What a Disaster This Investment Has Been

When I was younger, 16 I think, I wanted to be George Soros. Horror, I know given that there are probably parts of the world I’d be dismembered in the streets for uttering such a comment. Grumpy old bastard with abhorrent political ideas.

Yes, all true but at the time I wasn’t focused on any of that. I’d read about his shorting the pound – $2 billion in profits with $1B of that in a single day!

I’d just gotten interested in currencies. A strange thing you may think for a 16-year old and you’d be right, but I was living in a country with capital controls and was beginning to think through how I was ever going to “get out”. Tand this led me to investigate how rich people “got out”, which in turn brought me to reading about rich people…enter Soros.

In any event, rightly or wrongly, I viewed Soros as the little guy who bet against the big guy and won. A modern day David and Goliath story. Who couldn’t appreciate that?

Soros made a fortune on an asymmetric trade, but there are others of more recent fame. Let’s see:

  • Andrew Lahde
    • Made 1000% shorting the US subprime market.
  • John Paulson
    • Made $4 billion shorting the US subprime market
  • Kyle Bass
    • Bought Greek CDS and made 70,000%. He also made 600% shorting the sub-prime market and from 2006 to 2009, his fund returned 340% net of all fees and expenses while the S&P 500 has returned -42.3%. The fund’s annual return was a whopping 85% for the 3 year period mentioned.

What I takeaway from this, other than Kyle Bass being an obvious underachiever, is that when a lopsided market turns, fortunes are made.

Now, you’ll notice that the above mentioned trades involved short selling. One reason that short selling occasionally produces such spectacular returns is because typically short selling is a loss-making proposition. Precisely because it all too often produces losses, is exactly why asymmetry builds up allowing for such amazing returns to be garnered when the imbalance is finally corrected.

We’ve mentioned previously where we believe asymmetry lies. In the Japanese Yen, which we discussed here, here and here, and more recently Brad’s shorting of the Renminbi which we detailed here. These are trades which we’ll just keep rolling as part of a broad asset allocation and risk management plan. We believe our ship will come in and we’ll be patient until such a day arrives.

What I’d like to look at today is a sector I think well worth a bit of scrutiny… miners. Oh, what a dirty word!

Before providing you with the basic investment thesis, I’d like to review an article we published entitled, “Buying Bombed out Equities for Outsized Returns”. In it we provided some stats worth reviewing.

Average 3-year nominal returns when buying a down sector (since 1920s):

Down      Avg. Annual Return

60%   =    57%

70%   =    87%

80%   =  172%

90%   =  240%

Average 3-year nominal returns when buying a down industry (since 1920s):

Down     Avg. Annual Return

60%  =   71%

70%  =   96%

80%  =  136%

90%  =  115%

Average 3-year nominal returns when buying a down country (since the 1970s):

Down     Avg. Annual Return

60%  =  107%

70%  =  116%

80%  =  118%

90%  =  156%

Notice that the second column is the average annual net return. Now, average is… well, average. Imagine you put even a little bit of effort into a sector, country or industry.

The beauty of what I’m sharing with you is that if you just focus on the numbers and take all of the emotion out of the equation, it’s no longer about being contrarian or trend following; it’s purely about following a statistical formula. While that is no guarantee that the particular sector, country or industry you’re tracking will perform as indicated above, it does provide a proven process, and we’ve got the data to prove it.

In light of the above I present to you one of the most horrific investments of the last few years (one which we’ve recommended on occasion, ugghhh): gold mining stocks.

The GDXJ ETF is down 87% from its high in late 2010, and the GDX ETF is down 74%. Statistically we could expect a pretty spectacular return going forward. Both seem like they’re still in free fall and I’m not here to pick a bottom., I’m just playing the odds. Nobody and I mean nobody wants to have anything to do with this sector. The odds look decent to me.

Now these are the ETFs of course, and the problem with mining stocks in the ETFs is that most of them are complete garbage and will never make any money. At least not for shareholders.

For this reason we put together this list of mining companies – all selling for less than cash.

I humbly suggest that simply remembering the statistics above and then buying a basket of better performing companies which are selling for less than cash on their balance sheet, will reduce overall portfolio risk, provide potential for outsized returns and should the strategy work out with the sector rebounding, the returns on the stocks here should theoretically outperform the index or ETFs.

Just remember this isn’t a call on gold going through the roof, or anywhere at all. It is merely looking at asymmetric trading opportunities.

Best of luck!

– Chris

“A stock operator has to fight a lot of expensive enemies within himself.” – Jesse Livermore


This Post Has 3 Comments

  1. Peter schiff

    Just to add some interesting background information, I first meet Andy lahde after he had been trying to raise money to short subprime. He could not find any investors willing to commit and did not even have a fund yet. During our first meeting, Lahde was amazed to find that I was even more bearish on housing than he was. I agreed to seed his fund with money from my brokerage clients and we agreed to split the 2 and 20 fees 50%. As a result of that meeting Lahde set up his hedge fund. If you ever watched my mortgage bankers speech on YouTube the hedge fund that I referring to about shorting subprime was the Lahde fund. Promoting that fund was the only reasons i was at he conference I also held a workshop specifically on the fund. Out of 3 thousand attendees only 1 invested.

    The key to making these kinds of returns is to find the false narrative everyone believes in and bet against it. However sometimes you need to wait a long time to get paid. The false narrative now is that the fed’s monetary policy worked, the U.S. is experiencing a real recovery, and as such the fed will end QE and raise rates. It’s also that those who warned about inflation and a falling dollar have been proven wrong by this success. This is an even a bigger misconception that the housing bubble and one way to bet against it is by buying gold stocks.

  2. Michael Ryan

    Any updated thoughts on Energold? It’s down another 40% since the article in January. Has the thesis changed at all?

Leave a Reply