I enjoy listening to classical music. The most convenient radio station for me is, sadly, WQXR, one owned by the parent of the People's Daily- The New York Times Corporation.
Thus, I awake to ultra-liberal radio news. This morning, it was the 'news' that a recent public opinion poll found Americans looking more darkly at the country's current situation, and blaming Ben Bernanke and the Fed for moving too slowly to cut interest rates.
This left me incredulous. Yesterday's post discussed the long, complex set of events that have led the US economy and financial markets to their current condition.
The varied and long-running consumer behaviors which led us to this point could hardly have been regulated, much less prevented, without stifling behavior more familiar in, say, the failed, discredited Soviet economy of old.
As I wrote here, in November, in response to a Henry Kaufman hand-wringing editorial in the Wall Street Journal, our financial system has endured many failures over the past decades, as innovation has delivered ever more convenience and value to consumers.
The current financial market troubles are fairly simple, not totally unexpected outcomes of greedy, supervised behaviors by firms themselves. That is, the regulators aren't the only parties who may have missed some of the behaviors.
Merrill Lynch, Citigroup, Morgan Stanley and Bear Stearns all possessed well-paid, intelligent, experienced and educated senior and middle managers. They knowingly took risks, and/or looked the other way at their own organizations' and employees' excesses.
This isn't just, or even, really, a failure of regulation.
Similarly, it's not a failure at the Fed, either.
As Neil Cavuto said the other night on Fox Business News, paraphrasing him,
'If we think we need this kind of Fed rate activity and Congressional stimulus when we're not in real economic trouble, decline or recession, what will we want if we really get into trouble?'
I think he's right. We're not in a dire economic recession. And, should we slip into one soon, it will likely be mild.
As I'm writing this, I hear Nancy Pelosi blathering about the stimulus package being patched together in Washington. It's probably a mistake, as Alan Reynolds noted recently in his Journal editorial.
Permanently lower tax rates and similar, lasting fiscal policies would have much more impact, now and longer term, than sprinkling a few hundred dollars each across lower-income voters.
It seems that our country, as investors and consumers, just whine a lot more, over less, than we used to. We're not even near the pain and difficulties of the mid-1970s. Remember wage and price controls, 'whip inflation now' buttons, and Jimmah's cardigan-clad fireside talks urging us to cut up our credit cards and turn down our thermostats?
We're not anywhere near that point now. Plus, we have much better tools- analytics, information, etc.- with which to assess the situation at the market, firm and governmental level.
If too much 'help' is doled out now, by Congress and the Fed, all we'll do is remove the moral hazard of excessively risky behavior on the part of financial firms, industrial companies, investors and consumers. That won't be a good thing.
To paraphrase the title of a movie in current release,
"There will be pain."
And there should be.
Thursday, January 24, 2008
Wednesday, January 23, 2008
Samuelson's Economic Insight
Are we in a recession? Are we truly experiencing two consecutive quarters of decline in real GDP?
Is fiscal action by the Federal government useful or even necessary?
What may have caused the softening growth that many now swear is a recession?
The more I reflect on what I learned about economics in college and graduate school, and since, the more I come back to one simple insight.
Paul Samuelson's 'accelerator-multiplier' theory.
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.
Plus, as noted by Alan Reynolds in his recent Wall Street Journal editorial, writing checks to one group of US citizens by the Federal Government simply means borrowing from someone else, in some way, and paying interest in the bargain. But nothing is really created. Either other spending is curtailed, or debt is assumed, crowding out someone else's potential spending, and making the stimulus really a function of differential marginal propensities to consume, to be technical.
Samuelson's genius seems to lie in his identification of a fundamental tendency of humans to view the lack of attainment of growth objectives to feel like a cutback in business. If this is what is happening, even as a result of the wealth effect of the many tens of billions of dollars of recent equity losses in US markets, it remains a phenomenon which is unlikely to be fully and successfully addressed by one-off fiscal spending by the Federal Treasury.
If any fiscal actions were to have longer-term consequences, they would seem to be the act of making soon-to-expire tax rate cuts permanent. And perhaps going further and lowering rates, permanently, once more.
Anything less would seem unlikely to provide a sufficient, long term change in demand to alleviate any potential recession. Instead, simple spending programs like that now contemplated by Congress might just feed inflation and aggravate the dollar's price.
Is fiscal action by the Federal government useful or even necessary?
What may have caused the softening growth that many now swear is a recession?
The more I reflect on what I learned about economics in college and graduate school, and since, the more I come back to one simple insight.
Paul Samuelson's 'accelerator-multiplier' theory.
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.
Plus, as noted by Alan Reynolds in his recent Wall Street Journal editorial, writing checks to one group of US citizens by the Federal Government simply means borrowing from someone else, in some way, and paying interest in the bargain. But nothing is really created. Either other spending is curtailed, or debt is assumed, crowding out someone else's potential spending, and making the stimulus really a function of differential marginal propensities to consume, to be technical.
Samuelson's genius seems to lie in his identification of a fundamental tendency of humans to view the lack of attainment of growth objectives to feel like a cutback in business. If this is what is happening, even as a result of the wealth effect of the many tens of billions of dollars of recent equity losses in US markets, it remains a phenomenon which is unlikely to be fully and successfully addressed by one-off fiscal spending by the Federal Treasury.
If any fiscal actions were to have longer-term consequences, they would seem to be the act of making soon-to-expire tax rate cuts permanent. And perhaps going further and lowering rates, permanently, once more.
Anything less would seem unlikely to provide a sufficient, long term change in demand to alleviate any potential recession. Instead, simple spending programs like that now contemplated by Congress might just feed inflation and aggravate the dollar's price.
More On Cramer, Santelli & Financial Markets Turmoil & Excesses
Yesterday's post involving Jim Cramer's attempts to bully and intimidate other CNBC on-air participants- notably Rick Santelli and Brian Wesbury- attracted what I believe to be a record number of readers. The number of visitors who simply Googled something like,
"rick santelli jim cramer cnbc"
was astonishing. And that my blog post ranked among the first results for that Google search. I'm still getting hits this morning, as I write this piece.
Even Jack Welch, this morning's CNBC SquawkBox guest host, took time to specifically and explicitly give Santelli an on-air 'well done' for shutting Cramer up.
Carlos whats-his-name seconded, safely, declaring that the incident was "good television."
But back to the main topic- the financial markets.
Somewhere yesterday afternoon or this morning on CNBC, a few very calm, sane, well-reasoned guests offered the following recap of the current situation, and the path to it. I've summarized their joint specific wording, but the thrust of my synopsis is faithful to their points and, for what it's worth, also reflect my own thinking:
"We have a free market economy and free financial markets. There's regulation, to be sure, but, mostly, participants are free to take risks and make money as they choose.
The past few years saw excesses involving, but probably not limited to:
-people buying houses that they could not, in the long run, actually afford
-financial institutions creating opaque structured financial instruments whose ultimate value and trading patterns were actually unknown and, thus, very risky
-some homebuilders (over) built in markets known to be overheating
Beginning last summer, this all came to a boil. As a result, private investors, large and institutional, and small and retail, lost money due to these financial excesses.
The smaller investors lost on housing and rising mortgage payments. The larger, institutional investors lost on opaque credit instruments which, in the event, turned out not to actually have continuous markets in which to trade them.
With this background, many institutional financial market participants and related pundits, such as Jim Cramer and Steve Liesman, both of CNBC, regularly began to excoriate Fed Chairman Ben Bernanke.
Two commentators noted that this is grossly unfair. How, they asked, can one man and the rest of the Fed be expected to correct, at a stroke, with just interest rate cuts, what an entire financial market and one economic sector took years to screw up?
Alan Reynolds, in his superb editorial in yesterday's Wall Street Journal, noted, similarly, that President Bush and Congress can't just wave a fiscal stimulus wand and prevent a recession, either. If it was that easy, we'd never suffer recessions.
No, we have recessions as the natural counter-cycle to financial market and/or economic excesses.
But we aren't in a recession yet. And we don't seem to actually be headed for one. It's just a financial market panic reaction to a slowing, but still growing, economy.
One commentator opined that what we have is
'A bunch of Wall Street investors whining because they aren't making money this week. Grow up!' "
This Fed-bashing, which even as I write this, is being continued by CNBC's on-airhead Mark Haines, misses the point. The Fed can't magically undo in weeks or months what a host of investors and economic players took years to do.
If you want that type of centralized financial and economic control, maybe you should climb in Professor Peabody's WayBack machine and return to the Soviet Union of 1965.
In our economy, you have to take the bad with the good. Someone else's excess can affect you. It's just part of the world of free economic and financial markets.
In fact, another reason that magical elixirs evade us is that there are so few genuine recessions and financial meltdowns.
In a falling market, everybody is working in unfamiliar territory. My partner noted that, while my long-oriented equity, and derived options strategy, work superbly 90% of the time, we really are in uncharted waters when my market allocation signal indicates the need to take short or put positions. There are just so few, recent, relevant market samples on which to do research and base strategies that bear market equity-related strategies are inherently riskier. There's less data and, thus, far more volatility in any particular approach to profiting, or limiting losses, during such inflection points and subsequent bear markets, followed, usually pretty soon, by the inevitable second inflection point on the way back up.
Guess what? It's the same for the Fed and most market participants.
If you carefully consider the origin of the Fed, and its most unique role, it has to be fighting inflation through the provision of stable monetary policy. It's not actually supposed to cure recessions.
Financial panics? Yes. Financial liquidity shortages? Yes.
In the final, summary analysis, here's what I think is going on now.
The past few years saw an excessive buildup of investment in housing-related sectors. Too many houses were built, too many people bought homes they couldn't really pay for, and too many financial services firms churned out structured, mortgage-based securities to fund them.
Aside from that, the other sectors of the US economy were firing on all cylinders, energy price increases due to legitimate global demand increases notwithstanding.
Eventually, beginning last summer, the financial house of cards built upon suspect mortgages began to collapse.
Private investors lost a lot of money. Perhaps something like 15% of the $1.5Trillion subprime mortgages outstanding could default. That's about $200Billion.
However, associated with these are many over the counter interest rate and credit swaps that now carry much counterparty risk.
