Ourobouros: A Review Mch292009

The 2nd quarter of 2009 begins in two days so I thought I would look back to compare my expectations for the year with what has in fact transpired so far. Earlier comments are quoted in italics (written Jan 2, 2009) with current remarks in normal font. 2009 will be quite different. The panic has ended, though it could reignite, as positions were largely liquidated by leveraged funds and institutions before year end. Furthermore the natural optimism of a new year, the extraordinary optimism attached to the incoming Obama administration, and finally some effects of the massive monetary stimulus initiated by Fed and Treasury programs put in place beginning in August should coalesce to create a more positive psychological environment for investors. This will be a year where sentiment will be more important than ever. The coalescing of optimism did not occur as I had forecast. There were feelings of optimism coming into the new year and the new administration but much of those effects were felt in December 08 as the market bounced from the November lows and became the consensus view by January. Plus that optimism dissipated quickly as missteps in the appointment process mostly in the form of repeated tax problems by administration nominees gave a strong impression of ineptness and squandered the expectations for change in the politics of self interest. Late in the quarter a series of economic statistics came out better than expected ( not actually good , just not as bad as anticipated) and helped fuel a rally from very oversold levels. These may be the first signs that some of the Treasury and Fed efforts begun in late august have been in place long enough to start having some minor effect. Monetary stimulus has long been considered to require 6 to 12 months before results are evident. The media driven notion that steps taken in September and October would begin to show up in November and December were wildly overoptimistic and irresponsible. But now we are far enough away in time that some result from those actions could be possible. In any case the last 3 weeks have seen a 23% rally in the SP 500 and a mild improvement in sentiment. At Infinium we have always believed personal psychology is the most important component in success. This year group psychology will be just as important. Three trillion plus dollars was pulled back in to money funds and probably equal amounts to bank accounts and other non market exposed mattresses. Will confidence or greed for yield be enough to start dragging that money back into the market? Or will continuing

negative economic news and ballooning unemployment maintain a level of fear that continues to depress money velocity? That is the pivot point for the market and the economy. The positive in this for us is continued volatility and opportunity for intelligent risk taking and edge collection. Changing fearful sentiment enough to bring back risk taking is still the pivot point for the economy. The velocity of money collapsed in 2008 and until money flows stop moving into cash equivalents and starts seeking return the economy will not recover. At the lows in late February and early March one could pick up any publication and read about the death of capitalism or the end of buy and hold. Pessimism was rampant and the almost daily spectacle of name calling finger pointing and spitefulness of the retromingent gas bags in the national legislative bodies confirmed that nothing constructive could come from Congress. All of this should be positive for market makers who benefit from fear, confusion, and volatility. Theme Review and Update Big Themes Reflation trades still good. The central banks will continue to fight deflation longer than necessary and now fiscal stimulus will be in place as well. Trading opportunities will exist in short versus long rates, spreads between treasury and investment grade and high yield bonds, forex crosses; also individual stocks and equities that benefit from or are harmed by specific pieces of stimulus legislation. I still believe this theme is solidly intact. The government will still be focused on restarting the economy and achieving employment growth using every monetary and fiscal tool they have. Trades constructed to exploit reflationary efforts should have the wind at their backs. Country Indices outright or spread based on differentials in growth estimates or policy proposals and national financial solvency. Individual country markets should be less correlated than last year offering spread opportunities. Commodity trades will be more differentiated than last years correlated boom in the first half and even more correlated crash in the second half. Examples are: precious metals as the only not currency specific trade, grains on weather and carryover. base metals and oil on rising demand from infrastructure projects fueled by government stimulus. So far in 2009 correlations have remained high but I still expect more divergent behaviors to occur. Ags will reflect growing conditions, energies will respond to global growth expectations and industrial commodities will move with China and emerging economies where infrastructure growth is highest. Politics will play a much bigger part of the action because of a new administration and one sided Congress rather than just bluster surrounding the election contest. Infrastructure companies, utilities, autos, healthcare and pharma are all likely to be heavily affected by legislation. Type and quality of fiscal stimulus proposals will push the debt markets around. Geopolitical policy will move currency, debt and country

indices. Unfortunately politics will be more important than I feared. The somewhat centrist posture Obama demonstrated in December proved illusory and a far more socialist agenda has emerged in his legislative proposals. Any sense of bi-partisan co-operation has evaporated. Republicans with reborn sense of fiscal conservatism will fight every move to increase spending. The Republican opposition will of course be viewed as entirely political since the party has no credibility after their regrettable fiscal behavior earlier in the decade. Prepare for a lot of whipsaws as any politician or administration official with a microphone in his face will have the power to move the markets when he talks out his ass as they so often do. Specific Theme s( as of beginning 2009 )

Infrastructure stocks that operate worldwide based on stated stimulus plans in the US, China, Mexico, Brazil, and India, Europe likely. I still like this theme but focus on global companies rather than domestic as the infrastructure portion of the Obama Pelosi budget had a much smaller portion of the spending in infrastructure than anticipated. Scratch Europe from the list. Precious metal are the currency alternative in an era of competitive debasement of paper currency. Platinum is outperforming. Gold still the only alternative to world wide currency devaluation as countries rush to avoid having a strong currency. Strong balance sheets versus cash poor companies. Still a good strategy. Add an emphasis on global presence especially in Asia and emerging markets. Fed will hold short rates low to press for shrinkage of quality risk spreads. This is still policy but spreads are not coming in very fast right now. China relative strength China is showing signs of life and is likely to lead any recovery. Long corporate and high yield bond funds outright ( these have had a big move during last week) and spreads of etfs of different underlying quality and maturity length. Early January saw corporate versus Treasury spreads narrow some but that has stalled some. One has been able to trade discounted closed end funds holding corporate bonds and earn a good yield while waiting for risk spreads to narrow provided one enters the trade when closed end discounts are high. Add a long commodity currency short Japanese Yen specific theme. Conclusion I do not expect nearly as much high correlation or so many enduring trends as 2008 because I believe positions are smaller and there will be more crosscurrents among

trading instruments. I do expect significant opportunities for the alert. Surprises are likely to come from geopolitical conflict (Russia – Ukraine), legislative proposals after the first quarter( in the 1st qtr appalling proposals), state and municipal finance( California), and crop failure, failure of large European banks tied to credit default swaps and or the default of eastern Europeans on Swiss and Eurocurrency loans. I do not have much to add to the earlier conclusion. Please feel free to express disagreement with my opinions. Bruce Lawrence Global Strategist Infinium Capital Management