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BROTHER-IN-LAW
As I mentioned yesterday, my father-inlaw came to visit over the weekend, and
we started talking about my brother-inlaw, who is in the Coast Guard.

He was getting paid about $75,000 a

year.
And there were no LEH-like jobs
out there that he could move to.
So he stayed in.

Let me back up.

Remember I went to the Coast Guard
Academy. My brother-in-law, then twelve
years old, came to my graduation.
He
was so inspired that he decided to
become a Coast Guard officer, too.
Well, the funny thing about joining the
ranks of government employees is that
the government has a fair understanding
of economics, too.
They know that you
have to make economic choices. For me,
going to the Academy was an easy choice
because there was little money available
for a private institution.
Similar
circumstances for most of the kids I
went to school with. Mostly poor kids.
[Sidebar: even though Navy, Army etc.
are also free, their students tend to be
significantly more well-off, because you
need a political appointment to be
considered for admission.
No such
requirement exists for the Coast Guard.]
Now, its not exactly free, because you
have to serve five years afterwards.
That is clearly not free.
Towards the
end, I was getting paid about $45,000 a
year, when you take into account all my
allowances. So the economics of getting
out and going to work at LEH were pretty
easy.
Even a chimpanzee can NPV that
one.
But my brother-in-law graduated from CGA
in 2008.
So his five years were up in
2013. What was his calculus for whether
to stay in or not?

Then, he was faced with another economic

choice.
He wanted to go to graduate
school to get a Masters in mechanical
engineering.
The Coast Guard will pay
for it, but you have to pay them back
double in service.
For a 2-year
program, you will owe 4 years.
So my
brother-in-law did 5 years of service,
is finishing up 2 years of grad school,
and will owe four years of payback as a
bureaucrat in D.C.
That will take him to 11 years.
Now, once youre at 11 years, you have a
decision to make. You can get out then,
with two (free) degrees, at age 33, or
you can put in the extra nine years and
retire at age 42, and get 50% pay for
the rest of your life.
If you live to
102, you can get paid for 60 years, with
cost of living adjustments.
Most people choose to stay in until 20
years. That seems to be my brother-inlaws plan.
Of course, if you try to change careers
at age 42, it is harder than at age 33
or 27, because you have 20 years of
government bad habits, and your earning
power is limited, but you have that
annuity payment for the rest of your
life.
Thinking back to when I was in business
school, I took a class on decision
theory like most people did, and you
learn about this concept known as the
certainty equivalent.
You have a
risky choice and a riskless choice. You

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dillian@dailydirtnap.com

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can NPV both. What amount of risk-free

money makes you forgo the risky choice?

Street guys are sick of all the crap but

get paid too much to leave.

In my case I could choose between:

I try not to criticize other peoples

economic
decision
making.
It
is
actually more subjective than you think.
I tend to place a higher value on
freedom. There are trade-offs.

1) Making an average of $60,000 over my

career and retiring with $30,000
annually, or
2) Making something between multiple six
figures, even seven figures, or zero,
if I blew up.

NOW

My brother-in-laws choice is:

Sorry to write about Canada for two days

in a row, but its necessary.

1) Making an average of $100,000 over

his career and retiring with $50,000
annually, or
2) Doing
something
similar
in
the
private sector, but being on the
hook for health insurance, housing,
all that stuff.

This trade is like the Kansas City

Royals of macro trades.
Everyone is
jumping on the bandwagon.
It is more
than just bank earnings (which we will
talk about tomorrow).
There is a lot
more to the story.

Pretty easy choice.

Sometimes when I am talking with my
wife, I sort of harsh on my brother-inlaw for being such a stooge.
And in
some ways, he is the ideal government
worker.
Puts in his eight hours,
doesnt work too hard, certainly doesnt
grow a brain and ask too many hard
questions. But really, he is just being
a rational economic actor. It would be
irrational for him to get out of the
Coast Guard, unless he could find a job
making $200K-$300K a year, which he
cant.
So why get upset with someone
who is behaving rationally?
I am very happy I got out, but the
economics made it a very easy decision.
I would not want to be in the position
where I wanted to get out, but found it
financially difficult to do so.
Some
people do that. They get out, and make
less money, just because they are sick
of all the crap.
That, too, is a
rational decision. Just like when Wall

Jumping on the bandwagon is good,

though. It means that other people are
starting to see the merits of this
trade. I am no longer the lonely voice
in the woods. In fact, some people are
being smarter about it than I am.
For instance, they are correctly saying
that it is mostly the price of oil (and
other commodities) that is going to
bring
Canada
down.
Not
housing.
Housing will turn a plain vanilla
commodity bust into a massive kablooey,
and heres the takeaway: a lot of these
bandwagon folks are going to put the
short Canada trade on and take it off
after they make 20-30%.
No.
It is
going to be much bigger than that. This
is a multi-bagger.
And it is just
beginning.
In the spirit of the trade finally
beginning, I think it is time to
increase my allocation to short Canadian
banks. It is funny how you can go from
being too big in a trade to too small in
just a couple of days. So in 24 hours,
I am going to short more CM and TD.

the
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dillian@dailydirtnap.com

Here are charts of CM and TD, if you

havent seen them in a while.

CM US
100

95

85

80

3/15/14

7/15/14

11/15/14

Source: Bloomberg

TD

VOL 6 NO 223

For the time being, people are focusing

on the loss of investment banking
business, which will be substantial.
But nobody is looking at the second and
third derivatives. I have been yapping
about the housing piece for about two
years now, but were not even to that
point yet. Not even close.

I am going to be adding to the shorts,

as I said, in 24 hours.
I think there
is plenty more downside to go.
Something just popped into my head.
Remember when Bill Miller beat the SPX
for 15 years straight, then completely
blew sky-high? I have this theory about
how a particular strategy can work for
years, even decades, but it will always
fail you in the end.

54

52

50

What if there is a Buffett unwind at

some point in the future?

48

46

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Id say that things are going to get

sloppy but they are already starting to
get kind of sloppy.
Mr. Market gets
tougher and tougher to deal with.
The
meltdown in Canada has been so rapid,
that you had virtually no chance to get
in, unless you were like me, getting
your teeth kicked in for the last year.
So for the benefit of everyone who has
been round-filing my Canada issues, with
the banks down 15%, do you still short
em here?

90

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11/15/14

Buffett pursues a particular strategy.

Its not quite value investing, but he
buys stuff that used to be value thats
on all-time highs, then does some kind
of asset swap for tax purposes.
Or he
gets bank preferreds.
Either way, it
wouldnt surprise me if the Buffett
algorithm breaks down in 2015, starting
with the rails. Being long the economy
is one thing, but hes leveraged long.

Source: Bloomberg
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