The hog is in the tunnel

[EJ]

The Hog is in the Tunnel

That's not what the Goldman Sachs fund manager said on the call this AM. He said the hundreds of billions in private equity deals that stopped dead in their tracks and got stuck on the balance sheets of deal underwriters when the market for collateralized loan obligations (CLO) ground to a halt last week were a "rat swallowed by a snake." Another manager said the "deal machinery has ground to a halt." There were lots of mixed metaphors, none quite on the mark, so to speak.

The one that rings true was not used, first popularized by Hunter S. Thompson in "Fear and Loathing in Las Vegas," who February 2005 blew his brains out with a revolver and had his remains fired out of a cannon in the desert at a funeral attended by a few dozen of his closest friends.

The hog is in the tunnel when deals that were flying through The System for years at the rate of over 1,000 in 2006 alone... suddenly stopped. They did not slow.

The rat analogy doesn't work. A rat eating snake eats rats on purpose. The snake digests the rat, eventually. The only part of the analogy that works is what comes out at the end.

The call was an all-star lineup, including Former member of Fed Board of Governors Laurence H. Meyer waxing optimistic on the economy and the outcome of the current crisis compared to the bad craziness that happened in 1998 under his watch.

It was all very comforting, unless you happened to be one of the clients on the call with money in the hedge fund that also made the news this morning. In Goldman's Global Alpha Falls 26% in 2007, People Say:

Goldman's largest hedge fund, managed by Mark Carhart and Raymond Iwanowsk, has dropped almost 40 percent since July 31, 2006, said the people, who declined to be named because the fund is private. The Standard & Poor's 500 Index of the biggest U.S. stocks has returned 16 percent during the same period.

"It's hard to imagine how investors can maintain confidence, because their losses have been taking place over a long period of time, starting last year," said Virginia Parker, who helps oversee about $1.8 billion at Parker Global Strategies LLC in Stamford, Connecticut. "There has been a broad range of market climates, and the fund has not demonstrated the ability to excel in any of them."

There's the reason iTulip has refused to even call these funds hedge funds, because they are not hedged. They are long. That's why we call them USIPs, for Unregulated Speculative Investment Pool–if you are long, or are long by any other name.

The combination of precise formulas with highly imprecise assumptions can be used to establish, or rather to justify, practically any value one wishes . . .Calculus . . . [gives] speculation the deceptive guise of investment.”
--Benjamin Graham, 1949

Peter S. Kraus was apparently put on the call at the last minute to deal with the heavy press coverage of today's news.

Goldman Sachs has made the announcement that everyone has been waiting for. The investment bank admitted yesterday that three of its high-profile hedge funds had off-loaded massive equity holdings following days of stock market turbulence.

Hedge funds forced into equities fire sale - The Times (August 14, 2007)

He was the only employee on the payroll and on the call who sounded genuinely nervous and apologetic about how things were turning out for investors who though they'd put money into a fund to make money, not have it ground up in a ten million horsepower cash dispose-all.

As recently as December 2006, it was all going so well.

Investment Banks Post Record 2006 Profit
December 14, 2006 (Joe Bel Bruno - AP)

Investment Banks Lehman Brothers, Bear Stearns Report Record Earnings, Bonuses in 2006

Lehman Brothers and Bear Stearns sent a not-so-subtle message to Wall Street on Thursday when announcing 2006 results -- the word "record" appears a combined 37 times in their earnings reports.

Surging stock and bond markets, coupled with an unprecedented level of takeover activity, has turned the big investment houses into corporate cash machines. It is also delivering stratospheric bonuses to top employees, with Goldman Sachs Group Inc. doling out a staggering $16 billion this year.

For all of fiscal 2006, Lehman Brothers Holdings Inc. reported record net income of $4 billion, up 23 percent from the previous year. Bear Stearns Cos.'s profit for the year soared 40 percent to $2.1 billion. Goldman Sachs said Tuesday its full-year profit soared 70 percent to $9.4 billion, and Morgan Stanley Inc. is set to deliver strong results when it reports next Tuesday.

iTulip AntiSpin: Reading this you'd think that these investment banks had a great year generating revenues from investment banking, but you'd be wrong. For the latest reported fiscal year, Morgan Stanley, for example, generated only 16.4% of revenues from investment banking, 21.2% from asset management, 14.3% from commissions and 12.5% from "other." Where do the bulk of their revenues–35.6% to be exact–come from? "Principle Transactions" as in long-short and other hedge fund strategies.

