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Have We Got a Long Way to Run?

It is ten minutes after one in the afternoon on Sunday. I am at the store. Last week was an exciting one in the markets, with many S&P cos reporting earnings including all of the tech giants. Readers may recall I had a small speculative bet on silver, with option expirations on the 17th, which I wrote about here: http://rwhadvisoryllc.com/animal-spirits-or-spirit-animal/

Sadly, my calls expired just as the trade was coming into the money, but I did get shares put to me as the price crossed $19 and have enjoyed the gains on the way up. I maintain my long position in silver and continue to accumulate physical at the store. I don’t really have a price target at which I will sell. I view this, like gold and #bitcoin, as an easy trade for the foreseeable future and will probably only sell for reasons of necessity. If we see $48, I will probably take some profits and reallocate. Recall that I took only a very small position.

I should also follow up on this note I posted in between blog entries: http://rwhadvisoryllc.com/note-to-self-when-to-sell-dollars/ . Since then, the dollar has, in fact, dropped below 94.5. In fact, is reached about 92.64 before turning around to end the week at 93.46. I have dutifully reviewed my dollar long position and left it in place. I have not previously disclosed or discussed my dollar long position, so let me start with that.

I am fundamentally in the camp which says the dollar is going to go up, and will become very strong, i.e. the deflationary camp. I have found strong thinking on both sides of the inflation/deflation debate, and I squirm a little knowing how smart some of the people are saying that the dollar is crashing, but when I weigh these arguments on my own scales I have assayed that the dollar will experience a very strong rise before any final capitulation, should final capitulation occur. Also for the record, I think final capitulation will occur, just not now and not next. For insights into one of the strongest influencers on my long dollar thinking follow @jeffsnider_aip on Twitter and watch his Eurodollar university series on youtube: https://youtu.be/P0q7W9Hqk0M

But that isn’t the only reason I went long USD. I am thinking of it as a little bit of a paired trade with a bullish spread on CVX. I think we will be seeing some real volatility in oil over the next 12 to 36 months, ultimately with much higher overall prices. CVX, which was hammered after a negative earnings report last week, is a business I am familiar with and have traded or owned in the past. I expect the volatility in the dollar to show its reflection, both positively and negatively, in the overall stock performance of CVX. In the longer term I am expecting to shed my dollar long, and in the meanwhile look for gains and losses to partially off-set between these two trades. I don’t expect it to be a very direct kind of hedge. Just a little bit of a paired trade. I will be looking for USD to reach at least 104 before I think about selling.

Here are the details on my CVX spread:

I was able to spend some quality time with the earnings release by NRZ this week, but since I have already carried on quite a bit, I will post my thoughts separately. PennyMac will release earnings this coming week, currently scheduled for August 6th and I am looking forward to hearing what they have to say. Broadly, for this group of companies, my themes are:

  1. Transferring the bag, i.e. – shifting shares to public float, insider selling, loading up on debt, special bonuses and payouts to executives, etc.,
  2. The attendant pumping behaviors that go with (1), above, especially an emphasis on the current and next quarterly outcomes, which will all be very strong, a reluctance to recognize known or knowable costs and impairments in the current period and an unwillingness to acknowledge the potential severity of our current economic situation,
  3. The lack of self-awareness, avoidance or denial of the fact that huge profits are currently being privatized at the cost of taxpayers due to government manipulation of the markets and nationalization of mortgage banking risk, while privatizing profits, and
  4. The structural weakness and obsolescence of residential loan servicing and correspondent lending as activities at all.

I will look forward to digging in deeper on those themes this week. Meanwhile, stay informed with these two fantastic podcasts from this past week (I am not compensated in any way for posting these links):

