Archive for January, 2008

1/31/08…where there’s a Fed there’s a way

January 31, 2008 at 6:46 am · Filed under economy, financial, markets ·Tagged , , , , , , , , , , , , , , ,

…to screw things up. Yesterday, with one dissenting vote (Fisher of the Dallas Fed), the FOMC cut the Fed Funds rate by 50 basis points to 3% and the Discount Rate to 3.50%. The reaction was confused at first as bonds slumped by 1-1/2 points on the long and the Dow rallied by 60 points, declined by 100 from what at that point was the intraday high to up just 40, then marched back up to the session high of 12661 or up 180 and then along came Fitch with a downgrade on liquidity of monoline insurer, FGIC, and that was all she wrote. In about 35 minutes we gave back the entire rally, attempted a bounce and plunged to down 70 just before the close with a shortcovering (you didn’t think it was real buyers did you?) bid recouping about half the loss…whew! Another 275 point swing in just one session!
Not only that but we were saved by the bell as just after the close S&P said it cut or may cut the ratings on $534 BILLION of subprime mortgage securities and CDO’s, due to rising defaults. Sweet! That allowed bonds to get back half of their losses. Once again equity market concern has shifted back to where it should be: the credit markets…sans treasury market.
Last night, TB attended a meeting with an economist Donald Ratacjzak, who has an incredible track record. He is still on the faculty of the University of Georgia but consults for Morgan Keegan. The Rat as he is known (not in a negative connotation), just returned from China. He noted that there was no heat at the airport or in any public buildings due to a ban initiated by the government (who else?). You may have heard this yesterday but their power plants are maxed out and they even had to shut down their aluminum producing plants. Imagine that happening here? That is why aluminum futures were up 5.4% yesterday and other metals followed suit. Overall commodity prices were up 3% on the CRB and 3.6% on the GS Commodity Index. Remember the Olympics begin in Beijing on August 8…could be interesting!
He also said that he was in New Zealand when the did the emergency 75 basis point rate cut and instantly saw a 4% increase in costs. The Fed has now cut 125 basis points in just 7 business days! As for the reason for the cuts he believes the Fed has cut their focus on inflation (while maintaining that inflation is tame and declining in order to provide cover for the real reason which is credit conditions. Like TB, he does not believe the Fed cut the first time due to the SocGen debacle (after all it was just $8B and yesterday Citi alone announced they had obtained another $22B of capital). First, if the Bank of France didn’t tell the ECB it is highly unlikely they called the Fed, right? Second, if it was so bad why wasn’t there a coordinated rate cut? But the big question is what was so all-fired important about cutting before this week’s scheduled meeting? What TB believes is that the Fitch cut in the rating of monoline insurer AMBAC caused the selloff and that may have triggered the SocGen problem as it forced an unwinding of positions…TB heard SocGen trading volume was about 9% of the volume in Europe a week ago Monday. Furthermore the rating cut came after the close so our markets did not have time to react. Then when they saw the selloff in Europe Monday and overnight Tuesday they panicked (one hopes that that was not what happened as it is a bad thing when the Fed reacts to the markets…central banks are supposed to cure the cause, not the effect). As weak as our markets were, it is likely we would have dropped 400 points or so and then bounced back…after all it is only financial stocks that matter, right? …or is there more: such as the ratings that support all kinds of derivatives and without them corporations and hedge funds will be in violation of lending agreements triggering margin calls and trade unwinds…in other words: deleveraging! Panic deleveraging. Anyway, that’s TB story and he is sticking with it…you got a better idea?
Do you really believe stocks are cheap here? TB has two thoughts: first, No!…second…if they are cheap, they are only going to get a lot cheaper…you just had your countertrend rally. Still think it is bonds that are expensive? The Rat had this thought: why, with the Fed easing so sharply aren’t long treasury yields declining? On the 75 basis point emergency the cut, the 10 yr yields declined about 20 basis points, then rose to levels above where they were before the rate cut and have gone sideways ever since even with the 50 basis point cut yesterday…what gives?
The Fed has only a few weapons. First, they can “jawbone”, but we have a Fed Chairman who believes in being totally transparent (got to be good lookin’ cause he’s so hard to see), when Wall Street is as opaque as it can be…that gets you nowhere except letting them know your intentions so they can position themselves to make money…whereas Paul Volcker’s idea of transparency was to smash the windshield so you can see better…that will get your attention every time. Secondly, they can use the Fed Funds rate and to a lesser extent the Discount Rate to impact liquidity (but nobody wants to borrow at the discount window because they don’t want anyone to know they are having liquidity problems). Then there are open market purchase or sales of securities as opposed to repos to manage the Fed Funds level these are for more permanent adjustments to reserves. The last is reserve requirements but these are low and haven’t been adjusted in eons.  
The newest wrinkle is the TAF (Treasury Auction Facility)  auctions whereby the Fed allows financial institutions to bypass the market and discount window to gather liquidity.  In Dec. we had two of these 35 day auctions at $20B each …this month we just rolled them adding $10B to each…this is barely scratching the surface (and TB is told the market values are way off on these so in effect it is a bailout  …hope they don’t get stuck with the collateral). Contrast this to the ECB in Dec that injected $500 Billion in this manner  …now that is acting quickly not dipping your toe in the water. We may need perhaps $100 billion more and Bernanke has already said this will be a permanent facility…good luck.  
We may well be witnessing the biggest leverage unwind in history…or the biggest bailout. Ask yourself this: how did our regulators allow highly paid traders and salespeople to pull the wool over our eyes without even considering the impact of their actions? Now, the global governments are cleaning up the mess and many pension funds, even foreign towns, are paying the price. Have you heard even one government official demand redress (other than Congressmen for political reasons only)? Nope, that is how powerful the financial lobby is…the financial sector is the backbone of any capitalist society, right?
Just to keep this daisy chain ‘hummin,’ MBIA (MBI) reported after the close a loss of $2.3B or $3.30 a share…when your stock is trading under $14 that is going to be one big hit! Over the last 12 mos. MBI shares declined 80% (77% since 9/30/07), and 25% since yearend! The low was on 1/18 at $6.75, expect a retest of that low! They also took a $3.4B credit derivative mark-to-market loss. Now the other hit: they also saw “reduced demand for insurance” in Q3 substantiating the FT article’s claim that municipalities are shunning insurance…as are buyers…other than covenants why do you need an investment grade municipal to be insured (and at 0.25% of the principal per annum)? TB has noted in the 35 day auction market that yields rose to 5.5% on insured bonds   …5.25% on one that is a stand-alone AAA as it has been escrowed with US Government Securities! This is strictly a function of liquidity as corporate and hedge fund holders liquidate positions for fear of being in violation of their own indentures and lending agreements. Note that these 35 day securities are an arbitrage play as they buy a long dated muni and then securitize half of the position (sometimes as much as $100 million), then make a spread off the coupon rate and the rate they have to pay to the short term holders. If the spread gets negative they can always call the auction notes and either hold or sell the underlying bond …but the value has increased so much now that at most they will just eliminate the arb play. This is the opposite of back in 1994 when short rates rose, the yield curve inverted and long muni prices declined…yet to TB’s knowledge none of the investment grade vehicles had problems…then, and now however, hospital bonds and other lesser credits are yielding 6% or more in the auction note market. Yesterday, uninsured 35 day Cal paper was trading below the yield on insured adjustables! …and a $6M block of Cal G.O’s traded at 1.85%! Guess it shouldn’t be too surprising when investors are so liquidity/credit conscious that they are getting negative real returns on bonds out to 5 years! Still think this is just a puny subprime problem?
Ask yourself about whether a municipal bond needs insurance…how many defaults have there been of investment grade muni’s? Other than a few small speculative issues there has only been New York City (restructured and bailed out in a couple of years), Washington Public Power Supply System (WPPS – where only the single ‘A’ rated bonds defaulted and only because of huge cost overruns and a moron judge in Washington who said municipalities could not be locked into long term (take or pay) contracts when they do it every day; and Orange County (due to fraud and even then the problem was corrected in less than a year…the biggest municipal bankruptcy on record). TB would caution that weak muni credits…even insured ones should be avoided as this crisis could last for years and with property tax revenues declining sharply (due to delinquencies and reassessments), we could see more problems and definitely credit downgrades…for the most part however these will result in cost cutting in other areas as general obligation bonds have a first lien on all tax collections as do senior revenue bonds). Contrast to the Great Depression where 80% of the defaults were issuers rated ‘AA’ or better! Like the housing market the areas most affected will be major cities with severe growth problems and large low income ‘core’ areas…i.e. NYC, Philadelphia, Cleveland…you get the picture.
TB can’t wait for tomorrow and all that employment data…yahoo!
Had a terrific dinner last night at Le Colonial in San Francisco (old timers know it as the old Trader Vic’s). Not only was the food good, we ate in the former ‘Captains Cabin’. Quite nostalgic as that was the site of many a power lunch or dinner…tourists didn’t get in there…no way, not with Vic there!
Have a great day!…and resist the urge to buy!
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 31, 2008

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1/30/08…time is on your side…yes it is!

