They might have overpaid

Last year a consortium of banks took over ABN Amro. Barclays made the first bid (67 billion euros). Then a couple of weeks later RBS, Fortis and Santander put a bid out for 70 billion euros. That bid was accepted and the banks split up ABN geographically. Fortis got the Dutch and Belgian operations, Santander got Brazil and Italy (the better part of the deal) and RBS got ABN's wholesale operations as well as Asia. At that time it seemed like a ridiculous (not smart) deal. Today, it looks even worse.



Source: EconomPic Data

THE BOTTOM: I'M CALLING IT.

7,550 is the lowest we'll see on the DJIA in 2008/9. While I've always been hesitant to throw my guess alongside everyone elses', I truly believe we've established a market bottom. I do, however, believe we will re-test the low at least once before establishing the uptrend that will lead us out of this bear market. As such, I've sold DIA JUN 75 puts.

Heebner's Bold Move

According to filings with the SEC, mutual fund legend Ken Heebner has put his confidence behind the auto bailout plan with a nice stake in Ford Motor Co. (NYSE:F) via his high-flying CGM Focus Fund (CGMFX). Heebner, known for his ~80% return in 2007, runs CGM Focus much like a hedge fund; he invests in companies of any size, anywhere in the world and goes both long AND short.

While I find it difficult to bet against such a coveted fund manager, his position in Ford is pretty hard to justify. If his position was claimed on the September 30th 13F filing, he must have built it up prior to the end of September, at which point Ford was trading in the $4.50-5 dollar range, far above its $2.95 close on Friday. Has Ken joined Legg Mason's Bill Miller on the "Hot-Gone-Cold" list? I don't think so. With $5B in assets in CGM Focus, a mistake here and there is bound to occur.



Disclosure: I have money with CGM LP.

MBA? No way.

For all those thinking about their future, it looks like you can take "MBA" off the "MUST DO" list.

PE MBA

Oh the Irony...

Watch your wallet boys and girls...

Visa's credit card thief

U of M hit by credit crunch.

That's right ladies and gents...the Univ. of Michigan has made a "follow up commitment of $40 MM" to a credit fund run by Bain Capital affiliate Sankaty Advisors. The firm, most recently known for it's huge losses which forced it to raise new capital, has supposedly been asking current investors to pony up cash for margin...
Check out the minutes of the most recent meeting of the Regents for more info.

UK Deflation? One Hedge Fund Thinks So

*gasp* Justin is posting on the blog? *gasp*

Yes, yes I am, and this time my appearance doesn't have to do with me making fun of an investment bank.

So, more to the point, Ecletica Asset Management is a London based fund that is up over 35% this year. Yes, that's right, I said up... double digits. Not to be confused with Citadel's October performance. So what are these guys doing to make money is such a terrible investing environment you ask? Weeeeeell, recently these guys picked up a large number of British WWI perpetual bonds with 3.5% coupons. They did this betting that the global recession will have a very negative impact on the UK's inflation rate (which currently stands around 4.5% mind you). So, now you're thinking to yourself, why are they buying WWI bonds? Well the reason for that is simple. Being perpetual securities, these things have reeeeeeally long duration, which is a fancy way to say they're way more responsive to interest rates than normal bonds are. So, if and when the inflation rate falls in the UK, the yields on these should decrease causing prices to rally substantially due to the high duration of these bonds. Hugh Hendry, the guy who runs this fund, said, "If you have a deflationary shock, the only instrument that will perform will be government debt. Inflation is going to be back some day. But forget the next 12 years; it’s the next 12 months that matter." So? Get short some long term fixed income securities anyone?

Looking to Put Money to Work? Here Are Some Thoughts.

I've gotten a number of questions regarding places to put money. Stocks are beaten down, so are bond yields. What's an investor looking to put money to work for 2-3 years to do?

1. Calpine (CPN)
- This utility trades at a HUGE discount to its enterprise value, likely due to investors attempting to front run expected liquidations by CPNs HUGE hedge fund/ private equity holders.

2. Shaw Group (SGR)
- This Jim Cramer favorite has a great backlog (a few BILLION), yet trades near its cash holdings of a bit above ONE billion. This stock, likely beaten down due to its major hedge fund holders, has a diversified group of businesses and will be a TOP rebound candidate once markets turn.

3. Agency Capital Corp. (AGNC)
- This American Capital Strategies (ACAS) affiliate invests in Freddie, Fannie and Ginnee Mae paper which, due to recent government guarantees, should trade like treasuries. Dislocations in the market, however, have created shocking opportunities to invest in guaranteed securities, which AGNC does on a leveraged basis. Huge >20%+ yield.

4. Mosaic (MOS)
- This ag favorite is trading at the same price it was in early 2007 when sales AND prices were lower. At this price, growth expectations make this stock hard to pass.


If you're in it for the long run, it's going to be hard to bet against these plays.

How far we've come.

“Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate … purge the rottenness out of the system”

- Andrew Mellon, Treasury Secretary under President Herbert Hoover

Citigroup: RFP for Lunesta

Justin Killion: You know what Citi needs?
Evan Plisner: Money and a reverse stock split?
JK: Nope
JK: Sleep.
JK: Otherwise their insomnia is going to turn into a dirt nap.

Overshot Pt. 2

Those who think oil prices are sustainable in the $40s are just as crazy as those who thought oil was worth buying at $150 (Goldman Sachs). If I may introduce the concept of economics and the "invisible hand of the free market": As oil prices decline, fewer pipelines are filled to capacity, rigs are taken offline for maintenance, and overall production decreases, reducing supply and moving prices back up. This is, of course, without the eventual return to global growth vis-a-vis EVERY COUNTRY IN THE WORLD. Ladies and gents, while oil may trade as low as $40 before year's end, don't expect it to stay that way for long...better fill up now.

EP

Yield Curve, Quantitative Easing and CMBS

Last Thursday, the treasury had quite a poor auction of 30-year bonds. Yet over the past few days, we have seen an unprecedented spike in the price of the very same long-term treasuries. I have read some speculation that this could not occur and is largely short-term for various spurious reasons. I contend that this is a result of the Feds recent admission about the reality of quantitative easing despite the fact that informed speculators have claimed this as the only inevitable policy for quite some time. Besides the fact that the Fed seems to have completely lost control over the fed funds rate (see image, blue is target FF, red is effective FF), it appears to have decided to embark on a path of quantitative easing. This is precisely what Japan had to resort to after its asset-bubble burst. The fundamental idea is that with short-term interest rates so low, any further reductions have very little, if any, affect as stimulus. Accordingly, the central bank rapidly increases the money supply to prop up asset prices (avoiding deflation) and aims to decrease long-term interest rates (to effectively avoid a liquidity trap). Also, under a policy of quant easing the Central Bank tries to grow its balance sheet by increasing the amount of bank reserves held with it. (Interestingly, some Fed papers have concluded that quant easing largely failed in Japan.)

This is all in favor of a flattening yield curve. But wait...theres more! As the Treasury shifted its TARP investment away from ABS, they (even investment-grade CMBS) have simply collaped in price. Accordingly, Dresdner (via FT Alphaville for us non-Dresdner clients) notes the possibility of increasing use of +10 year treasuries in convexity hedging for MBS. Since most mortgages are ~30 year it seems to me that even later maturity treasuries would be used, particularly since most of this securitization came from the hay-day of the 2000s. (I know very little about convexity hedging, any help with this is appreciated!).

