Friday, August 12, 2011

BofA's Equity Price Has Cratered- So What's Tom Brown Saying?

I've written a few posts involving former banking sector analyst-cum-banking sector fund manager Tom Brown. Most notably here, here, here and here. He appears on Bloomberg with distressing frequency these days. Just like Bob Albertson- both long in the tooth banking analysts, though Brown is really now a banking sector fund manager. As such, as I noted in one of those posts, when he appears in his analyst role, he's effectively shilling for his own fund.

In that first linked post, I noted that Brown said, in an early June interview, that he'd recently gone long BofA for his fund.

How's that working out, Tom?

Let's see, the market's been whipsawed, banks have been bloodied. What line do you think Tom Brown is peddling this week?

You see, as you'd expect, Brown was on Bloomberg this week exhorting investors to buy more BofA, despite it's getting hammered far worse than the other three remaining large US commercial banks, as indicated in the nearby chart.

It was pretty sickening to hear and watch Brown dance his way to a conclusion that investors would be smart to buy BofA after the pounding it's recently taken. But, without more suckers buying it, how's Tom ever going to get his own position, now down something like 40%, back into the black? Wouldn't you like to be one of Tom's fund customers, opening your quarterly statement in a few weeks, after Brown bet so much on his favorite bank?

As I suspected, the price chart indicates that the smartest move would have been to just stay with the S&P500 and avoid the bank stocks recently. And probably for the foreseeable future, as well.

Incredibly, Brown's excuse....err.....reason for buying BofA now is that it's reward/risk is far higher than it was recently, because so much risk is gone now that it's price has sunk so low. He hurriedly mentioned something about 'sure revenues will be lower, but, gee, that risk is so low.....'

To continue the old Wall Street maxim,

'If you liked it at X, you'll love it at less than X, and marry it even less'.......I think Tom Brown's having children with BofA as it's down 40%.

You can't make this stuff up, can you?

Kodak: Patent vs. Market Value

I haven't written many posts involving Kodak. The first, in 2007, contended,

"The truth is, companies, like athletes, slow with age, then die. Aging may be prolonged. Death may come by acquisition, dissolution, or bankruptcy. But it inevitably comes. In the meantime, watching some companies is like going to a baseball game and seeing the 'oldtimers' play between halves of a doubleheader. I guess somebody has to be CEO of Kodak, IBM and Xerox, but does anyone really care anymore? Personally, I can no longer name those people off the top of my head, as I can with Google."

IBM seems to have averted death, although it's hardly a 'tech bellwether' anymore. But Kodak and Xerox are now just, well, also-rans in every sense.

The two posts I've written solely on Kodak, here and here, from late 2009, opined that the firm should just dissolve itself. In that second, most recent piece, I wrote,

"The article, and this morning's analysis, note that KKR has, predictably, feathered its nest on both the upside and downside. They get a hard 10% income stream and the best protection available on the balance sheet. If Kodak miraculously improves its condition, KKR then gets to convert warrants to own up to 20% of the company.

You have to ask, as I did this morning, reading that second piece, out of whose hide do these generous terms come?

Why, the Kodak shareholders', of course. And I didn't notice any changes in management compensation. You know, like tying bonuses or large parts of salaries to Kodak's total return."

Yesterday's Wall Street Journal featured the firm's failing fortunes on its front page. With the recent equity market gyrations, Kodak's market value has now fallen below what many observers believe is the value of its patent portfolio. Amazingly, that market value was now less than $500MM.

The nearby price chart for Kodak and the S&P500 Index over the past two years, just about when the KKR financing deal was struck, paint a catastrophic picture.

Despite CEO Perez' comments about remaking Kodak into a printing giant, the firm has lost half its value while the S&P posted modest gains. Meanwhile, KKR is sucking out those nice 10% interest payments.

I was shocked to read in the Journal piece that one of my most admired businesspeople, Rick Braddock, is an outside director at Kodak. At least he qualified his commitment to the firm's "turnaround" by adding,

"I am not going to rule anything out."

If that chart is Perez' idea of a turnaround, I'd hate to see his notion of failure.

