As I write, the Nasdaq is down 2% which makes the short position I took yesterday up 4%. Not bad for a 1 day trade. I will probably try and close out the position today and I might even take the exact opposite position and go long the market for the short term. Why? Did I suddenly become a bull?
No, I'm still negative on the market. But I think at this point, it is good to reverse position for two reason. First, the volatility of the market makes swings more likely. I'm just trying to play the gyration of the market. Downdrafts are followed by upswings because nobody knows which way the market should be moving. Second, I think it is more likely that the Senate will pass the bailout plan tonight. This should cause the market to move up sharply as soon as it happens. I think the senate will do whatever it takes to pass the bill. I think they feel pressure to do something. The problem with this plan is that congress wants to pass something, so they look like they are doing their job. However nobody wants to vote for it because given the overwhelming sentiment against the bill. So congressmen want it to pass, they just don't want to be voting for it. Given the House voted it down, this will probably put additional pressure on the Senators to vote for it.
We will see. Watching the markets closely right now trying to figure out when to close out my position and go the opposite direction.
Tuesday, September 30, 2008
More Regulation to Fix Regulation
I'm not sure about the logic that is being used by some that more regulation can fix the problems that regulation created in the first place. As I posted earlier, many of the problems we are now facing can be traced back to policies our own government made. Now there are proposals on the table which call for even more government action by changing banking requirements, allowing the government to buy different assets, and otherwise just mucking more with the system. I just can't wait to see the new proposals on the table that the guys in Congress will throw out when they reconvene on Thursday.
As a side note, I decided to put my money where my mouth is. I actually haven't made a trade in several months. The market, with its current volatility, is a scary place. That being said, I decided to try and make some money off of this. The stock market had a huge run today, its biggest up day in several years. Of course this followed the biggest down day so it kind of needs to be put in perspective. At the very end of the day, I shorted the Nasdaq by buying QID. I think this was a short term bounce and fully expect the market to reverse course again in relatively short order. I'll get out quickly if I think the market turns and limit my losses, but I definitely think we are heading down until the government does something stupid.
As a side note, I decided to put my money where my mouth is. I actually haven't made a trade in several months. The market, with its current volatility, is a scary place. That being said, I decided to try and make some money off of this. The stock market had a huge run today, its biggest up day in several years. Of course this followed the biggest down day so it kind of needs to be put in perspective. At the very end of the day, I shorted the Nasdaq by buying QID. I think this was a short term bounce and fully expect the market to reverse course again in relatively short order. I'll get out quickly if I think the market turns and limit my losses, but I definitely think we are heading down until the government does something stupid.
Monday, September 29, 2008
Bailout Failed, Now What?
Wow. I honestly didn't see this one coming. I can't believe the government got enough sense to not pass the plan as presented. However glad I am that they didn't pass this bill, that doesn't mean I don't think the government should not do anything. Sure the stock marketed plunged. My own portfolio took a bigger hit than the overall stock market. But that doesn't mean the government should do something just to help me out.All along my gripe with the plan was that I think it wasn't solving the core issue and it was rewarding bad behavior. I contend it is important that the people who bought and sold these assets should take the brunt of the pain. I would extend this even to the person who borrowed in the money in the first place. It doesn't bother me at all that this means some people will lose their house. They should have never had a house they couldn't afford in the first place.
But I could concede that the government should do something to ease the rather large economic shock we may soon be facing. I don't think it will be as big as others are thinking, but I do believe that we are facing some issues. The core issue we are currently facing is the sudden loss of credit. For those who don't quite understand this just think of it that banks and investors are hesitant to extend credit (lend money) to people even in the short term. Credit is the oil of the economy. It lubricates everything and makes transactions between parties easier and more likely to happen.
Now the government planned on easing the credit problems by buying banks’ bad assets. This to me is like treating cancer by focusing on easing the pain people feel rather than going after the cancer itself. I’m not sure how great of a plan it is to throw good money at bad assets. I also have a serious problem with moral hazard. You would essentially be bailing out the very people who don’t deserve it.