Being as I'm not an expert on any of these subjects, all comments, questions, and criticisms are welcome. If you're reading this, stay tuned for a post on the USD sometime soon. Think third-world-style devaluation.

Disclosure: As of this writing, I intend (though may not) take a position in long-term maturity treasury bonds.

The Market Remedy

The major indexes were down at least 5% today bring them down to the lowest level we have seen in many years. No one is really sure what is going to happen next. Personally I thought we would see more resistance when the Dow broke below 8000, but the selling continued throughout the day. If we are to get out of this mess we need to start fixing the problem areas of the economy. Housing, housing, housing! I get sick of all this talk about the auto industry when we need to consider solving the problem of foreclosures. This is trickling down to the banks which is freezing financing which leads to higher loan rates for consumers which leads to less spending on things like autos. Liquidity in the market for MBS related products is non-existent which is causing distress in the financial sector. TARP was signed into law to hopefully combat this liquidity problem but now it has been announced that TARP is on hold. Why make all the fuss for the bill and then not follow through? I just don't get it and now we have Congress basically just waiting until the next year when they will be able to pass legislature to their liking. Market intervention is the preferred avenue to correcting the economy, but maybe we should just sit back and pass the steering wheel to the Adam Smith.

Mark Cuban

If you haven't already heard, Mark Cuban has been accused of insider trading by the SEC. It is alleged that he sold approximately 6% of Mamma.com back in June 2004 after getting some information from the CEO about a PIPE (private investment in private entity) financing. The company announced the financing in order to raise capital but through this financing existing shareholders are diluted which is why Cuban wanted to sell in the first place. He apparently sold the day before the announcement and saved some $750,000 in losses.

He also runs a Web site called Sharesleuth.com, which bills itself as providing "independent Web-based reporting aimed at exposing securities fraud and corporate chicanery." -CNBC

That is pretty ironic. Cuban obviously denies the charges brought against him, but the evidence seems pretty clear. If it took 4 years to discover this I am going to bet that they spent a good deal investigating the case. No matter what happens, I just hope that his legacy isn't ruined. I mean, he's been ejected from more NBA basketball games than Joe Dumars, and who could forget his Dancing With the Stars performance.

Citigroup Cuts 53,000 Jobs!

It was announced officially this morning that Citigroup is going to cut its labor force 20% from its peak of 375,000 employees in 2007. In October, there was an initial round of job cuts and more were expected given the market in the last 3 months. But I don't think anyone expected this many people. The hard line stance from Vikrum Pandit is bold, but it may pay off. Citigroup needs to reevaluate the way they do business as many bets against mortgage related securities have soured. Stronger competitors have emerged and will begin to take market share away from Citigroup if they don't make changes. I think this is a step in the right direction (Yes it sucks for the people losing their jobs). In hard times, firms need to be agile and adaptable in order to emerge a better company. With less employees they will be focusing better on the areas of business that have the best margins. Also I think we will start seeing the other banks (JP Morgan, Wells Fargo, B of A) do the same. It's impossible to maintain employment levels from an economy growing at 3-5% when currently there is negative GDP growth. If production levels are down then less labor will be needed to provide the goods and services.

TRS: Bad News

The Total Return Swap, or TRS, allows an investor to gain exposure to the economic return of an asset without actually holding the underlying security. The swaps, often used by activist investors, allow funds to gain economic control of a large number of shares in a company without largely disclosing their stake, as they do not technically own the shares, simply an investment tied to them. The flip side of this is that the bank with which they enter into the swap agreement hedges their exposure to the swap by purchasing the underlying shares.

My thoughts, however, are that TRS's tied to leveraged loans are actually artificially depressing loan prices. Because the banks issuing the swaps linked to the loans already have huge inventories of the securities on their own balance sheets, it's simple for the bank to simply set up an entity to purchase the loans on behalf of the swap-issuer from the bank (yes, a bank subsidiary purchasing loans from its parent). By doing this, there is no need for purchases to take place on the open market, therefore preventing large buyers from stepping into the market and providing bids.

How did AIG get stuck with all these CDSs

A question a lot of people are asking themselves is why such a strong (?) company like AIG gets stuck with so many CDS contracts. Well, here is a great post by Blogonomics explaining that AIG was essentially collecting free money by writing protection on CDOs that they assumed would never loose their value.

You don't need to know about CPDOs or about the spread between CDS and bond yields in order to answer this question. It's much, much simpler than that. The fact is that AIG didn't use "shareholders' and policyholders' cash to write protection against debt instruments". If it wanted to buy bonds, then it would have needed to come up with some cash to do so. But writing protection, by contrast, was a way of receiving money, not spending it.

When AIG wrote protection on CDOs and the like, it got insurance premiums in return, and considered those premiums to essentially be free money, since (according to AIG's own models, and those of the ratings agencies) the chances of those CDOs defaulting were essentially zero.

Now, of course, it's clear that those insurance contracts constitute an enormous contingent liability for AIG -- one so big that without government help the company would have gone bust. But at the time, no one at AIG was worried about that, so busy were they raking in the dollars insuring CDOs which they were positive would never suffer any losses.

AIG's biggest mistake was in failing to realize that this business couldn't scale in the way that most insurance does scale. Most insurance does scale: if you insure a house against fire, for instance, it's easy to lose much more money than was paid in insurance premiums. But if you insure houses across the country against fire, you'd need a nationwide conflagration in order to lose lots of money.

The CDO market doesn't work like that, however. The reason AIG's models said the CDOs couldn't suffer any losses was that house prices don't fall in all areas of the country simultaneously. Since AIG was only insuring the last-loss CDO tranches, investors with lower-rated tranches took the risk that prices in Florida, or Arizona, or California might fall. AIG would only lose money if prices fell in all those states at once -- which is, of course, exactly what happened.

But AIG never stopped to think that the event which would precipitate a payout on one CDO was exactly the same event which would precipitate a payout on all the other CDOs as well. AIG could easily afford any given CDS contract. What it couldn't afford was lots of CDS contracts -- because with CDS, unlike with most insurance, there was no safety in numbers, only more danger.

The investors in CPDOs, at least, put their money up front, and looked to make their relatively modest profits slowly, over time. They lost their money, but at least they had their money before they lost it. At AIG, the financial products group booked its profits immediately, without spending any money at all. When their losses arrived, the firm had to scramble to find the cash, since it had never allocated much in the way of capital to the group.

Insurers are always happy to take your money. But spending money on insurance is always fraught. You've spent your money up front, and now you hope that if the thing you're insuring against comes to pass, the insurance company will do the right thing and pay out. Your big fear is that they won't, either because they think they've found a reason to reject the claim, or because they've gone bust.

That's why insurers need to be very highly regulated. If they weren't, anybody could set themselves up as an insurer, take in lots of premiums, and then simply disappear. But that's also why AIG was writing protection on bonds rather than buying bonds outright. Under the insurance model, you can rake in your premiums and provision very little capital against them, so long as you wow your regulator with enough whiz-bang models saying that you'll never need to pay out on those policies. If you buy a bond, by contrast, the seller wants cash up front. And where's the fun in that?

