What a game! Burp. The San Francisco Giants trounced the Texas Rangers 11-7 in what had to be one of the most exciting games in World Series History.
I spent the pregame completing my Christmas shopping for the year, feverishly buying commemorative baseballs, knit hats, and T-shirts at $40 a pop. China’s trade surplus must be soaring. A Niagara Falls of beer was pouring out of the concession stands. The air was electric with enthusiasm.
Tony Bennett sang the Star Spangled Banner. The F-16’s flew in formation 500 feet overhead right on cue. Nancy Pelosi and Mayor Gavin Newsome sat just below me, where else, but in the left infield. In fact, a foul ball almost landed in the lap of the Speaker of the House of Representatives.
Staring Giants pitcher, Tim Lincecum, seemed to defy the laws of physics, using a slight, boyish frame to throw a sizzling 98 mile per hour fast ball. In the fifth inning the Giants were hitting them like they were playing T-ball, scoring six runs. Both teams looked like they had been cleaned out from a home for juvenile delinquents. Are baseball players getting younger, or am I getting older?
I missed heavyweight, Juan “The Panda” Uribe, belt out a home run because I was stuck in the 30 minute line to get into the men’s room. The red clad Texas Rangers cheering section went comatose, where else, but in the upper right field bleachers.
Tony Bennett then sang I Left My Heart in San Francisco during the seventh inning stretch. Both sides threatened to score in every inning. We spent virtually the entire game standing on our feet screaming our lungs out.
Many thanks to the San Francisco Bay Area readers who emailed encouragement to me throughout the game. To the Texas readers who sent messages like “Yeeeehaaaaaa Texas” when they scored, a pox on your houses, homesteads, teepees, or wherever you live in that God forsaken land.
When Brian Wilson stuck out the last Ranger hitter, the fireworks went off over the bay. The city exploded into celebration, with cars everywhere honking their horns and cable cars ringing bells. Probably 100,000 poured out of packed bars into the streets for a huge nonstop party. Groping my way through the crowd, I almost got run over by the black GM Suburbans of Nancy Pelosi’s Secret Service detail.
I almost fell asleep on the last train home. If I had, I would have ended up at the end of the line at Pittsburgh/Bay Point, where I would have gotten mugged and lost all of my $40 T-shirts. But I didn’t. I’m back to Earth today writing this letter with the mother of all hangovers.
The S&P 500 has risen 11 out of the last 13 trading days. Everything in my portfolio is up 50% in the last four months, except for the rare earth stocks which are up 400%. My call that the global equity markets would launch into a surprise up move driven by better than expected earnings, sending shorts scrambling, turned out to be one of the best in my career (click here for “My Equity Scenario for the Rest of 2010” at http://www.madhedgefundtrader.com/september-1-2010-3.html ). So far, 82% of reporting companies have surprised to the upside. It doesn’t get any better than this.
Now that everything is ridiculously overbought on a short term basis, I have to ask: What can go wrong with this party? When will investors flip from “RISK ON” to “RISK OFF” mode? Should I pick up my ball and go home? I’m sorry, but I am one of those guys who believes that the higher prices go, the more risk they carry, and the more volatility they threaten. Most people believe the opposite.
I see three possible near term inflection points setting up for the markets:
I) The November 2 elections. A surprise Democratic win would send the markets into a tailspin. Much of the buying since august has been driven by an expected Republican takeover of the House of Representatives. If that doesn’t materialize as promised, the punch bowl would disappear very quickly.
II) Year End. Many hapless financial advisors have bought the top of the market and then sold the bottom for the second year in a row. As a result, 30% of active managers are now underperforming the index. To catch up, they are buying this year’s hottest stocks hand over fist, driving markets higher still. This is why you are seeing so much buying concentrated in lead names like Apple (AAPL), which now accounts for an amazing 20% of the NASDAQ. Flip the page on the calendar and all this buying may end.
