system with liquidity in half a decade. Those who do not learn from history....

Now a much darker view for the downturn in commodities? Worldwide serious recession, combined with deflation. That is still an outlier view and not something I am ready to get behind - but if we reach that stage your stock investments or the price of gold will be the last thing you'll have to worry about. But that's another "theory" I am starting to see inklings of...

I don't know where commodities will be in a week or two, but I've been touting my "World of Shortages" theme and have my theories on where they will be in 3 year, 5 years, 10 years - this could be thought along the lines of Malthusian economics

Malthusian catastrophe, sometimes known as a Malthusian check, Malthusian crisis, Malthusian dilemma, Malthusian disaster, Malthusian trap, Malthusian controls or Malthusian limit is a return to subsistence-level conditions as a result of agricultural (or, in later formulations, economic) production being eventually outstripped by growth in population.

This is a long, long, long term view. And it relies on world population trends, along with the thirst for many of the world's poor (which is still the vast majority of this globe) to enter the bottom of middle class.

In February 2008, the world's population is believed to have reached over 6.60 billion.[1][2] In line with population projections, this figure continues to grow at rates that were unprecedented before the 20th century, although the rate of increase has almost halved since its peak, which was reached in 1963, of 2.2 percent per year. The world's population, on its current growth trajectory, is expected to reach nearly 9 billion by the year 2050.

So we have to feed another 2.5 billion or so within 40 years. (2.5 Billion would be equivalent to a new China, and a new India born in the next 40 years). And even if you think those numbers are baloney (myself, I think limitations on water supply will be restricting growth perhaps by famine or wars), if even 300 million people a decade move from "3rd world" to "2nd world/1st world" you have to feed (and provide energy) for a "poor man's United States" population every decade. (why do I say poor man? Well no one can consume like the good ole American - but even if they consume like the good ole Swede or South Korean, it's going to be a unheralded strain - if these people want to consume like Americans we can just forget any chance of planetary survival - thankfully there are only 300M of us). That's without any new population entering the world. Granted, Wall Street's view of long term is "next week", but without significant technological breakthroughs we have some major issues. We are well on the way to cleaning out our seas of foodstuffs. So more and more reliant on land foodstuffs. Or perhaps some sort of medical plague will wipe out a few hundred million (or more) as Mother Nature accomplished 700 years ago as a way to cull the human herd.

Now, did the hedge funds go overboard? You bet. Are we done going down? No idea, most likely not because everything overshoots. But a solid 15-20%+ correction in a long term uptrend is reasonable. Granted we already have 10%+ in 3 days - hence how horrific the fall has felt. People have been piling in these trades as "weak dollar" plays; I've been pursuing them as "World of Shortages" plays, with the weak dollar as an added bonus. Further, taking into consideration potential worldwide slowdown (even the best Asian economies slowing by 4-6% GDP points) I have been avoiding for the most part oil, and base metals such as copper. Those should be the most economically sensitive. I do have iron ore for a specific reason - fixed negotiated prices (+65%) that last a year (I love future visibility). But right now in this homogeneous hedge fund view where oil = corn = dairy = gold = copper = wheat = copper = palladium, any nuance is lost. I've been focusing on agriculture as my #1 long term bull market. People will eat no matter the economic outcome on the globe; and the fortunes of many in the developing world will still be on an upward slope as those in developed world suffer (remember where all the cash in the world is going to = petrodollars and countries with huge trade inflows). But right now a bushel of corn might as well be a barrel of oil to the unregulated pools of money running the world's investing. And when they move like a horde of locusts you get burnt in the short run.