According to the charts accompanying the Journal's article, sales at the firm have fallen from slightly over $10B in 2006 to an expected less than $3B this year. Kodak lost money in each of the past three years and is forecast to do so again this year.

Can there really be that much juice in a hoped-for dominance of printers to justify these losses? The PBGC will have to absorb what Kodak can't fund, Chapter 11 or not, so that's moot. The question has to be whether the present value of the still-to-turn-a-profit printer business really can exceed that of the firm's patent portfolio, assuming, of course, Kodak will have enough cash to make it that far.

As I did in 2009, after reading of Perez' sellout of shareholders to KKR, I continue to believe that Kodak's senior management and board are acting at cross purposes to their shareholders' interests.

Thursday, August 11, 2011

So Jim Cramer Wants To Be a Real Business Journalist

If you were watching CNBC this morning just after 9AM, you saw an amazing interchange between Melissa Lee, David Faber, both veteran television anchors, and wannabe-cable anchor Jim Cramer.

I have tremendous respect for Lee, as well as her free-market leanings. I'm okay with Faber- his occasionally-revealed political sentiments are too liberal for me, but as a reporter and anchor, he's good.

So to the story......

Lee reported the news that Reuters had reported that an unidentified Asian bank had withdrawn its credit lines to/with SocGen, the large, key French bank. She stressed that the story was public on Reuters, and apparently roiling European markets, but the actual credit line act was both unverified and anonymous.

At that point, Cramer jumped in and, to paraphrase, said, with this worried, gravitas look into the camera,

'David, as a financial journalist, as you and I were in 2008, commenting on the financial crisis, we want to be careful that our reporting doesn't further provoke a crisis, don't we? We don't want to be the acetylene torch to a situation....'

First, one observes that Cramer insinuated himself into the front rank of financial journalists. Hardly something I think the broader market would embrace. I don't think Faber was particularly happy about that.

Further, Faber was clearly spooked when the camera cut to him, and bluntly retorted, again, to paraphrase,

'I'm not going to go into a discussion on reporting and journalistic ethics right now....'

He then observed that reporters always have to judge the wisdom of reporting facts which might cause further reactions.

At this point, the camera cut to an interesting shot- side-by-side separate videos of Lee and Cramer, although they were sitting adjacent to each other. It was sort of odd to see one's arm slip into the other's screen.

But it's clear the producers must have directed this shot and then quickly coached Lee to take control, because she looked right into the camera, not at Cramer, and said, again, to paraphrase,

'Our policy is to report news stories which are public and affecting markets....and the Reuters story about SocGen meets those it's clearly something to report....'

Lee's verbiage sounded like it was taken nearly verbatim from either come CNBC policy memo, or had been crafted on the spot and fed into Lee's ear.

Lee's face, while delivering this, was not happy. Her tone was just a hair shy of publicly lecturing Cramer to keep his mouth shut about what they were covering on the air.

It was as if Cramer had broken the 'fourth wall' of the video medium, acknowledging the effects the anchors' delivery of bona fide stories could trigger in viewers. But, more than that, Cramer was not-unsubtly suggesting that he, Cramer, had to be careful because of who he is.

Personally, most people I know think he's a hot-headed buffoon. Could it be that Cramer's sudden concern with the consequences of his remarks constitutes his attempt to atone for the years when, as he has publicly acknowledged, he shamelessly manipulated CNBC floor reporter Bob Pisani to report as stories rumors Cramer originated to get stocks to run toward his positions?

Hopefully this morning's little incident is a shot across CNBC's bow to reconsider grabbing Cramer to fill in for their depleted on-air ranks since Erin Burnett's departure and Mark Haines' death.

The Curious Case of Fletcher Asset Management

Just a little over a month ago, on July 7th, the Wall Street Journal's Money & Investing section had, as its lead headline, "Highflier Tells Clients to Wait."

It seems that Alphonse Fletcher, said to, have "made a splash on Wall Street in the 1990s, reporting 300%-a-year returns at his firm," and "told of going 11 years without a single losing month," may have bamboozled three Louisiana public union pension boards.