Initial Unemployment Claims at 2001 levels

Source: calculatedrisk.blogspot.com

The Department of Labor reports that...

In the week ending Nov. 8, the advance figure for seasonally adjusted initial claims was 516,000, an increase of 32,000 from the previous week's revised figure of 484,000. The 4-week moving average was 491,000, an increase of 13,250 from the previous week's revised average of 477,750.

With these levels of unemployment I would not think of touching any stock related to consumer spending. Even if your thinking that companies who target the more affluent will be fine, just be careful. Nothing is recession proof. TRLG...No Thanks.

Congress looking to take the "hedge" off economic pain

Be sure to tune in to C-Span tomorrow to see the Nation's most prominent money managers give their side of the story.

Congressional Schedule

St. Joe Update

On November 4th The St. Joe Company posted a 2008 Q3 net loss of $0.21/share versus the consensus that group 5 stated during their presentation of a net loss of $0.03/share. This is compared to a net loss of $0.09/share for the Q3 of 2007. For more information see their 10-Q filing and earnings call transcript.

Disclosure: I'm a member of the group that pitched the JOE position.

Economic Reports

The next two days of trading are going to be driven by the these four economic reports:

Thursday:
-Chain Store Sales for October (These are going to be awful)
-Jobless Claims

Friday:
-Employment Numbers (Unemployment Rate)
-Pending Home Sales

The basic idea of economic indicators revolves around a consensus (expected) number that economists compute. The market will move up if the numbers are better than expected or lower if the data is worse than expected. For example so Friday they are expecting the unemployment rate to be 6.3%, but if the data reports a 6.7% unemployment rate the market will sell off because of labor market fears. If the unemployment rate reported was 5.9% traders would be buying the market because the labor market is in better condition than most people expected.

*There is no cause and effect relationship between the consensus number and the reported figure. Proceed with caution because the market doesn't always act this way, but in general this is what occurs.

What President Obama Has to Say to Wall Street

"There are just so many problems and there's no money," says Kathy Boyle, president of Chapin Hill Advisors in New York. "I wouldn't want this job if you paid me $3 trillion a year."

I'm pretty sure Obama is excited about what lies before him, but he must be careful not to alienate Wall Street because he needs them to get out of the crisis we're in now. He can talk all he wants about health care, tax breaks for the middle class among other things but nothing is as important as dealing with this recession we are in now. Every person in America is being affected by this and people need to be able to trust that they will have income from steady jobs.

Right now the labor market is extremely weak among manufacturing companies. GM is planning to announce more job cuts and an overhaul of their current labor structure on Friday. This sector is heavily unionized compared to the rest of the market and there is concern that union support of Obama may lead to stronger unions in the economy. This goes for manufacturing jobs, steels jobs and union jobs across the country. Unions aren't the most efficient organizations in the economy just look at GM right now. The problem is not the idea of the union but the terms they agree to with their workers are just not competitive. GM pays just as much in health care liabilities as it does for wages which puts the company at a huge competitive disadvantage with Toyota.

So maybe unions are the way to go but jobs still need to be created and Obama plans to do so with the alternative energy sector. Cleaner and more efficient energies are going to be pushed by his administration which is going to favor wind and solar companies over the oil complex. These jobs will come through new research in alternative energy and infrastructure build up. Currently we can't feed the world's energy needs without fossil fuels but we can depend less on it by building new alternative energy facilities. While there will definitely be a shift to alternative do not forget natural gas which is a much cleaner and efficient fossil fuel. The price of nat gas has increased approximately $1 over the last week in anticipation of the new administration energy policy. Chesapeake (CHK) is up over 10% today!

Like alternative energy, the health care sector will benefit from the new administration. Inflation in the sector has forced many would be buyers out of the sector because they rightfully believe that the companies are not going to be able to pass on higher costs to customers. Obama plans to "subsidize" these costs which will make the companies more profitable.

Regulation in the Financial Industry

Democrats now control the executive and legislative branches (well not quite yet...Bush might pull something out of his hat) and this means that certain regulatory legislation will be passed. Barney Frank is going to become a household name for people outside of Massachusetts. This might not be a bad thing it if provides confidence in the market which will help solve the credit crisis. But there is also the concern that legislation right after an popular incident might go to far. Many people believe that Sarbanes Oxley went too far dealing with WorldCom and Enron accounting scandals making U. S. business less competitive because of more stringent accounting rules than the international ones used everywhere else. Mortgage lending will definitely be an area of concern because the predatory lending helped spread this crisis. However they also need to address public education on mortgage and financial issues. Other legislature will come up because everyone wants to make sure that this episode never airs again.

Obama has a lot on his plate but with the right people helping him out we can turn this economy around!

Greenlight, Redlight.

Greenlight Capital, the long/short hedge fund run by wunderkid David Einhorn, has hit an exceptional "rough patch". I'll be honest, I hate to write this story as I have enormous admiration for David, both professionally (HE was the one who called out Lehman Brothers) and personally (very philanthropic...ALD).

While Greenlight has averaged greater than 25% per annum, I don't believe we'll be seeing such performance this year. To begin, the "word on the street" is that Greenlight was heavily involved in the VW/Porsche trade, which obviously didn't play out so well. Next, his $7.3MM stake in VeraSun Energy has now been all but wiped out, as the company filed for Chapter 11 bankruptcy protection on Friday. Then there is Greenlight Capital Re, Ltd. (NGS:GLDE), Greenlight's Grand Cayman P&C reinsurer. The company, which invests via David's DME Advisors, has seen its shares drop 40% this year alone.

So has this poker champion lost his touch?

Not a chance. Put me down as the first one to bet on an Einhorn comeback.

Mankiw Doesn't Rule Out Depression

One of the best economists out there has an interesting take on recession predictions by economists.

Jobless Claims

The number of people who filed first time claims for unemployment benefits was 478,000 which was 15,000 more than the last recording. Economists were expecting 470,000 so it was troubling because people thought labor markets couldn't get any worse than the last recording. This is a major concern right now because economic and corporate forecasts look terrible. Consumer spending is shrinking which will mean lower GDP and companies left and right are readjusting their outlooks for the next fiscal year. The economy needs a functioning labor market in order to provide goods and services but it looks like people will be making less money doing it. Right now unemployment is around 6% nationally (varying across regions), but it will almost certainly go higher. During tough times unemployment always goes down but once wages are corrected you see a turnaround in the labor market. A rebound in the economy will come once we have a rebound in the labor market, but don't expect that to come anytime soon. People are slashing jobs in all areas of business from health care to Wall Street and they obviously aren't hiring right now either. There are going to be a lot of unemployed people in the next year, but the question remains whether the government will create jobs for them or just pay them unemployment benefits. Right now with the current budget deficit I don't see any major spending programs coming through Congress so people have to be patient.

The more I think about the mess we are in the more I think we are a long way from recovery.

Recession-proof? Think twice before you jump in

It's always an interesting discussion of what is recession-proof and what is not. There is certainly no fine line or dictionary description of one or the other. As we saw in AAPL's stellar earnings yesterday, iphones and expensive computers CAN be recession proof. Or the argument that people gamble when they're feeling depressed about the finances. Really? LVS doesn't think so nor do their shareholders. Below is their chart.

As Paul Kedrosky points out in his blog, there are some segments in the economy that are more recession proof than others. He gives this chart by Nielsen.