When these risks and losses began to become apparent, large US commercial and investment banks wrote off nearly $100B in losses, prompting a corresponding loss in equity values in the sector, and then some.
Now, the credit market losses have hit the equity markets, resulting in trillions of dollars of US equity market losses in January, 2008, already.
Eventually, these levels of losses will affect consumer financial behavior in a more slowly-growing, but not recessionary, US economy.
In the meantime, a lot of less-skilled, mediocre institutional investors, analysts, pundits, traders, etc., are panicking. Thus, what would have been a softening economy with a loss of some credit instrument investments due to the mortgage sector mess, seems to have amplified into a near-term financial panic that assess the US economy as already in recession.
As my longtime friend and sometimes business partner, B, emailed me a few months ago,
'We're not in a recession yet. But if enough people keep saying we are, we will be soon.'
So true.
Even so, because the basic economic signals remain non-recessionary, most investors are likely to be surprised that, later in the year, the economy will appear to be healthier. And the equity market downdraft will seem to have been overdone.
It's likely that the particulars of how long the equity markets turmoil and bear market will last, as well as how long the economy will remain soft, have to do with the degree to which the recent events become central determinants of longer term consumer behavior. And right now, nobody knows how that will develop.
"rick santelli jim cramer cnbc"
was astonishing. And that my blog post ranked among the first results for that Google search. I'm still getting hits this morning, as I write this piece.
Even Jack Welch, this morning's CNBC SquawkBox guest host, took time to specifically and explicitly give Santelli an on-air 'well done' for shutting Cramer up.
Carlos whats-his-name seconded, safely, declaring that the incident was "good television."
But back to the main topic- the financial markets.
Somewhere yesterday afternoon or this morning on CNBC, a few very calm, sane, well-reasoned guests offered the following recap of the current situation, and the path to it. I've summarized their joint specific wording, but the thrust of my synopsis is faithful to their points and, for what it's worth, also reflect my own thinking:
"We have a free market economy and free financial markets. There's regulation, to be sure, but, mostly, participants are free to take risks and make money as they choose.
The past few years saw excesses involving, but probably not limited to:
-people buying houses that they could not, in the long run, actually afford
-financial institutions creating opaque structured financial instruments whose ultimate value and trading patterns were actually unknown and, thus, very risky
-some homebuilders (over) built in markets known to be overheating
Beginning last summer, this all came to a boil. As a result, private investors, large and institutional, and small and retail, lost money due to these financial excesses.
The smaller investors lost on housing and rising mortgage payments. The larger, institutional investors lost on opaque credit instruments which, in the event, turned out not to actually have continuous markets in which to trade them.
With this background, many institutional financial market participants and related pundits, such as Jim Cramer and Steve Liesman, both of CNBC, regularly began to excoriate Fed Chairman Ben Bernanke.
Two commentators noted that this is grossly unfair. How, they asked, can one man and the rest of the Fed be expected to correct, at a stroke, with just interest rate cuts, what an entire financial market and one economic sector took years to screw up?
Alan Reynolds, in his superb editorial in yesterday's Wall Street Journal, noted, similarly, that President Bush and Congress can't just wave a fiscal stimulus wand and prevent a recession, either. If it was that easy, we'd never suffer recessions.
No, we have recessions as the natural counter-cycle to financial market and/or economic excesses.
But we aren't in a recession yet. And we don't seem to actually be headed for one. It's just a financial market panic reaction to a slowing, but still growing, economy.
One commentator opined that what we have is
'A bunch of Wall Street investors whining because they aren't making money this week. Grow up!' "
This Fed-bashing, which even as I write this, is being continued by CNBC's on-airhead Mark Haines, misses the point. The Fed can't magically undo in weeks or months what a host of investors and economic players took years to do.
If you want that type of centralized financial and economic control, maybe you should climb in Professor Peabody's WayBack machine and return to the Soviet Union of 1965.
In our economy, you have to take the bad with the good. Someone else's excess can affect you. It's just part of the world of free economic and financial markets.
In fact, another reason that magical elixirs evade us is that there are so few genuine recessions and financial meltdowns.
In a falling market, everybody is working in unfamiliar territory. My partner noted that, while my long-oriented equity, and derived options strategy, work superbly 90% of the time, we really are in uncharted waters when my market allocation signal indicates the need to take short or put positions. There are just so few, recent, relevant market samples on which to do research and base strategies that bear market equity-related strategies are inherently riskier. There's less data and, thus, far more volatility in any particular approach to profiting, or limiting losses, during such inflection points and subsequent bear markets, followed, usually pretty soon, by the inevitable second inflection point on the way back up.
Guess what? It's the same for the Fed and most market participants.
If you carefully consider the origin of the Fed, and its most unique role, it has to be fighting inflation through the provision of stable monetary policy. It's not actually supposed to cure recessions.
Financial panics? Yes. Financial liquidity shortages? Yes.
In the final, summary analysis, here's what I think is going on now.
The past few years saw an excessive buildup of investment in housing-related sectors. Too many houses were built, too many people bought homes they couldn't really pay for, and too many financial services firms churned out structured, mortgage-based securities to fund them.
Aside from that, the other sectors of the US economy were firing on all cylinders, energy price increases due to legitimate global demand increases notwithstanding.
Eventually, beginning last summer, the financial house of cards built upon suspect mortgages began to collapse.
Private investors lost a lot of money. Perhaps something like 15% of the $1.5Trillion subprime mortgages outstanding could default. That's about $200Billion.
However, associated with these are many over the counter interest rate and credit swaps that now carry much counterparty risk.
When these risks and losses began to become apparent, large US commercial and investment banks wrote off nearly $100B in losses, prompting a corresponding loss in equity values in the sector, and then some.
Now, the credit market losses have hit the equity markets, resulting in trillions of dollars of US equity market losses in January, 2008, already.
Eventually, these levels of losses will affect consumer financial behavior in a more slowly-growing, but not recessionary, US economy.
In the meantime, a lot of less-skilled, mediocre institutional investors, analysts, pundits, traders, etc., are panicking. Thus, what would have been a softening economy with a loss of some credit instrument investments due to the mortgage sector mess, seems to have amplified into a near-term financial panic that assess the US economy as already in recession.
As my longtime friend and sometimes business partner, B, emailed me a few months ago,
'We're not in a recession yet. But if enough people keep saying we are, we will be soon.'
So true.
Even so, because the basic economic signals remain non-recessionary, most investors are likely to be surprised that, later in the year, the economy will appear to be healthier. And the equity market downdraft will seem to have been overdone.
It's likely that the particulars of how long the equity markets turmoil and bear market will last, as well as how long the economy will remain soft, have to do with the degree to which the recent events become central determinants of longer term consumer behavior. And right now, nobody knows how that will develop.
Tuesday, January 22, 2008
On The Recent Equity Markets Turmoil
Today's Fed rate cut of 3/4 of a point indicated that the Governors believe they need to reassure financial markets that the end of the world is not nigh.
More specifically, due to the US markets being closed yesterday for a holiday, other equity markets around the globe delivered a sell-off overhang of at least 7%, waiting to hit the US financial markets at the open.
Now, if you were listening to/watching Jim Cramer on CNBC this morning, you'd think the Fed board is addled, asleep, and full of idiots. He was all bugged-eyed and self-righteous about having called this market drop way in advance.
Cramer alleged that it was impossible to understand the Fed's actions, or anticipate them. He expressed a lack of awareness of what triggered this morning's surprise rate cut.
But this is so simple.
First, the Fed doesn't exist to satisfy the raving maniac Cramer's desires for easy money and money manager bailouts.
Second, Bernanke has always said that evolving data will inform and influence his Fed's actions.
Third, Monday's global equities markets sell off constituted new, important information about investor sentiments that had gotten way ahead of economic realities. Thus, the Fed eased in order to avoid what anyone who remotely watches financial markets knew would be a crushing open in New York this morning.
Now, CNBC is chiefly a business entertainment network. That's why they had Jim Cramer hanging around on camera almost all this morning, posturing, bulging his eyes out and screaming.
But they also had three adults on the morning programs, too.
Rick Santelli directly took on Cramer regarding the latter's own market calls. Santelli reiterated his enduring, consistent view that the financial markets will behave according to their own animal spirits. The Fed can cut, and that's fine, but it doesn't mean the markets will magically believe that fixed income losses, and consequent equity damage at financial institutions, are at an end.
Santelli rebuked Cramer for having been giving bullish advice all summer and fall, to which Cramer screamed back,
"Have you watched my show?"
Santelli smirked, dismissively waved his hand and turned sideways, pointedly facing away from the camera. Cramer fell silent.
Santelli is right. Cramer's "Mad Money" show begins with a disclaimer absolving CNBC and anyone else except, well, Jim Cramer, from blame for following his financial advice. On the rare occasions I've been in a room with Cramer screaming from the television, I recall that he explicitly conditions his advice as being for viewers' own "mad money," i.e., spare money they can lose without serious financial injury.
Thus, Cramer plays a disingenuous little game. If he happens to get a short-term call right, he trumpets his great wisdom. If not, he reminds you that you were supposed to: do your own homework; only use spare funds not really intended to be saved, and; bought and sold according to some unspoken timing approach to which Cramer vaguely refers, but never clearly describes or defines.
Santelli knows this, and effectively called Cramer on it, chiding him for wailing about the Fed and fixed income markets in August and the fall, while simultaneously issuing 'buy' recommendations to his viewers.
Then we come to the second adult who made an appearance on CNBC this morning- Brian Wesbury.
As I have written several times, found under the label 'Brian Wesbury,' the noted economist has consistently forecast a 'not recession' for the US economy this year. Wesbury has warned of slowing growth, but not a recession. His observations of jobs, payroll numbers, and the Fed's easing, all combined to cause Wesbury to caution against betting on a recession.
This morning, while being grilled by CNBC co-anchors, and Cramer, Wesbury reiterated his stand. Cramer began to bully Wesbury, insisting that the latter 'admit he was wrong,' like Cramer alleged that he, too, admits when he 'get's it wrong.'
Wesbury pushed back- hard. He returned several times to his contention that recessions come from tight money periods, and we aren't in one. The Fed has eased plenty since the summer. Some will complain about the pace or extent, but it has not been tightening.