January 30, 2008 at 6:32 am · Filed under economy, financial, markets ·Tagged , , , , , ,

Quote of the Day: “Capitalism’s most dangerous enemies are capitalists.” Robert J. Samuelson, political writer. Anyone believing it should be unregulated should read that statement closely.
…for this week anyway. This is not the time to be buying stocks and we could see a test of the lows by the end of the week. This is strictly a low volume short covering rally and beware as they have reloaded and could start taking it down as early as today or by Friday. That is TB’s humble opinion, based on what he sees in the economy…recession or not that is merely arguing the number of angels that can fit on the end of a pin. The biggest asset class is a mess (housing), and the biggest contributor to GDP (consumption) is slipping. Meanwhile we have gone from an inflationary to a deflationary mentality…can this be good?
Housing: Everyone is all atwitter about the new guidelines (not approved yet as far as TB can tell), that raise the conforming mortgage to $417,000 to 125% of the median per area to a max of $729,750, which as TB showed in some areas of the country is below the median. But what about the minimum 10% down…how many have $50-75k lying around for the downpayment…or can qualify by using no more than 35% of income for home expenses? The Existing Home Sales reported Friday and New Home Sales Monday were telling  …not only is the price dropping precipitously…New Yorkers won’t notice though as the Northeast rose 6% while the South and West fell 6% (and that doesn’t include the upgrades and other incentives on New Homes that are contracts only not final sales and they don’t back out cancellations), while the inventories rose to 9.6 months supply, highest since 1/91  …average was 4 months from 2000-2005. The inventory of homes available for sale fell by 1.8%…but the time to complete a home has risen to 6.3 mos. from 4.3 mos a year ago (above courtesy of Merrill’s Richard Rosenberg), so guess they are in no hurry to add to inventories! The average home price is the lowest since 1993 while sales are at the lowest level since 1995. Inventory to Sales ratio now stands at the highest level since Oct 1981 – the last real consumer recession…yet homebuilders stocks rally?
Consumption: Heard a lot of chirping on CNBC this morning about re-fi. Still pointing to the MBA numbers showing a big pick up in re-fi – applications…they don’t track the actual numbers…so do you think people are filing multiple applications for re-fi? You betcha with appraisals lower and FICO scores falling while the minimum requirement rises. Lower rates are to help banks rebuild capital not make more loans…at a smaller margin too!
Markets (see Overnight Markets for comments on S&P 500 and General Electric long term performance): TB has read several unnerving articles lately. One quotes an SEC Commisioner, Paul Atkins, saying that hedge funds will solve the subprime problems…really? Didn’t they buy contracts they didn’t understand…are having the worst January in 3 yrs…and are losing insurance on CDS contracts due to subprime insurers (TB also notes that credit default insurance on counterparties is sharply up…do you remember when TB told of a Bear Stearns trader recommending this way back in 2004? 
Then there was an article in the NY Times by Ben Stein…who still believes the subprime problem is no big deal…guess he didn’t do the math on the derivative side. Stein cited a story from a broker on how IBM once released great earnings and the sales manager of a major Wall Street firm told the sales force lets see how far we can drive it down…and they did. Still think the markets aren’t one big casino? TB is still seeing red over the elimination of the uptick rule for shorting which has greatly increased volatility!
The quote above was influenced by an article in the Washington Post (Jan. 28, 2008): Good and Bad Capitalists. It talks of the number of capitalist firms that are destabilizing the financial markets and lays the blame right at Wall Street firms (as in the Stein article, firms have no concern over the damage they do, only that they make money…then they whine for bailouts). So perhaps it will be the hedge funds!
Lastly, how about Sir Alan of Greenspan? First, he did nothing to stop an equity bubble (although he performed beautifully in the ‘87 crash…but it went to his and the markets head), then he created a housing bubble and did nothing about the growing subprime crisis despite warning from Fed Governor Ed Gramlich. Now he is out and Bernanke is proving to be too much of an academic and didn’t learn from Greenie’s ability to speak indecipherably. Greenie started stumping and making confusing statements about the Fed which along with Wall Street exacerbated Bernanke’s problems. Then he was hired as a consultant by Deutsche Bank, and then PIMCO (as if they need his advice but might want to use him as a contrarian indicator…certainly Gross’ comments do not mesh with Alan’s). Yesterday, it was announced that he would be an advisor to Paulson & Company (no relation to the Treasury Secretary), a hedge fund that made billions by shorting subprime paper! Perhaps they want him as a contrary indicator too? By the Way Paulson & Company was cited as a hero in the Post article cited above? He saved us from ourselves…gosh to be a hero and get rich at the same time  …kind of like George Soros getting rich while breaking the Bank of England over their stupidity…it’s good to be king!  
FOMC Meeting: Market fully expects a 50 bp cut…or even 75…one observer said the way this Fed acts he wouldn’t be surprised to see them to 25 today and another 25 tomorrow if stocks selloff! Cute! The point is they are pushing on a string  …your banker doesn’t want to make more loans and is focusing more on how to stop the hemorrhaging and wondering where the replacement revenue for all those charge-offs and non-performing assets. With delinquencies rising and foreclosures can this bounce in financial stocks be anything but short-covering?
Bankruptcies: Tousa Inc. a Florida-based homebuilder filed Chapter 11 yesterday. Casino operator Tropicana Entertainment LLC is in violation of bond indenture and bonds may be accelerated. New Century Financial Corp asking for a 24 day extension to file a liquidating Chapter 11 plan. These are part of a 20 page article on Bloomberg on bankruptcy actions…but we aren’t in a recession!
Please keep your wits about you for the rest of the week. TB doesn’t want to see any of his readers get hurt. As they say in Nevada: “It’s hard to bluff when all you have are a pair of deuces.” Play safe!
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 30, 2008

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1/29/08…lies, damned lies and taxes

January 29, 2008 at 6:23 am · Filed under economy, financial, markets ·Tagged , , , , ,

…continuing on our theme of the economy…stupid…this week, TB did some research, readily available on google comparing tax rates, income,etc. for 2005 (latest available) with 1980. He touched on some of this in the past but you have too look at it in detail to get the problem of the wealth gap.
Total Returns 132.6M 2005 1980 $ Change 
Top 1% (1.32M returns): >$364,657/23.1%  >$80,580/34.5%  4.5x
Top 5% (6.63M): >$145,283/20.8% >$43,792/21.7% 3.3x
Top 10% (13.36M) >$103,912/18.6% >$35,070/23.5% 3.0x
Top 25% (33.2M) >$62,066/15.9% >$23,6606/19.7% 2.6x
Top 50% (66.3M) >$30,881/13.8% >$12,936/17.3% 2.4X
Note: in 1987 tax law changes altered computation of AGI. Also, each bracket grew by 1.4x over this period.

It is the major metropolitan areas that are the most impacted while rural America does not have these huge gaps. It is also the metropolitan areas that have the highest incomes (and lowest), as well as the highest crime and biggest gap in education. Furthermore they were most impacted by the housing boom of the past five years.

