Moribund Resource Leases Primed For Activity

Here's a surprising release from Uncle Sam's primary grantor of leases for energy development, the Department of the Interior.  Many leases granted for energy production are currently unused:

A report requested by President Obama and released by the Department of the Interior shows that more than two-thirds of offshore leases in the Gulf of Mexico and more than half of onshore leases on federal lands remain idle, neither producing nor under active exploration and development by companies who hold those leases.

This lack of activity represents a prime opportunity for investors in an age when hydrocarbon resources are increasingly difficult to find.  Many of these leases are probably inactive due to the higher costs of drilling and extracting in certain regions.  Environmental regulations for drilling on federal land make drilling difficult and costly even in well-explored areas.  The next logical step for the federal government to take is a review of regulatory obstacles that are keeping leases out of active production.  There's plenty of disagreement over whether these leases are as inactive as the government claims, but there's also plenty of room for more domestic oil and gas production. 

Full disclosure:  Long TDW with covered calls.  That's an offshore oil services company. 

Horizon Lines In Troubled Waters

Horizon Lines (HRZ), in a development befitting its name, is preparing to sail over a horizon every shipping company dreads:

Horizon Lines said it expects to default on its loans as the result of a $45 million fine for price-fixing in the Puerto Rico trade and could be forced into bankruptcy if a deal can’t be worked out with lenders.

 

The shipper is trying to stave off insolvency by extending a consent solicitation for some convertible senior notes, but that may not provide the liquidity needed.  What went wrong?  Gross revenue has been consistently between $1.1B to $1.3B for four years, but net income has been negative since 2009.  Given the small amounts of cash Horizon has kept on hand (under $4.6mm) for the past year, it's easy to see how a legal penalty can sink this ship. 

Horizon (or its physical assets) may be an attractive purchase if it declares bankruptcy.  The company's remaining debt load from accounts payable could be manageable for an acquirer provided its long-term debt is wiped out.  An acquirer will also have to boost Horizon's capital spending, which has declined by 16% in five years.  Shippers looking to add Horizon's 18,500 or so containers to their fleet need only hang around corporate HQ in Charlotte, NC to see if they'll be available at a bargain price. 

Full disclosure:  No position in HRZ. 

Consumer Spending Rose Due To Gas Prices

Think again, recovery fans.  That 0.7% rise in consumer spending in February came from higher gas prices, not from any increase in disposable income.  Those gas prices are going even higher thanks to unrest in the Middle East.  If you think civil war in Libya is nasty, you haven't seen anything yet.  Once it spreads, you'll be thinking hard about giving up dining out just to fill your gas tank.  It's too bad some people are using the disaster in Japan as an excuse to turn off nuclear plants (like these panicking politicians in Germany).  The world is going to need that nuclear power. 

The Limerick of Finance for 03/27/11

The Japanese shutdown drags on
More plants idle with each passing dawn
With parts hard to get
The worst hasn't hit yet
Sales for automakers are gone

Housing Market Is Mature

There's more to the double-dip in housing stats than meets the eye:

Existing home sales plunged nearly 10 percent in February to their lowest level in nine years. It was the largest drop since July. Forty percent of those sales were on distressed properties. And new home sales are on track to come in at just 250,000 this year, the fewest since the Kennedy administration, when there were 120 million fewer people in the United States.

Real estate salespeople love to talk about how anytime is a great time to buy. That cannot be true everywhere.  Too many new homes have been built too far from natural communities to be viable.  Lots of ingredients go into a sustainable community.  Rural communities need arable land for farms, ranches, and vineyards.  Urban communities need natural logistics nodes:  harbors, deep riverbeds (at bends and forks), or long-established crossroads for rail and barge traffic.  Anything else is unsuitable for development. 

The long American experiment in unrestrained suburban growth is slowly ending.  Existing home sales will continue to fall until the non-viable communities containing those homes are disbanded.  New home sales will continue to drop to zero.  They will not rise again until they represent a replacement rate for existing housing stock that must be replaced one-for-one in sustainable communities. 

