Wednesday, December 31, 2008
The U.S. Treasury drafted broad guidelines for aid to the auto industry that would let officials provide funds to any company they deem important to making or financing cars.
Taking this to its logical conclusion, the TARP will need to cover the beginning of the auto aupply chain: steel mills, rubber processors, mining companies, etc.
The TARP will need to get as big as a circus tent to cover all of these bailed out companies. Next I expect junkyards (like the one depicted in the photo) to become eligible for bailouts. Gotta save those non-running clunkers (not)!
Nota bene: Anthony J. Alfidi does not hold a position in any automotive parts supplier.
Tuesday, December 30, 2008
The Consumer Confidence Index measured by the Conference Board, a private research group, fell to 38 in December from a revised 44.7 in November. That is its lowest point since the group began compiling the index in 1967, and below the previous low of 38.8 in October. Economists surveyed by Thomson Reuters had expected the index to rise incrementally to 45.
This is no surprise when you consider how home prices keep dropping:
Home prices posted another record decline in October, falling 18% compared with a year earlier, according to a closely watched report released Tuesday.
The 20-city S&P Case-Shiller index has posted losses for a staggering 27 months in a row. In October, 14 of the 20 cities set fresh price decline records.
The U.S. economy is getting worser and worser.
My wild guess that the S&P 500 will drop to 500 sometime in 2009 is looking better and better. Today's jump of 2.4% means nothing to me. I'm staying short SPY.
Nota bene: Anthony J. Alfidi holds uncovered short calls on SPY.
Monday, December 29, 2008
EDF estimated that terminating the agreement with MidAmerican would end up costing $2.4 billion in liquidity -- a figure that implies more than a 100% return on Buffett's initial investment over a 16-month holding period. That's a very profitable failed bid, particularly if one considers that Buffett puts together deals very quickly, without resorting to outside advisors.
My uncovered CEG short calls at 35 are thankfully far out of the money. Rohm and Haas sank today because Dow Chemical's ability to pull off its buyout unassisted is now in doubt:
The Kuwaiti decision deprived the U.S. group of about $9 billion in planned financing which it would have used for the Rohm deal, but unidentified people close to the situation told the FT that Dow could still tap a $13 billion bridge loan to pay for the takeover.
The sources also said Dow was likely to try to renegotiate the price of the deal to reflect the recent drop in Rohm's share price, the newspaper said, adding that both Dow and Rohm declined to comment.
I predicted in my post yesterday that Dow's share price would drop today, so it's nice to be vindicated. Rohm and Haas fell without the certainty of the deal to prop its share price, so my uncovered calls are much safer. I just wish Republic Services would drop some more:
The deal combined Republic, the nation's No. 3 solid waste hauler, with No. 2 Allied to form a mightier No. 2. The newly formed Republic Services boasts a roughly 17% share of the U.S. solid waste management market vs. 24% for top player Waste Management WMI, figures Standard & Poor's analyst Stewart Scharf.
I had sold short some calls on Allied Waste after its acquisition by Republic Services had been announced. One wrinkle that I hadn't anticipated was that, in a stock merger, the options of the target company (AW) would convert to those of the acquirer (RSG) at the same strike price. D'oh! Right now I'm hanging onto some very long-dated short options of RSG in the hopes that the share price will drop, and these options are very much in the money. Wost-case scenario: I'll have to buy them back later in 2009 after their premiums have decayed.
I may soon face a similar scenario with my uncovered short calls on Wachovia (WB) if they convert to Wells Fargo (WFC). Double d'oh! From now on, I'll probably stick to all cash buyouts in my special situations plays to avoid these option conversion problems. It also wouldn't kill me to consider short calls on the acquirer from time to time.
Nota bene: Anthony J. Alfidi is short calls on CEG, ROH, RSG, and WB at the time this commentary was published. He has no positions in DOW or WFC at this time.
Sunday, December 28, 2008
Kuwait scrapped a deal to buy a 50 percent stake in Dow Chemical Co.’s plastics-making unit, depriving Dow of $9 billion it planned to put toward the acquisition of Rohm & Haas Co.
Dow still gets a $2B breakup fee from Kuwait's Petrochemical Industries Co., but it now has to seek nearly the full value of the $13B bridge loan to buy Rohm & Haas (ROH). That is a very questionable proposition given the credit market's logjam.
A few months ago I sold short April 09 calls on Rohm & Haas at 80 based on the proposed acquisition price of 78. This latest announcement makes my bet very safe, as it will take some heavy lifting from Dow to make good on that price now. Dow's stock should open down tomorrow since it still appears committed to this transaction by taking on a huge debt load. If Dow abandons this deal at some point, its share price should pop as shareholders breathe a sigh of relief.
Nota bene: Anthony J. Alfidi is short uncovered calls of ROH at the time this commentary was published.
Saturday, December 27, 2008
Ecuadorean President Rafael Correa wants debt negotiations triggered by the South American country’s second bond default in a decade to proceed in January.
“We will make a proposal to rebuy these bonds, many of which have already given great yields to these speculators,” Correa said. “It’s likely that those who hold the bonds now didn’t buy them at 100 -- rather at 20, 30, or 40 -- so it’s not like these people are being hurt.”
IMHO it's safe to say that the U.S. Treasury is watching this process with interest. When the bond bubble in U.S. Treasuries finally bursts, Uncle Sam will be faced with the very attractive opportunity to retire a good portion of his debt by buying back bonds that have fallen in value. The Fed has already demonstrated its willingness to finance Treasury bond purchases by TALF-ing new money into existence.
The beauty of repurchasing debt at a discount is that it sidesteps any need to raise interest rates to attract new buyers to government debt. Bondholders will be crying for someone to take bonds off of their hands even at a loss.