So here is a simpler solution. Call it the Double Journey Economic Recovery Act of 2008. The core problem is people who deserve it not being able to get credit. I would just have the government, for a very short period of time, be able to extend credit for the credit worthy. They could accomplish this by working with banks and the markets to secure NEW debt. For those with high credit ratings, say individuals with a fico 700 or better or corporations with at least an A rating, the government would back the loan. They could go a step further, to protect the tax payers, and require that there be adequate collateral and that any default on the loan would be subject to collection by the IRS.
This would ensure that banks felt safe lending the money and keep taxpayers off the hook from any defaults. It would also NOT bailout anybody who had previously made choices that brought us where we are today.
So there you have it. Here is a much better, safer plan that actually gets to the core of the problem. So why can’t our government come up with this or something even better?
Sunday, September 28, 2008
Why Recessions Are a Good Thing
One of the things that bothers me a lot when I hear people speak of the need to do something immediately is the fear of recession. Recessions are not bad things. In fact they are pretty necessary in a well running capitalistic economy. Granted, you don't want to have a Great Depression sized recession, but it is absolutely needed if we wish to have the benefits of a boom cycle.
Think of it this way. The economy has some average growth path. But like any average, it is a combination of highs and lows. The economy does just that, it has highs and lows. There are going to be times when the economy is going strong. This is a cycle that feeds on itself, growth begets growth. But growth can also beget excess. Economic growth, like a rising tide, raises all boats. Some of these "boats" really don't deserve to be raised. They ride the tide of economic growth but really need to sink to the bottom. These are the people who get rich by adding very little of real economic value. These are the idiots who made a fortune buying houses with no money down, sitting on them for a month, and then flipping it for instant profits. There is no real economic value in that and these are the type of people who shouldn't be successful.
That is where recessions come in. They are the great equalizer. Recessions seperate winners from the losers. Those who really do add value, continue to survive. People who were prudent and realize that there is always a bust following any boom, are the ones who make it on to the next boom. These are the people who realize that a long term outlook is the only outlook. These are people like Warren Buffet who don't ride the volatile cycle of boom and bust, but keep a level and even head amidst all the calamity.
In any well functioning society, there need to be winners and losers. Sometimes in the short term, the winners and losers end up in the wrong bucket, and that is unfortunate. This is when an average Joe loses his job despite doing nothing wrong. But in the long run, it always works out. If he is truly a winner, he will come out ahead before the race is over.
As a personal note, my family was destroyed during the recession in the 1990's. My father's business went under and he subsequently deserted my family. It wasn't an easy thing to get over. At the time it seemed like the end of the world. But in retrospect, it was absolutely necessary and the best thing for everyone. My father, although a good cook, probably wasn't the best business man. It wouldn't be in anybody's best interest, even my own family, to have propped him up and let his business continue. My family survived it all and came out stronger for it. I like to think that is because I really do belong on the "winners" side.
Think of it this way. The economy has some average growth path. But like any average, it is a combination of highs and lows. The economy does just that, it has highs and lows. There are going to be times when the economy is going strong. This is a cycle that feeds on itself, growth begets growth. But growth can also beget excess. Economic growth, like a rising tide, raises all boats. Some of these "boats" really don't deserve to be raised. They ride the tide of economic growth but really need to sink to the bottom. These are the people who get rich by adding very little of real economic value. These are the idiots who made a fortune buying houses with no money down, sitting on them for a month, and then flipping it for instant profits. There is no real economic value in that and these are the type of people who shouldn't be successful.
That is where recessions come in. They are the great equalizer. Recessions seperate winners from the losers. Those who really do add value, continue to survive. People who were prudent and realize that there is always a bust following any boom, are the ones who make it on to the next boom. These are the people who realize that a long term outlook is the only outlook. These are people like Warren Buffet who don't ride the volatile cycle of boom and bust, but keep a level and even head amidst all the calamity.
