Research Archives

The Bottom Building Process Has Begun

I have an arrangement with several large hedge funds where they pay me a small fortune every month for the privilege of calling me one day a year.

Wednesday was that day.

It was a day when the $20 billion hedge fund waited on hold while I got off the phone with the $100 billion hedge fund. And that?s not including urgent calls from the White House, the office of the Joint Chiefs, and the Federal Reserve.

Of course, no one needs to tell these guys how to chew gum. They were interested to know if they were missing anything.

The advice I gave them was very short and simple: ?Keep your eye on the economic data, and ignore everything else.?

You can palpably feel the tension when enduring crisis like these. The Internet noticeably slows down. Transatlantic and Transpacific phone lines get clogged up. Traffic on our website, www.madhedgefundtrader.com, rises tenfold.

So do plaintive emails from followers, everyone of which I attempt to answer quickly. To save time, I will give a generic answer to all of you in advance: ?No, it is not time to stop out of your ProShares Ultra Short 20+ Treasury Bond ETF (TBT) position at the $46 handle.? We are at a multiyear peak in bonds, and this is absolutely not the place to puke out. That?s why I always keep my positions small.

You have to allow room for markets to breathe and still be able to hang on when it goes against you. It is also nice to have the dry powder to double up.

I know some of you are suffering from sleepless nights, so I?ll make it easy for you. We have hit bottom for the year. This is the best time in three years to buy stocks, just in case you forgot to load up at any time since 2011. Ditto for bonds on the sell side.

Earnings started coming out last week, and many companies have been delivering blockbuster reports, as I expected. Over all, I think we can expect total S&P 500 earnings to rise by $11.

This means that, given the market?s recent 10% plunge, stocks are now selling at 12.5 X 2015 earnings. That is a rare bargain. It is a chance to buy shares at 2011 valuations. Don?t blink and miss it.

The big driver hasn?t been the Ebola virus, the risk of which has been wildly exaggerated by the media, but the collapse of the price of oil.

I think we got very close to a bottom of the entire move this morning when we tickled $80. I take North Dakota fracking pioneer John Hamm?s view: If this isn?t the bottom, it is close, and wherever the bottom, we will race right back up to $100 sometime next year on China?s insatiable demand.

That means you buy stocks right now.

For a fuller explanation of the fundamentally bullish argument for the stock market, please click here ?10 Reasons Why the Bull Market is Still Alive?.

Now Is the Time to Have a Gunslinger Working on Your Behalf

October 17, 2014/by Mad Hedge Fund Trader

Delta Airlines is Cleared for Takeoff

Diary, Newsletter, Research

When I was a young, clueless investment banker at Morgan Stanley 30 years ago, the head of equity sales took me aside to give me some fatherly advice. Never touch the airlines.

The profitability of this industry was totally dependent on fuel costs, interest rates and the state of the economy, and management hadn't the slightest idea of what any of these were going to do. If I were ever tempted to buy an airline stock, I should lie down and take a long nap first.

At the time, the industry had just been deregulated, and was still dominated by giants like Pan Am, TWA, Eastern Air, Western, Laker, Braniff, and a new low cost upstart called People Express. None of these companies exist today. It was the best investment advice that I ever got.

If you total up the P&L's of all of the US airlines that ever existed since Orville and Wilber Wright first flew in 1903 (their pictures are on my new anti-terrorism edition commercial pilots license), it is a giant negative number, well in excess of $100 billion. This is despite the massive government subsidies that have prevailed for much of the industry's existence.

The sector today is hugely leveraged, capital intensive, heavily regulated, highly unionized, offers customers terrible service, and is constantly flirting with, or is in bankruptcy. Its track record is horrendous. It is a prime terrorist target. A worse nightmare of an industry never existed.

I became all too aware of the travails of this business while operating my own charter airline in Europe as a sideline to my investment business during the 1980?s.

The amount of paperwork involved in a single international flight was excruciating. Every country piled on fees and taxes wherever possible. The French air traffic controllers were always on strike, the Swiss were arrogant, and the Italians unintelligible and out of fuel.

The Greek military controllers once lost me over the Aegean Sea for two hours, while the Yugoslavs sent out two MIG fighter jets to intercept me. As for the US? Did you know that every rivet going into an American built aircraft must first be inspected by the government and painted yellow before it can be used in manufacture?

While flying a Red Cross mission into Croatia, I got shot down by the Serbians, crash landed at a small Austrian Alpine river, and lost a disc in my back. I had to make a $300 donation to the Zell Am Zee fire department Christmas fund to get their crane to lift my damaged aircraft out of the river (see picture below). Talk about killing the competition!

Anyway, I diverge.

So you may be shocked to hear that I think there is a great opportunity here in airline stocks. A Darwinian weeding out has taken place over the last 30 years that has concentrated the industry so much that it would attract the interest of antitrust lawyers, if consumers weren?t such huge beneficiaries.

With the American-US Air (AAL) deal done, the top four carriers (along with United-Continental (UAL), Delta (DAL), and Southwest (LUV) will control 90% of the market.

