After Three Years, This Remains The Best Trading Strategy

Back in 2013, Zero Hedge laid out what we thought was a simple strategy to outperform the market: in a post titled “Presenting The Best Trading Strategy Over The Past Year: Why Buying The Most Hated Names Continues To Generate “Alpha” we said that “in a market in which all the risk is being onboarded by the Federal Reserve, there is simply no more idiosyncratic risk, and as a result for those so inclined, and preferably running other people’s money, a clear “alpha-generation” strategy in which hedging risk is no longer a concern, was to go long the most hated names.” Naturally, instead of “most hated” one could simply call them the most “neglected” by the hedge fund community.

Nearly three years later, it is now common knowledge that activist central bankers no longer tolerate fundamentals if it means risking a market selloff, and as a result what used to be investing based on fundamental analysis, is now an anachronism.

But how has this trade done in the years since?

For the answer we go to a report released today by BofA’s Savita Subramanian who finds something stunning to most, if very much expected by us.

As flows from active to passive funds have accelerated, one strategy that has worked unusually well for the last several years is a simple positioning trade of selling the 10 most overweight stocks and buying the 10 most underweight stocks by active managers. This single trade has yielded over 16ppt of alpha year-to-date. And implied derisking/ outflows on Brexit alone have been fierce, with the same strategy generating 5.2ppt of alpha just since last Thursday’s close. Even if Brexit’s impact on funds is limited from here, we believe that crowded stocks will likely continue to underperform neglected stocks: a whopping two-thirds of US large cap AUM still resides in active funds – there is likely a lot more to go in the rotation from active to passive.

In other words, the truly contrarian trade we first recommended in 2013 has, as expected, continued to be the best alpha-generating strategy in a market in which clustering hedge funds end up in the same positions, only to see substantial downside shocks on risk event catalysts.

Here is the proof: the Top 10 most overbought stocks have trailed the S&P for each of the past three years, while the Top 10 “most neglected” stocks outperformed the S&P on average by 11.6%.

An empirical analysis of the performance of the Most O/W and U/W stocks over time, shows a stunning 167% annualized spread over the past 4 years based on the 15-day post quarter return, and 16% when extending the performance intercal to three months later: a result most hedge funds would be delighted with.

Of note: it’s not all popular stocks that end up losing money. Just the truly most popular, those with greater than 3x benchmark exposure.

Which are the most overweight sectors now, and how does this compare to 3 months ago:

Finally, the most important question: which are the 10 most overweight and underweight stocks, according to BofA? The answer: below.

As in 2013, our advice to those who want to break away from the hedge fund crowd and ostensibly outperform it, pair trade by going long the 10 most hated names, and shorting the 10 most overweight.

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FEMA Contractor: Unrest After 395% Food Price Spike Coming Soon

Submitted by Claire Bernish via TheAntiMedia.org,

Preparations by various cogs of the national security complex, including FEMA, indicate a coming worldwide food shortage – and a resulting crisis marked by extreme civil unrest around the globe.

As Motherboard noted of two reports published previously by CNA Corporation, but which largely escaped attention, the world’s food supply could be insufficient to maintain even current populations much further into the future. And the crisis — which several factors indicate may already be underway — may begin to worsen considerably as early as 2020.

Employing a desktop game simulation of the conditions of a global food shortage, titled “Food Chain Reaction,” CNA’s Institute for Public Research brought together “65 officials from the US, Europe, Africa, India, Brazil, and key multilateral and intergovernmental institutions,” Motherboard explained. And the Institute, which oversaw the simulation, “primarily provides scientific research services for the Department of Homeland Security and the Federal Emergency Management Agency [FEMA].”

According to the website for Food Chain Reaction: A Global Food Security Game no commentary on Orwellian overtones needed — the “simulation and exercise intended to improve understanding of how governments, institutions, and private sector interests might interact to address a crisis in the global food system,” and took place in early November 2015.

“The scenario,” the description continues, “is set five years from today in a world where population growth, rapid urbanization, extreme weather and political crises combine to threaten global food security. The game’s players — high-level decision makers representing nations, international institutions, and the private sector — will collaborate, negotiate, make decisions, and confront tradeoffs while dealing with a chain reaction of consequences resulting from their actions.”

