Les Bienveillantes and Its Lessons in Finance

Below is an excerpt from the HCM Market Letter. I don't know if the whole thing is somewhere out on the internet or not. I really enjoy reading about connections to finance in the world outside of finance. I think about nature and games and science and thier principles in relation to finance. So I read this I found it very interesting and decided to put it out on the blog. I have not read the book.

In 2006, an American raised in France named Jonathan Littell published a near-1000 page novel in French entitled Les Bienveillantes. The novel tells the story of Dr. Maximilien Aue, a former Nazi officer who survived the horrors of World War II and reinvented himself as a lace manufacturer and family man in post-war France. Dr. Aue is a highly educated man, wellversed in literature, philosophy, music and the arts. He is also a serial killer, who before the end of the novel not only murders with his own hand but supervises and plays a role in the genocide of Jews, Gypsies, the mentally impaired and other groups deemed enemies of the Nazi regime. He is on the scene at many of the prime charnel houses of Europe, including Auschwitz. As you might imagine, Les Bienveillantes was highly controversial when it was published in France. It was awarded the prestigious Prix Goncourt but evoked both great praise and loud approbation for its depiction of a deeply twisted soul and a regime that engaged in acts so horrific that they remain fundamentally inexplicable to this day. HCM finds itself squarely in the camp of those who consider Mr. Littell’s novel a morally complex and deeply disturbing work of literature that deserves a great deal of praise despite its abhorrent subject matter. Mr. Littell’s novel forces readers to confront parts of the human soul that some may believe should best remain hidden, but concealing them is what allows evil to flourish unchecked in darkness until it bursts into the light and wreaks destruction.

The HCM Market Letter is not a literary journal. Les Bienveillantes, however, speaks to the current crisis in financial markets in ways that most reviewers of the book have completely ignored. While many critics have focused on the allusion to Greek mythology in the novel’s title11, HCM would read the title in a more colloquial manner. Dr. Aue was an order-follower, although he certainly exercised freedom of thought outside of his duties as a Nazi officer (he engages in virtually every sexual perversity known to man). Nazi Germany was filled with wellmeaning people who were completely lacking in moral courage or were trained to obey their government’s orders. The world is only different today in degree, not in kind; it is still filled with well-meaning people who follow orders but remain essentially oblivious to the consequences of their actions. It is a world of the complicit. In Nazi Germany, the consequences of such behavior were obviously horrific, and perhaps there was little opportunity to opt out without putting one’s life in danger. In today’s world, however, the consequences of such conduct are not as blatantly horrific; people are not being asked to murder fellow human beings. But that does not mean that what they are being asked to do is inconsequential.

Failure to speak truth to power, in whatever historical context, constitutes complicity with whatever form of evil lurks in a society. In modern Western societies, that evil most recently consisted of a form of economic capitalism that awarded speculation over production to an extent that rotted away the solid underpinnings of economic growth and opportunities for the disenfranchised. While this may not be as morally reprehensible as genocide, it remains morally reprehensible nonetheless. The consequences of the economic practices that caused the current crisis are real human pain and suffering in the present and long-term damage to society and the economy in the long run, which equates to genuine human suffering in the future. Shouldn’t we consider those who kept their mouths shut and simply participated in the process are as culpable in the context of their time as Dr. Aue was guilty in his? This is why Walter Benjamin, who committed suicide at the Franco-Spanish border in September 1940 rather than be taken by the
Nazis, wrote, “[o]nly that historian will have the gift of fanning the spark of hope in the past who is firmly convinced that even the dead will not be safe from the enemy if he wins. And the enemy has not ceased to be victorious.” As we work to reform the financial system, Mr. Benjamin’s cry from the depths of despair should drive us to make sure that we get the changes right. Had the world sunk into a real depression, we might have faced a conflagration that would have made the destruction of World War II look like a garden party in comparison. What each of us does every day as participants in the capitalist system makes a moral difference. Too many people forgot that and are already starting to forget that all over again.

One of the most searing features of Mr. Littell’s book is the portrayal of the toll that the commission of genocide exacted on the Nazi soldiers who were charged with carrying out the actual acts of torture and murder. In one way or another, this behavior dehumanized them. To a lesser but still tragic extent, participation in a corrupt capitalism warped the values and beliefs of many of the individuals in positions of power – CEOs, regulators, politicians, money managers, etc. It is a rare individual who can resist being influenced and changed by the madness of the crowds that surround him, yet it is those few individuals crying out against the mob that are the voices that need to be heard the most. It is not that the road to hell is built with good intentions or bad intentions – that road is built with human intentions. Mr. Littell’s masterpiece depicts those intentions in all of their terrible beauty and sounds a message for all men in all times.

1st Quarter Letter

My first quarter letter is now sent out. If anyone is a reader of this blog and would like a copy, please let me know.

Bull vs Bear

I report - you decide.

Bull Case

* Broke key resistance at 870 to 875 in the S&P. Next stop 900.
* Personal consumption (a leading indicator) was up in the latest Q1 report. Demand is returning and the lagging indicators are the only thing flashing warning signs.
* Russell 2000 (small cap stocks) leading the way.
* Breadth continues to improve.
* Credit is now participating with the rally.

Bear Case

* Most overbought we have been since the markets top in October 2007
* The Personal consumption data is Q/Q annualized seasonally adjusted (a lot of room for measurement error and the comp was very easy). This is not popping up in the micro data. Retailer by retailer.
* Heaviest insider selling since October 2007
* Biggest rally since 1933.
* Transportation numbers are showing negative signs.
* XLF - the financial index not breaking out like the markets.

U.S.A. - Another Emerging Market in Crises?

The Atlantic has a very interesting article from an individual who worked at the IMF and other emerging countries. I agree with most of his conclusions, especially the two scenarios at the end. Probabilistically I think the second scenario is more likely. Thanks goes to Caleb.

