Global Market Comments for September 25, 2008

1) Those who work in the financial industry see the world ending on their screens, then walk outside and see people and cars on the street, shops doing business, the sun shining, and everything appearing normal. It's surreal. Many businesses and banks are months away from shutting down from the lack of operating cash and no one realizes it. It's like an atomic bomb has been dropped, but hasn't hit the ground yet. Even if the bail out package passes, home prices are still going down and we are still falling into a recession. 30 day T-bills were trading at 0.40% today, which means that banks are parking their money with the government instead of lending it.?? Phone calls to congressmen from constituents were running 300:1 against the package. The Wall Street Bail out is a misnomer. The money is going to thousands of banks around the country, not Wall Street. And it is a restructuring more than a bail out.

2) August new home building permits in California plunged by 58% YOY, the largest fall since the Great Depression. San Joaquin County (Stockton) was the worst, down 65%. Solano County was best off, showing a 3.3% rise.

3) Weekly jobless claims skyrocked to 493,000, a seven year high.

TRADE RECOMMENDATION

Position your self for a post bail out rally. Sell 100 X October S&P mini 1100 puts for $13, taking in $650,000 in premium and use these proceeds to buy 100 X December 1300 calls at $18 for $900,000. The net cost of the entire position is $5, or $250,000. Run the October puts into expiration, keeping the entire premium, and sell the December calls on any rally. This is profitable on any rise in the market and any decline in implied volatilities from sky high levels in the mid thirties a rally would bring, while protecting your long volatility position from time decay with a long dated option. The technical term for this position is a 'short dated bull cylinder'.

Global Market Comments for September 24, 2008

1) Congress plays the fiddle while the economy burns. Bernanke is warning that the US may enter a decade of sub par growth, as Japan endured during the nineties.

2) Bill Gross at Pimco, the country's largest bond fund manager, has calculated that the government could make a $56 billion profit on the $700 billion bail out package. He assumes that the government borrows at 5%, buys distressed assets at 65% of face value, and sees a 20% default rate on a 40% decline in home prices, all conservative assumptions. Pimco has offered to manage the entire plan for the government for free. You won't see a better deal than that.

3) There is a huge legal mess brewing in England where it appears that Lehman was engaging in the practice of rehypothecation, which was made illegal after the Barings collapse. This involves the relending of securities held in customer accounts to third parties to raise cash. This is why Lehman's prime broker has been unable to return securities held in segregated customer accounts. At this stage the bulk of Lehman's unclaimed assets are in Europe. In this enviroment, possession is nine tenths of the law.

4) I spent 1 ?? hours last night with Meg Whitman, the just retired CEO of Ebay. A classically trained Harvard MBA with stints at Disney and P&G, in ten years she built Ebay revenues from $4 million to $8 billion, and staff from 30 to 16,000. The company booked $50 billion in revenues last year and would rank as the country's 9^th largest retailer. More than 1.3 million people now make a full time living selling stuff on Ebay. Ebay packages account for 20% of shipments by the German post office, Ebay's second largest market. Over 1 million cars were sold on Ebay last year and are now the company's largest revenue item. (I bought one of the first cars sold on Ebay eight years ago and watched with amazement as maps were emailed to me daily tracking its progress from Texas to San Francisco). Whitman is now the co-chair of the McCain campaign and is evidence of the emergence of a new type of Republican; engaging, pragmatic, professional, and economically oriented, not an ideological religious fanatic.

QUOTE OF THE DAY

'Unattended real estate has the half life of a head of cabbage.' A hedge fund manager in reference to the possible government takeover of 1 million foreclosed homes.

Global Market Comments for September 23, 2008

1) Yesterday was a real 'Sell the US' day. Stocks, bonds, and the dollar all fell big, a very rare occurrence. It shows you that foreigners were making large scale withdrawals of capital from the US, not wanting to get caught up in the Fall of the Roman Empire. Congress is making sausage here and it is not very pretty. Traders are watching Paulson's original three page bail out bill grow to hundreds of pages of pork and are getting nervous. The Paulson plan would not be so hard to swallow if this administration didn't have such a long and proven track record of lying. I am still waiting for them to find the weapons of mass destruction in Iraq. And why are we hearing this proposal six weeks before a presidential election? If congress doesn't deliver this week, expect the Dow to drop below 10,000 very quickly.

2) If you take the US banking system back to the 1970s you have to take house prices back to 1970s valuations. That means borrowing only four times your annual income, putting 40% down for an expensive conventional 30 year fixed rate mortgage, and a FICO score of 700 or better to qualify for all of this. This will cause the destruction of several trillion dollars of purchasing power by the American home buyer. Home prices will fall for several more years, especially in high priced markets like California and Florida.