Participants received the briefing for the game through a mock TV newscast, which “challenged players to imagine a global food system under stress due to extreme weather and other environmental factors, urbanization and other demographic pressures, rising global food prices, and falling food stock levels.”

After receiving information specific to each participant’s national and regional geography and climate, players were also permitted to employ solutions to the game’s burgeoning food crisis scenario on “national, bilateral, and/or broadly cooperative” levels.

Divided into four rounds, the simulation found spikes in food prices up to a whopping 395 percent, driven by extended crop failures in key regions, resultant from the confused reactions by international officials, drastic changes in the environment, and skyrocketing oil prices — many similar factors, the report notes, that drove a global food crisis spanning 2007 to 2008.

Though, at the height of the simulation’s worst repercussions, the food crisis affected virtually every societal and governmental aspect — such as mass civil unrest and widespread crop failures in the planet’s ‘breadbasket’ regions — the Institute ultimately painted a rosy picture of economic and agricultural recovery.

But for as detailed and reactive as the scope of the game sought to be, several glaring omissions likely skewed both results and proposed solutions — and despite backing from the U.S. government, the simulation’s corporate participants could have tacitly or overtly influenced the outcome.

Commissioned in part by Cargill, an industrial agribusiness behemoth, and Mars, the giant whose candy business has vested interests in promoting both genetically-modified food and industrial agriculture, the Food Chain Reaction simulation excluded among possible solutions the abolishment of industrial, factory farming. Considering large-scale agribusiness’ sizable impact on the environment, as well as the paradoxical system whereby industrial agriculture largely supports livestock from factory farms, that exclusion certainly calls into question any results.

Additionally, with FEMA an aspect of the futuristic simulation, it wouldn’t be outside the realm of possibility to see a call for increased funding in the name of ‘being prepared’ for a coming crisis of epic proportions.

Perhaps, though, an imperative exists in examining both the aspects of massive food shortage studied as well as potential solutions omitted. China recently began the push away from a meat-centric diet, in part because pollution from factory farms has wrought havoc in the air and water. All moralistic pontificating aside, a return to small-scale, organic farming and switching to vegetarian diets, or at least a reduction in consumption of meat, could avert or abate the coming crisis.

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The Algos Are Winning Again (In Trading The Brexit Chaos)

As we warned heading into the Brexit vote, it appeared that many human investors had quite a bit of misplaced confidence in the Remain vote, and it ultimately turned out that we were right. It also turns out that the algos have traded the event better than humans as well.

Despite the polls indicating a Remain vote heading into Brexit, which led many investors to bet on what could perhaps be considered a preferred outcome, algos weren't reflecting that "projection bias" and continued to signal buy in more risk-off assets such as the yen, gold and government bonds the WSJ reports.

Yves Balcer, co-founder of Fort LP, a model-driven investment firm with about $2 billion in AUM, expected Britain to vote for remaining in the EU, however Balcer's trading model was just focused on the global economic environment, and thus the firm continued to buy assets such as the yen and government bonds which ultimately benefited from the Brexit vote. "We didn't change anything ahead of Brexit" Balcer said. As a result, both of the firm's portfolios were up more than 3% on Friday.

Equity hedge funds fell 2.1% on Friday alone according to data from Chicago-based Hedge Fund Research, and the losers generally appear to be funds too heavily weighted toward cyclical stocks such as airlines or financials.

One macro fund run by H20 Asset Management was hammered on Friday, losing 14.4% according to Bloomberg.

As a reminder of what happened following Brexit to those who were positioned in riskier assets, the Euro STOXX 50 experienced its largest 1-day drop ever

And the Sterling experienced a 12 sigma move

As for EU bank stocks, we will just leave this chart here…

CTAs on the other hand, who use customized trading algorithms in order to spot trends and place trades were blocking out the Brexit noise and favoring government bonds, gold, and yen, while avoiding riskier assets. The result is that many algos actually made money after the Brexit results came in. "Our models aren't going to be affected by the same sentiments a human would be" said Lara Magnusen, portfolio strategist for Altegris's main fund, which gained 4% on Friday – Altegris stuck with gold and yen bets.

Quantitative Investment Management, a computer-driven firm based in Charlottesville, Virginia gained 3.6% on Friday according to Bloomberg.

