Featured Trades: (TAKING AIM AT SMALL CAPS)
2) Taking Aim at the Small Caps. One of the cardinal rules of any hedge fund manager is to buy the cheapest assets in the world, and go short the most expensive assets against them. In a perfect world your longs go up, your shorts go down, and you make a bundle of money.
If we are seeing a slowdown in the US economy, be it temporary or permanent, then US small cap stocks have to be among the most richly priced assets out there. The big cap S&P 500 is currently selling at an historically middling 15 times earnings. That puts small caps selling at a 21 multiple in positively nosebleed territory. Small caps lacking serious assets or reserves are the most dependent on external financing and are the most sensitive to the short term economic cycle. In my book that makes them a short.
However, selling small cap stocks short is easier said than done. Good luck finding stock to borrow for your shorts, which are often illiquid and hard to find, They can be tightly held by a limited number of owners who just so happen to hate short sellers. Try selling their stock and they might even sue you.
So it is wise to let someone else do the scut work here. ProShares has a range of alternative short bias ETF's here that lets them do the heavy lifting. The (RWM) offers a -1X short on the Russell 2000, while the (TWM) gives you a -2X exposure, a 200% short position against the sector. The (SBB) has a -1X short exposure to the Small Cap 600, while the (SDD) gives you a -2X short exposure.
If you really want an 'E ticket' ride, you can buy options on these funds, although the liquidity is not great and spreads are wide. The October, 2011 (RWM) $29 put, which is 4% out of the money, sells at a middle market of $1.50. This is not something that I would necessarily do today. Rather, hold it in reserve, and when you get a nice sharp counter trend rally, strap some of these babies on at much better prices.
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Featured Trades: (CHEWING THE FAT WITH HARRY S. DENT)
2) Chewing the Fat With Harry S. Dent. Given the fresh dose of uncertainty besieging the markets these days, I thought I'd touch base with my pal, co-conspiring Eagle Scout, and fellow traveler, Harry S. Dent. Harry runs an independent research boutique, which has accurately predicted many of the major moves in financial markets during the past 25 years.
Harry believes that the economy is fizzling because QE2 had a smaller impact than QE1. The Federal Reserve's second monetary stimulus program generated only 2% in additional GDP growth, proof that it is fighting a losing battle. High oil and commodity prices will provide the coup de grace, forcing consumers to retrench further. We won't see this in the data for a couple of months. Once a more serious slowdown appears, Ben Bernanke may entertain a QE3, despite his indications to the contrary.
Residential real estate continues to provide a relentless drag on economic growth, and will worsen. Be happy you aren't trying to sell a house in Florida, where 18% of the homes are already vacant, compared to 16% in Arizona, and 14% in Nevada. Amazingly, some one third of the houses in Naples, Florida are empty.
Growth of the national debt continues to be a major headache. Since the Great Depression, public spending has grown steadily, from supporting small town 'Mayberry' to the equivalent of a New York City. While much of the early deficit explosion resulted from WWII and Vietnam, all of the recent growth has come from entitlements, like Medicare and Social Security. Government estimates of $46 trillion in unfunded liabilities are wildly inaccurate, with $70 trillion closer to reality.
Harry's advice to investors is to use any strength in coming months to unload stocks. He would sell all remaining holdings in gold and silver. He also wants to dump oil and other energy plays. And he believes we are about to enter a prolonged period of dollar strength. His favorite vehicle for the greenback is the ETF (UUP), which offers investors a long position against a basket of foreign currencies.
Harry is a native of South Carolina, who like Federal Reserve governor Ben Bernanke, improbably went off to Harvard where he got his MBA. His career then took him to the top notch management consulting firm, Bain & Co. After years of consulting with Fortune 100 companies, he found gaping holes in their understanding of the global economy. That spurred him to take off and create his own research boutique to address these grievous shortfalls in understanding.
To learn more about Harry S. Dent, please go to his website at http://www.meetharrydent.com/
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Featured Trades: (AIRLINES STOCKS ARE CLEARED FOR TAKEOFF)
3) Airline Stocks Are Cleared for Takeoff. 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. I almost never remind readers of past trade recommendations which came good, but this time I think I'll make a rare exception.
I recommended airline stocks six weeks ago as a cheap undated put on the price of oil in my piece 'Airline Stocks Could be Ready for Takeoff' (click here for the link) . Since the April peak in oil at $115, airline stocks have been on an absolute tear, while the rest of the stock market has been plummeting to the ground in a death spiral. My pick in the sector, legacy carrier American Airlines (AMR) has roared ahead by a heady 20%.
