Bonds – Page 124 – The Aleph Blog

What I Have Learned Over the Past 42 Hours

Posted on 1 March 200720 June 2017 by David Merkel

I was a little ahead of the market yesterday, say 10-15 basis points ahead of the S&P. Leading the charge were Fresh Del Monte (my current largest loser), and Grupo Casa Saba (what a great undiscovered stock). Fresh Del Monte was upgraded from underperform to neutral after their less bad earnings. Grupo Casa Saba reported excellent earnings. They run drugstores in Mexico, an excellent industry for a country with a growing middle class. For my balanced mandates, I kicked out the QQQQs that I bought yesterday. The rally wasn’t as big as the reduction in short term risk implied by the VIX.
At RealMoney.com, I had a post late in the day called, “What I Have Learned Over the Past 36 Hours.” It attempted to put forth a dozen things that have been revealed since the recent crisis hit. Here’s an explanation:

China sneezes; the world catches cold. If we needed any proof that America no longer solely dominates the global scene we saw it on Tuesday.
Systemic risk may or may not be a problem now, but a lot of people acted like it was a problem. Thus the rallies in the currencies used to finance the carry trades. The Yen and the Swiss Francs are good hedges here. I am more dubious about long Treasuries, though not long TIPS. (It was neat to see the rallies in the yen and swiss francs. Thne long bond fell more today than the carry trade currencies did.)
The current equity market infrastructure is marginal to handle the volume of the last two days. Given the nature of modern finance, major errors are not acceptable. I got off a couple of good trades as a result of the accident, but those trades were accidental as well.
The lack of human intermediaries with balance sheets leaves markets more volatile than before. It genuinely helps to have someone who can stop the market at certain volatile points, and then restart with an auction so that a fair level can be determined after news gets disseminated. Also, liquidity providers show their value in a crisis.
Algorithmic trading and quantitative money management is making stock price changes more correlated with one another than they used to be. Markets behave differently in normal times, and under stress. The methods that make money when the market is calm exacerbate volatility when market stress appears
Panic rarely pays.
Patience usually pays.
Diversification pays.
In a crisis, strong balance sheets and free cash flow are golden. During times of stress, these four bits of wisdom pay off. They protect an investor from his own worst temptations.
People want the Fed to loosen more than the FOMC itself does. The FOMC doesn’t care about weak GDP if labor employment is robust. The FOMC certainly doesnot care about te stok market unless i affects the banking system, which is unlikely.
The oscillator is not oversold, yet. Sad, but true. We have a decent number of days in the rear-view mirror that aren’t so bad. The intermediate-term panic level is not high.
What do you know? Cyclicals are cyclical. I’m just glad I didn’t get kicked worse yesterday. That’s the danger in playing cyclical names. I take my risk therethough, rather than in growth that might not materialize.

All this said, I feel well positioned for the next few trading sessions. I am working on my quarterly portfolio reshaping, which will take out a few companies, and replace them with cheaper companies in industries with more potential. Once I complete that analysis, you will hear about it on RealMoney and here.
Long SAB FDP

Yesterday, My Troubles Were Not Far Away

Posted on 28 February 200728 February 2007 by David Merkel

I don’t think my troubles are here to stay, either. I was down a little more than 3.3%, better than the S&P 500, but not by much. So what whacked me? Generally, cyclical companies: Cemex, Conoco, Barclays, Sappi, Jones Apparel, Sanamento [SBS], Lafarge, Magna International, Lyondell, Deerfield Triarc, Patterson-UTI Energy, Japan Smaller Capitalization Fund, and Lithia Automotive.
For the most part, these are companies with strong balance sheets where they will do well in the intermediate term, in my opinion.

As for my balanced mandates, I don’t have solid numbers yet, but I suspect I was down a little more than 1%. Not bad, but I hate to lose, period. I take some comfort, but not much, that I am still up a little less than 2% so far this year on the broad market portfolio. Let’s see if we can do better in the next trading session.
long CX, COP, BCS, SPP, JNY, SBS, LR, MGA, LYO, DFR, PTEN, JOF, LAD

Looking at my Indicators

Posted on 28 February 200728 February 2007 by David Merkel

This will be kind of stream-of-consciousness as I go through my indicators. I have a lot of them so bear with me.

Gold, Copper, Oil, Gasoline, Heating Oil, and Natural Gas were all down. The yen and Swiss franc were up big, 2% and 1% respectively. (Nice hedges for me, I added them in the last month as a hedge for systemic risk. British pound flat. Canadian dollar lower. Yuan still appreciating… controlled appreciation there.

Shift at the tails of the of the distribution of stock returns, even if the mean has only moved 3%+. More new lows than highs, but still more stocks over the 200-day MA than under it.

Investment grade credit spreads in CDS gapped out 4.5 bp on the IBOXX 7 deal. 10 year swap spreads moved out 2 basis points, which is more notable when they usually tighten when yields fall, due to mortgage hedging. Bond volatility measures gapped out, but not severely.

The Merger Fund dropped 31 basis points — a very good indicator on how the arbs are doing. My oscillator, which is a knockoff of a famous one that Cramer refers to, had the worst single day that I have ever seen, but the 10-day MA indicates that we are not oversold yet.
Anticipated inflation during the 2012-2017 period fell like a stone to a 52-week low. The inversion at the short end of the curve deepened, while the long end lost some inversion. The TED spread jumped 7 bp. The VIX jumped more than it should have, given its ordinary relationship to returns on the S&P.
Okay, now. Putting it all together, yesterday was an expression of :

Decreased global demand from China.
Increased perception of systemic risk.
Increased likelihood of Fed loosening.