Fletcher made them an offer, so to speak, which they could not refuse- "an investment assured of returning 12% a year."

When asked by the three pension boards for the return of their money recently, Fletcher "sent them promissory notes "in satisfaction of this redemption request" that pledged repayment within two years."

And you wonder why we have underfunded public pension funds? Who even knows who sits on the investment committees of these three Louisiana state public union pension funds? Somehow, I am guessing not people with requisite experience relevant to and adequate for the task.

Apparently it's not even clear just how much money Fletcher's fund complex actually runs. The Journal alleges that it is probably close to $200MM, although Fletcher, by double-counting amounts that one fund invests with another within its complex, gave a figure of some $500MM.

The story reads like Hillary Clinton's legendary gains from funds managed by "Red" Bone. In that case, Red essentially decided, after the fact, where Hillary's money had been that period, and credited her account thus.

Between the guaranteed minimum 12% return and the many cross-feeds of funds from one element of Fletcher's complex into others, one gets the sense that the same scheme was afoot in this recent case.

In the Journal's July 16-17 weekend edition, it updated the Fletcher saga. By then, all three Louisiana unions' pension funds had requested the return of their total investments of $143MM. This sum would seem to be the bulk of Fletcher's investments, if the Journal's earlier-stated, $200MM figure is close to correct.

The articles made for interesting and, frankly, fun reading. As I read each subsequent paragraph, I grew more curious as to who could possibly be so stupid as to invest so much public union pension money with a manager who promised- promised- a minimum return of 12% per annum. That's more than the S&P averaged before the recent flat decade.

Mind you, we're not talking about Steve Cohen or Jim Simons. Fletcher was described in the earlier article as a once-promising equities trader at Kidder Peabody who sued over a bonus dispute and for racial prejudice. He was involved in another racially-based lawsuit with the prominent New York city co-op, the Dakota.

Honestly, it reads like something out of a Tom Wolfe novel (Bonfire of the Vanities) except, sadly, it's all true.

I believe it was Forrest Gump, who hailed from the same general region, who said,

"Stupid is as stupid does."

Now, ask yourself, how will more federal financial regulation stop the idiots in Louisiana in charge of public union pension money from making more stupid mistakes like this in the future?

Wednesday, August 10, 2011

This Week's US Equity Markets Performance

I suppose I could have written a post yesterday to bemoan Monday's sharp selloff in the major equity indices. But then I'd have missed being able to add to this post yesterday's partial recovery, and today's resumption of Monday's panicked selloff.

Where to start?

First, the most recent S&P closing high was 1345.02 on Friday, July 22. It remained above 1290 for the next trading week ended July 29, then headed downward with gathering speed last week. After the so-called debt debacle. But before the S&P downgrade.

But right after the weekend after that Friday's government's release of the recent, appalling GDP growth numbers on the 29th.

Then, throughout last week, Europe's sovereign debt crisis continued to build, finally encompassing Italy, Spain and France by the middle of this week.

Then, yesterday, you had the Fed's uncharacteristic and deeply troubling announcement that henceforth, for another two years, rates will be held at current, effectively 0% levels. First equities plunged at the admission by Bernanke of a probable continuation of the recession, followed by bottom-fishing and short-term joy at more cheap market funding, courtesy of Helicopter Ben.

Then, today, sober realizations set in that, from a global perspective, everything basically sucks, except for risky timing plays.

Ben has essentially trumpeted a cheap dollar policy, which is bound to fuel price rises, as well as technically-defined inflation. Meanwhile, the US economy continues, will continue to struggle.

By waiting until now, Wednesday afternoon, to write this, I've also enjoyed hearing a lot of stupid remarks from so-called pundits.

For example, former Goldman bank analyst, now, many years later, with Sandler O'Neill, Bob Albertson, on Bloomberg Midday with Tom Keene.

Frankly, Keene is typically smarter in his choice of guests. Albertson's really gone off his game lately, along with Tom Brown. This afternoon, Albertson evidently believed he is now an accredited macroeconomist, as he solemnly held forth on the need for an infrastructure bank to re-employ millions of idled Americans.

