Holes In My Edge

Another interesting market day. Don’t really have a comment because I don’t understand the price action. According to the S&P and the FTSE 100 the Brexit apparently never happened. It’s almost like their memories were erased…

I bought some more shorts after Brexit, and those have definitely not performed to my liking. It’s no secret that I’m bearish on the global economy. Just as it’s no secret that I’m scared of a huge black swan event.

My biggest fear is a mass liquidation and indiscriminate selling where all assets become directly correlated. I believe that it will happen, but I have no idea when. I’ve found it incredibly difficult to detach myself from this fear and as a result, until (if) my fears are confirmed I will be handicapped by said fears.

I understand that the US is the cleanest dirty shirt, and its banks are the safest in the world on top of having the most liquid asset markets on the planet. But that still doesn’t give me the confidence to go in and buy a Brexit dip when I see Deutsche Bank hovering near all time lows.

I understand the Chinese leadership doesn’t want to be blamed for the next global recession but when I see the Yuan making new lows against the dollar while the Yen simultaneously hits new multi-year highs I get very scared.

There have been multiple times this year, when my fear has prevented me from heeding my own advice and although one of those times I was battling the lovely cocktail made with one shot mononucleosis and two shots of lyme disease it still happened.

Recently, I read a very enlightening quote from Jesse Felder:

“I’ve found that… allowing macro concerns to prevent me from taking advantage of micro opportunities is a mistake.”

I learned that the hard way (oil in February 2016) and yet it took Jesse’s own words to solidify that for me. I still have my fears, but I’ve become a little more aggressive in seizing opportunities.

In order to combat those fears, whether rightly or wrongly I have only invested in companies whose long term prospects dramatically outweigh any short term declines. So much so that if any of these companies were to lose up to 50% of their value, I would have the confidence to step in and double down.

If you were wondering whether my investment personality is hedgehog or fox, the previous sentence should leave very little doubt. This frame of mind certainly limits the number of companies I can buy, but for a one man army, that’s not necessarily a bad thing.

To be fair, the majority of my funds are positioned based on global macro trends, and maybe I could sit back and call it a day, but when you are my size and have the confidence to find the right companies at a great price then you have to take a shot.

 

Brexit Shrugged: #BankHealthMatters

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Well this is interesting… and strange. Very strange. Did I expect a rally? Yes. Did I expect it to be this quick and this strong? No.

Global equity markets have virtually shrugged off any worry associated with the Brexit. By looking at the S&P and the FTSE100, you’d assume nothing happened at all.

But it looks like this rally forgot to bring something with it.

It’s not just Barclays. All other EU banks including the infamous DB (pictured below) is still hovering near the lows.

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USDJPY also hasn’t recovered from its Brexit tumble.

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Meanwhile in the land of the insane, the Irish 10 year yield hit a record low. Just 5 fookin’ years ago these guys were on the verge of selling their children into slavery to pay off their debts but now somehow they can borrow at 0.603%.

 

And it’s not just Ireland. Around the globe sovereign bond yields continue to rally. Just this morning the US 30 yr was just 3 bps away from a new record low. Something is going on. I don’t know what, but this bright brown cocktail of risk off and risk on signals tastes funny.

Yesterday I expected that if there was a rally that EU banks would be some of the best performers. The fact that the opposite is true leads me to believe this rally is a bunch of bollocks. #BankHealthMatters folks! And compressed yield curves only intensify the pressure these banks are feeling. This is a rally to sell.

 

Brexit Part Deux: The Cat’s Out Of The Bag

I’ll be surprised if there isn’t a post Brexit rally. That is once the market calms down, and realizes that this is a non-binding agreement which no one in England has the conviction to carry out. But that doesn’t change the fact that the cat is out of the bag.

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The market’s weakest links have been exposed. European bank shares have sold off. Sovereign bond yields have hit new lows. The entire Swiss curve is negative and Japan is not far behind. The Yen hit a new multi year high. I keep coming back to the Yen, because this shooting star is doing the exact opposite of what the BOJ intends.

