Jeremy Siegel is right and the Roubini minions are missing the point
Jeremy Siegel wrote an op-ed on the WSJ saying the current earnings methodology is incorrect. He is right in some scenarios yet all the Roubini minions who feel they need to be bearish to be right are attacking him. They would be right in normal circustances but Siegel is correct when you are talking about massive negative earnings, negative networth and stocks close to $0(low weighting in the index)
Lets say all the financials go down to $0.01c a share and they continue to lose billions matter of fact they lose so much, the SP500 earnings are negative according to the current SP methology
the PE of the SP500 is infinite, their earnings never recover and they keep losing forever
If you buy the SP500, you are essentially getting financials for free, yes they lose money but so what, you get all the other sectors who are making money and paying dividends for your income. You donot lose on the aggregate because common stocks under deeply negative networth, bankruptcy dont create a liability for you
Another example, lets say all stocks go to $0.01c a share except for XOM, they are all losing huge amounts but for some reason XOM keeps printing money, if you buy the SPY you are getting the sp499 for free and an nicely profitable XOM who will make you money and pay dividends. Yet according to the Siegel critics its a bad buy because the index has negative earnings and an infinite PE forever, yet what are you doing is essentially buying XOM and getting free options on the rest, since common stocks dont create liabilities even if they have negative networth or go bust
So the total earnings of the SP500 donot matter in those scenarios, what matters is what you get when you buy it and what price you paid for it. Thats because common stocks offers unlimited upside with limited downside
Bespoke wrote this
"Imagine you have two investments. The first is worth $1,000, and over the last year it generated $100 in ncome. The second investment is only worth $100, but over the last year, it had a loss of $100. Most people would probably think of their investments in the way S&P calculates the earnings for the S&P 500. You would have total investments of $1,100 ($1,000+$100) and earnings of zero ($100 profit on $1,000 investment plus $100 loss on $100 investment). "
Their mistake is not carrying that logic further, lets say the $100 investment(Inv1) on the second year loses $50,000(not a typo), and the $1000 investment(Inv2) earns $200. The Inv1 is a writeoff to you by then(its market value will be close to $0 as well), you probably dont expect anything from that ever again, you will mark down that investment to $0, so what that Inv1 earns is 100% irrelevant because common stocks dont create a liability to you. You will 100% care about Inv2 as it will became your index with 100% mental weighting, yet according to the current methodology as a long that 'dog' is in the index, it will produce massive negative earnings for that index and an infinite PE ratio
Bottom line is that financials are distorting the PE ratio of the SP500 and Siegel is right that stocks are cheaper than they appear(Even though I'm not long yet)
Thursday, February 26, 2009
Tuesday, February 17, 2009
Timothy Franz Geithner
Treasury Secretary Timothy Geithner needs to get drunk too
Here’s some beliefs that I have that are guiding through this crisis
-Soft landings are rare
-Government is inherently inefficient and unlikely to implement correct policies fast enough or at all
-The rear-view mirror is a misleading guide to the future
The market and the media are constantly looking the politicians and policymakers for ‘solutions’ for the crisis and ‘how to get out’ by implementing XYZ policy.
What they don’t seem to get it that is possible that there is no solution, in an ideal world where government is efficient and intelligent US banks would have all been recapitalized and the US consumer would have been brought to solvency again through debt relief. We do not live in such world, the stimulus package is a great example, it’s a huge piece of legislation which virtually nobody who supported has read and has any idea if the things inside are necessary or are results of lobbyists, so beside a short-term positive impact on Velocity of Money the long-term returns from this 'investment' are likely to be small.
The truth is governments don’t tend to attract smart folks simply because its pays too little for the kind of work and exposure you get, you get what you pay for, people from Pimco recommend policies all day long, they would probably work if implemented, yet how come they don’t give up their millions of dollars in pay to work as a bank regulator? The truth is that governments are under human capitalized, I would be surprised if the average IQ of the US Congress is not lower than the average IQ of the SP500 board of directors
The fed as recently as one day after lehman’s failure was voting no change in the fed funds rate citing concerns about inflation, the fdic and the gses continues to keep trying mortgage modifications that fail more than half the time, trichet is complaining lowering rates more in the fact of massive deflation and banking meltdowns. The current financial system is more complex and globalized than most realize, there are numerous interrelationships that we are not aware of, this makes the world economy in this crisis a passenger in a sinking ship. There is little hope that the unintelligent captain with political motivations who helped and cheer leaded the problem can get us of of it.
