Consequently, it’s rare today to see someone rise to national government from the farm. So even though Paulson has a fancy big city MBA from Harvard Business School and a personal fortune in the hundreds of millions from a sterling stint at the helm of Goldman Sachs (GS), we expect him to plainly possess the honesty, industriousness, and salt of the earth common sense that we romantically assign to farmers. Goldman by the way received a huge investment from Warren Buffett’s Berkshire Hathaway (BRK-A). Buffett is widely recognized for possessing those qualities in ample quantity.

So we eagerly wanted to believe Paulson and pal Ben Bernanke from the Federal Reserve when they promised to be transparent and subject to oversight in the Congressional hearings for the $700 billion Troubled Asset Relief Program (TARP).

In late October, I wrote about Paulson’s statement, “The program right now is for banks and thrifts.” I was alarmed to see his qualifier “right now.” It indicated to me that he was already thinking of a future where other types of institutions might dip into the bailout coffers.

I speculated that the precedent set by Long Term Capital Management’s bailout in 1998 would rear its ugly head again as hedge funds “too large to fail” will line up right behind Citigroup (C), American International Group (AIG), Bank of America (BAC), and Morgan Stanley (MS) for the Wall Street version of the bread line. In this case, the “dough” is taxpayer money. Anything to stave off a recession and a painful bear market right?

Turns out that Bernanke and Paulson have been less than forthcoming. Bloomberg News has sued the Federal Reserve citing the Freedom of Information Act to obtain records regarding the implementation of TARP. The Federal Reserve and the Treasury have been collaborating on a surprisingly leak-proof information embargo.

As a result, the public possesses only sketchy information about where the $700 billion is going. Only a few recipients of the relief funds have been disclosed. Even more troubling, we don’t know what kind of securities the banks or other recipients have pledged as collateral. What kind of deals are being made? What is there to hide?

Some say that the loans have to be made in confidentiality so as to shield troubled financial institutions from more panic selling of their stock, especially from rapacious short sellers. I say rubbish, this smells like the stuff Paulson used to spread around on his farm. The government has already imposed temporary bans on short selling of financial institutions stock (which I think was unconstitutional or at least inconvenient as I regularly hedge my investments with shorts); it could extend those bans to protect vulnerable banks.

My guess is that improper loans to hedge funds have been made. I hope I’m wrong, but the “too big to fail” rationale can be temptingly applied to gigantic hedge funds with trades and derivatives positions so heavily leveraged and so intertwined with mainstream financial institutions that failure would be too catastrophic for our overall economy. Bernanke and Paulson may have no choice.

The secret fear on Wall Street lies with impending but unknown hedge fund redemptions. This could happen if poor hedge fund performance compel already fearful investors to pull their money. In early November, I pointed to the distinct possibility that we could fall deeper in this bear market from heavy hedge fund redemptions. Paulson and Bernanke have already shown a reluctance to suffer pain and a willingness to do whatever it takes to avoid pain. They are merely compliant doctors we’ve ordered to keep the painkillers coming regardless of the risks of addiction or decreased efficacy.

There is some evidence surfacing that hedge funds are indeed struggling in this environment. Theoretically, hedge funds should do well or at least less poorly during market downturns. Whatever happened to hedging?

Hedge funds are the private domain of the ultra-wealthy. The average American taxpayer should not be getting into that business. Unfortunately, like Bernanke and Paulson, the average American taxpayer may have no choice.

That qualifier, “right now,” is what has me worried that our well-intentioned public servants will find it difficult to ignore the inevitable cries for mercy and help from their hedge fund brethren. Paulson is leaving himself the option of opening the program up to hedgies sometime in the future, when the most leveraged hedge funds with an intricate web of derivatives trades come calling for help are “too big to fail.” The average American taxpayer, while deemed unsophisticated enough to make direct investments in hedge funds will finally be able to own some of these exotic bad boys through our government proxies.

In the 1990s, a hedge fund called Long Term Capital Management promised to generate excess returns with minimal risk through the use of sophisticated financial models and formulae devised by a team full of PhDs and Nobel Prize laureates. Sounds seductive doesn’t it? It certainly was seductive enough that investors put in over $1 billion before the fund started trading in 1994, a huge starting coffer even by today’s standards. The short story of LTCM is that it made extremely leveraged trades with an intricate web of trading partners that, while highly profitable in the beginning, turned out horribly wrong. The fund suffered tremendous losses and teetered on the edge of outright failure. The Federal Reserve orchestrated a bailout in 1998 of over $3.5 billion. LTCM’s highly leveraged derivatives trades were made with so many counter-parties in the financial world that a Darwinian approach would have had much wider repercussions. The risk of a more widespread collapse of the financial markets loomed as a distinct possibility. LTCM was simply too big to ignore and not bail out.