Wesbury noted that this alone pretty much dispels worries of recession. And he directly faced off against Cramer and retorted that he, Wesbury, has not changed his forecast that there will not be a recession in the current economic situation.
Rather, Wesbury admitted that he did not forecast a sudden equities market downdraft- but that this is not what he does for a living. He's an economist, not an equities market strategist.
Cramer was, once again, cowed by the target of his on-air bullying, and fell silent.
Finally, we come to the third adult on CNBC this morning- the venerable, solid, calm, unflappable John Bogle, once chairman of Vanguard.
Bogle behaved like he came right out of central casting to play the role of the wizened, esteemed and veteran market strategist. He warned investors/viewers not to do anything rash. That this was the time to, if anything, buy using dollar-cost-averaging approaches. He admitted that it sure is hard to 'do nothing' on a day like today. But that this is precisely what one must do.
I'm sure I'll be returning to this topic in the days and weeks ahead. This is assuredly a significant time in equities market investing. The strength and speed of this new year's market drop is truly stunning.
I've been discussing it with various friends with as much, or, in many cases, more experience than I have. And I was present, physically, on the steps of New York's Federal Hall on the day of the 1987 crash.
One thing on which my esteemed, experienced colleagues all agree, with me, is that this market event is different than others, including 2001. The concentration of assets in large hedge funds and other money management shops, with high-speed, computerized, instantaneous trading capabilities, seems to have compressed what might have been weeks worth of decline into only days.
Further, the surrounding informational environment has changed in the past seven years, as well. The availability of instantaneous, free and plentiful information online adds to the time compression of investor reactions to business news and opinion.
As I suggested to my business partner this weekend, as we discussed the situation, and our plans for the next few weeks, there are three different informational streams moving in parallel:
1. The real economy and information related thereto.
2. Investors' perceptions of the real economy and the evolving financial market situation.
3. Equity markets behavior as a function of investors' perceptions of the real economy and the markets' own behavior.
Right now, it seems that the preponderance of investors, institutional in nature, are focusing on numbers 2 and 3, rather than 1.
It's also noteworthy to recall, as I've written in some prior posts, that most institutional money is managed by mediocre investors. The broad middle of the equity markets is pushed, pulled and herded by pundits, brokers, analysts, etc.
The key to outperforming the broad equity market indices, such as the S&P500, is to be 'wrong' in the near term, but 'right' in the longer term. Specifically, the broad, mediocre middle of the investment community has to value our selections poorly at first, and, then, subsequently come around to our view, to drive the value of our portfolio holdings higher than the market.
Right now, at an inflection point, there's always the question of timing and allocation. Does one go short? Or merely not be long? For how long?
The speed of the recent equity market decline has probably caught many investors by surprise. But longer term fundamentals do not appear to be so bad. It's the near-term panic among less-skilled investors that is causing the incredible near-term volatility.
More specifically, due to the US markets being closed yesterday for a holiday, other equity markets around the globe delivered a sell-off overhang of at least 7%, waiting to hit the US financial markets at the open.
Now, if you were listening to/watching Jim Cramer on CNBC this morning, you'd think the Fed board is addled, asleep, and full of idiots. He was all bugged-eyed and self-righteous about having called this market drop way in advance.
Cramer alleged that it was impossible to understand the Fed's actions, or anticipate them. He expressed a lack of awareness of what triggered this morning's surprise rate cut.
But this is so simple.
First, the Fed doesn't exist to satisfy the raving maniac Cramer's desires for easy money and money manager bailouts.
Second, Bernanke has always said that evolving data will inform and influence his Fed's actions.
Third, Monday's global equities markets sell off constituted new, important information about investor sentiments that had gotten way ahead of economic realities. Thus, the Fed eased in order to avoid what anyone who remotely watches financial markets knew would be a crushing open in New York this morning.
Now, CNBC is chiefly a business entertainment network. That's why they had Jim Cramer hanging around on camera almost all this morning, posturing, bulging his eyes out and screaming.
But they also had three adults on the morning programs, too.
Rick Santelli directly took on Cramer regarding the latter's own market calls. Santelli reiterated his enduring, consistent view that the financial markets will behave according to their own animal spirits. The Fed can cut, and that's fine, but it doesn't mean the markets will magically believe that fixed income losses, and consequent equity damage at financial institutions, are at an end.
Santelli rebuked Cramer for having been giving bullish advice all summer and fall, to which Cramer screamed back,
"Have you watched my show?"
Santelli smirked, dismissively waved his hand and turned sideways, pointedly facing away from the camera. Cramer fell silent.
Santelli is right. Cramer's "Mad Money" show begins with a disclaimer absolving CNBC and anyone else except, well, Jim Cramer, from blame for following his financial advice. On the rare occasions I've been in a room with Cramer screaming from the television, I recall that he explicitly conditions his advice as being for viewers' own "mad money," i.e., spare money they can lose without serious financial injury.
Thus, Cramer plays a disingenuous little game. If he happens to get a short-term call right, he trumpets his great wisdom. If not, he reminds you that you were supposed to: do your own homework; only use spare funds not really intended to be saved, and; bought and sold according to some unspoken timing approach to which Cramer vaguely refers, but never clearly describes or defines.
Santelli knows this, and effectively called Cramer on it, chiding him for wailing about the Fed and fixed income markets in August and the fall, while simultaneously issuing 'buy' recommendations to his viewers.
Then we come to the second adult who made an appearance on CNBC this morning- Brian Wesbury.
As I have written several times, found under the label 'Brian Wesbury,' the noted economist has consistently forecast a 'not recession' for the US economy this year. Wesbury has warned of slowing growth, but not a recession. His observations of jobs, payroll numbers, and the Fed's easing, all combined to cause Wesbury to caution against betting on a recession.
This morning, while being grilled by CNBC co-anchors, and Cramer, Wesbury reiterated his stand. Cramer began to bully Wesbury, insisting that the latter 'admit he was wrong,' like Cramer alleged that he, too, admits when he 'get's it wrong.'
Wesbury pushed back- hard. He returned several times to his contention that recessions come from tight money periods, and we aren't in one. The Fed has eased plenty since the summer. Some will complain about the pace or extent, but it has not been tightening.
Wesbury noted that this alone pretty much dispels worries of recession. And he directly faced off against Cramer and retorted that he, Wesbury, has not changed his forecast that there will not be a recession in the current economic situation.
Rather, Wesbury admitted that he did not forecast a sudden equities market downdraft- but that this is not what he does for a living. He's an economist, not an equities market strategist.
Cramer was, once again, cowed by the target of his on-air bullying, and fell silent.
Finally, we come to the third adult on CNBC this morning- the venerable, solid, calm, unflappable John Bogle, once chairman of Vanguard.
Bogle behaved like he came right out of central casting to play the role of the wizened, esteemed and veteran market strategist. He warned investors/viewers not to do anything rash. That this was the time to, if anything, buy using dollar-cost-averaging approaches. He admitted that it sure is hard to 'do nothing' on a day like today. But that this is precisely what one must do.
I'm sure I'll be returning to this topic in the days and weeks ahead. This is assuredly a significant time in equities market investing. The strength and speed of this new year's market drop is truly stunning.
I've been discussing it with various friends with as much, or, in many cases, more experience than I have. And I was present, physically, on the steps of New York's Federal Hall on the day of the 1987 crash.
One thing on which my esteemed, experienced colleagues all agree, with me, is that this market event is different than others, including 2001. The concentration of assets in large hedge funds and other money management shops, with high-speed, computerized, instantaneous trading capabilities, seems to have compressed what might have been weeks worth of decline into only days.
Further, the surrounding informational environment has changed in the past seven years, as well. The availability of instantaneous, free and plentiful information online adds to the time compression of investor reactions to business news and opinion.
As I suggested to my business partner this weekend, as we discussed the situation, and our plans for the next few weeks, there are three different informational streams moving in parallel:
1. The real economy and information related thereto.
2. Investors' perceptions of the real economy and the evolving financial market situation.
3. Equity markets behavior as a function of investors' perceptions of the real economy and the markets' own behavior.
Right now, it seems that the preponderance of investors, institutional in nature, are focusing on numbers 2 and 3, rather than 1.
It's also noteworthy to recall, as I've written in some prior posts, that most institutional money is managed by mediocre investors. The broad middle of the equity markets is pushed, pulled and herded by pundits, brokers, analysts, etc.
The key to outperforming the broad equity market indices, such as the S&P500, is to be 'wrong' in the near term, but 'right' in the longer term. Specifically, the broad, mediocre middle of the investment community has to value our selections poorly at first, and, then, subsequently come around to our view, to drive the value of our portfolio holdings higher than the market.
Right now, at an inflection point, there's always the question of timing and allocation. Does one go short? Or merely not be long? For how long?
The speed of the recent equity market decline has probably caught many investors by surprise. But longer term fundamentals do not appear to be so bad. It's the near-term panic among less-skilled investors that is causing the incredible near-term volatility.
Monday, January 21, 2008
Sears (All) Shook Up
Following my recent post on Sears and its effective controlling shareholder, Ed Lampert's dismal track record with the retailer, the Wall Street Journal published another piece on the firm's shakeup in this past Saturday/Sunday's edition.
This time, Lampert and his team plan to prepare for a financial slicing and dicing approach, as evidenced by these passages from the Journal article,
"In a fresh effort to halt a long decline, Sears Holdings Corp. Chairman Edward S. Lampert plans to reorganize the 121-year-old retailer into several businesses with broad authority to shape their own future.
Mr. Lampert, a hedge-fund executive who acquired the retailer in 2005 through a merger with Kmart Corp., now sees a holding-company structure as the best way to breathe new life into Sears's slow-moving culture, said people familiar with the situation.
....Sears, with $50 billion in annual revenue, warned that its fiscal fourth-quarter profit would fall as much as 57% below the year-earlier level. Sears shares have lost half their value over the past year despite new marketing and advertising moves at Sears and Kmart.
The contemplated restructuring would create separate units to manage Sears's real-estate holdings and run brands such as Kenmore, Diehard and Craftsman. It isn't clear how the units would be divided or which unit would run the stores themselves.
