Tuesday, August 26, 2008

Nations Largest Municipal Bankruptcy Ever

Thanks goes to Pete for scouting out the regional papers. This was coming and I think stems back to the failure of the ARS market but it could still cause a double take by a few investors if it happens and ends up on the front section of the WSJ. I don't think this will be the last muni default before this is all over with.


Jefferson County expects to default on its $3.2 billion sewer debt Friday and likely will not enter into another payment extension with its Wall Street creditors, Commission President Bettye Fine Collins said Monday.

At that point, the commissioners likely will authorize attorneys to begin bankruptcy proceedings, she said.

Collins said she had hoped a deal could be worked out without the county filing the largest municipal bankruptcy in the nation's history, but she now thinks that such a deal is unlikely.

Who is insuring this:

When the county defaults, bond insurers Financial Guaranty Insurance Corp. and Syncora Guarantee Inc. are required to cover the payments under an agreement with the county. Both insurers would expect the county to reimburse those payouts in full, as outlined in that agreement.

Dead Man Walking

Thanks goes to Nathan for this. Interesting write up on the cycle of a bank becoming a dead man walking. It also talks about the GSE debacle and mentions some of the banks that are currently dead men walking.


But this is where it is "different this time". Not only is it different, I think it may be unprecedented in nature. When I look at my Bloomberg monitor each day that contains my 100 most important indices, companies, commodities, bonds, bond spreads, preferred shares, etc, I shudder. The reason I shudder is that my screen doesn't have just one "problem child". It looks like a screen that contains many "dead men walking".

on the GSE's

While I have been expecting nationalization for quite a while, I am intrigued along with my peers and colleagues as to why the bailout is taking so long to accomplish. This is where it gets interesting and dangerous from a systemic point of view. My hunch is that the reason for the delay is that the Treasury Department is "peeling back the onion" on Fannie/Freddie and finding out just how much of a mess the two of them are in.

dead man walking cycle

It is a pattern that is not terribly dissimilar from the emotion charts I like to focus on so much. In the graphic below, I will offer my "recipe for disaster" for a bank or brokerage firm. I would like this cycle to be called, "The Dead Man Walking Cycle".

Monday, August 25, 2008

Wall St. Screeches to a Halt

About 393 million shares changed hands on the NYSE, 13 percent less than at the same time a week ago. Volume last week was 35 percent less than the year-to-date average.

I found that little data point interesting in a bloomberg article. Not sure what time that is of but Wall St. is entering a stand still. 35% decline is huge!!

Interesting that I didn't get text messages, emails, and phone calls from all my bearish friends complaining that the market is down while Fannie and Freddie are way up when last week I was barraged with such when Fannie and Freddie were way down and the market wasn't following. Like I said last week the base case of the equity get wiped out is a non event at this point I think. What matters is the preferred, debt, and the structure. The common is just a trading vehicle.

Interesting the market is down today. It makes me kind of think that the street was expecting or pricing in some kind of big news over the weekend on the GSEs or Lehman to take out some of the unknown. When that didn't happen the market sold of. Just theorizing.

Friday, August 22, 2008

Immigrants Returning to Mexico

Interesting possible domino affect from a slowing economy. Not something I would have thought would have been that noticeable.


Illegal immigrants are returning home to Mexico in numbers not seen for decades


Some say illegal immigrants are leaving because a soft economy has led to fewer jobs, causing many laborers to seek work elsewhere.

Others argue that a tough stance on immigration through law enforcement has spread fear throughout the illegal population.

we are not talking small numbers

The illegal immigrant population in the U.S. has dropped 11 percent since August of last year, according to the Center for Immigration Studies. Its research shows 1.3 million illegal immigrants have returned to their home countries.

Market Thoughts and Some Technical Analysis???

(For some reason the pictures are throwing off the alignment of the paragraphs in this post. I have played with it way to long and going to leave it the way it is.)
I feel like I need to qualify this post somewhat so some of my investing friends will still be friends with me. :) I take the view that almost any way of looking at the markets can be a tool at the right point in time. You don't want to be the carpenter that every problem looks like a nail and so you only reach for a hammer when you need a calculator.

Technical analysis in and of itself should be worthless. The reason it means something is because people believe it means something and there is big money at the margin that is managed following its principals on Wall St. Those more philosophical will argue that it is important because it falls into the patterns and math found in all areas of life from dimensions of tree trunks to how birds fly.

Whatever the reason, I really only find technical analysis useful in bear markets and a year ago never looked at it at. The last time I spent a decent amount of time looking at it is back in 2001 and 2002. I find it a useful tool in bear markets. The reason is because correlations of stock prices often go to 1 in bear markets regardless of what fundamentals are. In a bull market, in normal times, stocks usually react on their own merit. They move up and down on an individual stock basis. In bear markets if stocks are going down, usually all stocks are going down regardless of how the company is performing.

So you have two banks, one of which will eventually fail and the other which will emerge stronger because many competitors will disappear and they will survive. Who will win and who will lose between the two banks will be difficult to distinguish when things are bleak and investors who are panicky won't care. We will name them bank X (the one who fails) and bank Y (the one who survives). When things are deteriorating rapidly bank X and Y are both going to go down. When you have counter moves both will go up alot. Bank X may even go up more though it will ultimately fail. So say I am short Bank X because I correctly identified it is the inferior bank and have no position in Bank Y because it is to hard to tell if they will indeed make it (I have many such investments I could point to in this scenario currently). Well in the rallies especially, it is almost impossible to tell the difference. So if your trying to size positions and hedge and move out of hedges technical analysis can be a useful tool when dealing with probabilities of adding to shorts or taking profits and lowering exposure. Correlations become one. Bulls markets when things act more rationally and those who are succeeding are rewarded and those who are failing go down, the usefulness of the tool drops considerably (in my opinion anyway).