From what he suggests, go long pasta and short KO and PEP. I'll go ahead and say that nothing is recession proof. MCD reported today a great quarter but there are still worries about the upcoming quarters and how unemployment will affect their numbers. Are people really questioning the dollar menu? Is that not recession-proof enough? WOW. Times are tough. Be picky. Be nimble.

What is wrong with our financial system: SIV redux.

I'm sure most of you saw this (but in case you missed it!) there is a nice post on Alphaville today about the resurgent use of SIVs. Some banks are beginning to use them in an attempt to provide liquidity to money market funds. The post describes how banks will use Fed-funded SIVs to bail out these funds. The SIVs will raise money by issuing commercial paper. Of this issued paper, the sponsoring banks will be required to hold 10%, with the rest of the funding being provided by the Fed.

Although Alphaville hints at this, they don't quite outright ask it. What happens when the commercial paper turns bad? Well the CP that is of bank origin will presumably end up in some shape or form being rescued by the Fed. What about that of non-banking corporations? Or worse: bank-like corporations (read GMAC)? Essentially the Fed holds the right to stop purchasing activities of these SIVs and hold their assets to maturity if any default or credit downgrades occur.

Effectively, in a deleveraging environment, banks will hold commercial paper for their money market funds off their balance sheets using Fed-provided leverage. Lets hope the banks never have to pay back the loans when (if) corporate defaults rise.

What Buffet is REALLY saying...

Everyone saw the headline: "Warren Buffet says 'Buy now'!"

While most took this as validation by the Oracle that U.S. stocks are now sufficiently cheap, NakedShorts brings up a point not mentioned by many:

"The usual suspects spun the ‘Buy America’ message for all it was worth. Nobody seemed to notice the other side of the memo: sell Treasuries. Which, thanks to the flight-to-safety trade, are perhaps the last bubble intact amidst the financial smeltage. With new supply aplenty assured."

Don't buy U.S. stocks. Sell U.S. Treasuries.

Libor rates are finally starting to come down

"Three month libor has plummeted 36 basis points to 4.02 percent this morning. My money market correspondent thinks that by the time the week is over three month Libor will have posted declines of about 100 basis points."

via acrossthecurve & Economompicdata

Andrew Lahde's Letter

Andrew Lahde, a graduate from Michigan State, wrote this letter to the investors of his fund, Lahde Capital. He returned 866% betting on subprime. Although his letter has been posted in every financial blog out there, this is a must read!

Dear Investor:

Today I write not to gloat. Given the pain that nearly everyone is experiencing, that would be entirely inappropriate. Nor am I writing to make further predictions, as most of my forecasts in previous letters have unfolded or are in the process of unfolding. Instead, I am writing to say goodbye.

Recently, on the front page of Section C of the Wall Street Journal, a hedge fund manager who was also closing up shop (a $300 million fund), was quoted as saying, “What I have learned about the hedge fund business is that I hate it.” I could not agree more with that statement. I was in this game for the money. The low hanging fruit, i.e. idiots whose parents paid for prep school, Yale, and then the Harvard MBA, was there for the taking. These people who were (often) truly not worthy of the education they received (or supposedly received) rose to the top of companies such as AIG, Bear Stearns and Lehman Brothers and all levels of our government. All of this behavior supporting the Aristocracy, only ended up making it easier for me to find people stupid enough to take the other side of my trades. God bless America.

There are far too many people for me to sincerely thank for my success. However, I do not want to sound like a Hollywood actor accepting an award. The money was reward enough. Furthermore, the endless list those deserving thanks know who they are.

I will no longer manage money for other people or institutions. I have enough of my own wealth to manage. Some people, who think they have arrived at a reasonable estimate of my net worth, might be surprised that I would call it quits with such a small war chest. That is fine; I am content with my rewards. Moreover, I will let others try to amass nine, ten or eleven figure net worths. Meanwhile, their lives suck. Appointments back to back, booked solid for the next three months, they look forward to their two week vacation in January during which they will likely be glued to their Blackberries or other such devices. What is the point? They will all be forgotten in fifty years anyway. Steve Balmer, Steven Cohen, and Larry Ellison will all be forgotten. I do not understand the legacy thing. Nearly everyone will be forgotten. Give up on leaving your mark. Throw the Blackberry away and enjoy life.

So this is it. With all due respect, I am dropping out. Please do not expect any type of reply to emails or voicemails within normal time frames or at all. Andy Springer and his company will be handling the dissolution of the fund. And don’t worry about my employees, they were always employed by Mr. Springer’s company and only one (who has been well-rewarded) will lose his job.

I have no interest in any deals in which anyone would like me to participate. I truly do not have a strong opinion about any market right now, other than to say that things will continue to get worse for some time, probably years. I am content sitting on the sidelines and waiting. After all, sitting and waiting is how we made money from the subprime debacle. I now have time to repair my health, which was destroyed by the stress I layered onto myself over the past two years, as well as my entire life — where I had to compete for spaces in universities and graduate schools, jobs and assets under management — with those who had all the advantages (rich parents) that I did not. May meritocracy be part of a new form of government, which needs to be established.

On the issue of the U.S. Government, I would like to make a modest proposal. First, I point out the obvious flaws, whereby legislation was repeatedly brought forth to Congress over the past eight years, which would have reigned in the predatory lending practices of now mostly defunct institutions. These institutions regularly filled the coffers of both parties in return for voting down all of this legislation designed to protect the common citizen. This is an outrage, yet no one seems to know or care about it. Since Thomas Jefferson and Adam Smith passed, I would argue that there has been a dearth of worthy philosophers in this country, at least ones focused on improving government. Capitalism worked for two hundred years, but times change, and systems become corrupt. George Soros, a man of staggering wealth, has stated that he would like to be remembered as a philosopher. My suggestion is that this great man start and sponsor a forum for great minds to come together to create a new system of government that truly represents the common man’s interest, while at the same time creating rewards great enough to attract the best and brightest minds to serve in government roles without having to rely on corruption to further their interests or lifestyles. This forum could be similar to the one used to create the operating system, Linux, which competes with Microsoft’s near monopoly. I believe there is an answer, but for now the system is clearly broken.

Lastly, while I still have an audience, I would like to bring attention to an alternative food and energy source. You won’t see it included in BP’s, “Feel good. We are working on sustainable solutions,” television commercials, nor is it mentioned in ADM’s similar commercials. But hemp has been used for at least 5,000 years for cloth and food, as well as just about everything that is produced from petroleum products. Hemp is not marijuana and vice versa. Hemp is the male plant and it grows like a weed, hence the slang term. The original American flag was made of hemp fiber and our Constitution was printed on paper made of hemp. It was used as recently as World War II by the U.S. Government, and then promptly made illegal after the war was won. At a time when rhetoric is flying about becoming more self-sufficient in terms of energy, why is it illegal to grow this plant in this country? Ah, the female. The evil female plant — marijuana. It gets you high, it makes you laugh, it does not produce a hangover. Unlike alcohol, it does not result in bar fights or wife beating. So, why is this innocuous plant illegal? Is it a gateway drug? No, that would be alcohol, which is so heavily advertised in this country. My only conclusion as to why it is illegal, is that Corporate America, which owns Congress, would rather sell you Paxil, Zoloft, Xanax and other additive drugs, than allow you to grow a plant in your home without some of the profits going into their coffers. This policy is ludicrous. It has surely contributed to our dependency on foreign energy sources. Our policies have other countries literally laughing at our stupidity, most notably Canada, as well as several European nations (both Eastern and Western). You would not know this by paying attention to U.S. media sources though, as they tend not to elaborate on who is laughing at the United States this week. Please people, let’s stop the rhetoric and start thinking about how we can truly become self-sufficient.

