Macro Tsimmis

intelligently hedged investment

BUY ProShares UltraShort S&P500 (SDS)

Posted by intelledgement on Wed, 19 Nov 08

We are late to this party but it is still in full swing. We foresee at least two quarters of negative growth in the US economy and it could be more like two years.

The value of real estate continues to decline, and the issue of how to handle all the folks with diseconomic mortgages, whose most rational option is to default, has not yet been addressed. Credit card debt is still a problem, and consumer spending is in a steep decline. Consequently, business earnings are at risk. Consequently jobs are at risk. Consequently credit card debt and consumer spending become more of a problem. Consequently business earnings are at risk…rinse and repeat.

And meanwhile, the U.S. government has now decided not to purchase “toxic” mortgage-backed securities, credit default swaps, and other arcane derivatives—as they said they would—in favor of acting as the investor-of-last resort in the companies that made those bad debts. We think it’s a better deal for the government to get equity…but then how do we get that bad paper off the balance sheets? (Maybe we don’t need to, as credit does appear to be loosening in the one “good” sign we do have…we say “good” on account of: wasn’t it easy money that got us into this pickle in the first place? Just askin’.) And speaking of bad paper, there’s still more out there we haven’t focused much on yet, in terms of questionable corporate debt for many shaky companies.

We are in a deflationary spiral so powerful that the dollar is swimming upstream against torrents of fresh liquidity, which would normally be sinking it. We have the spectacle of everyone on the planet lining up to buy fresh U.S. treasury debt at breathtakingly low interest rates because despite the shocking heights to which governmental debt is climbing (and don’t forget all those entitlement obligations, and all the other industries lining up for TARP-style bailouts from the incoming administration), it still appears to be the safest place to put your money. Folks, this is not a good sign.

With the dollar rocketing northwards, we are tempted just to stay in cash and collect our 2%…but at some point, the lenders will lose some confidence in the solvency of the U.S. government, interest rates will rise, and the dollar will resume its long descent into the dust bin of history. In the meantime, it is a safe bet that the U.S. stock market is likely to continue to decline.

So, the ProShares UItraShort S&P 500 ETF is designed to “correspond to twice (200%) the inverse (opposite) of the daily performance of the S&P500® Index,” using short sales, options, derivatives, and other relatively arcane maneuvers. We don’t actually care if it hits the 2X mark or not; just so long as the inverse performance promise is met, we will be happy with this one. For at least the next quarter or two, we expect.

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