Thursday, November 29, 2007

Buffett and Freddie Mac

The Washington Post: Buffett Testifies That He Saw Early Signs of Freddie Mac's Woes

It would be an interesting (but maybe time consuming:) exercise to go back and read the old annual reports and see if you also detect something fishy.
Buffett said he was troubled in part by a Freddie Mac investment that had nothing to do with its business.

"I follow the old dictum: There's never just one cockroach in the kitchen," Buffett said.
Buffett said he bought stock in Freddie Mac in the 1980s because "it looked ridiculously cheap." He said his company became one of Freddie Mac's largest shareholders before it began liquidating its stake in the late 1990s at an eventual profit of about $2.75 billion.

Buffett said he met with Brendsel and former Freddie Mac president David W. Glenn five or six times over the years at Brendsel's request, initially at a summer house Buffett had in Laguna Beach, Calif. Brendsel requested and followed some of his recommendations on whom Freddie Mac should appoint to its board, Buffett said.

Buffet said he became troubled when Freddie Mac made an investment unrelated to its mission. He wasn't clear on the specifics but said he "didn't think that made any sense at all" and "was concerned about what they might be doing . . . that I didn't know about."
Buffett said he reviewed Freddie Mac's annual reports every year he held stock in the company.
Buffett said he thought he expressed his concern to Brendsel in several conversations but added that he didn't keep notes or a diary and couldn't recall details.
Asked by the judge, William B. Moran, whether he felt his concerns were vindicated, Buffett said, "I think they were fully vindicated."

Wednesday, November 28, 2007

Research in India

The trend to outsourcing is not just in IT:

Bloomberg: JPMorgan, Deutsche Bank Keep Mum on Indian Intellectual Capital

Tuesday, November 27, 2007

UBS in Trouble

UBS seems to be in trouble, according a Citigroup analyst:
Citi do a Whitney on UBS - “A major reversal of fortune”
While UBS have the second highest ABS CDO exposure, they have taken one of the lowest writedowns.

Clearly, UBS are not marking their assets at current market prices, and are still heavily relying on marked to model prices. Consider also the fact that many of the CDOs UBS arranged and sponsored have been some of the worst hit - like the appropriately named Vertical Capital, a CDO whose AAA debt was slashed 14 notches to junk in one fell swoop.

The third scenario is a worst-case scenario. Under this scenario (50% writedowns on HG ABS CDOs and 100% on mezz ABS CDOs), UBS would end up with a substantial SFr22bn writedown. The group’s Tier 1 ratio would drop to 5.8% (Basel II). Even after cutting the dividend and accounting for a lower group Tier 1 ratio of 9% (Basel II), a capital shortfall of SFr 8.5bn would remain, raising the prospects of a large capital increase/rights issue.
After all, Citi should know, they just got an expensive equity infusion themselves.

Monday, November 26, 2007

Taking the Other Side

... of the zero sum game, see this article at Financial Times:
1000% hedge fund wins subprime bet
The decision to use derivatives to short, or bet against, low-quality US home loans taken by a select group of hedge funds last year appears to have become the most profitable single trade of all time, making well over $20bn in total so far this year. John Paulson’s New York-based Paulson & Co, the biggest of the group with $28bn under management, is said by investors to have made $12bn profit from the trade already.
“Our entire banking system is a complete disaster,” he wrote. “In my opinion, nearly every major bank would be insolvent if they marked their assets to market.” He also said he would be putting some of his own profits into gold and other precious metals.

