20 September 2010 Stress what Stress
But alas I survived and was told I’ll pay taxes for many more years to come.
We are getting questions from readers and we really like that as it allows us to focus on what you are thinking about. We have a couple tonight to play with.
The first one is from someone who knows we are long in gold (about 6.8% of our portfolio, up 17.4% unrealized gain and 9.2% realized gain- thanks to a triggered stop because of the adjustment to the run up after the May flash crash.) and was asking about a strategy to short gold. They were directed to DZZ. Their thinking was that when gold adjusts it will be big and fast.
Here was our response to the reader:
"Interesting thought. There is a lot of fundamental support to at least $1,300. Not sure what you mean by “goes down fast”. Since 1986 there were two huge drops 05-06 and 07-08, but if you look at the month to month chart provided in the first link, the months with the worst drops only average a 3.2% drop. The annual 07-08 drop was about 22%. Your pick DZZ as you probably know, tries to get twice the inverse of the Deutsche Bank Liquid Commodity Index - Optimum Yield Diversified Excess ReturnTM (DBLCIX) is composed of futures contracts on fourteen of the most heavily traded and important physical commodities in the world. The Index commodity components were chosen based on the depth and liquidity of their markets and to provide diversified commodity performance. The base fund dblcix is only vested 8% in gold.
If you want a short play in gold, AND I DO NOT RECOMMEND IT UNTIL WE SEE WHAT KIND OF RESISTANCE THERE IS AT $1,300 AND WE KNOW DEFLATION AND INFLATION ARE NOT MARKET CONCERNS. Take a look at GLL. The investment will seek to replicate, net of expenses, twice the inverse daily performance of gold bullion as measured by the U.S. Dollar p.m. fixing price for delivery in London. The fund normally invests assets in financial instruments with economic characteristics inverse to the index. It may employ leveraged investment techniques in seeking its investment objective."
“Great question. There are several reasons. First off, until recently, the banks have to keep solvent or the FDIC can come in and close them down. In order to remain solvent, they must have more assets than debts. When the banks started to fail circa 2008, the Federal Government alah, Bush, Obama, Guitner, Greenspan and Bernanke all agreed we have to bail out the banks to the tune of 800 billion dollars. Banks received the money with the assumption they would start to shore up their balance sheets by determining their good loan to bad loan balances, refinance or selling the bad notes (Those would be the homes you –the reader- are referring to). At the same time in their infinite wisdom said to the banks you must pass a stress test in order to quality for future stimulus money and to stay in business. (So far since 2008 more than 300 banks have been closed because they could not meet the stress tests) Then they spent 15 months trying to get new banking regulations passed and they did in August, but no one in the banking industry knows how that legislation is going to look like as banking regulation.
So pretend you are the CEO of RBC, Reader Banking Corporation. You have 1 billion worth of home loans due to you on your books. You would estimate the true value of those homes is 750 million dollars. You had your hand out during the crisis and you qualified for 500 million in funding from the TARP programme. Your delinquency rate is about 20% (The national average). Your interest income on the 1 billion was about 5 million a month, but it is now 4 million because of non payment to you. You know you can pass the stress tests because you have NOT devalued your assets by the 250 million in market devaluation, you do not know if the government is going to stop giving money to your bank, you do not know if the government is going to stop helping people who are behind in their payments and you do not know what the new banking legislation is going to translate into rules and regulations for running your business.
Why would you start foreclosing and selling these homes at a loss? It would be poor management. There is no upside at this moment in time to “open the flood gates”. What you will see in the next few months will be a turn of the spigot. We are seeing it in Coto. The under 3 million homes are stabilizing in price and the banks are being a bit more flexible in cash deals. It will be a while before that confidence trickles down to the under 750,000 price mark."
OK I told you I would make up for no clever captioned pictures. Tonight we have two. One here and one towards the end.
From the "Ways To Lower the Deficit" White House Photo Gallery:
"I know, I really like this part of the pardon where I get off Scott free. I came up with that all by myself."
VC is back in Vogue