Sunday, October 12, 2008


I'm going to try to grab my 15 minutes of fame by fashioning my own acronym for what is going on here: G.U.L.P. It stands for Great Unwinding of Liquidity Period--let us pray that is merely a 'period' rather than an era. It also works because it has a nice double entendre meaning--most investors positioned heavily long are likely gulping and blinking in disbelief.

To the left is an image of a dung beetle (Scarabaeidae). The female pushes little balls of dung in which she lays her eggs. The dung is a stockpile of nutrition and nourishes the hatchlings. The ancients were keen observers of nature, and the industry and efficacy of these efforts were not lost upon them. You can find a brief and interesting synopsis here.

While dung balls work very well for this industrious member of the insect family, I'm not sure how well it will work for the saving of our financial system. I see lots of dung balls being rolled about, and who is to know how many eggs are being laid and what great magnitudes of beetles will hatch? Get some bug spray.

On Real Money last Thursday or so, I posted a thought about a very likely recalibration of historical price to earnings ratios in light of this GULP. Prices are always about supply and demand. Liquidity is always in the background as it influences the level of demand and provides the elasticity in equations that map the price reaction. (I may have that totally wrong, but it made sense at the time I'm writing it!)

Demand + Liquidity = Higher Asset Prices (inflation). Demand without sufficient liquidity is brings about a tempering of prices (disinflation). And the grimmest specter of them all, declining demand coupled with severely contracted liquidity brings about deflation.

Why is deflation bad? Here is the Nikkei since 1985. I would also say that this chart is also a reminder of why buy and hold is not such a great idea either.

Here's a bit from Wikipedia, which states it much more simplistically than I ever could.

Deflation is generally regarded negatively, as it is a tax on borrowers and on holders of illiquid assets, which accrues to the benefit of savers and of holders of liquid assets and currency. In this sense it is the opposite of inflation (or in the extreme, hyperinflation), which is a tax on currency holders and lenders (savers) in favor of borrowers and short term consumption. In modern economies, deflation is caused by a collapse in demand (usually brought on by high interest rates), and is associated with recession and (more rarely) long term economic depressions.

It seems to me that as economic units (earners, investors, spenders, savers, etc) each of us has to make some sense about what the future is to bring for us. There are so many smart people saying "this" or "that" or something in between the two, that it certainly leaves one scratching their head (or impolite places like the baseball players). As a person of reasonable intelligence trying to navigate unreasonable complexity, I have rely on something that never fails to serve: common sense. I'll make a bold statement, too, that common sense may not necessarily be in line with prevailing wisdom.

I'm not in a position to detail where the fissures lie between common sense and prevailing wisdom, but I know that I have a personal responsibility to investigate. Prevailing wisdom is that you buy when there is blood in the streets. Well, a look at the Nikkei chart shows that if you do that, you'll become your own little rivulet tributary. Prevailing wisdom in this market all year was to buy the dips and sell the rips. Well, the waterfall dips have been many. I expect a huge counter rally, but does the news support a sustained rally?

You'll see in my tabs a link to Paul Krugman's articles on Japan. I plan to read these. I'm feeling like I have to read and digest deflation 'stuff', much as I had to read and digest systemic risk and structured obligation 'stuff'. It was worth my time then. I think that it will be worth my time now. And I'll share what I find and hope it will beof use.


nice said...

Very intelligent post Leisa...

I'm puzzled by a few things myself:

(1) What was the entire purpose of the 700B bailout charade?
Was it to scare the crap out of the voters and get them onside for an even greater bailout?

(2) Some say we are witnessing forced selling by Hedge Funds etc... being squeezed by margin calls by the bankers... but what do the bankers gain by crashing the stock market and wiping out 50 trillion of savings?

(3) Was the real issue that the rest of the world was ready to dump US dollars thereby causing the US to default - and so the administration created a financial crisis to 'save the buck'?

(4) Wasn't it already known to Paulson etc.. that the US banking system, LEH, GM, Ford, maybe AIG etc.. were already insolvent?
And so wasn't asking for 700billion meaningless?

(5) But if Paulson didn't already know all this - can one conclude that the financial planners have lost their 'grip' on things?

(6) Why is the media playing up fear, depression, threatening to shut down the markets etc?
To whose advantage are these fears?

(7) While there are problems of capital and problems of solvency - there are no problems of liquidity.

In fact there is the danger they may flood in too much.

As a result, we could see 1000 and 2000 point intraday UP moves in the DOW if fear recedes and selling dries up - there will only be buying.

(8) What are the long term implications of a large scale nationalization of banks and other aspects of the economy?