I do however accept that the downturn could be smaller than otherwise because SLIGHTLY better public policy that in the 1930’s(at least in the US, a good example is the fed commercial paper facility, aggressive easing or slightly higher tendency against protectionism) in the other hand the financial system is more complex and globalized plus some of fiscal holes that a few countries are in could be enormous, that is out global leverage is, if not bigger, far more dangerous due interrelationships(think of all the trillion in losses that are and will be taken worldwide, what if they keep happening in banks of countries with a higher tendency toward protectionism and a few wrong moves set off a round of tariff wars?) which could negate the slightly better (US, European)public policy factor. There is an worldwide asset, credit, economic implosion and the losses just keep mounting, we went from one of the strongest global growth periods in decades to one of the worst in decades in about a year, so extremes are clearly to be expected from this financial system
Great Depression?
Here’s some beliefs that I have that are guiding through this crisis
-Soft landings are rare
-Government is inherently inefficient and unlikely to implement correct policies fast enough or at all
-The rear-view mirror is a misleading guide to the future
The market and the media are constantly looking the politicians and policymakers for ‘solutions’ for the crisis and ‘how to get out’ by implementing XYZ policy.
What they don’t seem to get it that is possible that there is no solution, in an ideal world where government is efficient and intelligent US banks would have all been recapitalized and the US consumer would have been brought to solvency again through debt relief. We do not live in such world, the stimulus package is a great example, it’s a huge piece of legislation which virtually nobody who supported has read and has any idea if the things inside are necessary or are results of lobbyists, so beside a short-term positive impact on Velocity of Money the long-term returns from this 'investment' are likely to be small.
The truth is governments don’t tend to attract smart folks simply because its pays too little for the kind of work and exposure you get, you get what you pay for, people from Pimco recommend policies all day long, they would probably work if implemented, yet how come they don’t give up their millions of dollars in pay to work as a bank regulator? The truth is that governments are under human capitalized, I would be surprised if the average IQ of the US Congress is not lower than the average IQ of the SP500 board of directors
The fed as recently as one day after lehman’s failure was voting no change in the fed funds rate citing concerns about inflation, the fdic and the gses continues to keep trying mortgage modifications that fail more than half the time, trichet is complaining lowering rates more in the fact of massive deflation and banking meltdowns. The current financial system is more complex and globalized than most realize, there are numerous interrelationships that we are not aware of, this makes the world economy in this crisis a passenger in a sinking ship. There is little hope that the unintelligent captain with political motivations who helped and cheer leaded the problem can get us of of it.
I do however accept that the downturn could be smaller than otherwise because SLIGHTLY better public policy that in the 1930’s(at least in the US, a good example is the fed commercial paper facility, aggressive easing or slightly higher tendency against protectionism) in the other hand the financial system is more complex and globalized plus some of fiscal holes that a few countries are in could be enormous, that is out global leverage is, if not bigger, far more dangerous due interrelationships(think of all the trillion in losses that are and will be taken worldwide, what if they keep happening in banks of countries with a higher tendency toward protectionism and a few wrong moves set off a round of tariff wars?) which could negate the slightly better (US, European)public policy factor. There is an worldwide asset, credit, economic implosion and the losses just keep mounting, we went from one of the strongest global growth periods in decades to one of the worst in decades in about a year, so extremes are clearly to be expected from this financial system
Great Depression?
Wednesday, February 4, 2009
World Fate in the Hand of Morons
Sell Everything? Protectionist Nightmare Might be On The Way
The news flow regarding world trade is going from bad to downright frightening, we all know trade credit is collapsing but that is just icing on the cake, the real ‘hammer’ will be laid by politicians. The ‘Buy American’ provision looks like to be on its way, while that provision says it can be removed if it violates language in existing trade agreements that is not the point, the point is that human nature has not changed, the temptations for politicians are still there and for now they seem to be respecting pre-credit bubble burst agreements however its just doesn’t look likely they will contain their visible hand from messing world trade.
There is little reason to believe US and world politicians are more disciplined today than they were in the past, spending as a percentage of GDP has been ballooning for decades and it only looks like it will continue. Hypocrisy is still widespread as tax fraudsters are running for office by the leaps and bounds. Free trade has been a consensus among economists for a really long time, Hoover got a letter signed by 1028 economists begging him to not go forward with Smooth Hawley, its likely he knew his measures would be damaging, however the temptations of politicians of trying to buy votes to stay in power were too great and he started a world trade war. We probably have the greatest risk of a world trade war now than we ever did since the depression, the risks are clearly on the downside as the future is depending on politicians who usually don’t posses a pristine track record. The G7 said no protectionism, then the individual countries proceeded to pass a number of tariffs and barriers to trade
It will be absolutely crucial to see how this ‘Buy American’ provision moves forward, could congress and the administration move in with this and simply ignore language from NAFTA and therefore give ‘reasons’ for Mexico and Canada to strike back? The consequences of such event could be apocalyptic as it would send a message to the entire world that the leader in worldwide trade thinks ballot boxes and special interests are more important than keeping their word, at that point all you can do is to sell everything, short the stock market, buy DEEP out of the money puts in the stock market as the consequences of such events tend to be underpriced by the market
The Chinese and Europe are also two to watch. The Chinese have been called currency manipulators and they were not pleased, verbal trade war has already began. We are not in what it seems to be a mining field where politicians will use each other mistakes and actions to justify their own lunacies. The Austrian Economist portfolio will not be in play in the case of protectionist hell, the Great Depression Portfolio(long gold, short stocks, long SPY puts, long treasuries, long select commodities, short select commodities) will be the name of the game.