In any well functioning society, there need to be winners and losers. Sometimes in the short term, the winners and losers end up in the wrong bucket, and that is unfortunate. This is when an average Joe loses his job despite doing nothing wrong. But in the long run, it always works out. If he is truly a winner, he will come out ahead before the race is over.
As a personal note, my family was destroyed during the recession in the 1990's. My father's business went under and he subsequently deserted my family. It wasn't an easy thing to get over. At the time it seemed like the end of the world. But in retrospect, it was absolutely necessary and the best thing for everyone. My father, although a good cook, probably wasn't the best business man. It wouldn't be in anybody's best interest, even my own family, to have propped him up and let his business continue. My family survived it all and came out stronger for it. I like to think that is because I really do belong on the "winners" side.
Thursday, September 25, 2008
How We Got Here and Where We Are Going
The government is trying to do their best to create a plan to get us out of the mess that they put us in. Still, nothing is passed yet so there may yet still be hope that they do the right thing which would be to do nothing. I just find it very ironic that just six months ago, both Bush and Paulson told the American People we had no problems, and now we are suddenly on the precipice look straight at Doomsday. It was a lie six months ago and its a lie today. At least they are consistent.
The saddest part of the whole thing is that they obviously didn't see it coming. I mean seriously, how could you not. They created this mess through their own actions. Let us look back and see exactly how this happened.
In 1999, the government decides that it would be a great idea if everyone could afford to buy a home. This is an idiotic notion but it sounds good politically so the American people eat it up. To enable this "plan" the government allows Freddie and Fannie to lend money to people with less than worthy credit. Isn't that nice? Isn't it great that we can enable the "American Dream" by allowing people to own things they can't really afford? This of course masks an even bigger problem. These are Govermented Sponsored Enterprises. This gives them an implicit backing of the government making people believe the government won't let them fail. Even worse, people get jobs there by political appointment, further insulating them from scrutiny. But this is only one of many idiotic things that the government does.
In 2001, we have 9/11. Fearing a massive recession, the government takes it upon itself to shore up confidence and lower interest rates to an insanely low level. Rates basically go to 0 percent making the cost of captial very very cheap. People can now get very low percentage mortgages. Add this to the above, and you get people who shouldn't be getting loans able to take how huge loans for very cheap.
Innovation now takes hold. Financial engineering allowed financial institutions to take all these mortgages, package them up, and sell them off as securities. They supposedly are able to create very "safe" assets by slicing and dicing them in a myriad of ways. Of course, this also makes the security very hard to understand and greatly obscures who really owns what. But becasue banks can do this, they no longer really care about making good loans. There motives now move from making good loans, because they will eventually have to collect on these loans, to making as many loans as possible so that they can make these new fangled securities. They don't care if the payer never pays the money back becasue they already sold off the mortgage. Of course this isn't the governments fault, so I'll give them a pass on this one.
Now the SEC gets involved. There have historically been regulations that only allow banks to take on so much debt when compared to assets. This limits their ability to use too much leverage. Of course you remember how leverage works. It allows you to greatly multiply your gains AND losses. Of course, when it seems like housing prices can only go straight up, and people are making money hand over fist, the banks lobby to be allowed to use more leverage so they can make insane amounts of money. Of course when things go south, they go south in a hurry too, which is exactly what we are seeing. These banks were able to take huge positions on assets they don't have, and thus make a situation that threatens the entire financial market.
So there you have it. Giving way too much easy and cheap money to people who shouldn't have it and have no accountability for when things go wrong. Doesn't that sound exactly what Paulson is asking for when he asks for $700 billion with no restrictions, no oversight and no accountability? How on earth does anyone think that will end up OK? It of course won't. What will happen is that they will pass some form of bailout. It won't at all do what they want it to do. In fact, its pretty easy to see some of the awful effects it will have.