Now Grant forgot to mention sovereign bonds, but he’s 100% correct. The assets most heavily influenced by central banks are going haywire, and if that doesn’t terrify you, I don’t know what will.

I don’t think this is the end, but my positioning is already quite defensive. I’m not quite at the nuclear fallout underground bunker stage that my fellow O’Dea (although he spells it differently), Crispin, is, but if things implode I should do quite well.

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As I said in my previous article, I believe the Brexit is a single catalyst in a chain that is growing at an accelerated rate. This certainly won’t be the last event that pushes the globe into a recession or even a crisis but it is a loud and noticeable one that is finally forcing the market to face the fact that its been running on air for the past few years.

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Until that next catalyst arrives, things may stabilize and I could take a hit on a lot of my positions. Especially considering that US GDP for Q2 is still tracking above 2.5%, and a good jobs number with higher revisions from previous months could lead to a lot of flows into US equities which I am heavily short.

I’ve learned it’s important to psychologically prepare for such events so that I do not panic and stick to my convictions which have done quite well so far. If there is a big rally I will be ready to add to my current positions. Another idea, which I won’t do, but will closely follow is buying English banks which have had their worst 2 days in history. If there is a relief rally, these stocks could outperform.

 

 

Brexit: Accelerating The Trends

Despite the Brexit referendum being a non-binding agreement that won with 52% of the vote, the entire world is on the verge of hysteria. If you believe everything you see in the media you truly would believe the world is ending which brings me to this point:

And yet we see as a direct result of this vote what the weakest links in the global economy are – European banks and Japan. Spanish and Italian banks sold off by more than 20%. USDJPY went from 106 – 100 in a matter of hours which chopped off another 6% from the  Nikkei. Now these trends were obvious before the Brexit vote even took place.

From my article written just 4 days before the vote:

“Similar to the predictable no freeze deal at the OPEC meeting in Doha, BREMAIN is the most likely outcome, but the oil market still rallied because it was already headed in that direction regardless of a meaningless gesture. Although a BREXIT would certainly be a disaster for EU banks, I would argue that a BREMAIN would offer no real support to EU banks.”

So now that the unthinkable has happened, what happens next? From a political standpoint I haven’t a clue, and neither does anyone else it seems. The Brexit camp made the potentially fatal mistake of not having a plan. It appears they didn’t even expect to win. Looking back at history, it was the Federalists who had a plan that was written out that allowed them to push forward and “defeat” the anti-federalists.

This political uncertainty is abhorrent to markets which hate vacuums and will look to fill the void any way it can which could potentially force the politicians’ hands. I look at Brexit as a catalyst that accelerates the trends that were already in place. In my previous now somewhat prescient post subtitled “Something Big Is Coming” I pointed out that a lot of scary indicators were flashing red:

“Global bond yields continue to make record lows at a seemingly record pace. Bitcoin rockets through the clouds hitting 2.5 year highs. European banks plumbing new post crisis lows. The Chinese Yuan hits new multi year lows reinforcing this massive deflationary push. Gold rises above 1300 again. USDJPY plunges into 103 territory. The Nikkei plunges 3% for the second time in a week. And now the Fed has balked at hiking rates (again) and the market is starting to lose confidence in the most powerful central bank.”

Now all those indicators have gone from red to “plaid”.

As I mentioned above the Yen ripped higher and European banks sold off. But perhaps what is most troubling is that gold and the dollar rose together, with gold breaking to a new 2 year high. Sovereign bond yields continue to plummet with the whole Japanese curve crashing with its rising currency, this sort of move scares the shit out of me but perhaps its even scarier to the BOJ who will most likely be forced into action before USDJPY touches 100. As of writing this article, US 10 yr now yields 1.488% a new multi year low.

