Derivative Thoughts

This is a basic, but interesting article on the use of options as insurance for your portfolio.  Having read the book:  When Genius Failed…The Rise and Fall of Long Term Capital Management (must read), I’m not a big fan of this strategy.  I’m not going to go into the details of the book, but suffice to say that the derivative picture it paints is scary.  I do not believe that things have gotten more transparent and less complex since 1997…just the opposite.  While a text-book scenario may look very logical, the recent/current condition of our financial markets is not conducive to a strategy that requires orderly derivative processing on crazy days.  I have no issue with these products working as planned during normal market conditions (when you generally don’t need them); it’s the potential for extreme volatility that makes the whole idea questionable.

I’m not suggesting that you don’t use options within your portfolio.  I’m merely saying that I’m not an advocate of this approach during volatile times, which I realize sounds odd…but think beyond the obvious.  While I like using them in a more offensive mode (buying calls/puts), I think the comfort offered by this defensive approach is a slippery slope to a false sense of security.  In the offensive mode, I realize I’m taking an aggressive position.

This is not an investment recommendation.  As always, do your own homework and think for yourself.  Best quote of the article:

“The put is insurance against a market tumble and, advisers say, is best used in a market that occasionally stumbles, not one that soars and collapses.”

Turning to Derivatives for Safety?

NASDAQ Self-Help

The NYSE suffered what is described as a “momentary glitch” this afternoon that interrupted trading  in 47 stocks including General Electric and Coca-Cola Co.  The “glitch” caused the NASDAQ to invoke a  procedure known as “self-help”, which allows them to stop routing orders to the NYSE…thereby throwing a monkey wrench in trading activity.  These are the same sort of issues (seemingly smaller scale) that occurred during the May 6, 2010 flash crash.

The flash crash and the numerous odd trading days since then are definitely something to consider when reviewing your investments.  There’s no doubt significant risk to someone who has a large exposure to what I call electronic assets.  Given the growing sophistication levels of hackers in this world, the threat is certainly real.  Furthermore,  the likelihood that our government is proactive enough to counter said threat on an ongoing basis is low….heads up.

For those of you expecting transparency from the markets and/or the regulators on this, don’t hold your breath.  Do you remember seeing a big deal made of this today?   The last thing this market needs is a hit to systemic confidence to go along with the big picture worries.

A few articles from the past that are worth a perusal:

Hackers breach Nasdaq’s computers |Reuters

barrons: Personal Finance News …

Something Wicked This Way Comes

In Ray Bradbury’s 1962 novel, a nightmarish traveling carnival sets upon a midwestern town one Fall.  The carnival’s leader, Mr. Dark, has become bound to the freakshow after accepting their offer to help him live out his fantasies….and on the story goes.

 

Let’s see…nightmarish carnival, mysterious leader fixed on fantasy, and a Fall backdrop.  Hmmm….where have I heard this before?  I guess the markets over the past month or so remind me of a nightmarish traveling carnival.  Leader fixed on fantasy?…really?  And alas, we’re about to enter that most wondrous of months:  September.

A few snippets from John Nyardi’s marketwatch article this morning:

*September is historically the worst performing month for the markets.

*Since 1928, September has recorded more down months  than any other month and also holds the record for worst monthly drop in history (1931).

*September also boasts the lowest percentage of up months.

October has its own reputation for market volatility, with the major crashes of 1929 and 1987 coming during this month.

Given the myriad of ridiculousness coming out of the Fed and treasury along with the global malaise that is so pervasive of late, I think this seasonality is worth noting.  Would I reconfigure an entire portfolio based upon it?  No.  Might I take a profit that has gotten a little excessive (I know, I know…no such thing as an excessive profit), yes.  Along this same line, I might trim a loss earlier than normal.  If I was looking to play a little offense, I might even be tempted to take a position in QID (2X inverse of the NASDAQ).

When it’s all said and done, maybe nothing happens.  There’s a chance that the recent (and I assume ongoing) volume of government intervention offsets any historical seasonality.  I don’t know.  But as always, I like to plan for the worst and hope for the best…not the other way around.

This is not an investment recommendation.  Think for yourself and do your own homework.

TD

 

 

 

 

 

 

Utilities & Interest Rates

OK, I’ve been thinking about this one for a while.  I’m a believer that rates go higher in the not so distant future and have been thinking about different ways to play this.  Utilities have jumped out at me for a while as a big loser should rates go higher.  First, the demand for these income paying stocks tends to diminish during periods of rising rates as income investors have growing options within the bond market.  Less demand means less price support and….you get the picture.  The next issue is the leverage present within the utility industry.  The reliance on constantly rolling debt (new and existing) within a high rate environment is brutal.  I won’t get into the current green movement and the challenges it will present for the utility industry in the short-term.  Given the economic strains within our borders, I think support for costly governmental regulations within this industry will slowly fade away.

If you go to bigcharts.com (there are plenty of charting services to choose from, including those within your brokerage’s website) and contrast the yield on the 30 year treasury bond (TYX is the symbol) with DTE Energy Company (DTE is the symbol) for example, you’ll notice some interesting correlation’s in 2003 and 2006.  I try not to put too much significance on 2008/2009, as the amount of government intervention really makes that data questionable.  One idea that I will be considering is the purchase of some long dated puts on a utility company such as DTE.  I would point out that I don’t like options where the open interest is weak/miniscule…DTE unfortunately fits this description.  Due to the high dividend, I don’t like the idea of shorting utility companies like this.

