Growth Report : housing market

WCI, the Fed and Spring of 2010

Ian Wyatt — Wed, 13 Aug 2008 17:49:00 GMT

WCI, the Fed and Spring of 2010

Just because your title is “billionaire investor” doesn’t mean you don’t make a mistake from time to time.

Billionaire investor Carl Icahn apparently lost $113 million when his home-building company, WCI Communities declared bankruptcy last Monday. I guess he can afford it. But he should thank what lucky stars he has left that he wasn’t able to increase his 14.5% stake as was reported in mid-July.

I can’t help but take a special delight in Icahn’s mistake this time around. Not that I want to see anyone lose money. But Icahn’s something of a bully when it comes to his investments. I don’t think anyone’s shedding any tears for his loss with WCI.

Besides, it’s pretty well understood that to make money in the stock, someone else has to lose it. And I’m still pretty excited that I was able to turn Icahn’s loss into a gain for some of my readers.

As I may have casually mentioned last week, my stock analysis system, which I affectionately call TRIGR, first targeted WCI Communities as a Top Short way back in the beginning of May. That was the first of many appearances, and the stock was trading for $2.65 a share.

Most recently, on July 29^th, WCI appeared on Top Shorts list at $1.31. Just 4 trading days later, WCI dropped to $0.59 on the bankruptcy news. That’s a gain of +55% to +77%, depending on your entry point, as this troubled housing stock finally threw in the towel.

Not that I think the two events are directly related, but WCI announced bankruptcy the day before The Fed thrilled the markets by leaving interest rates unchanged.

What’s A Fed to Do?

Stocks did their best bull market initiation in the wake of that no-decision on interest rates. The possibility of a hike was clearly on investors’ minds. And they were obviously pleased when Bernanke & Co. decided to stand pat.

Even though a rate hike would have been good for the dollar and inflation, it never seemed to me that a hike was a real possibility. So why the relief rally?

I can’t help but think there’s a fair amount of investors out there who think stock prices have bottomed. The casual connection between the Fed and WCI is of the “how can things get worse?” variety.

After, all we’ve seen 6 banks fail in the sub-prime debacle. Inflation has picked up because oil prices are at (until just recently) ridiculous levels. Housing stocks are decimated and, even worse, our homes which are the average American’s biggest investment, have lost a significant amount of value. Things can’t get much worse, can they?

Careful What You Ask For…

I learned a long time ago not to tempt fate with questions like that. Things can always get worse. And I suspect those value investors who are already scooping up bombed out financial stocks and even dipping a toe back in the homebuilder stock pool are going to find that out.

Now, before I continue, I just want to make it clear that I’m not a perma-bear. I don’t think the U.S. economy is doomed. I’m just not one for irrational exuberance. And investors’ recent eagerness to overlook bad news strikes me as bit irrational.

It’s easy to look at valuations and conclude stocks are cheap. And as we all know, they don’t ring a bell when the market bottoms. Bottoms are usually made while the bad news is still flowing. Investors have to be able to sift through the bad news to find the hidden morsels that point to the next bull market.

However, there’s a bit of bad news that shouldn’t be overlooked. And that’s rising unemployment.

Unemployment Rising

Three months ago, the Philadelphia Fed forecast unemployment to hit 5.4% for the 3^rd quarter, which ends with September. Now, that forecast has been revised upward to 5.7%, with 4^th quarter unemployment to hit 5.9%.

What’s more, as the forecast for unemployment rises, GDP expectations are falling. GDP estimates are down to 1.2% from 1.7%.

I remember the recession of 2001 well. Unemployment started falling in the wake of the DotCom crash as corporate America cut IT budgets. It didn’t pick up for 2 full years. And even then, we were treated to a “jobless recovery” for another year.

Ultimately, that recession was measured at just 8 months. It was a “mild” recession. But stocks were down from spring of 2000 to October of 2003.

Even a cursory comparison should give the silver-lining crowd pause. Unemployment has been rising for 8 months. And stock prices peaked 10 months ago. So even if we follow the course of 2001’s mild recession, unemployment may not stop rising until December of 2009. And stocks may not find their final bottom until spring of 2010!

All you have to do is take a look at Japan’s housing market and economy during the 1990s to find the worst-case scenario. Again, I’m not a perma-bear. And the U.S. economy is far more dynamic than Japan of the 1990s. Only an external shock could keep our economy down for 10 years.

Hit and Run

So what’s an investor to do? In my not-so-humble opinion, uncertain times call for uncertain investing. That doesn’t mean you should invest in things you don’t understand or believe in. It simply means you can’t hold any new positions with strong conviction.

If you caught a little bounce in the housing or finance sector, great. Take you 15%-20% gains and move on. It’s probably not an ideal time for long term buy and hold investing.