The structure would allow Mr. Lampert to spin off or close business units more easily, said a person knowledgeable about his thinking. "He warmed to the idea of a spin-off strategy," this person said. "
This would seem to be a reversal of course for the retailer which joined with KMart, and also owns Land's End. Citing a retailing consultant, the article further noted,
"Walter Loeb, a retail consultant, said the plan flies in the face of most retailers' strategy of designing a cohesive image for their business. "He's looking to turn it around by using a different approach," said Mr. Loeb. "I think it's risky."
Sears's turnaround efforts have been hurt by a revolving door of senior executives at its Sears and Kmart retail units. John C. Walden, Sears's chief customer officer, who was hired away from Best Buy less than a year ago, resigned this week, a Sears spokesman confirmed. Mr. Walden couldn't be reached for comment."
The prior article had also noted a loss of recently-hired talent at the once-dominant retailer. With this new approach, Lampert seems to be throwing in the towel on operating a single retailer, and aiming, instead, to eventually sell off the more notable brands- Die Hard, Craftsman, Kenmore- while freeing up the real estate holdings in a single, more accessible unit.
Speaking of Lampert's desire to not be seen actually running Sears, the piece concluded,
"....He (Lampert) left Sears's Hoffman Estates, Ill., headquarters Wednesday, a day before the revamping was outlined by executive vice presidents Dev Mukherjee and Corwin Yulinsky.
Messrs. Mukherjee and Yulinsky described the plan to executives Thursday morning, saying it would allow the company to unlock the value of its real estate, proprietary brands, and online units by managing each as separate entities. The executive over Kenmore, for instance, could strike sales or licensing deals with other retailers, said a person who attended the meeting.
According to the Sears spokesman, each operating unit will have a "designated leader and an advisory group comprised of senior Sears Holdings executives to provide direction and oversee the business unit's performance." "
This passage evoked several reactions for me. First, the idea that an 'advisory group' is being provided to each business executive provides a sort of ready-made firing squad for Lampert. How many of the business unit heads are going to want this group of snitches in their operations rooms or executive suites?
If you run a business, and you have this 'advisory group' that is available to you, but is not actually accountable for decisions, how readily will most managers actually be to use this group? Wouldn't they tend to want their own, hand-picked advisers?
Second, I know one of the Sears EVPs. Long ago, in my last days at Chase Manhattan, I crossed paths with Corey Yulinsky. At the time, he was in flight from a staff job at the old, pre-Weill Citigroup. Let's just say that, as a member of the new Corporate Planning staff, Corey did not distinguish himself- neither in his grasp of the bank's businesses and situation, nor the reality of dealing with then-President and CEO Tom Labrecque.
The corporate planning staff which remained in the wake of my boss Gerry Weiss' retirement, of which Corey was reputedly a key member for the new SVP of Planning, was hardly capable, in the event, of helping guide Chase along a profitable, independent road.
From there, as I recall, Yulinsky wandered over to Mercer. I can't say that I know whether it was due to ineptitude at Chase, or part of a general flight before the Chemical takeover at the point of Michael Price's gun. Apparently some time after that, Yulinsky wound up as part of Lampert's new hires at Sears Holding.
Judging by Sears' performance since Lampert's takeover, as I mentioned in the prior post, it's doubtful that his team has been adding any substantive value. Now, evidently, Yulinky's and others' best new idea is to begin stripping the firm apart into actionable entities- brands, real estate, and separate businesses.
Can you imagine a (former) customer entering a Sears store, looking for Die Hard batteries, and being told that the store management no longer had anything to do with the availability or any other aspect of the Die Hard business? It had become an arm's length supplier?
Yeah, that's going to draw in plenty of new customers, Corey. And bring the few remaining ones running back again.
The Journal piece notes, near the end,
"The restructuring is an indication that Mr. Lampert won't be making big new investments in the business. The plan is for unit presidents to craft their own budgets and set spending priorities. With the U.S. economy heading downward into what some see as a recession, this year could be troublesome because Sears's cash cushion has declined."
I think this last passage tells you the real endgame for Lampert at Sears. He's lost enough money and time spent on this nightmare. Now, he's putting everyone into their own business lifeboat, and letting them sink or float on their wits. No more money, no more top-down direction. The strong will be kept or sold, the weak, merely scuttled.
You can already imagine the business and store closings, real estate sales, and gradual contraction of the retailer's presence. In time, the few strong brands may be spun off or just sold to other retailers.
What began for Lampert, and Sears' shareholders, as an alleged attempt by a hedge fund owner to save an ailing retailer, will probably end as just more financial maneuvering, Lampert's strong suit, to squeeze some last positive value out of this failed venture by an unqualified, wealthy financier and his less-than-capable team.
This time, Lampert and his team plan to prepare for a financial slicing and dicing approach, as evidenced by these passages from the Journal article,
"In a fresh effort to halt a long decline, Sears Holdings Corp. Chairman Edward S. Lampert plans to reorganize the 121-year-old retailer into several businesses with broad authority to shape their own future.
Mr. Lampert, a hedge-fund executive who acquired the retailer in 2005 through a merger with Kmart Corp., now sees a holding-company structure as the best way to breathe new life into Sears's slow-moving culture, said people familiar with the situation.
....Sears, with $50 billion in annual revenue, warned that its fiscal fourth-quarter profit would fall as much as 57% below the year-earlier level. Sears shares have lost half their value over the past year despite new marketing and advertising moves at Sears and Kmart.
The contemplated restructuring would create separate units to manage Sears's real-estate holdings and run brands such as Kenmore, Diehard and Craftsman. It isn't clear how the units would be divided or which unit would run the stores themselves.
The structure would allow Mr. Lampert to spin off or close business units more easily, said a person knowledgeable about his thinking. "He warmed to the idea of a spin-off strategy," this person said. "
This would seem to be a reversal of course for the retailer which joined with KMart, and also owns Land's End. Citing a retailing consultant, the article further noted,
"Walter Loeb, a retail consultant, said the plan flies in the face of most retailers' strategy of designing a cohesive image for their business. "He's looking to turn it around by using a different approach," said Mr. Loeb. "I think it's risky."
Sears's turnaround efforts have been hurt by a revolving door of senior executives at its Sears and Kmart retail units. John C. Walden, Sears's chief customer officer, who was hired away from Best Buy less than a year ago, resigned this week, a Sears spokesman confirmed. Mr. Walden couldn't be reached for comment."
The prior article had also noted a loss of recently-hired talent at the once-dominant retailer. With this new approach, Lampert seems to be throwing in the towel on operating a single retailer, and aiming, instead, to eventually sell off the more notable brands- Die Hard, Craftsman, Kenmore- while freeing up the real estate holdings in a single, more accessible unit.
Speaking of Lampert's desire to not be seen actually running Sears, the piece concluded,
"....He (Lampert) left Sears's Hoffman Estates, Ill., headquarters Wednesday, a day before the revamping was outlined by executive vice presidents Dev Mukherjee and Corwin Yulinsky.
Messrs. Mukherjee and Yulinsky described the plan to executives Thursday morning, saying it would allow the company to unlock the value of its real estate, proprietary brands, and online units by managing each as separate entities. The executive over Kenmore, for instance, could strike sales or licensing deals with other retailers, said a person who attended the meeting.
According to the Sears spokesman, each operating unit will have a "designated leader and an advisory group comprised of senior Sears Holdings executives to provide direction and oversee the business unit's performance." "
This passage evoked several reactions for me. First, the idea that an 'advisory group' is being provided to each business executive provides a sort of ready-made firing squad for Lampert. How many of the business unit heads are going to want this group of snitches in their operations rooms or executive suites?
If you run a business, and you have this 'advisory group' that is available to you, but is not actually accountable for decisions, how readily will most managers actually be to use this group? Wouldn't they tend to want their own, hand-picked advisers?
Second, I know one of the Sears EVPs. Long ago, in my last days at Chase Manhattan, I crossed paths with Corey Yulinsky. At the time, he was in flight from a staff job at the old, pre-Weill Citigroup. Let's just say that, as a member of the new Corporate Planning staff, Corey did not distinguish himself- neither in his grasp of the bank's businesses and situation, nor the reality of dealing with then-President and CEO Tom Labrecque.
The corporate planning staff which remained in the wake of my boss Gerry Weiss' retirement, of which Corey was reputedly a key member for the new SVP of Planning, was hardly capable, in the event, of helping guide Chase along a profitable, independent road.
From there, as I recall, Yulinsky wandered over to Mercer. I can't say that I know whether it was due to ineptitude at Chase, or part of a general flight before the Chemical takeover at the point of Michael Price's gun. Apparently some time after that, Yulinsky wound up as part of Lampert's new hires at Sears Holding.
Judging by Sears' performance since Lampert's takeover, as I mentioned in the prior post, it's doubtful that his team has been adding any substantive value. Now, evidently, Yulinky's and others' best new idea is to begin stripping the firm apart into actionable entities- brands, real estate, and separate businesses.
Can you imagine a (former) customer entering a Sears store, looking for Die Hard batteries, and being told that the store management no longer had anything to do with the availability or any other aspect of the Die Hard business? It had become an arm's length supplier?
Yeah, that's going to draw in plenty of new customers, Corey. And bring the few remaining ones running back again.
The Journal piece notes, near the end,
"The restructuring is an indication that Mr. Lampert won't be making big new investments in the business. The plan is for unit presidents to craft their own budgets and set spending priorities. With the U.S. economy heading downward into what some see as a recession, this year could be troublesome because Sears's cash cushion has declined."
I think this last passage tells you the real endgame for Lampert at Sears. He's lost enough money and time spent on this nightmare. Now, he's putting everyone into their own business lifeboat, and letting them sink or float on their wits. No more money, no more top-down direction. The strong will be kept or sold, the weak, merely scuttled.
You can already imagine the business and store closings, real estate sales, and gradual contraction of the retailer's presence. In time, the few strong brands may be spun off or just sold to other retailers.
What began for Lampert, and Sears' shareholders, as an alleged attempt by a hedge fund owner to save an ailing retailer, will probably end as just more financial maneuvering, Lampert's strong suit, to squeeze some last positive value out of this failed venture by an unqualified, wealthy financier and his less-than-capable team.