That is up from 60% only five years ago. The industry has fewer seats than in 1982; while inflation adjusted fares are down 40%. Analysts are referring to this as the industry?s new ?oligopoly advantage.?

Any surprise bump up in oil prices is met with a blizzard of higher fares, baggage fees, and fuel surcharges. I can't remember the last time I saw an empty seat on a plane, and I travel a lot. Lost luggage rates are near all time lows because so few now check in bags. Interest rates staying at zero don?t hurt either.

The real kicker here is that stock in an airline is, in effect, a free undated put on the price of oil. If the price of oil stays in the $80 handle for a prolonged period of time, which it should, or continues to fall, airline stocks will rocket. This is on top of a $27 plunge in the price of Texas tea, the largest single cost item for the airline industry.

If you are looking for another indirect play, look at the bond market. With a new Boeing 787 Dreamliner costing up to $300 million each, airlines are massive borrowers of capital. With interest rates at all time lows, another huge source of costs have just been lifted off the airlines? backs.

The Ebola virus is an additional sweetener (if you could use such a term for a deadly disease), because it is enabling us to buy the stock down 30% than it would be otherwise. Delta Airlines (DAL) just so happened to be the airline that brought the first Ebola carrier to the US, so it has suffered the most. As frightening as this disease is (I studied it in my Army bacteriological warfare days), I doubt we will see more than a dozen cases in the US.

At least we are finally getting something for our $120 billion investment in Homeland Security since 2002. How much do you want to bet that they don?t cut the budget for the Center for Disease Control (CDC) this year, as they have for the past dozen!

On top of the massive fuel savings, a recovering US economy should boost profitability, given its recent maniacal pursuit of controlling costs. Some airlines have become so cost conscious that they are no longer painting their planes to gain fuel savings from carrying 100 pounds less weight! Just the missing pretzels alone should be worth a few cents a share in earnings.

This is not just a US development, but an international one. The International Air Transport Association (IATA) has just raised its forecast of member earnings from $7.6 billion in 2012 to $10.6 billion in 2013, a gain of 40%. The biggest earnings are based in Asia (China Southern Airlines, China Eastern Airlines, Air China), followed by those in the US, with $3.6 billion in profits.

Add all this together, and the conclusion is clear. The checklist is complete, the IFR clearance is in hand, and it is now time to push the throttles to the firewall for the airline stocks and get this bird off the ground.

And no, I didn't get free frequent flier points for writing this piece.

Meet the New Big Four

Maybe I Should Try Hedge Fund Trading?

October 16, 2014/by Mad Hedge Fund Trader

10 Reasons Why the Bull Market is Still Alive

Diary, Newsletter, Research

Well, so much for the 200 day moving average! It?s like that girlfriend who has been ferociously loyal for the last year, and suddenly she is busy every weekend and never returns phone calls.

Not that this ever happens to me. Ahem.

I knew there would be trouble when the perma bulls on TV told me the market would bounce hard off this inviolable line in the sand, with the (SPX) at 1,905. I cut my bullish equity positions by two thirds on the first market rally and never looked back.

For proof that you still make beginner mistakes after 45 years in the business, take a look at how I handled my Tesla (TSLA) position last week. Elon Musk teased us all with his ?D? tweet two weeks ago, and the stock levitated magically while all other momentum stocks were being mercilessly thrown overboard.

?Women and traders? first comes to mind.

Did I sell into the rumor and capture the 80 basis point profit I had in hand? Nope. I held on until yesterday morning and bailed after a $40 plunge in the stock, taking a 1.62% hit.

This happened while the rest of Texas was coming down with Ebola Virus. I fall victim to the bout of over confidence whenever my Trade Alert success rate exceeds 90%, as it recently has done. I start to believe my own research, always a fatal flaw.

Fortunately, I?m still running double shorts in the S&P 500 (SPY) and the Russell 2000 (IWM) to hedge these losses. The ?Hedge? in ?Mad Hedge Fund Trader? is a well-earned one, I assure you.

You would think I would get hate mail for making such a stupid mistake. Au contraire! Readers thanked me for pulling the plug so quickly and with all humility. It appears that when most other newsletters put out a bad call they develop a sudden case of amnesia, leaving their customers to thrash about in bloody, shark-invested waters on their own.

Not here!

So, should we be burning up the Internet trunk lines with frenzied clicks to unload our long-term stock portfolios?

I think not. Here are ten reasons why I believe the bull market in shares is still alive and well:

1) Stocks are selling at only 14 X 2015 earnings, in the middle of the historic range.

2) The $23 plunge in oil prices we have enjoyed over the last five months amounts to a gigantic tax cut for the world economy, and could add a full 1% to US GDP growth, which has essentially come out of nowhere. Saudi Arabia told us today that this could go on for another year. Remember, it is our oil that is crushing prices.

