The Haiku of Finance for 05/31/09

Bond yields are rising
Choking on a huge debt load
Fixed income looks bad

Jobless Estimate and Bond Uncertainty Strengthen Bear Case

For those of you still expecting a recovery, hopefully this will change your minds:

Unemployment in the U.S. probably surpassed 9 percent in May for the first time in more than 25 years, underscoring forecasts that the economy will be slow to pull out of the worst recession in half a century, economists said before a report this week.

Of course this number will invalidate the bank stress tests if it is confirmed in the official numbers the Labor Department will release on June 5. Furthermore, nervous bond market investors are demanding more yield now that there is no longer any such thing as fiscal restraint:

The 1.4-percentage-point rise in 10-year Treasury yields this year pushed interest rates on 30-year fixed mortgages to above 5 percent for the first time since before Bernanke announced on March 18 that the central bank would start printing money to buy financial assets. Treasuries have lost 5.1 percent in their worst annual start since Merrill Lynch & Co. began its Treasury Master Index in 1977.

Why worry about what "bond vigilantes" want? Because it affects your household wealth, and thus consumer spending:

Federal Reserve Chairman Ben S. Bernanke’s efforts to bring down borrowing costs to revive the housing market and help the economy are stalling. Mortgage rates are
almost back to where they were in March before the 30-year rate fell to a record and sparked a refinancing boom. Mortgage delinquencies rose to a record 9.12 percent of U.S. home loans and house prices dropped the most on record in the first quarter, industry reports show.

I'm not shorting any banks or even XLF this time because the U.S. economy may be crossing some kind of event horizon. This bear market rally has gone on much longer than I anticipated and I have no idea what further tricks policymakers are going to pull to keep banks and the U.S. economy artificially alive. They want very badly to defy gravity.

Nota bene: Anthony J. Alfidi is short uncovered calls on SPY, EFA, IWM, and VWO.

The Haiku of Finance for 05/29/09

GM goes bye-bye
Nice knowing you, car maker
Come back much smaller

The Haiku of Finance for 05/28/09

Cal muni bond bust
State wants federal backing
Golden State is broke

Milk Money

Some puns are long overdue. I'm going to milk this one for all I can:

A collapse in milk prices has wiped away the profits of dairy farmers, driving many out of business while forcing others to slaughter their herds or dump milk on the ground in protest. But nine months after prices began tumbling on the farm, consumers aren't seeing the full benefits of the crash at the checkout counter.
(snip)

Price disparities are a fact of life both for farmers and anyone who shops at a supermarket, but the nature of milk — how it's stored, priced and sold around the world — makes the gap all the more dramatic. In fact, the price that farmers get has been wildly volatile for years, creating a succession of booms and busts felt from pastures to the grocery store.

Commodity prices are always volatile, so that's not much of a surprise. What's different this time is that the excess of supply isn't leading to retail price declines. Perhaps Peak Oil is pushing up the cost of production to the point where dairy farmers require a permanent price floor to be viable. Any price below that floor makes their entire industry unprofitable. Organic milk producers should be in less trouble, but even they will be impacted by rising fuel costs for transportation. Milk is a renewable resource, but the petroleum used in its production isn't.

This one's not a conspiracy. There's no OPEC-like cartel for the milk industry that can force down production to keep prices up. Note how the article gently mentions the ineffectiveness of the USDA's pricing programs; they are unable to achieve their intended goal of keeping small producers in business. The USDA is forced to meddle in what should be a free market because of the political influence of dairy farmer constituencies.

Nota bene: Anthony J. Alfidi holds no investment interest in any dairy producer or distributor. He does drink milk (usually organic) a few times a week and also enjoys other dairy products such as cheese and ice cream.

Stagflation Is Finally Here to Stay

America will look a lot more like Europe if high structural unemployment becomes permanent. This article gets it half right:

Americans may have to get used to unemployment greater than 8 percent for the first time since 1983 and an economy that won’t grow much beyond 2 percent as a consequence of the lost confidence in consumer credit that shattered financial
markets.

Now let's drop the other shoe. Another commentator joins the high inflation camp:

The U.S. economy will enter “hyperinflation” because the Federal Reserve will be reluctant to raise interest rates, investor Marc Faber said.

“I am 100 percent sure that the U.S. will go into hyperinflation,” Faber said. “The problem with government debt growing so much is that when the time will come and the Fed should increase interest rates, they will be very reluctant to do so and so inflation will start to accelerate.”

