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Yesterday's other major business news story, aside from Steve Jobs' resigning as CEO of Apple, was Warren Buffett's Berkshire Hathaway buying $5B of BofA preferred stock with a 6% dividend, plus warrants- terms set by Buffett.
As with his prior capital infusions to Goldman Sachs ($5B @ 10%, plus warrants) and GE ($3B @ 10%, plus warrants) during the 2008 financial crisis, Buffett capitalized on BofA's weakness in the eyes of investors, but carefully avoided buying common equity.
Despite Moynihan's and Buffett's comments that this represents the latter's vote of confidence in the bank, that's not strictly true. If it were, Buffett would have purchased common equity in the market. It's more a case of Buffett extracting a hefty price- the 6% dividend and warrants- for being an unofficial credit rating agency whose selective investments calm other investors.
It's crucial to understand that in all three cases- Goldman, GE and, now, BofA, Buffett focuses on preferred stock, which is senior to common equity, and on which he can demand a special premium, plus warrants, just in case the firm pulls out of its problems.
Think of him as a sort of reverse greenmailer. Instead of the greenmailers of old, like Carl Icahn, whom companies paid to go away, these companies pay Buffett to come on in. In short, it's crony capitalism, because you'll never get access to the deals Warren Buffett does. But don't expect the SEC to be investigating him anytime soon for extracting such a high dividend rate on his preferred shares. Or, apparently, the BofA board for being so wasteful with its shareholders' money.
However, as the nearby chart illustrates, and at least one Bloomberg talking head had the guts to say yesterday, Buffett's equity kickers, the warrants, have been busts. Neither his GE nor Goldman warrants are in the money.
I've included in the nearby price chart Wells Fargo, as well, since Buffett is known to maintain a large position in that bank. I don't know when he began building his position, but it, too, has underperformed the S&P500 Index for the past five years.
In searching for articles with information on the date of Buffett's initial Wells Fargo investment, the best I could do was to estimate that he's been invested in the bank since at least 1999. He says he bought equity prior to the 1998 Norwest merger. The second price chart displays WFC's and the S&P500 Index's prices since 1985. If Buffett bought Wells in, say, 1995, then he's done better than the index. But if he bought later than sometime in 1997, he's probably no better off than he would have had he bought the index.
So much for Buffett's fabled equity selection skills, and back to the BofA preferred equity buy.
Late this afternoon, a family office manager and guest on Bloomberg explained that he had done much the same as Buffett only about a week or so ago. Not wanting to risk his capital on BofA equity, he found the preferred to yield an acceptable dividend with much less risk. But his yield is not as great as the one demanded by Buffett.
One of the Bloomberg anchors jokingly asked a pundit if he thought the administration asked Buffett to shore up BofA by investing in it. I don't think that's just a joke.
It also focuses on the lack of risk in Buffett's position, which is different than that of the bank or its common equity holders. First, Buffett has so ingratiated himself with this administration that it's unlikely to take any actions toward BofA which would endanger Buffett's investment.
Second, Buffett knows that BofA is one of the 'too big to fail' institutions, so chances are it will be bailed out by the government before Buffett loses his investment.
Recall, if you will, that freely-operating markets are supposed to result in neither buyer nor seller having sufficient power to dictate price or terms. Buffett's move, the third such example of his dictating investment terms to his targets in three years, demonstrates how our financial markets aren't fair. Buffett can engage in crony capitalism, using his name and resources to extract expensive terms for his borrowers, while other market participants have to resort to the markets to buy their investments.
On that subject, I learned yesterday that Buffett had insisted, as part of the terms of his Goldman Sachs investment, that no Goldman senior executives could sell shares in the firm until he had his money back. In that case, I suspect Buffett realized he was playing with some very sharp operators who wouldn't think twice about leaving him holding an empty bag.
In BofA's case, it was reported that no such terms were required. I suspect that speaks both to Buffett's sense that the firm's management is mediocre, and that the government will unquestionably step in to save his investment before it would vaporize amidst a bankruptcy.
Watching this sort of activity by Buffett, while generating no whiff of impropriety, validates for me how useless the SEC has become.
This morning was one of those on CNBC's Squawkbox program when its overall liberal bias was blazingly explicit.
Sure, liberal co-anchor Becky Quick was replaced this morning by the network's most conservative journalis and on-air personality, Michelle Caruso-Cabrera.
But the guest host for the morning was a guy named Harry Wilson, billed as a member of the administration's Treasury team which bailed out GM and Chrysler. During the last hour, New York Times columnist and, thus, card-carrying liberal journalist Tom Friedman served up his brand of liberal ideology, though he attempted to cloak it in the guise of being for the 'little guy.'
First Harry Wilson. This guy was some piece of work. When quizzed by Cabrera, Wilson gave an unvarnished spiel which was, I am guessing, a very close approximation of the case made inside Geithner's Treasury for raping bondholders with legitimate senior claims and shoveling money into the two automakers and/or, more correctly, their employees' union's pension funds.
The single statement which gave Wilson away as narrowminded or uninformed was, after his longwinded claim that to fail to save GM in the manner the administration did was to have brought about Ford's liquidation, his reponse to Cabrera's contradicting reply. She contended that, should things have become that bad, vulture financiers would have gladly stepped in to rescue Ford as the lone remaining Detroit-based automaker.
Wilson countered, to paraphrase,
'What, in the world's largest car market, there'd only be room for one automaker?'
Just what does Wilson think BMW, Mercedez-Benz and a host of Japanese car makers with plants south of the Mason-Dixon line are? Chopped liver?
Well, what they are, are non-unionized car making facilities.
By the way, who is to say that in such a low-margin business, the US even wants substantial assets deployed for what are, in real market terms, fairly low-paying jobs? The equity markets have signaled that GM and Chrysler weren't desirable investments with those characteristics.
Wilson belied his attempt at presenting himself as objective by clearly dismissing market/investor opinion and attempting to justify the federal government's financial override of said dollar votes.
Then the network's commercial promos billed Tom Friedman as 'the one man who can speak' on various wide-ranging business, economic and political topics. Which Friedman felt completely comfortable doing with clear confidence that he is right, and you or anyone else who disagrees with him is wrong.
First Friedman let all and sundry know that we must- must- have higher taxes. Spending cuts just aren't going to do it. No empirical evidence- just big Tom's instincts.
Then he solemnly invited America to form a vibrant third party, because Congress isn't working. That's right- the Tea Party's re-invigoration of the GOP doesn't count for s**t. Not in Tom's view.
No, you see, because it wants spending cuts, not higher taxes. And since Tom doesn't allow for that, another force must appear to rescue America.
Then Tom weighed in against Joe Kernan's charge that he is, well, what he is- a big-spending liberal apologist who works for the New York Times. Friedman declared that he was for small business and becoming a an 'innovation nation.'
Trouble is, as Rick Santelli noted a few minutes later, over-regulation along the lines of this morning's lead staff editorial in the Wall Street Journal make that unlikely in today's environment.
That's just a small example of how CNBC, by its selection of overtly-liberal guests and hosts, skews its presentation of economics, business an finance to the liberal end of the spectrum.
Last Thursday's Wall Street Journal contained some of the detailed information recently released by the Fed under FOI filings by various business media involving previously-undisclosed emergency loans to large US financial services firms during the financial crisis of 2008-09.