The crash has laid bare many unpleasant truths about the United States. One of the most alarming, says a former chief economist of the International Monetary Fund, is that the finance industry has effectively captured our government—a state of affairs that more typically describes emerging markets, and is at the center of many emerging-market crises. If the IMF’s staff could speak freely about the U.S., it would tell us what it tells all countries in this situation: recovery will fail unless we break the financial oligarchy that is blocking essential reform. And if we are to prevent a true depression, we’re running out of time.

and

But there’s a deeper and more disturbing similarity: elite business interests—financiers, in the case of the U.S.—played a central role in creating the crisis, making ever-larger gambles, with the implicit backing of the government, until the inevitable collapse. More alarming, they are now using their influence to prevent precisely the sorts of reforms that are needed, and fast, to pull the economy out of its nosedive. The government seems helpless, or unwilling, to act against them.

and

To break this cycle, the government must force the banks to acknowledge the scale of their problems. As the IMF understands (and as the U.S. government itself has insisted to multiple emerging-market countries in the past), the most direct way to do this is nationalization. Instead, Treasury is trying to negotiate bailouts bank by bank, and behaving as if the banks hold all the cards—contorting the terms of each deal to minimize government ownership while forswearing government influence over bank strategy or operations. Under these conditions, cleaning up bank balance sheets is impossible.

Vegas Return

I am back from Vegas. To avoid a mountain of emails I will give a quick recap. There were 8 guys who went. No occasion, just to go. We stayed in the Venetian but mostly gambled in the Mirage and the Bellagio. I am not much of a gambler but 5 of the 8 on the trip were hard core. I ended up winning 325 in hold em and losing 250 in black jack for a net win of 75. I was the only person on the trip to come home positive. One friend lost 1600 and another lost 2500. I would have rather gone out to shows or dancing but as mentioned the group was made up of gamblers.

My first trip to Vegas I did not like at all but have come to enjoy it from almost a case study perspective. The psychological forces of how people deal with money and react to winning and losing is displayed for all to see. Both times I have been amazed at my own internal emotional battle on being able to stop, psychology thoughts of winning back money, the rush of winning more etc etc. Being able to step back and truthfully do an introspective examination of your psychological and physiological reactions to gain and loss, greed and fear, has to be a large benefit to visiting Vegas. Of course the percentage of visitors who are willing to do this is probably low. Next time your in Vegas try it. After you lose 50% of your initial buy in at a black jack table what are you thinking? How are you feeling? What do your goals become? Does it change from being fun to just trying to get your money back? Do you react differently by putting 100 down but putting only 10 at risk and winning 10 versus putting 10 down and 10 at risk? How do you emotionally respond and how does the emotion represent itself to physiological reactions?

All these questions are key to investing. Not that investing is gambling. If done correctly investing is investing but if your emotions get in the way of logical diagnosis of the situation and doubling down when you shouldn't then your own body circumvents the investing framework by which you should be basing your various investment decisions on. I could talk alot more about this topic. It is a topic that fasinates me at a micro level (at the indivdual level) and at the macro level (investors as a whole). Great trip and I am glad I didn't lose my shirt.

Big BIG BIGGER!!! - China, buying gold

Even when in Vegas I keep in touch with the outside world. I think this is so big that I wanted to get this on my blog. China disclosed that it has been buying gold diversifying some of its reserves. What does this mean and not mean. This does not mean that gold is about to sky rocket (though it may). What it means is that there is starting to be a subtle shift in world central bank thinking on gold. These tremors, these shifts is what as investors you have to pay attention to. Moody's annoucement that it may cut Great Britian's credit rating was such an anoucement. To me it was lke a cannon went off even if it was subtle. Now the Pound plumetted against the dollar before regaining all of it back in 24 hours. No short term impact but it is sighns, signals tat can point you in the right direction as you try to determine what the world is going to look like over the next several years. This China thing is subtle but follow the money, follow the shifts.

From the Financial Times

China has quietly almost doubled its gold reserves to become the world’s fifth-biggest holder of the precious metal, it emerged on Friday, in a move that signals the revival of bullion after years of fading importance.

Gold rose to a three-week high of more than $910 an ounce after Hu Xiaolian, head of the secretive State Administration of Foreign Exchange, which manages the country’s $1,954bn in foreign exchange reserves, revealed China had 1,054 tonnes of gold, up from 600 tonnes in 2003.

The news could spark interest in gold among other central banks. “When the largest holder of foreign exchange reserves discloses an increase in gold holdings, other countries may decide to think more carefully about underweight gold positions,” said John Reade, a precious metals strategist at UBS.

The increase in China’s gold reserves has come primarily from domestic production and refining. However, the news raises questions about the future of Beijing’s foreign reserves policy.

and....of course Europe's central governments were making brilliant moves

China’s accumulation of gold has taken place as European central banks have gradually cut back back gold sales following a 1999 agreement to prevent the market from being flooded after prices were dragged sharply lower after the UK decided to sell part of its reserves.

“China’s announcement signals a broader shift in central banks’ attitude towards gold,” said Philip Klapwijk, chairman of GFMS, the precious metal consultancy.

and

Russia has being an active buyer, following Beijing’s similar pattern of purchases from local miners. China became last year the world’s largest producer of gold, outranking South Africa.

I'm Off - Vegas Style

I'm off to Vegas this weekend. Hopefully play some Texas Hold Em tomorrow.

Barring a late day sell off to put us solidly under 860, the markets are fully controlled by the bulls. The lack of some sort of legitimate correction after this massive run up defies logic but the markets have never been about logic in the short term. Have a great weekend.

World Issues

This could be big. From Bloomberg:

The pound and the euro fell against the dollar after the Telegraph newspaper said Moody’s Investors Service and Standard & Poor’s are reviewing the U.K.’s AAA credit rating on concern about the nation’s rising debt burden.

I have no idea how this will play out but this could dominate the world markets. S&P futures have dropped 6 points once this came out. Japan is down (not sure if it is because of this). The EURO is also down.

This will either kind of taper out or it could really pick up steam. Either way, it is another warning shot across the bow as Europe starts to slowly unravel. At some point it is likely to snap.

Another issue to glance at occassionaly is the Taliban push for Islamabad. This is not getting alot of press in the U.S. but it is overseas. I have been following it for a couple of weeks and it is to much to catch everyone up on now but if Taliban could overrun Islamabad, it could really throw the region in disaray which would have huge implications for India and Iran. From Al Jazeera:

Pakistan has deployed paramilitary troops to northwestern districts infiltrated by the local Taliban, after US officials expressed concern over the developments.

The move on Thursday coincided with reports that Taliban fighters were patrolling the streets of Buner, a district about 100km outside the capital, Islamabad.

and

Hillary Clinton, the US secretary of state, earlier said the Taliban advances posed an "existential threat" to the survival of Pakistan.