Pomp Podcast #351: Roger Ver on Personal Freedom and the Early Days of Bitcoin

https://www.youtube.com/watch?v=P9oC_goIX8I&feature=youtu.be

Danielle DiMartino Booth with Jeffery Gundlach

https://www.youtube.com/watch?v=WQQA74TtWao

What’s that? You WANT to compensate me for clicking on some links? Click on the link below and add Lolli to your browser extensions. Earn large cash back on purchases in addition to your credit card cash back reward program. Get paid cash back in #bitcoin, or move it to your bank account as USD. There isn’t a good reason not to @trylolli :

https://lolli.com/ref/G3qkhczpGf

Final thought, and it is a difficult one: as of August 1 we had about 155,000 covid-19 related deaths in the United States. This has played out almost exactly as I had guessed when I wrote this: http://rwhadvisoryllc.com/another-blog-post-about-covid-19/ . Now we can see with hindsight that it has coalesced in the public consciousness only very slowly, and in the face of unimaginable denial. And arguably, sadly, this amount of death has not yet been sufficient to fully bring about that coalescence, as politicians, press, and common people all battle over every aspect of the disease and our response, leaving us without a uniform plan. Have we got a long way to run? Yes.

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Bitcoin, the Dragonslayer?

It is about ten o’clock in the morning on Sunday and I am at the store.

There is a cute scene in the 1981 Disney classic “Dragonslayer” which I am reminded of often now. The story is a classic knight-saves-maiden-from-human-sacrifice tale, with our maiden selected from among the virgin girls to be fed to the dragon for the greater good. The scene I am reminded of takes place the evening before the scheduled, ritual feeding-to-the-dragon, and the knight, Galen, will almost surely be killed as he readies to face the dragon in its lair. Oh, if only there were another way out of this terrible dilemma for them both. The film makers of course are very aware there is another way out, and there is a little moment in the film to acknowledge it in an unspoken way. It’s cute. I keep having that same feeling as I listen to different podcasts and financial news outlets ponder the US dollar’s reserve currency status, where I think: ‘awe, isn’t that cute? They are talking about bitcoin but we are all playing it coy for the kids and not saying bitcoin. So cute!’. Of course, plenty of the pods are saying bitcoin, but the closer one gets to what I think is fashionably called the middle of the Overton window, the coyer the discussion. Just like movie theater audiences will invariably think to themselves (and one or two will invariably yell out) ‘Galen and Valerian should just have sex, then she won’t get sacrificed!’ I feel like yelling into my phone at these interviews: ‘oh, yeah, and there is already a politically neutral, high-functioning alternative with a booming financial services eco-system growing all around it!’. But they know that.

When I hear the discussions about secular transitions from deflationary to inflationary episodes, I have the view that bitcoin brings a lot of gravity with which to affect the process. So, within a framework of dialogues where participants seem to agree, more or less that 1) there will be a big impact from monetary and fiscal actions, 2) that impact should generally be negative effect on USD’s relationship with world trade, that 3) the timing and severity of the negative impact are ameliorated, domestically, by USD’s status as the pre-eminent global reserve currency, and 4) that the transition away from dollar denomination hinges on the lack of an alternative, it makes me think of Galen.

For those interested, I can think of two places where I have recently heard some strong discussions about macro trend shifts, where the discussion of USD’s global reserve status seems to blush toward bitcoin. Both are on Macrovoices podcast. One of those I mentioned previously on Twitter, where you can follow me @goodfindstores Check it out here: https://twitter.com/GoodFindStores/status/1265462553011871744?s=20

The other is a Macrovoices episode I listened to just last night. Check out guest Harley Bassman at about minute 41:00 as he gets into explaining the dynamics he thinks will impact the secular transition:

https://www.podbean.com/ew/pb-sbzi6-e12334

I mean, he even says “there is no plan B”, as if a coy nod to the prominent analyst, thinker and writer from bitcoin Twitter, @100trillionUSD, and all of the bitcoin community.

Mentioned in this episode are a couple other themes I am following, and which are coming up more and more. The first is the idea of investing in art, jewelry, and other stores of value as a hedge against the risks of holding cash during an inflationary episode. It just gets a passing mention in this episode, but this subject is very germane for me since I am naturally long both fine art and jewelry through my resale store. I think antiques will also see a resurgence, if not for their value as decor, or utility items, then for their scarcity of material and construction. The second is the spread trade Mr. Bassman talks about putting on the SPY, to get strong trading leverage on a macro thesis in this messed up market. These are the exact kinds of trades I have been using to deal with the environment, and my speculative objectives. I think even my most recent post about SIVR fits this model of trading, which I wrote about here: http://rwhadvisoryllc.com/animal-spirits-or-spirit-animal/ . So, nice to hear such an experienced voice advocating the strategy I have been using. I have been hating the high cost of premiums on SPY, but maybe will fish around there and some other broad indexes for an appropriate spread trade when the markets open tomorrow.