While the algorithm driven funds were doing their thing, many large hedge funds turned to Harvard historian Niall Ferguson for his private views. Ferguson has been consulting with hedge funds and other investors on political projections since 2007 said that he has had a "reasonably high success rate". On June 9, Ferguson predicted a 65% chance that voters would elect to remain in the EU, on June 14 Ferguson lowered the chances to 55%, and immediately before the vote Ferguson gave the Remain vote a 50% chance – said otherwise, he was paid to let hedge funds know that the vote could go either way, what is the ROI on that? If funds chose to invest in risky assets due to that, we're sure not very good.

Not everyone chose to make a bet on the outcome however. Steve Cohen told his traders at his $11 billion firm to avoid making any kind of wager related to Brexit – advice many undoubtedly wish they received earlier.

One final note, as we pointed out this morning, while the initial panic may be behind us, the impact of the referendum is far from over.

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Violence Over Food in Venezuela Continues As Maduro Looks to Dissolve Legislature in Response to Recall Referendum Attempt

Some Venezuelans are reportedly raiding supermarkets and targeting food trucks as the food shortage, part of Venezuela’s broader self-induced economic crisis, continues to get worse. Protests over the food situation continue, and some richer residents, according to the Washington Post, have taken to purchasing supermarket goods online from Miami. The government has also increased security at points across the Venezuelan food chain. “It’s just cheese,” one driver told the Post, at a warehouse from where the product is shipped that the Post described as looking like a garrison. “I’ve never seen anything like this before,” the driver continued.

Meanwhile, Nicholas Maduro, who succeeded Hugo Chavez as president after Chavez’s death in 2013, is trying to use the Supreme Court, which his opponents say he controls, to shut down the opposition-led National Assembly. The opposition has collected more than a million signatures, which the National Electoral Council validated last week, in order to bring about a referendum that would remove Maduro from office.

A spokesperson for the Maduro government insists they will be charging opposition lawmakers with treason, breach of the constitution, and abuse of power. Venezuela’s foreign left-wing apologists continue to attempt to downplay the severity of the crisis in Venezuela. At The Nation, Gabriel Hetland argued that mainstream media was “significantly exaggerated the severity of the crisis” in Venezuela, which was not, he argued, “in a state of cataclysmic collapse.”

Juan Nagel of the Caracas Chronicles calls that the pendejos sin fronteras defense of the Maduro regime. “As the author says, there is looting, scarcity, inflation, rampant crime, but … c’mon, it’s not that bad,” Nagel writes of Hetland’s argument. “Look on the bright side: as your kids cry themselves to sleep at night on an empty stomach, you can reassure them that at least we don’t have neoliberalism!

Maduro announced a 60-day “state of economic emergency” at the beginning of the year, which has been extended since. He declared another 60-day state of emergency in May, accusing the United States of trying to topple his government and destabilize its centrally-planned economy.

Hundreds of people have been arrested for food-related rioting and looting in the last month.

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Brexit, A Step In The Right Direction: The Optimistic View

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

Brexit can be constructively viewed as a systemic step towards solving existing scarcities.

In the conventional narrative, Brexit is about immigration, escaping the EU's bureaucrats of Brussels, class war or political theater. It may be about all of these, but beneath these surface issues lies a deeper dynamic: a recognition that the entire system is broken and a new arrangement of power, responsibility and risk is required.

In this view, Brexit is a positive step in the right direction, away from centralization and central planning and towards decentralized arrangements that enable more dynamic, localized solutions.

Longtime readers know that I focus on scarcity as the source of value creation: what's scarce generates value, profits and high wages, and what's abundant declines in value due to supply and demand.

Correspondent Ron G. views Brexit as a systemic step towards solving existing scarcities. Scarcity is not limited to goods and services; agency and autonomy can be scarce; responsibility that connects risk and return can be scarce; level playing fields can be scarce; rule of law can be scarce; opportunity can be scarce; entrepreneurial drive can be scarce; self-reliance can be scarce; social innovation can be scarce; social capital can be scarce, and the willingness to accept losses and the risks required to change the power structure can be scarce.

Political expediency can be over-abundant, as can protected privilege.

Ron submitted this photo and commentary on Brexit and scarcity:

Here are Ron's comments:

"Mankind’s fundamental quest is to survive and prosper by solving scarcity.