3) The Christmas selling seasons is setting up to be a strong one, thanks to a friendly calendar and renewed consumer confidence. This is why retailers and credit card companies like American Express (AXP) have been reviving.

4) The November 4 midterm elections are still a big unknown for the market to discount. The next day could signal the beginning of the yearend bull market.

5) I think we are seeing the final blow off top in the bond market. A reversal would be very stock friendly, especially for financials (BAC).

6) Mergers and acquisitions are continuing at a torrid pace. This is happening because companies see each other as cheap, not expensive, and usually happens at market bottoms.

7) Those who aren?t merging are buying their own stock back with both hands, like Apple, at a staggering $400 billion annualized rate.

8) Volatility spikes (VIX) also signal market bottoms (see chart below). We are nearing another top with the closely followed indicator closing at $24.64 today, a high for the past two years.

9) Capital spending is accelerating, not only in technology, but across most other industries as well. This is why the IMF boosted its growth forecast for America next year to 3.8%, and that is probably a low number.

10) Ever heard of ?Sell in May and Go Away?? Well, ?Buy in November and stay put? is also true. That is only weeks away. October is usually the worst month of the year to sell and is not the path to untold riches.

The big question now is how much additional pain we have to suffer before the promised turnaround occurs.

My colleague, Mad Day Trader Jim Parker, went over his screens with a fine tooth comb and came up with $1,846 and $1,810 for the (SPX). Similarly, NASDAQ could trade down to the $3,700-$3,800 range.

My personal favorite is on the calendar, the Midterm elections on November 4. Whatever the outcome, we could see an upside explosion that lasts for six months, once thus unknown disappears. Not only could this make your year in 2014, but 2015 as well.

And I already know who is going to win! It is gridlock, whether the Democrats control one House of congress, or none!

Do You Think They Carry Ebola Virus?

October 14, 2014/by Mad Hedge Fund Trader

How to Execute a Vertical Bull Call Spread

Diary, Newsletter, Research

For those readers looking to improve their trading results and create the unfair advantage they deserve, I have just posted a new training video on How to Execute a Vertical Bull Call Spread.

This is a pair of positions in the options market that will be profitable when the underlying security goes up, sideways, or down small in price over a defined period of time. It is the perfect position to have on board during markets that have declining or low volatility, much like we have experienced over the past year.

I have strapped on quite a few of these across many asset classes this year, and they are a major reason why I am up 40%.

To understand this trade, I have used the recent example of Apple, which I executed on July 10, 2014. I felt very strongly that Apple shares would rally into the release of their new iPhone 6 on September 9, 2014.

So followers of my Trade Alert service received text messages and emails to add the following position:

Buy the Apple (AAPL) August, 2014 $85-$90 in-the-money bull call spread at $4.00 or best

To accomplish this, they had to execute the following trades:

Buy 25 August, 2014 (AAPL) $85 calls at????..?$9.60

Sell short 25 August, 2014 (AAPL) $90 calls at??..$5.60
Net Cost:????????????????................$4.00

This gets traders into the position at $4.00, which cost them $10,000 ($4.00 per option X 100 shares per option X 25 contracts).

The vertical part of the description of this trade refers to the fact that both options have the same underlying security (AAPL), the same expiration date (August 15, 2015) and only different strike prices ($85 and $90).

The breakeven point can be calculated as follows:

$85.00 Lower strike price
? $4.00 Price paid for the vertical call spread
$89.00 Break even Apple share price

The great thing about these positions is that your risk is defined. You can?t lose anymore than the $10,000 you put up.

If Apple goes bankrupt, we get a flash crash, or suffer another 9/11 type event, you will never get a margin call from your broker in the middle of the night asking for more money. This is why hedge funds like them so much.

As long as Apple traded at or above $89 on the August 14 expiration date, you will make a profit on this trade.

As it turns out, my read on Apple shares proved dead on, and the shares closed at $97.98 on expiration day, or a healthy $8.98 above my breakeven point.

The total profit on the trade came to:

($1.00 X 100 X 25) = $2,500

This means that the position earned a 25% profit in little more than a month. Now you know why I like Vertical Bull Call Spreads so much.

Occasionally, these things don?t work. As hard as it may be to believe, I am not infallible.

So if I?m wrong and I tell you to buy a vertical bull call spread, and the shares fall not a little, but a lot, you will lose money. On those rare cases when that happens, I?ll shoot out a Trade Alert to you with stop-loss instructions before the damage gets out of control.

To watch the video edition of How to Execute a Vertical Bull Call Spread, complete with more detailed instructions on how to execute the position with your online platform, please click here.

Vertical Bull Call Spreads Are the Way to Go in a flat to Rising Market

October 9, 2014/by Mad Hedge Fund Trader

How Low is Low for Oil?

Diary, Newsletter, Research

With the recent collapse in oil prices, down a whopping $20 in just four months, I am starting to get a lot of emails from followers looking for Trade Alerts to buy the energy companies.

After all, energy is one of my three core industries in which to invest over the next two decades. Why not now?