Thinking back to last week, I have had very little oil exposure because frankly the stocks were not confirming the great strength in crude oil pricing. I had about a 2.5% precious metal stake. I did have a large agricultural stake but always will for the foreseeable future because that to me is the true commodity trade. I have begun some mining exposure in the past few weeks on weakness, mostly with iron ore exposure. I have had for a long time had coal exposure because I don't think the energy crisis is going to change anytime soon and relative to crude, coal is a steal. Speaking of... I've mostly avoided steel despite it's great strength. So that's how I entered the weak, and I simply added (mostly) to the agriculture exposure because even though I have a large exposure it is far below what it's been in the past as I've been waiting for a pullback. I've also doubled the precious metal exposure to about 5%. And with the pullback in some of the iron ore names, I've added there as well. Coal I've already had a large stake.

So again, would a 20% pullback signal the end of days for commodities. If you listen to the financial media this weekend, yes, and everything is heading back to 2002 levels. But then again these were the same folks who missed the whole housing bubble, missed the credit implosion, denied recession as even a possibility until December 2007/January 2008, and missed the first 80% of the move up in commodities (most jumped on the bandwagon right around February 08). So I have about as much confidence in the pundits accuracy as I do in Standard & Poors (who is out Friday warning about investment banks - GEE THANKS)

Can I be wrong? Always. But running independent to Wall Street herd usually works out very good in the long run, even if it provides pain at times in the near term, when the herd turns against you. Maybe another week or two of weakness for commodities in my book but nothing the US is doing is showing me they care one iota about the dollar or inflation. And with a slowdown in other world economies, and potential for 75% of world GDP (W. Europe, US, Japan) I see a lot of money creation by central banks still to come as we no longer allow the business cycle to work in this world...

Thursday, March 20, 2008

Bookkeeping: 'Rising Tide' Performance Week 33

Week 33 performance of the mutual fund

: I did not like Week 33, Sam-I-Am. I did not like it in a box, I did not like it with a fox. I did not like it in a house, I did not like it with a mouse. I did not like Green Eggs and Ham, I did not like Week 33, Sam-I-Am.

What more can I say? Thank god it was not a 5 day week, the way it went? 33 used to be my favorite numbers since that was my ACT score. No longer! I refute you, week 33. Sam-I-Am. I'll give the market credit, it pulled the same stunt on me in weeks 23 (fund lost 4.4%, trailed market by 3.5%) and 24 (fund lost 10%, trailed market by 5%) at the end of January when everything I was not in ramped, and everything I was in tanked, providing a double whammy. You can see it in my performance chart where the fund NAV (orange line) took a nose dive in mid-late January 08. So I gave up 8.5% of outperformance in those 2 weeks alone; now the market is so 'efficient' it was able to take all that away from me in 4 days. How's that for brevity - she did not take long in putting me in my place. While this was not the worst week of fund performance on an absolute basis, it was far and away the worst relative to the markets.

An easy explanation for this week's results - everything I own was pounded; I was on the wrong side of almost every trade. Simple enough. Sadly, I warned of this in last week's summary - each time I really begin to pull away from my index measures (which I try to beat by 15% a year), I promptly get nailed shortly thereafter. Like clockwork - November, January, now March. I wrote

I am now once again far exceeding my targets of beating the indexes by a yearly rate of 15%; usually when I reach this point of outperformance (in the past) the market has come in and smashed the fund the following week so I'll be vigilant about that.

Definitely frustrating on one level, but short of a wholesale change in the portfolio from what has been working 90% of the time to "the worst of breed sectors" financials, homebuilders, and retailers at exactly the correct moment - it is simply unavoidable. Shockingly, I entered the week with nice short exposure, nice cash cushion and a much decreased commodity exposure than I had say 3-4 weeks ago. Yet still these type of results. But this week was the historic type of commodity correction in terms of how quickly and how fierce it was. I keep using the word historic and unprecedented - these are simply volatile times and so much capital flows from 1 area to the next; when these hedge fund computers change direction it's 60 mph on a dime.