So the precedent was set exactly 10 years ago. Today, the scary prospect of hedge fund failures acting as catalyst for another leg of decline in the markets is very real. We are collectively hyper-focused on the credit crunch, falling real estate prices, and Main Street’s inability to pay the mortgage. Few can see around the corner when imminent hedge fund failures will send shock waves through the system and drive us deeper into this bear market. There are now at least a dozen LTCMs out there, all crossing their fingers that their limited partners won’t request withdrawals. If the LPs bail en masse, Mr. Paulson as the taxpayer’s agent will bail out his hedge fund buddies.

Interestingly, Warren Buffett’s Berkshire Hathaway (BRK-A) teamed with Goldman Sachs (GS) to offer an alternative plan to the principals of LTCM. Ultimately, LTCM went with the government sponsored rescue. I wish it went down differently. If we’re going to spend taxpayer money to bail out hedge funds, and I’m betting we will, we should find private partners who can share the risk with the public taxpayer. We could give incentives for large private players like Buffett, who have the talent and financial heft to collaborate on a bailout, to help us carry the load. So what if a few fat cats get a little wealthier, I’d like to see the public taxpayer not have to foot the entire bill.

Even the mighty are falling. The last two major independent investment banks on Wall Street, Goldman Sachs (GS) and Morgan Stanley (MS), have received permission from the Federal Reserve to convert from traditional investment banks into commercial banks or bank holding companies. Plenty of ink, digital or otherwise, has been spilled about the disappearance of investment banks so I won’t dwell much on that. We’ve seen the collapse of Lehman Brothers (LEH) and Bear Stearns. Still somehow, I’m sure there were some who sentimentally held out hope that the two shiniest of white shoe firms in investment banking would survive relatively unchanged. Disappointingly, Goldman Sachs and Morgan Stanley will now join the ranks of Bank of America (BAC) and Wachovia (WB) as large commercial money center banks serving the retail masses.

It remains to be seen what will happen to the investment banking businesses of Goldman and Morgan. Other commercial money center banks like Bank of America and Citigroup (C) have been able to operate smaller investment banking divisions within the corporate umbrella. While the market is caught up in short-term financial myopia (worthwhile because some fear a total meltdown), I’m more interested in the long term strategic implications.

Survival – It is clear that the decision to convert to a commercial bank was spurred in part by a need to raise capital and survive. Becoming commercial banks allows Goldman and Morgan to tap the emergency funds that the Fed has made available. Goldman has also reached an agreement to secure private funding as well from Warren Buffett, the head honcho at Berkshire Hathaway (BRK-A). Morgan has agreed to sell a piece of itself to Mitsubishi UFJ Financial Group (MTU), in a move reminiscent of the Japanese shopping spree of the 1980s. In the panicked rush to shore up our faltering financial system and institutions, have we given enough thought to these combinations and their future implications?

Initial Public Offerings – Goldman Sachs and Morgan Stanley consistently topped the league tables as the best bulge bracket firms with the power and reach to handle large IPOs. No one is thinking of going public in this market environment but there will come a time when all is right again and innovative businesses will want to go public. Who will be there to sell the hype and coordinate the logistics?

Pure Investment Banks – Will there be a changing of the guard? The investment banking divisions within commercial bank holding companies have never been able to win more business than the Goldmans and Morgans and Lehmans that focused deeply on investment banking and merchant banking. Is it reasonable to assume that Goldman and Morgan will maintain their dominance of investment banking while converting into commercial banks? I think there is merit in the focus of pure investment banking. It will be interesting to watch if other players like Jefferies Group (JEF), Greenhill & Company (GHL), and Stifel Financial (SF) can aggressively move to fill the void. I think these stocks will perform well over the long term as they jockey to become the next white shoe firm (so long as they haven’t gotten involved with all the toxic financial instruments floating out there).

Talent Exodus – Look to the Yahoo! (YHOO) saga to see that Talent (with a capital T) goes where the opportunity is best and where it can operate with the least restraint. Goldman and Morgan will see their cream of the crop flee to hedge funds or the remaining smaller, albeit pure play, investment banks to ply their trade. Goldman’s proprietary traders generated a majority of the firm’s profits so I expect those guys will find happy homes at hedge funds. Why would any truly good trader want to be a part of Goldman Sachs now? On the other hand, I’ve rarely seen a guy from the sell side of investment banking be able to withstand the ruthless performance pressures of the buy side though so I expect there will be a ton of unemployed investment bankers. My how MBA programs will be flooded with applications. Brush up on those GMATs cause you’re going to be competing against a horde of former ibankers. Why would any truly good trader want to be a part of Goldman Sachs now?

There is a lot of knee-jerk anger and many hyperventilating voices calling for change and placing blame on government, government officials, greedy business executives, mindless consumers, etc. I’m over that already, in fact, I’ve never been there in the first place. I’m only interested in profiting from what the future will bring and what we can learn from history. In that light, let me end by quoting one of the great Founding Fathers.

