The turning of the tables?

Wall Street can be an insidious business... a modern version of the evolutionary struggle.

A fierce set of questions sprung into my mind as I perused the yahoo message boards.Has the predator swooped down on the prey only to find that it was being set up the whole time by a bigger, smarter, predator that is higher up in the food chain? Will the mouse run free as the smaller cat is enveloped by the larger one? Has the sleek, self-assured, suave, James Bond been manipulated and played like a vagabond?

I don't know yet but if so we may soon perceive, throughout the country, subtle intonations of nauseated professional traders. What the heck am I trying to say?

On the last post I stated that I was shocked at how primed the traders were to short the fertilizer stocks. It scared me a bit I have to admit. The fundamental story I knew was in tact. If POT had missed or not upped guidance or anything else had shown weakness the stock would have been crushed. I had an emergency plan in place, mentioned previously. Still, I was shocked when I had a chance to listen to the call at the sheer voracity omnipresent in the shorting milieu. It was like a river teeming with teeth-bearing pirhanas... the kind that you hear about in the Amazon that can skeletonize a cow in mere seconds. The questions, one after another, probed into the fertilizer demand issue. Yet as the call continued the story only became more bullish. The stocks still sold off, bounced back, and then sold off again the next morning despite the numbers. Each time the selling was rebuked. Refuted. Turned back with patient serenity. So what happened?

When I took a look at the POT message boards later in the day I was surprised by the shorting conviction of a trader from New York. He was certain that the retail investors were hung out to dry. That they were in deep waters. The argument? Corn prices can't keep doubling... they are going down... and so therefore so too will the price of fertilizers and the need for potash. These kind of issues were broached over and over again on the call... and rebuked each time... like a sort of broken record. And then it hit me. The NY traders, convinced of the commodity bubble, convinced that oil = coal = potash= natural gas... had somehow been bamboozled. Didn't they know of the burgeoning demand for fertilizer the world over because of the incredible, irreversible increase in demand for meat and higher quality food from the enormous populations of the developing world? Hadn't they investigated the numerous Potash conference calls in which time after time after time the company stated that they had waited years for this moment in history to arrive... that the cat was out of the box and that potash was the only thing that could solve the impending food crisis? Had they not investigated the thoughts of, arguably, the world's largest commodities bull, Jim Rogers, when he said that commodities, which he has made billions on since 1999, are still in the early phases of their cycle?

Why not... ? The conferences by POT, after all, were sponsored by huge firms like MER and are available on the website to everyone. Did the big investment houses use the arrogance of the New York traders, the overconfidence, the superiority complex when compared to the retail investor sheep... to spread a rumor that commodities were falling and the potash fertilizers were going to take a hit? That the word on the Street was to short the overvalued fertilizer stocks and take the huge piles of money from the unsuspecting, dim-witted, retail investors? Easy money? You can't lose? It's so good it's almost perfect? The commodity plays are done and the fattest of them all, the fertilizers, are on the chopping block? Yes... these kind of things happen. Rumors circulate over and over again until those in the business, those not savvy enough, not careful enough, stop being cautious and believe what they are told because they have the inside track... Ever seen Boiler Room? This can be an ugly business. The nature of being an outsider, of living outside of the trading houses, of thinking for oneself, remains one of the advantages that retail investors hold over some of these professionals.

I want to emphasize that I do not know if this is what happened here. It's an educated guess. But it's looking like it to me more and more. The earnings estimates will likely go up. POT tripled earnings and is trading at a FY PE of about 15 using the company's guidance... a forward PE of 10... before the likely upgrades and readjustments from the big houses. The analyst downgrade stocked the short selling temporarily... did it sell the merchandise? Were the GS of the world buying the shares cheap from the shorting 'inside traders'? Will it continue a bit... and then the computers adjust to the new earnings and guidance and we see a super short squeeze jump in esp. if Mosaic follows Potash?

One thing is clear: the big houses have known all along how good the potash story is. They are the ones that have hosted all the conferences with the company... see the POT website... chances are they are not surprised at all by the results. As for the hedge funds and short traders? We'll have to find out. It should be very interesting.

My strategy has not changed. If the stocks go up to the 225 for POT or 126 for MOS regions (recent resistance) I am very much considering going short as a hedge with fairly tight buy to cover stops. If these stocks they start to move down from the start I may employ the same strategy. I'll play them the same way the big houses may be playing them... ride the short... cover lower... with tight stops in case the tide turns... and then wait patiently for the upgrades and bear fear to take hold for the positions I have on the long side. If the stocks continues down I'll ride the shorts until they flip... lowering my stops if apropos. History shows that stocks with these kind of earnings and guidance don't go down indefinitely. These actions are somewhat complicated... as I have said if you are not comfortable with this, while it does offer extra protection, I'd be very very surprised if these stocks don't go up once the initial games are played out... it's one of the very few segments where holding for the long-term will likely be rewarded.

Technically the long-term uptrend in the fertilizer names has turned sideways and we are in a trading range between 114 and 126 for MOS and 190 and 206 for POT. Trading regions after trends, according to John Murphy, are often periods of distribution or accumulation... indecision between bears and bulls which usually eventually favors moves in one direction or the other as the demand or supply is soaked up. At that point the move can be substantial on one side or the other. A possible move up?

I always have to consider...what if I'm wrong... what if the unexpected happens...
1. If MOS misses (not likely in my opinion but certainly possible, always have to be prepared) I would probably go short MOS while keeping my longs... not sure yet... if the stocks undergo a bear raid I'll have my short hedges in place... It really would depend on how much they were to miss by and the more granular details of the circumstance. If they go up two and a half times yoy instead of three and up guidance, given the shorts out there, and the ridiculous PE ratios, the downward pressure may be very temporary.I know this sounds complicated but we are in a complicated market.

2. What if downward pressure in commodities or the poor market data or anything else keeps pressuring the stocks even if the earnings do well? Here's where I would go short and keep my longs... the hedge providing protection from the disconnect between the market and the fundamentals until the market corrects...

One of the premises of Dow theory is that traders and speculators cannot affect the long-term trend. This was proven true when the secondary correction (bear market rally) failed earlier this year. For the fertilizer stocks, and in fact for many of the commodities that are based upon secular trends in the developing world, the market is not down but up. I think that the stocks will follow in due time. Of the commodities, as I stated on this post, I have a degree of conviction that the potash fertilizers are the best of breed, and within the potash stocks POT and MOS of the best of breed. That potentially makes these companies the best of the best, if you will.

That being said I always try to assess how I could be wrong and how much I could lose in conjunction with what the upside may be. As I speak I am still ascertaining ways that I may be wrong, how to defend them, and how to minimize losses in such a case.

Should be an interesting week... CF and MOS report.

The "Yellow Rose Street Beat" is for informational purposes only. It does not give investment advice.