DougD

Will Hedge Funds Ruin the Real Estate Market?

Still missing in action from this economic recovery has been the residential real estate market. Everyone who is in the business of selling me a new home assures me that we have hit bottom and things are getting better, including the home builders, real estate agents, and countless local chambers of commerce. Look no further than home builder Lennar (LEN), which had more than doubled since the October low, and Pulte Homes (PHM), which has tripled.

Much of the improvement in bank shares, which saw Bank of America (BAC) double in three months, was based on the improving fortunes of homeowners. Is there something wrong with this picture? Should I be relying on these ?belief based? sources of information?

The hard data say otherwise. This morning, the January S&P 500 Case Shiller Real Estate Index put in a new seven year low, dropping 0.8% from the previous month. San Francisco showed the biggest loss (-2.5%), followed by Atlanta (-2.1%), Portland (-2.1%), Cleveland (-2.0%), and Chicago (-1.9%). Some 47% of transactions nationally are from short sales and foreclosures. This figure exceeds 60% in some troubled markets in the West. There is a foreclosure tidal wave of Biblical proportions now sweeping the South.

The cancellation rate for new purchases is still a stunningly high 30%. First time buyers have virtually ceased to exist, a key component of this market, as few young couples can qualify for bank loans under the new credit regime. They were once 40% of the market.

Who is buying all of these houses? Hedge funds, which are setting up partnerships to buy distressed homes at discounts of 25% or more, remodeling and modernizing them, and flipping them out as fast as they can. This presages a new institutionalization of the market that was once the refuge of the individual homeowners. I have heard of aggregations of as many as 1,000 units, which are individually bought at bankruptcy auctions on the courthouse steps, and moved as quickly as possible on an assembly line to the market.

While this may bring a welcome increase in turnover in a once moribund market, it will also cap any future price appreciation. These guys are not long term investors by any means. They are in for the quick buck, and will happily walk away with a net profit of only 5%. The money is made on the turnover. These resellers are successfully front running retail owners desperately trying to unload holdings from the vast shadow inventory where negative equity is more often the rule than the exception.

They say all real estate is local, and that has never been more true than now. Where you do find real end buyers is at the absolute top end, with prices listed at over $2 million. The players here often pay with cash to avoid the higher interest rates that usually come with jumbo loans. I am seeing this across the entire expanse of the economy, from American Express (AXP) to Coach (COH) to Tiffany (TIF).

I even see this at my local ski resort of Incline Village in Nevada, where homes over $10 million are moving nicely, but there is a constipated glut of hundreds of dwellings priced under $800,000. Right now, business is great for anyone selling to rich people. This is why we are seeing bidding wars in the San Francisco Bay area for any homes within commuting distance of Google (GOOG), Facebook, and Apple (AAPL) headquarters, while market for homes in the rest of the region is dead in the water.

I write all of this with the usual provisos. Case Shiller lags the real market by 3-5 months. There is no doubt that this year?s unusually warm winter has pulled forward a lot of real estate investment. Even still, the monthly data is taking a turn for the worse. March signed contracts are down -0.5%, while February housing starts were down -1.1%.

Why do I care about any of this, since I have been renting for the past seven years? It is hard to see the broader economy growing faster than 2% a year without serious real estate participation, which in the past has accounted for up to half of our total growth. It is the missing 2% that used to take us to 4% growth. That harsh reality affects all markets everywhere, whether you are renting or not.

 

 

 

 

 

The Fire Isn?t Out Yet

DougD

Buy Toyota Motors as a Cheap Yen Play

Looking for beneficiaries of the coming collapse of the Japanese yen (FXY), (YCS), Toyota Motors (TM) has to be at the very top of your list. A cheaper domestic currency brings a lower cost of production, high foreign sales proceeds, and wider profit margins all the way around.

I am probably the only person in the country who once worked for Toyota, speaks Japanese, and worked in the White House Press Corps, so I feel uniquely qualified to comment on the current state of play with Toyota.

When Akio Toyoda, president of the Toyota parent and grandson of the founder, and English speaking Yoshimi Inaba, president of Toyota Motor North America, Inc. appeared in front of congress, it was the usual kabuki theatre.

