Surviving the Recession of 2010

(This is a follow-up article to The Next Recession)

Whether or not the US has emerged from the The Great Recession of 2008-2009 is not of much interest to me since The Next Recession of 2010 appears similarly fearful. The economic doom and gloom of deleveraging, housing, and regulation are all still in play. Since I last discussed these themes in last month’s article, The Next Recession, unemployment continues its ascent, home-buyer tax credits have been significantly extended, and legislation has moved forward to limit fees that credit cards may levy. With the economy continuing to suffer, the US dollar is looking similarly downtrodden as foreign central banks in resource rich countries have increased interest rates (Norway once, Australia twice). Further, India made a massive purchase of gold, 200 metric tons worth (about $7.5 billion), even though gold is at an all-time high. The fact that one of the world’s most populous countries chose gold over US Treasuries as a safe, multiyear investment, is quite telling.

What to do?

As much as I believe the US dollar is on a long-term descent, it is entirely possible that a series of bad news will cause investors to panic. Since, the US dollar is still widely seen as a safe haven and a risk free asset among market participants, this panic could cause a temporary upward spike in the US dollar. Even though the dollar is likely to fall in the long run, the interim potential for pain is huge. This is a trade I just haven’t been able to justify. The result is that I am steadfast in my theories, yet weak on ways to profit from them. Until now.

The themes of deleveraging, housing, and regulation can still be played without choosing a direct position for or against the US dollar. Moreover, I also offer two new themes which were outside the scope of my last article: profit margin expectations and global demand growth. The result is five themes (or theses), each of which can be traded without direct exposure to US dollar volatility.

1. Deleveraging is a broad economic issue that will continue to impact discretionary spending. Unemployment (and underemployment) continues to rise, and there is a broad shift toward consumer saving. Opportunities exist by shorting certain retailers, automakers/auto industry, durable goods, travel stocks, airlines, hotels, etc. Long positions in certain food, tobacco, alcohol, and other safe stocks might hold up well. I am currently long Phillip Morris International (PM).
2. The housing oversupply also has ample opportunities as one can short a homebuilder stock directly. Another possibility is to short an ETF that tracks homebuilders; this is the approach I have taken and am currently short ITB. It is also possible to short a bank since banks make consumer home loans, and a wave of foreclosures is approaching. I am currently short CYN.
3. Regulation and political shenanigans are driving down the value of the dollar. Without making a direct bet on the US dollar, there are still ways to play this theme. Investors can choose a commodity basket such as DBC or perhaps other currencies. Another option, which can be used to substitute a cash position, is to choose a long-short currency basket, DBV. Finally, another anti-inflation strategy could be to short the bond ETF, AGG. Currently, I have no positions here, but look forward to establishing some.
4. Profit margin expectations are too high. For an in-depth analysis, read this article by Bill Hester (of Hussman Funds). The opportunity here can be exploited by shorting the broader stock market. Currently, I am long SDS and GLD. SDS is an ultra-short S&P 500 ETF, and GLD is the gold ETF. The thought here is that the market will fall relative to the strength of the US dollar. Over the past four months, the market has been on the rise, up about 25%. However, the US dollar has fallen about 7.5% relative to other currencies and down 20% relative to gold. Hence, the 25% gain isn’t real. I firmly believe that either the market will fall or inflation will roar, or both. Short the market and long the gold is an ideal combination.
5. Global demand is surging. Whether it is China, India, Brazil, or elsewhere, every financial magazine is reporting on this multi-year phenomenon. Ways to capitalize on this theme is simply to be long foreign stocks (on foreign exchanges, not ADRs), ETFs (EFA, EEM, EEB), or commodities/tangible goods. Although I do have international exposure in my portfolio, I have yet to establish a position that directly relates to this theme.

I strongly believe in each of these five themes. Deregulation, housing, regulation, expectations, and global demand are all actionable ideas, and investors have multiple ways to protect themselves during The Recession of 2010.

Disclosures: long PM, SDS, GLD; short ITB, CYN.

Comments

[The EconomicJoker]

2 thoughts...
You're way too late on this. Where was it last year?
It's writen for a 10 year old. Did you really need to explain that GLD is a 'the gold etf'?