So with that backdrop in mind below are two graphs. Let me make it clear I have never read a book on technical analysis or done any sort of training. What I do is amateurish and really has developed from looking at stock graphs since the age of 12. My positions are made for fundamental reasons, the technical analysis comes in when managing size of my shorts on a portfolio basis and when to hedge and not hedge. Click on the graph below.

This first graph is the S&P 500 over the last 6 months. It includes the huge April May rally. What you see in the April May rally were two high probability tops that the market may have been done universally moving up. One in mid April and one in mid May (the actual top). They are classic type tops. Huge moves up early in the day after a couple of violent up days the days before (the final squeeze of the shorts and buying panic of those fearing getting left behind) followed by a slam down late in the day. The final buying barrage has been extinguished and it creates a decent probability that in a bear market that is the end of the bear market rally. We saw that a week ago Monday and I blogged that I thought it was a decent chance of that was it. Both tops in the April and May rally broke their trend lines. First break in April ended up being false (you are dealing with probabilities) as buy the dips still permeated Wall St while the second break was legit. We had another break after this last top. Very encouraging. I laid out my thesis a couple of days ago that while this rally was not as long at the Sep / Oct rally or the Apr / May rally that I thought probabilistically it was done. I also said it would be natural for the market to move back up to 1290ish. I was hoping the market wouldn't be that strong but it should be expected, that it would be a natural move. Below is the 1 month graph of the S&P. Click on it.

By looking at this graph you can see where I came up with this number. Today sure enough we went to about 1293 and couldn't break it. We have sold off below 1290 since.

If you are a bear we are not out of the woods. For one if you compare the six month and 1 month graph we did not break that 1260 area truly distinguishing a new low like we did in May. Also the reason I was so frustrated yesterday, which came out in a blog, is because once again in bear markets fundamentals in real time are not followed very closely which tests the patience in severe ways of fundamental investors. It is all about the reaction to the news not the news. I really had thought things had shifted. You had bad news on Wednesday which was shrugged off which while disappointing was understandable since the two days before the market had gotten slaughtered. Then though to see it followed up on Thursday with even worse news and the market shrug it off was very concerning. Then today the market is flying? Why? There is no real good news. The reaction if we had truly rolled over should have bee an open up 100 points and then sell off. Lehman is not news in my opinion. People keep asking me which bank I think is going to fail and Lehman keeps getting brought up and I keep saying no, it is going to get taken under. It doesn't really change the fundamentals at all.
So the market opened up and held the gains and then quotes from Bernanke in Wyoming crossed the wire and the market rallied some more. They were bad quotes. There was nothing positive I could see in them besides the fact that the Fed is stuck. That fundamentally things are getting worse and we don't know what to do about. Yet the market bought it. Bad news is still being bought which is very concerning.

What I am saying is that we have to hold this 1290 to 1300 area or I will probably be buying protection against my short book. It was a failed breakdown like mid April, the market probabilistically is heading higher, and it doesn't really matter if your fundamentally right, your shorts are probably also headed higher.

After saying all this I just want to emphasize that this stuff should only be used as a tool. I don't usually look at individual stocks this way. I don't usually look at going long a stock this way. My view in April and May were that it was a bear market rally. I hedged some in the beginning of the rally but took the pain as the market put together a very massive rally looking for a turn in the markets. Last time I got it right. I bought puts and greatly expanded my short exposure around 1400 on the S&P. I have done the same here but this may be a failed April breakdown. You have to know fundamentally why you are short or long something and then you can use this tool to help when to make a big swing. I could easily be wrong that a week ago Monday was the top. If I am right fundamentally though on my positions it won't matter in the long term. Where it matters is that I avoided the end of July and beginning of August shorting things even as the stocks increased until I saw a high probability opportunity with shorts I fundamentally liked. 1325 to 1340 is still the area where I think a rally almost has to come to a halt though I really don't want to have to wait though that.

Thursday, August 21, 2008


This is insane. I don't gripe about the markets often. They are what they are and the goal is to take advantage of them and griping doesn't do anything. Today, I am going to make an exception. I can't see how the markets are not down at least 100 points. Instead as I type the S&P and Dow are up. You dig in the markets are they are down a little more. XLF down 1.2% and Russell 2000 down .3%. Still, the market's performance today so far has been awe inspiring. Asia down across the board, Europe down across the board, Oil up over $5!!! per barrel, Goldman and Lehman down over 1%, and somehow people are buying?? Sometimes all you can do is just shake your head. Volume again is next to nothing which may explain it. The Wall St. bosses are in tropical paradises this time of year while home is becoming a burning inferno but those at home are just maintaining the portfolios they have not making any large allocations bets bearish or bullish.

The most amazing thing of all (in my opinion anyway) is that the VIX is down over 4% today. Geopolitical tensions, oil, fannie and freddie, etc etc. are all rearing their flaired Cobra heads and the market reacts by selling down fear. Amazing.

Wednesday, August 20, 2008

Today's Market Action

I was ecstatic about today's market action until right at the close. After the banks get slaughtered three days in a row. for the banks to post a measly bounce and the market to be flat most of the day was exciting as the market consolidated after several day sell off. Then the last 30 minutes came it and erased alot of the excitement. Markets rallied across the board and the XLF closed at the days high and closed above 20.25. In the big picture it would be completely natural for XLF to move back to 21 and the S&P to go back to 1290. That would not be bullish if they went up those levels only not to break them. Despite the sorry close I still think this was just a little rally after two massive sell offs days. We will find out tomorrow.

I got several emails and texts all days about how great the markets were doing with FNM and FRE down so much. I am not sure they matter all that much anymore. The consensus is that the debt will be backstopped and the common equity will be wiped out. The market knows that and unless perception or reality changes in some form or fashion I don't really think FNM and FRE matter so much. I think it is much more about LEH, AIG, and GS.