On top of all this madness, China, who has never needed global stability more than it does now as it “transitions” its economy, has been steadily devaluing the Yuan. China’s Premier Li Keqiang has gone so far as to warn of a “butterfly effect” that would arise from the Brexit vote.

The post crisis global economy was already a fragile creature, giving it an unexpected Brexit shock will reverberate through it, weakening and destabilizing it even further so when the next shock comes, and I do believe there will be another, that it will be much bigger than a non binding vote for a nation to leave a poorly run supranational union.

 

Edge: Post From The Trail

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After a 4 day 55 km hike over snow covered mountains and through raging glacial melt rivers, I arrive exhausted, beat up, smelling worse than a New York City back alley radioactive sewer rat when I stumble across a German couple animatedly shouting and amidst my weary ears a thick German accented word that sounds an awful like “Brexit”.

I stopped in my tracks, and asked “did you say Brexit?” What followed was an American jumping for joy in front of two Germans who had not realized that their European Union was past its peak.

Anecdotes aside, I had a lot of free time after my daily hike and decided to write my next blog post on the trail. What follows is a brief overview of my investment edge that allows me to compete with the big boys.

What is my Edge? What do I do better than anyone? What do I do that no one else does or is willing to do? After all, I’m just one man against an army of hedge funds, family offices, endowments and central banks, filled with algorithms, models, high frequency trading machines and people with more experience and intelligence than I possess.

I must be crazier than the central banks I constantly ridicule to believe that I have an edge. Maybe I am crazy, or maybe just maybe I can take advantage of opportunities that they can’t.

I’m one man, managing a small fund which makes me agile and quick. I can change my opinion and perhaps more importantly my positions faster than anyone else can. But my real edge lies in something less obvious.

Everyone knows central banks have flooded the world with liquidity that has  pumped into virtually every asset class known to man. But that’s not entirely true. The flood gates have been open for years, but the liquidity hasn’t gone everywhere. There are nooks, crannies and other hard to reach places that have been ignored.

This isn’t surprising. After all, the biggest beneficiaries of QE are the big guys. It’s hard to convince a firm with billions of dollars to put a few hundred thousand dollars which equate to less than 0.1% of their fund into a micro-cap graphite or lithium mining company. This means these companies are untouched by the Midas touch of central banking liquidity and leads me to believe there’s still opportunities for deep value in micro-cap illiquid stocks (IF you can find it).

Just like Peyton Manning, I’m playing where my opponents can’t touch me because they aren’t even on the same field as me. If I played their game on their terms on their field I would lose, 100% guaranteed. I’d rather make money on the side field than lose it on the big stage.

Most importantly, the fact that no one plays on my field means the assets on it are neglected, ignored and above all incredibly cheap. This allows me to find a uranium company one week from publishing a massive find that has been ignored by the market. Or how the entire uranium mining space can be down 90% from its highs yet have some of the best fundamentals on earth with a total market cap of less than $6B. Better yet, I can find a graphite company with assets that make it incredibly well positioned for the coming battery boom.

So don’t tell me there’s no value out there. Because there is. It’s just not where everyone is looking and arguably has never been harder to find. But then again, if there’s no value going long something, there’s probably value taking the opposite side. Hence I hedge and have been net short equities through puts and shorts on the largest and most liquid stock indexes and companies that have seen the largest benefits of misguided central banking policies.

If I’m wrong about the state of the global economy and we enter a new technological renaissance then my micro-cap stocks (if I did my research right) should more than make up for my short and defensive positions. If I’m right, and the global economy is headed for big trouble (will talk about Brexit in next post) then my puts/shorts and US treasury bonds should do quite well and hopefully allow me to double down on some of these companies, which I think will do really well long term. And if I’m really wrong about everything, then that’s why  god invented gold, so idiots like me can be right some of the time.