III) End Q1, 2011. The QEII surge continues for another five months, the S&P 500 challenges this year’s high of 1,240, and New Year cash allocations pour into the market. Then Bernanke says “Ha Ha, fooled you! I’m not doing any QEII because you guys already did it for me!” We then run into a repeat of 2011 where six months of feast are followed by six months of famine. The “double dip” scenario once again rears its ugly head. This is what lost decades are supposed to look like.
While I am not certain which of these three scenarios plays out, I know for sure what to do when one hits. “RISK OFF” means the dollar and volatility go up, and stocks, bonds, commodities, currencies, food, and emerging markets go down. Retail participation in the equity markets shrinks to two guys sitting in rocking chairs on a porch in Arkansas waiting for their cable to get installed.
Don’t kid yourself into thinking that you can hedge against these losses, or that diversification will protect you. We live in a binary, bipolar world, and the only hedge that truly works is cash.
Better drag your leisure suits, bell bottoms, and Bee Gee’s records out of the attic. The seventies are about to enjoy a comeback. The near universal run all commodities are enjoying now takes me back to that time in my youth when making money was as simple as buying an ounce of gold, a barrel of oil, or a bushel of corn. Cotton hit its highest price since the Civil War yesterday, when a Union blockade of the South sent prices skyrocketing (see Gone With the Wind). (Smart Alecs out there please don’t bother to ask if I fought in the Civil War. That was my older brother).
QEII is truly lifting all boats, even the leaky ones, like the US stock market. The debasement of the dollar this policy assures will keep money pouring into virtually every tradable asset in the world, including stocks, bonds, currencies, commodities, precious metals, and yes, even real estate. The great thing about QEII is that Ben Bernanke doesn’t have to do it, he only needs to think it, or to hint about it, and the private sector will execute it for him. Has anyone noticed that is exactly what’s happening now, with all asset prices rising in lockstep globally?
I have a feeling that this love fest is going to end the same way it did in the eighties too. The Fed knows it is creating a monster with the enormous amounts of money it is now creating, and that someday, it will have to drive a giant steak through its heart in the form of huge and cathartic interest rate rises. That will not happen this year, or next. But when it does my prediction that the short Treasury bond ETF, the (TBT) will roar from $30 to $200 could look conservative.
Until then, party away as if you are an extra in John Travolta’s Saturday Night Fever. The Japanese have a wonderful expression that applies here which I constantly heard throughout the eighties: “When the fools are dancing, the greater fools are watching.”
A number of analysts, and even some of those in the real estate industry, are finally coming around to the depressing conclusion that there will never be a recovery in residential real estate. Long time readers of this letter know too well that I have been hugely negative on the sector since late 2005, when I unloaded all of my holdings (click here for “The Hard Truth About Residential Real Estate” at http://www.madhedgefundtrader.com/may_26__2010.html ). However, I believe that “forever” may be on the extreme side. Personally, I believe there will be great opportunities in real estate starting in 2030.
Let’s back up for a second and review where the great bull market of 1950-2007 came from. That’s when a mere 50 million members of the “greatest generation”, those born from 1920 to 1945, were chased by 80 million baby boomers born from 1946-1962. There was a chronic shortage of housing, with the extra 30 million never hesitating to borrow more to pay higher prices. When my parents got married in 1949, they were only able to land a dingy apartment in a crummy Los Angeles neighborhood because he was an ex-Marine. This is where our suburbs came from.
Since 2005, the tables have turned. There are now 80 million baby boomers attempting to unload dwellings on 65 million generation Xer’s who earn less than their parents, marking down prices as fast as they can. As a result, the Federal Reserve thinks that 50% of American homeowners either have negative equity, or less than 10% equity, which amounts to nearly zero after you take out sales commissions and closing costs. That comes to 70 million homes. Don’t count on selling you house to your kids, especially if they are still living rent free in the basement.
The good news is that the next bull market in housing starts in 20 years. That’s when 85 million millennials, those born from 1988 to yesterday, start competing to buy homes from only 65 million gen Xer’s. By then, house prices will be a lot cheaper than they are today in real terms. The next interest rate spike that QEII guarantees will probably knock another 25% off real estate prices. Think 1982 again. Fannie Mae and Freddie Mac will be long gone, meaning that the 30 year conventional mortgage will cease to exist.