Right on, Mark. The Fed would send the economy down the tubes if it raised interest rates to fight inflation, making that 8% unemployment rate look like utopia. Higher joblessness and prices are here to stay. Put these two forces together and you get stagflation. An economy this fragile is extremely susceptible to supply shocks from a sudden jump in commodity prices. Say hello to your new masters in Riyadh and Beijing.

I'm short uncovered calls on SPY, which has mostly worked out fine for the past year.

The Haiku of Finance for 05/28/09

Chinese industry
Soon opens to private funds
Smart move, Red Dragon

Home Prices Drop; Will the Market Notice Today?

Good news for home buyers who are still on the fence (pun intended)! Home prices keep dropping:

Home prices fell at the fastest annual rate ever in the first quarter, but the pace of month-to-month declines continues to slow, a closely watched housing index showed Tuesday.

The Standard & Poor's/Case-Shiller National Home Price index reported home prices tumbled by 19.1 percent in the first quarter, the most in its 21-year history.

Home prices still haven't touched bottom. Watch how this sinks bank stocks in Q3 as losses on more foreclosures destroy their stress-tested capital cushions. No doubt the Plunge Protection Team will be alarmed at this death knell for the bear market rally.

I'm short SPY, building cash for a real estate purchase in 2010.

Stimulus Falls Flat

Analysts predicting a 2009 rebound in the equity markets need to take a longer view. The ineffectiveness of the stimulus package doesn't surprise me:

The question for some economists is whether the money is being doled out fast enough. According to the plan, 70 percent of the total is to be spent through next fiscal year, and all of the funds won’t be distributed until 2011 or beyond.

“One of the criticisms of the stimulus package has been that it’s somewhat backloaded,” said Dean Maki, co-head of U.S. economic research at Barclays Capital Inc. in New York. “So the more of these projects that can be started now when the labor market is so weak, the better for helping achieve sustainable growth over time.”

The stimulus was passed with full knowledge that few shovel-ready projects would truly be funded. Much of the effect is simply to increase spending on existing programs that would have been completed anyway. The intent is not to build revenue-producing infrastructure improvements. The intent all along was to increase the amount of currency in circulation. Inflation is the U.S.'s stealth strategy to pay off its massive unfunded liabilities in Social Security and Medicare.

I never take my eye off the ball. That's why I own gold.

The Haiku of Finance for 05/24/09

Dollar down the drain
Think China will buy our debt?
They'd rather buy gold

Swensen Model Jumps On Inflation Bandwagon

Some of the smartest money managers in the business haven't looked so smart since last September. Maybe now they're getting smart again:

David Swensen, the top-ranked college endowment manager in the past decade, said individual investors should own inflation-protected Treasuries because U.S. economic recovery efforts may lead to an increase in consumer prices.

Mr. Swensen is an original thinker, which is rare among portfolio managers. His Yale portfolio has performed badly since 2008, so perhaps recognizing the inevitability of inflation will help restore his model's reputation. The only disadvantage of using TIPS instead of gold as an inflation hedge is that TIPS are subject to default risk. This is low now, but then again no one thought the U.K. would be in danger of losing its AAA rating for gilts.

I don't own TIPS. I do own IAU and GLD (with covered short puts).

The Haiku of Finance for 05/21/09

Rally losing steam
Bear hibernation ending
Not too late to sell

Fed's Hopeless Signs Signal Overconfidence

The Fed continues to engage in wishful thinking to prop up equity markets:

The Federal Reserve expects the economy to improve in coming months, even as policymakers have downgraded their outlook for all of 2009.
(snip)

The Fed now expects the economy will shrink this year between 1.3 and 2 percent. The old forecast called for a contraction between 0.5 and 1.3 percent. The unemployment rate may hit nearly 10 percent, up from 8.8 percent in the old forecast.

Read that again if you need to. The numbers are forecast to worsen but the Fed's leaders mouth hope for improvement. They wouldn't entertain such schizophrenia unless they could count on the American financial media's distaste for real analysis.

Meanwhile, the Fed is forced to recognize that the real world can make a most unwelcome intrusion into rosy forecasts:

Some Federal Reserve officials judged last month that the central bank may need to boost its purchases of assets to secure a stronger economic recovery, while all policy makers agreed to hold off on such a move at the time.

More bond buying on the way? Now we see the connection between downward revisions to forecasts and public optimism about recovery. The Fed overestimates its ability to quantitatively ease the U.S. out of its distress. Go look up "hubris" in your dictionary.

