Wednesday, December 24, 2008

The Big Big Review

Happy Holidays to all and thanks to our most frequent readers (DC, TC, Samir, Drs. T and Mike, Anon, and my family) for your continued support throughout our first. Thanks as well to our international readers and all of the hedge and mutual funds who have logged in if not on (Schwab, Lehman, Annaly....).

Well, I think by any measure, The BBB has had a great year in what was otherwise a horrible year for investors. As the market descends towards 40% from it's late 2007 highs, we should finish the year post-fees, pre-tax, about 65%-70% ahead of that market. Our willingness to stand fast in the face of constant analyst optimism and sanguine projections has allowed us to take chances on out-of-the-money positions with great reward. Ironically, it was the pre-Lehman collapse flinch (I chickened out), that cost me (but hopefully not you) even much greater gains. But all in all, not bad for a PA who does research in his spare time and avoids "market wisdom" like the plague.

Let's review the mostly good and some of the bad from our 1st year. Hope it was a profitable one for all and I hope to do as well if not better next year.


1. These were the big ones. Just based on these, had you held them to melting point and put enough cash in, you were looking at maybe a lifetime's worth of good returns. The following were shorted and went to $1 or less.

a. Lehman (recommended puts at $32, and again at $27 after bouncing back from $20)
b. GNW (recommended puts at $17)
c. GGP (recommended puts at $30)

2. Almost as good, these stocks crapped out below $5 after I recommended shorting them.

a. WaMu (recommended at $20)
b. Wachovia (recommended at $10)
c. Citi (recommended at $18)
d. National City (recommended at $9 for a strangle, could've made money on both ends)

3. Homebuilders. Like banks at the beginning of the year, I refused to believe that there wasn't a lot more downside. These puts all did well.

a. Centex
b. Lennar
c. MDC (had to be more patient with this one)
d. Ryland (still holding this one, but could've sold for 50% profit from reco point on 4/10s and 4/15s)

4. Retail! We were waiting, perhaps too long, for these opportunities but they turned out to be some of the best picks of the year.

a. Williams-Sonoma (200%)
b. Cheesecake-great food, crappy stock (200%)
c. Darden-looking good on this one, shorted at $25, got out at $15, now up to $28

5. Jumbalaya. An assortment of other recos, while not going to zero, would've done very well had you followed my short points.

a. East West Bancorp (800%)
b. Sovereign (almost 300%)
c. Saks (300%)
d. SRS-What looked like our biggest loser in July turned out to be a homerun at $295 a few weeks ago. It has since plunged to $56 and I recommend playing this game again. I am.
e. XLF (reco short at 38, down under $10 several times)
f. XLY (reco short at $30, around $20 now)
g. Capital One-I really hated this stock all year. I recommended shorting it the 4 times it went over $50 and this trade would've worked each time. Now at $28.

Now for some humble pie....


1. As I watched the no-short rule, bailouts, and printing presses all conspire to knock down my shorts, I felt that a Lehman bailout was inevitable. I underestimated the pure hatred Dick Fuld inspired and that his company alone would be that last to fail. What I thought we be a huge bear-market rally turned out to be the jump off point for the real bear market that I had been waiting for all year. I folded a week early, and turned winning positions into losers on AN, KMX, BAC, and WB. Had you shown more manhood than me, you would've been sitting on real gains in all of these positions.

2. Long positions. Why? As I look back, I don't know. The thought that even strong-earning, dividend boasting stock could perform in this environment was silly. While PXJ and Cummins were both up 25% from reco dates at one point, they are a long way from there now.

3. Perhaps the ugliest of all, Freeport (FCX) calls to 2010. With the stock dropping from about $130 to under $20 at one point, I am reminded of that strange term, "stop-loss."

