Small Cap Stocks

Since I am long CALCQ.PK, I was mildly amused to see that famed hedge fund speculator, John Paulson, was now bullish on US residential real estate, particularly the CA market. You can read some of Paulson’s comments at this MarketWatch article.

He he sees: “prices rising 3-5% in 2010 and 8-12% in 2011.”

The question, of course, is why is Paulson now bullish on real estate?

Since intelligence and great wealth are mutually exclusive, I think it is fair to say that Paulson has absolutely no hidden rational knowledge that would suggest a rise in real estate prices.

At the same time, however, since great wealth is primarily the result of a forced suspension of rationality/intelligence (“the crowd” is always and everywhere irrational due to the fallacy of composition) and morality, I think it is possible that Paulson is privy to some inside information as to the future conduct of banks.

It is quite obvious, I believe, that the big banks can easily reignite a real estate boom via an easing of credit and “wink-wink” business deals with appraisers who would be told to raise estimates of value. Of course, these two courses of action would be irrational and immoral, due to high unemployment, and the supposed legal “wall” erected between banks and appraisers. However, the irrational truth, as far as income and employment is concerned, is that banks could care less if you actually pay back your home loan or not as they flip nearly all loans back to FNM and FRE. In turn, FNM and FRE don’t care if you pay your home loan, as they have an infinite amount of capital. On the appraiser front, I think it’s obvious that banks don’t really pay much attention to conflicts of interests and “Chinese Walls”.

The only real mystery to me, is why the banks have not taken the above approach sooner, in order to reignite housing. My only explanation is that there was more money to be made from a housing crash and free bailout money, than there was from starting a new real estate boom. Additionally, Wall Street had not yet tired of the real estate crash and foreclosure crisis story. However, since large parts of the bailout bonanza are slowly coming to an end, political pressure on banks is building, and boredom with the crash story has set in, it does seem conceivable that Wall Street could invent a new positive myth of growth in order to generate more profits.

A positive myth would be a very welcome addition, given the plethora negative myths that seem to have become the new hot trend on Wall Street. Whether a new positive myth gains traction with others on Wall Street is an impossible question to answer.

I haven’t really been bullish for awhile, but the reasons given for the current market sell off are mostly ridiculous and I think should fade shortly.

Below is a good summary of Wall Street’s current mythical creation intended to instill fear and profit from losses: Country Risk.

“The market realizes there is actually a country risk,” said Achim Matzke, head of global index and technical research at Commerzbank AG in Frankfurt. “Since Lehman’s collapse the banks were in focus, now it is the credibility of countries.”

Since for various reasons, country risk for a sovereign currency, like the Euro, is one of the most absurd concepts I’ve heard in a while, one wonders how far Wall Street will take this myth. My guess is not that far and I think the myth will die out shortly and Markets will stabilize rather quickly. This is because the only real risk here is from the leaders of these countries shutting down the whole Wall Street casino of CDS’s, if this new money-making scheme of denying countries capital gets too out of hand.

My only real question is why politicians are still acting so slowly? One theory is that they don’t want to offer a solution, since doing so would seemingly lend credence to the country risk myth and establish it as a legitimate short opportunity. Alternatively, the majority of politicians still actually believe that there is a limit on a sovereign currency, and so they too are buying into the country risk myth.

In any case, governments will have to act soon, because Wall Street’s marketing machine is making the country risk myth a reality anyway.

So after nearly five years, my Casino Capitalism (www.casinocapitalism.com) thesis finally has been vindicated by none other than Lloyd Blankfein. I should really have more patience with my ideas…

As quoted in a recent Bloomberg article:

Blankfein defended the role that Goldman Sachs, and Wall Street as a whole, plays in making markets.

“You could call it a casino, but if it is, it’s a very socially important casino,” he said.

Of course, the definition of “socially important” is rather vague. Gambling on stocks, and other financial instruments is surely fun (at least when you win), which I guess makes it social, but I’m not quite sure it benefits anybody in “social” sense.

For those of of you who have been following my stock picks, I wrote up CALC awhile ago.

Tomorrow the stock is getting delisted, but this could create a tremendous buying opportunity in the stock.