Prominently appearing was Goldman Sachs, for a $15B loan for a month at a laughably low rate. Also included were a few foreign-domiciled banks and various US entities, as well.
This sort of activity and inexplicably fickle discretionary lending is precisely why some call for an end to the Fed.
Why, for example, was AIG never given the opportunity to access these loans? How about Countrywide, WaMu and Wachovia? On what basis were they less deserving than Goldman Sachs?
I suppose Bear Stearns' failure to attract Fed loans would be excused on the basis of it being so early in the crisis. But the others are legitimate questions.
This is the type of selective, subjective government intervention to save favorites and punish those it didn't favor, which upsets investors and causes them to shy away from risking capital when government behaves so punitively with public money and unlimited credit.
Personally, I would have loved seeing Goldman Sachs forced into Chapter 11 protection, its trading units continuing to function to support prices of its inventories of instruments in their markets, while bids for the profitable units were entertained and the management which allowed Goldman to become overextended on unrenewable short-term funding were dismissed.
The ultimate penalty to those senior managers, and the investors who so unwisely trusted them, would have been a deserved loss of jobs and equity investments.
Markets would have continued to function, and useful units would have continued to operate, as well. But those who bet foolishly on a constant ability to fund the firm short-term would have suffered appropriately.
Perhaps, like you, I was horrified to read the Wall Street Journal's lead staff editorial on Monday and, that same day, to see clips of Ben Bernanke's testimony played on business cable channels confirming that their is concern at the Fed regarding substantial US money market fund holdings of European paper. No doubt bought and held for the higher yield on said paper, reflecting its greater risk. Duh.
To connect the dots, European banks hold lots of Greek debt. Greek debt has fallen in value due to that country's ongoing fiscal crisis. It's generally believed that European banks have not chosen, nor been forced by European financial regulators, to write down their Greek debt to market price levels.
Thus, it's highly likely that many European banks have overstated asset values. Their short-term paper, held by US money market funds, are thus vulnerable to default, in the event that something sets off a chain-reaction of Greek debt default and subsequent further devaluation of Greek debt held by the European banks.
How in the hell can this have happened in the wake of the US financial crisis of 2008? Between the multi-billion dollar bailouts, radical new regulatory law, and Federal guarantees of money market fund assets, you'd think our financial regulators would be on top of this one.
What's the difference between allowing banks with FDIC-insured deposits to engage in risky trading and underwriting, and allowing federally-insured money market funds to buy the short-term, unsecured debt of European banks holding Greek debt?
Only the matter of the specific risky activities, not the probably outcomes, nor the inherent risks.
As the Journal editorial expressed, our "regulators miss the systemic risk right in front of them."
This is neither trivial, nor a joke. Our vaunted Congress and federal regulatory agencies have already failed to head off yet another risky activity by private financial sector players.
Despite having occurred over two years ago, there is still quite a bit of denial and misinformation on the federal government bailouts and takeovers of late 2008.
Meanwhile, Europe, through it's central bank, engaged in similar bailouts of publicly-held banks.
Timo Soini, the chairman of the True Finn Party in Finland, recently wrote a Wall Street Journal editorial entitled Why I Don't Support Europe's Bailouts. Soini's party is Finland's left-wing populist party, so it's not surprising that it desires more state-directed economic investment and control. But Soini's sentiments regarding how the ECB's bailouts actually worked is rather refreshing.
Here's what he wrote.
When I had the honor of leading the True Finn Party to electoral victory in April, we made a solemn promise to oppose the bailouts of euro-zone member states. Europe is suffering from the economic gangrene of insolvency—both public and private. Unless we amputate that which cannot be saved, we risk poisoning the whole body.
To understand the real nature and purpose of the bailouts, we first have to understand who really benefits from them.
At the risk of being accused of populism, we'll begin with the obvious: It is not the little guy who benefits. He is being milked and lied to in order to keep the insolvent system running. He is paid less and taxed more to provide the money needed to keep this Ponzi scheme going. Meanwhile, a symbiosis has developed between politicians and banks: Our political leaders borrow ever more money to pay off the banks, which return the favor by lending ever more money back to our governments.
In a true market economy, bad choices get penalized. Instead of accepting losses on unsound investments—which would have led to the probable collapse of some banks—it was decided to transfer the losses to taxpayers via loans, guarantees and opaque constructs such as the European Financial Stability Fund.
The money did not go to help indebted economies. It flowed through the European Central Bank and recipient states to the coffers of big banks and investment funds.
Further contrary to the official wisdom, the recipient states did not want such "help," not this way. The natural option for them was to admit insolvency and let failed private lenders, wherever they were based, eat their losses.
That was not to be. Ireland was forced to take the money. The same happened to Portugal.
Why did the Brussels-Frankfurt extortion racket force these countries to accept the money along with "recovery" plans that would inevitably fail? Because they needed to please the tax-guzzling banks, which might otherwise refuse to turn up at the next Spanish, Belgian, Italian or even French bond auction.
Unfortunately for this financial and political cartel, their plan isn't working. Already under this scheme, Greece, Ireland and Portugal are ruined. They will never be able to save and grow fast enough to pay back the debts with which Brussels has saddled them in the name of saving them.
Setting up the European Stability Mechanism is no solution. It would institutionalize the system of wealth transfers from private citizens to compromised politicians and failed bankers, creating a huge moral hazard and destroying what remains of Europe's competitive banking landscape.
Fortunately, it is not too late to stop the rot. For the banks, we need honest, serious stress tests. Stop the current politically inspired farce. Instead, have parallel assessments done by regulators and independent groups including stakeholders and academics. Trust, but verify.
Insolvent banks and financial institutions must be shut down, purging insolvency from the system. We must restore the market principle of freedom to fail.
If some banks are recapitalized with taxpayer money, taxpayers should get ownership stakes in return, and the entire board should be kicked out. But before any such taxpayer participation can be contemplated, it is essential to first apply big haircuts to bondholders.
For sovereign debt, the freedom to fail is again key. Significant restructuring is needed for genuine recovery. Yes, markets will punish defaulting states, but they are also quick to forgive. Current plans are destroying the real economies of Europe through elevated taxes and transfers of wealth from ordinary families to the coffers of insolvent states and banks. A restructuring that left a country's debt burden at a manageable level and encouraged a return to growth-oriented policies could lead to a swift return to international debt markets.
This is not just about economics. People feel betrayed. In Ireland, the incoming parties to the new government promised to hold senior bondholders responsible, but under pressure they succumbed, leaving their voters with a sense of disenfranchisement. The elites in Brussels have said that Finland must honor its commitments to its European partners, but Brussels is silent on whether national politicians should honor their commitments to their own voters.
Say what one will about Soini's motives, it's clear that the crony capitalism of Europe's ECB, member country governments and large banks make for easy targets of his criticisms. And I don't think his analysis is flawed. In fact, his emphasis on identifying and closing insolvent institutions precisely echoes the comments of Anna Kagan Schwartz from 2008, on which I posted here.
Yes, his critics will claim, as did defenders of Bernanke's actions, that entire economies were at risk without such interventions.
