Thursday, May 27, 2010

Commerical Real Estate - Return of the Dream Short

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Shorting the market and/or being bearish on it isn't for everyone. Something about our collective psychology makes us prefer optimism over reality. If you are in that camp, you probably don't understand the message Gold is sending. Its lack of cash flow (other than the 15-20% annual gains that have eluded the paperbugs over the past decade...), its lack of relevance to the "modern financial system" (other than as the backbone of the current international paper monetary scheme...) and its volatility (i.e. much less than any paper asset class besides government bonds over the past decade...) make Gold scary to the brainwashed herd just like they are scared to be bearish on the market. For those of us who have crossed over to the other side of the matrix and actually have the audacity to buy a barbarous relic and make "evil" bets against the system, I believe the dream shorting opportunity has finally returned.

I previously successfully used the "phase shift" concept between home builders and commercial real estate to make the most profitable trade of my brief career during the Great Fall Panic of 2008. Commercial real estate is one "cycle" behind the home builders, which makes sense economically and fundamentally, although the crash in 2008 got commercial real estate caught up in a hurry. I think the phase shift concept is back in play, with a slight twist.

In looking at the ratio chart of commercial real estate (using $RMZ, the index behind the triple bull [DRN] and bear [DRV] commercial real estate ETFs, as a proxy) relative to the S&P 500 ($SPX) since 2000, you can see how overbought commercial real estate is relative to the S&P 500 (weekly log scale candlestick chart of $RMZ:$SPX since 2000):

Well, the phase shift comes back into the picture using this same ratio chart, but comparing it with a ratio of the home builders sector (using $DJUSHB as a proxy) to the S&P 500. The following is a very busy chart, but it is one I am using to make a heavy bet on the short side. I am biased since this is my own research here, but I think it is worth taking the time to decipher all the following squiggles and what they may mean for the near-term future (10 year weekly log scale ratio chart of both $RMZ:$SPX [candlestick plot] and $DJUSHB:$SPX [black linear plot]):

See the opportunity? We are not talking about a 10% move here if you think about the math required to make this ratio premise work at a time when the stock market will be falling. To scale in to the trade itself, first here's an 18 month daily chart of the $RMZ thru part of today's action to show where we are on an intermediate-term basis:

And here's a close-up of the recent action using a 4 month 60 minute intra-day chart of $RMZ:

Long Gold and short the stock market. Trying to ride the obvious secular bull trend: the Gold to Dow ratio. Because buying options on a triple levered ETF is like playing with napalm, I don't need to risk a lot of capital on the trade to make significant money if I am right on this one. You and you alone are responsible for any decisions you make, whether financial/trading or otherwise, but if you take the plunge on this juicy set-up let me know how it works out for you.

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