The short answer is: Not yet. Don?t ever confuse a stock that has gone down a lot with ?cheap.?

The share prices for this sector are getting so low, they are starting to redefine the meaning of ?bargain.? The major integrated oil companies are now trading under book value with single digit multiples.

They are now at liquidation values, assuming that the fall in the price of Texas tea halts at $80. Those are valuations almost as low as Apple (AAPL) saw a year ago.

The absence of my Trade Alerts in this fertile field is happing because things could get worse for oil before they get better. There is now a war for market share occurring between the world?s second and third largest producers, Saudi Arabia and Russia (the US is now number 1).

Both countries desperately depend of rising prices and export volumes to maintain domestic political stability. When that doesn?t happen, budget deficits explode, spending gets cut, revolutions occur, and governments fall.

And these aren?t countries that send former leaders to country clubs to practice their golf swings in retirement. Firing squads are more the order of the day. In fact, countries maintaining high oil revenues is a matter of personal survival for their leaders.

Until recently, I would have said that China would step in and put a floor under the market to fuel their insatiable demand for energy. But they have run out of storage, and are unable to take more.

There is just no place to put it. They have even resorted to long-term charters of ultra large tankers, like the 434,000 tonne TI Europe, purely to build reserves.

The shake out is especially bad in the offshore sector, the planet?s most expensive source of crude. A glut of new drilling rigs is about to hit the market, ordered during more prosperous times years ago, while existing ones can be snapped up for 60 cents on the dollar.

Oil suffers from the additional damnation in that it is being dragged down by the global commodity collapse. Unless an asset class is made out of paper and pays an interest rate or a dividend, it is getting dissed to an unbelievable degree.

All of this means that the price of oil could fall further before we hit bottom and bounce. Now that $90 has been decisively broken, $80 is in the cards, and possibly $70 on a spike.

If you had told me when I was fracking for natural gas in the Barnett Shale 15 years ago that this process would ultimately cause the collapse of Russia and Saudi Arabia, me and my roustabout buddies would have said you were nuts. Yet, that is precisely what seems to be happening.

If there is one thing saving Texas tea, it is that the US can?t build energy infrastructure fast enough to get burgeoning new supplies to market. After the Keystone Pipeline got stalled by regulatory roadblocks, giant 100 car oil trains sprang out of nowhere overnight.

So many railcars have been diverted to the oil trade that farmers are now having trouble getting a record grain crop to market. This is why railroads have been booming (click here for ?Railroads Are Breaking Out All Over?).

The energy research house, Raymond James, recently put out an estimate that domestic American oil production (USO) would rise to 9.1 million barrels a day by 2015. That means its share of total consumption will leap to 46% of our total 20 million barrels a day habit. These are game changing numbers.

Names like the Eagle Ford Shale, Haynesville, and the Bakken Shale, once obscure references on geological maps, are now a major force in the country?s energy picture.

Ten years ago, North Dakota was suffering from depopulation. Now, itinerate oil workers must brave -40 degree winter temperatures in their recreational vehicles pursuing their $150,000 a year jobs.

The value of this extra 3.5 million barrels/day works out to $115 billion a year at current prices (3.5 million X 365 X $90). That will drop America?s trade deficit by nearly 25% over the next three years, and almost wipe out our current account deficit.

Needless to say, this is a hugely dollar positive development, and my own Trade Alerts have profitably been reflecting that.

This 3.5 million barrels will also offset much of the growth in China?s oil demand for the next three years. Fewer oil exports to the US also vastly expand the standby production capacity of Saudi Arabia.

If you want proof of the impact this will have on the economy, look no further than the coal (KOL), which has been falling in a rising market. Power plant conversion from coal to natural gas (UNG) is accelerating at a dramatic pace. That leaves China as the remaining buyer, and their economy is slowing.

It all makes the current price of oil at $90 look a little rich. As with the last oil spike four years ago, this one is occurring in the face of a supply glut. Cushing, Oklahoma is awash in Texas tea, and the Strategic Petroleum Reserve stashed away in salt domes in Texas and Louisiana is at its maximum capacity of 727 million barrels.

It was concerns about war with Syria, Iran, ISIL, and the Ukraine that took prices to $107 in the spring. My oil industry friends tell me this fear premium added $30-$40 to the price of crude. That premium is now disappearing.

It seems that every time a new group grabs an oil field in the Middle East, they ramp up production, rather than destroy it, so they can milk it for the cash. This is why 15 tankers are afloat around the world carrying Kurdish crude to sell on the black market.

Once Europe and Asia return to a solid growth track, oil will recover to $100 a barrel or more. Until then, discretion is the better part of valor, and I?ll be sitting on those Trade Alerts.

It is also why I am keeping oil companies with major onshore domestic assets, like Exxon Mobil (XOM) and Occidental Petroleum (OXY), in my long term model portfolio.

Sorry, but We?re Full

October 8, 2014/by Mad Hedge Fund Trader

An Update on Gilead Sciences

Diary, Newsletter, Research

I spoke to a friend of mine the other day who works for a health care venture capital firm, and I thought I?d pass through a few tidbits.