With that I say good-bye and good luck.

All the best,

Andrew Lahde”

W.E.B.

"Be fearful when others are greedy, and be greedy when others are fearful"

New York Times Op-Ed -- October 16, 2008

Good Blog

Check out this blog! The author, David Gaffen, posts frequently throughout the day. Today he has live blogging on the Citi conference call, option activity in Google ahead of earnings, and much more.

Paul Krugman Wins Nobel Prize in Economics

An excerpt explaining his contributions to economics:

In the late 1970s, Mr. Krugman noticed that the accepted model economists used to explain patterns of international trade did not fit the data. The Hecksher-Ohlin model predicted that trade would be based on such factors as the ratio of capital to labor, with "capital-rich" countries exporting capital-intensive goods and importing labor-intensive goods from "labor-rich" countries. Mr. Krugman noticed that most international trade takes place between countries with roughly the same ratio of capital to labor. The auto industry in capital-intensive Sweden, for example, exports cars to capital-intensive America, while Swedish consumers also import cars from America.
Mr. Krugman's explanation is based on economies of scale. Both Volvo and General Motors reduce average costs by producing a large output in particular niches of the market. In presenting his trade model, Mr. Krugman planted the seeds for his later work in economic geography, in which he tried to explain the location of economic activity.
He summarized his basic finding (in "Geography and Trade," 1992) as follows: "Because of economies of scale, producers have an incentive to concentrate production of each good or service in a limited number of locations. Because of the cost of transacting across distance, the preferred locations for each individual producer are those where demand is large or supply of inputs is particularly convenient -- which in general are the locations chosen by other producers. Thus [geographical] concentrations of industry, once established, tend to be self-sustaining."

The Credit Crunch in one picture.

The Next Subprime

Reinsurance.

What is it?

When an insurance companies reinsures its liabilities, the initial insurer transfers the risk of the insurance to another company referred to as the reinsurer. The reinsurer rather than the insurance company that originally provided the policy then provides the financial guarantee on the insurance policy. (Via Capital Markets: Institutions and Instruments by Fabozzi and Modigliani)

Think about it:
If I am an insurance broker getting paid to originate policies and then sell them to someone else, what incentive do I have to perform extensive due diligence? How much does that end-party (the reinsurer) really know about the policy they hold?

Subprime Connection:
Just as in mortgage origination, the end-holder of the liability has little knowledge of the person underlying the asset they hold. Also, the originator of the liability looks to churn out as many policies as possible, regardless of the underlying risk.

Differences:
For one, there are a wide variety of reinsurance types, many of them including strategies that do not purchase the entire liability from the policy writer, but only the risk above and beyond a pre-determined value. Also, reinsurers take on a wide
variety of liabilities, rather than JUST home loans.

Kobe Bryant and the Financial Markets

The financial markets have been a mess lately and really hard to explain. One of the traders on Fast Money yesterday used the Kobe Bryant scandal as a great metaphor to help explain the problems we have currently with the bailout plan.

So Wall Street has been messing around with the securitization of mortgages leading to the recent credit turmoil. It's no secret that they have played a large role in bringing about the crisis we are currently in. We, the American public, know that Wall Street cheated on us because economic conditions are eating away at our standard of living. There has to be some way to make things better. Just like Kobe bought his wife a big diamond ring, the government has provided us with the bailout package to correct this mess. But the problem is we still know they cheated on us and maybe this bailout package isn't enough. We need more oversight and regulation to make sure this doesn't happen again. Obviously we can't divorce the government but people at the top need to take some blame and responsibility for their poor decisions.

I tried to find the clip on the Fast Money website but couldn't find it. If anyone has any better luck just update the post!

Armageddon? Not quite.

If you were just looking the financial media headlines you would think that were in Armageddon (the sequel of course). The markets have been brutal but wow can the media sensationalize everything (yellow journalism anyone?). Dealbreaker just introduced the world to an amazing website about sad guys on trading floors. Hilarious. Here's a few of them.

On a side note. All the publications (Time, BusinessWeek) are starting to come out with their "gloom and doom" covers. Sign of a bottom? Barry Ritholtz at The Big Picture has an opinion on the situation.

Business and economics must read sites

Here is a list of business and economics websites, by average daily visits, at Gongol.com If you want a list of blogs to add to your "daily must" this is a great start.

Via: mjperry.blogpsot.com

Global Rate Cut

The Fed has cut interest rates by a half percentage point to 1.5% in hopes to spur economic activity by injecting money into the economy. Central banks around the world have followed suit lowering their rates by 50 basis points as well. The financial crisis has spread worldwide infecting countries from Australia, Canada, Germany, and the list goes on. Over the summer there was talk of decoupling, which states that the U.S. doesn't have as big of impact on other financial markets as it used. This goes back to the idea that when the U.S. economy "sneezes" the whole world gets a cold. The U.S. doesn't have a cold; it is in cardiac arrest. Action needs to be taken immediately to put trust and faith into the credit markets. This is a step in the right direction and so is the bailout plan but we need to start creating markets for stressed assets immediately.

The good news is that we are not in the mess alone. Other countries have been hit hard and are experiencing similar economic activity as the United States. In order to get out of the mess it will take a collaborative effort, however the U.S. must take the lead role. We are running out of "bullets" but we also must remember that the measures taken by the Fed don't immediately serve their purpose because policy works with a lag.

Warren Buffett: The Next J.P. Morgan?

Great article from the NY Times comparing Warren Buffett's recent impact on the markets to J.P. Morgan during the panic of 1907. It's hard to believe that one person could have such a positive impact on the markets, but Warren Buffett's opinions carry a lot of weight.

Why Short Selling Makes the Market Go Higher

In an effort to support the markets, the SEC banned short-selling. Clearly, however, their efforts failed. MISERABLY.

Now, I WILL admit that without this rule, most financial stocks (regional banks, insurers, hedge funds, mortgage REITs) would be lower. The market as a whole, however, needs short selling. Furthermore, a rebound in stocks IS NOT POSSIBLE while this rule is in place.

Why?

Beyond the "let efficient markets determine the proper price" theory, a number of more technical explanations exist:

First, investors such as myself who maintain large short positions in the market refuse to take long positions without the ability to accurately hedge our risk. With the implementation of the short-sale ban, the Government is preventing those who purchase assets from protecting them. Would you ever buy a house without insurance? What if the Government said you're not ALLOWED to buy insurance? YOU WOULDN'T BUY THE HOUSE. The bottom line is that without the ability to mitigate the risk of their holdings, investors are discouraged from taking long positions (thus preventing the flow of capital into equity markets).

The second theory relates to the pricing of assets and investors perception of valuation. Without short selling, investors realize that asset prices are being kept artificially high, so why would anyone go long when they know the ban will expire and force stocks down?

My solution?