Does all of this make you uneasy? It should, unless you own some gold (like me, IAU and GLD).

Rebalancing the Alpha-D for May '09

I added to my long holdings of FXI and GDX as further signs of my conviction that China and gold are the best things to own in Great Depression 2.0. I sold puts under both but sold covered calls only on FXI; it's not as volatile as GDX. I wouldn't mind owning more of either involuntarily but I'm not about to risk my GDX from being called away. I'm holding onto my long position in IAU and writing puts under it.

I refreshed my uncovered calls against IWM after they expired at a profit this past Friday. I'm still quite happy betting against an economic recovery in the U.S.

I also bought a 3-month CD as part of my cash management strategy. I'm not at all fond of fixed income in general right now but I'm willing to seek a little extra yield on my idle cash.

The Haiku of Finance for 05/13/09

Real estate bargains
Foreclosures on the market
I'll grab a cheap one

"Surprise" Foreclosures Don't Surprise Me

I said the awakening would be rude, didn't I? People who believed that the recent market rally spelled the end of the recession will be surprised by this:

The number of U.S. households faced with losing their homes to foreclosure jumped 32 percent in April compared with the same month last year, with Nevada, Florida and California showing the highest rates, according to data released Wednesday. Ohio was in the top 10.

I'm not surprised at all. Continuing job losses mean more people are taking a hard look at dwindling savings and choosing to forgo payments on a home that's worth less than its outstanding mortgage value. Oh, BTW, this also means that those banks that need to raise capital will need to raise a whole lot more with hits like this to their mortgage portfolios.

The good news is there will be a lot more foreclosed homes on the market this year and next, just waiting for cheap buyers like yours truly. I'll be ready to start seriously looking at buying some property in 2010.

Nota bene: Anthony J. Alfidi does not own real estate at this time.

Foundation Coal: I Think I'll Pass

Normally I jump to invest in a merger arb situation where both parties agree to close. Alpha Natural Resources' (ANR) purchase of Foundation Coal (FCL) is a tempting opportunity:

Alpha Natural Resources said Tuesday it plans to buy rival Foundation Coal for about $1.4 billion in stock in a deal that would transform two regional companies into the nation's third-largest coal producer.

This time I think I'll pass. My problem is that it's an all-stock deal, so the final value of FCL (against which I'd normally write an uncovered call option) depends completely on the value of ANR. I'd rather not take the risk of getting called.

Nota bene: Anthony J. Alfidi holds no position in ANR or FCL.

The Haiku of Finance for 05/10/09

Boomers on the clock
They sit in jobs I can't have
Can't take my business

Gex X Loses American Dream to Destitute Boomers

Members of Generation X (myself included) will never have upward mobility as long as Baby Boomers refuse to retire:

The impending retirement of America’s 78m-strong “baby boomer” generation has caused consternation among policymakers for years. Now the “silver tsunami” may be on hold. “Older workers are actually coming into the labour force – many are
finding jobs,” says Richard Johnson, a senior fellow at the Urban Institute. “It is being driven by economic insecurity . . . they have become so desperate that they are returning to work.”

These geezers didn't save because they have been living for today since the 1960s. Now my crowd has to make do with less. I work for myself now, so I no longer have to face the prospect of waiting twenty years for a promotion out of an entry-level position. The majority of my generational cohorts will not be so fortunate. A lot of people younger than me are going to waste time and money pursuing MBAs that they will never use in management positions that won't be available. We will also be paying for the Boomers' Social Security and Medicare via the hidden tax of inflation (thanks to the Fed's quantitative easing).

I probably shouldn't tar an entire generation with such a broad brush. There are undoubtedly many Boomers who did save responsibly for their futures, just as there are many in my generation who have no savings. I've worked with some of those X'ers who won't save, and I'm not proud of them. Savers of all ages will be taxed and diluted to support people who don't value their own futures.

Thanks for nothing, deadbeats of all generations. You will never be the Greatest Generation.

Dollar Down

All I can say is . . . got gold?

The dollar declined beyond $1.36 against the euro for the first time since March as a report showing slower deterioration in the U.S. labor market reduced demand for the relative safety of the country’s assets.

I'm long IAU and GDX. But you knew that.