Gilead Sciences (GILD) is basking in the glow of the most profitable drug launch in history. Its blockbuster Sofobuvir treatment for hepatitis C, launched in 2013, inhibits the RNA polymerase that the hepatitis C virus (HCV) uses to replicate its RNA. In traders? parlance, it kills the bug.

(GILD) has taken in $5.7 billion in sales of Sofobuvir during the first half of 2014, and could sell as much as $10-$12 billion for the full year.

The drug is so revolutionary, that it on the scale of medical miracles of decades past, such as Salk vaccine immunizations for polio and penicillin treatments for bacterial infections. So far, Sofobuvir has cured a breathtaking 90% of patients.

Now the company is using various drug combinations that produce even higher success rates with fewer side effects, and may be expended to treat other life threatening diseases. These could take Sofobuvir sales as high as $15-$18 billion in 2015.

A big controversy regarding Sofobuvir has been its immense cost, which works out to $84,000-$135,000 per patient. This has become a bigger issue with the advent of Obamacare, now that the government is picking up much of the tab.

But, that?s a bargain compared to full treatment of the disease, which can run as high as $350,000 per patient. That is, unless you don?t care if you die.

Partly in response to these complaints, the company is making the drug available at deep discounts in 91 emerging nations that account for 50% of all Hepatitis C cases globally. What it loses on margins there it will make back in volume.

With any luck, we may see hepatitis C wiped out in my lifetime, as I have already seen with smallpox (I saw some of the last few live cases in kids in Nepal in 1976).

All of this makes the stock appear a bargain at its current $106 price. At a multiple of a subterranean 12X earnings, the stock should hit $140 next year.

You all know that health care is one of my three core industries to bet on for the long term (there others are energy and technology).

The short-term driver of the share price for (GILD) is obviously whether the health care sector is in, or out of vogue. But for the long term Gilead looks like a good bet to me. And I don?t even have hepatitis.

For more depth on the company, please refer to my earlier piece, Keep Gilead Sciences on Your Radar, by clicking here.

The Formula for Immense Profits

October 7, 2014/by Mad Hedge Fund Trader

The Correction is Over

Diary, Newsletter, Research

5%. A lousy 5%.

That?s all we managed to clock in the latest correction in the greatest bull market of all time.

It?s not the 6% hickey we had to endure in February, nor as modest as the 4% setback in August. Call it a middling type correction, a kind of correction light. The buyers do still have itchy trigger fingers.

All it took to bring it to an end was a September nonfarm payroll that blew the socks off the forecasts of most analysts, coming in at a positively steroidal 248,000. It?s like they?re finally hiring again.

That is, unless you just graduated from college with a degree in English, Sociology, or Political Science, and are lugging $100,000 in student loans. Coders everywhere are writing their own tickets.

The headline unemployment rate plunged from 6.1% to 5.9%, an eight year low, and the broader U-6 figure is closing in on 10%.

Even more impressive were the back month upward revisions, which were enormous. July was boosted from 212,000 to 243,000, and August was goosed from 142,000 to 180,000.

The hiring was across the board, with professional & business services, retail, health services, and even construction leading the way.

What all of this means is that the freshly updated 4.4% Q2 GDP growth rate isn?t some cockamamie government concoction, but is, in fact real.

More amazing is that we are seeing these blistering numbers against a background of non-existent inflation, even deflation, if the August -0.1% Consumer Price Index is to be believed.

That gives my friend, Federal Reserve governor Janet Yellen, a blank check to keep interest rates lower for longer than anyone believes possible.

Without the inflation bogeyman, you might as well keep rates at zero forever. Personally, I am in the 2016 camp before we start to see interest rate rises.

All this means it is back to the races for the stock market, with an (SPX) bull?s-eye of 2050-2100 now in the cards. However, we?re not going there in a straight line.

I expect more of a sideways wedge formation developing first over the coming month where we see successive higher lows and lower highs. When we reach the apex of the triangle it will be bingo!, and a blast off to new all time highs.

Of course, you can?t go to the races without a program. So make your choices carefully, as the kind of corrections of the type we have just seen often herald sudden sector rotations.

I think financials are the place to be, especially if my prediction that interest rates are bottoming proves correct. That?s why I knocked out a Trade Alert to buy Bank of America (BAC) last week (click here for the editor?s cut). Conveniently, it jumped 5% the next day. I have a pleasant habit of doing that with (BAC).

I am not dishing out a positive view on risk assets because I live in LaLa Land (I only grew up there), am a perma bull, or like drowning myself in the punch bowel (at least not since college). For me, it?s all about the numbers.

Here?s a list of figures to show, not that shares are cheap or how expensive shares are, but how moderately priced they are:

1) With a price earnings multiple of 17X, we are smack in the middle of a 10-25X historic range.

2) The dividend yield for stocks is at 1.9%, compared to only 1.1% at the 2007 top.

