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League of Power

The League of power

"Freedom by Friday"

The Trouble with Bubbles

What goes through the mind of an investor through the various stages of an investment or the decision to invest?

Let’s look back at the most recent bubble, housing. When you bought your house in 2003 for $300,000 you felt good. The house next door sold a couple of months prior for $307,000. The following year you received your property tax assessment and you saw that the value of your house increased by 4%. Well, better than a decrease you thought. Then, in 2005 something strange happened. The guy down the street put his house up for sale for $400,000. He’ll never get it. He did and you and your spouse were standing pretty tall. Retirement was five years closer. That same year the guy next to you added a pool and bought a new BMW.

As neighbors can’t really keep secrets when they feel they have one-upped you, he reveals that he used a second mortgage for his new purchases since his house appraised at $450,000. Now, you’re really excited. But, instead of wondering why this is really happening, you bought the line from Wall Street and the Government that this IS supposed to happen. Really, a 50% increase in your home’s value in one year is normal? Better still, since it is happening everywhere, it must be real.

In 2006 your tax assessment arrives and now your home is worth $600,000 – a double. Your property taxes have also doubled, but who cares since you’re feeling very rich. The municipality is feeling pretty rich as well and you start seeing the roads getting repaved and new streetlights. Life’s good. Well, we all know how this story ended.


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What’s not funny is that the entire bubble in housing unfolded before our very eyes. We saw it, but we didn’t want to believe it. Instead we wanted to buy into a dream, something that we are genetically predisposed to doing. We wanted easy street.

Fast forward to today. There is a huge bubble forming today. It’s not in the US, not in Europe, but in China. Yes, my friends, the Chinese are sitting atop a massive real estate volcano. And, just as we turned a blind eye to ours, they are doing the same to theirs. Last year real estate prices in major Chinese cities shot up 60%. Regular folks were priced out and complained about the richer folks buying five and six apartments at a time, driving up prices. Since January of this year, prices have moved up another 6%. Now, you may be thinking that an apartment in Beijing is only worth a few thousand dollars since China is a poor country. You would be wrong. These places are selling in the hundreds of thousands of dollars range.

The Chinese government is seeing this happen and is powerless to really do much about it because it is scared of plunging the country into chaos by popping the bubble. That’s the trouble with bubbles; no one wants them to end, not the investor, not the government. They’re too much fun for everyone while they are inflating. So, if you are looking for that next big investment idea and you have some time to wait it out, put the Chinese real estate market on your radar. When it crashes, so will the Chinese stock market, again. The great thing about history is that it does repeat.

Efficient Markets – Really?

If you read the textbooks and works of authors who proclaim themselves investment gurus, you might be led to believe that investing is a pure science. Efficient markets, access to information, round the clock trading, regulatory compliance etc., are all meant to assure individual investors that markets are credible places to invest.

Yet, nothing can be further from the truth. If the markets were efficient, we would not have hedge funds, insider trading, market manipulation, currency crises and bubbles. Yet, we have all of those things going on and with surprising regularity.

Of course the most recent example of this is the revelation happened last week when Goldman Sachs allegedly participated in a fraudulent action when constructing a derivative product linked to mortgage backed securities. The details of this alleged fraud are available everywhere and there is no need to rehash them in these pages.

This week saw the continuation of the economic crisis in Greece, with the Euro pounded some more and getting close to the $1.30 level. How did Greece get away with it? Anyone who has ever followed markets seriously knows that the Greek economic model is fatally flawed simply because they spend much more than they take in…tax evasion is national pastime.

My contention is that the markets are rigged; investors wear blinders and that giant sucking sound you hear so often is your money being transferred to the big institutions. Investing is a zero sum game. If you lose a dollar on a stock, someone else is making that dollar. So, if your retirement account went down 30% last year, someone somewhere made a chunk of that 30% and probably took home a healthy bonus on top. Money doesn’t just disappear, it circulates. That $300,000 house that is now worth $150,000 didn’t lose $150,000. That monetary loss was transferred from your books to the banks books which then ended up on the government’s books and guess what? We all shared in the payment of that loss. And, as a result, the national debt ticked up a little and we are all poorer for it.

Hedge funds pride themselves in finding unique ways to profit from market action. They are masters are devising strategies that allow them to profit from the most obscure market movement…or so they say.

A look back in time to last year reveals that one of the most successful hedge funds, Galleon allegedly found one of these unique twists in the market to make their investors money. They figured out, and this is a very sophisticated technique that you should NOT try at home, that if they got insider information from a company employee, they could place a bet and make money. Wow, why didn’t I think of that?

Markets in the US and abroad trade on inside information. They always have and they always will. We tend to place some type of sanctity on the markets. We pretend that they are level playing fields where anyone can make money if they follow the directions laid out by the very insiders who are out to take your money. It’s really incredible if you think about it. The only efficiency that I know exists for sure is the efficiency of Wall Street to part you from your money.

Best regards,

Kevin Raymond

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1 Comment

  1. Nibby August 21, 2011 at 1:57 am

    Gosh, I wish I would have had that information earlier!

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