Bearish News

Occasionally I write about what I’m buying on this site, so thought it would be worthwhile to review my picks and the reasoning behind them.

Note: Performance %’s are from date of post to 03/05/2010. In many cases, I stopped out earlier on losers or sold winners. I provide additional color when possible.

The Bad

Long Gamestop (GME) @ $24.50: Down 26%. A devious value trap, which still looks cheap to me at 7x trailing P/E. But it gets no respect on Wall St. Everyone’s too busy speculating on BAC and the TBTF mafia, over-leveraged REITs, etc. I am still long GME, but it’ll probably be even cheaper soon.

Short Simon Properties (SPG) @ $51: Down 54%. I’ve traded around this position a few times, with total losses of around 25% on it. I didn’t cover my initial $51 short in the $20’s when I had the chance. Got greedy, figuring they were headed to zero just like GGP. Then the Fed/Gov stepped in with more liquidity than God, and raising capital became much easier, especially for a well-connected REIT like SPG.

Expensive lesson learned, covered that $51 short in the high 40’s. I’ve re-shorted since and been stopped out for losses a few times (and am still stubbornly watching for signs that the inevitable and long-awaited CRE shoe is finally dropping).

Long GRZZX (May 2009): Down 49%. I sold this short-only mutual fund for a 20% loss, as the bull market picked up steam and bailout bonanza really got under way. Theory was that it would be nice to have a diversified basket of shorts for the inevitable double dip.

At that point the market had already bounced 28% from lows. The world was ending, and this little bounce was dead-cat in nature. Boy was I early. Not to mention generally naive about the effects of government-mandated recklessness. A few days after I bought GRZZX in May, I wrote The Deck is Stacked Against Shorts. A month earlier I warned bears that More Bailouts and Inflation Loom. Shoulda been bargain hunting or speculating on garbage stocks.

The Good

Long AAPL @ $81 (Jan 2009): Trades at $218.95: Up 168%: Apple was a lesson in how to trade the next panic. When that crazy growth-monster momo stock you lust after (but don’t want to pay a premium for) crashes, BUY IT. Other examples: VMW, GOOG.

I bought more AAPL at prices ranging from $81-$93, and ended up with quite a large position (for me). If I remember correctly,  Apple was trading at around a 16x P/E with screaming earnings growth and $30/share in cash. There really were some bargains there for a while… Still holding around 1/3, house money. Sold the rest from $160-$194. The stock is a beast, no telling where it’ll stop. But I am skeptical of the iPad’s prospects.

Long Palladium bullion @ $250/ounce: (June ‘09) Now trading at $470/ounce – Up 88% (June 2009). I think my thesis was solid, and appears to be playing out. Back then I said, “It may prove to be a good hedge against an inflation-fueled recovery. As the world continues to print money in an attempt to stimulate industry/consumers, demand and inflation could increase dramatically. This may in turn cause commodities like palladium to rise significantly, as governments artificially goose the markets.”

Long PGJ @ $13: (Jan ‘09) Trades at $24.21 – Up 82%. My favorite China ETF. It has minimal financial sector exposure (unlike FXI, where the index is 40%+ finance stocks). Still holding most of this.

Long TRAMX @ $5.66: (May ‘09) Now trades at $6.99 – Up 23%. Africa and Middle East mutual fund. If traditional emerging markets aren’t risky enough for you, you can buy this fund and get exposure to these politically volatile but fast-growing markets. Still holding.

Long EKWAX @ $45: (Jan 2009) Now trades at $73.29 – Up 58%: I love this gold fund. These guys know how to pick winners in the mining space. It’s up 602% over the last 10 years. I agree with George Soros here. Gold may eventually be a bubble, but it’s one that I want in on. And it has not come close to peaking yet, with countries around the world engaged in a currency race to the bottom. Still own it.

Morals of the Story, Lessons Learned

Overall I’m happy with the picks I’ve posted here. They either crushed it or bombed, not much in the middle.

I didn’t have enough long equity exposure in ‘09, but the ones I did have made up for it. I also own gold and silver, which have done well.

One of the biggest lessons for me was the difficulty of shorting in an environment like this. The Fed has been pumping liquidity into the system like mad, and outcomes depend more on the actions of a few questionably-motivated creatures (who have abysmal track records) than actual fundamentals. Nothing to be done about that though, from an investing perspective anyway.

In hindsight, it was clearly better to bargain-hunt and speculate than short in ‘09. My best gains of the year were pure speculation or value plays. I didn’t publish two of the big ones here, but I did post them on my old Motley Fool CAPS blog. One was CROX at $1.20 (trades at $7.49 today, 524% gain).  The other was Men’s Wearhouse @ $11.20 (trades at $25.17 today).

Reading hedge fund veterans like Bill Fleckenstein was quite helpful. I’ve been subscribing to his service for a while, and he closed his short-only fund near the market bottom, after a hugely profitable year. His short positions have been burnt by Fed Chairmen past, so he knew what effect all that Fed liquidity would have. He told readers he’d rather be in precious metals and cheap stocks than short.

I learned a lot about government intervention in general, and its impact on markets. Next time it looks like the world is ending, everyone should buy horrible pig stocks that will  benefit from the Feds’ clumsy/corrupt attempts to “stabilize the markets”, AKA bail out politically-connected mega-firms.

Telling chart by Jesse, showing the returns of various asset classes, 01/01/2000 – 12/31/2009. Note – If you factored in the 25% price inflation since 2000, it’d be even uglier (official CPI inflation # via BLS’ CPI tool).

