Old Trader's  Instablog

The count of banks closed has risen to 140 (7 more closed, as of 8:30 PM, CST). Mostly located in Fla, Ca., and Ga., the 7 newest closings took a $1.8B chunk out of the FDIC's hide.

I can't help but wonder if there will be a "moratorium" on closings over the holidays, or whether the closings will occur on Thursday, the 23rd, and the 30th, since the normally prefered Friday falls on holidays. If the FDIC takes the holidays off, we could see a REALLY sharp spike after the first of the year.


Disclosure: No positions

 

Its been acknowledged for quite some time that the credit markets, and those that trade in them, have an unduly keen nose, when it comes to sniffing out hints of inflation, any sort of turmoil, or economic distress that may be coming down the pike. Any sign of any of the aforementioned, and the bond vigilantes will register their displeasure by sitting on their hands, or more accurately, on their checkbooks, until such time as rates are adjusted upwards sufficiently to compensate for risk, real or perceived.

 

Because the vigilantes have been absent for 15 to 20 years, I suspect they’re close to achieving mythical status, just like Big Foot, and the Loch Ness Monster . Unfortunately, the latest Treasury auction on Dec. 10^th suggests one might be too hasty in dismissing them, and merely using tales of them to scare wayward budding young central bankers and financiers into behaving themselves.

 

The short end of the Treasury curve hasn’t been posing any problems (other than for investors by paying nada for the use of the funds), but the long end is something of a different story. There seems to be a definite lack of enthusiasm for such issue, which puts the US in a bit of a quandary. Financing round after round of stimulus in an attempt to keep the economy on somewhat of an even keel calls for increasing amounts of debt issue, into a softening market.

 

Given that so many of today’s vigilantes are foreign buyers, I can’t help but wonder if the US isn’t going to suffer a double “penalty” , of sorts, in trying to entice these foreign buyers. The first penalty would be based on risk, that is, exactly just how creditworthy is the US? The fact that Moody’s suggested the other day that our AAA rating was not a god-given right certainly hasn’t helped matters any.

 

The second penalty assessed could well be currency related. Even if the debts are, in fact, repaid in a timely fashion, if the payment value has been diminished, it stands to reason that lenders would seek to be compensated to account for this.

 

It could well be that the price of attempting to restore our economy might be much higher than what’s been postulated.

Disclosure: Long: GIM and TEI

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Let me begin by suggesting that any reader who finds short selling (or buying short ETFs, etc.) to be "wrong" or "immoral" should move on to another post or article, as you'll only get upset.

 

A couple of years back, Warren Buffet made a wager that the S&P would show a better return over the span of a decade, than a fund of hedge funds would. In 2007, hedge funds handily outperformed the S&P, as the approaching tail end of the bull market, combined with leverage worked their magic. In 2008, despite the fact that many people had developed the idea that all hedge funds were absolute return vehicles immune to market declines, hedge funds, as a group, DID decline on the order of 20%, but that’s still a considerably better showing than was managed by the S&P. Even though 2009 still has a few weeks to run, it appears to be on the order of a dead heat. In all, for the first three years of the decade, hedge funds, as a group, are noticeably outperforming the S&P.

 

There’s probably more than one reader who’s thinking, “Well, that’s just peachy, but what does that mean to me? I’m nowhere close to being a “qualified investor”, so however it is that hedge funds manage to do their thing, I’m not able to participate.” To those readers, I’d suggest its entirely possible to come pretty darn close to replicating their performance, even if many of the techniques used by funds are not available to retail investors.

 

I should note, at this point, that I’m referring to the “absolute return” category of funds, which means they’re willing to forgo some measure of capital appreciation in order to ensure capital preservation. As in most areas of life, having your cake, and eating it, too, is not a viable option. For many investors, such as myself, who are managing a retirement portfolio, and are either fairly close to, or in retirement, that’s the goal, usually in conjunction with generating a fairly appreciable amount of income. There’s no shortage of stories of people who thought they were in good shape financially, until 2008 reared its ugly head, and decimated their portfolios, along with the value of their homes. But if they would have taken appropriate steps ahead of time, in terms of using hedges, for the most part, its likely they would be in much better shape today.

 

The use of short ETFs can make a marked difference in portfolio performance, in terms of dampening volatility and preserving capital. I’ve had success using SDS as a partial hedge, and I started wondering how I could be a bit more “precise” in my hedging, tailoring my hedges more closely to my portfolio. One area that I’ve had exposure to in varying amounts, ranging from “overweight” to “heavily overweight”, is oil, via Canroys. While they throw off a very respectable amount of yield, they tend to track oil (and sometimes NG, depending their production mix) prices, and can be pretty volatile. I have not yet got around to back testing, but it has occurred to me that a position in DUG, for example, could act as a counterweight, stabilizing the capital value of the portfolio, while still allowing me to enjoy the higher yields.

 

Another sector that appears might be suitable to such a strategy might be REITs, where SRS would be used as the hedge. Of course, such hedging only helps preserve capital, while doing nothing to mitigate loss of income, should the securities cut their dividends, as happened with quite a few REITs. Still, I’d look at it from the standpoint of “half a loaf is better than none”.

Disclosure: Long: SDS