Monday, March 30, 2009

Well hmmmm

Go figure... the Treasury buys Treasuries (driving prices up and yields down, for those of you who are playing the at home game) and the professional money managers move to buying Corporates and Mortgage-backs.

What's the phrase I'm thinking of? Oh yeah... "Come to mama!!"

Tuesday, March 24, 2009

::thwap:: ::thwap:: ::thwap:: ::thwap:: ::thwap::

You might have heard that President Obama is getting a brand-spanking new helicopter That noise overhead? That's just the sound of Helicopter Ben Bernanke doing a test flight while dropping a couple trillion dollars over the landscape.

Bernanke said Friday that the purchases of Treasuries and mortgage securities were meant to address the widening credit spreads. Honestly, that doesn't hold much water with me. As a client rightly pointed out, the Fed is out of their normal arsenal of bullets and is having to bring in other artillery to try to kill the beast. Through the purchase of these securities, they drive the prices up, the yields down - a good move for the mortgage securities, but not really a big deal on the Treasuries. Thirty year Treasuries are trading at a yield of 3.66%, not exactly a problem. On the other hand, the spread between Corporates (high quality and high yield) and the Treasuries is just out of hand. As of 3/31/06, the spread between the 9 year Treasury and the AAA Corporates was 1%, between Treasuries and High Yield Corporates it was 3%. Today, three years and a little credit crisis later, it's 3.5% for Treasury/AAA and 12% for the Treasury/High Yield spread.

I have to believe that part of what they're trying to do is buy in the Treasuries so money managers will migrate those $$ to bonds with more credit risk. However, it puts a lot of currency into circulation really fast. All the stimulus prior to this led me to believe that if we were going to have inflation we'd see it sometime in late 2010 (if at all), given that so much of the money being thrown at the crisis would be used by consumers to pay down their amazingly high debt loads. This new addition has me certain that there's no way that this won't be inflationary at some point, and that point has moved significantly closer - best guess now is early 2010.

I'd suggest that sometime between now and when that inflation hits going to gold might not be a bad idea. Other hard commodities should also do well in that type of environment. The trick, however, is that between now and whenever the inflation hits, I expect a continuation of the deflationary trend we're currently seeing.

In light of the Treasury's announcement Monday, there's obviously another layer of complexity to things, although not much more clarity. The announcement on Monday of a public-private partnership to help clear the toxic waste off of the banks' balance sheets has some good points and some bad points. Essentially, five yet-to-be-named private firms will be approved to bid on "assets" that banks want to sell. The private firm who bids the most for the asset will have to put up a small amount (roughly 7%), the Fed will put up an equal amount and the FDIC will guarantee up to 78%. If the asset goes up in value, the private firm and the government split the profit. If the asset goes down in value from whatever the purchase price is the private firm and the Fed can lose their entire investment and the FDIC steps in to absorb any further losses.

While this will help set some sort of a market price for the toxic assets, the private firms have very little skin in the game and obviously the potential for pretty impressive returns. On the other hand, it uses the expertise of the private firms to set appropriate prices and keeps the government from overpaying (too much anyway) for the assets and they won't be 100% responsible.

Monday's market rally was in my mind more of a "oh, thank goodness they finally at least came up with SOMETHING!" rally rather than specific expectation that this plan will be the saving grace for the economy. I still expect that the significant systemic problems in the economy will take time to unwind themselves. While I know that I'm going against some pretty impressive market experts on this, I don't believe that this is the beginning of the next bull market - I'm firmly in the bear market rally camp. Valuations are still too high. Just because the banks will be more able to lend after the toxic waste is off their balance sheets doesn't mean that a) they will lend or b) that the American consumer really should take them up on any loans offered. The over consumption by American consumers has led to personal balance sheets bloated by debt and lacking in savings. Add to that a 45% reduction in the value of their retirement accounts and at least a 20% reduction in the value of their homes, and I don't see how this economy that is 70% fueled by the consumer can bounce back in a healthy way in the short term. The stock market may bounce... but the underlying economy has more pain to come.

Friday, March 20, 2009

A squeeze around the middle

Sometimes a squeeze around the middle is a nice thing. I personally like it when my husband or kids come up and give me a hug. But when the squeeze is put on me in a business sense, not so much.

One of my loyal readers asked in the comments of another post how credit terms had changed for some of the retailers recently. Interesting question, and one that I have spent some time working on recently. In the interest of full disclosure, I'm discussing this from an outside perspective. I've not worked in the credit area of a supplier or in the buying organization for a retailer... but I know people who have and/or do.