But I don't believe that was ever true. In no case was a failing entity, whether it be Lehman, GM or Goldman Sachs, unable to be placed into Chapter 11, reorganized, and either spun back out or its remnants sold to surviving competitors or new entrants at market-clearing prices.
Soini is correct when he parrots the capitalist line that failed institutions must be allowed to fail and free up resources for others to use. But because, in Europe, an unholy alliance of banks and fiscally-vulnerable bond-issuing governments had developed, taxpayers were soaked to shore up the private, publicly-held financial sector entities.
While the specific mechanics of the ECB bailouts differ from those of the US due to the dollar being the world's current reserve currency, the basics are not dissimilar.
Entrenched managements were able to cash in on existing ties, business networks and fears of financial and economic turbulence in order to, in most cases, with very few exceptions (Bear Stearns, Lehman, AIG, Merrill Lynch, Wachovia) retain control of their companies and proceed to earn lush, post-bailout profits.
Managements like to identify themselves with the assets their companies control, in order to scare politicians into forgetting about Schumpeterian dynamics.
No matter what the event, when companies are found to have been managed badly, and succumb to some environmental or self-inflicted catastrophe, the valuable parts of such enterprises will still be desired and acquired by some other parties. The parts which failed should have been liquidated anyway. In America, there is a Constitutionally-assured method, bankruptcy, for orderly management of such changes in control and liquidations. Just because the Fed, FDIC and Treasury didn't engage in such invasive rescues did not mean that there were not more prudent and limited steps these various government entities could have taken to stabilize the financial sector and avoid economic depression.
Intervention of the sort conducted by the ECB and the Fed only serve to make ordinary voters and taxpayers sceptical of political-business alliances and cronyism. And create fertile ground in which socialists like Soini and the current US administration can flourish.
It didn't get a lot of coverage, but HHS recently intimidated Forest Labs by refusing to do any more government business with the firm so long as CEO Howard Solomon remains in that position.
According to a Wall Street Journal editorial, neither the firm or the CEO did anything improper after a plea agreement was reached in September. According to the Journal, Forest Labs, as many firms do, settled the charges, rather than litigate, in order to save money. However, having that in her pocket, HHS Secretary Kathleen Sebelius then engaged in coercion.
The editorial notes that, at a minimum, Sebelius' action will drive up costs for everyone, as firms learn to litigate, rather than tacitly admit guilt, only to have that used against them in ways never intended nor imagined.
This is yet another example of how this administration continues to behave in ways which retard private investment and create more uncertainty than is warranted.
All the lose monetary policy in the world- and surely we've seen way too much already- won't overcome this sort of federal thuggery.
As the Journal's editorial noted, it's a federal version of Eliot Spitzer's unwarranted and, ultimately, unproven crusade against AIG's former CEO, Hank Greenberg. Ironically, many have opined that Spitzer's tantrum which led to Greenberg's coerced resignation was, in large part, responsible for AIG's later federal bailout, because Greenberg was absent to rein in excessive risk taking leading up to the financial sector crisis.
In this case, Sebelius continues to try to muzzle health care sector dissent from ObamaCare by any means.
The of unintended consequences remains unrepealed......
This past weekend edition of the Wall Street Journal featured a lead staff editorial commenting on mandates for derivatives clearinghouses contained in Dodd-Frank.
The editorial made much of the many warnings now being uttered by people who either voted for the bill or were silent when their comments would have mattered. Specifically, the piece cites Ben Bernanke's reference to Pudd'nhead Wilson and the matter of 'watching that basket' very closely.
Perhaps I'm in the minority, but I believe that well-run clearinghouses or exchanges for derivatives would be an improvement over what went before.
Remember how Lehman's demise triggered concerns over daisy-chains of various derivatives? How AIG was seized because of fears of too many little-understood connections among its financial products unit's many credit default swap positions?
Back then, the fear was unknown linkages among many derivatives, some of which may have even been sold by parties which could not actually fulfill their obligations under the agreement.
Shouldn't we then welcome having well-capitalized, monitored exchanges where parties have posted sequestered collateral for their derivatives? Where sellers are vetted for their financial capability to perform? Or at least are clearly analyzed by counterparties? Where rules are clear regarding what happens when a counterparty fails to perform?
I'd rather see a separate, well-run exchange for derivatives than rely on the same type of inept regulators who allowed the last financial crisis to occur. Mind you, nobody has either proven or determined that derivatives, per se, brought about the collapse. But because of derivatives risks at firms like Lehman and AIG, which were affected by the mortgage market collapse, regulators and legislators pulled those instruments into the maelstrom when new, excessive, poorly-understood regulations were written and passed.
Of course, if we truly expect and want federal bailouts for any large financial entities, then it may be moot to observe that exchanges can fail, too.
But, absent that, I would expect a standalone exchange for derivatives to provide much more clarity regarding their risks to firms and counterparties, going forward.
Back almost a month ago, the Wall Street Journal published a staff editorial entitled President Warren's Empire. It dealt with the tortured details of Warren's position as head of the newly-created Consumer Financial Protection Bureau.
If you want to understand why job creation and investment are growing so slowly in the US, this story is instructive.
Given the politics of the moment last year, Democrats wrote the unnecessary Dodd-Frank regulatory legislation in such a way as to shield Warren and her agency from possible Republican legislative retribution, should they have, as they did, retake control of the House.
Warren's agency is funded mandatory out of the Fed's budget, and the Fed's chairman can't object. So Congress has no budgetary authority over the agency. And Warren dodged confirmation hearings because she was appointed as a White House staffer.
The overall effect has been for Democrats to organize the agency and treat Warren in such a way as to leave both effectively without any oversight or restraints by Congress.
As the editorial observes at its close,
"This is no way to run a government, especially not one that Madison envisioned. The consumer bureau is essentially a bureaucratic rogue....But at the very least Congress should remove it from the Fed, make it part of the Treasury and subject it to annual appropriations. No one elected- or even nominated' Elizabeth Warren."
Meanwhile, from this bureaucratic tangle, Warren and her fellow appointees have already begun to coerce and shake down banks to forgive mortgage principle, or face further harassment.
Indeed, this was not the sort of federal government the Framers had in mind. With such capricious, deliberately-opaque and unresponsive design of so-called regulatory agencies, you can't blame business managers for withholding investment due to uncertainty of government intervention and coercion, disguised as 'regulation.'
Yesterday afternoon, just before the close of the market, CNBC gave itself over to propaganda by allowing a Treasury official to appear and declare that TARP had officially been repaid more than it lent, allegedly making it profitable.
I write allegedly because of the following editorial from the March 17, 2011 edition of the Wall Street Journal, entitled TARP Was No Win for the Taxpayers. Subtitled "Treasury's claim that the bank bailouts will return a profit ignores the other, more costly programs enabling the banks to repay their TARP funds," it was co-written by Paul Atkins, Mark McWatters and Kenneth Troske. Regarding their credentials, Mr. Atkins was a member of the Congressional Oversight Panel from 2009-2010. Messrs. McWatters and Troske are current members of the panel.
