Risk/Reward Vol. 95
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"Did you ever get the feeling that the world is a tuxedo and you are a pair of brown shoes?"---George Gobel on the Tonight Show, 1969
"Now don't be sad/Cause two out of three ain't bad."--Lyrics from "Two Out of Three Ain't Bad" by Meatloaf
"Get your money for nothing, get your chicks for free
Money for nothing, chicks for free"---Lyrics from "Money for Nothing" by the Dire Straits
Having enjoyed the market's uptick on Monday, I began Tuesday in the usual way: reading the Wall Street Journal (WSJ), the Investor Business Daily and the Financial Times (FT). As shared previously, FT is by far the best of the three at reporting financial news, its editorial page nothwithstanding. I have never read a more depressing edition: caution from commodity miners; UK bank regulators requiring UK banks to plan for the disintegration of the Eurozone; Italy and Portugal secretly pressuring their banks not to sell sovereign bonds while their shareholders demand they do; the Polish foreign minister pleading with Germany to do whatever is necessary to prevent a Euro crisis of "apocalytic proportions". But, what really freaked me was a small story on how in the previous week, the European Central Bank (ECB) had lent 8.6bn. Euro to some European banks but had not received in return customary long term deposits in corresponding amounts from other banks. It was also reported that the cost of European banks to access all important dollars was becoming price prohibitive. This spelled the potential of a huge liquidity crisis (read; banks literally running out of money, especially dollars, causing a run on others) which could unfold very quickly---a possibility that was discussed on CNBC that afternoon on my drive to Madison. I decided to exit virtually all of my positions at that time.
Come Wednesday morning, I awoke to the news that the US Federal Reserve and the central banks of Canada, Switzerland, the UK were riding to the liquidity rescue of European banks by providing them access to unlimited amounts of dollars--on the cheap. On this news, some positive US economic data and word that China was making credit more available by lowering its reserve requirements, the market SKYROCKETED almost 500 points--with me on the sidelines. Talk about the world celebrating in a tuxedo and me being a pair of brown shoes!
But, was I wrong to exit? Don't get me wrong, I would have loved to take the 500 point ride upward on Wednesday. However, knowing what I knew and when I knew it, I still believe I made the right choice--for me. I did not need to chance what could have been a run on some European banks if the Fed had not acted. Moreover, even if I had enjoyed the 500 point ride, I would have exited on Thursday or Friday for the reasons stated below. So in retrospect, I took advantage of Monday and Tuesday to exit at nearly a break even point, but forfeited the Wednesday rise. As Meatloaf croons, "two out of three ain't bad."
So what does the action taken by the Fed mean for Europe? It allows European banks to operate--at least in the short term. As detailed previously, the traditional sources of liquid funds, especially the US dollar, available to these banks (e.g. US money market deposits, interbank lending, etc.) have evaporated because they are currently deemed too risky of a "counterparty". And now, their lender of last resort, the ECB, is literally running out of long term deposits and refuses to print more Euros for fear of inducing inflation. The Fed has interceded and is now, in effect, discharging one of the ECB's roles by providing an unlimited amount of dollars (more desirable than Euros these days) to these banks at a rate much lower than that available to US banks. It is now clear that the third phase of quantitative easing (QE3) has begun, and that QE3 is a ship full of dollars heading to Europe! I am not criticizing this action. Indeed, it stemmed (or at least postponed) a catastrophe, but don't think it won't eventually cheapen the dollar. There is no such thing as "money for nothing". And believe me, as the husband of one and the father of four, chicks aren't free, either.
Supplying money (at least dollars), moreover, does not solve the underlying problems facing Europe---too much debt, too little growth and an unholy fear of inflation. As I have written numerous times in the past, like it or not, the quickest and most direct way to address the sovereign debt situation is for the ECB to print more Euros, to be used to buy and hold as much of the sovereign debt of the PIIGS as is necessary to stabilize the situation. This is how individual European counties have handled debt crises in the past when each controlled its own currency and had its own central bank. It's called inflation. Why not now? Because, Germany believes that such an action will operate as a huge transfer of individual country debt to the EU collectively and thus disproportionately to Germany (which is true) and will only encourage future irresponsibility on the part of its Euro partners to its south. Sorry, Deutschland, you when you partner with irresponsible countries there are consequences. Will Germany continue to resist ECB sovereign debt purchasing even if further resistance means the destruction of the Eurozone, the consequences of which are unfathonable? The clock is ticking. Italy alone must refinance a huge portion of its debt in January and February, 2012, and it cannot afford to do so at the sky high interest rates that will persist if the ECB is not allowed to purchase more Italian bonds. What a mess! Think of it--the health of the financial world is now dependent on the good will that Germany feels toward its neighbors--a country that in the past 100 years started two world wars against those very same neighbors and commited the most heinous act of genocide in modern history. Geez!
That is why I am out--- again. Call me a yo-yo, a traitor (or worse a trader), unsubscribe and burn all back editions--I don't care. I am ahead for the year albeit a little below where I exited in July. And, unless and until more certainty comes from Europe, I will remain out-- just like the proverbial fat kid in dodgeball. Certainty may emerge next week at the European summit; it may happen in advance of the Italian debt issuance in January; it may not happen at all, in which case there will be a period of ugly disengagement and most certainly a precipitous fall in the stock market. At my age and stage where preserving principal is of paramount importance and where I still can generate a good income from the sweat of my brow, I just don't need to take the risk.
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