"I think the Pakistani government is basically abdicating to the Taliban and the extremists," she told congress members in a hearing in Washington on Wednesday.

Jam Job

I try to not be a conspiracy theorist but some days it is very hard not to. Today was one of those days. At exactly 2:45 p.m. the S&P futures market started to go beserk. On my trading screen it immediately caught my eye that the way the futures were trading was not normal. It was off. It wasn't just the surge in volume, it was the way they were trading. 10,000 contracts going at a time. Futures were jumping in half points and integers as the ask was getting hit. The markets were getting jammed.

At the same time XLF (the financials ETF also went beserk). Look at the volume pick up in the graph below. WOW!!



So the question becomes why? What caused it? Was it a computer program? Was it orchestrated between banks and/or the government? Is there enough to cause follow through?

All day you got the sense after yesterday's failed rally that the bulls were getting frustrated. Today we had another rally and it faded and it looked like the market was going to roll over. Someone, somewhere drew the line in the sand and said no way. Not today and the ask on the futures started getting pounded driving up the market with it.

Tomorrow I think is a key day for the bulls and the bears and the bulls already have an advantage with Microsoft and Amazon up after hours. The bears must hold 860 and the bulls must hold 830. Anything in between in the short term is a punt to next week.

Europe: Big Problem For The Future

The WSJ had a must read article on Europe's grim outlook. It echoes things I have been saying for a long time. It is also why I think the next big leg down will have something to do with Europe but if I had to guess is probably a good three to nine months out. I could put the whole thing below, it is full of very good information.

European banks' losses from the global financial crisis are now projected to overtake U.S. banks' losses, according to IMF figures, which could hurt the banks' ability to lend liberally to help the bloc out of its crisis. More than half of the losses on continental Europe are homemade, the IMF said, reflecting bad loans to European firms and households rather than toxic U.S. securities.

The worsening outlook for the 27-nation EU is a blow for many of the region's governments, who have argued that the U.S. is the center of the global economic storm and that Europe's problems are smaller. Because of that, plus fear of rising inflation and public debt, authorities in much of Europe have been slower than those in the U.S. or leading Asian economies to cut interest rates or adopt ambitious fiscal-stimulus measures.

and

In a sign of such spillover, Peoria, Ill.-based equipment maker Caterpillar Inc. said its first-quarter sales to Europe fell 46% from a year ago, significantly more than its sales declines in the U.S., Asia or Latin America, as it announced a first-quarter loss on Tuesday.

and

In France, labor protests became more violent this week as workers stormed and ransacked a government building near Paris, after they failed in court to prevent the shutdown of their tire factory, owned by German auto-parts company Continental AG. German Trade Union Federation head Michael Sommer warned his country's industrialists this week that such social unrest could spread to Germany if mass layoffs multiply.

and

The weakening of Europe's banking sector is potentially more damaging for the wider economy than woes at U.S. banks, because Europe's financial system relies more on bank lending and less on securities markets. Although Europe's banks have bigger balance sheets than U.S. lenders, so that their losses are smaller as a proportion of total assets, they will need more fresh money than the U.S. to repair their capital buffers, the IMF said.

An IMF report published Tuesday said that write-downs at Western European banks outside the U.K. will total $1.109 trillion for 2007-2010, topping the U.S. total of $1.049 trillion. Banks in the euro zone have so far written down only 17% of their losses, compared with roughly 50% at U.S. banks, the IMF said. U.K. banks have written down about a third of their $310 billion in expected losses, the report said.

and

Europe's economy also faces a greater risk of further deterioration than other regions because of the deep economic and financial crisis in the formerly communist East. Austria-based banks, for example, have some $278 billion in exposure to those countries, equivalent to over 70% of Austria's gross domestic product.

The IMF expects Continental European banks' losses on emerging-market assets to reach $172 billion by 2010, more than four times the emerging-market losses it expects for U.K., U.S. or Asian banks.

Hoisington - Must Read

Hoisington Investment Management has there 1st quarter letter out. It is a must read surrounding the inflation deflation debate. They lean heavily in the deflation camp. Thanks goes to Pete.

Want to make a clarification. In my latest letter I said that I don't think the consensus of inflation in the short term is correct. I pointed to large deflationary forces and my belief that inflation is a 2011 story or beyond. This is not consensus thinking. I said that if it we get inflation in the short term (next two years) it will not be because of money supply increases but most likely because of a decay in trust in the currency itself. (similar to risk premium going up for stocks driving prices down).

So I have been asked, does this change my opinion in gold. The answer is no. I think gold wins in both scenarios because deflation will cause the system to weaken further, trust decline, and flight to safety in gold is likely to only increase. If we have inflation, gold also goes up. It is why the only commodity I like is gold and I hold it. I do believe the odds are decent that we could potentially fall below 800 if the equity markets catch between 740 and 805 like I think they will before turning lower later in the year. In the next 24 to 30 months I think gold has a high probability of seeing 2000 an ounce regardless of inflation or deflation.

If It is a Credit Money System?

This is an intereview with Meredith Whitney on Bloomberg that I think goes well with my previous post. It is from Monday and an interview I had not seen. In the interview she starts talking about credit card lines being cut. Monday Bank of America said they cut 200 billion in credit card lines. According to Meredith, prior to the third quarter there were 4.7 trillion in unused credit card lines. In the 4th quarter this was cut to 4.2 trillion in credit card lines. She estimates that 2.7 trillion in total unused credit card lines will be cut, 500 billion (or 19% of that total) from Citigroup alone.

So are we in a fiat money system or a credit money system? If a credit money system, as the previous post postulates, than the short term impact is deflation not inflation. There is also a multiplier affect associated with that. So while the FED's actions have massive consequences down the road (most likely several years from now), they could be muted much longer than people realize.

A Fiat Money System or A Credit Money System??

This post at debt deflation is the best thing I have read in awhile. It touches on some things I realized a few months ago that I included in my last letter. It also explains (much more eloquently) why I believe if we get inflation in the short term (next year or two) it will be because of trust deterioration, not because of a dramatic increase in the money supply though that will contribute. It is also why I don't think anyone knows whether it will be an inflation world or a deflationary world over the next couple of years. The U.S. government has said we may fail but it won't be because of deflation. Well the most recent realization is that they are a long way from making that a reality. If that mindset is really true, the printing presses are in pre game.

