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Redemption Songs


Redemption is in the eyes of the beholder or 'as funds redemption day looms, how can we redeem ourselves?'


"Old pirates, yes, they rob I. Sold I to the merchant ships. Minutes after they took I from the bottomless pit."
Bob Marley

Everything's funny when you're making money. For select fund managers around the Street, it might be a while before they smile.

Today is redemption day for funds with a 45-day advance notice redemption window. What that means in plain English is that well-heeled hedge fund investors, many of whom are watching in horror as the smartest money in the Street takes a beating, will have the chance to leave the dance.

This date has been circled for a while and it isn't necessarily a call to arms. While unknown shoes continue to loom, bear market trading is the polar opposite of bull market tendencies. That may mean that we're supposed to "sell the rumor and buy the news" but that is a leap of faith that remains to be seen.

Back in June, we took a good, hard look at the financials as the indices tickled all-time highs and M&A was on a trillion dollar run rate. As the Blackstone (BX) billions were being minted, there was nary a care of a market scare. Ya Mon, life was good, or so it seemed, as the banks and bulls readied to rejoice.

We scrunched our nose as UBS (UBS) closed a small fund as a function of sub-prime. We sniffed a bit when Bear Stearns (BSC) informed investors that one of its now-defunct funds was suspending redemptions. We noted that Goldman's (GS) mighty Alpha fund, down 3.4% at the time, was nothing to sneeze at.

Fast-forward two months. UBS is down 18%. Goldman is 27% lower. Bear Stearns, the venerable and seemingly impervious institution, is a stunning 31% below where it was. Corrections are a healthy component of any bull market, we know, but something still smells amiss in the land of flickering ticks.

Lest you think we're taking a victory lap, let me assure you that we're not. That's never been our style, particularly as folks are getting hurt and losing money. We would be remiss not to note the newfound goats, however, as they remain the central point of pain. As go the piggy banks, as we so often say, so goes the poke.

The reversal of fortunes around the globe has been s a self-fulfilling prophecy. With upwards of $500 trillion in derivatives weaving the world together, it's easy to trace the contagion. It started with New Century Financial, bled into American Home Mortgage, spread among hedge funds, many of which are correlated with the same strategies, and it has now infected the biggest and brightest blue shoe firms.

Late last week, global stock doctors administered an all-too-familiar antidote, one that has kept the patient and patience in play for years: liquidity. Central Banks injected over $300 billion into the system with hopes that life-support will allow the financial body to function despite the fading brain and aching legs.

Those overt actions stood out to my seasoned eyes. If central banks around the world were orchestrating a coordinated effort to shore up liquidity and stimulate demand - with the mainstay averages still up nicely for the year - the natural question is begged: what do they see that we don't?

I was speaking with several high level players over the weekend. They seemed fairly sanguine about the current credit crunch and share the mindset that central banks won't let anything "bad" happen to the global economy. I humbly offered that "that" stream of thinking is precisely why the risk of displacement remains higher than many believe.

My brother David, who was quietly absorbing the conversation, chimed in to offer that "Toddo is a derivative trader and they're always bearish." I smiled and said that option traders aren't negative or naughty by nature, they simply understand the nuances of risk management and the caveats of reward chasing behavior.

To be clear, I'm not saying that the market is going to crash, I'm simply stating that the conditional elements of a downside disconnect remain in place. And it is that probability - the potential that the wheels will wobble off the wagon - that is currently being priced into the marketplace through the process of price discovery.

I was flipping channels the other night and caught a debate about whether "media is to blame" for the current financial shame. While I share concerns about how some prominent prognosticators conduct themselves (or, more specifically, that many folks still listen to them), pointing fingers at the media is endemic of the larger "pass the buck" mentality.

There was a witch-hunt for corporate malfeasance after the tech crash (admittedly, there were bad apples in the bunch) and there's gonna be a lynching this time as well. Take me at my word, you're gonna see blame being placed all over the Street, from hedge funds to investment banks to mortgage companies to government sponsored agencies. We're in the top of the first inning as far as that's concerned.

But it's really not that simple.

We, as a nation, cannot continue to live beyond our means for evermore without eventually paying our debts. Life just doesn't work that way. My grandfather Ruby taught me that "what goes around, comes around" and it applies in so many different instances. It applies in a way that will profoundly affect the livelihoods of our children unless we begin to assume responsibility for our financial choices.

So no, it's not the media's fault. And it's not entirely the Fed's fault although, if we took our medicine after the last bubble, we would probably be walking on the road to legitimate recovery by now. While they made our bed - and I would appreciate forthright bedtime stories as we lay in it - it is our dreams we continue to chase.

At the end of the day, no matter how we slice it, we have only ourselves to blame for incessantly consuming, pushing out our obligations with zero percent financing, extracting value from our homes through adjustable rate mortgages and allowing ourselves to be seduced by the bigger, better deal.

Market moves are characterized by three phases: Denial, migration and panic. If the debt bubble has indeed cracked, as I believe it has, we've got a long, hard road ahead. I shared a similar thought in 2000 with regard to the trading dynamic and I offer it again in a much broader context. And please don't shoot the messenger. That, in many ways, is the same conditioned behavior that continues to plague our society.

Good luck and remember the risks when and after we rally. It should never take something bad to make us realize we've got it good and, well, we've had it good for a mighty long time.

True redemption, in life, love and the markets, begins within.

Random Thoughts

  • While I've been trading from the short side, I went home light and tight with plenty of dry powder. There is considerable two-sided risk to this tape and I want to pick spots rather than make stands.

  • Please make sure that your money market fund doesn't "cut corners" to achieve a marginally higher rate of return. If you're going to preserve capital in cash, do so in a plain, vanilla, boring manner.

  • The FOMC may well "surprise" us with a rate cut but I will remind you that the last time they did that, in January 2001, the rally faded quicker than a pair of Levi's.

  • If and when they cut, watch the dollar-yen as a carry trade (liquidity) proxy. The Yen has been trading in lockstep with U.S. equities of late.

  • In 1987, there was a slew of "short, cheap puts" in the marketplace and exacerbated the slide. Today, as a function of the "buy-write funds," we've got the same synthetic dynamic. For anyone who knows anything about options will tell you that "long stock and short call" has the same exact risk profile as a naked short put.

  • If you're staring at each and every tick, you likely have too much exposure. When in doubt, wait it out or trade smaller until clarity emerges. When the dust settles and the smoke clears, there will be fewer players and more opportunities.

Fare ye well and remember that the purpose of the journey is the journey itself.


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