“All human situations have their inconveniences. We feel those of the present but neither see nor feel those of the future; and hence we often make troublesome changes without amendment, and frequently for the worse.” – Benjamin Franklin (1706 – 1790)

Last week, I attended Zions Bank’s (ZION) 7th Annual International Trade and Business Conference. Most of the speakers were very interesting. John Howard, the former Prime Minister of Australia, gave a lively keynote speech and subsequently fended off with aplomb the inane question of a clearly wide-eyed political science student from the university. Christopher Padilla, the United States Under Secretary of Commerce for International Trade (that’s a mouthful), spoke about the opportunities in a world featuring an emerging power in China.

The one speaker that intrigued me most was Matthew Simmons of Simmons & Company International. He spoke about “peak oil” and a world vastly transformed by the essential “drying up” of oil fields in Saudi Arabia in particular and the world in general. In a world of peak oil, we would not travel as much. Everything becomes more expensive because everything is less accessible and less transportable. New political and cultural shifts will take place that will reshape the globe as we know it. Simmon’s book, Twilight in the Desert: The Coming Saudi Oil Shock and the World Economy, which Zions was handing out free at the tables, is a sobering argument for why oil prices are so expensive right now. Of course, Simmons is an investment banker to the energy industry so everything he says must be taken with a grain of salt. For that matter, anything anyone says should be taken with a grain of salt. Always consider the incentives of the messenger.

Nevertheless, crude oil cooperatively jumped nearly 5% last week. Over the past year, black gold has doubled in price. Traders cite the falling dollar as one major driver of escalating spot prices, but Simmons would argue that exogenous factors such as foreign exchange rates assert much less influence than long term shortages of oil.

Two weeks ago, the markets turned in a defiantly strong performance. Equities in particular were bought up furiously by institutions like the latest Grand Theft Auto installment. Everyone loves a bull market and only the most strident bears and short sellers could lament upwardly trending indexes. But the economic indicators were still trickling out rather bleakly and thus I reasoned that the rally was overdone. The equity markets proceeded to give back all their gains and then some last week. Luck was a lady last week.

Macro

Back to oil. In the face of oil’s ascent, I dubbed our current era the Black Bubble. I attributed a good portion of crude’s rise to the influx of speculators and momentum investors/traders looking to ride the bubble to even frothier levels. It isn’t easy to make a contrarian call, so it was with great relief to find that George Soros, the billionaire hedge fund trader, philosophical political activist, and philanthropist, recently spoke of an oil bubble. He’s certainly a lot better at extracting alpha from the market than I am.

“Speculation… is increasingly affecting the price,” he said. “The price has this parabolic shape which is characteristic of bubbles,” he said.

The comments are significant, not only because Mr Soros is the world’s most prominent hedge fund investor but also because many experts have claimed speculation is only a minor factor affecting crude prices.

However, Mr Soros warned that the oil bubble would not burst until both the US and Britain were in recession, after which prices could fall dramatically.

Mr Soros also warned that the Bank’s inflation report represents a “Faustian pact”, obliging it to keep interest rates high to control inflation, even as the economy is starting to slump.

He said: “The dislocations will be greater [than in the 1970s] because you also have the implications of the house price decline, which you didn’t have in the 1970s.”

Soros is speaking of the Bank of England here, but that is essentially the same “rock and a hard place” I expected Ben Bernanke and our own Federal Reserve would have to contend with. Not only is oil a key component of rising inflation, but food is the twin prong in the vice that is squeezing the consumer’s wallet.

The government likes to exclude oil and food from “core” inflation measurements. It is as if the pinheaded bureaucrats don’t think people buy food and oil. The last time I checked, food and oil are both very “core” elements of our budgets and lives.

So indeed, I believe we are in a Black Bubble. George Soros would know better how to express that outlook with an optimal trade. I’m much more of a long term investor and quite incompetent at finding the optimal trading vehicle.

Micro

Grand Theft Auto IV on Track to Set New Sales Records – Take-Two Interactive Software (TTWO), the publisher of GTA IV, is currently being courted by the much bigger Electronic Arts (ERTS). According to some reports, GTA IV will pass Microsoft’s (MSFT) Halo 3 as the best selling console video game of all time. Seems to me there is no GTA fatigue despite many different installments since the “game-changing” GTA III. Also seems to me that TTWO ought to hold out like Yahoo! (YHOO) for a higher price.

Travel Appears To Be Next Up For Google – Travelzoo (TZOO) has been a fashionable pick by some value investors. What’s not to like? The company essentially traffics in information, one of the most scalable and profitable business models ever invented by man. The company has healthy margins and return on equity (ROE), an unencumbered balance sheet, and a flock of short sellers ready to be squeezed. Heavy insider buying adds a cherry on top. But something wicked this way comes; Google (GOOG) is expected to extend its tentacles into the online travel information industry.