I made a reference to it in this post last week,
"...then moved on to exhibit his complete misunderstanding of a recent Wall Street Journal editorial which ingeniously put the lie to Treasury Secretary Geithner's claim that TARP had 'made money' for taxpayers. The Journal piece provided the broader context of various Fed asset purchases, GSE takeovers, etc., which allowed bank-held structured finance assets to be valued at higher levels than they would have otherwise been, thus allowing them to repay TARP funds. In short, the editorial correctly noted that TARP was simply the named tip of a very large federal iceberg of self-dealing and non-market-based asset valuations calculated to let banks appear solvent and, thus, capable of repaying government funds. Liesman apparently failed to understand the article, gasping and sputtering that the authors, and anyone who believed them, were just ungrateful for the federal government's profitable rescue of the banking system."
Here's the editorial in its entirety, so you may follow all the numeric trails within it,
Today the Senate Banking Committee will explore the Troubled Asset Relief Program (TARP). Almost 30 months after its birth, TARP is far from dead. More than 550 banks, AIG, GM, Chrysler and others still have approximately $160 billion of taxpayer money outstanding.
Even so, the administration would have us believe that TARP has been a success because it supposedly alleviated the financial crisis and is (so far) being paid back at an apparent profit for taxpayers. Perhaps because he helped invent TARP before he joined the Obama administration, Treasury Secretary Timothy Geithner has called TARP the "most effective government program in recent memory."
Treasury's view is misleading. First, it hides the full story of the government's financial crisis effort, of which TARP is but a minor part. Moreover, Treasury has not been content using rhetoric alone to try to put TARP in the best light. The Special Inspector General for TARP criticized Treasury in October for inadequately disclosing a change in its valuation methodology that reduced a $45 billion loss in AIG to $5 billion, making TARP losses appear smaller than they really are. This data manipulation is only part of a much larger problem with Treasury's representations regarding the supposed success of the bank bailout payments that lie at the heart of TARP.
The focus on repayment fails to consider the huge taxpayer costs from non-TARP programs that directly and indirectly enabled many of the large banks to repay their TARP funds. These intertwined programs, operated by the Treasury and the Federal Reserve, dwarf the size of TARP and lack its accountability.
The financial crisis was born in the housing bubble caused by the policies of Fannie Mae and Freddie Mac, the two bankrupt government-sponsored entities (GSEs) charged with buying and packaging mortgages into mortgage-backed securities (MBS). TARP banks own billions of dollars worth of MBS and have remained liquid in part because the Federal Reserve has bought more than $1.1 trillion of these GSE-guaranteed MBS in the securities markets—all outside TARP.
The Fed purchased the MBS at fair market value, but this value reflects Treasury's bailout and continued support of the GSEs—also done outside of TARP with taxpayer money. Had the GSEs failed, TARP recipients probably would have been stuck with these MBS, writing them down at significant loss. Their ability to pay back TARP funding would have been hurt, and they might have had to obtain more TARP funds or go bust.
So the taxpayer-backed GSE guarantee enables the Fed to prop up the market with taxpayer funds, in turn allowing the TARP banks to "repay" their TARP funds. The bailout of the GSEs by Treasury thus shifts potential losses from TARP to other programs that have less oversight and public scrutiny. Any evaluation of TARP's success must take into account the interaction among all government programs designed to prop-up the financial system, and the shifting of costs among these programs.
The Congressional Budget Office estimates that Treasury's bailout of the GSEs will cost the taxpayers approximately $380 billion through fiscal year 2021. If only one-fourth of CBO's estimate ultimately benefits TARP recipients and other financial institutions, taxpayers will have provided a subsidy to these institutions of approximately $100 billion, which is not accounted for under TARP.
Also seldom mentioned are future costs resulting from using TARP funds to rescue "systemically important" financial and other firms. TARP exacerbates the "too big to fail" phenomenon by targeting much of its funding toward large banks and automobile firms, solidifying the market's belief in an implicit guarantee from the government for these firms. As credit-rating agencies have recognized, these large firms can borrow much more cheaply than their small-enough-to-fail competitors, which will lead to less competition, a more concentrated financial sector, and higher prices paid by consumers.
In addition, creating larger, more systemically important financial firms increases the likelihood of future financial crises because these firms have an incentive to invest in riskier projects as a result of the implicit government guarantee. The additional costs borne by consumers in the form of higher prices for financial services and the additional costs that result from future financial crises need to be included in any accounting of the costs of the TARP.
TARP was never where the real action was happening. In fact, other Fed and FDIC programs added another $2 trillion of taxpayer money at risk to the 19 stress-tested banks alone, on top of the $1.1 trillion of MBS purchased by the Fed. TARP is but one-eighth of that total.
The government's efforts inside and outside of TARP have sown the seeds for the next crisis and, unfortunately, last year's 2,319-page Dodd-Frank Act does nothing to fix these problems. Treasury must be more transparent regarding TARP. The real myth that the Treasury secretary should dispel is that TARP is a big win for the taxpayer.
So there you have it. Whether TARP is notionally repaid, or not, and whether correct accounting for the funds was performed, or not, it really doesn't matter. As the editorial's authors convincingly demonstrate, "other Fed and FDIC programs added another $2 trillion of taxpayer money at risk...on top of the $1.1 trillion of MBS purchased by the Fed. TARP is but one-eighth of that total."
Too bad CNBC didn't have anyone challenge the gloating Treasury official yesterday afternoon, and, instead, behaved like the government lapdog it has become.
Home Depot chain co-founder Ken Langone spent two hours as a guest host on CNBC's morning program today. As usual, it was an immensely intriguing episode marked my Langone's candor bursting the fictions being spun by other guests on the program.
The first act was Langone debunking several of the self-serving, misleading statements made by Steve Rattner. I've written about Rattner in a recent post, so I'm not pretending to be neutral about him. But the wonderful thing about this morning's discussion was that Rattner, when finally forced to spin his truth-challenged story to a smart, objective, capable opponent, clearly came off badly.
The reason for Rattner's appearance was apparently some article he wrote in a European publication claiming that his government-run bankruptcy action of GM could provide a template for European nations to follow. Langone began the debate by taking issue with the utility of comparing GM before and after the bankruptcy. Rattner had crowed about various comparative measures, and Langone called attention to the peculiar nature of the bankruptcy. In essence, Langone correctly stated that the process removed senior creditors' rights, removed health care obligations in an unusual fashion, and, generally, was run to the benefit of unions while trampling the rights of legitimate creditors.
Rattner then told his fairy tale of hypotheticals, mixed with lies. For example, he repeated the usual line that 'millions of jobs would have been lost' had the government allowed GM to be liquidated. That was the predominant line used at the time, but, of course, nobody can ever prove it to be true.
Then Rattner told a baldface lie when he claimed that, to paraphrase,
'the only choices were government-assisted restructuring of GM or liquidation.'
That's simply not true. In fact, a conventional bankruptcy would have protected GM while it considered options, such as closing some units, selling others, and, generally, reviewing alternatives prior to total liquidation. Rattner simply denies this, because it's inconvenient for him to admit there was a third, available, conventional, legal option.
Rattner also disingenuously claimed that bondholders had the right to take the company, but refused. That, too, isn't true. What really happened, as news stories of the day will inform, and about which I wrote in some of my GM-labeled posts of the time, was that the government coerced bondholders to take a lower recovery than the unions received. Rattner pretends that bondholders received a fair bankruptcy court hearing, but that's not true. The entire procedure was taken out of the usual bankruptcy channels, and federal power was used to quietly bludgeon bondholders, as they were told the government would arrange a resolution leaving them nothing, or they could take what was on offer. Period.
