The identity of the Zero Hedge founder has been revealed

Inquiring mind are reading The Dow Zero Insurgency:

As it happens, the founder is a 30-year-old Bulgarian immigrant banned from working in the brokerage business for insider trading. A former hedge-fund analyst, he’s also a zealous believer in a sweeping conspiracy that casts the alumni of Goldman Sachs as a powerful cabal at the helm of U.S. policy, with the Treasury and the Federal Reserve colluding to preserve the status quo. His antidote? A purifying market crash that leads to the elimination of the big banks altogether and the reinstatement of genuine free-market capitalism.

h/t Zero Hedge

Scepticism is quite important in finance

Inquiring minds are reading the Economist's The pedagogy of the privileged:

History courses aside, business schools need to change their tone more than their syllabuses. In particular, they should foster the twin virtues of scepticism and cynicism. Graduates in recent years, for example, seem to have accepted far too readily the notion that clever financial engineering could somehow abolish risk and uncertainty, when it probably made things worse. It is worth noting that such scepticism is second nature to the giants of financial economics, as opposed to the more junior propellerheads. Andrew Lo, of MIT’s Sloan School of Management, was fond of pointing out that in the physical sciences three laws can explain 99% of behaviour, whereas in finance 99 laws can explain at best 3% of behaviour.

The rally in financial markets is driven primarily by liquidity provided by governments

Inquiring mind are reading Investors are betting on a vibrant recovery:

Equity and corporate-bond markets have also been boosted by quantitative easing (QE), the process whereby central banks create money to purchase (mostly government) bonds. That has helped keep the lid on Treasury-bond yields. In June the ten-year bond yielded almost 4%; it is currently around 3.5%, pretty low by historical standards even though governments are issuing record amounts of debt. The fear is that if QE stops, yields may rise sharply, driving up borrowing costs for everyone. “At some point the quantitative easing will come to an end but until it does this bull market is sponsored by [governments] and everyone should enjoy it,” Crispin Odey, a hedge-fund manager based in London, recently urged his clients.

Yet the stockmarket seems to assume a robust economic recovery. The S&P 500 index is trading on a price-earnings ratio of around 20, based on 2009 forecasts for operating earnings. A more cautious approach, using earnings reported under official accounting standards, puts the multiple at 27. Both numbers are well above the historical average. According to Smithers & Co, the American market is 37% overvalued on the best long-term measure, the cyclically-adjusted price-earnings ratio (which averages profits over ten years).

As a result, the markets look vulnerable to a setback. As strategists at UBS remarked in a recent research note: “Liquidity has been a much bigger driver of this market than fundamentals. Liquidity-driven rallies have a habit of reversing violently without warning.”

h/t The Economist

Art Cashin on the end-of-the-day selling

88 week moving average - some voodoo indicator?

Nic Lenoir of ICAP likes to remind us of this 88 week moving average:

The fundamental framework is simple: we are experiencing (experienced?) a bounce in industrial production and it led markets up, while they were at the same time being supported by many incentives produced by the government to invest in distressed securities. Given the amount of shorts the bounce also became a squeeze, and in turn it appears that the positive sentiment has spread. Bear in mind the consumer is sensitive to a turn around by 50% in equity markets, and it can help her/him forget partly his precarious situation, or at least give him hope. Hope was also made more affordable by the "hope anything" programs in place, and the "cash to buy a car you don't need" incentives, not to mention tax rebates. This created an explosive cocktail, and while I think markets have gone way to far on the upside, and very little has been done to solve the real issues, one must recognize the move could potentially go a lot higher. Unlike rates which can hardly go much lower than zero, stocks can go just about anywhere from these levels.

That's why it's key to watch the markets and see what indication they give us that we may, or may not, be turning soon. First we tested the 88 week moving average, and like it or not, it has been your best friend over the past 20 years to trade stocks on a big macro picture. Some ask why 88? Well, that's because it corresponds well to the pace of the long term dynamics for the S&P market. Envelop theory states that to call a change of trend in a bull market for example, one need to find the moving average that best covers all the lows, and if there is one with a great fit, wait for a break to be confirmed, but in doubt buy every test of this support (and conversely for bear markets). Knowing that and looking at the 88 week moving average, it's pretty clear...

h/t ZeroHedge

"Many private equity firms are hoping that daylight doesn’t shine on the corpses of their companies"

Inquiring minds are reading an article by Andrew Ross Sorkin of the New York Times A Financier Peels Back the Curtain:

“We all had too much money. It was just too easy.”