With that said, a lot of air was taken out of these holdings this week which is a good thing; and a lot of people who just joined the party in the past month and bought high have been burned and probably won't be returning anytime soon... also good in my book. Obviously we don't know how much further this correction will continue but with the severity and intensity we've seen; hopefully a good portion. I am not taking too much stock in the selloff here - simply put the hedge fund community has created massive imbalances everywhere they go, when they take their ball and go home, it leaves a huge vacuum (and prices go into free fall since there is little support) which affects prices in the near term - but I don't see any changes to fundamentals in coal, fertilizer, crops, etc so I am sticking to my guns with these names even if it brings more short term volatility. As I said in November 07 and January 08, these purchases in the thick of the selloffs are what generate the best returns as you go forward a month+, even if they just add to your short term misery/poor performance. If I think Mosaic is a $120 stock I should be happy to get it at $100, and thrilled at $90. So again, we will take these lumps but we knew it was coming at some point - just not all in such a compressed period, but these are the markets nowadays - time is simply compressed. Big rallies last hours, before turning into huge selloffs, before turning into large rallies.

I wish I could give you some forecast on this market but there is little to no sense on a day to day basis. Things change 180 degrees from day to day - or hourly. We appear to be nearing that resistance of S&P 1330 again and if it breaks we go to S&P 1360 but I believed that Wednesday as well, and we promptly lost 300 points on the Dow within a few hours. So we'll take it day by day in this market that continues to have no rhyme or reason.

Rising Tide Growth Fund lost 5.4% this week, losing money both in absolute terms and even more severely in relative terms (vs indexes) as the S&P500 gained 3.2% and the Ruseell 1000 gained 2.9%. Essentially, we are back to week 26 levels of outperformance and gave back (hopefully temporarily) 6 weeks of gains versus the indexes in these 4 days. But we still hold that goal of 15% yearly outperformance by the skin of our teeth. Tough to give back all those nice gains in 1 week, but this is the will of the market - we'll continue to plod forward in a very tough environment.

Price of Rising Tide Growth: $10.587
Lifetime Performance to date (vs Aug 3, 2007): +5.87%

Comparable S&P 500: 1,329.51 (-9.26%)
Comparable Russell 1000: 722.52 (-9.25%)

Fund return vs S&P 500: +15.13%
Fund return vs Russell 1000: +15.12%

Last week's results here.

Since the market cap of the median stock in the Rising Tide Growth fund (median $9.8 Billion as of November 07) is significantly below the SP500 index (median $13.1 Billion as of September 07) but higher than the median market cap in the Russell 1000 (median market cap $5.8 Billion as of September 07), I am measuring the fund against both indexes. Click here to see all fund's holdings as of January 2008.

Basis for indexes is 5 day weighted average of closing prices Aug 3-9
SP500 : 1,465.2
Russell 1000 : 796.2

To see why I use the 5 day weighted average of the first 5 trading days to smooth out the volatility of the indexes as the fund launched, see here.

Please click here: fund performance for previous updates

What the Banks Want; the Banks Get - Fed Expanding Junk It Will Take In

The past 9 days have truly been historic - no one can now say the Federal Reserve is not Wall Street's... err... umm... friend. (I was going to use a different term). On top of all the other things, word is now out that even lower quality paper will now be accepted by the Fed... and Wall Street is loving they are getting their way - Merrill, Morgan, Lehman - up 10% across the board... truly a new era the Federal Reserve has embarked upon in the past week and a half.

The Federal Reserve is starting to look like the junkyard in Sanford & Son - but are we really surprised? Anything for NYC Bankers. (I can only imagine what the folks at Bear Stearns must be thinking to see their brothers waited on hand and foot)
  • The Federal Reserve's first Term Securities Lending Facility (TSLF), to be held March 27, will be worth $75 billion and will expand on the types of collateral accepted, the New York Fed said on Thursday.
  • The expansion in the array of collaterals can further help primary dealers, TSLF's targeted borrowers, to repair balance sheets that have been slammed by mortgage-backed securities that soured during the housing slump.
  • In the debut TSLF auction, the Fed can now accept so called Schedule 2 collateral rather than the more narrow list of Schedule 1 collateral. Schedule 2 collateral includes agency collateralized mortgage obligations and triple-A rated commercial mortgage-backed securities, as well as previously announced private-label triple-A residential mortgage-backed securities, the New York Fed said. (triple A, wink wink - as in Ambak is triple A)
My favorite quote came from the Bloomberg story on same subject

The changes came after ``extensive consultation with market participants,'' the New York Fed said in a statement today.