The Haiku of Finance for 03/25/11

Southwest and AirTran
Stock and cash merger will fly
Cheap air fares take off

Schwab Buys optionsXpress In Bid For Discount Investors

Sometimes it pays to pay even when you're used to chasing discounts.  Charles Schwab, one of America's leading discount brokerages, is offering $1B in stock for optionsXpress.  Thumbnail sketches are in order. 

This is an all-stock deal, with 60mm new SCHW shares going to OXPS holders.  SCHW shareholders will experience dilution of about 5%, which isn't bad considering they're getting a huge options brokerage's market position.  OXPS's ROE of 25% is unbelievably healthy, although its three straight years of declining net income is a cause for concern.  OXPS's accounts payable and long-term debt are manageable loads for SCHW's balance sheet to bear. 

Writing puts under OXPS would be tempting if this were a cash deal, but the all-stock characteristic would make such a move very vulnerable to market volatility.  That is a huge risk to take with OXPS's P/E over 20 and SCHW's over 47. 

Schwab is probably making the right long-term move here, but the risk factors above take the joy out of any short-term special situation strategy for investors. 

Full disclosure:  No position in SCHW or OXPS. 

Tiny Europe Rescue And IMF Preparation

The healthier Continental economies are getting sick of footing the bills for European deadbeats.  Germany's reluctance to commit more paid-in capital to Europe's emergency bailout fund shows a welcome realization that throwing good money after bad is folly. 

The IMF is not showing any comparable maturity.  That venerable institution is willing to activate a massive credit line, going where Germany fears to tread.  Transnational institutions like the IMF and EU were born in the panic of the Cold War when the West needed to present a united front to the world.  They just can't stand to see each other go down. 

The "tiny" European rescue I allude to in my headline hasn't happened just yet.  Portugal's budget misadventures will tell us all very soon whether that rescue is needed. 

YRCW Teamsters' Pension Benefits Cut By Older Teamsters

When a ship is sinking, the crew can either band together to save it or crowd into whatever lifeboats remain.  In the case of YRCW, it looks like senior Teamsters had their lifeboats prepared well in advance at the expense of their younger brethren.  The Central States Pension Fund is cutting benefits available to YRCW employees.  It's worth noting that not all Teamsters will share the pain.  Younger retirees are the ones seeing their pensions capped, while older retirees will still reap full benefits.  Younger pension plan beneficiaries are thus subsidizing the full benefits of their older counterparts while paying the exact same dues for union membership. 

Teamsters under the age of 55 need to think long and hard about the representation they're getting.  Why pay union dues if all you get for this privilege is to see older union workers take your pension?  There's a good topic for discussion at the next all-hands meeting. 

Portugal Problems Portend Pounding

Liberal use of the letter "P" in the title above is a cute lead-in to the financial problems Portugal is about to face:

All opposition parties united to defeat Prime Minister Jose Socrates' latest austerity measures in a parliamentary vote Wednesday, saying the belt-tightening went too far.

The lead-off member of the PIIGS problem children is about to leap headfirst into a sovereign bond default and/or EU bailout because its fractious politicians can't come to grips with the need for austerity.  The euro may still have some life left in it if the EU has credit it's willing to extend.  Maybe this is why Germany is cutting back on support for nuclear power and military support to Libya's rebels; it needs whatever cash it can scrape together to keep Europe financially afloat. 

Full disclosure:  No position in Portugal's sovereign debt.

Stay Away From Trendy Graduate Programs In Web 2.0 Stuff

I recently received an email inquiry from a fan of my Yelp review of the University of San Francisco.  My fan wanted my opinion of USF's Master of Science in Web Science program.  I had no idea the school had such a thing and I really doubt that it's necessary for a Web 2.0 career.  I truly believe a stint with a venture-backed Web 2.0 startup will provide a more fruitful education than time spent in a traditional classroom.  My emailed response is below, in italics. 

Thanks for reaching out. I don't know anything about the MSWS program but it sounds like a waste of time and money. Most web developers studied the basics of computer science at some point and then learned about web applications through on-the-job experience.

There are a lot of dumb students at USF. They get jobs because their families are rich. Rich kids won't help you network because they think anyone not rich like them isn't worth helping. They won't go outside their social circle for people like us.

BTW, there are plenty of hot chicks in the SF Bay Area. You don't need to waste two years in school to meet them.