That’s the unvarnished appraisal of the private equity business by Guy Hands, perhaps best known for his unfortunate $4.73 billion purchase of the record company EMI in March 2007, the peak of the buyout boom — a bet that will almost certainly lose his investors and his firm, Terra Firma, a fortune.

That ill-timed acquisition aside, Mr. Hands’s surprisingly candid assessment of the private equity industry is worth sharing. He was in the midst of the industry’s growth to dizzying heights during the debt-fueled boom, and he is now having to deal with the aftermath of its shopping spree. Like others, he is desperately trying to keep businesses afloat and pay off the equivalent of huge monthly mortgage payments to the banks that financed them.

The problem, he said, was that the funds had grown so big that the 2 percent became just as important as the 20 percent.

“Clearly a large number of P.E. firms were totally overpaid at the peak of the market,” he said. “The fees were an entirely unwarranted windfall, as the managers did not use the excess fees to invest in resources to grow the skill base of their funds.”

He estimated that the private equity firms’ “net earnings will decline a minimum of 80 percent from the peak in 2007.”

Success had less to do with performance or risk management, he said, and more to do with bulking up. “It is time for investors to see through the elaborate marketing machines created by the industry,” he said.

Between sips of his mint tea, he said that during the boom, investors had thrown so much money at so many private equity firms — some of which formed consortiums to buy businesses from one another — that they were “really investing in the same thing so their capital was competing against itself, driving up prices.”

He also argued that private equity firms formed consortiums not to spread risk, but because, ultimately, it was easier than going “through the pain of gaining internal consensus to do something contrarian.” The big firms would counter that consortiums allowed them to buy bigger companies and to spread the risk.

With banks still holding back on loans, some on Wall Street have suggested that the private equity industry is dead. Others argue that the biggest firms — the Blackstone Group, Fortress Investments, Kohlberg Kravis Roberts & Company, which is planning to go public — will survive, albeit in a different form. Last year, Stephen A. Schwarzman, the co-founder of Blackstone, said, “The people rooting for the collapse of private equity are going to be disappointed.”

Mr. Hands is not rooting for the industry’s demise, but he is predicting it will wither. The firms still have funds big enough to last them at least a decade, as they provide steady fees. “Right now, the big firms have a tower of fees,” he said. “But the tower starts to collapse over time.”

As the funds dry up, Mr. Hands expects the firms will struggle to raise enough new money to support the hundreds of employees they now employ. His prediction has a precedent — that’s what happened to venture capital after the late 1990s. The industry shrank sharply after it became clear that too much money was chasing too few deals.

But the pattern may play out in slower motion for private equity. “Neither the banks nor P.E. want to come clean about mistakes,” he wrote in his notes. “Hence companies will live as zombies unable to grow their businesses or make long-term commitments. Meanwhile banks will try to suck out as much money as they can in fees and postpone recognizing the full extent of the losses of their underwriting decisions.”

In the end, he said, “Many P.E. firms are hoping that daylight doesn’t shine on the corpses of their companies, so they are reluctant to restructure too quickly.”

Of course, it’s possible that some firms will make terrific bets now, in the depressed economy, and will come out even stronger when things improve.

h/t ZeroHedge

Some private equity wisdom

Inquiring minds are reading Interview with David Bonderman, the founding partner of Texas Pacific Group ("TPG") and an alumni of Harvard Law School, on what it takes to be a successful private equity investor:

Harbus: What do you think makes a good private equity investor?

DB: Being a good private equity investor is more complicated than it seems. I would say that there are a few characteristics that are important. If you look at the skill set that you need to ultimately be a successful private equity investor, at least at the senior level, you have to be, in this business, a good investor. You have to be able to help companies perform and you have to have judgment around exiting investments. If you look at the skill sets there, they include some things you can teach and some that you can't.

One of them, of course, is being a person who has good judgment about businesses. A second is someone who's pretty analytical and understands how to deal with numbers. A third one is personality, because in the private equity business, there's no deal unless you can persuade somebody to sell you their company. And as you say, there are many competitive situations here. So if many of us are all out there competing, and people like you and they don't like me, they're probably going to be interested in selling their company to you, and not me. So, you have to have a mix of those talents.

In addition, a very important characteristic is having a nose for value.

