Retraction

Ooops! Seems I was wrong about Bernanke buying 30-yrs. Everything is going to be in the 5-10 yr. range. But no matter. Either the Fed wins the battle against deflation, or they don't. And if they don't, then those long bond yields will most likely approach GDP growth trend plus 1.5%. Which is a target of 3-3.5%.

I will be watching the employment number tomorrow as well as consumer spending going forward for signs of economic improvement. This would be a sign to sell the bonds.

COCO Puffs?

COCO has been on a roller coaster for the past two months. After hitting a 52-week low of $4.23 in late August, COCO climbed to $7.19 the first week of October. Now it’s come full circle and is back down to $4.51.
This is the result of regulatory uncertainty, management decisions, and speculation. Two months ago, worries about the Department of Education’s new rules restricting student loans to COCO (and all for-profit school) students was the only thing dictating stock prices. Then on September 25^th, the stock was thrown a bone. The Dept. of Education announced that their ruling on for-profit colleges would be delayed, as reported by Bloomberg. This would prove to be the news that drove COCO to its recent highs.
More recently, COCO has been pummeled by unexpected bad news. First, the COO jumped ship on October 12^th (AP). The next day, Apollo Group rattled the industry by withdrawing guidance and warning of declining enrollment as they prepare for the Dept. of Education’s stricter regulations (Bloomberg). The final straw came yesterday as COCO itself announced tuition hikes and dropping enrollment (Reuters)

Too bad I had them picked as a diamond in the rough and bought options. Now things are ugly and looking worse. While COCO was a cash cow, those days may be over, as the whole industry is dependent on 80-90% of revenues for Dept. of Education regulated student loans. Who knows what the industry will be worth in the  
future.Ouch. Should have sold them in October. And the moral of the story is: When the market throws you a bone (as it did with the Dept. of Ed. ruling delay), Take It!

Trade!

Doubling down on the long bond.

Buy 50% position in 30-yr Treasury bond.

This brings me up to a maximum position on the long bond.

Why? First, the Fed announced $600 billion of QE2. This does dilute dollars thirty year from now. However, in the short-term, the Fed will have to buy longer term bonds rather than short-terms to get any lowering of interest rates. Short-term rates are already at record lows. So if the Fed buys anything, they buy the long bond.

Second, there is a distinction between devaluation and inflation. In an academic sense (whether right or wrong, bear with me here), inflation is a function of final demand. Devaluation is what the Fed is conducting now. This is why commodity prices are soaring despite the fact that consumer spending is flat, and global demand for commodities is down from the 2007-08 peak.

And where is that demand going to come from? Dave Rosenberg reports that the shadow housing inventory is at 107 months. That's nine years. Nine! So if the economy takes nine years to stabilize, then getting paid back in 30 years doesn't look so bad to me.

Finally, there's the knee-jerk pattern. For as long as I can remember, the knee-jerk reaction to any Fed announcement has been counter to the trend that ensued over the next month or two. Right now, a 4% coupon looks mighty tasty to me.

Moving to Cash

I made two big moves to cash today:

Sell 10% position in IAG @ $17.12, +4%
Sell 10% position in SDRL @ $30.31, +64%
Sell 10% position in SDRL @ $30.31, +73%

The run-up in equities just feels ridiculous, in my opinion. Bulls outnumber bears 2 to 1. In fact, there is a lot of sentiment out there calling for a "sell the news" event on QE2, which is expected to be announced early next month. In fact, I would not be surprised to see a drop before the event, since so many expect one after.

There are record levels of speculation in gold, oil, and many other commodities. Only two things are out of favor right now: the U.S. dollar and 30-yr Treasuries. So I've sold the commodities and equities and remain with a small net short position in commodities and long bonds. 

Momentum

The "risk-on" trade took it on the chin last Friday. Bernanke's comments succeeded in diffusing some of the sentiment on QE2. From the action in equities, it is clear that a very large and aggressive QE2 program is priced in.

In addition, speculative activity in gold, oil, copper, and platinum are ALL at record levels. This is becoming a very crowded trade. There is more speculation in oil today at $82 than there was at the peak of $145.

Momentum is the only thing driving markets forward right now. It's time for me to consider taking my IAG and NG positions off the table, and even SDRL. I will stick with my bottom-fishing expeditions in DJSP, GAP, and COCO.

I will stick with bonds, despite my fear that Bernanke is now more likely to disappoint risk markets on the extent of QE2. The reason is that there is still a net speculative short position in the futures market on the 30-yr Treasury, and if Bernanke disappoints on QE2, expectations may shift back towards deflation. In addition, the increased inflation/devaluation expectations have pushed down short-term yields at the expense of long-term in the last three months. If there is a QE2, there will be more dollars in the future. Due to increased supply, the 30-yr bond loses value, and yields appropriately go up. So despite what Bernanke said about not buying long bonds right away, QE2 would not do much to lower yields unless he does buy them. And does Bernanke really want to push up mortgage rates now? All of these considerations make me want to hold on to the bonds.

Somebody's Got to Do It

Everyone now knows about the foreclosure mess.