This writeup is very technical and I read some of it three times to wrap my mind around some of the true implications (and I still probably missed alot) but is at the heart of what I think is important as investors continue to try and grasp the inflation versus deflation scenario. This is also at the crux of Hoisington and Kyle Bass arguments on why deflation is the fear in the short term. Big thanks goes to Ron.

Thus causation in money creation runs in the opposite direction to that of the money multiplier model: the credit money dog wags the fiat money tail. Both the actual level of money in the system, and the component of it that is created by the government, are controlled by the commercial system itself, and not by the Federal Reserve.

and

However, neoclassical economic theory never caught up with either the data, or the actual practices of Central Banks—and Ben Bernanke, a leading neoclassical theoretician, and unabashed fan of Milton Friedman, is now in control of the Federal Reserve. He is therefore trying to resolve the financial crisis and prevent deflation in a neoclassical manner: by increasing the Base Money supply.

More Details on Turner Radio Network

Thanks to the anonymous comment post for giving some more information on Turner Radio Network. I had my doubts but only because I felt like there was no way the government would allow that to be the results. In actuality, it may not be as far off as people think. Either way Hal Turner of Turner Radio Network is apparently a nut job. From wikipedia.

Harold Charles "Hal" Turner is an American white nationalist and white supremacist from North Bergen, New Jersey.

Lies, Questions Marks, and Conspiracy

This is not being picked up by the major news sources and I don't really know its validity. At the same time, nothing in here would shock me at all. It is what I have believed for awhile. Turner Radio Network Blog (maybe someone can vouch for this source of info?) is reporting they obtained a copy of the official bank stress test. It is not pretty. That doesn't describe it. It is apocalyptic. They are also reporting they have been threatened by the Treasury and the SEC. I have not seen this anywhere else and I don't know why. Anyway, if this true, the people at Turner Radio Network better walk softly. They are reporting the destruction of the establishment.

1) Of the top nineteen (19) banks in the nation, sixteen (16) are already technically insolvent. (Based upon the “alternative more adverse” scenario which had a 3.3 percent contraction of the U.S. Economy in 2009, accompanied by 8.9 percent unemployment, followed by 0.5 percent growth of the U.S. Economy but a 10.3 percent jobless in 2010.)

2) Of the 16 banks that are already technically insolvent, not even one can withstand any disruption of cash flow at all or any further deterioration in non-paying loans. (Without further government injections of cash)

3) If any two of the 16 insolvent banks go under, they will totally wipe out all remaining FDIC insurance funding.

and

This afternoon at around 3:00 PM eastern US time, Turner Radio Network (TRN) received a call from John Polesi at the U.S. Securities & Exchange Commission in Washington, DC.

Warren Buffett on Wells Fargo

Fortune had a very interesting interview with Warren Buffett almost exclusively on Wells Fargo. I don't know if he is talking his book or he is right (it would be hard to bet against him). I have never had a long or short position in Wells Fargo in my life so just found the way he looked at banking interesting.

Dick Kovacevich specifically told me to ask you your views on tangible common equity.

What I pay attention to is earning power. Coca-Cola has no tangible common equity. But they've got huge earning power. And Wells ... you can't take away Wells' customer base.

and

You don't make money on tangible common equity. You make money on the funds that people give you and the difference between the cost of those funds and what you lend them out on.

and

So what is your metric for valuing a bank?

It's earnings on assets, as long as they're being achieved in a conservative way. But you can't say earnings on assets, because you'll get some guy who's taking all kinds of risks and will look terrific for a while. And you can have off-balance sheet stuff that contributes to earnings but doesn't show up in the assets denominator. So it has to be an intelligent view of the quality of the earnings on assets as well as the quantity of the earnings on assets. But if you're doing it in a sound way, that's what I look at.

Trading Drivers for April 20th

Assuming you have done the fundamental work on the short side, how to trade currently is very simple. This is where technicals meet fundamentals. The trendline falls somewhere around 855 on the S&P. No surprise, the futures indicate an open right around 855. The were down more earlier but they gravitated towards that 855 level as the open came closer. Now 884.75 does not consider a break. I would be on pen needles until you really broke 850.

The other thing that must be on your screen is the Euro. Think currencies doesn't matter, fair enough, I'll for one be watching it. Last night I noticed the Euro was down again very strongly for the fifth day in a row and I was wondering if Europe was going to be able to ignore it again today. Nope, down two to three percent across the board.

From Bloomberg

The euro dropped to $1.2956 as of 7:21 a.m. in New York, from $1.3044 last week. It earlier declined to $1.2947, the lowest level since March 17. Europe’s currency fell to 127.86 yen, from 129.33 yen, the weakest since March 30.

U.K. Home Prices Going Up???

I don't see how this is possible. I didn't understand how it was possible last month and find it even less possible this month. U.K. housing prices were statistically more overvalued then U.S. prices on every statistical measure. Yet, accodring to Bloomberg, U.K. housing prices appear to have stabilized and going up.

U.K. house prices rose for a third month in April after mortgage availability improved, Rightmove Plc said today.

The average asking price rose 1.8 percent from March to 222,077 pounds ($328,000), the operator of the biggest U.K. residential property Web site said today. It fell 3.2 percent in London, the only region of 10 surveyed to show a decline. Home prices are down 7.3 percent from a year earlier.

I really don't understand how this possible. U.K. housing prices are still way way overvalued and you hve unemployment rising but so far this will go a long way to helping out banks in the U.K. as the stabilization of collateral values is key.

Insiders Dumping Into the Rally

Very interesting graph in Barrons. Thanks goes to Ron.



The dramatic move makes one go wow but it only goes a year back so context is lacking. I had an old Barrons laying around (I am a packrat) that showed back to January of 2007. Going back further it had a similar spike above 40 in April of 2007. That make me things it was related to taxes though you did not see a similar spike in April of 2008. In general the insiders have been pretty wrong hitting very bullish levels in August 08 before the market tanked and January 09 right before the market tanked so they have been a better contrary indicator that forward forecaster as they are typically assumed to be.

GE and Still Looking For a Top

Well I was wrong about GE having a bad miss though their release was less than stellar. The managed to still be able to work the accounting games, incredible how much rope the accounting rules gives them. Eventually it may cause them to hang themselves. Revenue actually came light compared to expectations but lower tax rates caused them to be able to beat. Also provisions for GE Capital (where the major problem is) were lower than expected and lower than what GE had previously laid out. So basically GE guided to a certain provision for future losses and then realized, ewww, if we do that this quarter we won't make the numbers. So they lower the provisions and are able to beat.