A USF master's degree will only help you if you already work in that career field because experience is far more important than education. USF starts programs like that as a sales tool to draw students who have money but no job prospects. The school just wants your money up front and doesn't care whether what you learn will help you find a job.

A better plan would be to skip the master's and learn to build websites on your own. Learn about things like knowledge management, data mining, business intelligence, and social media for FREE on the Internet. Working at Yahoo or Google for two years will teach you more about web stuff than a master's program, plus you get paid and won't end up in debt.

I hope this helps. Good luck.

Updating The Alpha-D For March 2011

Simple changes this month are solely due to options expiration last Friday.

My covered calls on GDX, FXI, and TDW expired unexercised.  No equities were sold away.  I renewed those covered calls.

No change in ATHR or my covered calls and short puts.  I await the deal's closure.

I bought one California muni bond, maturing in 2012.  The premium will net against my equity gains and the cash flow is tax-free. 

That's all there is for March. 

The Limerick of Finance for 03/20/11

Having trouble when you make a call?
Coverage limits still hitting a wall?
Don't worry for long
Problem's solved with a song
A big mobile phone deal, that's all

Tomahawk Strike On Libya Great News For Raytheon

Whoever said war is bad for business never worked for a defense contractor.  The international community has begun launching strikes on Muammar Gaddhafi's regime to prevent further atrocities.  That in itself is great news.  The U.S. won't take the lead but its edge in specialty weapons comes into play early.  The allies have fired over 100 Tomahawk cruise missiles to knock out Libyan air defense systems.  This will require spent inventories to be replenished.  That's great news for Raytheon, the Tomahawk's contractor. 

The Tomahawk reportedly costs $756k a copy.  RTN can thus expect new orders for at least $76mm later this year as soon as the relevant procurement commands generate their requirement statements.  The company will have to wait until the battle damage assessment photos are declassified before it can use the results in its advertisements.  War is hell, but you can't make money in hell like you can in war.

Full disclosure:  No position in RTN at this time. 

Japan Plant Closures And U.S. Ripple Effects For Automakers

China isn't the only manufacturing nation hurt by indefinite plant closures in Japan.  One GM plant in the U.S. anticipates a shutdown due to parts shortages.  If it's any consolation to GM shareholders, Honda and other Japanese competitors face much larger uncertainties over resuming full-scale production. 

Solving global supply crunches requires more space than what's available in a blog post.  Try simpler designs with fewer moving parts that are available from common materials and multiple sources.  That means far fewer amenities in cars.  Automakers can afford to do away with cup holders, back seat video screens, power windows, molded seats, multiple temperature controls, and other luxuries.  Spoiled American road hogs can get used to driving the way their grandparents did in the 1950s when seat belts and a radio were all you needed. 

Remember this the next time someone on CNBC touts an automaker as a great investment because it just came out from under TARP.  Oh, BTW, higher oil prices mean gas-guzzling SUVs are less attractive products. 

Full disclosure:  No position in any automakers at this time.

The Haiku of Finance for 03/18/11

Goldman buys preferred
Hefty expense goes away
Berkshire reaps reward

Bust Your Bank, Get Sued

High-profile legal actions are always fun to watch.  This one's long overdue:

Federal bank regulators have sued three former top executives of Washington Mutual, the biggest U.S. bank ever to fail, accusing them of negligence in allowing risky mortgage lending.

Why does it take two and a half years for the FDIC to bring a lawsuit for negligence?  Uncle Sam sure takes his darn sweet time getting around to enforcing laws when wealthy people are accused of wrongdoing.  The only thing funnier than that is how the defendants claim the government treated them unfairly. 

It's hard to get sympathy when a permissive regulatory environment allowed mortgage fraud to go unchecked for years while both bankers and homeowners had access to ultra-low interest rates.  Everyone got a free ride.  There aren't any more free rides now. 

Japan Nuclear Disaster Will Impact Chinese Industry

The full impact of the nuclear emergency facing Japan is unknown.  The physical effects of reactor meltdowns and the spread of radiation are horrendous possibilities.  The economic fallout from this disaster is not nearly as grave a threat to human life, yet it bears consideration.