Debt retirement at rock-bottom prices. Voila! Problem solved? Not quite. One of my finance professors in graduate school used to say, "There are no solutions, only changed problems." The next problem will be figuring out how to grow the economy after fixed-income investors have seen the lion's share of their bond holdings wiped out.
Friday, December 26, 2008
Gold futures for February delivery climbed $23.20, or 2.7 percent, to $871.20 an ounce on the Comex division of the New York Mercantile Exchange, the biggest gain for a most-active contract since Dec. 17. The metal is up 6.4 percent this month.
The article cites military tensions as the impetus for gold's rise, which is probably baloney. At any given time there's plenty of military action in the world, and gold doesn't always respond to that. What does make it jump is the kind of inflationary quant easing we've seen from the Fed this year. Gold will look even better when retail investors start to get spooked by any sign that the bubble in Treasuries is collapsing, like this one:
Treasuries posted their first weekly loss in almost two months as the U.S. sold record amounts of two- and five-year notes during a holiday week marked by lighter trading than usual.
The only thing standing between me and economic annihilation is my pile of gold. Gold, gold, gold. I love gold. It's the greatest thing since sliced bread.
Nota bene: Anthony J. Alfidi is long IAU and GDX.
Thursday, December 25, 2008
Wednesday, December 24, 2008
Earnings for Standard and Poor's 500 .SPX companies are now forecast to decline in the final three months of 2008 by 0.6 percent from a year earlier, according to Wednesday's Thomson Reuters Director's Report, a daily analysis of earnings trends for the companies comprising the benchmark U.S. equity index.
The earnings estimates keep getting revised downward, yet the S&P stubbornly refuses to close below 8000 (except briefly on Nov. 20). What is sustaining this market's optimism if poor earnings are not fully reflected in securities prices? Let's consider some possible factors.
Hedge fund withdrawal suspensions. Hedge funds and their fund-of-fund gatekeepers continue to prevent their constituent investors from withdrawing money. This reduces pressure on the funds to sell their equity holdings to meet cash redemption demands.
Fiscal stimulus plans. The potential for massive Federal infrastructure spending in 2009 gives hope to equity investors. Unfortunately, federal contract awards have long lead times; government agencies have to plan projects and publicize RFPs, contractors have to submit bids, etc. The spending itself may not lift corporate earnings until Q409 or later given these lags.
Fed quantitative easing. Here's where things get interesting. The Fed has accepted assets of questionable quality onto its balance sheet as collateral for loans to banks under the Term Asset-Backed Securities Loan Facility (TALF) and other programs. These loans have temporarily revitalized the credit markets and given a reprieve to banks' stressed balance sheets. Without Chairman Bernanke's helicopters in the air dropping TALF money, many businesses would be starved for short-term credit.
Remove any one of these props and the market loses valuation support. The financial class is hoping for a long, slow unwind that leads to a soft landing for equities in 2009. This outcome retains public confidence in our governing institutions and minimizes social disruption. We can only hope.
Nota bene: Anthony J. Alfidi is short uncovered calls on SPY at the time this commentary was published.
The Federal Reserve approved GMAC Financial Services' request to become a bank holding company, allowing it to apply for a portion of the $700 billion bailout fund and get emergency loans directly from the Fed.
TARP is just about empty now that its last $15B or so has been given to automakers, so the next Treasury secretary will have the ignominious duty of asking for the next $350B appropriation.
Never underestimate the power of private equity investors to get what they want even when they're on the ropes. They are the new Masters of the Universe.
Tuesday, December 23, 2008
Several reports due Wednesday are expected to provide more evidence that consumers are cutting back on spending and companies are eliminating jobs in the face of a deepening recession.
He was a distinguished investor who traced his lineage to the French aristocracy, hobnobbed with members of European high society and sailed around the world on fancy yachts.
But after losing more than $1 billion of his clients' money to Bernard Madoff, Rene-Thierry Magon de la Villehuchet had enough. He locked the door of his Madison Avenue office and apparently swallowed sleeping pills and slashed his wrists with a box cutter, police said.
Monday, December 22, 2008
A group of trade associations representing the U.S. commercial real estate industry is lobbying to be included in the Federal Reserve's $200 billion asset-backed bailout plan in order to head off a wave of foreclosures over the next few years.
We can expect the hue and cry from commercial real estate companies to grow louder in Q109 as their rental income declines:
U.S. commercial properties at risk of default could triple if rental income on apartments, offices and retail buildings drops even five percent, according to New York-based real estate analysts at Reis Inc.
Is it worth it to play this by shorting insurers and REITs with commercial loan exposure? For me that answer is no, only because real estate isn't a specialty of mine. Investors with experience in evaluating commercial properties might find some worthwhile short candidates.
Sunday, December 21, 2008
Benefits included cash bonuses, stock options, personal use of company jets and chauffeurs, home security, country club memberships and professional money management, the AP review of federal securities documents found.
In other words, these self-made captains of industry need their every whim indulged in order to function at a minimal level of effectiveness. Meanwhile, yours truly, also a CEO mind you, makes do with none of the above. There may be a correlation between the size of a bank's balance sheet and the size of its aircraft fleet:
Six financial firms that received billions in bailout dollars still own and operate fleets of jets to carry executives to company events and sometimes personal trips, according to an Associated Press review.
In other words, the banks with the most toxic assets need the most jets to move all that garbage around. I don't need a private jet because I don't own any garbage mortgage pools that I need to airdrop into the TARP's gaping maw.
No way should TARP get another penny.
Saturday, December 20, 2008
Friday, December 19, 2008
China should cut taxes, do more to boost incomes, and follow Japan and Taiwan in handing out shopping coupons, economists at Merrill Lynch, China International Capital Corp. and Barclays Capital said. Announcing a package of measures could help to revive confidence as a slowdown deepens in the world's fourth- biggest economy.