The Haiku of Finance for 05/08/09

Buy bank stocks? No way!
The stress tests were a big sham
Losses in 3Q

Jobless Rate Maxes Stress Test

The jobless rate, understated as it is, is still increasing even though its rate of increase is slowing:

The pace of layoffs slowed in April when employers cut 539,000 jobs, the fewest in six months. But the unemployment rate climbed to 8.9 percent, the highest since late 1983, as many businesses remain wary of hiring given all the economic uncertainties.

That 8.9% is already at the far limit of the bank stress test's worst-case scenario. Other weaknesses in the stress tests are laid bare by William Black (whom I've referenced in previous posts):

"It's in the interest of the financial community to send this propaganda out," Black says. "It's remarkable not that they do it but that it still works."

In other words, this isn't the first time we've been told "the crisis is over" and that "banks are well capitalized" - and probably won't be the last.

The professor and former financial regulator foresees another wave of foreclosures and future bank losses of more than $2.5 trillion vs. the government's $599 billion estimate.

This is no time to get happy, folks. When commercial mortgage defaults start hitting bank earnings in 3Q this year, a lot of fools buying bank stocks now will be very unhappy.

The Haiku of Finance for 05/07/09

Market still climbing
Defying all evidence
Future bust will hurt

A Conversation on Automakers and Business Cycles

A friend of mine who is a thoughtful private investor (like myself) emailed me a question about our favorite troubled automakers. It grew into a larger email exchange that I've reprinted here with his permission. Comments from Mr. Private Investor are in italics. My own comments are in bold type.

(begin transcript)

Tony, I'm thinking Ford is going to be stronger financially in the future and be in a stronger position when negotiating with UAW once the Union and the Feds destroy GM forcing tens of thousands of auto workers into unemployment.

Am I off my rocker?

What are your thoughts about Ford specifically?

What are your thoughts about the GM thing?

Is now a good time to purchase stock in Ford?

I don't know Ford's business model all that well (aside from owning a dented 2003 Mustang). It looks they'll survive this year but any U.S. automaker is going to have a hard time in the future because union wages and benefits put them at a huge cost disadvantage. Ford could easily go into a nosedive again if this Depression (yes, it is one) gets even worse in 2010. I've often wondered why Ford doesn't introduce its cheap, fuel efficient European models (like the Ka and SportKa) in the U.S. The fact that they haven't speaks to me of a weak strategic vision that can't translate success in one market to another.

GM is very likely to end up in bankruptcy within a month, for all of the reasons we've all read about.

Your thinking is probably correct, but I personally would not buy stock in either company. The long-term prospects for growth in the U.S. car market are poor simply because there are too many cars on the road right now. People with constrained incomes and poor job prospects are going to postpone auto purchases and keep driving their clunkers for years. I'm not even fixing the dents on my Mustang.

Okay, what is the definition of a depression?

That is a good question regarding those two models. Is there some regulatory reason, do they actually believe there is no market, or like you state just poor vision.

My boss is a Mustang fan in case you ever get in a conversation with him.

The NBER (http://www.nber.org/) doesn't have a formal definition of a depression. I use a definition shared by a minority of economists: a decline in GDP of 10% or more. We're almost there.

I'm not sure about regulatory reasons. I think it mostly comes down to poor vision at Ford.

Okay, I checked out NEBR and the Business Cycle and Expansion link.

My guess is that the second column "Previous trough to this peak" is when the "times were good". If that is true the longest (120), third longest (92) and fifth longest (73) included and followed the Reagan era. The two "peak to trough" periods (i.e. not so good) during and following the Reagan era were eight months each, two months less than the ten month avg for 1945-2001.

What say you?

Am I just a Reagan fan looking for everything presumably beneficial regarding his era or am I on to something?

Or do I need to leave the economic prognosticating to the learned?

Pretty good analysis! Let's delve further . . .

The 92-month expansion was very likely a result of Paul Volcker's inflation-killing monetary discipline at the Fed combined with Reagan-era deficit spending. The 120-month expansion is harder to explain; leaps in information technology made American industry phenomenally more productive in the '90s, stimulating GDP growth as federal deficits were gradually declining. The 73-month expansion was almost entirely a result of the Bush era's war spending and the Greenspan Fed's easy-credit bubble that drove massive overbuilding of homes and Ponzi schemes in securitized debt products.

I'd give the Reagan administration partial credit for the 120-month run and little to no credit for the others, as supply-side economists were largely out of power after 1989. Much of the economy's growth since the late 90's has been the result of too much debt issuance. I think Americans will be unpleasantly surprised when they find GDP falling to sustainable levels we haven't seen since . . . Reagan.