While I'm sure neither of these lists are complete (the beauty of archived blogs, and feel free to remind me of even more losers), I think you get the picture. Pretty good. Going forward, I expect a shift to even more of a black swan portfolio, conserving cash and retaining a portion of our investments for out-of-the money homeruns/gambles. Currently, we are sitting on the following:

1. Gold 2010 calls. If we continue to print fiat money at record pace, gold must go up. With demand destruction of world commodities though, will 13 months be enough time for a small deflation cycle followed by rampant hyperinflation? I think so.

2. Ryland puts. Homebuilders and owners are bankrupt. Will a bailout save these guys too? Don't think April is enough time, especially if one of the big 3 blows through all of their loan before then.

3. Citi. Won't be allowed to fail, that we've seen. Bought it at $8. Check back in a couple of years.

4. Build-a-Bear. C'mon, if this company survives next year I'll be shocked.

2009 Insight? Probably save that for 1st blog of the new year. The only things I have a close eye on are BAC and USO. If BAC gets down to $10 or $11, think we're going long for all of the same reasons we did with Citi, plus the already in-place insurance of the Merrill purchase. Oil gets more interesting by the day. USO closed at $29 today. The question is whether or not to just buy the ETF or go long to 2011. Can oil get stuck in the $25-$40 range for 2 years? Yep. Might it go to $70-$80 though? Place your bets.

Happy New Year everyone and I hope you will continue to enjoy The BBB!

Saturday, December 20, 2008

Back to Betting

Let's ignore the bailout and move on, as we knew that was coming. A few observations:

1. The Madoff scandal will cost an estimated $50 billion in losses. In January, on news of a French banker blowing $6 billion, the market opened down 700 points. This market threw the Madoff news onto page 2 behind the bailout.

2. The Fed is finished as a competent/respected institution. In his article on why the Fed has become obsolete, Jim Jubak points out:

"The Fed is supposed to care more about the soundness of the system as a whole than about picking winners and losers. But court papers in the Lehman Bros. bankruptcy case show that on Sept. 15 and 16, after declining to rescue Lehman, the Fed lent a Lehman subsidiary $138 billion so that the subsidiary, Lehman's broker-dealer business, could wind down tens of thousands of trades with other Wall Street companies in an orderly fashion. It appears that the Fed found it could move when the profits of other Wall Street companies were at stake. The Fed is supposed to be an impartial regulator of the financial markets, not a covert protector of strong institutions at the expense of weak ones. By compromising its impartiality, the Fed is also compromising its ability to lead an effort to build a new global financial system. "

3. The market gave back all of its rate cut rally within 3 days. As John Markman pointed out this week, the future earnings of S&P companies will be so bleak, the market will be forced to capitulate. He estimates new lows for the S&P between 550-700 next year. Ouch.

4. Gold cracked a 2-month high. Oil fell to a 5-year low. You know that I'm very bullish on gold. Do I think oil will go down to $25? Certainly possible. But will it stay below $40-$50 for a few years is the question. I don't think so. I'm actually waiting for the USO to break into the $20s before I go long however. I might hedge with both LEAPS out to 2011 and just straight purchase of the ETF in case demand destruction means a 3-5 year window before oil races back up.

5. Christmas comes early this year. Retail sales have been so sluggish that post-holiday clearance sales are happening today. Itulip recommends saving your money now as the next leg down is large retailers rapidly going out of business and forced liquidation sales with prices of 80% off.

Taking a break from our cheery analysis, I'd like to post my bowl confidence picks for the season. This year's games seem particularly difficult because so many mediocre teams are eligible. However, getting the big ones right is all that matters. I will post in order of confidence, not by bowl. My loyalty will be to my wallet as I'm picking against my alma mater.

