Maximum Pessimism

“Invest at the point of maximum pessimism”
-John Templeton

Templeton was a great man. A self made American small town man actually, who sadly passed away on July 8th of this year, right as commodity oriented levered long hedge fund stardom was peaking. In his obituary, which I have taped in my notebook, ‘The Economist’ wrote, “he disliked speculation, and any instrument over-geared to make money… but he was open minded.”

In this business, if there is one lesson I have learned over the course of the last 10 years, it’s just that – you have to be open minded. Mental inflexibility will crush you like a Brazilian soy bean. Yesterday, after posting an intraday note titled “US Market Trade Getting Bullish Down Here” (www.researchedgellc.com, 10/6/08), I finally saw Templeton’s definition of max pessimism.

If you couldn’t buy a stock yesterday, I am not sure you’ll ever be able to. If you stepped up and strapped on the old school American capitalist pants, well done - upward and onward we go. I have moved down from my 96% Cash position to the following asset allocation: 84% Cash, 13% Equities, 3% Gold. We made money again yesterday. Lucky us. We we’re +0.40% in the portfolio.

Commodity led inflation has been absolutely decimated. Inclusive of the -5.2% move in the CRB Commodities Index yesterday, the basket of 19 commodities has deflated to the tune of -35% since the CNBC “Fast Money” euphoric peaks. Countries “over-geared” to commodity inflation like Brazil, Russia, and Saudi Arabia got clocked and capitulated yesterday. Two of those three markets were halted by their governments (Brazil and Russia), while Saudi stocks are trading down another -8% so far this morning. That takes the Saudi Tadawul index down -15% in 2 days, and down almost -50% since every sell side investment banker at the firms who have since imploded ran around with glossy “Sovereign Cash Is Abound” pamphlets. Whether that “sovereign cash” was Asian or Brazilian, or grown by alchemists who fed magical fertilizer into pools of water, turning H20 into oil… it’s all deflating now.

Commodities deflating is great macro factor that is emerging sequentially, particularly for Asian organic profit growth. That’s one of the reasons why I stepped up and bought both the Hong Kong and Chinese ETFs yesterday (EWH and FXI). At the point of “maximum pessimism”, you want to be considering the last things people want to touch. For most, that’s turned into China. For me, the last thing I want to touch is Barclay’s new “research call.” Lehman’s, I mean Barclay’s, Tech analyst is cutting estimates this morning. For those of you with accountability scorecards, since the beginning of August (when LEH was still a $20 stock), the NASDAQ has lost -24% of its value. Mr. Barclay’s, you shouldn’t remind us that you are there. This call you are making after the fact is embarrassing.

What is not embarrassing is the world class performance of Australian central bank chief, Glenn Stevens. He was one of the few central bankers who appropriately raised rates into the apex of the global asset mania. And now he’s the only one with enough bullets left in his rate cutting gun to make an interest rate cut actually matter. This morning Australia cut rates by a full 100 basis points, and stocks rallied +1.7%, leading Asian trading in what I thought was a relatively constructive evening session for Asia overall.

The point that matters here is that Stevens can make one. He cut rates by a full percent, and still has a healthy 6% base rate to work with. If and when bailout Ben has his hand forced to cut by 100 basis points, the USA will have negative real interest rates. Not unlike the Japanese king, who held rates “steady” at 0.50% overnight, politicized central bankers end up pandering to socialists and bureaucrats. I doubt your average “hedgie” is allowed to read books on his crack berry these days, so he or she may not be aware that Japan’s 2 decades of economic stagnation were born out of the same bailout solutions that Larry Kudlow and CNBC were cheering on your government to make.

Maybe now they are booing. These stock market mania networks tend to blow with the wind. Who knows… Ironically, I used to actually enjoy the Kudlow and Company session at 7pm, where the odd “open minded” debate would reveal itself, making John Templeton proud. Last night, was more like a circus of idiot savants, rifling off reckless commentary on this manic show CNBC calls “Wall Street Crisis”. Thank God for them, they’re helping create the appropriate level of confusion and pessimism that those of us with cash are looking for.

Have a great day,
KM



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