Here are some more factoids from a NY Times article on 3/29/07, according to IAIA:
*The top 300k tax filers made as much as the bottom 150m
*The top 1% earned 21.8% of all US income, double the number in 1980 (peak 1928 @ 23.9%!)
*The top 1/10 of 1% and top 1% saw their earnings increase by 20% in one year in 2005.
The median income in the US averaged $44,473 2002-2004, New Hampshire top at $57,352, California $49,894. 14 states were under $40k while 12 were more than $50k.
The proposed temporary increase of conforming mortgages eligible for purchase by FNMA/FHLMC to 125% of the median home price in an area for the next 12 mos…to a max of $729,750 from $417,750 is already being opposed by Republican lawmakers. A quick look at the above data indicates that it is necessary unless we want to see home prices plunge nationally by another 25%. This is the insidious side of unscrupulous lending practices, shoddy if not fraudulent appraisals, and ignorant buyers creating a bad brew of debt. Then Wall Street jumped in securitizing everything in sight converting a $250 billion subprime problem to a $500 billion problem (the derivative problem is just starting to pop up and will increase due to problems at monoline insurers and excess leverage), in a $46 trillion dollar asset class, the largest there is and one of far more significance to the top 10% of taxpayers.
No wonder Cleveland is bulldozing foreclosed property to help stabilize the market and free up police from monitoring them for illegal activities. Oakland, CA has 1400 foreclosures and drug dealers are constantly being run out of them by the police. Gangs are migrating to the outer suburbs where prices have plummeted and are squatting further driving down prices and developers are undercutting the very people who bought their homes to clear their own inventories. TB believes the housing rally yesterday was due to the higher conforming mortgages but can the buyers qualify? Look at these median home prices as of Q3 2007 so already overstated: US $220,800 (5 times median income); Western States $338,100; California $530,000 (10.6x median income); Los Angeles metropolitan area $588,400; San Diego $589,300  …and dropping like a stone; San Francisco/Oakland/Fremont $825,400. The emphasis on California is not because TB lives here but because we have had the highest percentage of subprime loans in the past two years…and would be the fifth largest economy in the world.
The poverty level has been unchanged since 2004 at $20,650 for the 48 states, $25,820 in Hawaii, and $23,750 in Alaska. The reason is that they changed the computation of inflation to incorporate substitution effects…you know steak to chicken to Spam to dog food. Even fast food is expensive now.
In California for a family of four owning a home the income required just to cover non-discretionary expenses is $36,000   …forget that trip to Disneyland kids. 
Now for the really bad news: appraised property values after rising for years are declining rapidly. In Solano County, hit hard due to overbuilding, assessments will drop by 20% next year per the tax assessor. This means big budget cuts at the state and more importantly local level. So what will the state try to do? Raise taxes…but that makes us uncompetitive with other states in attracting new business, and many will relocate, taking their higher paid employees with them. It is Art Laffer (cocktail napkin creator of supply side economics) recently moved himself and his entire company to Tennessee (he has also decided we are in a recession leaving his pal Kudlow standing alone). His corporate tax rate in California was 8.84% plus 10.3% personal tax (and no capital gains either). Tennessee is ranked #5 in competitiveness to attract business while California is #41, while Utah is #1, New York #49 and Vermont is in last place. Like the subprime problem we have not even begun to understand the economic problems we face. So? We will just borrow our way out of it…sorry but we did that for the past 25 years so the only solution is to retrench and that will be painful…very painful…even globally. 
The other problem is what constitutes a tax increase? Rescinding a temporary cut apparently does per the GOP. So we cut taxes again and since we can’t raise those we cut again in the next slowdown and the next…pretty soon you are at zero…and the rich get richer. The GOP wants those checks to go out with more to the wealthy…they are a pittance to them  …some could spend the entire check on a dinner out. Doesn’t anyone know what fiscal stimulus means? Apparently not inside the beltway.
So the stock market is down, housing is down, and even hedge funds are down.  According to an article on hedge funds today posted on the Times Online (London):
“Global hedge fund returns fell 3.1per cent in the month to last Thursday, according to the most recently available HFRX indices, published by the Hedge Fund Research (HFR) organisation in Chicago. That was the worst monthly performance since mid-1998 and outstrips negative performances posted by many hedge funds last August, at the height of the turmoil in credit markets.”
You do remember 1998, don’t you? The Asian/Russian crisis that brought about the collapse of LTCM. Wait a minute…isn’t volatility supposed to be good for traders? TB thought so but perhaps leverage hurts. Funny, with no uptick rule TB would have thought they would have sold positions and then shorted and shorted and…shorted. But perhaps that was the problem. The late selloff that began on Dec. 26 was of huge magnitude and no one expected the year to start off so negatively (remember TB’s advice: don’t ruin you entire year in the first month).
TB highly recommends the article by James Montier of SocGen (not related to the current scandal) in John Mauldin’s Outside the Box sent out yesterday. If you want to read it…and you should…go to www.frontline.com. While it is 18 pages it is full of charts that very well explain why stocks are not cheap here despite all those who tell you over the next ten years all will be well. Hold cash and wait.
Dubya couldn’t help himself last night…nope, have to make those current tax cuts permanent. Also, don’t you dare put any earmarks in there or he will veto it…why did he start doing that when the Dems took charge after signing anything shoved under his nose for the first six years? Also, there have been fewer earmarks according to the Lehrer Report under the Dems than when the GOP was in control.
See people plan ahead so tax cuts expiring in three years will curtail investing. Please! We have CEO’s running companies for quarterly earnings not for the long run. According to Montier the average holding period of a stock is nine months (about the same as the desired turnaround for taking a company private), and that folks is the lowest in history. TB would suggest that any investment today would have a turnaround of well less than three years or it would not be done. If stocks are so cheap (which they aren’t), who cares what happens three years from now. Stocks not cheap? Oh, they are in Wall Street terms which measure the p/e off expected earnings…and even current earnings are inflated after record earnings for four years and massive stock buybacks (bet the shareholders wish they had paid dividends instead). Montier points to Benjamin Graham’s work which argued you should use no less than FIVE years of trailing earnings to calculate the P/E. Using that criteria, stocks, while cheap relative to 2000, are still at the highest multiples since…drum roll please…1930! This article is a must read.
TB reiterates…don’t do anything in the market this week…what looks cheap may be expensive and what looks expensive may look even more expensive…by Friday! Too much information on the way (TMI).
As an old bond geek friend used to say: “Don’t buy…wait… you’ll get a better rate!”
Today is the first day of the FOMC meeting with GDP tomorrow followed by the Fed statement. With a five year note auction today, the second part of the second round of the Fed’s TAF auction, and employment on Friday, you should be in no hurry to scout out bargains, but do make a list of what you want to buy and TB suggests it be value stocks, especially large companies with a solid dividends, a means of maintaining them even in adverse times and a good rate of dividend increases (the Montier article also emphasizes this…as well as why you don’t want to invest in growth stocks now).
Sorry to be so negative but as pointed out the other day: you can’t solve the problem until you identify it and we have not even begun to see that problem is us and our poor financial habits.
All the best,
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 29, 2008

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1/28/08…the name is bonds…junk bonds!

January 28, 2008 at 5:17 am · Filed under economy, financial, markets

 

