The Commodity Squeeze 5/11/09
People who dont know anything about this business are always talking about important psychological barriers when it comes to indices. So, a 14,000 Dow becomes one of these barriers in the minds of the puerile hacks who couldnt find a real job so got into journalism instead.
Market guys, on the other hand, do not worry about such artificial obstacles to making a lot of money. We have been trading for months, if not years, on the assumption that, sooner or later, it was going to break 14,000, so today has not found us psychologically ecstatic. It is simply a validation of everything weve been doing, and a next step on the ladder to what Stanley describes as dinero serioso. He thinks that means serious money in Spanish but then he also thinks that absolute return is what happens when you drink too much vodka.
As it happens, Stanley is still hustling and Im still passing bits and pieces of business to him, but its not like the old days and he knows it. His heart really isnt in it any longer, and he wants out. Do I know anywhere? I know hes angling for a chair at Lehman, but Im not sure I want him there. Frankly, his best days are behind him. He needs to go and sell Florida real estate to Bostonian retirees and fledgling snowbirds.
The guy covering us at Lehman is good without being too aggressive. I do have one problem with him. His name is Julio Csar Prez Jerez. All of it. Guess hes Mexican or Puerto Rican or something and I think those Hispanics like to load them up with names a few guys even get their moms name too. Go figure.
Lehmans are incredibly bureaucratic so, even if I wanted Jules to take me out to a ball game and look for some action afterwards what Stanley charmingly refers to as fur-hunting – hed probably need to get Dick Fulds permission. I can live without that.
In any case, prime brokers are not on my radar today. I have seen Brian and Brad, and we have scoped out a deal. These two guys have brains the size of Wyoming, but no idea of how to make money out of them. Thats where I come in and maybe, if theyre super-nice, my partners at Curveball. But I am setting the pace here, and that will need to be recognized when the deal kicks off.
The next question is how to pitch it to the partners. They have to have the imagination and the ambition to go with this one. We need to get out of the whole continuum of long, short, long/short, arb all the fiddling at the margins that keeps us out of trouble but never quite shoots the lights out. If Revis wants to buy a bigger place in Hingham, complete with a dungeon and live-in dominatrix, he needs to get with the program my program. I can make us all hugely wealthy, and it would all be totally legal. All they have to do is say: Sure, Larry, sounds sweet. Go do it. Yeah, kiss my ass.
The deal is there to be done for someone, and damned if Im going to miss out on it. Brian and Brad and their geeky little outfit, Commodity Kinetics, are on to something really hot. Ive done my research on this one. Graham, Hayek, Kaldor Ive read their papers, studied the theory, done the math, and it all adds up. The Brits didnt make Kaldor a Baron for no good reason. The man was a genius. It was a pity he just missed out on seeing some of his best ideas made real by Lawrence E. Podolsky.
Weve even come up with a name. CCUs: Collateralized Commodity Units. Sweet. We Googled it and nothing unpleasant came up we dont want to find out its an acronym for some deviant sexual behavior or a racist redneck outfit. The boys wanted to go for something clever like SPDRs, but I want something that looks and sounds more weighty. CCUs are the type of thing a government might issue.
Except were going to be the ones doing the issuing. The whole deal revolves around us being issuer and market-maker for a bunch of CCUs. Brian and Brad provide the intellectual stuff, with all the software to calculate index and collateral numbers. Curveball adds the kudos of a house with an unblemished record, the highest fiduciary standards and the market muscle to issue and distribute the units. Thats us, to a T. When do we start?
Lots of details to thrash out, but were closer than ever to doing something. The market isnt going to know whats hit it. A whole new currency class now that is something to get excited about. I was there at the birth. Goddam it, I was the midwife!
Gold, Vix, and the odd martini 6/3/09
27 July 2007: DJIA 13,265; C 46.97; MER 77.31
So, just the small matter of a 5% drop-off in the Dow in the space of eight days. All those margin players, closing their books and taking their profits they disgust me. That is not how we look at things. This is nothing more than a blip. The tide is rising and the SS Curveball will be cresting it. People who worry about inflation, durable goods or the price of oil are simply ignoring the fundamental fact that this market still has a way to go before it peaks. This is a buying opportunity.