Friday, November 23, 2007

David Einhorn's Remarks

Heilbrunn Center for Graham & Dodd Investing
17th Annual Graham & Dodd Breakfast
David Einhorn’s Prepared Remarks
October 19, 2007

Very good long article about the whole sub prime, credit, structured products, rating agencies, banking crisis.
The crisis came because there have been a lot of bad practices and a lot of bad ideas. Securitization is a mediocre idea. Re-securitization of already securitized assets into a CDO is a bad idea. Re-securitization of CDOs into CDO-squared is a really bad idea. So is funding a pool of long-term illiquid assets with very short-term funding in the so called asset backed commercial paper market. And as I will get to in a moment, it is a horrendous idea to delegate most of the responsibility for assessing credit risk to a group of credit rating agencies paid for by the issuers rather than the buyers of bonds.
Last Saturday’s Wall Street Journal reported that the big fear that the US Treasury Department is working to avoid is, “the danger that dozens of huge bank-affiliated funds will be forced to unload billions of dollars in mortgage-backed securities and other assets, driving down their prices in a fire sale. That could force big write-offs by banks, brokerages and hedge funds that own similar investments and would have to mark them down to the new, lower market prices.” So the fear is that the new prices are actually disclosed. This is the “don’t ask-don’t tell” method of security valuation.

In my view, the credit issues aren’t just about subprime. Subprime is what the media says. Subprime is what parts of our financial establishment say. Subprime is about them — those people and the people who made foolish loans to them. The word “Subprime” is pejorative. Subprime is not about us, for we are not subprime. How convenient to be able to pass the blame.

There has been much talk from politicians and pundits about predatory lending –that is making loans at high rates to people who couldn’t reasonably be expected to pay them back. They are right, that is a bad practice, but that is not what’s shaking the markets. At issue today is that lenders of all sorts have lent too much money and did not demand enough interest to compensate them for the risks they took. There has been a colossal undercharging for credit across the board.
The latest hedge fund getting bad press is Ellington management, a large participant in the mortgage business. A couple of weeks ago, it suspended redemptions from its funds because it could not determine the value of its assets. Apparently they own what I’d call 20/90 bonds. 20-bid and 90-offered. While Ellington made negative headlines for doing the right thing, acknowledging it is unfair to let people in or out in such circumstance, does anyone believe that the large mortgage players like Bear Stearns and Lehman Brothers don’t also have large portfolios of 20/90 bonds? When they reported their quarterly results, investors marveled at their risk controls. However, Lehman moved about $9 billion of mortgage securities into a special classification called Level 3 under FASB 157, which gives them more valuation discretion. Both Lehman and Bear claimed their Level 3 portfolios actually had gains in the quarter, so it looks like they put the 20/90 bonds closer to 90 or perhaps even 95. This appears to be a classic example of a hedge fund being vilified for doing the right thing, while others are cheered for doing the opposite.
In early September, a senior Moody’s executive confirmed this suspicion at a small private dinner sponsored by one of the brokerage firms. He said, “Moody’s would never lower the credit ratings of a financial guarantor, because that would put the guarantors out of business.”

It is plain that the States and Cities and Towns in this country are triple A credits without triple A ratings and the financial guarantee companies have triple A ratings without being triple A credits.

Thursday, November 22, 2007

UBS Insider Transactions

Have a look at this insider transactions list at the SWX Swiss Stock Exchange.

At the moment (2007-11-22) there is also a lot of selling of Lindt going on, a single but bigger sale of Roche, Swatch is on the buy list, and also someone is heavily investing into Straumann.
IssuerUBS AG
Transaction date20.11.2007 by a non-executive member of the board of directors
Type of transactionPurchase of 20'000 securities amounting to CHF 980'000.00 (CHF 49.00 / security)
Type of securityEquity securities

IssuerUBS AG
Transaction date19.11.2007 by a non-executive member of the board of directors
Type of transactionPurchase of 1 securities amounting to CHF 262'500.00 (CHF 262500.00 / security)
Type of securityEquity securities
Further transaction detailsEin externes VR Mitglied hat die Wahl getroffen, als Bestandteil seiner Vergütung zusätzlich zu den fest zugeteilten Aktien den Betrag von CHF 262'500.-- in UBS Aktien zu beziehen. Die entsprechenden Aktien werden nach Festsetzung des Preises Ende Februar 2008 zugeteilt.