Translation: Whatever they ask for, they get.

So up to now I have been pooh poohing the "Don't Fight the Fed" mantra but it's getting to the point that whatever the bankers want, the Fed will give. So as I stated yesterday, we might be nearing that stage with financials that we face with homebuilders - the news flow will continue poorly for months on end - the names will remain volatile with large swings up and down until everything is absorbed - then they will trade sideways for a long while.

I really need to get my own Federal Reserve - it is like having your own personal fairy godmother - they are here to make all our wishes come true. Now we only have 1 wish left to go - stop making us take the junk back on our balance sheet every 90 days and just buy it outright. Every other wish has been granted.

Up 400, Down 300, Up 200

That's just the last 3 days of trading....

This is starting to get very old...

...bipolar market. No rhyme. No reason. Just volatility.

Apple (AAPL) Mac sales up 60% in February

I haven't talked about Apple (AAPL) in a while. When last we left Apple, hand wringing over iPod sales this or iPhones sales that, led to a tremendous selloff. I was commenting how everyone is missing the forest for the trees - the real story of these products is the halo effect of bringing customers to the bread and butter of the company: the Mac. But then again I was shouting into a stiff wind and the herd ran me over. They had no use for that logic. But I still like this company as the de facto consumer entertainment convergence play; although I needed to sell some today to layer into the demolished commodity space.

Why still like Apple when the consumer is dying is one of my themes? Well, not every consumer - especially the "snobbish" Apple consumer ;) The upper 10-15% will still be fine... and for the other % of society? Well the last things people will give up are video games (see Gamestop's latest results), fashionable gadgets, and $200 jeans for teenagers. It would take a full out depression for teenagers to stop buying those jeans - I still contend American parents would rather give their kids money for expensive clothes than buy something for themselves - so they will cut that last. As customers retrench, spending on restaurants goes down but things that help us cocoon or still have brand 'cache' will hold up the best. And Apple is increasingly turning into an international story.... So it's not all blight out there - even from this corner of the blogosphere. Macs seem to be booming...
  • The report shows growth in Mac unit sales up 60 percent from 2007 and growth in dollar terms up 66 percent. That’s considerably higher than Pacific Crest’s estimate of 10 percent, according to the same report.
  • AppleInsider’s chart of the NPD data is pasted below the fold. It shows Apple’s share of the U.S. PC market growing from 9 percent in Feb. 2007 to 14 percent in Feb. 2008. In dollar terms, NPD has Apple capturing a full 25 percent of the U.S. computer market last month.
  • Meanwhile, Piper Jaffray’s Gene Munster analyzed NPD’s February report on the iPod line and projected sales between 9.7 and 10.5 million units for the March quarter. The midpoint of those two figures would equal a 4 percent drop from 2007, considerably lower than the 2 percent gain on 10.8 million units that is the Street’s consensus.
Frankly, a 14% market share (if accurate) would blow away all my assumptions - I was hoping for something like that by end of 2009. (in dollar term, 25% is even more impressive) But again, people seem fixated on these periphery products - like the Walkman for Sony which created a buzz and cache (in the 80s folks, I know Sony is not cool now), iPod revolutionized Apple BUT to focus on iPod now as a growth driver is misguided. It will be a nice steady cash cow and keep driving people to another cash cow, the iTunes website. Meanwhile, the growth in the Macs is extraordinary if these numbers hold. And again, this is without the enterprise market which is the last castle for Apple to storm. Some of the recent updates to the iPhone are designed to help Trojan Horse into the enterprise.... if that conversion from PCs to Apples ever takes hold, it's going to be a massive upside.