It's always okay to look for countertrends that question a strategy. I'm still bullish on China, so its potential weakness in the near term won't bother me much. If anything it will give me a chance to add to my stake in FXI if I choose, unless ETFs for the U.S. markets hit rock-bottom prices.
Nota bene: Anthony J. Alfidi will remain long FXI (with covered calls) for the foreseeable future.
Thursday, December 18, 2008
Here's a thought. IWM (U.S. small caps) and VWO (emerging markets) are clearly more volatile than their big cap friends EFA and SPY. In the future I'll try restricting my uncovered options on IWM and VWO to those that are at least 20% out of the money. I had only been going out to 15% up to this month, and in a market this volatile that was probably going to get me in trouble.
This was not a good month for most of the Alpha-D portfolio's uncovered calls.
Wednesday, December 17, 2008
Oil fell below $40 a barrel for the first time in more than four years as OPEC failed to convince traders that the glut in crude will diminish and the U.S. government said supplies climbed for the 11th time in 12 weeks.
Previous production cuts have ususally led to predictable jumps in the price of oil. The failure of prices to climb this time suggests something deeper is amiss. I posted my typical pithy commentary on Clusterstock today:
If a cut of this magnitude can't provide support to oil prices, then demand destruction must be extremely severe. OPEC tried to shift the supply curve to the left by inducing a supply shock. The problem is that the aggregate demand curve has also shifted leftward.
These two big curves slamming to the left don't necessarily mean the equilibirum price in the market today will be supported. If the demand curve is shifting faster than the supply curve, the market price will keep falling even at much lower levels of available global supply. If oil is going a lot farther south because of Great Depression 2.0, then no way am I prepared to guess at a floor price. I'll take a second look in about six months.
Tuesday, December 16, 2008
The Federal Reserve cut the main U.S. interest rate to as low as zero for the first time and shifted its focus to the amount and type of debt it buys, seeking to revive credit and end the longest slump in a quarter-century.
Meanwhile, equity markets went insane by rallying. Investors in the DJIA, S+P 500, and emerging markets all went nuts with greed (and yes, unwinding my uncovered calls on VWO cost me more than I anticipated). The only rational response was from the price of gold, which rallied in response to the Fed's slow-motion dollar devaluation.
Treasuries are about to enter an economic Twilight Zone. When interest rates go to zero, bond prices shouldn't go any higher. That's mathematically impossible based on the fundamentals of duration, but remains financially possible because the fearfulness of bond investors shifts the aggregate demand curve for T-bonds rightward. This implies that the Fed's quant easing strategy can now support a much higher volume of Treasury issuance, and the market clearing price for these T-bonds will be unnaturally high. A debt default by the U.S. government now looks much less likely. What's more likely is the social dislocation provoked by ahistorically high inflation.
Nota bene: Anthony J. Alfidi is long IAU and GDX with the expectation that the Fed will pursue further currency inflation to destroy dollar-denominated debts.
Monday, December 15, 2008
It's a good thing my other shorts are working out fine. Diversification is still a good thing, especially in an age of decoupling.
Nota bene: Anthony J. Alfidi is still short calls on SPY, IWM, and EFA at this time.
Sunday, December 14, 2008
Saturday, December 13, 2008
Let's start with corporate bonds. American companies are having a hard time convincing bondholders that their cash flow is reliable:
The lowest yields on Treasuries are providing no solace to U.S. companies paying the highest borrowing costs on record.
While rates on everything from four-week Treasury bills to 30-year bonds fall to all-time lows, companies are paying an average 10.8 percent on their debt, up from 6.53 percent in January, according to Merrill Lynch & Co.’s U.S. Corporate & High Yield Master Index.
The Fed's liquidity-enhancing moves are now crowding out other debt issuers, forcing the yield curve for everything but Treasuries to steepen. That Treasury steepening isn't too far off given the record low yields we've been seeing lately:
Treasuries rose, pushing two-year note yields to a record low, after the U.S. auctioned $16 billion of 10-year securities at the lowest yield ever.
The $5.3 trillion market for U.S. government debt may be a bubble waiting to burst, according to analysts and investors.
Treasuries have “absolutely” entered a bubble, said David Brownlee, who oversees $15 billion as head of fixed income at Sentinel Asset Management in Montpelier, Vermont. “There is very little rationality in my mind to bills trading at zero.”
Note that the contra-opinion bubble quote was left for the end of the article. Financial publishers often do that to say that they left themselves a way out in a news item that marks the continuation of a broad trend. As the yield curve steepens, Uncle Sam's interest payments on the national debt similarly steepen. Inevitably we will see an all-American version of the Ecuadorean solution:
Ecuadorean President Rafael Correa said he wants bondholders to accept a “very big” discount in debt renegotiations triggered by the South American country’s second default in a decade.
Ecuador's president is an American-educated PhD economist, according to that article. You don't need a PhD to see the potential for massive bond defaults here in the good old U.S. of A. once the yield curve gets out of control. Perhaps bond issuers can entice their debtors to accept bond haircuts with a quintessentially American sales pitch: "You want fries with that?"
Friday, December 12, 2008
Investors scrambled to assess potential losses from an alleged $50 billion fraud by Bernard Madoff, a day after the arrest of the prominent Wall Street trader.
Federal agents arrested Madoff at his apartment on Thursday after prosecutors said he told senior employees that his money management operations were "all just one big lie" and "basically, a giant Ponzi scheme."
Wow. I though I'd seen it all after Enron. The alleged perp was a longtime Wall Street titan, a market-maker - someone exchange officials trust to regulate trades in key stocks and provide liquidity backstops in extreme trading sessions. The alleged victims are all well-heeled, savvy, ridiculously prominent people. And they were taken for a ride all the way to the poorhouse:
Those investors were scrambling Friday to learn whether they had been wiped out by what prosecutors described as a multibillion-dollar Ponzi scheme. The assets of Madoff's investment company were frozen Friday in a deal with federal regulators and a receiver was appointed to manage the firm's financial affairs.