Interesting how this Russia thing is playing out. The ante is definitely increasing. So far the markets (including Europe) are shaking it off. I don't think there will be any military confrontations but there could still be some significant economic fallout yet to come from the tensions.

Short Selling Rules

This video is beyond stupid. It talks about the potential for the new proposed short selling rules for the SEC. I think it shows that people still do not have a grasp of the problem, that they are still in denial stage, and that there are really no answers for the problems. John Tabacco had to sound the stupidiest when somehow he questions a study done in Europe showing the SEC short selling rules on the 19 stocks had no impact. If somehow geographic location makes a difference in the valdity of a study.


M3 Collapsing - This Should Scare You

Thanks goes to Ron for this. This caused my jaw to drop to the floor. I don't know if it will get any attention in the U.S. but this I think has profound implications. In my mind, I have been slowly moving towards the possibility that deflation may actually be the bigger problem not inflation over the next 24 months. This seems to add possible credence to that argument.


The US money supply has experienced the sharpest contraction in modern history, heightening the risk of a Wall Street crunch and a severe economic slowdown in coming months.

Data compiled by Lombard Street Research shows that the M3 ''broad money" aggregates fell by almost $50bn (£26.8bn) in July, the biggest one-month fall since modern records began in 1959.


The M3 data measures both cash and a wide range of bank instruments. It tends to provide an early warning signal of major shifts in the economy, although the US Federal Reserve took the controversial decision to stop reporting the statistics in 2005 on the grounds that the modern financial system had rendered the data obsolete.

Monetarists insist that shifts in M3 are a lead indicator of asset prices moves, typically six months or so ahead. If so, the latest collapse points to a grim autumn for Wall Street and for the American property market. As a rule of thumb, the data gives a one-year advance signal on economic growth, and a two-year signal on future inflation.

Growth is still positive at an annualized 2.1% which is down from 19% at the beginning of the year. I had no idea that the growth of the money supply was cliff diving in this manner. There are a few economist who believe that the money supply worldwide is set for a major contraction as central banks are not forced to pump billions in liquidity into their currency to support the U.S. trade deficit since the trade deficit is collapsing on the collapsing U.S. consumer. The theory goes that this will cause worldwide growth to grind to a screeching halt over the next 12 months.

Tuesday, August 19, 2008

Fannie and Freddie

Freddie did a $3 billion note offering today. The big question was what was the Asian participation going to be?


Asian investors bought 30 per cent of Tuesday’s deal, compared with 41.3 per cent of Freddie’s five-year sale in May. Asian investors purchased 22 per cent of Fannie’s offering last week compared with 42 per cent of a similar issue in May.

This lack of participation resulted in of course much higher borrowing costs.

Freddie paid 4.172 per cent, a spread of 113 basis points over Treasuries, to sell the $3bn in five-year notes. That compares with a spread of 69 bps, or a yield of 3.751 per cent, Freddie paid to sell $4bn in five-year notes in May.

If the treasury has indeed backed this paper, why would the spreads still be so high? I think it has less to do with the credit quality and more to do with foreign capital sources drying up. Maybe this is just because of the questions surrounding FNM and FRE but if there is something bigger going on here it could have profound implications.

Big Bank Failure Prediction

Thanks goes to Andrew for this. Another dire prediction.


The deepening toll from the global financial crisis could trigger the failure of a large US bank within months, a respected former chief economist of the International Monetary Fund claimed today, fuelling another battering for banking shares.


In an ominous warning, he added: “We’re not just going to see mid-sized banks go under in the next few months, we’re going to see a whopper, we’re going to see a big one — one of the big investment banks or big banks,” he said.

Monday, August 18, 2008

Credit Markets in Disarray

This is partly what I talked about in the last post. The credit markets are screaming that there are problems.


Interest-rate derivatives are showing that investors are preparing for another round of turmoil in credit markets amid renewed concern that the U.S. will have to bail out Fannie Mae and Freddie Mac.


The five-year swap spread traded at more than 104 basis points late yesterday. The spread moved above 100 on July 17 for the first time since March, then retreated later in the month. The spread peaked at 116 basis points on March 6, the most since at least 1988, when Bloomberg began compiling data.

Looking for a Top

So this is when I use my blog to go through my own mind's musings. This is really why I blog. Test my own thoughts once I write them down.

This whole discussion below is centered around a core fact. That I believe the markets are overvalued and fundamentally will be heading lower at some point. If that is my premise than it just becomes a timing issue. I am not trading something I don't fundamentally believe. It also wouldn't matter except for the fact that I am looking to place index bets which I don't do very often.

I mentioned in a previous blog I thought the market may have topped last Monday and I am continuing to try and figure that out. The market today did a quiet decline today. What I mean by that is it just started going and kind of eased its way down all day. People blamed on the Barron's piece on the GSE's but I thought that was stupid. Article had what everyone already knew. The market also went down as oil went down which was interesting.

Looking at the markets we are now overbought. The length of the rally has not been as long and looking at the S&P it has not been as violent. I think both are possibly it may be misleading.

The rally has not been as long but I think the bull story is much weaker than it was in the October and April rally as it was in January when the rally was shorter. October was after the Fed first stepped in. Things fundamentally were still alot better and some historical precedent (even if I thought it was flawed) that the Fed saved the day. Then you had the April May rally which was also a long rally and here you once again had the potential for things fundamentally changing if confidence was suddenly restored to the system. The credit markets improved initially. Now it is more like January when you have none of that. Credit markets are hemorrhaging with the CMBX hitting the widest spreads today since this thing started, the ABX at its lows and the CDS spreads widening. Nothing changed in July besides some technical issues with shorting forcing a giant short squeeze. The Merrill Lynch news that everyone herald as a bottom was simply just bad news. You also have world markets crumbling in this latest rally. People will point to oil and the dollar but oil going down (no plummeting) is hardly a sign of strength. So bottom line is the the length and depth of a counter trend rally should be shorter.

