December 19, 2011
Good morning. The market posted a pre-holiday loss last week, with the SPY down 4.46 (3.5%) to close at 121.59. The VIX, however, was down 7.9% to close at 24.29, reflecting investor anticipation of markets entering a more holiday (meaning quieter and less volatile) period leading to the New Year. That would normally be the expectation, but the last few years have been anything but “normal” so if the premium levels decrease too much it might be worth putting on a position that would benefit from some unexpected movement. Market sentiment continues to be a fight between the potential contagion in Europe (and the US role in any so-called solution), slowing economies in developing markets (Europe is China’s biggest customer), massive debt levels and political gridlock in Washington, and continued problems with labor and the housing market on the one hand, the other being the unmistakable small but steady pick up in economic data (including individual tax receipts) that seem to indicate some growth in the US despite the problems. It is hard to imagine that the economy would be able to fight the headwinds, but maybe (with the help of the Monetary and Fiscal stimulus being applied at the Federal level) it is beginning to do just that.
I have watched with great interest the unfolding of events surrounding the MF Global situation, and frankly am appalled by the lack of honesty and talent at virtually every level of the mess. When I use the term “frankly” I have to almost cringe, as I read a study once on people and credibility (especially in showcase sort of things like testifying before Congress) and the conclusion of the study was whenever someone precedes a statement with something like “Quite frankly” or “Truthfully” there was a huge chance that the statement was totally false. Anyway, I digress. We have seen a very large firm implode for really a variety of reasons, maybe chief among them the fact that the current Fed policy of virtually zero interest rates is having a massive impact on savers and any industry (like the Futures industry and to a lesser extent the Securities industry) that relies on interest income as a main source of revenue. Add to that a new CEO, John Corzine, a man of massive ego who wanted little to do with making money in MF Global’s historical space and wanted to become a Treasury Prime Dealer and competitor to his old firm, Goldman Sachs. Somewhere along the line the Firm began to stretch the boundaries of new Regulations that allowed (amended regulations pushed recently through a very lame and disinterested CFTC to a large extent by MF’s General Counsel) increasingly risky short-term investments with customer funds, and when there was pressure on the Firm somehow some customer funds were allegedly used to cover Firm margin issues and losing trades. Whatever the case, as it is still being investigated, estimates of up to $1.2B of customer funds are “missing” and most accounts are in some stage of being “frozen.”
The Regulators that have descended on the Firm have included the Chicago Mercantile Exchange (CME), the Commodity Futures Trading Commission (CFTC), the SEC, FINRA, SIPC, the NFA, and maybe more. I ask the question like you would ask a head coach, “Coach, if you say you have three quarterbacks, doesn’t that really mean that you have no quarterback?” Who are all these people, what are their backgrounds, how did they miss all of this, and how much are we paying them to hang around in town and go for dinner and cocktails? I have focused in on the current and former CFTC Commissioners, and I urge you to go to the CFTC website and review their bios. It is not my job to denigrate people I do not know, but I suspect I would find some agreement with a lot of readers in saying being a “devote” Congressional staffer to some big-shot Congressional hack would not exactly be my idea of a qualification for the Board of such an important Agency. It appears it has become a “reward” position for anyone who works for a key Senator, like two from Tom Daschles line of staffers, one from Harry Reid, one from Mitch McConnell, one from Robert Dole etc. It surely does not surprise me that this stalwart “group” was putty in the hands of someone like Laurie Ferber, current MF Global general counsel, a 20-year veteran of GS, and one of the people allegedly most responsible for the changes over time in CFTC Reg. 1.25, the Regulation that governs where Futures firms can invest customer money. Two things bother me about this. One is that the Commissioners had this really bad idea blown by them like the lightweights they were/are, and now they show no remorse whatsoever about how the whole mess has worked out. Does anyone feel they should take any responsibility for their inattention or incompetence? What do they actually think the responsibilities of holding such a position should be, just take your “reward” position, sit there like a bump, don’t rock the boat, take your check, never say no to someone from influence? What a waste! If everyone in government is becoming that useless, does anyone other than me get very concerned about how many people the Fed is hiring?
One more comment on this mess. MF Global CEO John Corzine (former august Senator and Governor) mentioned in his Congressional testimony (when he wasn’t saying how much he would really like to tell us but had been away from his MF computer so long he could recall nothing) that some of the Board Members of the MF Global Board vigorously opposed his “more aggressive” investing strategies involving both customer and Firm money. Why, I ask, if they felt that strongly about it, didn’t one or more of those Board Members resign over the issue. It strikes me that too risky of investments regarding customer funds is something a lot of people in that position would oppose. If you resign and say something like “I have always felt that the safety of customer funds is a sacred trust and of paramount importance, and clearly the new CEO does not have the same leanings, so I felt it best to give him the opportunity to select someone more partial to his competing views on the issue” maybe it raises a red flag. Somehow we need some leadership at all levels, the type that comes from honest people just paying attention and doing the right thing. Where is it? If you watched John Corzine testifying in front of Congress as I did, was anyone else as terrified as I am as to how this pompous finger pointer ever influenced an electorate enough to became both a Senator and Governor, and what harm he may have caused in those two positions? It boggles the mind.
I would hope, however, that before a much needed industry (commodity futures) becomes totally destroyed the regulators would somehow get together, find a leader that does not have to recuse himself (like the current Chairman of the CFTC), and get this fixed. Maybe we need a President that understands the importance of an industry that most of the farmers and food manufacturers depend on, and that has a feel for when the regulators (his employees) are getting bogged down or are just incompetent, and picks up the phone and does something about it. We do not have one of those either it appears, small wonder the people under him act like they do. He must be off campaigning or raising money, the real important stuff.
As far as trading goes, I will give a year in review next week. It has been a tough year for those that like to trade fundamentals, and even though the market has become very correlated on a daily basis it was real easy to have a group of “good” stocks and have one or two of them ruin your year. It has been a good year to be hedged in the Protected Index Program or our (in the works) “Dividend” program, but even though those type of strategies helped in risk control and in calming the volatility they are still suffered from the decreased call option premium that is due to the very low interest rates. The weekly options have brought some new opportunity, and we look forward to profiting well next year due to their more rapid time decay, and the volatility skews they sometimes show. In fact, if the weekly options get too cheap this week due to the predicted holiday slow markets we may take a position that would benefit if some movement were to happen. Even though I have been surely early at best, I still believe that somewhere next year we need to be seriously short these bonds, because I cannot see how both our slight up tick in economic activity can gain strength through the year while interest rates remain this low. I would predict that solid growth and 1.7% ten-year rates would not coexist.