These two articles provide some clues to the potential moral of this story. Madoff's trades were untraceable, his record unauditable, and his investment strategy indecipherable. All of these things should be red flags, but sometimes friendship overpowers good judgment.
The tragedy in this story, if it plays out to its denouement, is that a lot of prominent families in Palm Beach and NYC will no longer be prominent. No more opera box seats, legacy admittees to the Seven Sisters, or mentions in society columns can be a tough road to hoe.
Thursday, December 11, 2008
Now, as the housing recession deepens, a coming wave of payment shocks threatens to bring another surge in defaults and foreclosures as these mortgages “recast” to higher monthly payments over the next two years.
Heavy losses from investments backed by pay option ARMs were a major cause of the demise of Wachovia and Washington Mutual, one of the largest originators of option ARMs during the height of the lending bubble.
These pay-option mortgages represent a huge portion of the illiquid bank assets that the bailout was supposed to support. They have only just begun to decline in value. When defaults on option ARMs force further bank writedowns, banks will once again face insolvency; they will cease lending and the credit markets will freeze up again in 2009.
Does that mean there will be a TARP II in 2Q09? Anything is possible in this climate. With China getting skeptical of any further U.S. bailout investments, only the Fed's quantitative easing will keep bailout money flowing. Instead of buying a wheelbarrow to carry stacks of worthless dollars around to buy groceries, I'll just hang onto my gold ETFs until a new U.S. currency is issued.
Brace yourself for the second phase of a multi-year credit crunch starting after 1Q09. Any analyst who claims that a federal spending stimulus or automaker bailout will bring GDP growth back in 2009 is unbelievably stupid. No way am I going long any homebuilder, bank, or REIT for the foreseeable future. NBER dated the beginning of this recession to December 2007, but I expect future economists to label it the beginning of a Depression.
The stock market is nowhere near a bottom. Fair value of the S&P 500 is nowhere near 1000. THIS IS GOING TO GET WORSE!!
Wednesday, December 10, 2008
This measure of performance is not used as often as either rates of return or price-cost margins. If a firm is worth more than its value based on what it would cost to rebuild it, then excess profits are being earned. These profits are above and beyond the level that is necessary to keep the firm in the industry.
The advantage of using Tobin's q is that the difficult problem of estimating either rates of return or marginal costs is avoided. On the other hand, for q to be meaningful, one needs accurate measures of both the market value and replacement cost of a firm's assets.
See that line I bolded? A firm earning excess profits may very well have a durable competitive advantage, which Buffett-style value investors like. A high Tobin's Q would therefore be a very good buy indicator for a stock. So what to do? Here's a thought: Use Tobin's Q in conjunction with other traditional value style metrics, like earnings growth and low debt. A high Q may very well be a good sign of a stock Uncle Warren likes. You'll see me try to apply this approach in future research on the Alfidi Capital main site.
An interesting news item prompted me to bring up this topic:
A global stock slump may have further to go, according to Tobin’s Q ratio, which compares the market value of companies to the cost of their constituent parts, CLSA Ltd. strategist Russell Napier said.
Long story short, the article contends that Tobin's Q for the S+P 500 will drop further in the tradition of past recessions, which saw the ratio plunge below its historical average. The article also quotes other money managers and strategists who have varying opinions on Tobin's Q, mostly because they also look to other indicators to confirm their analysis. Nothing wrong with healthy debate.
I'll confine my use of Tobin's Q to discussions of individual stocks and avoid the macro perspective. I don't have access to the high-powered data sources most economists use for such things (because I'm too cheap to pay), and even if I had the data I'd be mindful of the limitations of aggregating economy-wide estimates of intangibles like intellectual capital. Calculating a single stock's Tobin's Q can be as easy as looking at a balance sheet if you truly understand a company's history and operating environment.
Tuesday, December 09, 2008
The international financial crisis is set to sharply slow growth in emerging and developing economies next year, ending a five-year global commodity price boom, the World Bank said on Tuesday.
"Export opportunities for developing countries will fade rapidly because of the recession in high-income countries and because export credits are drying up and export insurance has become more expensive," the report said.
I always wonder why some business journalists paint developing economies as commodity exporters and little else. South Korea is one of the world's leading makers of cargo ships and computer chips (and their economy is sinking, BTW, which is why they've announced their own huge fiscal stimulus).
Emerging markets (which to me means VWO) may very well be the next thing I go long, but not just yet.
Nota bene: Anthony J. Alfidi is hanging on to his short calls on VWO for the forseeable future.
Monday, December 08, 2008
China wants to loan Brazil's state oil company $10 billion to help develop massive new oil fields in deep water off the coast of Rio de Janeiro, Brazil's top energy official said in comments published Monday.
Oil prices rebounded from four-year lows and shot above $43 a barrel Monday as OPEC floated the possibility of a "severe" production cut and several countries announced new measures to boost their economies.
Sunday, December 07, 2008
The panic in global financial markets has sparked an unprecedented rush into safe US Treasury securities, driving yields on short-term government notes down to almost zero.
Analysts say the fear factor has pushed up demand for Treasuries, since investors are virtually certain the US government will not default.
A bursting of this bubble could mean a rush out of Treasuries, forcing the government to pay higher rates on an unprecedented amount of debt.
My regular readers know by now that I only highlight the most important points of an article that catches my eye. To make a long story short, the financial panic has yielded a short-term window of opportunity for Uncle Sam to issue ginormous amounts of short-term debt at virtually no cost. This is very enticing to debt-addicted Keynesian policymakers, who continue to seek deficit financing for bailout goodies aplenty.
Stories like this prompt idle speculation about a potential U.S. Government default. I believe a sovereign default is a very remote possibility as long as the Federal Reserve is chaired by an academic whose life's research has been a search for tools to prevent just such an outcome. I think we'll be hearing a lot more about "quantitative easing" in 2009 . . . more than we would ever want to hear.