But somebody's got to do them eventually. Let's not forget that paperwork problems or not, these loans are in default.

So I bought a very small position in a clobbered company:

Buy 0.5% long position in DJSPW @ $0.23

These are August 2012 $10 warrants on DJSP, a Florida foreclosure paperwork company. These warrants become regular shares at expiration if DJSP is at $10 or more, so they act like a long-dated call option. There are no options on DJSP.

Lender Processing Services' (LPS) subsidiary, DocX, has a price list for banks that includes measures to "create missing intervening document," and "recreate entire collateral file." LPS is down to $27 from a 52-week high of $44, while DJSP is down from $13 to $2. Once (if?) the regulatory oversight is cleared up, I believe they could generate a healthy cash flow for years. Who knows, maybe fixing the document mess will raise the cost to banks along with DJSP's profit.

Trade!

Sell 1% position ORE.TO @ $1.663, + 316%.

Trade Alert!

Sold my gold bullion today:

Sell ~20%* position gold at $1344.45, + 9.65%.

Short-term, gold is extremely overbought here. Two of my advisors have confirmed the feeling I've been getting from the "sell the dollar and buy anything" trade. Dave Rosenberg says that gold futures are at the third highest bullish total ever. Jesse's Cafe Americain has a beautiful chart showing gold popping through its trend channel in a parabolic move.

Jesse has a $1,375 target on gold before a pullback, but even he achnowledges that the recent move is very strong.

I am holding on to three other positions for the moment: long NG Jan '12 10 calls (0.5%*), long IAG
(10%*), and long ORE.TO (1%*). IAG has not participated in the recent parabolic move, and the chart looks very boring.

I am looking to unload ORE.TO and the NG calls given the right opportunity. ORE.TO has doubled in the past couple of weeks, and the chart is clearly parabolic.

Since there is no news out and other small gold companies are also skyrocketing, it looks like the safe thing to do is sell the first day volume comes out below average. At midday today, we already have volume of 97k versus an average of 198k over the past three months. It doesn't look like I will sell today. The price is holding steady. The NG calls are almost in the money after NG jumped from $7.63 a month ago to $9.54 today. NG is now 29% above the 50-day moving average, and just like ORE.TO, no company news. Just a frothy overbought peak. Unfortunately, the calls have not kept up with the stock. When I bought the options, NG was at $5.98. The IV, which I use as a proxy for the time value of the option, was around 80, but is now down to 51. If the IV picks back up, I will sell these as well.

In the meantime, I will watch the risk on trade for signs of cracking. This is a trend that will have an ugly backlash against the shark-feeding-frenzy of the "sell the dollar and buy anything" speculators. Everyone participating in this trend is a short-term trader. Today, the dollar is down against the yen as everyone plays chicken with the Bank of Japan. As long as the dollar hovers near the $/82 line in the sand, everyone expects more money printing. But how long it lasts is anyone's guess.


* This number refers to the size of the position when bought, as a percentage of the value of my portfolio. This often changes due to price changes. ORE.TO is presently 4% of my portfolio, as it has quadrupled in price since I began holding it. Also, this number does not take into account leverage. If I have a $10 portfolio and use 1.5X leverage, I have $15 in positions. If I buy $3 in bonds, I would calculate this as $3/$10 or a 30% position.

Trades: Retreat

I've been forced to retreat from two of my short equity trades with hefty losses.

Sell 10% position in EDZ @ $28.22, -25.52%.
Buy to cover 10% short position in SPY @ $114.70, -11.04%.

Ouch!

Two things prompted these trades. First was the technical situation, as the S&P 500 (SPY) confirmed its breakout above resistance of 1,130 today with a huge 2% gain. EEM (MSCI emerging market index etf), the underlying index for EDZ (ultrashort EEM), hit new yearly highs today. Although these indexes look overbought, I just don't feel like taking any more losses on them.

The news today, however, is what really prompted these trades. Although Yahoo! Finance made the early claim that the durable goods report was responsible for the jump in equity prices, I don't believe that at all. the real news today came out of Congress as China Bill Heads for House Vote With Panel Approval. This bill would let companies petition the Commerce Department for import duties on Chinese products. Although the bill took some slight watering down to gain Republican backing, it could go for a vote before the house as early as next week. An "I got tough on China" vote is just what congressmen up for re-election need for their campaign speeches. This bill is clearly the work of Treasury Secretary Tim Geithner, and was set up nicely by President Obama yesterday at a U.N. meeting with the Chinese premier.  

This news shows that the U.S. government has reached the limit of its patience with China regarding trade. Geithner has sold his dollar devaluation scheme to lower unemployment to Congress on the basis of the latter benefit. But the unmistakable consequence of trade tariffs cannot be other than a devaluation of the U.S. dollar. Combined with the possibility of lower foreign competition, it is no surprise that equities are in rally mode. Unfortunately, I feel like I should have been able to anticipate the effect of this, at least on equities.

Long-term Treasuries also sold off today, as a devaluation of the dollar is not good for them either. I will most likely sell my Treasuries on Monday.