Well, Bob, I'll let you in on a little secret. Congress has been funding road building for decades! It never ends. And, by the way, Bob, unless you want us to build infrastructure the way Hitler built the Autobahn- with former white collar men using picks and shovels- modern infrastructure construction actually requires a fair amount of capital equipment and skilled workers to operate same.

Where do you think all that new capacity is hiding? Didn't we just have it all busy on the Great One's "shovel ready"stimulus projects?

At least Albertson came to his senses long enough to rail against more borrowing and taxing an increasingly unemployed private sector.

Meanwhile, yesterday morning, presidential economics advisor Gene Sperling's first concerns amidst Monday's market plunge was that the federal government has to, again, extend unemployment benefits "to help job creation." He actually said that- I'm not making it up.

Meredith Whitney, as usual a font of sensibility and good insights, shook her head while lamenting that sentiment this morning on CNBC.

A little later, on David Faber's noontime program, Ron Insana, a CNBC Contributing Idiot and former full-time empty suit on the markets, weighed in by solemnly decrying federal spending cuts just when the economy needs a boost.

Really? Ron, have you bothered to notice that about half of every dollar of that precious Keynesian federal spending you so cherish is borrowed? Then repaid from higher taxes with interest? What, precisely, is wrong with letting consumers keep their money and choose to spend or invest as they like? You know, the sort of behavior that drives genuine economic recoveries and expansions, instead of government-pumped flashes in the pan, like what we've seen for the past three years?

He also derided 'animal spirits,' declaring that there was just no way the US economy can recover by relying solely on private sector growth or savings. Nope. Gotta be federal borrowing from China to spend on unionized labor projects or transfer payments to the idle or retired..

As for my equity portfolios, they've done extremely well. While I've read of some horrendous losses among fabled fund managers like Brucke Berkowitz and Bill Miller, my portfolios fell less or about as much as the index on Monday, rebounded more yesterday, and are falling less today, maintaining a total rough 10% point premium above the S&P. From what I read, quite a few fund managers loaded up on large US financial equities in the past year or so.

I can honestly say, from my many posts on those sorts of firms, "I told you (not to do) so."

Honestly, what are managers like that thinking? Going after financials on some subjective trailing P/E basis or some other similar nonsense? Serves them right to take double-digit percentage losses this month for being so foolish.

My signals do not yet show that it's time to go short if you are a long-term equity investor. Yes, it's a rough few weeks. Yes, there's a growing sense of global economic trouble, over-leveraging, slowing growth and sovereign debt problems. Even a probably continuation of a recession that never truly ended in the US by all measures.

But that doesn't mean it's yet time to sell well-selected equities.

Tuesday, August 09, 2011

When Salomon Brothers Was King

I had the occasion to reread Michael Lewis' 1989 classic book about investment banking and the first mortgage crisis, Liar's Poker.

A good friend had recently finished Lewis' Moneyball, the book he wrote about baseball team managements' use of key statistics to select and pay players. Somehow we got onto the subject of his first book, and I lent him my copy.

Upon his returning it to me last Thursday, I began to selectively reread it. Not being the sort of book that I reread often, I hadn't actually opened it, to my knowledge, in 22 years. Thus, many of the passages were quite surprising.

To give some perspective regarding some of what I recalled, thanks to the aid of Lewis' book, let me recount a story from my business youth. Back when I was in Corporate Planning at Chase Manhattan Bank, troubleshooting businesses as one of a few elite internal consultants working for Gerry Weiss, I would often be immersed in a project for months. After its completion, I'd tackle the mountain of BusinessWeeks, Fortunes and Forbes magazines which were routed through the group. What I found typical at that time was that headline issues and stories, read several months later, invariably had developed almost completely opposite of the then-breaking stories. Headlines, read 3-4 months later, often seemed ridiculous.

And so it is with the recent mortgage-originated financial debacle, thanks to Lewis' book.

First, it surprised me to relearn that Lew Ranieri's mortgage research department at Salomon was novel at the time. And that, given the prepayment option embedded in every mortgage, they had been shunned by investment banks for their unreliable duration characteristic.