Mindray Medical: Strong Report and Fast Growth – Mindray Medical (MR), one of the leading medical device companies in China continues to hum along with breathtaking growth. More than half of the company’s revenues come from outside of the Middle Kingdom, but the recent humanitarian disasters brought on by earthquakes and aftershocks may send demand skyrocketing in the homeland.

A Wrench In The Machine? – Conventional wisdom says the United States is losing its manufacturing sector. Mostly true. Badger Meter (BMI) is one of the few companies thriving as a manufacturer of specialized industrial equipment. BMI makes water, oil, and fluid meters. ESCO Technologies (ESE) competes directly against Badger Meter in pushing the next generation of networked utility meters that will eliminate the need for the local utility company to send a technician out to read your water meter. Full Disclosure: I currently have a long or short position in BMI in one or more of my private investment partnerships.

Blackboard Application on Facebook – Having operated Web startups involved in the social networking space for over 3 years, most news items involving Facebook or Myspace (NWS-A) usually register a blah on the blah-bam scale. The new Facebook application by Blackboard (BBBB) is a bam. This web application will not change Blackboard’s fortunes much, but the idea that social networks, unlike the banal uses self-proclaimed social networking gurus foist on unsuspecting clients, can actually be used to facilitate something robust sends chills up and down my spine. The megatrend of online education cries for an intelligent implementation of an educational social network.

Natus Medical prices public offering of 4M shares – Shareholders reacted allergically to Natus Medical’s (BABY) registration of secondary offering shares. Turns out demand for the secondary offering was stronger than expected and the company’s stock rebounded. Natus Medical’s recent acquisitions make sense. Company management has shown an ability to allocate capital intelligently. The capital raised through the secondary offering will allow the company to bolster its competitive position as weaker competitors exit the industry by selling. Full Disclosure: I currently have a long or short position in BABY in one or more of my private investment partnerships.

The market takes a breather after several weeks of blistering recovery from last winter’s doldrums. Commodities all around saw amazing advances. Crude oil rose 8.3% last week and has more than doubled over the last year. I remember taking my first car, a Honda (HMC) Civic, out for the first time and pumping gas for about $1.18 per gallon. This was also in the notoriously gas-expensive San Francisco Bay Area. Base commodities and gold continue to follow oil’s lead in going the opposite direction of the U.S. dollar. Will the likely Democratic presidency mean a material difference to the nation’s budget policies and thus the value of our currency?

The tech-laden Nasdaq Composite took a 1.3% dive last week. Does this in any way validate my technology industry bifurcation thesis? Absolutely not. Relative to the rest of the equity markets, the Nasdaq Composite performed decently. The S&P 500 stock index saw a 1.8% decline while the Dow Jones Industrial Average (a poorly constructed index) lost 2.4% over the last week. More painfully for investors anticipating a real estate recovery, REIT stocks lost 3.2% collectively. The Nasdaq Composite (actually a very well constructed index) performed better than other equity indexes. In essence, technology stocks as a whole, large blue chips and second tier small caps, did better than the old industrial giants found in the DJIA and the big caps in the S&P 500 by a significant margin.

We have seen very little evidence of second-tier technology companies suffering from the recent slowdown in economic activity. This is particularly interesting because one of the historic catalysts for technology capital investment by enterprises, the Microsoft (MSFT) operating system upgrade cycle, is not a large factor in this market. The Vista operating system has not caught fire like previous Microsoft operating system launches. The Windows XP operating system was a blockbuster and so were earlier versions of Windows. Prior upgrading cycles resulted in renewed investment in computer equipment, computer peripherals, and secondary software products.

Macro

I’ve alluded to my concern about Ben Bernanke’s ability to display great staying power in his effort to jump start the economy by lowering interest rates. With oil and commodity prices barreling higher every week, the specter of inflation looms menacingly and hampers the Federal Reserve’s ability to continue lowering rates. The macro themes of globalization and emerging giants like China and India have been the drivers of skyrocketing prices in oil and food commodities.

However, I see imbalances developing between asset prices and the underlying supply and demand curves. Crude oil’s meteoric rise to record prices never before seen in history is rooted primarily in fundamental, systemic growth in demand. But the recent, almost parabolic rise in oil prices suggests that speculators and trend followers are piling in, hoping for continued profits flowing. Speculators and trend followers, by definition, introduce inefficiencies and imbalances to asset prices. China’s trade surplus is growing at a decelerating pace. Our diminished dollar makes our goods and services much more attractive to foreign consumers. It also makes foreign goods and services much more expensive for Americans to buy. The trade frictions caused by our historically cheap dollar might just slow down emerging markets growth and thus the demand for oil. Oil is the hot investment right now, but it could be flammable for recent riders of the bandwagon. We might be caught in what I call the “Black Bubble.”

