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Things could get interesting soon?


Zorrofan
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Credit continues to contract so is the economy getting better or is this a pause before the next leg down? It seems to me that Koo called it correctly - we are in a balance sheet recession until consumers deleverage, a process no where complete.  As long as FFH has strong liquidity there should be some interesting opportunities ahead for Prem et al! 

 

http://www.telegraph.co.uk/finance/economics/7259323/US-bank-lending-falls-at-fastest-rate-in-history.html

 

cheers

Zorro

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that would be a lot more interesting if it's source for the estimates was not Shadowstats, which is basically a big conspiracy proponent of "the coming crash."  The more reliable measures from the Fed for M2 to january 2010 say:

 

seasonally adjusted annual rates for M2

 

3 months :  -.9%

6 months :  +.6%

12 months : +1.9

 

Source:

http://www.federalreserve.gov/releases/h6/Current/

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hmm I wouldn't base an investment plan off this thesis that "credit continues to contract"....but that's just me.

 

I think it's risky, too, partly because announced government policy changes can change market prices dramatically against you if they run counter to your opinion and will exacerbate the problem you perceive (because they don't see it like you do). However, if you wait until they make such grave errors, you might get a good entry point. And if deflation of the money supply does continue (raising the value of every dollar), low interest cash isn't bad to sit with in the mean time, even if consumer prices don't go down in unison with the money supply (because the companies need to keep the profits coming to pay down debt).

 

However assuming an environment of reduction of the money supply, for an Intrinsic Value investor, companies with powerful brands, low costs and little or no debt compared to their competitors will obtain advantages if competitors must prioritize fixing their balance sheets by ploughing profits into debt pay-down rather than compete for brand-awareness and sales. Massively powerful intangible economic assets like brands will retain or grow their value in real terms (whether or not they're on the balance sheet) regardless of inflation or deflation of money supply.

 

So the question really comes down to:

As an investor who believes this thesis, should I carry on patiently waiting to buy high quality dollars for 50 cents with low risk of loss, or can I gain more without much more risk of loss from what I see is inevitable credit contraction using some other means.

 

Is there just as much to be ganed from patient value investing, merger arbitrage etc as from some leveraged bet that might carry a much bigger downside? Just because you can feel clever by playing your macro idea and making 50% in two years, you might still be worse off than had you done the boring thing of buying value stocks at 50 cents on the dollar and selling at 80c, for example, to gain 60%, and if you required leverage, you might have exposed yourself to greater risk too. Like Warren and Charlie say, you don't get added return for "degree of difficulty".

 

Someone like Prem Watsa might be able to identify the likely area of disruption (housing last time) and some idea of over what period the bubble must burst, whose ratings it would affect most, and that the gains when it happens provide a good compound return over the period, and the claims would be paid by the counterparties or that the CDS could be sold to someone else and that there's no risk of being forced to liquidate your position against your will (like a margin call). I'm not sure I could find those opportunities.

 

Cheers.

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hmm I wouldn't base an investment plan off this thesis that "credit continues to contract"....but that's just me.

 

I think it's risky, too, partly because announced government policy changes can change market prices dramatically against you if they run counter to your opinion and will exacerbate the problem you perceive (because they don't see it like you do). However, if you wait until they make such grave errors, you might get a good entry point. And if deflation of the money supply does continue (raising the value of every dollar), low interest cash isn't bad to sit with in the mean time, even if consumer prices don't go down in unison with the money supply (because the companies need to keep the profits coming to pay down debt).

 

However assuming an environment of reduction of the money supply, for an Intrinsic Value investor, companies with powerful brands, low costs and little or no debt compared to their competitors will obtain advantages if competitors must prioritize fixing their balance sheets by ploughing profits into debt pay-down rather than compete for brand-awareness and sales. Massively powerful intangible economic assets like brands will retain or grow their value in real terms (whether or not they're on the balance sheet) regardless of inflation or deflation of money supply.

 

So the question really comes down to:

As an investor who believes this thesis, should I carry on patiently waiting to buy high quality dollars for 50 cents with low risk of loss, or can I gain more without much more risk of loss from what I see is inevitable credit contraction using some other means.

 

Is there just as much to be ganed from patient value investing, merger arbitrage etc as from some leveraged bet that might carry a much bigger downside? Just because you can feel clever by playing your macro idea and making 50% in two years, you might still be worse off than had you done the boring thing of buying value stocks at 50 cents on the dollar and selling at 80c, for example, to gain 60%, and if you required leverage, you might have exposed yourself to greater risk too. Like Warren and Charlie say, you don't get added return for "degree of difficulty".

 

Someone like Prem Watsa might be able to identify the likely area of disruption (housing last time) and some idea of over what period the bubble must burst, whose ratings it would affect most, and that the gains when it happens provide a good compound return over the period, and the claims would be paid by the counterparties or that the CDS could be sold to someone else and that there's no risk of being forced to liquidate your position against your will (like a margin call). I'm not sure I could find those opportunities.

 

Cheers.

 

 

I wouldn't base an investment plan off this type of thesis either.  However, it is one more indicator that suggests there may be some downward pressure on markets in general over the next couple years.  That's the exact same reason why I look at other broad macro indicators such as PE10.  You need to get an idea of whether there is a distinct possibility of the market clocking you with a left hook that you should have seen coming.

 

The approach I take for security selection is roughly the same in high markets and low.  That is, look for inexpensive securities that appear to offer a favourable risk adjusted return.  The only real difference in selecting securities in a high vs low market is that it's a great deal more difficult to find screaming bargains today than it was in February 2009 (there was actually one day last year when I bought preferreds from a subsidiary of the Bank of Montreal that had a dividend yield north of 20%!!!!  It's the Bank of Montreal operating under Canadian regulation, not the Bank of Afghanistan operating in a war zone!).

 

The macro stuff ends up unconsciously driving my portfolio allocation to a certain extent.  This occurs because I have difficulty finding obvious bargains in high markets which effectively forces my cash holdings up and I also tend to be a little more cautious about keeping some dry powder when it looks like market reversion is a possibility.  Last spring it was so easy to find bargains that I even margined lightly.... and in retrospect, with S&P~600-700, I should have margined much more heavily in response to the macro environment.

 

SJ

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Here is a link from the Wall Street journal (sorry but subscription is required).  My point in starting this thread was more of a comment that I feel the recovery is no where near as strong as some feel and that caution may be warrented......

 

http://online.wsj.com/article/SB10001424052748704188104575083332005461558.html?mod=WSJ_hps_LEFTWhatsNews

 

This link is not a paid site, but has an interesting chart on bank loans

 

http://www.businessinsider.com/chart-of-the-day-commercial-and-industrial-loans-at-all-commercial-banks-2010-2

 

cheers

Zorro

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