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Posts Tagged ‘Financials’

While I find much of our financial and economic news inspiring, It is not very often that I find something that really resonates with me from a moral perspective.

While it is bothersome on many levels that [Bear Stearns, Fannie & Freddie, Indy Mac, and probably Lehman Brothers/Washington Mutual/AIG] have failed in our free market system, the thought of people giving money to “experts” to invest in these companies and the broader market is far more unpalatable.

Barron’s published an article in this weekend’s edition which deals with this very issue. I think this installment is worth reading if only to illustrate that it’s not safe to be invested in most equities in this environment. Typical recessions of the past have lasted 2-3 years, but they did not witness the evaporation of billions of dollars in write downs, and perhaps up to 1 trillion in taxpayer support for our Government Sponsored Enterprises. The main point which is continually disregarded by the media, is that many of our market’s participants are not Hedge funds and Proprietary trading desks. There are REAL people who think now is a good time to buy certain stocks like Warren Buffet would…We cannot rely on the media pointing this out, because that is not their job. We cannot rely on a source when they have an ulterior motive; in their case, it’s getting viewers.

  1. we are in year 1 of a recession; one in which there is unanimous agreement that it is unlike anything anyone has ever seen. What good will come out of entering right now? You will not miss anything until bank stocks are in single digits…
  2. Unfortunately, this one is not restricted to the equity markets (like the tech bubble of 2000-2003) in which investors felt the most pain. Our American consumer, one which has been indestructible in the past, is now faced with asset deflation (houses, cars, and would not rule out dollars as a deflationary asset just yet) and commodity inflation (while gasoline has come back from $4 a gallon, it is no longer $2, and food still costs more than last year). Because these notions are so negative (believe me, I feel pain when I see peoples’ reactions to this cynicism) we have been trained to brush it off and say “we’ve gotten through this before. It’s part of the business cycle” This is certainly true. Maybe I just haven’t thought enough about this, but I can’t remember a time where 70% of our GDP (consumer spending) was weakening, while we underwent credit, mortgage, and energy crises simultaneously.
  3. Honestly, what is there to lose by keeping mostly in cash, and if one must invest, can it be in companies which have A LOT of cash, and pay big dividends? An individual is not flaunting his/her financial performance like a Mutual Fund or a Hedge Fund, one which would be ecstatic to say “I only lost 8% in this market when the S&P lost 20%…That makes me better than the average!” Money managers try to manipulate statistics and mask the reality of relativity: is losing 8% really good? A checking account would have made you 2.5%…that sounds better than the mutual fund’s rate of annualized return…

Finally and most importantly, If you wonder how some of CNBC’s programs can be so optimistic in an “intermediate horizon”, maybe its because their parent company is General Electric. They would rather have your money in stocks than savings accounts, because the run-of-the mill investor is unlikely to short the market. But can we trust our source of information? is this advice founded on objective analysis of the market, or are they more concerned about their GE stock options? (CNBC is actually very neutral when it comes to talking about their parent company, though).

Finally, One has to approach investing as a risk manager; what can I win? What am I likely to lose? If the trend is down for 2 years, and sideways for another 3 years, is it smart to invest in broad based indexes with no dividends?

All of this is not to say that all investment opportunities have vanished forever, it is just that we will not miss the bus for a while, and it is very foolish to lie below a falling knife.

I promise not to write about anything this negative again, I just felt the need to offer a concession, and the hope that this post could stop someone from watching a 10% loss grow to a 30% loss in lieu of what is coming our way.

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August 13th:

I’ll be starting class again soon, so I’m not sure how much blogging I’ll do going forward (barring anything fun to write about).

This will be one of my last posts before school, and I think this is a good time to write what I’ve been feeling about the markets for a while.

Well, the Olympics have begun and oil is down 22% from its all time high. (The timing of my prediction was right, but my reasoning was incorrect…I guess its better to be lucky than good)

As one would expect, this was welcomed with open arms (the consumer may be saved from demand destruction, the Fed can keep rates at 2%). The rotation out of all things pertaining to commodities (oil, agriculture, metals) have provided an interesting situation: there is now nowhere left to hide, and there is nothing which is untouchable from the downward trend of the broader market. In other words, there are no bullish “momentum” stocks to park your money in, as all of those have gone into free fall at one point or another, and have since stabilized at a lower price. At the same time however, because of the fall in oil, there have been some unfounded gains in certain places (chiefly anything financial), until today!

If you notice from the chart, financials have sort of, drifted higher recently. The rally which occurred after the bottom on July 15th was sustained because of the simultaneous drop in oil…The only thing is that, some day oil will also stop falling, and will stabilize. Many say that will happen at $110/barrel. I think that is a sound prediction, but believe that it can be around $85-$95 through the winter. Winter is 4 months away though, and once oil stabilizes, the hot money has to go somewhere. More importantly, there won’t be anything fueling the rally in financial services, because they are still in horrendous shape.

Finally, the prediction….

I think the saying “markets do not repeat themselves, but they rhyme.” applies to our current situation. In case you have repressed this information (I did, until today) the last sell off in financials was sparked by none other than a series of downgrades…on Tuesday, we had another round of downgrades and cuts in earnings estimates (Goldman, JP Morgan, Morgan Stanley).

While we do not have as negative a catalyst such as rising oil prices, we do have, what I believe to be a drying pipeline for good news now that commodities have dropped big. This also means that Financials are in the spotlight because they can no longer share the blame of a bad environment with high oil prices. TO TOP IT OFF, a more severe catalyst for financial services can emerge, and that is the deterioration of banks like JP Morgan, which have been virtually unscathed…until Tuesday. If they were believed to be the fortress from this whole mess, and they come out in bad shape through 2009 (which was picked up by their press release, hence the biggest drop in 6 years) we can see a serious sell off.