I do not waste my money on investments that pay nothing. I do not hold Treasuries at this time. I would love to hold Treasuries at some future date when the U.S. government is forced to pay through the nose for the privilege of crowding out private sector investment.
Saturday, December 06, 2008
President-elect Barack Obama promised to make the “single largest new investment,” in America’s roads, require public buildings to be more energy-efficient, and to modernize health care with electronic medical records.
In addition to investing in infrastructure, requiring energy standards on public buildings and updating health-care practices, Obama said that he will launch a “sweeping effort to modernize and upgrade school buildings,” and will boost broadband deployment across America.
I'm disappointed that the plan's transportation component addresses motor traffic (roads and bridges) rather than mass transit (bus stations, train tracks, ferry berths). Emphasizing the latter would be the greener solution, but perhaps that's coming later. Perhaps an elevated train trestle can be considered a "bridge" for spending purposes. I'm also worried about the "use it or lose it " provision for state governments. The housing crash has left many communities with unsustainable suburban sprawl. Rebuilding motorways that feed out to vacant subdivisions would be a repeat of Japan's wasteful infrastructure spending! Do you trust your state highway department not to waste money repaving a highway to a ghost town? That's what they'll do if they don't get advice from good urban planners.
Is there an investment play in this spending plan? Can I make money off of this? Let's think about it. All of this federal spending will be a gravy train of income for contractors who can deliver the desired services. Among the top corporate contributors to the victorious 2008 campaign were Microsoft, Google, and IBM. The broadband spending will certainly help their bottom lines, and they would not have contributed if they didn't expect some kind of payback. The pertinent question: Will there be lead contractors to manage each of the programs' components? For example, some big IT firm (IBM?) will have to do systems integration if the proposed networks for broadband and medical records will be built to universal standards. That's where the real money is always made in federal procurement.
If this plan plays out into mass transit or railroad spending, I may have some investing to do.
Nota bene: Anthony J. Alfidi does not hold positions in any of the companies mentioned at the time of this posting.
Thursday, December 04, 2008
The Treasury, which already has a program to buy mortgage-backed securities issued by Fannie Mae and Freddie Mac, could step up those purchases to drive down interest rates on some loans to 4.5 percent, the official said on condition of anonymity. The plan is preliminary and could change.
Exactly how MBS purchases will drive down home loan rates isn't obvious. Are MBS holders supposed to call the issuing banks and force them to renegotiate loans, one homeowner at a time? Using MBS pools' leverage over banks as a transmission mechanism for forcing loan workouts isn't nearly as efficient as good old fashioned foreclosures. The Treasury folks wisely left themselves an out in case they don't get the ginormous amounts of money they'll need to continue these buyouts:
Senate Banking Committee Chairman Christopher Dodd said he opposes giving the Bush administration the second half of the $700 billion financial rescue plan, joining Republicans upset with how it is being managed.
Is it the lack of auditable transparency that could hold back the money? Or is it that the TARP purchases of bank equity haven't spurred short-term corporate lending? Or that TARP purchases of some MBSs haven't been effective in reflating housing prices? Or that automakers are now competing for TARP-related cash? Congressional anger over lack of foreclosure relief (mentioned in second article) may have prompted the trial balloon in the first article.
TARP is about as effective at reviving the housing market as a paramedic performing CPR on a deceased patient. This is all kabuki theatre by now.
Wednesday, December 03, 2008
“I don’t dare to invest in financial institutions now,” Lou Jiwei, chairman of China Investment Corp., said today at a conference in Hong Kong. “The policies of the developed nations on these institutions are not clear. Until they are clear, I don’t dare to invest in them. What if they go bust? I will lose everything.”
I figured this out before CIC's officials did, so I'm probably qualified to run that firm. The balance sheets of U.S. financial firms are loaded with too many junk assets to make their stocks palatable as investments. This candor from China's sovereign wealth fund further supports a point I have belabored here before. SWFs are now too focused on supporting their home economies and too dismayed with previous investments to support further U.S. bailout efforts.
The CIC's skepticism will make it a lot harder for Secretary Paulson to ask China to strengthen its currency:
The fifth round of the Strategic Economic Dialogue between China and U.S. is a swansong for Paulson, who initiated the talks and will exit with the Bush administration. The currency appreciation that he’s applauded -- a 20 percent gain since the end of a peg to the dollar -- may be wound back as President Hu Jintao seeks to protect exporters from the global recession.
What incentive can the U.S. give to China to strengthen the yuan? Specially priced sales of U.S. nonfinancial companies that go bust? China is in the catbird's seat in so many ways.
Nota bene: Anthony J. Alfidi is long FXI (with covered calls).
Tuesday, December 02, 2008
Humbled and fighting for survival, Detroit's once-mighty automakers appealed to Congress with a retooled case for a bailout as large as $34 billion Tuesday, pledging to slash workers, car lines and executive pay in return for a federal lifeline. GM and Chrysler said they needed an immediate cash infusion to last 'til New Year's, and warned they could drag the entire industry down if they fail.
The Treasury Department has no mechanism in place to track how institutions are using $150 billion in taxpayer money that the government injected into the banking system as of last month, the Government Accountability Office concluded in its report to Congress.
Monday, December 01, 2008
The stock market suffered one of its worst days since the financial meltdown Monday, slicing 680 points off the Dow Jones industrial average as Wall Street snapped out of its daydream of a rally and once again faced the harsh reality of a recession.
Erasing any lingering doubts, there was also finally an officially declared recession -- in progress in the United States since December 2007, according to the National Bureau of Economic Research, the nonprofit group of economists that classifies business cycles.