Because of various fiduciary laws, the various funds holding GM paper had no choice, because the third option, legitimate bankruptcy process according to established law, in an independent court, was not available.
Langone and Rattner then began to elaborate on their points, with Langone repeatedly criticizing the GM bankruptcy as abnormal and wrong, while Rattner continued to claim it saved the US economy and was nothing unusual.
From there, after a few rounds of those statements, the combatants agreed they would not change each others' opinions. Then Rattner, ever the self-interested party, chimed in that he wanted viewers to believe him. No surprise there.
Since Langone is objective, and Rattner is not, it's pretty easy to see who was telling the truth.
Next, George Miller (D-CA) appeared to beat his chest over how great a Congressman he was when his party was in the majority. Specifically, he claimed total responsibility and authorship of the dreaded 'paygo' House rule, lauded every costly piece of liberal legislation passed by the recently-ended Congressional session, and, regarding health care, said he just wanted 'change.'
His exchange with Langone, and others, was less a direct debate than a clear example of big government (Miller) vs. small government (Langone). Miller made it very clear that he had no use for market-based evolution of the health care system. Missing from his self-glorifying patter were some facts. For example, that his vaunted paygo approach was just an excuse to force every new Democratic program to trigger more taxes to pay for it. On health care, rather than mention that his party stiff-armed every Republican amendment and suggestion, he instead claimed that they 'listened to academics' and various other theoreticians, mostly of a liberal stripe. True enough, the bill that passed has already proven to be engendering dozens of unintended, unworkable and undesirable consequences. Exemptions to major coverage requirements already number over a thousand.
Toward the end of the second hour, the networks resident economic moron, Steve Liesman, showed up to spew some more bad thinking and ill-informed verbiage.He drew justifiably heavy fire from Langone, Kernen and Rick Santelli for ignoring the front-line burdens of the recent health care legislation, then moved on to exhibit his complete misunderstanding of a recent Wall Street Journal editorial which ingeniously put the lie to Treasury Secretary Geithner's claim that TARP had 'made money' for taxpayers. The Journal piece provided the broader context of various Fed asset purchases, GSE takeovers, etc., which allowed bank-held structured finance assets to be valued at higher levels than they would have otherwise been, thus allowing them to repay TARP funds. In short, the editorial correctly noted that TARP was simply the named tip of a very large federal iceberg of self-dealing and non-market-based asset valuations calculated to let banks appear solvent and, thus, capable of repaying government funds. Liesman apparently failed to understand the article, gasping and sputtering that the authors, and anyone who believed them, were just ungrateful for the federal government's profitable rescue of the banking system.
It's refreshing to see a principled, reasoned, intelligent host like Langone take on some of the dissembling guests who so routinely appear on CNBC's Squawkbox. Too bad they can't fire Carlos whathisname and replace him with Langone. But I'm sure Langone would decline the offer.
This past weekend's Wall Street Journal main interview was with hedge fund manager Paul Singer. I can't say I was acquainted with his work prior to reading the interview, but I was heartened, in a way, that so much of what he espoused was similar to some of my own previously-written views.
For example, Singer was unequivocal regarding coming inflation. When a guy like this begins citing 1930s era European treatises on the Germany currency debasement, you should be worried. I already am, but, of course, Helicopter Ben keeps telling people like me to have faith and quit being concerned.
Let me put it this way. Singer has built a multi-billion hedge fund by relying on his own analyses, conclusions and instincts. Ben The Bernanke is a high-level civil servant who will probably be offered another high-level, lucrative position after being Fed Chairman, no matter how badly he messes up in that role.
Of the two, Singer or Bernanke, whom do you think has the greater risk in being wrong, and, therefore, is more likely to get the current economic situation correct? And, by the way, Bernanke, as a sitting Fed Chairman, pretty much has to cheer lead on topics like saying economic growth is coming or here, inflation won't be a problem, and the world's investors won't be concerned about continued US monetary debasement.
For once, in Singer, I've found someone who echoes my own views of large US commercial banks as totally unattractive investments. James Freeman's interview quotes him as saying,
"You don't know the financial condition of [Citigroup], JP Morgan, Bank of America, any of them. Mr. Singer believes the big banks still carry too much leverage, and he doesn't trust regulators to monitor them effectively.
The largest financial institutions, he says, are "a random collection of survivors. Almost none of the survivors exist because of their perspicacity, risk controls and sound management- even the ones that are vaunted along those lines...How and why do they exist? Mostly on accident, meaning who got bailed out first and who was saved next and how did people feel and what did people say the weekend Merrill was under pressure [in September 2008]." "
Singer goes further in the next paragraphs, citing one of my own favorite risks- counterparty. He says that his fund complex has removed itself as much as possible from having any of the large US commercial banks and "the Street" as counterparties.
Singer sees Dodd-Frank as I, and many others, do, as described in the interview thus,
"The authors of Dodd-Frank claim that the law prevents the government from bailing out any particular firm, but the Fed can still provide emergency loans to a failing giant as long as it offers similar financing to other firms.
"It's a very important part of this equation that a few survivors exist in this peculiar relationship with government, having to kowtow to government, make relationships with regulators," says Mr. Singer. "Are they puppets of the government? Are they cronies of the government? Will their lending be affected by the perceived whims or beliefs of the particular government regulators existing at a particular time? Yes."
If the government deems a firm not "systemically important," Mr. Singer forecasts, it could spell its doom. "Small and medium-sized financial institutions may be disadvantaged, may be sacrificed in the next crisis to protect these behemoths," he says.
It gets even worse, Mr. Singer says, if the government ever deems a financial giant "in danger of default"—a judgment that can be made without the consent of the firm or its investors. The business is then taken over by the Federal Deposit Insurance Corporation, with its Orderly Liquidation Authority.
Once in charge of the firm, the government can discriminate among similarly situated creditors and transfer assets out of the business at will. Because of this, says Mr. Singer, creditors and trading counterparties might flee even faster than they would from a firm headed toward bankruptcy, where at least there is established law instead of regulator discretion.
"You don't know how you will be treated," he says of financial institutions under the new FDIC regime. "If there are companies that are also counterparties alongside you but they've been designated systemically important, that's a clue. It's like a game of treasure hunt. It's a clue that you're going to get disadvantaged compared to them."
So maybe FDIC chairman Sheila Bair and the authors of Dodd-Frank were right about one thing: Perhaps their new process for resolving failing giants really will discourage some people from lending to the biggest banks—but only at the worst possible moment.
The problem, in Mr. Singer's view, will be the jarring shift from one day being an investor in a member of the "systemically important" club, to the next day being a creditor whose claim is determined by bureaucratic whim. This may be welcome news to government pension funds that will want to be bailed out, but certainly not for private investors.
The speed at which a firm will collapse as word gets around that it might be headed to FDIC resolution could be "amazing," says Mr. Singer. And that "speed will drive the size of the losses."