…TB feels that it might be time to buy corporate bonds…selectively of course and only investment grade at this time. As a bond geek he has not spent as much time on the fixed income side of the equation and it is incredibly important here…after all we have now learned that utility stocks are not bonds.
For the private investor, and money managers who have to buy for small individual accounts, since one blow up can destroy your entire performance, TB sees ETF’s as a good way to go. He doesn’t much like bond funds due to fees of 75 to 100 basis points or more…some with 12(b)1 fees which you should avoid like the plague many with front and or back loads…stay strictly no load. Why should you have to pay a back load to a manager you want to fire for poor performance? A client prospect of TB’s bought two mutual funds and asked for TB’s opinion on them…after the fact of course…they always ask after the fact. Both had relatively high fees, 12(b)1 fees for the broker, and a back-load. Since both funds were rated positively he advised of the back load and said you would do well to just hang on. Since then both funds have fallen sharply with the market but other than the loads TB has no problem with them.
We all know of PIMCO’s great bond performance and perhaps they were number one last year, while their competitor Western Asset’s Corp Bond Fund produced just a 1.58% return lowering their three year return to just 3.04%. TB researched this because he heard a WA spokesman say they had poor performance due to an over-allocation to high yield bonds (junk bonds). So TB looked and they only had 7% junk bonds at the end of the 3rd quarter but the intermediate index had none. Also, they were sharply underweight US treasurys so PIMCO had them on both counts…that is how you destroy returns.
A friend, and old time bondo works for a public pension fund. He told TB that although they have several hundred million with them any complaints are dissed as they have their own cookie cutter (in TB’s humble opinion) strategy.
Prior to the dotcom bust Metropolitan West had phenomenal performance. They too had lower investment grade bonds  …including Qwest Communications and according to P&I were warned by the consultants that they should cut their exposure at least if they wouldn’t close out the positions…they held more than 5% of Qwest if TB recalls correctly and balked at this, ignoring the number one rule of business: the client is always right. Suddenly, they decimated 3 or possibly 5 years of sterling performance…on ego. TB was researching it and found that the CEO was Gary Rupert, oddly the man who had been chief credit officer at Merrill when TB was there and an excellent analyst. Rupert had written a memo to management to cut exposure to Orange County which was ignored…greed again. So even a guru can make a major mistake…that is what happens when you don’t listen to clients. As a client, TB would move my money from any manager who ignored my concerns and couldn’t give me a good reason why they were right. Met West was bought out by Wachovia and is now a large third party lender…that is Rupert’s forte…a good man and smart that had a temporary contempt of client phase.
The above thoughts were enhanced by a rereading of all three parts of the 1/4/08 Barron’s Roundtable in which Bill Gross played a major role as the only bond geek…and shamelessly plugged PIMCO’s two bond funds (investment grade and one that includes junk). But he added a caveat, giving the price and the DISCOUNT to Net Asset Value…since then both have gone to a premium: the investment grade to a 10% premium and the broader one to a 6.7% premium…his advice is good. In fact, IF you were to buy a bond fund TB would recommend one of the Western Asset Management funds instead which are trading at discounts of 9% to 12.8% to the NAV…past performance is no guarantee of…anything! Gross also recommended GM 8.375% bonds due in 2033 yielding 11.5% and F 8.90% due 2032 yielding 12.5%. Three weeks later the prices (74 and 72 respectively) are very close to where they were then. Two things to consider: markups if you are not an institutional investor and diversification. Bonds of the fallen angel financial institutions offer good returns too but don’t be in any hurry to buy them or most junk bonds either…time is on your side…yes it is.
TB could have written volumes today as he did so much reading and none of it was positive. It is hard to imagine a set of conditions any worse than we have today (TB resists the temptation to say perfect storm)…the least of which is not that it is an election year…in fact that is TB’s major concern…a quick look at the oral stimulus…oops fiscal stimulus package is all too telling. Once again the GOP is shooting itself in the foot by trying to give more to the wealthy (and it will cost them dearly), having learned nothing from the 2001 tax cuts. Investment is not fiscal stimulus. Checks and food stamps to the middle class and lower income groups are but grocery stores are not a big part of the economy. You have not heard the end of this…you will for weeks and months…and meanwhile the economy wanes. Finally, shame on Sen. Dodd, the presidential wannabe…in sheer partisan manner he is refusing to allow his committee to approve the appointments of two proposed Fed governors even as two more will be departing soon. Both are qualified and could bring new viewpoints. Can you believe this of a presidential hopeful who fortunately won’t make the cut! What a great time to tie the hands of the Fed! Idiot!
The rest of the week will be on the economic concerns TB read of last weekend…and it won’t be pretty.
TB cannot believe the stupidity of the candidates here…and how about the Billary gaff: Bill conceding for her? Remember when he was running and he said “you get two”? Do we want him again? Particularly now that he has taken to jabbing his finger and becoming very vindictive. Hillary says she will be making all the decisions but he will be getting daily intelligence briefings (unlike Bush Sr. he has not chosen to do this so far but you can bet he will). Do we want any more Clinton’s in the Oval Office?…or Bush’s? TB certainly doesn’t…we need new blood and for this reason he would love to see a McCain/Obama race for the gold. Neither one is perfect but both are better than what we have…hopefully! God bless us!
Hope you all had a terrific weekend and don’t get too rambunctious to take advantage of those bargains!…they most likely will become better bargains! Hold on to your hats for a wild ride! SOTU tonight…TB can hardly wait to hear Dubya!
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 28, 2008

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1/25/08…bottoming?

January 25, 2008 at 6:20 am · Filed under economy, financial, markets ·Tagged , , , , , , , , , , ,