Under normal times retailers (we're talking big retailers here, not the mom & pops) order goods from a supplier. The supplier produces the goods and when they ship they bill. Terms differ, but are usually net 30, net 45, something like that. The retailers usually negotiate additional other terms they want such as markdown allowances, etc.

From what I'm hearing on multiple fronts, the retailers are getting more than a little bit bolder on the terms that they're demanding. They're not only asking for higher allowances, but they're also extending out their payments. In fact, numerous retailers are actually highlighting their accounts payable as a percentage of inventories on their earnings calls. Additionally, for goods shipped from overseas historically the retailer was said to have possession of the goods when they shipped, so the time on the ocean counted in the payment terms. That just got changed by a number of large retailers recently.

Suppliers have a few ways to fight back. Some retailers are obviously cash strapped, and that's taken into account by the credit managers at the suppliers when orders are placed. I'm hearing that credit terms are especially strict these days. Credit managers are pouring through financials, trying to make sure that they're not taking on too much risk. As one friend put it, "Just because you're a big company doesn't mean you can't go bankrupt on me." I know of one particularly fiesty credit manager who refused to sell to a certain large retailer because they were asking for ridiculous terms. The line "you have to sell to us because we're _______" doesn't hold much weight right now. Also, JP Morgan (and others, I'm sure) have developed some financial hedging products to allow suppliers to protect themselves against the potential bankruptcy of retailers with whom they do business.

Cheery, no?

Thursday, March 19, 2009

Ironic: rhymes with moronic

I'm not a political person. I really just don't have any interest in the whole realm, generally speaking. But that doesn't stop me from appreciating good irony.

The furor over the AIG bonuses has been all over the news of late. The whole thing goes beyond stupid into realms of idiocy.

The argument that AIG was contractually obligated to pay the bonuses? Bogus.

The exaggerated attempts by politicians all over the Eastern seaboard who actually put specific language into legislation that approved the bonuses to look innocent of any misdeeds? Bogus.

The administration's posturing regarding the bonuses when they obviously had a responsibility to be watching over this kind of stuff? Bogus.

The article published by Bloomberg yesterday that shows that Freddie Mac and Fannie Mae, currently run by the US government, have retention bonuses in place not unlike those being decried at AIG? Priceless.

One foot on the banana peel

Oh dear, here we go again. More announced store closings, and the prospect of others.

Ritz Cameras, currently in bankruptcy proceedings, got permission today to liquidate their 129 Boater's World stores. They will also be closing roughly half of their 800 camera stores. The small (5 stores) shopping center right across the street from my office has a Boater's World. The owner of the center just had to replace Computer City with a PetSmart. Now the space next to PetSmart will soon be open. The pain for commercial real estate is starting to get real.

Also, Eddie Bauer just announced that things aren't looking so good in their neck of the woods (all puns intended). They've apparently agreed to new terms on their debt, and those terms rarely come with an interest rate reduction. The CEO says it gives them more flexibility regarding loan covenants through first quarter of 2010. I hope that's long enough. The market apparently isn't sure either - the stock was down a mere 48% today.

Are we having fun yet?

Wednesday, March 18, 2009


As you might remember, I was confounded by the retail sales numbers last week. The number was higher than I expected, especially for apparel which was +2.8% from January.

Today the clouds parted and all became clear. Turns out the culprit was inflation. The apparel component in the consumer price index was up 1.3% for the month of February. I'm not 100% sure WHERE the prices were up, since it sure seems like apparel prices where I'm looking are falling... or at least discounted by huge amounts.

Friday, March 13, 2009

Factoids and cheerleading

In the midst of preparing a talk for a recession workshop next Tuesday morning, I came across an updated factoid that made my stomach turn. Never one to keep pain to myself, I had to share with all y'all.

My friends at the Mortgage Bankers Association (okay, they're not really friends, especially lately, but I'm trying to be nice here) track seriously delinquent loans as a percentage of total loans outstanding. Even through early 2007 the percentage was right around 2%. Unfortunately, then it decided that it wasn't afraid of heights. The number as of the end of the year (it's a delayed but quarterly release) is... sit down... 6.3%.

I could say more, but do I really have to? Okay, if you insist. Can I remind you of this graph that shows how many ugly loans still have to be worked through over the next year or two? Okay. Now I'm done with that.

I was never a cheerleader in school. It just wasn't me. At all. (Those of you who knew me will say "duh.") So I still have a problem with excessive enthusiasm, especially when it's totally misplaced ... and I don't care if it's a bad football team or an even worse economy. So you can imagine my joy as I watch the rah-rah antics of the current administration.