At the very least, the dollar is going to go into the tank. Inflation is inevitable. We already owe way too much money to the rest of the world. Now the government is going to essentially print money to pay for this plan. This will have very negative effect. Inflation is one of the worse things that can happen from an economic perspective. This will also drag out the housing problems we are having now as markets will take longer to correct. This is just prolonging the pain. This will increase moral hazard thus creating a crisis even bigger the next time.
How do you play this? Despite my earlier advice that the dollar was going up in the short term (thanks to a years of getting hammered and the rest of the world also slowing down) the dollar will fall. Commodities now have a ways to go up, despite their highs. So sell the dollar, buy commodities, and short the market.
The saddest part of the whole thing is that they obviously didn't see it coming. I mean seriously, how could you not. They created this mess through their own actions. Let us look back and see exactly how this happened.
In 1999, the government decides that it would be a great idea if everyone could afford to buy a home. This is an idiotic notion but it sounds good politically so the American people eat it up. To enable this "plan" the government allows Freddie and Fannie to lend money to people with less than worthy credit. Isn't that nice? Isn't it great that we can enable the "American Dream" by allowing people to own things they can't really afford? This of course masks an even bigger problem. These are Govermented Sponsored Enterprises. This gives them an implicit backing of the government making people believe the government won't let them fail. Even worse, people get jobs there by political appointment, further insulating them from scrutiny. But this is only one of many idiotic things that the government does.
In 2001, we have 9/11. Fearing a massive recession, the government takes it upon itself to shore up confidence and lower interest rates to an insanely low level. Rates basically go to 0 percent making the cost of captial very very cheap. People can now get very low percentage mortgages. Add this to the above, and you get people who shouldn't be getting loans able to take how huge loans for very cheap.
Innovation now takes hold. Financial engineering allowed financial institutions to take all these mortgages, package them up, and sell them off as securities. They supposedly are able to create very "safe" assets by slicing and dicing them in a myriad of ways. Of course, this also makes the security very hard to understand and greatly obscures who really owns what. But becasue banks can do this, they no longer really care about making good loans. There motives now move from making good loans, because they will eventually have to collect on these loans, to making as many loans as possible so that they can make these new fangled securities. They don't care if the payer never pays the money back becasue they already sold off the mortgage. Of course this isn't the governments fault, so I'll give them a pass on this one.
Now the SEC gets involved. There have historically been regulations that only allow banks to take on so much debt when compared to assets. This limits their ability to use too much leverage. Of course you remember how leverage works. It allows you to greatly multiply your gains AND losses. Of course, when it seems like housing prices can only go straight up, and people are making money hand over fist, the banks lobby to be allowed to use more leverage so they can make insane amounts of money. Of course when things go south, they go south in a hurry too, which is exactly what we are seeing. These banks were able to take huge positions on assets they don't have, and thus make a situation that threatens the entire financial market.
So there you have it. Giving way too much easy and cheap money to people who shouldn't have it and have no accountability for when things go wrong. Doesn't that sound exactly what Paulson is asking for when he asks for $700 billion with no restrictions, no oversight and no accountability? How on earth does anyone think that will end up OK? It of course won't. What will happen is that they will pass some form of bailout. It won't at all do what they want it to do. In fact, its pretty easy to see some of the awful effects it will have.
At the very least, the dollar is going to go into the tank. Inflation is inevitable. We already owe way too much money to the rest of the world. Now the government is going to essentially print money to pay for this plan. This will have very negative effect. Inflation is one of the worse things that can happen from an economic perspective. This will also drag out the housing problems we are having now as markets will take longer to correct. This is just prolonging the pain. This will increase moral hazard thus creating a crisis even bigger the next time.
How do you play this? Despite my earlier advice that the dollar was going up in the short term (thanks to a years of getting hammered and the rest of the world also slowing down) the dollar will fall. Commodities now have a ways to go up, despite their highs. So sell the dollar, buy commodities, and short the market.