We're in a recession? Really? (Sarcasm filter off now.) Maybe the excitement of the non-smart Wall Street preppies has died down now that the recession is official. There's nothing surprising about an occasional rally in a secular bear market. Hope springs eternal, and some money managers live quarter to quarter instead of decade to decade. I wonder which active money managers tried to pick a bottom and buy what they thought were cheap stocks to dress up the next quarter's performance. Wall Street pros just can't shake the herd mentality, no matter how much they tout their "independent thinking" in sales literature.
I tell ya, my bear plays look better and better each month. I'm sticking with them (although I'm still thinking about going long VWO at some point in 2009).
Nota bene: Anthony J. Alfidi holds uncovered calls on SPY, IWM, EFA, and VWO at the time this commentary was published.
Sunday, November 30, 2008
The subprime mortgage crisis is giving department and convenience stores and gas stations a new argument in asking Congress for power to negotiate the fees banks charge them to process credit-card transactions.
The banks say credit-card fees cover operating costs, protect banks against default and fraud, and allow them to offer cards with no annual fees and rewards. The charges vary from bank to bank and depend in part on whether the card includes cash rewards or other benefits.
My take on this is straightforward. Retailers are getting spooked that the rest of the Christmas shopping season won't be as rosy as Black Friday's numbers (which I discussed here yesterday). Stores want leverage over a charge that eats into their rapidly thinning margins, but banks need the charges in place to shore up their own troubled business models. If Congress takes up this issue, they will be forced to choose one sector over another in a case of robbing Peter to pay Paul. One or the other industry will be forced to live with thinning margins in a deepening recession.
I believe Congress will table this issue to protect the bailout money they've given to banks. The government has made no such commitment of taxpayer money to retail chains. Retailers will unfortunately suffer, and for some chains this charge may be the backbreaking straw that drives them under. Such an outcome would eventually realize some of the bankers' fears: chain stores will be less likely to accept credit, and smaller banks will issue fewer cards. Oh well, the new year will be all about frugality anyway.
I'm not going to make an investment play on this. I just needed something to talk about.
Saturday, November 29, 2008
The holiday shopping season got off to a surprisingly solid start, according to data released Saturday by a research firm. But the sales boost during the post-Thanksgiving shopathon came at the expense of profits as the nation's retailers had to slash prices to attract the crowds in a season that is expected to be the weakest in decades.
Sales were 3% higher than last year's Black Friday - in nominal terms. Shadow Government Statistics calculates that CPI inflation was at an annualized rate of 11.6% as of this October. Even if we assume that this month's massive Fed lending hasn't immediately made that number worse (of course it has!), that sales figure translates into an 8.6% decline in real dollars.
Friday's shopping action isn't even close to putting retailers in the black. Even the article hints that retailers had to sell at undesirable prices just to move inventory backlogs. The retail picture will get a lot worse as job losses accelerate between now and Jan. 2009.
Friday, November 28, 2008
The big American homebuilders have dug themselves into a hole from which they may not emerge for years. Having been abettors and subsequently victims of the U.S. housing bubble in the early years of this decade, they may be the last to profit when buyers finally return to the market.
Okay, so homebuilders are still not a good buy yet. What about REITs? Maybe they'll be on sale soon:
The full scope of the housing meltdown isn’t clear and already there are ominous signs of a new crisis — one that could turn out the lights on malls, hotels and storefronts nationwide. Even as the holiday shopping season begins in full swing, the same events poisoning the housing market are now at work on commercial properties, and the bad news is trickling in.
Uh-oh, looks like they've got farther to fall if commercial mortgages go massively bust. What about emerging markets? They're down quite a bit:
This has been a painful year for investors all around. Nowhere is that more apparent than in emerging markets, where the average fund is down 64.6% in 2008, according to Lipper.
Hmmm, now there's an intriguing bit of data. A decline of almost two thirds for an entire style presents the possibility of a bargain acquisition. "Decoupling" is a controversial theory that some parts of the global economy can do well even while other areas are in recession. It's not a fully mature theory, but my take on it is that even in a global recession, some regions may do less poorly than others for a number of reasons. Some emerging nations are looking for macroeconomic solutions that don't depend on a revival of U.S. consumer spending. China's fiscal and monetary stimulus is one hopeful factor. Other emerging economies, like Malaysia, may follow suit to stimulate domestic demand.
I've written uncovered calls on VWO for several months. VWO is an intriguing vehicle not only for its low cost but also its dividend, something you may not get from every emerging market stock or actively managed mutual fund. Perhaps it will soon be time for me to go long VWO.
Nota bene: Anthony J. Alfidi is holds uncovered short calls on VWO at the time this commentary was published.
Thursday, November 27, 2008
Giving to charity in bad economic times is even more important than in bull markets. A lot more people have a hard time making ends meet. People with dependable incomes need to be mindful of how lucky they are not to be starving.
The cynical among you should think of charity as a form of insurance against social instability. The idealistic among you can think of it as a moral imperative. Me, I think of it as a tax writeoff along with the two reasons above. See, I don't make a decision about important things in life unless I have several good reasons for doing so.
If you need a better personal example than me, check out what Uncle Warren and some other fortunate people are doing with their money:
Many of America's ultra-rich continued to give big donations to charity in 2008, despite the worst financial crisis in decades. In the past year, seven philanthropists gave north of $200 million and nine gave more than $100 million to causes ranging from wilderness preservation to fighting malaria.
My play: I have given a chunk of my earnings to charities in San Francisco every year since the late 1990s, even in those years when I was making next to nothing as a graduate student. I recently emptied out what was left of my pantry to support a local canned food drive. Who knows, some of my canned goods might end up feeding a bankrupt ex-Wall Street preppie looking for work. I actually hope they come out okay. I know I will.
Wednesday, November 26, 2008
China’s biggest interest-rate cut in 11 years highlights government concerns that the country risks spiraling unemployment, social unrest and the deepest economic slowdown in almost two decades.