The SEC should apply the filing rules to both long and short positions. Investors holding more than 5% of a company's shares short should have to disclose their position. Also, stop with the temporary banning stuff...you're just delaying the inevitable.

Not just about one firm

How a lesson in moral hazard sent the worlds markets for a ride...

a must read here

Re-Vote

After the bailout bill was turned down today in the house the markets plummeted. Nervousness is running wild on Wall Street. Hank Paulson just made a statement where he seems obviously frustrated and scared. This is not good news! Another bill can be brought to vote by the House Financial Services Committee headed by Barney Frank. However don't expect anything to happen in the next 2 days because of Rosh Hashanah. The problem with a re-vote is that people apparently opposed the bill today because they were ideologically against a bailout of hot shot Wall Street people. This leaves 2 options: A new bill with concessions from the Democrats or a dramatic change in constituents opinion on their connection to Wall Street. Either way we need to be quick and get something done now.

Ron Paul on the bailout

Here

The Next Big Bankruptcy...The Fed?

The Federal Reserve is giving a $85 billion dollar bridge loan to AIG and taking an 80% stake in the company. This news is flat out shocking considering they have been very active in so called "bailouts" but failed to do anything for Lehman Brothers. I thought America was based on capitalism. What happened to letting unprofitable businesses fail? I understand why some institutions need government backing because they play such an integral role to the economy and failure would just create more financial havoc. Fannie and Freddie are good examples of something that needs to be provided when the private sector fails to do so. But AIG? Do they have wide connections to the financial markets? To some extent they do because their businesses are so diverse from insurance to business financing. No doubt that something needed to happen with AIG but why do Americans have to pay for it. The Fed doesn't have $85B so they will have to borrow from the Treasury which means that more money will be injected in the economy. This is going to hurt the dollar and increase inflation, ultimately hurting consumers.

I will give the Fed credit though because they aren't resting on their laurels. Being counteractive is usually a good thing but when is enough, enough. They need to keep in mind all the debt they are accumulating. I hate to say it but this probably won't be the last takeover by the government. There are many other banks that are going to fail soon so we can only hope that the Fed will stay on the sidelines.

The bad part is that things are so bad that the Fed is considering crazy actions like this. There is no quick solution to the current crisis and we might not find a bottom until mid 2009. On the other hand, worldwide markets have responded well to the AIG news and we will probably see the same in the morning.

NYU Professor Predicts More Gloom

Click the title and it will take you to a 5 minute clip. Thanks to LPG for the link.

Lehman Update

Lehman is left with little options after talks to sell the firm have halted. There was said to be 3 potential suitors (Barclays, HSBC, and BofA) for the "good" part of Lehman. The "bad" part of Lehman which are poor performing loans and real estate assets were going to be absorbed by 10 large banks according to people familiar with the deal. Many of the firms are backing out of this because they don't think it's fair for them to take the bad stuff and for the other 3 to acquire the good stuff. That is a very fair point but they must realize the consequences of Lehman going under and the ramifications it will have on all the financials.

Bad news is that Barclays dropped it name from consideration and BofA is reported to be acquiring Merill Lynch. This leaves HSBC or the possibility of another bank like Goldman Sachs stepping up to the table. The prospects of a deal look don't look great anymore which put Lehman in a difficult situation. They will most likely have to declare bankruptcy and start reconciling their trades with other banks. It's going to take a miracle for Lehman to survive. Don't count the Fed out yet though because they have appeased every need on Wall Street throughout the entire crisis.

Making Money in a Down Market

The markets have been selling off recently and money has been sitting on the sidelines. It's going to start coming back into the market at some point in time, but many investors are extremely nervous right now. I think there is going to be more pain in the upcoming weeks, but money can still be made even in the financials. There are certain stocks that will do relatively better than others. Let's say you have two companies in a very similar businesses, but one is clearly better (clearly worse) than the other. A common strategy is to go long the stock you think will do relatively better and short the stock you think will do worse. This strategy allows you to make money in a down market/sector. For the financials, you could go long JP Morgan (JPM) and then short C (Citi) for example. JPM is seen as the most stable bank on the street while C is more tied to the general trend in financials. You can do this with a number of companies because the financial sector is so diverse. I would try to stay clear of names prominent in the news because those large percentage fluctuations could really damage your trade. Employing this strategy can make you money no matter the direction the market turns.

Lehman: The Week from Hell

Shares of Lehman have dropped over 75% in the last week! This is simply shocking and it leaves the market in a complete mess. Charlie Gasparino reported that Lehman is shopping itself to the street and 3 players have emerged lead by Bank of America along with Barclays and HSBC. I think LEH has gotten unfairly hit on their stock price. If it weren't for the wonderful precedent set forth by Bear Stearns, this stock would be trading at $7-8 easily. Now to be fair, they did lose $3.9B in the 3Q. Right now seems like a great chance for someone to get a great company at a discount. The asset management division is extremely valuable and the investment bank has done well in the past. The only problem is the balance sheet which is full of distressed mortgage related assets. Hopefully this won't discourage buyers. Many on the street were hoping that the Fed would guarantee a back drop for potential losses on Lehman as it did for Bear Stearns when JP Morgan acquired it, but no guarantee is on the table which has drawn out the takeover talks. If there was a back drop this would have already happened. They say that things will be done by Sunday and that people at the Treasury are in on the talks. The sooner this is figured out the better because this could be a disaster for the market.

Fed's Next Move

This is a really good article about the Fed and what the FOMC is going to do the next few meetings. After you read it one can help but be pessimistic about the economy. The jobless claims have been increasing, retail sales numbers were low this morning, unemployment is over 6%, and the list goes on. The real bad news is that the data is not going to get any better in the near future. Current strains on consumers is going to cripple consumer spending during a season when it is typically robust. All this is going to trickle down to lower GDP growth which is going to reinforce Wall Street's fears of a recession. I'm not going to start thinking recession until we get one quarter of negative growth, but it doesn't hurt to be prepared for it. The only good news we have seen in the markets is lowering commodity prices which should dampen inflation, and a strengthening U.S. dollar. It remains to be seen if the price moves will stabilize at these levels or maybe start trading in the opposite direction. If commodity prices start rising again we are in trouble because there will be greater inflation concerns combined with a weakening economy (stagflation). The run up in the dollar is going to hurt U.S. export industry, however a strong currency is good for economic growth making it cheaper to import good across borders.

What does this mean for the Fed? Well they won't do anything next Tuesday at the FOMC meeting, because they need to see more data before they make any major monetary policy changes. The language they use during the meeting will be huge and will give us a glimpse at how they are viewing the economy. I am really interested to see Dallas Fed president, Fisher's vote because he has been the lone inflation hawk of the FOMC and if he changes his opinion than sentiment has really changed. The next meeting is days before the presidential election so changing rates that day might not be politically popular (both candidates struggle with the economy). By then we will have a varied and balanced set of data for the Fed to evaluate. If current trends continue there will be pressure to cut rates to bolster economic growth.

Implicit Government Guarantee

From the Financial Ninja.

My Response to the Treasury Plan

The following is my response to the Government's take-over of FRE and FNM:

1. NEVER and I mean NEVER let Jim Lockhart speak. Ever.

2. Paulson made a very important point: The GSEs are NOT sustainable in their current form, and if we don't address the issue now, it will only come back to haunt us.