But I've been saying that for a long time, I said it in good times (for the stock), I say it in bad times (for the stock) - the story remains the same, but in the near term the herd has it's own ideas and drives the stock where it wants to go (namely into purgatory of late). I still think Apple is one of the few true growth stories in tech, and at current valuation is extremely compelling. But until a lot of technical resistance overhead in the low to mid $140s is taken care of, the stock will remain range bound. But... I think this will be a very good performer in 2nd half 2008, all things being relative (i.e. stock market not imploding another 20%).

Long Apple in fund; no personal position

Citigroup Warns: The "Great Unwind" Has Begun

Interesting story on - sort of parallels my commentary from day 1, about staying away from the anything directly tied to the US for quite a long period of time. It is sort of funny to watch the Street catch up to thesis' 6-12 months later. Now this is just starting to become a popular thing on Wall Street - once it becomes a drumbeat it will probably be time to reverse the trade and in fact go long the subprime US. After all we are just recreating the same conditions of low rates, and easy money that got us into this mess in the first place.

I can only imagine all the research reports on how to take advantage of global famine that should be out by end of 2008 or early 2009 ;)
  • The Great Unwind has begun, Citigroup Inc. strategists warned on Wednesday. As markets and economies de-leverage across the globe, investors should avoid companies and countries that have grown to rely too much on borrowed money, they said.
  • That means favoring public-equity markets over hedge funds, private-equity and real estate, while leaning toward emerging market countries and away from developed nations like the U.S., the bank's global equity strategy team advised
  • Within equity markets, the financial-services should be avoided because it's still over-leveraged, while other companies have stronger balance sheets, the strategists said.
  • "Steady growth, low inflation and rock-bottom interest rates encouraged economic and financial participants across the world economy to gear up over the past few years," Robert Buckland and his colleagues on Citi's global strategy team wrote in a note to clients. "Easy money encouraged many to buy a bigger house, a bigger car or a bigger speculative position."
  • "Leveraged banks must lend less, leveraged consumers must consume less, leveraged companies must acquire or invest less, and leveraged speculators must speculate less."
  • During the last credit crisis in 1998, European banks were leveraged 26 to 1. In the early part of this decade, leverage grew to 32 to 1. Now the sector is geared 40 to 1 on average, according to Citi's European bank research team. (that's scary) "The banks have a long way to go," the strategists said. "We would continue to avoid the sector while they are de-leveraging."
  • However, even though some companies may not have much debt themselves, they may be exposed to over-leveraged customers or highly leveraged investors, Citigroup warned. Automakers, home builders and electronics retailers benefited as customers borrowed money cheaply in recent years to buy cars, houses and flat-screen TVs. That attractive financing is now being withdrawn.
  • "We are now confronted by a broad bloodbath in the credit markets," Citigroup said. " The most leveraged paper is falling in value because it is leveraged, and now the least leveraged paper is also falling in value because it is owned by leveraged investors."
  • Leveraged economies, like the U.S., should also be avoided, in favor of emerging market countries, which have reduced borrowing, the bank advised. With less capital sloshing around the world, and the dollar falling, the U.S. may have to compete more to finance its deficits. "The U.S. shows up as the world's greatest consumer of external capital," Citi noted. So it "has the most to lose as this capital becomes less freely available."
Now, as always, in oversold conditions - the items written as bearish in this article are the things doing best right now, while the things that should be bought are doing the worst. But as always, in time, this too shall pass. As long as we have the faintest hope for a "2nd half recovery" we'll continue to see these rallies. And then when it's apparent it's not happening... we'll talk about early 2009...then mid 2009 and so on and so forth - the most favorite words on Wall Street right now "everything will be fine in 6 months".

Responses to Comments

I received a lot of comments last night after the close so I'll just respond to them all in 1 post here.

First, let me preface this by saying, these are simply my opinions and I am wrong 49%-51% of the time. There are many thousands of factors affecting the market at any one point, most of which we never will know about, see, touch, or hear about.