Final thought:

No day is complete

No cycle can be all through

but for some changes

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Request for Clarification on How to Get Sprayed With the Money Hose

It is about ten minutes after three in the afternoon on Sunday, and I am at the store. Sunday is a day I dedicate to study and learning, and today I have been smarting up on the CARES Act, CA AB 2501, and incidentally reading the MBA letter issued to the Chairman of the Federal Reserve on May 28, 2020 titled “Request for Clarifying Guidance on Independent Mortgage Banks Eligibility Under the Main Street Loan Program”. Let’s take this last one first, since it is the one that finally halted me.

The purpose of the letter is to ask the Fed to clarify restrictions and limitation on participating in the Main Street Lending Program (MSLP) to ensure Independent Mortgage Banks (IMB’s) can participate and get loans to fund their operations. The MSLP is among the many actions taken by congress, the Fed and Treasury to provide liquidity to small businesses. Here is my recap of the letter:

  • IMBs need access to operating funds, even though they have large credit facilities for the purpose of financing their mortgage loan purchases. Since these giant facilities can’t be used for operating purposes, generally, the IMBs want access to loans which can be,
  • The giant warehouse credit facilities are already lent at multiples much higher than the maximum multiple allowed under the MSLP. The letter seeks to exclude these giant credit facilities so that their remaining leverage ratio will allow them to qualify for more debt,
  • The giant credit facilities already encumber all of the company’s assets, and it is warranted that no new lien will hold the same or higher level of security interest. The MSLP requirement of seniority or pari passu renders IMBs ineligible. They would like the government to accept a lower priority so that the IMBs can access the funds,
  • Banks and finance companies whose stock and trade is money, and who engage in finance activities, are expressly excluded, except for i.) those that engage primarily in loan servicing and ii.) those that “originate to sell” and sell their loans within 14 days of origination. The letter hopes to eliminate the 14 day requirement, since some loans may take longer than 14 days to sell.

That isn’t exactly how letter-writer Pete Mills put it though. Here is the link to the letter:

https://www.mba.org/advocacy-and-policy/all-letters-and-testimony

I have a few beefs here. The main one though, amid what is otherwise a weak plea for a spray with the Fed’s money hose, is that this exact cohort of businesses are currently experiencing some of the most gob-smacking margins any of them have ever witnessed, and the industry is so far over its capacity with quick, easy-money refinances due to the low, Fed-induced rates their main problem is stuffing their pockets as fast as they can while these dislocations prevail. It is gross.

Independent banks that “originate to sell” in particular should not need the benefits of additional operating capital during these times. They are drowning in a sea of money and asking for a money float. Servicers face a different set of challenges, and I will write more about them here shortly, but they, too are not in a position of financial difficulty at this time, and are in fact enjoying out sized gains and opportunities. Recall that I wrote about the first quarter earnings calls for some of these same businesses a short time ago, here:

Oil Wasn’t the Only Asset That Went to Zero in March

I will re-post the quote from CEO of Ocwen (OCN) Glen Massina:

“In terms of the profitability of new servicing, look, margins in the origination environment we’re in today are at levels few of us have seen in our lifetime. It’s a very robust originations market, both from a volume and a margin perspective. In our portfolio retention channel, the economics are such that fundamentally, MSRs — the cash cost of the MSR is zero. So we are — that MSR has come back — coming back to us without necessarily a cash investment. And margins and correspondent lending, again, are as wide as — and our flow channel’s wide as we’ve seen them in quite a long time. So the cash cost, so to speak, of MSR creation is well below the fair value. There’s a number of dislocations in the market, as you might be able to suspect, that’s kind of driving that. But the returns on MSRs today are some of the best we’ve seen.” [emphasis mine]

To translate, he is saying that this industry is currently feasting, and that the market dislocations are a big part of it. Massina repeatedly made the case during the earnings call that the only constraint on (Ocwen’s) growth would be its access to capital to invest. They don’t need this money to continue as a going concern, they want it to further leverage profits.