So that leaves us looking for some sort of interim top for some sort of correction to the downside. Technically we still haven't broken 870 and yesterday still may have marked the top but if that is case my call will have just been luck since it was hinged on GE missing. In my mind, the probabilities have now changed and so while that may be the top, its not the unbelievable risk reward setup I once thought it was. Which leads me to a tangent. I thought it was a great risk reward setup for a top and so added to short exposure. I didn't get what I was looking for but what made it a great risk reward setup was because if I was wrong, I was unlikely to lose much. GE and Citigroup beat but it was priced in, no sell off, but I was able to reverse the short exposure I added yesterday (keeping what I have had) for a very slight profit. A bad risk reward setup (and how you know you are getting probabilities wrong) is that if your wrong, you get your head handed to you.

So still looking for the catalyst that will usher in a correction. Europe is still the top of the list. The EURO has been down 4 days in a row and is back at a 1 month low compared to the dollar. From a Bloomberg article:

The euro fell for a fourth day against the dollar in the longest stretch of declines since October as European Central Bank President Jean-Claude Trichet’s pledge to spur confidence failed to assure investors that policy makers aren’t divided.

and I thought this was really interesting

The euro fell against the Canadian dollar and South African rand after a report showed yesterday that February factory output in Europe plunged.

“When you look at the data flow out of Europe, you could even argue we’ve seen an accelerating downward move,” said Michael Klawitter, a currency strategist at Dresdner Kleinwort in Frankfurt.

That is surprising to me especially considering the advantage of having a weak Euro in the last several months which should have helped exports. It is surprising in timing only as I think Europe is heading towards the black death in economic terms.

In the interim, the Euro is something to watch though so far the European stock markets are shrugging it off so not putting to much weight into it as of yet.

Interim Top

I am going to be very bold (and probably stupid) but I am calling the short term top today. This is probably more stupid because GOOG reported strong numbers and up nicely afterhours but I am going to call it anyway. I think today was it, 870.35 the interim top and we will go to at least 805 before I think we once again actually turn higher. So all my friends are rolling there eyes at me trying to be a market timer but I have a strong enough conviction I am going to go public on this call. I was shorting at the close.

So the logic is this. I think GE is going to lay a goose egg. Despite all the manipulation companies are doing, I don't see how GE has much wriggle room. The accounting has been much more aggressive. They do not account like a bank and almost everything is marked at cost. Loss provisions are 2% versus the average bank of 3%. They have Eastern European exposure which wasn't great in the 1st quarter obviously. They have massive exposure in commercial real estate which has been the one bleak spot with all the banks. Large exposure to credit cards which the defaults are surging. Then you turn to the industrial side and those companies that reported that sort of comp really have not been very good. GE is priced like everyone else, for good strong results and I think they could be less than stellar.

So then if they do miss and it is worse than expected, the will start talk about their ratings and systemic risk fears will enter the market once again. I have said this to many people but at the end of the day I think GE is a zero (could play out in a Citigroup type of scenario where the government keeps them alive but the equity is diluted to nothing). The question is timing.

So if that occurs we get a big sell off tomorrow. Next week the bank test is released which every bank is going to pass and that would be a buy the rumor sell the news type of deal where I think banks could correct next week.

So I may be off my rocker but I am calling an interim top and think we go to at least 805. I do think we will be higher after the correction.

Technicals - All That Seems to Matter

For me, another very frustrating day in the markets. We looked like we were going to break and again, the market got pushed higher. It is not that I am majorly bearish and think we are going to break new lows anytime soon, because I don't but it is hard to buy anything after a massive rally like we have. So smart investing says you wait for a break and a pull back. So far it ain't happenin.

Every now and then I will show a graph and very simple technical relationship that shouldn't matter but it occasionally is all that matters. Today you get such a graph.



So this graph show the S&P since the bottom. We are following a very distinct trendline. Traders step and buy when you get close to that trendline. These traders maintain very tight stops so that if you ever break that trendline, you go down sharp and hard. Today we tried to break, again, and failed, again. Once we break you probably have a reasonably quick pullback to 800, 780, or even 750. I think you have to be buying on that break. In the interim you just have to bleed until the drop finally happens.

You can see that the rally is tiring as the upper trendline has slowed its trajectory. I was hoping we could just hold today, rally tomorrow, and then really break on Friday with options expiration and what I think will be a goose egg by General Electric. Instead, tomorrow we could explode higher after holding the trend line today and if JP Morgan's numbers are good (they will be), housing inventory drops (probable) and the Philly Fed Index looks good (likely). If we get above 855 I would guess with high level of confidence we will see 870 quickly.

Worthless stuff as it relates to the long term, but in the short term, sometimes it is all that matters.

European Banks - UBS the first to smell

This is not getting any play today as the market is trading only on technicals but goes wtih my theory in the previous post about European banks stinking up the joint. Much less wriggle room to get profits. Despite being down over 5% earlier, UBS is now down only fractionally.

From The Guardian

Swiss bank UBS today confirmed its staff's worst fears by cutting a further 8,700 jobs as it pointed to a near-2bnSwiss franc (£1.17bn) loss in the first quarter.

and

Executives held out the prospect of raising fresh capital on top of the Sfr42.5bn injected so far, including by the state.

Catalyst for a Market Turn Lower

I like to look at the world and try to figure out what can cause major shifts in the market to happen. When the markets were plummeting in late February I spent alot of time thinking about what could cause the next big rally and identified two things, stabilization of Europe (specifically Eastern Europe currencies) and a suspension of MTM accounting. I mentioned both of those on this blog and both occurred, though admittedly not as dramatic as I thought they would. Europe saw stabilization in their currencies and it became obvious that mtm accounting would be adjusted in some form or fashion to help juice the short term returns for banks. There were other things that occurred as well but it helped me at least be aware of a potential turn.

