In a real life drama, veteran money manager Jim Melcher beat the odds by performing a herculean task equivalent to outwrestling a man-eating crocodile or whipping tennis whiz Roger Federer.

His noteworthy feat: Mr. Melcher’s $100 million hedge fund, Balestra Capital Partners, was actually up last week on bloody Tuesday when the Dow tumbled 416 points.

How did the fund do it? Largely through a strategy that involved huge 80% cash reserves, the use of derivatives to short both the American market and emerging market stock and debt and no ownership of any well-known stock in any of the world’s major markets.

Mr. Melcher, who has been negative on the emerging markets for several months, reckons his hedge fund was up roughly 2% on bloody Tuesday, and raised its gain for the year to about 10%.

That’s a turnaround from last year when the fund — which boasts a better than average long-term record — was down 3.8%, chiefly reflecting an overly cautious strategy in a rising market. That losing performance cost him a number of his newer clients.

Most pros I talk to see American stock prices moving higher once the dust settles from the damage of bloody Tuesday, but not Mr. Melcher, who is bearish on the American stock market. He sees “real problems in our credit markets,” notably in derivatives, junk bonds (or high-yield debt), and sub-prime mortgages.

“There’s a real possibility the financial system could unwind fast because debt is way overdone,” he says. Noting that the spreads between emerging market debt and treasury bonds are at record low levels, Mr. Melcher says it could be a sign “we’re entering a period of financial stress.” Normally, junk bonds pay between 4% and 5% above Treasuries. Currently, they’re paying about 2.3% above Treasuries.

“It looks like we’re going from excess liquidity to a credit crunch, which could take a few months to develop,” Mr. Melcher says. To avoid that, he points out, the Fed would likely lower interest rates, creating a whole set of other problems including a currency crisis in which the dollar could fall precipitously.

International turmoil also worries our bear, particularly in Iraq, Iran, Venezuela, and North Korea.

What does it all mean to our nation’s 78 million stock players? To Mr. Melcher, “by year end, the market will be a little to a lot lower.” As such, he thinks the recent decline in emerging markets is by no means finished because if the American market does poorly, the emerging markets will do worse, given the close connection of all markets.

Mr. Melcher, who is heavily short on mortgage-backed securities, junk bonds, and emerging market debt and is bullish on gold, said one of the smartest things an investor can do right now is “to absolutely raise cash.”

On a related note, on February 14, a weekly publication of Standard & Poor’s, the Outlook, issued a warning that soaring Chinese equities may have risen too soon, too fast and could be subject to a speculative blow off.

That call was made by S&P’s international equities strategist, Alec Young, who says “we’re still in a risk mode” because he believes the emerging markets have yet to complete the unwinding of the risk of the last five years, a period in which these markets have risen more than 200%. Factoring in slowing American GDP growth, Mr. Young, like Mr. Melcher, says he wouldn’t put any new equity money to work in any market in the world.

The unpleasant message from our two bears seems pretty clear: Watch out; the bleeding from bloody Tuesday has yet to run its course.

dandordan@aol.com