At this point the outlook for world trade is not entirely clear but the news flow points that the same process is happening, in the beginning it’s the denial that protectionism is even taking place. Joe Biden downplayed the ‘Buy American’ provision, they want to tell us everything is fine and they are not that crazy. Except they are.
Even if the US is ‘different’ because their leaders are more aware of the consequences of trade wars(an not entirely resonable assumption), we are talking about dozens of countries, some led by nutcases, if you are an optimist, are you really that confident that the worst recession since WW2 wont lead dozens of leaders to do their usual lunacies because this time is different? The last time I checked Adam Smith was being ripped left and right in discussions
The news flow regarding world trade is going from bad to downright frightening, we all know trade credit is collapsing but that is just icing on the cake, the real ‘hammer’ will be laid by politicians. The ‘Buy American’ provision looks like to be on its way, while that provision says it can be removed if it violates language in existing trade agreements that is not the point, the point is that human nature has not changed, the temptations for politicians are still there and for now they seem to be respecting pre-credit bubble burst agreements however its just doesn’t look likely they will contain their visible hand from messing world trade.
There is little reason to believe US and world politicians are more disciplined today than they were in the past, spending as a percentage of GDP has been ballooning for decades and it only looks like it will continue. Hypocrisy is still widespread as tax fraudsters are running for office by the leaps and bounds. Free trade has been a consensus among economists for a really long time, Hoover got a letter signed by 1028 economists begging him to not go forward with Smooth Hawley, its likely he knew his measures would be damaging, however the temptations of politicians of trying to buy votes to stay in power were too great and he started a world trade war. We probably have the greatest risk of a world trade war now than we ever did since the depression, the risks are clearly on the downside as the future is depending on politicians who usually don’t posses a pristine track record. The G7 said no protectionism, then the individual countries proceeded to pass a number of tariffs and barriers to trade
It will be absolutely crucial to see how this ‘Buy American’ provision moves forward, could congress and the administration move in with this and simply ignore language from NAFTA and therefore give ‘reasons’ for Mexico and Canada to strike back? The consequences of such event could be apocalyptic as it would send a message to the entire world that the leader in worldwide trade thinks ballot boxes and special interests are more important than keeping their word, at that point all you can do is to sell everything, short the stock market, buy DEEP out of the money puts in the stock market as the consequences of such events tend to be underpriced by the market
The Chinese and Europe are also two to watch. The Chinese have been called currency manipulators and they were not pleased, verbal trade war has already began. We are not in what it seems to be a mining field where politicians will use each other mistakes and actions to justify their own lunacies. The Austrian Economist portfolio will not be in play in the case of protectionist hell, the Great Depression Portfolio(long gold, short stocks, long SPY puts, long treasuries, long select commodities, short select commodities) will be the name of the game.
At this point the outlook for world trade is not entirely clear but the news flow points that the same process is happening, in the beginning it’s the denial that protectionism is even taking place. Joe Biden downplayed the ‘Buy American’ provision, they want to tell us everything is fine and they are not that crazy. Except they are.
Even if the US is ‘different’ because their leaders are more aware of the consequences of trade wars(an not entirely resonable assumption), we are talking about dozens of countries, some led by nutcases, if you are an optimist, are you really that confident that the worst recession since WW2 wont lead dozens of leaders to do their usual lunacies because this time is different? The last time I checked Adam Smith was being ripped left and right in discussions
Tuesday, January 27, 2009
How can you be all-in if you still got chips
No Pimco’s Bill Gross, the Fed is not All-In
I’m going to address an issue here that I think its crucial for the US macro picture going forward
If you look the last FOMC statement and minutes the Fed is not yet on full blown panic mode yet, they still say stuff like "the Committee expects inflation to moderate further in coming quarters" "disinflationary effects" "further moderate reductions in inflation expectations caused the staff to reduce its forecast for both core and overall PCE inflation" "Several participants observed that monitoring measures of inflation expectations for signs of disinflationary dynamics would be especially important going forward."