3) Cash reserves per S&P 500 share are a rich $443, compared to only $353 seven years ago.

4) Corporate debt to assets is a mere 23% versus 32% 2007.

I could go on and on, but you see my point. This bull market has years to go before it even flirts with becoming truly expensive, unless you own Tesla (TSLA), according to Mr. Elon Musk.

I think the way to trade this market is to reserve the daily newspapers only for lining the bottom of a birdcage, and to hit the mute button on your TV.

That way you won?t hear about the Ebola Virus, ISIL, the Midterm Elections, the war in the Ukraine, and all the other bogus reasons to sell stocks we are bombarded with daily.

Did I mention that the $20 per barrel plunge in the price of oil we have just seen amounts to one of the largest tax cuts in history for the economy?

See, I always write more interesting economic pieces while watching Men in Black. I think the 6,800-foot altitude here at Lake Tahoe helps too.

So Inspiring!

October 6, 2014/by Mad Hedge Fund Trader

Why I?m Doubling Up My Shorts

Diary, Newsletter, Research

I don?t double up short positions very often. I am too old to lose all my money and go back to work as an entry-level analyst at Morgan Stanley. Besides, they probably wouldn?t have me back anyway. It is a different company than it was 30 years ago, a lot different.

However, the dead cat, short covering bounce we got off this morning?s Hong Kong dump does allow me to get back into the short side of the (SPY) one more time.

We managed to gain 20 (SPX) points, or 2 entire (SPY) handles from the Monday morning capitulation, puke on your shoes low. Except this time, we are a weekend closer to expiration, only 14 trading days until October 15.

And waiting all the way until Friday for the September nonfarm payroll buys us a free week.

Does anyone really care what?s going on in Hong Kong, China, or anywhere else in the world, for that matter? Not really. It appears only day traders do, and those of us who have family members there, like me.

The beginning of October is usually the scariest two weeks of the year. So a bet that the (SPY) doesn?t blast up to new all time highs during this period looks like a pretty good idea.

Buying the S&P 500 (SPY) October, 2014 $202-$205 vertical in-the-money bear put spread with the volatility index (VIX) just short of the $17 handle, the highest print in six months, is also getting us the best short term spread prices this year. It?s almost like the good old days.

If the prospect of executing this trade causes the hair on the back of your neck to stand up, take a look at the charts below.

The Russell 2000 (IWM) broke through to a new low this morning, proving that a solid, three-month downtrend in the small caps is still alive and well.

The chart looks even worse for the iShares iBoxx High Yield Corporate Bond ETF (HYG), which has become a very important lead security for traders to keep a laser like focus on.

NASDAQ (QQQ) and the Dow Jones Average ($INDU) are sitting bang on crucial support lines. Alibaba is still sucking all the oxygen out of the technology sector, with major institutions selling everything else to take instant 5% stakes in the new issue. This is great news for the sector for the long term, but not so great for the short term.

Finally, I asked my ace Mad Day Trader, Jim Parker, his thoughtful take here. He believes that short term, markets are oversold and due for a rallyette. He wouldn?t be shorting stocks here with My money! But is the (SPY) going to a new all time high in 14 trading days? Absolutely no way!

There is another factor to consider here. We have recently clocked substantial profits with our short positions in the Euro (FXE) and the Russell 2000 (IWM).

So we can afford the luxury of getting aggressive here when everyone else is running and hiding. We are essentially now playing with the house?s money. The only question is whether we will next post a larger gain, or a smaller one. That is a position of strength, and a great place to trade from.

So I think the net net of all of this is that best case, the risk markets all keep trending downward, worse case, they flat line sideways, at least for the next 14 trading days. Either way, it is a win-win for me. That makes the S&P 500 (SPY) October, 2014 $202-$205 in-the-money bear put spread a winner in my book.

You can buy this spread anywhere in a $2.60-$2.75 range and have a reasonable expectation of making money on this trade.

This is a rare instance where there is no outright stock or ETF equivalent to this trade. If you sell short the stock market here, such as through purchasing the ProShares Ultra Short S&P 500 ETF (SDS), we could rally all the way up to, but just short of the all time high, and you would get your head handed to you.

If this happens with the S&P 500 (SPY) October, 2014 $202-$205 in-the-money bear put spread, you make your maximum profit of 1.30% of your total portfolio. This is why I play in the options market. So non options players are better to stand aside on this trade and just watch it for educational purposes.

September 30, 2014/by Mad Hedge Fund Trader

Holder Retirement Could Send Bank of America Flying

Diary, Newsletter, Research

Watching the market melt down today, I have been hurriedly compiling a shopping list of stocks to buy, and writing the Trade Alerts in advance for readers to execute.

If I am right about interest rates remaining flat or rising for the rest of the year, then financials have to be at the absolute top of such a list.

Bank of America (BAC) certainly was the chief whipping boy of the financial crisis. Since 2008, it has paid out more than $50 billion in fines and lawsuit settlements for every transgression under the sun.