TB’s Quote of the Day: “It was the best of times and the worst of times.” Charles Dickens opening line in A Tale of Two Cities. Guess it all depended on what class you were/are in? Remember the writing on the wall? “It’s later than you think”
A reader has asked TB several times to put bullets at the top so the reader can find if there is anything of particular interest to them. TB has fought this as he most often writes off the top of his head as to what topics are of the most importance to readers. Today is an exception as he has some broad topics:
*Stock market – bottoming, countertrend rally, short-covering or worse? Davos – relevance
*Societe Generale – cause for the Fed’s emergency easing?
*Monetary and Fiscal stimulus
* L.A. Real Estate market
*Hedge funds – good or bad?
*Final notes – NYTimes endorsements and humor at expense of rating agencies
Stock Market: In some areas such as the AMEX Composite, tech and especially semiconductors the market looks like it is trying to find a bottom…that to TB is better than the volatile up and down moves of the past two days on the other major indices and sectors. A word of caution on the AMEX though: it is the broadest of the indices since it contains ETF’s (especially international and emerging markets), as well as REITS and limited partnerships…thus you get a lot of noise when one sector is down and another is up. With regards to the ‘bounce’ in tech…and especially semi’s which are trading at a three year low, they may be the counterpoint to the four horsemen and other top performing stocks of last year that are now being sold off…remember that theory that has had good results: sell the top performers of the Dow and buy the ‘fallen angels’…has a pretty good track record. Also, don’t forget the major indices are market cap weighted so the impact can be huge and indexes are probably not the way to play it. TB read the other day that a high number of pension funds are replacing conventional managers with index funds. TB believes the chances of a lasting rally are nil and that this is more likely a countertrend rally as shorts cover and reload for the next down leg…trickle down? He believes we are in a cyclical bear market that could easily morph into a secular bear market of several years duration. A couple of interesting observations: Starbucks (SBUX) is introducing a line of $1 items (a la Wendy’s), so far only in the mother city of Seattle…cut price make up on volume?…is this good or a sign that even coffee is an expendable item…the exotic variety anyway? The stock rallied 1.8% on this but is down 40% over the past year w/no dividends…ignore it. Also, Lennar (LEN) the homebuilder announced a $1.25B loss yesterday and due to a creative management managed a small rally to the 40 day moving average. Over the past year the stock has fallen 68%, from the 2/2/07 high -71%, and since the 8/9 beginning of the end it is down 55% and there have been six attempts to rally it and other homebuilders…in no case has it been able to top the 40 day m/a. So TB would avoid all consumer discretionary stocks and housing while selectively consumer staples and financial stocks may provide some long term value…or even a short term trading play…that’s all. TB feels you should hold dividend paying stocks…and only buy dividend payers with a solid growth history and no chance of it being cut with a 4.5% minimum yield but closely examine any high dividend payers or you might get what GM and Citi investors did…lumps of coal. Hey, this is as bullish as TB has been!
Societe Generale: The fraud there by a ‘plain vanilla’ futures trader that cost them 5.5 billion Euros ($8.1B) is a hot topic.  Most French banks have been nationalized since 1945, but are like FNMA and Freddie publicly traded too  (?), so handling this might be better suited within. A reader wrote yesterday asking why TB didn’t comment on this yesterday morning: because so few details were out…it took until 3:15pm for the WSJ to write about it. The trader, Jerome Kerviel is on the lam and bears a striking resemblance to actor Charlie Sheen…perhaps they are one and the same   …have you ever seen them together? He set up a series of fictitious accounts and trades…he was very aware of the auditing routine, but last year they doubled the staff to 2000 and so he lost his timing of audits as well as internal controls. Each trade had an offsetting one thus a perfect hedge…right?  …uh, no. In a routine check an alleged counterparty said they had no knowledge of the trade. That was the beginning of the end. He also evaded the banks controls to transfer money out of the accounts. A much smarter guy than Nick Leeson who brought down UK’s Barings Bank forcing them to merge on just $1.4B. In contrast, Amaranth cost investors $6.6B while Parmalat in Dec. 2003 at 10 billion euros was the biggest European bankruptcy (due to all of the credit default swaps, etc. we never really learned who many of the losers were).  
Monetary and Fiscal Stimulus: The Soc Gen story above started rumors that the Fed knew of it and that was the reason they made the emergency cut…balderdash! The Fed did not know…in fact on CNBC on Wednesday there was a comment about US banks rallying while European banks were in decline…no hint of trouble or why they were underperforming. But the reason TB knows the Fed didn’t know is that IF that were the reason the BoE (who quickly came to the rescue of Northern Rock) and the ECB (headed by the French Trichet), would certainly have acted in concert. Instead, only the Bank of Canada followed suit and that was a defensive move due to our being their biggest trading partner.
TB is sticking with his original hypothesis: the 75 basis point emergency rate cut was due to the Fitch downgrade of AMBAC and impact on derivative contracts. Seeing the sharp declines in Europe Monday while we were closed and the overnight markets Tuesday they decided they needed to act. That was the reason…whatever the reason some say the Fed merely accelerated the cuts so we should look for only a small cut at the next meeting…if so the stock market will be disappointed…got it? 
As for the fiscal package of $150B it is worse than bad…when two parties agree on anything this quickly it can’t be good  …especially in an election year. But the real reason is it fails to address the problem: credit!
By late afternoon the WSJ had a piece on what to do with that rebate…invest it! …and another saying don’t spend it yet as the IRS has to find a way to deliver it and are already bogged down with the AMT, which is causing delays in refunds that will also negatively impact the economy. Spend it when you get it!
L.A. Real Estate Market: By now you all know that for the first time since records have been kept home prices declined nationally by 6.0% (Median) over the past year as reported in Existing Home Sales yesterday. But the Nevada, and California markets are possibly the most vulnerable (now that Florida is out of the way) due to a huge building boom, flippers with multiple homes accompanied by subprime lending that was both imprudent and predatory. So TB got hold of his high school friend, an entrepreneur without a college degree but over 30 years experience in the market and one of the largest buyers of foreclosed property in L.A. County. We started talking in April and he was concerned by the prices and the high minimums at the foreclosure sales…pushed up by eager flippers. But by Memorial Day he was buying again  …selectively and there were 250 parcels on the block every day…and 500 on Monday’s. Gradually he turned less constructive as he has a lot of his that he has fixed up and rented – note all have a positive cash flow! He owns hundreds of properties. In September, his banker asked for a detailed list of the properties and all rental information…prior to this they only asked for a summary for his credit line. That too concerned him, as well as an associate who was seeing this as value and buying more and more property against his advice. That man was earning about $3 million a year but had $50k a month in expenses…homes in Cal. and Fla., yachts in both places, extensive car collection and even a plane. TB asked if he had heeded his advice to cut expenses down. Yes, he said…by selling the place in Florida, the plane, the east coast yacht and half of his car collection…and is still trying to cut back on expenses as although HIS rentals all have a positive carry the value is declining so rapidly that he is losing on both ends…even my friend is concerned although he still sees it as a time to be buying real estate for a recovery in early 2009! TB told him he thought he was being too optimistic and he added  …don’t buy yet…but soon when it stabilizes…he knows cycles so he may be right…or wrong…dead wrong. Then he said they had a record number of foreclosures at the auction on Friday, Jan. 4: 945! If it sounds hard to imagine that they could get thru that many in a single day consider the average parcel takes less than a minute and with most mortgages above the current market value only a tiny fraction are selling (and you wonder why Wells is holding on to their foreclosed properties?). Then he said he bought something: a $125,000 home equity loan for $1,000. Huh? TB asked. Aha…you want first dibs on the first mortgage then? No way…it is above the home value…so why did he buy the second? Because he can rent the house for two or three months and make money before the holder of the first forecloses! An interesting  idea and just something to keep him busy (he is semi-retired now), without a lot of risk. Now you know.
You want to believe him or Kudlow and the other geeks on CNBC…including Cramer who sees foreclosed real estate as a buy here!   
Hedge Funds -good or bad? TB received this excerpt from an email from one of his longtime readers:
“Making generalized statements like this: “Hedge funds running 10x leverage and funds of funds leveraging 10x producing as much as 100x.,” is driving me up the wall. 
I  work with 5 or 6 FOHF organizations and not one of them is leveraged, either at the fund level or FOF level.  In fact, in half of them, their beta exposure is 0.12-0.18 net versus 1.0 for the S&P 500.  The other half are a little bit higher.  So, I’m getting S&P 500 like returns for much less volatility.  Where do I sign?
Like mutual funds, ETFs or anything else, it comes down to one simple thing: CHOOSE WISELY.  Personally, I will take a good ole global long/short over a mutual fund or ETF any day.  And this is from a person who consults to over $2 billion of pension plan assets and uses FOHF wisely.”
TB wrote back:

“I appreciate your views…and while it is a generalization of course…there are a lot of funds out there that are simply overleveraged and not only that generated their returns mainly thru LEVERAGE not great investing skills.
But my point is that without that leverage…and wild use of derivatives…the subprime problem would never have gotten us in this mess…furthermore the speculative use of CDS which was meant as a hedging tool yet turned into a giant casino due to overtrading them…remember at the height of GM’s problems they were 90% of the CDS market…tell me that isn’t speculation.
On more than one occasion I have said that not all hedge funds are a problem and they do in fact make sense for the right accounts. But I do not believe that many of them are being selected for the right reasons any more than mutual funds are where investors chase returns. The old past performance rule.”
TB must admit to some envy of anyone who can charge 2% or more of net asset value and then claim 20-25%…or more of the returns, unless they go down and then they get just the 2% or more than double what a conventional manager makes and in the case of a FOHF you are doubling even that. But as he says by carefully selecting the right ones it can be a very profitable investment. Problem is how many have the knowledge and access to information to make such an assessment? TB does know that without leverage and Wall Street creating derivatives on flawed premises 6% of the mortgage market would never have escalated to a global problem…and we still don’t know where all the skeletons lie. TB believes a good conventional money manager given the option to hold cash and utilize options strategies can produce similar returns with less volatility…but that remains to be seen…and proved.
 

Final Notes…finally! This morning the NY Times endorsed Hillary Clinton and to a lesser extent John McCain, saying we need experienced people…do we need any more Clinton’s or Bushes though…TB thinks not. They liked Obama except for the lack of experience and loathed Giuliani as does TB. As for Romney, they said he has flip-flopped so many times they can’t figure out what he stands for…if anything.
OK, the long awaited humor. A friend sent this phony article to TB yesterday:
Moody’s Places Itself on Negative Credit Watch
Washington – Moody’s the rating agency, has placed itself on negative watch, citing it’s horrendous track record at rating just about everything except t-bills.
TB would add S&P and to a lesser extent Fitch to this. Both Moody’s and S&P prior to 1980 had a record of rating similar credits lower if they were west of the Mississippi than east of it. For example Palos Verdes, Ca, one of the wealthiest areas of Southern California was rated Baa for decades, literally. Why? Because when it was being developed during the Depression it defaulted on its debt! It is that sort of backward thinking that has gotten them both where they are. They both missed the 1974 NYC bankruptcy which was saved by big MAC (not the McDonald’s variety), Philadelphia Schools, Washington Public Power Supply System, and lastly Orange County by not examining that huge leveraged investment pool. Even worse are the monoline insurers who charge a healthy fee to insure municipal bonds that don’t need insuring so there is virtually no risk but managed to screw up by insuring derivatives and worse putting them in their own investment portfolio…you reap what you sow!
Sorry about the length of today’s missive but hope you found it both useful and enjoyable. Please send any comments, good or bad as they are much appreciated.
Enjoy a well-deserved weekend! 
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 24, 2008

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1/24/08…the real deal?