What about the violence of the move? Once again I think this is misleading. The S&P 500 has only rallied 8% from low to top compared to moves of greater than 10% previously but dig a little deeper and the rally has been much more substantial and violent. The Russell 2000 rallied 17% (similar to the April rally) but in half the time. The XLF rallied over 35% from top to bottom, by far the biggest rally in the XLF in the counter trend rallies. Why has the S&P 500 been the losing duck? Well it may have to do with energy rolling over. Remember in this rally companies dealing in commodities have gotten slaughtered and that makes up over 20% of the S&P. The Russell 2000 actually has more of its makeup in financials than the S&P 500 does.

All we are talking about is probabilities that we are done making new highs. So fundamentals are not part of the current discussion.

A couple of things to watch. One is the S&P moving below 1274 tomorrow. Another is Goldman. Why? I think traders are watching this very closely. It is right at 160 where it has bounced every time before. It has moved down from 183 to 160 in a week (much bigger move than the markets) and I have heard there is alot of chatter on the trading desks about some problems at Goldman and Goldman breaking 160. If it does that I really think it could bring down the entire markets. I know traders are watching it. You should be also.

Back in the Saddle

I am back. I don't have another trip planned during the week until the beginning of October when I go to the Value Investing Congress in NYC. I am looking forward to being at my desk for awhile. I actually kept up with the markets reasonably okay but still catching up. There isn't much happening besides the market continuing to rally while in general the rest of the world sells off, the credit markets continue to deteriorate, cost of money continues to go up, and Wall St. continues to think a bottom is in. Delusional.

I read this Saturday which are last weeks comment from Hussman which I found interesting (I only read his stuff off and on)

With bonds and utilities deteriorating, stock market internals are becoming unusually hostile. This sort of joint deterioration in interest sensitive securities has often provided important warning of steep subsequent losses, as we observed for example in 1966, 1987, and 1990. While the market is still sustaining something of a relief rally from the lows of a few weeks ago, I've noted that hostile yield trends have a tendency to cut such advances short, even when bearish sentiment and oversold conditions would otherwise invite more sustained bear market rallies.

I tend to agree. I actually thought last week Monday may have marked the high point for this rally. It would have been a classic top for a market rally. Huge week up the previous week (actually previous several weeks) followed by a last short squeeze only to get slammed down at the end of the day to finish about flat. The financials then broke down the following three days with the XLF closing below 21. Still to early to tell but it was the first shot of their being a top in the current rally. Since Monday is has just been kind of a battle ground. We had a couple of these such tops in the April / May rally also. One around April 10th and then another around the 5th of May. Who knows, all I am saying was that I went into Tuesday thinking that may have been it which was the first time I had felt that since the current rally started about a month ago. Time will tell.

This is Hussman's latest weekly commentary.


The stock market remains relatively overbought in an unfavorable Market Climate, which continues to pose substantial downside risk. Overbought conditions in unfavorable climates, and oversold conditions in favorable climates, are about the only times when I have any expectations at all about near-term direction. There's a relatively high degree of complacency here, reflected by the suppressed level of implied volatility and the general consensus that bad news has been priced into stocks. But against that, we're seeing a fresh blowout in credit spreads, now extending beyond financials and into a broader range of corporate debt (witness the spike in the ratio of Moody's Baa/Aaa yields). Meanwhile, the persistently high level of new claims for unemployment, along with a wide range of other economic data, is entirely consistent with the thesis that a U.S. recession began in January.

I agree. He goes on to write about the dollar this week and thinks it may have topped. That I disagree with but have no position either way besides being long dollar's because I live in the U.S. I think the dollar could be done going down for awhile though in the long term it will probably be lower.

Saturday, August 9, 2008

Marc Faber

One thing that caught my eye before I headed out the door. Marc Faber did an interview on Bloomberg. Basically long the dollar and on a relative basis long U.S. stocks compared to European stocks. Also he said the global economy is now in a recession. I agree with everything he said. I do believe the dollar has bottomed and do think Europe is in worse shape than the U.S. I would love to hear Soros thoughts.



I am out again this week. Ugh I know!! I am ready just to be back and get in a normal week by week schedule. I spent some time watching some CNBC videos and reading some commentary. It seems alot of people are buying this bottom caused by weakening commodities and strengthening dollar hook line and sinker. I am more confident then I have been that we will be moving up for a little while. The one good thing is financials have not been following the S&P to new highs but we probably have at least 2 to 4 weeks of this bear market rally ahead of us. The last rally in April and March lasted 14% from top to bottom. We are are a little over 8% now. It also lasted right at two months. We are just finishing up our first. All this stuff really does not matter but when timing new entry points it can make a difference. What matters is fundamentals and on all levels this seems to be weakening. Friday in the midst of another massive rally in the equity markets the CMBS (essentially tracks commercial mortgages) widened again. Most of the debt market is showing stress not seen since before the Bear Stearns collapse. These are the fundamentals that will ultimately matter even if the equity market can go several more weeks in rally mode. Have a great week. I will be back a week from Sunday.

Friday, August 8, 2008

Markets and Spades Playing

Back to that time of year. Time to put on blinders to the markets and play spades. What is going on is as stupid as it was back in April. The bulls will argue valuations have bottomed (you don't see many bulls arguing anymore that the economy is going get better anytime soon, the argument is changing). Whatever, sounds great, your right, let's talk in 3 more months.