BREXIT is simply a modern example of an old pattern of behavior that seeks to resolve scarcity, (the shrinking pie of economic opportunity and ownership), through reconfiguration of relationships to reallocate resources to enable more equitable equilibrium in supply and demand.

As a prelude to BREXIT, housing in Britain, in particular, had become out of reach for those that have labored under the assumption that hard work, education, and a good job would lead to an ability to own a home, which many young Britons now find economically out of their reach; many Britons blame the government’s monetary policy of zero percent interest rates for inflation and unaffordable housing

In another sign of frustration, a few years ago a graffiti sign expressed a sentiment of the youth in Britain, one of them posted at Bell Lane near Liverpool St. Station, it read: ‘Sorry, the lifestyle you ordered is out of stock.’

The Bank of England has continued policies that have contributed to the exasperation expressed through the referendum, this along with the burdens of having an open country and economy that increased labor supply which in turn increased demand for housing and available credit to driving the asset bubble.

This type of scarcity, being seen in Britain, is very common throughout history and is generally driven by the confluence of interests that connects and drives centralized, unified policies between bankers, merchants (in today’s world global corporations) and governments.

Turning back the clock a bit, I would like to include a couple of quotes by an amazingly brilliant and eloquent commentator in economics, Fredic Bastiat in his writings from 1850:

"I do not dispute their right to invent social combinations, to advertise them, to advocate them, and to try them upon themselves, at their own expense and risk. But I do dispute their right to impose these plans upon us by law – by force – and to compel us to pay for them with our taxes."

“Self-preservation and self-development are common aspirations among all people. And if everyone enjoyed the unrestricted use of his faculties and the free disposition of the fruits of his labor, social progress would be ceaseless, uninterrupted, and unfailing. But there is also another tendency that is common among people. When they can, they wish to live and prosper at the expense of others.”

While old tools based in centralized control have held the power bases together, and have been useful to the management of empires, they have have become outdated and are an inadequate means of resolving the complexities of bringing equilibrium in supply and demand and the distribution of power.

New forms of social connection for production and consumption have emerged and are replacing centralized models; distributed models, even in formally centralized systems of energy and water, are coming online at a rapid pace.

These systems are fueled by the realization of democratic economy and autonomy, connected through a digital technology template; more distributed and socially self-aligning, this combination of digital conduits and marketplace opportunity fit lock and key into humanity's biological need for autonomy and dignity of choice.

To those like me who have been compelled to study foundations and dynamics in human systems as a means to understanding better choices, BREXIT is not a surprise but simply an the most recent public demand to bring about a more acceptable outcome.

BREXIT is a symptom of an inadequate system for meeting human needs, driven by many converging factors, factors shared by all modern economies: underlying complexities growing due to connections to a more globalized world, and an inability to resolve scarcities through centralized systems of management and control. This underlying complexity will only continue to grow.

Centralized control by any domain keeper are but a delusion, as I believe there will be no wresting back control from the decentralized solutions that are growing in a scale and complexity beyond their toolsets and bandwidth.

I believe we have entered a critical but wonderful age, the age of reemergence of decentralization and decentralized governance; may we preserve this opportunity for the gift that it is to life, liberty and property."

Thank you, Ron, for placing Brexit in a more expansive and insightful context.

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Brexit Portfolio Strategy Analysis & Why ETFs Suck (Video)

By EconMatters


We delve into Portfolio Strategy and the lesson of not panicking right after an event that wasn`t priced into financial markets. Unfortunately, Karen Finerman of New York-based hedge fund Metropolitan Capital Advisors panicked in my opinion after the initial first blush reaction to the Brexit event.

It may very well work out for her in the long term, but it was definitely a portfolio mistake that cost her fund money in the short term. She could always rebalance her portfolio once the dust settled a bit, but she sold her assets at a bad price just on a weekly basis, and the market was more than happy to take advantage of her selling at the bottom on a weekly basis. In summation, make sure you don`t out think yourself, or get “Fancy Play Syndrome” which is a poker analogy of trying to get too cute with a strategic play.

Furthermore, the ETF industry takes advantage of market incompetence by fund managers who lack the ability to properly stock pick assets in this portfolio class. All ETFs are complete garbage in my opinion, and Fund Mangers need to stop relying on them for passing the accountability buck, i.e., if you are not good enough to stock select, then go work in an industry other than portfolio management because you are costing clients returns with your laziness, lack of analytic ability, and overall negligence from a due diligence standpoint.