Theres actually a consensus within the smart money community. You dont hear the Wizard of Wharton – (my favorite analyst Jeremy Siegel) – telling people to sell stock and head for the hills. Far from it. Hes been consistently bullish and consistently right. In a note, hes said that the market is oversold and that it could be in line for a sharp bounce. Hes telling the great unwashed to get out there and buy some quality stocks, which are unaffected by any credit tightening. In the Wizards view, theres been an overreaction to the sub-prime issues.
Were in tune on this. I still see the market going north. But where I disagree with him a little is that I think PEq is a big driver behind market strength. These PEq firms are trying to buy up anything and everything, so prices go up (though not necessarily values). Sure, there will be setbacks when these firms get too greedy Chrysler and Alliance Boots but theres still a huge appetite for deals.
We looked at becoming a PEq player. Plenty of our rivals have gotten into the space and made money. Problem is, its a hands-on type of business and we dont do that. Basically, we dont care if a business does well or badly, as long as were either long or short of the stock. We dont want to be in there on only one side of the deal, worrying about inventory and human capital (whatever that is) and all that stuff. Were traders.
My triple-barreled amigo from Lehman calls. Theyre taking some heat on account of a rather heavy exposure to CDOs. Bear has already taken its beating the BSC stock has dropped by 24pct since June (and Im still short) and now Lehman seems to be taking up where Bear left off. Jules is all sweetness and light, pointing out the differences between the two firms and assuring me that all shall be well and all shall be well and all manner of things shall be well. Like I care. But I need to get Art into gear and establish just how many prime brokerage relationships we could have, because Lehman is beginning to scare the hell out of me just as much as Bear. Sometimes you look at pictures of Dick Fuld and wonder if hes carrying a piece of shrapnel in an important part of his anatomy.
Anyway, I thought Id give Jules a little cardiac jolt by asking him if hed got any Lehman stock I could borrow. Like every good broker, he was torn between the prospect of making some money out of the deal, or defending the honor of his employer and saying that they felt unable to lend their own stock. Jules took less than half a beat to square that one. How much were you looking for? he asked. That kid could go far.
After that, it was into Davids tank the windowless meeting room attached to his office where we hold the most sensitive discussions to talk over the days events. Otherwise intelligent people have been selling off gold, such is the panic about this temporary correction. But it has spooked David and he needs to be stroked and humored. If hes not, we might have to liquidate some positions that would be very painful, both to me and clients (although not necessarily in that order).
Is this the start of the meltdown? he asks. Where can you go from there? The guy has clearly been watching the wrong channel. So, to keep him off my back, I agree to go through all our positions and explain their logic. Macro stuff, nothing too detailed there are some things that, for now, need to remain in my locker. For each asset class there are questions, challenges, and an uncomfortable debate about the cost of unwinding trades or, ironically I guess, hedging our exposures, which is kind of what were meant to be doing in any case.
I have to give in on some bets, but I manage to hold on to the key elements of the Special Fund, which is bearing up pretty well. The good news is that David encourages me to take more short positions in certain sectors; the bad news is that those sectors like construction and financials have already been shorted to hell. Ill have to come up with some fancy synthetic trades that get us the exposure we want at a price that gives us some flex. Thats why youre paid the big bucks, Larry!
He doesnt like the upside potential of the market. He thinks that we should be following some others who are buying index puts to hedge against a market decline. We have a bit of a discussion about this one. Puts are expensive, blunt instruments. The VIX is high precisely because people dont have a clue whats going to happen next, not because a fall is inevitable. I want us to be more forensic and go stock-by-stock if were going short. A lot of S&P firms are long of cash on the balance sheet which makes them attractive to PEq firms, so this baby has got a way to go yet.
