Archive for January, 2009

John Paulson 2008 Year End Report

January 31st, 2009 No comments

-Their largest fund, Paulson Advantage Plus, was up 37.6% net vs. SP500 -36.9%
-They aggressively added to Anheuser Busch position in October 2008 becoming the largest shareholder as the deal spread blew out on InBev’s $70 cash offer. When it closed, they made the largest profit on a spread deal in their history
-Their merger arb funds had a good year up 6.3% and 12.55% for their 2x enhanced product. They have a conservative strategy of hedging market exposure, focusing on corporate spreads, targeting competitive bid situations, and the occasional short opportunity
-Their main “event arbitrage” fund, Paulson Advantage Funds, had “another extraordinary year.” Their short event exposure was concentrated on financial firms that they believed were at the risk of failure
-They estimated what the losses would be looking at bank balance sheets and then compared it to “tangible common equity”. They did a ranking of high to low and shorted accordingly
-8 out of the top 10 on their list either failed or had to be recapitalized by governments
-The most over-valued were Fannie Mae and Freddie Mac. The companies’ assets were extraordinarily leveraged. Their analysis showed they were both insolvent if you excluded goodwill, marked their assets to market, eliminated deferred taxes, and properly reserves for non-performing loans. Freddie had negative common equity of $65 billion compared to reported regulatory capital of $37 billion. They felt a government bailout was inevitable
-Their analysis was accurate. Performance of their short portfolio was 90% on average in 2008
-Their long event portfolio was concentrated in areas that do better during recessions like healthcare, utilities, and consumer staples. Nevertheless they lost money in almost all their long positions
-Fortunately they had more shorts than longs and their shorts went down more

2009 Outlook
-For first half of 2009 they have:
1) Slight short exposure to equity markets
2) Remain short financials
3) Focus on long distressed opportunity: mortgages, bankrupt debt, distressed, and capital restructurings
4) Focus on strategic merger deals

-They remain short financials as they don’t believe we are through the financial crisis. Goldman Sachs estimates total U.S. credit losses to be $2.1 trillion this cycle compared to $1 trillion realized losses to date indicating we are only half way through the crisis
-As credit crisis spreads from subprime, all other credit categories will have higher losses threatening the solvency of more financial firms
-The problem with banks is they don’t have enough tangible common equity to absorb anticipated losses
-That being said, he believes the biggest driver of returns in 2009 and 2010 for their fund will be long distressed opportunities. They estimate the total distressed opportunity to approach $10 trillion in mortgages, corporates, financials, and sovereigns. They are targeting a 50% allocation in their Advantage Fund to distressed debt
-Mortgage securities have fallen to a level where they are now buying previously AAA-rated tranches
-As mortgage bonds are being downgraded many holders are selling simply because they don’t have the ability to analyze the underlying collateral, this creates mis-pricing opportunities
-Defaults are accelerating resulting in billions of dollars of defaulted bonds and levered loans. There is no leverage available from banks to buy, so prices fall huge on bankruptcy announcements. Levered buyers are now forced sellers. They can sift through and find good opportunities
-There are also event arb opportunities in debt. GMAC 2011 note appreciated 65% in value when it was announced they would receive TARP funding and become a bank holding company
-They still believe it’s too early to buy financial stocks. They are being very company specific and research intensive
-They took a 24.9% stake in the $1.6 billion recap of IndyMac

-AUM is $28.8 billion at the beginning of 2009, down 1% from 2008
-Madoff fraud highlighted several areas important for investor protection: custody of assets, administration, and auditor selection. Madoff was both the custodian and administrator for his fund and used a 3 person auditing firm
-Paulson uses JP Morgan and Goldman Sachs as prime brokers. All assets reside within them or for cash custodial accounts at Bank of New York Mellon. The administrator is IFS, a division of State Street Bank. Auditors are Deloitte & Touche and Rothstein Kass

-They remain bearish on the U.S. economy and believe the recession will extend to late 2009 and likely into 2010. U.S. stimulus package will likely cushion the decline, but it won’t halt the down-turn and likely have long-term consequences

Categories: Articles

George Soros 2008 Investment Year

January 31st, 2009 No comments

In an article in FT on January 28, 2009, George Soros outlined how his 2008 investment year went.

