The World’s Most Crowded Trade


By: Chris Tell

With over $900 billion invested into bond funds by mom-and-pop investors since the global financial crisis, the great law of unintended consequence is gearing up to rear its ugly head. Once again, money will be taken from those least able to afford it.

Take a look at the graph below, which shows the spread between junk grade bonds and US treasuries (the 10 year). You’ll note how the spread  isn’t really a “spread” anymore because it has been squeezed to almost zero by delusional, yield-hungry fools. A premium of some 2.5% above the US 10 year treasury is nothing short of insane.

This is indicative of how crowded the bond market really is. Thank you central bankers for your service to mankind.

“Relative value” is increasingly what investors seek, in the process of leaving common sense on the breakfast table. As our monetary overlords punish savers, those savers turn to other “relative” yield investments to obtain interest rates over and above that which is offered in the completely pathetic government debt markets.

Naturally this has led them into junk bonds. Ask your neighbour if he knows what a junk bond is and he’ll likely stare blankly at you. Ask him where he’s investing and he’ll quite possibly tell you “high yield bond funds”. Safety is important you know. Bonds are safe. Much safer than equities. Really?

Consider that debt rated below Baa3 by Moody’s and lower than BBB by S&P has declined to 5.96%. To put this into perspective, the average yield over the last decade for these bonds is 8.91%. A return to the mean is sure gonna hurt.

Now let us play devil’s advocate for a minute. What if central bankers follow through with their threats to reign in stimulus? I know, I know they’ve painted themselves into a corner but let’s play the game, shall we. Should they follow through there would be an exodus out of bond funds, causing credit markets to freeze up.

The real question to ask ourselves is this. What if the market decides to begin acting ahead of, or despite the actions of central bankers. In most instances of dramatic crisis market forces drive values and price moves not central bankers, who typically rush in to “save” the situation after the fact.

Now imagine the effect on junk bonds which are less liquid than say treasuries, should the market begin to react to severe miss-pricing of risk, or indeed QE takes a walk over the horizon and does not return. As interest rates tick higher it’s not hard to imagine some of these bonds going no bid for long enough to cause a few heart failures. In a crisis some of these overleveraged companies sitting in fund managers portfolios will not be able to refinance their debt and for bond holders it may well be a 100% wipe-out. There is a reason it’s called junk.

There are a number of ways to position for sanity to return. Directly shorting via futures, buying puts on junk grade bonds or even junk bond ETFs. Instead of pinpointing one or two, feel free to look at any of these, which is a list of junk bond funds.

Asymmetric trading opportunities like the one just discussed are the brainchild of Brad Thomas, not me. The trades he and I discuss and write about herein are indicative of the sort of positions he takes in his fund, which is currently closed to new investment. Please drop your email in the box below and we’ll notify you when it is taking investment and you’ll be provided with additional information.

We share these ideas with you so that hopefully investors who are long might at least consider the setup and act in accordance with that knowledge. Even if Brad is wrong, the return or compensation for taking on such risk is just mind-blowing. Caveat emptor.

- Chris

“The past is always triple-A. We can all remember what the past was. But if we try to make the future triple-A, we have no future. The future is always single-B.” – Michael Milken

Europe – Here is What the Wealthy are Doing

By: Chris Tell

There are essentially three main reasons for using Banks:

  1. Storing cash for ease of transacting;
  2. Keeping cash safe from theft;
  3. Earning interest on your capital.

As a teenager I remember opening my first bank account, diligently saving my money and watching it slowly grow. Receiving “official” mail was cool. I felt important by simply receiving my monthly bank statements with my name on the envelope.

I was confident that by banking my cash I was protecting my capital. After all, it seemed a better idea than sticking it in my sock drawer, and I soon found that I was earning interest on my money, something else my sock drawer couldn’t provide.

Little did I know or understand how modern banking actually worked back then, though it’s only gotten worse since I opened that first bank account many years ago. Much worse, in fact.

In Europe, Banks reserve ratios have literally collapsed, despite what the “stress tests” conducted by Eurocrats want us to believe. Passing a European Banking stress test these days is a little like farting – easy to do, mostly hot air, and yet it typically warns of something else coming down that isn’t going to be pretty. And for those who see the writing on the wall, they know it stinks.

As Reuters recently reported:

European banks have a combined capital shortfall of about 84 billion euros ($115 billion), German weekly WirtschaftsWoche reported, citing a new study by the Organisation for Economic Cooperation and Development (OECD).