What is amazing is the industry's robust performance, compared to the last oil spike three years ago. Airlines have undergone one of the most rapid, and painful restructurings in American industrial history. When oil was last at these triple digit prices, it was hemorrhaging red ink. Today it is largely profitable. The $20 price drop we have seen in the past three weeks has added a further $3.5 billion in profits.
I am generally loathe to own stocks here. Airlines have already had their bear market. Use further spikes in the price of crude to add to your long positions through stock or the airline sector ETF (FAA). And no, I am not getting free frequent flier points for writing this piece, but I'll take an upgrade and some free pretzels if offered.
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Up, Up, and Away!
'The investment theme over the last several weeks has changed from 'go global' to 'stay home,' said Ed Yardeni, president of Yardeni Research.
Featured Trades: (THE MARKETS ARE ON A KNIFE EDGE)
1) The Markets Are On a Knife Edge. All global asset classes are within a hair's breadth of completely breaking down.
The S&P 500 sits perilously on its neckline. Just below here there are a ton of sell stops that could pare 5% off the index very rapidly. The more volatile and leading emerging market ETF (EEM) has already broken this key level. Look also at the euro, which has been marching in almost complete lockstep with stocks. It has crashed through the 50 day moving average, and has so far struggled unsuccessfully to recover it. The flip side of all of this is the (UUP), a dollar long against a basket of currencies, which appears to have entered new bull market territory.
What positive surprise is out there that could possibly hold things out there for a few more weeks or months? I can't think of one. What surprise negative is out there that could cause the whole house of cards to collapse. I can think of a dozen. Only Ben Bernanke has the power to stick his finger in the dyke, and right now he is keeping his hands in his pocket.
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Ben, Where are You?
Featured Trades: (THE CORN CONUNDRUM), (JJG), (DBA), (CORN)
2) The Corn Conundrum. In the days of olde, the prices of agricultural commodities were determined by the birds, the bees, and Mother Nature. No more.
The Mississippi River basin is suffering once in a century floods, thousands of acres of farmland have been destroyed, and those still in operation are far behind schedule in their spring plantings. Private analysts are predicting a substantial fall in yields this year. Drought in Texas means they may lose half their wheat crop. China has flipped from a net exporter of food to a large net importer for the first time in many years. So prices for corn, wheat, and soybeans should be absolutely going through the roof right now. Right?
Wrong. Take a look at the charts below for the grain ETF (JJG), the agricultural ETF (DBA), and the fund for corn (CORN), and it is clear that they all peaked at the end of April, right when oil, the euro, gold, silver, stocks, and other commodities began to sell off in earnest. The harsh reality is that food has become just another asset class to be flailed mercilessly by high frequency traders and momentum driven hedge funds. And with the world now in 'RISK OFF' mode that means the ags go down with everything else, big time.
This is only a temporary state of affairs. The basic fact is that the world is still making people faster than the food to feed them. The long term fundamentals for food are in fact getting worse at an ever accelerating rate. Has anyone mentioned? that the world is running out of fresh water with which to irrigate?
So once the hot money has had its way on the downside, they will reverse and pile back in on the long side. Bring an end to the 'RISK OFF' trade, and the ags will be one of the first sectors that you will want to buy.
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Still Looking for the 'BUY' Signals for the Ags
'The speculative fever seems to have broken. The old adage that the best cure for high commodity prices is high commodity prices is working,' said Ed Yardeni, president of Yardeni Research.
Featured Trades: (THIS CHART KEEPS ME AWAKE AT NIGHT)
2) This Chart Keeps Me Awake at Night. The forest and the trees are the constant dilemma facing traders on hedge fund desks, the exchange floor, the commodities pits, or behind PC's at home. While spending all day focusing intently on the tree in front of them with a magnifying glass, they miss the fact that a forest fire is raging all around them.
So let me step back and let me give you the 90,000 foot view of what is going on here. Check out the chart below showing the S&P 500 index for the past 14 years. This is what a lost decade looks like up close and ugly; a very broad sideways trading range. Notice that the range in the second peak is wider than the first. This is a sign of increasing volatility in global financial markets. Will the third peak be wider still? My bet is yes.
Trace the smoking gun to its source and you find the fingerprints of hedge funds and high frequency traders all over it. But there are more players in this crime scene than just them. Like a chapter from Agatha Christie's Murder on the Orient Express, everyone is guilty. You can blame two wars that are bleeding us white, the doubling of the national debt during the 2000's, the rising leverage in our society as a whole, our country's declining role in the world economy, and the falling American standard of living.