Tuesday, September 23, 2008
Trying to Sell the Bailout Plan
Hank Paulson went to the Hill today to attempt to sell his $700 billion bailout plan. Surprisingly, those in congress questioned them hard about why this plan is necessary and why it is important to do something immediately.As the hearing progressed, Paulson and Bernanke were on the defensive. Several times they admitted there were several problems with the plan. They admitted that the plan might not even work but that they had to do something and that they have to do it now. The fundamental problem they want to solve is the confidence problem that investors and the credit markets are having.
You know what the most ironic thing is? These actions, and similar ones before it, have likely caused most of this mess. Investors EXPECT the government to do something. They always come to the rescue. This is the type of moral hazard problem I fear most. Investors get used to the government stepping in, and thus refuse to do anything until a plan is revealed. This of course makes it worse the next time becaue the expectation is set, and until the government steps in, most investors will refuse to do anything.
I'm sure they will say, "Just this one time", or "This is a special circumstance". I hear the same thing at work every day when we agree to do a hack or we rush something out that shouldn't go out. Every case is a "special" case. Of course, that means none of them are, and neither is this one. The scariest thing? Pauslon is raising such an alarm and then he is asking for carte blanche in the situation. He just wants us to hand over the $700 billion with no strings attached. Want to buy the worse assets from the worse banks? Sure, why not? We wrote him a blank check. It just reeks of man with an ego too large for his own good; someone who thinks that they can solve any problem.
The plan should make sense. With this much money involved, it should be obvious what benefits it would provide. How come only Bernanke and Pualson seem to be the ones selling this plan?
The Problem With Any Plan
We are getting closer and closer to finalizing this huge bailout. I'll be happy to talk about it as it gets closer to becoming reality which it unfortunately will by very soon. However, every form of the plan misses a very fundamental problem.
People cannot afford the houses they lived in. They never could. That's the key point. I keep reading things where people are expecting the bottom in the housing market bottom soon and then start its rise up again. That thinking is crazy. We aren't anywhere close to the bottom. Prices have dropped "significantly" but it still is not enough. There was a meteoric rise in prices. Prices more than doubled in most areas in a 5 year period. Even if you are down 25% from the top, you still have quite a bit more downside before housing becomes anywhere near affordable.
A house should cost you no more than 3 times your annual income. Even that is on the high side. If a family earns $100k, which would put them in one of the higher brackets, that is still only a $300k house. In California, that buys you nothing. You still have to go out about 40 or 50 miles to find a house anywhere near that price range. Given the price of gas now, that is unrealistic for most people.
So until the prices come down, there will be pain in the market and the economy. People have an asset that is overvalued and they must continue to make payments on. Those out of the market, will be unable to buy until the prices come down. Alternatively, they could continue this terrible cycle and buy an overpriced asset that will eventually worsen the current situation. This is the fundamental problem and something that wont' be solved by throwing even more money at it.
People cannot afford the houses they lived in. They never could. That's the key point. I keep reading things where people are expecting the bottom in the housing market bottom soon and then start its rise up again. That thinking is crazy. We aren't anywhere close to the bottom. Prices have dropped "significantly" but it still is not enough. There was a meteoric rise in prices. Prices more than doubled in most areas in a 5 year period. Even if you are down 25% from the top, you still have quite a bit more downside before housing becomes anywhere near affordable.
A house should cost you no more than 3 times your annual income. Even that is on the high side. If a family earns $100k, which would put them in one of the higher brackets, that is still only a $300k house. In California, that buys you nothing. You still have to go out about 40 or 50 miles to find a house anywhere near that price range. Given the price of gas now, that is unrealistic for most people.
So until the prices come down, there will be pain in the market and the economy. People have an asset that is overvalued and they must continue to make payments on. Those out of the market, will be unable to buy until the prices come down. Alternatively, they could continue this terrible cycle and buy an overpriced asset that will eventually worsen the current situation. This is the fundamental problem and something that wont' be solved by throwing even more money at it.
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