So now my attention has shifted to what possible catalysts could now end the rally. European currencies would still be at the top of my list but the trigger mechanism may very well be international banks. Unlike their U.S. counterparts, they didn't have the government juicing their returns in the first quarter. Also, they have been much more aggressive playing accounting games causing the outperformance in their equities prices most of 2008. Also remember that Eastern Europe went into a tail spin in Q1, causing the environment to potentially be less favorable in their core markets. The European banks have been participating in this rally but without the added juices for Q1 outperformance it is possible their numbers will be much closer to trend line. Now only could this cause a massive drop in equity valuations in these banks but it could also upset Europe which could cause its own ripple affect. Barclays has been very busy raising capital with their $8 billion (I think that was the number) sale of I-Shares and a bloomberg article today discussing HSBC consideration to sell its crowned jewel real estate holdings including its world headquarters at the Canary Wharf in London. Combined asking price for their real estate would amount to $4 billion in additional capital (one needs to realize also this sale could also be a give away depending on the financing HSBC could itself give the buyer, so intrinsic value of the deal would be much lower while the capital raise would appear on the balance sheet and in headlines much higher). Anyway, the point I am trying to make is their is a possibility these international banks who are not part of the inner circle in Washington may stink up the place up with a rotten egg. It will also time out well when a possible turn lower in the markets could be expected, very late April into the first couple of weeks in May (HSBC doesn't report until June). As the old adage says, sell in May and go away. While I don't put much stock in sayings, the way this is setting up could in fact be a prophecy that may be fulfilled this year.

The World Is Saved!!!

Don't you feel better? I know I sure do. Everything is wondrous and great in the world again. Overnight I can feel alot better after a 1 page press release from Wells Fargo. YIPPEE

You would not believe the emails, the phone calls, the conversations I have had in the last 48 hours. All of a sudden people want to buy bank stocks. Those toxic hated securities are now the hot item. People want to be apart of the game, they want to make a fortune. It is unbelievable. All on what? I still think we have higher to go, I don't think yesterday is the peak (though it may be) but the psychology has changed enough that we can start looking for the signs of the roll over. In late February and early March was the time to get rid of short exposure. Everyone thought the world was doomed. Less than 2 months later everyone and there dog wants to own bank stocks. Mind boggling.

One of my more educated friends sent me this:

I read your post this AM. I think you'll see a capital raise out of these guys in the next day or two, which seems like the only reason you would preanounce now. The odds are really stacked in the banks favor these days, at least from a reporting perspective. You underreserve, write-up the MSR, pro forma the new mark-to-market rules,etc. then come out with a press release with no details and then raise capital. I think your point is well taken that if this was going the other way (i.e. short) hell would be raised. But I'm not bitter or anything.

The thing with WFC really bothers me. The company is distorting economic reality and then lets assume goes and raises capital. Is that not fraud? Oh well.

As an example, the NCO (net charge off as a percentage of assets) rate was likely ~1.55% vs. 2.72% in 4Q08, 1.98% in 3Q08, and 1.55% in 2Q08. To me that just seems highly unlikely.

Did you get that. Tell me what the economy has done since Q2 2008? Has it gone up? Are defaults lower? Are borrowers paying back their debt at a higher rate? No, no, and no. And yet, if you parse through the press release, you know just enough to get to a 1.55% NCO charge off estimate. That is hilarious. So, as my friend points out, you undereserve, make you numbers look good, get a huge jump in the stock price, and then sell a huge block of stock diluting shareholders. Its crazy and fraudulent but allowed. Goldman Sachs isn't wasting any time. According to the WSJ Goldman is planning a multi billion share sell. As some of the savviest traders on the street, I am sure they have timed this share sell pretty well. Enjoy it America, your getting screwed just like you did in the housing debacle. The thing is, your choosing to do it but you will hate Wall St. once it happens and act like your a victim.

One more thing about this Wells Fargo thing. How many times have I heard people cooing about the net interest margin number Wells Fargo indicated of 4.1%? It is a good number but do people stop and think or are we just one massive blob that somebody starts saying how amazing that is and nobody stops to think if it is really amazing or not??? Read the press release from Q1 2008. Really, it is not that hard to read something, to do your own research, to think for yourself. It won't hurt you, I promise. In case you don't want to do that, I will tell you what it says. Wells Fargo had "net interest margin of 4.69%, up 7 basis points from prior quarter." Did you just read that??? That is 59 basis points, .59% higher a year ago than the pre-release number indicates it was for Q1 2009. I am being over dramatic. To be fair this new 4.1% includes poorer earning Wachovia assets. Wachovia was over a full 1% below Wells Fargo in NIM so that 4.1% is better than it appears on the surface if you consider the weighted average nature of these assets. Just don't think this 4.1% is some sort of record.

Well, I am out for the rest of the weekend. Going to a lake house and messing around the South Central Texas area. I do think we most likely have further to go. I am not loading up on shorts yet but this is the ying to March lows yang. At some point I am confident we will start heading lower once again. Time will tell if I am wrong and the world is once again is saved.

Largest Orchestrated Short Jam in History

The last three weeks has to go down as the largest orchestrated short jam in the history of the markets. It has been incredible to behold as the government has taken every step possible to jam equity prices higher. Of course there won't be any congressional hearings, any investigations, any screaming about manipulation. Why? Because this type of manipulation is approved. Is looked upon favorably.

After all market participants have been through, today may take the cake. Wells Fargo announced "record" first quarter profit. Actually, they did not announce a record first quarter profit. They pre-announced a record first quarter profit. They don't announce until April 22nd!!!! Let that soak in for a minute. What is today? Maundy Thursday. The day before Good Friday which is a holiday for Wall St. The day after the Jewish passover has already started. All this means a large swath of Wall St. will be gone and volume will be negligible (I will be surprised if the NYSE trades over 1 billion shares today). So you pre-announce your earnings that will make headlines all weekend into a market where the shorts won't be able to get out if they wanted to because of light volume causing your stock price to soar??? Not only that, the pre-announcement doesn't really have anything useful in it. There will be no call, no 10Q filed, no discussion because of the "quiet period", no additional information for two weeks!!! So if your short you have two weeks to wait to see to determine what you should do. This is highway robbery on the other side.

I am short banks but I am not short Wells Fargo so not talking my book here and to be fair shorts have been fairly warned. I have said on this blog Q1 numbers for banks will be good, I mentioned I bought a large amount of XLF calls to hedge that exposure, and Meredith Whitney has been warnings Q1 numbers will look very good for banks on the surface.