(9) What would happen if the SEC gave notice that short ETF's would temporarily stop trading in 3 days?

(10) Finally, recall Y2K, where everyone planned for all these disasters - that never happened?

What if what is happening now is the beginning of a 'real' Y2K - electronic financial markets gone amok? Prices could go anywhere.


Should be an interesting week...

The IMF (in its Ivory Tower) is usually the last to recognize something.

So is the IMF calling for an economic disaster - oddly enough, short-term bullish?

Also most chartists and blogs are calculating downside targets and no one is mentioning upside – everyone is leaning one way.

Is it too soon to sell volatility?

Will options week prove again to be another market manipulation turning point?


IMO for a final resolution (stock market wise) we need to see either:

(a) A complete crash down to obscenely low levels – marking an obvious bottom … or
(b) 90% upside volume days (preferably not during an options week)- and preferably multiple 90% days.


bill cara said...

All puts bought last week will be worthless

Most calls are underwater

No significant news the 1st 2 days of this week

Makes sense to me to have a rally
1st half of week prior to earnings.. pull in buyers at top of bounce - and then hold market in line or pullback later in week to make all options worthless (except those that bought the plunge on Thurs or Fri)

However any buying later in the week on bad news earnings - could
be a sign of 'real' longer term buyers - trying to position for a sustained upward movement sometime later in the year or early next year.

If a short-term rally was expected by everyone - then everyone will sell the rally...

If no one believes in the sustainability of the any rally - then we go further...

Many sectors entering seasonally strong periods soon.

UK was very weak this morning - it rallied later to take it's cues from the US

In fact everything is following the US market now - quite the opposite when the S&P used to take it's cues from what happened in Asia..

Gold a real question mark here...
Central Banks seem to be doing a lot of their interventions in dollars rather than other currencies... Paulson must be happy

Stocks often get a free ride when the bond market is closed - that's nice


nice said...


not sure how that bill cara got in there - was navigating to his site as I was typing this...

nice said...

Still seems like there is something fishy going on regarding the energy market and these brokers (or former brokers I guess - they are banks now LOL)..

"Goldman restricted by Platt's today - counter party risk aversion cited - Financial Times"

In the back of my mind I just can't see Oil rallying in a sustained significant matter over the next 3 months (other than a technical move) as we approach the Xmas season - as it would counteract all the Stimulus/Financial packages

---> unless all those reflation dollars end up back in the oil market...

Another thing maybe one could consider is that even if reflation does occur - due to to limits on leverage now - we are unlikely to see the wild commodity moves like we saw in 2005-2008

Also some oil stocks like SU may have oversold etc.. as T Boone was forced to sell...

(hey didn't T Boone keep saying oil would stay over $100...
'nice' try T Boone)


Leisa said...

NG--yes, the bill cara thing through me for a loop (though I could tell it was your writing before signing off). This bounce feels odd to me, but I'm not surprised. I'm well positioned only because I took modest exposure through DIG, SSO.

On Real Money, Jim Cramer was calling for a down open of a gargantuan amount of points. My comment was that he should be tarred, feathered and put on a cart pulled by two randy goats.


nice said...


Figured we were due for a near 1000 point bounce - but didn't expect it so soon...

Part of the reason for today's strength IMO is that it is not a full market - bond market closed - bond market is the real market - stock market is 'play' market...

Odd thing is, if the bond market opens down tomorrow - it could flush even more money into stocks... time will tell..

Traders didn't believe in the rally this morning and tried to sell/fade after 1:30PM
But fading strong upmoves after a plunge or buying the dips on a crash usually isn't wise...

Especially when the average true range of the DOW is an astounding 625 points

JPM MER and C report later this week - so I'm on the eye for how the market reacts (either in front of or after) these reports.

- as all year this market has been pumped up in front of bad news..
I'd rather see the the market be apprehensive about forthcoming bad news but rally when the bad news comes out - rather than already having rallied 10-15% prior.

Also this is an options week.

I too went long ultra oil's on Friday - but will shift exposure to this tomorrow since I have some other longs in the Canadian market which is also heavily weighted energy...

Anyone have idea what the Baltic Index did today? - havn't checked it

Any rally in the materials/energy is going to have to be accompanied by an upturn in the Baltic Index and the CRB Spot indices - otherwise it is an extreme oversold bounce...


Anonymous said...

I think if you use "credit" instead of "liquidity", what you propose makes sense.... sorry your acronym doesn't work though.


Leisa said...

No need to apologize. Sometimes one must take poetic license to make things work. I wasn't straying too far, as I think that there is a general agreement among folks who follow this stuff that liquidity=credit.