This indicates that the D word(deflation) is still feared, the fed still got hopes the market itself wont jump(or at least that they could exacerbate) in deflationary expectations because of the careful fed language. The fed is somewhat still in some kind of denial phase with regards to deflation
The reason I say the fed is not all in is because they still haven’t gone "Bernanke 2002", if you read the "Deflation, making sure it doesn’t happen here" speech just by noticing the language(starting by the no apologies D word title) and things like "U.S. dollars have value only to the extent that they are strictly limited in supply" "By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services" "We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation."
This "US dollar can became garbage at our will" attitude we still haven’t seen from the current Federal Reserve.
In Bernanke’s book "Essays on the Great Depression" he points out an interesting fact which I think its relevant for monetary policy today, countries that went OFF the gold standard(thus removing limitations to print more money) in the 30’s didn’t necessarily saw an increase in their money supplies right away(it only happened later), in fact in the first 2 years the countries on gold and off gold showed little difference in the collapse of their M1s, yet the amount of deflation was smaller in the countries that were OFF the gold standard.
Bernanke theorizes that the reason for that was going off the gold standard(through a devaluation, ending convertibility of paper money) initiated inflationary expectations in the economy, as people get worried the government is about to print or devalue more, which lead people to spend early and spend often.
I believe the same dynamic will be necessary to get the US out of this deflation trap, the fed has hinted sometimes they are printing money with statements like "we will fund our purchases with creation of bank reserves" but Bernanke as recently as Jan 13 lse speech went out of his way in a speech in London to explain why lots of the fed moves are not inflationary and how the people who accuse the fed of money printing are wrong, he explained how they would unwound all the facilities and cut down the monetary base. He still being a apologetic money creator
That’s not how a guy whos all in sounds like. We need to remember the fed is a bureaucracy, they where a bit slow to get in the massive easing, they are also being a bit slow to tell the world "US dollars are garbage, we’ve got printing presses and we will not be afraid of using them", they only have began thinking about an inflation target as a way to make people worried about money printing, ultimately I think they will go there(there meaning, managing expectations) big time because deflationary mindsets will keep sweeping the nation as gas drops to $1 and the output gap stays large and the huge credit bubble gets unwound, so even if some ultra deflation bears are right that banks wont lend and the money printing wont be multiplied through the financial system, all it takes for deflation to stop is for people to get worried dollars will be printed out of existence, money velocity will go up and inflation will come back, the austrian economist portfolio would benefit from this
The next FOMC statement should be interesting because I think they will more and more start hinting they want people worried about inflation but I think the key indicator is the Core CPI(the core PCE as well), when Ben made his speech in 2002, the yoy core CPI had tanked for more than 12 months by then, there was a War hurting comsumer spending, fiscal packages had failed, there was no hope the fed could try lean on, they had already agreed there was a train coming and had to do something, today the core cpi is only starting to tank and is still quite positive y-o-y, there still some hopes attached to the large fiscal package, once they get the final confirmation by a collapsing core CPI we will see the fed mouthpieces(like Bernanke was in 2002) go out and make ‘speeches’ on how dollars will be printed and if inflation comes ‘so be it’, they will try to get a false image the fed doesn’t care about inflation to get Joe and Jane to buy goods and services and I think the fed will succeed. As for right now the fed is still too hopeful deflation will be quick or that the stimulus will work or the commodity parabolic move is still fresh in their memories(what they refer as 'significant uncertainty remains'), reality will change their minds
I’m going to address an issue here that I think its crucial for the US macro picture going forward
If you look the last FOMC statement and minutes the Fed is not yet on full blown panic mode yet, they still say stuff like "the Committee expects inflation to moderate further in coming quarters" "disinflationary effects" "further moderate reductions in inflation expectations caused the staff to reduce its forecast for both core and overall PCE inflation" "Several participants observed that monitoring measures of inflation expectations for signs of disinflationary dynamics would be especially important going forward."
This indicates that the D word(deflation) is still feared, the fed still got hopes the market itself wont jump(or at least that they could exacerbate) in deflationary expectations because of the careful fed language. The fed is somewhat still in some kind of denial phase with regards to deflation
The reason I say the fed is not all in is because they still haven’t gone "Bernanke 2002", if you read the "Deflation, making sure it doesn’t happen here" speech just by noticing the language(starting by the no apologies D word title) and things like "U.S. dollars have value only to the extent that they are strictly limited in supply" "By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services" "We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation."
This "US dollar can became garbage at our will" attitude we still haven’t seen from the current Federal Reserve.
In Bernanke’s book "Essays on the Great Depression" he points out an interesting fact which I think its relevant for monetary policy today, countries that went OFF the gold standard(thus removing limitations to print more money) in the 30’s didn’t necessarily saw an increase in their money supplies right away(it only happened later), in fact in the first 2 years the countries on gold and off gold showed little difference in the collapse of their M1s, yet the amount of deflation was smaller in the countries that were OFF the gold standard.