So what occurred in the 61-69 period to cause the second longest (106) and in 38-45 to cause the fourth longest (80)? Or are those eras not really comparable due to so the world (i.e. economic systems) was simply a different place?

You will need to open the e-mail for the following to look correct:

MAR91-MAR01 (120) Pre-GWOT, relative peace (other than Kosovo and occasional missile launch) and deficit reduction and more efficient production due to capitalism (supply meeting demand)
FEB61-DEC69 (106) Vietnam and space race
NOV82-JUL90 (92) Reagan defense spending (and "monetary discipline");Panama/just prior to Desert Shield
JUN38-FEB45 (80) WWII
DEC01-DEC07 (73) GWOT

The longest did occur during deficit reduction, should I interpret that as less spending in government?

The two longest occurred under Democrat administrations, not easy for a Republican to admit. Of course they did follow Republican administrations :-) so I will claim they were reaping the benefits ;-)

You understand that if my boss wonders why I am not being as productive as I should be that I will pass the blame to (other name redacted by Tony Alfidi)?

Vietnam and WWII both had massive economic stimulus effects. Regardless of who's in power, government spending does juice the economy up to a point. Today's spending stimulus is occurring when the U.S. economy has likely reached its carrying capacity of debt, where every additional dollar of debt incurred contributes progressively less to GDP growth.

This discussion would be great for one of my blog posts. Mind if I use it? I'll disguise your name as "Private Investor."

So we are in a unique economic situation where the ability to incur debt is actually having the reverse effect that it normally has. I.E. historically speaking, a person goes in debt so he/she has to be a productive member of society in order to get paid so that he/she can pay their debts as well as have some spending money thus leading to good times. But, this time the debt is so overwhelming (across the economic system) that the working class is unable to do two things, 1-make the payments and 2-acquire more debt/spend what they have left, because there is nothing left of their paycheck if they can do number one.

So although the government is spending oodles to get $ into the economy it is not being used for purchasing but going simply to pay off debt for past purchases hence no growth. So, yeah a few more guys are being hired to build a road or bridge or whatever but they are not using the income in a way that "stimulates" the economy and the $ that was sent to the financial sector was simply absorbed for expenses.

My last "post" was basically asking what is "monetary discipline". My understanding was/is that deficit reduction (my interpretation is less government) helps stimulate the economy.

The Republican in me wants to interpret this as reduce the government, let the people have more of their money, and regulate the fed in such a way that there is $ for responsible debt but not irresponsible.

How am I doing prof?

Pretty good! I think I'll let that be the last word in the blog post tonight, Mr. Private Investor. :-)

(end transcript)

Folks, this is the kind of intellectual stimulation you can expect from Alfidi Capital. Keep tuning in for more.

Alpha-D Bets on Higher Volatility Before Summer

The market has been boringly non-volatile lately. I'm willing to bet that will change when the bank stress test results are released in a few days. Some big shots are going to be scrambling for capital to avoid losing their jobs.

That's why I'm doing something with my Alpha-D portfolio that I haven't done in a few months. I just sold some puts (covered by cash) on the CBOE Volatility Index. These are Jun 09 puts at 30, so I'm assuming that the market will be at least as volatile as it is now (which isn't much) for another month and a half.

The Haiku of Finance for 05/03/09

Asia's social net
Needs money, says ADB
That will spur spending

More Smart People See Through Stress Test Smokescreen

I told you folks not so long ago not to get all stressed about these stress tests for the banks. Now more analysts are coming to see the tests as the baloney they really are:

U.S. regulators may compel as many as 14 of the nation’s 19 largest banks to raise common equity based on financial stress tests due to be completed next week, said Paul Miller, an analyst at FBR Capital Markets Corp.

The stress tests were never more than a whitewash for more government control over capital allocation. Even Warren Buffett acknowledges the obvious:

Berkshire Hathaway Inc. Chairman Warren Buffett dismissed the importance of the government’s stress tests of major U.S. financial institutions in helping him assess banks he invested in.
(snip)

“With banking, low cost money is the key,” Buffett said. “My guess is that would not be weighted like a whole bunch of little ratios of this or that.”

See how it pays to be cheap? Ask yourself which banks get to borrow at the lowest cost of obtaining capital. Hint: It may be the same banks that are chomping at the bit to repay their TARP injections early, Goldman Sachs chief among them.