David wants to think about it. Hes got some PEq buddies who are going to share a bottle or two of triple-filtered mineral water tonight so hell ask them. Thanks chief: thats a real vote of confidence. Ill be chewing my way through the martini list at The Lenox while David checks out my theories with a bunch of overpaid asset strippers. But its worth holding my tongue. If he needs to do that, fine. The market has traction and the PEq boys know it. Theyll confirm what I already know. This is nothing more than a nervy correction, driven by traders with no cojones.
Creative Accounting 101 6/25/09
09 August 2007: DJIA 13,270; C 46.90; MER 76.25
Merde! Who would have thought that a boring old French bank could make such a complete mess of its hedge funds (that I didnt realize anyone actually bought, apart from some overfed French farmers looking to invest all the subsidies they get for sitting around drinking wine and eating cheese all day). You just dont expect a French bank to have such a major impact a 387-point impact, to be precise on our market. But the toxicity of those four words complete evaporation of liquidity was enough to send us into meltdown. Merci beaucoup!
Which is a shame, just as we were coming off the back of a little rally, the resignation of Warren Spector, Bears co-president, notwithstanding. The bulls were back, helping us all to some serious gains just a couple of days ago. Then these damn Frenchies come and bust up the party. No wonder nobody likes them. Im never eating French fries again.
When I think of Europe, I think of England. Over there its all positive. Theyve had Tony Blair doing a fine job, helping us to try and tame those terrorist towelheads, whilst Gordon Brown has been masterful at running the economy and letting the finance sector get on with its primary task of making money without too much interference. No wonder old Gordie said that this was the start of a golden age for those boys in London. I envy them.
Thinking of Mr Brown reminds me that weve not made much progress with our London operation. There are plenty of frustrations, even though they reportedly speak the same language as us. We want some nice offices, but the realtors are asking too many questions, trying to make us disclose far too much about us and our business plans. Hey, I only want to sit at a desk, not be the father of your children! Whats all this caution about? Were a good, decent, honest firm. Trust me.
Were also hearing the first stirrings of doubt about whether UK pension plans really want to go any larger into alternatives. Consultants say that they are all pretty troubled by mortgage-backed securities, and this French news certainly wont help any. They cannot see past this little blip to the bigger picture: volatility is good. We love it. You can only make truckloads of cash when theres volatility. Stability is for politicians and economists. Give me boom and bust any day (which is where I part company with Gordon, who claims to have abolished it. Yeah right not if old Larry has anything to do with it.)
I wish we had a Treasury Secretary with a much gravitas as Brown. Hank Paulson is so inarticulate he can hardly put one word in front of another. Add in the fact that nobody believes he does anything unless its going to benefit Goldmans and you have a guy who is pretty much a joke from where Im standing. Fortunately it doesnt matter too much as he doesnt really have a lot to do. He makes some speeches and issues reassuring statements about how strong the economy is, but the real power lies elsewhere. He just takes the flak when it all goes wrong.
The question we have to answer is: is it all going wrong? Paulson says no and, more importantly in my view, the Fed sounds confident. All the bets on it having to ease the Fed Funds rate turned out wrong. It said that it reckons the economy is likely to continue to expand at a moderate pace over coming quarters, supported by solid growth in employment and incomes and a robust global economy. Thanks, Mr Bernanke Im with you on that one.
That said, central bankers dont sound too confident today. What Im hearing is that all the big central banks are going to start pumping liquidity into the system. Thats good and bad, but not necessarily in that order. Paribas has got this whole market spooked, and what with Bear and Countrywide, people are starting to wonder if we arent reaching a tipping point.
I sure hope not. I havent exactly been meeting my job description as a hedge fund manager recently. Im not too hedged on anything. I really would like this bull to run a little more, just until I can close, adjust, burn or lose some of my positions. In this business, they say that timing is everything. The people who say that dont know how right they are. Its not just about when you sell or buy theres also a real skill to knowing when to book the profit (or loss) to the clients accounts. That really can make all the difference. And a few more months of upward momentum would certainly help me to get the performance numbers looking just peachy. Knowing how to account for that performance is just as critical as the performance itself, if you want my opinion.