This "atmosphere of unpredictability" is harmful to America's place in the financial world, he says, and "it doesn't make the system any safer. . . . This is nuts to be identifying systemically important institutions." He views it as a poor "substitute for creating soundness and reasonable levels of leverage throughout the system."
Phrases like "bureaucratic whim" ought to make you cringe. Don't you think they have that effect on investors in, lenders and counterparties to such institutions? I do. Singer's comments confirm what many others, including me, have contended, i.e., that the comparatively predictable existing bankruptcy laws have been replaced by liquidation-by-whim and cronyism. Singer is correct to predict that funds will leave a troubled firm much faster than anyone can imagine. And, ironically, that being in a group of selectively preferred, "systematically important" designated firms lending to or investing in a large bank is actually dangerous, because you will be the least-advantaged party. The one most likely to be at the very end of any line to collect on funds due.
Thus, in Singer's view, you have government-backed large institutions continuing with risky behaviors, and counterparties like them doing the same. This, he worries, is the seed bed for the next financial meltdown. Dodd-Frank and the FDIC have replaced uncertainty with respect to government backing for large firms in the event of another financial crisis with absolute certainty that select "systematically important" banking firms will be rescued. Moral hazard is now legislatively and regulatorily banished, leading to another round of excessive risk-taking.
The final passage of Freeman's interview says a lot about Singer,
"One reason his firm has survived for 34 years, he says, is that "we try to be very respectful of the unpredictability of markets. We try to at all times at least assume that the world is not being properly run." A safe assumption. "
Sad but, in this case, so true.
The Wall Street Journal has recently published a spate of editorials and columns regarding the official FCIC final report. One of those editorials was by the authors of a minority report- Messrs. Thomas, Hennessey and Holtz-Eakin. Mr. Thomas is a former Republican congressman from California. Mr. Hennessey served as director of the White House National Economic Council in 2008. Mr. Holtz-Eakin is a former director of the Congressional Budget Office.
Here are some key passages from their Journal editorial synopsizing their report,
"Today, six members of the Financial Crisis Inquiry Commission—created by the last Congress to investigate the causes of the financial crisis—are releasing their final report. Although the three of us served on the commission, we were unable to support the majority's conclusions and have issued a dissenting statement.
In a November 2009 article, Brookings Institution economists Martin Baily and Douglas Elliott describe the three common narratives about the financial crisis. The first argues that the primary cause was government intervention in the housing market. This intervention, principally through Fannie Mae and Freddie Mac, inflated a housing bubble that triggered the crisis. This is the view expressed by one of our co-commissioners in a separate dissent.
The second narrative blames Wall Street and its influence in Washington. According to this narrative, greedy bankers knowingly manipulated the financial system and politicians in Washington to take advantage of homeowners and mortgage investors alike, intentionally jeopardizing the financial system while enjoying huge personal gains. That's the view of the six majority commissioners.
We subscribe to a third narrative—a messier story that emphasizes both global economic forces and failures in U.S. policy and supervision. Though our explanation of the crisis doesn't fit conveniently into the political order of Washington, we believe that it is far superior to the other two.
We recognize that the other two narratives have popular appeal: They each blame a clear entity, and thus outline a clear set of reform proposals. Had the government not supported housing subsidies (the first narrative) or had policy makers implemented more restrictive financial regulations (the second) there would have been no calamity.
Both of these views are incomplete and misleading. The existence of housing bubbles in a number of large countries, each with vastly different systems of housing finance, severely undercuts the thesis that the housing bubble was a phenomenon driven solely by the U.S. government. Likewise, the multitude of financial-firm failures, spanning varied organizational forms and differing regulatory regimes across the U.S. and Europe, makes it implausible that the crisis was the product of a small coterie of Wall Street bankers and their Washington bedfellows.
We believe the crisis was the product of 10 factors. Only when taken together can they offer a sufficient explanation of what happened:
Starting in the late 1990s, there was a broad credit bubble in the U.S. and Europe and a sustained housing bubble in the U.S. (factors 1 and 2). Excess liquidity, combined with rising house prices and an ineffectively regulated primary mortgage market, led to an increase in nontraditional mortgages (factor 3) that were in some cases deceptive, in many cases confusing, and often beyond borrowers' ability to pay.
Losses from the housing downturn were concentrated in highly leveraged financial institutions. Which raises the essential question: Why were these firms so exposed?
Failures in credit-rating and securitization transformed bad mortgages into toxic financial assets (factor 4). Securitizers lowered the credit quality of the mortgages they securitized, credit-rating agencies erroneously rated these securities as safe investments, and buyers failed to look behind the ratings and do their own due diligence. Managers of many large and midsize financial institutions amassed enormous concentrations of highly correlated housing risk (factor 5), and they amplified this risk by holding too little capital relative to the risks and funded these exposures with short-term debt (factor 6). They assumed such funds would always be available. Both turned out to be bad bets.
These risks within highly leveraged, short-funded financial firms with concentrated exposure to a collapsing asset class led to a cascade of firm failures. Some firms had large counterparty credit risk exposures, and the sudden and disorderly failure of one firm risked triggering losses elsewhere. We call this the risk of contagion (factor 7). In other cases, the problem was a common shock (factor 8). A number of firms had made similar bad bets on housing, and thus unconnected firms failed for the same reason and at roughly the same time.
A rapid succession of 10 firm failures, mergers and restructurings in September 2008 caused a financial shock and panic (factor 9). Confidence and trust in the financial system evaporated, as the health of almost every large and midsize financial institution in the U.S. and Europe was questioned. The financial shock and panic caused a severe contraction in the real economy (factor 10).
We agree with our colleagues that individuals across the financial sector pursued their self-interest first, sometimes to the detriment of borrowers, investors, taxpayers and even their own firms. We also agree that the mountain of government programs supporting the housing market produced distorted investment incentives, and that the government's implicit support of Fannie Mae and Freddie Mac was a ticking time bomb.
But it is dangerous to conclude that the crisis would have been avoided if only we had regulated everything a lot more, had fewer housing subsidies, and had more responsible bankers. Simple narratives like these ignore the global nature of this crisis, and promote a simplistic explanation of a complex problem. Though tempting politically, they will ultimately lead to mistaken policies."
The Journal's Holman Jenkins, Jr., a regular columnist, wrote his own piece commenting on the FCIC's various reports. He concurred with these three, and others, in decrying the commission's chairman's politically convenient tactic of simply blaming "Wall Street." But he also criticized Thomas, Hennessey and Holtz-Eakins for not concluding a simple, actionable source of the crisis.
To me, this minority explanation most closely approximates what is probably the truth. It addresses elements of the crisis that other explanations do not, i.e., its global nature, the different types of firms which failed, and the related, but not identical sources of mortgage-lending-sourced and -related factors which spread throughout the global financial system.
I think these authors stretched to arrive at the memorable round number of 10 factors. But, given a choice between competing explanations, I'd go for this one over all the others I've read.
Which leads to a conclusion I've expressed in prior posts on this topic. There were plenty of regulations and regulators already in existence to observe and act upon dangerous behaviors by various sector players. So rewriting regulations, adding more, or reshuffling regulators, won't likely change anything.
