(B)(N) Extreme Economics – The Bermuda Shorts

Figure 1: The Bermuda Shorts

Drama. There are currently about 150 companies in our World Trade Portfolio which are trading in the (N)-class and they have an aggregate market value of about $2 trillion and we don’t own any of them because many of them – but not all – are destined for doom in insolvency and bankruptcy and a zero stock price.

But that hasn’t always been the case and it isn’t necessarily true for all of them pending, for example, some “activist shareholder” or a takeover offer or a business recovery; please see Figure 1 above for a brief description of our problem today (and click on it and again to make larger as required).

In addition to the (N)-class companies, we have another 450 companies worth $10 trillion in aggregate that are trading as a (B-) and, therefore, we have a roughly $12 trillion market for shorts in all of those companies that are not currently trading as a (B+) which is itself a $34 trillion market for us to arbitrage as a (B)-class portfolio and if we do the shorts, we’ll have the whole market and every loose dollar in it.

The Short Story

Time is Money

Our broker will “lend” us these stocks on our margin account and all that we have to do is pay a fee (a rental) and any dividends to the real owners – for example, an insurance company or mutual fund with a cash flow problem that needs to sell the stocks for cash but actually needs to keep them because its following some index for one of its mutual funds – and we eventually have to give them their stocks back but we also expect to buy them in the open market at a lower price, possibly much lower and a lot sooner than later.

We also like to maintain a margin account for which the collateral is 25% of the long portfolio at the stop/loss prices; our broker likes to earn the 8% per year that we pay him on the margin account, and there’s no risk, but if he fails to execute the stop/loss timely, he’s potentially on the hook for the loss.

Hence, our broker “lends” us the stock and sells it for us at the current market price and keeps the cash in our brokerage account and when we want to cover the shorts, we just use the cash to buy the stock back in the open market at a lower price (hopefully) and the rest of the money is ours.

In addition, our collateral for the loan of cash and stock, as needed, is the long portfolio at the stop/loss prices and when the time is right and the price is right, we can establish a new risk price and stop/loss price for the short stocks and we can cover our shorts and buy even more for own account; in general, we always want to own as many different stocks that are trading at or above their risk price as possible within our budget because there is no way to predict a future stock price and if there were, everybody would know it by tomorrow.

Did you know that the market can be “irrational” much longer than you can remain solvent?

These calculations and more are incorporated in the Cash Flow Summary in Exhibit 1 below which rolls-back the portfolio to 2012 and then manages it forward as a (B)-class portfolio and although we knew that these stocks would all end badly and in the (N)-class, the long portfolio more than doubled our money (+126%) and returned an average of 17% per year over five years.

Moreover, the short portfolio in these same stocks further increased our wealth to 3-fold, +272%, and an average of +30% per year for five years.

And although all markets eventually end badly, there was some drama but nothing that our smart and well-connected broker can’t deal with – for a price; please see Exhibit 1 below for more details (and click on it and again to make it larger as required).

Exhibit 1: (B)(N) The Bermuda Shorts – Cash Flow Summary

For more examples of the (B)-class portfolio in difficult markets, please see our recent Posts on”The “W” Syndrome“, Steel,  Green Energy, UFOs and the High Flying Techs, and The Coal War which is heating-up again now; and the Canadian Mines have also taken-off – please see our recent Post “(B)(N) Extreme Economics – The (New) Canadian Mines” for a heads-up on that as well as The Great Rotation & Twenty Hot Canadians 2017.

And for more information and examples of the Free Market Yield and the terms that we have used above, please see our Posts “(P&I) The Dismal Equation (Ecclesiastes 9:1)” and “(B)(N) S&P 100 Volatility Risk and The Full Moon” and “(B)(N) NASDAQ 100 Volatility and The Stone Bunnies“ and for an introduction to The Barometer “(B)(N) What’s A Girl To Do” or “(P&I) The Swiss Franc Debacle“.

And for more information on real “risk management” in modern times and additional references to the theory and how to read the charts and tables, please see our Post, The RiskWerk Company Glossary and “(P&I) Dividend Risk and Dividend Yield“, and our recent Posts “(P&I) The Profit Box” and “(P&I) The Process – In The Beginning“; and we’ve also profiled hundreds of companies in these Posts and the Search Box (upper right) might help you to find what you’re looking for, such as “(B)(N) TLM Talisman Energy Incorporated” or “(B)(N) ATHN AthenaHealth Incorporated” or “(B)(N) PETM PetSmart Incorporated“, to name just a few.

And for more applications of these concepts please see our Posts which rely on the Theory of the Firm developed by the author (Goetze 2006) which calibrates The Process to the units of the balance sheet and demonstrates the price of risk as the solution to a Nash Equilibrium between “risk-seeking” and “risk-averse” investors within the demonstrated societal norms of risk aversion and bargaining practice. And for more on The Process, please see our Posts The Food Chain and The Process End-Of-Process.

And for more on what risk averse investing has done for us this year, please see our recent Posts on “(P&I) The Easy (EC) Theory of the Capital Markets” or “(B)(N) The Easy (EC) Theory of the S&P 500“, and the past, The S&P TSX “Hangdog” Market or The Wall Street Put or specialty markets such as The Dow Transports & Utilities or (B)(N) The Woods Are Burning, or for the real class action, La Dolce Vita – Let’s Do Prada! and It’s For You, Dear on the smartphone business.

And for more stocks at high prices, The World’s Most Talked About Stocks or Earnings Don’t Matter – NASDAQ 100. And for more on what’s Working in America, Big Oil, Shopping in America or Banking in America, to name just a few.

Postscript

We are The RiskWerk Company and care not a jot for mutual funds, hedge funds, “alternative investments”, the “risk/reward equation” and every other unprovable artifact of investment lore. We have just one product

The Perpetual Bond™
Alpha-smart with 100% Capital Safety and 100% Liquidity
Guaranteed
With No Fees and No Loads on Capital

For more information on RiskWerk, please follow the Tags or Categories attached to this Letter or simply enter Search for additional references to any term that we have used. Related data may be obtained from us for free in a machine readable format by request to RiskWerk@gmail.com.

Disclaimer

Investing in the bond and stock markets has become a highly regulated and litigious industry but despite that, there remains only one effective rule and that is caveat emptor or “buyer beware”. Nothing that we say should be construed by any person as advice or a recommendation to buy, sell, hold or avoid the common stock or bonds of any public company at any time for any purpose. That is the law and we fully support and respect that law and regulation in every jurisdiction without exception and without qualification to the best of our knowledge and ability. We can only tell you what we do and why we do it or have done it and we know nothing at all about the future or the future of stock prices of any company nor why they are what they are now. The author retains all copyrights to his works in this blog and on this website. The Perpetual Bond®™ is a registered trademark and patented technology of The RiskWerk Company and RiskWerk Limited (“Company”). The Canada Pension Bond®™, The Medina Bond®™, The Barometer®™, the Free Market Yield®™ and Extreme Economics®™ are registered trademarks or trademarks of the Company as are the words and phrases “Alpha-smart”, “100% Capital Safety”, “100% Liquidity”, ”price of risk”, “risk price”, and the symbols “(B)”, “(N)” and N*.