I get the MBA is in the business of advocating for the advantage of their constituents. I get that everyone who is in business is trying to leave no advantage on the table when it comes to profit, or survival. It is still gross. Maybe if you are an IMB and finding yourself in financial difficulty right now, you should call rwhadvisory LLC and ask for help instead of asking the taxpayer for another bailout. I will accept either equity in your company, or #bitcoin as payment.

Anyway, I set out today to address this CA AB 2501 matter and got side-tracked. I have used my entire time-block to scree on this other letter. Here is the short version of my AB 2501 thoughts:

  • Predictably, I am unsympathetic to the servicers
  • I find the May 17, 2020 MBA letter to the California assembly to be more weak tea
  • I think this bill seems like too much right now, but will turn out to be almost about right as we continue through the pandemic, and I bet multiple, successive actions at the federal level will eventually catch up with what is being proposed in AB 2501
  • Whether the bill is good or bad, this bill is reason #47 for why residential mortgage loan servicing is not an asset

I will be back very soon to expound a little more.

Final thought, and it goes pretty good with the mood of my post, check out the latest by @peterMcCormack on his Defiance TV pod:

https://www.defiance.news/podcast/robbing-hood-the-steve-mnuchin-story-part-1-friends-with-benefits

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Oil Wasn’t the Only Asset That Went to Zero in March

It isn’t exactly news, since the Ocwen (OCN) earnings call was held on May 8th, but I was only just able to make my rounds through recordings for mortgage cos this past week for those I follow. One of my favorite highlights from the calls is Glen Messina, CEO talking about current margins and the ‘cash cost of servicing’. It is at about minute 36:00 if you want to listen to it here: https://edge.media-server.com/mmc/p/nx2pnfmv Here is a transcript of the relevant part:

“In terms of the profitability of new servicing, look, margins in the origination environment we’re in today are at levels few of us have seen in our lifetime. It’s a very robust originations market, both from a volume and a margin perspective. In our portfolio retention channel, the economics are such that fundamentally, MSRs — the cash cost of the MSR is zero. So we are — that MSR has come back — coming back to us without necessarily a cash investment. And margins and correspondent lending, again, are as wide as — and our flow channel’s wide as we’ve seen them in quite a long time. So the cash cost, so to speak, of MSR creation is well below the fair value. There’s a number of dislocations in the market, as you might be able to suspect, that’s kind of driving that. But the returns on MSRs today are some of the best we’ve seen.”

Now, one of my recurring themes I will write about a lot is that servicing rights have no value, and are a liability, not an asset. To be clear, there is a big difference between what Glen is saying when he says servicing rights are worth zero, and what I mean when I say it. What Glen is talking about is that the amount of cash he can get from the government for just the mortgage loan, without selling them the servicing right, is the same or more than he can get in private transactions for both of those things together. What I am saying when I talk about servicing rights not having value and not being a real asset is that fundamentally, I don’t think the activities that comprise residential loan servicing have value, and in fact, have negative value across consumer, mortgage banker and bondholder, serving no one and yet being called servicing. Glen’s comments delight me anyway because, well maybe we are sort of saying the same thing. I can remember in 2008 when servicing also ‘went to zero’, in the Glen sense. I seem to recall a lot of residential housing stock transferred from owner-occupied to investor-owned following that. (checks watch).

Other things that stuck out as general observations to think about:

Change in carry-back rules under the CARES Act. Seem lucrative, won’t help the federal debt any. Doesn’t do much for the folks paying the servicing fee. Why can’t individuals access their own, previously paid taxes in years when their income declines? Think how that might change behavior, and leave a (thoughtful) comment.

PennyMac (PFSI) is an overachiever. At hedging.

Updating on the oil tanker trade, we had earnings and…yeah. Not too exciting. I think last week we speculated that the air was out of the trade and it seems there is confirmation. That was anticlimactic. Anyway, I have FRO through June expiry and NAT all the way to October so we shall see. I have not had opportunity to really get into a post mortem on the trade but I think what we are seeing is the same phenomenon as the futures prices for oil: another sign post saying “not a V” . This tweet from @Chigirl sums it up for me:

Finally, I will confess my failed Tilray (TLRY) trade. It was pure speculation that earnings could surprise to the upside and make the shorts feel awkward. Another air biscuit. Option premium to the gambling Gods.