Moreover, consumer borrowers, investors, and various financial entities all behaved in ways which exacerbated the crisis, because that's human nature. Borrowers took sweet mortgage deals they couldn't likely afford under most scenarios. Lenders bet that they could pass their mortgage trash to investors before the stuff imploded. Too much greed and belief that creating and circulating mortgage-related assets of questionable value would not result in a systemic disaster.
In an earlier post, I likened it to too many people dumping toxic waste into a common sewer that drained into a drinking water supply. Like actually occurred in London before its modern sewer system, this will cause contagious diseases to spread.
So long as people are allowed to generate and circulate toxic waste with no regard for the systemic consequences, we'll see more of these crises in the future. If you don't believe regulators can effectively stop another crisis, then you should monitor the financial system for simple signs of building asset bubbles and make sure your assets are not in those instruments. Protection from broader equity market consequences and the progression of the shock to the real economy are more difficult effects from which to insulate or isolate oneself.
That appears to be an undiversifiable risk of modern financial systems and economies.
Only a week ago, I wrote this post regarding AutoNation's CEO Mike Jackson's shameless, disingenuous cheerleading for auto stocks on CNBC. In the interests of equal time and treatment, I guess I must also discuss my one-time squash partner and friend, Pulitzer Prize-winning writer Paul Ingrassia's recent Wall Street Journal editorial entitled The Great Auto Restructuring Shows Signs of Success.
Rather than rewrite the prior post's highlights, let me quote from it,
"Thus, to hear Jackson's version of history, the only way America's automakers could be saved was by government rescue. And that was necessary to preserve jobs and technology.
Well, as I've written in several prior posts, a conventional Chapter 11 filing by GM and Chrysler would have provided both with the time and opportunity to reorganize, group healthy units together and refloat them independently, or sell them to bidders. Further, neither company had to cease operations to do this.
Why Jackson seems ignorant of this fact is beyond me. I guess he's either not creative or simply not well-versed in the very real and frequent occurrence of business death or dismemberment.
So, to hear Jackson sing the praises of GM and Ford and the coming high volume vehicle unit sales years is to listen to someone tell half of a story. Give any business free government help to an extreme and you'll get the same happy ending. Jackson failed to discuss government-mandated purchases of hybrids and other unholy consequences of the excessive intervention.
The chart above displays the lone US automaker with a continuous price history, Ford, and, for good measure, Jackson's Autonation, along with the S&P500 Index.
If you have a technical inclination, you might notice that both firms' recent rapid price gains don't have long term sustainable precedents. In Ford's case, it's pretty clearly just a function of the rebound from the nadir of the 2008-2009 market bottom. Of the three series, anemic as its last decade has been, the S&P is the least volatile, ending with a much better performance than either company.
Of perhaps more import is how both Ford and Autonation have current share prices below their 1990s-era tops. Autonation peaked a few years before Ford, but both had either a flattening or multi-year decline for most of the past 12+ years. Jackson became CEO of Autonation in 1999, so he owns most of that performance.
What Jackson chooses not to explain, or perhaps genuinely doesn't realize, is that automaking is, for the most part, an unattractive commodity business over the long term. He railed about how China is the real 'Government Motors,' but, if true, this simply proves my point. It's hardly the sort of industry in which you'd invest a billion dollar fortune, if you had one to invest.
When you consider where most of the so-called innovations in vehicles originate, it's typically with vendor-supplied assemblies or devices, e.g., anti-lock brakes, airbags, and, now, so famously touted by Ford's Mulally, all manner of wireless communications devices. Thus, most of the profit for the automakers would seem to be sourced in design, rather than manufacture. Otherwise, the smart, value-adding components are available from sector vendors to any assembler.
Doesn't sound very attractive as an investible sector to me. Rather, it sounds more like a case of advanced Schumpeterian dynamics, wherein the value-added growth has long since left the sector's auto assemblers. The entry of Korean and Chinese automakers, and near-exits of GM and Chrysler fits the description of an industry with low barriers to entry and exit."
Here's some of Paul's glowing prose regarding the alleged success and its meaning for broader American fortunes,
"The good times are beginning to roll again, far faster than anybody expected, at General Motors, Ford and even at the weakest of the Detroit Three, Chrysler. There might be a lesson here. If the Great Restructuring has the potential to resolve the seemingly intractable problems of Detroit, perhaps bold structural overhauls can produce similar results on some broader issues facing America. Sure, that's a lot to hope for—but consider what tough love has done in the Motor City.
In 2005, General Motors lost an astounding $10.6 billion—this in a year when Americans bought nearly 17 million cars and trucks, nearly an all-time record. Last year, industry-wide sales totaled 11.6 million vehicles, historically depressed by any standard, but GM posted net income of $4.8 billion through Sept. 30. The company hasn't reported full-year results for 2010, but earnings will easily top $5 billion.
At Ford, the only Detroit company that didn't go bankrupt, the financial turnaround has been even more dramatic. Ford lost $12.6 billion in 2006 but earned $6.4 billion in the first nine months of last year. It just announced it will hire 7,000 more employees. Chrysler, meanwhile, is operating at break-even, and its cash flow is positive.
The average vehicle on American roads today is 10.2 years old, says R.L. Polk Co., which collects such data. This compares to an average age of 9.4 years five years ago and 8.8 years a decade ago. The point: Cars and trucks are getting older and will have to be replaced.
GM now makes 28 vehicles per year for each employee, calculates Goldman Sachs auto analyst Parick Archambault. That's more than double the company's productivity during the 1990s, he notes, and fully four times as high as in the 1950s, Detroit's glory years. GM's hourly labor costs now amount to just 6% of its revenue in North America. That's down from nearly 30% a few years ago, when the company was paying tens of thousands of workers to sit idle, and paying the full freight for employee health care.
GM's gains, and similar ones at Ford and Chrysler, have occurred because of the Great Restructuring, much of which came at the insistence of President Barack Obama's automotive task force.
The car companies' unlimited health-care obligations to retired workers have been replaced by a trust, funded by company contributions that are capped at a fixed amount. Active workers now pay about 5% of their health-care costs, up from nothing a few years ago.
Of course, 5% is only about one-fifth of what the average American employee contributes out of wages to his own health-care plan. That's one sign Detroit's turnaround remains fragile, threatened by the companies' traditional tendency to confuse comeback with victory. But even in labor relations there's a whiff of fresh air.
When GM's new CEO, Dan Akerson, suggested this week that workers' wages should be tied to corporate performance, the new president of the UAW, Bob King, quickly said he's willing to discuss the idea.
The United States is facing trillion-dollar federal deficits that are patently unsustainable, and the broad debate in Washington is whether tax increases or spending cuts are the proper solution. But neither approach, nor a combination of the two, will work without restructuring the vast federal entitlement programs that are the national equivalent of Detroit's Jobs Bank.
Social Security can't and shouldn't be abolished like the Jobs Bank was. But it can and should be restructured—to encourage later retirements, for example—as part of a broad entitlements reform.
States are burdened with underfunded pension plans for public employees that have destroyed their fiscal probity. It's nutty to raise taxes to plug state budget deficits, as Illinois just did, without restructuring public-employee pensions that allow workers to retire in their fifties, in some cases, with 80% of their pre-retirement incomes. Restructuring public-pension plans into 401(k) programs will spur fierce union resistance, just as key elements of the Great Restructuring did in Detroit. There's no painless way out of this problem. But further delay will only increase the pain, as Detroit's disaster of 2009 proved.