How about the biggest winner of the bunch, Goldman Sachs, whose full-year profit soared 70 percent to $9.4 billion, which is, by the way, greater than the GDP of Honduras. Investment banking generated 14.8% of revenues, asset management 19.2%, commissions 12%. Hedge fund type investments? A whopping 54% of revenues. What does that make Goldman but a giant hedge fund?

We reported earlier this week that:

Hank Paulson, who made $700 million at Goldman Sachs before taking over the US Treasury this year ... has reactivated a crisis team with a command centre in Washington to cope with the 'systemic risk' in a market melt-down. His worry? 8,000 unregulated hedge funds with $1.3 trillion at hand, and derivative contracts now worth $370 trillion. 'We need to be very careful here,' he said.

A well-sourced article in Washington's Weekly Standard says Mr Paulson fears a "serious crisis that would be a body-blow to the US economy".

Average house prices have fallen from $244,000 in April to $221,000 last month, with more violent corrections in Florida, Arizona, and New England. Builders have warned of a "death spiral" as they slash prices to off-load a glut of unsold homes.

"The US needs a trillion dollars a year just to stand still," says David Bloom, currency guru at HSBC. Modern financial crises have always begun on the peripheries of global economy, setting off a chain reaction. Mr Bloom says the seizure this time will be at the heart of the system as the dollar buckles, pressing down on the "aorta of capitalism".

Eight thousand unregulated speculative investment pools pose a risk of a "serious crisis that would be a body-blow to the US economy"? After running the world's biggest and most successful USIP, Paulson ought to know.

What would Hunter say?

The hog is in the tunnel.

Full transcript of today's Goldman Sachs call with iTulip Select analysis see Goldman Sachs Client Call - Analyzing Goldman's "Interpreting the Recent Market Moves"

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[jk]

Re: The hog is in the tunnel

thanks for the recap and analysis of the goldman call.

one caveat, or rather worry that i have. can we really assume the dollar "buckles" from here? mark faber, for one, sees dollar strength ahead. the cot reports show a heavy commercial position in the dollar contract. carry trade unwinding will tend to benefit the dollar at the expense of everything except the yen and swiss franc. deleveraging will hit emerging markets as well as other foreign [developed] markets, with proceeds translated back to dollars. deleveraging will also hit commodities, with proceeds back to cash. richard russell used to write about the all the debt as dollar shorts - people will want liquidity in a credit crunch. if you can't trust many money market funds, you get money flowing to tbills and bank accounts, with velocity dropping through the floor. it seems to me that ka is positive for the dollar.

[FRED]

Re: The hog is in the tunnel

thanks for the recap and analysis of the goldman call.

one caveat, or rather worry that i have. can we really assume the dollar "buckles" from here? mark faber, for one, sees dollar strength ahead. the cot reports show a heavy commercial position in the dollar contract. carry trade unwinding will tend to benefit the dollar at the expense of everything except the yen and swiss franc. deleveraging will hit emerging markets as well as other foreign [developed] markets, with proceeds translated back to dollars. deleveraging will also hit commodities, with proceeds back to cash. richard russell used to write about the all the debt as dollar shorts - people will want liquidity in a credit crunch. if you can't trust many money market funds, you get money flowing to tbills and bank accounts, with velocity dropping through the floor. it seems to me that ka is positive for the dollar.

Ka is absolutely positive for the dollar and bad for gold. All assets down.

[metalman]

Re: The hog is in the tunnel

Ka is absolutely positive for the dollar and bad for gold. All assets down.

bats. flying around my head. hate... bats...

[Uncle Jack]

Re: The hog is in the tunnel

I saw an interview with Mark Faber as co-host of CNBC World (Asian morning) and he was stating that the dollar will show strength as emerging market funds and diversified international funds get sold and the dollar gets repatriated.

I agree. Dollar up during Ka.

There is going to be a rush for cash on the sidelines, so to speak, so dollar up.

Hey EJ, I recognized that "bad craziness" line from Hunter. I loved his writing.

[qwerty]

Re: The hog is in the tunnel

Ka is absolutely positive for the dollar and bad for gold. All assets down.

How about selling short GBP (or AUD, CAD, NZD) against the yen?