January 24, 2008 at 5:31 am · Filed under economy, financial, markets ·Tagged , , , , , , , , , ,

…that is the question that is…or should be…running around every investors mind. After all, if the selloff that began in the US Friday and was augmented in the global markets on Monday while the US played, and then continued and worsened by Tuesday was caused by a mere credit downgrade of AMBAC, a monoline (municipal and derivative insurer along with MBIA, FGIC and several smaller players), couldn’t the 360 point drop in the Dow yesterday before rallying back to a 302 point gain and closing just 3 points below it (Tuesday it fell 565 but still closed -124) have been some sort of a capitulation trade?…especially since financial stocks rallied so much (see summary below?) and the apparent catalyst was some form of rescue package for the…monoline insurers? Well, yes…but no.
First, one has to consider the structure of a monoline insurer. There are two components: the good, municipal bond insurance with huge reserves since they have had few if any claims…and only have to make the debt service payments until the issuer is back on its feet in a default (bankruptcy  …remember Orange County…or NYC? both came back from the dead), so there is little risk there, just an annuity of revenues from qualified issuers seeking to broaden the number of buyers…in an era of loose credit furthermore, most buyers of muni’s do not research them so it provides comfort  …for 0.25% per annum of the outstanding bonds…a license to steal; second is insurance of derivatives…you know, the ones we created on Wall Street and exported to the rest of the world creating this mess…these were used to “insure” the contracts so highly leveraged investors (read hedge funds) could be accepted as a counter-party. All well and good (?) until the credit crisis reached this stage after it was found that our revered rating agencies failed in their mission…with the help of the originators of course. Then as was pointed out to TB these insured contracts had clauses such as the right of rescission if one of the counterparties lost 50% of their net asset value (perhaps this is the source of Jim Cramer’s ’plan’ that the government should create a pool and a floor of 50% of the value of each and every CDO contract…please, Jimbo!). Importantly, it is the right, not the obligation to rescind the contracts so much as a bankruptcy judge would lift the profitable leg and make the losing one a general creditor, so it is with these contracts. Why would you rescind a winning contract (except to force payment) while the losing one is a no-brainer, and poof!…there goes that ‘perfect’ hedge.
So perhaps now you see why some sort of rescue plan was welcomed with open arms by the market. More correctly, short covering of financial stocks occurred while the winners of yesteryear, Amazon, Apple, Google, and RIMM took big hits along with other lesser winners while also continued to slide. Past performance is no guarantee of future performance  …especially if you kind of cooked the books at the end to keep the game going by shipping out product that wasn’t ‘quite’ needed (AAPL, RIMM), or provided costly free shipping past the cutoff for land delivery just to boost sales (AMZN)…amazing?
It is this dichotomy that concerns TB that the rally was not Memorex. That said, it might be a good time to rethink the financial sector (although TB has no inclination to buy brokers  …the only one he likes, Schwab, is too pricey), and look at the companies that are good but guilty by omission such as US Bancorp, or Provident Bankshares (which KBW discussed very positively yesterday), and TB actually succumbed to buying both (that’s simply disclosure not a recommendation), minutes before the close sadly well above the intraday spike down to new lows! He also bought AT&T which is trading way below the levels it was at when the iPhone deal was announced. What do all of these have in common (and they are just representative not the only ones out there)? DIVIDENDS and Solid Dividend Yields! To TB’s way of thinking that will get you thru…so long as the stocks have been pummeled and the p/e ratios and PEG are in line and the dividend has been increased, not merely maintained. AT&T (T) fell short of TB’s goal of a minimum 5% (4.68%) but historically reinvesting that dividend has been a highly profitable trade…due to the 15% dividend tax the best bet is to buy them in taxable accounts so that the whole thing isn’t taxed as ordinary income when you withdraw from your IRA/401(k), but it still works. 
TB still likes bonds and was tempted to add to his long zero coupon treasury positions (only in tax deferred accounts!) as the compounding at the yield at time of purchase does wonders in a period of declining yields. But what goes up, must come down if rates rise but that could be years away, no?  
   
So the quandary is…do you buy now and hope the worst is over…or do you wait? The one thing you cannot do at this point is sell…it is far too late for that…unless you want to lock in some gains to offset losses (i.e. Google, RIMM and Apple)  …and that appears to be just what the smart money is doing. It is very rare for a leader one year to be a leader the next and at the prices and multiples these stocks trade at even after giving back more than a quarter of their entire rally gains, it is even more difficult. Ask Bill Miller, the Legg Mason fund manager that set a record for beating the S&P 500 consistently…but in 2006 he held on to his big winners mainly Amazon which destroyed his winning streak…only to come back last year. Of course that brings up another caveat: invest for the long run…but if you are a baby boomer keep in mind that could be another 10 years…already we are in trouble over the last 7…8?
TB felt it was important to comment on this after being bearish for so long…to avoid the label “even a broken clock is right twice a day.” But that does not mean he is a raging bull…or even cautiously optimistic…but he does feel that for a ’select’ group of stocks it could be a good time to buy  …especially with so many stocks down 20% or more from their highs (of the ones TB purchased: T -13%; USB -14%; Provident-PBKS -44% and 48% for 12 months…again these are NOT recommendations!).
The areas where TB disagrees strongly with the pro’s are retail (consumer discretionary, technology, and most financials – those that have been beaten up and deservedly so…money center banks, brokers, housing). This commentary was not designed to convince you of anything…merely think for yourself.  
Yesterday, a reader wrote that after reading the column he had contacted his lender on his fixed rate home equity loan and asked if there was anything he could do about it…they cut the rate by 1% instantly. This is what TB has been talking about: banks have few fixed rate loans as a percentage of their portfolio and when rates drop these become extremely vulnerable. Add this to the increase in non-performaing assets and ask yourself: where will the replacement revenues come from? Do so, and you are smarter than 98% of the analysts on Wall Street!
The best of luck to you all,
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 24, 2008

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1/23/08…an Apple a day

January 23, 2008 at 6:33 am · Filed under economy, financial, markets ·Tagged , , , , , , , , , , , ,