Friday, January 18, 2008
Citigroup, Merrill & Foreign Investors
It's a lot to ask of one person to make two brilliant, on-air comments in two consecutive days. But in my opinion, that's what Rick Santelli has delivered, yesterday and today.
His rejoinder to Jim Cramer on CNBC yesterday, described here, won my further respect for this straight-talking Chicago-born former futures trader and executive.
This morning, he actually topped yesterday's performance. And, in the process, publicly echoed my own beliefs about the foreign sovereign fund bailouts of Citigroup and Merrill Lynch.
The context was, as usual, CNBC's on-airhead 'senior economic report' Steve Liesman's remarks. He was prattling about the US financial system being saved by foreign capital, asking where were the well-capitalized US investors?
Santelli, without missing a beat, asked how the investments of those foreign sovereign funds in Merrill and Citigroup had fared so far? Liesman admitted they had not done well.
Santelli retorted with a simple, smirking,
"I rest my case."
In this recent post, I argued that, among the reasons for the Abu Dhabi investment in Citigroup, total return wasn't one of them. I was being charitable. I also wrote this, in which I was much less charitable.
A week or so ago, again, on CNBC, when someone asked Treasury Secretary Hank Paulson if sovereign fund investors were dumb to buy American financial services firms' equities, Paulson necessarily, astutely replied with something like,
"I would never say that anyone who invests capital in the US is dumb. We welcome foreign investment in our economy."
Well spoken, Hank. We do welcome investors.
That doesn't mean they are all smart.
Santelli continued this morning's remarks by noting that Warren Buffett seemed preoccupied with other matters, and wasn't rushing into positions in Citigroup or Merrill.
At this, Liesman muttered something about sovereign fund time horizons and different objectives.
However, most investors like to make consistently positive returns. 'Buy, hold, lose for a while, and hope to eventually make it back,' is usually a recipe for an investment manager who wants to get fired.
As I noted in this recent post, investment banking doesn't really seem all that attractive, as a sector. Neither does commercial banking, as I've written numerous times in recent months, such as here and here,
"Personally, I think these foreign investors are making a common mistake- buying damaged firms at the bottom, and hoping they will turn around. Were they to have a basket of such bets, that might be a good, risk-adjusted bet.
Somehow, though, I suspect that they are taking outsized, non-diversified bets that won't do as well, on a risk-adjusted basis, as alternatives such as US index funds or buying shares in Goldman or Lehman. Or, over the next few years, perhaps even Blackstone."
No, the dirtly little secret, to which Rick Santelli gave voice, is that these overseas investors have, in all probability, mistakenly bought into faded marquee names in American finance. Those names haven't been stellar, consistently superior performers very often, if ever, in the recent decade.
It would take the typically clueless Steve Liesman to ask why savvy hedge funds aren't buying into loss-making, crippled financial service has-beens like Citigroup and Merrill Lynch. Buying either one right now is a fairly concentrated turnaround bet. Maybe John Thain will do well with Merrill over time, but right now, an investor could probably do better elsewhere.
As a side note, Liesman also chose to debate veteran asset manager Mike Holland on an investing point this week on CNBC. I don't recall the exact issue, but Holland made a lot of sense, in the calm, thoughtful manner that is his hallmark. He's a long-experienced, successful money manager.
Liesman jumped on Holland's comment and said something like,
'I have to differ with you, Mike.'
It would have been funny, had it not simply been so pathetic. Liesman isn't even an economist, much less one of any note. He's a journeyman journalist cum TV 'economic reporter.'
Thank you, Rick Santelli, for a simple, direct observation on why you don't see American hedge funds rushing into shares of the two crippled US financial service leviathans.
His rejoinder to Jim Cramer on CNBC yesterday, described here, won my further respect for this straight-talking Chicago-born former futures trader and executive.
This morning, he actually topped yesterday's performance. And, in the process, publicly echoed my own beliefs about the foreign sovereign fund bailouts of Citigroup and Merrill Lynch.
The context was, as usual, CNBC's on-airhead 'senior economic report' Steve Liesman's remarks. He was prattling about the US financial system being saved by foreign capital, asking where were the well-capitalized US investors?
Santelli, without missing a beat, asked how the investments of those foreign sovereign funds in Merrill and Citigroup had fared so far? Liesman admitted they had not done well.
Santelli retorted with a simple, smirking,
"I rest my case."
In this recent post, I argued that, among the reasons for the Abu Dhabi investment in Citigroup, total return wasn't one of them. I was being charitable. I also wrote this, in which I was much less charitable.
A week or so ago, again, on CNBC, when someone asked Treasury Secretary Hank Paulson if sovereign fund investors were dumb to buy American financial services firms' equities, Paulson necessarily, astutely replied with something like,
"I would never say that anyone who invests capital in the US is dumb. We welcome foreign investment in our economy."
Well spoken, Hank. We do welcome investors.
That doesn't mean they are all smart.
Santelli continued this morning's remarks by noting that Warren Buffett seemed preoccupied with other matters, and wasn't rushing into positions in Citigroup or Merrill.
At this, Liesman muttered something about sovereign fund time horizons and different objectives.
However, most investors like to make consistently positive returns. 'Buy, hold, lose for a while, and hope to eventually make it back,' is usually a recipe for an investment manager who wants to get fired.
As I noted in this recent post, investment banking doesn't really seem all that attractive, as a sector. Neither does commercial banking, as I've written numerous times in recent months, such as here and here,
"Personally, I think these foreign investors are making a common mistake- buying damaged firms at the bottom, and hoping they will turn around. Were they to have a basket of such bets, that might be a good, risk-adjusted bet.
Somehow, though, I suspect that they are taking outsized, non-diversified bets that won't do as well, on a risk-adjusted basis, as alternatives such as US index funds or buying shares in Goldman or Lehman. Or, over the next few years, perhaps even Blackstone."
No, the dirtly little secret, to which Rick Santelli gave voice, is that these overseas investors have, in all probability, mistakenly bought into faded marquee names in American finance. Those names haven't been stellar, consistently superior performers very often, if ever, in the recent decade.
It would take the typically clueless Steve Liesman to ask why savvy hedge funds aren't buying into loss-making, crippled financial service has-beens like Citigroup and Merrill Lynch. Buying either one right now is a fairly concentrated turnaround bet. Maybe John Thain will do well with Merrill over time, but right now, an investor could probably do better elsewhere.
As a side note, Liesman also chose to debate veteran asset manager Mike Holland on an investing point this week on CNBC. I don't recall the exact issue, but Holland made a lot of sense, in the calm, thoughtful manner that is his hallmark. He's a long-experienced, successful money manager.
Liesman jumped on Holland's comment and said something like,
'I have to differ with you, Mike.'
It would have been funny, had it not simply been so pathetic. Liesman isn't even an economist, much less one of any note. He's a journeyman journalist cum TV 'economic reporter.'
Thank you, Rick Santelli, for a simple, direct observation on why you don't see American hedge funds rushing into shares of the two crippled US financial service leviathans.
Sears Struggles Under Ed Lampert
Tuesday's Wall Street Journal's Marketplace section featured an article on hedge fund maven and Sears Holdings owner Ed Lampert entitled "Why Sears Must Engineer Its Own Makeover."
It's a very revealing piece, in my opinion, in terms of being evidence in the perennial debate regarding 'corporate governance.' Specifically, it's been my belief that investors should only buy shares of firms whose performance they already find attractive. It makes little sense to buy something whose performance you don't like, betting that you can fix it, or persuade management to fix it.
While there may be occasional stories of investors who've done that, the simpler approach is that of private equity- simply buy the firm and totally refit and restructure it.
Ed Lampert's Sears-KMart play is the most visible example of the hybrid approach. Lampert took control of both firms, but left the combined firm publicly-held.
The results have been disastrous. According to the Journal article,
"With a potential recession on the horizon, retail experts say it is now clear Chairman Edward S. Lampert must engineer a radical makeover of the 121-year-old retailer to prove it can thrive alongside bigger rivals. To halt the sales and profit declines, the company's Sears and Kmart stores must forge new roles for themselves that will distinguish them in customers' eyes from competitors such as Kohl's Corp., J.C. Penney Co., Target Corp. and Wal-Mart Stores Inc.
"Sears and Kmart can't continue in the format they now do," said Love Goel, chairman of Minnesota retail investment group Growth Ventures Group and a former consultant to the retailer. "The time to fix strategy and execution issues has passed; it's an existential issue now," he said. A Sears spokesman said executives weren't available to comment."
Early on, Mr. Lampert stepped into a direct role in operations, overseeing marketing and strategy, and putting finance, until just recently, under his hedge-fund colleague at ESL Investments, William C. Crowley. Mr. Lampert has top Sears executives fly to Connecticut twice a month to brief him and his ESL colleagues. Messrs. Lampert and Crowley's direct involvement left Aylwin B. Lewis, the company's chief executive, to oversee store operations, focusing on revitalizing a store culture that seemed disillusioned and exhausted amid steady sales declines.
Executives have declined to elaborate on what those actions might be, but keeping Sears and Kmart as separate units will no longer work to carry a turnaround at either, says Growth Ventures' Mr. Goel. Kmart has lost too many customers to Target and Wal-Mart and would be better off converted to Sears's brand, he says. Craftsman tools, Kenmore appliances, and Diehard automotive lines have consumer trust and distinct identities that could make for standalone operations in a future revamping, he says.
Mr. Lampert also must make hard decisions to outsource or exit businesses, such as clothing and home goods, that have little hope of regaining customer favor. Kohl's, Penney's, Target and Wal-Mart distinguish themselves with better selection, a better shopping experience, or better prices.
The retailer's Kenmore brand has dominated the home-appliance market for years, but Sears's share of major U.S. appliance sales dropped. Only recently has Sears tried to stop the losses with a new marketing and services push. Sears blamed increased competition and a crashing housing market that has dogged home products sales for its fourth-quarter sales decline."
The portrait that the Journal piece paints is one of a successful trader who came to believe he could simply step into an operational role of a major retailer, too, and repair its shortcomings.