Take the Thai Baht position. As of today, that looks excellent. At 31.10, weve made 34 million and change. Now, you give that back to the clients less, of course, our 20pct performance fee and they are as happy as hogs in dirt. It therefore follows that so are we. But thats not necessarily where it ends for us. Say we still felt bearish about the Baht. Clients have their profit booked, so theyre made up. But were we to run the position until year-end, and it got down to, say, 29 or so, were looking at additional profit of 16 mill. Thats for the firm. We close it out, net off the interest cost of the 250 mill weve had to borrow because we needed to give back the original client money that funded the transaction, and the rest is all ours. Thats the beauty of performance accounting. We manage it.
Compliance guys and other back-office lamebrains just dont get it. For them, its all about process. But, as I keep on telling them, this is a dynamic business. If we are constantly worrying about the paperwork and the niceties of accounting conventions, well never have any time to make money. At the end of the year, when weve earned that huge pot of money, we go hire some hotshot accountants to put all the right transactions into the right buckets. Everyones happy, and everyones richer than when we started. Do you really need an MBA to work that one out?
Toggle Off! 7/7/09
17 August 2007: DJIA 13,079; Brent Crude 69.53
Lessons my mother taught me #53: Never trust a man with a beard. Now, in a house dominated by my fathers Jewish-Ukrainian heritage, that was a tough call, as there was a lot of facial hair amongst friends and relatives (and not just the men), but my dear old mom had a point. I look at Beardy Ben Bernanke and I see someone who has a bit of a credibility problem. Only a few days ago it was all sunshine and global happiness. Today its slashing the discount rate, with increased uncertainty having the potential to restrain economic growth. Thanks, Ben I should have listened to Mom.
But heres the thing: the market actually likes it. Weve shed hundreds of points over 400 on the Dow in just a week thanks to the French connection – but now were on our way up again. Interest rates are coming down so lets buy more stock. Perhaps some of those trailer-trash loans will be repaid after all and theres no need to worry about sub-prime any more.
I am no contrarian. If this is what the market likes, who am I to complain? Curveball is riding the waves well, and my Special Opportunities Fund is looking set for a bumper year. Im getting a new publicity photo done as I reckon Ill get a special mention in all those reviews that come out at year-end. If John Paulson knew what a great job I was doing, hed have hired me by now. Hell find out soon enough, when he sees my profile in HFR.
My buddies at Goldman must be feeling a bit envious of my performance, too. Everyone in the market was feeling their pain as they announced that they would have to pump three billion bucks yes, three billion! – into their Global Equities Opportunities Fund. The Global Alpha Fund has tanked too. Oh guys, how we hurt for you. No one likes to see Goldman in trouble.My other pet project is going well. Brian and Brad at Commodity Kinetics have been in to showcase the technology platform for our Collateralized Commodity Units. It rocks. Simple as that. It is going to do just about everything, other than print money and make Grey Goose martinis. Whats coolest for me is that it will automatically generate trade orders and route them to the best venue, which pretty much leaves me to sit back in the turret and watch the cash pouring into our accounts. We get paid for trading when all were really doing is watching screens as they churn out trade instructions. Sweet.
Not all is as sweet. A tricky day with David. He wanted to talk about some loans wed made to PEq firms. Now, when I said I didnt want to be in the PEq business, that was technically correct. We are not an investor in that sense. But lending money to the sector is a different matter altogether. These firms all need cash and the terms are pretty good. We know that theyre buying businesses with plenty of cash in the bank, so lending them money to finance the purchase is pretty much risk free. One small wrinkle: some of the loans have PIK toggles attached. PIK (payment in kind Ed.) normally means that they can pay interest with more debt, rather than cash. No problem as far as Im concerned, but David sees things differently. He doesnt like these toggles, and he likes even less the way Ive told my people to account for them.
So David, what do you want me to do? He agrees that we shouldnt sell the loans, but wants me to try and sell the toggles. A secondary market in toggles? Well, were trading everything else with a pulse, so why not these? Thats what we pay you the big bucks for, Larry. Yeah right. Ill just call my buddies at Goldman and see what they think. When that fails, Ill call Stanley and offer him a great package of toggles that will earn him lots of bro and kudos as the first PB to execute in this exciting new market. He might just be that dumb.