JeffreyC: Mark: I think this market acts like a manic-depressive. One minute suicidal, next minute euphoric, next minute despondent, next minute on cloud nine. But remember, these are all "PROFESSIONALS" running the show, at trading desks, running hedge funds, managing billion dollar portfolios... so we little folk have NOTHING at all to worry about.

Answer: Humans are humans. Herds are herds. Computer algorithms are programmed by humans. Etc. Fear and Greed never leave people no matter what level of degree they have. I call this the bipolar market and it has been for a long time. With the advent of computer trading dominating the markets (70% of all trades), and the first bear market since they truly took, I think it simply adds to the volatility. Then throw human fear and greed on top of it, and it's a heck of a brew. And stop ripping on professionals, thats my goal one day! :)

T-Rader: that same market pundit, it its who i think it is told people to keep their money at bear just last week.

I don't have a problem with anyone being wrong; god knows I screw up a lot - just like the best baseball hitters fail 70% of the time, the best investors fail 40% of the time. What gets me is the change in assessment literally by the hour. Now, one needs to be flexible always. In a market like *this* one needs to be even more flexible. But to pound the table on something (ag) at 52 week high than a week later when it falls 20% to be bearish is annoying. I still remember in August he was pounding on Foster Wheeler when it was at its lowest point, than when it rebounded 30% after the market rebounded he was on the bandwagon. Par for the course.

Guy 24 hours later and I am back to whistling my tune and that is: market participants are not counting on a prolonged downtrend ala Spring, 2002 or 1974. The market is oversold and sentiment is bearish and the Fed continues to throw money at the situation and the market is SUPPOSE to go up - it did everytime this trifecta of events happened from 1982 to 2007 (except 2002). I don't know which way the wind will blow tomorrow, but I do know this: ever since there was a break of weekly support on the SP500 (2 weeks ago) and the NAS (4 weeks ago) there has been increasing chance of a continued sell off. As I don't boast or make predictions, my interpretation has been to reduce exposure and wait for confirmation as oppose to speculate on a bottom. I speculated 6 weeks ago and lost that battle!!

Guy, my contention is this is the first consumer led recession since the 70s/early 80s. People are "used to" corporate led recessions (if you even want to call them that) of 90-91 and 01-02. Those were narrow, shallow - mostly due to Federal government (bailouts in 90-91) and Federal Reserve (kicking can down the road with easy money). Further they were again led by corporate weakness. This is the exact opposite. Further, I believe we are in a secular change where the US begins degrading as a world power. Not due to its people but due to it's policies - massive entitlements that we cannot pay, lack of good primary education, lack of energy policy with any foresight, global wage competition, overpriced living costs in housing (just imagine how much easier life would be if we could devote 30-35% of our salary to a roof over head instead of many people 45-50%), lack of savings, huge debt load, living past our means both as individuals and a country, lack of retirement savings, jobs that don't pay many in this country at a level to offset the high (relative to world) cost of living. Etc. Many of these things could be cited 2-3 years ago or heck 6-7 years ago... but it was masked by easy credit and housing boom, and before that tech bubble. And it's cumulative - it adds up over the years. Eventually the bill must be paid. And we do not have a leadership that looks past any 1 election cycle so you cannot make plans for 20-30 years out if all you care about is 4-6 years. Doesn't mean we are doomed but just because a country was the power for the past 60 years, doesn't mean it will enjoy the same status in the future - we assume the past will just continue the same and without work we will be end all, and be all. There is a lot of global competition now, with many hungry governments, many which are forward looking (see what Dubai is doing, not to mention China), with many hungry people. So this is a whole new world, and while Wall Street will be fine I worry about Main Street. That said, I am worried and have been for a long time for all corporate profits levered to the US consumer. As corporate profits plunge as "2nd half recovery" goes away, so will stock prices. When housing becomes a smaller % of expenses after a needed correction (through lower prices that the government is trying to fight) than maybe things can return to somewhat normal.

Feeling your pain buddy. This commodity selloff came out of nowhere. Didnt we just have a major rate cut yesterday? And the market dumps hard assets?

