Want to Invest in Russia? Your Employees Might Be Killed

One more illustration about investing in Russia. Sergey Magnitsky, lawyer for Hermitage Capital investment group, died in jail. He was imprisoned for almost a year, government and court decided to keep him in jail until his court date.

Hermitage Capital was a little bit more lucky than many other investors. William Bowder, CEO of the company, withdrew most of money from Russia before government people could rob him. That probably was the reason for persecution of Magnitsky.

This is a lesson for anybody who wants to invest in Russia. Not only you risk your money, you also risk your people. If your company falls in disfavor in Russia, your employees can be jailed under invented reasons, they can be killed by prison officials or by hired killers on the street. Russian government thugs don't care who those employees are. They can imprison pregnant women, women with small children, terminally ill people. There are hundreds of examples.

And to get to the good side of Russian government, you'll have to bribe officials, sometimes surrender significant pieces of your property to government owned companies. Even in this case you are not safe: if your Russian counterpart falls in disfavor, you can lose everything.

Full disclosure: at the time of publication author did not have any positions, long or short, in Russian companies or in funds invested in Russia.

Opening HTR

I opened a new position today: long Helios Total Return Fund (HTR).

This is somewhat risky fund: more than 50% of it is invested in various mortgage backed securities. On the other hand, it pays more than 11% dividend, with monthly payments.

Last several days, HTR price was going down, when Net assets value (NAV) of the fund was going up a little bit. Currently fund is valued at about 9% discount.

My bet: mortgage backed securities are currently undervalued, and HTR is undervalued against underlying assets. High dividend doesn't hurt either.

Market is Looking for Direction

Well, I nailed pullback somehow (here). Small one, I didn't even have time to buy much.

Now the game is changing again. Last couple of months the trend was: dollar down, stocks up, commodities up. Last week we had several different combinations, and on Friday dollar was up a little, stocks up a lot and commodities down.

Unfortunately, I don't see what's going to happen. A lot depends on the direction of dollar carry trade.

Let's wait for market to tell us the truth.

Buying more PGF

Bought even more PowerShares Financial Preferred Portfolio (PGF) today. I'm almost sure that market is still going down, but "almost sure" is not "certain" and discipline dictates that I have to start buying on the way down. Besides, this ETF was down too much today compared to banks preferred shares.

Full disclosure: at the time of publication author had a long position in PGF. Positions can change any time.

4 Possible Market Scenarios, Updated

In April, I wrote Fork On The Road, which was published on Seeking Alpha as 4 Possible Market Scenarios. I think I have enough information now to update these scenarios and define investment strategy for the nearest future.

Scenarios, mentioned before:

Inflation and stagnation = stagflation

We had an amazing rally in commodities since March. Lately, we also had rally in gold, breaking through 1000 dollars per ounce. This is looking pretty much like dollar carry trade, or, as Nouriel Roubini said, the mother of all carry trades. Traders borrow dollars and buy everything they define as "hard assets", hoping for inflation. This might end bad, very bad indeed. Don't want to go into details, Roubini explains it much better. Despite bull run in commodities, inflation in USA is nowhere to be found. I still see probability of high inflation under 10%.

Japanese disease (Zero growth with zero inflation or low deflation)

Latest developments make this scenario less likely. The main problem in Japan is society, not economy. It's way too conservative, way too rigid, doesn't promote initiative, puts too much trust in managers and in government. I don't see anything like that in US. Banks are getting restructured, companies are laying off and cutting costs like crazy. It's painful for people, yes, but it's much better than sweeping problems under rugs, like Japan did for 20 years. The only similarity I see with Japan so far is carry trade.

Probability: around 10%.

Great Depression 2.0

Here I have to curb my enthusiasm. Probability of this development is higher now than it was back in March. The main change: higher taxes. They are creeping from all sides. Many local governments are raising taxes. Some states are raising taxes. Federal taxes are going to go up, it's almost given. I'm not against some tax increases in principle (no, I'm not Ayn Rand fan), governments provide essential services (at least some of them) and we need to pay for them. But I'm absolutely against any tax increases in the nearest future, i.e. before 2012. Otherwise we might repeat 1937 (just take a look at Dow chart!). All whining about deficit is misplaced, Japan has government debt at 160% GDP and counting, we are still below 100% GDP. Talks about reducing or ending stimulus programs are not improving my mood either.

Probability: about 35%.

Great Recession

Last quarter GDP numbers look great. Maybe US economy is recovering already. But accurate numbers are usually available 12 months later. And one quarter is not that important, in the last 20 years Japan sometimes had up years. Lots of good quarter reports, companies are beating profit estimates. But not many of them really grew revenues, profits are mostly driven by cost cutting. And dollar carry trade is looming huge. Despite of these developments, I still see this scenario as most likely one. After all, we just had a huge rally in stocks, and more importantly, in bonds.

Probability: about 45%.

Conclusion

I see lower probability of Japanese scenario and higher probability of GD 2.0. If we take a look at corresponding stock indices, it's bullish. Stocks went down and then stayed mostly flat in Japan in the last 20 years, but during Great Depression direction was up after 1932.

My stance continues to be bullish.

Closing Panera Bread

Closed my (small) position in Panera Bread (PNRA) today.

This is an interesting story. Company is growing fast, has no debt (amazing for a restaurant chain) and has a great management. Company had a great quarter, raising some prices when people moved from full service restaurants to discounters.

Why am I selling it then? The answer is simple: I'm selling stock, not a company. This stock can move 20% up or down on no news at all. There are some reasons for that: sometimes institutional investors buy or sell big positions. Big short interest (currently about 13%) adds to volatility.

In short, this stock is better as a trade than as investment. I might enter position again at lower level.

Full disclosure: at the time of publication author did not have any positions in PNRA. Positions can change any time.

Google: No Pin Action

Google (GOOG) reported good quarter last week. Main number: year-to-year revenue and earnings growth. Reaction of financial press: advertising is coming back, it's the end of recession.

Not so fast, guys. First of all, Google is the only advertising company so far showing improvement. Yahoo! (YHOO) reported revenue drop. I'm not sure traditional media is going to report any improvement either.

I think the main driver for Google is the shift of advertising from traditional media to the Internet. Yahoo! missed this move, company is too busy with reorganizations. We'll see traditional media reports soon, but I don't see any pin action. Google is swallowing advertising market, that's the real picture.

Full disclosure: at the time of publication author had a long position in GOOG and no positions in YHOO. Positions can change any time.