The member from Kentucky, where nonunion Toyota plants are located, listed off the firm's charitable donations to the community, while the one from Michigan launched a vicious, no-holds-barred attack.

The language spoken by the two Japanese couldn't have been more different. Toyoda spoke the words of inherited wealth, of a ruling shogun, of privilege, and of condescension. Inaba talked like the hardscrabble warrior that he was, who spent 40 years clawing his way up the Toyota organization ladder.

I think the entire crisis happened because Toyota management believed in their products to such incredible extremes that any criticism was viewed merely as the unhappy grumblings of competitors. That?s how the whole brake pedal fiasco ran away from them, leading to the largest vehicle recalls in history. Similarly, the quality of Japanese products became so ingrained in the minds of American regulators that they too fell asleep at the switch, giving the company a free pass on the rising tide of consumer complaints.

On top of this, you can pile the Japanese cultural aversion to sending bad news up the command chain. This was a major reason why Japan lost WWII, and explains how the suicide rate in the country is so appallingly high. When the bill finally came due, the price tag was 37 dead in acceleration accidents, and a witch hunt on national TV. Toyota's management will make sure, literally on pain of death, that every product rolling off the assembly line, from here on, will be models of engineering perfection.

The stock has held up amazingly well so far, probably because it is mostly owned by strong hands, with few traders involved. Not only should you buy the stock when global markets return to a sustained risk accumulation mode, you should buy a Toyota car as well. It will be the only time in your life that you can find them at a discount. All of this explains why the 37% pop in the stock this year outperformed the main indexes in the US, but also those in Japan as well.

 

 

Is This a Buy Signal?

DougD

March 28, 2012 - Quote of the Day

?When it?s raining gold, reach for a bucket, not a thimble,? said Oracle of Omaha Warren Buffet.

DougD

Momentum is Building for the Yen Shorts.

I?m hearing from my buddies in Japan that while things are already quite bad in that enchanting country, they are about to get a whole lot worse, and that it is time to start scaling into a major short in the yen. Australia and China have already raised interest rates, to be followed by the US, and eventually Europe.

With its economy enfeebled, the prospects of Japan raising rates substantially are close to nil, meaning the yield spread between the yen and other currencies is about to widen big time. In the case of the Australian dollar, that works out to 4% per annum. Leverage up ten to one, and pile on anticipated capital gains brought in by a weakening yen, and you have a real carry trade on your hands. This will generate hundreds of billions of dollars? worth of cascading yen selling as hedge funds dog pile in. It?s macro investing at its finest.

Until now, the government has been able to finance ballooning budget deficits caused by two lost decades, but those days are coming to an end. Japan is quite literally running out of savers. The savings rate has dropped from 20% during my time there, to a spendthrift 3%, because real falling standards of living leave a lot less money for the piggy bank.
The national debt has rocketed to over 200% of GDP, and 100% when you net out government agencies buying each other?s securities. Japan has the world?s worst demographic outlook. Unfunded pension liabilities are exploding. Other than once great cars and video games, what does Japan really have to offer the world these days, but a carry currency?

Until now, the government has been able to cover up these problems with tatami mats, because almost all of the debt it issued has been sold to domestic institutions. Now that this pool is drying up, there is nowhere else to go but foreign investors. With Greece and the rest of the PIIGS at the forefront, and awareness of sovereign risks heightening, this is going to be a much more discerning lot to deal with.

That great bell weather of global risk taking, the Euro/Yen cross is telling us that the mother of all carry trades has already started. You also see this in the Ausie/Yen cross, and outright yen markets. I have scored one round trip in the yen this year and hope to do several more.

You could dip your toe in the water here around ?82.40. In a perfect world you could sell it at the next stop at the ?85 level. My initial downside target is ?90, and after that ?100. If you?re not set up to trade in the futures or the interbank market like the big hedge funds, then take a look at the leveraged short yen ETF, the (YCS) or buying puts on the (FXY). This is a home run if you can get in at the right price.