The readers who follow my stock picking machine TRIGR, made some money in bio-tech a couple weeks ago. (disclosure: We’re still holding a couple choice bio-techs). We’ve already moved on to some home healthcare stocks that have been moving. Between July 23 and August 4, Almost Family (Nasdaq:AFAM) was a top recommendation 5 times. And 5 times, traders took gains of 21%-36%.

I won’t be at all surprised if we’ve left this sector behind in another week or two to pursue other opportunities. And we may be back to shorting troubled homebuilders like WCI Communities if that’s where TRIGR says the money is. We’ll take what the market gives us.

Best Regards,

Ian Wyatt

Chief Investment Strategist

Growth Report

Click here to find out more about how you can profit from the next financial or housing sector “deathbed” stock with TradeMaster Daily Stock Alerts.

The Hero's Dilemma: Kill the Dragon or Rescue the Princess?

Ian Wyatt — Tue, 05 Aug 2008 20:47:00 GMT

The Hero's Dilemma: Kill the Dragon or Rescue the Princess?

Our previous experiences with "stagflation," as the double economic whammy of slowing growth and rising inflation is known, occurred in the '70s and early '80s.

Market veterans still recount the Legend of Former Fed Chief Paul Volcker as if it were a cautionary tale for children -

"...and then, Volcker held interest rates aloft (to a now unthinkable 20%) and vanquished the foul worm (inflation rates of 13%)."

Volcker made his heroic choice. He fought the dragon first. Once that threat is no more, living happily ever after with the princess is no problem.

But if we understand the true nature of this Hero's Dilemma, we see that stagflation isn't really a double whammy. In the modern era (the only era that matters), stagflation is caused by one thing: high oil prices.

Sure, one could argue that the condition of stagflation is exacerbated by several factors, like a bombed out housing market, a weak U.S. dollar or a financial crisis. But ultimately, it's rising oil prices that both slows economic growth and causes prices to rise.

Volcker really had no choice at all.

Any attempt to invigorate the economy with lower interest rates would only push oil prices higher. In other words, if you rescue the princess first, then the dragon eats you both.

Memo to Bernanke: The Dragon's Breathing Down Your Neck

So another FOMC meeting has come and gone. And as expected, the Fed did nothing to surprise the financial markets. Most of the time, it's good monetary policy to give the market what it wants.

But we're quickly getting to the point where Fed Chief Ben Bernanke has to make a heroic choice. At least, that's how it seemed a week ago, before oil prices dropped 20%.

It would appear that Bernanke is keeping his sword in its sheath, hoping that falling oil prices will render the necessity of choosing between the princess and the dragon moot.

Stocks rallied strongly today in reaction to Bernanke's non-decision. The average investor can usually be counted on for hope. But ultimately, I don't think many investors are comfortable with a Fed relying on luck to take care of the problem.

The meteoric rise of oil prices could have been a bubble. And we could be seeing that bubble deflating right now. But there's one way Bernanke can be sure: raise interest rates, strengthen the dollar and actively force oil prices lower.

That might put the princess through the ringer for another few quarters, but princesses have a way of coming out of tough situations looking pretty good.

For my money, I'd rather see Bernanke deal the dragon a mortal blow.

Time to Live Happily Ever After?

I'd like to think that the oil "bubble" is popping. I'd like to think that the effects from that main driver of inflation will soon be reversed. But I just don't see the current economic problems having a fairy tale ending without a fight.

That's probably why interest rates rose on T-bills after the Fed's statement. Investors might like the news. But the bond market seems to think that higher rates are coming. And that's probably not good news for stocks.

So what's an investor to do? Well, my stock picking machine (which, by the way, is called TRIGR) is still turning up some great stocks to short. In fact, on July 29, one of its Top Shorts was WCI Communities. Yes, that WCI Communities, the one that filed for bankruptcy on August 4.

Actually, TRIGR's been pulling up WCI Communities regularly since May 8. Of course, it also targeted IndyMac on May 12, 2008, and we all know how that turned out.

We also closed two other short positions yesterday - Western Refining (NYSE:WNR) for 17% since July 31 and Accuride (NYSE:ACW) for 16% since July 30.

Today, TRIGR turned up Hansen Medical (Nasdaq:HNSN) as a Top Short. In light of the decent gains TRIGRs pulled up with its Top Long Biotech stocks, the sight of a medical devices company on the Top Short was worth another look.

I'm not sure how Hansen Medical ever commanded a $1 billion market cap on $16 million in revenues. And I suspect it'll have difficulty holding on to its current $300 million market cap without a massive jump in revenue. Judging by the ever-widening loss estimates from the covering analysts, such a jump in revenue isn't forthcoming.

You might want to give this stock a look as a potential short opportunity while Bernanke tries to figure out what to do about that pesky dragon.

Ian Wyatt

Chief Investment Strategist

Growth Report

TRIGR is an electronic stock-picking machine that selects long and short opportunities for the TradeMaster Daily Stock Alerts service. For more information on how you can have your profits powered by TRIGR, click here.