CALC is currently in bankruptcy, but in reading the plan to emerge from bankruptcy, it appears as if creditors will not take an equity stake in CALC, but will simply extend maturities of the debt and ask for a higher interest rate. In other words, equity holders will retain their current ownership in CALC. Given that the tangible book value of CALC is significantly higher than the current stock price, it would seem that CALC offers exceptional upside, should the bankruptcy court approve the current plan. A failure to approve the bankruptcy plan, is of course the big risk for CALC at this point. The court should provide a decision soon, though.

Importantly, my confidence regarding a favorable outcome for CALC in bankruptcy proceedings is strengthened by the fact that the largest shareholder of CALC, Hovde, is also one of the largest holders of the company’s debt. So it seems reasonable to expect that Hovde will push forward and support a bankruptcy plan which will retain significant value for shareholders.

At the same time, institutional investors who I’ve spoken with remain convinced that CALC’s current bankruptcy plan will pass and that the equity will retain significant value. I guess we’ll see…It will pay to keep a close eye on PR released by the company regarding the bankruptcy proceedings. Since few analysts cover the stock there will likely be plenty of time to build a nice position in the stock, once news of a final plan is released.

Disclosure: Affiliates of Envoy Global Research, and its principals, own shares in CALC. All ideas, opinions, and/or forecasts, expressed or implied herein, are for informational purposes only and should not be construed as a recommendation to invest, trade, and/or speculate in the markets. Any investments, trades, and/or speculations made in light of the ideas, opinions, and/or forecasts, expressed or implied herein, are committed at your own risk, financial or otherwise.

As I’ve pointed out on past posts, and what is inherently obvious to anyone who thinks about the topic for a few seconds, there is obviously no need for a sovereign government, like the US federal government, that has a monopoly on paper currency issuance to ever need money. They can just print it.

However, if the federal government doesn’t need our money to finance itself, then why do we have federal taxes (note: I leave out state taxes here, since that’s a different story altogether)?

The answer, as pointed out in a recent article by Warren Mosler is that Federal Taxes serve several purposes, none of which has anything to do with revenue. I highly encourage you to read Mosler’s article, since it has a great article called “Taxes For Revenue Are Obsolete”, written in 1946 by Beardsley Ruml, the former Chairman of the Federal Reserve Bank of New York.

Basically, Ruml believes taxes are needed to:

” 1. As an instrument of fiscal policy to help stabilize the purchasing power of the dollar;
2. To express public policy in the distribution of wealth and of income, as in the case of the progressive income and estate taxes;
3. To express public policy in subsidizing or in penalizing various industries and economic groups;
4. To isolate and assess directly the costs of certain national benefits, such as highways and social security.”

In other words, taxes are a policy statement.

Without going too deeply into the purposes mentioned by Mosler, it’s probably best to summarize the purposes of taxes as follows: To serve as a safeguard against inflation (a persistent threat in our credit-driven economy), and more importantly to properly allocate labor in society. What the proper level of taxes should be to serve the above goals, is of course, open to interpretation, though I’m sure most would agree that it’s significantly lower than the current tax rate. Since there are ample secondary methods to control inflation, i.e. limit credit creation by banks, it doesn’t seem to me that taxes need to be the primary tool used to fight inflation. The high current tax rate is apparently the result of a misunderstanding of taxes as a means to generate revenue, and also seemingly a way to guarantee work for the accounting profession.

What the foregoing interpretation of taxation does imply though, is that taxation policies should be based not on one’s absolute income, but on how one has generated one’s income. For example, most doctors and scientists, who provide a vital service to society, should be taxed at a much lower rate than speculators on Wall Street who provide no benefit to society.

I wonder if a “taxation by trade” scheme has ever been implemented in the US in some fashion for personal taxes (it’s been used, of course, on an industry basis, as opposed to an individual basis, with certain industries receiving favorable tax benefits). I’m positive that it would work wonders to generate sustainable economic growth as entrepreneurs rush to develop businesses in beneficial industries where personal taxes are low, while shunning mostly “useless” industries where taxation is high. Ironically, this type of situation would also prove beneficial to Wall Street, by providing a host of new and ultimately real businesses to invest in and finance.