Larry Summers was quoted today saying "It is modestly encouraging that since it began to take shape, consumer spending in the United States, which was collapsing during the holiday season, appears, according to a number of indicators, to have stabilized." Ummm, dude, it didn't fall as much as expected, but it did fall. And the consumer is so far in debt that they shouldn't be spending at all!

President Obama was waving his pom-poms today too. "If we are keeping focused on all of the fundamentally sound aspects of our economy, all the outstanding companies, workers, all of the innovation and dynamism in this economy then we're going to get through this. I'm very confident about that."

And if I hear one more talking head blather about how wonderful it is for the market that Uncle Ben is going to be on 60 Minutes this Sunday, I'm going to burn somebody's pom-poms in protest.

It all kind of reminds me of this quote:

"I am convinced we have now passed the worst and with continued unity of effort we shall rapidly recover. There is one certainty of the future of a people of the resources, intelligence and character of the people of the United States—that is, prosperity."

Who said that last bit of verbosity?

Oh, that was just Herbert Hoover in May of 1930.

Thursday, March 12, 2009

Scratching my head

There are times in this business that are rougher than others. Watching the market go up from the sidelines this week is one of those times. It feels like it would be great to jump in, but I'm not sure that the water is a comfortable temperature. I'd just dip a toe in to test the temperature, but I'm not sure that aren't piranhas waiting to nibble off an appendage or two.

Despite the "good" retail sales report this morning, I'm still very much of the belief that this crisis isn't over yet. I think I might have said that once or twice before. The retail sales numbers were better than expected. But if you looked deeply, a lot of the happiness came from retail sales of gasoline. Since the PRICE of gasoline was up over 5% during the month and sales were only up 3.4%, perhaps we should rein in some of that enthusiasm. I'll admit though that the 2.7% increase in clothing purchases has me a bit flummoxed, given how lackluster the same store sales were last week. For now, I'm going to consider it a bit of fluke, but watch it carefully.

One of the reasons that I'm pretty certain that we're not anywhere near out of the woods was the release of the Federal Reserve's measure of U.S. household wealth. During Q4 it only dropped $5.1 trillion. A trillion here, a trillion there... pretty soon we're talking real money. Is it any wonder that consumers are cutting back, saving more, and scared to death? Nah, I didn't think so either.

In other news, there's still a lot of short covering going on in the market. Tonight I did a survey of the short interest on the individual stocks within the S&P 500. (Have I mentioned lately how much I love my Bloomberg terminal? I do. Truly I do.) Anyway, doesn't matter if you take the average or the median of the number of days needed to cover the short positions, it comes out to about 2 days. Anyone want to be that the rally continues for another day or two before fizzling when reality sets in?

Tuesday, March 10, 2009

One day does not a bull market make

I suppose I now know what the bulls have felt like for the past 6+ months. I don't know about them, but for me today made me question what I believe. I suppose a bit of healthy skepticism is a good thing, but it sure doesn't feel so good.

I hear that a lot of what happened on the floor today was short-covering, thanks to Barney Frank saying that he wants to reinstate the uptick rule as well as the threat to make short sellers show their hands. I totally agree with both of those moves, by the way.

If we are indeed in the Super Bear Market that I believe we're in, this isn't going to be long-lived. Reality will rear its ugly head, the economy will still suck, and we'll put in the lows down where I think they belong.

I don't know if anyone caught this, but Jeremy Grantham who had been known as a perma-bear is telling everyone that will listen that it's time to get into the market before you miss the big rally, while Benjamin Graham's methodology says the market is still overvalued by about 27% (that was yesterday... so I suppose it's closer to 33% now).

I'm going with the dead cat bounce theory for now, but I'm watching it all pretty closely.

Be careful out there.

Tuesday, March 3, 2009

It's only worth what someone else will pay for it

One of my pet peeves has been all the talking heads... including the President this morning... trying to tell me (and you) that the valuation of the stock market is amazingly low and needs to be bought at these levels because it's 50% lower than it was last year.

Let's have a little lesson on valuation:

* The long-term Price/Earnings ratio for the stock market is 10x.
* The trough market valuation in the 1980-82 recession (as well as other recessions) was 6.8x earnings.
* The earnings estimates for the S&P 500 have dropped almost $2 over the past week.
* The current forward P/E ratio for the S&P 500 is 11.3x

What's that all that mean?