Another consideration would be ProShares UltraShort Utilities Fund (SDP is the symbol).  This ETF is levered 2X the inverse daily performance of the dow jones U.S. utility index.  If this index loses 5%, SDP gains 10%…theoretically.  Levered 2x means potentially volatile.  Check out the chart, especially the one year…very interesting.

That’s it for this one, but I hope it’s a seed planted.  Nobody’s going to ring a bell for you in terms of timing and you really need to do your homework before committing capital to something like this.  At a minimum, it’s an interesting strategy to ponder and watch unfold…or not.

This is not an investment recommendation.  As always, think for yourself and do your homework.

TD

Investing in Food

Bullet points on Adecoagro SA (AGRO):

*South American farmland venture backed by George Soros

*IPO’d in January 2011 at $11/sh.

*Has traded between upper $13’s to upper $8’s since ipo, currently at $10.32

*Produces sugar, coffee, soybeans, corn, rice, milk in Brazil, Argentina, and Uruguay.

*IPO proceeds used to complete sugar/ethanol processing plant and buy additional farmland

*Owns over 283,000 hectares of farmland (hectare=2.471 acres).

Although I think it’s definitely worth researching a bit further, the volatility of commodity pricing and the geopolitical risks associated with a South American venture should not be ignored.  This is just one idea of how to gain exposure to food.  Another, more cumbersome, option is to buy quality farmland closer to your home.  While this sounds cool, quality farmland isn’t exactly being given away at the moment and don’t forget that you’ll have some carrying costs…although a short-term lease to a local farmer can offset much of those.

Here’s an article I think you’ll find interesting in this respect:

Being Like Soros in Buying Farmland Reaps Annual Gains of 16 …

Here’s the website for Adecoagro:

Adecoagro

Sometimes these ADR’s don’t offer the best financials, I’ll be coming up with my own questions and calling/emailing their Investor Relations.  I don’t think most people do this, but definitely recommend it.

This is not a recommendation to purchase this stock or any other.  As always, do your own homework and think for yourself.

TD

Follow Up on Buffett’s B of A Purchase

WSJ is out this morning with a great article on moral hazard within today’s markets.  There’s much to be gleaned from the article, but Buffett’s Bank of America investment is a great example of how moral hazard can impact the markets.  The assumption of (or downright knowledge of) future government intervention is driving the direction of capital flows..sort of a wet blanket on efficient market theory.

Fed Faces Old Foe as Hazard Returns

Weekend Reading

Very interesting guy (Caballo Blanco)…check out this article and consider reading the book:

Born To Run: Caballo Blanco…

How a high school jock from Texas rose to the top of one of Mexico’s most powerful and ruthless cartels:

An American Drug Lord in Acapulco

Interesting article covering the last years extreme weather:

Read it at The L.A. Times

Article discussing the supply issues cropping up within the healthcare industry:

Read it at Wired

Structured Notes

Project for the next week:

Step 1:  Check your portfolio to determine whether or not you own structured notes.

Step 2:  If you do, make sure you have a solid understanding of why you own them.

Step 3:  Give serious consideration to the suitability of “straightforward” investments that require a 30 page prospectus to explain.

Step 4:  Read articles on structured notes below.

These products are typically good for one person and it’s not the investor.  When you hear things like “upside participation without risking your original investment”, head for the exits.  This market is not that easy.  Annuities are another favorite of mine, but I’ll save that for another day.

The one investment you don’t need

Structured Notes Are Wall Street’s `Next Bubble,’ Whalen Says

Buffett’s Bank of America

If you look back at the GE and Goldman deals that Buffett was able to cut back in the Fall of 2008, you’ll see some very shrewd business decisions.  You’ll also see a well-connected man who knows how to leverage not only his sterling reputation, but also his connections with the Fed and the Treasury Dept.  Buffett’s injections are seen as a vote of confidence by an adoring public who then blindly follow his lead.   The frustrating part of the story is that the sheep in question never really understand that the whole gig is focused upon using the Buffett seal of approval to lure additional capital from a very predictable (and therefore, playable) public.

After raising $3 billion from Buffett in 2008, GE was able to raise another $12 billion from the public with much more friendly terms.  The $5 billion Goldman injection was even sweeter, with US taxpayers supporting Buffett’s stake with an additional $10 billion in capital injections (shockingly, with horrible terms), guarantees on $30 billion in debt and another $12.9 billion in indirect Goldman payments via the AIG bailout.

The Bank of America deal announced today is so predictable; with headlines pulled directly out of 2008:

Wall Street Journal-Warren Buffett to Bank of America’s Rescue

Business Week-Stocks Rise As Buffett Buys Bank of America

Business Insider-Warren Buffett Saves Bank of America

Hmmmm, what will happen next?  Perhaps Bank of America will leverage the Buffett seal of approval via a secondary offering of Bank of America stock and everyone will ride off into the sunset.

I take no issue with Buffett’s aggressive style, but I do have a problem with the free pass he gets with respect to his reputation.  Is he a winner?  Yes.  But I think he deserves a closer look.  I mean there’s more to winning than the actual wins.  Both Joe Paterno and Jim Tressel have been able to tally up the wins in college football.   But upon closer examination, only one of them truly stands out as a winner.

TD

Warren “Mother Theresa” Buffett

I don’t have time to fully cover this at the moment, but I’ll be out soon with my thoughts on Mr. Buffett.  I attempted to cover this during my lunch, but I was enjoying the myriad of articles I was reading so much…I never wrote.

Quick bottom line:  the folksy, corn dog eating, 1987 Buick driving Mr. Buffett isn’t exactly the Disneyesque Grandpa we should all gush over.  Shrewd business man?  Yes.  Little shady?  I’ll let you read for yourself….soon.

TD