It hasn't turned out that way. In fact, it seems, according to the article, that Lampert's golden touch may be fading,
"Mr. Lampert and his ESL funds own nearly 48% of Sears shares, according to the most recent securities filings. The retailer's losses were a big reason ESL was down more than 20% last year. But Sears isn't his only big setback lately. ESL has almost 22% of its cash in shares of Autozone Inc., the auto-parts retailer that has dropped more than 13% in the past year, according to FactSet Research Systems Inc. He also invested more than 7% of ESL's portfolio in Citigroup Inc., raising the hedge fund's stake for the past year, even as Citigroup has lost 44% of its value."
Maybe Lampert has been distracted by Sears. Originally, wags touted his acquisition of KMart and Sears as a long-term play for the real estate beneath all the stores. But Lampert's actions have belied that.In any case, as the nearby two-year price chart for Sears Holdings and the S&P500 Index reveal, the latter has been on a downward slide since May of last year, following a see-sawing of the stock's price throughout the earlier part of the year.
Now, however, we see his troubles extend beyond just Sears. His Citigroup investment has to be among the worst decisions a fund manager could have made.
Perhaps what we are witnessing in Lampert's struggles at Sears Holding, and ESL Investments, is simply good, old-fashioned hubris.
Did Ed Lampert just become too wealthy to remember his own personal limits? Did he think that his own substantial personal wealth would buy him the time for any investment to eventually pay off? And, then, with a little help from the other shareowners, he could sit and bide his time while the turkeys he bought gradually became swans?
It's certainly turning out much differently.
Instead, Lampert's experience with Sears validates one of my long-held beliefs. Mono-line firms in today's world tend to outperform their diversified competitors. The former have only one shot at success, so the successful ones focus intently on winning in their product/market segments. The latter have other business challenges which sap their focus, time, energy and capital. They seem to behave as if they can sustain some setbacks, due to their diverse sources of income. Ultimately, it tends to spell doom for the diversified competitors.
The best examples of this which come to mind were the standalone credit card companies of the 1990s. The best of them handily outperformed their competing divisions of large banks. Eventually, BofA even bought MBNA.
Sadly, one can easily envision the end of Sears and, probably KMart, too, as retail brands, when the agonizing Lampert saga ends. Both chains have now languished under Lampert's hand for nearly three years. That may be too much time for the once-proud Sears to overcome in its quest to reacquire customers to its brands and stores.
Thursday, January 17, 2008
Jim Cramer, Donald Trump & CNBC
This morning brought another grandstanding, self-involved performance by Jim Cramer on CNBC's morning program, Squawkbox. If you needed to see more evidence of why CNBC is in the "business entertainment," rather than the "business news" business, this would have been it.
Cramer's appearance was directly connected with a purely entertainment topic- his inclusion in one of Donald Trump's "Apprentice" episodes. From a trailer I saw a few days ago, Kodak was involved, and I'll probably write about that later. Suffice to say, both Trump and Cramer extolled the firm's 'successful' move into digital photography.
I think that would be news to Kodak shareholders.
As a sort of benchmark on Cramer's, and Trump's, judgments, let's look at Kodak's trailing two-year price chart, compared with the S&P500.
It looks to me as if both "The Donald," and his new acolyte, Cramer, reside on another planet. Kodak has managed to lose some 20% of its value over the past two years, while the S&P rose just under 10%.
In
fact, if you look even longer term, as this chart does, you see that Kodak has never really regained its footing, in terms of shareholder returns, from the decades of the 1960s and 1970s.
After a mediocre tracking of the S&P throughout the 1990s, Kodak's share price has sunk as digital photography eviscerated the firm's business model. At best, from a long term perspective, you might charitably say that the worst bleeding has ended by 2001. But, since then, it's still drifted downward in a rising equity market.
So much for Cramer's- and Trump's- business judgments.
Now, back to this morning's performance by the Mad Money Maniac. For however long it lasts, here's the link to CNBC's video clip of this morning's rant. After viewing it myself, I see it begins after Cramer's comments about Bush and Bernanke.
Cramer took questions from the CNBC co-anchors and guest host, Greg Ip of the Wall Street Journal. Prominent among Cramer's jabs were, as expected, that Fed Chairman Ben Bernanke has performed abysmally, and that President Bush is equivalent to President Herbert Hoover. The latter comparison was obviously Cramer's way of announcing that he believes we are in economic straits similar to, and fully the equal of, the 1930s Great Depression. His cute way of doing this was to say,
"...President Hoover...uh....I mean Bush....."
Cramer catalogued the recent decimation of capital at Merrill Lynch and Citigroup, declaring that we were now turning to,
'communist countries and countries that fund terrorists'
to recapitalize our banks. He then announced that, but for these funding sources, the two large 'banks' would be, in fact, bankrupt. Along the way, he savaged, appropriately, Stan O'Neal, Sandy Weill and Chuck Prince. This would lead you to believe that Cramer blamed them for nearly wrecking Merrill and Citigroup.
He then decried the Fed's actions in 2007, implying that Merrill's and Citigroup's near-failures were the fault of Bernanke & Co.
Quite a flip-flop, n'est pas? It seems Cramer couldn't keep his views straight from minute to minute this morning.
When CNBC co-anchor Becky Quick asked Cramer about the moral hazard of bailing out the institutional investors, and their firms, who made unwise bets on CDOs and other, mortgage-related structured financial instruments, Cramer's faced showed a silly little grin and he said something like,
'I think you just have to do it.'
This, of course, is vintage Cramer. Going back to my post here, he has consistently railed against the Fed for not bailing out his friends who made injudicious financial bets on bad paper. There's a reason why people like Cramer aren't on the Federal Reserve system Board. They'd ladle out liquidity anytime their neighbor lost money on a business venture. It's essentially a modern version of William Jennings Bryant's "Cross of Gold" free silver coinage position.
Cramer then goes on to savage MBIA, AMBAC, and the whole idea of their insuring structured finance instruments. Most of Cramer's comments center on his own hallowed status as the 'only' person to be honest about this.
In fact, the seizing up of credit markets demonstrated that their backing didn't really matter. I won't claim to have predicted the failure of either insurance firm here, but I pointed out here that they had strayed very far from their original, sound business model. The fact that the equity values of the two firms have plummeted so far, so quickly, tells you that the market already knew, and knows, what Cramer claims to be alone, martyr-like, in stating this morning.
Next, Cramer does another rather stunning piece of waffling. He goes ballistic so fast that it's hard to keep his remarks straight, but I believe he begins his rant about the sales of structured finance instruments in response to Rick Santelli's reasonable retorts to Cramer's overall hand-wringing. More on that a little later in this post.
Cramer then begins by saying that, while at Goldman, he and his colleagues packaged junk paper and 'jammed' it on customers. He tells brief, clipped anecdotes of himself and his fellow Goldman workers laughing at how they dumped junk investments on Australian or German banks and other Goldman customers. It's actually quite reminiscent of Michael Lewis' similar stories in his excellent first book, Liar's Poker. As well as the now-infamous, long-ago 'jamming' of overpriced, needless derivatives by Bankers Trust salesmen onto companies such as Gibson Greeting Cards and P&G, which led to the bank's demise, Charlie Sanford's ouster, and its eventual sale to Deutsche Bank.
Cramer then does an about face and claims that he never 'jammed' anyone at Goldman, and that's why he didn't make more money there. That he 'had a conscience.' And that Goldman taught him and others not to 'jam' customers, because everyone else did, so the one firm that did not would win their loyalty.
This from a guy who admitted, years later, to manipulating information flows, while a hedge fund manager, including the Wall Street Journal and CNBC, in order to pump equity positions he had already taken, then dump them into the resulting follow-on buy orders.
Frankly, this little episode left me reeling in confusion. I think Cramer cut loose on the real stories, then realized what he'd admitted, and, in unfazed, continued manic fashion, attempted to retract the truth and claim that he and Goldman never actually did what he'd just said they did.
Rick Santelli brought sanity back in the final moments of Cramer's appearance by reminding him that adult institutional investors willingly bought structured financial instruments, thinking they were conning the sellers, as I noted here, and in prior related pieces on what I call the "double con."
In fact, going back a few days ago, Santelli noted that the futures traders in the Chicago pits were already indicating that more Fed action was moot. They were pricing in their expectations of a weakened, but still growing economy, through which companies would simply have to work, and no further rate cuts would really affect this. Santelli said as much again this morning, adding that all Cramer was asking was for bad investments by institutional professionals to be bailed out by the Fed.
I'm sure that having Cramer appear on CNBC's morning program increases its viewership, and probably stampedes many of them into a worried exit from the exit markets. But, viewed from a more dispassionate, broader perspective, Cramer, in my opinion, lacks credibility in his basic business judgments, and typically makes himself, and his own imagined ethics, the center of his manic performances. It's entertainment, pure and simple.
Thirty seconds of Rick Santelli in the same video space as Cramer, and you see the difference between business entertainment, and business news, information and analysis.
Cramer's appearance was directly connected with a purely entertainment topic- his inclusion in one of Donald Trump's "Apprentice" episodes. From a trailer I saw a few days ago, Kodak was involved, and I'll probably write about that later. Suffice to say, both Trump and Cramer extolled the firm's 'successful' move into digital photography.
I think that would be news to Kodak shareholders.
As a sort of benchmark on Cramer's, and Trump's, judgments, let's look at Kodak's trailing two-year price chart, compared with the S&P500.It looks to me as if both "The Donald," and his new acolyte, Cramer, reside on another planet. Kodak has managed to lose some 20% of its value over the past two years, while the S&P rose just under 10%.
In
fact, if you look even longer term, as this chart does, you see that Kodak has never really regained its footing, in terms of shareholder returns, from the decades of the 1960s and 1970s.After a mediocre tracking of the S&P throughout the 1990s, Kodak's share price has sunk as digital photography eviscerated the firm's business model. At best, from a long term perspective, you might charitably say that the worst bleeding has ended by 2001. But, since then, it's still drifted downward in a rising equity market.
So much for Cramer's- and Trump's- business judgments.
Now, back to this morning's performance by the Mad Money Maniac. For however long it lasts, here's the link to CNBC's video clip of this morning's rant. After viewing it myself, I see it begins after Cramer's comments about Bush and Bernanke.
