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TMFAleph1 (96.00)

Hedged Trade Idea: Long Bear, Short Goldman

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September 21, 2007 – Comments (5)

12:05 PM

After having written out my three busted myths in yesterday’s blog post, I was absolutely chuffed to see that James Melcher, who manages Balestra Capital, agreed with me that the Fed rate cut won’t solve deep-seated problems in the housing/ debt markets. He was quoted as saying: "It’s [The rate cut] certainly is going to help, but part of these problems we are facing are intractable”. In August, Melcher was reported to be up 100% for the year in his flagship fund thanks to a bearish bet on subprime mortgages. From what I have read, he seems like a deep, contrarian thinker and he has enjoyed much success running his macro fund.

But on with my topic for the day. With the brokers having reported (mixed) results this week, I think there is an interesting idea for a hedged trade in this sector. Goldman Sachs blew the doors off, with a 79% increase in net income, while Bear Stearns suffered a 61% decline in the same. Obviously, you want to own Goldman, right?

Wrong. 

I think going long Bear Stearns and shorting Goldman will prove to be a winning trade over the next year. Although Goldman proved that it is incredibly nimble for a financial behemoth, anticipating the subprime crisis and positioning itself accordingly in its proprietary trading, I have to believe that the results they have recorded this quarter and for the past few quarters are well above trend. Indeed, despite the awesome display of strength in the current quarter, the stock failed to reach its 52-week high. Meanwhile, expectations for Bear Stearns, which remains a wonderful franchise, are much lower. 

That’s my call: long Goldman and short Bear Stearns. I will track the results starting with yesterday’s closing prices and over a 1 year time horizon. Perhaps I should log it in CAPS (one leg might hurt my accuracy, though).

Have a good weekend.

 

Total: 315 words

Time: 11 minutes [went over slightly!]

 
*** The above text was written (and spell-checked) in ten minutes. As a result, some of it may not stand up to rational scrutiny. I apologize preemptively for any errors, omissions and misrepresentations. ***

5 Comments – Post Your Own

#1) On September 21, 2007 at 1:19 PM, TMFAleph1 (96.00) wrote:

*** ERRATUM ***

The last paragraph should of course read:

"That’s my call: long Bear Stearns and short Goldman. I will track the results starting with yesterday’s closing prices and over a 1 year time horizon. Perhaps I should log it in CAPS (one leg might hurt my accuracy, though)."

Thanks to Joe Magyer for pointing out the error.

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#2) On September 21, 2007 at 8:05 PM, FourthAxis (< 20) wrote:

No, frickin' way. 

GS navigated the treacherous waters of sub-prime without a scratch and BSC got dealt with.  So why switch best of breed now?  Only if they switch staffs...

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#3) On September 22, 2007 at 4:23 PM, rd80 (98.66) wrote:

This would be an interesting CAPS feature - paired up-down calls for companies in the same sector.  The score would be the differential returns of the two stocks rather than the delta with SPY.   From a stock rating perspective it could sort out how the collective mind ranks stocks within a sector.


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#4) On September 25, 2007 at 8:50 AM, TMFAleph1 (96.00) wrote:

GS navigated the treacherous waters of sub-prime without a scratch and BSC got dealt with.  So why switch best of breed now?  Only if they switch staffs...

 

FourthAxis,

Thanks for your comment. I agree with you that Goldman Sachs is the superior franchise, but my call is based on the difference in valuations they are being awarded by the market. Goldman's exceptional performance over the last few quarters has lured investors who are eager to believe that this will continue until kingdom come. Meanwhile, the gloom and doom that surrounds Bear Stearns means that they have a much, much lower hurdle to clear in order to be revalued upwards.

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#5) On September 25, 2007 at 8:52 AM, TMFAleph1 (96.00) wrote:

This would be an interesting CAPS feature - paired up-down calls for companies in the same sector.  The score would be the differential returns of the two stocks rather than the delta with SPY.   From a stock rating perspective it could sort out how the collective mind ranks stocks within a sector.

rd80,

Thanks for this interesting suggestion. I will pass it on to the CAPS team

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