Second, there had been just one CMO originated and sold before the guy who actually authored the mortgage-backed origination and trading business, Bob Dall, got the green light from Gutfreund & Co. to open for business.

Third, Salomon spent large sums on lobbyists to get Congress to enact federal legislation, overriding state laws, making it legal to issue bonds collateralized by mortgages. Further, Salomon persuaded Congress to allow government-backed mortgages to be so used. This was supremely important, because with FNMA insurance, buyers were assured that defaulted mortgages would be made good by the federal government.

Reading the evolution of the mortgage-backed business, the first time, through Lewis' telling, it's stunning to recall that from 1981-86, now approaching 30 years ago, the first mortgage boom was largely missed by First Boston (where current BlackRock CEO and founder Larry Fink was merely the head of its mortgage-backed business), Morgan Stanley, Kidder Peabody, Goldman Sachs, et. al. Most of the investment banks which did play a role poached Salomon traders in the latter years of the boom.

Fourth, the sums of money then paid to rising mortgage-backed trading superstars seems laughable now. None of the original trading wunderkinds broke $1MM in compensation for their first few years.

But perhaps the most amazing piece of history is to read Lewis' description of Salomon at its peak. With (don't laugh) a huge equity base of $3B, Salomon was unrivaled among investment banks for its scale, profits and influence. In one of the latter years of its mortgage trading dominance, Salomon's mortgage business had profits which were roughly equal to the rest of Wall Street's investment banks in total!

Here's the funniest part. I mentioned that to a friend on Friday, asking him to guess how much that profit was? He guessed, of course, in the tens of billions. In fact, at the time, around 1985-86, it was about $750-800M.

Since Lewis' book is really about himself, and not just the Salomon mortgage-backed business, it relates much of the story historically. By the time Lewis arrived as a trainee, Ranieri's operation had reached its obese, swaggering, arrogant apogee.

It took Lewis' recounting of the affair to remember how Warren Buffett became involved with Salomon, and the almost perfect parallel with his rescue of Goldman Sachs just a few years ago.

Ronald Perelman, with the backing of Drexel Burnham's Michael Milken, put Salomon into play in September, 1987. Lewis provides an extensive discussion of how Milken's junk bond empire would soon eclipse Salomon's focus on mere mortgage-backed bonds. How Salomon's corporate infighting and inept senior management allowed it to completely miss the junk bond market development until it was too late.

Also woven through the tale is Lewis' explanation of why Bill Simon was passed over for CEO of Salomon when the last family member, Billy Salomon, retired, in favor of Gutfreund, because Gutfreund sided with Billy on never taking the private partnership public. Then Gutfreund sold the firm to Phillips Brothers, a commodity giant, within just a few years. Bill Simon went on to found the LBO movement with a little deal involving Gibson Greeting Cards.

However, back to Buffett. Buffett lent Salmon a large sum to buy out most of the share that Perelman sought from then-holder Minorco, along the same lines as his recent Goldman Sachs loan- a high coupon rate and convertibility to equity at a rather attractive strike price.

That's how Buffett ended up temporarily running Salomon after the Treasury bid-rigging scandal a few years later.

There are many fascinating parallels from investment banking in the early 1980s with the runup to the financial crisis of 2007-08. But there are some important differences, too. Specifically, back in its day, Salomon managed to tower over its less-capable competitors for years as it dominated the first incarnation of the mortgage-banking market. Some twenty-five or so years later, the other investment banks had learned a thing or two, and were much quicker to jump on a developing bandwagon. As were commercial banks.

Thus the wholesale economic disaster that arrived when the federal government, led by Fannie Mae and Freddie Mac, whose involvement in mortgage-backed bonds had been engineered by Lew Ranieri back in the early 1980s, insured the bulk of mortgages, with ever-declining quality standards, which backed bonds sold to investors around the globe.

And, finally, one recalls, after (re)reading Lewis' book, that Goldman Sachs isn't the first and only investment (now commercial) bank which people love to hate. First, there was Salomon. And at the time, nobody could envision Salomon not dominating global investment banking for decades.

It's an instructive and fun reread, or, if you're too young to know of the book, first time read.

