Sunday, May 03, 2009

Financial Gitmo

I am a survivor of the Japanese bear market. Twelve (or twenty - depending on your school of thought) long years of it. Call it "Financial Gitmo". The lessons of this incarceration were varied, and the experience invaluable - indelibly etched upon my brain for ease of retrieval when required in the future. Like now. One such lesson was that once the initial violent trauma of the market waterboarding dissipated, the mind-fucking treachery and psychologically-painful water-torture begins. Not unliike being forced to watch the same lame episode of "Kudlow & Cramer" or being subjected to a Mossad interrogation (at least according to recountings of the tens of thousands of Palestinians so graphically subjected).

Deeply oversold markets can rally for all manner of reasons: simple sellers' fatigue; government intervention, whether directly in markets (PKO anyone?) or indirectly through moral suasion, jawboning, or policy response, inciting the feedback loop to short-covering, which, causing higher prices fuels positive momentum and the optimism that the worst is maybe, possibly, hopefully over. The Strategist weatherwanes (like Abbey Cohen or Alex Kimmont) chortle which way the wind is blowing rather than where it will blow tomorrow. Professionals get squeezed-in to further penalize their (and their customer's) less than prescient capitulation at or near the prior lows. These episodes typically last longer than most bears can tolerate, both in time, though more acutely in P&L. They decry the move and point to fundamentals (and they are of course right, though it matters not). They conjure conspiracy and highlight manipulation (and may be right) but it gets no traction for the bullish side has more constituents than the bears. Their confidence wanes with their P&L, each higher intermediate-term low pushing them one step to closer to covering. The trend-followers have long-since bailed - even the longer-term programmes are turning bullish. Markets do, after-all, lead, don't they? Finally, like the interrogated, the short is broken and confession to anything and everything is achieved. And like a false confession, this capitulation is a hollow victory for the bulls and the market, since it is likely to be an intermediate-term top - NOT an early whistle-stop along the New Prosperity Line, particularly where The De-leveraging is The Big One.

So hearing Mobius, Cohen, and other pundits speak of bull-markets and greenshoots is predictable. But I reckon that Mssrs Schilling,and Roubini, will in time - once again - more likely be correct insofar as I believe continued recession and mild deflation will predominate longer than optimists (and inflationists)- and in particularly longs, can bear once the shorts have sufficiently covered and the intermediate term optimism rolls over with the continued bleak news flow. Then, the trend-followers will mechanically bail, and reverse positions, prescient programmes and specs, too, will re-establish their shorts, until finally the squeezed-in will, once again get squeezed-out, and those amongst us with weak constitutions will be forced to hide the pills and sharp objects to avoid .... tragedy.


Anonymous said...

Can you share your experience with respect to how you survived a 20 year bear market?

"Cassandra" said...

A good place to start is to be short as much as one is long; reasonably diversify bets across frames and factors; be contra-trend in most of the cross-section but cautious on the tails of the really shitty and veritable growth; be parsimonious in shorting highly shorted-names; know your enemy and be wary of your friends...

Common Schlemiel said...

Do you have any advice to protect against governments' actions that reward outright stupid behaviours and penalize the prudent?

bkmrkr said...

I love your blog but:
"Mossad interrogation (at least according to recountings of the tens of thousands of Palestinians so graphically subjected)."

Do you have a source for this? Stick to financial markets and I will stick with reading your blog.


Jim in MN said...

Thank you for sharing your insights as it is now apparent that US policy is in fact to coddle the damaged zombie banks because of their fear of bond market dislocation. Thus, the most likely scenario is a Japan-style torture...shall we call it 'slowmelt'?

My questions, for your consideration:

1. What's the best household investment strategy (did the Japanese housewives do the right thing)?

2. What particular lines of BS from the government and the banks stand out for you as particularly memorable?

Thanks again for your perspective and outstanding writing style. Sometimes you don't post for a long time and it's always great to find one like this. The blogosphere has caught on to the real policy--'The Tab' as you called it--and I think your takes on the Japan/US parallels will find many readers if you care to delve into specific subtopics.

--Jim in MN

Anonymous said...

The Mossad is nothing but another thuggish outfit with an overblown ego however the overt carpet bombing of defenceless civilians in Gaza will forever remain a shame on the one-dimensional conscience of those who keep on harping about the Warsaw Ghetto atrocities.