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Another Attempt To Explain The Volumeless Rally, Now From JPM: “A Function Of Disbelief And Skepticism”

While the bulk of JPM’s intraday commentary is largely an attempt to explain today’s latest low volume ramp…

 

… whose lack of participation JPM believes is “a function of disbelief/skepticism”, Adam Crisafulli does bring up an interesting point: with earnings around the corner, and Wall Street once again overly optimistic about the Q2 to Q3 earnings improvement, will Brexit be the catalyst used by corporations to blame the earnings recession extending from 5 quarters (through the second quarter), into Q3 or further.

First, here is Crisafulli on today’s sector trends:

Trading trends are pretty slow and that is a function of disbelief/skepticism in the recent rebound (there is a lot of doubt that the SPX will wind up getting off this easy from the referendum and thus people are reluctant to chase). The underlying price action is a pretty-standard risk-on move but a few items are standing out. Banks are outperforming but would prob. be doing a lot better if yields were higher. Tech, health care, industrials, and materials are all up ~1.5-1.7%+ (outpacing by a mild amount). Nothing is dramatically outperforming w/the exception of larger money center banks, internets, energy and  transports (up ~2% each). Note that safe-haven assets aren’t weak – gold is up, TSYs are flat-to-up, and the safe haven groups are doing OK (staples, REITs, utilities, and telecoms are all lagging but not by that much).

And here is part about the how Brexit is about to be scapegoated to justify another round of “small misses”

Market update – more of the same. The SPX sank ~5.7% peak-to-trough since the referendum and has since bounced ~3.5% (the SPX is now off only ~2.3% from its Thurs 6/23 close). Positioning-related fears continue to calm while the press remains full of articles discussing potential relationship structures between the EU and UK that don’t look very dissimilar from the current arrangement (although there is still enormous uncertainty on this front and it doesn’t help that British politics are in chaos at the moment w/the Tories electing a new leader while the Labor head comes under siege). Otherwise nothing major happened on the news front (the eco data in the US was OK in aggregate, the PR legislation doesn’t impact the US macro backdrop http://goo.gl/h1IX5r, and none of the earnings reports have macro implications). The calendar is still pretty sparse – other than month/quarter-end, the Jul PMIs/ISMs and auto sales (Fri 7/1), and June jobs (Fri 7/8), the main focus (by far) will be on the CQ2 earnings season (the first few reports will hit during the week of 7/11 but the heaviest volume will be during the week of 7/18 and 7/25). The CQ2 earnings season will be particularly important as investors are eager to hear updates from CEOs/CFOs on the extent to which Brexit-related disruptions materially impacted the outlook for their businesses. If the tone on the Jul/Aug conf. calls sounds relatively similar to the Apr/May updates (i.e. Brexit is acknowledged but doesn’t dramatically change H2 guidance) that would go a long way towards alleviating investor concern. Prior to the 6/23 referendum investors were penciling in a ~$130 SPX figure for ’17 – if that number only has a couple of dollars of downside stocks will continue stabilizing.

In other words, the more organic corporate weakness is blamed on a “one-off” event, P/E multiples, which already are in their 99% percentile…

… may well hit all time highs.

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Trump’s Terrible Trade Ideas Would Make America Small and Weak

Donald Trump’s big speech on the economy yesterday was, not surprisingly, a festival of bad ideas and false statements. But even more than that, it was a rejection of the idea that America should be a fully engaged participant in the modern international economy.

Trump’s address was billed as a jobs speech, but its main focus was outlining an intensely protectionist view on trade. In particular, Trump blasted trade deals like NAFTA and the Trans-Pacific Partnership, describing them as tools of powerful special interests. And he lamented what he described as a lack of response from the political class, saying that “when subsidized foreign steel is dumped into our markets, threatening our factories, the politicians do nothing.”

Trump is simply wrong about this. As economist Keith Hennessey points out, President George W. Bush imposed steel tariffs on Chinese steel in 2002, and just last month, the Obama administration imposed additional duties on steel from China and a number of other countries. I am not endorsing these actions, but it’s incorrect to say that the executive branch has done “nothing” in response to Chinese steel imports.

Okay, so Trump botched the details. No surprise there.