Tuesday, November 20, 2007

Bid & Ask

How the price is set at the dating market, by Zubin Jelveh:

Odd Numbers

GuruFocus tracks the Stock Picks and Portfolio Holdings of Warren Buffett, George Soros and other guru investors like Ruane Cunniff, Mohnish Pabrai, Tweedy Browne, Mark Hillman.
Some background story from the BusinessWeek:
Where Buffett Wannabes Trade Tips

Monday, November 19, 2007

The Complete TurtleTrader

The book is in the mail already, so I am not gonna read this article. Nevertheless author Michel Covel wrote a three page summation at the Daily Trader (free login required) about the story of his latest book:
Secrets Of The ‘Turtles’

Here is
The Complete TurtleTrader at Amazon.

Other worthwhile books related to either trend trading or 'the turtles' (or Richard Dennis) are
Trend Following, also by Michael Covel, and
Way of the Turtle by Curtis Faith.

It you like one of those books, you might bookmark Michael Covel's blog as well.

Update: I couldn't stop me from reading the article. Here is a quote I like:
“If it’s raining, all that means to me is I need an umbrella,” he once joked. “You don’t get any profit from fundamental analysis. You get profit from buying and selling. Why bother with appearances when you can go right to the reality of price?” The money, for Dennis, was simply a means of keeping score. “Trading is a little bit like hitting a ball,” he would say. “If you’re thinking what your batting average should be, you’re not concentrating on the right thing when you hit the ball. Dollars are the batting average of the trader.”

Sunday, November 18, 2007

Bill Miller 3Q Letter

Bill Miller is a famous value investor, who has beaten the S&P 500 index for 15 consecutive years from 1991 through 2005.

Here is his latest commentary at Legg Mason:
3Q letter to shareholders
The difference between what is unfolding now and the Crash of '87, or the problems with Long-Term Capital Management in 1998, is that they were confined to Wall Street, whereas this issue extends to Main Street and to the value of the biggest asset of most consumers, their house.
One of the enduring features of the findings in behavioral psychology as it applies to finance, a subject I have discussed many times over the years, is the almost complete inability of those who are aware of them to actually apply them. You can attend Richard Zeckhauser’s seminars at Harvard, read lots of articles and case studies, be reminded of how recency bias, or anchoring, or the representative fallacy, or myopic loss aversion impair clear thinking and skew decision making, and still fall prey to them and others of their ilk the moment you are confronted with real world situations.

The recent precipitous decline in financial stocks, especially those related to housing, which sent Countrywide Financial (CFC) to $12 last week, and led to 20 to 30% drops in financial guarantors in a day or so—after they had already dropped between 25 and 50% this year—is a case in point. After falling 20% in a only a few days on no news, and this after being down 50% for the year, CFC rallied over 30% in one day once they reported their results and indicated they would be profitable for the 4th quarter and expect to earn a reasonable return on equity of 10-15% for all of 2008. The price action on both sides was driven by emotion – first fear, then relief – and was hardly the result of a careful analysis of Countrywide’s long term business value. That, by the way, we think is in the $40’s compared to its current price of about $14-15.

No More Credit Suisse Writedowns!?

Credit Suisse claims they won't have any more writedowns ahead of them:

From Dow Jones (2007-11-14): Credit Suisse's Calello: Our Markdowns Are Accurate

Let's see if the market believes that.

Unlike UBS and DB they did not "disclose" their exposure. Well, they say now, they are short on CDOs.

Saturday, November 17, 2007


The Internet makes new inroads, this time into the credit business. Have a lookk at I think it is incredible.

Here you see how loans have recently performed.

Here is a Deutsche Bank Research paper on Web 2.0, which has a section about and similar sites at page 8.: Be a driver, not a passenger - Implications of Web 2.0 for financial institutions
Such person-to-person (P2P) lending aims to save costs by cutting out the middleman – i.e. the retail banks (see chart 7).4 Examples include Zopa in the UK, Prosper in the US, Boober in the Netherlands and most recently, Smava in Germany. Another outlet, Kiva, specialises on loans to entrepreneurs in developing countries.
Regulatory hurdles are steep but not insurmountable. Lenders are typically not allowed to lend commercially (otherwise they need a credit licence) and loans and/or investments are mostly limited to values between EUR 10,000 and EUR 35,000.5 In Germany, P2P loans are technically granted by a traditional bank which then passes these loans to the investors. As a consequence, transaction costs are higher and Smava only handles bigger allocations starting at EUR 500 (Prosper USD 50).