3. That being said, what is the Government doing buying WARRANTS of public companies? WARRANTS!?

4. The Government has permanently damaged these stocks. 80% ownership will have to be reduced at some point in the future, and knowing our government, the decision to sell the Government's stake will come to Congress and we will likely see heavy selling. Nice.

What are your thoughts?

The Treasury Shaking Up the Market

On Friday, the WSJ reported that the Treasury was in the works to takeover Fannie Mae (FNM) and Freddie Mac (FRE). The plan is expected to be detailed in 30 minutes at a press conference held by the Treasury. After the news was released on Friday, after market trading indicated a lower dollar because the takeover is going to increase the debt on the U.S. balance sheet. The shareholders are almost certainly going to be wiped out including both common and preferred which could inflict greater damage on the markets because many banks hold the preferred and if it gets cleared out they will be left with even less capital on their balance sheet.

It seems like the Fed and the Treasury have been doing a lot of work on Sunday's (Bear Stearns) which points to the seriousness of the issue. Many people have called for much more immediate action with Fannie and Freddie and this could also create some relief for the credit markets, but the details of the plan are critical because the 2 companies are said to hold $12T worth of mortgages which is over 50% of all mortgages in the nation. This is going to cost taxpayer dollars and right now with a budget deficit there is no wiggle room for inefficient policy. I think it's ironic that these companies that were created to help consumers through lower mortgage rates, but now in order to fix these GSEs taxpayers money is going to be used. Hopefully the new plan will allow the government to create liquidity in the mortgage market without creating a large tax burden on the American public.

More to come on this once the Treasury releases its plan!


UPDATE:

Plan Overview:http://online.wsj.com/article/SB122079276849707821.html?mod=hpp_us_whats_news

Official Statement:http://blogs.wsj.com/economics/2008/09/07/officials-statements-on-fannie-mae-and-freddie-mac/

Joy Global

This past week shares of JOYG has been off over 20% due to a worse than expected quarter and a broad free-fall in commodities. The move is shocking to many, but especially the CEO who expressed his displeasure on Mad Money. He acknowledged that the quarter was not as good as they wanted but Wall Street over reacted to the quarter. Backlogs at Joy Global have increased and sales were up 45%. The revenue numbers were great as well but many are concerned that the drop in commodity prices are making other fossil fuels like oil and natural gas much more attractive than coal. Coal is an extremely "dirty" energy source compared to oil and natural gas which also puts it at a disadvantage because we have seen a shift in worldwide sentiment on cleaner air and less carbon dioxide emissions.

Joy Global is not the only materials/commodity stock to take a hit this week. Freeport McMoran (FCX) and the oil service sector (OIH) were down 13% and 6% respectively this week. Commodity prices have increased greatly over the past years due to increased demand in the emerging markets especially China, but much of this demand is going and way and the companies are paying the price. This correction in markets was a little overdue because the growth rates in places like China and India were just too high to maintain. Lower commodity prices should help lower inflation pressures across the globe which is good for the Euro Zone which recently kept interest rates steady because of fears of inflation. Monetary policy at the ECB and the Fed will be more effective under conditions of tame inflation.

But can we assume that commodity prices will stay this low? Demand from the emerging markets will come back at some point which will certainly create a catalyst for these sectors. Now could be a great time to start researching these sectors for bargains, however be cautious because the next week shall prove very volatile because of what happened this week and the potential damage that Hurricane Ike may cause on the East Coast. Many are comparing it to Hurricane Andrew which caused about $25B in damage when it hit the coast in 1992. These sectors should offer some great trades in the coming weeks you just have to be patient and wait for the right entering point.

Use Your Head.

Below is a view of the documents from Sam Israel's Bayou Management's funds:


Please take a look at Bayou's email address.

IF THIS ISN'T A RED-FLAG, YOU SHOULD STICK TO MUTUAL FUNDS!!

The Global Picture

When the housing crisis and credit crunch first gained momentum, the consensus was that the meltdown was relatively isolated within the U.S. and did not present itself to be a serious contagion.

The rest of the global economies and financial markets would decouple from the mess, especially those in emerging markets with double digits GDP growth and in countries awash in petrodollars.

Now, the rest of the world is taking a hit. Optimistically, this has led to the recent strengthening of the dollar as investors take flight from other currencies. However, it may also contribute to a decrease in exports and a lower demand across the globe for American goods; one of the few bright spots that still remains today.

Here We Go Again!

At 4:26 PM EST, Apollo Global Management LLC Filed an amended prospectus. Here we go again! Did we learn nothing from FIG/GLG/OZM?

Now You're In Trouble.

As of 6 AM EST, Longs Drug Stores (NYSE:LDG) is in serious, serious trouble. Bill Ackman's Pershing Square funds have filed a 13D disclosing a stake in LDG.
Good Luck LDG...You'll need it.

**CORRECTION: This post stated earlier that TP LLC had a stake in LDG. THIS WAS INCORRECT. We appologize for the error.
*DISCLOSURE: Through one of my holdings I have very limited exposure to Bill Ackman's Pershing Square.

Memories of a Time Before the Credit Crunch

While looking through a fund's debt holdings, I came upon the following bond issue:

ARE YOU KIDDING!? Yes, that's right...a THIRD lien unsecured bond with a PIK-TOGGLE with an 8.80% coupon. That's only a few hundred basis points above the FED FUNDS rate a few months ago! If this isn't the quintessential sign of a credit bubble, I don't know what is.

Trouble Ahead for the Orient Express

As of 6:15 AM EST this morning, the Board of Orient-Express Hotels Ltd (NYSE:OEH) has had a target placed on themselves. In a filing with the SEC, David E. Shaw's DE Shaw Group (including TWO client hedge funds and a prop fund) and Stevie Cohen's CR Intrinsic Investors have formed an investor group targeting the Board's continual approval of what the Group calls an illegal corporate structure. When two of the smartest guys on Wall Street send you a letter, don't respond with a four-line rebuttal saying, "We didn't do it". OEH - you're in big, big trouble.

Bank Consolidation

The financials have taken a huge hit thanks to the government takeover of IndyMac Bancorp. This marks the second largest bank failure in the history of the U.S. and is also causing much concern among the smaller regional banks putting downward pressure on their shares. Today on CNBC they showed images of a "modern" bank run with people lining up outside the IndyMac branches waiting to get their money. I thought bank failures were a thing of the past, but the credit crisis has struck down another victim and will continue without consolidation within the banking industry. The Federal Deposit Insurance Corporation which insures deposits up to $100,000 nationwide, has a watch list of 90 banks that could potentially fail, but the bad news is that IndyMac wasn't on that list. One can only speculate on which bank is next but there was a major scare that National City was going to be next until they halted trading and released a statement claiming that they had sufficient capital to back their deposits. The major problem for the banks is that all the money they receive in deposits is immediately thrown out of the door in loans, but with these loans not being paid on time the bank is left with no money to pay back their customers or finance anything else the company wishes to do. There is a solution to the problem though and that involves M&A activity in the banking sector. It could come in a number of ways... maybe a merger between two banks that would fail alone but survive together, maybe a large bank acquiring another small commercial bank that will broaden its portfolio among others. The 90 bank list doesn't include any investment banks, however they too are under pressure after the fallout of Bear Stearns. Look at Lehman Brothers for example. Shares have been blasted in the last week of trading and many experts say the only way to save the bank is for it to become part of another. The lack of liquidity and capital in the market is changing the game for banks. No longer can they just throw money around and be rewarded. Only the smart and lean banks will make it through the storm.