How bout that Nasdaq 100? Kinda shocking from this vantage point. Down 49% in 10 years (excluding dividends, which wouldn’t improve the situation much for these low-yielders. Especially if you take inflation into account). Ugly all around, minus hard assets.

It’d be interesting to see an energy/oil stocks index included in the mix. I’ll put it on the to-do list.

In another 10 years, I suspect we’ll all be looking back on this period with 2020 hindsight. Har har… ha. Saw that on Reddit today, couldn’t resist.

When given the rare opportunity to debate Fed officials, Schiff didn’t pull his punches. He’s gets into it with fellow panelists James Bullard (St. Louis Fed president), and Alan Blinder (former Fed Vice Chair). At one point he says “Bernanke hasn’t gotten anything right”. The Fed guys’ response is predictably weak.

Unfortunately the conversation gets cut off just as it seems to be heating up. Aaron Task gives a good interview, but I haven’t been able to find the rest of the video. Anyone?

Most people will tell you gold’s inflation-adjusted all-time high is around $2300. $7150 is more accurate, according to John Williams, economist and editor of Shadowstats.com. He made that claim in an interview with Bloomberg:

If the methodologies of measuring inflation in 1980 had been kept intact, gold would have to hit $7,150 to be the equivalent of the 1980 record.

He said the government has understated the cost of living over the past two decades with adjustments in the way it measures the basket of goods and services monitored by the U.S. consumer price index, or CPI.

John Nadler, a senior trader for metals-dealer Kitco is skeptical about the gold run. He thinks that once the Fed starts tightening, the trend will reverse:

These wild calls for several-thousand-dollar gold are typical of times when gold goes into uncharted territory

The Fed will pull the interest-rate trigger and the Obama administration will, in addition, pull the tax-hike trigger before we get into any serious inflation. Once the man on the street gets in, the gold rally is likely over

Maybe the Fed actually will tighten when the time comes. But I’ll believe it only when I see it. I think more easing will happen before any tightening does. Fed liquidity is the only thing holding this market up. It largely depends on how long our creditors are willing to buy our bonds. If the Fed could get away with 10% inflation for a while, I think they do it in a heartbeat.

Gold may have a lot further to run. Via Big Picture.

Do fundamentals matter?

David Tice doesn’t see this rally lasting more than six months. Part of me wants to agree with the legendary bear, who founded the Prudent Bear Fund (BEARX). He thinks equities are overvalued, and I couldn’t agree more. Bloomberg:

‘The economy is in really, really bad shape’ Tice said today in an interview with Bloomberg Television. The Federated Prudent Bear Fund that he founded returned 27 percent last year as the S&P 500 plunged 38 percent, the most since 1937. ‘So many people are trying to be optimistic. We’ve gone from oversold to overbought.’

But this irrational rally has legs, and could continue for a year, maybe even a few. Our current leadership seems determined to goose equity markets and sacrifice the dollar. Until the Fed starts contracting the monetary supply (if they ever do), I’m avoiding large short positions. Events over the last six months have caused me to rethink many aspects of US equities. In April I wrote:

Companies with horrific balance sheets are a dime-a-dozen these days. Fundamentals of the economy are bad and getting worse. Seems like a short-seller’s’ paradise, right? Not necessarily. Inflation and bailouts may be the factors that ultimately decide the battle between Bull and Bear.

Being in foreign assets, precious metals, and select equities may prove safer than shorts. The free-market side of me detests this, because US equities are incredibly overpriced. Being short makes a lot of sense, but as Keynes said “the market can stay irrational longer than you can stay solvent“. How ironic that current irrationality is due in part to his disciples.

It’s important to focus on what is likely to happen, taking into account political and economic realities, not what should happen. There’s too much manipulation, Fed-pumping, quant funds, and distortion to make bets based on logic and fundamentals. Not to mention suspicious short-squeezes.

Am I hedging my statements here? In a way. The direction of this market depends on the actions very small group of people. Gotta stay flexible, since we don’t exactly what they will do. What I’ll be watching most is interest rates. If the Fed tightens, that would be a very negative catalyst for US equities.

S&P 500’s Real P/E Ratio: 129

As I have noted multiple times, US equity valuations are ridiculously high. The real P/E of the S&P 500 is currently 129x. Don’t believe me? Check S&P’s site for yourself. Why is this different from P/E numbers you see, like the 20x number used in the Bloomberg piece on Tice? Two reasons:

1. Changes to accounting rules, allowing banks to sweep losses under the rug (FASB-157-4 in particular).
2. Increased use of “operating earnings” to hide losses. This is a relatively new phenomenon. See chart below and this post for a detailed rundown. The MSM and analysts use these “operating earnings” in their bull-cases, despite the fact that they don’t conform to Generally Accepted Accounting Principles (GAAP).

I don’t like this contrived rally any more than Mr. Tice. But I’m not nearly as confident in a major correction as he is. It’s certainly possible. If The Fed starts tightening, for example, it’ll be time to reevaluate. But the existing power structure will do everything possible to keep the party going.

Note: Prudent Bear is arguably the best long-short mutual fund out there. They maintain long positions in cheap stocks and gold miners to hedge against inflation, smoothing returns. Since January of 2000 (as far back as Google Finance goes) the fund has returned 49% compared to the S&P 500’s -25%.

Related:
Flaws in the Deflation Case (June 22nd 2009)
David Tice Interview with Bloomberg TV (Sept 22nd 2009)

Updated 9/23/09 for clarification

Disclosure: No position in any companies or funds mentioned. Nothing posted here should be considered investment advice. Always consult a professional when making investment decisions.