Stocks Bounce, But Big-Name Investors Aren't Convinced

This is a heavy week of macro news: Retail sales and manufacturing survey came out before the Monday market open, the PPI and industrial production are out Tuesday, the CPI and housing starts are out Wednesday and jobless claims and leading indicators are out on Thursday.

Retail sales were expected to grow 0.9% over the prior month, but actually grew a better 1.4%, which started fueling the market before the open. Excluding autos and gasoline, though, results were mixed, with the losers concentrated in housing-related sectors (e.g., building materials). The Empire State manufacturing index shows the state of general business conditions in the NY area. Economists expected a 29 reading, but the actual number was a disappointing 23. A reading greater than zero still indicates growth in the manufacturing sector represented by the area, but it was weaker than anticipated. Overall, the results are generally positive, but not as robust as the market perhaps had hoped for. Thursday's economic data are probably going to be the focal point for the market's reaction to trends in the underlying fundamentals.

Two of the most prominent investors disclosed some of their thinking last week. John Paulson is betting on financials and hotels -- or, at least that's what he was doing up until Sept. 30 -- while Sam Zell said there will be a lot more pain in commercial real estate before he gets back in the game. Paulson is betting on an earlier recovery, while Zell waits. Two weeks ago, Warren Buffett signaled his faith in the US economy by offering to buy out Burlington Northern and making an "all-in" kind of bet. That said, the latter has a much longer time horizon than any other institutional investor, and he can afford to weather some storms in the near term.

Paulson's 13F came out after the market close this past Friday. It showed that it started substantial new positions in Citigroup (C) (300 million shares) and a number of hotel/lodging companies. The Citigroup position was most likely the result of owning Citigroup preferred shares and participating in their exchange into common, which was completed in this quarter.

This is a very contrarian bet on a very weak sector. Hotels have suffered the most of commercial real estate as clients have cut back on traveling, conventions, etc. However, a business recovery would produce more travelers. Maybe Paulson thinks of this as a levered play of an economic recovery. For both his Citigroup and the lodging holdings, it may be the case that he has unloaded a large portion of them. Unfortunately, the 13F data are stale by 45 days, so the filing is not all that helpful other than looking back into 3Q price movements and seeing how the investor thinks. It doesn't necessarily mean that Paulson is still holding on to his Citigroup shares.

Nevertheless, the market saw the filing and interpreted the (stale) position as a vote for confidence, sending Citigroup up more than 3% after the market close on Friday and holding on to these gains on Monday morning. Other new positions included: Conseco (CNO), FelCor Lodging (FCH), Hartford Financial (HIG), Sunstone (SHO) and Starwood Property (STWD). Paulson decreased his position in JP Morgan (JPM) significantly from 7 million to 2 million shares, and he got out of Goldman Sachs (GS) completely (he owned 2 million shares). The decrease in his BAC position was immaterial (from 168 to 160 million shares). His biggest position is still in gold. Paulson was the most successful hedge fund in capitalizing on the short investment theme on US housing and he now commands one of the largest hedge funds, so everyone is monitoring what he's up to.

Another great investor, Sam Zell (a.k.a. the "grave dancer") spoke last week to investors in a conference in Chicago about commercial real estate. He earned his nickname through his well-timed vulture investing activities in the space. This time around, everyone is waiting to see when he is going to pounce, which presumably will signal that the commercial real estate space will be near a bottom.

However, Zell warned investors that the time is not right yet, because existing holders of commercial real estate are completely detached from reality. The space is suffering and fundamentals are deteriorating as everyone witnesses declining occupancy rates and rents. Nevertheless, owners are holding on and hoping for a V-shaped recovery to bail them out. They are banking on an inflection point in occupancy rates because there hasn't been much building going on this time around (as opposed to the over-building of the late 80s - early 90s).

Zell concedes to that point, but argues that rents are going to drop in the order of 30% before that inflection point arrives. The result will be very painful restructurings, and whoever jumps the gun is going to do better than the rest.

This is the same argument that investors and analysts used to urge banks to purge their real estate books before everyone else hit the market. Those that were more proactive indeed fared better than the rest. The bottom line is that it doesn't pay to be early in the cycle, so the recent optimism in the hotel / lodging / gaming sectors may be somewhat misplaced.