We should learn from success. Tough-love restructuring can produce renewal. With political will, resolve can produce results."
First, let me suggest reading this post from last summer. In it, I discuss Paul's review of another journalist's book about the Detroit automakers. He admits to journalists cheerleading without giving full disclosure,
"Ingrassia's opening sentences say it all,
"Many of the journalists who covered the long decline of General Motors that led to last year's bankruptcy were, in their hearts, rooting for the company. Such reporters- I among them- would seize on the occasional piece of good news about GM to write something upbeat. It would be a journalistic coup, after all, to be the first writer to call the company's turnaround. In any case, no one who grew up during GM's heyday, in the 1950s and 1960s, wanted to see an American icon self-destruct."
Together, Ingrassia's inclusion of these passages tells us a lot about why we should simply not trust most beat reporting on US companies and industries.
Reporters are not sell-side analysts. And, for that matter, we know from the last decade's dot-com bubble that sell-side analysts are, in reality, marketers for the equities which their firms underwrite and in which they make a market.
You'd ordinarily think that a reporter was more objective than an analyst whose firm clearly has conflicts of interest.
Ingrassia's review tells you different. I am not sure Paul meant to open the media kimono quite so widely, but there it is."
Let me reiterate that I like Paul Ingrassia as a person, but, thanks to that review, I can't say that I completely trust his coverage of the auto sector in the public press anymore. His own words make that a reasonable stance.
Next, I won't question Paul's many numbers involving Ford's and GM's costs, volumes, profits, etc. I simply reiterate my contention that the basic entry/exit realities of the sector suggest it's very mature and suspect for investors.
Further, Paul makes quite clear that none of this was possible without egregious government intervention. Give your local dry cleaner or restaurateur the same help, and he will eventually show promise, too. But what about years later, when the free bailouts are finished and these businesses have to prosper on their own?
Don't you think that as soon as GM or Ford book large profits, the unions and government will come screaming at management nest-feathering? Sure, it sounds good that a union official "is willing to discuss" linking wages to profits. Try getting that into a contract. The existing health care cost-sharing remains a glaring inequity for UAW members versus the rest of America.
Now, I don't even agree, based upon my prior posts, including the linked one at the beginning of this post, that Ford and GM have accomplished legitimate, long term, sustainable turnarounds. But whatever improved performances have occurred would not have been so, in GM's case, without the bailout, unless the firm were put into Chapter 11 and allowed to exit the traditional way.
So I find it troubling that Ingrassia gets all googly-eyed about how what worked for Detroit could be a template for America to self-rescue on its federal entitlement programs.
Of course, as all pundits, Paul quickly disavows really scrapping Social Security or public pensions. Instead, he is in the camp of some sort of sensible discussions and negotiations with recipients to rationalize and temper the liabilities.
Well, Paul, there's a bit of a problem with that. First, GM's bailout only happened because the federal government basically printed the money for it. That has caused enough problems already. Some of the backlash by overseas investors was precisely because they watched their loans to the US government be funneled to the UAW.
However, there's nobody to bailout the US.
If anything is an object lesson in the administration's bailout of GM, it's to borrow the template used to illegally stiff legitimate senior creditors. If the US could do that to GM bondholders, why not use such tactics to cram reforms down the throats of Social Security and public pension recipients?
Works for me!
Other than that, there's nothing about the GM bailout that is really transferable to the larger public pension or federal entitlement spending mess. It's not just like a business problem. And that particular UAW benefits problem was 'solved' by our government printing and throwing money at it.
Despite Paul's best hopes, I just don't think that's going to work for the entitlements messes he believes will be resolved in that manner.
Autonation's CEO, Mike Jackson, a guest host on CNBC yesterday morning, spent his time flacking for the US auto sector.
It's exasperating to me to listen to Jackson recount a history that never was as he extols US automakers to the detriment of those overseas. What one has to remember is that Jackson, whose company is in the business of selling cars, is a ceaseless promoter of all things automotive.
Thus, to hear Jackson's version of history, the only way America's automakers could be saved was by government rescue. And that was necessary to preserve jobs and technology.
Well, as I've written in several prior posts, a conventional Chapter 11 filing by GM and Chrysler would have provided both with the time and opportunity to reorganize, group healthy units together and refloat them independently, or sell them to bidders. Further, neither company had to cease operations to do this.
Why Jackson seems ignorant of this fact is beyond me. I guess he's either not creative or simply not well-versed in the very real and frequent occurrence of business death or dismemberment.
So, to hear Jackson sing the praises of GM and Ford and the coming high volume vehicle unit sales years is to listen to someone tell half of a story. Give any business free government help to an extreme and you'll get the same happy ending. Jackson failed to discuss government-mandated purchases of hybrids and other unholy consequences of the excessive intervention.
The one- and only- thing which Jackson got right in this morning's auto fairy tale is that Alan Mulally rescued Ford by better leadership, focus and management, not wholesale reinvention- yet. Because it's way too soon, despite the views of many sector cheerleaders with agendas, to declare Ford a medium- to long-term shareholder winner.
The chart above displays the lone US automaker with a continuous price history, Ford, and, for good measure, Jackson's Autonation, along with the S&P500 Index.
If you have a technical inclination, you might notice that both firms' recent rapid price gains don't have long term sustainable precedents. In Ford's case, it's pretty clearly just a function of the rebound from the nadir of the 2008-2009 market bottom. Of the three series, anemic as its last decade has been, the S&P is the least volatile, ending with a much better performance than either company.
Of perhaps more import is how both Ford and Autonation have current share prices below their 1990s-era tops. Autonation peaked a few years before Ford, but both had either a flattening or multi-year decline for most of the past 12+ years. Jackson became CEO of Autonation in 1999, so he owns most of that performance.
What Jackson chooses not to explain, or perhaps genuinely doesn't realize, is that automaking is, for the most part, an unattractive commodity business over the long term. He railed about how China is the real 'Government Motors,' but, if true, this simply proves my point. It's hardly the sort of industry in which you'd invest a billion dollar fortune, if you had one to invest.
For what it's worth, you don't hear this analysis on CNBC during the day, either, when they prominently showcase all those analysts singing GM's praise. There wouldn't be any agenda there, either, would there? Say, for pieces of future underwriting?
Holman Jenkins, Jr., of the Wall Street Journal, has written many times how US auto manufacturing, especially of small cars, has been legislated onshore to appease unions, thus hurting profitability of the assemblers. When you consider where most of the so-called innovations in vehicles originate, it's typically with vendor-supplied assemblies or devices, e.g., anti-lock brakes, airbags, and, now, so famously touted by Ford's Mulally, all manner of wireless communications devices. Thus, most of the profit for the automakers would seem to be sourced in design, rather than manufacture. Otherwise, the smart, value-adding components are available from sector vendors to any assembler.
Doesn't sound very attractive as an investible sector to me. Rather, it sounds more like a case of advanced Schumpeterian dynamics, wherein the value-added growth has long since left the sector's auto assemblers. The entry of Korean and Chinese automakers, and near-exits of GM and Chrysler fits the description of an industry with low barriers to entry and exit.
Hardly your choicest sector for long term investing.