Finally, by now we must know that the news of Merrill Lynch selling their CDO’s was a bad sign, not good, and John Thain might go down as one of the worst CEO’s in finance history because of it. Not only did he sell the pre-2006/2007 CDO’s – which represent the better quality basket simply because debt from that time frame is more likely to get paid back – but the good CDO’s within that tranche were undoubtedly cherry-picked by the guys who bought them. (Honestly: if you were spending billions of dollars on such a toxic investment, wouldn’t you make sure you got the best ones?)

The inevitable realization of losses in Level-3 assets/off balance sheet assets, coupled with instability amongst the bulge bracket banks, will result in another sell off, and another bottom (no one can really say if it will be worse than the last one, and I surely won’t begin to speculate)

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Via TheBigPicture:

Abreas_20080720205615

Seeing as I haven’t posted anything about actual equity ideas in a while, there are a couple of good ETF’s out there if you believe in this trend, or in the idea that this is just a pull back in oil.

The XLE SPDR would normally be a little boring for my taste, (because Chevron and Exxon make up 28% of the fund) , but big oil companies have been beaten up for the sake of recession, lately.

APACHE CP APA 3.15
CHEVRON CORP CVX 11.65
CONOCOPHILLIPS COP 8.35
DEVON ENERGY CP (OK) DVN 3.44
EXXON MOBIL CP XOM 16.7
HESS CP HES 3
NATL OILWELL VARCO NOV 2.99
OCCIDENTAL PET OXY 4.74
SCHLUMBERGER LTD SLB 4.74
TRANSOCEAN INC RIG 3.3

I think the better play is OIH, which includes only Oil Service stocks – the guys who find the oil, and the guys who drill for it. Here’s the ETF’s top 10 holdings:

 

BAKER HUGHES INTL BHI 8.7
DIAMOND OFFSHORE DRL DO 7.11
HALLIBURTON CO HAL 9.94
NABORS INDS INC NEW NBR 4.74
NATL OILWELL VARCO NOV 7.48
NOBLE CORP NE 6.52
SCHLUMBERGER LTD SLB 10.37
SMITH INTL INC SII 5.87
TRANSOCEAN INC RIG 16.07
WEATHERFORD INTL NEW WFT 7.6

You pick up a lot of good exposure, while diversifying your risk. This sector hasn’t been as nicked up as the XLE, probably because they’re not involved in buying/refining crude oil. That makes me a little less comfortable taking on a short term position, because I’m not sure any sector is “recession proof”. As the old adage goes: “all  boats fall with the tide”

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Lehman’s best course of action would be a `going private’ transaction, since it is the public equity markets that are the threat to the company’s survival,” Trone wrote in a note today. “Without a public stock, there would be no shorting, thus no motivation for rumor-mongering, thus no source to spook the counterparties and creditors.

– Bloomberg

I think this is an interesting excerpt. At this juncture, and the foreseeable future for that matter, what is the benefit to Lehman in being a public company? The tone of the market has been such that people sell into any sort of rally, and recind their bullish sentiment in the course of a single trading day.

Here’s a fun fact; we have not sustained a rally in the Dow for more than 2 days since it fell 400 points back on June 6th:

Date Closing Price

11-Jul-08 11,100.54
10-Jul-08 11,229.02
9-Jul-08 11,147.44
8-Jul-08 11,384.21
7-Jul-08 11,231.96
3-Jul-08 11,288.53
2-Jul-08 11,215.51
1-Jul-08 11,382.26
30-Jun-08 11,350.01
27-Jun-08 11,346.51
26-Jun-08 11,453.42
25-Jun-08 11,811.83
24-Jun-08 11,807.43
23-Jun-08 11,842.36
20-Jun-08 11,842.69
19-Jun-08 12,063.09
18-Jun-08 12,029.06
17-Jun-08 12,160.30
16-Jun-08 12,269.08
13-Jun-08 12,307.35
12-Jun-08 12,141.58
11-Jun-08 12,083.77
10-Jun-08 12,289.76
9-Jun-08 12,280.32
6-Jun-08 12,209.81
5-Jun-08 12,604.45

The Dow has lost 1,600 points in a little over a month, with 100+ point swings favoring the downside at a ratio of 10 to 1! The most obvious contributor to this chaos is the financials, which seem to be falling 3%-5% everyday:

They’re down almost 60% for the year, compared to a 20% drop in the S&P…The funny thing is, despite the seeming value based on sheer numbers, I wouldn’t even consider buying them at this point, mainly because I don’t even know what I would be buying. I know the whole notion of a”lack of transparency” is getting worn out, but it’s true. Most of the financial system has kept a huge portion of their assets off of their balance sheets. Citi, In addition to having a mammoth 2.2 trillion on the books, also has 1.1 trillion off the books in CDOs and SIVs.

Not only is this huge drop disconcerting, but more so the speed at which it has occurred, and the absence of a sign of slowing down. I’m not sure anyone predicted the Fannie and Freddie situation would come upon us like this, and this could be why the news of their bailout plan gave very little in terms of a bounce…

If financials took this plunge over an additional 6-12 months period, I would probably consider this a good entry point. That said, I will be curious to see what happens if the bottom falls off of the Oil market (not one of these $10 corrections), as that could be the catalyst people are looking for.

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