I shall have to deal with my toggle challenge later. I am flying back to New York to pick up the family and take a break in the Keys. I keep my Portofino down there, so we can cruise around, sip a couple of cold beers (without Charlize, sadly I suspect she and the wife just wouldnt get on), and generally forget about the crazy vagaries of this market. I dont own a property down there, but a grateful client, who has seen his side pockets stuffed with gold, gives me the run of his modest seven-bedroom bolt hole with private beach. The kids love it.
Eva, of course, has reservations. The sea is too hot or too cold. The kitchen simply isnt big enough, and the beds are all uncomfortable. The maid is lazy (Eva, did you really say that?). All this I endure in order to get a break. I love Eva, but after a week I am ready to get back to work. Italian women should always be taken in small doses.
LIBOR Schmibor – 9/25/09
4 September 2007: DJIA 13,448; LIBOR 6.7975pct; Brent Crude 70.57
The Brits are busting my chops. I come back from vacation, nicely rested and with a fat new portfolio of contacts I met at some of the bars down in the Keys (including a headhunter who is a good friend of John Paulson, no less), to find that interbank trading in London has gone belly up. Basically, no one trusts anyone any more. Long gone are the days when the Brits wandered round in top hats and talked in Latin to each other Dictum Meum Pactum and all that. Standards are slipping, and this is the result.
Its a bad place to be, but Im now very heavily reliant on the intelligent intervention of central bankers a plain oxymoron. I need Beardy Ben to come up with a bone-crunching rate cut, and I need other central banks to start pumping cash into the system to override the liquidity crunch. If they dont open the floodgates soon, there are going to be some casualties – and Im probably invested in some of them.
The problem is that no one knows who is going to go bust next. BofA has bailed out Countrywide, and Bear looks like it is a dead man walking, but there are rumors everywhere about firms that are going to the wall.
Even worse, two of the banks that I have a long position in are getting some bad press with the bloggers. Personally I dont pay much attention to the sad losers who write blogs mainly people too stupid to be real journalists or analysts but there are one or two worth a look. Obviously, I am still a great follower of Jeremy Siegel, the Wizard of Wharton, who has been right on the money so far. He is almost as bullish as I am. But others are starting to worry about both Merrill and Citi, and I dont like the rumble too much. Is it too late to write some long strangles and try and salvage something from the volatility? If I did, they would have to go through a set of books that I keep in the bottom drawer I have a special mechanism for processing extra-mural activities.
Theres also no point dragging down the performance of my main fund, so Im seriously thinking of transferring my C and MER positions to a different fund that some guys would probably think of as a side pocket. I dump a lot of positions into this fund when they look a little sick, hold off on regular valuations (for reasons of illiquidity, of course) and hope for divine intervention before anyone notices. If all else fails, I will just assign the losses (net of sec lending fees, which I will throw in as a bonus) across all our clients over a few quarters. Even our hotshot compliance team wont be able to track that one down.
But the news not all bad. A new sales lady has started work, and shes the one I went for during the interviews. Shes called Tersha Wills, and she is HOT! She gives me the strong impression that she likes to have a good time, and so do I. I reckon shed be a fair substitute for Charlize on the speedboat. A good body on her, and she is eager to please. Shes come to us from some consulting firm thats taken millions of dollars out of us over the years so she knows the company well. Im going to take my time and play the long game. I might just leave a few reprints lying around outside her office of that HFR article about my home run performance last year, complete with a rather good photo of me in my favorite Brioni suit.
Which reminds me that, whilst in the Keys, Eva gave me her latest list of demands. This is part of the price I pay for independence. We bought a townhouse in Manhattan, on East 11 St, and Eva has never stopped refurbishing it. Every time I think we are close to having the place finished, something else needs fixing. It could be that she has something going with the guy overseeing the project, or maybe shes just bored, but I could have had the Brooklyn Bridge repainted for less. The list is on my BlackBerry, as are several messages from Haresh. I dont know which I want to look at less.