 

 

 

 

DougD

March 27, 2012 - Quote of the Day

?Rupert Murdoch is very smart and is a great leader, but he?s made a mistake. He?s buried in ink, and in my view, there won?t be any newspaper business ten years from now. Fortunately, we?re buried in television and movies, and they?ll be here forever,? said Sumner Redstone, chairman of Viacom and CBS.

Mad Hedge Fund Trader

Trade Alert - (SDS) March 26, 2012

As a potentially profitable opportunity presents itself, John will send you an alert with specific trade information as to what should be bought, when to buy it, and at what price. Read more

DougD

An Evening With ?Government Motors?

Long term readers of this letter are well aware of my antipathy towards General Motors (GM). For decades, the company turned a blind ear to customer complaints about shoddy, uncompetitive products, arcane management practices, entitled dealers, and a totally inward looking view of the world that was rapidly globalizing. It was like watching a close friend kill himself through chronic alcoholism.

During this time, Japan?s share of the US car market rose from 1% to 42%. The only surprise when the inevitable bankruptcy came was that it took so long. This was traumatic for me personally, since for the first 30 years of my life General Motors was the largest company in the world. Their elegant headquarters building in Detroit was widely viewed as the high temple of Capitalism. I was raised to believe that what was good for GM was good for the country.

I opposed the bailout because it interfered with creative destruction, something America does better than anyone else. Without GM a large part of the US car industry would have moved to California and gone hybrid or electric.

When an opportunity arose to spend a few hours with the new CEO, Dan Akerson, I graciously accepted. After all, he wasn?t responsible for past sins and I thought I might gain some insights into the new GM. Besides, he was a native of the Golden State and a graduate in nuclear engineering from the Naval Academy at Annapolis and the London School of Economics. How bad could he be?

When I shook hands, I remarked that his lapel pin looked like the hood ornament on my dad?s old car, a Buick Oldsmobile. He noticeably winced. So to give the guy a break, I asked him about the company?s results last year.

It was the best in the 103 year history of the company, with revenues up by an eye popping $15 billion. It was now the world?s largest car company with the biggest market share. The 40 mpg Chevy Cruze was the number one selling sub compact in the US. GM competed in no less than 117 countries, and was a leader in the fastest growing emerging market, China.

I asked how a private equity guy from the Carlyle Group was fitting in on the GM board. He responded that all of the Big Three Detroit automakers were being run by ?non-car guys? now and they generated profits for the first time in 20 years. However, it was not without its culture clashes. When he publicly admitted that he believed in global warming, he was severely chastised by other board members. He wasn?t following the playbook.

When I started carping about the bailout, he cut me right off at the knees. Liquidation would have been a death blow for the Midwestern economy, killing 1 million jobs, and saddling the government with $23 billion in pension fund obligations. It also would have deprived the Treasury Department of $135 billion in annual tax revenues. It was inevitable that in this election year the company became a political punching bag. Akerson said that he was still a Republican, but just.

GM was now selling 1,000 Chevy Volts a month. The cars are so efficient, running off a 16kWh lithium ion battery charge for the first 25-50 miles that many are still driving around with the original tank of gas they were delivered with a year ago. Extreme crash testing by the government and the bad press that followed forced a relaunch of the brand.

The recent production halt says more about GM?s more efficient inventory management than it does about the hybrid car. GM?s recent investment in California based Envia Systems should succeed in increasing battery energy densities threefold (click here for the link).

However the Volt was just a bridge technology to the Holy Grail, hydrogen fuel cell powered cars, which will start to go mainstream in five years. These cars burn hydrogen, emit water, and cost about $300,000 a unit to produce now. By 2017, GM hopes to make it available as a $30,000 option for the Chevy Aveo.

Another bridge technology will be natural gas powered conventional piston engines. These take advantage of the new glut of this simple molecule and its 85% price discount per BTU compared to gasoline. The company just announced a dual gas tank pickup truck that can use either gasoline or compressed gas. Cheap compressors that enable home gas refueling are also on the horizon. Fleet sales will be the initial target.