But over the course of his campaign, Trump has made it abundantly clear that the details don’t matter. So let’s look at his argument more broadly. Basically, his position is that politicians haven’t done enough to respond to foreign trade, and that major free trade deals should be ended or substantially renegotiated in order to protect industries like steel from foreign competition.

That’s pretty rich from someone so adamantly opposed to trade deals that favor special interests—because Trump’s response, it turns out, is essentially that the U.S. government should treat the mid-century manufacturing sector as its own special interest, a special economic class to be protected at all costs, because it represents something iconic about America. 

And make no mistake: The costs would be extremely high. As Hennessey writes, pushing American businesses to rely on more expensive American steel would raise costs for other manufacturers, not only raising the cost of living for most consumers, but raising costs for other industrial employers. Similarly, Trump’s proposal to require American infrastructure projects to be created with American steel wouldn’t create jobs, as Trump claims, but would limit the number of projects that could be constructed, and thus reduce the number of potential jobs.

Meanwhile, Trump’s focus on mid-century manufacturing jobs simply ignores the evolving and dynamic nature of the American economy. Yes, Pittsburgh, Pennsylvania, has lost 5,100 steel-worker jobs in recent years—mostly because of innovation and productivity improvements, not trade—but it has also gained 66,000 health care jobs over the same time frame. But modern health care jobs aren’t iconic in the way that trade jobs are. 

Trump’s anti-trade rhetoric is as much symbolism as it is policy. It’s a vehicle for a specific kind of economic fantasy, in which the American economy somehow returns to its twentieth century structure, and then stays that way, static and unchanging, forever. 

That’s just not how economies work. And even if somehow the old economy could return, it still wouldn’t be able to support all of the demographic, workforce, and technological changes we’ve seen over the last few decades. The old economy was slower and smaller, and evolved in part because of the need to scale up. 

In any case, even the most aggressive anti-trade policies aren’t going to return the country to the economy of fifty years ago.

What they would do, however, is cut off the United States from the world economy, making both Americans and the rest of the world substantially poorer in the process.

Perhaps as importantly, that sort of severing of international trade ties would dramatically reduce America’s standing in the world—and rightly so. Trump speaks often about rebuilding America’s global standing, but his trade policies would do incredible damage to the nation’s international reputation. Instead of making America great and strong, Trump would make it small and weak.

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Compound W

I haven’t done many real estate posts lately, although, as an update to this one (in which an empty dirt lot was being offered for $10 million) I’ll mention that although the For Sale sign seemed to linger longer than usual, it was supplemented with a SOLD sign yesterday. So I guess the Chinese are still buying.

I’ve become quite inured to the lunacy of Silicon Valley real estate, so not much surprises me anymore, but I saw a full page color ad this morning in Gentry magazine (which is a free magazine they distribute around here, packed with a combination of real estate ads, for the tech zillionaires, and plastic surgery ads, for their vain spouses) that demands a post. So I’m writing it, you lucky so-and-so.

The color photographs featured the most blase, ordinary, McMansion style place you could imagine, but the headline was…….

0629-luxury

Luxury. Compound. Now, when I think of a luxury compound, I think of a multi-acre property of a rich family with a number of fine-looking houses. It’s probably relatively remote, and who knows, it might even have some private security guards on the premises. Think of the Corleone residence on Lake Tahoe in Godfather II, and that’s a family compound.

What does not spring to mind when I think of family compound is what is being sold here, which is…….

0629-pavers

(Side note: I urge you to buy this house if you really, really like lots of paver stones on top of your now-inaccessible soil).

Now, I don’t smoke, but if I did, I might ponder the term “luxury compound”, look at the above picture, light my pipe, lean back in my leather arm chair, and ask: “Are you fucking kidding me?”

I’ve lived in Palo Alto since 1984, and I know the town very, very well. The location is on a very noisy, rather ugly street called Middlefield, and the house is constructed right next to a church that was built (cheaply) probably in 1940 or so……….

0629-church

The neighborhood is the kind you’d expect, with houses built in the 1950s that are small and were probably at the time very affordable for working class and/or middle class families. Here is the view directly across the street from the, umm, family compound.

0629-neighb

So, look, I don’t expect the good people of the real estate industry to be models of probity, but exactly how dumb do they think we are?

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