i have been debating back and forth all morning as to whether i should cut and paste the following for you all to read. i like the light tone thats been here and yet it is a trading thread. this guy manages a hedge fund and his comments are often right on the mark and always interesting.
Good morning and welcome to the frisky buffet. You’ll have to forgive the critters if you hear a muted belch this morning— they’re likely still digesting yesterday’s three course catalyst meal. As we belly up to today’s table and prepare to chow down, it may be helpful to take a peek at the ingredients of yesterday’s news. Indeed, Chef Minx whipped up some delicious information and we should swallow what’s in our mouth before we take another bite. It’s a lot to stomach, I know, but you’d better finish your meal and clean your plate, Oliver—there’s a fresh helping of porridge right around the corner.
While I’m far from a political analyst, conventional wisdom dictates that the Republican sweep is, on the margin, a positive development for stocks. There are surely many rigorous steps between now and policy implementation, but the purist will point to the market’s ability to look forward. Personally, I don’t feel that this alone will alter the course of financial history, but we must respect the bullish undertones and appreciate the new crosscurrent.
A far more interesting development was the 50 bip shot of adrenaline that Elmer administered to the market. I’ve always been somewhat of a conspiracy theorist at heart but, removing that from the equation for a moment, what does this aggressive action tell us? There are a few reasons that immediately come to mind and, at the risk of being called a bitter critter, I’ll share them with you.
Structural issues: Having worked with derivatives for 12 years, my fear is that many potholes remain in the financial system. Most traders are familiar with listed options but few realize the sheer magnitude of “off-board” transaction that take place daily. We had a brief glimpse of these instruments when Long Term Capital Management imploded—but it’s been eerily quiet since then. In the height of the bubble’s feeding frenzy, tons of companies—many of them now defunct—entered into complex derivative transactions with banks and other lending institutions. The accounting procedures implemented at the time, coupled with a general ignorance of the risks involved, has likely left unpleasant surprises in the system.
Deflation: A contraction in the volume of available money or credit that results in a general decline in prices. I know this concept is laughed at by people much smarter than I am, but I am generally concerned about this in the longer term. Consumers have been the underpinning of the stock market and the reduced cost of capital is allowing them to borrow from Peter to pay Paul. Much like the game of hot potato that occurred in the later stages of the bubble, there will eventually be an inflection point when this ceases to be. Zero percent financing, home equity refinancing, lack of consumer savings…these all lend to the notion that a dollar saved will be greater than a dollar earned. That, in a nutshell, is why I believe that capital preservation will be the single most important investment thesis over the next ten years.
War: Alright, I admit it…this one’s a reach. Still, with the underlying global tensions and the geopolitical risk that remains, I wanted to toss it into the mix of potential caveats. Dubya is between Iraq and a hard place as he juggles his options and plays the political card. When weighing the “clear and present dangers” to the United States, he’s got some serious decisions to make and an armed conflict would surely pose a risk to the global financial markets—particularly after the rally we’ve just seen.
The final event of yesterday’s fun-filled session was the after hours earnings release from one of tech’s biggest bellwethers. While guidance was marginally weaker than expected, a more interesting development was the assessment of the economy. When pressed on the timing of the eventual recovery, the response was quite vague. In fact, it seems that the common thread among most tech companies has been seasonality and a lack of visibility. Remember that Wall Street is a relative game so, after a particularly weak September, October’s return to “normalcy” was greeted with open arms and aggressive buying. However, while there may be signs of stabilization, end demand remains a huge wildcard and there didn’t seem to be a warm and fuzzy feeling on the global economy.
The market may choose to look through these concerns and take the tape to the next level but, hopefully, I’ve better expressed why I view the long side as the cute side after the run we've had. Granted, I’ve been either early or wrong (to be determined), but trading is about balancing risk versus reward and making decisions consistent with that view. We’re all just pawns in this trippy game and the Minx will invariably choose the path of maximum frustration. With sentiment giddy and risks looming, I get the uneasy feeling that we’ve seen this movie before and, when it ends, the exit will be quite crowded. Make decisions consistent with your financial means, allow for a margin of error, and try to leave a little room for dessert. After all, an appetite for risk should never be bred from frustration. |