34. (highest) Texas
33. Central Michigan
32. USC
31. Texas Tech
30. Georgia
29. E. Carolina
28. Alabama
27. Florida
26. Kansas
25. Florida St.
24. Boston College
23. Oregon St.
22. Iowa
21. Cal
20. Georgia Tech
19. Tulsa
18. Rutgers
17. Missouri
16. Nebraska
15. Boise St.
14. Rice
13. Air Force
12. BYU
11. La. Tech
10. Cincinnati
9. Troy
8. Memphis
7. Hawaii
6. Oklahoma St.
5. navy
4. Colorado St.
3. Buffalo
2. North Carolina
1. Nevada

Tuesday, December 16, 2008

Let's Go to Zero

Each rate point cut has correlated with about a 1K point loss in the Dow, so cutting rates to zero makes a lot of sense. Following on our Chanos kick, when interviewed by Bloomberg today about what he thinks of all these analysts saying now is the time to buy, he responded by saying, "Are those the same analysts who told us all to sell a year ago?"

Irwin Kellner, Marketwatch's chief economist, pointed out what we already know. Low interest rates only matter if people are lending, and this additional cut is really meaningless. The only thing it helps solidify is the impending hyperinflation that will be created by the flooding and diluting of the dollar. Jim Rogers pointed out that the pound fell 90% from its high when it got replaced as the world's currency, and with the yen falling to 88 cents today, we're well on our way.

Chanos did point out that he is done shorting homebuilders in the single digits. But we shorted Ryland closer to twenty, and after their bonds were cut to junk and they were forced to cut their dividend 75% to 3 cents, we're going to hang on. Hovnanian lost almost $6/share today. "With the U.S. economy in a severe recession and housing likely to deteriorate more sharply in 2009, U.S. home builders are facing even more operational and financial pressures," Fitch Ratings said in a statement this week." S&P also gave a gloomy outlook for the industry. "While we expect that the severity of the recession will be moderate by historical standards, we don't believe the economy will begin to turn around until the middle of 2009, and this view influences our bearish stance on the creditworthiness of U.S. home builders."

Creditworthiness? Are you kidding? Two REITs, DDR and GGP, almost went under this week when unable to restructure their debt and may still go down. MGM gave away a casino yesterday. Real estate just isn't a very good business right now. Yet the SRS managed to go down 25% today! Ridiculous. For those with strong stomachs, this is a good trade if nothing else in the low 60s.

While I do think that the market will conspire against us this week with the impending bailout (again) looming to aid today's rally, the market ignoring Goldman's $5/share loss, and GE just deciding they won't give guidance anymore, take a look at where gold finished. Over $850, it's highest point in 2 months. Watch out. When the dollar fails and inflation kicks in (again), the shiny stuff is going to 4 digits.{ee0599de-3a35-429a-811b-62d765a6f61d}

Wednesday, December 10, 2008

The Low Hanging Fruit Will Be Driving Cabs

Can't take credit for this one either. It's actually a combination of two of my favorite quotes from short-sellers recently. The first part is in reference to Ivy-Leaguers who bought the other side of CDS contracts taken by a hedge fund manager who made 800% last year. The 2nd part comes from Jim Chanos, short-seller, whose fund is up 50% this year. “The marginal people on the trading desks, there’s no skill set,” he says. “If they don’t trade derivatives, I don’t know what they can do. The next stop is driving a cab.”

And yet, optimism remains in this market. Obama has conceded that while we shouldn't borrow from China to pay the Saudis, we will print ourselves into hyperinflationary oblivion as we "can't worry about the debt right now." The Dow has rallied several times, ostensibly based on the potential auto bailout which we knew was inevitable anyway.

But where is the hope coming from? Companies like Dupont, Electonic Arts, and Sony are announcing huge misses and layoffs. And these companies are actually making money. What about banks and retailers? Itulip predicts 10 million job losses. We lost 500K just last month and if you look at the separate stat of discouraged workers and those forced to leave full-time for part-time positions, the unemployment rate is closer to 12.5%!

I guess there is some pessimism when $32 billion in zero-yield bonds are sold. This doesn't wreak of a lot of faith in the market or our government. As a matter of fact, it's probably only a matter of time before money markets are back to negative yields.