That's why some of the very best private equity people, in my experience, are people who start out as stock pickers - people who really understood value, how to take a company's financials apart and couple that with good judgment about businesses, macro trends, and where things are going.

It's a complicated skill set, and probably no one is perfect at all of them.

The more you start out with the right kind of personality, the right kind of smarts and the better the training you get, the more successful you're likely to be.

Harbus: Mr. Bonderman, you've obviously had a very successful career in private equity. What do you enjoy most about your job? What has been the most challenging aspect of your career path?

DB: Let me answer those in different ways. For me, one of the highlights of being in the private equity world is that you need to learn a lot and very quickly about different businesses. So it's always a continuing learning experience where you can apply what you know, of course, by way of judgment and by way of numerical analysis. You're always investing in new businesses, which is a learning experience in itself. I think that is a wonderful thing and I think it makes for intellectual challenge and for continued personal growth. That, for me, is the highlight of this job.

You have a challenge every day in figuring out what's happening in the markets, where your next deal is coming from and so forth. So there is always a continuing challenge - but this is a financial services business, it's not brain surgery. The challenges are all about getting it right, but in the scheme of things, there is plenty of latitude to get it wrong.

h/t ZeroHedge

Insiders are selling

Inquiring minds are reading Corporate insiders continue to increase the pace of their selling

The bravest face you can put on corporate-insider behavior right now is to point out that they're often early -- anticipating market moves by as much as 12 months in advance.

But otherwise the message from the insiders is rather sobering: They are selling a whole lot more of their companies' stock than they are buying. The net difference is even larger than it was two months ago, when I noted that insiders were already selling at a greater pace than at any time since the top of the bull market in the fall of 2007.

Consider the latest data from the Vickers Weekly Insider Report, published by Argus Research. For the week ended last Friday, according to Vickers, insiders sold 6.31 shares for every one than they bought. The comparable ratio two months ago was 4.16-to-1, and at the March lows the ratio was 0.34-to-1.

As Vickers editor David Coleman puts it in the latest issue of his newsletter: "Given the dramatic decline in our sell/buy ratios over a relatively short period of time and the robust rally we have seen in the broad market averages, we expect the overall markets to trade flat to downward in the intermediate term -- and with increasing volatility. Overall insider sentiment is bearish by nearly all metrics we track."

Mish writes:

As Hulbert mentioned, insiders are not always right. Moreover one should not use insiders buys and sells as a timing device but rather a gauge of sentiment, and that sentiment is as extreme as it gets.

h/t Mish

Flash trading is no big deal?

From themistrading.com

So, how could Cramer say that flash is no big deal. The CNBC website couldn’t even believe that Cramer was in favor of Flash trading. They wrote , “Believe it or not, Cramer said, “This is actually a part of the market that’s working.” http://www.cnbc.com/id/32915415

So, Cramer says milliseconds don’t matter for the average retail investor. But those milliseconds have contributed to a multibillion dollar high frequency trading industry. This money is not created out of thin air (sorry, Ben Bernanke not in this part of the business). Somebody is losing here. And, the retail investor is one of the losers. Lets look at an example of how they lose that somehow Cramer seems to have failed to mention:

1-The market on XYZ is 21.05 bid for 500 shares, 500 shares offered at 21.08.

2- Say you want to buy 500 shares of XYZ at 21.08. You place a buy order with a $21.08 limit through your online broker .

3- Your broker routes to a market center which utilizes the flash method. Before your order gets routed to the market center which has the $21.08 offer, it is flashed to a subset of market participants.

4- A flash subscriber see this buy order coming and decides to trade in front of it and buy the 500 shares at $21.08 for their own account.

5-You get nothing done and 500 shares trades at $21.08.

6- It is very possible now that another market participant sees this trade and then bids $21.09 for stock. The buyer who took your stock then offers it at $21.10.

7- You are frustrated that you got nothing done and then change your limit to $21.10 and buy the stock.

Some people may say that it is only 2 cents and shouldn’t make a difference. Well, maybe 2 cents isn’t a big deal for this one trade. But do this thousands of time a day and it adds up to real money that is being siphoned away from retail investors.

h/t ZeroHedge

Sideline cash debate

Mish writes:

Anyone advising clients to "buy the dip" based on sideline cash shows a fundamental lack of knowledge about how markets work.