However, the rate stands now at 5.58%, much higher than interest rates in the Anglo-West economies. There's plenty of room for China to cut more if needed, whereas the U.S. is rapidly approaching ZIRP (a zero-interest rate policy, i.e. the approach that kept Japan's economy anemic for a decade). Interest-rate parity will soon be at work here, sports fans, which means that deploying capital in low-yielding U.S. bonds will look less attractive to Chinese investors.
China can afford other things besides further interest rate cuts:
China’s foreign-exchange reserves topped $2 trillion for the first time, strengthening the nation’s finances as the government boosts spending and cuts interest rates to counter the financial crisis.
Is the rise in reserves due partly to the sudden rise in value of the U.S. dollar? If so, China would be wise to liquidate the dollars in its reserve disproportionately to other currencies as it executes its massive fiscal stimulus plan. The levitating dollar will have to come down as an unintended consequence of the Fed's latest $800B boondoggle:
The Federal Reserve’s new $800 billion effort to combat the financial crisis is designed to make credit more accessible to shaken consumers who aren’t sure they want more debt.
Households and lenders may not respond much because of the wealth destruction from plunging property and stock values, and the deepening economic slump, economists say. That means banks may end up returning the Fed’s new liquidity through deposits at the central bank.
While officials yesterday contested claims that the Fed is undertaking quantitative easing, they acknowledged that the central bank’s new actions will result in another injection of funds into the system. Officials said their objective is to affect credit markets rather than to target money supply.
The point of adding this last excerpt is that China has productive uses for its available savings, while the U.S. must print new money just to stand still. Monetary policy has about a six-month time lag before its effects are felt in the real economy. The inflationary effects of the Fed's quantitative easing should be very apparent by the end of 2Q09.
I believe my overall stance of bullish on China, bearish on the U.S. is valid at least through 2009. China may very well see much slower GDP growth in the near future (as the first article warns), which is why I feel comfortable writing call options on my FXI holdings.
Nota bene: Anthony J. Alfidi is long FXI (with covered calls) at the time this commentary was published.
Anyway, let's see what happens when fund management companies offer actively managed bond funds, rather than ETFs. PIMCO stated today that one of its muni bond vehicles may have trouble delivering dividends to its investors:
PIMCO California Municipal Income Fund II (the "Fund'') may be required to delay the payment of the declared November dividend and the declaration of the next scheduled dividend on the Fund's common shares.
Continued severe market dislocations have caused the value of the Fund's portfolio securities to decline and as a result the Fund's asset coverage ratio has fallen below the 200% Level.
If the 200% Level is not met on December 1, 2008, the Fund would have to postpone the payment of the previously declared November dividend and the declaration of the December dividend until the situation is corrected. Depending on market conditions, this coverage ratio may increase or decrease further.
The fund's stated objective is to provide current income; failure to make a dividend payment means it has failed this objective. I am not a securities attorney, so I cannot say whether this exposes PIMCO to some kind of liability. I would say, as a private investor, that any fixed income fund that can't meet its performance objectives because of market volatility, and not for reasons such as asset impairment or fund company bankruptcy, is not worth my personal consideration. If an investor holds a comparable bond portfolio as individual securities and not as part of an actively managed fund, the investor would receive the coupons on schedule.
This isn't just a problem with PIMCO's Cal muni fund. Some of their other funds have hit the same snag:
PIMCO Corporate Income Fund and PIMCO Corporate Opportunity Fund (each, a "Fund'' and collectively, the "Funds'') today announced that each Fund will redeem, at par, a portion of its auction rate preferred shares ("ARPS''), beginning December 15, 2008 and concluding on December 19, 2008. The Funds also announced that they may postpone the payment of previously declared November dividends for common shares and postpone the declaration of dividends for common shares, currently scheduled to occur on December 1, 2008.
But wait, there's more! Other PIMCO funds had problems just last week that will prevent them from paying declared dividends:
The Boards of Trustees of PIMCO High Income Fund, PIMCO Floating Rate Income Fund and PIMCO Floating Strategy Fund (each, a "Fund'' and collectively, the "Funds'') today announced each Fund will redeem, at par, a portion of its auction rate preferred shares ("ARPS''), beginning December 8, 2008 for PHK and PFN and December 10, 2008 for PFL and concluding on December 12, 2008 for all Funds.
PIMCO is regarded (by those same market "experts" who told us securitization of debt was a great innovation) as a firm chock full of bond expertise. If this vaunted expertise couldn't anticipate a volatility-induced payment stoppage in several bond funds, then what exactly are investors getting by paying PIMCO to actively manage their bond money? PIMCO sure has a snazzy website for press releases, which curiously doesn't feature the releases noted above. Any asset redemptions (sales) PIMCO has to make to meet that 200% threshold may come back to investors as taxable capital gains distributions from the funds! Aw, that's just great (sarcasm filter off).
Here's my approach to fixed income investing. I currently use some fixed income securities (CDs, Treasuries, corporate notes, and others with short-term maturities) as my cash management strategy for the proceeds I collect from selling options. I buy them and hold them to maturity. It's that simple. At some future date I'd be willing to buy long-term bonds to protect my principal and get some form of interest rate immunization, but once again I will hold them to maturity. I am not going to waste my time or money actively trading bonds to try to outguess the Fed's interest rate changes. I have a life, you know.
Oh yeah, PIMCO is yet another firm that never responded when I sent them my resume. Now they're having problems. Coincidence? I don't think so. ;-)
Tuesday, November 25, 2008
Fixed income ETFs make little sense to me. The point of having FI in a portfolio is to generate a regular cash stream and smooth out volatility through diversification. Throwing an FI ETF into the mix may actually raise portfolio volatility because hedge funds and day traders will be tempted to time FOMC moves. Also, if you're a covered call writer (like me), the option chains are so thin on FI ETFs as to be useless. In this market a buy-write strategy can easily see you position called away. No thanks to fixed income ETFs!