Ecclesiastes said...

Sorry, Cassandra, but i don't understand your advice "to be short as much as one is long". It looks as if you are suggesting to hold equal sized short and long positions. But i cannot see the logic of it, so i must be missing something. Can you please explain, using an example?

"Cassandra" said...

Ecclesiastes -
It's wonkish advice. The Japanese experience saw every rally suck people, only to chew them up and spit them out, the ranks of investors thinning with each failure. But as the old saw goes: there is always a bull market somewhere - even if intra-market between stocks. I've always found it easier to predict relative outperformance between securities, or securities relative to their benchmarks than where the general market level will in in 3mo or 6mo. So in such an environment, I prefer market neutrality to punting on low probability directional specs.

Common Schlemiel -
No. Each day I try and answer the question. No but essentially assets be they Energy complex shares silver, a working farm, an alembic, Short Japanese Yen, Short SFR?

Jim MN - Thanks.
In the sense that they shunned shares (and still shun them) and started buying foreign high-yielding bonds, and trading FX, they did the right thing considering where the market (and Yen) has been and is today.

The only real BS I recall was the jawboning of stimuli - much of which often wasn't spent. Most of the BS was Stealth: so-called "PKO" where the KAMPO would dole out cash to the trust banks to goose the market (and squeeze foreign short-sellers). But they were sloppy and their foot prints were everywhere and they pissed away far more than they needed to, and in the end the dam burst.

The banks were peculiarly silent. No stress-tests. Snails-pace rationalisation that eventually saw voluntary and forced marriages where appropriate, and typically in response to the market (concern over lines, ratings agency downgrades). Mind you, the experience of the clever foreigners taking over "the good bank" with fresh capital doesn't cultivate much hope in the US. Clearly the smart guys aren't in finance...

In the financial sector, the MoF-private sector convoy was well-managed and few - if any - broke ranks. The unruly were put out of their misery as quietly as possible.

But, now that I think about it, what comes to mind was the political difficulty in doing the tough things - be it killing the banks or the opposite, rescuing them. Like the US today, the "bailout rage" was (in its own way) high. So all they could do was steepen the yield curve with ZIRP, be lenient on non-performing assets,buy dodgy-illiquid collateral (shares in their instance) and partially recapitalize with preferred shares. And let time do its thing.

And so after 20 years, Japan sits with a Govt debt to-GDP at 120% twice the US (excluding 2009). And they still own the dodgy collateral (shares) through DIC, BoJ and other entity with a cost base higher than present.

As for Mossad, the accounts are far too numerous and have been consistent in their accounts since before the first intifada, but predictably are heavily discounted by maintstream media precisely because they are Palestinian accounts (or peacenik-intermediated) sources through ubiquitious labeling of detainees as terrorists, terror suspects or other similar semantic ilk. This one gives a text-book account of the almost identical stories by the multitudes of Palestinian detainees. They are easy in any event to find if one looks.

Kieran said...

Well said, once again. I leg into longs when the Stochs are low and leg into shorts when the Stochs are high. Slowly but surely I grow a little more bearish and bullish the longer and more intense the rally in any one direction. I lost money in late February and early March, and I made a crap ton (by my modest standards) in mid-March. Now I'm giving some of it back on the short side, which I only entered recently. Some of my shorts have stops and some don't. Same for my longs. Some of my bullish picks I'll keep no matter how bearish I get. If we see S&P 400 I'll be out of all my shorts.

It's a big Vietnamese style stew of an investment portfolio to try to survive the rollercoaster.

Mori said...

1. Japanese bear market rallies were very intense affairs, averaging +50%, lasting 12-18 months. 2. Economy-wide, there was no deleveraging. Corporates paid down debt, but govt. liabilities exploded. 3. Japan had the social capital to withstand an 18 yr bear market (peak to recent trough)with the accompanying freeze-up of growth, loss of opportuntiy for 18-30 yr olds, rise (yes, rise) in income differentials, etc. Nowhere else does, which is why policy will follow a very different trajectory with very different outcomes.

Anonymous said...

Perhaps the definitive description of the process. I should know, I threw in the towel today and I know that it was a mistake. But I had to do it. And the trend is reversing as I write this.