Heck, it's only August 9th. Still time to quickly step through Liar's Poker on the beach before Labor Day arrives.

Monday, August 08, 2011

Economics, Cycles & Politics

As I listened to this past Friday's dismal job growth numbers and persistent high unemployment, coupled with the prior Friday's dismal GDP growth numbers, it occurred to me that, due to the misleading mythology allowed to grow up around FDR's presidency, the US now seems destined to borrow and spend its way to ruin thanks to empirically discredited Keynesian economic policies.

Let's go back to basic macroeconomics. Before Keynes.

Economies move in cycles. If there were no presumption on the part of governments to attempt to repeal the laws of economic cycles, then we'd see what was prevalent in pre-1930s America and elsewhere. Expansions eventually slow as Samuelson's accelerator-multiplier  (see also here) theory kicks in,

"Stunningly simple, it seems to square, for me, at least, with human behavior. As many great economic insights do. Such as fellow Nobel Laureate Milton Friedman's concept of income as a steady, long-term expected value.

Samuelson noted that when growth slows from a higher rate, to a lower one, the mere slackening of growth is transmitted back through what we now would call the supply chain, as a series of demand reductions.

Instead of 10% more materials each year to make my products, this year, I need only 5% more.

My supplier will see a decrease in expected sales. Growth will be half of what it was, and, thus, sales fall below expectations.

While real output is still higher, the gradual cutback in production from expectations results in a contraction, as workers work to produce less. The cycle continues, and the multiplier effect, which, in forward gear, causes economic expansion, is responsible for its contraction when run in reverse.

Seen in this light, recessions which are attributable to simple changes in economic outlook can't really be affected very effectively by one-time fiscal monetary transfers."

Contraction follows expansion, then recession, followed by recovery and, subsequently, expansion.

Before America had the world's reserve currency, was the free world's economic hegemonist, and could basically print or borrow dollars at will, that's how most economies behaved.

Yes, you will now hear Keynesians decry over-savings, or the paradox of thrift, as ex-PIMCO managing director Paul McCulley did in a Bloomberg television interview on Friday afternoon. He now looks like some wild-haired ape-man, with an even more virulent streak of Keynesianism, now that he has no responsibility to PIMCO to appear the least bit economically sane.

But those arguments only appeared as Keynes wrote the General Theory and mistakenly believed that pump-priming, deficit spending, call it what you will, could actually and benevolently affect long term economic conditions positively.

We know now, decades later, that Keynes' theory was simply a sop to human desire for immediate gratification, while ignoring the very real longer-term consequences of debt, higher taxes, and reduced personal economic freedoms.

The linked post from last week, discussing the true nature of WWII as a time of immense savings and lowered consumption, setting the stage of the US economy's rapid growth in the 1950s, puts the lie to McCulley's contention regarding the so-called paradox of thrift.

The reality is that savings are collected and invested, eventually forming capital and underpinning healthy economic growth in the private sector, when natural economic forces are allowed to operate.

I believe that, much like the current mistaken belief by many that cutting social welfare programs like Social Security, Medicare, or Medicaid, constitutes a broken societal promise, the real question is whether the cure is worse than the disease.

Those social programs will never operate in a sustained fashion, designed, as they all were, with fatal flaws.

So, too, does Keynesian theory on government stimulus exist in a sort of fantasy world of arithmetic, rather than human, behavior. The reality is that the forced spending doesn't create lasting employment or economically-viable industries, but it leaves very real debt and a need for future spending reductions or increased taxes.

What was wrong with simply allowing natural economic cycles to operate in the first place, if the policies which economists have been able to develop as a method of repealing the laws of economic cycles bring side-effects which have ultimately proven worse than the original condition of naturally-occurring phases in economic cycles?

If the US federal government didn't have the monetary power of the world's reserve curency, combined with politicians of both parties who, once elected President, Senator, Representative or Fed Chairman, work furiously to retain those positions, do you really think we'd seriously be spending trillions of borrowed money to try to remove recessions and contractions from our economic cycles?

This folly has been primarly a politically-generated error. The health of the American economy doesn't require Keynesian stimulus spending- only the political careers of federal elected officials.