Until I see proof otherwise, the US is well into its second lost decade. If that is really the case, then stocks at this level are about to come crashing down to earth once again. Can Ben Bernanke work some hocus pocus and keep things levitating a little longer? I am waiting with baited breath, and keeping my finger on my mouse, ready to hit the SELL button.
From Up Here'?.
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This is What I see
Featured Trades: (A REVIEW OF THE GOLD FUNDAMENTALS), (WORLD GOLD COUNCIL), (GLD), (ABX)
3) A Review of the Gold Fundamentals. With gold crashing through to $1,500 this morning, I thought that I would once against re-examine the fundamentals for the barbarous relic. That is most easily done by reading the Q1 report from the World Gold Council, the final authority on all matters regarding the yellow metal (click here for their link).
Among the many nuggets that I was able to glean was the fact that per capita gold ownership in the US is $1,197 per person. In China, it is $36. Chinese per capita incomes are rising dramatically. What do you think they are going to buy, with a fixed currency encouraging raging domestic inflation? In fact, a rising share of the global trade is moving to the Shanghai Gold Exchange, where imports of the yellow metal are sold to retail buyers.
The US is still on top with gold reserves of $372 billion, followed by Germany ($155 billion), the IMF ($128 billion), Italy ($112 billion), and France ($114 billion). In 2010, central banks turned net buyers of gold for the first time in 21 years, thanks to the end of a decade long liquidation of the European Community's collective holdings, and that trend has continued this year.
Interestingly, the Gold Spider ETF (GLD) is now the sixth largest holder of gold, followed by China, Switzerland, and Russia. Despite rising prices, (GLD) actually saw a 69.5 metric tonne outflow in holdings in Q1. Perhaps this is smart money, like George Soros' Quantum Fund, getting out at an intermediate term top? I believe that one of our many future financial crises will derive from redemptions hitting (GLD) faster than the market can handle them.
A weak US dollar and exploding American debt levels this year have been big factors in the rising demand for gold. But a little known fact is that gold is actually falling in price when valued in the currencies of several emerging markets, like India, China, and Turkey.
I think that a global 'RISK OFF' trade will hit gold just as hard as the other precious metals and commodities, possibly taking it down as much as 20%-30%. But then the long term fundamentals will reassert themselves, ultimately taking it up to the old inflation adjusted all time high of $2,300. The great thing about gold is that they're not making it anymore.
If you would like to get you gold analysis in musical form with a guitar picking folksong with entertaining graphics, then please click here for a good laugh.
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Featured Trades: (TRADE SCHOOL) , (SPY),
1) Trade School. I fielded a lot of questions at yesterday's Macro Millionaire webinar on how I was able to make so much money with small positions. As of today, the year to date theoretical returns for the model portfolio is 34%, putting it in the top 1% of all hedge fund performance, and most of the time I have been 80%-90% in cash.
Let me tell you how it's done. You are about to learn about the wonderful world of leverage. I currently am 95% in cash and 5% in the (SPY) August, 2011 $130 puts, a bet that stocks on the S&P 500 are going to fall. I usually don't allocate more than 5% of my capital to a single position. If I am completely wrong because I have been smoking the wrong stuff, or am finally succumbing to my advanced age, the most I can lose is 5%, or $5,000 in a notional $100,000 portfolio.
If I am right, then things get real interesting real fast. When the (SPY) drops below $130, I am suddenly short a whole load of stock. To be more precise, the 5% weighting in the put translates into 16 contracts with an underlying value of $208,000 (16 X $100 X $130). If the market reaches $127, then I reach my breakeven point, covering the $3 premium I initially paid for my put.? When the (SPY) drops to $124, I have doubled my initial capital, gaining a profit of 100%. If the stock market then drops 10% from my breakeven point to $114, then I make a mind numbing $20,800, or a 416% return on capital. That would add 20.8% to my $100,000 portfolio. That is not an outlandish target. That would simply take us back to where the index started the year.
The bottom line here is that the risk reward is overwhelmingly in my favor, that I am risking a little to make a lot. Mix this in with some old fashioned fundamental analysis, top rate technical analysis, and some of my own secret sauce, and you have a winning strategy. You could make your asset class selection with a coin toss, and still make money with this approach. This is why 22 out of the last 24 trades for Macro Millionaire have been profitable, and why big double digit, or even triple digit returns are within reach.
This is how the best performing hedge funds do it. This is how you can do it. You just have to sit up and pay attention. Just thought you'd like to know.
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