Damage to the Japanese economy will seriously degrade the supply chains of manufacturers in China.  Chinese companies will need to jump through hoops to source some components.  This will provide even greater impetus for China to entice manufacturers to locate their entire production chains on the mainland.  Value chain integration isn't just for rare earth metals anymore.

Full disclosure:  Long FXI with covered calls.

Teamsters Ready To Pull Trigger On YRCW Pension Default

Poor YRC Worldwide.  They just can't catch a break lately.  First their CFO quits, and now their unions demand interest payments that will immediately trigger the bankruptcy of the company if enacted.  The company's other creditors won't put up with these games forever.  No one has unlimited patience when dealing with unions, but now that Teamsters are getting YRCW board representation they will have the opportunity to test the limits of such patience. 

YRCW's survival is now clearly in the hands of its Teamsters.  If they are selfish enough to demand a higher interest rate on their deferred pension contributions, the company will fail and they will get little or nothing.

Teamsters, think hard about what you're about to do to yourselves.  Think very, very carefully about the imminent consequences of your greed and inability to think long-term.  The survival of your employer depends entirely on whether you're not collectively stupid enough to demand something you have no hope of receiving. 

Full disclosure:  No position in YRCW at all.  Ever. 

The Haiku of Finance for 03/14/11

Nuclear meltdown
Broken window fallacy
Disaster hurts trade

Significance Of The Lubrizol Buyout

Today's big dealmaking news is Berkshire Hathaway's purchase of Lubrizol for $9B in cash.  The appeal of LZ's fundamentals is clear.  The 34% ROE and long term debt less than two times net income are hallmarks of the Warren Buffett criterion.  The less obvious attraction here is Lubrizol's sector.

LZ makes specialty lubricants with wide applications in petroleum drilling and refining.  Like BNSF's position astride desirable rail lines, LZ's position in a specialty sector is tough to dislodge.  Railroads and energy services are bulk carriers of the kinds of commodities that advanced economies use with abandon. 

Niche servicers of the energy production sector are long-term bets on the world economy's demand for energy.  If Mr. Buffett doesn't believe in commodity scarcity, he's certainly doing a darn good imitation of a Peak Oiler.

Full disclosure:  No positions in LZ or BRK-A at this time. 

The Limerick of Finance for 03/13/11

Investors seeking high return
Take more risk with the cash that they earn
It's no fun to lose
If investments you choose
Are just pits where your money will burn

YRCW's CFO Departs For Smoother Roads

YRC Worldwide is about to say goodbye to its CFO.  Losing a key executive in the midst of a turnaround effort is never a good sign.  The CFO's role in restructuring YRCW's balance sheet and estimating the impact of issuing new equity had to be critical.  One can only guess at her reason for seeking greener pastures elsewhere.  Maybe she got sick and tired of hearing the Teamsters demand reinstatement of their pension plan contributions.  You would too if your workforce's main motivation was to seek more pay for less work.  YRCW will be hearing a lot more of that nonsense with Teamsters serving on its board.  No executive would look forward to that given the rampant greed and corruption among unions nationwide. 

Full disclosure:  No position in YRCW. 

The Haiku of Finance for 03/11/11

Pentagon accounts
Impervious to audits
Spending in stealth mode

The Haiku of Finance for 03/10/11

Saudi oil price stress
Threat to global GDP
"Day of Rage" at pumps

Malkiel Likes To Random Walk With ETFs

Burton Malkiel, legendary investment theorist and author of "A Random Walk Down Wall Street," likes what ETFs do for the retail investor.  He has long endorsed the use of low-cost index investing so it's good to see him climb on the ETF bandwagon.  It would be great if he could mention their value in a covered call writing strategy.  Malkiel's further endorsement of high-frequency trading makes less sense.  It doesn't take a million trades per nanosecond to arbitrage an ETF's value into line with its holdings. 

He's not the only voice in finance pushing for more attention to ETFs.  Charles Schwab's study noting the favor independent advisors show towards ETFs is only slightly disingenuous.  Schwab is one of the most popular platforms for independent RIAs, so throwing them a bone is good marketing.  It also helps that this release is timed with the rollout of Schwab's ETF-selection tool.  Gotta hand it to Uncle Charlie. 

Full disclosure:  No position in SCHW at this time. 

