Last weekend, by mistake, I bought a book on my Kindle called The Greatest Trade Ever: The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History by Gregory Zuckerman.
Amazon is usually pretty good about refunding money if you've made a purchase in error. However, in this case I thought, oh, what the heck, I'll just read the book.
And I'm really glad I did.
The book covers the same ground that Michael Lewis's The Big Short does; that is, how a few investment managers made unbelievable amounts of money for themselves and their investors by betting against the U.S. housing market. Paulson, obviously, is covered in great detail, as is Michael Burry.
However, given my profession, I really like the detail that Zuckerman goes into on the nearly daily machinations that the managers went through.
I am going to write more about the book, and the lessons that I have gotten from it (I'm about halfway through at this point), but I wanted to mention one of the main points that really stood out when looking back over that period.
In the middle of the last decade, everyone, it seems, knew that house prices were rising too fast. Everyday the business press had some pundit describing the housing market as a "bubble".
Yale professor Robert Shiller even added a chapter to his book Irrational Exuberance (which had correctly forecast the tech stock bubble of the late 1990's) describing how house prices had risen too far, too fast, for economic reality.
And yet you had to wait several years before house prices began to crack.
Zuckerman's book describes the agony that Burry and Paulson went through as they waited for at least two years before house prices began to fall, as they knew they would. Wall Street laughed at them, their friends thought they were crazy, and some of their investors pulled their money.
But in the end they made billions.
The point is that economic and stock market train wrecks usually take longer to occur than anyone expects. But when they occur, they are often worse than anyone forecast.
Which brings me to the point of this post (finally!).
Most economist dismiss the idea of an economic "double-dip" at this point. They point to rising stock prices, driven by mostly good corporate earnings figures. True, unemployment rates remain unusually high for this point in the economic recovery (assuming the recession ended in June 2009), but this could be due to structural issues, and not necessarily economic weakness.
At the same time, the credit markets are telling a much different story. As I write this, the 10-year Treasury yield 2.94%, and the 2-year Treasury is 0.58% (an all-time low). Corporations are sitting on $1.8 trillion of cash - what are they seeing (or not seeing) that is causing them to hoard so much cash?
Yesterday Fed Governor Bullard came out with a warning on deflationary pressures. Now, this morning, he's backtracking somewhat, but I suspect this was probably the result of a few phone calls from Washington. What what noteworthy about Bullard's comments was that up until recently he was viewed as an inflation "hawk". What is he - and the Fed - seeing in the economic data that is causing worry?
Ambrose Evans-Pritchaird's column in yesterday's London Telegraph points out that the data is slowly pointing to more slowdowns, more downward pressure on prices. Much like the housing market of a few years ago, the trend is in place for all to see, but because it is a gradual process many are not taking it seriously:
I have no idea what assets prices will or will not do. My area of curiosity is the global economy, and where it intersects with political, cultural, and historical forces.
But here is a note I received today from Tom Porcelli at RBC Captial Markets that puts uber-bullish earnings rhetoric in a proper context.
It seems like on a daily basis the headlines point to yet another company beating earnings expectations. The tally thus far shows 142 companies out of 172 have surprised to the upside for a significant 8pc beat-rate. On the face of it this seems promising.
But the sales figures (i.e. the part that measures organic growth) have been less than stellar. Thus far, they have shown just over 9pc growth versus last year’s figures. But sales were down nearly -14pc in 2Q09 – hardly a tough comp to best!
While 68pc of companies have beaten sales estimates, this is hardly anything to get overly excited about. Back in 2Q08, 69pc of companies had beaten sales estimates. We all know where the economy headed shortly thereafter.
The numbers should be taken with a grain of salt. Below the surface, the earnings reports continue to confirm what we have been saying – that this recovery is anaemic at best.
In the end, the global macro economy will dictate the outcome.
So watch the Chinese banking system. Watch Japanese exports. Watch OPEC as it keeps cutting output to hold up the oil price. Watch Euribor rates and the continued contraction in eurozone lending to companies. Watch French industrial output. Watch Polish sovereign debt (that’s a new one).
Watch the M3 money supply in the US as it contracts at a 10pc annualized rate. And for goodness sake watch the Fed Board.
Then sit in a deep leather arm-chair with a good Calvados, listen to Bach Fugues, and think.The last line is one that I particularly like.
Drip after drip of deflation data – Telegraph Blogs