I am currently really proud of myself and disappointed with myself. I am proud of myself because yesterday it was very tempting to short. The news was death and fundamentally it added to the compelling case of shorting some more. Well all day I talked myself out of it because it didn't look like anything was different in the markets that it wasn't just a natural pause before more bad news would be bought. On the disappointment side, I had decided that if we get the natural pull down I wanted to sell some covered puts on my short. Well the news was so bad yesterday I couldn't bring myself to do it. So I missed the opportunity.

Today news flow while not as bad as yesterday is also bad. Of course this is the type of market where bad news is bought and horrid news is quietly sold. The Fannie Mae news was not good today. No matter how you slice and dice it there are some financials that should be declining today based on the FNM earnings release. If you read their conference call it is interesting how much they discussed how bad July was. The other interesting thing was in their press release which calculated risk actually pointed out.

[Fannie will be] ramping up defaulted loan reviews to pursue recoveries from lenders, focusing especially on our Alt-A book. The objective is to expand loan reviews where the company incurred a loss or could incur a loss due to fraud or improper lending practices. To achieve this, we are increasing post-foreclosure loan reviews from 900 a month in January to 4,000 a month by the end of the year, expanding our quality-control reviews for targeted products and practices, and are on track to double our anti-fraud investigations this year. We expect this effort to increase our credit loss recoveries in 2008 and 2009.

Basically in everyday English they will seek money to make them whole on loans that went bad made by other banks that Fannie bought from the banks. Basically a put option back on the banks meaning losses for banks that they didn't think they would have because the loan they made and sold went back forcing them to take the loan back. I don't know what kind of dollar numbers this is talking about but this likely flows back to Countrywide which then likely flows back to Bank of America (Countrywide was the biggest seller of loans to FNM). Bank of America has been on an absolute rocket going from 18 to 34 (now 32.50) in less than a month. It seems like the most insane of all the bank rallies.

So what is going on? Why the big rally? Besides the obvious reasons, you also have to understand Wall St. From mid May to mid July energy was on a tear while financials got killed. What that means is that investing companies that follow an asset allocation strategy saw the percent of their portfolio in financials decline substantially and the percent in energy increase substantially. Well at some point they decided enough was enough and it was time to rebalance. This starts a domino reaction and so everyone rushes to rebalance their portfolios based completly on asset allocation targets, not on fundamentals. So you have money leaving energy flowing into financials and other areas of the market regardless of the fundamental aspects of the trade. This has obviously not run its course and could continue awhile. That is why even if you know a financial is overvalued, it is a really hard short and it is probably better to wait to try to pick your timing better.

Need to play some spades. Only one more hour of this nonsense for a couple of days.

Thursday, August 7, 2008

Vanishing Credit

Available credit continues to disappear. I do not see how you can be bullish until this stabilizes. Let me let you on a little secret. There appears to be no stabilization. In fact it seems to be accelerating with news everyday of HELOC's being taken away, stricter standards on car loans, yesterday it was Wachovia not doing any more student loans. Here is an article on the cost of money for munis that continue to go up.


The Oakland, California, agency that runs toll bridges across the San Francisco Bay is proving that the era of cheap money for municipal borrowers is over.

This week the Bay Area Toll Authority sold more than $700 million of bonds at rates as high as 5.33 percent to refinance debt that cost 4 percent last year. That leaves less money to finance projects, such as bridge improvements.

Do the multiplier affect on this one:

Spread over the $330 billion of fixed-rate municipal debt that JPMorgan Chase & Co. estimates will be sold this year, that translates to as much as $1.6 billion in extra interest costs annually over the historical average.

Probably not all that big by itself but start adding all the billions that are now going to extra interest cost in all areas and you can see the problem.

All this turns into less spending feeding the downward cycle of a beast.

The state lawmakers group found that states are cutting spending on schools and health care, tapping reserves and borrowing to close $40 billion of budget gaps. New York, Virginia and eight other states trimmed spending across the board for the budget year that began in July for all but four states. Seven of the 31 states with fiscal 2009 deficits raised taxes.

Day of Death

Very interesting day today. The news flow from last night and this morning was just incredibly bad. It looked like a death blow. Somehow the markets seemed to all but ignore it early on. The NASDAQ was up mid morning. Absolutely incredible. It showed how strong the desire the market has for a sustained multi week rally. It was not until the Citigroup news came out that things started to roll over. It was finally just to much for those buying stocks. As it is, I didn't think the day really told you anything. In financials and the S&P you have a higher low if the market can hold tomorrow. The XLF needs to break 21 and the S&P needs to break 1250 for me to start thinking that maybe the markets will shake off the idea of a multi week steady drum beat higher. Who knows, but if we don't, I will continue to think we are moving higher.

The Ten Commandments for Business Failure

Looks like an interesting book. Thanks goes to Pete.


All those various roles have given Keough insights on the pitfalls in the business world, which he is now sharing with the rest of us.


“That’s a pretty heavy audience,” Keough said. “People started to really pressure me (to write a book). There was Herb Allen, Warren Buffett. I was cornered.”

Don Keough’s Ten Commandments for Business Failure
1: Quit Taking Risks
2: Be Inflexible
3: Isolate Yourself
4: Assume Infallibility
5: Play the Game Close to the Foul Line
6: Don’t Take Time to Think
7: Put All Your Faith in Experts and Outside Consultants
8: Love Your Bureaucracy
9: Send Mixed Messages
10: Be Afraid of the Future
And the Bonus Commandment:
11: Lose Your Passion for Work —- for Life

More Inverse Stuff

Thanks goes again to Doug for pointing this out to me. The idea was could you short the ultra long and short the ultra short essentially offsetting your risk while earning some returns. Maybe you can. This graph (click on it to get a good look) compares to the returns of SPY (the S&P 500), SDS (the ultra short of the S&P 500), and SSO (the ultra long of the S&P 500). What you find is astounding. First in two years the S&P is right back to the same spot. S&P 500 return is zero. The ultra long has returned a -17% and the ultra short has returned a -7%. This does not take into account dividends.