Lenders bear credit risk

To diversify, most loans are granted on a “one to many basis” – i.e. allocations are being spread across many loans so that the individual exposure to each loan is small. However, all models differ in detail. Zopa does not showcase individual borrowers, whereas most others let borrowers explain who they are and why they need the money. Prosper determines interest rates with an auction mechanism, others have fixed rates. Loans are typically unsecured and repayment is not guaranteed but German Smava offers a rudimentary insurance based on the default rates of a group of borrowers rather than any individual debtor. Borrowers at Prosper can improve their standing by joining (and being accepted by) a reputable group of borrowers, e.g. a group of MBA alumni. The group’s reputation depends on punctual payments being made by all members and hence there is peer pressure to conduct oneself reputably. Shame on those who do not pay on time! Kiva has a strong charity component while others are commercial.

Lenders ignore high-risk borrowers

For P2P borrowers it is easy to judge whether they are agreeing a good deal (compare the best rate offered by a bank with that of the P2P platform). For P2P lenders it is difficult because they bear the default risk and few of them are experts in risk management. Hence, the key challenge to further growth is to find more people willing to lend. Prosper, the Californian outlet which went online February 2006, has brokered loans worth around USD 70 m so far but had unfunded loan requests of more than USD 460 m. Loan requests from low-risk borrowers have the highest probability of being funded (around 45%) whereas high-risk borrowers are being ignored (less than 5% of loan bids are funded) (see chart 8).
Evidence from Prosper illustrates the difference peer-review and peer-pressure can make: default rates are typically much lower if borrowers have joined (and were accepted by) a group of borrowers – this holds in particular for high-risk and non-rated borrowers.6

Many lenders are not primarily attracted by higher interest rates but rather by the community aspect: potential borrowers explain who they are and why they need the money and lenders can actually decide which loan requests to fund and which not. A compelling story or stirring plea can make a difference. Online P2P lending also has a strong non-establishment twist (“no banks, better deals”) and many users prefer doing business with other people rather than with an impersonal bank.

Friday, November 16, 2007

Mimicking Buffett's Picks

Below is a link to a paper by Gerald S. Martin and John Puthenpurackal about mimicking Berkshire Hathaway's stock picks (and exits), whenever they become publicly known.

BTW, the decisions could have been made by either Warren Buffett, Charles Munger, or Lou Simpson.

Imitation is the Sincerest Form of Flattery: Warren Buffett and Berkshire Hathaway

Actually they seem to show that this would result in an out performance of over 14 % of the S&P.

Buffett's Statement on Taxes

Buffett prepared an eloquent statement about taxes for a hearing in Washington DC.

From CNBC: VIDEO AND TRANSCRIPT: Warren Buffett's Statement to Congress on Estate Taxes

Berkshire Hathaway's Portfolio

Yesterday came out SEC form 13F-HR of Warren Buffett's Berkshire Hathaway, which lists all its public company stock holdings at the end of the third quarter 2007.

The total was USD 65.8 billion. In comparison, Berkshire Hathaway has today a market capitalisation of around USD 213 billion.

Have a look at the list (13F-HR form) for yourself.

Thursday, November 15, 2007

Woman Quants

Woman in the quants field by Leah McGrath Goodmann: Women in Trading 2007 : Women on the Edge

You need an account first, but it is a longer article, has some names and gives an idea what is going on in the world of developing trading algorithms.
“Of the 7,000 quants we have in our global database, only about 3 percent are women,” says Dominic Connor, director of Paul & Dominic Quantitative Recruitment in London.


Renamed the Clemens Investment Blog to The STOCK BLOCK. Please note also the URL change to

Gannon On Investing

Another blog for the watchlist: Gannon On Investing

Wednesday, November 14, 2007

The Big Picture

Have a look at this blog The Big Picture. On occasion, the comments might be interesting as well.