 …Apple disappointed last night and that will likely be blamed for the problems we encounter today, but like yesterday we have no further to look than the problems of the monoline insurers and the mountain of derivatives in weak (read highly leveraged hands). Apple is an innovative company with a string of one trick ponies. The first, the iPod was morphed ad nauseum and the second, the iPhone which started with the usual Apple fanfare is waning, while all they can bring to the table now is an ultra thin notebook at $1,500…only wealthy need apply…a year ago corporations would be buying them. These accomplishments should not be understated but for a tech company, and one that along with Google, Amazon, and Research in Motion (RIMM), delivered the lions share of the earnings last year, should it still be trading at 34x earnings (31x expected earnings) and is still up 82% over the past 12 months despite having fallen 22% just since 12/26/07. That is why a miss by Apple is significant. Apple opening -12%!
But Apple is merely symptomatic of the depth of the problems the markets are facing. All four of the aforementioned four horsemen have given up more than 25% (below the first Fib retracement) of their gains of the past five years (forget about since the 2000 crash). RIMM is the worst having given back
more than 38% (second Fib and major support), and will likely disappoint when they release earnings if Fred Hickey’s analysis is correct that they were shipping way more units than are being connected in the third quarter! Even the venerable Warren Buffett is not safe (beware of anyone telling you there are defensive stocks n a rout…a rout’s a rout), as Berkshire is also down at the 23.6% Fib of the past five years from it’s 12/14 high (still up 26% for 12 mos. but -4% since the high). Utilities, the best performer of last year (+8.3%  …11.6% with dividends reinvested) are down 11.9% since their 12/10 high. Yesterday, at the low set right after the opening,11634, the Dow was just 27 points above the 38.2% Fibonacci retracement of the rally of the past 5 years. Minor support at 11,600 and critical support at 10,800 (50% retrace) to 11,000…psychological only.
What, besides the problems cited yesterday has allowed this to happen? Since the late 1990’s the Fed has failed us…ignoring a stock market bubble and at the same time applying marginability to any Nasdaq listed stock…in other words the day after the IPO…at a time when stocks were routinely doubling on the first day of trading following the IPO pricing! Meanwhile the SEC too was asleep at the switch allowing all those scandals like Enron, Worldcom, Tyco and more…a total failure of responsibility. Then at the expense of the good companies Congress enacted Sarbanes-Oxley, a law to end all corporate fraud. Do you really feel safer?…are you happy that Elliott Spitzer lined the coffers of the great state of New York with fines for corporate wrongdoing while the shareholders got zip? When will they learn? Wonder why so few want to invest in stocks (outside their 401(k)’s of course), and why ETF’s are so popular?
But the cause of the current malaise (magnitude that is, not the underlying cause of over-leverage and poor credit policies…read: greed), falls right in the lap of the SEC. A friend went to USC with Chairman Christopher Cox…and was upset that TB referred to him as a failure…never said he wasn’t a nice guy or a good man…just not the leader we need there! He allowed naked shorts to run for years before putting on a Band-Aid…by the time they acted, to have required all shorts to be collateralized with borrowed stock would have been disruptive of markets but rather than phase it in they gave way too long a period to borrow the collateral and the street as well as hedge funds are playing it to the hilt.
But the worst was their Fourth of July extravaganza…the total elimination of the uptick rule. TB warned of this shortly after the 7/3 enactment when he noticed volatility rising. At the time, volatility was running along the 40 day moving averages so it was benign…but by July 24 it was rising rapidly…from 15 to 37.50 by 8/15 the stronger Nasdaq 100 allowed the VXN to rise from 18 to 34.70 but since has jumped to 40.77 as of yesterday)…if you recall the stock market collapsed during this period. Since then the market had two more significant rallies and one short, sharp one ending on 12/26 and over the entire period volatility never got below the 200 day moving average again.
So, you say? Just look at the volatility of the past 6 months since the July 16 highs…you don’t have to look at the daily ranges and point declines which have broadened in each selloff. The declines that began on Dec. 26 (TB’s birthday) were big thru yearend…especially on a seasonal basis, but what we have seen since Jan. 2 is truly remarkable. To TB it is due to the elimination of the uptick rule (or is it as the reader suggested a conspiracy of sovereign emerging market funds to drive prices lower so they can invest in our financial companies well below market), or is it deleveraging?
It appears to be the ability to short now and cover later…AND to ‘pile on’ by selling and shorting to drive weak stocks down even more. A hedge fund manager friend complained about the downtick rule since there are several managers at his fund and why should he be prohibited from shorting when another manager might be long…this is apparently the logic the SEC followed. Now we see the problems with this…once the momentum is down a stock…and the indices get hammered  …of course in itself this would be self-correcting but when hedge funds are forced to deleverage due to the evaporation of the yen carry trade as well as their derivative problems  …meaning seeing their hedges evaporate…you have a major problem and one that won’t cure itself. Why couldn’t we have just let the speculators use the options markets if they wanted to make bets…not the stock market which represents savings of long term investors? Perhaps TB’s wife is right: it’s a casino  …and it’s just gambling. Groan.
Now let’s discuss that emergency rate cut and its implications  …TB believes this is only the fourth in TB’s 36 year career (as of 2/1)…first was Volcker’s Saturday Night Special…a massive tightening; then Greenspan following the ‘87 crash and again in ‘98 following LTCM’s collapse. These are ’shock’ moves that are designed to send of message of severity of a problem or to instill confidence in the Fed. They do not of themselves solve anything. In fact, one could argue all it did yesterday was postpone the inevitable but at least it provided time to think…as for the fiscal stimulus it is woefully lacking of size or content.
Yesterday, Bank of America and other banks cut their prime rate following the Fed’s move to 6.5% (TB’s home equity at Prime less 76bp’s dropped to 5.74%). Moody’s placed their debt on review and despite their rising loan losses, credit card delinquencies, and non-earning assets the bank said this will improve their profit margins? Huh? Just what percentage of a banks portfolio (especially BofA who learned the hard way in the 80’s and 90’s about borrowing short and lending long), is in fixed rate loans?
Also their Q4 earnings declined from $5.26B a year ago to just $268 million, but at least their dividend which was raised by 14% following Q3 is not in jeopardy and the indicated yield is now 6.4%…contrast to Citi which would have been 8.85% had they not had to cut the dividend to 5.25%…while Wells has an indicated yield of 4.6% (but will have some home equity shocks to come…still dividend is likely safe).
But the big concern to TB is JPMorgan Chase due to their huge derivative exposure which TB feels will sink them as we begin to focus on counterparty risk which will dwarf the subprime debacle. By the way, JPM’s indicated dividend yield is just 3.72%!…hello? The stock is -18% (15 % with dividends reinvested) over the past 12 months, and 13.8% just since the 12/10 high…do your own research but TB wouldn’t touch it with a ten foot pole…unlike Citi which has been so beaten up, JPM a short?
So stop listening to what you hear about financial stocks being a buy…they are not…yet. Same goes for real estate and housing stocks…yesterday, Jim Cramer said he is considering starting to buy at foreclosure auctions…must be listening to too many of those dis-infomercials on CNBC. How can foreclosed real estate be a buy when you have all those 100% loans that are underwater backing most of the foreclosed real estate? TB’s boyhood friend in L.A. who is (was) one of the largest buyers of foreclosed property in L.A. would scoff at Cramer’s suggestion…TB will try to reach him for an update today and report on the situation there…imagine 250-500 pieces of R.E. on the block every day?…and only a fraction of those selling! WFC said they were holding on to their foreclosed real estate…for how long?…and what if the amount keeps rising which it surely will…those are non-performing assets, right?
Sallie Mae (SLM), the student loan lender just reported: their origination’s in 2007 topped $25 billion, $5 billion in Q4, BUT they had to increase their loss provision by $575 million ($750 million on a ‘core’ basis)…turning their ‘core’ profit into a loss of 36 cents a share…vs. consensus for a 55 cent gain…who pays these analysts so much to do such shoddy work? For 2007 they earned $560 million, core, vs. $1.3B in 2006…and look at the rate of decline…never a borrower or lender be…TR 12 mos: -57.5%.
It has just begun to get ugly so beware of what you are investing in, especially cash…SIV’s a no-no! Above all, treasure liquidity! Cash is indeed king again…after a long respite! Good luck to you all.
Sorry to be so negative but TB refuses to paint over the bad news to make you feel better now and sick later…all the best! 

TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 23, 2008

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1/22/08…revulsion to the mean/precipitous plunge

January 22, 2008 at 5:36 am · Filed under economy, financial, markets

The Fed just made an emergency cut of 75 basis points in the Fed Funds rate (to 3.50%) and the Discount Rate (to 4%). Any bounce to stocks off this will be brief and mainly shortcovering. This is causing the bond market to give up ground on the long end especially and the dollar is now falling. Stock market losses have been cut about in half. Caution! TB 
 …those are two separate titles. Revulsion was the original based on Friday’s selloff that had 1342 new 52 week lows and just 52 new highs…coincidental like the 666.66 low Friday on the Russell 2000. Yesterday TB got up and did some research on Bloomberg noting the precipitous drop in the global markets while the US markets took the day off. This morning he turned on the market to see the Dow futures -535 points!  …couldn’t find what the limits are now but that is huge in any market but especially overnight trading. Take a drink of coffee before you look at the overnight markets section…and be sitting down! The only thing ’similar’ to this that TB has ever seen is Oct. ‘87…but this is no 1987 crash…which was over almost before it began…this is what happens when you experience incredible leverage allowing credit default swaps alone to rise to $46 TRILLION. Here are some other causes that TB has discussed at length.
*Hedge funds running 10x leverage and funds of funds leveraging 10x producing as much as 100x.
*A housing market that had become an ATM for home owners to replace their equity with cars, vacations and most of all debt.
*Wall Street that aided and abetted (don’t forget the commercial banks role in this), the destruction of credit thru flawed assumptions that they were diversified and then hedged with derivatives like CDS.
*Regulators from the Fed to OFHEO (GSE regulators) to bank examiners to the SEC being totally derelict of their responsibilities in their zeal to replace one bubble (stocks) with another (housing). There are no more bubbles to create.
*The strength of the yen causing an unwinding of the yen carry trade and that is happening in spades now. It is this deleveraging of incredibly leveraged markets that means that there is no safe harbor…except government bonds…for now.
On Friday, Bush in an impromptu press conference prior to leaving the Middle East said the economy is healthy but could experience a slowdown…is he the last man on the face of the earth to not get it? Then Treasury Secretary Paulson and Economic Advisor Lazear in an almost Laurel and Hardy half hour press conference (waste of time), that yielded no details of their plan. Any stimulus package will be too slow and so far is way too small. Now do you see what was wrong with making those temporary tax cuts to avoid a recession in 2001 permanent? If a temporary cut can’t be eliminated for fear of being accused of raising taxes (remember that Kudlow and Laffer) think zero is the right rate…and the rich get richer and they say the Dems are guilty of class warfare? they created it!
Meanwhile, CEO’s strip the assets for their own game while the stewards (the board of directors) sit back and give them all that they want…at the expense of the employees and shareholders. Where else but America can the CEO of a company that is on the verge of bankruptcy due to its own creation of bad loans while the CEO/founder pulled his money out by selling stock even as the price is plunging. Now that CEO, Angelo Mozilla, is going to reap perhaps $100 million as the company is rescued by Bank of America…not so fast Angelo…with the declines now BofA is rethinking the terms…good news except that too takes confidence out of the markets. Also, foreign sovereign investors are pumping in capital to our largest financial institutions…and Schumer, Rangle and others who were opposed to Dubai running our ports are greeting them with open arms…so long as they don’t exert control. What? If a few hedge funds can force management to do their bidding…stock buybacks instead of paying dividends for example…you don’t think a long term investor with a significant stake can apply pressure? Are we nuts?
A friend made an interesting conspiracy theory comment: what if the sovereigns are selling stock to drive the price down so they can then put in more money at a much cheaper price…certainly cheaper than any other investor can…they buy at a discount to the market value, with more perks and the price is adjusted down if the stock price continues to decline or the company has to raise more capital. What the @#%$?
Lastly, there is Jim Cramer…veteran of two incredible and irresponsible rants against the Fed…and now his very own solution to the problem…guess the movie about him, Mad Money has empowered him. TB has to wonder how empowered he will be now that his disciples are losing their money? You go, Jim!
In one sense TB agrees with him. As stated last week, Bernanke’s problem is he wants to be liked and believes that to do that he must provide a roadmap to Wall Street…totally counter to Paul Volcker who just did it and Alan Greenspan who never made a statement that anyone understood…they just thought they did! But Volcker brought us 30 years of low inflation and prosperity while Greenspan reacted positively to the 1987 crash but clearly recognized yet failed to act on the two biggest bubbles the world has ever seen…the last one dwarfing the first.
Lower rates take off some of the pressure but they do not, will not, and cannot stop deleveraging!
When TB got up he was going to predict a down day…then he saw the overnight markets and knew that was a given. The rate cuts by the Fed…will other central banks like BOE and ECB follow suit…were a good thing but more like a bandaid. While it is going to be ugly today and may even get uglier, TB recalls being paralyzed in the Oct. ‘87 crash…and that was the right thing to do…panic will not help…stay calm!
TB
Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 22, 2008