2009 Nov 17 08:54 AM

[TradingHelpDesk]

I think you are being a little harsh. Not all readers of SA blogs are into uber complex technical analysis.

I thought this article was good, and easy on the eye. Worth a follow.


On Nov 17 08:54 AM The EconomicJoker wrote:

>
> 2 thoughts...
> You're way too late on this. Where was it last year?
> It's writen for a 10 year old. Did you really need to explain that
> GLD is a 'the gold etf'?

2009 Nov 17 09:05 AM

[Moon Kil Woong]

I believe it make sense to be long foreign stocks. As for other advise for surviving 2010 it's mostly the same as 2009, try to keep your job. That alone is getting to be a big feat.

2009 Nov 17 09:06 AM

[User 353732]

The great omnibus investment theme, in my view, is the gradual and fitful but nonetheless determined ascent of personal and property rights in the Global South, led by Asia and their parallel, rather swift descent, in the West and Russia, especially in the US.

As property and personal rights degrade and wither in the US, so free, fair and flexible markets are corrupted, price signals distorted and resource allocation becomes deformed and dishonest. The tangible manifestations are the fiat,now fake, dollar; credit availability and price based on political favoritism; selective asset bubbles; disenfranchisement of the middle class; defilement of real estate markets; explosion in unredeemable public debt; contempt for the Constitution; the primacy of entitlements; tremendous concentration of wealth and power. These are investment themes, of course, but they are even more potent social and moral themes.

In contrast, in the Global South, the slow but evident spread of liberty leads to an expansion in the productive economy; more people become franchised and liberated from feudal and collectivist plantations; the honoring of innovation and entrepreneurship and to a dramatic increase in the middle class. These are also investment themes but they are even more potent social and moral themes.

IF.... these current themes continue to be true then, in another generation, a vibrant capitalist, democratic, East will confront a stagnant collectivist, totalitarian, West.
Prosperity, security and human dignity go where freedom is welcome and freedom depends on the color of national character not skin.

2009 Nov 17 09:33 AM

[Mr. Big]

Perhaps another strategy for those who are uncomfortable with naked shorts: stay in cash/money markets until after the Great Thrashing....then go all-in.

The immediate term problem is that the dollar carry trade has boosted asset and commodity prices (including gold) to levels beyond sustainable (at least in the immediate term). When the dollar carry trades unwind, there will be a large spike in the value of the greenback and a sharp pull-back in asset prices. In particular, gold and foreign assets will drop the most, before quickly recovering to its long-term growth trend.

I would like to tweak some of the author's strategies by suggesting we wait for The Great Unwind (of the carry trades) before going long on gold and foreign assets.

Shorting banks and homebuilders, although sound over the short and medium term, is inherently dangerous in the immediate term as you will be fighting the Fed and other central banks on this one. I firmly believe that the central banks will ultimately lose....however, they have the resources and means to influence timing to a certain extent....would you be able to weather the margin requirements in the meantime?

Interesting times ahead....good luck to us all.

2009 Nov 17 09:55 AM

[PastTense]

I am more concerned not about next year, but about surviving the economic hard times of the next twenty years (after which I expect to be dead), caused by the massive debt overhang, exploding health care costs, peak oil, Baby Boomer retirement, the transfer of American manufacturing overseas, the corrupt/incompetent political parties and the mortgage the next generation philosophy of the general public.

2009 Nov 17 11:20 AM

[slam stocks]

Surviving the next Recession is only 6 weeks away, this is not necessary a great observation while we are still continuing in the Recession for 2008 & 2009.

Keeping your job, but controlling debt is just as important. That being said, the best way to play the market is not necessarily chasing overpriced foreign, mining or commodities stocks. I believe in the US and there are still lots of cheap US stocks that have better valuations with huge international exposure. Sales converted to US$, you will have great returns with low risks.

My holdings which had a great run are: PM, CAT, CVX, MCD, PEP, DE, PG and NKE.

2009 Nov 17 05:29 PM

[fwi]

Thanks for the article. Good investments are always the ones that can be explained simply. Remember those complex, impossible to explain or understand derivatives? They did not work out all that well.

2009 Nov 17 08:25 PM