All future home purchases will be financed with adjustable rate mortgages, forcing homebuyers to assume interest rate risk, as they already do in most of the developed world. With the US budget deficit problems persisting beyond the horizon, the home mortgage interest deduction is an endangered species, and its demise will chop another 10% off home values.
To make matters worse, Ben Bernanke’s current massive monetary expansion assures that there will be one at least one, and possible two interest rate spikes by 2030. If you think the real estate market is bad now, wait until mortgage rates hit 18%.
For you millennials just graduating from college now, this is a best case scenario. It gives you 15 years to save up the substantial down payment banks will require by then. You can then swoop in to cherry pick the best neighborhoods at the bottom of a 25 year bear market. People will no doubt tell you that you are crazy, that renting is the only safe thing to do, and that home ownership is for suckers. That’s what people told me when I bought my first New York coop in 1982 at one tenth its current market price.
Just remember to sell by 2060, because that’s when the next intergenerational residential real estate collapse is expected to ensue. That will leave the next, yet to be named generation, holding the bag, as your grandparents are now.
President Barrack Obama certainly arrives at a party like a rock star. Three silver GM Suburbans flanking an armored black Cadillac limo screech to a halt with lights flashing, and all of the roads in the immediate vicinity closed to traffic. A dozen sunglass bedecked Secret Service agents leap out, immediately scanning the perimeter. The president bounds out and briskly walks to the plush Atherton home, where he enters through the kitchen of former EBay executive and California state controller, Steve Wesley.
For a mere $30,400 donation to the Democratic National Committee, I received a sweaty handshake and an assembly line photo with the once South Chicago community organizer. A Koch brother I am not. The event came on the heels of the President’s 45 minute private audience with the Golden State’s own version of royalty, Apple’s (AAPL) Steve Jobs.
It was all part of a broad swing through the Western states to rally the faithful, and to top off the DNC’s coffers, which has raised a record $50 million in California this year. Perhaps Obama just wants to be among friends. While his national job approval rating languishes at 47%, it is 55% here, and an eye popping 72% among Democrats.
With a short two weeks until the election, the online betting site, Intrade (click here for their site at http://www.intrade.com/ ), is giving an 89.5% probability that the Republicans will win control of the house. But to me, this is all starting to take on the flavor of a consensus trade that I love to fade. The Democratic Party has become the BP of American politics. Expectations of its imminent demise may be greatly exaggerated, but not for the reasons you expect.
Since the 2008 election, some 4 million “millennials”, “generation Y’s”, or “echo boomers” have gained the right to vote. Have you spoken to your kids lately? The only issues they care about, the environment, global warming, gay rights, and ending the war, are overwhelmingly Democratic ones.
Another 2 million immigrants have also joined the rolls. Thanks to the racist rants by many Tea Party candidates – last week Nevada Senate candidate Sharon Angell said she thought many Mexicans looked like Asians—I would be surprised if any of these voted conservative.
Sure, only 30% of these groups vote at all. But when election results swing on majorities that can be counted in the hundreds –think Florida in 2000, Ohio in 2004, and Minnesota in 2008—they could make a decisive difference.
The Tea Party has already demolished any chance of a conservative win in the Senate by putting candidates the Republican leadership charitably describes as “wingnuts.” Witchcraft practicing masturbation advocate, Christine O’Donnell, took a safe Delaware seat from a 20% lead to a 20% deficit virtually overnight. Sharon Angell converted a campaign unseat the Senate majority leader, Harry Reid, in Nevada from a pushover to a dead heat.
With Sarah Palin’s aid, Alaska’s Senate candidate, Joe Miller, ousted mainstream Republican Lisa Murkowski in the primaries, prompting her to launch an independent write in campaign and a three way split that could throw the election to the Democrats. The net net is that the Tea Party crashing on to the political scene has so far been hugely positive for Democrats.