Bernanke theorizes that the reason for that was going off the gold standard(through a devaluation, ending convertibility of paper money) initiated inflationary expectations in the economy, as people get worried the government is about to print or devalue more, which lead people to spend early and spend often.
I believe the same dynamic will be necessary to get the US out of this deflation trap, the fed has hinted sometimes they are printing money with statements like "we will fund our purchases with creation of bank reserves" but Bernanke as recently as Jan 13 lse speech went out of his way in a speech in London to explain why lots of the fed moves are not inflationary and how the people who accuse the fed of money printing are wrong, he explained how they would unwound all the facilities and cut down the monetary base. He still being a apologetic money creator
That’s not how a guy whos all in sounds like. We need to remember the fed is a bureaucracy, they where a bit slow to get in the massive easing, they are also being a bit slow to tell the world "US dollars are garbage, we’ve got printing presses and we will not be afraid of using them", they only have began thinking about an inflation target as a way to make people worried about money printing, ultimately I think they will go there(there meaning, managing expectations) big time because deflationary mindsets will keep sweeping the nation as gas drops to $1 and the output gap stays large and the huge credit bubble gets unwound, so even if some ultra deflation bears are right that banks wont lend and the money printing wont be multiplied through the financial system, all it takes for deflation to stop is for people to get worried dollars will be printed out of existence, money velocity will go up and inflation will come back, the austrian economist portfolio would benefit from this
The next FOMC statement should be interesting because I think they will more and more start hinting they want people worried about inflation but I think the key indicator is the Core CPI(the core PCE as well), when Ben made his speech in 2002, the yoy core CPI had tanked for more than 12 months by then, there was a War hurting comsumer spending, fiscal packages had failed, there was no hope the fed could try lean on, they had already agreed there was a train coming and had to do something, today the core cpi is only starting to tank and is still quite positive y-o-y, there still some hopes attached to the large fiscal package, once they get the final confirmation by a collapsing core CPI we will see the fed mouthpieces(like Bernanke was in 2002) go out and make ‘speeches’ on how dollars will be printed and if inflation comes ‘so be it’, they will try to get a false image the fed doesn’t care about inflation to get Joe and Jane to buy goods and services and I think the fed will succeed. As for right now the fed is still too hopeful deflation will be quick or that the stimulus will work or the commodity parabolic move is still fresh in their memories(what they refer as 'significant uncertainty remains'), reality will change their minds
Monday, January 19, 2009
Warren E Buffett
It's Official: Warren Buffett is Losing His Touch
First let me say that I consider Buffett the best stock picker in history, he’s no doubt richer than any of his critics. I usually think the folks who say Buffett is losing his touch as morons without a clue. But the facts have changed; a simple example is Buffett’s investment in Bank of America. During Q2 2007 Buffett bought 8,700,00 shares of BAC at an aprox avg of $49, he rode them all the way down to
Aprox avg of $30 in Q3 2008 when he sold 3,700,000 shares. He still has 5m shares but Q4 data is not out yet, I would not be surprised to find out he sold out all his position at a large loss. We heard the Buffett minions claiming he saw the crisis coming, yeah right, except he didn’t. All he had was a few unkind words about derivatives in 2003, he had no clue of the implications of a housing bust would have in his portfolio and the bad shape of the US banking system.
The two largest positions at Berkshire Hathway are Coke and Wells Fargo. Buffett has about $10b invested in a company (WFC) who, contrary to what the optimists say, did plenty of bad lending and is trading at unreasonable valuations compared to its peers. I don’t care who manages Wells Fargo, the US economy is bigger than any CEO, specially one who lies about the quality of his performance. Buffett is also long USB, who’s tanking along with the banking sector. Buffett not having sold WFC is like his mistake of not having sold KO during the 90’s stock bubble, banking will be an utility business from now on
The ROE(return on equity) of banks should lag significantly of the average US corporation for the next 10 years, their stocks should lag the averages as well, there is very little reason to be long of banking for the long-run, it doesn’t matter who is managing, you are just giving up better more profitable opportunities out there that are less levered(Not to mention the risk of outright nationalization of certain US banks which will send shares of ALL banks plunging as the market demands lower multiples for bank shares)
Buffett also made investments in GE and GS as an indirect bet they were too big to fail(although he doesn’t admit that, he only claims the GS ‘this or that might happen but they will still be around’ which I take as a cowardly way of saying they are too big to fail), while the preferreds will probably survive its likely his warrants in GS will expire worthless, in GE that risk is also significant
And then there is AXP, I have outlined some reason on why I speculate the US credit card lending industry is in for a nasty hard landing, I haven’t done much research on AXP lending standards but I would not be surprised if they are WFC type liars as well.