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1/21/08…global meltdown?

January 21, 2008 at 2:28 pm · Filed under economy, financial, markets ·Tagged , , , , , , ,

Woke up this morning and with US markets closed for MLK day decided to check global equity markets…unbelievable. Look at this: Sovereign Bonds rallying 1/2 point or more on average. UK’s FTSE -7.3%; French CAC40 -6.8%; German DAX -7.2%; Nikkei -3.9%; Hang Seng -5.5% (Shanghai -5.1%; Shenzhen -4.6%); Korean KOSPI -3%….India’ SENSEX -8%!

This does not bode well for tomrrow’s US opening!

Copyright 1/21/08 TBD Capital LLC 

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1/18/08…worse than bad

January 18, 2008 at 6:08 am · Filed under economy, financial, markets ·Tagged , , , , ,

(Mea Culpa: TB has to retract the Volcker comments yesterday…it is possible he misheard them on CNBC but in any event was unable to find a source…humblest of apologies. TB)
…coyote ugly? CNBC is amazing as this morning the ’squawkers’ were talking about the selloff on the Bernanke testimony…it more or less drifted down during his rather dovish testimony after a good opening of up about 50 on the Dow. No, the cause of the real selloff was more worries on AMBAC which fell 52% yesterday and MBIA (-31%). AMBAC cut its dividend and said goodbye (nicely compensated no doubt) to it’s CEO due to bigger than expected writedowns. A loss of their AAA/Aaa rating effectively puts them out of business. So? If they lose that rating even more bonds will be downgraded…and insured muni’s would face a selloff as holders (mainly corporations with debt covenants) are required to hold only Aaa rated paper. Of course, this opens the door for Warren Buffett to scoop any or all of these insurers cheaply (Berkshire Hathaway rallied all day yesterday and closed +2.9% on the day), but overall insurance companies fared poorly with the sector declining by 2.6%… almost as bad as Banks -2.9% but nowhere near the damage to brokers who fell 5.5%.
On the government supported enterprises (GSE’s), Fannie Mae and Freddie Mac, both had just gotten above their 40 day moving averages after bottoming in November and then sinking again since the beginning of the year. TB still feels they are best to avoid. Yesterday, two friends called into question TB’s criticism of the preferred stock issued by both, with one stating that the call protection on the Freddie as well as the coupon were better…which is true but TB could not find the prospectus on Bloomberg while he did find the one for Fannie Mae. Is call protection relevant on a quasi-governmental corporation(s), or is a higher coupon relevant if there is a risk to the coupon even if they have the resources to pay the dividend yet are under the control of OFHEO who can override any of their wishes. Also, these two companies have earned the ire of Congress not once but twice or more so don’t expect too much sympathy from them. TB’s other concern is that neither has a cumulative dividend so that it is possible to have those 8.375% and 8.25% coupons reduced or eliminated in some cases and the five and three year call protection respectively become a burden. After the first call date, they are continuously callable after that they pay the greater of 3 mo LIBOR plus over 400 basis points or 7.875%/7.75% respectively. IF TB could be assured that the dividends will be paid (actually if they pay just 2 of the four quarterly dividends you are doing fine…except if you know preferreds you know they are not a bond and that despite now trading at a 4% premium to the $25 par, they could fall sharply. TB is not saying they are a bad investment…merely that they are more speculative than they appear. The FNMA preferreds let them retain the right to issue more that could be senior to this issue…since TB doesn’t have the prospectus on the FHLMC he cannot attest to these issues but would fully expect them to be almost identical boilerplate as the terms appear. Dilution of stocks, both common and preferred, is not being fully considered by the analysts…in fact it is being largely ignored… why is that?
Utilities are not bonds, preferred stock is not a bond, and common stock dividends are not guaranteed as we can easily see of late. Even Aaa investment grade corporates are not the same as Treasury bonds in an uneasy market. Furthermore bonds have covenants for protection…of course we have even diluted this with ‘covenant lite’ bonds detrimental to long term investors…but who cares if you are a hedge fund who merely wants to trade them?
TB went to San Francisco yesterday for a nice lunch with an old (long time, not age) friend at Sam’s. It is so nice to see that some things never change…despite Sam’s having been sold…it is the same as when Herb Caen used to go there…sans no more John as maitre d’, first replaced by a young lad…and now, sacre bleu!…a woman!…and there are more women dining there than before…some change is good.
On the way in on BART he grabbed a handful of his reading, one of which was Merrill’s David Rosenberg who gets no respect…TB can identify with that! But Rosie has been right on this…perhaps it is his Canadian background that makes him sound bearish even when he is bullish…by our terms. He has many of the thoughts of TB…concern over CDS, credit cards and auto loans, and also pointed out an article on USA Today once again bringing up the demographics of the housing market with more and more babyboomers retiring and less demand (or resources to buy these homes since they are intent on spending their money before their kids can get their hands on it). This is a reversal of a trend since 1990 that is just beginning to tick up. He also points to the fact that far too many investors remain bullish on stocks (and bearish on bonds) as indicative that the bottom is not in…he thinks we are only about half way there. We used to talk about ‘reversion to the mean’ on stocks but that has been dissed… well it is coming back now and in spades. He also ran a ratio of the long term trend in real estate assets to non farm payrolls and whereas since 1965 it has been a long term trend that is roughly about the same as the growth rate…it is now off the charts suggesting that real estate prices could fall 25-30% more nationally.
Get a grip and keep your finger off the trigger…instead look for stocks that will benefit going forward – and money managers, mutual funds, and ETF’s that can deliver. Note TB did not mention hedge funds because a major portion of their returns was due to massive leverage…think risk/reward!
Hope you all have a realaxing weekend after a taxing week and there will be more to come.
All the best,
TB

Trader Bill thinks it is clear to anyone reading these missives that they are merely commentaries…as he sees it…and in no way reflect the views of anyone other than himself. Information is gathered from sources he has found reliable, but no guarantees of accuracy are implied. No fee…nothing to sell…merely observations of events in the marketplace offering a non-mainstream viewpoint…sometimes…usually? Hope you find it useful.
Copyright TBD Capital LLC January 18, 2008

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