What Sectors Work Now?

The major stock averages in the United States have clearly entered into bear territory, but the question that remains is if anything in these markets work right now. After listening to many experts there seems to be a consensus that health care and energy are performing comparatively well right now, with financials dragging down the market.

Personally I'm not sold on health care since consumer's budgets are becoming tighter and health care related inflation is a main concern for the entire sector, however companies that produce supplies for health care related businesses will handle this bear market fairly well in my opinion.

Energy is a no brainer right now with oil reaching a new high of 147.27 today during trading. The recent rise in crude prices has been largely due to the tensions in Iran. We might see a slight pullback as tensions decrease however energy prices this high are going to create large profits for companies in the business. When they start reporting earnings in the next month these stocks should go even higher.

Some people, myself included, think that this downturn in the market has provided great opportunities for long term investing. Many sectors might not be yielding great returns for the 3rd quarter but in a year might appreciate in price. I think retail is getting hammered because of higher oil prices but as they decline their numbers should become better. However if oil falls $20 a bbl then we should see some relief in these stocks. The sector I like best for the long term (1-2 years) is industrials. Continued demand from overseas and a weak dollar is going to help generate better earnings for the future. Companies like Boeing (BA) and United Technologies (UTX) have fell recently offering great deals on quality stocks.

Oil Drives the Market

Over the last week market prices have been reacting very negatively to oil prices and we will likely see more today when trading begins. One thing that is starting to be mentioned more and more in the news is the effect this will have on inflation in our country. Higher oil prices don't always cause higher inflation, however at current levels this is a major concern. Consumers should be weary at the pump with gas over $4.00 per gallon but they should also be weary at the stores they visit whether it be the mall or a grocery store. Prices are on the rise because transportation costs are increasing and producers are beginning to transfer these higher costs to consumers. With the economy as it currently is this is potentially frightening news because people are already strapped for money as is and with higher prices something has got to give. Some are calling for stagflation which is when growth in GDP and employment is slow while prices are rising. Every time stagflation comes up the next thing that comes to mind is the Fed, since we assume that the Fed can control economic conditions limiting the chances of actual stagflation. This is very true for the most part, but the past will tell us that stagflation does occur in the U.S. (1970s -Oil Shocks)

When combating this problem the Fed needs to use current and reliable data, not predictions from analysts at investment banks and oil and gas companies. Two numbers that I have heard recently are $150/barrel in July 2008 and then $250/barrel by the end of 2009. Don't forget that there are a million other estimates out there some below current market prices and some above (the consensus is probably above). I'm sure both the companies that issued these target prices were wrong in their predictions about current prices, so why are people so quick to believe them now. The quick answer is that people want to believe that prices are predictable and that we have the knowledge and information to effectively pick out precise targets. Well I'm here to say that things aren't as easy as it seems. Prices could go anywhere from here because oil markets are not trading on purely fundamentals anymore which can be seen from the $10 move it made on Friday. Traders are putting in longs and shorts that may backfire if the smallest bit of news hits the wires. Plus now OPEC and Congress are in the mix which means things must be out of line and need "correcting." Knowing that oil doesn't trade/price fundamentally makes it even harder to target a price. I just advise caution before making conclusions from oil price targets.

The New iPhone

Apple released the details on its new iPhone that is scheduled to hit AT&T stores on July 11th. The look is very similar however it will run on a 3G network which is much faster than the normal EDGE market AT&T has currently. Other features will include a longer battery life and a different style keyboard. The biggest news on the iPhone is the price which is going to be around $200. Comparing this to the original iPhone price of $400 this seems to be a fantastic deal, but my concern is that this price is only for people who sign-up for a new 2 year contract. What about all the people who already have iPhones? For them to upgrade they will be paying a much higher price. There is definitely market share out there but not as much as people seem to think. Doubting Steve Jobs and Apple Inc is not the smartest thing to do, but many people believe the reason the stock price was down yesterday on the release was because this product is not going to be an instant success.

I know people in the past have made disclosures about stocks they own on this blog so I will keep it consistent here when offering opinions on products. I currently own a Blackberry Curve.

Citi Investments

While looking over a recent Citi Smith Barney Monthly Report, I noticed the following box:


Neutral on Hedge Funds? THIS is why Citi is trading below $20. Would you trust your money to someone who told you to "underweight" or "overweight" an INVESTMENT VEHICLE? Since they are "overweight" equities, what would they say about an equity hedge fund? Ladies and gentleman of Citi Smith Barney, you don't underweight or overweight investment vehicles (have you ever heard someone say "underweight ETFs!"?); Assets classes are NOT the same as investment vehicles.

Kindly,

Someone who gets paid a lot less than you, and shouldn't have to tell you these things.

Update

A few MII members have asked me to occasionally post what im doing with my personal portfolio, so here’s what you’ve been waiting for.

Buying:

Global High-Yield bonds
International Inflation-linked Bonds
Independent NatGas (APA/CHK)
US BB-rated bonds

Pairs:
Selling NZ$ (Kiwi), buying AU$ (Aussie)
Selling March e-mini NG, buying April e-mini NG
Selling T-bills, buying GNMAs

Inflation

Many critics say that commodity speculation has caused dramatic inflation, but the smart guys, economists, think that it is just due to simple supply and demand. Go figure.

Source: WSJ

ETN: Bling

UBS recently announced two exchange-traded notes (ETNs). One will go long Platinum, while the other goes short. Little information is available regarding these new offerings, but stay tuned..

UBS Platinum ETNs

The Truth Behind the Numbers

Minyanville recently published the following article:

"Note the string of five consecutive months of 4%-plus inflation, and that the average for the 4th quarter was 4%, while for the first quarter of 2008 it was over 4.1%. Never mind whether that is the right number or whether there are problems with how it's calculated – that's a story for another letter. The key here is that if the BEA used the BLS number (remember, both groups are in the same Department of Commerce), it would show the economy shrinking by 1% in the 4th quarter and by almost 1% in the first quarter. That's not what the happy-talk analysts are saying.

But let's use the Fed's favorite measure of inflation, personal consumption expenditures, or PCE. The PCE has been about one-third less than the CPI since about 1992. The difference is in the way they are calculated. The CPI uses a weighted average of expenditures over several years. As I understand it, the PCE tracks changes in relative expenditures from one quarter to the next, assuming that consumers change their habits as prices rise and fall. In simplistic terms, if steak gets expensive, we substitute with hamburger or chicken. One index tracks those changes over years and the other (PCE) does it over quarters. Also, the PCE only tracks personal consumption and not imports or inventories.

If we use the PCE numbers (yet another measure using Commerce Department data), inflation was about 3.3% for both quarters, which would mean negative growth quarters by a few tenths of a percent. That would also mean two quarters of negative growth and a recession.

Further, GDP in the first quarter was helped by inventory build-up to the tune of 0.8%. In times of expansion it's good to see inventories grow, as that means companies are optimistic. But when the economy begins to slow, growing inventories mean that companies anticipated sales that did not materialize. That means that as inventories are allowed to fall in the second quarter, they will show up as a negative factor in second-quarter GDP."