Massive overcapacity in Europe will continue to be a huge headache for the global industry. There are just too many car makers there, with Germany, England, Italy, France, and Sweden each carrying multiple manufacturers. Governments would rather bail them out to save jobs and protect entrenched unions than allow market forces to work their magic. GM lost $700 million on its European operations last year, and Akerson doesn?t see that improving now that the continent is clearly moving into recession.

I asked if GM stock was cheap, given the dismal performance since the IPO last year. It is still 36% down from the launch price. He said that the government holding had been cut back to 27% after figuring in dilution. Until the public learns of its liquidation plans, investors were staying away from ?Government Motors? in droves. Also, the old bond holders still owned substantial numbers of shares and were selling into every rally. That is hardly a ringing endorsement.

Akerson said that a cultural change had been crucial in the revival of the new GM. Last month, the Feds announced an increase in mileage standards from 25 to 55 mpg by 2025. Instead of lawyering up for a prolonged fight to dilute or eliminate the new rules, as it might have done in the past, it is working with the appropriate agencies to meet these targets.

Finally, I asked Akerson what went through his head when the top job at GM was offered him at the height of the crisis. Were they crazy, insane, delusional, or all the above? He confessed that it offered him the management challenge of a generation and that he had to rise to it. Spoken like a true Annapolis man.

 

 

Shifting GM from This?.

To This?.

And This

DougD

America?s Rapidly Changing Mix

Since I am in the long term forecasting business, it was with some fascination that I caught the Associated Press report that minority children born this year may exceed Caucasian children for the first time. Whites lost their majority in San Francisco many years ago, and will do so in California as a whole in the near future.

The report said that the US will have a ?minority? majority by 2050. Whites now account for 2/3 of the population. While minorities now dominate only 10% of counties, they account for 40% of new births.

Demographers say the trend will be reinforced by a large number of Hispanic women entering their prime child bearing years, who historically have more children than other races. More white women are delaying childbearing, reducing fertility.

As demographics is destiny, this is bound to have huge political and economic ramifications for the country going forward. It is also going to influence the marketing priorities of corporations. 16 years ago, Betty Crocker anticipated this trend by using shorter, darker skinned models on the boxes of its cake mix boxes.

Companies that target specific ethnic groups are going to gain a competitive advantage. Furthermore, the rate of interracial mixing is accelerating at a tremendous rate. In California, 50% of all Chinese woman and 60% of Japanese women marry whites. This is amazing given that this was illegal until the Civil Rights Act was passed as recently as 1962.The young millennial generation are virtually color blind. Talk to them and you?ll see what I mean.

Genetically recessive blonde haired, blue-eyed people, who sprang out of a mutation in the Caucuses 7,000 years ago, may completely disappear in 200 years. Pure Caucasians themselves may eventually go too, as they only account for 15% of the world?s population, and that number is falling.

 

 

DougD

March 26, 2012 - Quote of the Day

?To ask other people to be making sacrifices on taxes during this period, and we are going to ask them to make sacrifices on the revenue side and the expenditure side, and to leave the top income group alone, is a travesty,? said Berkshire Hathaway?s Warren Buffet.

DougD

Volatility Melt Down Continues

The market was buzzing today about the continued collapse of volatility and the significance thereof today. Today the chief whipping boy was the double leveraged Velocity Shares 2X Vix ETF (TVIX), which cratered 33% on the day, and down 90% from its October high.

This was on a day when the ETF should have gone through the roof, with the Dow down 100 points and a rapidly deteriorating Chinese Purchasing Managers Index threatening of worse to come. Even the (VIX) and the (VXX) only brought in modest gains at best. Against this backdrop they should have been up much more.

Conspiracy theories abounded. Some speculated about margin calls on a major hedge fund triggering a forced liquidation. Other?s thought that complacency was peaking, creating spike bottoms in volatility products that could signify a final move. Certainly a buying opportunity is setting up here, but how do you determine where when the ETF is doing the exact opposite of what it is supposed to do.

Whatever the reason, investors? trust in these instrument has been permanently dented. A 33% one day drop certainly was not in the prospectus.

 

 

 

 

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