The polls we see reported daily are only taken of participants with land lines. So they may be undercounting both cell phone addicted, texting millennials, and immigrants. How many of your kids have land lines? My bet would be none. That could be another reason why the final results may differ from what we are being led to believe.
Now, let me throw one big unknown out there. Thanks to the Supreme Court’s Citizens United vs. the Federal Election Commission decision, this is the first election to see unlimited anonymous corporate donations since the sixties. As a result, the number of election ads disclosing donors has fallen from 97% in 2006 to 32% this year.
California’s proposition 23 is a perfect example of what this means. Billed as the “Save California jobs bill,” the measure was placed on the ballot and promoted by $6 million in financing from Texas base energy giant Tesoro Petroleum (TSO). And what is the company’s plan to create California jobs? Suspend the state’s stringent environmental regulations so it can build a new oil refinery in nearby Martinez.
On top of this, you can toss into the mix Obama’s proven, but unquantifiable ability to engineer last minute surges among supporters. The bottom line is that things may not be all they appear to be in this election. Global markets are discounting a Republican win in the House of Representatives that may be much closer than advertised, or may not happen at all.
In every postwar election, the party in power has lost an average 27 House seats in the midterm elections. The Democrats can lose 38 and still keep control. Obama knew this the day he walked into office. That is why the most radical parts of his agenda, like health care, were front end loaded. Expect to hear much about the President’s surprise, Clintonesque move to the middle in 2011, which was in fact, planned two years ago.
If the Republican celebration that has been ongoing since March turns out to be for nothing, expect the shock to be immediate and global. A Democratic win will take all asset prices down, no matter how much QEII Ben Bernanke throws at them.
Yes, I know, I should stick to my day job of calling every turn in the market. But for the next two weeks, that profession and making political prognostications have become one in the same. I can only say thank goodness that my hometown San Francisco Giants are not facing the Chicago White Sox in the World Series this week.
There is more risk in markets today than traders and investors realize.
A number of market analysts have been celebrating the impending gridlock of the US government, brought about by the expected takeover of the House of Representatives, and possibly the Senate, by the Republican party. The expectation is that with a Democratic President in office for at least two, and possibly six more years, absolutely nothing will be achieved on the legislative front. The last time this happened was in 1994 when a Republican win left Bill Clinton twisting in the wind, heralding the onset of the greatest bull market of all time.
Think again. These days a little knowledge of history can be a dangerous thing. The last time we had gridlock, the federal deficit was a mere $4.8 trillion, the budget deficit was only $340 billion, and China was this far away place where you bought cheap custom made suits and ate spicy, but diuretic food. Our largest banks were relatively well capitalized and unleveraged. Ditto with consumers. Real estate was a bargain and on its way up. More importantly, the Internet was about to take off, the greatest productivity enhancing tool of all time.
Things are a little different this time. The national debt is at $13.6 trillion and rocketing. The budget deficit is $1.3 trillion. We are hopelessly tied up in two unwinnable wars that are bleeding us white. The big banks are de facto bankrupt, even though they refuse to admit it. Residential real estate appears to be a black hole that will extend for another decade. Consumers are chopping spending. China is eating our lunch. Worst of all, there is nothing on the horizon like the Internet to bail us out, as the money needed to create one, was instead spent on a gigantic paper chase over the last decade.
We are, in effect, trapped in a runaway Toyota, with the doors locked and broken, the accelerator stuck on the floor, careening towards a cliff at 100 miles per hour. This is not a great scenario to be stuck in. We have a host of major long term structural economic issues that gridlock assures will not be dealt with in any meaningful way. And guess what? Warning! The markets will figure out that gridlock is a disaster well before any analysts, commentators, strategists, or gurus do.
Be careful what you wish for. This is what lost decades are made of.