I'd like to finish with a comment about spending. Stop it. Americans have gotten used to the idea that they're entitled to spend heavily at least once a year. When you can't pay for the stuff you've got, you're not entitled to anything. I was glancing through a magazine my wife receives called Real Simple the other day. It's not bad actually, frequently offering tips on how to save money or use what you already have in a better way. But at its core is the constant push to sell, particularly women, shiny new products. In the article entitled "50 gifts under $50," most of the items were $48 trinkets that would never be used beyond a single holiday season and were purely throw away spending. If this is our idea of conservation, we've got a long way to go.....

How long before the Big 3 are back and begging? I give them 4 months.

Wednesday, December 3, 2008

When $4 Billion Isn't Enough, Try $600 Billion

Alright, this isn't an apples-to-apples comparison. The first number is in reference to the GM time bomb that will explode in a mere 3 weeks if the government doesn't cough up $4 billion now, and $18 billion within 3 months. The second number refers to the amount of money we've pumped into banks so far with zero effect. Let's explore both.

The automakers showed up this week with a plan it seems. Ask for even more money and give a definite time frame for demise. Congress will inevitably give them their money and prolong the slow death of the worst companies in a horrible business. Even Toyota and Honda sales are down 30% and their products are vastly superior. More taxpayer money will circle the drain until these guys make another guest appearance, probably in mid-March, and ask for even more cash ala an SNL skit redux.

Itulip posed the questions yesterday of why all of the cash we've pumped into the system hasn't worked to get loans going again, and what kind of disaster is impending when we attempt to reduce the money supply to pre-October levels. Their anonymous interviewee pointed to one reason as the source of destruction, CDS. "Federal Reserve Bank of New York Staff Report no. 276 "Credit Derivatives and Bank Credit Supply" by Beverly Hirtle, February 2007 concluded that all of the nation’s largest banks used credit default swaps not to protect existing assets but to expand their balance sheets between 1997 and 2006." (Itulip) "So all of the largest banks relied on CDS to make new loans since 1997." (interviewee) "Correct, and that means that central banks cannot wave a magic wand and declare all CDS contracts null and void because if they do loans that were made in the US by the largest banks only because they were insured by CDS will have to be declared null and void, too. No one knows exactly the total loan value is of these CDS-dependent loans but it must be high enough to call their solvency into question because these banks refuse to lend to each other no matter how much the Fed increases reserves." He concludes by saying the banks are dead and the inability to declare these products void will cost us $10 trillion. You see my skepticism in calling a bottom.

ADP spun their lottery wheel and picked 250K out as their November job loss number. This will be dwarfed by the government numbers on Friday, which will then by revised in January to a bigger number. Meanwhile, mortgage rates coninue to fall along with gas prices, providing a "tax cut" to the American consumer. Will this stimulate growth and spending? Well, with real wages falling, and predictions for a 15% decrease in available credit next year to go along with rising unemployment and the potential for sudden inflation, I'm not too excited. I'm as happy as anyone else to pay $30 for a fill up instead of $70, but my family, like most, looks for ways to cut spending every day, not to spend more.

This volatility is good and bad. We love being in early, but it's making options pricing very expensive. I have failed multiple times in the last week on bids for ETH and MLHR, along with KBH. Just too expensive and not going to chase. I managed to fill 1/5 of my order on Monarch Casinos on 3/09 $7.50s, and the stock has bounced up and down 20% this week. Should be fun to watch.

A few things we're watching going forward. Oil is plummeting. It may hit $40. I like the USO as its tracking ETF, which generally runs about $10 below the current price/barrel. It's about $38 now. If it gets into the mid-to-low $30s, we're going long. Too many oil producing countries despise these prices and literally can't afford oil to be this low. We can get contracts out to 2011.

The other one to watch is a favorite, WSM. Up almost 30% yesterday on great news of an analyst upgrade, who still thinks the stock stinks, could go bankrupt or breach its covenant, and continues to lose market share to Crate and Barrel and discount stores. Ringing endorsement. I would put a shorter time frame on this and look to buy the $5 puts.