By Paul Lamont
April 6, 2012
Buffalo Jump Update
“Drive lines were made to direct the herds to the jump. The drive lines were rows of rock piles known as "dead men." These were arranged like a funnel; the rows were wide apart at the prairie end and gradually narrowed toward the jump end. Hunters lying behind the "dead men" rock piles would spring up and wave robes to frighten the animals and keep them inside the funnel.” – Royal Alberta Museum
“But it is appropriate to point out (a) that playing the trend is the standard formula of stock market trading by the general public and (b) that the general public loses money in the stock market.” - Benjamin Graham. The Intelligent Investor. 1949.
Expected Returns in Deleveraging
1. Stocks - Stocks lose 70%+ becoming undervalued just as they have in previous secular bear market cycles.
2. Bonds - High yield bonds perform like stocks. High grade bonds lose 30%+ due to downgrades. All are illiquid.
3. Real Estate - Case/Shiller home prices fall another 50%+ returning to their early 1990’s level.
4. Money Market Funds – MMFs lock out investors who receive at least a 5% loss on their ‘cash.’ New regulations eventually shut down this investment option.
We were looking down into the deflationary vortex the month before the Lehman bankruptcy and money market fund blow ups. While we were getting vertigo that May, we noted:
“How Long Do We Sit In Cash?
How do we know we are correctly positioned? Because most investors cannot stand being in cash. One advisor describes “clients have been ‘kicking and screaming’ about low yields.” They are eager to “pursue riskier investments in search of higher yields.”
As we have repeatedly shown in this Report, the pull of the investment herd is strongest at the turning point.
“Anything that can go wrong, will—at the worst possible moment.” - Finagle’s Law
Nowhere is this more obvious than the plight of Mrs. Watanabe, the proverbial Japanese home-maker trader. In 2007, “tens of thousands” were betting against their own currency, the Yen, and moving funds into risky bets overseas. Of course we wanted to position ourselves in the opposite way, stating, “We expect the Yen to appreciate for the long term, causing major pain for these novice investors.” Their risky bets overseas fell and the Yen was up 19% in 2008 alone. Double–whammy.
Now after being badly burned in 2008, Mrs. Watanabe is ‘playing it safe’ in Australian dollars and Australian bonds. Using words such as a ‘long track record,’ ‘ranked the most appealing currency,’ ‘popularity’ and ‘enduring affinity,’ the Financial Times describes Japanese retail investors’ move into these ‘quality assets.’
Of course, this type of rationale for buying is bonkers. Comfort, popularity and ranking are reasons that price is already too high. There is only one way to truly protect oneself in investment markets and that is to buy undervalued assets (i.e. pay less than what you are getting in return). No wonder most people think that they get ‘finagled’ when investing: most people’s interest increases as prices rise. All kinds of unexpected bad things happen when you buy high. What could possible happen in this case? Australia appears to be on the precipice of a bursting real estate bubble. The Aussie housing market is a bigger portion of their economy than compared with the United States and Australians are also more leveraged (150% household debt to income). And this is considered “playing it safe?”
We are unsure if the Yen will appreciate against the U.S. dollar because we expect the U.S. dollar to be so strong over the next few years. But when comparing the Yen to the Aussie dollar, we think that betting against Mrs. Watanabe will continue to be highly profitable.
Waterfall of Downgrades
The rising stock market has ignored the continuous disappointment from economic numbers. When everyone is focused on a rising stock price, details such as fundamentals get ignored. The ECRI continues to maintain its recession call despite the peer pressure. As we have stated since January, “Downgrades deliver the coup de grace.” We are also still “waiting for a European surprise.” Over the next sixty days, we will receive answers on 114 banks in 16 countries.
“We are all at a wonderful ball where the champagne sparkles in every glass and soft laughter falls upon the summer air. We know, by the rules, that at some moment the Black Horsemen will come shattering through the great terrace doors, wreaking vengeance and scattering the survivors. Those who leave early are saved, but the ball is so splendid no one wants to leave while there is still time, so that everyone keeps asking “What time is it? What time is it? But none of the clocks have any hands.” - Adam Smith. SuperMoney. 1972.
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Copyright ©2012 Lamont Trading Advisors, Inc. Paul J. Lamont is President of Lamont Trading Advisors, Inc., a registered investment advisor in the State of Alabama. Persons in states outside of Alabama should be aware that we are relying on de minimis contact rules within their respective home state. For more information about our firm visit www.LTAdvisors.net, or to receive a copy of our disclosure form ADV, please email us at firstname.lastname@example.org, or call (256) 850-4161.