I am not really surprised, except on gold and silver to be honest. I would not say it came out of nowhere - these are VERY crowded trades and as I've been saying for a while now, there is a lot of hot money in these trades as people fled equities and a lot of "new money" to boot. After reading a lot of items last night I think the best proposal was simply put we might have a lot of deleveraging going on after Bear and Carlyle Group - so many of our hedge funds appear to be levered 20:1 to 30:1 and hence so much fake buying power has been created over the years - once those calls come in, and funds must cut back you see some exaggerated selling. They can't sell their stupid mortgage backed securities so they sell this stuff. And once the herd all tries to exit the room through the same doorway, you get this type of action. Welcome to the world where hedge funds dominate the volume. Remember, commodities markets are TINY compared to equities. The long term has not changed, just the current. With the dollar reversing (another VERY CROWDED trade - to bet against the dollar) - it causes all the other trades to unwind.

what did you expect? i don't know if you realize this but today is Wednesday and not Tuesday. and i think Charlie V is on vacation

it seems everybody and their mom got really bullish all of a sudden. how do i know this, even you were bullish. everybody bullish = bearish. it seems to pay to have a contrarian approach in this market.

That teaches me to be bullish even one day of the past 90. p.s. It is Charlie G, not Charlie V - I don't recommend getting those Italian guys peeved at you ;)

What worries me about this current market is the amount of cash that has been pumped into it. I'm starting to wonder that even if you pick the right area (agg for example) it's going to get hammered with everything else as the money supply eventually gets cut back. Problem is that I think staying in cash right now is just as bad b/c of the real 10%+ inflation. Looks like I should've done the irresponsible thing and spent 80% of my income on a house 2 years ago. Grr!

Michael, 3 good points. #1 moral hazard is thrown out the window in this era. Just wait until the speculators err... home owners get bailed out in the end. We are not done with the bailouts. #2 The Federal Reserve is doing everything in their power to get that cash out from under your mattress or savings account. First, you get no return in savings account and real return (adjusted for inflation) is negative. Second, inflation off the chart so they want you to move into risky assets since they are making cash trash. #3 Money supply won't be cut back from the powers that be - the open question is how badly does leverage get cut back - but that's more a crisis of confidence. Not a money supply issue - everyone appears to be levered 30:1 to 20:1 and since its almost all unregulated, our "shadow banking" system poses major systematic risk. The minions have evolved to a higher form while our regulators are still stuck in the 1980s.

Do you think this is the beginning of the downtrend in commodities, oil and gold? Are you concerned about so called deflation? Your portfolio is heavily weighted on commodities right now. I am concerned about my DBA exposure which broke support today.

By the way, thank you for all the great posts on your blog.

Carotid - I'll take my heavy commodity exposure as a compliment. Where would one of rather have been the past few months? Financials? Consumer related? Retail? Etc. It's been the place to win so I am happy I had exposure there.

re: DBA - someone asked about that 2 days ago - I will give you the same answer - it's about time frame. If you have a few day time frame you are at risk. The long term has not changed one bit. Just the level of speculative buying power has.

re: is this the end of the commodities? Hardly. I am a big proponent of a 'World of Shortages' - macro long term themes. On top of that is worldwide inflation helped along by central banks. Neither has changed - only the level of speculative fervor has. Stock prices (and commodities) go up or down for many factors - it can go up or down 25% in a week. Doesn't change my long term view. A much needed correction is happening, and one that I have been calling for. Again, the gold/silver has surprised me as to the degree of correction but the rest has not surprised me. It just shows you how much leverage is in the system and how much unregulated pools of money are running things. I wrote about this in [Feb 28: The Hedge Funds are Coming! The Hedge Funds are Coming!] - frankly they are locusts - they come in, feed, ravage, pillage and ruin any market. Orderly markets act disjointed - ask the wheat traders who have been living in a new reality the past 6-8 weeks - many are blown out of the system since risk has exploded of late due all the new players with their funny money blowing into town. Now they appear to have so much buying power, with so much leverage (30:1, 20:1) I believe they have reached a size they are now able to have that effect even on the general equity markets, which are huge compared to the small commodity markets. Hence this extreme volatility when they are forced to unwind trades.