There is a couple of ways to look at this. The cynic in me thinks Geithner gathered the major banks in a room to draw straws to see who would get to pre-announce strong numbers. Another part of me thinks Wells Fargo has the strongest upside surprise and so where chosen to pre-announce. You already got the cream filling.

The most amusing aspect of this is the comments in the press release about Wachovia. They don't amount to much and if your short Wells Fargo the main thesis probably centers around Wachovia. So you have very little to go on to really understand what is going on with Wachovia.

So enjoy the short jam. My guess is April 22nd may be a good day to short Wells Fargo. Buy the rumor, sell the news.

Machine Tool Orders in Japan Close to Bottom - 0

This is amazing. Japan has a large machine tool manufacturing base. Historically they have been one of the world leaders in exporting machines that crank out products around the world. Well now they almost do not exist as they have plummetted 86.8% in March from March of 2008. According to the article:

Orders for Japanese machine tools plummeted 84.5% in March from a year earlier, the largest decline monthly decline ever recorded and marking the 10th straight month of deterioration, according to data released Thursday by the Japanese Machine Tool Builders Association.

Yawn - Sleepyville

The markets so far this week have been like watching paint dry even with the two big down moves. Volume has been non-existent. These moves don't really mean much. Actually today's move probably meant the most of this week's move. The down move Monday and Tuesday was to be expected and almost inevitable. We came down to the trend line and held it yesterday. Futures were down alot about 5 a.m. and came roaring back holding the trend line at the open. We were up around noon, sold off back to trend and bounced again so this week in my opinion has so far been fairly bullish despite being down on the week.

I have been reading 10ks. Not much else has really caught my eye. Seems like everyone has already taken off for Good Friday. Time for maybe a nap.

Heavyweights On CNBC

So yesterday I spent a post bashing CNBC but this morning was the reason I still watch it from time to time. There was some really great conversations with some real financial heavyweights.

Video 1 - PIMCO CEO and CO CIO Mohamed El-Erian

Video 2 - More Mohamed with Tony Crescenzi and James Bianco

Video 3 - The investing legend Mario Gabelli and Mohamed El-Erian. One thing to note is Mario is a long only investor and so would have a bullish bias. Mario is a character. I love listening to him.

Video 4 - Round 2 of Mario vs. Mohamed (sounds like a video game). Mario takes some thinly veiled shots at PIMCO. It's great. This is my favorite of the videos.

Meredith Whitney Bullish on Financials??

Okay, so the title may be a stretch but she brings up some great points in this CNBC video. First she says the Mike Mayo piece (which was widely credited for the sell off today) is non news which is something I have been saying all day. The market has screamed higher with financials up 60% in three weeks there is nothing new in the Mayo piece than that which is already well known (have not seen the piece, referring to the headline bullets that everyone is talking about). Which brings up another point. CNBC drives me nuts sometimes. Most of the morning commentator after commentator talked about the hopeful "exaggeration" of Mayo saying the banks had marked their loans down only 3% when they may only be worth 65%. This is a total ignorant, small brained understanding of the issues and the accounting surrounding it. There is really no reason you need to know this unless you deal with it on a day to day basis which is fine, great but if you don't know anything about it, don't act like you know anything. Here you have "professional" investors and commentators marching across on CNBC displaying ignorance. You can easily tell how much loans are marked down on the balance sheets of banks by looking at the loss provisions. Loans are different from investment securities. Most loans are held at par and a reserve is built against potential losses. Banking 101. The massive amounts of losses experienced and write downs you read about is typically on the investment securities side of the equation. So what Mayo is saying is that there will be large losses on the loans books that isn't marked down. Banks currently have a loan loss reserve anywhere between 3 and 4% currently. Meredith Whitney said everyone knows about this and it is non news, which is exactly right.

Anyway, got off on a tangent. Other things Meredith talked about where interesting. She may be straying from what she is good at (analyzing banking companies) and making trading calls but I happen to think there is a decent probability she is right. She thinks all the government maneuvering will cause bank capital and hence book value and capital ratios to go up in the 1st quarter. That this will be the first quarter in several for banks to show profits as a whole and this could cause continued rallies in financials and hence the markets. That you should lay off the shorts and look to short at the end of April into May. I think this is a decent probability and early last week bought a large amount of September XLF calls to hedge a portion of my financials short book. When asked what stocks she would buy in the financial sector, she said her overall bearishness makes her to much of a chicken that things are going to get much worse. So any bullishness seems to be a market timing event.

IMF Gold Sell May Not Impact Gold Markets?

While I agree with this write up at seeking alpha from a fundamental standpoint, I disagree with the overall conclusion. For a time, I think this will have a profound psychological aspect on the gold market. Fundamentals need not apply. Thanks goes to Pete.

As part of the G20 Communiqué the leaders called on the IMF to sell gold to support developing countries. While spot gold was considerably weaker on this news, an examination of the statement illustrates the market’s fears are unfounded.

A Smart Banker - It Turns Out It Isn't Guaranteed to be an Oxymoron

A great article in Forbes about Andy Beal who runs Beal Bank out of Plano Texas. The bank is making a killing in today's environment. A very interesting read. Thanks goes to Nathan.

Andy Beal, a 56-year-old, poker-playing college dropout, is a one-man toxic-asset eater--without a shred of government assistance. Beal plays his cards patiently. For three long years, from 2004 to 2007, he virtually stopped making or buying loans. While the credit markets were roaring and lenders were raking in billions, Beal shrank his bank's assets because he thought the loans were going to blow up. He cut his staff in half and killed time playing backgammon or racing cars. He took long lunches with friends, carping to them about "stupid loans." His odd behavior puzzled regulators, credit agencies and even his own board. They wondered why he was seemingly shutting the bank down, resisting the huge profits the nation's big banks were making. One director asked him: "Are we a dinosaur?"

Now, while many of those banks struggle to dig out from under a mountain of bad debt, Beal is acquiring assets. He is buying bonds backed by commercial planes, IOUs to power plants in the South, a mortgage on an office building in Ohio, debt backed by a Houston refinery and home loans from Alaska to Florida.

IMF - Sellers of Gold

I have talked about the possibilities of the IMF selling gold before and now it seems official. With the markets rallying and everything "back to normal" in the world this will probably push gold down in the short term. I would not be surprised at all to see gold with a 7 handle. Over the longer term, I do not think it squelches the gold thesis at all. In general, world governments are horrible market timers. (Ask Switzerland how there huge gold sell around 300 a ounce went several years ago) Either way this should cause gold to move down and provide a great entry point for new positions and adding to exisisting positions for those with a longer term perspective.

