Doug Kass shares his views every day on RealMoneyPro. Click here for a real-time look at his insights and musings.
It's Not Business as Usual
- The more dire the creditworthiness, the more central banks are buying up a country's sovereign debt.
- Sovereign credit downgrades are multiplying at a record pace in 2016.
- Many countries with a limited possibility of paying back their debts (unless their currencies become materially devalued) are offering 10-year yields that are equivalent to or even lower than what the 10-year U.S. Treasury currently pays.
- European banks' leveraged balance sheets are stacked with overvalued and potentially toxic sovereign debt, while their holdings of troubled, nonperforming loans are expanding.
- The contagion risk is obvious, as is the counterparty risk associated with European banks' enormous and opaque derivatives books.
All of the above illustrate the ludicrous condition that global fixed-income markets are in, with investors pricing bonds based on liquidity conditions rather than creditworthiness.
Trust me -- this will eventually come to a screeching halt, and with it could come an epic implosion in our equity and fixed-income markets.
Will this ultimately impact the valuation of, say, Bristol-Myers Squibb (BMY) ?
You're damned right it will!
Nowhere to Hide
Combine the above with the fact that S&P 500 stocks are currently trading at 23x GAAP earnings and it's obvious that stocks have just a limited safety margin. Wall Street's seven-year bull market could be in jeopardy, and perhaps gold prices are giving off just such a warning sign now.
I for one won't risk my or my investors' hard-earned capital by being exposed in any materially long manner to the market conditions that I've discussed over the past few weeks. The timing of an implosion might remain uncertain, but stocks' downside risks clearly outweigh their upside rewards.
And remember, the Federal Reserve has no more emergency tools as far as I can tell. Non-U.S. central bankers are already continuing to ease credit conditions, and some are even into negative-rate territory. (Investors are soaking up European Union sovereign debt at ludicrously low yields.)
This leaves savers disadvantaged, while pension plans, banks and insurance companies have limited reinvestment and return opportunities. The easy money has also pulled forward economic activity, corporate sales, company profits and global stock prices.
As I've often written, I can't remember a time where we had so many possible economic and market outcomes -- many of them adverse. Nor can I remember when we had such artificiality of financial-asset prices.
Still, I continue to see a "bull market in complacency," defined as Wall Street's consensus that a large drop in stocks isn't even possible when interest rates are this low. As such, I've been taking an opportunistic trading approach to a stock market that I see as overvalued.
My strategy of "shorting the rips and buying the dips" has worked well so far, although I have yet to take a particularly bold, fixed short position on stocks. But with the S&P 500 within spitting of all-time highs, I intend to do so in the near future.
Let's make a long of mortgage servicer Radian (RDN) our Trade of the Week.
I initiated a position in the stock at $10 a share, and I'm adding it to my "Best Long Ideas" list as well.
The principal catalyst for my move is word Wednesday morning that Radian has received regulatory permission from the Pennsylvania Insurance Department to redeem a $325 million surplus note.
RDN originally issued this note to conform with private mortgage insurance eligibility requirements. But now, the note's redemption paves the way for the company to do a newly announced $125 million stock buyback. That will represent RDN's first return of capital to shareholders since 2008.
Coupled with organic business growth, this buyback should help Radian earn about $1.35 a share this year and $1.75 to $1.80 in 2017.
At the same time, Radian's $10 share price represents a steep discount to book value, which should exceed $15 a share by 2017's end. Combine this large discount-to-pro-forma book value with the support of solid earnings and it wouldn't be a stretch to see RDN trade back into the mid- to high-teens over the next 12 months.
This is a manifestation of my near- and intermediate-term bearishness.