Cramer took questions from the CNBC co-anchors and guest host, Greg Ip of the Wall Street Journal. Prominent among Cramer's jabs were, as expected, that Fed Chairman Ben Bernanke has performed abysmally, and that President Bush is equivalent to President Herbert Hoover. The latter comparison was obviously Cramer's way of announcing that he believes we are in economic straits similar to, and fully the equal of, the 1930s Great Depression. His cute way of doing this was to say,
"...President Hoover...uh....I mean Bush....."
Cramer catalogued the recent decimation of capital at Merrill Lynch and Citigroup, declaring that we were now turning to,
'communist countries and countries that fund terrorists'
to recapitalize our banks. He then announced that, but for these funding sources, the two large 'banks' would be, in fact, bankrupt. Along the way, he savaged, appropriately, Stan O'Neal, Sandy Weill and Chuck Prince. This would lead you to believe that Cramer blamed them for nearly wrecking Merrill and Citigroup.
He then decried the Fed's actions in 2007, implying that Merrill's and Citigroup's near-failures were the fault of Bernanke & Co.
Quite a flip-flop, n'est pas? It seems Cramer couldn't keep his views straight from minute to minute this morning.
When CNBC co-anchor Becky Quick asked Cramer about the moral hazard of bailing out the institutional investors, and their firms, who made unwise bets on CDOs and other, mortgage-related structured financial instruments, Cramer's faced showed a silly little grin and he said something like,
'I think you just have to do it.'
This, of course, is vintage Cramer. Going back to my post here, he has consistently railed against the Fed for not bailing out his friends who made injudicious financial bets on bad paper. There's a reason why people like Cramer aren't on the Federal Reserve system Board. They'd ladle out liquidity anytime their neighbor lost money on a business venture. It's essentially a modern version of William Jennings Bryant's "Cross of Gold" free silver coinage position.
Cramer then goes on to savage MBIA, AMBAC, and the whole idea of their insuring structured finance instruments. Most of Cramer's comments center on his own hallowed status as the 'only' person to be honest about this.
In fact, the seizing up of credit markets demonstrated that their backing didn't really matter. I won't claim to have predicted the failure of either insurance firm here, but I pointed out here that they had strayed very far from their original, sound business model. The fact that the equity values of the two firms have plummeted so far, so quickly, tells you that the market already knew, and knows, what Cramer claims to be alone, martyr-like, in stating this morning.
Next, Cramer does another rather stunning piece of waffling. He goes ballistic so fast that it's hard to keep his remarks straight, but I believe he begins his rant about the sales of structured finance instruments in response to Rick Santelli's reasonable retorts to Cramer's overall hand-wringing. More on that a little later in this post.
Cramer then begins by saying that, while at Goldman, he and his colleagues packaged junk paper and 'jammed' it on customers. He tells brief, clipped anecdotes of himself and his fellow Goldman workers laughing at how they dumped junk investments on Australian or German banks and other Goldman customers. It's actually quite reminiscent of Michael Lewis' similar stories in his excellent first book, Liar's Poker. As well as the now-infamous, long-ago 'jamming' of overpriced, needless derivatives by Bankers Trust salesmen onto companies such as Gibson Greeting Cards and P&G, which led to the bank's demise, Charlie Sanford's ouster, and its eventual sale to Deutsche Bank.
Cramer then does an about face and claims that he never 'jammed' anyone at Goldman, and that's why he didn't make more money there. That he 'had a conscience.' And that Goldman taught him and others not to 'jam' customers, because everyone else did, so the one firm that did not would win their loyalty.
This from a guy who admitted, years later, to manipulating information flows, while a hedge fund manager, including the Wall Street Journal and CNBC, in order to pump equity positions he had already taken, then dump them into the resulting follow-on buy orders.
Frankly, this little episode left me reeling in confusion. I think Cramer cut loose on the real stories, then realized what he'd admitted, and, in unfazed, continued manic fashion, attempted to retract the truth and claim that he and Goldman never actually did what he'd just said they did.
Rick Santelli brought sanity back in the final moments of Cramer's appearance by reminding him that adult institutional investors willingly bought structured financial instruments, thinking they were conning the sellers, as I noted here, and in prior related pieces on what I call the "double con."
In fact, going back a few days ago, Santelli noted that the futures traders in the Chicago pits were already indicating that more Fed action was moot. They were pricing in their expectations of a weakened, but still growing economy, through which companies would simply have to work, and no further rate cuts would really affect this. Santelli said as much again this morning, adding that all Cramer was asking was for bad investments by institutional professionals to be bailed out by the Fed.
I'm sure that having Cramer appear on CNBC's morning program increases its viewership, and probably stampedes many of them into a worried exit from the exit markets. But, viewed from a more dispassionate, broader perspective, Cramer, in my opinion, lacks credibility in his basic business judgments, and typically makes himself, and his own imagined ethics, the center of his manic performances. It's entertainment, pure and simple.
Thirty seconds of Rick Santelli in the same video space as Cramer, and you see the difference between business entertainment, and business news, information and analysis.
Wednesday, January 16, 2008
The Evolving Structure of Capital Markets: Hedge Funds As Newly-Public Investment Banks
There was a story in Monday's Wall Street Journal from the "Breakingviews.com" column concerning hedge fund managers going public via existing investment bank hookups, rather than via IPOs.
According to the column,
"Shares in Fortress Investment Group and Bear Stearns have fallen more than 50% since the days after Fortress's initial public offering last February. The two recently discussed whether they had more than that in common, according to the Financial Times. Although no deal transpired, the implication is that Fortress was looking to become more than just a hedge fund and private-equity manager. Like some other fund groups, it has intentions eventually to compete on Wall Street's turf.
Ambitious rival managers such as Citadel Investment Group might take note. Citadel is just one of several fund firms that were rumored to be on the brink of going public until the markets turned against them. Such firms might find inspiration in the abortive Fortress-Bear talks.
For alternative-asset managers that lack a stock-market currency, it is tougher to expand quickly. Yet Citadel, for one, has the ambition to take on Wall Street. It already has turned trading know-how into separate businesses, and its executives clearly relish creating an institution with a Goldman Sachs-like reputation. For Citadel or another privately held rival, a bigger deal with a publicly traded investment bank, perhaps modeled on the Fortress-Bear idea, could simultaneously help achieve strategic diversification and provide a traded stock."
My question is, why are these firms planning to take on existing publicly-held investment banking firms?
What's so special about the business of underwriting? Is the market for underwriting enjoying better margins, or substantial new growth? Last time I looked, it hasn't been a source of extraordinary profits for quite some time.
Trading doesn't require being publicly held, unless the firm wants to make a huge jump in assets committed to that business line. Judging by last year's results, most investment banks didn't do all that well for themselves. Two apparently superior risk management, Goldman Sachs and Lehman, come to mind.
But Paulson Capital, the alleged big winner in shorting the mortgage securities market, is a privately-held hedge fund. So successful asset management doesn't require going public, either.
Why would Fortress or Citadel want to become full-fledged, publicly-held companies in what seems to be a cutthroat business in which several existing players- Bear, Morgan Stanley and Merrill- are actually shrinking, due to sizable losses in 2007?
If anything, capital markets have become much more efficient in the last decade, leading the sector's competitors to risk more of their own capital in proprietary trading. It was the lack of growth and margins that caused Stan O'Neal, late of Merrill, to take so much risk in buying a mortgage originator and holding so much structured finance paper.
Why would a successful, profitable, privately-held hedge fund or private equity group want to expose themselves to public scrutiny?
I wrote a series about some of these issues when Blackstone went public, the last of which may be found here. My guess is that Citadel and Fortress are hoping that the current market turmoil will obscure investors from properly assessing the future value of the core of these firms' businesses.
Going public now, via marriage with an existing outfit, will let them, similarly to Blackstone's owners, collect cash for the presumed value of their business up front, and let new shareholders bear the brunt of any downward valuation corrections.
Between current competitiveness in the sector, recent losses by experienced players, and a lack of significant bases of differentiation and advantage as I wrote here recently, it's difficult for me to see how a newly-public hedge fund or private equity group will perform substantially better than the current crop of investment banks on Wall Street.
Is it simply a case of these firms' managements wanting a higher cash-out value from a publicly-traded stock for the same business? I think it is.
That, or simply a common case of good old-fashioned hubris. An attitude on the part of the senior partners of these private financial services firms that they can swagger into the publicly-held sector and take business from Goldman and Lehman, or make more money competing with them.
Either way, if this occurs, it's going to be a very interesting show to watch.
According to the column,
"Shares in Fortress Investment Group and Bear Stearns have fallen more than 50% since the days after Fortress's initial public offering last February. The two recently discussed whether they had more than that in common, according to the Financial Times. Although no deal transpired, the implication is that Fortress was looking to become more than just a hedge fund and private-equity manager. Like some other fund groups, it has intentions eventually to compete on Wall Street's turf.
Ambitious rival managers such as Citadel Investment Group might take note. Citadel is just one of several fund firms that were rumored to be on the brink of going public until the markets turned against them. Such firms might find inspiration in the abortive Fortress-Bear talks.
For alternative-asset managers that lack a stock-market currency, it is tougher to expand quickly. Yet Citadel, for one, has the ambition to take on Wall Street. It already has turned trading know-how into separate businesses, and its executives clearly relish creating an institution with a Goldman Sachs-like reputation. For Citadel or another privately held rival, a bigger deal with a publicly traded investment bank, perhaps modeled on the Fortress-Bear idea, could simultaneously help achieve strategic diversification and provide a traded stock."
My question is, why are these firms planning to take on existing publicly-held investment banking firms?
What's so special about the business of underwriting? Is the market for underwriting enjoying better margins, or substantial new growth? Last time I looked, it hasn't been a source of extraordinary profits for quite some time.
Trading doesn't require being publicly held, unless the firm wants to make a huge jump in assets committed to that business line. Judging by last year's results, most investment banks didn't do all that well for themselves. Two apparently superior risk management, Goldman Sachs and Lehman, come to mind.
But Paulson Capital, the alleged big winner in shorting the mortgage securities market, is a privately-held hedge fund. So successful asset management doesn't require going public, either.
Why would Fortress or Citadel want to become full-fledged, publicly-held companies in what seems to be a cutthroat business in which several existing players- Bear, Morgan Stanley and Merrill- are actually shrinking, due to sizable losses in 2007?