Boeing Bonanza From China

Boeing got some big news.  Hong Kong Airlines is buying $10B worth of 777s and 787s.  That figure is a list value before discounts, so the real gross is closer to about $6B (including another order from Air China for some 747s).  The deals add up to almost 10% of Boeing's gross revenue given the company's performance for the last three years. 

China's air travel sector is banking on continued growth.  One of the biggest problems facing any airline is the cost of fuel.  China's additional hurdle is the mere availability of fuel; it must seek oil exploration deals abroad.  Middle East unrest is getting worse and will make oil prices very unpredictable for months.  Libya's production is increasingly at risk of destruction and its eventual resumption is very much in jeopardy. 

Blanket bets on ever-expanding air travel are no sure thing in this kind of environment.  Boeing should hope that rising fuel costs don't price its airline customers out of future sales. 

Full disclosure:  No position in BA at this time.

Raw Energy And Market Action

There is no advanced civilization without energy.  How the world meets its energy needs determines whether nations can life impoverished masses out of despair with growth. 

OPEC claims it can boost output to lower the rising price of crude oil.  Good luck.  Many of OPEC's larger producers are at or near the peaks of their reserves.  Better drilling technology can flatten a peak by reaching previously unrecoverable reserves, but that takes time to deploy.  OPEC's smaller producers - yes, Libya - will have a tough time producing anything if their workers are revolting. 

Constricted supply means other producers are free to pump and reap windfalls.  Russia likes the windfall profits and support for the ruble that have come with high oil prices.  Net oil importing countries have every incentive to start pricing oil imports in a currency other than the U.S. dollar. 

Option traders aren't sleeping through this bonanza action.  The betting game is on, wagering any attempt by Saudi Arabia to meet world oil demand will be nixed by protests on a "Day of Rage" and afterwards. 

All of this oil action makes it easy for other energy sources to escape notice.  Resource-rich nations don't want to miss the next phase of the global commodity boom.  Mongolia needs help from big Western coal companies to develop its coal deposits.  It's a dirty job, but someone has to do it. 

Greece Credit Lower Than Egypt's

It really says something about your country's credit when you're considered less likely to meet debt payments than a country that just had a coup d'etat:

Moody's Investors Service downgraded Greek debt to B1 from Ba1 -- lower than Egypt -- and said it may cut further, drawing an indignant protest from the Greek Finance Ministry.

This goes to show that debt overload can be more painful than a revolution.  Egypt recently went through a debt downgrade of its own.  The good news for Egypt is that they don't need an IMF bailout just yet.  The bad news for Greece is that they can't use regime change as an excuse for inaction. 

The Limerick of Finance for 03/06/11

China says that reform is a must
Or else its growth trend will go bust
But party hacks with great deals
Will dig in their heels
Their preference for change is to rust

Misuse Of The Strategic Petroleum Reserve Should Not Be An Option

Unforseen crises tempt political leaders to "do something" to appear responsive to the will of the people.  The current turmoil in the Middle East is one such episode.  Washington thinks the answer to short-term turmoil is to tap the long-term oil stocks in the Strategic Petroleum Reserve.  Let's think about this some more before we act. 

The SPR has a very specific mandate.  It exsists to provide supply in the event of disruptions to physical delivery.  No such disruptions are occurring now in the U.S.  The price of crude is rising worldwide because oil consuming nations everywhere must pay for alternatives to the Libyan production that is now offline.  The price signal sent by curtailed non-U.S. production incentivizes U.S. producers to reactivate wells that do not produce economically at lower prices.  The rig count for U.S. producers has recently risen, along with the share prices of U.S. drillers.

Tapping a reserve intended to provide an emergency supply for national defense just to lower pump prices for American casual motorists is a huge error.  Previous drawdowns during the Persian Gulf War and Hurricane Katrina set unfortunate precedents.  Politicians now consider the SPR to be a political football that can win votes from Americans addicted to spontaneous driving. 

Middle Class Wakes Up To Union Dangers

Union agitators counting on mainstream support for their offensive tactics in Wisconsin had better think again.  Americans are less fond of unions than ever:

Support is no longer a sure thing from the middle class -- not even in a city long considered a union stronghold in a state that gave birth to the nation's largest public employee union. National polls show that the portion of the public that views unions favorably has dropped to near historic lows in recent years, dipping below 50 percent by some accounts.