[Guest]

Re: The hog is in the tunnel

I have a question about the validity of secular trend axioms:

__________________________

Fred iTulip Administrator

Re: The hog is in the tunnel Quote: Originally Posted by jk thanks for the recap and analysis of the goldman call. one caveat, or rather worry that i have. can we really assume the dollar "buckles" from here? mark faber, for one, sees dollar strength ahead. the cot reports show a heavy commercial position in the dollar contract. carry trade unwinding will tend to benefit the dollar at the expense of everything except the yen and swiss franc. deleveraging will hit emerging markets as well as other foreign [developed] markets, with proceeds translated back to dollars. deleveraging will also hit commodities, with proceeds back to cash. richard russell used to write about the all the debt as dollar shorts - people will want liquidity in a credit crunch. if you can't trust many money market funds, you get money flowing to tbills and bank accounts, with velocity dropping through the floor. it seems to me that ka is positive for the dollar. Ka is absolutely positive for the dollar and bad for gold. All assets down __________________________

I've come across this axiom in several newsletters, and also found it repeated in a number of other places:

<< All major macro market trends will not end until an extreme is reached in the direction traveled. -- Once that extreme is met, like a pendulum swinging, the new trend will start and will not end until the extreme is met in the other direction. We think this rule is critical yet fully understood by very few. When an investor knows the direction of a major trend, and understands it will not end until an extreme is met in the direction traveled, nearly all other news becomes irrelevant. When the financial markets are in apparent chaos, remembering these key rules can bring clarity. >>

If one looks at the very long term charts it seems clear that they are indeed punctuated very clearly by major trend changes, as secular bull and bear markets which carve clear channels. Seen on the very long scales, the intermittent swings within a secular channel become intelligible as corrections, not breakouts into new secular channels.

So if one assumed provisionally there is some fundamental truth in the axiom, how do the precious metals now break down fundamentally from what is only a very recently born bull market? Aren't the metals supposed to be leading indicators?

If a bear market for gold is now envisioned as part of an arriving credit contraction (KA), the above axiom as plotted in the below chart description must be scrapped entirely. This means the clear secular trend channel in this sample chart is simply obliterated within less than a year of having charted it's most critical secular channel breakout. According to this secular chart, the major channel breakout confirmation only just occurred right around the start of 2007.

Six to seven years seems historically an anomaly as a time span for a just confirmed new secular trend to run it's course and then abruptly change into the deflationary scenario of "all assets down" which KA requires. Either one needs to scrap the axiom, or if not scrapping the secular axiom - one must conclude that what is approaching cannot be more than a correction for gold within it's recently established major channel?

If it were a correction:

The broad lines of that channel suggest even silver - the more volatile of the two former currency metals, cannot break down much below $$11.00 - $12.00 Oz. without negating the entire newly confirmed (start of 2007) secular trend channel without summarily voiding the axiom.

$12.00 / Oz silver is indistinguishable from it's present price range, and even that is at the end of a long year of flat consolidation, a highly unusual technical formation from which a significant breakdown should occur. So unless one disavows the entire secular commodities trend carved out since year 2000, there is little plausible "hard down" scenario from here for Gold and Silver, unless the secular trend axiom is voided.

Certainly my common sense tells me this is more in line with their real value today, compared to virtually all other asset classes and wildly proliferating currency of all stripes. What I would otherwise consider merely my own bias of the hard value floor under these metals, seems to be to some extent born out by the logic of the secular charts.

Are gold and silver now supposed to embark on a secular breakdown from the below channels - who's bands are very broad and definitive going back fully 27 years? Are they destined to do this to accomodate a KA event which iTulip does not envision lasting more than two or three years? That would be an aberration of the major trend, because at present neither Gold nor Silver are high enough within their broad channels - that is, they don't have room to correct down much at all, without negating the entire 27 year trend change and new channels just established.

The "hard down" scenario to me seems in flat contradiction to their current very low positions within their new secular channels.

[Guest]

Re: The hog is in the tunnel

Clarification - The blue line traced in the above charts is a composite of the average purchasing power of each of the metals versus a basket of primary goods. The black line is the nominal price vs. paper currencies.

Therefore although gold's price may appear high relative to the channel bands in non-inflation adjusted terms, it's purchasing power is very low relative to the inflation all other goods have seen.

Were it to drop in nominal price from here by even fifty dollars, the relative purchasing power blue line average would fall right out of the secular channel and negate the secular trend entirely.

In the case of silver, the purchasing power AND the nominal price are right hard down on the minimums below which it would fall out of it's secular trend. It has one or two dollars per ounce margin below which it would negate it's secular trend.

Purchasing power parity suggests both metals are severely lagging real inflation. I for one find it highly implausible they have any downside at all.

[metalman]

Re: The hog is in the tunnel

great rant by PAUL B. FARRELL today...

Meltdown 'inside' Wall Street's brain
Seven rules for bull-and-bear predators in a 'brutal, manipulative world'

ARROYO GRANDE, Calif. (MarketWatch) -- Soft landing? Worst is over? Recovery? Buy on dips? Strong economy? Hey, what happened to all the self-serving happy-talk of a month ago? When will we ever learn that the relentless daily onslaught of "news" spun by Wall Street is 99% brainwashing hyperbole and 1% reality, all scripted to manipulate the great American herd of 95 million investors.

http://www.marketwatch.com/news/stor...&dist=hplatest

[Andreuccio]

Re: The hog is in the tunnel

Ka is absolutely positive for the dollar and bad for gold. All assets down.