After getting a bail out from the US Treasury, it was forced to cut its dividend payment to a token one cent. Do any Google search on the company and you are inundated with a flood of bad news.

All that is now ancient history. The entire banking industry is now moving into the sweet spot in the economic cycle. This is because rising interest rates mean that they will be able to charge more for loans, while their cost of funds (deposits and equity) remains low. These rising spreads fall straight to the bottom line.

Now with the bank?s Torturer-in-Chief, US Attorney General Eric Holder, announcing his retirement, the way is clear for better days ahead.

With the 30-year bull market in bonds now at an end, substantially higher rates in the near future are now included in virtually every economic forecast out there. Since the beginning of 2014 the ten-year Treasury yield has collapsed from 3.05% to as low as 2.32% at he end of August, pummeling bank shares.

What happens next? They go from 2.32% back up to 3.05%, possibly by yearend, then a lot more. Bank shares will ride on the back of this bull.

The jungle telegraph is now ringing with the prospect of a dividend hike by the company, currently at a lowly four cents. We may get the good news as soon as the next reporting period on October 14. The implications of such a move are broad.

If it pulls this off, it is only because of renewed confidence by the markets in the improved financial condition of the company. After several capital raises and the liquidation of the wreckage of the 2008 crash, US banks are now the healthiest in history, with balance sheets of bedrock stability.

Ahem, they are also too big to fail, again.

To get the dividend yield on the shares up to industry standard of 2.5%, the company really needs to raise its dividend to 42 cents. It certainly has the cash flow to do this. In 2013, (BAC) reported net income of $11.4 billion, more than four times to amount needed to cover such a payout.

Needless to say, this is all great news for the share price. The prospective return of increasing amounts of capital to shareholders should suck in new and wider classes of shareholders. It won?t be just about hedge fund punters anymore. Respectable, large and long term holding institutions will be in there as well.

Take a look at the charts below, and it is clear that such a move is underway. (BAC) broke out from the end of a classic triangle formation, which traditionally resolves itself to the upside. New post crash highs beckon.

You can find more dry powder in the chart for the Financials Select Sector SPDR ETF (XLF), which clearly rejected a complete breakdown at long-term trend support in early February.

Finally, take a gander at the chart for the S&P 500. New life from the financials will be the adrenaline shot this market needs to break it out of its current low volume sideways consolidation, taking it to new highs as well.

Finally, for those who are concerned that the bull market was killed off by last week?s massive Alibaba IPO (BABA), take a look at he chart below provided by my friends at Business Insider. Certainly, the collapse of the iShares iBoxx High Yield Corporate Bond ETF (HYG) has put the fear of God into traders.

The chart tracks long-lived bull markets in terms of their price earnings multiples. It shows that we have only reached half the length of the great 1987-2000 bull market. The implication is that this bull could live another five or more years.

This bull is not dead, it is just resting.

So far, the S&P 500 has declined by a feeble 2.8% off the $202 top. If we break the 50-day moving average here, we could make it down to the 200-day moving average at $1,880, a more substantial 7% pullback. Take that as a gift, and load the boat for the year-end rally.

I?ll send out the Trade Alert to buy (BAC) when I think the timing is ripe.

(XLF) Weekly

(XLF) Daily

Time to Visit the ATM Again

The Bull is Not Dead, It is Resting

September 26, 2014/by Mad Hedge Fund Trader

Plunging Back into Tesla

Diary, Newsletter, Research

During last month?s Concourse d? Elegance vintage car show at Pebble Beach, California, I managed to catch up with Tesla?s senior management. All lights were flashing green, and it was full speed ahead.

The new Gigafactory being built outside Reno, Nevada will pave the way for the firm?s entry into the mass market. The big issue in selecting a site was not cost or subsidies, but the permitting process. In Nevada, where almost everything is legal, you can get a building permit in 30 days, compared to months elsewhere and years in California.

Expect to see the Model Tesla 3 out in three years, which will cost $40,000 and get a 300-mile range. Ranges on Lithium Ion battery driven vehicles are doubling every four years. Buying a car at that price, with no maintenance and free fuel for life, is the same as paying $20,000 for a gasoline driven car.

That?s when Tesla ramps up production from this year?s 40,000 units to 500,000, turning the ?Big Three? auto makers into the ?Big Four.? This is why the big institutional investors are going gaga over the stock.

All that has been missing this year has been a decent entry point to buy the stock. It now appears we have one, the stock giving up 17% from its August $295 high.

All of which brings me to Tesla?s share price, which has just taken a swan dive from $265 to $184 as hot money fled the big momentum names. Let me tell you that the revolutionary vehicle is still wildly misunderstood, and the company has done a lousy job making its case. I guess you can afford that luxury when consumers line up for a year to buy your product.

The electric power source is, in fact, the least important aspect of the Tesla cars. Here are 15 reasons that are more important:

1) The vehicle has 75% fewer parts than any other, massively reducing production costs. The drive train has 11 parts, compared to over 1,500 for conventional gasoline powered transportation. Tour the factory and it is eerily silent. There are almost no people, just a handful who service the German robots that put these things together.