What matters most in these ultras is consistency either going up or down. When it gets choppy value erodes quickly. So from August to February you had a steady trend up. No value was eroded and you maybe lost a percentage or two. The risk seems only if the market sticks in one direction. A black swan type event like nuclear fallout or something could be a problem. You will definitely create alpha though.

Brazillian Beef Powerhouse

This article appeared in the WSJ last Friday. Still catching up on things I missed. The article tells about the Batista family and their grab in the cattle industry as the market is being roiled with low beef prices compared to fuel and grain prices. I think they are doing it exactly right and I think over time will be very profitable for them. They are traded on the Brazilian stock exchange and have been falling recently.

Several months ago all you heard was about blood flowing in the streets in the equity markets. I scoffed at such a notion. Well blood looks like it is flowing in the streets in the beef industry. The Batista clan has it right.


With grain prices high, the meat business in much of the world is reeling. Cattlemen are losing money fattening their herds on pricey feed.

Meatpackers are struggling to turn a profit.JBS SA, based here in Brazil's business hub, smells blood, and has set out to assemble a global beef empire. Its premise is simple: Meatpackers, at the moment, are cheap. Demand for beef is rising in developing nations. Beef prices, eventually, are likely to surge as well.

The whole article if you missed it in the Journal is fascinating.

Wednesday, August 6, 2008

AIG - Ouch

AIG posted just a horrific quarter. It is hard to imagine a worse quarter. If your a bull the hope of course is that this was a kitchen sink quarter for the new CEO. Of course John Thain was supposed to have a couple of those for Merrill.


AIG said that, excluding one-time items, it lost 51 cents a share on sales of $19.9 billion in the second quarter.

Last year the insurance giant earned $1.77 a share on a topline of $31.15 billion.

A consensus estimate of analysts who follow the company expected earnings of 63 cents a share and revenue of $31.49 billion.

A couple of pretty funny comments I read in comment sections at other blogs.

Alright already, we get it. Lot's of "great" news after the close today, expect a huge rally tomorrow. We get it, thanks. No mas (I live in California, practicing my spanish just in case we have to sell it back).


Daughter: "Daddy, don't you think about your retirement?"
Father: "Sweety, I have AIG. I don't have to think about my retirement!"
Daughter: "#$%^!"

Inverse Funds on Steroids

So yesterday I did a post about never using inverse funds and gave the numbers on why they were bad to use. What about shorting the leveraged funds?? So far instance, lets say you had a negative view on the S&P 500. Well I showed that buying the 1x inverse or the 2x inverse was a horrible way to play it and shorting SPY (the index that tracks the S&P 500) was a much better bet. Well Doug had the incredible idea of shorting the positive 2x shares (the ultra shares). If there is a deterioration of value in owning the inverse, let it work for you? Amazing idea. If you would have shorted SPY from its high in October to now you would have made 17.3%. If you would have shorted SSO (the ultra S&P 500) you would have made 39%. More than twice the fall. Wait it gets better. If you would have covered at the top after April and May rally, you would have made 7.8% by shorting SPY and 23% by shorting SSO!!! The math caused it to vastly outperform in the counter trend rally preserving even more value.

Now when things sound this good they almost always are so if anyone can think of any reason why this is somehow flawed let me know.

The next thing I want to look at is arbitraging it. Can you short the ultra and arbitrage gains where you are almost eliminating risk??

Alaska Trip

Many of you have asked about my Alaska trip and I have promised a post on it. The trip was awesome. The ruggedness of the state is always awe inspiring. It was two weeks and the first half of the trip we rented an rv and drove around up to Denali National Park and then down to Seward. At Denali we took the bus tour (8 hours, 4 hours each way) deep into the park and saw around 10 grizzlies, moose, caribou, sheep, den of foxes, eagles, and rabbits. We also caught about a 2 minute peak of Denali herself (native name for Mt. McKinley) which they hadn't seen for over 2 weeks because of cloud cover. We also did some hiking. We visited the earthquake museum which is all about the 1964 (I think that is the year) earthquake that hit over 9 on the Richter scale that killed thousands, caused massive tsunamis, and caused water levels to change all the way in South Africa. I found that really fascinating. The area around Anchorage is experiencing the wettest coldest summer since records have been kept. As a result it rained every single day. This took some of the life out of the trip.

The second half of the trip was a cruise down the coast line. As we headed south we started seeing the sun which was nice. In Ketchikan I did over 1/2 mile of zip line hundreds of feet in the air from tree to tree. I also stayed up dancing until 3 in the morning every night before heading to the midnight buffet. I love cruises.

The trip was incredible but honestly to long. I decided I just can't be away like that for 2 weeks with limited internet access for the fund (Iwas on the internet most days through my cell phone but still). I need to buy a laptop I guess (which still wouldn't have helped that much on this particular trip). As amazing as the trip was there was something about getting back to Texas. It was awesome to feel hot as I walked to the car from the Austin airport (I was almost always a little cold), eating at taco bell on the drive home from the airport (versus king crab, lobster, steak, escargot, caviar, etc on the ship, I mean you pay for it right? You got to eat it all), and seeing stars (it was almost always daylight this time of year up there 20 hours + and when it was dark usually cloudy). I love traveling but I love my home state.

Tuesday, August 5, 2008

China Watch

Interesting article in the New York Times. I have been citing China and the Olympics as a possible reason in the decline in oil. Maybe I am right, maybe I am wrong and have the casuality messed up. I would not underestimate it though.


Many Chinese have been expecting a post-Olympics economic slowdown, but it has already started and the Games have not even begun. Chinese factories reported a plunge in new orders last month. Exports are barely growing.