For every buyer of securities there is a seller except at IPO time, secondary offerings, ect. Thus, it is virtually impossible for money to come into the market in normal day-to-day trading transactions.

For example: If one firm invests $100,000 in equities, then another firm will be selling $100,000 in securities. The end result of the transaction is "sideline cash" moves from firm A to firm B.

Furthermore, because of monetary printing, one should expect the amount of "sideline cash" to rise over time. Sideline cash is higher than it was 10 years ago and will be higher 10 years from now barring a huge number of IPOs or secondary offerings that would suck up some of that sideline cash or a period of heavy monetary draining by the Fed.

h/t Mish

Leading economic indicators rise for for the 5th straight month

The Conference Board said Monday, September 21, the Leading Economic Index (LEI) for the U.S. increased 0.6 percent in August, following a 0.9 percent gain in July, and a 0.8 percent rise in June.

Bill King of Ramsey Securities says

LEI, which has increased for five straight months, is heavily weighted to monetary indicators and the stock market. Its predictive value for the stock market has been poor due to over-used monetary stimulus.

Barry Ritholtz says

The LEI trended lower from 1997 to 2000 as US stocks bubbled. It declined from 2004 to 2008 as the monetary medication carried a diminishing effect on the real economy.

h/t The Big Picture

Art Cashin on Dow 10,000

Bob Janjuah is changing his trader hat to investor hat.

Bob Janjuah, chief credit strategist at Royal Bank of Scotland, is back with his market missive.

View on currencies:

With this hat on, it is clear to me that, as we get into Q4 09, and probably for the next 12/18/24 months, I DO NOT want to own 'risk' (credit - esp. HY, equity), I DO NOT want to own USDs and GBPs on a long term basis, and I DO want to look at owning assets in EUROs (and maybe also JPY and AUD). In particular, because the ECB is by far the most credible central bank left when the choice is between the Fed, the ECB and the BoE, it appears to me that the Eurozone will drop into the debt deflation zone sooner rather than later and will by-pass the the MONETARY inflation risks so prevalent in the UK and US, thus on a decent investment horizon, I want to own very long dd govt debt issued from core-Europe, esp. of course Germany and France. I think getting a 4%+ carry on a multi-yr basis on German sovereign risk and ECB prudence makes an awful lot of sense at a time where not much else really has ANY VALUE left.

Market outlook:

Anyway, let me say 1st up that even though its all been pretty marginal, the RISK here is that over the next month or so we see risk assets go even better. This is a TACTICAL call and is NOT a change in the 3/6mth secular call, which REMAINS BEARISH. Andy Chaytor set some levels last week which I am comfortable with - there is a 60/40 chance that S&P trades up to 1120ish by end Sept/early Oct. I think the next month will be volatile and NOT straight line, but on balance the risk is that by month end/early Oct, risk assets will be better. And YES, I know that Sept is seasonally one of the weakest months, that we are already 5% off the Aug highs, and that 'everyone' - even the bulls - think we need a period of pullback/consolidation, but for me the perfect head fake will be a strong (but volatile) Sept.

I do however think that we are VERY MUCH in the tail end of the correction of the Oct 07 to Mar 09 bear move, where S&P lost nearly 60% from peak to trough, and where the correction from the Mar low would, at 1120, represent the 50% retrace. Once what I assume is a bear mrkt correction finishes, over the next month or so, I expect the Bear to return with vengeance and I retain my call for NEW LOWS in equities. That's 550 S&P!!

Of course if I am wrong then additional Stop Losses are critical. For me, the next stop loss is at 4 consecutive S&P closes above 1120. I recognise that the weight of opinion/mood is against me, and that it would be far EASIER for me to roll over, get with the herd, and move to the bull camp. But I have yet to see anything that convinces me otherwise - the ISM going back up to 50 was what Kevin told me in Jan/Feb we'd see, by around August time - and critical here is the call on whether balance sheet health & sustainability matters or not. Until I see hard evidence telling me otherwise, I will run the risk of being labelled unpopular/a perma-bear/blind/stupid - take your pick, I have been called much worse...by my wife!

h/t ZeroHedge

Vuitton never puts its stuff on sale. The company would rather destroy products.

Inquiring minds are reading LVMH in the recession:

... It is the only leather-goods firm, for instance, which never puts its products on
sale at a discount. It destroys stock instead, keeping a close eye on the proportion it ends up scrapping (which it calls the “destruction margin”).

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