Disclosure: No positions

Comments

[robert.b.ferguson]

Commercial real estate is going to have problems? Ya think?

2009 Nov 16 06:48 PM

[Mark Bern]

Zell is obviously someone we need to listen to about the CRE space. However, as he is a shrewd investor, I wouldn't expect him to proclaim the time to buy in upon us until he has already made most of his investments in the area. So, when he tells the rest of us that CRE values/rents have bottomed and it's now time to buy, it may not be too late but the best deals will have already been scooped up, IMHO.

2009 Nov 16 07:16 PM

[Denis Gould]

Monday's market action was telling. Oil up $2. Gold up $20. Hang Seng up 1.7%, FTSE up 1.6%, S&P up 1.4%. And then two year Treasury yields down 4bp and ten year Treasury yields down 8bp!

Whatever stimulus mania is doing to the real economy it is clearly blowing up a series of bubbles in asset markets. If anything is going to cause a removal of some stimulus it is this realisation.

2009 Nov 16 08:07 PM

[DavyJ]

Re: "Retail sales were expected to grow 0.9% over the prior month, but actually grew a better 1.4%, which started fueling the market before the open."

But the report also said: "The government also revised the September results down to a 2.3 percent decline, from the 1.5 percent drop initially reported."

Subtract the 0.8 percent revision and sales were actually 0.2 percent less than expected!

But nevermind. Just minor details of a fraction of a percent.

2009 Nov 16 09:15 PM

[Fitz919]

You say "It doesn't pay to be early in the cycle." It's actually much more than that....It doesn't pay to be early in the cycle, when the market is held together by confidence, rather than reality.

Why did banks take TARP money at 5%, when they had access to the Fed Discount Window money at .5%? The answer is simple they were forced to take TARP money. Our govt found that it was quick and easy to take over those banks, Chrysler, GM, AIG, Fannie, Freddie etc. Now they have their eyes on our Healthcare System, and there is nothing in their way.

For the Govt it pays to be early in the cycle...they didn't even need a ladder to pick all the low hanging fruit.

2009 Nov 16 09:22 PM

[Moon Kil Woong]

Monday's rally would have been more memorable if it didn't come on the back of another dollar decline, and stronger commodities, and a rise in gold. What exactly are we buying by selling our dollars down the drain? Can someone at a press conference ask the Federal Reserve this?

As one government official in the EU put it, "This is an economic road to hell." I certainly hope we are getting off it before it gets too hot.

2009 Nov 16 10:04 PM

[Northern Dancer]

In the year since last November, the Dow is up 21% and the dollar is down 15%. In my books, that's pretty much a wash. So why's the MSM all excited about "the biggest percentage rally of all time"? On the back of the steepest and most persistent crash in the dollar of all time... it's no rally to be proud of. It's an damned embarrassment.

.

2009 Nov 17 02:24 AM

[RMB]

CNO is one of the best investments nowadays, Paulson is smart...

2009 Nov 17 08:33 AM

[satyr]

There are so many moving parts that it becomes nearly impossible to predict outcomes in the short or mid-term. Psychology plays a more important role than fundamentals, and very little money (as a percentage of the total) is controlled by those who are governed by fundamentals. No doubt, there are exceptions like Zell, Buffett, et cetera. But, anyone who thinks that what they say and what they do are one in the same are likely to get their head handed back to them on a platter. They will load up on what they want, then tell you about it after it has already moved in their favor.... hoping that everyone else then jumps on the bandwagon and boosts their bet even further into the black. Bottom line: think hard and for yourself.

2009 Nov 17 01:41 PM

[Old Trader]

test,

Zell deals in CRE, NOT residential, so any homeowner stimulus goodies are essentially irrelevant.


On Nov 16 09:14 PM test213 wrote:

> Zell knows what he is talking about and he is worth listening to.
>
>
> The real estate market will be helped by the extension in the tax
> deduction for homeowners purchasing homes, But it may be a while
> time before it fully recovers.
>
> I hope it does, as this will help bank balance sheets and therefore
> the overall stock market that hold many people's retirement money.
>
>
> test213
> admin: invetrics.com

2009 Nov 17 06:02 PM