But this is what I find really interesting

For example, after letting China’s currency rise sharply against the dollar in the first half of this year, China’s central bank has actually pushed it down against the dollar in each of the last four trading days, including a decline of 0.13 percent on Monday. This is helping to preserve the competitiveness of Chinese exporters in foreign markets, although at the risk of angering the United States and other trading partners.

That could have broad ramifications if that is a new policy to keep down their currency.

Bullish Case for the Dollar

Another fascinating read. Thanks for to Ron on this one. I am not a currency investor or trader and don't really have an opinion. I think he could be wrong on the ability of the Fed to be hawkish and not having to lower interest rates again (definitely not hawkish today) and I think he is definitely wrong on the ramifications of a much stronger dollar on the U.S. economy. I do believe however that most people underestimate the importance of large currency moves on equity markets. Either way another interesting read.


Basic thesis

If you have all the major industrial central banks in the world lowering interest rates, while simultaneously the Fed is hawkishly about to raise rates, that in itself will perpetuate the flow of money. Funds will flow into the U.S. and out of the rest of the world. That forces the central banks around the world to continue to lower interest rates, chasing the flow down. And the Fed is poised to continue to raise rates as more and more funds chase the higher yield.

Disagree with this

Think further beyond about the ramifications of the potential of $1.5 trillion USD flowing into the U.S. banking sector. Wouldn't that be attractive to bank's balance sheets at the very moment that the world's #1 financial sector needs capital at all cost? If the world's biggest financial sector were to be propped up by a continual flow of funds into their banks, then the U.S. will be poised to move forward out of its current economic malaise flush with capital coming in from abroad. And beyond that, the world's largest economy will then pull any other country out of recession.

Oaktree - Howard Marks

The latest from Oaktree. It is really a very good letter. I tend to agree with almost all of it and strongly recommend reading all of it. Thanks goes to Pete.


Few Highlights

Finally, I want to provide a word of caution regarding expectations for recovery. I hear predictions that things will come back next year. Earlier this month, for instance, an elevator news display cited a forecast that home prices will rise 4% in 2009, almost offsetting 2008’s decline.

People have become conditioned to expect V-shaped declines and recoveries. We saw quick downs and ups in the markets or the economy in 1987, 1990, 1994, 1998 and 2002. But it doesn’t have to be that way. Those of us who were in this business in the 1970s know different........That means that in order to be part of the investment industry in the ‘70s, you pretty much had to have your job by 1969. And that in turn means you had to be at least 21 by 1969 . . . and sixty or older today. There aren’t many of us still working.


First, let’s consider financial institutions and the housing market. In recent years, as everyone knows, the former combined with the latter to create a bubble based on the combination of leverage, innovative structuring and heedless buying. Institutions and housing have been gravely hurt, and they’re likely to bring harm to additional sectors of the economy. For their downward spiral to be arrested, I see four things that have to happen:

· Home prices have to stop going down.
· Home mortgages have to be made available.
· Financial institutions have to stop experiencing incremental write-offs.
· Financial institutions have to be able to raise additional capital with which to rebuild their balance sheets.

The problem I see is that each of these four things is dependent on the occurrence of another – a classic chicken-or-the-egg problem. Write-offs won’t stop until home prices stop going down. Prices won’t stop going down until mortgages become available. Mortgages won’t become available until lenders can raise capital. And capital won’t be freely available until write-offs stop coming. Which will happen first, facilitating the others? What will cause it to happen? When?

These things will happen, of course. Maybe for reasons we can’t foresee. Maybe for no apparent reason. And maybe just because things got so bad they couldn’t get any worse. I go through this only to show why I don’t see an easy or quick solution. But then I’m rarely an unbridled optimist.

There is alot more.

Inverse Funds - Deadly to Returns

Several weeks ago I became very annoyed with 2x inverse funds as I realized they were not giving the returns of 2x. I voiced this annoyance to another investor and he decided to put the pencil to it looking at if you short the index, buy a 1x inverse fund, or 2x inverse fund.

Assumed 10 days of gains and losses of:

Day 1 = -8.33%,
Day 2 = 9.09
Day 3 = -8.33
Day 4 = 9.09
Day 5 = -4.17%
Day 6 = 8.70%
Day 7 = -8%
Day 8 = -13.04%
Day 9 = -5%
Day 10 = 10.53%

This gives a total return for the actual index of -12.50%

The results assuming $200,000 short bet in the index or inverse and $100,000 in the 2x inverse .

If you short the index you make 12.50% or $25,000
If you do the 1x inverse you make $11,613.30
If you do the 2x inverse (once again $100,000 investment) you make only $3,571.34 or only 3.571% even though the index declined 12.50%!!!!!

It has to do with the math of the investments. The most shocking thing for me is that even the 1x inverse under performs a straight short. That is crazy.

If anyone wants the excel model (which graphs the performance over the 10 days) email me and I will shoot it your way.

Bottom line - don't invest in inverse funds.


Market got it's giddy up on today. Why the Fed decision meant anything today I have no idea but the market obviously wanted an excuse to go up. Things I was watching very closely today was if the S&P 500 broke through 1285 (it didn't) and XLF broke though 22.50 (it didn't). If these hold again tomorrow that puts off a stronger move to the upside. If they don't hold then I think you should assume more bullishness. Looks like this may very well be another prolonged 6 week rally potentially up to 1325 ish or a little more. Time will tell. CSCO had good numbers (or less bad numbers than feared) but I think the market will be driven by the perception of FNM and FRE numbers tomorrow morning and Friday morning. Also ABK and MBIA report tomorrow and Thursday.