So what does this mean for today? Asian markets are down today, but Shanghai is holding its ground as I write. I would expect to see European markets flattish, and the US market to have a small volatile rally today. Treasury notes (excluding effects from the GDP report) should sell off.

We’ll see how it all works out by 4PM. I’ll have more for you later.

In Large, Red, Friendly Letters, It Reads “Don’t Panic!”

Posted on 27 February 200727 February 2007 by David Merkel

With the long bond, Japanese Yen, Swiss Franc, and option implied volatility rising today, there is a panicky feel to the markets. Though this could be the start of a “big, bad event,” the odds are that it will not be so bad. One signal of panic that I see is that the VIX is up 21% today, against an S&P 500 down 1.5%. Under ordinary circumstances, that ratio is 10, rather than the 14 we are seeing today. if that ratio gets over 20, it is a sign that too many people are buying index puts to protect their portfolios. If it gets under 5, too few are doing so.

And, as with most investing, stick to your normal way of doing business. Don’t overreact to the markets. We haven’t had significant volatility in a while, and frankly, we need some to keep people from speculating overly. Don’t react to today; ask yourself what things will likely be like three years from now, and use that as your guide to investing. The manic Mr. Market may serve up some bargains. If so, my rebalancing discipline will edge me more into the markets, bit-by-bit in a measured way. This takes the emotion out of it, which leads to better overall performance.

Late Update
Sold my TLT positions slightly after 3PM today and bought some QQQQs with the proceeds. I think that the short run selling is overdone, with the TRIN over 14, and my ratio mentioned above, which I call DeltaVIX over 17, I felt it was better to add a modest amount of equity exposure to my balanced mandates. We added some Hartford as well at the hedge fund. None of my broad market portfolio hit a rebalance point, so I didn’t do anything there, despite 32 out of my 35 stocks being down over 1%, and only one up. In aggregate, it looks like my braod market portfolio will be down 3% or so, and my balanced mandates down a little more than a percent.I’ll have more on this later this evening. I plan on reviewing all of my indicators tonight, and see what they suggest.

PS — a friend pinged me and suggested that today’s move in the VIX did not come from put buying, but from options selling. He cited the increased correlation of stocks to one another. I’ll have to think about this some more.

long FXY FXF QQQQ HIG (and apologies to the late Douglas Adams) and now after the update flat TLT

Covenants Are Getting Weaker (And Stronger?)

Posted on 27 February 200727 February 2007 by David Merkel

At my hedge fund’s weekly macro meeting, I noted the divergent trends in covenants. For newly issued BBB bonds, there is an increase in change of control covenants, which would allow bondholders to sell their bonds at investment grade levels (if not better) in a takeover.

But in bank loans to entities acquiring corporations, the covenants are getting weaker. I’m afraid that banks care more about present earnings than future earnings. Risk is getting transferred from the public equity space to the bank loan and private equity spaces. Personally, I think the eventual result will be ugly, though the current set of deals does not seem outlandish.

Wrap Up Post from Yesterday

Posted on 22 February 200722 June 2017 by David Merkel

The broad market portfolio was up yesterday against a mixed market. Big movers included:

Industrias Bachoco [IBA], which acquired a smaller rival Mexican chicken producer for cash.
ABN Amro [ABN], which might break up into smaller pieces. Excellent idea!
and Valero Energy [VLO], the largest refiner in the US.
Also Cemex [CX] and Grupo Casa Saba [SAB]… the Mexican market is hot.

Howard Simons is one of my favorite columnists over at RealMoney. Yesterday he had a mea culpa over an article he wrote on equity REITs. If Howard needs to do a mea culpa, I guess that I do as well. I’ve thought that they were overvalued for some time, though not enough so to short them. Howard ended his article with, “At some point, the price of REITs will rise to a point where they no longer make sense. We have yet to see firm technical signs of higher prices being rejected, though, so we must conclude the uptrend remains intact for now.”
I agree that we should honor the momentum; that said, I don’t think there is much farther that equity REITs can run; the yields are at a record low versus the 2-year Treasury yield.
I wish Jim Griffin posted more at RealMoney. I really enjoy his weekly posts. I think he is dead right on his post yesterday where he thought the demise of the carry trade was the biggest global risk. That’s why I am moving my bond positions to lower yielding currencies.

Also, he commented, “Is there a law of conservation of risk? Perhaps there should be, one analogous to the laws of conservation of matter and energy, which Einstein assures us can be neither created nor destroyed. It is pushing the point to declare a scientific law, but, akin to the transference between the states of energy and matter, when risk is seen to be suppressed in the macro economy, it tends to be transferred into financial markets.”

There is such a law. Risk can’t be eliminated from the system, except to the extent that parties for one reason or another naturally want the opposite side of a trade. The best example I can think of is the swap market, where some parties naturally want floating, and others want fixed.

Not to dis James Cramer, but the Fed doesn’t care about mortgage REITs. It only cares about depositary institutions under their purview. If a mortgage REIT goes bust, it just means that a non-bank lender is gone, thus strengthening the Fed’s hold on monetary policy.

Long VLO SAB CX IBA ABN

Yield = Poison

Posted on 21 February 2007 by David Merkel

I have resisted writing this for some time, but there are certain points in the bond market where yield is poisonous.? I have a rule of thumb that says when spread relationships get too tight, give up yield to gain possible capital gains in the future.? That’s why I made the post at RealMoney late yesterday.? When everyone is grasping for yield, that is the time to avoid it, and aim for capital gains.? That is what I am doing now.