2) No maintenance is required, as any engineer will tell you about electric motors. You just rotate the tires every 6,000 miles.

3) This means that no dealer network is required. There is nothing to fix.

4) If you do need to repair something, usually it can be done over the phone. Rebooting the computer addresses most issues. If not, they will send a van to do a repair at your house for free.

5) The car runs at room temperature, not the 500 degrees in standard internal combustion cars. This means that the parts last forever.

6) The car is connected to the Internet 24/7. Once a month it upgrades its own software when you are sleeping. You jump in the car the next morning and a message appears on your screen saying, ?We just upgraded the following 20 Apps.? This is the first car I ever owned that improved itself with age, as I do myself.

7) This is how most of the recalls have been done as well, over the Internet while you are sleeping.

8) If you need to recharge at a public station, it is free. Tesla has its own national network of superchargers that will top you up in 45 minutes, and allow you to drive across the country (see map below). But hotels and businesses have figured out that electric car drivers are the kind of big spending customers they want to attract. So public stations have been multiplying like rabbits. When I first started driving my Nissan Leaf in 2010 there were only 25 charging stations in the Bay Area. There are now over 1,000. They even have them at Costco.

9) No engine means a lot more space for other things, like storage. You get two trunks in the Model-S, a generous one behind, and a ?frunk? in front.

10) Drive an electric car in California, and you are treated like visiting royalty. You can drive in the HOV commuter lanes as a single driver. This won?t last forever, but it?s a nice perk now.

11) There is a large and growing market for all American made products. Tesla has a far higher percentage of US parts (100%) than any of the big three.

12) Since almost every part is made on site at the Fremont factory, supply line disruptions are eliminated. Most American cars are over dependent on Asian supply lines for parts and frequently fall victim to disruptions, like floods and tidal waves.

13) There are almost no controls, providing for more cost savings. Except for the drive train, windows, and turn signals, all vehicle controls are on the touch screen, like a giant iPhone 6 plus.

14) A number of readers have argued that the Tesla really runs on coal, as this is still the source of 36% of the US power supply. However, if you program the car between midnight and 7:00 AM (one of my ideas that Tesla adopted in a recent upgrade), you are using electricity generated by the utilities to maintain grid integrity at night that otherwise goes unused and wasted. How much power is wasted like this in the US every night? Enough to recharge 150 million cars per night!

15) Oh yes, the car is good for the environment, a big political issue for at least half the country.

No machine made by humans is perfect. So in the interest of full disclosure, here are a few things Tesla did not tell you before you bought the car.

1) There is no spare tire or jack, just an instant repair kit in a can.

2) The car weighs a staggering 3 tons, so conventional jacks don?t work. Lithium is heavy stuff, and the electric rotors and stators on the wheels that generate power weigh 250 pounds each. This means you only get 12,000 miles per set of tires.

3) The car is only 8 inches off the ground, so only a scissor jack works.

4) The 21-inch tires on the high performance model are a special order. Get a blowout in the middle of nowhere and you could get stranded for days. So if you plan to drive to remote places, like Lake Tahoe, as I do, better carry a 19-inch spare in the ?frunk? to get you back home.

5) If you let some dummy out in the boonies jack the car up the wrong way, he might puncture the battery and set it on fire. It will be a decade before many mechanics learn how to work with this advanced technology. The solution here is to put a hockey puck between the car and the jack. And good luck explaining what this is to a Californian.

6) With my Leaf, I always carried a 100-foot extension cord in the trunk. If power got low, I just stopped for lunch at the nearest sushi shop and plugged in for a charge. Not so with Tesla. You are limited to using their 20-foot charging cable, or it won?t work. I haven?t found anyone from the company who can tell me why this is the case.

The investment play here is not with the current Model S1, which is really just a test bed for the company to learn how to execute real mass production. This is why the current price/earnings multiple is meaningless. Battery technologies are advancing so fast now, that range/weights are doubling every four years.

And guess what? Detroit is so far behind developing this technology that they will never catch up. My guess is that they eventually buy batteries and drive trains from Tesla on a licensed basis, as Toyota (for the RAV4) and Daimler Benz (for the A Class) already are. Detroit?s entire existing hybrid technologies are older versions similarly purchased from the Japanese (bet you didn?t know that).

That leaves the global car market to Tesla for the taking. Sales in China are taking place at a price 50% higher than here in the US, and the early indications are that they will be an absolute blowout. Government support there is no surprise, given that the air pollution in Beijing is so thick you can cut it with a knife.

All of this will boost the shares from the present $250 to over $500. I would say $1,000 a share, but I don?t want to give it the Apple (AAPL) curse. So if you can use the current weakness to buy it under $250, you will be well rewarded.

You might also go out and buy a Model S1 for yourself as well. It?s like driving a street legal Formula 1 racecar and is a total blast. Just watch out for soccer moms driving Silverado?s speaking on cell phones.