The IMF plans to sell 403 tonnes of gold but speculation that additional sales were to be considered was played down by analysts. The sale of the IMF gold is likely to be conducted under the Central Bank Gold Agreement, which is due to expire on September 26.

John Reade of UBS said that because of the limited time before the expiry of the CBGA and the legislative hurdles that needed to be cleared (including a US act of Congress), it was almost guaranteed that a third five-year central bank gold agreement (CBGA3) would be announced, probably at the IMF spring meetings where more detail on the planned gold sale would materialise.

Gotta Love the Weekends

Another week, another up market. I still think we have further to go (possibly alot further to go) though wouldn't be surprised to see a pullback next week. We are in serious overbought territory but I am running into to many people who are so quick to say bear market rally. That has to get beaten out of the market before we can really turn lower and I think that could take some time.

Bank of America CEO Ken Lewis was at Texas A&M University in College Station yesterday morning as was CNBC Squawk Box. He met with students for a breakfast. I took a whirlwind trip to College Station last night and hung out with friends and was told Ken Lewis thinks banking is going to do well over the next few years (no surprise, what else is he going to say) but that (this I found really interesting) Europe was still in the embryonic stages of a recession. Now if Ken Lewis can recognize that, what does that really mean?? Wow!! The implications of that I think are huge.

Have heard some chatter coming from the G20 about the IMF selling some of their gold hoard to fund bailouts. That should put a pretty good cap on gold for awhile and may even drive it down. When a government entity is selling like that, I am buying. Still as bullish as ever on gold 2 to 3 years out.

Will be in Austin most of this weekend. Have a good one!!!

Dumbest Thing I Have Heard in My Life - We Are Doomed

I have not seen the exact quote in press yet but Obama in a Q&A session said he is "putting an end to the cyclical boom bust cycle of our economy with unprecedented regulatory reform." WHAT????? I am going to go off for a second. Our problem currently is that we have not let the destruction side of the coin in capitalism to work. Capitalism works based on production and destruction. You have to have destruction!!! Lehman Brothers should have been destroyed in 1998 with LTCM. You know how much better our world would be currently if that would have occurred? It would have killed the equity bubble, ushered in a normal recession, and killed what we are facing today. So basically what Obama is saying is no more capitalism for the United States. In comes socialism / communism until that system breaks down. Ask Russia how it worked. You can't eliminate cycles. It is impossible. At best you can push cycles off until it gets to big to push and then you implode. I thought one of Obama's strong points was his IQ. I was no fan of George Bush but at least I didn't ever him uttering something that stupid. As a nation we just must be cursed for horrific leadership. Actually it is our process of selecting leaders. A popularity contest which is why our nation was never meant to be a democracy but a republic. Ask France how there democratic history has treated them. Okay done with my soap box but still shaking my head in horror.

Bridgewater to Geithner - NO THANK YOU

I think this New York Post story is actually pretty big. Definitely not the final say but speaks volumes about the latest scheming of the U.S. government.

Bridgewater Associates, the $71 billion money-management firm, has come out against participating in Treasury Secretary Tim Geithner's plan to get private investors to buy banks' toxic assets -- a week after saying it was interested in it.

In an investor note obtained by The Post, Bridgewater founder Ray Dalio gave Geithner's plan two thumbs-down, arguing that the hopes of would-be buyers probably won't be met by what the government is offering, especially when it comes to the sale of so-called legacy securities.

In the note, which is entitled, "Why We Decided Against Buying in the PPIP and Why We Doubt That It Will be Broadly Subscribed," Dalio cited economic and political concerns with Geithner's Public-Private Investment Program, dubbed PPIP, saying the numbers just don't add up -- at least when it comes to PIPP's legacy-securities program.

Interesting Day on Wall St.

Today was an interesting day. Gap lower and then a climb all day long. GM bankruptcy filing now almost inevitable,the beginning day of a new quarter, and the FASB 157 ruling tomorrow. If it wasn't for the FASB 157 announcement tomorrow I would take today as a very very bullish sign in the short term, especially with it being the first day of the quarter and every reason for the market to sell off. As it is, it is hard to tell how much noise this FASB 157 thing is and traders not wanting to be short before the announcement. I was hedging today against some core shorts in preparation for the scam release tomorrow. The thinking is so myopic (especially as the government is trying to get the latest version of the TARP off the ground) to tell the banks the more assets you have on your book the more you get to create fictitious gains in our latest rulebook but you should be selling them before you get those gains because you can sell them at above market prices even if those prices will be below your fictitious mark. HuH??? Talk about creating a disincentive from what you really want!!! Pure idiotic genius at its finest. This stuff just boils my blood as we try to fool everyone into putting the man behind the curtain while in the process look the other way and not actually do things that would help to take care of the problem. Swedish banks bottomed at .2x book and they didn't have mark to market accounting. The problem is not the bean counting.

You had a major major major warning sign again today. Yes the debt markets. Scams aside the markets can't keep going up with the debt markets doing what they are doing. Even as we tell the bank, surprise, you can mark to myth and create fun feel good news, the underlying collateral continues to deteriorate at alarming rates as credit widened again today. Investment grade corporate and high yield corporate debt both were wider today. Every AAA tranche of every subprime mortgage ABX series made new all-time lows today except one and it was close. These tranches are around .25 on the dollar. I remember when people were saying the market was wrong at 50!! Also the spread of a AAA tranche of the commercial real estate CMBX index widened. This was the only area of the debt market that in the last two weeks was participating at all with the equity rally. Last couple of days, big reversal though still below their highs. (above at times I am referencing spread and times price, low price is bad and high spread (extra yield above say a 10 year treasury) is bad)

I still think in the short term we are shooting for 900 to 1000 but if the debt markets keep this up the rally will be smaller in scale and shorter in duration than I am thinking. Just completely not sustainable.

Scam...I mean rule change...Announcement Early Tomorrow Morning

Apparently the mark to market hearing could start as early or earlier than 8 am tomorrow and conceivably have a vote and modifications to the rule by the opening bell at the NYSE.

Hit the link to listen an audio broadcast tomorrow.

http://fasb.trz.cc/live.php