Teaser to keep you coming back: I am working on a product review for a VPN service provider, Orchid, which operates on a token called OXT. My effort at diving into to the incredible ecosystem of businesses and services in the crypto space. And we’ll be taking a harder look at some residential mortgage servicing stuff.

And, for your final take-away, @PeterMcCormack has produced a ton of great #bitcoin related content, including compressing his comprehensive, 17-part series on What Bitcoin Did into a paltry hour-twenty or so minutes. It can be found here:

https://www.whatbitcoindid.com/podcast/bitcoin-in-one-lesson

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PennyMac Earnings For Breakfast

It is still May 6th, and I am still at the store. It is now about twenty minutes before seven in the evening. I want to write a few words about PennyMac and earnings tomorrow. Obviously, with my history with PennyMac and its management, my views on the company are plagued by biases. Those biases suggest the company operates at a constant deficit in human and intellectual capital which will impede even a successful strategy. And my assessment of the company’s strategy is basically this: PennyMac is not a company built to last. It is a company built on the oldest models for the purpose of exploiting the institutionalized business of mortgage banking. It exists to profit to the very fullest extent possible before the inevitable collapse of the current, anachronistic (and I would add anti-competitive, socialized risk) model of the industry. I don’t judge that as a wrong-headed thing to do. In fact, it cannot be argued against, if one looks at the financial performance of the company so far. I am saying the company is purpose-built, and that purpose is not to lead an industry into the future, but to seek the available excess rents while they exist. While one can chalk up my views of management to the bitterness of a failed work assignment, I think this strategy assessment stands up to scrutiny. If one considers the start of the company, where its money came from, what other business interests that same money had and has in and around the same industry ecosystem, who the leadership team is and what their backgrounds are, I think there is a good argument to say I am right. Time permitting, I will expound more on these questions of origin and interests.

PennyMac’s planned obsolescence is not its only weakness at this point in time and this point in the economic cycle. Or perhaps even because of its mission, it is concentrated in businesses I think are especially vulnerable to sudden disruption, by intervention or by market forces. Specifically, I am talking about correspondent lending and residential mortgage loan servicing. I view these as obviously fragile businesses that are capital intensive and valueless. Again, I will certainly be expounding on these subjects in more detail in the future. Add to these the latest developments in credit risk securities esoterica, financed with leverage, of course, and gorged on by PennyMac and I just could not be more bearish.

Still, is it enough to have conviction for a trade? No. I just don’t have enough insight to say what the trade will be for tomorrow’s earnings. I am on the sidelines, eager for a look at whatever the public docs say and don’t say. Even if I thought I had insight into financial under performance, in this climate of Fed intervention, I’m not sure it would matter. Everyone is getting a bailout if they are big enough to have lobbyists. And PennyMac minds its Washington connections.

If I could share one tradable insight, it would be this: During the first quarter founding partners of the company, acting in coordination with it, took actions as disclosed in published 8-Ks, to dis-invest about 35% of the company’s equity, transferring it to public float. People will argue that these sorts of actions get planned well in advance, and many features of the economic landscape could not have been known by the investors and management at the time the decisions were being made. My point would be that it doesn’t matter. The founders had an exit planned when they went in, and they are beginning to exit. They may be very happy/lucky that they transferred their ownership and its attendant risks to the public just as the markets were about to collapse (and arguably, just as the old model of the mortgage industry is about to disappear). Maybe it is just good fortune. But keep in mind, many sophisticated investors have been aware of the potential impacts of the coronavirus since December, or possibly November of last year. This is doubly true for investors who are well connected politically or who have global financial interests. Even putting all of the pandemic to one side, as though it never had happened, the macro-climate was already in serious distress. Fed interventions have pre-dated the coronavirus by many months. I can easily imagine that the founding investors saw the sun setting on the business model and started to execute their planned exit well before the virus. It was just time.

I don’t know how bad tomorrow’s results will be, or maybe even they will be good. But the rats are leaving the ship. It won’t be staying afloat for long.

Parting gift: another #bitcoin meme that made me laugh over and over… https://twitter.com/i/status/1258070598225408001