Oil fall is also helping the market which I called (am I making any money off of it, ha, no). The stupid thing is that the fall is most probably demand destruction which shows very weekly on the economy. 6 months ago you saw headlines like Market Follows Oil Rise as Global Growth Story Still in Play now oil is falling and it is supposed to be very bullish. Plus it is only back to levels from mid May.

Anyway the best I can tell we have erased all the oversold conditions from several weeks ago but not really overbought yet. We have been in a choppy range and tried to break that range to the upside today. If successful probably means hello 1300 on the S&P.

Monday, August 4, 2008

First Day Back

Well today was my first day in front of a computer screen in awhile. It will take me a couple of days to get back the feel of the market but it seemed fairly bearish to me. You had oil take a nosedive to the downside and stocks did make a rally attempt but this attempt was weak to start with and then completely rolled over. For oil to move down that much and stocks not able to get anything going seemed fairly bearish.

I heard that July was the worst month for energy and commodity funds in 35 years!!! Wow!! Incredible.

Meredith Whitney

Meredith Whitney was on CNBC this morning. Very interesting as always. One thing she said that I thought was really insightful was that one sign that the market has turned is when banks start raising equity capital for growth. That is essentially what equity capital is meant for. It is unprotected capital. It is meant to fund risk and growth. When this start happening things may have turned. Interesting perspective.

Part 1

Part 2


Mildly interesting FAQ on exchange traded notes in the WSJ. They are different than ETFs and carry some baggage. I am long the meat ETN. The two big issues for ETNs is credit risk and taxable issues. Concerning tax issues this article does not make it sound as bound as I have understood it to be. Still totally unclear to me though I think they main tax problems are with currency ETN's.


Q: Let's get back to Wall Street. What are the credit risks?
A: An ETN, by contrast, is unsecured debt of the issuing firm, usually with a maturity of 10, 20 or 30 years. It isn't backed by a specific pool of assets.

For investors, the difference essentially means that, if an ETF were to be liquidated, investors would get their share of the stored assets. ETN investors, however, would stand in line with other creditors of the firm, getting their money back only if there were funds left over after the secured creditors were paid.

As Bear Stearns Cos. was struggling in mid-March amid rumors of a possible bankruptcy-court filing, some holders of its BearLinx Alerian MLP Select Index ETN sweated bullets. The ETN -- which tracks the 50 most prominent energy master limited partnerships -- traded, but volume was thin. Teetering as its stock price plunged, Bear Stearns agreed to be acquired by J.P. Morgan Chase & Co. The deal was completed May 30. J.P. Morgan says it is hopeful that interest in the ETN will improve.

Q: What is the tax treatment of ETNs?
A: As Barclays explains on its iPath Web site, ETNs generally should be treated as "prepaid contracts" for tax purposes. That means investors should recognize capital gains or losses upon the sale, redemption or maturity of their ETNs, although certain types, such as single-currency ETNs, are taxed as ordinary income. "Unlike mutual funds that may be required to make taxable distributions to shareholders, the iPath ETNs currently available will not make taxable distributions," it says. "This enables investors to control the timing of taxable events related to their investment in iPath ETNs." Barclays adds that the Internal Revenue Service and U.S. Treasury are actively considering the tax treatment of instruments such as iPath ETNs, so it could change.

Sunday, August 3, 2008

Whitney Tilson on CNBC.

Many of you have probably seen this. Whitney was the guest host on CNBC July 28th. Few interesting things on the video. He explains why he thinks we are only halfway done in the current downturn of housing. Two videos below.



Home Sweet Home and Richard Pzena

I am finally back. Had an awesome vacation though honestly a little long. I will probably post more on the vacation later but I will be desperately trying to get caught up and posting things I find interesting. First is a commentary by Richard Pzena. Thanks goes to Pete for bringing this to attention.

I have large amount ofrespect for Richard Pzena. Not sure why but he has always been one of my favorite value investors to listen to because he is a contrarian even for many value investors. Not surprisingly he has been very bullish on financials and has gotten slaughtered. Here is his latest letter.

He talks about the usual stuff, mark to mark accounting, sell off being overdone etc. The problem I really have is once again he (like many others) is comparing this to 1990 and 1991. He talks about defaults rates since 1989. This is not 1990 all over again. The housing downturn is and will continue to be much bigger than 1990. At best it may be 1981 all over again and it is probably worse than that.
Here are two graphs from his commentary. Click on the graphs to look at the them The first graph shows declines from peek to trough from 1989 through 1990 for banks being 45.8% while 2007 to 2008 peak to trough for banks has been 46.6% somehow showing that banks have bottomed. Once again this is worse than 1990 and if I am right than stocks need to go down more!!! The second graph shows default rates from 1970 to 2008. Banks are low in defaulting at 2.4%. First how does he define default? Second, most banks never default but are taken under (I don't think Bear Stearns would qualify as a default). That does not mean banks don't disappear and much more shareholder value than is shown is wiped out.

I agree with his overall conclusion
The market’s panic over the impact of mark-to-market accounting on financial companies’ earnings has created an extreme valuation opportunity. Further, this obsession with current news has caused most investors to disregard the data that actually drive these companies’ long-term earnings prospects. Of course, not every financial company is going to come through this period intact. Some of the losers have already fallen and others are likely to follow. However, these are exactly the times when serious research and valuation discipline can add significant value. We believe that world-class franchises like Citigroup, Royal Bank of Scotland, HSBC, and others are being offered at fire-sale prices relative to their long-term normal earnings power. The timing of the turn, as always, is uncertain. But the opportunity is greatest when unquantified fear is at its peak.
Whether he has picked the winners I have no idea. I unashamedly will say I am not smart enough to figure it out. There are great opportunities in banks right now if you can stomach more downside and you smarter than I. Most of the easy money on the short side is gone but I will argue there is still much easier money on the short side in banks currently than on the long side. He is still early.