-Problems facing Obama is even greater than FDR. Total credit outstanding was 160% of GDP in 1929 going to 260% in 1932. We entered the crash in 2008 at 365%, which he thinks will go to 500%
-Although he was positioned reasonably well going in 2008, his thesis of decoupling between developed and developing markets cost him dearly
-Indian and Chinese stocks were hit even harder than U.S. and Europe. He lost more in India than he made the year before. His Chinese manager did relatively better through good stock selection, but he was also helped by the renminbi appreciation
-He had to push himself very hard to make up for the India and China losses from external managers in his macro-account. This had the draw-back that he over-traded as his positions were too large for the increasingly volatile markets
-He could not go against the market in a big way due to his size, so he had to try to catch minor moves
-It also made it difficult for him maintain his short positions. Although he has a lot of experience, he got caught several times and largely missed the crashes in October and November
-On the long side he stuck to his guns and lost an enormous amount of money. Example is Petrobras
-He was able to get out of CVRD, a Brazilian iron ore producer, in time for the end of commodity bubble, but he didn’t short the commodities directly because of his previous difficult experience trading them
-He was slow to recognize the reversal of the dollar and gave back a big chunk of his profits
-His new CIO did well in the UK where he bet against the sterling vs. euro and that short-term interest rates would decline. He also made money going long credit after the collapse
-Eventually he understood the dollar’s rise was a flight to quality during the financial system disruption, not a fundamental move. This insight enabled him to bet against the dollar at the end of 2008 and make money
-He ended the year almost making his 10% minimal return goal after spending most of the year in negative territory

Categories: News

Julian Robertson Interview on CNBC

January 31st, 2009 No comments

-“This is a horror show world-wide”
-U.S. now is like Japan in 1989, only worse. U.S. could see Japan-like collapse
-He is still “very bearish.” “We have not solved this problem”
-He hopes Congress will just pass the good/bad bank plan and then stop. The plan is crucial, however all these trillions of dollars of spending, bailouts, stimulus is bad long-term. Our children are going to have to pay for it
-He sold his Goldman Sachs. He is generally not interested in financials as a sector, but he is long Visa and Mastercard as they have no direct credit exposure
-His favorite trade (Erin called it Armageddon Trade) is purchasing a rate-cap. He is buying puts on long-term treasuries. The puts bet that rates will go up within 5 years
-Bill Gross says you can either buy his funds or TIPs to benefit from this trade. He thinks rates can go as high as 7%. Robertson thinks 7% is being conservative
-Erin says later that Julian said during the break that rates can go as high as 18% during Volcker’s reign at the Fed. “That’s what I’m talking about” he said

Categories: News

Dr. Ari Kiev on CNBC

January 28th, 2009 No comments

Dr. Kiev spent 16 years working at SAC to help their traders perform better.

Trade without Fear
-Record emotions in a diary. Be willing to share feelings with others
-Don’t be too macho. Keep impulsive urges in check
-Practice meditation or yoga on a daily basis. Maintain your calm when under duress
-Make a plan. Commit it to memory and make sure to stick with the plan

-Teach people how to be centered, calm, and focused in the face of uncertainty, disaster, and draw-downs
-The more you are prepare, the more you have a plan, the more you’ve done scenario analysis, the better it is
-The guys who have been through bad markets before, tend to have more patience, tend to be more objective about the way they feel, they don’t let their own fear, panic, or reactivity to what is going on take them out of their game
-The best guys are like Tiger Woods without ego (??). They really learn to put the ego aside. The guys that win gold medals are focused on the process. They are not thinking about the medal (IE return, money etc.) all the time
-His process: What’s been going on? What’s been happening? What happened when you lost that money? What got you into the draw-down? How much did you stopped doing what you been doing before that was successful? It’s very easy to forget what you need to do. And to get caught up in the moment and to stop following the plan. So you really need to have somebody that got some objectivity helping to stand back and watch yourself (get back to original plan)
-When managing people, in today’s difficult market reduce expectations so people aren’t beating themselves. Take the pressure off. You don’t want to clamp down on people, be demoralizing and cause post-traumatic stress disorder

Categories: News

Jim Chanos Interview

January 24th, 2009 No comments

Jim Chanos, the best short-seller of our time, was interviewed for his current thoughts by FT.

-Very bearish on infrastructure buildout in the world. China, Middle East. Long way to go on the down-side
-Bad news for steel and cement companies
-They look to where they can analyze long lead times, plant construction, etc. They see some real problems
-3 areas of downside in the coming years: healthcare, defense, and pro-profit education business. All these areas will be under intense pressure by new government for better cost-benefit analysis
-Defense: government asking for more rationalization of defense budget
-Education: up till now we got Federal loans. People had to get private student loans, but now they are defaulting at huge amounts. The value proposition is coming under big question. $30-60K in debt. Kids don’t find themselves anymore employable. Congress will take a look at this
-Short sale ban was a complete disaster. A lot of unintended consequences
-Lag effect on realized losses in private equity. It’s not the panacea investors thought it was. In fact it’s leveraged long capital
-Getting redemptions now, an ATM for other funds. Everybody is shrinking
-Hedge-fund industry probably lost 20% and another 20-25% in redemptions in 2008, bringing assets to $1 trillion
-Chanos went from $7B to $6B assets
-Long/Short: Oil – long, U.S. Dollar – short, GE – hedge, Citigroup – long, Ford – we are short, Google – long, Blackstone – short, John Thain – long, HSBC – long, John McCain – long

Categories: News

Buffett's Holy Grail of Investing

January 23rd, 2009 1 comment

Notes from a speech by Alice Schroeder at Darden Value Investing Conference 2008. This is so much better than her mass audience oriented book for insights on how Buffett invests.