People who think for themselves don't assume that unions bring bountiful benefits to the working class.  The economic damage done by union demands - the higher costs, the inflexible work rules, the hurdles to layoffs and restructuring - is obvious in the hollowed-out manufacturing heartland of America.  Government employee unions are the worst of the bunch, bringing corruption and inefficiency to essential government services that are already difficult to deliver effectively. 

Bye-bye unions.  Your services are no longer required. 

The Haiku of Finance for 03/04/11

Pension fund shortfall
One point five trillion dollars
That is one big gap

Road To Mexico Opens Wide

The prospect of a new U.S.-Mexico trucking accord is nothing new to loyal followers of Alfidi Capital (all three of them).  The preliminary agreement is ready, sort of.  U.S. negotiators need to iron out a few details that can irk some members of Congress' transportation-related committees.  The final deal will be ready for legislation once the relevant industry players have made appropriate campaign contributions. 

Business groups are celebrating too early.  Union labor can still sabotage the deal by making impossible demands that may find an audience in Washington.  The Teamsters in particular are up in arms at the possibility that Mexican drivers will work longer and harder for a fair wage than their union brethren ever will.  They didn't get the message that trucking firms hurt by the high cost of fuel need any lever they can find to stay competitive.  Teamsters are better off blaming their woes on Middle Eastern unrest than on cross-border competition closer to home. 

Full disclosure:  No position in trucking stocks at this time. 

The Haiku of Finance for 03/03/11

ECB shocker
Proposed rate hike in April
Should strengthen euro

Energy Diversity In The Works (Hopefully)

U.S. energy policy is overly reliant on hydrocarbons, particularly oil.  That's an easy observation to make but changing course is hard.  It takes unsettling news of Middle Eastern violence to smack us all out of our collective stupor.  Libyan oil disruption is now confirmed and other oil producers are due for their own versions of nasty shakeups.  More unrest means more oil price spikes. 

The U.S. has plenty of oil in deepwater and unconventional sources but last year's Macondo blowout in the Gulf of Mexico taught us the difficulties of extracting it.  Restrictive regulations for offshore drilling can be a cloud with a silver lining.  New regulations will increase production costs and discourage new exploration, but they also make renewable alternatives look more attractive. 

All is not lost for the U.S. We can make our existing energy distribution network more flexible with efficiency programs and smart grids.  California shows us the way to energy efficiency, as usual.  China is looking to the West for help with smart grid projects.  American companies should at least try to penetrate the Great Wall of China if they have energy goodies to sell.  Emerging economies are hungry for new infrastructure.  Let's hope America wakes up - but hope is not a method. 

Full disclosure:  Long TDW with covered calls. 

YRCW Restructuring Extended

YRCW stakeholders have granted the trucker an extension on its restructuring plan.  That's the good news.  The plan will lead to both deferral of interest payments to bondholders and significant equity dilution for shareholders.  That's the bad news.  All classes of YRCW's investors will thus get the worst of all possible worlds.

The dilution will force YRCW's share price back down to penny stock levels very soon.  It's headed there already on the news, with a drop of almost 15% today.  The clowns on YRCW's Yahoo Finance message board who've been pumping the stock relentlessly are too stupid to know they've been on the wrong side of this trade for too long. 

Where is this $300mm in new capital going to come from?  Christmas is over so count Santa Claus out.  Maybe the Easter Bunny could cough it up this spring.  The main reason for that injection seems to be to preserve the Teamsters contract, but it would be nice to have more details for confirmation.  Speaking of Teamsters, Fitch is looking to downgrade YRCW's debt even further while the Teamsters line up to claim the lion's share of new equity and convertible debt.  If there was ever a smoking gun that Teamster influence is running YRCW into the ground, there it is.  The Teamsters are firing that smoking gun at the heads of YRCW shareholders.  Pow!  There's another direct hit. 

Investors can avoid debacles like this in the future by shunning unionized companies like the plague.  Companies can spare their customers and shareholders these episodes by driving unions out of their operations.  No one deserves to put up with a union-sponsored nightmare. 

Full disclosure:  No position in YRCW.