re: your portfolio is heavy on commodities.
Other than coal I did not enter this week heavy on commodities in my opinion. I had about 3% precious metals exposure, 5-6% fertilizer, 5% crops, 3% metals, etc. I am not a hedge fund nor am I a daytrader. So I am not going to completely exit positions I believe in, in the long run. Let's use Mosaic (MOS) as an example since it's my favorite position. I've had it at 6-8% weighting during times I am extremely bullish (i.e. the stock price is low) and 2-3% when I am not as bullish (i.e. everyone is jumping on board and stock price is high). Do I ever sell out? No. I am not talented enough to know the exact moment all the lemmings will jump out of a position, so I can sell at the exact top and get back in at the bottom. So I keep my core stake and then add during the selloffs and sell to the Johnny come latelies when everyone is bullish. I sold much of my position near $110, and now can buy back yesterday around $100 (in smaller scale) and today around $90 (in large scale). I am pleased with that. But aside from coal I did not have a large commodity exposure relative to where I've been in the past. Again, I've been in these trades a long time. I was a fertilizer bull a year ago for all the same reasons people are today (before the market recognized). I was a coal bull early last fall for all the same reasons people are today (before the market recognized). I am trying to find trends, be early, and I can't control the day to day speculation. I don't see any change to the long term fundamentals, so again, I weigh these positions more heavily when people flee, and I weigh them more lightly when everyone is piled in. Doesn't mean I do not get hurt on the downturns, but again as a "mutual fund" I am not going to go to 0% exposure and 90% cash - even if I was smart enough to know how to time things to that degree. Maybe a lot of people come to the blog and don't read the history and think I just piled into all these positions because hot money just found them the last 6 weeks. Not the case. This is not the first correction nor the last in the space - I said I would not be bullish until these names started falling many times in the past most recently [Mar 6: Waiting for the Leaders to Fall Before I Buy in Scale] I wrote

Now the commodity complex is obviously running the show - our leadership is fertilizer, crops, coal, natural gas, mining, and gold/silver. I'm happy to say despite some blow ups in the bottom of the portfolio, having a focus on these groups (ex-natural gas which I totally missed), is keeping us doing quite well.

But this also leads to the problem... while these are my favorite groups; they are also the most prone to getting hit hard in a downturn (since other groups have already been hit very hard). This is what happened in mid January - many of my stakes in such names were getting hit for 8-9% a day, every 3rd day. Does it mean it has to happen again? No. But I am assuming it will. And in fact I cannot get very confident about being more long until I see these groups get hit. The popular term is "the generals must be shot".... i.e. the generals are the leadership. So despite having the best fundamentals, and no legitimate reason for being sold off, they will - if this correction scenario I envision plays out - get sold off. And potentially very severely. It happened in August 07, it happened in November 07, and it happened in January 08.

So it is now coming to fruition - this is my game plan. To buy when it happened. So I am buying. Without a game plan you have nothing.


Since you are a Ron Paul fan, I have one more idol that I just stumbled upon today, who we can praise for telling the truth!!


Already have it covered. He was a good man and told the truth. Therefore he has no place in our government. He is now out of government... [Feb 25: I Didn't Realize US Comptroller Resigned] We continue to put our head in the sand and ignore reality. We are reactive, not preventative and just like the tech bubble, housing bubble, until it explodes we will not react. We only act in crisis and this continued behavior allows the rest of the world to catch up, and eventually many will pass us. Do you realize the Iraq War costs are an "off balance" sheet accounting in the budget? That's how they do it - it doesnt really count because its not part of the real budget. But we're already at $600 B - which would of gone a long way to completely solving Social Security. Oh well. Sheep elect these people - sheep get what they deserve; hell many sheep don't even vote in this country.

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