After the Gold Rush

By Todd Harrison  JUN 13, 2007 8:19 AM

You can't blame the bulls for their seemingly incessant risk appetite...but there is cause for pause, however...


"Money itself isn't lost or made, it's simply transferred from one perception to another."
--Gordon Gekko

Carl Fox once said that money is something you need in case you don't die tomorrow. For many enjoying this Wall Street wave, they hope tomorrow never comes.

The mainstay averages have been flirting with all-time highs for most of the year.

M&A activity is robust, on pace for a trillion dollar '07 run rate.

Young professionals continue to spend their lofty bonuses, as evidenced by the persistent bid in high-end real estate.

And private equity is the next, best thing, with Blackstone billions being minted as we speak.

Indeed, from the outside looking in, the financial industry is back in business in a big, bad way.

I cut my trading teeth at Morgan Stanley before jumping to the buy-side and managing a $400 million hedge fund. I understand how the game is played.

I've experienced the thrill of victory.

I've tasted the agony of defeat.

Perhaps that's why I take such a keen interest in the big cap brokers. I've traded these names for sixteen years, through booms, busts, consolidation and concerns. And I speak to every peg of the Wall Street totem poll, from the novice investor to the top tier of those in the know.

We enter this earnings period with folks feeling pretty good about the state of affairs. The industry has navigated virtually every bump in the road, from margin pressures to inverted yield curves, with barely a blink and nary a nudge.

You can't blame the bulls for their seemingly incessant risk appetite. It's the type of behavior one would expect after a multi-year binge of low rates and relaxed regulation.

There is cause for pause, however, as we ready for the latest state of the unions.

For starters, there are subtle cracks in the proprietary trading businesses, which are the most volatile components of the Wall Street earnings mix.

Earlier this year, UBS announced it was closing a large fund after it swallowed a $123 million loss due to sub-prime exposure.

Bear Stearns recently informed those invested in one of their leveraged credit funds that, despite a 23% loss as of April 30th, they were suspending redemptions.

Even Goldman's mighty Global Alpha fund, its largest internal hedge fund, was down 3.4% through the first four months of the year due to bad beds on bonds and currencies.

Isolated incidents? Mere pimples on a much broader financial complexion? Scattered clouds on an otherwise sunny stride? Perhaps, but if we're gonna live by the sword, we must appreciate both sides of the swing.

Perhaps the most problematic issue for the financials isn't what we'll hear on the calls. Earnings, by definition, speak to the past. The market, in contrast, discounts the future.

Last week in the 'Ville, we noted the breakdown in government bonds around the world, from Canada to Germany to Spain. While the chorus of higher rates has since made the requisite rounds, the implications for financial assets in a correlated, globalized economy should not be underestimated.

From an absolute and historic perspective, a fifty basis point yield increase isn't problematic. If perception shifts towards higher rates as a secular trend, however, the financial complex will serve as a proxy for those fears.

The financial sector currently represent roughly 21% of the S&P, not including "financials in drag" such as General Electric and General Motors, which derive a large portion of their earnings from finance based operations.

The natural question is therefore begged, do you need exposure to the banks and brokers? It would appear that, given our finance-based economy and the risk of higher rates, investors are already there in spades.

No positions in stocks mentioned.

Todd Harrison is the founder and Chief Executive Officer of Minyanville. Prior to his current role, Mr. Harrison was President and head trader at a $400 million dollar New York-based hedge fund. Todd welcomes your comments and/or feedback at

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