In "No Deflation! Disinflation then Lots of Inflation" Eric gives three reasons for not selling gold during Ka: the difficulty in trying to time the market, the possibility of a "random exogenous event" which would send gold up out of reach, (which to me seems like just a corolary of the timing issue), and transaction costs, which he puts at 32% (28% taxes + 2% each way on the trade).

But what if you're transaction costs are 0?

Most of my "gold" is in the form of Fidelity's Select Gold Mutual Fund (FSAGX) in my 403b account. There's no premium for trading, and no taxes. Another chunk is in Streettracks Gold in my Roth IRA, where I'd pay the 4% to get in and out but not the 28% taxes.

Clearly the timing issues still exist, but trying to trade Ka is suddenly a lot more tempting.

I'm also curious how likely it is that Ka will last long enough to even be traded. In the same article, Eric says "The disinflationary phase will last as long as it takes Ben to get and keep short rates a point or two below a falling rate of inflation. Before Ben can pull the "print" lever and head for the ground to pick up air speed, the bond market needs to be worried about deflation. Ben will hold off rate cuts and liquidity injections as long as is necessary to avoid causing a sell-off in the bond market. Can't look too eager, but can't be too slow on the "pull" either."

The CB's seemed to be pretty quick in this last round. They dropped over 1/3 of a trillion dollars into the market within a few days. Just how big is that in relative terms? How much money will Ben and the other CB's have to print to actually set off Poom?

[Andreuccio]

Re: The hog is in the tunnel

The CB's seemed to be pretty quick in this last round. They dropped over 1/3 of a trillion dollars into the market within a few days. Just how big is that in relative terms? How much money will Ben and the other CB's have to print to actually set off Poom?

I see at least part of the answer to my question here:

http://www.itulip.com/forums/showthr...3410#post13410

Clue1 and Bart point out that these are only short term loans and thus are not inflationary.

[jk]

Re: The hog is in the tunnel

note the reference in ej's report on the goldman call to meyers saying the fed might cheapen borrowings at the discount window to forestall having to drop the target for fed funds. i think bernanke well knows that he's on a tightrope, and will wait til there is significantly more pain in the markets before dropping rates. thus gold could have a significant "correction," as it did in the early 70's when it lost 50% of its value prior to taking off big-time.

if he drops rates too soon the dollar will sell off and long rates rise. if he waits then the flight to safety/deleveraging effects will bolster the dollar and drop short treasury rates and possibly long tbond rates thereby. this will give him a margin of comfort when [he thinks "if"] he has to cut policy rates.

i'm stuggling, as are others here, about whether to trim my current pm positions or just ride it out.

[BiscayneSunrise]

Re: The hog is in the tunnel

Ka is absolutely positive for the dollar and bad for gold. All assets down.

Ka is positive for the dollar, bad for assets? Short foreign currencies??


WHOAH!! Wait a minute.

I thought Eric has said that Ka happens too quickly to trade? If that is the case, now is the time to be loading up on all the Poom long trades, right?

By the way, shouldn't it be BOOM, not poom?

Greg

[FRED]

Re: The hog is in the tunnel

Ka is positive for the dollar, bad for assets? Short foreign currencies??


WHOAH!! Wait a minute.

I thought Eric has said that Ka happens too quickly to trade? If that is the case, now is the time to be loading up on all the Poom long trades, right?

By the way, shouldn't it be BOOM, not poom?

Greg

For the first time since the correction began, every Asian and European stock market, except for the Swiss Market, is in the red going into morning trading in NY. Gold corrected by about a similar amount as stocks. This seems to be the pattern that we have seen during corrections over the past year or so, and may confirm the outlook that just as all assets rose in a correlated way during the boom, they will all correct together for a period as well.

The reason why we are holding PMs versus selling going into this Ka-Poom cycle is that the inflation environment is much less benign to currency depreciation based reflation efforts this time around versus the post 2000 correction/disinflation period. The dollar and interest rates are also starting off from a much lower base.

Jack Crooks has some thoughts today on where he thinks the dollar is likely to go short term, in spite of structural issues. These are similar to those we made back in April in Too Many Dollar Bears?

[BiscayneSunrise]

Re: The hog is in the tunnel

Fred,

Thanks for the quick response.

Since I am new to the site, I am unfamiliar with some of the jargon and acronyms used here. Could you remind me the meaning of the acronym PM, as in you are now holding PM's?