Micro

Priceline surges on strong earnings, outlook – Priceline.com (PCLN) hit an eight-year high as both its domestic and international businesses enjoy huge demand. The company’s business model, which allows travelers to name their own prices or bids, has been attracting legions of bargain-hunting travelers. How long will this last? Priceline.com is one of the few companies thriving in the travel industry. The airlines, other online travel retailers or portals, and car rental companies have mostly seen their stocks decline over the last year.

Constant Contact’s first quarter revenue soars – Email marketing is so Web 1.0, isn’t it? Older Internet users still rely heavily on email. Early adopters and younger users of the Internet are less reliant on email. Instead, they gravitate to other services such as instant messaging, text messaging, and social networking. Twitter, is a very interesting next generation platform that further reduces the need for email communication. All these usage patterns do not bode well for Constant Contact (CTCT), a provider of software for email marketing campaigns.

The CAPS Screen: 10 Small Caps on Fire – The Motley Fool includes Interactive Intelligence (ININ) in one of their interesting screening exercises. Interactive Intelligence makes software that manages call center or contact center operations. Screens are a good way to generate investment ideas, but a formulaic investment program based on screened variables does not automatically lead to good investments. Many investors employ screens to find stocks selling cheaply. Sometimes, companies are cheap because they deserve to be cheap as the economic merits of their businesses deteriorate. An investment decision made solely by screening and without knowledge of the competitive standing of the company in question is akin to marrying a girl solely because she comes from a good family. Full Disclosure: I currently have a long or short position in ININ in one or more of my private investment partnerships.

National Oilwell Varco, Inc. Q1 2008 Earnings Call Transcript – I mentioned that oil appears to have become a speculative market surrounded by a thin film of soapy substance. Bubbles don’t fizzle out, they usually burst or pop with ferocious force. National Oilwell Varco (NOV) provides equipment and supplies to the oil and gas industries and has been a big beneficiary of the rising price of crude. The price of oil may continue its amazing ascent or it may flush out the speculative latecomers, but the imperative to keep searching and producing oil will hardly diminish.

James River Coal 1Q loss widens on higher costs, stoppage – Alternatives to oil become more attractive as black gold becomes more expensive. Thus, oil shale, ethanol, coal, solar power, and biofuels become serious considerations. I have been investing with this thesis for over a year. James River Coal (JRCC), one of the worst managed coal companies around, has seen its stock move in lockstep with the rising price of oil. So although it continues to run into management and operating gaffes, the stock market has rewarded it and its highly leveraged balance sheet with new price highs. Full Disclosure: I currently have a long or short position in JRCC in one or more of my private investment partnerships.

A couple weeks ago, I wrote about my pessimism regarding the technology sector. The market had seemed to interpret the surprisingly good results reported by Big Blue (IBM), Google (GOOG), and even Yahoo! (YHOO) as reasons for unleashing optimism and a bargain hunting shopping spree for stocks of publicly traded technology companies. Maybe the recessionary environment and the woes faced by banks and the American consumer would not negatively impact corporate budgets for technology. My skepticism rests on the ability of secondary technology companies to weather the economic slowdown. In other words, I think there is going to be a bifurcation of the technology sector, with blue chips performing in line with expectations and second tier players getting hit hard by purchasing slowdowns.

How has my skepticism aligned with reality? As usual, I’m wrong more often than I’m right. Over the past week, Apple (AAPL), Amazon.com (AMZN), and Microsoft (MSFT) all reported earnings greater than expectations. These blue chips however warned of weaker results in the foreseeable future. For the week, Apple stock rose 5%, Amazon ticked up 1%, Microsoft ticked down 1%, and Yahoo! fell a whopping 6%. Yahoo’s weak showing had a lot to do with Microsoft reiterating its reluctance to increase its bid for Jerry Yang & Company. These mixed results mask a surprisingly strong showing by the Nasdaq Composite Index which rose 0.8% for the week. This implies that a lot of the secondary technology issues performed better than other sectors of the economy. Industrials in the Dow Jones Industrial Average rose only 0.3% and the blue chips in the S&P 500 did slightly better with a 0.5% rise. We’ll get an even better reading on the technology sector as bellwethers like Blackberry maker Research In Motion (RIMM), Cisco Systems (CSCO), Hewlett-Packard (HPQ), and Dell (DELL) report their earnings in the upcoming weeks. In the meantime, I’ll be looking for a lot of smaller technology companies to run into a brick wall.