I'll have more to say on ETFs as time goes by. I am conquering the world wide web of finance, one pithy post at a time. ;-)
Sovereign wealth funds in the Gulf are switching their focus away from Western stock markets to shore up ailing economies in the Middle East and protect themselves from losses in the City and on Wall Street.
Investment funds in Kuwait, Qatar, Dubai and Abu Dhabi are understood to be changing their investment strategies after losing billions of dollars buying shares in Western companies. Several Gulf-based banks are being propped up with state investment. Local stock markets have collapsed and some funds are shifting their assets into local shares in an attempt to inject confidence.
Under the new mortgage program, the Fed will buy up to $100 billion of debt issued by government-sponsored mortgage enterprises Fannie Mae, Freddie Mac and the Federal Home Loan Banks. It will also buy up to $500 billion of mortgage securities backed by Fannie Mae, Freddie Mac, and Ginnie Mae.
The central bank also launched a $200 billion facility to support consumer finance, including student, auto, and credit card loans and loans backed by the federal Small Business Administration. This will lend to investors who hold securities backed by this debt.
Callinan continues to prospect in areas with proven mineral histories, increasing the likelihood that they'll hit fresh deposits. Prospecting near existing mining infrastructure means lower up-front costs for installing a new mine's support structure (like electric hookups). As far as I can tell, they turn production over to other firms and collect royalty interest from producing properties.
The disadvantage with Callinan is that they don't pay out enough of their revenue to shareholders to make their royalty-income model worthwhile. Their EPS in 2007 was only $0.06, which is probably why they're a penny stock. Other royalty plays like Royal Gold have a much higher EPS. Callinan is a penny stock for good reason. IMHO one key to success for a royalty operation is the ability to spread its risk over a large number of portfolio properties by acquiring different types of royalty interests. Every production locale is slightly different, so diversification keeps steady payouts flowing. Without knowing the quality control measures a royalty operation has in place, it's hard to form an opinion on the likelihood of future payouts.
Mineral royalty companies try to apply the Berkshire Hathaway approach to resource investing. They buy interests in well-run properties with predictable cash flows. The theory is sound, but it's hard to find a company that does it well enough to fit my portfolio.
I really don't go for penny stocks, so I won't buy Callinan Mines. Those of you who are so inclined are welcome to do further research on your own.
Nota bene: Anthony J. Alfidi does not hold any positions in the stocks mentioned here at the time this commentary was published.
I don't know whether further bailouts are in the offing, providing future artificial pops to its share price.
I don't know whether it will be the target of a takeover attempt by either Goldman Sachs or Morgan Stanley, the two most oft-quoted names. Those former investment banks are looking for retail deposits to shore up their own balance sheets, and an ailing commercial bank looks good to them.
I don't know whether Citi will sell off pieces of itself to leave a rump commercial bank that's more viable than a disintegrating "universal" bank.
So, no uncovered calls or short sales on C for now.
Monday, November 24, 2008
The Federal Reserve, which has already pumped out hundreds of billions of dollars, might formally adopt a policy of flooding the world financial system with even more money. The Treasury, on course to borrow some $1.5 trillion this fiscal year, may tap global capital markets for even more to finance a fiscal stimulus package of as much as $700 billion and provide additional bailout money for banks.
There’s always a danger the Fed and Treasury may go too far, setting the stage for a big rise in inflation or another asset bubble down the road as the economy revs up and investors get back their nerve. (snip)
Bernanke and Paulson might welcome a bit of that exuberance right now -- even at the risk of higher inflation later -- as they try to prevent the biggest credit catastrophe in decades from sending the economy into a deflationary nosedive.
“It’s true that, over the long run, too much money creates inflation,” says Lyle Gramley, a former Fed governor now at the Stanford Group Co. in Washington. “But they’re trying to keep the economy from going over the precipice and into the abyss.”
Thanks Bloomberg! I've bolded the passages above that support what I've been saying since the bailout was initiated. Flooding the world with extraordinary amounts of new dollars will have a very predictable result: inflation. They used that word three times in the article.
I soon expect Mish Shedlock and Noriel Roubini to revise their opinions dismissing the possibility of inflation. That's why I track their blogs in my blogroll; I pay attention to their well-informed commentary.
Wall Street barreled higher Monday for the second straight session, this time in a relief rally over the government's plan to bail out Citigroup Inc. — a move it hopes will help quiet some of the uncertainty hounding the financial sector and the overall economy. The Dow Jones industrials soared nearly 400 points and the major indexes all jumped more than 4.5 percent.
These bear market rallies are getting quite predictable. Let me start my analysis by reposting a comment I just made at Clusterstock:
China demanded the nationalization of Fannie and Freddie to safeguard its own holdings of agency debt.
The Saudi royal family just played the same card to safeguard its holdings of Citi common stock. It's been obvious for some time that the Paulson TARP is not following the playbook of the Swedish model, which demands that shareholders are wiped out.
I can be a little cryptic sometimes, so here's some exposition. The Fannie and Freddie conservatorship was executed after senior Chinese officials publicly stated that they expected the U.S. government to safeguard China's existing investments in Fannie and Freddie securities. Their implied threat was that China can and will dump its holdings of U.S. dollars and Treasury bonds if its interests are not protected. The Saudi royal family has probably taken note of the newfound power that foreign creditors have over the U.S. and have moved to safeguard their own interests.
Traditional approaches to recpaitalizing banks, using either bankruptcy proceedings or Scandinavian-style equity wipeouts, are clearly not on Secretary Paulson's agenda. Paulson's use of TARP, in contrast to the Scandinavian approach to hitting the reset button on equity shareholders, appears to prolong for as long as possible any destruction of either the shareholders or bondholders of a floundering bank.
The Sovereignty Crunch is in full swing. I'll let you know tomorrow if I do anything to make some money off the Citigroup sucker's rally.