You just can’t take the word of management and even if you do in this cycle FICO scores are getting meaningless. Any company who’s levered long US Credit is in risk of blowing up, so my point is that I don’t know if AXP(the common stock) can survive but neither does Buffett, Buffett uses a Value At Risk type mentality in order evaluate some companies which I believe is very dangerous in this environment.
It goes along the lines ‘these guys had a moat in the last 20-30 years, this will likely continue forever’(I can already hear the buffettologists taking issue with this simplification but its essentially the method he uses), this type of mindset lead people to lending to US Real Estate on the expectation that home prices couldn’t fall. The credit card lending industry had the winds of a credit bubble (allowing debt consolidation helping people to pay off their credit cards and helping the ponzy economy to grow) and asset bubble(providing people with means for servicing, paying off credit card debt and allowing the ponzy economy to grow) on their backs for decades, all of that now is gone and my point is Buffett doesn’t have any idea what kind of landing the credit card industry will have. I don’t either, although I speculate it will be a very hard one. But for Buffett to use the type of rear view mirror looking ‘Value At Risk’ as his ‘margin of safety’ and not having sold out AXP before was too late shows he is not sharp these days
Again, Buffett is a hell of a micro analyst. He can analyze company specific issues like no one else can but he has a hardcore belief that you cant predict macro events(why he doesn’t tell that to my banker) or outside the company changes(like regulatory change) and this has lead him to hold 31%(his 2nd largest sector) of his $70B stock portfolio in Financials as of Q3 2008(on top of his financial private company portfolio which he cant sell but he could hedge) just about the time the financial bubble is bursting, he is good at changing his mind, so far he has failed to change about this one. I understand he is not a trader but the amount of fundamental change for the long-run ROE of financials has been massive yet he doesn’t seem worried, after all “they have done so well in the last 20 years”
First let me say that I consider Buffett the best stock picker in history, he’s no doubt richer than any of his critics. I usually think the folks who say Buffett is losing his touch as morons without a clue. But the facts have changed; a simple example is Buffett’s investment in Bank of America. During Q2 2007 Buffett bought 8,700,00 shares of BAC at an aprox avg of $49, he rode them all the way down to
Aprox avg of $30 in Q3 2008 when he sold 3,700,000 shares. He still has 5m shares but Q4 data is not out yet, I would not be surprised to find out he sold out all his position at a large loss. We heard the Buffett minions claiming he saw the crisis coming, yeah right, except he didn’t. All he had was a few unkind words about derivatives in 2003, he had no clue of the implications of a housing bust would have in his portfolio and the bad shape of the US banking system.
The two largest positions at Berkshire Hathway are Coke and Wells Fargo. Buffett has about $10b invested in a company (WFC) who, contrary to what the optimists say, did plenty of bad lending and is trading at unreasonable valuations compared to its peers. I don’t care who manages Wells Fargo, the US economy is bigger than any CEO, specially one who lies about the quality of his performance. Buffett is also long USB, who’s tanking along with the banking sector. Buffett not having sold WFC is like his mistake of not having sold KO during the 90’s stock bubble, banking will be an utility business from now on
The ROE(return on equity) of banks should lag significantly of the average US corporation for the next 10 years, their stocks should lag the averages as well, there is very little reason to be long of banking for the long-run, it doesn’t matter who is managing, you are just giving up better more profitable opportunities out there that are less levered(Not to mention the risk of outright nationalization of certain US banks which will send shares of ALL banks plunging as the market demands lower multiples for bank shares)
Buffett also made investments in GE and GS as an indirect bet they were too big to fail(although he doesn’t admit that, he only claims the GS ‘this or that might happen but they will still be around’ which I take as a cowardly way of saying they are too big to fail), while the preferreds will probably survive its likely his warrants in GS will expire worthless, in GE that risk is also significant
And then there is AXP, I have outlined some reason on why I speculate the US credit card lending industry is in for a nasty hard landing, I haven’t done much research on AXP lending standards but I would not be surprised if they are WFC type liars as well.
You just can’t take the word of management and even if you do in this cycle FICO scores are getting meaningless. Any company who’s levered long US Credit is in risk of blowing up, so my point is that I don’t know if AXP(the common stock) can survive but neither does Buffett, Buffett uses a Value At Risk type mentality in order evaluate some companies which I believe is very dangerous in this environment.