Macro

The media just started latching onto the rising cost of food story. All throughout Ben Bernanke’s easing of credit and interest rates, which in the short run looks like a success, I worried about his staying power because of inflation. The Federal Reserve is stuck between a rock and a hard place because of the conflicting forces of inflation and the slowing economy. Everyone knew about oil’s incessant march to record prices, but few worried about food prices. Recently, The Economist ran a cover story on the food crisis. Much of the blame rests with increased planting of corn for biofuels instead of wheat for food. The unintended consequences of government initiatives and regulations bolstering or subsidizing the use of ethanol are now materializing in record food prices. The head of the United Nations warned that the dearness of food could cause political and social instability. Asian countries are in a mini-panic because of the skyrocketing price of rice, the staple input of Asia. Riots have erupted in Egypt and even the prime minister of Haiti was forced to resign over food shortages. Crises bring opportunities, so rumors of American food conglomerates craving foreign food companies abound as executives weigh their next move in response to the food crisis. Will we want to drive more or eat more? That is a very basic question.

Micro

Interactive Intelligence to Announce First Quarter Operating Results – Interactive Intelligence (ININ) provides software applications used by contact centers or call centers. ININ has some award-winning products. One of the most interesting to me is their Interaction EasyScripter, which is software that allows for management of “scripts” for call center agents. Companies that rely on call center agents to sell products or perform customer service should find EasyScripter very useful. I’m considering using EasyScripter or something similar in the sales efforts of the startup I’m involved in. The company reports earnings after market close on Monday and analysts expect 8 cents of earnings per share for Q1 this year. ININ is one of the second tier technology companies that will test my thesis, that blue chip technology companies will do fine through the economic downturn while the smaller technology companies suffer from budget cuts. Full Disclosure: I currently have a long or short position in ININ in one or more of my private investment partnerships.

Decker surges on higher outlook – We can’t always focus just on technology and food. Let’s take a look at fashion for a bit, albeit low fashion. Decker Outdoor Corporation (DECK), the maker of those annoying UGG boots took short sellers on a 21.55% ride after reporting earnings growth of 18% for Q1 2008. DECK has other product lines, but the primary driver of growth is the UGG boots line. Always be skeptical about fashion fads. Take a look at the stock charts of CROCS (CROX) and Heelys (HLYS) for an illustrative warning.

Focused Strategy Helps Chipmaker Rise Above Sector’s Slump – Back to technology, I just had the power brick on my Hewlett-Packard Pavilion laptop fail on me. Replacement power bricks are unbelievably expensive. Why can’t laptop manufacturers standardize on power bricks and power cords so we can all buy a one-model-fits-all commoditized power unit? The Universal Serial Bus (USB) port has worked so well for consumers. Power Integrations (POWI) makes a tidy business supplying the chips that control power bricks.

Citi upgrades Sohu.com – I pay great attention to the China tech sector and, recently, the Chinese passed the United States for the most Internet users. Sohu.com (SOHU) is China’s version of Yahoo!, an Internet portal company. Sohu.com, unlike Yahoo!, is growing by leaps and bounds. Also unlike Yahoo!, Sohu.com has figured out online gaming. Going forward, its online game, TianLong Babu, will be a strong contributor to the bottom line. If you think World of Warcraft and online gaming has had a big impact on the American gamer, just keep your eye on what massive multiplayer online games (MMOGs) will do in China and the rest of Asia.

Netgear shares tumble after profit drops on US, UK woes – I love Netgear (NTGR) products. Netgear powers my home network. However, it seems that Cisco System’s Linksys division is taking market share by sparking an industry-wide price war. Wireless networking, once the next big thing, has become a commodity. Aside from a few gifted companies like Apple and Cisco, hardware makers often fall prey to the commoditization trap. It happens sooner rather than later. Netgear reported Q1 earnings dropped 20% and promptly saw its stock take a 16.74% dive.

Shares of Synaptics drop after fiscal 3Q profit slides – Synaptics (SYNA) specializes in touchscreen technology. It used to do a lot of business with Apple supplying technology for iPod user interfaces. The long term growth of electronic equipment with touch interfaces like the iPod, iPhone, and the flood of iPhone competitors soon to come bodes well for this company. Cell phones and smart phones will have increasingly intelligent touch interfaces. Even automobile dashboards will become flattened digital touch interfaces rather than today’s analog dials and switches.

A few days ago, I remarked how precariously positioned the investment banks had become. Today, we witnessed something spectacular as these once proud institutions accelerated their fall. Bear Stearns (BSC) will be taken over in a fire sale for approximately $2 per share by JPMorgan Chase & Co. (JPM) with backing from the Federal Reserve. Lehman Brothers (LEH), which has a similar business model to Bear, saw its stock take a dive on fear that it too faces liquidity problems.

Yesterday, Fed chair Ben Bernanke took the unusual step of lowering rates and extending loans to investment banks only two days ahead of the regularly scheduled Fed meeting. The high priests of the central banking system are in full panic mode now and I suspect them to lower a key interest rate by at least 75 basis points and probably by 100 basis points. If Bernanke & Company are going to try and avert financial disaster, they may as well take bold steps. The market will most certainly react very negatively to an interest rate cut of less than 75 basis points.