If anything, capital markets have become much more efficient in the last decade, leading the sector's competitors to risk more of their own capital in proprietary trading. It was the lack of growth and margins that caused Stan O'Neal, late of Merrill, to take so much risk in buying a mortgage originator and holding so much structured finance paper.
Why would a successful, profitable, privately-held hedge fund or private equity group want to expose themselves to public scrutiny?
I wrote a series about some of these issues when Blackstone went public, the last of which may be found here. My guess is that Citadel and Fortress are hoping that the current market turmoil will obscure investors from properly assessing the future value of the core of these firms' businesses.
Going public now, via marriage with an existing outfit, will let them, similarly to Blackstone's owners, collect cash for the presumed value of their business up front, and let new shareholders bear the brunt of any downward valuation corrections.
Between current competitiveness in the sector, recent losses by experienced players, and a lack of significant bases of differentiation and advantage as I wrote here recently, it's difficult for me to see how a newly-public hedge fund or private equity group will perform substantially better than the current crop of investment banks on Wall Street.
Is it simply a case of these firms' managements wanting a higher cash-out value from a publicly-traded stock for the same business? I think it is.
That, or simply a common case of good old-fashioned hubris. An attitude on the part of the senior partners of these private financial services firms that they can swagger into the publicly-held sector and take business from Goldman and Lehman, or make more money competing with them.
Either way, if this occurs, it's going to be a very interesting show to watch.
Tuesday, January 15, 2008
Wither Citigroup Now? Pandit's Pronouncement
It's just after noon on Tuesday, January 15th, 2008. Citigroup CEO Vikram Pandit has concluded his first earnings announcement a little while ago, and the markets are not pleased.
The write-offs are huge. Losses are near $10B. The dividend has finally been cut nearly in half. Apparently, it wasn't enough.
Seen on the left, my first Yahoo-sourced chart indicates that the company's stock price has gapped significantly lower today, back down to or below 27, from its recent 5-day high of 29.According to some of the pundits talking on CNBC this afternoon, including one fairly prominent fund manager, Vince Farrell, Pandit blew his chance to make a good first impression. There was no talk of significant, immediate job cuts.
Let's take a longer look at Citi's stock. Here's a chart of the S&P and Citi's stock price for the last three months. The latter has been pretty much in free-fall for that entire time. It had a few local minima, where the price moved up by 5 or 10 percentage points over a few weeks. But the trend has been steadily downward.
Over the past year, the picture is similar. The price of Citi's stock has declined over 40%. Even before the summer credit market debacle, Citigroup's stock had been fading, relative to the S&P.
Finally, we have a Yahoo-sourced chart of the S&P and Citigroup for the past five years.In this view, we see that for largely the entire period, except for a brief few months in mid-2003, the bank's stock has performed, at best, like a market-tracking stock, and, since January of 2005, three years ago, significantly worse.
Taking a look at all of these views- multi-day, multi-month, 1 & 5 years- it's hard to argue that Citigroup has been a desirable investment, or well-managed, for the past half-decade.
So, does Pandit's poor opening performance as CEO today matter?
As I jokingly wrote in this spoofish post last month, Pandit's already won. He's made at least tens of millions by selling his mediocre hedge fund to Citi last summer.
So, in all honesty, I think the answer is, "no," it doesn't matter. Nothing has changed at Citigroup.
And, according to some pundits speaking about the situation today on CNBC, it could be years before the nation's largest bank regains any semblance of traction in terms of operating performance and total return performance.
What really shocks me, though, is Punk Ziegel bank analyst Dick Bove's continuing 'buy' position on Citigroup for the past two years. At least I think his eternal optimism on the bank extends that far back. I know he was touting it heavily last spring, claiming that its best days were just around the corner.
Even this morning, he was shilling for the crippled bank on CNBC, issuing yet more strongly-worded statements of hope and support for Pandit's financial Pig.
You have to wonder what in the world would possess a veteran analyst like Bove to hew to a single view of such a mediocre, troubled bank for so long.
To me, reviewing the performance of Citigroup's stock over such a long timeframe, and comparing that to its erratic and troubled operational performance during the same period, I would have to agree with those who advise steering clear of this financial utility for the forseeable future. Aside from continuing to enrich Vik Pandit, and impoverish the poor shareholders whose original positions are being so rapidly diluted by new capital-raising efforts, I can't imagine anyone who would even consider owning this company's shares.
Monday, January 14, 2008
Returning CEOs: Buying Opportunity, or More Trouble?
Herb Greenberg wrote a fascinating piece in the weekend Wall Street Journal entitled "Why Investors Should Applaud A CEO's Encore Performance."
Drawing on the work of an Ohio State University assistant professor of finance named Rudi Fahlenbrach, Greenberg wrote
"Here is some good news for Howard Schultz and Michael Dell, both of whom have boomeranged back to become chief executives of their respective companies, Starbucks and Dell: History is on their side. It is for their investors, too.
This doesn't guarantee a happy ending, but a study of encore performances led by Rudi Fahlenbrach, an assistant finance professor at Ohio State University, shows that, on average, the stocks of companies run by CEOs on a second tour of duty outperform the market by 6% annually during their comebacks."
I like Herb Greenberg's work and am typically interested in his opinions. So when I read these opening paragraphs to his article, I took notice. My own proprietary research, while not confined to turnarounds involving returning CEOs, found them to be rarely profitable for shareholders. So I was, and am, very interested in Greenberg's and Fahlenbrach's views on this. Greenberg further wrote,
"According to Mr. Fahlenbrach, from 1995 through 2004 at least 75 CEOs at the country's 1,500 largest companies were called back to active duty from either retirement (especially if they still have a large financial stake in the company) or having been relegated to the chairman's outpost.
"One of the most significant predictors of someone coming back is poor stock-market performance of the current CEO," he said.
On average, before the ex-CEO gets the call, the stock has fallen 40% over two years. Starbucks -- a broken stock, not yet a broken brand -- had skidded by a greater amount in a shorter amount of time. Ditto for Dell. When that happens, Mr. Fahlenbrach said, "They're in need of a quick turnaround."
Not that all former bosses are better than their successors. Notable failures the second time around include Gateway's Ted Waitt, Lucent's Henry Schacht and Xerox's Paul Allaire. And don't forget the late Ken Lay, whose return as CEO of Enron coincided with the final stages of the company's downfall."
Greenberg quotes Jeff Sonnenfeld of Yale, who speaks highly of Houghton, thusly,
"Mr. Sonnenfeld says those who succeed in coming back have three qualities. The first is they came back with great reluctance; they weren't trying to undermine their successor. Second is they aren't coming back for some unmet ego need. Many had better things to do with their time, and came back "because they were being drafted by all of their key constituencies -- because of relationships, knowledge and a cultural aura they can do things nobody else can do to fix the problem." Third, and perhaps most important, he said, is "they recognize what they had built isn't a religion. At Corning, Mr. Houghton had to revisit all kinds of decisions he may have been part of making." "
Stepping back, Greenberg lists Jamie Houghton of Corning, Michael Dell of Dell, Howard Schultz of Starbucks, William Stavropoulos of Dow Chemical, and Chuck Schwab of Schwab among those who either have been successful at returning to turn their old company around, or are expected to do so.
Let's have a closer look at these, dispensing with those even Greenberg cited as ineffective- Schacht of Lucent, Waitt of Gateway, and Allaire of Xerox.
Nearby is a long term price chart for Dell, Starbucks, Corning (GLW), and Dow Chemical. Have any of them returned to a consistent path of outperformance of the S&P? Because the 6% per annum mentioned by Fahlenbrach wouldn't be all that spectacular if it only lasts one or two, perhaps even three years.
It's easy to see Dell's slide and Starbucks slowly running out of gas before failing in 2006. Of course, Schultz didn't actually leave the company, just the CEO position. I think Michael Dell was further removed and out of Dell when it finally began to actually decline.According to Greenberg's piece, Houghton and Stavropoulos returned to their respective firms in 2002, the former for three years, the latter for two.
I can't honestly see a difference in Dow from 2000 until now. Corning fell after Houghton returned, and seems to have only clawed back to even by the time he left. Since then, it's climbed a bit, but has only matched the S&P for the past two years.
This next chart displays recent price activity more clearly. Corning is definitely still wandering aimlessly since early 2006. That's a two-year stint of inferior performance. So much for Sonnenfeld's admiration for Houghton. In fact, if he left in 2005, it seems that things actually took off, briefly, for a year after his departure, before running out of steam again.Dow, too, clearly has not been giving shareholders consistently superior returns, either, since 2004.
How about Chuck Schwab? He returned in mid-2004, making him CEO for the past 3 1/2 years. The nearby chart seems to show he's done better than the other examples in Greenberg's article.Even so, he has yet to get Schwab back to consistent outperformance. But he may be close. If he can continue the firm's total return performance path in 2008, he'll have done it. And it looks as if he is the only one of those mentioned by Greenberg and Fahlenbrach who actually has done so.
Why do you suppose that Fahlenbrach, and Greenberg, are so enamored of a few short-run CEO return successes, and a few who didn't even manage that?
Personally, I think it demonstrates how low most analysts and observers set the bar for 'excellent' performance. To paraphrase Fahlenbrach and, by inference, Greenberg, a two or three years of besting the S&P by only 6 percentage points draws notice.
My own research shows this is actually well within the range of pretty average performance. Many companies can do that, and don't need to be turning around while they do it.
Why do you suppose that these CEOs, as a group, mostly failed to move their firms to consistently superior total return performance?
In Dell's and Starbuck's cases, I question if they ever will. I believe, for reasons I've discussed in labeled posts on both CEOs and their companies, that competition, growth and simple Schumpeterian dynamics have worked to end their time of consistent outperformance.
Dow and Corning represent, I think, business models which have been uneven at best for a long time. They don't tend to have even been consistently superior growth firms to begin with. Given their stock price paths, it's clear that holding the S&P instead of ever holding the those companies' shares would have been a safer and more profitable choice for over twenty-five years.
In the final analysis, while I enjoyed reading Herb Greenberg's piece on Fahlenbrach's work, I found the conclusions to be largely unsustained. I guess my expectations of outstanding CEO and investment performance are higher than those of either of those two guys.
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