It goes along the lines ‘these guys had a moat in the last 20-30 years, this will likely continue forever’(I can already hear the buffettologists taking issue with this simplification but its essentially the method he uses), this type of mindset lead people to lending to US Real Estate on the expectation that home prices couldn’t fall. The credit card lending industry had the winds of a credit bubble (allowing debt consolidation helping people to pay off their credit cards and helping the ponzy economy to grow) and asset bubble(providing people with means for servicing, paying off credit card debt and allowing the ponzy economy to grow) on their backs for decades, all of that now is gone and my point is Buffett doesn’t have any idea what kind of landing the credit card industry will have. I don’t either, although I speculate it will be a very hard one. But for Buffett to use the type of rear view mirror looking ‘Value At Risk’ as his ‘margin of safety’ and not having sold out AXP before was too late shows he is not sharp these days
Again, Buffett is a hell of a micro analyst. He can analyze company specific issues like no one else can but he has a hardcore belief that you cant predict macro events(why he doesn’t tell that to my banker) or outside the company changes(like regulatory change) and this has lead him to hold 31%(his 2nd largest sector) of his $70B stock portfolio in Financials as of Q3 2008(on top of his financial private company portfolio which he cant sell but he could hedge) just about the time the financial bubble is bursting, he is good at changing his mind, so far he has failed to change about this one. I understand he is not a trader but the amount of fundamental change for the long-run ROE of financials has been massive yet he doesn’t seem worried, after all “they have done so well in the last 20 years”
Monday, January 12, 2009
Ben Shalom Bernanke
Ben Bernanke Is a Lunatic Paranoid Money Printer
First let me say that the title was made just to grab your attention. I actually have a good deal of respect for Bernanke even though he is wrong often,
after reading his book(most of it anyways, the labor chapters are too boring) 'Essays on the Great Depression' I have come to develop a greater deal of understanding for fed policy and specially for Bernanke's tendencies. It made me a hell of lot comfortable to keep holding my quite levered position on fed funds futures which is a bet Bernanke wont raise fed rates in 2009
Now I know what the Austrian economists think when Monetarists say the Fed was supposed to print more money in the 30's and are supposed to do the same now, 'You can't create wealth through printing of currency, otherwise we would not need to work, we would print our way to prosperity', of course they are right but even Milton Friedman acknowledged that in the book 'Money Mischief'.
Where they are wrong is that changes in the price level can affect the economy in a real way. I cannot make it more simpler than through a minimum wage(MW) example. Lets say the MW is $7 a hour, the Fed then allows deflation to take place during a recession and the price level declines by 10% a year, this means the real MW should be rising by about 10% every year and that’s how changes in the price level could affect the real wealth the Austrians are so concerned about.
If deflation is widespread persistent then at some point the top 10% of the population(the very rich) will be earning the MW, everybody else would be either out of work or breaking the law, needless to say that’s not good for the economy and consumer spending(an absurd example but it makes the point)
The MW is simply one channel of how deflation could work its way into affecting real GDP, debt deflation, liquidity traps, etc would be others.
Now how that leads to global macro trading and money making opportunities? The idea here is to understand the position Bernanke is in and realize given a choice he will choose inflation, the conclusion of his book is that during the 30's the countries that kept their currencies tied to gold and refused to devalue(US, France) had a longer and deeper depression than the countries that did just that(UK, Japan, Canada). The modern equivalent of getting off the gold standard and devaluing is 0% policy rates, quantitative easing and purchasing various assets(even private ones) by issuing electronic money. Preventing bank runs was also a factor he pointed out, although the US has succeeded in that through FDIC insurance and TARP bailouts
But whatever happens one of the few certainties we have is that the USD and higher inflation will pay part of the bill for this Credit Crisis given that its one of Fed policies to drive down the dollar(devalue) and reflate during deflationary environments
Which means betting on inflation down the road will be one of the easiest moneys one will ever make, an Austrian Economist Portfolio will look really good down the road(Long Commodities, Short 30Y TBond, Short USD, Long Canada, Brazil, Australian equities, Long Gold and Silver), the trick here is the timing, I wouldn't pull the trigger in The Great Inflation trade because the trend is down and the global recession should last at least 6 more months and there is a possibility(however small) that the Fed will blow this one and stop printing money
Since the financial bubble has burst the Velocity of Money is collapsing and if they fed doesn’t succeed in balancing the formula of Prices = Money * Velocity/Real Output widespread deflation takes place and the consequences of it will be a self-feeding collapse that will put LeeRockwell in bankruptcy faster than he launch a rant on Paul Krugman.