-So much of Warren’s success has come from training himself into good habits. Aristotle said, “We are what we repeatedly do.” Excellence is not an act, but a habit.
-First habit of Buffett – hard work. What more can I do to get an edge on the other guy?
-Charlie Munger says, “The guy is a learning machine.” It does help to have a photographic memory, which he has.
-Horse Handicapping. First step is what is the odds that this business could be subject to any catastrophe risk that will make it fail? If there is any chance, he won’t go there.
-Figured out the one or two factors that can make a business succeed or fail. Then look at all the historical data, quarter by quarter, for every single plant and every competitor. Filled pages with this information. Rely totally on historical figures with no projections.
-What is the cat risk? You save yourself a lot of time and energy. Focused on efficiency. Being realistic about cat risk, don’t convince yourself otherwise later.
-Compounding. I want a 15% return on day one return-of-investment and compound growth from there using a huge margin of safety. Very simple thing. No DCF model.
-Doesn’t really care if the price goes up or down for the next year or two. He just knows at this price, odds are it will do well
-In 1999 he said it’s good idea to invest in the market when stock market’s value is 70-80% of GDP
-Inner Scorecard: The only person really qualified to advise you on what you can do is yourself. You know yourself better than anyone else does. You and you alone know how determined you are to make a success of any undertaking. And in the last analysis, about 90% of being successful in business is that indefinable thing which for lack of a better name we call guts.
-Follow your passion. Do what you really want to do. Don’t waste time with resume filling jobs. Don’t work for anybody that makes your stomach turn. You can’t get ahead that way. The odds are better for you to succeed if you love what you do.
-The purpose of margin of safety is to render forecasts unnecessary.

From her book:

The Buffett Method
-estimate an investment’s intrinsic value
-handicap its risk
-buy using margin of safety
-stay in circle of competence
-let it roll as compounding does the work

People who exploited [inefficiencies] them generally had a steady pulse and deep knowledge based on long study, and the willingness to put in full-time concentrated effort

Categories: Articles

Call to Arms – We Must Fight the 0.25% Stock Transaction Tax

January 18th, 2009 6 comments

I call on the financial stock community blogosphere to come together and fight the 0.25% stock transaction tax. We must call our Congressmen and flood their email boxes to let them know how much of a horrible idea this is.

The pro-tax momentum is increasing as a result of this New York Times Op-Ed last week. If you read the comment section, you will see how many people are scarily supporting it without any regard for the unintended consequences.

Currently it is being considered by the Congress. It was actually in a draft of the original TARP bill and was taken out. Now with the Democrats fully in charge and the anti-Wall Street feelings at an all-time high, they don’t need the Republican votes to pass it. Note I voted for Obama, so please cool any partisan rhetoric.

If this passes, we all know what will happen. It will drive millions of active investors out of the market as it makes it uneconomic for them to trade. This will lower liquidity and make it more expensive to enter and exit positions for everyone. We all know what it is like to buy and sell an illiquid stock. Imagine that for the whole market. Disastrous.

The added price volatility from the illiquidity will hurt market confidence even more and further the exodus of other investors, which will in turn drive the market even lower. The net tax gain for the Government tax coffers may even be negative as investors stop trading and it lowers any short-term capital gains revenue.

However put all of the above aside. The aim of this legislation is to make Wall Street pay for their sins right? Let’s look at the impact to a typical middle-class American family that saves and invests for their retirement and their kids’ college tuition. 0.25% doesn’t seem like a lot right?

With each round-trip costing around 0.50% (2Xs 0.25%), just a few trades could deduct 1.5% from a family’s assets each year. The insidious nature of a percentage-based tax is that every 1.5% taken away is 1.5% of money that will never grow and compound in the future. Over 40 years assuming a modest rate of annual return, this tax will cause the middle-class family to have 45% less money for their retirement. You can adjust the numbers down or up even to no annual return or 1% deduction, but no matter what you plug-in this tax will penalize middle-class investors with a huge chunk of their savings over time.

The same goes for investors that own mutual funds, pensions funds, and even index funds. The vast majority of these funds have a decent amount of annual turnover. With this tax and even with a small annual hit of 1%, long-term returns will be severely negatively impacted.