3) Lehman senior debt is currently trading at 20 cents on the dollar and may be a buy here. The low price reflects distress sales by institutional investors like pension funds who are not allowed to hold less than single 'A' paper. CreditSights, an independent London based research firm, anticipates a recovery value in 18 months of 50 cents on the dollar. Substantial funds will be raised through the sales of Lehman's asset management division, real estate division, and the US broker. Lehman listed $600 billion in assets on its balance sheet that will have to be liquidated. It may all come down to how much of Lehman's distressed CDO's can be sold to the Treasury at a decent price as part of its $700 billion bail out.

4) About 24% of all sub prime loans are now in foreclosure. The underlying securities are trading as if 80% are going into foreclosure and that there will be no recoveries on the foreclosed properties. As soon as the government restarts the market, enough private market will step in to keep it running.

5) Fear is still rampant in the credit markets. The TED spread (the spread of US three month LIBOR interest rates over US three month T-bills) peaked last week at a record 300 basis points, but is holding in at a stratospheric 225 basis points. So far this year the spread has traded around at an average of 70 basis points.

Global Market Comments for September 22, 2008

1) Prices on 30 year T-bonds have plunged an unprecedented 8 points in two days, taking the yield up from 3.90% to 4.6%. Please see my comment last Thursday that bonds were a screaming short at 124. With all of the bail outs, the national debt has effectively risen from $9 trillion to $18 trillion in a month. Iraq and a national health care system don't fit anywhere in this scenario.

2) Since nobody knows what financial instruments are worth, money has been pouring back into the commodity trade with a vengeance since Wednesday. Gold is up from $750 to $900, the euro from $1.38 to $1.47, crude from $90 to $120, and wheat is limit up. The derivative equities are up 30% or more. The highly inflationary aspects of the bail out are coming home to roost.

3) The Short selling ban list has come in for a lot of abuse since it came out on Friday. It included four companies that don't trade, a Nigerian aviation finance company, and a biotech company, but did not include General Electric (GE), one of the biggest players out there. It just shows the desperate, slapdash way in which it was put together. The whole issue is bogus, because hedge funds, in fact, were net buyers of financial stocks this quarter, cutting their short positions by 20%. You don't get rich selling stocks already down 90%.

4) Current shareholders in Goldman Sachs may do alright. GS currently sells for 7 X earnings with a leverage of 24 X. By converting into a bank leverage will have to drop to only 12X, but more stable earnings will justify a 14X multiple.

Global Market Comments for September 19, 2008

1) The Treasury announced a blockbuster rescue package which has triggered a global buying panic, but without the details. It is creating an RTC type entity which will buy distressed assets from the banks. Short selling has been banned in 799 financial stocks. Restrictions have been lifted on company stock buy backs. The Fed has started accepting commercial paper at the discount window. The Dow jumped 1,000 points from the Thursday low. Bonds had record down moves, the ten year Treasury yield soaring from 3.3% to 3.8% and the 30 year from 3.9% to 4.4%. The Treasury-Eurodollar (TED) spread vaporized. All of this has at the very least put in a short term bottom in the stock market. But the major problem remains in that there is still insufficient lending capacity to maintain home prices at current levels.?? And the plan is too late to save Bear Stearns, Lehman Brothers, AIG, Fannie Mae, Freddie Mac, and 5 million home owners now delinquent or in foreclosure. There is the small matter of the fact that we are still going into a global recession. And if the Democratic congress does nothing on the Paulsen Plan over the weekend, the markets could give it all back on Monday.

2) The US government has now become the world's largest hedge fund, specializing in distressed debt, derivatives, credit default swaps, and insurance. Will it next add automobile manufacturing to round out its portfolio?

3) I found the article about Better Place very interesting. What I hadn't realized was that the replaceable batteries for cars have to be so big that they can only be moved with a fork lift. It is noteworthy that the two countries that have stepped up to this plan have small areas with an abundance of electricity generating alternative energy sources, wind in Denmark, and solar in Israel. Israel has the additional incentive in that all of its crude has to be expensively imported from the US. I suspect that there will be several alternative transportation systems on offer out there in a couple of years, much like existed in the early 1900s, when gasoline, diesel, alcohol, electric, and steam all competed equally. Gasoline won because it was the cheapest. It is not the cheapest anymore.

TRADE OF THE MONTH

The Goldman Sachs September $75 puts, which I recommended on Tuesday that you short at $1, expired worthless today, generating a paper profit of $150,000. The stock closed at $129, $54 out of the money. In fact, if I had been actively trading this week I could have made three round trips in these puts between $1 and $0.25, generating a total profit of $400,000. This shows you the opportunities that are begging out there.