In the end, I feel like I’ve created the all weather portfolio that fits my style, portfolio size, and experience level. I can’t tell you whether Facebook will outperform Apple in Q3 of 2016 and I don’t really care. That’s not my game. Let the hedge funds run momentum fading circles around each other while I pick up extremely under priced stuff they’d never dream of touching.

Brexit And The Fear Trade

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The term BREXIT is sort of an oxymoronic term for Britain’s (remain leaning) referendum to leave the EU. With polling favoring a slight lead for BREMAIN and the belief that people on the fence are less likely to vote for such a sharp change in their daily lives the odds of a BREXIT are not so high. Of course there are a lot of other factors BUT the market “remains” (see what I did there?) incredibly nervous over the vote. Perhaps the status quo fear mongering is actually working, just not on the right people.

Similar to the predictable no freeze deal at the OPEC meeting in Doha, BREMAIN is the most likely outcome, but the oil market still rallied because it was already headed in that direction regardless of a meaningless gesture. Although a BREXIT would certainly be a disaster for EU banks, I would argue that a BREMAIN would offer no real support to EU banks.

The banks are dying a slow but accelerating death at the hands of NIRP and over regulation not because half of British citizens don’t want to cede their sovereignty to a superstate. However, the risk off BREXIT trades are hurting their equity at a time when they can least afford it. Even if BREXIT turns into a BREMAIN will the banks be any better off?

Now I don’t like to day trade but I do like to manage risk although it is certainly not my strong suit. I believe long duration US bonds and gold have had an amazing run these past few weeks on fears of a BREXIT and it seems quite justifiable in selling some of each here.

To be honest, I won’t sell more than 13% of each position. I don’t have the conviction in my abilities yet (especially in these increasingly volatile times) to buy back at the right price and would rather hold on and hedge with other risk on trades such as beaten down natural gas companies. I still believe this natural gas rally has some legs to it and perhaps this is a great time to add some more exposure.

 

July Meeting: The Fed’s Last Stand

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At the waterfall of the gods, I pray to the central banking gods to answer my prayers. Please Yellen, raise interest rates.

 

This post is about what I think the Fed should do not what I think they will do. After flinching in June, it’s obvious that the people of the FOMC are incredibly risk averse, and a July rate hike would be a bold move that seems beyond their character. With that said, I believe that a July hike is their best option therefore I cannot rule it out.

Right now the Fed’s credibility is under fire. After bringing out presidents and governors to talk up the odds of a June rate hike, the Fed unsurprisingly flinched. Blaming BREXIT is a cover and a terribly poor excuse that only a fool would find appropriate. The truth is the Fed is trapped and they know it.

The NFP data did not support a hike. The slowing economy did not support a hike. The weakening and increasingly unstable Chinese economy certainly did not support a hike. The soon to be European banking crisis did not support a hike. But the Fed’s waning credibility and, this is key, DID.

More and more important people are finally starting to question the Fed’s credibility.  The Fed set themselves up for this seemingly grand gesture and then got cold feet at the last second. Normally a 25 bp hike would be a very small gesture but the Fed’s repeated mistakes have amplified this move 100 fold.

Every time they come to the table only to back off at the last second, the Fed sends a message to the market, 25bps is a big deal. As a direct result, when the  Fed decides to delay a rate hike the dollar falls 2% causing all sorts of havoc in the markets.

I think the trend of waning central bank credibility is growing and if the Fed doesn’t act soon, it will be too late. The market knows that the Fed won’t hike right before the election which makes July the last available date to do so this year. I have serious doubts that they could hike in December. The economic data both US and globally will not be supportive (to say the least) and the Fed’s credibility will be so low that the market will have not priced in a December hike.

Given all this, I believe the Fed has to hike in July. Their credibility is at risk and their credibility is all that they have left. Obviously the repercussions for a July rate hike will be quite harsh. At the very least the Fed will maintain its credibility for a little longer with an extra round in the chamber to fight the next recession rather than being left with just a single shot.