Another unintended consequence would be driving capital away from buying and selling stocks to buying and selling options. Since this tax is a percentage of transaction tax, buying options would be more attractive as a way to get more bang for the buck with the least amount of tax. Massive buying of options would make the market tremendously more volatile as market-makers hedge their options exposure. Ridiculous volatility on top of volatility isn’t exactly what our markets need right now.

Politicians are in panic desperation mode right now where they are willing to try anything. Let’s stop them from pouring gasoline on the raging fire.

UPDATE: Here’s a link to contact your Congressman. Here are the links to the Senators.

UPDATE2: Larry Summers, head of the Obama economic team, wrote a paper in support of a stock transaction tax in the past. God help us. Here is a link to the synopsis of his paper.

UPDATE3: The large Wall Street firms and mutual funds will ask for exemptions to this tax and likely receive it due to their lobbying power and money. This will leave the brunt of the burden to us, the small investor.

UPDATE4: The original text of the 0.25% transaction tax bill that some Democrats tried to pass with the first TARP.

UPDATE5: Some people are rallying and signing a petition against the stock transaction tax bill. It was introduced on February 13th, 2009, you can read it here. The crazy thing was when the bank CEOs testified before Congress and were asked about the transaction tax, I fell out of my chair when all of them said they were fine with it. In hindsight, it’s ok with them because they don’t have to pay for it even though they are the ones that screwed up, their customers who did nothing wrong are going to be the ones paying for it. It was especially scary as Barney Frank got all excited with the CEOs’ positive response and said, “I think we’re onto something here!”.

Here’s some posts from the comment section of iBankCoin:

zubovsergei Says:
yea basically it is a 0.25% tax on the total amount of stock bought and sold, not on the profit. So if you scalp stocks, you will need to find another job. I would have to pay about $600,000 in taxes for 2008 if this tax was in effect. Unfortunately I only made $200,000.

HERE IS THE PROBLEM: wall street firms may lobby to get exemptions from this rule. Otherwise, hedge funds would be out of business as well. But you know that big money is always exempt from some rules (naked short selling for example)

Democrats have been trying to pass this bill for years and years. This tax actually was in effect until 1966 I believe, when it was repealed. But alot of countries already have a tax like this: UK, India. I think Japan had it but repealed it. China passed it in 2004, but also quickly repealed it. But like I said, with hatred of Wall street. it could very easily pass.

zubovsergei Says:
How is it that NONE of you on here care about the 0.25% TRANSACTION tax???? You guys do know that this thing WILL most likely be in the $850 billion stimulus bill and it WILL VERY LIKELY PASS??

Meaning that most traders will be out of business overnight. The transaction tax was a part of the original TARP bill, the first round bill that failed, and markets tanked 700 points. That bill didn’t pass, but not by many votes. Democrats don’t need ANY republican votes to pass this thing, unless republicans filibuster.

With some much hatred of wall street, this fucking thing has a big chance of passing this time around.

Categories: News

David Swensen Slams Fund-of-Funds as a "Cancer"

January 13th, 2009 No comments

In an interview in the WSJ, David Swensen called fund-of-funds a “cancer on the institutional investor world.” He then adds with the sensational “Madoff” word association to accentuate his point. Ouch.

On the investing front, he likes distressed investments and TIPs.

WSJ: What about fund of funds and consultants? Can they be a solution?

Mr. Swensen: Fund of funds are a cancer on the institutional-investor world. They facilitate the flow of ignorant capital. If an investor can’t make an intelligent decision about picking managers, how can he make an intelligent decision about picking a fund-of-funds manager who will be selecting hedge funds? There’s also more fees on top of existing fees. And the best managers don’t want fund-of-fund money because it is unreliable. You need to be in the top 10% of hedge funds to succeed. In a fund of funds, you will likely be excluded from the best managers. [Mr.] Madoff also relied enormously on these intermediaries. He wouldn’t have had nearly as much resources were it not for fund of funds.

Consultants make money by giving advice to as many people as possible. But you outperform by finding inefficiencies most of the market has not yet uncovered. So consultants ultimately end up doing a disservice to investors.

WSJ: Looking ahead, what investments do you like?

Mr. Swensen: Distressed securities are one of the most interesting opportunities for institutional investors. But returns won’t come right away because the credit markets are fundamentally broken. TIPS [Treasury-Inflation Protected Securities] are pretty attractively priced. They promise reasonable returns, and protection against inflation is really important. We may not see it in the next year or two, but the government’s massive fiscal stimulus can’t help but produce massive inflationary pressures. Stocks also look a lot more attractive than they have for a long time. We prefer higher-quality companies with low leverage.

Categories: News