I would have loved to have owned Assurant (and several other insurance names, like Prudential and MetLife) over the last several years, but I could not do so because I there are limitations on the stocks that I can own in my personal account. I pick insurance stocks for the hedge funds that I work for. I can’t personally buy if the stock is within 10% of the price that I recommend the funds to buy. I can’t sell until the last share held by the funds is sold.

This has held back performance on my broad market portfolio. Value managers always own financials. So what financials do I own now? Allstate, but I bought it prior to coming to the hedge funds, and ABN Amro, Barclays plc, Royal Bank of Scotland, and Deerfield Triarc. I offered each one to the hedge funds and they passed (excluding Allstate). I’ve made good money on all of them.

I would also add that I would buy HCC Insurance in this environment, though the funds I work for have passed on it. It would be politically ugly for me to get clearance to buy it, but I pass it on to my readers as a well run, high quality insurer trading at a cheap price.

I do have a few other restrictions that I should mention. For the good of the firm that I work for, I can’t mention companies that we are short without permission from the legal area. Also, I don’t mention companies that we own until we have built our initial position. Also, I usually don’t discuss microcaps that we own, but I’m willing to discuss any company that readers bring up, and my firm’s 13F is a matter of record. Finally, for now, I can’t talk about Scottish Re, which was my major mistake in 2006.
Beyond that, I can talk about almost anything. Let’s get the conversation started.Disclosure: the funds that I work for are long Assurant, Prudential, MetLife, and a teensy amount of SCT.  I am presently long DFR, ABN, RBSPF, and BCS.

Many market commentators, myself included, have been talking about the amazing amount of liquidity in the markets. Caroline Baum wrote a piece recently asking what liquidity really was, and she did not draw any real conclusion, in my opinion. For someone as smart as Caroline Baum to not come to a conclusion, means the concept must be pretty tough.

Last week’s copy of The Economist took another stab at it, and here is the critical quotation:

Helpfully, Martin Barnes, of BCA Research, an economic research firm, has laid out three ways of looking at liquidity. The first has to do with overall monetary conditions: money supply, official interest rates and the price of credit. The second is the state of balance sheets—the share of money, or things that can be exchanged for it in a hurry, in the assets of firms, households and financial institutions. The third, financial-market liquidity, is close to the textbook definition: the ability to buy and sell securities without triggering big changes in prices.

Pretty good, but it could be better. These are correlated phenomena. Times of high liquidity exist when parties are willing to take on fixed commitments for seemingly low rewards. Credit spreads are tight. Credit is growing more rapidly than the monetary base. Banks are willing to lend at relatively low spreads over Treasuries. Same for corporate bond investors. And, if you are trying to generate income by selling options, it almost doesn’t matter what market you are trading. Implied volatilities are low, so you realize less premium, while giving up flexibility (or, liquidity).

The demographics of the developed world favor saving over spending, given the given the graying of the Baby Boomers. Given that the excess credit is heading for the financial markets, and not to the goods markets, we are getting asset price inflation, but not goods price inflation. Spreads tighten, implied volatilities drop, and companies get bought out of the public markets, and get levered up in the private markets. The excess of credit also lowers the costs of carrying assets, which in turn leads to more trading, and bid/ask spreads tighten.

In short, what we are faced with is a situation where there is increasing leverage among market intermediaries in order to earn high returns off of assets with low unlevered returns. This cannot persist indefinitely, and when it reverses, the markets will be ugly. This is why you should insist on high quality stocks and bonds in this market environment. When the willingness to take risk diminishes, the low quality stuff will get killed.