-Ehrich Weiss, better know as Harry Houdini, was looked upon as the greatest “escapologist” the world had ever known. Handcuffed and shackled, he would wiggle and contort—sometimes dislocating his shoulders in the process—until finally he would free himself. But after escaping from jails, handcuffs, chains, ropes and straightjackets became mundane; he eventually transitioned to more and more difficult tricks like the “Water-Filled Milk Can” and his coup de gras–the “Chinese Water Torture Cell.”
Contrary to popular belief though, Houdini’s death–widely thought to have occurred while attempting to free himself from the Chinese Water Torture Cell–was actually the result of a blow to the mid-section by a less-than-hulking college student. The trick gone wrong–performed many times during his long career–was a simple show of strength and thought to be immeasurably safer than any of his other under water escapes. But unfortunately, even a master escapologist—given to the human frailty of overconfidence—is vulnerable to making the most obvious of mistakes.
Here’s what happened.
Houdini claimed he could walk away unharmed after withstanding any blow to the stomach. But after a show on the evening of October 22, 1926, a young man by the name of J. Gordon Whitehead struck Houdini before he had time to “lock in” his abdominal muscles, and the results proved tragic. Within hours, Houdini was running a very high fever—later understood to have been a result of his ruptured appendix—and within nine days the master escapologist was pronounced dead.
The Houdini Market
For decades now, the US financial market geniuses have, like Houdini, moved to ever more complex “tricks” as they invented and passed around scraps of paper in what may later be labeled the most reckless financial engineering experiment of all time. Like Houdini, they became overconfident. After all, the tricks–their egos convinced them–would perform within their “defined” risk parameters…just as planned.
Their critics on the other hand, continued waving red flags and talked incessantly about the scraps of paper and the chaos they would later spawn. The “tricks” as far as the critics were concerned, represented the worst kind of financial engineering–the kind that was meant to magically mimic any desired hedge while allowing its borrower to sleep tight at night. The list of tricks is long and we’ve all heard it many times before so I’ll skip it. But like Houdini, the US financial markets have, for years, pulled off trick after trick—many of them at the hand of the once beloved illusionist–Greenspanian—only to come out on the other end almost completely unscathed.
-Two weeks ago we said our model suggested a spike to 36-37 on the VIX and last week’s high was 37.50.
-The model is suggesting that the XBD is positioned similarly to the HGX in 2005. Brokers look to be down 50% into Q2 2008!
-I talked about the idea that a housing bubble the size of the one we’re unwinding would not normally be expected to spare anyone, including the richest of the rich. The problem with the reasoning, according to most I spoke with, was that the rich had so much money now that it seemed impossible for anything to hurt them enough (financially) to shut down the massive liquidity driving the real estate investment bubble at the high-end. After seeing an article about a hedge fund manager dumping his 150 ft. yacht and his new helicopter I think I have convincing proof that the high end of the real estate market can implode just as quickly as any other.
- BKX as good a long term short between 2007 and 2008 as HGX was 2005-2006!
-SHLD is now back below where we sold it and we continue to hold to our target of 67.67 into January 2007 through February 2008! We told everyone that it was an “EPIC” short in our work and they all said the person who runs the business is a genius and that it was a tough call. Remember though, that even geniuses make mistakes. In fact, we recall a Wall Street Journal article talking about his use of extremely complex investment vehicles and the outstanding returns he was achieving through leverage. We think the model is telling us that some of those may have backfired at the same time that his retail business and the real estate portfolio (always thought to be a huge positive) will all be “repriced” moving forward.
-Look at the HGX and stocks like CFC. They’re all unwinding 100% of their gains from the 2002-2003 lows because the advance into 2005-2006 was based on bogus funny-money. The only people who don’t get it yet are home owners. Home prices are going to follow with a disastrous 20-60% decline the people who refied and pulled equity are going to feel worse than they did after the dot.com blow-up. Our parents and grandparents paid down their mortgages religiously and this generation stripped out equity religiously. This is a disaster for the consumer and the US economy and the FOMC is not going to be able to help. They may be able to bail out a few big banks etc, but the deflationary spiral is set in stone and bailing out the banks will only add to our national debt and create a boycott on new purchases of our government bonds by foreigners.
-The way we see it, this market has nothing to do with earnings, nothing to do with the economy, nothing to do with geopolitics as a matter of fact we don’t think it has anything to do with anything going on currently. But what this market has everything to do with is the past. Mistakes made in the past must be paid for in the future and as far as the housing bubble, stock market LBO bubble and hedge fund bubble, the future has arrived.
-On an unrelated note, a women in my neighborhood recently announced that her veterinarian prescribed Prozac for her dog. Just a heads up that things ain’t quite right out there…in case you haven’t noticed.
-The Carry Trade unwind has started and it is ugly. Just ask Australia.
Full report coming soon