Does the Bear Stearns buyout make it an interesting speculative short, even this late in the game? JPM’s acquisition price of $2 per share is much less than today’s closing price of $4.81 per share in BSC. Large shareholders of BSC will no doubt revolt at the $2 liquidation price tag but there aren’t many options left on the table. Without a buyer, BSC will likely declare bankruptcy and there aren’t many other banks around with the support of the Fed underwriting the first $30 billion in risk on the BSC balance sheet.

In the aftermath of this debacle (whenever that may be), many value investors will attempt to pick the good apples off the ground while leaving the bruised ones to rot by the tree. Mostly prudently run ibanks like Goldman Sachs (GS) will need a good dusting off, but will be relative bargains worthy of inclusion in a value portfolio. Note, even the mighty Goldman is rumored to be gearing for a $3 billion writedown when it reports earnings Tuesday. I suspect that Merrill Lynch (MER), whose business model is most unlike the Bears and Lehmans of the world, will weather this storm and come out much weaker but capable of recovery.

The really big question: Does Mr. Bernanke have enough firepower and “influence capital” left to avert another disaster if Lehman becomes the next casualty? At the very least, he has proven himself unafraid to take drastic measures.

I referenced last week Mark Zandi of Economomy.com (MCO)regarding the increased likelihood of homeowners walking out of their mortgages and homes as the amount they owe becomes greater than the value of their properties. Bloomberg just reported that foreclosures are on the rise as owners “give up” on “underwater” homes.

U.S. mortgage foreclosures rose to an all-time high at the end of 2007 as borrowers with adjustable-rate loans walked away from properties before their payments increased, the Mortgage Bankers Association said today.

New foreclosures jumped to 0.83 percent of all home loans in the fourth quarter from 0.54 percent a year earlier. Late payments rose to a 23-year high, the organization said in a report today.

“We’re seeing people give up even before they get to the reset because they couldn’t afford the home in the first place,” said Jay Brinkmann, vice president of research and economics for the Washington-based trade group.

A couple days ago, Ben Bernanke essentially said that banks should “take the hit” and help distressed borrowers by writing down principle. Two days later, the Federal Reserve just released the Balance Sheet of Households report showing that homeowners’ equity as a percentage of household real estate has shrunk to a record low. As the panic grows, housing prices will continue to plunge and we will see more owners with negative equity situations.

We likely have not seen the end of the bad news. It will be interesting to see what creative methods borrowers will employ to escape their financial predicaments. What kind of shenanigans will we see?

Last week you may have encountered some colorful uses of the lexicon from Sam Zell that we are not used to hearing at the Times…But of course we still have the same expectations at the Times of what is correct in the workplace. It’s not good judgment to use profane or hostile language and we can’t tolerate that…In short, nothing changes; the fundamental rules of decorum and decency apply…Sam is a force of a nature; the rest of us are bound by the normal conventions of society.

He recently appeared on CNBC to talk about the economy, the housing market in particular, and his plans for his recent investments in newspapers and the Chicago Cubs. Watching the guy speak, you can’t help but be impressed by his dry humor, his uniquely cantankerous tone, and the unmistakable impression that he has had a fire in his belly for a long time. Here are some interesting tidbits (paraphrased):

• On selling the Chicago Cubs: “We own the Cubs and we intend to sell on our time frame and manner in which we choose, many others have opinions on how we should do this, but I don’t care. Excuse me for being sarcastic, but the idea that others are debating about what I should do with my assets leaves me questioning the integrity of that debate. There are a lot of people who want to buy the Cubs, and they would like to buy under their terms and conditions. Unfortunately, they have to deal with me.”

• On politics: “We have two Democratic candidates who are vying with each other to describe the economic situation worse. The reality is that if you live on Wall Street and you’re in the credit markets the world couldn’t be worse. If you’re a farmer and you’re getting $25 for your wheat, you’re having a great time. If you’re a CEO and you’ve got a balance sheet that’s bullet-proof, you’re in a great position. This whole thing is way out of control, way out of hand.”
  • I tend not to get involved in political campaigns.
  • “Logic can overcome Liberalism.”

• On investing: This is where I get the most value out of listening to this guy.
  • “We have been professional opportunists, when there is dislocation, that usually creates opportunity.”
  • “I never call or time markets – I only try to respond to what I think is logic.”
  • “My decision to sell Equity Office was not based on crowds, was not based on euphoria. Someone made me an offer I couldn’t understand and I thought it was a Godfather offer.” Another classic line.

• Two old dogs: Jack Welch, former CEO of General Electric (GE) was on the show and got to ask Zell a couple questions. It was a little heartwarming to see two great businessmen sharing a little camaraderie. You just know these guys are tough bosses to work for, but they keep it honest and straight.
  • Jack Welch: Sam, you’re the master of timing.
  • Jack Welch: These guys (CNBC crew) accuse me of being a cheerleader, but they wouldn’t dare say that to you.
  • Jack Welch: Sam, can we play what you’re saying every half hour (because it’s so positive)?
  • Sam Zell: You guys are opining every half hour so what do you need me for?
  • Jack Welch: Sam, thank you so much.
  • Sam Zell: Good to see you again Jack.