So instead of trying to pick a bottom here I rather way and be late to the party. If the Great Inflation arrives, I expect it to stay with us for years(and will became a huge profitable bubble mostly due the commodity factor like in the 70's) and there will be plenty of time to get in. Just look for the Treasury bull market, you could have gotten in as late as mid 2007 and still made a killing
And for those who expect a soft landing in terms of prices(Those that expect the fed will magically land inflation at 2% after the crisis is over) I have a quote from none other than Alan Greenspan commenting on how does it feel to try to generate a soft landing in the economy through monetary policy in 1994-95 tightening cycle
"It didn't felt like 'Oh, lets execute a soft landing'; it felt more like 'Let's jump off this sixty-story building and try to land on our feet'"
Mr Bernanke will need a lot of plaster
Thursday, January 8, 2009
2009 Global Macroeconomic Outlook
We have all been lied to. There was no global growth story, it was a unsustainable boom fueled by a bubble mindset that kept throwing money and credit at countries with long histories of spectacular busts such as
Even Pimco, that are usually market savvy guys, bought into a quasi-decoupling theory. The outlook for the global economy is downright awful, so bad that I will describe my current speculative positioning
Spec's Portfolio
Long SPY puts
Short WFC
Short COF(Credit card lender)
Long OSTK puts(Retailer losing money badmouthing short sellers)
Long Fed Funds Futures(they rise in value as the fed eases)
Long C 2014 bonds(A too big to fail bet)
Short C(hedge for the bonds)
Long VLO(beaten down refiner)
I'm also long two penny stocks which shall remain nameless
There will not be a Great Depression I can assure you. Anybody who's read Ben Bernanke's book 'Essays on the Great Depression' can figure out New Yorkers will be swimming in dollar bills printed by the Fed, Broadway Ave will be greener than Central Park before persistent deflation is allowed to happen
The gold exchange standard and bank runs that were so crucial to the 1930's deflation are not present due the current fiat US dollar standard, FDIC insurance and TARP bailouts. We do have a financial bust of spectacular proportions which can create deflation through the Velocity factor of a version quantity theory of money(Prices = Money x Velocity / Real GDP), so one of the most important indicators for 2009 will be the velocity of money(how often money turns over in the economy)
How much the shadow banking system collapse and the widespread fear of banks,consumers and companies and a 'Reverse Minsky Journey' will affect V and whether the fed prints enough money to offset the collapsing V is one of the most important questions for current year
I'm not optimistic about it because economists, which is pretty much the entire FOMC and Fed board, are too backward looking, they use a version of Value At Risk to measure macroeconomic risks.
They could look back in the last 20 years and think 'Velocity doesn't drop all the much in recessions, we cant risk to overprint, lets keep M1 growing at the current rate', this could lead to deflationary disasters of epic proportions because a financial bubble of this size that is bursting could lead to unforeseen consequences the past is not a good guide, we are in uncharted waters. I dont necessarily think this scenario is likely but one should monitor these kinds of tail risks because the consequences will be so large
Another very disturbing factor is the global collapse in the trade sector. I know all the economists and pundits says 'this time its different' because politicians know the damage of protectionism, they 'learned' from mistakes in the past. Where they are wrong in that the idea that free trade is good was a consensus in the
The collapsing credit for the trade sector also makes more likely global trade is in for hard landing. A government can engage in protectionism by simply refusing to help importers through government credit
5 Predictions for 2009
1)The SP500 will test and break its lows
Currently investors are engaged in quasi fantasy that everything will be fine after the magical last day of Q2 ends. There is little doubt they are betting in a soft landing scenario for financial crisis which would be an anomaly
aftermanth.pdf
What investors don’t realize is that testing the lows is the rule not the exception
http://www.bloomberg.com/apps/news?pid=20601087&sid=ak7FQQWIAF5k&refer=home
2)Emerging Markets(equities and debt) will get another round of spanking
When the US tanks EM always go with it, the decouplers were betting in a 'New World Economy' they got it wrong in 2008, they will be wrong again in 2009, if you think there is value in some EM out there will till you see late in the year. You just can't get US equities down 20%(from current levels) and sustain global risk appetite, even IF some EM will whether this downturn well the bottom line is that trading and speculations is a greater fool game and there wont be a significant sustainable rally in EM equities year, at least not before they tank again
3)The Fed will not raise rates for the entire year of 2009
Economists polls say fed raises by the middle of the year, fed funds futures are pricing a similar outcome(thus providing value for speculations). Its simply not going to happen when Velocity of money is tanking, and deflationary expectations are sweeping the nation. The FOMC minutes show how worried they are about not letting Joe and Jane delay purchases to get a bargain down the road
4)The US stimulus package will help but will NOT lead to recovery
Look at the kinds of pork they attached to TARP legislation.
5)The US Credit Card industry will be blown away on how bad things will get
Which is why I'm short COF. These guys were the lenders of last resort on the credit bubble, the worst consumers maxed out their credit cards just before one of the world economic environments the industry will ever face
The
Anyone with brokerage account, internet and willingness to read bloomberg can and should profit handsomely from the existing large global imbalances in 2009
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