E*Trade Volatility

E*Trade bounced back +41%.

Bloomberg: E*Trade Bankruptcy Is `Highly Unlikely,' BMO Says (Update4)

Tuesday, November 13, 2007

Van K. Tharp

Van K. Tharp is a psychologist specialized in coaching traders.

A very good book is:
Trade Your Way to Financial Freedom

From No Requirements to Be Happy: Part II:
A critical difference between good traders and the average trader is that good traders thrive on simplicity and not knowing. They come from being and simply go with the flow of the markets. If the markets tell them it's time to go up, then they buy. They might be wrong 60% of the time, but that is part of the game. They'll get out when the markets are no longer going up. They do this by simply observing what is happening, and are much more joyful because they are going with the flow. They allow themselves to let their profits run, because it's okay to be in the market when it is going up. They also allow themselves to get out, because it's okay to get out when the markets start to do something else.

What I've just described is pure trading. Its essence is simple. It doesn't require a lot of time. Instead, it gives you lots of time to play. It also involves seeing all possibilities and being in the flow of what is happening right now. You cannot do this if you are preoccupied with being right, doing hard work, or having money or profits. You can only do this when your mind is pure and you can be at one with what is going on around you.

Monday, November 12, 2007

E*Trade -58 %

Another one bytes the dust... today 2007-11-12 E*Trade is down 58 % after announcing writedowns on asset backed securities. They have an investmen of around USD 3 billion in ABS. You wonder what an online broker has on its balance sheet.

Update on Bloomberg: E*Trade Shares Fall; Analyst Says Bankruptcy Possible (Update4)

Here is the wording from E*Trade itself.

Banking Blood Bath

Very interesting albeit scary article about what is on the balance sheets of the big investment banks.

Nouriel Roubini's Blog: The bloodbath in credit and financial markets will continue and sharply worsen (2007-11-05)

It also points to this FT article (from 2007-11-04) predicting more write downs at Merrill Lynch, Citigroup, and UBS: What’s the subprime damage to banks?

The first article also looks into how many structured product assets are valued on an internal model valuation method, also named 'Level 3' (level 1 means you just take market prices, level 2 means you base your valuation on other prices of similar asset classes - level 3 basically means you make up your own prices).
Look at the info Citigroup just filed with the SEC today: they have $135 BILLION in LEVEL 3 ASSETS.

I have a neat idea.

Why don't we take every single major financial institution out there and then divide their total Level 3 assets by their equity capital base and make comparisons?

This will give us a better idea as to which of them may really remain solvent at the end of the day. Shall we?

Let's have a look at Citigroup. Their equity base is $128 billion. Therefore, their Level 3 assets to equity ratio: 105%

How about Goldman Sachs? Level 3 assets are $72 billion, equity base is $39 billion. Their Level 3 assets to equity ratio is 185%.

Morgan Stanley: $88 billion in Level 3, equity base is $35 billion. Ratio: 251% (WOW!)

Bear Stearns: $20 billion in Level 3, equity base is $13 billion. Ratio: 154%

Lehman Brothers: $35 billion in Level 3, $22 billion in equity. Ratio: 159%

Merrill Lynch: $16 billion in Level 3, $42 billion in equity. Ratio: 38%

Here is the Level 3 assets to equity ratio summary:

Citigroup 105%

Goldman Sachs 185%

Morgan Stanley 251%

Bear Stearns 154%

Lehman Brothers 159%

Merrill Lynch 38%

This becomes very interesting now, doesn't it?

Looks to me like Goldman Sachs and Morgan Stanley are by far in the WORST situation among the investment banks.

And yet the media is focusing all of their attention on Merrill Lynch---which actually has by far THE LEAST EXPOSURE of all of them.
BTW, UBS reported in third quarter 2007 CHF 23.4 billion in 'level 3' assets. This in addition to another CHF 21.6 billion in MBS and CDO assets. UBS has equity (without Goodwill) of CHF 33 billion.