Watch the video here:

Macro

• Between a rock and a hard place – that’s the scenario Ben Bernanke finds himself in as the economy decelerates drastically while inflation rises more than anticipated.

• For the masochists, Nouriel Roubini proposes a perfect storm to demolish the financial markets. Of course, the probability of financial armageddon is extremely low, but you never know. Even if a handful of his scenarios come to fruition, the pain will be significant.

• Do KKR Financial’s (KFN) woes signal further trouble for the private equity industry? During the height of the private equity boom, analysts predicted that 2007 and 2008 would be great years for the equity markets as leveraged buyout funds were anticipated to take scores of companies private. In addition to the premiums spent to pay off public shareholders, the resultant shortage of publicly traded shares was supposed to increase the value of the remaining pool of public companies. This credit crunch is going to hamper funds’ ability to lever up and buy out public firms; we’re already seeing a slowdown in private equity. Never mind KKR’s efforts to lobby against aggressive efforts by Congress to raise taxes on the industry?

• Oil sets another record today and breaks $101. This is half of the two-pronged vice that will be giving Bernanke & Co. at the Federal Reserve fits as they try to navigate between this economic downturn with rate cuts while the threat of inflation remains. The other half is rising food prices spurred by demand from a growing world population.

Micro

• Sharper Image (SHRP) files for bankruptcy. As a little boy, I used to love borrowing my father’s Sharper Image catalogs and fantasizing about trading my toy soldiers for the overpriced remote controlled cars and suits of armor. The Ionic Breeze, arguably their most successful and popular product, is also the nail in the coffin after Consumer Reports raised doubts about the product’s efficacy.

• One prong of the inflation vice is the rising price of food. Cal-Maine Foods (CALM) has been a big beneficiary of that price strength. MagicDiligence has a nice short piece about why Cal-Maine may be riskier than the rosy superficial metrics suggest. Can’t stop making omelettes.

• Continuing on with this theme on food inflation, NutriSystem (NTRI), the company that delivers ready-to-eat meals that help consumers lose weight guided earnings lower and saw its stock plunge. Interesting that it has not been able to pass on higher costs to consumers without seeing a corresponding loss in “subscribers.”

Technology

• Social networking and, to a lesser degree, cloud computing are the hot topics in web business models right now. Blist, a startup that just raised $6.5 million is attempting to combine both by providing a cloud database web application with a social networking twist for sharing that data. The dominant social networks revolve around sharing pictures, music, and videos. It’ll be interesting to see what kind of data schemes will arise out of the social interactions that take place. It’ll be interesting just to see if people will gravitate towards such a tool. My intuition tells me this will be relegated to the geeks amongst us.

• Online video advertising network VideoEgg unveiled the new AdFrames program. Advertisers are going to gravitate towards this model where they only pay if consumers interact with the video ads and perform a predefined action. Unlike the traditional CPM model which is harder to measure from an ROI perspective, the CPA (cost per action) model lends itself to detailed analytics and ROI measures.

• Open platforms have been all the rage in the social networking space since Facebook exposed its APIs to the developer community. Now we see video game platforms following suit as Nintendo (NTDOY) announced WiiWare, essentially opening the Wii gaming console to allow independent game developers to create and distribute games to the Wii community. Many of the most successful Facebook apps are simple, fun games. This is an outstanding move by Nintendo to get all that gaming creativity into their camp.
  • [update]: VentureBeat is reporting that Microsoft (MSFT) just announced that it too will create a platform for independent game developers to make and distribute games for the Xbox. The Xbox Live system is currently the best online gaming system amongst the top three gaming platforms. It looks like we will indeed have a future in which we will never have to go to GameStop (GME), Best Buy (BBY), or Wal-mart (WMT) to buy games, they’ll be sent over the Internet into our gaming consoles or computers.

Science

• Recently, I’ve had the opportunity to meet with the executive team at GeneTree, a social network based on DNA. The concept is very exciting to me for the possibility of being able to add a deeper level of understanding to a family tree, finding out about ancestors’ migratory patterns, and even the potential to be warned of diseases I am particularly susceptible to. While preparing for our meetings, I had to bone up on my college biology and chemistry. I stumbled upon a Sanger Institute web page today that puts a mind-numbing spin on DNA.

• Exciting developments in energy science emerging as two scientists propose turning greenhouse gases emitted by cars into jet fuel. Please bring it on! We couldn’t have more options for energy at a better time.

• Have you wondered how the U.S. Navy is going to shoot down the spy satellite due to reenter our planet soon? Obviously a lot of math is involved, the greatest science of all sciences. LiveScience does a good job explaining the process.