* Assuming earnings do not drop further, the market is still currently valued at 13% above median long-term valuations.
* Assuming earnings do not drop further, the market is 40% above trough valuations. That means we could see the S&P get close to 400 and the Dow get close to 4000.
* My assumptions include this recession/whatever-you-want-to-call-this-pain not being any worse than the 1980-82 downturn and EARNINGS NOT DROPPING ANY FURTHER.

You might have picked up on the fact that the assumption that earnings will not drop any further is a big stretch for me. And if earnings do drop... then what? Well, if earnings drop by 25% from here? Hmmmm. That means that the forward P/E would currently be 15x... meaning it would be 55% above the trough valuation.

Sleep well tonight.

Sunday, March 1, 2009

Spare the change, spoil the child

If you spend much time at all chatting with me about the markets and the economy, you’ve probably heard my socio-economic theory on how we got here. But while I think I’m a pretty keen observer of patterns and trends, I didn’t have much hard core data to back me up… until Friday.

‘This American Life’, a radio show produced by Chicago Public Radio, has done some amazing work explaining the mortgage crisis, and followed up this past week with a show explaining the banking crisis in non-investment-geek English. I love the show and highly recommend tuning in.

Anyway, one of the experts that they chatted with was David Beim, a former banker turned professor at Columbia Business School, who has a graph that exactly illustrates why we’re this pickle… and which fits my theory exactly. Those of you who are impatient will want the graph now, but I’m going to make you wait (patience is a virtue). First, the theory.

Our grandparents (or great-grandparents, depending on your age) had a seminal event in their lives that changed how they approached everything: the Great Depression. Times were tough: unemployment at 25%, no social safety nets, record bank failures. These are people for whom thrift wasn’t just a good idea: it was the only way to survive. Credit? Not so much. Now I recognize that the credit card industry as we know it didn’t even exist until the 1950’s (Diner’s Club) or 1965 (BankAmericard) depending on how you define it. Still, the use of credit really wasn’t that tempting to that Depression generation. My 89 year old grandfather didn’t have a credit card until he was in his late 60s, and then he only got it in order to establish a credit file that was needed even though he was going to pay cash for whatever it was.

One of the things that I’ve observed (and I’m sure there’s a sociological study out there somewhere to support it, but I’m not going to go look it up) is that we all not only want a better life for our children, but most of us also want our kids to be raised differently than we were. Sometimes that takes the form of allowing a later curfew (or earlier if you yourself were a wild child). It probably also explains why grandparents and grandkids get along so well: they were most likely raised the same way and have a common enemy – the parent.

In monetary terms, though, I’ve seen time and time again that parents and grandparents continue to baby their children long past the time when they should have been self-sufficient. So the grandparents, those who lived through the Depression, provided more for their children than they could have ever had when they were growing up: dance lessons, a car to drive in high school, college education, more clothes, etc. And of course, because the children got more, they grew to expect more. Salaries hadn’t increased so much that when those kids went out on their own they could keep up the life style to which they had become accustomed, so the grandparents continued to help here and there so that their poor little darlings didn’t feel the awful pinch of want that they themselves had to live through.

Case in point? The baby boomers will receive the largest generational wealth transfer in history. Their parents not only took care of themselves through retirement, but in many cases provided the money their children will be using for retirement… unless they blow through it first. A generation or two of that, and you end up with some mighty spoiled consumers. Take a quick look around and you can see what (and who) I mean. Ummm, darlin’, don’t forget to look in that mirror over there.

So I suppose you could say I’m blaming the grandparents, but really it’s about the very natural greed of humans combined with the fading influence of the church’s (any church’s) values of charity and putting others above self. (Don’t even get me started on that here… but if you’d like to chat offline, email me.) Regardless, we haven’t spared the change, so we’ve not only spoiled the child… we’ve spoiled the economy.

How bad is it? Ahhh, glad you asked. This is where David Beim’s graph comes in (although I should add that there is attribution to Credit Suisse as the possible original source of the chart). I give to you a vision that should explain why it is that I’m not expecting this little downturn to end in 2009 (or 2010… or 2011…)

The graph measures the ratio of household debt to Gross Domestic Product. Don’t let the different lines throw you… they’re basically the same thing, but the government apparently changed the data series midway through the graph. What should you take away from this? The last time and ONLY time we Americans have had this much debt on our PERSONAL balance sheets was 1929. Folks, it's at 100% of GDP. One. Hundred. Percent. It seems apparent to me my friends that we’re in for one of those lovely life-changing experiences just like grandma and grandpa had. Fasten your seatbelts… it’s going to be a bumpy ride.