French bank Credit Agricole has the deepest capital shortfall at 31.5 billion euros, while Deutsche Bank and Commerzbank have gaps of 19 billion and 7.7 billion respectively, the magazine reported in a pre-release of its Monday publication.

If you’d like your eyes to bleed, you’re welcome to read the entire report here.

It is no surprise that cash withdrawal limits are being implemented across Europe, and cash transactions of more than a fleeting amount are actually being banned. Yep, it is actually illegal to purchase anything over 1,000 Euro using cash.

Want to have a big party night in Berlin? No problem. Go to the ATM and withdraw a couple hundred Euro in cash. If you’re a central banker out for a taxpayer-funded soiree, (un)fortunately you’ll have a problem, as you’ll likely need to withdraw a few thousand Euro (hookers and blow aren’t cheap). I wonder how they’re going to pay for services rendered now? With a Visa card?

It was only a few months back that HSBC were publicly humiliated for restricting cash withdrawals by its customers. Now this is becoming commonplace across Europe.

Why are they doing this?

Two reasons:

  1. Bank runs are a real risk if the populace actually wakes up;
  2. Controlling the flow of money allows the controlling of people. Ensuring that transactions are all digital guarantees that financial privacy is vaporised.

None of the above information is particularly enlightening for those paying attention. However, what is going on to combat this might raise a few eyebrows. I thought I’d relay a little story which came out of a conversation I had last week with a friend.

Switzerland, once known for its robust banking privacy and healthy capital ratios, despite all of Europe’s troubles, is still home to large pools of wealth. My friend maintains a relationship with an old banking colleague, who is currently working with fiduciaries in Switzerland to get client money out of their own bank accounts and into physical cash. These clients are no longer allowed to withdraw large amounts of cash, THEIR cash, directly from the banks any longer. However, they are free to wire funds anywhere they please.

What is therefore happening is that the fiduciaries are wiring the money to Hong Kong, where it is picked up by a “messenger” and placed in an envelope to be couriered BACK to Switzerland, in cash. There are currently no restrictions on remitting cash into Switzerland. Right now a loophole exists, and these wealthy clients are moving many millions of dollars each week – wiring it out of the country only to have it sent back in cash. No doubt they’re looking to put it in the sock drawer! What do they see that the man on the street doesn’t?

Remember the 3 reasons for using a bank account mentioned at the beginning of this article?

  1. Storing cash for ease of transacting – This is still valid so long as you use the system.
  2. Keeping cash safe from theft – The words “safe” and “bank”, at least with most European banks that is, should not be used in the same sentence. Aside from the theft occurring on a daily basis by our central bankers, the risk to waking up one day to a nationalization of your European bank is a real and present risk.
  3. Earning interest on your capital

Central bankers have single-handedly destroyed any incentive to place capital into the traditional banking system for yield. Anyone buying CDs thinking they’re safe and that they provide a satisfactory return is simply delusional.

- Chris

“The Eurozone was never designed to cope with millions of Spaniards moving their money out of the country, behaving like middle-class Venezuelans with offshore accounts in Miami. And it also was never designed to cope with capital controls. But increasingly, it looks like we’re going to end up with one or the other. Or both.” – Felix Salmon

No Thanks, Call Me When You’re Dead

By: Chris Tell It’s no secret that Mark and I work with a lot of start-ups. In this capacity we align closely with various accelerators, incubators, venture capitalists, bankers and the attendant flotsam and jetsam in the early stage capital markets. All of the above mentioned folks are typically focusing on working to finance, build […]

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Value in France – Who Would have Thought?


By: Brad Thomas and Chris Tell Nowadays France is better known as the country which has managed to take incomprehensible, anti-growth, anti-sanity, bureaucratic policies, layer them on top of existing, mind-numbing socialist stupidity and have their citizens think it all as ordinary as chocolate cake. It’s enough to induce a guy to reach for Xanax, […]

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What Twitter, Yelp, Groupon, Bankrate and Have in Common with Your Pet

By: Chris Tell I’ve been thinking about pets a lot lately. We have a couple of them. We’ve managed to have cats for years, and always found someone to watch them while we country hopped. Dogs are much tougher, so we held off for quite some time. Our travel/expat lifestyle hasn’t exactly been conducive to […]

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A Tale of Two “Bull” Markets

By: Mark Wallace I recently had a conversation with a colleague wherein I told him that I was starting to look away from “tech startups” and instead at undervalued assets like natural resources, preferably in overlooked frontier markets. The old axiom, sell when everyone else is buying and buy when everyone else is selling is […]

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