I received some questions last week on my recent solar pieces as to whether I minded paying more money for “green” power. My answer is “hell no,” and I’ll tell you why. My annual electric bill comes to $1,500 a year. Since the California power authorities have set a goal of 33% alternative energy sources by 2020, PG&E (PGE) has the most aggressive green energy program in the country (click here for “The Solar Boom in California” at http://www.madhedgefundtrader.com/october-14-2010.html ). More expensive solar, wind, geothermal, and biodiesel power sources mean that my electric bill may rise by $150-$300 a year.
Now let’s combine my electricity and gasoline bills. Driving 15,000 miles a year, my current gasoline engine powered car uses 750 gallons a year, which at $3/gallon for gas costs me $2,250/year. So my annual power/gasoline bill is $3,750. My new Nissan Leaf (NSANY) will cost me $180/year to cover the same distance (click here for getting something for nothing at http://www.madhedgefundtrader.com/october-7-2010-2.html ). Even if my power bill goes up 20%, as it eventually will, thanks to the Leaf, my power/gasoline bill plunges to $1,980, down 47%.
There is an additional sweetener which I’m not even counting. I also spend $1,000/year on maintenance on my old car, including tune ups and oil changes. The Nissan Leaf will cost me next to nothing, as there are no oil changes or tune ups, and my engine drops from using 250 parts to just five. We’re basically talking tires, bearing repacks, and occasional new brushes on my rotors.
There is a further enormous pay off down the road. We are currently spending $100 billion a year in cash up front fighting our wars in the Middle East, or $273 million a day! Add to that another $200 billion in back end costs, including wear and tear on capital equipment, and lifetime medical care for 3 million veterans, some of whom are severely messed up.
We import 9.1 million barrels of oil each day, or 3.3 billion barrels a year, worth $270 billion at $82/barrel. Some 2 million b/d, or 730 million barrels/year worth $60 billion comes from the Middle East. That means we are paying a de facto tax which amounts to $136/barrel, taking the true price for Saudi crude up to a staggering $219/barrel!
We are literally spending $100 billion extra to buy $60 billion worth of oil, and that’s not counting the lives lost. Even worse, all of the new growth in Middle Eastern oil exports is to China, so we are now spending this money to assure their supplies more than ours. Only a government could come up with such an idiotic plan.
There is another factor to count in. Anyone in the oil industry will tell you that, of the current $82 price for crude, $30 is a risk premium driven by fears of instability in the Middle East. The Strategic Petroleum Reserve, every available tanker, and thousands of rail cars are all chocked full with unwanted oil. This is why prices remain high.
The International Energy Agency says the world is now using 87 million b/d, or 32 billion barrels a year worth $2.6 trillion. This means that the risk premium is costing global consumers $950 billion/year. If we abandon that oil source, the risk premium should fall substantially, or disappear completely. What instability there is becomes China’s headache, not ours.
If enough of the country converts to alternatives and adopts major conservation measures, then we can quit importing oil from that violent part of the world. No more sending our president to bow and shake hands with King Abdullah. Oil prices would fall, our military budget would drop, the federal budget deficit would shrink, and our taxes would likely get cut.
One Leaf shrinks demand for 750 gallons of gasoline, or 1,500 gallons of oil per year. That means that we need 20.4 million Leafs on the road to eliminate the need for the 2 million barrels/day we are importing from the Middle East. The Department of Energy has provided a $1.6 billion loan to build a Nissan plant in Smyrna, Tennessee that will pump out 150,000 Leafs a year by end 2012. Add that to the million Volts, Tesla S-1’s, is Mitsubishi iMiEV’s hitting the market in the next few years. Also cutting our oil consumption will be the 1 million hybrids on the road, to be joined by a second million in the next two years. That goal is not so far off.
Yes, these are simplistic, back of the envelop calculations that don’t take into account other national security considerations, or our presence on the global stage. But these numbers show that even a modest conversion to alternatives can have an outsized impact on the bigger picture.
By the way, please don’t tell ExxonMobile or BP I told you this. They get 80% of their earnings from importing oil to the US. I don’t want to get a knock on the door in the middle of the night.
